Audit risks
1. Over-trading
The turnover of Parker is growing quite rapidly, although this growth is not matched in net profits.
The company has been expanding into the Internet, and plans to introduce other product lines
for sale in this division. There is the risk that the business will exhaust any cash reserves as it
continues to expand but does not generate sufficient additional cash to pay for that expansion.
In this situation suppliers may go unpaid and at the extreme the business will be forced into
liquidation. Therefore the financial statements may not adequately disclose doubts about going
concern.
2. Internet trading
The decision to expand the Internet business may cause other problems for Parker. Selling of
books and CDs appear to be related as they are both forms of entertainment and the customer
knows what the product is like. Selling toys may fall into a similar category, but garden furniture
and clothes are different. Garden furniture is bulky and will certainly cost more to deliver while
clothes are sold more on taste and a high level of returns can be expected. Specific risks with
this decision therefore relate to:
The overall ability of management to run the business given their apparent lack of knowledge of Internet trading.
The need to setup and manage systems for the sales of many new products.
The need to allow for a much larger volume of returns.
The possibility of inventory obsolescence if Parker overstocks on clothes which go ‘out of fashion’.
3. Control environment.
The whole environment in which the control systems should be operating appears weak. There
are errors in the systems, the extent of which is not known, and the directors and the accountant
do not appear to be inclined to attempt to remedy the situation. The skills of the accountant may
also be questioned because he appears to have been appointed not on merit, but from some
personal relationship with the directors. Other errors may also have occurred which have not
been detected. The risk is that the financial statements may have material errors in them.
4. Bank loan
The directors require additional finance to expand the business. To provide this finance it is likely
that the bank will require sight of the audited financial statements; the directors of Parker expect
the audit to be completed prior to meeting the bank. The auditor may need to write to the bank to
disclaim reliance on the audit report for the purposes of making a bank loan. There is a risk to the
audit firm of being sued if the bank relies on the report and sustains financial loss.
There is also a risk to Parker that the loan is not obtained and the company goes into liquidation.
The financial statements may need to be prepared on a breakup basis.
5. First year of audit
The audit is also risky for the audit firm because it is the first year of an audit and the client has
expectations about the type of auditor’s report to be produced. The accounting systems also
appear to be unreliable, again increasing the risk of material error. The audit firm must ensure
that sufficient time and resources are allocated to the audit to ensure that the audit opinion can
be supported. Pressure from the directors to complete the audit quickly will have to be resisted.
Wilfykil answered the question on April 12, 2019 at 09:32
- Ajio is a charity whose constitution requires that it raises funds for educational projects. These
projects seek to educate children and support teachers in certain countries(Solved)
Ajio is a charity whose constitution requires that it raises funds for educational projects. These
projects seek to educate children and support teachers in certain countries. Charities in the
country from which Ajio operates have recently become subject to new audit and accounting
regulations. Charity income consists of cash collections at fund raising events, telephone
appeals, and bequests (money left to the charity by deceased persons). The charity is small
and the trustees do not consider that the charity can afford to employ a qualified accountant.
The charity employs a part-time bookkeeper and relies on volunteers for fund raising. Your firm
has been appointed as accountants and auditors to this charity because of the new regulations.
Accounts have been prepared (but not audited) in the past by a volunteer who is a recently
retired Chartered Certified Accountant.
Required:
Describe the risks associated with the audit of Ajio under the headings inherent risk, control risk and detection risk and explain the implications of these risks for overall audit risk
Date posted: April 12, 2019. Answers (1)
- List and explain the audit tests to be performed on income and expenditure from fund raising events.(Solved)
List and explain the audit tests to be performed on income and expenditure from fund raising events.
Date posted: April 12, 2019. Answers (1)
- ISA 400 (Risk Assessments and Internal Control) deals with internal control objectives and
internal controls. ISA 500 (Audit Evidence) deals with audit objectives and audit procedures....(Solved)
ISA 400 (Risk Assessments and Internal Control) deals with internal control objectives and
internal controls. ISA 500 (Audit Evidence) deals with audit objectives and audit procedures. A
proper understanding of internal controls is essential to auditors in order that they understand the
business and are able to effectively plan and execute tests of controls and an appropriate level
of substantive procedures.
