Case Study

HOW DID SHE DO IT? THE CASE OF NO INTERNAL CONTROLS

Two years ago Zena Brown was hired by a former high school classmate, Phil Hanks, to serve as the bookkeeper for his automobile repair shop, Hanks's Garage. Zena is not bonded. Although Phil is a master mechanic, he knows very little about bookkeeping or accounting and would much rather be under the hood of a car than reconciling bank statements. Phil remembered Zena from high school and hired her when he decided to go into business for himself. Zena is a part-time student who works full time to pay her way through college. Zena has completed two college courses in principles of accounting but had no work experience before she took the job at the auto repair shop. The auto repair shop is a small business but has done well in recent years. Because the firm is small, Zena serves as secretary and receptionist as well as bookkeeper. Between answering the phone, preparing sales invoices, paying the bills, and handling the mail, Zena keeps the books and greets customers. She is also responsible for the payroll, filing insurance claims, and filing necessary forms with the IRS.

On her way to work each morning, Zena picks up the mail from the local post office and mails any outgoing correspondence. She also stops at the bank to deposit the previous day's receipts. When Zena arrives at the shop, she opens the mail and records the morning's bank deposit. She records the checks in the day's mail on a bank deposit slip. She also records these transactions in the general journal and updates customers' accounts in the subsidiary ledger. At the end of each month, Zena prepares a schedule of accounts receivable, a schedule of accounts payable, the bank reconciliation, and sends out monthly statements to customers.

Zena has always been good with customers, professional in her behavior, and efficient in all her dealings with Phil. She has not missed a day of work since she began at the shop 2 years ago. In fact, she occasionally comes in on the weekend when the shop is closed to catch up with the paperwork. Phil is pleased with Zena's performance. Recently, however, he has become concerned because he has found out that some of his suppliers have been reluctant to extend credit to him. The reason seems to be that payments to these suppliers has been very slow. Phil is puzzling over this situation when he glances out the window and notices Zena's expensive, late-model car. He is amazed that Zena can afford a car like this, considering her tuition expenses and her $600 a week salary.

Assume that you are a CPA and that Phil has approached you about his concerns.

1. Identify and explain the internal control weaknesses at Hank's Garage.
2. Make recommendations to correct the weaknesses that are identified.
3. If Zena has embezzled funds from Hanks' Garage, what could Phil have done, in addition to the recommendations you have suggested in item 2, to prevent this crime?