Question

E6.2 Identify the principles and limitations of internal control. LO5, 8 Caterpilla Tractors buys wheels from Wheels R Us in order to complete the manufacture of its tractors. The Mina brothers work for Caterpilla Tractors. Sam works in the purchasing department while Peter works in the accounting department. The business is starting out and has a system in place such that the purchasing department also receives the wheels when they are delivered to the business. Sam orders the wheels from his best friend’s business, Wheels R Us. The order for the parts is processed through the accounting system by Sam, and Peter pays Wheels R Us once notified by Sam that the wheels have been received. Required Identify which of the five principles of internal control you feel is lacking in the aforementioned scenario. (Note: It may not be possible to observe all the principles.)

Answer 1

The following five principles of internal control are lacking:

1. Segregation of duties: Accounting work as well as payment is done by Peter. Thus, there is possibility of misappropriations.
2. Maintain records (documentation): No proper requirement for the wheels has been raised by the production department by preparing proper production schedule. There is no record for production schedule.
3. Establishment of responsibilities: proper allocation of authority and responsibility ensures that all activities are undertaken as per established policies and guidelines.
4. Independent check: Supplier has not been selected by systematic process. There is lack of a checklist including the criteria that must be followed while selecting the supplier. No other suppliers are asked to submit their bid.
5. Physical control: inventory of wheel is not counted when they are received.