You are the auditor of a small manufacturing company, Dinko, that pays its staff in cash and by
bank transfer and maintains its payroll on a small stand-alone computer.
Required:
(a) For the payroll department at Dinko, describe the:
i. Internal control objectives that should be in place.
ii. Internal control environment and internal control procedures that should be in place to achieve the internal control objectives.
(b) For the payroll charges and payroll balances (including cash) in the financial statements of Dinko:
i. Describe the external auditor audit objectives.
ii. List the tests of control and substantive procedures that will be applied in order to achieve the audit objectives identified in (b) (i) above.
Date posted: April 12, 2019. Answers (1)
- Rhapsody Co supplies a wide range of garden and agricultural products to trade and domestic
customers. The company has 11 divisions, with each division specializing in...(Solved)
Rhapsody Co supplies a wide range of garden and agricultural products to trade and domestic
customers. The company has 11 divisions, with each division specializing in the sale of specific
products, for example, seeds, garden furniture, and agricultural fertilizers. The company has an
internal audit department which provides audit reports to the audit committee on each division
on a rotational basis.
Products in the seed division are offered for sale to domestic customers via an Internet site.
Customers review the product list on the Internet and place orders for packets of seeds using
specific product codes, along with their credit card details, onto Rhapsody Co’s secure server.
Order quantities are normally between one and three packets for each type of seed. Order details
are transferred manually onto the company’s internal inventory control and sales system, and
a two part packing list is printed in the seed warehouse. Each order and packing list is given a
random alphabetical code based on the name of the employee inputting the order, the date, and
the products being ordered.
In the seed warehouse, the packets of seeds for each order are taken from specific bins and
dispatched to the customer with one copy of the packing list. The second copy of the packing list
is sent to the accounts department where the inventory and sales computer is updated to show
that the order has been dispatched. The customer’s credit card is then charged by the inventory
control and sales computer. Bad debts in Rhapsody are currently 3% of total sales.
Finally, the computer system checks that for each charge made to a customer’s credit card
account, the order details are on file to prove that the charge was made correctly. The order file
is marked as completed confirming that the order has been dispatched and payment obtained.
Required:
a) In respect of sales in the seeds division of Rhapsody Co, prepare a report to be sent to the
audit committee of Rhapsody Co which:
i. Identifies and explains four weaknesses in that sales system.
ii. Explains the possible effect of each weakness.
iii. Provides a recommendation to alleviate each weakness.
Date posted: April 12, 2019. Answers (1)
- List down internal control procedures for raw material purchasing system of a large manufacturing firm(Solved)
List down internal control procedures for raw material purchasing system of a large manufacturing firm
Date posted: April 12, 2019. Answers (1)
- The time is now towards the end of the audit, and you are reviewing working papers produced by the audit team. An example of a...(Solved)
The time is now towards the end of the audit, and you are reviewing working papers produced by the audit team. An example of a working paper you have just reviewed is shown below.
Client Name Specs4You Co
Working paper Payables transaction testing
Year end 30 April 2007
Prepared by ……………………..
Reviewed by ……………………
Audit assertion: To make sure that the purchases day book is correct.
Method: Select a sample of 15 purchase orders recorded in the purchase order system. Trace
details to the goods received note (GRN), purchase invoice (PI) and the purchase day book
(PDB) ensuring that the quantities and prices recorded on the purchase order match those on
the GRN, PI and PDB.
Test details: In accordance with audit risk, a sample of purchase orders were selected from
a numerically sequenced purchase order system and details traced as stated in the method.
Details of items tested can be found on another working paper.
Results: Details of purchase orders were normally correctly recorded through the system. Five
purchase orders did not have any associated GRN, PI and were not recorded in the PDB.
Further investigation showed that these orders had been cancelled due to a change in spectacle
specification. However, this does not appear to be a system weakness as the internal controls do
not allow for changes in specification.
Conclusion: Purchase orders are completely recorded in the purchase day book.
Required:
Explain why the working paper shown above does not meet the standards normally expected of
a working paper.
Date posted: April 12, 2019. Answers (1)
- You are an audit senior responsible for understanding the entity and its environment and assessing
the risk of material misstatements for the audit of Rock for...(Solved)
You are an audit senior responsible for understanding the entity and its environment and assessing
the risk of material misstatements for the audit of Rock for the year ending 31 December 2004.
