Question

1. RISK ANALYSIS AND CONTROL Denis Frederick owns Never Leak, Inc., which is a small plumbing supply company that employs 16 workmen who perform plumbing tasks and 3 office staff. One of the office staff is John Higgins who has been with the company since it opened its doors. During that time, he has earned the trust of the owner and has proven to be a diligent employee who often works late, occasionally comes in on weekend for no additional pay, and hasn’t taken a substantial vacation in over 10 years. Instead, he staggers his vacation days throughout the year to avoid the need for a replacement and ensuring that none of the other office staff is burdened with his work. John’s primary tasks include: • Responsible for POS cash and credit sales • Bills the customers who purchase on credit • Opens the mail and posts to AR records, and • Prepares the daily cash deposits for the business. Another office worker, Larry Jones, handles ordering inventory and supplies from vendors, stocking, shipping merchandise, updating inventory records, and writing checks to vendors in payment of purchases. The third office staff member, Margaret Lilly, performs the payroll (writing paychecks and recording payroll payments) and general ledger functions. Required 1) Discuss the risks inherent in the scenario. 2) Make control recommendations to mitigate the risks under the constraint that no additional employees can be hired.

Answer 1

1) Discuss the risks inherent in the scenario.

The risk inherent in the scenario is the lack of Segregation of duties. The same person is in control of an entire chain of activities that can lead to a fraud. Here the same person is in charge of the four processes:

• Authorization
• Recording
• Access to asset and
• Reconciliation for a transaction

There is a high probability that one initiates an error or fraud and then manages to conceal it as well. Each of the three employees discussed in the case above is in a position to perpetrate an error / fraud and then conceal it as well.

2) Make control recommendations to mitigate the risks under the constraint that no additional employees can be hired.

Segregation of duties (SOD) is an internal control that requires different people to complete different parts of a task. It is designed to ensure that at least two individuals are responsible for the separate parts of any task. It involves breaking down tasks that might reasonably be completed by a single individual into multiple tasks so that no one person is solely in control. It tries to ensure that a person is not in a position to perpetrate and conceal the errors or fraud.

Four different employees / units / departments should be in charge of the four processes:
•   Authorization
•   Recording
•   Access to asset and
•   Reconciliation for a transaction
If it’s not so, there is a high probability that one initiates an error or fraud and then manages to conceal it as well.
If there is a restriction on the hiring of fresh employees, the tasks of three persons mentioned in the case above can be restructured as ptable below so that non of them is in a complete control of one financial transaction.

Please refer to the table below for tasks restructuring plan. Person 1, 2 and 3 can be any of the three employees discussed in the case.

Sl. No.	Person 1	Person 2	Person 3
1.	Prepares the indent for goods	Approves the indent	Approves the purchase
2.	Maintains a record of account receivables	Deposits customers’ cheques and update their realizations	Verifies cash ledger with actual payments and receipts entries in bank account statement
3.	Approves the purchase of goods	Update the stores register for entry and exit of goods	Physical verification of inventory with stores register
4.	Develops new business	Performs customers’ credit checks	Maintains record of account receivables
5.	Records attendance	Processes salaries & compensation	Approves payment