Académique Documents
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(1 mark for each weakness, effect and recommendation total of 3 marks per matter. The solution provides a guideline of the detail expected. If
less, only award a maximum of mark per element.)
(1 mark for each relevant and FULL point made. If no explanation is given for the test, only award
mark. Note that the requirement only refers to recording in the sales module of the legacy system
no marks should be awarded for tests relating to the use of day books, financial statements etc..)
In order to establish that the toys despatched are those ordered by the customer, it
will be necessary to test that the data initially entered through the website is
correctly captured by the system.
An order should therefore be placed by the auditor using the website and then
checked to the orders file agreeing the completeness and accuracy of the data.
Access the order file and select a sample of orders. Agree the unit prices to an
authorised price list/file. Check the additions of the order and VAT calculations.
Trace each order through to the sales module within the legacy system, agreeing all
details to ensure completeness and accuracy of the data transfer. Agree that the
correct accounts have been updated, ie sales, receivables and VAT.
Agree the order detail to the despatch note filed in the accounts department. This
will provide evidence of goods having been despatched and that the despatch notes
were accurately printed by the system.
From the sales module, trace the order details through to a daily product sales
report., ensuring that the date of the report is the day after the order was placed.
This tests the completeness, accuracy and validity of the sales report.
From the daily sales report, agree that the inventory records have been updated for
the order placed. Completeness and accuracy of updating inventory records for
despatch of private customer orders.
Agree that the order entry in the sales module of the legacy system has been flagged
to show goods despatched and credit card authorisation obtained.
Agree to a credit card statement that the payment (less any agreed charges) has been
received. Trace the total of the credit card statement through to the cash book and
bank statement.
Use of CAATS
Whilst not specifically mentioned, award appropriate marks where answers refer to the use of
CAATs, eg:
Extract complete data files from the orders file and the sales files of the legacy
system. Compare both sets of data using a CAAT to ensure completeness and
accuracy of data transfer from the order system to the legacy system.
Applying the same procedure, compare the inventory data from the orders file with
the data extracted from the inventory files to ensure complete and accurate update
of the inventory system for internet sales.
(c) Commercial customers receivables (1 mark for each FULL and valid point. mark only
if lack of explanation /depth. Max of 8 marks.
NOTE 1: As there are only ten commercial balances, procedures should reflect this. If
answers are clearly wrote learnt without consideration of the scenario, eg select sample
from balances, award no marks.
NOTE 2: As the customers are overseas, award no marks for any comments made on
sending second letters etc. There will be insufficient time to do so and the students answer
will be wrote learnt without application to the scenario. Only award marks if within the
specific context of the circularisation being done at the year end to allow time for second
letters to be sent
NOTE 3: Some students may take the view that as there are only ten commercial
customers, an alternative approach to circularisation should be taken.
NOTE: Award no marks for any suggestion of using CAATs to select balances etc. As
there are only ten balances, this would clearly be inappropriate. CAATs would be
appropriate to establish closing balances from initiating records which could then be tested
for after date cash. )
Consider the timing of the circularisation re reporting deadlines and the audit
timing. As overseas, a longer period of time will be needed to receive replies. The
circularisation may therefore need to be carried out at or before the year end.
Obtain a list of the commercial customer receivables from the client. Check the
addition of the list and that the total receivables agrees to the general ledger. Check
the extraction of the list from the sales ledger to ensure completeness and accuracy
of the extraction.
Review the list for credit balances. Where the total of credit balances are material,
add back to the receivables balance and to the payables balance to ensure the
balances show a true and fair view. Establish the reasons why there are material
credit balances or a significant number and consider impact on audit approach (eg
may increase audit risk).
As there are only ten commercial customers, include all within the circularisation,
unless clearly immaterial. Agree with client that all will be circularised. If client
requests any not to be circularised, establish reason as to why (and is reasonable)
and include balance for other procedures.
Prepare positive , closed circularisation letters (ie those stating the balance due and
requiring a reply regardless of agreement or disagreement) on TopNotch4Us
letterhead and signed by the company.
Replies will either agree balances or disagree balances. Where disagreement, the
amount disagreed must be analysed and audited. Disagreement will usually be
based on cash and/or goods in transit.
Where cash in transit, agree subsequent receipt of cash to cash book and through to
the bank statement. Where goods in transit, agree to sales invoice, goods despatch
note and entry in inventory records to ensure correct cut-off.
