AA Re-cap

Further Audit Procedures

Test of control: An audit procedure designed to evaluate the operating effectiveness of controls in preventing, or
detecting and correcting, material misstatements at the assertion level.

Substantive procedures: An audit procedure designed to detect material misstatements at the assertion level.
Substantive procedures comprise:
a) Tests of details (of classes of transactions, account balances, and disclosures); and
b) Substantive analytical procedures.

Procedures for gathering evidence

Inspection

Inquiry

External confirmation

Recalculation

Re-performance

Analytical Procedures

Observation

Professional Marks

Professional scepticism and judgement

– Effective challenge of information supplied, and techniques carried out to support key facts and/or decisions
– Determination and justification of a suitable materiality level, appropriately and consistently applied
– Appropriate application of professional judgement to draw conclusions and make informed decisions about the
courses of action which are appropriate in the context of the audit engagement

Commercial acumen
– Audit procedures are practical and plausible in the context of the client
– Use of effective examples and/or calculations from the scenario to illustrate points or recommendations

Analysis and evaluation

– Appropriate use of the information to support discussion, draw appropriate conclusions and design appropriate
responses
– Identification of omissions from the analysis or further analysis which could be carried out

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 AAA Question

You are a manager in Foo & Co, responsible for the audit Answer format
of Grohl Co ( year ended 30 November, 2012), a company
which produces circuit boards which are sold to Matters to consider
manufacturers of electrical equipment such as computers
and mobile phones. 1.Materiality
The draft statement of financial position has not yet been
prepared, but Mo Satriani, Grohl Co’s finance director,
states that the total assets of Grohl Co at 30 November
2012 are $180 million. The revenue for the year is $12.5
millionand loss before tax for the year ended 30 2.Accounting
November 2012 is 0.3 million. treatment

In early November 2012, production was halted for a

week at the production facility which supplies the
domestic market. A number of customers had returned 3.Issues/Risks
goods, claiming faults in the circuit boards supplied. On based on
inspection, it was found that the copper used in the information
circuit boards was corroded and therefore unsuitable for given in the
use. The corrosion is difficult to spot as it cannot be case
identified by eye, and relies on electrical testing. All
customers were contacted immediately and, where
necessary, products recalled and replaced. The corroded
copper remaining in inventory has been identified and Recommended audit procedures
separated from the rest of the copper.

You have just received a phone call from Mo in which he

made the following comments:
‘There is something I forgot to mention in our meeting.
Our business insurance covers us for specific occasions
when business is interrupted. I put in a claim on 28
November 2012 for $5 million which I have estimated to
cover the period when our production was halted due to
the problem with the corroded copper. This is not yet
recognised in the financial statements, but I want to
make an adjustment to recognise the $5 million as a
receivable as at 30 November.’

Required:
Comment on the matters that should be considered,
and recommend the audit procedures to be performed,
in respect of the insurance claim. (6 marks)

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 IAS 37

Risk based on level of uncertainty rather than the amount!

1. Understand how the management makes estimates (discuss with the management)
✓ the method, assumptions, data used
✓ controls over the process of making estimates including approval (audit committee)
and calculations
✓ did they use an expert?

2. Test the process used by management to develop the estimate.

✓ test the calculations( recalculate for accuracy)
✓ compare with prior years if possible
✓ compare management’s prior year’s estimates with actual results where possible

3. Use an independent estimate for comparison with that prepared by management ( the independent
estimate can be made by the auditor or obtained from an expert if the auditor does not have the
expertise)

4. Review subsequent events which might confirm the estimate made

The AAA Exam:

For Provisions and contingent liabilities:

- Perform procedures to confirm:

✓ Present obligation(legal or constructive), past events
✓ Outflow ( probable or possible)
✓ Amount

For contingent assets:

- Perform procedures to check if inflow is probable or virtually certain.

