Lee Wong, CPA, is auditing the financial statements of the Alexandria Corporatio

Question

Lee Wong, CPA, is auditing the financial statements of the Alexandria Corporation, which has a batch-processing IT-based system for shipping and invoicing that it purchased from a software vendor. The following comments have been extracted from Wong’s notes on IT operations and the processing and control of shipping notices and customer invoices.

Each type of computer run is assigned to a specific employee, who is responsible for making program changes, running the program, and answering questions. This procedure has the advantage of eliminating the need for records of IT operations because each employee is responsible for his or her own computer runs. At least one IT department employee remains in the computer room during office hours, and only IT department employees have keys to the computer room.

System documentation consists of those materials furnished by the software vendor—a set of record formats and program listings. These and the tape library are kept in a corner of the IT department.

The corporation considered the desirability of program controls, but decided to retain the manual controls in place prior to the conversion to software vendor’s system.

Company products are shipped directly from public warehouses, which forward shipping notices to general accounting. There a billing clerk enters the price of the item and accounts for the numerical sequence of shipping notices from each warehouse. The billing clerk also prepares daily adding machine tapes (control tapes) of the units shipped and the unit prices.

Shipping notices and adding machine control tapes are forwarded to the IT department for inputting and processing. Extensions are made on the computer. Output consists of invoices (in six copies) and a daily sales register. The daily sales register shows the aggregate totals of units shipping and unit prices, which the computer operator compares to the control tapes.

All copies of the invoice are returned to the billing clerk. The clerk mails three copies to the customer, forwards one copy to the warehouse, maintains one copy in a numerical file, and retains one copy in an open invoice file that serves as a detailed accounts receivable record.

Required:

Describe weaknesses in internal control over information and data flows and the procedures for processing shipping notices and customer invoices, and recommend improvements in these controls and processing procedures.

Explanation / Answer

1) Data Security - All of the documentation and tapes remain in the IT department. If that location is damaged (flood, fire, earthquake, etc.) then all of the tape backups and documentation will be lost. Backups should be kept in a secure facility off site. There are online backup systems that can be employed if storage at an offsite location is not feasible. 2) Segregation of duties with the billing clerk - The billing clerk prepares all of the orders, sends to IT, and then receives back the processed documents to send to the customers. The clerk could send an oversized order to IT with drop shipping to multiple locations, keep part of the order sent to a private address, and then change the invoicing before it's sent to the customer so that only what was ordered is shown. A second person should review the control tapes, or process the paperwork after IT does their processing. 3) Physical security - Keys are very easy to copy, so even if their return is part of the termination process, there can be unauthorized keys available. A badge system into the IT room would be more secure as badges are much more difficult to copy, can be deactiviated immediately upon termination, and provide a log of who is in the room at what times. If an unauthorized transaction occurs on Bob's computer, but he claims he didn't do it, a review of the badge logs can provide evidence if he was in the room or not. If he wasn't, but Sally was, then she should be investigated as well. 4) Automatic processes - the company should re-evaluate automating some of the manual processes. This will allow routine processes to occur with less risk of typographical errors, and improve speed. A human could review reports and make changes for special circumstances. This will create a better log of who gives special circumstances in case discounts or free items are provided to a particular customer without authorization.

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