CIMA 2010 Chartered Management Accounting Qualification Answers for Specimen Examination Paper P3

Published November 2009

The Examiner's Answers Specimen Paper

P3 Performance Strategy
SECTION A
Answer to Question One
Requirement (a)
Business strategy
In this situation, the business strategy has been clearly defined; that is the coal fired power
stations need to be replaced and the board will require information on the power generation
options available the relevant merits, costs etc. of each alternative. The Information Strategy
must therefore support this business strategy. In terms of Anthonys generic IT strategies,
system development will follow the Business Led leg.
Information strategy
The Information strategy will therefore need to focus on the specific information required by
the board to enable an informed investment decision to be made. Information requirements
will focus on the strategic level information. In this situation information requirements will
include:

Analysis of the different power generation options or coal, gas, nuclear and
wind/wave including costs and benefits of each option.

Feasibility of each option for PU taking into account existing knowledge base,
resources available (eg funds) etc.

Feasibility of each option in terms of establishing that power generation system within
the Asian country. For example, the availability of gas (as compared to coal) or
regions with sufficient wind for turbines must be considered.

Initially the information strategy must be to obtain and start to analyse this data; this may
involve the recruitment of a management accountant with appropriate skills to obtain the data.
Development of the strategy can then be divided into three specific sections:
Information Systems Strategy
The IS strategy will determine the actual systems required to provide the strategic
information. The need for an information specialist has already been noted. However, there
will also be information collection requirements in terms of obtaining internal and external
information. The information requirements list identifies the need for data from PUs existing
accounting systems (costs of running coal fired power stations) as well as external links to
obtain data on other power generation methods (use of the Internet / access to providers of
power stations etc will be essential). Consideration will also be required of future information
needs and where appropriate, planning carried out to ensure that those needs will be met.

Performance Strategy

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Information Technology Strategy

The IT strategy will determine the actual hardware and software requirements to provide the
information identified in the IS strategy. As information is being provided to the board,
provision of systems capable of detailed graphical output as well as ability to analyse different
financial options quickly would be expected. Large computer systems, significant processing
power and storage are expected.
Information Management Strategy
The IM strategy will determine how the information collected is provided to users and
protected or backed up securely as required. IT infrastructure must ensure links from the
information specialists to the board as well as offsite backup of data. A further consideration
will be security of information produced for the decision. While external links will be
necessary to collect data, information on alternatives will be sensitive and only accessible by
the board of PU. Provision of data via a secure firewall to the board EIS, possibly with no
other external access for security, will maintain information integrity.
Costs
Finally, the cost of the strategies must be determined and a budget agreed by the board
ready to establish the necessary information systems to analyse the investment decision.

Requirement (b)
Economic risks
Economic risk is the risk that exchange rate movements might reduce the international
competitiveness of a company and/or that the companys future cash flows may be reduced
by adverse exchange rate movements.
Economic risk can affect PU in two ways:

Firstly, as parts for the gasification process would have to be manufactured in Zee,
PU would have to transfer funds to Zee to pay for that manufacture. If the currency of
Zee appreciates over time then PU would have to remit additional funds to pay to
continue to obtain the same quantity of manufactured items.

Secondly, PU would be required to establish a subsidiary in Zee. The government of

Zee indicate that the subsidiary can be sold after the gasification equipment is
manufactured. However, if the currency of Zee depreciates against the Asian country
then the value of that investment will fall. PU will therefore make a loss when the
subsidiary is sold.

Translation Risk
This is the risk that an organisation will make exchange losses when the accounting results of
foreign subsidiaries are translated back into the home currency.
If PU establishes a subsidiary in Zee, then that subsidiary would be consolidated into PUs
financial statements each year. The rate used will be the date of the statement of financial
position. Translation losses will mean that the value of the subsidiary will fall over time,
showing a lower value in the financial statements of PU. While this has no effect on cash flow
until the subsidiary is sold (see economic risk above) any fall in value could still affect the
investors attitudes to PU and may make it more difficult for PU to raise additional funds if
subsidiary values fall significantly.
Transaction Risk
This is the risk that an organisation will be subject to exchange gains on losses where goods
are imported or exported and the settlement date for the contract for import or export is at
some future date. The risks it that the exchange rate changes between import/export and the
receipt/payment of monies for those goods.

