You have been asked by the manager in charge of the audit of Timab agencies to consider and describe various aspects of carrying out a...

      

You have been asked by the manager in charge of the audit of Timab agencies to consider
and describe various aspects of carrying out a debtor’s circularization at its year ending 31st
December 2006. The company sells its products on credit and the draft accounts show annual
turnover of twenty five million shillings. The accounts also show debtors of five million shillings.
Your compliance test on the sales system has shown that there is only satisfactory division of
duties in the sales system and only minor errors were found in compliance tests.

Required
a. Consider the reliability of a debtor’s circularization in providing audit evidence and in
verifying value of year end debtors.
b. Describe the work you will carry out in auditing the replies to debtors circularization
where debtor does not reply to circularization

  

Answers


Wilfred
a)
The most common type of circularization is where auditor writes a letter to the debtor or clients
audited paper asking them to reply directly to the auditor whether he agrees, disagrees or
can not confirm the balance on client’s sales ledger. The client is asked to reply under all
circumstances i.e. Positive circularization.
With negative circularization, a similar procedure is carried out but the debtor is asked to
reply only if he disagrees with the balance.
Frequently with circularization of debtors, the percentage of debtors who reply is low. With
negative circularization, the percentage is even lower. However, negative circularization
leads to an invalid conclusion as many debtors never reply to any circularization and some
of them will disagree with the balances. Negative circularization provides weak evidence of
the reliability of debtors figure in the sales ledger as many debtors who do not agree with the
balance will not reply.
Where client and debtor are independent of each other, replies to circularization are quite
good evidence. However, there are some limitations in reliability
•• Some debtors reply agreeing balance for any circularization even when there is a
difference. In some cases they sign the reply that they agree with the balance without
checking the purchases ledger. If the reply is from junior members of debtor staff, it is
less reliable from senior’s e.g. chief accountant.
•• Sometimes the debtor will disagree with the balance on clients sales ledger is correct.
Usually this arises through cash and goods in transit. In most businesses, the ledger
is more reliable than the purchases ledger, as sales invoice is posted to sales ledger
at the same time as the goods are dispatched to customer and cash is posted to sales
ledger when it is received usually within a day. However with purchases ledger, there
will be a considerable delay between receiving the goods and posting the invoice to
the purchase ledger because there may be delay in receiving purchase invoice and
delays in checking invoice to goods received note and purchase order. This creates
inaccuracies in customers purchase ledger.
•• Some debtors reply saying that they cannot confirm the balance because of accounting
records they keep. In this case, only the existence of debtor is confirmed.
•• Agreement of balance by debtor does not confirm that it is recoverable e.g. the debtor
may confirm the balance but because of cash flow problems, he is unable to pay it
and becomes a bad debt. Also, debtors who are experiencing cash flow problems may
not reply to the circularization. Nevertheless, this is a serious weakness of debtor’s
circularization. Checking cash received at the year end is best way of verifying the
recoverability of a debt.
•• Although the great advantage over debtor’s circularization is to confirm existence of
debtor, it is time consuming to carry out and because of limitations above. It is a less
efficient way of verifying debtors than other techniques such as looking at aged debtors
at the year end and checking cash received after year end.
•• It is carried out only on a small sample of debtors which could be a very small percentage
of the total valuation of debtors. Therefore there is a problem of sampling risk.

b)
Where a debtor does not reply to circularization, a number of techniques are used to confirm
the existence of such a debtor.
•• Check sales invoices, dispatch notes and order confirmations generated by the company.
This evidence is weak in reliability because it is generated by the company.
•• The best evidence of the existence of the debtor which is available within the company
is correspondence from the debtor such as orders from the debtor which can be found
in sales department and in the credit control.
•• Cheques received are further evidence of existence of debtors. Only the most recent
cheques will be available for auditor to inspect but there should be remittance advices
from customers showing invoices each cheque pays.
•• Other evidence can be obtained from trade directories and telephone directories. This
confirms existence of the business on client’s sales ledger but does not confirm that the
business is a debtor of the client i.e. the debtor balance on the sales ledger could either
be made of fictitious sales invoices or invoices posted to wrong accounts.
•• A further letter could be sent to the debtor to confirm that he received goods from the
client but in the same way the debtor did not reply to the circularization, he could also
not reply to the letter.
•• The debtor could be telephoned and asked if he purchased goods from the client. In
using the telephone, one must be careful that the call is not intercepted by the client.
To check the recoverability of a debt at the year end, the auditor should check its aging. The
auditor should also check cash received between year end and the time of audit visit after
year end. Any year end invoices cleared by cash received since year end can be considered
good as it is unusual for a debtor to request repayment. If some paid since year end is
large, one should check that the cheque has cleared particularly for debtors who have been
outstanding for a long period. The auditor will discuss all old outstanding amounts because
there is likely to be a dispute between the debtor and the client over the amount.
Wilfykil answered the question on April 13, 2019 at 07:22


