Faculty of Business and Information Technology
Audit & Assurance (BUS6263)
Assignment 2 - Semester One - 2020
Course Weighting: 30%
1. Show ALL your workings 2. Answer ALL questions.
SUMMARY OF ASSIGNMENT
Questions Topic Mark Allocation
Section 1 Multiple choice
1.1 Multiple choice 25 marks
Section 2 Short answer questions
Governance 9 marks
2.2 Assessing inherent risk and other specific business risks 22 marks
2.3 Planning, understanding the entity and evaluating business risk 12 marks
2.4 Audit assertions and evidence 7 marks
TOTAL 75 Marks
1.1 Multiple choice 25 Marks (33 mins)
1. Which of the following statements best describes the term ‘assurance services’?
A. Services designed to express an independent opinion on the truth and fairness of a financial report.
B. Services designed to provide confidence as to the integrity and security of e- commerce business to consumers undertaking internet transactions.
C. Independent professional services that improve the quality of information for decision makers.
D. Services that result in better outcomes through the improvement of operation.
2. What level of assurance is provided by the auditor in a review engagement?
3. The role of internal auditing is:
A. to provide an independent check on financial information provided to external parties.
B. to provide a service to management by reviewing the accounting, financial and other operations of an organisation and to participate in business risk analysis. C. limited to undertaking compliance audits.
D. limited to undertaking performance audits.
4. The major international audit firms are now known as:
A. the Big Four.
B. the Big Eight.
C. the Forum of Firms (FOF).
D. the Transnational Audit Committee (TAC).
5. An auditor has a duty to:
A. inform shareholders of directors’ remuneration.
B. prepare the financial report for presentation to shareholders.
C. exercise reasonable care and skill.
D. exercise perfect judgment
6 . Negligence can be defined as:
A. conduct which is intentionally careless in nature.
B. necessarily involving fraud or collusion.
C. conduct that is careless or unintentional and entails a breach of a duty owed to another person or persons.
D. conduct which is careless, but does not result in a breach of duty.
7. In which of the following situations do you believe the auditor has upheld the fundamental principle of independence?
A. An auditor has been appointed to audit a company in which he/she is a major shareholder.
B. An auditor has been appointed to audit a major manufacturing company that has lent him/her $300 000 for the purchase of a house.
C. The auditor of Ace Travel Ltd currently has a travel account with Ace Travel that operates on the same terms and conditions as all other travel accounts with the travel agent.
D. The auditor of ABC Pty Ltd is the spouse of the chairman of the board of directors of ABC Pty Ltd.
8.In which of the following situations do you believe the auditor has contravened the ethical principle of confidentiality?
A. The auditor has discussed with a friend over lunch the possibility that his/her client may be forced into bankruptcy.
B. An auditor has discussed the client’s banking details with a partner involved in the audit engagement.
C. An auditor has consulted an expert on the valuation of the company’s property and has requested the client’s permission before doing so.
D. An auditor has discussed reports produced by the financial controller of an entity with the board of directors of that entity.
9. The auditor would be placed in a conflict of interest situation if the auditor:
A. served as an executor and trustee of the estate of an individual who owned the majority of the shares of a client.
B. joined a trade association of which a client is also a member.
C. accepted a small gift of the client’s products.
D. All the given answers are correct.
10. An auditor would violate the principle of integrity if the auditor:
A. invested in shares of an audit client.
B. provided financial information about a client to the press.
C. knowingly misrepresented the facts in a report.
D. accepted work that the auditor was not qualified to undertake
11. Financial report auditing is the process of:
A. recording, classifying and measuring accounting data.
B. obtaining sufficient appropriate audit evidence of the propriety and accuracy of information included in an entity’s financial report.