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If PU establishes a subsidiary in Zee, then goods will be sent to Zee and/or back to PUs
home country. Where exchange rate movements are expected, either PU or the subsidiary
could delay payment/receipt for those goods if that exchange rate movement is favourable for
that entity.
Exchange rate changes will also affect any internal transfer prices which may mean
monitoring of these changes to ensure that the transfer price does not become uncompetitive
compared to third party suppliers.
Political risk
Political risk is simply the risk that political action affects the position and value of a company.
Various political risks could affect PU as follows:
Firstly, PU will be required to employ a given percentage of workers from within Zee.
There is a risk that sufficient employees with appropriate skills may not be found,
limiting the ability of PU to manufacture gasification equipment. Alternatively, higher
wages will have to be paid to attract workers with the necessary skills. Late delivery
of equipment will have a financial impact on PU due to late start date for the projects
and delaying income streams results from the sale of fuel.

Secondly, political uncertainty could result in workers striking, again delaying

manufacture and installation of equipment. PU may incur costs for late delivery /
installation of equipment.

Thirdly, additional export controls could be imposed on PU, limiting ability to transfer
equipment from Zee to its Asian home country. Although this is unlikely due to Zee
wanting to encourage investment, the risk could still crystallise with a change in
government, for example. PU could be adversely affected financially if equipment
has to be manufactured outside of Zee, especially where contracts are given to a
third party. Alternatively, PU may have to pay higher taxes perhaps in the form of
export duties, which again will have a financial impact on the company.

Product risks
Product risks include produces not meeting specific legislative requirements, potential breach
of copyright through to the product not performing as specified.
Product risk can affect PU in various ways including:

Firstly, the coal gasification process has not, as yet, been developed on a large
commercial scale. There is a risk therefore that the process does not work as
specified in the Asian country. The financial impact on PU may be significant unless
appropriate insurance has been obtained or indemnities from the government of Zee.

Secondly, the process may work, but not as expected. The gasification process itself
may be unstable and cause environmental or other damage in the Asian country. PU
may incur rectification costs unless again appropriate insurance or indemnities have
been obtained.

Trade and credit risk

Trade and credit risk relate to a business trading in more than one jurisdiction.
PU will be effectively buying the gasification equipment from another jurisdiction (Zee). Risks
in this category which will have a financial impact on PU should be limited to risk of damage
or loss of equipment in transit not met by insurance. PU will be purchasing from its own
subsidiary which will limit the possibility of other risks such as default in payments. However,
transaction risk will also need to be considered as noted above.

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Requirement (c)(i)
An environmental audit is, according to CIMA, a systematic, documented, periodic and
objective evaluation of how well an entity, its management and equipment are performing with
the aim of helping to safeguard the environment by facilitating management control of
environmental practices and assessing compliance with entity policies and external
compliance with entity policies and external regulations.
In terms of PU, the main focus of the audit will be the power stations with specific focus on the
carbon dioxide emissions those stations produce. The importance of monitoring and limiting
these emissions is important not only from the Asian countries legislation but also from global
agreements to limit this greenhouse gas in the future.
Prerequisites for the internal audit department of PU which may be involved in an
environmental audit of PU include:
Skills and experience
Staff in the department will need appropriate skill and experience in conducting audits. This
does not necessarily mean they need to be qualified accountants, but they must be able to
understand the process of internal audit and apply this to the work being carried out. Of vital
importance is the ability to recognise errors and discrepancies identified as part of their work.
Knowledge of subject material
Staff must be aware of the criteria being used as part of the audit. In this situation, they must
understand the environmental legislation, the standards to be adhered to and then the
reporting requirements within that legislation.
They must also then be able to obtain the relevant information from within PU, compare this
to the environmental standards.
Organisational standing
The internal audit department itself must be sufficiently independent to be able to produce
reports without bias that will be acted on by the board of PU. In this situation, the department
must report to the audit committee of PU. As the audit committee will comprise non-executive
directors, they can ensure that the reports of internal audit are acted on and appropriate
disclosure of any discrepancies is made.

