THE INSTITUTE OF CHARTERED ACCOUNTANTS OF PAKISTAN

Audit, Assurance and Related Services

Examiners’ comments and Suggested answers
Certified Finance and Accounting Professional (CFAP) – Summer 2017
Examinations

Overall General Comments:

The overall performance was slightly better than the previous attempt as 14.07% students
secured passing marks as compared to 13.70% in the previous attempt. Performance
remained weak in those areas which have not been tested in the recent past like question
1(b) and question 2 and 5 and also where a slightly different style of testing was adopted
such as in question 1(a).

Question-wise comments:

Question 1

General comments:

02.59% candidates secured passing marks in this question.

Part (a)

Common errors:

1. Instead of stating the information which the auditor would like to obtain, students tried
to identify the risks and in some cases, the procedures which would need to be
performed.
2. Generally the students didn’t consider the need to obtain information about the
lawyer’s opinion. Probably they felt that the prices have been raised after consulting
the lawyer and therefore no further opinion was required. In fact, lawyer’s opinion on
both situations i.e. the basis on which he had allowed the company to proceed with the
price increase and his views on the notice received, were important for the auditor.
3. Some other key points such as grounds on the basis of which the notice was issued,
disposal of investment and the consequent issues, information regarding the events
occurring up to the date of the auditor’s report, assumptions used for projecting future
profitability and impairment testing, etc. were also not identified.

Suggested answer:

I would like to obtain the following information for evaluating the key issues arising from the
given scenario:

Going concern:

(i) Management’s assessment/future projections justifying the use of going concern

assumption.
(ii) Assumptions used therein.

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 Examiners’ comments and Suggested answers on Audit, Assurance and Related
Services, CFAP Examination Summer 2017

Impairment of intangible assets:

(i) Patent agreement and the amortization policy.

(ii) Working related to impairment testing and the assumptions used there in.

Deferred tax asset:

(i) Projections of future profitability.

(ii) Assumptions used therein.

Show cause notice:

(i) Grounds on which RA has issued the notice.

(ii) Legal advisor’s opinion on the matter.
(iii) Details of previous price increases, their basis and whether any approval was sought
/taken.
(iv) Correspondence with the relevant regulatory authorities.

Investment in PCL:

(i) Reason for decrease in investment i.e. disposal, impairment, recording of loss/dividend
under equity method.
(ii) Gain/loss on such disposal and how was it accounted for.
(iii) Procedure followed to carry out the disposal.
(iv) In case of loss, impact on remaining investments, if any.

Other matters:

Information regarding the events occurring up to the date of the auditor’s report.

Part (b)

Common errors:

1. Students were unaware of what matters are to be reported to those charged with
governance. They only discussed the administrative matters relating to the conduct of
audit.
2. Instead of mentioning the specific information based on the given scenario, selected
contents of ISA 260 were reproduced.
3. Though it was clearly mentioned in the question that it may be assumed that all issues
have been satisfactorily resolved, matters relating to qualification of report were
commonly discussed.
4. A key point that the improved performance seemed mainly on account of price
increase and any adverse decision of the regulator with respect to price increase may
have serious consequences, was missed.

Suggested answer:

The following matters will be reported to those charged with governance:

Going concern:

 The entity has significant brought forward losses.

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 Examiners’ comments and Suggested answers on Audit, Assurance and Related
Services, CFAP Examination Summer 2017
 Significant amount of liabilities are outstanding. The current liabilities exceed the current
assets of the company and the current ratio is only 0.68.
 Long-term debt is 5.13 times the equity.
 Although, the profitability, debt equity ratio and current ratio has improved this year, the
improvement is mainly due to the price increase. If the decision of the RA goes against
the company, the situation could become much worse.
 Key assumptions of the future projections provided by the management.

Decrease in carrying value of investment in PCL:

 Reason for the decrease and its implication (if any).

 Significance of the matter and any defect in the process followed to carry out the
transaction.

Show cause notice by RA:

 Details of the notice issued by RA, its significance to the financial statements.
 Disclosure requirement in the financial statements.

Impairment of intangibles:

 Results of impairment testing and the key assumptions used.

Deferred tax:

 The recognition of deferred tax asset is subject to the availability of future taxable
benefits.
 Key assumptions of the working provided by the management in respect of the above.