Next: “Action must be specifically taken to prevent the occurrence of frauds involving the assets of the company”, Finance Director of Food All Limited addressing accounting staff...
Previous: IAS 2 ‘Inventories’ requires that inventories are measured at the lower of cost and net realizable value.

View More CPA Auditing and Assurance Questions and Answers | Return to Questions Index


Exams With Marking Schemes

Related Questions


  • “Action must be specifically taken to prevent the occurrence of frauds involving the assets of the company”, Finance Director of Food All Limited addressing accounting staff...(Solved)

    “Action must be specifically taken to prevent the occurrence of frauds involving the assets of the
    company”, Finance Director of Food All Limited addressing accounting staff of the company. Of
    particular interest to the directors are:
    •• The safety of unclaimed wages
    •• The receipt of cash from customers.
    •• The company’s cheque books
    •• Issue of credit notes to debtors.

    Required:
    a. For each of the above, explain how a fraud can occur in the area.
    b. What controls should be in place to prevent the occurrence of each of the frauds described in (a) above?

    Date posted: April 13, 2019.  Answers (1)

  • Tasty ice cream employs thirty salesmen each with defined geographical area coverage(Solved)

    Tasty ice cream employs thirty salesmen each with defined geographical area coverage. Each
    salesperson is supplied with a car which is changed every three years. At end of each week,
    each salesperson is submits claim on a preprinted form for expenses with supporting vouchers.
    Expenditure is on petrol, repairs and servicing the car, hotels, lunches and entertainment. Each
    claim is scrutinized by Beatrice who is the deputy chief accountant. She verifies that the claims
    are supported by the vouchers. She clears any inconsistencies with the salesperson concerned
    and makes out cheques for signatures by two company directors. The total amount paid in year
    ended 31/12/2006 was Kshs. 25,000,000. The company made a profit of Kshs. 125,000,000.

    Required:
    a. Discuss the short comings of this system and suggest ways of improving the system.
    b. List and describe the tests of control the auditor would undertake in this system.
    c. During the audit, the auditor discovered that a salesperson in one area was submitting
    false claims for entertaining customers. What actions should the auditor take?

    Date posted: April 13, 2019.  Answers (1)

  • An extract from the draft audit report produced by an audit junior is given below:(Solved)

    An extract from the draft audit report produced by an audit junior is given below:

    Basis of Opinion
    ‘We conducted our audit in accordance with Auditing Standards. An audit includes examination,
    on a test basis, of evidence relevant to the amounts and disclosures in the financial statements.
    It also includes an assessment of all the estimates and judgments made by the directors in the
    preparation of the financial statements, and of whether the accounting policies are appropriate to
    the company’s circumstances, consistently applied and adequately disclosed.
    ‘We planned and performed our audit so as to obtain as much information and explanation as
    possible given the time available for the audit. We confirm that the financial statements are free
    from material misstatement, whether caused by fraud or other irregularity or error. The directors
    however are wholly responsible for the accuracy of the financial statements and no liability for
    errors can be accepted by the auditor. In forming our opinion we also evaluated the overall
    adequacy of the presentation of information in the company’s annual report.’

    Required:
    Identify and explain the errors in the above extract.

    Date posted: April 13, 2019.  Answers (1)

  • List the audit procedures that should be carried out to determine whether or not the going concern basis is appropriate for Green Co.(Solved)

    List the audit procedures that should be carried out to determine whether or not the going
    concern basis is appropriate for Green Co.

    Date posted: April 13, 2019.  Answers (1)

  • Explain the directors’ responsibilities and the auditors’ responsibilities regarding financial statements prepared on the going concern principle.(Solved)

    Explain the directors’ responsibilities and the auditors’ responsibilities regarding financial
    statements prepared on the going concern principle.