Requirement (c)(ii)
Actions that the internal audit department of PU should undertake regarding falsification of
environmental returns from power station N3 include:
Report to the audit committee
The internal audit report must clearly state the work carried out and the findings in respect of
the false reporting and therefore opinion on that report. The responsibility of internal audit
technically ceases when the report is made to the audit committee although the head of
internal audit may also want to ensure appropriate action is taken in respect of the report by
the committee.
Remedial actions previous reports
The integrity of previous environmental reports is called into question as the N3 power station
information is incorrect this year. Internal audit may decide to review prior year reports from
N3 to ensure they are correct.
Review of results from other power stations
Following on from the above point, reports from other power stations where reported
emissions are better than expected could also be audited, even if they are not part of the
standard rotational audit this year. This additional work will help to determine whether the N3
power station report was an isolated case or more endemic across the whole of PU.

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Remedial actions control systems

The internal audit department could also recommend additional control procedures to try and
avoid false reporting in the future. One option would be to increase internal audit work on the
reports to review all reports annually rather than on a rotational basis. Alternatively, another
responsible official could be tasked with checking and signing off the environmental report
from each power station. While the latter would not remove false reporting, some collusion
would now be necessary to perpetrate the false report.

Requirement (d)
False reporting of environmental information in PU is potentially a source of risk because:

Environmental reports will be inaccurate. This will potentially undermine the integrity
of other reports from PU and may provide adverse publicity for the company.

Breach of environmental legislation may result in monetary fines being levied against
PU. Again, imposition of a fine may result in adverse publicity for PU.

False reporting may be indicative of an inappropriate management attitude to risk and

control within PU. If false reporting is effectively condoned in one area (the MD being
in agreement with the report) then staff may see this as an excuse to produce false
reports in other areas. The whole control and reporting system within PU could be
undermined.

Control mechanisms that could be used to avoid false reporting include:

Use of an internal audit department (as PU have at present) as both a check on the
accuracy of reporting as well as a deterrent against false reporting; the fact that
internal audit may identify false reports should deter false reporting initially.

Management setting the appropriate tone within the organisation. The MD

condoning the false reporting is obviously not appropriate in this respect.

Contracts of employment clearly stating that ethical principles are important and
breach of principles will result in disciplinary action.

For important positions such as board membership or managers of power stations,

ensuring that the post holder is a member of a professional organisation (such as
CIMA) where members are expected to follow ethical principles.

Performance Strategy

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SECTION B

Answer to Question Two

Requirement (a)
Inputs
Y obtains the milk and other ingredients for its products from farms within a 60 km radius of its
main processing factory. The milk etc. needs to be assessed for quality (freshness and
organically produced) prior to entering the production process. At present, Y relies on a
statement of quality from each individual farm. While the farms reputation and future sales
would be decreased should the quality certificate be incorrect, there is no independent check
on the quality of input. This weakness can be overcome in two ways:

Firstly, an independent company can be appointed to verify the accuracy of the quality
certificate produced by each farm. Milk delivered to Y needs to be produced by organic
cows. In the UK, companies such as the Soil Association (in South Africa AFRISCO)
provide this service. As the verifier is independent of the farm, their report can be trusted
to confirm the organic quality.

Secondly, Y can perform quality control checks on milk received before it enters the
production processes. Assessing quality during the production process may be too late
as whole batches of product will have to be destroyed, and it may not be possible to
identify the precise farm that the milk or other ingredient was derived from due to mixing
of inputs during processing.

