RINCONADA, REYNALYN B.

BSA-3

Information Systems Auditing Case Study: Mathra Tool, Inc.

Case Note
Mathra Tool, Inc. (MTI) is a small business manufacturing case. It can be used by undergraduate or
graduate students studying management controls and auditing in a computerized setting. Students
integrate accounting, auditing, and information systems concepts. They identify and assess controls to
set detection risk and suggest the nature, extent and timing of detailed tests for generalized audit
software. They then prioritize weaknesses in internal control, separating reportable conditions from
other improvements.
MTI is particularly topical, in the light of SAS No. 80, Amendment to Statement on Auditing Standards
No. 31, Evidential Matter, effective for financial statements beginning on or after January 1, 1997. This
SAS recognizes that both electronic and paper evidence needs to be considered when conducting risk
assessments and during the evidence gathering process. Instructors can discuss concepts of activity-
based costing (due to inappropriate overhead application) and additional types of electronic data
interchange (EDI) beyond the stand-alone EDI method used by MTI. Used with permission of the
American Accounting Association and the author.
Introduction
Mark Green, a senior accountant with Dalen & Jay, CPAs, has recently been assigned as in charge auditor
of Mathra Tool, Inc. (MTI), a long-time audit client of his firm. MTI is owned by George Mathra, an
experienced machinist. George established the business over 20 years ago, and it has grown into a $10
million-a-year business, with an excellent reputation for high quality machined parts. MTI has clients in
the automobile sector and the health care sector and has recently begun producing parts for
environmentally friendly products, such as recycling containers, due to the business's versatility in
dealing with a variety of metals as well as plastics.

Information Systems and Business Processes

The following description is based upon Mark's review of prior working paper files and planning
discussions with personnel of MTI.
MTI has a broad range of equipment, ranging from grinders, stampers, cutters and small presses to
numerically controlled machining and turning centers, some that individually cost over $250,000. This
latter group of equipment is tied into the company's computer aided design and manufacturing
(CAD/CAM) system, used by the four senior tool and die personnel. Machining and turning center
suppliers have helped MTI develop efficient operations, by furnishing sample numerical control
programs for standard machine operations and by providing training to employees. One of the suppliers
unfortunately sent sample programs that had been infected with a virus. George's daughter, Tiffany, had
to cleanse the servers and each of the machines, using her copy of an anti-virus software. When
contacted, the supplier did not know that his software was infected and apologized profusely.

The four CAD/CAM terminals and printers are connected to the company's local area network (LAN),
which is maintained by Tony Lee, the owner of a computer shop conveniently located three blocks away.
All computer equipment, software and supplies are purchased from Mr. Lee, who is responsible for
attaching and maintaining equipment, upgrading software and maintaining user security profiles on the
network. There is one user identification and password for accounting (shared by Tiffany, George and
the accounting clerk). Each of the plant supervisors has his own password, and a common password is
used to initiate the timekeeping system. The two-word processing staff members have their own
password and use the common accounting password when they need to do data entry.
A standard routine has been set up to back up the accounting systems. One of the accounting staff
inserts one of seven tape cartridges into the system at the end of the day (they are labeled with the day
of the week), so that the company has a full set of backups for the week. Tiffany keeps these in her
office. These are particularly important, since during the last office move, two years ago, the original
disks for the accounting system were misplaced.
Tiffany Mathra, George's youngest daughter, has been working in the business for 15 years. She started
as a machine operator and has finished several college diplomas in numeric control and in accounting
over the years. She is being groomed to take over the business in two years and is proving herself
competent both on the shop floor and in administration. She works along with the tool and die
machinists and the shop supervisors, discussing design problems, quality control methods and costing of
quotes for potential orders. Wednesday morning 7:00 AM meetings are held by Tiffany and George to
maintain a good working relationship with the supervisors (one purchasing, three production, one
design, one quality control) and to review any problems that need to be addressed in the coming week.
This includes any potential scheduling changes required due to "rush" jobs that have been accepted or
are being quoted. This good working relationship is extremely important for satisfying some of the
company's larger customers. MTI has paid for computer equipment for each of the supervisors, so that
they have fully functioning microcomputers at home. If a rush job requires weekend work, then these
senior personnel can work at home to get the necessary quoting or design work completed. Since the
"at home" systems are identical with the office systems (Mr. Lee simply copied the image from the MTI
systems to the home computer hard drives), diskettes can easily be taken home and then brought back
to the office. It is understood that when work slows down, a day off can be taken to compensate for this
weekend work.
Almost ten years ago Tiffany arranged for the implementation of the network and the purchase of a
standard integrated accounting package (general ledger, order entry/accounts receivable,
purchases/payable, payroll), and for the purchase of the job costing and timekeeping system. The job
costing package is used to prepare and print quotes. For automotive customers, the quote is entered
into the stand-alone electronic data interchange (EDI) system for transmission. Customer purchase
orders received via EDI are simply printed and filed. Once a quote has been accepted, the job is given a
unique job number. The job control sheets include a list of the machining center, labor and quality
control tasks, each with a unique optical scanning label used by the employees to "sign in" and "sign
out" of particular tasks by machine type and by operation. Standard control sheets are also used for
overhead tasks, such as cleaning or machine setup. Employees have plastic cards with their employee

number coded. They use a laser pen to scan their employee number, the job number and the operation
label for each activity, as it is commenced or completed. To sign out, they simply scan their employee
card again.

