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Professor Kenneth A. Merchant wrote this teaching note as an aid to instructors using the Desktop Solutions, Inc. (A) and (B) case.
Marshall School of Business
University of Southern California
Desktop Solutions, Inc. (A) and (B)
Teaching Note
Purpose of Case
The Desktop Solutions cases were written to illustrate the roles internal audits can play in a
Suggested Assignment Questions
1. What is the purpose of the internal audit organization of Desktop Solutions?
2. Identify and evaluate the major choices Desktop Solutions managers have made regarding
the companys internal audit organization.
Case Analysis
Question 1
Desktop Solutions internal audit (IA) staff serves several organizational purposes. The IA
organization is independent of all line organizations, and it has a direct communication channel
Merchant & Van der Stede, Management Control Systems, 3rd edition, Instructors Manual
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to the corporations board of directors. Thus, it can serve as the eyes and ears of the boards
audit committee. They can also provide special services for the audit committee or for Desktop
Solutions management as needed.
Like virtually all IA departments, Desktop Solutions internal auditors perform a compliance
auditing role. They check to see if the companys policies and procedures are being followed.
Some IA staffs, including Desktop Solutions, have a broader charter that involves them in
Question 2
The major decisions managers make regarding their IA function can be classified into three
areas. First are decisions about the size and type of internal audit resources to have. Desktop
Solutions has 15 auditors. This is a typical size for an IA staff in a $400 million company.
Desktop Solutions is in the minority because it employs internal auditors with diverse
Second are decisions about the deployment of the internal audit resources. Desktop
Solutions IA resources are deployed in two ways. They are assigned as part of an audit plan set
at corporate and approved by the audit committee of the board, and they are deployed in
response to requests from company managers. The (A) case reports that the requests for services
was exceeding IAs capacity, so setting the audit plan was not easy. The cases do not describe
the IA charge-out plan, but students can be told that if auditors are sent by corporate to do an
audit. If managers request IA services, then they pay for those services at full cost.
Third are decisions about the management of the internal audit resources. IA management
involves many choices involving the IA organization, its reporting structure, its audit
Question 3
The audit of the St. Louis branch took six auditors 2 months to complete. Assuming an average
auditor salary of, say, $50,000, plus 100% departmental overhead, the direct cost of this audit
was approximately $100,000. The indirect cost, that caused by the burden placed on the branch,
may be several times the direct cost. So the benefits of this audit should be compared with a
rather sizable cost.
Another way of looking at the costs is in terms of the total IA resources available. With a staff
However, many questions can be raised about the St. Louis branch audit:
1. Why were 46 recommendations made? This is probably too many. A long list almost
2. What is the purpose of the flowchart (Exhibit 5)? It does not address the process and
3. Why did the auditors do so much work? Do the risks and rewards justify the cost? For
4. What is the purpose of the audit grade (e.g., unsatisfactory? It does not address the real
Merchant & Van der Stede, Management Control Systems, 3rd edition, Instructors Manual
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Managements response seems to be a shrug of the shoulders. There is no evidence of a spirit of
cooperation to improve. This audit seems merely to confirm what was known before, from the
audit 2 years ago. This is not a good result, particularly given the large cost of the 1995 audit.
Question 4
The audit of OG-Systems took 16 auditor-months for an approximate direct cost (not including
the burden on the OG-Systems unit) of $130,000.
What benefits were provided? OG-Systems management was pleased with the results of the
audit. Don Lindsay got an independent evaluation of the problems, and the audit report could
help him politically by convincing his personnel and top management that changes need to be
made.
However, one could argue that this audit did not contribute anything new. It merely confirmed
Pedagogy
My experience with the case suggests that the discussion flows quite well by following the
suggested assignment questions in order. Students will likely not be critical of the audits,
however, and the instructor will have to challenge the students to bring the critical points out.
I like to leave the students with the following thoughts:
1. Internal audit is no substitute for day-to-day control, but it is one tool in the managers
control kit.
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2. Internal audit is an invaluable resource for audit committees of boards of directors. If the
3. Like controllers and board members, most internal auditors have to wear two hats. They
4. There has been a major change in the IA function in most companies in the last 20 years. IA
used to be dominated by compliance audits. Accountants whose main talent was tremendous
attention to detail populated the staffs. They were the policy police. But major scandals
5. A relatively recent internal audit trend has been for corporations to outsource their IA
function. Public accounting firms (particularly Arthur Andersen) are aggressively marketing
