Subject (SQ): Audit and Assurance

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  • 24 Marks

AA – L2 – Q61 – Audit Evidence

Verify ownership, assess depreciation, list asset register contents, and explain revaluation for Prime Rentals' non-current assets.

You are an employee of Brighton & Co, a firm of Chartered Accountants. One of the firm’s clients is Prime Rentals, a car rental company whose shares are not traded on a stock exchange. The company has a large fleet of vehicles which it hires out on a contract basis.
The duration of a contract varies from one day to three months. Anybody wishing to hire a car must possess a valid driving licence. In addition, they must take out insurance with Prime Rentals.
You are involved in the audit of non-current assets for the year ended 31 December 20X8.
The company’s main non-current assets are:

  • Freehold buildings
  • Office equipment (mainly computers for office staff)
  • Motor vehicles
    The company was formed ten years ago and all non-current assets (except for buildings) are maintained on a non-current asset register. The company depreciates non-current assets at the following rates:
  • Freehold buildings – 2% on cost
  • Office equipment – 20% on cost
  • Motor vehicles – 50% on cost
    The company has recently revalued its buildings upwards by €2 million. The directors believe that they have fallen victim to a fraudster who has disappeared with a number of the company’s vehicles.
    Required:
    (a) Describe how you would verify the ownership of:
    (i) Freehold buildings
    (ii) Computers
    (iii) Motor vehicles.

    (b) Comment on the appropriateness of the depreciation rates of the non-current assets and their respective effect on the income statement.

    (c) List the contents of a non-current asset register and describe its usefulness for Prime Rentals.

    (d) Explain the accounting effect of the revaluation of the buildings to the financial statements and the audit work you would perform in this matter.

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  • 17 Marks

AA – L2 – Q60 – Audit Sampling

Define sampling risk in the context of audit sampling. List and explain five methods of sample selection used in audit sampling.

Sampling

ISA 530 Audit Sampling defines audit sampling as:
‘The application of audit procedures to less than 100% of the items within a population of audit relevance such that all sampling units have a chance of selection in order to provide the auditor with a reasonable basis on which to draw conclusions about the entire population.’

Required:

(a) Define sampling risk.
(1 mark)

(b) List five methods of sample selection and explain how they function.
(10 marks)

(c) Which of the above sample selection methods in part (b) would you use if you wanted to maximise the opportunity of having high-value items in your sample? Explain why.
(3 marks)

(d) Define ‘tolerable misstatement’.
(1 mark)

(e) List five situations where sampling may not be appropriate.
(5 marks)

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  • 10 Marks

AA – L2 – Q59 – Audit Evidence

Describe four matters in a bank confirmation letter and explain their importance to the auditor.

(a) Describe four matters which would be included in a bank confirmation letter and explain why they are important to the auditor.

(b) State the audit evidence you would seek in respect of the following:
(i) Cash at bank and bank loan.
(ii) Cash (comprised of floats, unbanked cash and travellers’ cheques).

Answer:

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  • 20 Marks

AA – L2 – Q58 – Auditing in a Computerized Environment

Explain benefits of using audit software in the audit of Peak Ltd's inventory systems.

Cal & Co has been appointed as the auditor for Mount Co, a company providing motor vehicle repair services across 25 locations, with a year-end of 30 June 2009 and an audit completion deadline of 15 August 2009. Each location uses the same computerized inventory, sales, and purchasing systems, with data consolidated monthly at the head office. The audit manager is planning the audit approach, considering rewriting Cal & Co’s audit software to test Mount Co’s inventory systems on a live basis. However, July is a major holiday period for the audit firm, posing potential resource constraints

(a) (i) Explain the benefits of using audit software in the audit of Peak Ltd.

(a) (ii) Explain the problems that may be encountered in the audit of Peak Ltd and for each problem, explain how that problem could be overcome.

(b) Following a discussion with the management at Peak Ltd you now understand that the internal audit function is prepared to assist with the statutory specification on the computerised inventory systems at Peak Ltd. Documentation provides details of the software and shows diagrammatically transactions are processed through the inventory system. This documentation can be used to significantly decrease the time needed to understand the computer systems and enable audit software to be written for this year’s audit.

Required:

Explain how you will evaluate the computer systems documentation produced by the internal audit function in order to place reliance on it during your audit.

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  • 20 Marks

AA – L2 – Q57 – Internal Audits

Explain the usefulness of internal audit work, quality factors, and audit evidence for outsourced functions at SkyHigh Airlines.