C. checking invoices back to supporting documentation.
D. ensuring compliance with the Corporations Act 2001.
12. An example of an auditor gathering evidence by enquiry is:
A. requesting a certificate from the client’s bankers confirming the client’s bank balance.
B. asking the warehouse manager to explain the inventory receipting procedures.
C. comparing this year’s balance of inventory to last year’s closing balance.
D. examining cheque requisitions for evidence of authorisation procedures.
13. The level of materiality that the auditor determines:
A. is the same for all clients.
B. should always be based on the net profit after tax.
C. is dependent on the auditor’s judgment.
D. should always equal 5 per cent of a relevant base.
14. Which of the following items is not an example of professional scepticism?
A. Questioning the reliability of documents.
B. Applying due care.
C. Being alert to contradictory evidence.
D. Critically challenging management estimates.
15. If audit risk is assessed as high, the auditor will need to set a materiality level that is:
D. 10 per cent of the relevant balance.
16.The lower assessed level of control risk approach is appropriate as an overall audit strategy when:
A. the client’s activities involve a limited number of transactions, all of which can be easily traced to supporting documentation.
B. there is a lack of segregation of duties in all aspects of the client’s operations.
C. the client’s controls are considered to be well designed and are expected to be effective.
D. the majority of the client’s transactions are non-routine and, as such, are not addressed
by the client’s internal control.
17. Which of the following results of analytical procedures would best indicate that an entity has a going concern problem?
A. Quick asset ratio decreased from 3.6 to 2.7.
B. Debt to equity ratio increased from 1.7 to 3.6.
C. Number of times interest earned ratio increased from 5.5 to 6.4.
D. All of the given answers are correct.
18. A predominantly substantive audit approach should be used as an audit strategy when:
A. planned control risk is assessed as low.
B. it is more cost-effective to perform substantive audit procedures.
C. the acceptable level of detection risk is high.
D. planned control risk is 5per cent.
19. Information that would assist the auditor in obtaining knowledge of the industry and economic conditions of the entity includes:
A. an organisation chart for the entity.
B. the entity’s constitution.
C. trade journals.
D. the entity’s policies and procedures manual.
20. Audit programs usually contain:
A. details of the budget and staffing allocation for a client.
B. details regarding the nature, timing and extent of audit procedures to be performed.
C. dates when the auditor’s report must be signed.
D. background information on the client.
21. A properly planned and performed audit may fail to detect a material misstatement resulting from fraud because:
A. audit procedures that are effective for detecting an error may be ineffective for fraud that is concealed through collusion.
B. an audit is planned and performed to provide reasonable assurance of detecting material misstatements caused by errors but not by fraud.
C. the factors considered in assessing control risk indicated an increased risk of error but only a low risk of fraud in the financial report.
D. the auditor did not consider factors influencing audit risk for account balances that have effects pervasive to the financial report taken as a whole.
22. Which of the following characteristics would most likely increase an auditor’s concern about the inherent risk of intentional manipulation of the financial report?
A. Low turnover of senior accounting personnel.
B. Lack of controls over the purchasing function.
C. Substantial emphasis placed on management to meet earnings projections. D. Slow rate of change in the entity’s industry.
23. The audit expectation gap refers to
A. The difference between what the client thinks the audit fee will be and what the auditor actually charges
B. The difference between how much time the company being audited thinks an audit will take and how much time the auditor actually takes to complete the audit C. The difference between what the public thinks the auditor should do and what the auditor actually does
D. The difference between what the courts think the auditor should do and what the auditor actually does. E. None of the above.
24. Which of the following analytical review procedures, should be applied to the income statement?
A. Select sales and expense items and trace amounts to related supporting documents. B. Ascertain that the net income amount in the source and application of funds agrees with the net income amount in the income statement.
C. Obtain from the proper client representatives, the beginning and ending stock amounts that were used to determine costs of sales.
D. Compare the actual revenues and expenses with the corresponding figures of the previous year and investigate significant differences. E. None of the above.
25. The ___________________ is a detailed plan of what the audit will comprise. The
______________ are checks built into a client’s system to prevent or detect errors. ______________ is when the auditor should consider personal and financial relationships between audit firm personnel and the client.
Required: Select from the following options the words that would fill in the blanks, in the order set out.
A. Audit plan, flowcharts, appointment/continuance.
B. Audit plan, controls, completion and review.
C. Audit programme, controls, appointment/continuance.
D. Audit programme, controls, the audit risk analysis.
E. Audit budget, compliance tests, completion and review.
Section 2 Case Study questions
Question 2.1 Ethics Independence and Corporate Governance (9 marks)
Consider the following independent situations which arose in respect of your firm, ATB Partners. In each case Mr Abbot is the audit partner, Ms Tan is the tax partner, and Mr Bell is the business advisory partner.
