PAA 5 – 1

The following scenario relates to questions 1 – 5.

You are the audit manager of Nutcracker & Co and are reviewing the key issues identified in the files of two audit clients.

The first audit client is Height Industries Co (Height), a listed company. Height’s year end was 31 March 20X5 and the draft financial statements show revenue of $28.2m, receivables of $5.6m and profit before tax of $4.8m. The fieldwork stage for this audit has been completed. A customer of Height owed an amount of $350,000 at the year end. Testing of receivables in April highlighted that no amounts had been paid to Height from this customer as they were disputing the quality of certain goods received from Height. The finance director is confident the issue will be resolved and no allowance for receivables was made with regards to this balance.

The second audit client is Stem Trading Co (Stem). Stem is a new client of Nutcracker & Co, its year end was 31 January 20X5 and the firm was only appointed as auditor in February 20X5, as the previous auditor was suddenly unable to undertake the audit. The fieldwork stage for this audit is currently ongoing.

The inventory count at Stem’s warehouse was undertaken on 31 January 20X5 and was overseen by the company’s internal audit department. Neither Nutcracker & Co nor the previous auditors attended the count. Detailed inventory records were maintained but it was not possible to undertake another full inventory count subsequent to the year end.

The draft financial statements show a profit before tax of $2.4 million, revenue of $10.1 million and inventory of $510,000.

1. Which of the following audit procedures should be performed in order to form a conclusion on whether an amendment is required in Height’s 20X5 financial statements in respect of the disputed balance?

A. Review whether any payments have subsequently been made by this customer since the audit fieldwork was completed

B. Match the total of the aged receivables listing to the sales ledger control account

C. Vouch the balance owed by the customer at the year-end to sales invoices

D. Review the latest customer correspondence with regards to an assessment of the likelihood of the customer making payment

2. Which of the following correctly summarizes the effect of the issue relating to the inventory count of Stem at the year end?

3. The audit engagement partner for Stem has requested that additional audit procedures be performed in order to conclude on the level of adjustment needed in relation to the above inventory issue.

Which TWO of the following audit procedures should be performed in order to form a conclusion as to whether Stem’s 20X5 financial statements require amendment?

4. Following the inability to attend the inventory count of Stem, an engagement quality control reviewer has been appointed to the audit.

Indicate which of the following should be included within the engagement quality control review?

A. Evaluation of the performance of specific audit procedures performed

B. Evaluation of conclusions reached in formulating auditor’s report

C. Evaluation of all significant audit judgments

D. Evaluation of the cost-effectiveness of the audit process

5. Alternative procedures, performed as a result of Nutcracker & Co being unable to attend the inventory count of Stem, did not provide sufficient appropriate audit evidence regarding the inventory balance in the statement of financial position.

From the options below indicate the audit opinion which would be given in these circumstances and the appropriate disclosure in the auditor’s report.

The following scenario relates to questions 6 – 10.

It is 1 July 20X5. You are an audit manager in Winter & Co responsible for the audit of Rainy Co.

You are reviewing the audit file of Rainy Co for the year ended 31 March 20X5 which is nearing completion. You have noted several issues during your review:

• Several working papers which were prepared by the audit junior have not been signed as reviewed by the audit senior responsible for supervising the audit junior. You are aware that a review has been performed but this is not documented on the audit file.
• One audit working paper states that a sample of 30 purchase invoices should be tested but the results of the test show that only 15 invoices were tested. Several other areas document that samples sizes were reduced in order to save time.
• In the subsequent events review section of the file, the audit senior has documented that he has enquired of management whether there have been any subsequent events and was told that there have not been any. The audit senior has documented in the working paper that no further work is considered necessary as a result.

6. Which of the following statements are true in respect of the reduction in samples sizes.

1. The audit plan has not been followed
2. Sufficient appropriate evidence may not have been obtained
3. Material misstatements may go undetected
4. Those sections will need to be reviewed by a manager and the manager will form a conclusion on the balances.

7. Select whether the following statements are true or false in respect of the subsequent events review of Rainy Co.

A. The auditor has demonstrated a lack of professional skepticism

B. A written representation should have been obtained from management confirming that they have disclosed all subsequent events to the auditor

C. Enquiry does not provide sufficient appropriate evidence on its own

D. The auditor only needs to perform procedures if they are made aware of any subsequent events

8. As a result of the quality control issues encountered during the audit of Rainy Co, which of the following actions should now be taken?

1. The offending members of staff have demonstrated a lack of competence and due care therefore the firm should report them to the ACCA to be disciplined for failing to comply with ethical requirements
2. More frequent quality control reviews may need to take place
3. Further training should be provided to staff
4. The firm’s policies and procedures should be reviewed and updated if applicable

9. ISA 220 Quality Control for an Audit of Financial Statements requires the use of pre‐ and post‐issuance reviews as part of the audit firm’s quality control procedures to ensure the audit is performed to a high standard. Which of the following statements is TRUE in respect of pre and post‐issuance reviews?

10. Select whether the following statements are true or false in respect of review of audit working papers.

A. All working papers should be signed by the person who prepared them

B. The audit engagement partner will review all working papers on the audit file before issuing an opinion

C. If working papers have been reviewed there is no quality control issue arising from the lack of documentation

D. All team members’ work should be reviewed by someone more senior than the preparer

The following scenario relates to questions 11 – 15

It is 1 July 20X5. You are an audit manager in Pack & Co responsible for the audit of Gocamp

Co, a large listed retailer. The audit for the year ended 31 March 20X5 is nearing completion and the auditor’s report is due to be signed next week.

You have been informed that the financial controller left Gocamp Co on 28 February 20X5. 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 Gocamp Co by the financial controller. During a discussion with the Human Resources (HR) director of Gocamp Co, you established that the company received notice of the proposed legal claim on 10 April 20X5.

The HR director told you that Gocamp Co’s lawyers believe the financial controller’s claim is likely to be successful, but estimate that $150,000 is the maximum amount of compensation which would be paid. However, the directors do not intend to make any adjustment for a provision or to include any disclosures in the financial statements relating to the issue.

The draft financial statements currently show a profit before tax of $6.5 million and revenue of $66 million for the financial year ended 31 March 20X5.

11. Subsequent events procedures should be performed between the date of the financial statements and which date?

12. 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 Gocamp Co’s lawyers

2) Write to the financial controller to confirm the claim and level of damages

3) Review the post year‐end cash book and bank statements for evidence the claim has been settled

4) Request management confirms their views in a written representation letter

13. Select the type of opinion that is appropriate and the nature of any additional communications necessary if the unfair dismissal case is NOT adjusted for or disclosed within the financial statements.

A. Opinion

B. Additional communication

14. You are drafting the auditor’s report for Gocamp Co and the audit engagement partner has reminded you that as Gocamp Co is a listed company, the report will need to include a Key Audit Matters section.

According to ISA 701 Communicating Key Audit Matters in the Independent Auditor’s Report, which of the following should be included in the Key Audit Matters section of the auditor’s report?

15. One month after the financial statements were issued the legal claim was finalized with the court awarding compensation of $500,000 to the ex‐financial controller. The directors of Gocamp Co have contacted Pack & Co to inform them of the outcome.

Which TWO of the following are appropriate actions for Pack & Co to take?

The following scenario relates to questions 16 – 20.

Moonstar 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 to provide are placement product.

You are the manager responsible for the audit of Moonstar Co. You are performing the final review stage of the audit and have come across the following issues.

Receivable balance owing from Mixgreen Co

Moonstar Co has a material receivable balance owing from its customer, Mixgreen Co. During the year-end audit, your team reviewed the ageing of this balance and found that no payments had been received from Mixgreen Co for over six months, and Moonstar Co 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 prioryears. The team has requested a written representation from management confirming that the basis and amount of the provision are reasonable. Management has yet to confirm acceptance of this representation.

Other information

You have reviewed a financial summary which is to be included in the annual report and have found that the details are inconsistent with the financial statements. Your investigations have shown that the error is in the summary and not the financial statements.

16. Assuming you received the written representations as described above for both the receivables balance and the warranty provision, in respect of which balances is the auditor most likely to conclude that sufficient appropriate evidence has been obtained?

17. Which TWO of the following audit procedures could the audit team carry out to obtain independent evidence relating to the recoverability of the debt from Mixgreen Co?

18. Management has now stated that it is not prepared to confirm that the basis and amount of the warranty provision are reasonable.

Indicate which of the following actions you must perform in accordance with ISA 580 Written Representations?

A. Seek legal advice

B. Discuss with management why they have refused to provide the representations requested

C. Resign as auditor

D. Reassess the integrity of management and consider the implications for any other representations

19. You have discussed the matter with management but they are still not prepared to provide the representations you have requested.

What type of modified opinion would be issued and what would be the basis for this modification?

20 You have notified the directors of the error in the summary financial statements. Which of the following correctly summarises the impact on the auditor’s report if the directors do not correct this error?

The following scenario relates to questions 21 – 25.

It is 1 July 20X5. You are an audit manager in Colombia & Co. You are responsible for the audit of Philip Co for the year ended 31 March 20X5. The audit is nearing completion and the auditor’s report is due to be signed next week.

