ACCA AA Syllabus D. Audit Evidence - Procedures for obtaining evidence - Past Papers ^{1 / 5}

You are an audit manager at Blenkin & Co and are approaching the end of the audit of Sampson Co, which is a large listed retailer. The draft financial statements currently show a profit before tax of $6·5m and revenue of $66m for the financial year ended 30 June 20X6. You have been informed that the finance director left Sampson Co on 31 May 20X6.

As part of the subsequent events audit procedures, you reviewed post year-end board meeting minutes and discovered that a legal case for unfair dismissal has been brought against Sampson Co by the finance director. During a discussion with the Human Resources (HR) director of Sampson Co, you established that the company received notice of the proposed legal claim on 10 July 20X6.

The HR director told you that Sampson Co’s lawyers believe that the finance director’s claim is likely to be successful, but estimate that $150,000 is the maximum amount of compensation which would be paid. However, management does not intend to make any adjustments or disclosures in the financial statements.

Which of the following audit procedures should be performed to form a conclusion as to whether the financial statements require amendment in relation to the unfair dismissal claim?

(1) Inspect relevant correspondence with Sampson Co’s lawyers
(2) Write to the finance director to confirm the claim and level of damages
(3) Review the post year-end cash book for evidence of payments to the finance director
(4) Request that management confirm their views in a written representation

A. 1, 2 and 3
B. 1, 2 and 4
C. 1, 3 and 4
D. 2, 3 and 4

Which of the following audit procedures for obtaining audit evidence is correctly described?

A. Recalculation involves the auditor’s independent execution of procedures or controls which were originally performed as part of the entity’s internal control
B. Confirmation consists of seeking information of knowledgeable persons, within the company or outside the company
C. Reperformance consists of checking the mathematical accuracy of documents or records
D. Observation consists of looking at a procedure or process being performed by others

Define a ‘substantive procedure’ and provide an example of a substantive procedure in relation to the audit of wages and salaries. (2 marks)

(i) Describe FIVE types of procedures for obtaining audit evidence; and

(ii) For each procedure, describe an example relevant to the audit of property, plant and equipment.

Note: The total marks will be split equally between each part. (10 marks)

Introduction

Tinkerbell Toys Co (Tinkerbell) is a manufacturer of children’s building block toys; they have been trading for over 35 years and they sell to a wide variety of customers including large and small toy retailers across the country. The company’s year end is 31 May 2011.

The company has a large manufacturing plant, four large warehouses and a head office. Upon manufacture, the toys are stored in one of the warehouses until they are despatched to customers. The company does not have an internal audit department.

Sales ordering, goods despatched and invoicing

Each customer has a unique customer account number and this is used to enter sales orders when they are received in writing from customers. The orders are entered by an order clerk and the system automatically checks that the goods are available and that the order will not take the customer over their credit limit.

For new customers, a sales manager completes a credit application; this is checked through a credit agency and a credit limit entered into the system by the credit controller. The company has a price list, which is updated twice a year. Larger customers are entitled to a discount; this is agreed by the sales director and set up within the customer master file.

Once the order is entered an acceptance is automatically sent to the customer by mail/email confirming the goods ordered and a likely despatch date. The order is then sorted by address of customer. The warehouse closest to the customer receives the order electronically and a despatch list and sequentially numbered goods despatch notes (GDNs) are automatically generated.

The warehouse team pack the goods from the despatch list and, before they are sent out, a second member of the team double checks the despatch list to the GDN, which accompanies the goods.

Once despatched, a copy of the GDN is sent to the accounts team at head office and a sequentially numbered sales invoice is raised and checked to the GDN. Periodically a computer sequence check is performed for any missing sales invoice numbers.

Fraud

During the year a material fraud was uncovered. It involved cash/cheque receipts from customers being diverted into employees’ personal accounts. In order to cover up the fraud, receipts from subsequent unrelated customers would then be recorded against the earlier outstanding receivable balances and this cycle of fraud would continue.

The fraud occurred because two members of staff ‘who were related’ colluded. One processed cash receipts and prepared the weekly bank reconciliation; the other employee recorded customer receipts in the sales ledger.

An unrelated sales ledger clerk was supposed to send out monthly customer statements but this was not performed. The bank reconciliations each had a small unreconciled amount but no-one reviewed the reconciliations after they were prepared.

The fraud was only uncovered when the two employees went on holiday at the same time and it was
discovered that cash receipts from different customers were being applied to older receivable balances to hide the earlier sums stolen.

Required:

Describe substantive procedures the auditor should perform to confirm Tinkerbell’s revenue. (4 marks)

The auditor has a responsibility to design audit procedures to obtain sufficient and appropriate evidence. There are various audit procedures for obtaining evidence, such as external confirmation.

Required:

Apart from external confirmation:

(i) State and explain FIVE procedures for obtaining evidence and;

(ii) For each procedure, describe an example relevant to the audit of purchases and other expenses.
(10 marks)

Redburn Co, a publisher and producer of books of poetry, has been a client of your fi rm of Chartered Certified Accountants for a number of years. The manager in overall charge of the audit has been discussing the audit plan with the audit team, of which you are a member, prior to commencement of the work.