(i) Holiday Motels Ltd is a chain of ten motels operating on the far south coast of NSW. Your firm performs both audit and tax work for Holiday Motels. The audit fees comprise around 10% of total audit fee revenue, while the tax work comprises around 5% of total tax related revenue. Holiday Motels has not paid any of its fees for the last three years, citing cash flow problems. However, in actual fact, Holiday Motels has made impressive profits over the last few years and has significant cash reserves. The partners have been reluctant to push the issue further, as Holiday Motels is a high profile client who they wish to retain.
Last month, your firm agreed to hold their annual staff retreat at one of Holiday Motel’s new motels, as a partial contra against the outstanding fees. Half of the outstanding fees will be waived, even though the reasonable market value of the services to be provided is only 30% of the total outstanding amount.
(ii) Ms Tan has just been appointed a director of Discount Travel Pty Ltd, a large proprietary company which is a travel agent. Mr Abbot performs the audit of Discount Travel in accordance with the relevant legislation. Mr Bell recently assisted Discount Travel in selecting and installing ABC Brand accounting software. ABC pay the firm a commission for every software package sold, and this fact was verbally disclosed to Discount Travel. In addition, Mr Bell has just performed a valuation of Discount Travel’s business for the purposes of a Family Law Court dispute.
(iii) Several of Mr Abbot’s staff recently completed a review of the internal controls at Expo Pty Ltd, a large proprietary company which is also an audit client. The work was charged at 120% of the usual consulting fees to partially recoup the lower audit fees brought about by a competitive tender. Audit staff implemented all the recommended changes in procedures by updating the company’s accounting manual and running a two hour training session for the accounting staff. As the audit staff has already performed significant work on Expo’s internal controls, the audit manager has decided to assess control risk as low and not perform any tests of control.
For each of the above independent situations, identify any professional requirements which have been breached and explain the impact of the breaches. (9 marks)
Question 2.2 Assessing inherent risk and other specific business risks ( 22 marks)
You are currently planning the 30 June 20X7 audit of Forest Ltd, an Australian-owned company that produces and exports woodchips to Japan. Forest’s operations are located in Eden, on the far south coast of NSW. Timber is purchased from forests nearby, processed into woodchips and immediately stockpiled for export at the company’s shipyards at Twofold Bay. Forest contracts timber cutters to deliver set tonnages of logs to its mill throughout the year. Woodchips are transported to Japan on charter vessels, which make an average of one trip a month.
At a recent planning meeting with Forest Ltd’s senior staff, you obtained the following overview of this year’s operations:
A massive conveyor belt is used to transport the woodchips from the mill to the stockpile.
The manufacturer of this belt was recently taken over by an overseas competitor of Forest
Ltd, Chipper Ltd, which processes woodchips in several South-East Asian countries. Chipper Ltd has indicated that it is willing to sell equipment to its competitors, but at double the price it will sell to its other customers. It is doubtful whether any other companies in the world manufacture such specialised conveyor belts.
Based on current usage figures, it is expected that the existing conveyor belt will last until
December 20X8. Sufficient spare parts are on hand to carry out routine maintenance work. However, should a replacement belt be required, it would take at least six months to have a replacement made and shipped to Australia, and a further four weeks to install and test it. It is unlikely that the company could survive a six months interruption to normal operations.
Management are currently deciding whether they should order a replacement belt from Chipper Ltd despite the excessive cost, or continue to search for an alternate supplier. Timber is purchased in 50 hectare lots from plantations and state forests. In the past, 70% of timber was sourced from plantations, however this has fallen to 50% in the current year. The corresponding increase in timber sourced from state forests has angered environmental groups. Protests have been held in several forests, which has slowed production and frustrated the contractors, who are only paid once set tonnages of timber are delivered to the mill. In addition, several shipments of woodchips have been delayed, angering the Japanese customers who are threatening to deduct 20% from amounts owing as compensation for lost production time.
