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Question 5a-c

You are the manager responsible for the audit of the Poodle Group (the Group) and you are completing the audit of the consolidated financial statements for the year ended 31 March 2013.

The draft consolidated financial statements recognise revenue of $18 million (2012 – $17 million), profit before tax of $2 million (2012 – $3 million) and total assets of $58 million (2012 – $59 million).

Your firm audits all of the components of the Group, apart from an overseas subsidiary, Toy Co, which is audited by a small local firm of accountants and auditors.

The audit senior has left a file note for your attention. You are aware that the Group’s annual report and financial statements are due to be released next week, and the Group is very reluctant to make any adjustments in respect of the matters described.

(a) Toy Co

The component auditors of Toy Co, the overseas subsidiary, have been instructed to provide the Group audit team with details of a court case which is ongoing. An ex-employee is suing Toy Co for unfair dismissal and has claimed $500,000 damages against the company.

To comply with local legislation, Toy Co’s individual financial statements are prepared using a local financial reporting framework. Under that local financial reporting framework, a provision is only recognised if a cash outflow is virtually certain to arise.

The component auditors obtained verbal confirmation from Toy Co’s legal advisors that the damages are probable, but not virtually certain to be paid, and no provision has been recognised in either the individual or consolidated financial statements. No other audit evidence has been obtained by the component auditors. (7 marks)

(b) Trade receivable

On 1 June 2013, a notice was received from administrators dealing with the winding up of Terrier Co, following its insolvency. The notice stated that the company should be in a position to pay approximately 10% of the amounts owed to its trade payables. Poodle Co, the parent company of the Group, includes a balance of  $1•6 million owed by Terrier Co in its trade receivables. (7 marks)

(c) Chairman’s statement

The draft chairman’s statement, to be included in the Group’s annual report, was received yesterday. The chairman comments on the performance of the Group, stating that he is pleased that revenue has increased by 20% in the year. (6 marks)

Required:

In respect of each of the matters described:

(i) Assess the implications for the completion of the Group audit, explaining any adjustments that may be necessary to the consolidated financial statements, and recommending any further procedures necessary; and

(ii) Describe the impact on the Group audit report if these adjustments are not made.

Note: The split of the mark allocation is shown above against each of the parts.