- 20 Marks
Question
Sweet Dreams, a limited liability company, is a new audit client and you are at the
planning meeting for the forthcoming audit. The company has grown rapidly and has
May 31 as year-end. The financial statements have not been audited in previous years
since the organization has only just converted from a partnership to a company.
The company’s bankers have requested that an audit be undertaken on the financial
statements for the year ending May 31, 2016. Higher levels of inventory required to
meet the increasing demand for its products have necessitated a request for an increase
in the bank’s overdraft facility.
The company makes beds, buying its materials directly. At the year-end, inventory
comprises raw materials, work-in-progress and finished goods. It does not undertake
continuous inventory counting but does intend to perform a full inventory count on
May 31, 2016. It uses standard costing system to value finished products and work-inprogress.
Answer
a. Objectives of the Planning Stage:
- Establishing a comprehensive understanding of the business environment and risks.
- Identifying any potential issues and developing strategies to address them.
- Assigning appropriate personnel with relevant experience to various audit tasks.
- Setting materiality levels and thresholds for the audit.
- Developing a timeline and scheduling for efficient management of the audit process.
- Understanding internal controls and transaction flows to highlight areas with higher misstatement risk.
b. Audit Risks and Mitigation for Sweet Dreams Limited:
- New Audit Client: As a first-year audit, there is an increased detection risk. Mitigation includes conducting additional audit work and employing experienced staff.
- Inventory Valuation Risk: Using a standard costing system can lead to material misstatement. Mitigation involves closely examining cost allocation and performing additional substantive testing.
- Conversion from Partnership: There may be control overrides due to the prior business structure. Mitigation includes detailed evaluation of management’s controls and obtaining persuasive evidence to support account balances.
- Overdraft Facility Increase: Management may attempt to manipulate financial data to influence the bank’s decision. Mitigation includes maintaining professional skepticism and verifying the accuracy of financial information
- Tags: Audit Planning, Audit Risk, Control Systems, Inventory Management, Material Misstatement
- Level: Level 2
- Topic: Audit evidence, Planning an Audit, Risk Assessment and Internal Control
- Series: MAY 2016
- Uploader: Kwame Aikins