AUDITING TASK - ASSIGNMENT SOLUTION

Answer to Q1

The detection of fraud committed by an employee at Pellegrino Shores hints at its weak internal controls as the senior staff member was able to reduce fees of several residents of the retirement village without any authorization or approval process. Moreover, the fraud was only discovered accidently when another staff member overheard the conversation between the resident and the fraudster. This shows that there are no preventative or detective controls employed to discourage and limit the occurrence of fraud within the organization. The effects of the fraud on the business and the accounts and related assertions mostly to be affected are discussed below.

Lack of segregation of duties is clearly an issue as the fees and rates should be approved by credit control or sales department rather than someone who is responsible for managing the resident’s room location and changes therein. The unnecessary access to the resident’s database has further aggravated the problem which has enabled the fraudster to coordinate and collude with the residents. Hence there seems to be an absence user authorization matrix which limit the ability to access information by users/staff organization-wide. This would result in understatement of revenue and the assertion affected would be completeness of sales revenue as most of the sales would go unrecorded in the organization’s accounting system despite the rooms being occupied. 

Further, the amount of other services offered to the residents have also been altered by the senior staff member to make room for his own fraudulent receipts from the customers. Depending on the types of services provided to the residents, this would mean that the inventory of items being provided as services would be overstated as most of it would go unrecorded in the accounting system as the fraudster has reduced their value. The assertion directly affected would be valuation of inventories. Likewise, there is a possibility that expenses incurred by the organization in provided services to the residents would be undervalued as the services provided have been deflated by a senior staff member. 

In view of above, there is a very high risk of material misstatement in the accounts due to fraud such that it is unlikely that any controls over the recording and accounting of revenue and related services provided are operating effectively. In such case auditor would have to design audit strategy to perform extensive substantive procedures on all areas of the financial statements. In such a situation, the auditor shall estimate the amount of error in financial statements due to fraud (including its materiality) and its likely impact on the other areas of the financial statements, including the possibility of fraud conducted by other employees and its severity. If the auditor believes that the risk of misstatement due to inadequate controls and the fraud of employee is such that it cannot be reduced to an appropriately low level through above strategy and a material amount of revenue would remain unrecorded due to insufficient records or alteration in underlying accounts by the fraudster, then he may consider its impact on the overall financial statements and implication on audit opinion including whether it’s possible to continue the audit (ISA 240, paragraph 38).

Answer to Q2

The changeover from the in-house developed IT system of recording revenue from patients to DHL’s 'off the shelf' revenue system is a major development during the period under audit and this means that controls relating to the recognition of patient revenue have significantly changed during the year. Accordingly, there is a risk that the new system of recording revenue might not be operating correctly and timely recording the revenue transactions. Auditor will need to design and perform test of controls to obtain more persuasive audit evidence with regard to the operating effectiveness of controls relating to revenue recognition in the information system of the company. Since detailed testing of a large sample of revenue transaction would be impossible considering St. Neville’s is a highly regarded private and a popular hospital located in Tamworth, additional tests of controls will need to be performed based on the inquiries of management done by Jek Porkins. These are discussed hereunder:

It appears that there is a problem with process alignment in the new changeover IT system. This refers to the way that various IT systems (such as billing system, patient database and rates database in this case) are integrated with one another and thus operate, in effect, as one system, combinely achieving the reporting objective of the entity. Hence there is a high risk over the effectiveness of controls over revenue as there are various instances wherein: