Audit and Assurance

Suggested Answers
Certificate in Accounting and Finance – Spring 2022

Ans.1 (a) (i) Tests are carried out on program changes before they are introduced.
(ii) All new versions of programs must be authorised at an appropriate level of
management.
(iii) All changes to the existing program should be formally approved by the system
‘user’.
(iv) There should be a segregation of duties between the designers and testers of
systems.
(v) There should be full documentation of all program changes.

(b)  There should be a segregation of duties: the individual responsible for

preparing wages and salaries should not be the person who actually pays
them.
 The gross pay for each individual employee should be authorised by an
appropriate person.
 There should be formal authorisation of new employees.

Ans.2 (a) The auditor should consider the following matters while obtaining understanding of
APL and its environment. This will involve following factors:
 Obtaining the understanding of the tourism industry in which APL operate.
 Inquire specific laws and regulation applicable on tourism industry.
 Understand APL’s operations, the range of services it offers and its dynamics.
 Obtain the ownership structure, management structures and types of current
and planned investments.
 Assess APL’s selection and application of accounting policies, including
whether they are appropriate for its business and consistent with the industry
and the applicable financial reporting framework.
 Obtain understanding of APL’s strategies of managing the tough competition
and assess the business risk which may result in risks of material misstatement.
 Review the APLs financial performance.

(b) S# Business risk Audit risk

(i) Breach of the safety standards may Liabilities of APL might be
result in litigation against APL. understated as a result of non-
recognition of the provision in respect
Due to the increasing competition,
of the litigation.
any such incident will also affect
APL’s reputation. The disclosure regarding
contingencies may not adequately
disclose the effects of the pending
litigation.
(ii) Frequent upgradation of equipment is The frequent upgradation of
required to prevent accidents. equipment might decrease the useful
life of the equipment or might need to
be charged off instead of capitalizing
them.
(iii) APL’s competitor has introduced If the revenues keep on decreasing,
similar products at a low price which APL’s equipment may need to be
has affected APL’s revenue. tested for impairment.
(iv) Due to bank loan, APL will now have In order to meet bank’s covenants,
to manage its debt load and all the APL may overstate its revenue or
terms and conditions of that loan. understate its expenses to depict a
better picture to its lenders.
(v) There is a risk that a client may cancel There is a risk that APL may
its booking. Dealing with cancellation recognize commission as revenue
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 Audit and Assurance
Suggested Answers
Certificate in Accounting and Finance – Spring 2022

will also effect revenue flow of APL. even when the criteria for recording of
commission is not met.
(vi) It seems that APL may also face cash There is a risk that receivable from
flow challenges as it would have to customers is overstated and a
pay its debt on time, whereas it would provision for doubtful customers has
be receiving money from its not been recorded.
customers later on.
There is also a risk that APL may
offer credit to those customers who
are not financially viable and would
not be able to pay on time.

Ans.3 (i) This statement is not correct. Inherent risk operates independently of controls. It
cannot be controlled. The auditor must accept that the risk exists and will not ‘go
away’.
(ii) This statement is not complete as the audit risk is derived from errors arising out of
inherent risk which are not prevented/detected by entity’s internal controls and are
not detected by further audit procedures.
(iii) This statement is correct. Detection risk can be managed by the auditor in order to
control the overall audit risk, by increasing substantive procedures, therefore
reducing detection risk.
(iv) This statement is not correct. It is not necessary that if the inherent risk is high then
the detection risk will also be high because a strong control environment may reduce
the risk. However, the detection risk is adjusted in order to achieve the overall
required level of risk in the audit.
(v) This statement is correct because of the following:
AR = IR × CR × DR
Then DR = AR / (IR × CR)
DR = 0.10 / (0.5 × 0.80)
And therefore, DR=25%

Ans.4 Self-interest threat to compliance with the principles of integrity or professional behavior
might be created. As there may be questionable issues associated with the client owners
because of their registration abroad in tax heaven countries, it might create threat(s) of
client’s involvement in illegal activities, dishonesty, questionable financial reporting
practices or other unethical behavior.