Processing quality control

During manufacture, Ys quality control department tests products for contamination from
bacteria as well as meeting expectations regarding taste and flavour. Any batches of product
not meeting quality control standards are rejected. However, information on the reasons for
rejection are them simply stored as independent records in a database; there is no attempt to
feedback reasons for quality deviations into the processing system to either amend inputs or
identify where potentially contaminated batches of input were obtained.
Given that inputs into each batch of production are recorded on one database, and quality
control reports on another, information concerning quality failures can be easily matched by
comparing database records. Providing this matching would help Y improve product quality
by identifying farms where poor quality milk was obtained, and by identifying how the product
mix can be improved to enhance taste.
Processing batch rejection rate
A 5% batch rejection rate is expected during production. It is not clear how the 5% figure was
derived or whether this rate is achieved within Y. Ideally, rejection rates should be below
5% with feedback from quality control providing reasons for batch failure which can be used
to minimise batch failures in the future. The discrepancy compared to industry average would
support this view. As the 5% rejection figure has not been amended for 6 years, it appears
this feedback control is lacking. Implementing the control as part of quality management
would reduce rejection rates, allowing the rejection rate to be set at a lower target in future
budgeting periods. Overall production costs would also fall with fewer rejected batches.
Output
Testing of outputs from Y production systems appears to be satisfactory. All batches are
tested and again batches rejected where quality control standards are not met. As with
processing, the lack of feedback control means batch quality may not be improved over time.
The main weakness with output controls is lack of use of customer feedback. In this respects,
Y is a closed system in that comments from customers are not used to enhance product taste

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or quality. Although Y does have a good brand name, this does not mean that either existing
products cannot be changed or that new products (such as new yoghurt flavours) cannot be
suggested by customers. Providing some formal feedback mechanism via the companys
website help Y to ensure that its products continue to be aligned to customer requirements.
In other words, Ys quality systems should be open to external suggestions and
improvements.

Requirement (b)
Risk mapping is a method of determining the potential importance and impact of risks on an
organisation. The map can be constructed as a 2 x 2 or 3 x 3 matrix, depending on the level
of detail required. In some situations, even larger maps will be necessary.
In the map below, the Y axis shows the severity or potential impact of a risk on Y with the X
axis showing how likely that specific risk is to actually occur.

High likelihood, high impact risks are risks which will have a significant impact on the
business and are likely to occur. Risks is this category must be monitored closely and
either control systems put in place to ensure those risks do not occur or that any
potential damage is mitigated as far as possible.

High likelihood, low impact risks, while likely to occur, will not necessary have a
significant effect on the company. These risks require monitoring to ensure they do not
move into the high severity category.

Low likelihood, high impact risks will have a significant effect on the company, show
they actually occur. Again, control systems will be required to ensure that the risks are
monitored and action taken should it appear that the risk will crystallise.

Finally, low likelihood, low impact risks are unlikely to have any significant impact on
the company and are normally ignored.

In Y, a risk map can be constructed as follows:

Likelihood

Impact

High

Low

High
Batches of product pass
quality control which should
fail. Although quality control
tests appear good, releasing
sub-standard food has risks
of causing illness and
consequent adverse
publicity.
Adverse impact on brand
name causes loss of sales.

Milk does not have quality

certificate (less important to
Ys customers.

Performance Strategy

Low
Late delivery of milk production is
disrupted and possible loss of quality
of product.

Customers change tastes unlikely

in the short term but lack of analysis
of customer feedback means Y may
not amend product in line with
customer expectations.

Products are considered not to be

tasty by consumers Ys main
selling point is taste. Potential loss
of market share.

Insufficient inputs are obtained (has

contracts with a range of farms).

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Risk maps can be used within Y as follows:

Firstly, to provide a framework around which risks applicable to Y can be analysed.

This will specifically show the hi:hi category risks as in those for which a risk
response must be determined.

