Internal Control and Internal Checking System | Auditing

In this article we will discuss about:- 1. Introduction to Internal Control and Internal Checking System 2. Features of Internal Control and Internal Checking System 3. Systems Audit as a Tool of Internal Control 4. Management Audit 5. Auditor’s Position 6. Internal Controls and/or Checks in Relation to Particular Groups of Transactions.

Introduction to Internal Control and Internal Checking System:

Internal Control and internal checking consist of “measures and methods adopted within an organisation to safeguard the cash and other assets of the company as well as to check the clerical accuracy of the book­keeping.”

It provides for proper authorisa­tion of every transaction by management and aims at an arrangement of duties and responsibilities among the members of the staff in a particular organisation in such a way as to enable all entries and records to pass through different hands and adoption of special measures so that chances of mis­takes or frauds remaining undetected for long are minimised unless all the persons concerned overlook the same error or there is a collusion, i.e., secret arrangement among them to commit a fraud.

It has also the objectives of promptly and correctly record­ing transactions in appropriate accounts within the relevant accounting period; prepa­ration of financial statements according to established accounting policies and princi­ples and ensuring accountability of assets. It should, however, be remembered that internal controls and checks do not make errors and frauds impossible by any means but only render them more difficult to com­mit and easier to detect.

Features of Internal Control and Internal Checking System:

In order to be really useful an internal control and internal checking system should comprise the following principal features and/or safeguards:

(a) Effective organisational set-up.

(b) Division of work and responsibility among as many members of the staff as practicable.

(c) Periodical shifting rotation of duties and responsibilities from one employee to another.

(d) Utilisation of the system of self-balanc­ing ledgers.

(e) Use of mechanical appliances or com­puters or E.D.P. systems in respect of cash, stock and wage records in particu­lar and also accounting records in gen­eral (See Appendix C).

(f) Rationalisation of accounting and opera­tional methods.

(g) Interviews with customers, suppliers and other visitors by responsible officials only.

(h) Careful handling of incoming mail with special attention to remittances and complaints from customers and others.

While a good internal control or internal check system covering the aforesaid aspects is a valuable aid to prevention and detection of errors and frauds, it is usually out of reach of small businesses which cannot afford to incur the additional expenditure involved in engaging extra staff and providing me­chanical and other appliances and equip­ment necessary for the efficient working of the system.

Besides, such elaborate methods are redundant in view of the comparatively smaller number and simpler nature of trans­actions. In cast of big organisation, on the other hand, full-fledged internal checking machinery is considered essential in view of the big volume of transactions of a wide variety handled and recorded by a large number of staff.

Systems Audit as a Tool of Internal Control:

Accounting methods and office proce­dures may require periodical review and reorientation so as to be up-to-date and of maximum use to management.

There ap­pears to be a growing practice on the part of many organisations to appoint auditors or other experts to examine their accounting systems and other operational methods in­cluding internal control and internal check systems and, if necessary, to recommend improved systems that are up-to-date, effi­cient and economical including computer based systems and electronic data process­ing (EDP). This is known as systems audit which is nowadays consid­ered a useful tool of internal control.

With the rapid growth and spread of Information Technology (IT)-related man­agement systems and controls, professional accountants must upgrade their knowledge to master the rules of auditing in an IT environment. A Certified Information Sys­tems Auditor (CISA) Course was introduced in USA in 1978 conducted by the US-based Information Systems Audit and Control Association (ISACA).

This has since been globally accepted as a qualification for In­formation Systems Audit, Control and Secu­rity. CISA was launched in Chennai in 1999 followed by Mumbai and more recently (2000) in Kolkata.

The Institute of Chartered Accountants of India (ICAI) has, in 2001, introduced an Information Systems Modular Training (ISMT) course to impart specialised knowledge and skills on systems audit and related areas. This course is ultimately likely to be a part of CA curriculum. The focus areas of both ISMT and CISA courses appear to be similar and are expected to facilitate Information Systems Audits according to generally accepted US audit standards.

Management Audit in Internal Control:

This is a new concept in the sphere of internal control. It means a process of check­ing actual operations and performance of individual managers with management policies, procedures and rules of sound management, just as a financial audit scru­tinises accounting transactions in the context of business or other activities. It may also be called operational or efficiency audit.

