AUDIT RISKS & RESPONSES

SERIAL NO. AUDIT RISKS AUDIT RESPONSES

IDENTIFY- ½ MARK 1 MARK
EXPLAIN- ½ MARK
1. Company is a new client. AF should ensure that they
suitable experienced team.
Team is not familiar with the
accounting policies,
transactions and account Adequate time should be
balances. There is a risk of allocated by the audit team.
error going undetected.
Obtain understanding of the
It further increases detection Audit Client.
risk.
Identify and assess the
RoMM including detailed
analysis of Key Audit Risks.
2. Inventory value has Detailed Cost or NRV
increased from prior year testing should be performed
(last year Inventory was 1.4 at year end.
m and this year 2.1 m)
Aged Inventory should be
IAS 2 Inventories, requires reviewed to assess weather
that the Inventory should be inventory requires to be
recorded at lower of Cost or written down.
NRV.

There is a risk that the

Inventory has not been
recorded correctly thus
overstating the Inventory.
3. The Company undertakes The auditor should discuss
continuous production in its with management the
factory. process they will undertake
As production will not cease, to assess the cut off point
the exact cut-off of the work for work in progress at the
in progress will need to be year end. This process
assessed. If the cut-off is should be reviewed by the
not correctly calculated, the auditor while attending the
inventory valuation may be yearend inventory count.
under/ over stated.
In addition, consideration
should be given as to
whether an independent
expert is required to value
work in progress. If so, this
will need to be arranged
with consent from
management and in time for
the year end count.
4. Ordered Plant and Discuss with the
Machinery, but half of the management as to whether
order have not yet been the remainibg plant and
delivered. machinery ordered have
 Only assets which physically arrived, if so, physically
exist at the year end should verify a sample of these
be included in property, assets to ensure existence
plant and equipment. If and ensure only appropriate
items not yet delivered have assets are recorded in the
been capitalised, PPE will non current asset register at
be overstated. the year end.

Consideration will also need Determine if the asset

to be given to depreciation received is in use at the
and when this should year end by physical
commence. observation and if so, if
If depreciation is not depreciation has
charged appropriately when commenced at an
the asset is available to use, appropriate point.
this may result in assets and
profits being over or under
stated.
5. Purchase of patent. The audit team will need to
In accordance with IAS 38 agree the purchase price
Intangible Assets, this to supporting documentation
should and to confirm the useful
be included as an intangible life.
asset and amortised over The amortisation charge
its life. If management has should be recalculated in
not correctly accounted for order to ensure the
the patent, intangible assets accuracy of the
and profits could be charge and that the
overstated. intangible is correctly valued
at the year end.

6. Company has taken a new During the audit, the team

loan. would need to confirm
The loan needs to be that the loan finance was
correctly split between received. In addition, the
current and split
non-current liabilities in between current and non-
order to ensure correct current liabilities and the
disclosure. disclosures for this loan
Also, as the level of debt should be reviewed in detail
has increased, to ensure compliance with
there should be additional relevant accounting
finance costs. There is a standards.
risk that this has been
omitted from the statement The finance costs should
of profit be recalculated
or loss leading to and any increase agreed to
understated finance costs the loan documentation for
and overstated profit. confirmation of interest
rates. Interest payments
should be agreed to the
cash book and bank
statements to
confirm the amount was
paid and is not therefore a
 year-end payable.

7. Company outsources the Discuss with management

payroll work. the extent of records
A detection risk arises as to maintained by the service
whether sufficient and entity and any monitoring of
appropriate evidence is controls undertaken by
available at Company to management over the
confirm the completeness payroll
and accuracy of controls charge.
over payroll. Consideration should be
If not, another auditor may given to contacting
be required to the service organisation’s
undertake testing at the auditor to confirm the level
service organisation. of controls in place.
The payroll processing had Discuss with management
transferred to the transfer process
service entity. If any errors undertaken and any controls
occurred during the transfer put in place to ensure the
process, these could result completeness and accuracy
in the payroll charge and of the data.
related employment tax Where possible, undertake
liabilities being tests of control to confirm
under/overstated. the effectiveness of the
transfer controls.

8 Land and buildings will be Discuss with management

revalued at the year the process adopted for
end. undertaking the valuation,
The land and buildings are including whether the whole
to be revalued at the year- class of assets was
end; it is likely that the revalued and if the valuation
revaluation surplus/deficit was
will be undertaken by an expert.
material. This process should be
The revaluation needs to be reviewed for compliance
carried out and with IAS 16.
recorded in accordance with
IAS 16 Property, Plant and
Equipment, otherwise non-
current assets may be
incorrectly valued.