Secondly, to ensure that appropriate controls and risk management systems are in
place to mitigate the impact of any risks actually crystallising. The main risk not
sufficiently well covered is that customers may change taste causing demand to fall
for Ys products.

Thirdly, to recommend improvements to internal control systems to mitigate risks where

control systems are poor. Within Y, there is a need to actively monitor customer
feedback to ensure products do continue to meet customer tastes.

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SECTION C
Answer to Question Three
Requirement (a)
There are two types of risks faced by A in making its launch decision. The first set of risks
relate to the market conditions, strategic implications and cash flow risks of the two alternative
locations. The second set of risks relates to the limitations of the methodology chosen for
decision- making.
Overseas expansion
The risks associated with expanding overseas are very different to the risks of focusing on the
domestic market. There are issues of cultural understanding, language, exchange rate risk,
and broader market knowledge that all need to be taken into account in the decision process.
Some of these risks can be reduced by additional market research and changes in company
strategy such as the use of a joint venture arrangement. Others may be more difficult to
eradicate and the potential threat they pose to cash flows needs to be incorporated into
decision making.
Expansion opportunities home or overseas marketplace
By launching in the UK rather than France, As decision ignores the broader strategic
considerations, and their associated risks, with the result that the company forfeits potential
expansion opportunities. These opportunities may not appear financially viable over the time
frame used for the investment decision, but may be important for the long term development
of the business. In the absence of additional information, if A is assumed to be a UK based
company, then a UK launch simply means that it is expanding its position within the domestic
market place. This may bring good short term growth levels for the business, but may not
offer the longer term potential of a move into Europe, which could open up a significant range
of new opportunities.
This risk is difficult to mitigate as A will never know the results of the alternative investment
decision, had it been made. Risk mitigation will focus on ensuring that A has a balanced
project portfolio, minimising the risk to A overall of one country providing less than acceptable
returns, or one type of project providing less than acceptable returns.
Exchange rate risk
In purely financial terms France seems to pose less risk because the launch costs appear
certain, but this is not actually true in reality. There is a risk that the exchange rate will change
between the date of the decision and the date at which the costs are incurred, but this could
be managed relatively easily by the use of a forward contract that would fix the exchange
rate.
Cash flow risk
The exchange rate risk extends to affect the cash flows throughout the life of the product.
Even a small change in the exchange rate can reverse the project rankings in terms of their
ENPV.
The risk can be better understood via the application of sensitivity analysis on the NPV using
different exchange rate scenarios, and the resulting exchange rate uncertainties can be
managed via the use of a range of different hedging tools. These may include both internal
and external hedging, such as netting, forward contracts, futures, or currency swaps. The
exchange rate risk implicit in the launch in France may be regarded as significantly affecting
the projects risk profile relative to the UK launch, and consideration must be given as to
whether this additional risk is acceptable to the Board of Directors.

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Product margin not achieved

The relative risk for the UK is that the contribution margin is comparatively low, which leaves
limited scope for price cutting if the launch is not successful. This is counterbalanced by the
fact that the probability schedule indicates that higher rather than lower sales levels are the
most likely, but even these are not certain.
The risk of low margins can be managed by detailed market research to evaluate the price
elasticity of demand for the product. It may be that the net contribution could be increased by
raising prices (and margins) in combination with lower sales volumes.
Project risk discount rate used
One possible approach to dealing with different levels of risk across projects would be to
adopt different discount rates with a higher rate being applied to the project perceived as
carrying the greater expected risks. This method creates a problem insofar as each additional
risk has to be allocated a value in terms of a discount rate adjustment and this requires the
use of subjective judgement. Additionally, a discount rate adjustment may not be necessary
for some of the risks, such as exchange rate volatility because these may be managed via the
use of hedging tools.
An alternative approach, as used in this case, is to use a common discount rate for both
France and the UK. The final choice is then made by subjectively comparing the resulting
ENPVs. Making this type of judgement is also difficult, however, because the ENPV for the
UK is just 2,832 higher than that for France.
NPV calculations
The NPV calculations are based on expected costs and expected contribution levels. In
practice it is unlikely that the expected values will ever be realised, which means that there is
a possibility that the ENPV for the UK may actually be lower than expected or even lower than
in France. Furthermore, the cash flow forecasts are based upon just four years of data, whilst
the effective product life may be much longer. As a result, the decision may be based upon
incomplete information.
There is a limit to how far this risk can be mitigated as the future is uncertain. Attempting to
ensure that the cash flow forecasts are as accurate as possible by having them prepared and
reviewed by competent professional staff will help.