The draft financial statements recognise revenue of $18 million (20X4 – $17 million). The draft annual report of Philip Co contains a Chair’s statement in which the chair has commented that she is pleased to report an increase in revenue of 20% this year. The report also includes an operating review, corporate social responsibility report, financial statements and notes to the financial statements.

The directors of Philip Co have indicated that they intend to distribute the annual report to prospective investors in order to obtain additional finance. The audit engagement partner has informed the directors that the auditor’s report is only intended for reliance by the existing shareholders and that no liability will be assumed to any other party. The audit engagement partner has asked you to draft the auditor’s report for Philip Co and requested that a paragraph referring to this restriction of liability is included.

21. Which of the following statements best describes the auditor’s responsibilities in respect of other information?

22. Which of the following sections of Philip Co’s annual report would NOT be considered ‘Other Information’?

23. How should the inconsistency between the Chair’s statement and financial statements be referred to in the auditor’s report of Philip Co?

24. Select whether the following statements are true or false in relation to referring to the Chair’s statement in the auditor’s report of Philip Co.

A. The auditor must expose management’s incompetence

B. Users may be misled if the other information contains incorrect information or information which contradicts the financial statements such as that in the Chair’s statement

C. Users may believe the auditor has not audited the financial statements properly if the inconsistency is not highlighted

D. The inconsistency may undermine the credibility of your auditor’s report if not highlighted

25. In respect of the partner’s request for restricting liability, how should this be addressed in the auditor’s report?

The following scenario relates to questions 26 – 30

It is 1 July 20X5. You are an audit manager in Cool & Co responsible for the audit of Ice Co. The audit of the financial statements for the year ended 31 March 20X5 is nearing completion and the auditor’s report is due to be signed next week. Included within receivables in the statement of financial position is a balance of $85,000 owed by

Winter Co, a key customer of Ice Co. Winter Co has just notified Ice Co that it is unlikely to be able to pay the balance due to cash flow problems. The customer has asked for an extension of credit for a further three months as it expects its cash flow situation to improve in July and August. Ice Co has agreed to this extension.

Due to the uncertainty over the recoverability of the debt, you believe that an allowance for receivables should have been made and you have discussed the issue with the finance director who has informed you that he will make adjustment for the balance in the following year’s financial statements if the debt is not paid during the extended credit period agreed with Winter Co. Revenue for the year is $2.6 million, profit before tax is $1.4 million and total assets are $7.5 million.

26. Which of the following statements is correct regarding the materiality of the irrecoverable debt?

27. Which THREE of the following procedures would allow the auditor to form a conclusion as to the level of adjustment required to the receivables balance?

28. Assuming the matter is considered material and Ice’s directors have refused to adjust the financial statements, what is the appropriate opinion to be issued?

29. Select whether the following elements should be included in the auditor’s report of Ice Co.

A. Addressee

B. Other Matter paragraph

C. Other Information

D. Emphasis of Matter paragraph

30. Which TWO of the following are reasons why the auditor would need to modify the auditor’s opinion?

The following scenario relates to questions 31 – 35

You are the audit manager of Savage & Co. It is a busy time of year for you as you have several ongoing audit clients at the moment and you are in the process of dealing with a number of outstanding issues and queries from members of your audit teams.

Czech Co (Czech)

Czech is a pharmaceutical company. The fieldwork has been completed and you are currently reviewing the audit file. The audit senior is not sure how to deal with the following issue. Czech has incurred $2.1m and development expenditure of $3.2m during the year, all of which has been capitalised as an intangible asset. Profit before tax is $26.3m.

Dawson Co (Dawson)

The fieldwork on this audit is also complete with the exception of the following issue which the audit senior has been unable to deal with.

Dawson’s computerised wages program is backed up daily; however, for a period of two months the wages records and back-ups have been corrupted, and therefore cannot be accessed. Wages and salaries for these 2 months are $1.1m. Profit before tax is $10m.

31. You have just received a phone call from one particular audit senior who is unsure about the steps to take in relation to uncorrected misstatements. Which of the following statements correctly describe the auditor’s responsibility in respect of misstatements?

32. Which TWO of the following audit procedures should be performed in order to form a conclusion on whether an amendment is required to Czech’s financial statements inrespect of the research and development expenditure?

33. Which of the following options correctly summarises the impact on the auditor’s report for Czech if the issue remains unresolved?

34. Which of the following correctly summarises the effect of the issue relating to the wages balance in the financial statements of Dawson?

35. Based on the above information, which of the following options correctly summarises the impact of the wages and salaries issue on the auditor’s report for Dawson?