SCIENTEC GROUP BHD

CASE 1 SCIENTEC GROUP BHD

Scientec Group Bhd (Scientec) established in 1988 in Johor Bharu provides scientific services to a wide range of clients including the Police and Custom Department. Typical assignments range from testing food for illegal additives to providing forensic analysis on items used to commit crimes to assist law enforcement officers from both the Police and Custom Department.

The annual audit for Scientec is nearly complete. Farish and Associates has been the auditor for Scientiec for the last five years. You have been assigned to audit Scientec for the current financial year. As audit senior you have reported to the engagement partner that Scientec is having some financial difficulties. Income has fallen due to the adverse effect of two high-profile court cases, where Scientecs services to assist the prosecution were found to be in error. Not only did this provide adverse publicity for Scientec, but a number of clients withdrew their contracts.

A senior employee then left Scientec, stating lack of investment in new analysis machines was increasing the risk of incorrect information being provided by the company. Scientec refused to purchase the new analysis machine due to its high cost and decided to purchase a second hand analysis machine which is much cheaper. But the second hand machine failed to give accurate analysis. As a result of the inaccurate analysis, Scientecs existing client has refused to renew their contract. On top of that, the contract with both the Police and Custom Department is due to expire in 6 months. There is a possibility that the contract might not be renew due to the adverse effect of two high-profile court cases and the inaccurate analysis.

Based on your audit and the analysis of the cash flow forecast prepared internally shows Scientec requiring significant additional cash within the next 12 months to maintain even the current level of services. The engagement partner for Farish and Associates have asked you to provide a negative assurance report on this forecast and issue an unqualified opinion with an emphasis of matter paragraph due to its going concern problem.

SCIENTEC GROUP BHD

CASE STUDYS QUESTIONS

a. Define going concern and discuss the auditors responsibilities in respect of going concern.

Going concern assumption is a fundamental principle in preparation of financial statements which means the company able to keep doing their business. An entity is assumed to be able to continue as going concern for a foreseeable future period of a time which is at least 12 months beyond the year-end date without the intention or necessity of liquidation. The auditors responsibility in respect of going concern is explained in ISA570 Going Concern. The ISA state that when planning and performing audit procedures and in evaluating the results, the auditor should consider the appropriateness of the managements use of the going concern assumption in the preparation of financial statements and to be alert whether there are any material uncertainties about the entitys ability to continue as a going concern that should be disclosed in the financial statement. The auditors responsibilities fall under three areas which are firstly, to carry out appropriate audit procedures that will identify whether or not an organisation can continue as a going concern. Secondly, they ensure that the organisations management have been realistic in their use of the going concern assumption when preparing the financial statements. Thirdly, to report to the members where they consider that the going concern assumption has been used inappropriately, for example, when the financial statements indicate that the organization is a going concern, but audit procedures indicate this may not be the case.

(6 marks)

SCIENTEC GROUP BHD

b. Briefly explain four (4) audit procedures that may be carried out to try to determine whether or not Scientec is a going concern. Firstly, obtain a copy of the cash flow forecast and discuss the result with the management such as directors. Secondly, discuss with the management on their view on whether the company which is Scientec able to continue as a going concern. The auditor should ask for their reasons and determine whether it is accurate. Thirdly, enquire the possible lack of capital investment within Scientec by identified the reasons of employee leaving. The auditor should review current levels of non-current assets with similar companies and review the purchase policy with the management. Fourthly, obtain a letter of representative point to confirming the directors opinion that Scientec is a going concern. Lastly, obtain a copy of any interim financial statements of Scientec to determine the sales or income level after the year-end and whether it is match with the cash flow forecast.

(6 marks)

SCIENTEC GROUP BHD

c. Explain the four (4) audit procedures the auditor may take where the auditor has decided that Scientec is unlikely to be a going concern.

Firstly, discuss the situation again with the management. Consider whether additional disclosures are required in the financial statements. Secondly, explain to the directors that if the additional disclosure or restatement of the financial statements is not made then the auditor will have to modify the audit report. Thirdly, consider how the audit report should be modified. Directors should provide adequate disclosure of the going concern situation of Scientec, and then an emphasis of matter paragraph is likely to be appropriate to draw attention to the going concern disclosures. Lastly, auditor should qualify the audit report if the director does not make adequate disclosure of the going concern problem. The qualification will be an except for opinion or an adverse opinion depending on the auditors opinion of the situation.

(6 marks)

SCIENTEC GROUP BHD

d. In the context of the cash flow forecast, define the term negative assurance and explain how this differs from the assurance provided by an audit report on statutory financial statements.

Negative assurance means that nothing has come to the attention of an auditor which indicates that the cash flow forecast containing any material errors. The assurance is given on the absence of any indication to the contrary.

In contrast, the audit report on statutory financial statements provides positive or reasonable assurance which is the financial statements does show a true and fair view. By using the negative assurance, the auditor is warning users that the cash flow forecast may be inaccurate. Less reliance can therefore be placed on the forecast than the financial statements, where the positive assurance was given.

The auditor is also warning that there were limited audit procedures that could be used by using negative assurance. The cash flow is actually relates to the future and therefore the auditor not able to obtain all evidence to guarantee its accuracy. Financial statements relate to the past, and the auditor should be able to obtain the information to confirm they are correct and hence, the use of positive assurance.

(4 marks)

SCIENTEC GROUP BHD

e. Why does Farish and Associates issue an Unqualified Opinion with an emphasis of matter paragraph for Scientec? (3 marks) f. Briefly discuss the circumstances when a modification to the auditors opinion is required and state the type of modification to the auditors opinion. (5 marks) Total Marks: 30 marks