ORDER INSTITUTING DISCIPLINARY PROCEEDINGS, MAKING- 123docz.net

PHASE V COMPLETING THE AUDIT AND MAKING REPORTING DECISIONS

4. ORDER INSTITUTING DISCIPLINARY PROCEEDINGS, MAKING FINDINGS, AND IMPOSING SANCTIONS In the

2. ORDER MAKING FINDINGS AND IMPOSING SANC- TIONSIn the Matter of Ray O Westergard, CPA, Respondent;

PCAOB Release No. 105-2010-003

3. ORDER INSTITUTING DISCIPLINARY PROCEEDINGS, MAKING FINDINGS, AND IMPOSING SANCTIONSIn the Matter of Williams & Webster, P.S., Kevin J. Williams, CPA, and John G. Webster, CPA, Respondents; PCAOB Release No.

105-2007-001

4. ORDER INSTITUTING DISCIPLINARY PROCEEDINGS, MAKING FINDINGS, AND IMPOSING SANCTIONSIn the Matter of Armando C. Ibarra, P.C., Armando C. Ibarra, Sr., and Armando C. Ibarra, Jr., Respondents; PCAOB No. 105- 2006-001

After reading your selected disciplinary order, address the following issues:

a. Identify the key audit deficiencies related to accounts, disclosures, and assertions in the revenue cycle.

b. For each identified deficiency, indicate the appropriate action that should have been taken by the auditor.

c. In assessing the case overall, indicate (1) whether the auditor had an appropriate level of professional skepticism; (2) if appli- cable, what might have led the auditor to behave in an unethi- cal manner; and (3) whether the sanctions against the auditor/

audit firm seem reasonable.

9-79 SEC

LO2, 3, 6, 7, 8 In theProfessional Judgment in Context feature presented in Chapter 5, we introduced you to 2004–2006 audits of Thornton Precision Components, Limited (TPC) performed by Ernst & Young, LLP, UK (E&Y UK). This case was based on the SEC Accounting and Auditing Enforcement Release No. 3359 (Jan- uary 2012). Obtain a copy of the AAER at the SEC Web site. Read the sections of the AAER that relate to accounts and assertions in the revenue cycle and address the following issues:

a. Identify the key audit deficiencies related to accounts and assertions in the revenue cycle.

b. For each identified deficiency, indicate the appropriate action that should have been taken by the auditor.

9-80 COSO

LO2, 3 In 2010, COSO published a study that provided a com- prehensive analysis of occurrences of fraudulent financial reporting that were investigated by the SEC from 1988 through 2007. Sixty- one percent of the 347 fraud cases profiled in the study related to

NOTE: Completing Application Activ- ities requires students to reference additional resources and materials.

ETHICS PROFESSIONAL SKEPTICISM FRAUD

FRAUD

the improper recording of revenues. The revenue misstatements were primarily the result of fictitiously or prematurely recording revenues. The report lists various techniques (labeled a.–f. below).

For each technique, describe how such a fraud would work. You may need to do some additional research.

a. Conditional sales

b. Round-tripping or recording loans as sales

c. Premature revenues before all the terms of the sale were completed

d. Improper cutoff of sales

e. Improper use of the percentage of completion method f. Consignment sales

9-81 LO3 Refer to Exhibit 9.4, which provides examples of companies who have employed some type of revenue recognition or accounts receivable scheme. Using appropriate resources, identify a recent example of a company that employed some type of

revenue recognition or accounts receivable scheme. Describe the details of the scheme and possible motivations for conducting the scheme.

9-82 LO3, 8 One of the major financial scandals of the twentieth cen- tury centered on McKesson & Robbins. The case had implications for the audit of accounts receivable. Based on appropriate research, describe the nature of the fraud related to accounts receivable that occurred at McKesson & Robbins and identify the impact of the case on the audit of accounts receivable.

ACADEMIC RESEARCH CASES

9-83 LO2, 3 Locate and read the article listed below and answer the following questions.

Caylor, M. 2010. Strategic revenue recognition to achieve earnings benchmarks. Journal of Accounting and Public Policy29:

82–95.

a. What is the issue being addressed in the paper?

b. What are the findings of the paper?

c. Why is this paper important to auditors, and what are the implications of this paper for the auditing profession?

d. Describe the research methodology used as a basis for the conclusions.

e. Describe any limitations of the research.

9-84 LO1, 2, 3 Locate and read the article listed below and answer the following questions.