    Date posted: April 13, 2019.  Answers (1)

  • Going concern concept is a fundamental assumption underlying the preparation of the financial statements. What are the procedures you would perform to ensure that the going...(Solved)

    Going concern concept is a fundamental assumption underlying the preparation of the financial
    statements. What are the procedures you would perform to ensure that the going concern is
    appropriate for you audit client.

    Date posted: April 13, 2019.  Answers (1)

  • Walsh Co sells motor vehicle fuel, accessories and spares to retail customers. The company owns 25 shops.(Solved)

    Walsh Co sells motor vehicle fuel, accessories and spares to retail customers. The company
    owns 25 shops. The company has recently implemented a new computerized wages system.
    Employees work a standard eight hour day. Hours are recorded using a magnetic card system;
    when each employee arrives for work, they hold their card close to the card reader; the reader
    recognizes the magnetic information on the card identifying the employee as being ‘at work’.
    When the employee leaves work at the end of the day the process is reversed showing that the
    employee has left work.
    Hours worked are calculated each week by the computer system using the magnetic card
    information. Overtime is calculated as any excess over the standard hours worked. Any overtime
    over 10% of standard hours is sent on a computer generated report by e-mail to the financial
    accountant. If necessary, the accountant overrides overtime payments if the hours worked are
    incorrect.
    Statutory deductions and net pay are also computer calculated with payments being made directly
    into the employee’s bank account. The only other manual check is the financial accountant
    authorizing the net pay from Walsh’s bank account, having reviewed the list of wages to be paid.

    Required:
    a. Using examples from Walsh Co, explain the benefits of using Computer-Assisted Audit
    Techniques to help the auditor to obtain sufficient appropriate audit evidence to be able
    to draw reasonable conclusions on which to base the audit opinion.
    b. List SIX examples of audit tests on Walsh Co’s wages system using audit software.
    c. Explain how using test data should help in the audit of Walsh Co’s wages system,
    noting any problems with this audit technique.

    Date posted: April 13, 2019.  Answers (1)

  • List and briefly explain some of the difficulties of using audit software.(Solved)

    List and briefly explain some of the difficulties of using audit software.

    Date posted: April 13, 2019.  Answers (1)

  • Nagaya a limited liability company is a reseller of sports equipment, specializing in racquet sports such as tennis, squash and badminton. (Solved)

    Nagaya a limited liability company is a reseller of sports equipment, specializing in racquet
    sports such as tennis, squash and badminton. The company purchases equipment from a
    variety of different suppliers and then resells this using the Internet as the only selling media.
    The company has over 150 different types of racquets available in inventory, each identified
    via a unique product code.
    Customers place their orders directly on the Internet site. Most orders are for one or two
    racquets only. The ordering/sales software automatically verifies the order details, customer
    address and credit card information prior to orders being verified and goods being dispatched.
    The integrity of the ordering system is checked regularly by Archer Web, an independent
    Internet service company.
    You are the audit manager working for the external auditors of Nagaya, and you have just
    started planning the audit of the sales system of the company. You have decided to use test
    data to check the input of details into the sales system. This will involve entering dummy
    orders into the Nagaya’s system from an online terminal.

    Required:
    List the test data you will use in your audit of the financial statements of Nagaya to confirm the
    completeness and accuracy of input into the sales system, clearly explaining the reason for each
    item of data.

    Date posted: April 13, 2019.  Answers (1)

  • Computer-Assisted Audit Techniques (CAATs) are used to assist an auditor in the collection of audit evidence from computerized systems.(Solved)

    Computer-Assisted Audit Techniques (CAATs) are used to assist an auditor in the collection
    of audit evidence from computerized systems.

    Required:
    List and briefly explain four advantages of CAATs.

    Date posted: April 13, 2019.  Answers (1)

  • Computer security is of vital importance not only to the accountant in industry but also to the accountant in practice who may be advising his client...(Solved)

    Computer security is of vital importance not only to the accountant in industry but also to the
    accountant in practice who may be advising his client as to suitable security controls or who
    may be auditing a computer system. Security is the means by which losses are controlled and
    therefore involves the identification of risks and the institution of measures to either prevent such
    risks entirely or to reduce their impact.

    a. State four areas of risk which may arise in relation to a computer system and in each
    case explain one factor which could lead to the system being exposed to such risk.
    b. Describe the different forms of control which should be instituted to safeguard against
    computer security risks.