Question 2

General comments:

15.45% candidates secured passing marks in this question.

Part (a)

Common errors:

1. The poor performance was mainly because the candidates did not appreciate the fact
that the question was on planning rather than execution and/or because they had very
little knowledge of currency swaps.
2. In the planning stage the auditors are mainly concerned with assessing the risk of
material misstatement and in this regard they focus on gathering relevant information.
Generally the candidates could not explain this approach with confidence and
produced vague answers.
3. General issues concerning the planning were mentioned rather than issue specific to
foreign currency swap.
4. The candidates failed to understand that currency swap contracts represent a
significant accounting estimate, therefore the requirements of ISA-540, Auditing
Accounting Estimates, including fair value Accounting Estimate, and related
disclosure were mostly ignored.

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 Examiners’ comments and Suggested answers on Audit, Assurance and Related
Services, CFAP Examination Summer 2017
Suggested answer:

While planning the audit of currency swap contracts, the auditor is required to obtain the
understanding of the following in order to provide a basis of the identification and assessment
of the risks of material misstatement for estimates used in the valuation of currency swap as
per the requirement of ISAs:

(i) The requirements of the applicable financial reporting framework relevant to

accounting estimates, including related disclosures.
(ii) Management means / procedures for identification of transactions, events and
conditions that may give rise to new, or the need to revise existing, accounting
estimates.
(iii) How management makes the accounting estimates, and an understanding of the data
on which they are based, including:

 The method used in making the accounting estimate.

 The assumption underlying the accounting estimates.
 Relevant controls.
 Whether management has used an expert.
 Consider the use of auditor’s expert.
 Whether there has been or ought to have been a change from the prior period in the
methods for making the accounting estimates, and if so, why.
 Whether and, if so, how management has assessed the effect of estimation
uncertainty.

Part (b)

Common errors:

Valuation of Currency Swap

Steps related to verification of the valuation rates were not mentioned.

Actuarial liability

1. Responsibilities of the actuary or the steps to be performed by him were stated instead
of the auditor.
2. Competence of the valuer was discussed in too much detail whereas other steps were
missed.

Suggested answer:

Audit procedures to be performed for valuation of currency swap contract:

(i) Obtain the details of the foreign currency swap contracts;

(ii) Assess the reasonableness of assumptions used in the foreign currency swap contracts;
(iii) Verify the valuation rates used, if available from authentic websites (e.g. Bloomberg);
(iv) Check subsequent settlement of contracts, if any, for verification of the valuation rates.
(v) In case valuation methodologies have been used in valuation of derivative contracts
then apart from assessing the reasonableness of the assumptions, get the valuation re-
performed for the contract by the auditor.

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 Examiners’ comments and Suggested answers on Audit, Assurance and Related
Services, CFAP Examination Summer 2017
(vi) Evaluate whether the auditor’s expert has the necessary competence, capabilities and
objectivity for the auditor’s purposes.

Audit procedures to be performed for actuarial liability:

(i) Assess that the management expert should have relevant competence and capable
enough of doing the tasks assigned.
(ii) Evaluate whether the auditor’s expert has the necessary competence, capabilities and
objectivity for the auditor’s purposes.
(iii) Obtain and ensure the completeness and accuracy of the data in respect of staff
retirement benefits provided by the management to the management and auditor’s
expert.
(iv) Independently assess the accuracy of the assumptions pertaining to salary increase
rate, discount rate, retirement age, pension indexation, if any on the basis of historical
trend and current status of the things.
(v) Discuss and resolve the differences, if significant, between the report of the expert and
report of auditor’s expert.
(vi) Ensure that proper disclosure is given in the financial statements in respect of defined
benefit plan liability.

Question 3

General Comments:

50.95% candidates secured passing marks in this question.

Part (a)

Common errors

1. The students did not understand that the two firms were network firms and
therefore each firm would be subject to the same independence requirement while
accepting an assignment involving clients of the network firms, as would be
applicable in case of its own clients.
2. Those students who correctly identified that the two firms were network firm,
declared that internal audit assignment cannot be accepted which was not correct as
internal audit assignments pertaining to some areas may still be accepted. (Please
refer suggested answer for further guidance).

