As a new auditor for the CPA firm of Croix, Marais, and Kale, you have been assigned to review the internal controls over mail cash receipts of Manhattan Company. Your review reviews the following: checks are promptly endorsed “For Deposits Only”, but no list of the checks is prepared by the person opening the mail. The mail is opened either by the cashier or by the employee who maintains the accounts receivable records. Mail receipts are deposited in the bank weekly by the cashier. Instructions: Write a letter to Jerry Mays, owner of the Manhattan company explaining the weaknesses in internal control and your recommendations for improving the system. Mr. Jerry Mays
Dear Mr. Mays
RE: INDENTIFICATION OF WEAKNESSES IN INTERNAL CONTROLS
As your newly appointed auditors, Croix, Marais, and Kale (“CMK” or “we”) are mandated by the scope of our contract to review the internal controls over mail cash receipts (the “process”) of Manhattan Company (the “Company”). As part of the review, we will also provide some recommendations for improving any identified weaknesses in the internal control system of the Company. The review of the process identified the following, which we will classify as weaknesses in the internal control of the system:
* Although checks are promptly endorsed “For Deposit Only”, no list of the checks is prepared by the person opening the mail; * Mail is opened by the cashier or by the employee who maintains the accounts receivable records; and * Mail receipts are deposited in the bank weekly by the cashier For each of the aforementioned, we will provide an explanation of the weakness as well as our recommendations for improvement. The checks endorsed, as “For Deposit Only” is a very good internal control mechanism. The endorsement is restrictive and reduces the likelihood that someone could divert the check for personal use, as banks will not give individual cash when presented with a check that has this type of endorsement. However, a weakness of the process lies in the fact that no duplicate of the list of the checks that are received is prepared by the person opening the mail.
This is an example of a document procedure flaw in the process and an internal control weakness. Without the preparation of a duplicate list as well as signing for the receipt of the checks, there is no trace that the event of receipt of the checks has occurred. By requiring signatures and preparing a duplicate list of the checks, the Company can identify the individual responsible for the event. To this internal control weakness, we would recommend the establishment of responsibility, where only a designated person – a mail receipt clerk will be authorized to handle checks received via mail. The mail receipt clerk should prepare in duplicate, a list of the checks received each day and sign the list to establish responsibility for the receipt of the data. As part of the process, the original copy of the list, along with the checks should be sent to the cashier’s department for the preparation of the daily cash summary.
Additionally, the mail receipt clerk should send a copy of the list to the treasurer’s office, if there is one for reconciliation purposes with the daily cash summary. As mentioned above, we observed that the mail is opened by the cashier or by the employee who maintains the accounts receivable records. This is a flaw in the internal control of the process related to the segregation of duties or separation of function. The cashier’s office is responsible for the preparation of the daily cash summary and thus should not be the same person opening the mail of cash receipts, which is a related activity. Different individuals should be responsible for any related activity. A dishonest cashier can understate the recording of the mail cash receipts and report a different amount on the daily cash summary for personal benefits. Accordingly, we would recommend the establishment of responsibility, where only a designated person – a mail receipt clerk will be authorized to handle checks received via mail.
Additionally, we recommend the segregation of duties, where different individuals receive the mail cash, record the receipts and hold the cash. This will ensure that different individuals are responsible for any related activity and that the responsibility for record keeping for the cash is separate from the physical custody of the cash. Finally, we also observed that the cashier deposits mail receipts in the bank weekly. The internal storage of cash on the premises of the Company is not advisable for obvious reasons- theft, robbery, and unauthorized access. Employees with other intentions can alert external cohorts to raid or rob the Company at night or at another time to gain access to the cash stored on the premises.
Additionally, the storage of the cash on the premises presents a “working hazard” for the employees as outsiders wanting to gain access to the cash may subject them to unwanted raids. The use of a bank on a daily basis contributes significantly to good internal control over cash. The company can safeguard the cash on a daily basis by using a bank as a depository and thus minimizing the amount of currency that the Company has on hand at any point in time during the week. Additionally, the use of the bank on the daily basis facilitates the control of cash because it creates a double record of all bank transactions – one by the Company and one by the bank.
Also we recommend that all receipts be deposited in the bank on a daily basis versus the current practice of weekly deposits. In summary, if management implements the above recommendations, the Company will be in a better position to safeguard its assets from employee theft, robbery, and unauthorized use. Additionally, the company’s accounting records will be enhanced in its accuracy and reliability as a result of the reduction in the risk of errors and irregularities. We are available to further discuss with Company management and hope that the recommendations will be implemented as soon as practicable. We look forward to working with management on this initiative.
Weygandt, J. J., Kimmel, P. D., & Kieso, D. E. (2008). Financial accounting: 2010 custom edition (6th ed.). Hoboken, NJ: John Wiley & Sons.