SkyHigh Airlines is an airline. The company owns some of its fleet of aircraft. Other aircraft are leased from third parties. SkyHigh Airlines has an internal audit function that has recently expanded. Your firm is the external auditor to SkyHigh Airlines. Your firm has been asked to investigate the extent to which it may be able to rely on the work of internal Angelfire International

Required:

(a) Explain why the work of internal auditors, in the three areas noted above, is likely to be useful to you as the external auditor. (9 marks)

(b) Explain how the quality of the internal audit function is likely to influence the extent of your reliance on internal audit work. (5 marks)

(c) Describe the audit evidence you will seek relating to internal controls over the outsourced functions (in-flight catering and payroll). (6 marks)

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  • 20 Marks

AA – L2 – Q56 – Audit Evidence

Explain advantages of perpetual inventory systems for Nsiah Co, a crime fiction supplier with high inventory turnover.

56 Nsoah

You are an audit manager in David & Co. One of your audit clients, Nsoah, is a specialist supplier of crime fiction with over 120,000 customers. The company owns one large warehouse, which contains at any one time about 1 million books of up to 80,000 different titles. Customers place orders for books either over the Internet or by mail order. Books are despatched on the day of receipt of the order. Returns are allowed up to 30 days from the despatch date provided the books look new and unread.

Due to the high inventory turnover, Nsoah maintains a perpetual inventory system using standard ‘off the shelf software. David & Co has audited the system for the last five years and has found no errors within the software.

Continuous inventory checking is carried out by Nsoah’s internal audit function.

You are currently reviewing the continuous inventory checking system with an audit junior. The junior needs experience in auditing continuous inventory checking systems and some basic knowledge on IESBA’s International Code of Ethics for Professional Accountants.

Required

(a) Explain the advantages of using a perpetual inventory system. (4 marks)

(b) List the audit procedures you should perform to confirm the accuracy of the continuous inventory checking at Nsoah. For each procedure, explain the reason for carrying out that procedure. (6 marks)

(c) Explain the fundamental principles set out in IESBA’s International Code of Ethics for Professional Accountants of integrity, objectivity and independence to accountants. (6 marks)

(d) During your preliminary audit planning you note that the engagement letter has been returned un-signed by the directors of Nsoah. When asked to explain their action, the directors indicate that they cannot allow you access to information on the company’s new website development as this contains various trade secrets. You will not, therefore, be able to perform audit procedures on the research and development expenditure incurred on the website and included in non-current assets.

Briefly explain the actions you should take as a result of the directors not signing the engagement letter. (4 marks)

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  • 20 Marks

AA – L2 – Q55 – Audit Evidence

List and describe six financial statement assertions, excluding completeness, used in auditing financial statements. Describe substantive audit procedures for payroll balances and transactions in Blossom Textiles' financial statements.

Auditors may use two categories of assertions to form a basis for risk assessments and the design and performance of further audit procedures. The two categories suggested by ISA 315 relate to (i) classes of transactions and events and related disclosures and (ii) account balances and related disclosures. One assertion applicable to both categories is completeness: that all transactions, events, assets, liabilities, equity interests and disclosures that should be included, are included in the financial statements.

Required:
(a) List and describe SIX financial statement assertions, other than completeness, used by auditors in the audit of financial statements. (6 marks)

(b) Describe the substantive audit procedures you will perform on:

(i) the payroll balances in the statement of financial position of Blossom Textiles. (7 marks)

(ii) the payroll transactions in the statement of comprehensive income of Blossom Textiles. (7 marks)

 

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  • 20 Marks

AA – L2 – Q54 – Audit Evidence

Audit tests for Nexis Beverages' PureTrack system and year-end inventory records to ensure accurate financial statement figures.

Nexis Beverages manufactures and distributes soft drinks. Its inventories are controlled using a real-time system which provides accurate records of quantities and costs of inventories held at any point in time. This system is known within the company as the ‘PureTrack’ system and it is integrated with the purchases and revenue system. Nexis Beverages has an internal audit function whose activities encompass inventories.
No year-end inventory count takes place. Inventories are held in several large warehouses where non-stop production takes place.
Your firm is the external auditor to Nexis Beverages and you have been asked to perform the audit of inventories. Inventories include finished goods and raw materials (water, sugar, sweeteners, carbonating materials, flavourings, cans, bottles, bottle tops, fastenings and packaging materials).
Your firm, which has several offices, wishes to rely on the ‘PureTrack’ system to provide the basis of the figure to be included in the financial statements for inventories. Your firm does not wish to ask the company to conduct a year-end inventory count.

