Internal Audit Case Study - Investigating the Impact of Economic Conditions and Computerized Payroll

Investigating Scooter Ltd

Q1. You have recently been hired as the manager of the internal audit department of Vroom Vroom Inc. 

Your first assignment is to investigate certain aspects of a recently acquired division called Scooter Ltd (“Scooter”). 

Scooter is a Canadian company that is an importer of scooters and other low powered motorcycles. 

Certain aspects of Scooter’s business have changed due to a change in economic conditions over the past 12 months. Management of Scooter advised you that Scooter’s business, which experienced rapid growth over its first five years in operation, has slowed significantly during the last year. Initially, sales of scooters were boosted by Canada’s good economic conditions and solid employment growth, coupled with rising gas prices. 

Consumers needed transportation to get to work and the high gas prices made the relatively cheap running costs of scooters seem very attractive. In addition, the low purchase price of a small motorcycle or scooter, at between $3,000 and $8,000, meant that almost anyone who had a job could obtain a loan to buy one. 

However, management at Scooter informed you that the sales of small motorcycles and scooters have slowed significantly and that all importers of these products, not only Scooter, are being adversely affected. The onset of an economic recession started during the Covid–19 pandemic has restricted employment growth, and those people that still have jobs are less certain of continued employment.

In addition, the slowdown in the world economy has caused oil prices to fall, further reducing the demand for the type of economical mode of transportation. 

• You also discovered that, due to the global financial crisis, the finance company used by Scooter’s customers to finance the purchase of scooters and motorcycles has announced that it will not be continuing to provide loans for any type of vehicle with a purchase price of less than $10,000.

Required

1) List 5 questions you would want to ask management based on information in the case.

2) For each of the 5 questions you are asking, explain why they are important for you to ask? What risks are you concerned about? Please “explain” why….Do Not Just State a Risk. 

3) For each of the 5 questions you are asking management, state how might your findings potentially impact your audit work if a risk is identified. In other words, assume that a potential risk is found to exist from the response you received to your questions from management. Identify an audit procedure that you would use to get more information about the existence of the possible risk. 

Q2. Government Inc. has upgraded its payroll system to a new payroll module that integrates with the general ledger. The new software application would significantly reduce the annual operating costs for the company. 

Understanding Risks and Importance of Asking Questions

The new application is more complex than the old system, but its reporting function provides more details. For example, the new application calculates vacation, pension, payroll tax and Workman’s compensation expenses automatically (where as the old one did not), as well as the corresponding accounting accruals. 

There was very little time available to implement the new system, so the old application ceased operation on December 31, 2019 and the new application went live on January 1, 2020. There was not time to run these two systems in parallel and there was limited staff training and testing of the new application.

Required 

a) Briefly identify eight (8) potential issues / problems that you would want to investigate to determine whether they have occurred (or are present) concerning the acquisition, implementation and operation of the new computerized payroll system.

• Being Later with payroll
• Paying the wrong amount: overpayment or underpayment
• Incorrect overtime amounts
• Inaccurate vacation and sick day reporting

b) For “each” of the eight (8) potential issues / problems that you previously identified, provide a description of one (1) audit test that you would want to perform to verify whether the proper controls / procedures existed during the acquisition, implementation and operation of the new computerized payroll system.

Q3. Ocean Inc. owns and runs LaSalle Spa (“LaSalle”) located in Montreal, Quebec. The business provides women-only hairdressing, beauty, relaxation massage, and counselling services. Ocean’s head office is located in Laval, Quebec.

Ocean has just opened another operation in Quebec City and there are plans to open a third branch next year. The manager of Ocean has been very busy establishing the new branch. 

Ocean’s senior management relies on staff in each location to run the day-to-day operations, including purchasing and receiving supplies and tracking the supplies inventory and processing customer payments (credit card and cash receipts). The branch pays for its own purchase of supplies and determines the cost used to value the inventory.

The branch manager of each branch purchases its own fixed assets. Once a purchase is made the branch manager sends an e-mail to head office describing the purchase (i.e. model and quantity purchased), the price, and the purchase order. When the branch receives the supplier invoice it scans and sends it to head office for payment. The head office then uses the e-mail and scanned copy of the document as back-up to support the payment it makes to the supplier.

In addition, the branch manager organizes the staff and authorizes their time sheets. The head office of Ocean makes the payments for each location’s rent, electricity, salaries, and purchases of fixed assets.

Required

a) Give 5 examples of transaction activities that would occur at Ocean Inc. and its Spas

b) Identify one (1) example of “what could go wrong” for each of the five (5) transactions activities stated in part (a) if the system of internal controls do not exist or function effectively. 

Q4. Lincoln Industries (“Lincoln”) manufactures and wholesales small tools. It sells the tools to a large group of regular customers and makes more sales by telephone to this group. Additionally, it receives orders online from its sales team, who sign up new customers within the sales area.

In the past, Lincoln has had trouble with customers who do not pay their accounts on time. Despite instructing the sales team not to make sales to customers before their credit worthiness has been assessed, sales are still being made to new customers before their limits have been set and to existing customers beyond their credit limit. 

Also, the poor economic situation has started to impact Lincoln’s customers, and management is concerned about the possibility of increasing bad debts.

Required 

a) What preventative control can be used to deal with the problems faced by Lincoln? Explain how the control would work.

b) Assume the preventative control is implemented, and during this year there have been no sales to customers that have taken any customer beyond its credit limit. What are two possible explanations for this that the internal auditor must consider.

c) If the internal auditor finds two (2) sales transactions during the year that are in excess of a customer’s credit limit at the time of sale, what conclusion would the auditor draw from the evidence? What other evidence could the internal auditor consider before concluding that the preventative control has failed?