In large modern organisations, management audit is intro­duced in order to verify whether the man­agement operations are being conducted efficiently, economically and effectively in accordance with the organisation chart and the organisation manual or management guide defining functions and responsibilities of managers at different levels.

A summary of the detailed steps invol­ved in management audit is given below:

(i) Identification of management principles, policies and objectives or targets;

(ii) Finding out detailed targets for different operational depart­ments/sections in the context of total objectives;

(iii) Study of organisation structure and functions for the enterprise and for each department/section, whether they can achieve the targets;

(iv) Comparing actual performance in each operational area or sub-area and overall performance with concerned targets;

(v) Suggesting appropriate actions to correct deficiencies and effect improvement.

One vital aspect of management audit is to assess the degree of efficiency and efficacy with which scarce and valuable resources of an enterprise, i.e. 4Ms—money (finance), machinery (and equipment), mate­rials (and components) and manpower (workforce)—are utilised or managed for the benefit of the organisation’s business and/or other interests.

There has been growing emphasis on proper and adequate accountability of com­panies to their shareholders and other stakeholders through good corporate gov­ernance. This has necessitated the global recognition of the essential need for sound management audit systems. India is no ex­ception to this phenomenon. Management audit is concerned with establishing ac­countability of corporate governance to cre­ate wealth for all categories of stakeholders and not merely for the benefit of owners/investors or share/stockholders.

Auditor’s Position Vis-a-Vis Internal Checks and Controls:

Although an auditor acts as an external and independent agent for checking ac­counts he has got to depend in no small measure on the internal checking and inter­nal control systems in operation. In practice, an auditor faces a rather difficult problem as to whether a detailed scrutiny of all transactions should be carried out or some portion of the routine work may be dis­pensed with.

On the one hand, it is often not practicable physically to carry out such detailed checking, specially when the vol­ume of business and the number of trans­actions are pretty large. In such circum­stances an auditor is obliged to make use of test checks and this can be done more safely when the internal methods and pro­cedure relating to the authorisation and recording of transactions are adequately reliable.

The precise nature and extent of an auditor’s scrutiny is, therefore, determined to a large degree by the particular scheme of internal checking and control that may be in force in the client’s business.

In small business houses, where the accountant has got the entire control over the books and records and where introduction of a proper system of internal check is considered too costly, it should be the duty of an auditor to verify the whole of the records and entries.

Almost all modern business con­cerns, specially the larger ones, however, have properly organised systems of internal supervision, checking and control and audi­tors of such firms can rely on the methods in use, dispense with a lot of routine check­ing and concentrate on more important matters.

It should, however, be remembered that the existence of a sound internal control and/or checking system cannot by itself absolve an auditor from liability if he fails to detect any fraud or mistake by not car­rying out a detailed checking. In other words, an auditor can adopt test checks relying on internal checks entirely at his own risk.

It is, therefore, essential that every au­ditor should carefully study the internal control and checking systems, if any, paying special attention to probable loopholes or deficiencies and satisfy himself that the systems are sound enough and are strictly enforced.

It may be useful to use flow charts or to issue an internal control questionnaire (based on the questionnaire published by the ICAI) to the clients and get their reply covering details of internal control and in­ternal checking systems in operation.

On that basis an auditor should fix the exact scope and extent of his detailed checking. Any palpable weakness in the internal sys­tem should be brought to the notice of the authorities emphasising the dangers thereof and recommending suitable improvements; otherwise an auditor may he held liable for negligence in duty.

Internal Controls and/or Checks in Relation to Particular Groups of Transactions:

It has been established clearly that in­ternal checks and controls exercise profound influence on and are closely connected with audit. Besides, an auditor is often asked to suggest suitable systems of internal control and checking.

An auditor should, therefore, be conversant with the fundamentals of standard methods of internal control and checking in respect of important groups of transactions, which are enumerated hereun­der:

(i) Cash Transactions—general:

Defalcation of cash is one of the most common forms of fraud and calls for suit­able preventive measures, which are briefly outlined below:

(a) Accounts and cash departments should be housed separately.

(b) Cash department staff should not be allowed access to books of accounts other than the cash book; similarly accounts de­partment staff should have nothing to do with the writing-up of the cash book.

