Subject (SQ): Audit and Assurance

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  • 12 Marks

AA – L2 – Q40 – Audit Evidence

Discuss the pros and cons of stating or not stating the balance in a confirmation letter to suppliers List substantive procedures to verify the amount of trade payables in the payables ledger. List substantive procedures to identify unrecorded liabilities in the payables ledger.

n your audit procedures to date you have found a large number of misstatements in your client’s payables ledger. You have decided to write to a number of trade payables to obtain direct confirmation of the balances due.

Required
(a) The confirmation letter to the suppliers could either state the balance or ask the supplier to give the balance himself. Set out the arguments for each of these two approaches.

(b) List other substantive procedures which you could use to verify the amount of trade payables.

(c) List the substantive procedures you would carry out to discover the existence of unrecorded liabilities.

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  • 10 Marks

AA – L2 – Q39 – Audit Evidence

Describe how audit software can assist in testing Pemberton Products' inventory system. List concerns about Pemberton Products' proposal for continuous inventory checking.

Pemberton Products manufactures plastic products and has an extensive product range which is revised frequently. Your firm has audited Pemberton Products for many years.

The company maintains computerised inventory records and carries out quarterly inventory counts. The inventory records are adjusted for any discrepancies between the records and the physical count.

The managing director is concerned that the quarterly inventory counts are disruptive and time-consuming. He has proposed the introduction of continuous checking throughout the year with no full year-end inventory count.

Required
(a) Describe how you might use audit software to assist you in your testing of the current inventory system.

(b) List the concerns you, as auditor, would have when deciding whether you support the managing director’s proposal.

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  • 20 Marks

AA – L2 – Q38 – Audit Evidence

Explain why the audit manager selected PPE, trade receivables, and inventory for further investigation at Mellow Manufacturing. List further information needed from Mellow Manufacturing's financial controller to clarify PPE, receivables, and inventory issues.

Mellow Manufacturing is a long-established manufacturing company. The audit manager has been provided with the following extracts from the draft financial statements for £20X8 prior to the final audit planning meeting with the financial controller.

Draft statement of financial position (extracts)

Draft 20X8 £’000 Actual 20X7 £’000
Property, plant and equipment 32,560 31,850
Receivables
Trade 7,250 4,340
Other 1,230 1,150
Inventory
Raw materials 2,900 2,100
Work-in-progress 1,450 1,860
Finished goods 2,340 2,020
Current liabilities
Trade 4,320 4,180
Other 2,450 2,340

Draft statement of comprehensive income (extracts)

Draft 20X8 £’000 Actual 20X7 £’000
Revenue 43,150 40,680
Cost of sales (29,180) (28,890)
Gross profit 13,970 11,790
Distribution costs (3,450) (3,120)
Administrative expenses (2,340) (2,120)
Depreciation/loss on sale of PPE (2,280) (1,320)
Profit before tax 5,900 5,230

The manager has reviewed these extracts and has identified three financial statement headings which he believes require further investigation. These are property, plant and equipment, trade receivables, and inventory. He has also calculated the following accounting ratios:

Draft 20X8 Actual 20X7
Trade receivables collection period 30 days 19 days
Inventory turnover 8.6 times 9.9 times
Gross profit percentage 32% 29%

Required
(a) Explain why the manager has selected these three headings for further investigation.

(b) Set out the further information that the manager should request from the financial controller at the final audit planning meeting in order to clarify the situation with regards to these financial statement headings.

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  • 20 Marks

AA – L2 – Q37 – Audit of Financial Statements

Describe external auditor's responsibilities and work for going concern assessment. Describe auditor's reports for going concern issues and their circumstances. List considerations for recommending internal controls for cash sales in a garage.

(a) Describe external auditor’s responsibilities and the work that the auditors must perform in relation to an audit client’s ability to continue as a going concern.

(b) Describe the possible auditor’s reports that can be issued where the ability of a company to continue as a going concern status is called into question; your answer should describe the circumstances in which they can be issued.

(c) You have been asked by your client, a garage proprietor, to advise on a system of internal control for cash sales. Set out the points you would take into consideration before giving your recommendations.

 

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  • 20 Marks

AA – L2 – Q36 – Internal Control Systems

Describe the impact of interim audit work on internal controls for the final audit. List factors to consider for additional work on internal controls at the final audit post-interim audit. Explain how an audit committee benefits external and internal auditors. Explain differences in internal and external auditors' responsibilities for fraud and error prevention, detection, and reporting. List criteria for external auditors to rely on internal audit work per ISA 610.

An audit is often carried out in more than one sitting, especially when there are tight reporting deadlines. The auditors will carry out an interim audit during the period under review followed by a final audit shortly after the year end. Work at the interim audit will often include obtaining audit evidence about the operating effectiveness of controls.

(a)(i) Describe the impact on the final audit of performing work on internal controls at an interim audit.

(ii) Assuming an interim audit has taken place and work on internal controls was carried out, list the factors the auditor should consider when deciding how much more work is needed at the final audit in relation to internal controls.

Businesses may establish an audit committee to help improve corporate governance within a company. This can provide benefits to both internal and external auditors.

(b) Explain how an audit committee can benefit both the external auditors and the internal auditors of an entity.

There are similarities and differences between the responsibilities of internal and external auditors. Both internal and external auditors have responsibilities relating to the prevention, detection and reporting of fraud, for example, but their responsibilities are not the same.

