Task #4 As part of the audit planning, you recently met with Sam Real and learned the following pertinent information: RRI tends to work on one large renovation project at a time. Sam Real acts as the foreman and employs independent contractors as needed to execute the projects. He employs his wife, Lucky, as his office administrator. Lucky has a diploma in bookkeeping. While she works hard to manage the day-to-day administrative responsibilities for RRI on her own, she does not have knowledge about the more technical aspects of financial reporting. Sam is known as a creative thinker, and he prides himself on being able to “focus on the big picture of a project without getting lost in all of the mundane and annoying details and paperwork.” This obliviousness to details is a source of frustration for Lucky, who must constantly remind him to keep track of his receipts and submit the working hours for his contractors on a timely basis. Sam uses Microsoft Excel to track costs and billings for each project. Lucky insists that he submit his Excel file to her each Friday, along with any supporting documentation. Lucky uses the Excel file to make entries in the accounting software used by RRI. She also reconciles the bank and company credit card on a weekly basis, which helps her identify whether Sam has failed to submit receipts to her. Sam and Lucky are the only individuals who have access to a corporate credit card for RRI. If an independent contractor makes a purchase related to an RRI job, they submit the receipt to Lucky for reimbursement. Lucky ensures that all receipts are allocated to the appropriate job. The challenges with this process are (1) there is sometimes a prolonged delay before contractors submit their receipts and (2) sometimes the contractors lose the receipts and Lucky reimburses them an estimated amount. Discuss the audit approach that H&L should employ for this audit.
The Correct Answer and Explanation is::
Audit Approach for H&L Regarding RRI
Audit Approach:
H&L should adopt a risk-based audit approach focused on areas prone to errors or fraud, considering the control environment and operational characteristics of RRI. Key elements include:
RRI’s operational structure—with Sam as a foreman focused on the “big picture” and Lucky handling day-to-day administrative and accounting duties—creates specific audit risks. The lack of segregation of duties is a concern because Lucky performs multiple critical functions, including bookkeeping, reconciliations, and reimbursement processing, while Sam controls the primary source data (Excel files). This concentration of responsibilities could increase the risk of errors or fraud going undetected.
The audit approach should begin with understanding the control environment, focusing on how transactions flow from project cost tracking in Excel to entries in the accounting software. Since Sam submits Excel files weekly, H&L should test the reliability of these files by verifying their consistency with receipts and bank/credit card statements. Lucky’s weekly reconciliations are a strength but need to be tested for completeness and accuracy, especially because only she and Sam have access to corporate credit cards, raising the risk of unauthorized expenses.
Contractor reimbursements present a significant risk area due to the delays and instances where Lucky reimburses estimated amounts without receipts. The audit should include detailed substantive testing on contractor reimbursements, including sample verification of receipts and confirmations with contractors to prevent potential overpayments or fraudulent claims.
Additionally, analytical procedures should compare budgeted and actual costs for each project to detect anomalies. Since Excel is used extensively, data analytics can be employed to identify irregularities such as missing entries or duplicate reimbursements.
Finally, the auditor must be vigilant about the potential for management override, considering Sam’s lack of attention to detail and reliance on Lucky. This environment necessitates thorough testing and skepticism to ensure all project-related financial information is complete, accurate, and free from material misstatement.