Rock is a company listed on a stock exchange. Rock is engaged in the wholesale import,
manufacture and distribution of basic cosmetics and toiletries for sale to a wide range of stores,
under a variety of different brand names. You have worked on the audit of this client for several
years as an audit junior.
Required:
Describe the information you will seek, and procedures you will perform in order to understand the entity and its environment and assess risk for the audit of Rock for the year ending 31 December 2004.
Date posted: April 12, 2019. Answers (1)
- Discuss on features of audit working papers(Solved)
Discuss on features of audit working papers
Date posted: April 12, 2019. Answers (1)
- Explain the following controlling procedures in a well planned audit:
• Direction and supervision of work
• Review and co-coordination of work
• Quality controls(Solved)
Explain the following controlling procedures in a well planned audit:
• Direction and supervision of work
• Review and co-coordination of work
• Quality controls
Date posted: April 12, 2019. Answers (1)
- You are an audit manager in McKay & Co, a firm of Chartered Certified Accountants. You are preparing the engagement letter for the audit of...(Solved)
You are an audit manager in McKay & Co, a firm of Chartered Certified Accountants. You are preparing the engagement letter for the audit of Ancients; a public limited liability company, for the year ending 30 June 2006.Ancients has grown rapidly over the past few years, and is now one of your firm’s most important clients. Ancients has been an audit client for eight years and McKay & Co has provided audit, taxation and management consultancy advice during this time. The client has been satisfied with the services provided, although the taxation fee for the period to 31 December 2005 remains unpaid. Audit personnel available for this year’s audit are most of the staff from last year, including Mr. Grace, an audit partner and Mr. Jones, an audit senior. Mr. Grace has been the audit partner since Ancients became an audit client. You are aware that Allyson Grace, the daughter of Mr. Grace, has recently been appointed the financial director at Ancients. To celebrate her new appointment, Allyson has suggested taking all of the audit staff out to an expensive restaurant prior to the start of the audit work for this year.
Required:
Identify and explain the risks to independence arising in carrying out your audit of Ancients for the
year ending 30 June 2006, and suggest ways of mitigating each of the risks you identify.
Date posted: April 12, 2019. Answers (1)
- Explain the situations where an auditor may disclose confidential information about a client.(Solved)
Explain the situations where an auditor may disclose confidential information about a client.
Date posted: April 12, 2019. Answers (1)
- You are a recently qualified Chartered Certified Accountant in charge of the internal audit
department of ZX, a rapidly expanding company.(Solved)
You are a recently qualified Chartered Certified Accountant in charge of the internal audit
department of ZX, a rapidly expanding company. Turnover has increased by about 20% p.a.
for the last five years, to the current level of Kshs50 million. Net profits are also high, with an
acceptable return being provided for the four shareholders. The internal audit department was
established last year to assist the board of directors in their control of the company and to
prepare for a possible listing on the stock exchange. The Managing Director is keen to follow
the principles of good corporate governance with respect to internal audit. However, he is also
aware that the other board members do not have complete knowledge of corporate governance
or detailed knowledge of International Auditing Standards.
Required:
Write a memo to the board of ZX that:
Explains how the internal audit department can assist the board of directors in fulfilling
their obligations under the principles of good corporate governance.
Date posted: April 12, 2019. Answers (1)
- a) Describe the matters to consider within your firm and the other procedures that must be
undertaken before accepting the appointment as auditor to a new...(Solved)
a) Describe the matters to consider within your firm and the other procedures that must be
undertaken before accepting the appointment as auditor to a new client.
b) Explain why it would be inappropriate to commence the audit before consideration of
the matters and the procedures referred to in (a) above have been completed.
Date posted: April 12, 2019. Answers (1)
- The objectivity of the external auditor may be threatened or appear to be threatened where:(Solved)
The objectivity of the external auditor may be threatened or appear to be threatened where:
i. There is undue dependence on any audit client or group of clients.
ii. The firm, its partners or staff have any financial interest in an audit client.
iii. There are family or other close personal or business relationships between the firm, its
partners or staff and the audit client.
iv. The firm provides other services to audit clients.
