91Ó°ÊÓ

Internal Control Xiley Company encountered the following situations: a. The person who opens the mail for Xiley, Bill Stevens, stole a check from a customer and cashed it. To cover up the theft, he debited Sales Returns and Allowances and credited Accounts Receivable in the general ledger. He also posted the amount to the customer's account in the accounts receivable subsidiary ledger. b. The purchasing agent, Susan Martin, used a company purchase order to order building materials from Lumber Mart. Later, she telephoned Lumber Mart and changed the delivery address to her home address. She told Lumber Mart to charge the material to the company. At month-end, she approved the invoice from Lumber Mart for payment. c. Nash Supply Company sent two invoices for the same order: the first on June 10 and the second on July 20. The accountant authorized payment of both invoices and both were paid. d. On January 1, Jack Monty, a junior accountant for Xiley, was given the responsibility of recording all general journal entries. At the end of the year, the auditors discovered that Monty had made 150 serious errors in recording transactions. The chief accountant was unaware that Monty had been making mistakes. Required For each situation, describe any violations of good internal control procedures and identify the steps that you would take to prevent each situation.

Step by step solution

01

Analyze Situation A

In situation A, the violation involves segregation of duties. Bill Stevens was responsible for both handling checks and recording accounts, which allowed him to conceal thefts. Good internal control dictates that different individuals should handle these tasks to avoid conflict of interest and concealment of errors or fraud. To prevent such situations, Xiley Company should assign the task of opening mail and handling checks to one individual, and recording these transactions to another, thereby ensuring that no one person has control over both the assets and the accounting records.

02

Analyze Situation B

Situation B is a case of improper authorization and monitoring. Susan Martin exploited her position to misuse company resources for personal gain. To prevent this, internal controls should include verification of delivery addresses through a secondary internal review process. Additionally, post-purchase order confirmations should be sent to a different supervisor for approval. Also, the purchasing process should involve periodic surprise audits to ensure materials are directed as intended.

03

Analyze Situation C

Situation C shows a lack of proper invoice verification and approval process. The accountant paid duplicate invoices which is a clear oversight in the review process. To prevent such occurrences, Xiley Company should implement a three-way match process, where the purchase order, receiving report, and invoice must all agree before any payment is processed. This would ensure only valid invoices are approved and paid.

04

Analyze Situation D

Situation D highlights inadequate training and review of the junior accountant's work. Jack Monty made a significant number of errors without detection due to the lack of oversight. Preventing similar situations requires establishing a consistent supervisory review of journal entries and periodic assessments of Monty's accounting knowledge and skills. Additionally, regular audit checks or sample reviews of accounting entries would help catch any errors early.

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Key Concepts

These are the key concepts you need to understand to accurately answer the question.

Segregation of Duties

In order to strengthen internal controls, the concept of 'Segregation of Duties' plays a vital role. It means assigning different individuals to perform various tasks within a process to reduce the risk of error or fraud. When one person has control over all parts of a critical process, it becomes easier to hide mistakes or wrongdoing, as seen in Situation A with Bill Stevens. He handled both receiving the checks and recording the transactions, allowing him to steal funds without immediate detection. Therefore, it's crucial to distribute responsibilities. For instance, the company should have one person open and handle incoming mail and another record and reconcile these transactions. This way, it's challenging for any single employee to manipulate records or steal assets without being noticed.

Authorization Procedures

Authorization procedures are an essential component of an organization's internal control system. They ensure that only authorized personnel can make decisions that affect the company's resources. In Situation B, Susan Martin was able to commit fraud by changing the delivery address of purchased materials and approving the payment herself. A solid authorization process would prevent such acts by requiring specific approvals for all significant transactions. For instance, changing delivery details should trigger an alert for further verification. The company should consider having multi-level approvable workflows, where one person's actions need another's authorization. This increases transparency and decreases the potential for unauthorized use of company assets.

Invoice Verification

Proper invoice verification is a crucial step in managing payments and ensuring accuracy in financial records. The mistake seen in Situation C occurred because both invoices were paid due to a lack of verification of invoices against their corresponding purchase orders and receiving reports. Implementing a three-way match system can help eliminate such errors. This system involves comparing the purchase order, the supplier's invoice, and the receiving report to confirm that they match before authorizing payment. This ensures that every payment is legitimate and corresponds to actual goods or services received, thereby preventing duplicate payments and safeguarding against financial discrepancies.

Accounting Oversight

Having a robust oversight mechanism in accounting is imperative for detecting errors early and maintaining financial integrity. In Situation D, junior accountant Jack Monty made numerous mistakes in recording transactions, which went unnoticed due to inadequate supervision. Effective accounting oversight involves regularly reviewing and supervising the work of junior staff to catch and correct errors promptly. Also, periodic reviews and audits can uncover mistakes and provide feedback for improvement. Companies should establish procedures for consistent supervisory reviews, where experienced accountants double-check the entries recorded by less experienced staff. In addition, ongoing training should be provided to keep the accounting team updated on policies and practices.