5-54 (Testing internal Controls, LO 4, 5, 8) If a company’s control risk is assessed as low, the auditor needs to gather evidence on the operating effectiveness of the controls. Required a. For each of the following control activities, indicate the audit procedure the auditor would use to determine its operating effectiveness. b. Briefly describe how substantive tests of account balances should be modified if the auditor finds that the control procedure is not working as planned. In doing so, indicate (a) what could happen because of the control deficiency, and (b) how the auditor’s tests should be expanded to test for the potential misstatement. Controls 1. Credit approval by the credit department is required before salespersons accept orders of more than $15,000 and for all customers who have a past-due balance higher than $22,000. 2. All merchandise receipts are recorded on pre numbered receiving slips. The controller’s department periodically accounts for the numerical sequence of the receiving slips. 3. Payments for goods received are made only by the accounts payable department on receipt of a vendor invoice, which is then matched for prices and quantities with approved purchase orders and receiving slips. 4. The accounts receivable bookkeeper is not allowed to issue credit memos or to approve the write-off of accounts. 5. Cash receipts are opened by a mail clerk, who prepares remittances to send to accounts receivable for recording. The clerk prepares a daily deposit slip, which is sent to the controller. Deposits are made daily by the controller. 6. Employees are added to the payroll master file by the payroll department only after receiving a written authorization from the personnel department. 7. The only individuals who have access to the payroll master file are the payroll department head and the payroll clerk responsible for maintaining the payroll file. Access to the file is controlled by computer passwords. 8. Edit tests built into the computerized payroll program prohibit the processing of weekly payroll hours in excess of 53 and the payment to an employee for more than three different job classifications during a one-week period. 9. Credit memos are issued to customers only on the receipt of merchandise or the approval of the sales department for adjustments. 10. A salesperson cannot approve a sales return or price adjustment that exceeds 6% of the cumulative sales for the year for any one customer. The divisional sales manager must approve any subsequent approvals of adjustments for such a customer.

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