ACCA AA Syllabus E. Review And Reporting - Audit Opinion - Past Papers ^{2 / 3}

Dashing Co manufactures women’s clothing and its year end was 31 July 20X7. You are an audit supervisor of Jaunty & Co and the year-end audit for Dashing Co is due to commence shortly.

The draft financial statements recognise profit before tax of $2·6m and total assets of $18m. You have been given responsibility for auditing receivables, which is a material balance, and as part of the audit approach, a positive receivables circularisation is to be undertaken.

At the planning meeting, the finance director of Dashing Co informed the audit engagement partner that the company was closing one of its smaller production sites and as a result, a number of employees would be made redundant. A redundancy provision of $110,000 is included in the draft financial statements.

A few months have now passed and the audit team is performing the audit fieldwork including the audit procedures which you recommended over the redundancy provision. The team has calculated that the necessary provision should amount to $305,000. The finance director is not willing to adjust the draft financial statements.

Required:
(d) Discuss the issue and describe the impact on the auditor’s report, if any, should this issue remain unresolved. (5 marks)

Airsoft Co is a listed company which manufactures stationery products. The company’s profit before tax for the year ended 31 December 20X6 is $16·3m and total assets as at that date are $66·8m. You are an audit supervisor of Biathlon & Co and you are currently finalising the audit programmes for the year-end audit of your existing client Airsoft Co. You attended a meeting with your audit manager where the following matters were discussed:

Trade payables and accruals
Airsoft Co purchases its raw materials from a large number of suppliers. The company’s policy is to close the purchase ledger just after the year end and the financial controller is responsible for identifying goods which were received pre year-end but for which no invoice has yet been received. An accrual is calculated for goods received but not yet invoiced (GRNI) and is included within trade payables and accruals.

The audit strategy has identified a risk over the completeness of trade payables and accruals. The audit team will utilise computer assisted audit techniques (CAATs), in the form of audit software while auditing trade payables and accruals.

Bank overdraft and savings accounts
Airsoft Co’s draft financial statements include a bank overdraft of $2·6m, which relates to the company’s main current account. In addition Airsoft Co maintains a number of savings accounts. The savings account balances are classified as cash and cash equivalents and are included in current assets. All accounts have been reconciled at the year end.

Directors’ remuneration
Airsoft Co’s board is comprised of eight directors. Their overall remuneration consists of two elements: an annual salary, paid monthly; and a significant annual discretionary bonus, which is paid in a separate payment run on 20 December. All remuneration paid to directors is included within wages and salaries. Local legislation requires disclosure of the overall total of directors’ remuneration broken down by element and by director.

A member of your audit team has asked for information on ISA 701 Communicating Key Audit Matters in the Independent Auditor’s Report as she has heard this standard is applicable to listed clients such as Airsoft Co.

Required:
(e) Identify what a key audit matter (KAM) is and explain how the auditor determines and communicates KAM. (5 marks)

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 opinions will be issued if the unfair dismissal case is NOT adjusted for or disclosed within the financial statements?

A. A qualified audit opinion as the financial statements are materially misstated
B. A qualified audit opinion as the auditor is unable to obtain sufficient appropriate evidence
C. An unmodified opinion with an emphasis of matter paragraph
D. An unmodified audit opinion

Cannavaro.com is a website design company whose year end was 31 December 20X4. The audit is almost complete and the financial statements are due to be signed shortly. Profit before tax for the year is $3·8 million and revenue is $11·2 million.

The company has only required an audit for the last two years and the board of directors has asked your firm to provide more detail in relation to the form and content of the auditor’s report.

During the audit it has come to light that a key customer, Pirlo Co, with a receivables balance at the year end of $285,000, has just notified Cannavaro.com that they are experiencing cash flow difficulties and so are unable to make any payments for the foreseeable future. The finance director has notified the audit team that he will write this balance off as an irrecoverable debt in the 20X5 financial statements.

The finance director has asked you to outline the appropriate audit opinions which will be provided depending on whether the company decides to amend or not amend the 20X4 financial statements for the issue identified regarding the recoverability of the balance with Pirlo Co.