    Date posted: April 13, 2019.  Answers (1)

  • A medium size firm which has been your client for several years has changed from manual accounting system to a computerized one. State and explain the...(Solved)

    A medium size firm which has been your client for several years has changed from manual
    accounting system to a computerized one. State and explain the factors which you will take into
    account when planning the first audit under the new system.

    Date posted: April 13, 2019.  Answers (1)

  • There are a number of different methods of obtaining audit evidence. Methods include:(Solved)

    There are a number of different methods of obtaining audit evidence. Methods include:
    •• Analytical procedures.
    •• Audit sampling
    •• Tests of controls.
    •• Detailed testing of transactions and balances.
    •• Computer assisted audit techniques (CAATs)
    These methods overlap and may be used for different purposes during an audit of financial statements.

    Required:
    Describe the relationship between the five methods of evidence gathering described above.

    Date posted: April 12, 2019.  Answers (1)

  • (Solved)

    Curdco is a company that runs a chain of fast food restaurants. The company has a centralized
    operating style and managers of individual restaurants have very limited decision-making powers
    on day-to-day operational matters. The company’s centralized administration is responsible for
    the buying of food, the payment of staff, the maintenance and cleaning of restaurants by staff
    employed by a national agency, and all other matters relating to the running of the business. The
    company has good internal controls over purchasing. Inventory counts are conducted at each
    restaurant at the year-end. Your firm has recently been appointed as auditor to Curdco.

    Required:
    a. List the account headings you would expect to find in Curdco’s schedule of accounts payable and accrued expenditure.
    b. Describe and give reasons for the audit tests you would carry out to obtain audit evidence for Curdco’s accounts payable and accrued expenditure.

    Date posted: April 12, 2019.  Answers (1)

  • Explain the difficulties faced by auditors, and the decisions that auditors have to make, in conducting direct confirmations of accounts payable.(Solved)

    Explain the difficulties faced by auditors, and the decisions that auditors have to make, in conducting direct confirmations of accounts payable.

    Date posted: April 12, 2019.  Answers (1)

  • The external audit process for the audit of large entities generally involves two or more recognizable stages. One stage involves understanding the business and risk assessment,...(Solved)

    The external audit process for the audit of large entities generally involves two or more recognizable
    stages. One stage involves understanding the business and risk assessment, determining the
    response to assessed risk, testing of controls and a limited amount of substantive procedures.
    This stage is sometimes known as the interim audit. Another stage involves further tests of
    controls and substantive procedures and audit finalization procedures. This stage is sometimes
    known as the final audit.

    Describe and explain the main audit procedures and processes that take place during the interim
    and final audit of a large entity.

    Date posted: April 12, 2019.  Answers (1)

  • Explain whether the following types of audit evidence meets the standards of relevancy, reliability and sufficiency as required by the auditor’s operational standards regarding: • Written confirmation...(Solved)

    Explain whether the following types of audit evidence meets the standards of relevancy,
    reliability and sufficiency as required by the auditor’s operational standards regarding:
    • Written confirmation of a trade debtor circularized at year end
    • Work-in-progress stocks identified during the annual physical stock count
    • Solicitor’s letter confirming pending legal action

    Date posted: April 12, 2019.  Answers (1)

  • Explain the meaning of the following terms; • Relevant audit evidence • Reliable audit evidence(Solved)

    Explain the meaning of the following terms;
    • Relevant audit evidence
    • Reliable audit evidence

    Date posted: April 12, 2019.  Answers (1)

  • Compare the responsibilities of the directors and auditors regarding the published financial statements(Solved)

    Compare the responsibilities of the directors and auditors regarding the published financial statements

    Date posted: April 12, 2019.  Answers (1)

  • The responsibilities of internal and external auditors in relation to the risk of fraud and error differ.(Solved)

    The responsibilities of internal and external auditors in relation to the risk of fraud and error differ.

    Explain the responsibilities of external auditors in respect of the risk of fraud and error in an audit
    of financial statements

    Date posted: April 12, 2019.  Answers (1)