Suggested answer:

Our firm and Akbar Ali and Company are Network firms due to common quality control
department and common quality control policies and procedures.

The firm shall be independent of the audit client of the network firms, also.

Therefore, the provision of internal audit services will create a self-review threat to
independence, in the same manner, as if the assignment was taken by the firm itself.

Since our client is a public interest entity, we shall not provide the internal audit services
relating to the following:

 A significant part of the internal controls over financial reporting.

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 Examiners’ comments and Suggested answers on Audit, Assurance and Related
Services, CFAP Examination Summer 2017
 Financial accounting systems that generate information that is significant to the client’s
accounting records or financial statements on which the firm will express an opinion: or
 Amounts or disclosures that are material to the financial statements on which the firm
will express an opinion.

The firm may accept the engagement except for the above mentioned internal audit service
but it should ensure that it does not get involved in management decision making.

If the firm gets involved in management decision making, the threat created would be so
significant that no safeguards would reduce the threat to an acceptable level.

Part (b)

Common errors:

1. There were two reasons for concern in the given situation i.e. Sameer’s close
relationship with Saqib and their managerial positions. Mostly, the students did not
mention the second point.
2. Inappropriate safeguards were identified such as (i) ensure that Sameer does not
have close relations with any of the audit team members, (ii) ensure that other
senior managers are also assigned to the job along with Sameer, etc.

Suggested answer:

Due to close personal relationship between Sameer and Saqib, self-interest, familiarity and
intimidation threats may be created.

The threats are significant due to close personal relationship and managerial positions of
Saqib and Sameer. The significance will also depend on the interaction of Sameer with the
assurance team;

Safeguards may include:

 structuring Sameer’s responsibilities to reduce any potential influence over the assurance
engagement; or
 having the relevant assurance work reviewed by a chartered accountant.

Question 4

General comments:

80.79% candidates secured passing marks in this question.

Common errors:

1. Totally incorrect procedures were observed such as obtaining confirmation from

selected customers, ensuring that credit notes have been issued in case of sales
returns, procedures to ensure that sales were not overstated, etc. Some of them even
mentioned about obtaining confirmation from Spectrum Limited who had
appointed them!

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 Examiners’ comments and Suggested answers on Audit, Assurance and Related
Services, CFAP Examination Summer 2017
2. Unrelated findings were reported i.e. which did not arise from the procedures which
had been carried out.

Suggested answer:

Report of Factual Findings

Board of Directors,
Spectrum Limited,
Karachi.

Dear Sirs,

We have performed the procedures agreed with you and enumerated below with respect to
the verification of royalty. Our engagement was undertaken in accordance with the
International Standards on Related Services applicable to agreed upon procedures
engagements. The procedures were carried out solely to assist you in verification of the
royalty.

The procedures are summarised as follows:

(i) We obtained the list of all invoices issued by the company and agreed the total with
the total sales reported in the financial statements.
(ii) We selected every 10th invoice and traced the sales (if any) of product X, from the
invoice onto the list of transactions and checked the price charged with the rate list
applicable to different customers.
(iii) For every selected invoice of product X, we checked that the royalty had been
recorded as per the agreed rates.

Findings

We report our findings below:

(i) With respect to item (i) we found that the total list of all invoices was in agreement
with the total sales reported in the financial statements.

(ii) With respect to item (ii) we found that price charged was in agreement with the
rate list.

(iii) With respect to item (iii) we found that royalty had been recorded as per the agreed
rates.

Because the above procedures do not constitute an audit or a review in accordance with
International Standards on Auditing or International Standards on Review Engagements, we
do not express any assurance on the royalty.

Had we performed additional procedures or had we performed an audit or review of financial

statements in accordance with International Standards on Auditing or International
Standards on Review Engagements, other matters may have come to our attention that
would have been reported to you.

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 Examiners’ comments and Suggested answers on Audit, Assurance and Related
Services, CFAP Examination Summer 2017
Our report is solely for the purpose set forth in the first paragraph of this report and for your
information and is not to be used for any other purpose or to be distributed to any other
parties. This report relates only to the accounts and items specified above and do not extend
to financial statements of LCL, taken as a whole.

AUDITOR
NAME
ADDRESS

Question 5

General comments:

02.17% candidates secured passing marks in this question.

