Control Activities I

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Control Activities - I

• Control Activities as related to Financial
  Reporting may be classified according to their
  intended uses in a system
• Preventive Controls block adverse events, such as
  errors or losses, from occurring
• Detective Controls discover the occurrence of
  adverse events such as operational inefficiency
• Corrective controls are designed to remedy
  problems discovered through detective controls
• Security Measures are intended to provide
  adequate safeguards over access to and use of
  assets and data records

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Control Activities - II

• Control Activities relating to Information
  Processing may also be classified according to
  where they will be applied within the system
• General controls are those controls that pertain
  to all activities involving a firms AIS and
  assets
• Application controls relate to specific
  accounting tasks or transactions
• The overall trend seems to be going from specific
  application controls to more global general
  controls

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Control Activities - III

• Performance Reviews
• Comparing Budgets to Actual Values
• Relating Different Sets of Data-Operating or
  Financial-to one another, together with Analyses
  of the relationships and Investigative and
  Corrective Actions
• Reviewing Functional Performance such as a banks
  consumer loan managers review of reports by
  branch, region, and loan type for loan approvals
  and collections

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• General Controls and Application Controls

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Introduction to Controls

• Controls may relate to manual AISs, to
  computer-based AISs, or both
• Controls may be grouped into General controls,
  Application controls, and Security measures
• Controls may also be grouped in terms of risk
  aversion Corrective, Preventive, and Detective
  Controls
• These categories are intertwined and an
  appropriate balance is needed for an effective
  internal control structure

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Control Classifications

• By Setting
• General
• Application
• Input
• Processing
• Output

• By Risk Aversion
• Corrective
• Preventive
• Detective

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General Controls

• General Controls pertain to all activities
  involving a firms AIS and resources (assets).
  They can be grouped as follows
• Organizational or Personnel Controls
• Documentation Controls
• Asset Accountability Controls
• Management Practice Controls
• Information Center Operations Controls
• Authorization Controls
• Access Controls

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Organizational or Personnel Controls - I

• Organizational independence, which separates
  incompatible functions, is a central control
  objective when designing a system
• Diligence of independent reviewers, including
  BOD, managers, and auditors (both internal and
  external)
• In a manual system, authorization,
  record-keeping, and custodial functions must be
  kept separate. e.g., purchases, sales, cash
  handling, etc

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Organizational or Personnel Controls - II

• In computer-based AISs the major segregation is
  between the systems development tasks, which
  create systems, and the data processing tasks,
  which operate systems
• Within data processing, one may find segregation
  between separate control (receiving logging),
  data preparation (converting to machine readable
  form), computer operations, and data library -
  batch processing
• Other personnel controls include the two-week
  vacation rule

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Flow of Batched Data in Computer-Based Processing
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Segregation of Functions in a Direct/Immediate
Processing System
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Documentation Controls

• Documentation consists of procedures manuals and
  other means of describing the AIS and its
  operations, such as program flowcharts and
  organizational charts
• In large firms, a data librarian is responsible
  for the control, storage, retention and
  distribution of documentation
• Storing a copy of documentation in a fireproof
  vault, and having proper checkout procedures are
  other examples of documentation controls.
• Use of CASEs

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Systems Standard Documentation

• Systems development policy statements
• Program testing policy statements
• Computer operations policy statements
• Security and disaster policy statements

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System Application Documentation

• Computer system flowcharts
• DFDs
• Narratives
• Input/output descriptions, including filled-in
  source documents
• Formats of journals, ledgers, reports, and other
  outputs
• Details concerning audit trails
• Charts of accounts
• File descriptions, including record layouts and
  data dictionaries
• Error messages and formats
• Error correction procedures
• Control procedures

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Program Documentation

• Program flowcharts, decision tables, data
  structure diagrams
• Source program listings
• Inputs, formats, and sample filled-in forms
• Printouts of reports, listings, and other outputs
• Operating instructions
• Test data and testing procedures
• Program change procedures
• Error listings

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Data Documentation

• Descriptions of data elements
• Relationships of specific data elements to other
  data elements

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Operating Documentation

• Performance instructions for executing computer
  programs
• Required input/output files for specific programs
• Setup procedures for certain programs
• List of programmed halts, including related
  messages, and required operator actions for
  specific programs
• Recovery and restart procedures for specific
  programs
• Estimated run times of specific programs
• Distribution of reports generated by specific
  programs

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User Documentation

• Procedures for entering data on source documents
• Checks of input data for accuracy and
  completeness
• Formats and uses of reports
• Possible error messages and correction procedures

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Examples of Asset Accountability Controls

• Subsidiary ledgers provide a cross-check on the
  accuracy of a control account
• Reconciliations compare values that have been
  computed independently
• Acknowledgment procedures transfer accountability
  of goods to a certain person
• Logs and Registers help account for the status
  and use of assets
• Reviews Reassessments are used to re-evaluate
  measured asset values

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Management Practice Controls

• Since management is responsible and thus over
  the internal control structure, they pose risks
  to a firm
• General controls include
• Human resource Policies and Practices
• Commitment to Competence
• Planning Practices
• Audit Practices
• Management Operational Controls
• In a computerized AIS, management should
  instigate a policy for
• Controls over Changes to Systems
• New System Development Procedures

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Examples of Computer Facility/Information Center
Controls

• Proper Supervision over computer operators
• Preventive Diagnostic Programs to monitor
  hardware and software functions
• A Disaster Recovery Plan in the event of a
  man-made or natural catastrophe
• Hardware controls such as Duplicate
  Circuitry, Fault Tolerance and
  Scheduled Preventive
  Maintenance
• Software checks such as a Label Check
  and a Read-Write
  Check