(d) Cut-off (1 mark for each valid point. Max of 3 marks. If no example given max of 2
marks)
Cut off is a financial statement assertion that basically means that a transaction that
occurred in one period is recorded within that period. A cut-off test gathers
substantive evidence that transactions are recorded in the period to which they
relate.
A cut off test, depending on its direction, provides evidence as to two types of
misstatement, namely:
Auditors perform cut-off tests for all major classes of transactions, either at the end
of the financial period or, where substantive evidence is gathered prior to the year
end, at an earlier cut-off date.
A basic example would be sales and receivables. Despatches made before the year
end should be recorded as sales and receivables before the year end and excluded
from inventory before the year end. Despatches made after the year end should be
evidenced as invoiced after the year end and recorded as sales/receivables after the
year end.
(a) Threats to the Fundamental Principles ( mark identifying plus mark explaining, to
include at least two examples, otherwise only mark. Max of 5 marks)
Advocacy occurs when members promote a position or opinion to the point that
subsequent objectivity may be compromised, eg
Familiarity can arise where members, because of a close relationship, become too
sympathetic to the interests of others. There is a significant risk that professional
scepticism will not be applied. Examples include:
(b) Controls ( mark each point, max of 1 mark each element, 5 marks in total)
The control environment - sets the tone of an organization, influencing the control
consciousness of its management and employees. It is the foundation for effective
internal control, providing discipline and structure.
Risk assessment procedures how the entitys management identify business risks
relevant to the financial reporting objectives and how they decide to address those
risks and review the results of doing so.
Risks relevant to financial reporting include external and internal events and
circumstances that may occur and adversely affect an entitys ability to initiate,
record, process, and report financial data.
It includes the accounting system and consists of the procedures and records
established to initiate, record, process, report and maintain accountability which
must also be able to deal with errors and incorrect processing.
Control activities the policies and procedures that help ensure that management
directives are carried out, e.g. that actions are taken to address risks that threaten the
achievement of the entitys objectives.
They have various objectives and are applied at various organisational and
functional levels. Examples include authorisation, performance reviews,
information processing, physical controls and segregation of duties.
(a) Financial statement risks (1 mark per valid point. Max of 12 marks)
Client business
Okalas operates in the high-tech field of military tank engine production. Inventory
obsolescence through technological change is a high risk area. Values may be
overstated.
Turnover consists of a small number of very high value contracts (eg currently
tendering for $200m NATO contract). Such economic dependence may lead to
going concern problems should one (or more) of the contracts fail.
The client faces the risk of high expenditure and investment in technical
development when: (2 points necessary to gain 1 mark)
Products
Thunderflash Very recently developed with high development costs, this the
subject of the NATO tender. (1 mark each point, max of 2 marks)
Overall reliability is unclear until the engine has been in operation for a
longer period. There may be future developments or warranty expenses to
be incurred (potential understatement of provision).
Snooper Development of Thunderflash may render the 20 year old Snooper design
obsolete. Engines and parts may have nil/scrap value (potential overstatement of
inventory values).
Inventory
Volatility of contract prices makes measuring NRV against cost difficult. Valuation
is therefore a high-risk area.
The continuous inventory-checking is seriously behind schedule for this year and
error incidence is high. Material error could exist between book and actual physical
quantities.
Internal audit involvement in other audit areas may be reduced, thereby increasing
the risk of errors arising.
(b) Audit work (1 mark per valid point, max of 4 marks per section, 8 in total)
Assuming some liability exists, the claim must be reviewed and the amounts
confirmed. This will involve: (2 points to obtain 1 mark max)
reviewing all relevant board minutes and correspondence with the Middle
East government to establish the extent of the claim.
review any product liability insurance taken out by Okalas which may
wholly or partially cover the liability (even though the insurance company
may dispute the claim or Okalas management may place too much
emphasis on the cover);
obtain legal opinion from the clients solicitors as to the likelihood and
amounts of recovery.
There may be repercussions for other Fox contracts recently completed and for any
Fox engines currently in WIP. Therefore review: (2 points for max of 1 mark)
calculations for provisions and NRV of inventory made and assess their
materiality;
The situation must be monitored up to the date of the auditors report, that is a pro-
active approach to post balance sheet events.
(ii) Inventory
Audit approach
Because of the high volume of relatively low value items, we will aim to perform
tests of controls on the accounting and internal control system and use extensive
analytical review.
