ABC Retailers — Internal Controls- ACCT 461
This case gives students an opportunity to (1) understand the process of evaluating identified
control deficiencies; (2) understand the annual disclosure requirements for management’s report
on internal control over financial reporting (ICFR); and (3) determine the effect of identified
control deficiencies on other controls. Students are required to read the case and address the
seven questions are listed on the last page.
ABC Retailers Inc. (ABC or the “Company”) is a U.S. public company that files quarterly and
annual reports with the Securities and Exchange Commission (SEC). ABC is a leading retail
chain operating more than 100 department stores across the continental United States. ABC
department stores offer customers a variety of nationally advertised products, including clothing,
shoes, jewelry, and other accessories. The Company’s supply chain of products is managed
through a single warehouse and distribution facility located in Kansas City, Missouri.
ABC has a centralized accounting and finance structure at its corporate headquarters, where all
processes and controls related to all substantive account balances occur, including controls
related to accounts payable and the Vendor Master File.
ABC recognizes revenues from retail sales at the point of sale to its customers. Discounts provided to customers by the Company at the point of sale, including discounts provided in connection with loyalty cards, are recognized
as a reduction in sales as the products are sold. Cost of goods sold for the Company primarily
consist of inbound freight and costs relating to purchasing and receiving, inspection,
depreciation, warehousing, internal transfer, and other costs of distribution.
On June 1, 2020, the Accounts Payable (AP) Manager received an e-mail inquiry about the
process required for a vendor to change its bank account information. The e-mail was sent from
John Smith at a domain address listed as “Watch-Makers.” Watch Makers is a manufacturer that
supplies ABC-branded watches to ABC’s west region department stores. In addition, John Smith
is the primary contact at Watch Makers with whom the Company typically interacts.
The AP Manager responded to the e-mail request on June 15, 2020, with the procedures required
of the vendor, which include completing a vendor bank account request form. On June 20, 2020,
the AP Manager received a reply e-mail from John Smith at “Watch-Makers” with a completed
vendor bank account request form, which included John Smith’s signature, new bank account
information, and other related information.
Upon receiving the vendor bank account request form, the AP Manager completed a separately
required Vendor Change Form for internal processing. The Vendor Change Form is completed
for new vendors or changes to existing vendors’ information, including bank account
information. The AP Manager sent the completed Vendor Change Form to ABC’s Assistant
Controller, who reviewed and approved the request on June 24, 2020. The bank account
information was updated within the Vendor Master File on June 26, 2020.
ACCT 461-Deep dive
Throughout the month of July, valid Watch Makers invoices were processed through the
Company’s accounts payable process, and the valid invoices were paid in accordance with the
Company’s processes for cash disbursements and wire transfers. However, because the bank
account information for Watch Makers was changed (as a result of the June 1, 2020, e-mail
request) approximately $2 million in payments was wired to an incorrect bank account. On
August 2, 2020, the Company received an inquiry from Watch Makers about the expected timing
of the $2 million in outstanding invoices. As a result of the direct interaction with Watch
Makers’ employee John Smith, the Company determined that the previous vendor bank account
change form was received from a fraudulent domain name with the intent to defraud the
Company. The e-mail domain for Watch Makers is “Watch Makers,” with no hyphen, rather than
“Watch-Makers,” with a hyphen. Both e-mails received from “Watch-Makers” were determined
to be from a fraudulent source (that also fraudulently used John Smith’s name in the e-mail).
As noted above, there are two employees within the Company that were involved in processing
and approving the Vendor Change Form.
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