Requirement (b)
Interest rate swaps are a useful tool for the management of interest rate risk because they
allow a company to switch between fixed and variable rate loans, and therefore take a
position on the future direction of interest rates. For example, a company may believe that
interest rates have bottomed out and hence choose to swap its variable rate loans for fixed
rate ones set at the current low interest rate level. In making this swap, the company is
affirming its belief that future rates will rise ie taking a position.
In many but not all cases, swaps are used to obtain funding at a lower rate than that available
elsewhere, but they can also be used beneficially to manage future cash flow patterns. If, for
example, a company is operating in a market where its incoming cash flows are uncertain, it
may wish to use a swap to ensure that it has fixed rate commitments that are wholly
predictable. In so doing, it minimises uncertainty of outgoings even if it cannot eliminate the
uncertainty in respect of incoming cash.
Interest rate swaps may also be used to manage interest rate risk in respect of investments
rather than borrowings. In such cases a swap may be useful in enhancing the returns via
speculation on interest rate movements. One such example would be a decision to swap a
variable rate for a fixed rate investment in the belief that interest rates will fall.
A key advantage of interest rate swaps is that because they are an over the counter product,
they can be tailored to meet the specific needs of the company, in terms of both their duration
and value. Where the swap is arranged without the use of an intermediary, transaction costs

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are also kept to a minimum, although this also results in a disadvantage because it creates a
counterparty credit risk. In the absence of an intermediary, there is no guarantee that the
counterparty will fulfil their part of the contract, although this credit risk can be minimised by
seeking a credit rating on the counterparty before agreeing to a swap.
Another disadvantage of swap arrangements is that the binding nature of the agreement
means that a company may find itself unable to take advantage of changing interest rates that
move in its favour. This problem is reinforced by the lack of a secondary market for swaps
which means that it is difficult if not impossible to liquidate a contract.
Alternative A
Pay annual interest of:
Alternative B:
Pay interest on borrowing of:
Pay interest under swap of:
Receive interest under swap of:
So pay net annual interest of:
Annual interest saving
Total interest saving over 3 years
Less arrangement fee
Net total cost saving

Performance Strategy

(LIBOR + 12%)
(94%)
(LIBOR)
85%
(LIBOR + 09%)
03%
09%
(05%)
04%, that is 2,000

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Answer to Question Four

Requirement (a)
Internal control system and the control environment
Internal control is the whole system of financial and other internal controls established in order
to: provide reasonable assurance of effective and efficient operation; internal financial control;
and compliance with laws and regulations. While the internal control system includes all the
policies and procedures, the control environment is the overall attitude, awareness and
actions of directors and management regarding internal controls and their importance to the
organisation and encompassing management style, corporate culture and values.
A system of internal control will reflect its control environment and include: control activities;
information and communication processes; and processes for monitoring the effectiveness of
the internal control system. The system of internal control should be embedded in the
operations of the company and form part of its culture; be capable of responding quickly to
evolving risks; and include procedures for reporting immediately to appropriate levels of
management any significant control failings or weaknesses.
Costs, benefits & limitations
The costs of internal control will comprise the time of regional managers and any opportunity
costs resulting from this plus costs associated with introducing and operating new systems
and reports. However, it is difficult to differentiate between internal controls and policies and
procedures that are simply good business practice, e.g. human resource practices and
accounting procedures. A cost of internal control may be restrictions on the flexibility,
creativity and responsiveness of the organisation.
The benefits of internal control may be difficult to identify but can be largely considered to be
an improvement in the efficiency and effectiveness by which sales representatives use their
time to win business, and the improved management of costs associated with their activities.
These are largely concerned with eliminating both waste and fraud. Losses incurred from
ineffective internal control can be estimated based on their level compared to targets or by
benchmarking representatives against each other or by observing the trend over time. To the
extent that effective internal control provides assurance to external auditors it can be used in
negotiations to reduce the external audit fee.
A system of internal control cannot eliminate: poor judgement in decision-making; human
error; the deliberate circumvention of control processes (especially where collusion occurs);
the overriding of, or lack of emphasis on, controls by senior management; and unforeseeable
circumstances.