CAATs will be used wherever appropriate for these tests. In addition we must
carefully review the results of physical checks.
Inventory checking
A meeting should be arranged as soon as possible with the internal audit manager to
ascertain the extent of potential errors in the inventory records, review the
effectiveness of correcting such errors and enquire whether all inventory lines will
have been counted at least once by the year-end.
We should attend a sample of physical checks to ensure they are being performed to
managements instructions and to check a sample of inventory items. Audit
software may assist with sample selection.
If results are not satisfactory a full year-end physical count may be required.
Warranty claim
In conjunction with the audit work on warranty claims, items selected for physical
counts should include those where future warranty provisions could arise.
Substantive work
identifying items where the quantity held in inventory exceeds the number
of items used in one year (for provisions work).
For a sample of inventory items, compare standard cost to the latest purchase
invoice price to ensure that inventory is valued at cost (NRV tests will also be
carried out).
Perform full cut-off tests taking note of any inventory movement documents at the
year-end physical counts (whether full count or otherwise).
Review the make-up of inventory values paying special attention to any variances
from standard cost. Inventory must be valued at the lower of cost and NRV and not
at standard cost unless this approximates to cost.
4 CHARITIES
(a) Risks and implications for audit risk (1 mark for each valid point made, max 10)
Charities can be viewed as inherently risky because they are often managed by non-
professionals and are highly susceptible to fraud (because of the high levels of
cash), although many charities and the volunteers that run them are people of the
highest integrity who take a great deal of care over their work.
In the case of EduChar, the scenario highlights the lack of a fulltime professional
accountant, it only has a part time bookkeeper and relies on volunteers for fund
raising. All of these increase inherent risk.
However, the audit and accounting regulations are new. This implies a higher
inherent risk as the trustees, bookkeeper, part time ACCA member and auditors
have to fully understand the implications of the new regulations on the accounts
preparation and audit.
Most small charities have a high level of control risk because formal internal
controls are expensive and are not often in place. This means that donations are
susceptible to misappropriation by the volunteer collectors (tamper proof collecting
tins should be used).
It may not be possible to rely on basic business controls as the bookkeeper is only
part time and no indication is given within the scenario of the role of the trustees
(they should remain independent of the day to day running of the charity).
As the charity is small, it is possible that all transactions will be tested and therefore
sampling risk (the risk that samples are unrepresentative of the populations from
which they are drawn) is not present.
Detection risk will also be high as this is a new client and thus the auditors will be
unfamiliar with the client.
The audit team must contain senior individuals (eg the partner, manager and
supervisor) who are familiar with cash based audits and the legislation surrounding
charities.
Audit risk
Audit risk is the product of inherent risk, control risk and detection risk and is the
risk that the auditors will issue an inappropriate audit opinion. This risk can be
managed by decreasing detection risk by altering the nature, timing and extent of
audit procedures applied.
Where inherent risk is high and controls are weak (as is likely here) a greater level
of substantive testing will need to be carried out on areas identified as risky in order
to reduce audit risk to an acceptable level.
(b) Audit tests fund raising events (1 mark per valid point. Note that the requirement
specifically deals with fund raising events only.)
Attend a selection of fund raising events (eg those expected to raise material
amounts of money) and observe the procedures employed in collecting, counting,
banking and recording the cash.
This is effectively confirming and testing the accounting system (initiation through
to recording and reporting) and will help provide audit evidence that funds have not
been misappropriated and that all income from such events has been recorded
(accuracy and completeness).
Where sealed collection boxes or tins are used at charity events, agree the control
over the issue and collection of the boxes/tins, eg number allocated to the event,
number used, not used and returned (completeness).
Ideally, the boxes/tins should be pre-numbered for use over many events. When
used they should be kept for audit inspection and not destroyed.
Observe that when opened, the boxes/tines are done so in the presence of two
volunteers, one counting the other checking. Perform random cash counts at the
events to provide evidence that cash has been counted correctly and that there is no
collusion between volunteers to misappropriate funds.
Trace the bank paying in slips through to the cash book and bank statements,
checking that there is no unusual delay in banking the cash.
Re-perform the year end bank reconciliation and agree the rolling forward of the
opening bank balance through the reconciliations carried out each month. (If
reconciliations are not done each month, it will be necessary to audit the year end
reconciliation as a whole). This also provides evidence as to the completeness of
income.