Accounting Systems
A variety of reports are printed daily, weekly, or monthly from the costing system; these are used for
monitoring employee hours, the status of jobs, the costs accumulated for particular jobs and the work-
in-progress inventory. The weekly report of hours from the costing system is approved by the
production supervisors and is used as a data entry input source into the payroll system for hours
worked. The accounting clerk enters the hours into the accounting system, so that weekly payroll checks
and reports can be produced. When volume is high, one or both of the administrative staff assist. The
administrative staff also does file or document matching, as necessary.
Tiffany is really pleased with her accounting clerk, Isabel, who has been with the company for three
years. She insists that fate had a hand in getting Isabel for MTI. Isabel was "pounding the pavement,"
having recently immigrated, and had no local business experience. Her accounting skills were
rudimentary, but she quickly learned the accounting software and has reorganized the filing system.
Tiffany considers her indispensable. When Isabel goes on vacation, many things simply don't get done.
Tiffany can do the payroll in a pinch, but Isabel always does accounts payable and cash disbursements. If
she's away, suppliers are simply told to wait, or Tiffany issues a manual check, which is recorded later.
Isabel is very good at responding to queries from suppliers and ensuring that new suppliers are set up
properly. The purchasing supervisor and his staff rely on Isabel, for she checks the account allocation of
purchases and makes any necessary corrections. Isabel also ensures that necessary EDI
acknowledgments are sent and reports printed.
Tiffany and George are signing officers, although Tiffany realizes that she checks supporting materials
more thoroughly than George, who usually just queries Isabel verbally about larger purchases. George
normally handles the bank deposits, while Tiffany does the monthly bank reconciliation. Every three
months, an accountant from Dalen & Jay reviews the regulatory returns for reasonableness, as well as
journal entries made in the last three months. He updates the recurring journal entries and advises
Tiffany of any changes in procedures or modifications to monthly journal entries that are required to
help ensure accuracy and completeness of transaction processing. Tiffany runs the standard financial
statements every month from the accounting package, but normally some additional adjustments are
required when the accountant comes in. These are adjustments to depreciation expenses, changes to
prepaid expenses and some account reallocation (e.g., repairs and maintenance to capital accounts)
based on discussions with Tiffany. The regular technician assigned to MTI is Louis Jaborwock, who has
just completed the most recent month end entries.
Louis informed Mark that MTI had a problem one of their systems on Friday. Apparently, one of the
servers might have "crashed." Luckily, this was the server with the accounting systems and was fully
backed up on tape. A new server was to be installed the next day, and Mr. Lee was reconfiguring the
network so that the remaining systems could function from the single server.

Work-in-Process Inventory
The engagement partner from Dalen & Jay believes that MTI's growth may have expanded the company
sufficiently to warrant increased levels of controls reliance during the audit. She is particularly interested
in work-in-progress (WIP) inventory, the largest item on the balance sheet, typically close to three
months' sales. She has requested an updated controls analysis and that computer assisted audit
techniques using the firm's generalized audit software be considered. To this end, Mark has updated the
narrative description associated with WIP inventory.
To calculate the WIP inventory for any particular month, one of the purchasing staff transfers data from
a report in the job costing system into a spreadsheet (exhibit 1). 2 Since the job costing system does not
have sales information, progress billings are added manually, and the spreadsheet total is used for the
monthly financial statement's work-in-progress figure.
The purchasing clerk has explained the contents of her spreadsheet and described the origin of the
information. Following is an explanation of the spreadsheet on a column by column basis:

Job number: A unique job number is assigned by one of the production supervisors. There is a manual
log in the production area, and the supervisors write down the customer, purchase order number and
the job numbers used. Where a purchase order lists multiple parts, a different job number must be used
for each part produced.

Customer code: Each customer has a unique customer code. Tiffany assigns these codes, so that the
same code can be used in the accounting and in the job-costing system.
Customer Purchase Order Number: These match the purchase orders received from customers. Due
Date and Scheduled Completion Date: The customer purchase order will indicate the date that an order
is due. The production supervisors will schedule the job so that it is completed prior to the due date.
Customer Part Number and Part Description: MTI always uses the part numbers of its customers and the
customer description when describing parts being produced. These must match customer purchase
orders.

Quantity Ordered: The quantity ordered on the purchase order is entered into the job costing system.