The audit manager has informed the team, among other things, that there has been a growing interest in poetry generally and that the company has acquired a reputation for publishing poets who are still relatively unknown.

During your audit you determine:

(i) Contracts with the poets state that they are given a royalty of 10% on sales. Free copies of the books are provided to the poets and to some organisations such as copyright libraries and to others, such as reviewers and university lecturers. No royalties are given on these free copies.

(ii) The computerised customer master fi le contains a code indicating whether a despatch is to earn a royalty for the author. This code is shown on the sales invoice and despatch note when they are prepared.

(iii) A computerised royalties fi le is held, all entries therein bearing the invoice number and date.

(iv) The company keeps detailed statistics of sales made, including trends of monthly sales by type of customer, and of colleges where its books are recommended as part of course material, based on reports from sales staff.

(v) Bookshops have the right to return books which are not selling well, but about 10% of these are slightly damaged when returned. The company keeps similar records of returns as it does for sales.

Required:

Describe THREE substantive tests you should perform to ensure that the royalties charge is accurate and complete, stating the objective of each test. (6 marks)

Introduction

Blake Co assembles specialist motor vehicles such as lorries, buses and trucks. The company owns four assembly plants to which parts are delivered and assembled into the motor vehicles.

The motor vehicles are assembled using a mix of robot and manual production lines. The ‘human’ workers normally work a standard eight hour day, although this is supplemented by overtime on a regular basis as Blake has a full order book.

There is one shift per day; mass production and around the clock working are not possible due to the specialist nature of the motor vehicles being assembled.

Wages system – shift workers

Shift-workers arrive for work at about 7.00 am and ‘clock in’ using an electronic identification card. The card is scanned by the time recording system and each production shift-worker’s identification number is read from their card by the scanner.

The worker is then logged in as being at work. Shift-workers are paid from the time of logging in. The
logging in process is not monitored as it is assumed that shift-workers would not work without first logging in on the time recording system.

Shift-workers are split into groups of about 25 employees, with each group under the supervision of a shift foreman. Each day, each group of shift-workers is allocated a specific vehicle to manufacture. At least 400 vehicles have to be manufactured each day by each work group.

If necessary, overtime is worked to complete the day’s quota of vehicles. The shift foreman is not required to monitor the extent of any overtime working although the foreman does ensure workers are not taking unnecessary or prolonged breaks which would automatically increase the amount of overtime worked. Shift-workers log off at the end of each shift by re-scanning their identification card.

Payment of wages

Details of hours worked each week are sent electronically to the payroll department, where hours worked are allocated by the computerised wages system to each employee’s wages records. Staff in the payroll department compare hours worked from the time recording system to the computerised wages system, and enter a code word to confirm the accuracy of transfer.

The code word also acts as authorisation to calculate net wages. The code word is the name of a domestic cat belonging to the department head and is therefore generally known around the department.

Each week the computerised wages system calculates:

(i) gross wages, using the standard rate and overtime rates per hour for each employee, 
(ii) statutory deductions from wages, and
(iii) net pay.

The list of net pay for each employee is sent over Blake’s internal network to the accounts department. In the accounts department, an accounts clerk ensures that employee bank details are on file. The clerk then authorises and makes payment to those employees using Blake’s online banking systems. Every few weeks the financial accountant reviews the total amount of wages made to ensure that the management accounts are accurate.

Termination of employees

Occasionally, employees leave Blake. When this happens, the personnel department sends an e-mail to the payroll department detailing the employee’s termination date and any unclaimed holiday pay.

The receipt of the e-mail by the payroll department is not monitored by the personnel department.

Salaries system – shift managers

All shift managers are paid an annual salary; there are no overtime payments. Salaries were increased in July by 3% and an annual bonus of 5% of salary was paid in November.

Required:

After performing tests of controls, the auditor is of the opinion that audit evidence is not sufficient to support the audit opinion; in other words many control errors were found.

Required:

Explain THREE actions that the auditor may now take in response to this problem. (3 marks)

EastVale Co manufactures a range of dairy products (for example, milk, yoghurt and cheese) in one factory. Products are stored in a nearby warehouse (which is rented by EastVale) before being sold to 350 supermarkets located within 200 kilometres of EastVale’s factory. The products are perishable with an average shelf life of eight days. EastVale’s financial statements year-end is 31 July.

It is four months since the year-end at your audit client of EastVale and the annual audit of EastVale is almost complete, but the auditor’s report has not been signed.

The following events have just come to your attention. Both events occurred in late November.

(a) A fire in the warehouse rented by the company has destroyed 60% of the inventory held for resale.

(b) A batch of cheese produced by EastVale was found to contain some chemical impurities. Over 300 consumers have complained about food poisoning after eating the cheese. 115 supermarkets have stopped purchasing EastVale’s products and another 85 are considering whether to stop purchasing from EastVale. Lawyers acting on behalf of the consumers are now presenting a substantial claim for damages against EastVale.

Required:

In respect of EACH of the events at EastVale Co mentioned above:

Describe the additional audit procedures you will carry out; (8 Marks)