Which of the following options correctly summarises the audit opinions which will be issued depending on whether or not the 20X4 financial statements are amended?

Vieri Motor Cars Co (Vieri) manufactures a range of motor cars and its year end is 30 June 20X5. You are the audit supervisor of Rossi & Co and are currently preparing the audit programmes for the year-end audit of Vieri. You have had a meeting with your audit manager and he has notified you of the following issues identified during the audit risk assessment process:

Land and buildings
Vieri has a policy of revaluing land and buildings, this is undertaken on a rolling basis over a five-year period. During the year Vieri requested an external independent valuer to revalue a number of properties, including a warehouse purchased in January 20X5. Depreciation is charged on a pro rata basis.

Work in progress
Vieri undertakes continuous production of cars, 24 hours a day, seven days a week. An inventory count is to be undertaken at the year end and Rossi & Co will attend. You are responsible for the audit of work in progress (WIP) and will be part of the team attending the count as well as the final audit. WIP constitutes the partly assembled cars at the year end and this balance is likely to be material. Vieri values WIP according to percentage of completion, and standard costs are then applied to these percentages.

During the audit, the team has identified an error in the valuation of work in progress, as a number of the assumptions contain out of date information. The directors of Vieri have indicated that they do not wish to amend the financial statements.

Required:
Explain the steps Rossi & Co should now take and the impact on the audit report in relation to the directors’ refusal to amend the financial statements. (5 marks)

You are the audit manager of Villa & Co and you are currently reviewing the audit files for several of your clients for which the audit fieldwork is complete. The audit seniors have raised the following issues:

Czech Co
Czech Co is a pharmaceutical company and has incurred research expenditure of $2·1m and development expenditure of $3·2m during the year, this has all been capitalised as an intangible asset. Profit before tax is $26·3m.

Dawson Co
Dawson Co’s computerised wages program is backed up daily, however for a period of two months the wages records and the back-ups have been corrupted, and therefore cannot be accessed. Wages and salaries for these two months are $1·1m. Profit before tax is $10m.

Required:
For each of the clients above:

(ii) Describe the impact on the audit report if the issue remains unresolved. (4 marks)

Clarinet Co (Clarinet) is a computer hardware specialist and has been trading for over five years. The company is funded partly through overdrafts and loans and also by several large shareholders; the year end is 30 April 2014.

Clarinet has experienced significant growth in previous years; however, in the current year a new competitor, Drums Design Co (Drums), has entered the market and through competitive pricing has gained considerable market share from Clarinet. One of Clarinet’s larger customers has stopped trading with them and has moved its business to Drums. In addition, a number of Clarinet’s specialist developers have left the company and joined Drums. Clarinet has found it difficult to replace these employees due to the level of their skills and knowledge. Clarinet has just received notification that its main supplier who provides the company with specialist electrical equipment has ceased to trade.

Clarinet is looking to develop new products to differentiate itself from the rest of its competitors. It has approached its shareholders to finance this development; however, they declined to invest further in Clarinet. Clarinet’s loan is long term and it has met all repayments on time. The overdraft has increased significantly over the year and the directors have informed you that the overdraft facility is due for renewal next month, and they are confident it will be renewed.

The directors have produced a cash flow forecast which shows a significantly worsening position over the coming  12 months. They are confident with the new products being developed, and in light of their trading history of significant growth, believe it is unnecessary to make any disclosures in the financial statements regarding going concern.

At the year end, Clarinet received notification from one of its customers that the hardware installed by Clarinet for the customers’ online ordering system has not been operating correctly. As a result, the customer has lost significant revenue and has informed Clarinet that they intend to take legal action against them for loss of earnings. Clarinet has investigated the problem post year end and discovered that other work-in-progress is similarly affected and inventory should be written down. The finance director believes that as this misstatement was identified after the year end, it can be amended in the 2015 financial statements.