To further evaluate this threat, we will have to obtain:

 knowledge and understanding of:
 the client;
 who are the eventual owners, management and those charged with governance;
and
 business activities.
 the client’s commitment to address the questionable issues raised by the firm.

A self-interest threat to compliance with the principle of professional competence and due
care is created if the engagement team does not possess, or cannot acquire the
competencies to perform the professional services.

Factors that are relevant in evaluating the level of such a threat include the following:
 Understanding of the nature of the DTL’s business; what type of IT services does it
provide.
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 Audit and Assurance
Suggested Answers
Certificate in Accounting and Finance – Spring 2022

 The complexity of DTL’s operations.

 The requirements of the engagement.
 The purpose, nature and scope of the work to be performed.
 Knowledge of relevant industries or subject matter.
 Experience with relevant regulatory or reporting requirements.
 The existence of quality control policies and procedures designed to provide
reasonable assurance that engagements are accepted only when they can be
performed competently.

The threats to professional competence and due care can be reduced by the following
safeguards:
 Assigning sufficient engagement personnel with the necessary competencies.
 Agreeing on a realistic time frame for the performance of the engagement.
 Using experts where necessary.

Ans.5 (a)  Verify the balance from bank statement/confirmation letter.

 Trace the ledger balance to the trial balance.
 Obtain and verify the interest working prepared by the management.
 Check whether the amount was also subsequently adjusted by the bank.
 Check from the bank statement that the excess charges have been reversed.
 Cash directly deposited in the bank is not a reconciling item. Ask the client to
record cash receipt in cash book.
 Ask the client to adjust the receivable balances and also record discount
expense.
 Verify subsequent clearance of these cheques.
 Ask the client to reverse the payment relating to suppliers.

(b) Yes, we can check to see when money was received and paid around the year end
and compare it to when the receipts and payments occurred.

Ans.6 Representation from management regarding any knowledge of fraud, which has occurred
is required. However, only obtaining the representation regarding management employees
narrows the representation. The representation should also include management and other
employees. Furthermore, the wording is more directed towards an absolute assurance that
no fraud has occurred. Preferably the representation should state that “no frauds...had
come to the attention of management” rather than “no frauds...have occurred”.

The auditor is required to obtain a representation from the management regarding the
related party relationship and transactions. However, in the above statement,
management has only given the representation of those related parties with which
transactions have been made. In fact, representation should to be obtained for all the
related party relationships, irrespective of the fact that whether transaction has been made
or not. Similarly, disclosures are also required for all related party relationships.

Materiality of uncorrected misstatement should be evaluated on aggregate basis instead of

individually. If aggregate uncorrected adjustments are immaterial, representation letter
may include the effect of any uncorrected immaterial misstatements.

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 Audit and Assurance
Suggested Answers
Certificate in Accounting and Finance – Spring 2022

Ans.7 (a) Reporting implication:

Multiple accounts balances of the financial statements are affected for which the
auditor has not been able to obtain sufficient appropriate audit evidence, which is a
scope limitation imposed by the circumstances. Since the undetected misstatements
are not confined to single specific element of the financial statements and these also
represent a substantial portion of the financial statements, it will have a pervasive
effect on the financial statements.

Auditor shall disclaim an opinion as they are unable to obtain sufficient appropriate
audit evidence on which to base the opinion, and the auditor concludes that the
possible effects on the financial statements of undetected misstatements, if any,
could be both material and pervasive.

Changes in the standard audit report:

When the auditor disclaims an opinion due to an inability to obtain sufficient
appropriate audit evidence, the auditor shall state in the opinion paragraph that:
 the auditor does not express an opinion on the financial statements.
 because of the significance of the matter(s) described in the Basis for
Disclaimer of Opinion paragraph, the auditor has not been able to obtain
sufficient appropriate audit evidence to provide a basis for an audit opinion;

 the auditor shall amend the opinion section of the auditor’s report to state that
the auditor was engaged to audit the financial statements.
 the auditor shall also amend the description of the auditor’s responsibility and
the description of the scope of the audit accordingly.
 unless required by law or regulation, when the auditor disclaims an opinion on
the financial statements, the auditor’s report shall not include a Key Audit
Matters section in accordance with ISA 701.