(c) The cash book should be verified with the bank pass book and reconciliation statements prepared at intervals, preferably every month, with a view to clarifying discrepancies between balances indicated by the pass book and the bank column of the cash book.

(d) Cash balance, if any, should be physically verified at periodical intervals by a responsible officer not directly connected with the cash department.

(ii) Cash Receipts:

(a) All incoming letters should be opened by or in the presence of a responsible officer and any cheque, draft or postal order received should be immediately crossed ‘A/c Payee’ and/or ‘Not Negotiable’ preferably with the name of the bankers.

(b) Particulars of all such remittances received should be entered in a rough book and handed over to the cashier.

(c) Special receipt books with counter­foils serially numbered should be used for acknowledging receipt of incoming remit­tances and each receipt should be signed by a responsible officer. Unused receipt books should be kept under lock and key in the custody of a responsible officer and spoilt or cancelled receipts should be attached to the counterfoils instead of being destroyed.

(d) Duplicate receipts, if any issued, should be clearly marked as such and par­ticulars thereof should be entered on the counterfoils of the respective original re­ceipts.

(e) Bank paying-in-slips are to be filled in and all receipts banked daily—preferably by a person other than the cashier.

(iii) Cash Payments:

(a) All payments exceeding a pre-deter-mined maximum amount should be made by crossed cheques preferably marked ‘A/c Payee’ and/or ‘Not Negotiable’. It is a good system to have all cheques signed by more than one responsible official who should carefully scrutinise all documentary evidences substantiating the payments in question.

(b) Blank cheque books are to be kept under lock and key in the custody of some responsible official.

(c) Spoilt or cancelled cheques should be attached to the counterfoils instead of being destroyed.

(d) A special day in each month may be fixed for payment of monthly accounts.

(e) A proper acknowledgment should be obtained for each payment, affixed with one-rupee revenue stamp for any sum ex­ceeding Rs. 500, and serially filed. Duplicate receipts, if any obtained, should be carefully examined with documentary evidence to guard against entry of a single payment more than once in the cash book on the basis of both the original and the duplicate receipts.

(iv) Cash Sales:

This group of transactions requires very careful handling, particularly when large sums are daily realised as in the case of big retail shops, departmental stores etc.

The following may be taken as outlines of a good system of internal check and control about cash sales:

(a) Salesmen should only sell and have nothing to do with receipt of cash from the customers.

(b) Shop-walkers or cash memo writ­ers should enter particulars and value in cash memos which should be initialed by both the writers and the salesmen.

(c) Cash memo books with each memo in triplicate and serially numbered should be used. It is better to use memos of different colours with different series of numbers for different depart­ments.

(d) First two copies of the cash memo should be handed over to the customer who should tender the money at the cash counter, if possible a separate one for each department. The receiving cash­ier should return to the customer the original copy of the memo duly marked ‘Received Payment’ with a rubber stamp, filling the duplicate copy serially. In mod­ern stores, cashiers often use automatic tills or cash registers for recording receipts.

(e) The customer should then pro­ceed to the packing department and take delivery of the goods on production of the receipted cash memo which should be duly marked ‘Delivered’ with a rubber stamp.

(f) At the time of leaving the shop the gateman should detach a per­forated tear-off slip at the bottom of the cash memo bearing the same serial number.

(g) A summary of cash sales is to be prepared daily by each cashier from the duplicate cash memos filed by him and the total thereof should be verified with the physi­cal cash balance in hand. A simi­lar summary should also be made by each memo writer or salesman and the two summaries should be compared by a responsible per­son before any entry is made in the cash book.

(h) All receipts against cash sales should be banked next morning.

(v) Petty Cash:

(a) It should be operated under the imprest system with a fixed pre­determined amount or petty cash float handled by the petty cashier and with the petty cash book kept in a columnar form.

(b) All payments below a pre-deter-mined sum should be made through the petty cashier.

(c) Payments should be made against proper vouchers passed by duly authorised persons and such vouchers should be properly filed.

(d) Periodically the petty cash book should be checked with vouchers, cash in hand counted and actual expenditure reimbursed by a cheque.

(e) As a rule the petty cashier should not handle any other cash than the imprest.

(vi) Wages Payment:

A strong internal check and control system in respect of wages payment and preparation of wages sheets is of utmost importance as this is a common item of expenditure through which fraud or misap­propriation is often perpetrated.