Required:
a) For each of the four examples given above, explain why the objectivity of the external
auditor may be threatened, or appear to be threatened, and why the threat is important.
b) Describe requirements that reduce the threats to auditor objectivity for each of the four examples given above.
Date posted: April 12, 2019. Answers (1)
- Your firm has been approached by the directors of UB Bank Ltd. a newly formed commercial bank
to undertake the audit for its first complete financial...(Solved)
Your firm has been approached by the directors of UB Bank Ltd. a newly formed commercial bank
to undertake the audit for its first complete financial year ended 31 December 1996. Your manager
has assigned you the responsibility for leading the team. You have had various discussions with
the directors about the timetable and the respective responsibilities of management and the
auditor. You have drafted a letter of engagement and have sent it to the managing director for
approval and acceptance but the management has not yet responded to your letter.
Required:
a) Explain why a letter of engagement is sent before any new audit appointment is accepted.
b) Set out the main contents of a letter of engagement.
c) Itemize the actions you would take in response to the non-reply by the management to your draft engagement letter.
d) State when it might be necessary to re-draft an engagement letter and have it reaffirmed by the client’s management.
Date posted: April 12, 2019. Answers (1)
- The purpose of an external audit and its role are not well understood. You have been asked to
write some material for inclusion in your firm’s...(Solved)
The purpose of an external audit and its role are not well understood. You have been asked to
write some material for inclusion in your firm’s training materials dealing with these issues in the
audit of large companies.
Draft explanation dealing with the purpose of an external audit and its role in the audit of large
companies, for inclusion in your firm’s training materials.
Date posted: April 12, 2019. Answers (1)
- List and describe SIX financial statement assertions, other than completeness, used by auditors
in the audit of financial statements.(Solved)
List and describe SIX financial statement assertions, other than completeness, used by auditors
in the audit of financial statements.
Date posted: April 12, 2019. Answers (1)
- Your firm is the newly appointed external auditor to a large company that sells, maintains and
leases office equipment and furniture to its customers and you...(Solved)
Your firm is the newly appointed external auditor to a large company that sells, maintains and
leases office equipment and furniture to its customers and you have been asked to co-operate
with internal audit to keep total audit costs down. The company wants the external auditors to rely
on some of the work already performed by internal audit.
The internal auditors provide the following services to the company:
(i) A cyclical audit of the operation of internal controls in the company’s major functions
(operations, finance, customer support and information services)
(ii) A review of the structure of internal controls in each major function every four years;
(iii) A n annual review of the effectiveness of measures put in place by management to
minimise the major risks facing the company.
During the current year, the company has gone through a major internal restructuring in its
information services function and the internal auditors have been closely involved in the
preparation of plans for restructuring, and in the related post-implementation review.
Required:
(a) Explain the extent to which your firm will seek to rely on the work of the internal auditors
in each of the areas noted above.
(b) Describe the information your firm will seek from the internal auditors in order for you to
determine the extent of your reliance.
(c) Describe the circumstances in which it would not be possible to rely on the work of the
internal auditors.
(d) Explain why it will be necessary for your firm to perform its own work in certain audit
areas in addition to relying on the work performed by internal audit.
Date posted: April 12, 2019. Answers (1)
- Restmount Kenya Ltd. was formed on 1 October 2006 in order to export tea and coffee to
European markets. The Directors are unsure as to their...(Solved)
Restmount Kenya Ltd. was formed on 1 October 2006 in order to export tea and coffee to
European markets. The Directors are unsure as to their responsibilities and the nature of their
relationship with the external auditors. The audit partner has asked you to visit the client and
explain to the directors, the fundamental aspects of the accountability of the directors and their
relationship with the auditor.
Required:
Explain to the directors of Restmount Kenya Ltd.
a. The need for an audit
b. Procedures for the appointment of an auditor of a public company under the Companies Act.
c. Directors responsibilities in relation to the accounting function of the Company.
d. Auditors’ statutory responsibilities in relation to the audit of the company’s financial statements.
Date posted: April 12, 2019. Answers (1)
- List the factors that lead to the disqualification of an audit Report(Solved)
List the factors that lead to the disqualification of an audit Report
Date posted: April 12, 2019. Answers (1)