Common errors:

1. Controls as mentioned in the question were stated, such as, payroll is sent to MPL
for authorization, PayPro shares type 1 report, etc., without any further comments,
whereas, the requirement was to specify the procedures to assess the effectiveness
of the controls.

2. It was suggested that there was scope limitation and that the assignment should not
be accepted.

3. General statements were produced such as when a control would be considered to

be operating effectively i.e. when it is expected to control misstatements,
importance of controls in the given situation, assess whether controls employed by
MPL are relevant (it was actually the question as to how to do it), etc.

Suggested answer:

 As the payroll is sent to MPL for authorization, therefore it implies that a high degree
of interaction exist between PayPro and MPL.
 In these circumstances MPL can easily implement effective controls over those
transactions.
 Accordingly, there is no limitation of scope because of our inability to visit PayPro.
 We would test controls implemented by MPL for the authorization of payroll and
related data.
 However, there is still a need to evaluate the controls applied by PayPro.
 A type 1 report will not be helpful in evaluation of controls at PayPro. Though, it
includes the service auditor’s opinion on the description of the service organisation’s
system, control objectives and related controls and the suitability of the design of the
controls to achieve the specified control objectives, it does not provide any evidence
of the operating effectiveness of the relevant controls.
 Since PayPro only provides type 1 report therefore, we may contact PayPro, through
MPL, to request that type 2 report should also be provided. Further, we may also
decide not to rely on the auditor giving the type 2 report. In that case, we may appoint
another auditor to perform procedures at PayPro i.e. to test the operating effectiveness
of those controls.

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 Examiners’ comments and Suggested answers on Audit, Assurance and Related
Services, CFAP Examination Summer 2017
Question 6

General comments:

14.55% candidates secured passing marks in this question.

Part (a)
Common errors:

1. The type of modification drafted was different from the type of modification which
was recommended while evaluating the situation.
2. It was not clearly stated that the debt needed to be classified as a current liability.
3. It was suggested that a disclaimer should be given which was totally incorrect.
4. Basis of qualification was not drafted properly. Mostly, reference to the note to the
financial statements and the financial impact were missing.
5. Emphasis of matter paragraph was suggested and drafted which was not appropriate
in the given scenario.

Suggested answer:
Evaluation of the situation:

 The debts should have been shown as current debts in accordance with the terms of the
loan agreements.

 The verbal confirmation from the banks cannot be a replacement to avoid showing loans
as current liabilities as nothing is in writing.
Furthermore, even if the bank confirms it even then it is a subsequent non-adjusting event
as this has been done subsequent to year-end, and on the balance sheet there was a breach
of loan covenants.

 In addition to this the period of grace should be atleast of twelve months after the
reporting date within which the Naveed Limited can rectify the breach.

Basis for qualified opinion

As more fully explained in note xx to the financial statements, the debt covenants of the loans
as at 30 June 20XX have been breached by the company. Accordingly, the long term loans
reflected in the statement of financial position of the company amounting to Rs. XXX million
should have been classified as “current liabilities” as the terms of the loan require immediate
repayment of loan in case of breach of debt covenants.

Part (b)
Common errors:

1. Irrelevant controls were specified which could not play any role in the identification of
frauds such as, controls over recording of claims and verification of payments, etc.
were specified which were totally irrelevant.

2. Students did not seem to have any idea about the working of an insurance company
and suggested totally irrelevant and impractical steps i.e. match external surveyor’s
report with internal surveyor’s report, ask the client to sign on the surveyor’s report,
etc.
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 Examiners’ comments and Suggested answers on Audit, Assurance and Related
Services, CFAP Examination Summer 2017
Suggested answer:

Suggested controls for claim verification:

(i) Employ a panel of qualified surveyors with good reputation.

(ii) Segregation of duties relating to the claim process.
(iii) Monitoring the time lag between policy issuance and claim reported and between
the claim lodge and settlement date, and investigate unusual cases.
(iv) A second survey may be conducted on a test basis especially in unusual cases.
(v) Surveyors should be required to submit pictures of the damaged assets whenever
possible.
(vi) Monitor which agent and insuree has the highest claim ratio.
(vii) Review the total claims verified by each surveyor and compare it with value of assets
insured to identify unusual ratio.