Quantity on Hand: The quantity on hand is based upon the figures in the costing system. This is initiated
with the first operation. For example, if component parts are purchased and then additional work is
done on a component part, then the quantity on hand is based upon the parts purchased. If raw
material is purchased and cut on the premises, then the person who completes the first operation notes
the quantity cut, for subsequent entry by the production supervisor. Any damaged parts that cannot be
passed on to the next operation are reported to the quality control staff, who enter the part into the
system as damaged, thereby reducing the quantity on hand. All data entry is accomplished using the
common job costing password. Such entries will show on a damaged-parts report, which is discussed
every Wednesday at the supervisors' meeting.

Percentage Complete: Each operation on the job control sheet is assigned a percentage of the job. The
system tracks which operations have been completed and reports the percentage complete based upon
the last operation that has been fully completed for all the parts.

Quoted Costs (labor center, materials, total): These costs are all listed at a rate-per- individual-unit part.
Labor center rates are based upon standard rates that have been developed by George and Tiffany. They
include the labor rate of the employee multiplied by a factor, depending upon the machine used. The
factor incorporates both plant overhead charges plus machine charges. The lowest factor is 2.5, the
highest 23. Thus, an employee earning $10 per hour would result in a labor center cost at the lowest
factor of $25 per hour and $230 per hour at the highest factor. Material cost is based upon quotes from
suppliers, plus a markup. Some customers have a fixed arrangement with the markup as low as 5
percent, while others are marked up as much as 150 percent. During the last year, the company has
changed its costing and overhead allocation methods to absorption costing, based upon the accounting
firm's advice. MTI reduced its labor center factors by 10 percent and added a flat materials handling
charge ($50) and ordering charge ($25) to each of its quotes.

Actual Cost-to-Date: As work is completed and supplier invoices are received, these costs are entered
into the job costing system. Actual hours worked on an operation may be higher or lower than quoted.
The hours worked are automatically posted using the timekeeping system. The production supervisors
review each daily printout of hours worked, to ensure that employees have properly clocked out.
Production supervisors must approve any job cost system adjustments, which are entered by one of the
purchasing staff. As supplier invoices are received, they are recorded into the job-costing system by the
purchasing staff and then forwarded to Isabel for entry into the accounts payable system.
Sales Price: This is the price that the customer has agreed to pay, according to the purchase order.

Progress Billings: Normally, MTI does not request advance payments or progress billings. However, if a
customer is new or a part requires a substantial material purchase, an advance payment is requested to
cover the cost of the material. MTI then considers this material as already owned by the customer and
deducts this progress billing from the cost of its WIP.
Work-in-Progress Inventory Value: Isabel updated the spreadsheet template this year, applying a
formula to calculate inventory as follows: ([quantity on hand] x [percentage complete /100] x [actual
cost to date]) - progress billings. She reviews the inventory list prepared by purchasing for one of two
necessary adjustments. First, if a job has not been started it will show as zero percentage complete.
Sometimes, parts have been ordered on a subcontract basis and been placed into production. Then, the
WIP value must be increased from zero to the value of these parts. Second, if a job has an overrun and
the actual costs exceed the sales price, then the value of the inventory must be reduced so that it does
not exceed the sales price. Isabel makes these changes by manually scanning the inventory listing and
changing the inventory value for these items.

Required
1. Is there something wrong with Mathra Tools, Inc.? If yes, indicate all the flawless that should be
corrected. If no, why do you think the business is doing it right.

Martha, indeed, is a good leader and a manager who wants to create a big impact on Goody
Enterprises. There's no problem with regards to the accounting system of Mathra Tool ,Inc., everything
is fine and the process works properly and smoothly. However, some glitches being encountered is just
part of a normal problem (i.e, a file being infected with a virus - can be fix using an anti-virus software).
what Martha managed to do is called Organizational change which involves a systematic approach with
the sole purpose of successfully enhancing the organization's goals, procedures, and strategies from an
undesirable present state to a better-performing future state. Change management focuses on the
human factor of organizational change by helping the people in the company embrace the
transformation effectively and adapt to their new environment quickly- all without resistance and
repercussions to productivity.

2. Explain the accounting system of Mathra’s, indicate its strength and weaknesses.

Manthra's accounting system is a rules based system, it followS a specific standards to ensure
transparency, regularity, consistency with an accurate representation of the company's financial
situation, permanence of method, ful disclosure in all financial reporting, good faith and honesty in all
transactions. Some of the related issues faces by the company (weaknesses) is: prone to hacking and
viruses, it has no anti-virus license for the computer's system, no professional expert in handling the
computerized system, lack of a capable accounting clerk like Isabel, in times of Isabel's absence the
productivity of the company can be affected due to the lack of capable accounting clerk. While its
positive prospect is: it work smoothly and timely, easy access to all information, convenience of work.

3. Discuss to the management any additional weaknesses and recommendations for improvement.

I don't see any other problem or additional weakness that I can recommend to Mathra's Tools,
Inc., since its accounting system works. However, the company must and always maintain its security
system in a maximum level in order to safeguard it's property and financial position that would results to
it's long term downfall.