Callen, J. L., S. W. G. Robb, and D. Segal. 2008. Revenue manipulation and restatements by loss firms. Auditing: A Journal of Practice & Theory 27 (2): 1–29.

a. What is the issue being addressed in the paper?

b. What are the findings of the paper?

c. Why is this paper important to auditors, and what are the implications of this paper for the auditing profession?

d. Describe the research methodology used as a basis for the conclusions.

e. Describe any limitations of the research.

FRAUD

NOTE: Completing Academic Research Cases requires students to reference additional resources and materials.

SEARCH HINT

It is easy to locate these academic research articles! Simply use a search engine such as Google Scholar or an electronic research platform such as ABI Inform, and search using the author names and part of the article title.

PROFESSIONAL SKEPTICISM

FRAUD

Academic Research Cases 435

FORD AND TOYOTA

9-85 FORD MOTOR COMPANY AND TOYOTA MOTOR CORPORATION

LO1, 2, 3, 4, 5, 7, 8

Source and Reference Question

Ford 10-K a. What are the key revenue cycle accounts for Ford? What accounts

involve critical accounting estimates?

b. What does Ford say in Footnote 2 about its use of accounting estimates? What risk do these estimates pose for the auditor?

Ford 10-K and Toyota Annual Report or 20F c. Compare Ford and Toyota’s footnotes on finance receivables. What is the audit firm’s responsibility regarding the informativeness of the disclosures?

Ford 10-K d. Ford lists a variety of risk factors associated with its business. Review those and identify which relate most to the revenue cycle. What evidence might the auditor gather to understand how those risks may affect the financial statement line items associated with the revenue cycle?

Ford 10-K e. Read Ford’s Management Discussion and Analysis section titled

“Key Economic Factors and Trends Affecting the Automotive Industry.”

What are the main points that Ford management raises regarding its ability to generate revenue and profits in the near term? What do its statements imply about the risks associated with auditing Ford Motor Co.?

ACL

9-86 LO5, 8 You are auditing FloorMart, a retailer with 200 stores around the country. It has two basic sizes of stores—minimarts with 3,000 square feet and maximarts with 7,500 square feet. Both types of stores carry the same types of products. The client has provided an Excel file with the square feet, sales, and inventory at each store. Access the textbook’s resources on the Cengage Web site. The file is labeled“Floormat Data.”

a. Using either Excel or ACL, identify the stores for which sales appear to be out of line with the other stores and require additional evidence.

b. What procedures would the auditor use to gather the additional evidence?

9-87 LO7, 8 You are auditing Accounts Receivable of HUSKY Corp.

as of December 31, 2013. The Accounts Receivable general ledger balance is $4,263,919.52. Access the textbook’s resources on the Cengage Web site. The files are labeled “HUSKY Unpaid Invoices 2013”(the 12/31/2013 unpaid invoices), “HUSKY Shipping File 2013”(contains the shipment numbers and shipment dates for those invoices), and “HUSKY Credit Limit 2013”(contains each customer’s credit limit). Sales are made FOB shipping point. The auditor has verified the last shipment in 2013 is numbered 62050 and that shipping numbers have been used in proper sequence.

1. Foot the file of unpaid invoices using the menu optionAnalyze, then Statistical, thenStatistics and agree to the general ledger.

Print the statistics for the audit documentation and note the other statistics provided.

NOTE: There is an ACL appendix and tutorial at the end of the textbook that you may find helpful in completing this problem.

2. Identify customers with balances over their credit limit and print out the results. (Hint: Before combining files, be sure the matching fields, such as CUSTNUM or INVNUM, have been changed in each table from a number format to ASCII format using the menu item Editthen Table Layout. Double click on the field you want to change).

3. Perform a sales cutoff test to identify any invoices for which sales were recorded in 2013 but shipment was not made until 2014 and print out the results, including the total of those invoices.

4. Age the unpaid invoices as of December 31, 2013, print the aging and graph of the aging, extract (by double-clicking on the over 45 days aging indicator) and print out a list of invoices over 45 days old that also shows the total of those invoices.

5. Summarize your results and describe what procedures should be performed based on those results. Use ACL to stratify the population of customer balances, print the results, and describe how this information could be used to help determine which balances to confirm.

ACL 437

C H A P T E R

10 Auditing Cash and

Marketable Securities

CHAPTER OVERVIEW AND LEARNING OBJECTIVES

A high volume of transactions flows through cash accounts. Because of the vulnerability to error or fraud, organizations and auditors usually emphasize the quality of controls over the cash transactions. In this chapter, we examine approaches that auditors take to assess risks associated with cash and to evaluate controls over cash accounts. We also

address issues concerning the audit of marketable securities. In terms of the audit opinion formulation process, this chapter primarily involves Phases II, III, and IV—performing risk assessment procedures, tests of controls, and substantive procedures for cash and marketable securities.

Through studying this chapter, you will be able to achieve these learning objectives:

1. Identify the significant accounts, disclosures, and relevant assertions in auditing cash accounts.

2. Identify and assess inherent risks of material misstatement in cash accounts.

3. Identify and assess fraud risks of material misstatement in cash accounts.

4. Identify and assess control risks of material misstatement in cash accounts.

5. Describe how to use preliminary analytical procedures to identify possible material

misstatements for cash accounts, disclosures, and assertions.

6. Determine appropriate responses to identified risks of material misstatement for cash accounts, disclosures, and assertions.

7. Determine appropriate tests of controls and consider the results of tests of controls for cash accounts, disclosures, and assertions.

8. Determine and apply sufficient appropriate substantive audit procedures for testing cash accounts, disclosures, and assertions.

9. Identify types of marketable securities, articulate the risks and controls typically associated with these accounts, and outline an audit approach for testing these accounts.

10. Apply the frameworks for professional decision making and ethical decision making to issues involving the audit of cash accounts, disclosures, and assertions.

THE AUDIT OPINION FORMULATION PROCESS

Chapters 14 and 15 IV. Obtaining

Substantive Evidence about Accounts, Disclosures and Assertions Chapters 8–13 and 16 III. Obtaining

Evidence about Internal Control Operating Effectiveness Chapters 8–13 and 16 II. Performing Risk

Assessment Chapters 3, 7 and 9–13 I. Making Client

Acceptance and Continuance Decisions Chapter 14

The Auditing Profession, the Risk of Fraud and Mechanisms to Address Fraud: Regulation, Corporate

Governance, and Audit Quality Chapters 1 and 2

Professional Liability and the Need for Quality Auditor Judgments and Ethical Decisions

Chapter 4

The Audit Opinion Formulation Process and A Framework for Obtaining Audit Evidence Chapters 5 and 6

V. Completing the Audit and Making Reporting Decisions

PROFESSIONAL JUDGMENT IN CONTEXT

Fraudulent Petty Cash Transactions at Koss Corporation and the Fraud at Peregrine Financial Group, Inc.

This Professional Judgment in Context feature provides details on two high-profile frauds involving cash. The first, introduced in Chapter 2, involves Sue Sachdeva, former vice president of finance for Koss Corporation. Sachdeva orchestrated a $31 million embezzlement at Koss Corporation. In addition to expenditures at upscale clothing retailers, she used Koss funds on various luxury items such as a personal trainer, limousine rides, vacations, and items for her personal home. Astonishingly, more than 22,000 items—some with price tags still attached— were taken by federal authorities in connection with the investigation. The seized items included fur coats, designer clothing, jewelry, art items, and hundreds of pairs of shoes. As part of the embezzlement scheme, Sachdeva took more than $145,000 from petty cash, in increments ranging from $482 to $9,049. While that is a lot of disbursements coming out of petty cash, it is often true that petty cash doesn’t get a lot of attention. Following this embezzlement, Koss took various remediation actions, which included eliminating the petty cash fund so that all

reimbursements are processed through standard controlled accounts payable processes.

The second fraud involves Russell Wasendorf, Sr., who attempted to commit suicide after embezzling over $200 million from Peregrine Financial Group’s (PFG) brokerage clients over a 20-year period. His son, Russell Wasendorf, Jr., ran the operations of PFG and was the president and chief operating officer of the company, but did not have detailed access to important financial records of the company. Instead, Russell Wasendorf, Sr. had sole control of the company’s bank accounts. Wasendorf, Sr. left a detailed suicide note in which he explained his actions and described how he committed the fraud. One part of the suicide note reads as follows:

“I was able to conceal my crime of forgery by being the sole individual with access to the US Bank accounts held by PFG. No one else in the company ever saw an actual US Bank statement. I made counterfeit statements within a few hours of receiving the actual statements and gave the forgeries to the accounting department.”He also stated:

439

Significant Accounts and Relevant Assertions

Overview of Cash Accounts

An organization may have many different kinds of cash accounts. Major types of cash accounts include general checking accounts, cash management accounts, petty cash, and imprest payroll accounts. In addition to these accounts, many organizations have marketable securityaccounts.

General Checking Accounts A general checking account is used for most cash transactions. The organization’s regular cash receipts and disbursements are processed through this account. In some cases, the receipts are received directly by the bank through a lockbox or electronic funds transfers (EFT) and are directly deposited in the client’s account by the bank. Most organizations have cash budgets to assist in planning disbursements, and they have cash management arrangements with the bank to temporarily invest excess funds in interest-bearing securities.