Requirement (b)
Internal control and risk management systems are established in an organisation in order to
ensure that activities are carried out in accordance with the policies and procedures of the
organisation and any risks of those policies and procedures not being followed is mitigated as
far as possible.
In X, there appear to be two key risks that need to be considered:

the lack of control over the activities of sales representatives that may result in them
not spending their time efficiently and effectively on business activities; and

the incurrence of costs that are unauthorised or unnecessary.

The first results in paying salaries for representatives but obtaining inadequate or
inappropriate efforts from them. This has both a financial and an opportunity cost. The second
results in excessive financial costs. Both are largely a problem of agency in which there is
information asymmetry between the sales representative and regional manager. There is also
an issue of moral hazard in which there is the potential for shirking behaviour. Implementing

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appropriate internal control and risk management systems will help to ensure that these risks
are avoided.
From the scenario, it would appear that these risks are not being appropriately monitored, due
to the lack of internal controls identified by the Finance Director. The risks of not spending
contracted time with the company and incurring unauthorised costs is compounded by factors
such as:

Lack of direct control over sales representatives; sales managers attend their office
infrequently and overall performance is not monitored unless sufficient sales are not
generated.

There is a performance imperative to visit new and existing clients (the main focus of
the sales representatives reports) which may mean expenditure is incurred on
unnecessary visits (such as frequent visits to small clients),

The reporting regime for expenses is to the finance department and then back to
regional managers; the finance department may not have the knowledge to determine
whether expenses are unreasonable. The delay in reporting back to regional
managers also means that by the time expenses are queried, they have already been
paid.

In other words, prior to the approach by Finance to regional managers, there appears
to have been no assessment, reporting or mitigation of risk in X. This is an internal
control weakness which must be rectified by implementing appropriate internal controls
to mitigate the possibility of loss being incurred by X.

The controls that should be introduced should include an appropriate mix of financial controls,
non-financial quantitative controls, and non-financial qualitative controls. Appropriate controls
will have to be implemented to overcome each weakness, and then the control tested to
ensure that it works.
For example, in relation to expenses, initial authorisation should be by the regional managers,
cross referencing expense claims with clients visited. Only then should the claim be sent to
the finance department for payment.
Implementing the appropriate controls then mitigates the risks already identified above,
ensuring that company resources are being used to achieve company objectives.

Requirement (c)
Substantive analytical procedures involves the examination of ratios, trends and changes,
between periods, to obtain a broad understanding of financial position and the results of
operations. It can help to identify any items requiring further investigation. It is an important
audit technique used to identify errors, fraud, inefficiency and inconsistency. Its purpose is to
understand what has happened in a system, to compare this with a standard and to identify
weaknesses in practice or unusual situations that may require further examination.
Appropriate substantive analytical procedures for X may include:

Ratio analysis of sales expenses to sales revenue with comparisons over time and
between regions and sales representatives. Benchmarking data may be available from
other sources or internally developed from identified best practice;

Review, by sales representative, the proportions of new and existing business

generated;

Compare data, by representative, on the loss of customers.

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The Chartered Institute of Management Accountants 2009

Performance Strategy

13

Specimen Exam Paper