Question 7

General comments:

35.45% candidates secured passing marks in this question.

Common errors:

1. The requirement of the question was not understood i.e. how to assess the extent
of reliance to be placed on the work of the component auditor and consequently,
procedures which would be performed as part of the audit were described such as
meeting with component auditor to obtain understanding of the component and
its environment, discussing with component auditor about risk of material miss-
statement, etc.

2. Too much stress was laid on the qualification and experience of the auditor and
the remaining aspects were ignored.

Suggested answer:

Procedures:

(i) Assess whether the degree of access to be provided to us by the component auditor is
sufficient.
(ii) Assess the professional competence of Sun Limited’s (SL) auditor by obtaining
information about his membership with relevant professional bodies.
(iii) Obtain confirmations from professional bodies under which the auditor of SL is
registered with and his good standing etc.
(iv) Obtain a statement from the auditor of SL that it has complied with the relevant
ethical requirements.
(v) Review the code of ethics followed by the auditor of SL, and assess whether ethical
requirements of that code are in agreement with the ethical requirements relevant to
the group audit.
(vi) Ascertain the competence and qualification of staff assigned by the auditor of SL to
assess whether they have necessary skills to address the issues related to the group
audit.
(vii) Ascertain the quality control policies and procedures used by the auditor of SL.
(viii) Determine whether the auditor of SL’s is a member of network of audit firms and
inquire whether the network firm carries out regular quality reviews.
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 Examiners’ comments and Suggested answers on Audit, Assurance and Related
Services, CFAP Examination Summer 2017
(ix) Discuss the audit methodology to be used by SL’s auditor and whether it would be
sufficient for the group audit and determine the necessary audit instructions to be
issued.
(x) Identify the differences in the applicable financial reporting framework of the group
and the component, if any and obtain a statement that the component auditor
understands the applicable financial reporting framework.
(xi) Request any results of monitoring or inspection visits conducted by the regulatory
authority.

Question 8

General comments:

21.32% candidates secured passing marks in this question.

Common errors:

1. Steps relating to audit of historical financial statements were commonly included

along with steps related to report on the forecast.

2. Important points were missed such as obtaining understanding of the business,

review of market research report to assess projected sales, tax working and
management representation.

Suggested answer:

Examination procedures should include the following:

 Obtain an understanding of the business of DFL.

 Discuss how the management has developed the significant assumptions and assess
the reasonableness thereof.
 Inquire about the process of making the prospective information and the internal
controls over the system used to prepare prospective financial information.
 Inquiry about the expertise and experience of those preparing the information.
 Inquire about accuracy of previous prospective information made by the management
and the estimates and basis used.
 Ensure that accounting policies used in preparing the prospective financial information
are consistent with those used in historical financial information and comply with the
applicable financial reporting framework.
 Confirm expected timeframe for the import and installation of machinery by referring
to vendor quotations/communication.
 Confirm that the sales of new flavours have been assumed from the date the machine
is ready for commercial production.
 Verify the production capacity of the new plant to corroborate the projected revenue.
 Review market research documents to assess the reasonableness of projected sales
quantities and review prices charged by competitors for the premium flavors.
 Assess the reasonableness of staff cost through average employee turnover rate and
the salary growth rates.
 Discuss the expected decrease in production costs with the management and review
the information on which the projection is based.

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 Examiners’ comments and Suggested answers on Audit, Assurance and Related
Services, CFAP Examination Summer 2017
 Obtain information from management about major ingredients and wastage
percentages etc. to review the projected cost of raw material.
 Review how cost of repairs and maintenance has been projected and whether the fact
that it is a new plant has been considered.
 Verify the cost of the new plant from supplier’s quote and bills related to import and
installation costs to calculate the depreciation expense.
 Check how the management has accounted for the gain/loss on disposal of the old
plant and equipment.
 Check whether projections related to juices segment are based on past trends and
discuss any major changes in the market, processes, etc. and the effect thereof on the
projections.
 Recalculate the finance cost.
 Review the tax workings.
 Carry out analytical review.
 Obtain written representations from the management regarding the assumptions used
intended use of prospective financial information and management’s acceptance of its
responsibility for the prospective comprehensive income.

(THE END)

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