Examine the records of bank expenditure for fund raising events (hire of equipment,
entertainers, purchase of refreshments. etc.), trace through to supporting evidence
(eg invoices and receipts) and ensure that these have been properly authorised. This
provides evidence as to the measurement and accuracy of expenditure.
Discuss with event organisers if any expenditure was met directly by paying cash
from the monies collected, without being recorded. Review expenditure of similar
past events to identify potential expenditure that has not been recorded. This will
provide evidence of completeness of income (eg that income has not been expensed
without being recorded).
Review the income and expenditure of fund raising events against any budgets that
have been prepared and against similar past events. Investigate any significant
discrepancies. This will provide evidence of completeness and accuracy.
Ensure that all necessary licences (such as public entertainment and lottery licences)
have been obtained by the trustees for such events in order to ensure that no action
is likely to be taken against the charity or volunteers.
Obtain representations from the trustees to the effect that there are no unrecorded
liabilities for such events and for the completeness of income again for
completeness of income, expenditure and liabilities.
5 AUDIT REPORTS
The directors are normally required to prepare the financial statements of the
company using the appropriate law of their country and in accordance with an
appropriate accounting framework (GAAP), eg International Financial Reporting
Standards (IFRS).
The auditors are normally required to report to shareholders on the assertion that the
directors have prepared the financial statements in accordance with the appropriate
legislation and GAAP.
The directors have the primary responsibility for the prevention and detection of
fraud and error in the financial statements, no matter how immaterial this may be.
The directors are responsible for ensuring that the company will continue in
operational existence for the foreseeable future and prepare the financial statements
in accordance with this assumption (or otherwise with appropriate disclosure).
The auditor must consider the appropriateness of managements use of the going
concern assumption and whether material uncertainties require disclosure. They
must consider events and conditions that may cast doubt on the enterprises going
concern as part of their planning.
They must also be alert to such conditions and events as they carry out their audit
and will evaluate managements assessment for the same period as required by the
accounting framework.
(b)(ii) Errors and omissions ( mark for identifying plus mark for explaining. Max 9 marks.
Only give mark if no explanations given, with a max of 4)
The draft report contains (at least) the following errors and omissions:
Whilst referring to Auditing Standards, the report does not specify which auditing
standards, eg International Auditing Standards (ISA) or an appropriate national set
of standards. By referring to ISAs the user of the financial standards would have a
specific set of standards on which to assess the work carried out.
The report refers to the principles of auditing standards. Under the requirements
of ISA, all auditing standards must be applied, unless inappropriate (eg IAS 2 in the
case of a service company without inventory). Using the word principles implies
that the standards may have been interpreted to suit the client.
No reference is made to the fact that ISAs require the auditor to comply with ethical
requirements. Following the ethical principles of the IFAC (eg having integrity,
objectivity etc) is an underpinning concept of auditing and it is necessary to convey
this to the user of the report (hence the reference to the independent auditors
report within the report title).
The reference within the report to an assessment of ALL the estimates and
judgements made by the directors implies that immaterial matters were also
considered when the auditor only provides reasonable assurance that the financial
statements are free from material misstatement. This could mislead the user.
No reference is made to the use of the auditors judgment, assessment of risk and
consideration of internal control. For example, users may believe that the audit
opinion also covers the working of internal control.
The reference to the time available for the audit implies that time was a limiting
factor and that audit work may have been cut in order to complete the work within
the time limit. This would be directly against the requirements of the ISAs.
Under ISAs, the auditor must have planned and performed (the audit) to obtain
reasonable assurance whether the financial statements are free from material
misstatement. This includes ensuring adequate time is made available. This
specific statement is not included within the report as required by ISA 700.
The draft report confirms that the financial statements are free from material
misstatement. This can never be claimed due to the inherent limitations of an audit
and that only reasonable assurance can be obtained (see above point).
The statement that the directors are wholly responsible for the accuracy of the
financial statements would be more appropriate if given as part of the section on
managements responsibility, rather than within the scope paragraph. In addition
the word accuracy implies being 100% correct, where as the assertions given by
the directors are for the fair presentation of financial statements that are free from
material misstatement.
The auditors responsibility relates to the financial statements and not the annual
report (which would include other items and reports, eg chairmans statement,
sustainability reports). ISAs only require the auditor to review other statements
issued with the financial statements for inconsistency and report if there is a
material inconsistency.