I – BACKGROUND

Music Source, Inc. is a large-scale company that manufactures stereo equipment

with 6 sales offices nationwide and one manufacturing plant in Pennsylvania. An auditing

firm which is responsible to conduct a review of internal controls focuses on assessing

the operations and internal controls procedures. They have approximately 200

employees. Music Source, Inc. also focuses on producing high quality stereo equipment

for resale by retailers. Its larger competitions include Sony, Panasonic and Aiwa.

Music Source’s suppliers are Nalequip, Inc., and Uniview. Production includes

speakers, basses, subwoofers, and other equipment. Currently Music Source is operating

at $135,000,000 in annual sales with revenue growth at a rate of 3%. Unfortunately, the

company has recently been experiencing several operational problems that may be fixed

through the improvement of its systems. In this study, it comprises factors that would

attribute to company’s success in terms of its payroll and fixed assets which includes

information technology control.

II – STATEMENT OF THE PROBLEM

 How can Music Source, Inc. address operational problems and improve its internal

control systems?

III – POINT OF VIEW

 The management of Music Source, Inc.

IV – OBJECTIVES

This study aims to:

 Analyze the internal control weaknesses in the system.

 Trace the flow of functional departments involved in payroll and fixed asset

activities through the organization.

 Come up with a good solution on how to provide and effective and efficient

information system to reduce the risk of internal control.

V – RELEVANT FACTS

 The control environment

 Determination of authority and responsibility, Payroll is carried out centrally

whose distribution is from 6 sales offices to the main factory. While in the

procurement of fixed assets must be in accordance with the approval of the

department manager users to be able to procure fixed assets.

 Risk Assessment

 Music Source, Inc. pays attention to the first risk when inputting personal data

on working hours which was carried out privately on the sales office terminal

computer. This can happen misuse of data charging and input errors, because

the control of the supervisor does not done directly. The second risk is on

manual salary submission the system is not yet online at the bank, so there is

a possibility of lapping or abuse employee salary.

 Information and Communication

  The quality of information produced by the Payroll Music Source, Inc.

information system is less effective and updatable, because employee data is

inputted every two weeks on Thursday by the employee concerned. Whereas

on fixed assets, the impression of information flow is too strong long and less

effective and efficient.

 Monitoring

 In the Music Source Payroll Inc. information system, Monitoring is carried out

by the supervisor at terminal computer sales office every afternoon. Whereas

in the asset information system monitoring is still carried out by the purchasing

department officer by matching packing slip with PO.

 Control Activities

 Information technology control, the Music Source, Inc. payroll system already
using the employee identity validation database on the terminal computer.

While on controlling information technology, fixed assets technology control is

carried out on Cash out department and ledger department.

VI – ALTERNATIVE COURSES

a.) Transaction authorization

Advantages

 The personnel action form helps payroll keep the employee records current.

 Describes additions, deletions, and other changes to the employee file.

  Acts as an important authorization control to ensure that only time cards of

current and valid employee are processed.

Disadvantages

 It may cause a company's auditors to become over-dependent on the

internal control system, which may lead them to relax other measures of

checking for fraud and errors.

 It involves expenditure which may not be affordable by the small

organizations.

 The employees themselves are the one who enter their hours worked data

from their personally maintained time cards.

Payroll (DFD)

Empl Records

Empl History
File

GL
Payroll (System Flowchart)
Fixed Asset (DFD)

File
Temp File File

AP

FA

Gen Ledger

File
Fixed Asset (System Flowchart)

b.) Independent verification

Advantages

 Ensure independent objectivity and evaluation for the customer.

 Periodically review the activities of departments and individuals to

determine whether prescribed internal controls are being followed.

 Review, compare, and reconcile the data prepared by employees.

 Disadvantages

 System errors that miscalculate depreciation can result in the material

misstatement of operating expenses, reported earnings, and asset values.

 Require constant monitoring of sensitive data.

 Three-way match is not performed because there is no receiving report.

Payroll (DFD)

WIP GL

Employee Records

Journal Voucher File

Voucher register

Check register
Payroll (System Flowchart)
Fixed Asset (DFD)

AP Sub Ledger

Check register

GL

Fixed asset sub

ledger
Dep’n Schedule
Fixed Asset (System Flowchart)

c.) Segregation of duties

Advantages

 It ensures that there is oversight and review to catch errors.

 It helps to prevent fraud or theft because it requires two people to collude in

order to hide a transaction

 Authorization, recording, and custody of assets are performed by different

employees.

Disadvantages

 Smaller companies often have a more difficult time dividing up these duties

as there are fewer employees who can do each job.

  A lack of segregation of duties and controls over cash receipts increases

the risk that errors and irregularities may occur and go undetected, which

could lead to a misappropriation of funds.

 May require a large capital investment or contracting fees.

Payroll (DFD)

WIP Gen Ledger

Empl records

Journal voucher file

Voucher register

Check register
Payroll (System flowchart)
Fixed Assets (DFD)
Fixed Assets (System flowchart)
VII – CONCLUSIONS

In conclusion, Music Source Inc. comprises factors that would attribute to

company’s success in terms of its payroll and fixed assets which includes information

technology in internal controls. The study focused on fundamental task; the functional

department, and the documents that constitute the payroll system. In addition, we

reviewed the operational features and the control implication of technology used in payroll

system and also presented the typical features of fixed asset system. The files,

procedures, and reports are examined which constitutes the fixed asset system. Its

principal risks and controls in each system were also reviewed.

VIII – RECOMMENDATIONS

In the alternative courses of action listed above, we have come into an evaluation

and came up with a decision to choose the main and primary course of action for both

system which is the segregation of duties. It is because this alternative action in payroll,

the internal controls, or a business entity’s organizational structure, provide checks and

balances for every level of an organization, whether it’s a big corporation or small

business. An effective system of internal controls incorporates separation of duties of

accounting function and other areas that deals with sensitive or valuable data. A

functioning system of internal controls of Music Source Inc. helps to prevent fraud and

collusion among an entity’s employee. Also for fixed assets system, most system of

internal control rely on assigning certain responsibilities to different individuals or

segregating incompatible functions. Such segregation of duties is intended to prevent one

person from having both access to assets and responsibility for maintaining the

accountability for such assets.