- If probable, check adequacy and completeness of disclosure
- If virtually certain inflow, can recognize related asset and income

The easy marks:

- Obtain written representations from management and, where appropriate, those charged with governance
whether they believe significant assumptions used in making accounting estimates are reasonable.
- Ensure disclosures relating to accounting estimates are adequate and complete ( for each provision, disclosures
need to be given in addition to the double entry. Disclosure should include details of nature , timing ,
uncertainties and assumptions)

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 IAS 38

Development expenditure

1 Confirm Probable economic benefits

(market exists/internal usefulness)
2 Confirm intention to complete

3 Resources ( technical, financial, other)

4 Ability to use/sell

5 Technically feasible/viable

6 Expense measured reliably

( CANNOT capitalize general overheads,
operational losses, staff training)
7 Procedures on useful life - Enquire basis; evaluate if assumptions reasonable
- Written representation
- If indefinite life, ensure annual impairment test
8 Review adequacy and completeness of Disclosures (useful life, amortization method, if indefinite life explain
how this was determined, accumulated amortization and impairment losses)
Initial measurement: Cost

Subsequent : Cost or Revaluation model ( FV – accumulated amortization – accumulated impairment losses).

Revaluation model only if fair value can be determined by reference to an active market. Active markets are
uncommon for intangible assets but can exist for fishing licenses, taxi licenses for example)

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 IFRS 2

1 Board minutes - Approval

2 Plan document - Grant date
- Vesting date
- Number of employees given options
- Number of options per employee
- FV of options at grant date
- Conditions attached ( market based, non-market based)
3 Ensure Fair Value - Equity settled (at grant date, recognized over vesting period)
- Cash settled ( recalculated at year end and at settlement date)
4 Option pricing model ( FV) a) Use of expert to see valid FV (indp? Compotent?)
b) Model Appropriate?Review assumptions and input to
estimate FV (discuss basis with mngt)
c) Reasonableness of assumptions ( turnover rate, exercise
price, dividend yield, likelihood of vesting etc.)
d) Sensitivity of calculations to changes in assumptions
evaluated
5 Written representation That assumptions reasonable and that all shared based schemes have
been disclosed
6 Disclosure - the nature and extent of share-based payment arrangements
that existed during the period
- how the fair value has been determined

IFRS 5

1 Discuss with the management, the existence of assets held for sale.
2 Confirm that these - Decided to sell/committed to a plan to sell:
assets meet the
definition. - Available for immediate sale in present location & condition:

- Actively trying to sell and expect a sale in 12 months:

- Asset being marketed at a reasonable price (in relation to the FV):

3 Depreciation - Recalculate
- Ensure none since classification
4 Confirm at lowed of - CV: recalculate
CV and FV less costs - FV less costs to sell: as before
to sell ( any
impairment loss to
P&L)
5 Adequacy of disclosures ( description, expected timing, impairment loss)
6 Presentation:
- Separately on face of SOFP ( separately with TA and TL- not net off)
- P&L: separate results

VERY imp: Discontinued operations – from SKANS Notes.

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 IAS 36

Annual impairment review: indefinite useful life, acquire goodwill, intangible asset not yet available for use

Indicators: technical, market, economic ( legal environment, increased market rates), assets idle/held for sale,
investment in joint venture when carrying value is greater than joint venture assets)

1 Look for impairment indicators in the question.

2 Request a copy of impairment review done by management. If the impairment review has been done, audit it.
If not, ask them to conduct a review.

3 Audit the impairment review

Carrying Value -→ Records

Fair Value less costs to sell ( both estimates)

➢ Fair Value: Expert
➢ Costs to sell:
❖ Recalculate to confirm arithmetical accuracy
❖ Cost of delivery: published rates
❖ Ensure includes transaction taxes , stamp duty
❖ Ensure only appropriate costs added ( for e.g. not overheads, only directly
attributable)
❖ Discuss basis with mngt- reasonable?

Value in use
➢ Existence and condition of tangible asset: physical inspection
➢ Projected cash flows (reasonable? In-line with auditor’s understanding of the client?):
❖ Check authorization (should be by audit committee)
❖ Match to budgets and forecasts
❖ Match last year’s projections with last year’s actual
➢ Ensure discounted to present value ( pre-tax market rate)
➢ Ensure includes income from disposal of asset at the end of useful life but excludes financing
and tax activities
➢ Written representation: reasonableness of assumptions

4 Impairment loss to P & L ( unless on revalued amount)

5 If impaired, ensure depreciation on revised carrying value (recalculate)

6 Review adequacy of Disclosures ( discount rate, assumptions)

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 IAS 24

Example of Related Parties: Board of directors, senior management, shareholders with significant influence, subsidiaries,
joint ventures.

Risky because: management might be unaware about these transactions; definition of related parties is subjective; such
transactions normally have zero/minimum value;accounting systems are not set up to identify such transactions.