Particularly in big manufacturing and other concerns employing large number of workers there may be regular and large scale defalcations through inclusion of dummy or fictitious names in the wage sheets or incorporation of larger period of time than actually spent or larger quantities than actually produced by workers.

The following may be taken as a fairly good system of internal check and control in regard to wages payment:

(a) At the gate of the factory or other premises where workmen attend to their work, the time of entry as well as of exit for each worker should be properly recorded. Preferably the old method of keeping time records manually by time­keepers should be replaced by automatic mechanical appliances to guard against probable tampering with or manipula­tion of such records.

In modern organi­sations the time card indicating the time put in by each worker punched thereon by means of time recording clocks forms the basic-time-record. The foreman or supervisor of each department should, in addition, enter details of work done and time actually taken in job cards issued to each workman. The time cards and job cards should be periodically compared for checking any unusual wastage of time through loitering, gos­siping etc.

(b) Under a piece-wage system the time card should be replaced by the place- work card containing details regarding quantity and quality of work done by each worker and signed by the foreman or supervisor of the department con­cerned. These cards may be checked with actual receipt of finished goods in the stores as entered in the storekeeper’s goods inward register or bin card.

(c) All overtime payments should be sup­ported by overtime slips issued by duly authorised officials.

(d) Pay-rolls or wages-sheets should be provided with separate columns for entering names and designations of workers, rate of wages, number of hours worked or pieces turned out, gross wages, dearness and other allowances, if any, overtime wages and production bonus, if any, deductions in respect of provident fund and state insurance con­tributions, if any, income-tax, fines, re­covery of advances or loans etc., and the net amount payable.

The different col­umns should be filled in by different clerks as far as practicable and initialed by each of them. The wage sheet should be checked by some responsible officer and finally signed by a superior official like the manager or a director.

(e) The cashier should check the totals and draw a cheque for the actual amount required and get from the bank the requisite sums in notes and small coins.

(f) The ‘pay-parade’ or actual disbursement of wages is to take place in the presence of a responsible person like the foreman or supervisor who should identify the workers at the time of payment. Workers may also be required to produce identity cards with their photographs issued to them by the employers.

Every worker receiving payment of wages should sign or put his left thumb impression against his name and the sheets should be initialed by both the paying cashier and the identifying officer. The works man­ager or any other high official may occasionally pay surprise visits at the time of wage payment.

(g) Unclaimed wages should not be paid to anyone else except against a proper letter of authority accompanied by an acknowledgment and a specific order from the office or the labour department.

(h) Occasionally the wage-sheets may be compared with the wages account in the cost ledger which provides a valuable check.

Internal check and/or control system for salaries should also be organised on more or less similar lines except that there would be no necessity for separate time- records other than attendance registers and leave records. The methods of preparation and checking of salary bills, withdrawal of money, identification and payment should generally be the same as in the case of wages.

(vii) Purchases:

(a) The purchases department should be under the control of a senior officer entrusted with the sole authority and responsibility of sanctioning all purchase of capi­tal goods, materials and stores.

(b) Each department or the store­keeper requiring supply should submit indents in prescribed form to the purchase department speci­fying particulars and quantities of materials wanted.

(c) After checking the indents with stock in hand and outstanding orders, if any, the purchase de­partment would determine the quantity to be bought and would obtain quotations from prospec­tive suppliers against tenders or otherwise.

(d) On scrutiny of the quotations, checking of specifications and approval of samples, if necessary, the head of the purchasing de­partment would authorise pur­chase from one supplier or more and orders in a prescribed form with more than one copy would be issued, one copy being sent to the supplier, another to the indenting department or to the store-keeper, a third to the accounts department and the fourth kept in the purchase de­partment.

(e) As and when supply is made the suppliers would submit their in­voice to the purchase department duly supported by challans signed by the receiving department or the storekeeper. The invoices should be checked by the invoice clerk with copies of orders, challans etc., and then verified and initialed by some high offi­cial before being passed on to the accounts department for payment.

(f) All indents, orders etc. should be filed serially for future reference.

(g) Cash purchases may be made only against proper authority from a responsible officer.

MAOCARO requires an auditor to report on the adequacy of internal control procedures for purchases commensurate with the size of a company and the nature of its business.

(viii) Credit Sales:

(a) Sales department should be un­der the charge of a responsible official.

(b) All orders received in writing, over the phone or verbally should be entered in an order received book. In respect of all telephonic, verbal or telegraphic orders, prop­erly written confirmation should be obtained as early as possible, in any case before actual supply.

(c) Sales department should issue a works order on the manufactur­ing department or a delivery order on the store-keeper for produc­tion or supply of goods.

(d) On being advised by the depart­ment concerned that actual deliv­ery has been effected and on being provided with the respec­tive challan signed by the cus­tomer as a token of the receipt of goods the sales department would make out an invoice or bill on the basis of the order and the challan. The invoice should be checked by some high official before being sent to the customer with a copy thereof to the accounts depart­ment.

(e) Where sales are effected by trav­elling salesmen or canvassers, each travelling salesman should be provided with sale notes, which should be filled up by him in triplicate on securing an order, one copy being handed over to the customer and another sent to the sales department for execu­tion of the order. On receipt of its copy of the sale note the sales department will proceed on the same lines as in the case of a direct sale as detailed above.

(f) All orders, sale notes, copies of works or delivery orders, invoices and challans should be serially numbered and filed.

(ix) Sale or Return Transactions:

The system of internal control with regard to goods on sale or return would depend on the nature of commodities in­volved and the frequency of transactions.

Whatever may be the method adopted it should have a few common features as under:

(a) On receipt of a request or order from a prospective customer and on being sat­isfied about his standing and credit­worthiness steps should be taken to send the goods.

(b) The despatch should accompany a spe­cial “approval challan” or “approval invoice” and an entry should be made in the goods outward book.

(c) On receipt of advice of retention of goods by the customer or on expiry of the prescribed time-limit for approval the respective quantity should be treated as having been sold.

(d) Particulars re: the portion of goods returned by the customer should be entered in the goods inward book.

(e) The difference between the original despatch of goods and the quantities accepted and returned by the customers should be taken into account as stock on sale or approval at cost (including pro­portionate expenses of sending out the goods) or market price, whichever is lower.

Two alternative methods of keeping accounting records in respect of goods sent on approval may be used. They are briefly enumerated below:

Sale or Return Day Book:

This method is suitable when the number of transactions is small:

(a) The day book should be provided with columns to indicate date, name of cus­tomer, particulars of goods sent out, approval invoice number and date, cost price, invoice price, date, quantity and sale price of goods returned and/or retained etc.

(b) When goods are sent out no entry is made in the accounting records except in the day book.

(c) On receipt of notice of acceptance or on expiry of the agreed period, customer’s account would be debited from “goods retained” column and the total of this column will be posted to the sales account.

(d) Stock with customers other than stock retained and accepted will be taken at cost or market price and credited to the trading account and also shown in the balance sheet.

Separate Set of Books:

Under this method a complete set of double entry books may be maintained to record transactions on sale or return as under:

(a) A day book will be maintained in the same way as described above.

(b) A separate sale or return ledger will be used showing accounts of all parties to whom goods are sent on approval.

(c) Goods retained would be credited to the customer’s account in the sale or return ledger and debited to the customer’s account in the sales ledger; the sales account in the general ledger will be credited with the said amount.

(d) The sale or return ledger may be main­tained under a self-balancing system.

(e) Balances indicated by the sale or return ledger would represent goods in the hands of customers at invoice prices and these should be brought into ac­count as stock on sale or return at cost or market price and not treated as sun­dry debtors.

Sometimes goods sent on approval are treated as direct sales being debited to the customer’s account and credited to sales account; when the goods are returned, debit is posted to sales return account, customer’s account being credited. But such a proce­dure leads to both sales and sundry debtors’ figures being artificially inflated and should be avoided.

In case, however, it is in use, at closing time an adjusting entry is to be passed debiting sales account and crediting the sundry debtor’s account with the invoice value of goods lying with the customers on approval; the same stock should then be valued at cost or market price, whichever is lower, for trading account and balance sheet purposes.

If goods are received on sale or return, they should not be entered in the regular accounting records. When any portion of such goods is accepted or retained as pur­chase it should be debited to purchase account and taken in stock, credit being given to the sender.

A memorandum book is generally maintained to keep records of goods received, returned and retained, and also the stock in hand on the closing date held on behalf of the sender.

(x) Hire-Purchase Transactions:

A hire-purchase arrangement comprises the following:

(a) Acquisition or disposal of some asset, property or goods by payment in instal­ments.

(b) Total amount payable by the hire- purchase is more than the cash price of the goods i.e., the price which is to be incurred if immediate full payment is made; the difference represents interest for the deferred payments.

(c) Possession is taken by the buyer who can use the goods but legal ownership thereof or property therein rests with the seller until the last instalment is fully paid.

(d) In case of default in payment of any instalment the seller can repossess the goods and forfeit the instalments already received.

(e) The buyer is responsible for keeping the asset in good condition and properly secured.

The mutual relation as well as rights and obligations of sellers and buyers are governed by hire-purchase agreements con­taining full description of the property or asset and terms re: cash price, interest, number of instalments, amount and time of payment of each instalment, obligations of buyer, provision for repossession, etc.

A hire-purchase arrangement should be clearly distinguished from instalment pay­ment or deferred payment system; under the latter both possession and ownership are transferred to the buyer and, in the event of default in payment of instalments, the seller can take action only for recovery thereof and not for repossession of the goods.

The main features of internal checking and internal control from the points of view of both sellers and buyers are enumerated below:

Sellers:

(a) Receipt of enquiry from prospective buyer and entering into a hire-purchase agreement.

(b) Sending out the goods accompanied by a special challan and entry thereof in the goods outward book; this should be followed by a hire-purchase invoice.

(c) Keeping watch on payment of instal­ments by the buyer and sending remind­ers and collecting payments within the prescribed time-limit.

(d) Making arrangement with the buyer to send a representative to the buyer’s place for inspection of the goods to find out if they are properly maintained.

(e) Ascertaining if adequate insurance cov­erage is provided in respect of the goods, where necessary.

(f) In case of any default on the part of the buyer, demanding and taking reposses­sion of the goods as per terms of agree­ment. If any damage is detected the buyer should be made responsible there-for. Entry is to be made in the goods inward book.

(g) Maintaining special hire-purchase day book including columns for date, name of buyer, invoice number, particulars of instalments, date of receipt of last instal­ment, date of repossession, if any.

(h) In the accounts the transaction may be treated as an outright sale and the full cash price credited to sales.

The buyer may be debited with the aggregate value of instalments and the difference be­tween this sum and the cash price may be credited to an interest suspense ac­count. On receipt of each instalment the buyer is credited. At closing time the outstanding balance due from the buyer is included in the sundry debtors’ figure.

Alternatively, the sale account may be credited with each instalment as and when realised so that profit on the deal is spread over the entire period of the agreement. At closing time, however, the outstanding dues from the buyer should be included in the trading account and in the balance sheet as stock-on-hire, subject to deduction therefrom of proportionate estimated profit thereon.

Purchasers:

(a) Entering into agreement with seller.

(b) Receipt of goods from seller and enter­ing the same in goods inward book.

(c) Making regular payment of instalments in due time.

(d) Making arrangement for proper mainte­nance of the asset as well as insurance, if any, as per terms of agreement.

(e) Getting final transfer of ownership from seller on fulfilment of agreement and payment of last instalment.

(f) Maintaining a memorandum day book to record different aspects of the trans­action at different stages, more or less as a counterpart of the hire-purchase day book of the seller.

(g) As each instalment is paid, debiting the asset account with the portion represent­ing proportionate cash price, the balance being debited to interest account; thus, after the last instalment is cleared, the asset account will be equal to the full cash price.

(h) Providing depreciation on fixed or re­ducing instalment basis on the full cash price and not on the amount of instal­ments paid.

(i) Treating repair and maintenance charges separately as revenue expenses.

(xi) Packages and Empties:

In such businesses as deal in or distrib­ute liquors, lubricants or other liquids, powdered materials, tea and coffee etc., large quantities of packages like casks, bar­rels, drums, bottles, cans, chests, crates etc. are used involving considerable value, these packages may or may not be returnable by and chargeable on the customers. Transac­tions relating to packages and empties call for proper control, special records and ac­counting procedure.

Outlines of internal checking and/or control relating to packages and empties are appended below:

(a) Requirement for different types of con­tainers or package should be pre-deter-mined.

(b) Arrangement should be made for buy­ing the packages from proper sources at minimum cost.

(c) Suitable store-records and stock-control should be introduced in respect of each class of package.

(d) The following methods of accounting may be followed in respect of packages and empties:

(i) Non-returnable packages: not charged up:

The charge for the containers is included in the selling price. A packages account is kept being debited with opening stock and purchases and credited with closing stock. The difference between debit and credit representing ex­penses on packing materials is charged to revenue and the stock is shown in the balance sheet.

(ii) Non-returnable packages: charged up:

The charges are entered in a separate column in the sales day book. Periodical totals of this special column are posted to the credit of the package account. The difference between the opening stock and pur­chases on the one hand and pack­ages charged to customers and clos­ing stock on the other is treated as profit or loss on packages.

(iii) Returnable packages: not charged up:

Double entry records will be same as under (i) above but the closing stock will be classified under two distinct heads, viz. containers in the go down and those held by cus­tomers. In order to have a more effective check on the movement of packages, each container is allotted a code or identification number and as soon as goods are despatched this number is entered in a separate column on the debit side of the personal account of the customer in the sales ledger.

When any package is received back its number is in­serted in a special column on the credit side of the customer’s account. Periodical cancellation of numbers on both debit and credit sides will indicate packages lying with the customer. Generally, a time limit is prescribed for return of containers after which rent is charged. If any package is received in a damaged condition, customer’s account is debited for the value thereof.

(iv) Returnable package: charged up:

Containers may be charged out at cost or more to cover depreciation, repairs etc. When they are returned, the customers may be credited at a price less than that charged out. After the expiry of the agreed time limit, return of packages is accepted.

Value of packages charged is entered in a special column in the sales day book; each customer’s account is debited and periodical totals of the special column of sales day book is posted to the credit of a packages reserve account. When empties are returned, value thereof is credited to the customer’s account and periodi­cal totals from the packages or empties return book is posted to the debit of packages reserve account.

The balance of the packages reserve account would represent value of packages outstanding from custom­ers and this should be deducted from sundry debtors in the balance sheet. When packages are charged at prices different from those at which returns are credited, the difference representing profit or loss on pack­ages should be transferred from pack­ages reserve account to packages account.

Similarly, if packages are retained and paid for by the custom­ers the packages reserve account should be debited and packages account credited.

(xii) Stores:

Pilferage of stock forms a common method of fraud which should be adequately guarded against and for this purpose the following system of internal check and/or control may be adopted:

(a) The control of stores should be entrusted to the store-keeper.

(b) A code number should be allotted to each item of materials, stores and fin­ished goods etc.

(c) Proper indents should be placed by the store-keeper on the purchase depart­ment.

(d) All receipts of goods should be entered in a goods inward book and also in stores receipt notes, one copy of which should be sent to the purchase depart­ment.

(e) All despatches or deliveries should be made against delivery orders or delivery notes received from the sales depart­ment and entered in challans, one copy of which should be sent to the sales department after getting the same duly signed by the customer.

(f) Issues of raw materials and consumable stores etc. should be made to production department against requisitions signed by foremen or supervisors of such de­partment.

(g) All despatches and issues should be entered in the goods outward book.

(h) Materials returned by any manufactur­ing department or a customer should be supported by material returned note or credit note or customer’s challans.

(i) A bin card should be maintained for each item of stores showing incoming and outgoing stocks and balance in hand (quantities only) entered from receipt or returned notes, requisitions, delivery orders, challans etc.

(j) A store ledger account should be kept for each item similar to the bin card with additional columns for values side by side with quantities.

(k) Limits should be imposed about the minimum and maximum stocks that should be allowed to be kept at any time in respect of each item and also an ordering level should be indicated to ensure placing of fresh orders in time. Balances shown by bin cards and/or store ledger accounts should be checked with these limits and any deviation should be carefully looked into and quickly rectified.

(l) Periodically, entries in bin cards or stores ledger should be compared with those in the goods inward and outward books and any discrepancy should be clarified and corrected immediately.

(m) There should be actual physical stock taking at least once in a year, usually at the end of the financial year, and, if possible, more than once during the year and the physical stocks of as many items as practicable should be checked with book balances. It is a good system to arrange occasional surprise checks by some responsible official of physical stocks with balances as indicated by store records [see Art. 7 (xiii)].