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Application Controls

• Application controls pertain directly to the
  transaction processing systems
• The objectives of application controls are to
  ensure that all transactions are legitimately
  authorized and accurately recorded, classified,
  processed, and reported
• Application controls are subdivided into input,
  processing and output controls

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Authorization Controls - I

• Authorizations enforce managements policies with
  respect to transactions flowing into the general
  ledger system
• They have the objectives of assuring that
• Transactions are valid and proper
• Outputs are not incorrect due to invalid inputs
• Assets are better protected
• Authorizations may be classified as general or
  specific

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Authorization Controls - II

• A General authorization establishes the standard
  conditions for transaction approval and execution
• A Specific authorization establishes specific
  criteria for particular sums, events,
  occurrences, etc
• In manual and computerized batch processing
  systems, authorization is manifest through
  signatures, initials, stamps, and transaction
  documents
• In on-line computerized systems, authorization is
  usually verified by the system. e.g., validation
  of inventory pricing by code numbers in a general
  ledger package

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Input Controls

• Input Controls attempt to ensure the validity,
  accuracy, and completeness of the data entered
  into an AIS.
• Input controls may be subdivided into
• Data Observation and Recording
• Data Transcription (Batching and Converting)
• Edit tests of Transaction Data
• Transmission of Transaction Data

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Controls for Data Observation and Recording

• The use of pre-numbered documents
• Keeping blank forms under lock and key
• Online computer systems offer the following
  features
• Menu screens
• Preformatted screens
• Using scanners that read bar codes or other
  preprinted documents to reduce input errors
• Using feedback mechanisms such as a confirmation
  slip to approve a transaction
• Using echo routines

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Data Transcription - I

• Data Transcription refers to the preparation of
  data for computerized processing and includes
• Carefully structured source documents and input
  screens
• Batch control totals that help prevent the loss
  of transactions and the erroneous posting of
  transaction data
• The use of Batch control logs in the batch
  control section
• Amount control total totals the values in an
  amount or quantity field
• Hash total totals the values in an identification
  field
• Record count totals the number of source
  documents (transactions) in a batch

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Data Transcription - II(Conversion of
Transaction Data)

• Key Verification which consists of re-keying data
  and comparing the results of the two-keying
  operations
• Visual Verification which consists of comparing
  data from original source documents against
  converted data.

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Examples of Batch Control Totals

• Financial Control Total - totals up dollar
  amounts (e.g., total of sales invoices)
• Non-financial Control Total - computes non-dollar
  sums (e.g., number of hours worked by employees)
• Record Count - totals the number of source
  documents once when batching transactions and
  then again when performing the data processing
• Hash Total - a sum that is meaningless except for
  internal control purposes (e.g., sum of customer
  account numbers)

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Definition and Purpose of Edit Tests

• Edit Tests (programmed checks) are most often
  validation routines built into application
  software
• The purpose of edit tests is to examine selected
  fields of input data and to reject those
  transactions whose data fields do not meet the
  pre-established standards of data quality

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Examples of Edit Tests (Programmed Checks)

• Validity Check (e.g., M male, F female)
• Limit Check (e.g., hours worked do not exceed 40
  hours)
• Reasonableness Check (e.g., increase in salary is
  reasonable compared to base salary)
• Field Check (e.g., numbers do not appear in
  fields reserved for words)
• Sequence Check (e.g., successive input data are
  in some prescribed order)
• Range Check (e.g., particular fields fall within
  specified ranges - pay rates for hourly employees
  in a firm should fall between 8 and 20)
• Relationship Check (logically related data
  elements are compatible - employee rated as
  hourly gets paid at a rate within the range of
  8 and 20)

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Transmission of Transaction Data

• When data must be transmitted from the point
  of origin to the processing center and data
  communications facilities are used, the following
  checks should also be considered
• Echo Check - transmitting data back to the
  originating terminal for comparison with the
  transmitted data
• Redundancy Data Check - transmitting additional
  data to aid in the verification process
• Completeness Check - verifying that all required
  data have been entered and transmitted.

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Objectives of Processing Controls

• Processing Controls help assure that data are
  processed accurately and completely, that no
  unauthorized transactions are included, that the
  proper files and programs are included, and that
  all transactions can be easily traced
• Categories of processing controls include
  Manual Cross-checks, ProcessingLogic Checks,
  Run-to-Run Controls,File and Program Checks, and
  AuditTrail Linkages

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Examples of Processing Controls

• Manual Cross-Checks - include checking the work
  of another employee, reconciliations and
  acknowledgments
• Processing Logic Checks - many of the programmed
  edit checks, such as sequence checks and
  reasonableness checks (e.g., payroll records)
  used in the input stage, may also be employed
  during processing

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Examples of Processing Controls

• Run-to-Run Totals - batched data should be
  controlled during processing runs so that no
  records are omitted or incorrectly inserted into
  a transaction file
• File and Program Changes - to ensure that
  transactions are posted to the proper account,
  master files should be checked for correctness,
  and programs should be validated
• Audit Trail Linkages - a clear audit trail is
  needed to enable individual transactions to be
  traced, to provide support in general ledger
  balances, to prepare financial reports and to
  correct transaction errors or lost data

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Output Controls

• Outputs should be complete and reliable and
  should be distributed to the proper recipients
• Two major types of output controls are
• validating processing results
• regulating the distribution and use of printed
  output

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Validating/Reviewing Processing Results

• Activity (or proof account) listings document
  processing activity and reflect changes made to
  master files
• Because of the high volume of transactions, large
  companies may elect to review exception reports
  that highlight material changes in master files

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Regulating/Controlling Distribution of Printed
Output

• Reports should only be distributed to appropriate
  users by reference to an authorized distribution
  list
• Sensitive reports should be shredded after use
  instead of discarding

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Application Controls Arranged by Two
Classification Plans