Cash Management Accounts Good cash management requires the organization to earn the greatest possible return on idle cash balances. Most organizations have developed relationships with their financial institutions to move excess cash into and out of short-term savings accounts to generate extra returns.

Imprest Payroll Accounts Some organizations disburse their payroll through animprest bank account, into which cash is deposited as needed to cover payroll checks when they are issued. If the employees cash all payroll checks, the bank balance returns to zero. The need for an imprest payroll account is disappearing as most organizations now directly deposit employees’ earnings into their respective bank accounts.

Petty Cash Accounts Almost all organizations use one or more petty cash accounts to disburse funds to employees who are authorized to make various purchases on behalf of the organization. The petty cash fund should have a

“With careful concealment and blunt authority I was able to hide my fraud from others at PFG. If anyone questioned my authority I would simply point out that I was the sole shareholder. I ordered that US Bank statements were to be delivered directly to me unopened, to make sure no one was able to examine an actual US Bank Statement. On US Bank side, I told representatives at the Bank that I was the only person they should interface with at PFG.”

The December 31, 2011, financial statements showed that PFG had over $220 million in its bank account, but in reality the bank account contained only about $6 million. What likely prompted the timing of Wasendorf’s attempted suicide was the fact that the National Futures Association (NFA) had just implemented a change to its online system whereby bank statement information would be sent electronically from the banks directly to the NFA

(see www.confirmation.com). The NFA started receiving confirmations through that system one day before Wasendorf’s attempted suicide. PFG filed for bankruptcy almost immediately after Wasendorf’s attempted suicide and subsequent arrest. (See Problem 10-70 in the Contemporary and Historical Cases section for more details on the Wasendorf case.)

As you read through this chapter, consider the following questions:

● Why is cash an inherently risky account? (LO 2, 3)

● What controls should be in place to help ensure that cash accounts are not misappropriated?

(LO 4)

● What are the audit implications of poor controls over cash accounts? (LO 6)

● What types of audit procedures would auditors employ when auditing cash? (LO 7, 8)

LO1 Identify the significant accounts, disclosures, and relevant assertions in auditing cash accounts.

sufficient amount of money to pay for routine expenses. While most petty cash funds involve only a small amount of money, a risk of fraud is associated with this fund, as illustrated in the Professional Judgment in Context feature (the first fraud that was discussed). As that example illustrates, the cumulative disbursements made through petty cash funds can become significant.

Cash Management Techniques

Cash management techniques have been developed to (1) speed the collection and deposit of cash while minimizing the possibility of error or fraud in the process, (2) reduce the amount of paperwork, and (3) automate the cash management process. Most cash management is computerized and tied to electronic commerce agreements with vendors and customers. Four of the more important cash management techniques are the use of lockboxes, electronic data interchange and automated transfers, cash management agreements with financial institutions, and compensating balances.

Lockboxes The collection of cash and reduction of the possibility of fraud can be facilitated by the use oflockboxes. Customers are instructed to send payments directly to the company at a specific post office box number, which is a depository (lockbox) at the organization’s banking institution. The bank receives and opens the remittances, prepares a list of cash receipts by customer, credits the client’s general cash account, and notifies the client about details of the transactions. Notification can be either a document listing customer receipts or an electronic list of the same information. The financial institution performs this processing for a fee. The client’s personnel use the data sent by the bank to update cash and accounts receivable.

Lockbox arrangements have these distinct advantages for the audit client:

● Cash is deposited directly at the bank. There is no delay, and the client immediately earns interest on the deposited funds.

● The manual processing associated with opening remittances, maintaining control of receipts, and developing detail for posting accounts receivable is shifted to the bank.

● The client usually establishes several lockboxes in different geographic locations to minimize the delay between the time the check leaves the customer’s premises and the time the client receives the cash. This arrangement speeds the receipt of cash and allows the organization to use the cash to earn a return.

Electronic Funds Transfers Many organizations have adopted EFT as an integral part of their business. Cash transfers are made automatically and instantaneously; checks are not used.

Cash Management Agreements with Financial Institutions Finan- cial institutions provide automated services such as cash management pro- grams for many of their clients.

Compensating Balances Most companies have short-term loans and lines of credit with their primary financial institution. The line of credit provides the company with a prenegotiated loan, available for use when the company needs it. The financial institutions usually require the company to maintain a specified balance in a non-interest-bearing account. The amount available for the loan is the credit line minus the compensating balance. If the amounts are material, the company is required to disclose the compensating balance arrangement and its effect on the effective rate of interest.

Significant Accounts and Relevant Assertions 441