Question 2a ii
You are a manager in Sambora & Co, responsible for the audit of the Jovi Group (the Group), which is listed. The Group’s main activity is steel manufacturing and it comprises a parent company and five subsidiaries. Sambora & Co currently audits all components of the Group.
You are working on the audit of the Group’s financial statements for the year ended 30 June 2012. This morning the audit engagement partner left a note for you:
‘Hello
The audit senior has provided you with the draft consolidated financial statements and accompanying notes which summarise the key audit findings and some background information.
At the planning stage, materiality was initially determined to be $900,000, and was calculated based on the assumption that the Jovi Group is a high risk client due to its listed status. During the audit, a number of issues arose which meant that we needed to revise the materiality level for the financial statements as a whole.
The revised level of materiality is now determined to be $700,000. One of the audit juniors was unsure as to why the materiality level had been revised. There are two matters you need to deal with:
Assess the implications of the key audit findings for the completion of the audit. Your assessment must consider whether the key audit findings indicate a risk of material misstatement. Where the key audit findings refer to audit evidence, you must also consider the adequacy of the audit evidence obtained, but you do not need to recommend further specific procedures. (18 marks)
Thank you’
The Group’s draft consolidated financial statements, with notes referenced to key audit findings, are shown below:
Draft consolidated statement of comprehensive income
| note | 30 jue 2012 | 30 june 2011 | |
| draft | actual | ||
| $'000 | $'000 | ||
| revenue | 1 | 98795 | 103100 |
| cost of sales | -75250 | -74560 | |
| ---------- | ---------- | ||
| gross profit | 23545 | 28540 | |
| operating expenses | 2 | -14900 | -17500 |
| ---------- | ---------- | ||
| operating profit | 8645 | 11040 | |
| share of profit of associate | 1010 | 900 | |
| finance costs | -380 | -340 | |
| ---------- | ---------- | ||
| profit before tax | 9275 | 11600 | |
| taxation | -3200 | -3500 | |
| ---------- | ---------- | ||
| profit for the year | 6075 | 8100 | |
| other comprehensive income/expense for the year, net of tax | |||
| gains on property revaluation | 3 | 800 | ---- |
| actuarial losses on defined benefit plan | 4 | -1100 | -200 |
| ---------- | ---------- | ||
| other comprehensive income/expense | -300 | -200 | |
| ---------- | ---------- | ||
| total comprehensive income for the year | 5775 | 7900 | |
| ======= | ======= |
Notes: Key audit findings – statement of comprehensive income
1. Revenue has been stable for all components of the Group with the exception of one subsidiary, Copeland Co, which has recognised a 25% decrease in revenue.
2. Operating expenses for the year to June 2012 is shown net of a profit on a property disposal of $2 million. Our evidence includes agreeing the cash receipts to bank statement and sale documentation, and we have confirmed that the property has been removed from the non-current asset register. The audit junior noted when reviewing the sale document, that there is an option to repurchase the property in five years time, but did not discuss the matter with management.
3. The property revaluation relates to the Group’s head office. The audit team have not obtained evidence on the revaluation, as the gain was immaterial based on the initial calculation of materiality.
4. The actuarial loss is attributed to an unexpected stock market crash. The Group’s pension plan is managed by Axle Co – a firm of independent fund managers who maintain the necessary accounting records relating to the plan. Axle Co has supplied written representation as to the value of the defined benefit plan’s assets and liabilities at 30 June 2012. No other audit work has been performed other than to agree the figure from the financial statements to supporting documentation supplied by Axle Co.
Draft consolidated statement of financial position
| note | 30 june 2012 | 30 june 2011 | |
| draft | actual | ||
| $'000 | $'000 | ||
| assets | |||
| non-current assets | |||
| property, plant and equipment | 81800 | 76300 | |
| goodwill | 5 | 5350 | 5350 |
| investment in associate | 6 | 4230 | 4230 |
| assets classified as held for sale | 7 | 7800 | ---- |
| --------- | --------- | ||
| 99180 | 85880 | ||
| --------- | --------- | ||
| current assets | |||
| inventory | 8600 | 8000 | |
| receivables | 8540 | 7800 | |
| cash and cash equivalent | 2100 | 2420 | |
| --------- | --------- | ||
| 19240 | 18220 | ||
| --------- | --------- | ||
| total assets | 118420 | 104100 | |
| ======= | ======= | ||
| equity and liabilities | |||
| equity | |||
| share capital | 12500 | 12500 | |
| revaluation reserve | 3300 | 2500 | |
| retained earnings | 33600 | 29400 | |
| non-controlling interest | 8 | 4350 | 4000 |
| --------- | --------- | ||
| total equity | 53750 | 48400 | |
| --------- | --------- | ||
| non-current liabilities | |||
| defined benefit pension plan | 10820 | 9250 | |
| long-term borrowings | 9 | 43000 | 35000 |
| deferred tax | 1950 | 1350 | |
| --------- | --------- | ||
| total non-current liabilities | 55770 | 45600 | |
| --------- | --------- | ||
| current liabilities | |||
| trade and other payables | 6200 | 7300 | |
| provisions | 2700 | 2800 | |
| --------- | --------- | ||
| total current liabilities | 8900 | 10100 | |
| --------- | --------- | ||
| total liabilities | 64670 | 55700 | |
| --------- | --------- | ||
| total equity and liabilities | 118420 | 104100 | |
| ======= | ======= |
Notes: Key audit findings – statement of financial position
5. The goodwill relates to each of the subsidiaries in the Group. Management has confirmed in writing that goodwill is stated correctly, and our other audit procedure was to arithmetically check the impairment review conducted by management.
6. The associate is a 30% holding in James Co, purchased to provide investment income. The audit team have not obtained evidence regarding the associate as there is no movement in the amount recognised in the statement of financial position.
7. The assets held for sale relate to a trading division of one of the subsidiaries, which represents one third of that subsidiary’s net assets. The sale of the division was announced in May 2012, and is expected to be complete by 31 December 2012. Audit evidence obtained includes a review of the sales agreement and confirmation from the buyer, obtained in July 2012, that the sale will take place.
8. Two of the Group’s subsidiaries are partly owned by shareholders external to the Group.
9. A loan of $8 million was taken out in October 2011, carrying an interest rate of 2%, payable annually in arrears. The terms of the loan have been confirmed to documentation provided by the bank.
Required:
Respond to the note from the audit engagement partner.