This 37-mark question was based on the planning of a group audit when there had been a change in the group structure during the year. A wholly-owned subsidiary had been acquired, and candidates were given descriptions of some significant transactions and events, as well as limited financial information.

It was obvious that the majority of candidates were familiar with this part of the syllabus. Candidates also seem comfortable with the style of the question and with the amount of information that had been given in the scenario.

Requirement (ai) for 8 marks asked candidates to identify and explain the implications of the acquisition of the new subsidiary for the audit planning of the individual and consolidated financial statements.

Most answers to this requirement identified the main planning implications, such as the determination of component and group materiality levels, the audit firm’s need to obtain business understanding and assess the control environment in relation to the new subsidiary, and practical aspects such as the timings and resources needed for the group audit.

Weaker answers to this requirement tended to just list out financial reporting matters, for example, that in the group financial statements related party transactions would have to be disclosed, and inter-company balances eliminated, but failed to link these points sufficiently well to audit planning implications.

The next part of the question dealt with risk assessment, requiring in (aii) that candidates evaluate the risk of material misstatement to be considered in planning the individual and consolidated financial statements. This was for 18 marks. The majority of answers focussed on the correct type of risk (i.e. inherent and control risks), though some did discuss detection risks, which are irrelevant when evaluating the risk of material misstatement.

Answers to (aii) tended to cover a wide range of points but very often did not discuss the points in much depth. For example, almost all candidates identified that accounting for goodwill can be complex, leading to risk of misstatement, but few candidates explained the specific issues that give rise to risk.

Similarly, most identified that the grant that had been received by one of the subsidiaries posed risk to the auditor, but most answers just suggested (often incorrectly) an accounting treatment and said little or nothing about the specific risk of misstatement. Many answers also went into a lot of detail about how particular balances and transactions should be audited, recommending procedures to be performed by the auditor, which was not asked for.

Weaker answers simply stated an issue, for example, that a grant had been received, and said the risk was that it would not be accounted for properly. Clearly this is not really an evaluation, as required, and will lead to minimal marks being awarded.

It was pleasing to see many candidates determining the materiality of the transactions and balances to the individual company concerned and to the group. However, candidates are reminded that materiality should be calculated in an appropriate manner. For example, the materiality of an asset or liability should usually be based on total assets and not on revenue.

Candidates’ understanding of the relevant financial reporting issues varied greatly. Most understood the basics of accounting for grants received, the revenue recognition issues caused by online sales, and that contingent consideration should be discounted to present value. However, knowledge on accounting for loan stock that had been issued by the parent company was inadequate, and very few properly discussed how the probability of paying the contingent consideration would affect its measurement at the reporting date.

Candidates attempting the UK and IRL adapted papers are reminded that the syllabus is based on International Financial Reporting Standards. References to, and discussions of, accounting treatments under UK GAAP are not correct and cannot be given credit. For example, a significant minority of answers discussed the amortisation of goodwill, which is not permitted under IFRS (though it is correct under UK GAAP) and so could not be given any marks for this discussion.

The issues that were dealt with well included:

• The due diligence on Canary Co that had been provided by an external valuer 
• The measurement of contingent consideration at present value 
• Online sales creating risks to do with revenue recognition 
• The control risks arising as a result of a new IT system 
• The non-coterminous year end of Canary Co.

The issues that generally were inadequately evaluated included: 
• The recognition and measurement of loan stock issued by Crow Co

• The classification and measurement of the grant received by Starling Co 
• The financial information provided in relation to the group –very few answers performed any analytical review on the performance of the group and its components

Requirement (aiii), for 5 marks, asked candidates to recommend the principal audit procedures to be performed in respect of goodwill initially recognised on the acquisition of Canary Co. Generally candidates did well on this requirement, with many providing well described, relevant procedures.

This represented a definite improvement from previous sittings. Most answers considered the need to look at source documentation regarding the acquisition, the importance of assessing the fair values attributed to Canary Co at acquisition, and the need to assess the probability of the contingent consideration being paid.

The final part of Question One dealt with ethical issues. For 6 marks candidates were required to evaluate the ethical implications of the audit engagement partner attending the client’s board meetings, the secondment of the audit manager to the client, and assistance in recruiting a new finance director for one of the subsidiaries. Most answers went through the issues in order and identified the ethical threats that arose.

However, a lot of answers took a scattergun approach, and said that all of the issues would give rise to the same threats of familiarity, management, self-review and self-interest, but then did not go on to explain how, or why, the threats arose and whether it would be possible for safeguards to reduce the threats to an acceptable level. Candidates appear comfortable with this part of the syllabus, but are reminded that to score well on ethical requirements in P7, they must do more than just identify a threat.