(n) All slow-moving or obsolete stock-items or materials in respect of which stocks are kept much more than requirements should be listed and steps taken for disposal thereof.

(xiii) Stock Taking:

Stock taking—i.e., ascertainment of physical stocks at a particular point of time and comparison thereof with stock records is a vital aspect of internal control on stores. Besides, such taking of stock and valuation thereof is essential for the purpose of incor­poration of the closing stock figure in the final accounts.

The following procedure may be adopted for stock taking:

(a) Stock should be taken at regular inter­vals at the end of predetermined periods or as early thereafter as may be practi­cable.

(b) Independent persons i.e., those not con­nected with store-keeping or mainte­nance of stores records should be de­puted for this purpose.

(c) Suitable stock sheets with separate col­umns for indicating description, code number, if any, quantity, rate and value should be used. In big concerns with a very large number of items, sheets with the description and code numbers printed thereon may be used.

(d) Different sets of persons should be de­puted to take stock of different groups of stores items.

(e) For each group one person should count, weigh or otherwise ascertain the quan­tity and call out the same with descrip­tion and another should enter the same in the quantity column of the stock- sheets.

(f) The rates at which different stock items are to be valued i.e., cost or market price, whichever is lower, should be entered by a responsible person.

(g) Total value of each item should be cal­culated and entered in the proper col­umn.

(h) The calculations and castings should be verified by another person.

(i) Each person engaged in stock taking should initial for the work done by him.

(j) The completed stock sheets should be certified and signed by a duly author­ised official of the status of manager, partner or director.

Sometimes stock taking is carried on through a continuous stock taking process instead of at the end of a period. In such a case proper adjustment of shortages or excesses detected upto the closing date should be duly adjusted.

(xiv) Credit Control:

Modern business houses are obliged to offer credit to their customers, which often involve considerable amounts and have great influence on the working capital as a whole. It is essential to make suitable arrangement for regular collection of customers’ or debt­ors’ accounts and to keep the amount of outstanding credits within proper limit.

The chief elements of credit control as generally adopted are set out below:

(a) There may be a separate credit depart­ment under the charge of a responsible officer or the necessary functions may be performed by the accounts department depending on the nature and volume of credit transactions. It should be inde­pendent of the sales department.

(b) Information about the credit-worthiness of each party should be collected and kept up-to-date through trade references, bank references, specialised credit en­quiry agents, trade directories and simi­lar reference publications, balance sheets etc.

(c) A credit limit should be fixed for each customer according to information as per (b) above and credit analysis done based on the ratio between liquid or current assets and current liabilities, payment habits etc.

(d) There should be regular collection of debtors’ accounts through special bill collectors and/or written reminders.

(e) There should be a system of regularly sending out statements of accounts to debtors indicating the outstanding bal­ance and also the credit limit, if possible.

(f) Before each supply or delivery to a customer his credit position should be ascertained from the debtors’ ledger and if it is found that the value of the proposed supply would exceed the pre­scribed credit limit, the party should be advised immediately through the sales department to bring the account within limit.

(xv) Securities:

Investment in different kinds of securi­ties and occasional disposal thereof very often constitute a regular feature of the activities of a modern business house. Such securities are in many cases easily negotiable and it is essential to have suitable arrange­ment to protect them from possible misap­propriation and also to ensure that incomes arising there from are fully accounted for.

The main features of internal control regarding securities are enumerated below:

(a) The functions and responsibilities of custody and maintenance of records re: investments should be completely sepa­rated.

(b) Purchases and sales of securities should be authorised by the board of directors or a committee thereof or other author­ised officials.

(c) All securities acquired should be regis­tered in favour of the firm whenever registration is necessary.

(d) Detailed account of capital value of investment as well as income accruing therefrom should be kept in respect of each security.

(e) Existence of securities should be periodi­cally verified by a responsible official with the accounting records by actual physical inspection or by reference to certificates from custodians or holders like bankers, solicitors, mortgagees etc.

Internal checking procedure covering more common and usual groups of transac­tions have been outlined above. It is equally important for an auditor to enquire about and be acquainted with internal checking systems in regard to other classes of trans­actions as well.