9 Receivables for the year to Discuss with management

date are considerably the reasons for the
higher than the prior year. increase in receivables and
If this continues to the year management’s process for
end, there is a risk that identifying potential
some receivables may be irrecoverable debt. Test
overvalued as they are not controls
recoverable. surrounding management’s
credit control processes.
Extended post year-end
cash
 receipts testing and a review
of the aged receivables
ledger to be performed to
assess valuation. Also
consider the adequacy of
any allowance for
receivables.

10 Company is planning to Discuss with management

make some employees the status of the
redundant after the year redundancy announcement;
end. if before the year end,
Once the timing of this review supporting
announcement has been documentation to confirm
confirmed and if it is the timing.
announced to the staff In addition, review the basis
before the of and recalculate the
year end, then under IAS 37 redundancy provision.
Provisions, Contingent
Liabilities and Contingent
Assets a redundancy
provision
will be required at the year
end. Failure to provide will
result in an understatement
of provisions and expenses.

11 Goods in transit. The audit team should

At the year end, there is a undertake detailed cut-off
risk that the cut-off of testing of purchases of
inventory, purchases and goods at the year end and
payables may not be the
accurate sample of GRNs from
and may be before and after the year
under/overstated. end
relating to goods from
suppliers should be
increased to
ensure that cut-off is
complete and accurate.

12 Company has incurred Obtain a breakdown of the

expenditure in expenditure and verify
developing a new range of that it relates to the
products. development of the new
This expenditure is classed products.
as research and Undertake testing to
development determine whether the costs
under IAS 38 Intangible relate
Assets. The standard to the research or
requires development stage. Discuss
research costs to be the
expensed to profit or loss accounting treatment with
and the finance director and
 development costs to be ensure it is in accordance
capitalised as an intangible with IAS 38.
asset.
If the company has
incorrectly classified
research costs as
development expenditure,
there is a
risk the intangible asset
could be overstated and
expenses understated.

13 The bonus scheme for Throughout the audit, the

senior management and team will need to be alert
directors of the Company is to this risk and maintain
based on the value of year- professional scepticism.
end total assets. Detailed review and testing
There is a risk that on judgemental
management might decisions, including
be motivated to overstate treatment of provisions, and
the value of assets through compare treatment against
the judgements taken or prior years. Any manual
through the use of journal adjustments
releasing affecting assets should be
provisions or capitalisation tested in
policy. detail.
In addition, a written
representation should be
obtained from management
confi
rming the basis of any
significant judgements.
14 A new general ledger The auditor should
system was introduced undertake detailed testing
and the old and new to
systems were run in parallel. confirm that all of the
There is a risk of the balances at the transfer date
balances in the month of have
transfer been correctly recorded in
being misstated and loss of the new general ledger
data if they have not been system.
transferred from the old
system completely and The auditor should
accurately. If this is not document and test
done, this could result in the new system. They
the should review any
auditor not identifying a management
significant control risk. reports run comparing the
old and new system during
In addition, the new general the parallel run to identify
ledger system will require any issues with the
documenting and the processing of accounting
controls over this will need information.
to be
tested.
15 A number of reconciliations, Discuss this issue with the
including the bank finance director and
reconciliation, were not request that control account
performed at the year end, reconciliations are
Control account undertaken.
reconciliations provide All reconciling items should
comfort that be tested in
Accounting records are detail and agreed to
being maintained supporting documentation.
completely
and accurate.
At the year end, it is
important to
confirm that balances
including bank balances are
not
under or overstated. This is
an example of a control
procedure being overridden
by management and raises
concerns over the overall
emphasis placed on
internal
control.

16 Company’s previous finance Discuss with the new

director left after it finance director what
was discovered that he had procedures they have
been committing fraud adopted to identify any
with regards to expenses further
claimed. frauds by the previous
There is a risk that he may finance director.
have undertaken other In addition, the team should
fraudulent transactions; maintain their
these would need to be professional scepticism and
written be alert to the risk of further
off in the statement of profit fraud and errors.
or loss. If these have not
been uncovered, the
financial statements could
include
errors.

17 There have been a Review a sample of the post

significant number of sales year-end sales returns
returns made subsequent to and confirm if they relate to
the year end. pre year-end sales, that the
As these relate to pre year- revenue has been reversed
end sales, they should be and the inventory included
removed from revenue in in the year-end ledgers.
the draft financial
statements In addition, the reason for
and the inventory reinstated. the increased
 If the sales returns have not level of returns should be
been correctly recorded, discussed with
then revenue will be management.
overstated and inventory This will help to assess if
understated. there are underlying issues
with
the net realisable value of
inventory.

