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Four Control Objectives Of Wages System Accounting Essay

According to Millichamp & Taylor (2008), control objectives of wage system are as follows: To ensure that wages are paid to the existing employees at authorized rates of pay To ensure that wages are computed in accordance with work-performed records, in respect of working time, units produced, and other criteria

To ensure that gross pay and net pay are calculated correctly and payments are made to the correct employees

To ensure that payrolls deductions to Central Provident Fund Board are correctly accounted and paid

(b) As the external auditors of Blake Ltd, write a management letter to the directors in respect of the shift-workers wages recording and payment systems which:

Identifies and explains FOUR deficiencies in that system

Explains the possible effect of each deficiency

Provides a recommendation to alleviate each deficiency [14m]

The Board of Directors

Blake Limited

1208 Chancery Lane,

Strand, London. 08th DEC 2010

Dear Sirs/Madams,

BLAKE LIMITED

REPORT TO MANAGEMENT FOR THE YEAR ENDED 30TH DECEMBER 2010

Following our recent audit, we bring to your attention certain observations in the company’s operations which we believe can help you in improving the profitability and efficiency of the business.

First Deficiency: Logging in process

The logging in process using an electronic identification card is not monitored.

Possible effect:

Card scanned doesn’t mean that work starts! As the logging in process is not monitored, collusion between employees by helping each other scanning the identification cards may result receipt of wages on the non-approval leave days or working hours.

Recommendation:

- Replacement of electronic identification card to finger-print scanning may effectively cut off the collusion, yet it may be costly for the management.

- Spot check on the number of workers on the production line by shift manager from time to time and compare the number of employees logged in via the time recording system.

Second Deficiency: Overtime supervision

The shift foreman is not required to monitor the extent of any overtime working.

Possible effect:

As overtime working is not supervised, the employees may get wages paid at overtime rates for no work done by logging-off late. This phenomenon not only reduces the productivity, but also increases the labor costs.

Recommendation:

- As each group of shift workers (25 persons) is allocated with specific vehicle at specific amount, the management may adopt piece-work systems, where employees are paid for output instead of time [Dunn, 1990].

- Change of existing working environment where the overtime working should be monitored by the shift foreman or through the installation of CCTVs.

Third Deficiency: Code word in computerized wage system

The authorization code word (pet’s name) uses in comparing the accuracy of time worked from the time recording system to the computerized wages system is generally known around the department.

Possible effect:

Unauthorized alterations may be made by the employees inside and outside the department.

Recommendation:

- Further security steps should be carried out, such as authorization using personnel identification number and password. This will help in keeping the records of the employee’s name who certified the wages amount of particular employees.

- Change of code word on a regular basis and only inform to the responsible employees instead of whole department, may help in reducing this deficiency.

Forth Deficiency: Termination of employees

No effort in ensuring the receipt of e-mails sent from personnel department to payroll department which stating the details of employees’ termination.

Possible effect:

Terminated employees may remain on the payroll system [Leung, Coram, Cooper & Richardson, 2009] and hence the accounts department clerk will continue making payments to those employees as there is no link between accounts and personnel department.

Recommendation:

It is essential in ensuring that the termination e-mails are received in personnel, and this can be done by sending a notification feedback mails from payroll department to personnel department.

We hope to discuss the report with you at our forthcoming meeting.

May we take this opportunity to express our thanks to you and your employees for the assistance provided during the audit period.

If you require any further information on the above, please do not hesitate to contact us.

Disclaimers:

- This letter does not identify all the weaknesses in the company internal control systems.

- This letter is for management use only.

Yours Faithfully,

Fung

Jason & Smith Audit Co.

(c) List THREE substantive analytical procedures you should perform on the shift managers’ salary system. For each procedure, state your expectation on the result of that procedure. [6m]

Substantive procedures are designed to obtain audit evidence to reduce detection risks relating to specific financial statement assertions [Rick, Dassen, Schilder & Wallage, 2005], using the tools: tests of details of transaction and balances, and analytical procedures. Analytical procedures consist of the analysis of significant trends and ratios, which entail the use of relationships and comparisons to determine the balance of accounts and reasonability of data [Porter, Simon & Hatherly, 2008].

When analytical procedures serve as substantive tests in the shift managers’ salary system, substantive analytical procedures may be conducted by auditors comprise of:

(i) Trend Analysis – The analysis of changes in an account balance over time [Rick, Dassen, Schilder &

Wallage, 2005].

Procedure: Regular independent comparisons of shift managers’ salaries paid with budgets and previous year, through investigation of variances [Porter, Simon & Hatherly, 2008].

Expectation: Assuming that the budgeted shift managers’ salaries included the 3% increment in second half year and the 5% annual bonus, variances between actual and budgeted total salary expenses should persist at similar level. On the other hand, presuming that the number of total shift managers remained unchanged, only inflation rates supposed to take place when comparing current and previous years’ salary expenses.