(b) Reporting implication:

The matter of application of IFRS 16 is significant as Smart Footwear operates
through number of rentals outlets. Furthermore, the change in accounting policy
and related adjustments have taken considerable time of audit team to verify. The
matter was also discussed and brought to the knowledge of those charged with
governance in the meeting of the audit committee and through board letter.
Considering all these factors, the auditor will add the matter of application of IFRS
16 as key audit matter in the audit report.

Changes in the standard audit report:

Since the financial statements of previous year were audited by another auditor, the
other matter paragraph will be added in the report which will mention that the
financial statements were audited by another auditor, the type of opinion expressed
and the date of that auditor’s report.

Ans.8 (a) Reliability of audit evidence is dependent on the following factors:

 Audit evidence is more reliable when it is obtained from independent sources
outside the entity under audit.
 Internally generated audit evidence is more reliable when the related controls
are effective.
 Audit evidence obtained directly by the auditor is more reliable than audit
evidence obtained indirectly or by inference.
 Audit evidence is more reliable when it exists in documentary form.
 Audit evidence provided by original documents is more reliable than audit
evidence provided by photocopies.
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 Audit and Assurance
Suggested Answers
Certificate in Accounting and Finance – Spring 2022

(b) Advantages of statistical sampling:

 Statistical sampling provides an objective, mathematically precise basis for the
sampling process.
 The required sample size can be calculated precisely (using statistical
probability techniques).

Dis-advantages of statistical sampling:

 A degree of training and technical expertise is required if auditors are to use
statistical sampling techniques effectively.
 This requires an investment in the necessary training for audit staff.

(c) The objective evaluation shall involve the following matters:

 Discussion of significant matters with the engagement partner;
 Review of the financial statements and the proposed auditor’s report;
 Review of selected audit documentation relating to the significant judgments
the engagement team made and the conclusions it reached; and
 Evaluation of the conclusions reached in formulating the auditor’s report and
consideration of whether the proposed auditor’s report is appropriate.
 Evaluation of the Firm’s independence in relation to the audit engagement;

Ans.9 (a) Financial Statement Impact:

The delay in the renewal and lack of agreement of the overdraft facility raises
material uncertainties over going concern. It needs to be determined that in case the
facility is not renewed, then would QFL would still be able to continue as a going
concern. In case there is only a material uncertainty then these should be adequately
disclosed in the financial statements to ensure that the users understand the details
of the uncertainties. If it is concluded that QFL is not a going concern then it’s
financial statements should be prepared as not a going concern.
Audit procedures:
(i) Review the correspondence of the bank with QFL’s management.
(ii) Review the board of director meeting minutes to assess the stage and likely
outcome of the with the bank.
(iii) Discuss with the management the status of negotiation with the bank.
(iv) Review the disclosures made by the management regarding the material
uncertainty / or the preparation of financial statement as not a going concern
basis.
(v) Obtain the management’s assessment of QFL ability to operate as a going
concern.
(vi) Evaluate the reasonableness of the assumptions taken by the QFL’s
management.
(b) Financial Statement Impact:
IAS 38 requires that the entity should be able to demonstrate the ability to sell the
intangible asset and generate future economic benefit. As BL’s competitor has
successfully launched its product and has captured majority of the market share, it
appears that the criteria for capitalization of development costs contained in IAS 38
Intangible Assets might not be met. Therefore, BL might have to either derecognize
the asset or consider booking an impairment loss.
Audit procedures:
(i) Test a sample of development costs for appropriate capitalisation.
(ii) Discuss the development project with management, to assess the feasibility of
the project and product.
(iii) Review revised projections and forecasts for using resources and generating
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 Audit and Assurance
Suggested Answers
Certificate in Accounting and Finance – Spring 2022

future economic benefits.

(iv) Assess marketing plans and whether a market still actually exists.
(v) Whether the entity will actually be able to use or sell the asset.
(vi) Discuss management’s intention to complete the asset and either use or sell it.
(vii) Inspect development contracts and records supporting and safeguarding
patents.

(THE END)

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