18 During year-end inventory During the final audit, the

count there were goods received notes and
movements of goods in and goods despatched notes
out. received during the
If these goods in transit inventory
were not carefully count should be reviewed
controlled, and followed through into
then goods could have been the
omitted or counted twice. inventory count records as
This would result in correctly included or not.
inventory being under or
overstated.

19 The audit client is a new Audit Company should

client for the auditors. ensure they have a suitably
As the audit team is working experienced team. Also,
with the client for the first adequate time should be
time they may not be allocated for team members
familiar with the Accounting to obtain an understanding
policies, transactions and of the company and the
balances, there will be an risks of material
increased detection risk on misstatement.
the audit.

20 The company undertakes The completeness of the

continuous (perpetual) continuous (perpetual)
inventory counts. inventory counts should be
Under such a system all reviewed. In addition, the
inventory must be counted level of adjustments made
at least once a year with to inventory should be
adjustments made to the considered to assess
inventory records. whether reliance on the
Inventory could be under or inventory
overstated if the continuous records at the year-end will
(perpetual) inventory counts be acceptable.
are not
complete and the inventory
records accurately updated
for adjustments.

21 A sales-related bonus Increased sales cut-off

scheme has been testing will be performed
introduced along with a review of any
in the year; this may lead to post year-end cancellations
 sales cut-off errors with of contracts as they may
employees aiming to indicate cut-off errors.
maximise their current year
bonus.

22 Out of the customers who A review of the aged

bought goods on credit receivables ledger to be
there are concerns about performed to assess
the creditworthiness of valuation. Also consider the
some customers. There is a adequacy of any allowance
risk that some receivables for receivables.
may be overvalued as they
are not recoverable.

23 Company has incurred The auditor should review a

expenditure on updating, breakdown of these
repairing and replacing a costs to ascertain the split of
significant amount of the capital and revenue
production process expenditure, and further
machinery. testing should be
If this expenditure is of a undertaken to ensure that
capital nature, it should be the classification in the
capitalised as part of financial
property, plant and statements is correct.
equipment
(PPE) in line with IAS 16
Property, Plant and
Equipment.
However, if it relates more
to repairs, then it should be
Expensed to the statement
of profit or loss (income
Statement). If the
expenditure is not correctly
classified,
Profit and PPE could be
under or overstated.

24 Inventory held at different The auditor should assess

warehouses. which of the inventory
At the year-end there will be sites they will attend the
inventory counts counts for. This will be any
undertaken in all with material inventory or
warehouses. It is unlikely which have a history of
that the auditor will be able significant errors.
to attend at all inventory For those not visited, the
counts and therefore they auditor will need to review
need to ensure that they the level of exceptions noted
obtain sufficient during the
evidence over the inventory count and discuss with
counting controls, and management any issues
completeness and existence which arose during the
of inventory for any count.
warehouses not visited. The auditor should review
 Inventory is stored within all supporting documentation
warehouses; if some are for all warehouses included
owned by company and within PPE to confirm
some rented from third ownership by company and
parties. to ensure non-current
Only warehouses owned by assets are not overstated.
company should be
included within PPE. There
is a risk of overstatement of
PPE and understatement of
rental expenses if company
has capitalised all
warehouses.

25 During the year an asset Review the non-current

has been disposed of at a asset register to ensure that
profit. the asset has been
The asset needs to have removed. Also confirm the
been correctly removed disposal
from property plant and proceeds as well as
equipment to ensure the recalculating the profit on
non-current asset register is disposal.
not overstated, and the
profit on disposal should be Consideration should be
included within the income given as to whether
statement. the profit on disposal is
significant enough to
warrant separate disclosure
within the income statement.

26 The company values Testing should be

inventory as selling price undertaken to confirm cost
less average profit margin and NRV of inventory and
(any other methods). that on a line-by-line basis
Inventory should be valued the
at the lower of cost and net goods are valued correctly.
realisable value (NRV) and In addition, valuation
if this is not the case, then testing
inventory could be under or should focus on comparing
overvalued. the cost of inventory to the
IAS 2 Inventories allows this selling price less margin to
as an inventory valuation confirm whether this
method as long as it is a method is actually a close
close approximation to cost. approximation to cost.
If this is not the case, then
inventory could be under or
overvalued.

27 Branches maintained their Discuss with management

own financial the process undertaken to
records and submitted transfer the data and the
returns monthly to testing performed to
head office. confirm the transfer was
The opening balances for complete and accurate.
each branch have been
transferred into the head Computer-assisted audit
office’s accounting. There is techniques
a risk that if this transfer has could be utilised by the team
not been performed to sample test the transfer
completely and accurately, of data from each
the opening balances may supermarket to head office
not be correct. to identify any errors.