(ii) Ratio Analysis – The comparison of relationships between financial statement accounts, the

comparison of an account with non-financial data, or the comparison of relationships between firms in an industry [Rick, Dassen, Schilder & Wallage, 2005].

Procedure: Data collection of employment and rates payment of each shift manager in Blake Ltd from HR department [Porter, Simon & Hatherly, 2008]. Calculation of aggregate amount and compare it with the actual salary disclosed in financial statement [Rick, Dassen, Schilder & Wallage, 2005].

Expectation: As non-financial data may serve as a basis for comparisons, the estimated total payrolls can be achieved through the multiplication of total number of shift managers with the mean salary rates.

(iii) Reasonableness Testing – The analysis of account balances or changes in account balances within

an accounting period in terms of their “reasonableness” in light of expected relationships between accounts [Rick, Dassen, Schilder & Wallage, 2005].

Procedure: Data collection of number of shift managers hired and terminated, the timing of pay changes (increment of 3% in July and annual bonus of 5% in November), and the effect of vacation and sick leave, a model on shift managers payroll expenses could be created [Rick, Dassen, Schilder & Wallage, 2005].

Expectation: As reasonableness testing develop explicit information, the monthly salary expenses should be quite constant in the first half years and an approximately 3% increment took place from July onwards and a further increment in November due to the annual bonus paid.

(d) Audit evidence can be obtained using various audit procedures, such as inspection. APART FROM THIS PROCEDURE, in respect of testing the accuracy of the time recording system at Blake Ltd, explain FOUR procedures used in collecting audit evidence and discuss whether the auditor will benefit from using each procedure. [8m]

The collection and gathering of audit evidence lies at the heart of the audit, where Mautz and Sharaf claimed that “Auditing in its entirety is made up of two functions, both closely concerned with evidence. The first one is the evidence-gathering function; the second is that of evidence evaluation.” [Dunn, 1991]. Test of controls is the tool uses in testing the effectiveness of control policies and procedures in supporting the detection of control risk [Rick, Dassen, Schilder & Wallage, 2005]. Apart from inspection, the procedures and techniques used in collecting audit evidence and the benefit to auditor in testing the accuracy of time recording system are as follows:

(1) Confirmation – The receipt of a written or oral response from an independent third party verifying the accuracy of information that was requested by the auditor [Loebbecke, 1999].

Benefit/Applicability to auditor in testing the accuracy of time recording system:

As the evidence is from independent third party, it is highly persuasive. However, the time recoding system manufacturer may feel reluctant to share the weaknesses and problems of the system in order to protect its product and business. Due to the time constraint and the inconveniencies in obtaining information, this procedure is less likely to be selected by auditors.

(2) Observation – A control consists of looking at a process or procedure being performed by others [Rick, Dassen, Schilder & Wallage, 2005], which can be a significant procedure in determining whether the control system is operating [Mascarenhas & Turley, 1990].

Benefit/Applicability to auditor in testing the accuracy of time recording system:

This procedure enables the auditor to find out whether collusion in logging-in and out among shift workers takes place. However, observation may not provide an accurate reflection as employees will usually perform duties appropriately while being observed. Hence, combination with other procedures in gathering evidence may be necessary step in order to achieve higher accuracy [Mascarenhas & Turley, 1990].

(3) Recalculation – The procedure of checking the arithmetical accuracy of source of documents and accounting records or performing independent calculations [Rick, Dassen, Schilder & Wallage, 2005].

Benefit/Applicability to auditor in testing the accuracy of time recording system:

Recalculation helps in confirming the total hours paid are the same with the total time logging-in and out on the time recording system. Recalculation may provide strong evidence but the evidence is rarely persuasive and conclusive by itself [Rick, Dassen, Schilder & Wallage, 2005]. A further step via re-performance procedure may help in increasing the overall accuracy of the time recording system.

(4) Analytical Procedure – The analysis used to evaluate financial information by studying plausible and predictable relationships among both financial and non-financial data [Mascarenhas & Turley, 1990].

Benefit/Applicability to auditor in testing the accuracy of time recording system:

This procedure could be a reasonably effective test, which enables the auditor to monitor the number of total hours claimed (time recoding system) and the total cost of wages paid (computerized wage system) through standard costing system [Dunn, 1990]. Any excessive variance occurred should be investigated.

In conclusion, auditors always face difficulties in deciding the most suitable procedures which is most appropriate to achieve the objective. Guideline on Audit Evidence suggests the following:

Documentary evidence is more reliable than oral

Evidence obtained from independent sources outside the enterprise is more persuasive than that secured solely from within

Evidence originated by the auditor is more reliable than evidence obtained from others

[Dunn, 1990]

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