Procedures to identify related parties:

- Minutes of meetings
- Last year’s audit file
- Management enquiry
- Review of key management information

1 Enquire from the management - Identification of related parties

- Any transactions with them
- Management’s internal controls to identify,
account for, disclose and approve such
transactions

2 For all related party transactions - Ensure accounted for correctly

- Disclosure adequate and complete
➢ Nature of transaction
➢ Amount
➢ Terms and conditions
➢ Any outstanding amount at the year
end
- Approval from minutes
- Review whether there is a business rationale for
the transaction

3 Obtain written representation - Management has told auditors about all related
parties
- Accounted for correctly
- Disclosed correctly

4 Conduct procedures specific to the transaction in

the question.

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 Using the work of others/ Relying on the work of others

Checklist for AAA-LEARN!

- Using the work of a component auditor
- Using the work of an expert
- Using the work of service organization
- Using the work of client’s Internal Auditor

Using the work of an expert

The auditor could be replying on the management’s expert or using his own expert!

1 Objectivity evaluated - Interest in client

- Relationship with client

2 Competence evaluated - Experience, reputation in the field

- Membership/license/professional certification

3 Scope of work that auditor has agreed - Objectives

with the expert (when auditor is using - How the work will be used
his own expert) - Methodology and assumptions
4 Relevance of conclusions - Source data used ( should be adequate, complete, reliable)
- Appropriateness of assumptions and methods
- Correct accounting period
- Consistent with auditor’s knowledge of the client and other
procedures conducted
- Recalculate for accuracy

Reminder: can’t refer to the use of the expert’s work in the audit report

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 Auditing when client has used a service organization

Service organization:

- Fully maintains ( records the transactions as well as processes the data) OR

- Executes/processes transactions only at request of entity ( client maintains internal records)

Examples of service organization services that are relevant to the audit include:
❖ Maintenance of the user entity’s accounting records.
❖ Management of assets.
❖ Initiating, recording or processing transactions as agent of the user entity.

Auditor’s work on the outsourced area

1. Obtain understanding of the nature of services provided by the service organization (mngt discussion)

2. Study contract between service organization and the client. Also check if the auditor will be given the right to
access service organisation’s internal control

3. Consider internal controls applied by the client to the transactions processed by the service. Enquire from the
management if any independent records are being maintained by the client as back up

4. Consider materiality of the transactions processed

5. The auditor can visit the service organization and perform procedures that will provide the necessary
information about the relevant controls at the service organization

6. The auditor can ask for a report on internal control from the service org’s auditor! Either a Type 1 report or Type
2
✓ Type 1: Report on design of internal controls only
✓ Type 2: Report on design PLUS operating effectiveness of internal controls(TOC)

7. The auditor can request specific information from the service organization if needed

8. Enquire from the management whether the service organization has reported any fraud, non-compliance with
laws and regulations or uncorrected misstatements affecting the financial statements

The user auditor shall not refer to the work of a service auditor!

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 - Written permission from the client
- Written agreement from IA re. confidentiality
- NOT allowed for judgmental or risky areas

Reminder: CANNOT refer to the use of work if IA in the audit report.

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 Audit work on Other Information in documents containing audited F/S

1. Read all other information in the annual report/ Integrated report

2. Identify material inconsistencies with F/S (i.e. clashes b/w OI and F/S)

3. If material inconsistency discovered, identify whether the issue is in the F/S or Other Information
a) If in the F/S and amendments not made, opinion might be affected
b) If in the Other Information and changes not made by the management, mention in the paragraph
dedicated to other information in the audit report

4. If material inconsistency of fact (unrelated to F/S), communicate to TCWG.

Opening balances in initial audit engagements- self-study and LEARN!

(Initial: prior year not audited or prior year audited by another firm)

1. Read the most recent financial statements for information relevant to opening balances, including disclosures.

2. Determine whether the prior period’s closing balances have been correctly brought forward.

3. Determine whether the opening balances reflect the application of appropriate accounting policies.

4. Depending on the nature of the opening balances, specific audit procedures are performed to gain specific
evidence on those opening balances.

5. Additional procedures would be required if it appears that the opening balances contain misstatements that
could materially affect the current period’s financial statements.

6. Obtain sufficient appropriate evidence about whether the accounting policies have been consistently applied in
the current period’s financial statements, and that any changes in accounting policies have been accounted for
and disclosed in accordance with IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors.

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