(c) Explain the difference between the responsibilities of internal auditors and external auditors for the prevention, detection and reporting of fraud and error.

 

ISA 610 Using the Work of Internal Auditors provides guidance to external auditors on the use of internal audit work.
(d) List and explain the various criteria that should be considered by external auditors when assessing whether to take reliance from work performed by internal audit.

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  • 20 Marks

AA – L2 – Q35 – Internal Control Systems

List internal controls for capital and revenue expenditure on a vehicle fleet at Countrywide Retail. List tests of control for capital and revenue expenditure on a vehicle fleet at Countrywide Retail.

The transport department of Countrywide Retail operates a fleet of 100 motor vehicles. Some vehicles are purchased for cash and some are leased.

(a) List the internal controls you would expect to see in place over capital and revenue expenditure on the vehicle fleet.

(b) Set out the tests of control that the auditor might perform over capital and revenue expenditure on the vehicle fleet.

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  • 30 Marks

AA – L2 – Q34 – Audit Evidence

Explains importance of year-end inventory counting for auditors in non-perpetual inventory systems. Describes audit procedures to rely on a perpetual inventory system in a large, dispersed organisation Describes deficiencies in Lennox’s inventory counting instructions and why they are difficult to overcome. Describes audit evidence from third-party inventory confirmation, practical difficulties, and alternative evidence.

(a) Explain why year-end inventory counting is important to the auditors of organisations that do not have perpetual inventory systems.

(b) Describe audit procedures you would perform in order to rely on a perpetual inventory system in a large, dispersed organisation.

(c) Carter Retail is a family-owned company which retails beds, mattresses and other bedroom furniture items. The company’s year-end is 31 December. The only full inventory count takes place at the year end. The company maintains up-to-date computerised inventory records.
Where the company delivers goods to customers, a deposit is taken from the customer and customers are invoiced for the balance after the delivery. Some goods that are in inventory at the year-end have already been paid for in full – customers who collect goods themselves pay by cash or credit card.
Staff at the company’s warehouse and shop will conduct the year end count. The shop and warehouse are open seven days a week except for two important public holidays during the year, one of which is 1 January. The company is very busy in the week prior to the inventory count but the shops will close at 15.00 hours on 31 December and staff will work until 17.00 hours to prepare the inventory for counting. The company has a high turnover of staff. The following inventory counting instructions have been provided to staff at Carter Retail.
(i) The inventory count will take place on 1 January 20X5 commencing at 03/00 hours. No movement of inventory will take place on that day.
(ii) The count will be supervised by Mr Baker, the inventory controller. All staff will be provided with pre-printed, pre-numbered inventory counting sheets that are produced by the computerised system. Mr Baker will ensure that all sheets are issued, and that all are collected at the end of the count.
(iii) Counters will work on their own, because there are insufficient staff for them to work in pairs, but they will be supervised by Mr Baker and Mrs Wilson, an experienced shop manager who will make checks on the work performed by counters. Staff will count inventory with which they are most familiar in order to ensure that the count is completed as quickly and efficiently as possible.
(iv) Any inventory that is known to be old, slow-moving or already sold will be highlighted on the sheets. Staff are required to highlight any inventory that appears to be soiled or damaged.
(v) All inventory items counted will have a piece of paper attached to them that wil show that they have been counted.
(vi) All inventory that has been delivered to customers but that has not yet been paid for in full will be added back to the inventory quantities by Mr Baker.

Required:
Describe the deficiencies in Carter Retail’s inventory counting instructions and explain why these deficiencies are difficult to overcome.

(d) Where inventory is held by third parties auditors will need to obtain external confirmation of such inventory.

Describe the audit evidence provided by such confirmation, the practical difficulties in obtaining it and the alternative audit evidence available when such confirmation is not provided.

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  • 15 Marks

AA – L2 – Q33 – Internal Control Systems

Discuss shortcomings in Samba Enterprises' expense claim system and suggest improvements. List tests of control for Samba Enterprises' expense claim system.

Samba Enterprises employs 100 salesmen, each of whom covers a different area and is supplied with a car. At the end of each week, each salesman submits an expense claim on a pre-printed form with supporting vouchers attached. Expenditure is on fuel together with invoices for hotel accommodation, meals, and entertaining.
Each claim is scrutinised by the assistant accountant. He raises any queries with the salesman concerned and makes out cheques for signature by two directors.
The amount of salesmen’s expenses paid out annually is material to the financial statements.

Required:
(a) Discuss the shortcomings of this system and suggest ways in which it could be improved.

(b) List the tests of control that the auditor might perform on this system.

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  • 25 Marks

AA – L2 – Q32 – Internal Control Systems

Specify control objectives for revenue cycle stages (order processing, despatch, return) and explain their importance. List internal controls for a manual revenue cycle system to achieve control objectives.

When considering the internal controls in a revenue cycle, the auditor will need to consider the following stages:

  • the processing of orders; and
  • the despatch and return of goods

Required:
(a) Specify the control objectives for each of the above stages in a revenue cycle where all sales are made on a credit basis and explain their importance.

(b) List the internal controls you would expect to see in place in a simple manual system in order to achieve those objectives.

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  • 10 Marks

AA – L2 – Q31 – Internal Control Systems

Discuss methods for ascertaining and recording an entity's accounting and internal control system.

Internal Control Systems (ICS)
Required:
Discuss the usefulness of the different methods available to an auditor for ascertaining and recording an entity’s accounting and system of internal control.

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