Required:
(a) Describe the audit tests that you would perform on the ‘PureTrack’ system during the year in order to determine whether to rely on it as a basis for the raw materials and finished goods figures to be included in the financial statements. (11 marks)
(b) Describe the audit tests you would perform on the records held by Nexis Beverages at the year end to ensure that raw materials and finished goods are fairly stated in the financial statements. (9 marks)

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  • 20 Marks

AA – L2 – Q53 – Audit Procedures for Non-Current Assets

Audit procedures for verifying property, plant, and equipment schedules, additions, revaluation, and depreciation correction for Oakwood Enterprises.

As a staff member of Reed and Spencer Chartered Accountants, you are assigned the audit of tangible non-current assets of Oakwood Enterprises for the year ended 31 March 20X8. Reed and Spencer have been the auditors of Oakwood Enterprises for many years. You obtain the following schedule of movements on property, plant, and equipment and analysis of additions from the company’s accountant.

Property Plant and machinery Total
Cost or valuation C’000 C’000 C’000
1 April 20X7 340 275 615
Additions – 123 123
Disposals – (72) (72)
Revaluations 120 – 120
31 March 20X8 460 326 786
Accumulated depreciation
1 April 20X7 24 213 237
Provision 5 30 35
Written back on disposal – (65) (65)
Adjustment on revaluation (24) – (24)
31 March 20X8 5 178 183
Carrying amount
31 March 20X7 455 148 603
31 March 20X8 316 62 378

Schedule of additions (plant and machinery)

Supplier Description Cost
New Models Milling machine Model 38 55,000
Drill Suppliers Power drill Type 45C 34,000
Hoist Co Electric hoist no 722 18,000
Sundry below $1000 16,000
Total 123,000

The company’s accountant also advises you that the property was revalued following a valuation by the company’s property manager who is a professionally qualified valuer.
During your verification of depreciation, you discover that most plant and machinery is fully depreciated. Moreover, you discover that, due to oversight, depreciation has continued to be provided on fully depreciated items. As at the beginning of the year, the amount of overstatement was $43,000. The accountant suggests the correction be made by reducing the current year’s charge for depreciation.

Required:
(a) State, with reasons, the initial audit procedures you would perform on the schedules provided by the company’s accountant. (3 marks)
(b) Outline the substantive audit procedures you would apply in verifying additions to plant and machinery. Your answer should identify procedures applicable to each of the financial statement assertions. (8 marks)
(c) Describe the audit procedures applicable to verifying the revaluation of property. (5 marks)
(d) With respect to the correction to accumulated depreciation, and assuming the amount to be material, discuss the accountant’s proposed treatment. If you disagree with the accountant’s proposal, state, with reasons, the correct accounting treatment. (4 marks)

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  • 20 Marks

AA – L2 – Q51 – Audit Evidence

Describe audit work to check supplier statements against purchase ledger balances for Kumasi Manufacturing Ltd. Describe audit work to verify purchases cut-off at year-end for Kumasi Manufacturing Ltd. Describe audit work to ensure sundry payables and accruals are correctly stated for Kumasi Manufacturing Ltd.

our firm is the auditor of Kumasi Manufacturing Ltd, and you have been asked to suggest the audit work you will carry out in verifying accounts payable and purchase accruals at the company’s year-end of 30 September 2025. You attended the inventory count at the year end.

The company operates from a single site and all raw materials for production are received by the goods inwards department. When the materials are received they are checked for quantity and quality to the delivery note and purchase order, and a multipart goods received note is made out and signed by the storekeeper. If there are any problems with the raw materials, a discrepancy note is raised which gives details of the problems (e.g. incorrect quantities or faulty materials).

The purchase accounting department receive the purchase invoices, check them to the purchase order and goods received note and post them to the purchase ledger. At the end of each month, payments are made to suppliers. The purchase ledger is maintained on a PC.

The main sundry payables and accruals at the year-end include:
(i) wages accruals and associated taxes payable;
(ii) sales taxes payable;
(iii) time dependent accruals, such as interest on loans and overdrafts, telephone, heat and light, and other expenses paid in arrears.

Most employees’ wages are paid weekly in arrears.

Required:
(a) Describe in detail the audit work you will carry out to check suppliers’ statements to the balances on the purchase ledger.

(b) Verify that purchases cut-off has been correctly carried out at the year-end.

(c) Ensure that sundry payables and accruals are correctly stated.

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