Required:

(d) The auditors have been informed that Clarinet’s bankers will not make a decision on the overdraft facility until after the audit report is completed. The directors have now agreed to include some going concern disclosures.
Required:
Describe the impact on the audit report of Clarinet Co if the auditor believes the company is a going concern but that this is subject to a material uncertainty. (4 marks) (20 marks)

Greenfields Co specialises in manufacturing equipment which can help to reduce toxic emissions in the production of chemicals. The company has grown rapidly over the past eight years and this is due partly to the warranties that the company gives to its customers. It guarantees its products for five years and if problems arise in this period it undertakes to fix them, or provide a replacement product.

You are the manager responsible for the audit of Greenfields and you are performing the final review stage of the audit and have come across the following two issues.

Receivable balance owing from Yellowmix Co

Greenfields has a material receivable balance owing from its customer, Yellowmix Co. During the year-end audit, your team reviewed the ageing of this balance and found that no payments had been received from Yellowmix for over six months, and Greenfields would not allow this balance to be circularised. Instead management has assured your team that they will provide a written representation confirming that the balance is recoverable.

Warranty provision

The warranty provision included within the statement of financial position is material. The audit team has performed testing over the calculations and assumptions which are consistent with prior years. The team has requested a written representation from management confirming the basis and amount of the provision are reasonable. Management has yet to confirm acceptance of this representation.

The directors of Greenfields have decided not to provide the audit firm with the written representation for the warranty provision as they feel that it is unnecessary.

Required:

Explain the steps the auditor of Greenfields Co should now take and the impact on the audit report in relation to the refusal to provide the written representation. (5 marks)

You are the audit senior responsible for the audit of Have A Bite Co, a company that runs a chain of fast food restaurants. You are aware that a major risk of their sector is that poor food quality might result in damage claims by customers.

You had satisfied yourself at the interim audit that the company’s control risk as regards purchases of food and its preparation in the kitchen was low. However, during your final audit it comes to your attention that one month before the year-end, a customer has sued the company for personal injury caused by food poisoning, claiming an amount of $200,000 in compensation.

This amount is material to the stated profit of the company, but management believes that it has good defences against the claim.

Following your audit you have concluded that there is a possibility, but not a probability, that the claim will be successful. However, management have decided not to make a provision or disclosure in the financial statements in respect of this matter.

Required:

Describe how the matter should be reported in the financial statements and explain the effect on your audit report.

You are the audit manager in JonArc & Co. One of your new clients this year is Galartha Co, a company having net assets of $15 million. The audit work has been completed, but there is one outstanding matter you are currently investigating; the directors have decided not to provide depreciation on buildings in the financial statements, although International Accounting Standards suggest that depreciation should be provided.

Unfortunately, you have been unable to resolve the matter regarding depreciation of buildings; the directors insist on not providing depreciation. You have therefore drafted the following extracts for your proposed audit report.

1. ‘We conducted our audit in accordance with International Standards on Auditing. Those Standards require that we comply with ethical requirements and plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement (remaining words are the same as a normal unmodified report).

2. As discussed in Note 15 to the financial statements, no depreciation has been provided in the financial statements which practice, in our opinion, is not in accordance with International Accounting Standards.

3. The charge for the year ended 30 September 2007, should be $420,000 based on the straight-line
method of depreciation using an annual rate of 5% for the buildings.

4. Accordingly, the non-current assets should be reduced by accumulated depreciation of $1,200,000 and the profit for the year and accumulated reserve should be decreased by $420,000 and $1,200,000, respectively.

5. In our opinion, except for the effect on the financial statements of the matter referred to in the preceding paragraph, the financial statements give a true and fair view ... (remaining words are the same as for an unmodified opinion paragraph).’

The extracts have been numbered to help you refer to them in your answer.

Required:

a) Explain the meaning and purpose of each of the above extracts in your draft audit report. (10 marks)

b) JonArc & Co were appointed auditors after the end of the financial year of Galartha Co. Consequently, the auditors could not attend the year end inventory count. Inventory is material to the financial statements. State the effect on your audit report.

Note: you are not required to draft any audit reports.

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:

Discuss whether or not the audit report should be modified. (6 Marks)