Last month, a protester suffered a broken leg, allegedly because he was hit by a timber truck. The protester was blocking the main access road to one of the state forests at the time of the accident. The protester is now suing Forest Ltd for damages, claiming the contractor was in fact an employee of Forest Ltd at the time of the accident, and was acting on Forest
Ltd’s instructions. Forest Ltd is fighting the case and appears to have a reasonable chance of winning; however, the adverse publicity being generated is making the state government nervous about selling Forest Ltd any more of its timber resources.
One of Forest Ltd’s customers, Wood Ltd, is claiming that the latest batch of woodchips it received was contaminated with a microbe. This microbe affects the physical structure of the chips, reducing the pressure the chips can withstand when compressed. This has made the chips useless for heavy duty items such as desks and bookcases. Wood Ltd is refusing to pay its account, which is already five months overdue. Forest Ltd has launched an investigation into the allegations, but as yet has not been able to substantiate them. In January, Forest Ltd upgraded its accounts payable system to a fully integrated package that automatically updates the general ledger when creditor entries are made. Some problems have been experienced with the creditors ledger, which is split into $US and $AUD amounts. In some cases, $US amounts have been recorded as $AUD, resulting in inaccurate creditor balances. Month-end rollovers have also proved problematic, with creditor balances being incorrectly re-set to zero at the first of every month. This has required each creditor’s history to be re-entered manually each month, a time-consuming process that is taking accounting staff away from their normal duties.
During the period, the Australian dollar has remained steady against the Yen, although it fell by about 3% against the US dollar. Debtors are invoiced in $US at the time of shipment, and paid in $US one month after the shipment is received. It takes around six weeks for the charter vessels to travel from Twofold Bay to Japan. All plantations from which Forest Ltd sources timber are owned by US firms, which demand payment in $US prior to the timber being cut. A recent downturn in the Japanese economy is affecting forward orders, which have fallen by 15%.
(a) For each of the following items in Forest Ltd’s financial report, identify two (2) factors in the information provided that increase audit risk:
(i) Accounts payable;
(ii) Commitments and contingencies;
(iii) Inventory; and
(iv) Receivables. (8marks)
(b) Discuss one (1) adjustment to be made to your audit plan in response to the audit risk associated with each of the factors identified in part (a). (8 marks)
(c) Outline six (6) factors that indicate Forest Ltd may encounter going concern problems
over the next 12 months. (6 marks)
Planning, understanding the entity and evaluating business risk (12 marks)
You are an assurance services senior at Bailey & Associates and have noted the following independent issues in relation to the audit of Sleek Ltd:
(i) The accounting system at Sleek Ltd did not operate effectively during the first year of operations. Consequently, some general ledger accounts had to be based on estimates, as the actual data relating to these balances had been lost. (4 marks )
(ii) As a result of cost constraints, the directors of Sleek Ltd did not implement effective internal controls for debt collection. The debtors’ turnover is 3.2 times. (4 marks )
(iii) Due to increased competitive pressures, Sleek Ltd has recently moved the manufacture of some of its clothing lines out of Melbourne into regional areas. While Sleek Ltd saves around 20% in costs, the manufacturing process takes longer and on several occasions late delivery has resulted in lost sales. (4 marks )
Explain the impact of each of these separate issues on your assessment of audit risk, the materiality level and the audit strategy that would be adopted.
QUESTION 2.4 : Audit assertions and evidence 7 marks (9mins)
Select the letter of the ONE best term with the definition (left side) and insert the correct letter in the spaces provided. Not all ‘terms’ will be used.
_____1. Adjusting entries to Cost of Goods Sold are reviewed to ensure that the account only includes stock actually sold. (A) Completeness
_____2. The financial statements are inspected to ensure that accounts are classified under appropriate headings. (B) Accuracy
_____3. The ageing schedule for Accounts Receivable is reviewed for the existence of old unpaid accounts that have not, as yet, been considered in determining the Provision. (C) Validity: occurrence
_____4. The purchases journal is cast and crosscast. (D) Existence
_____5. A diamond dealer’s stock is shown to the auditor. (E) Valuation
_____6. A sample of purchase requisitions are vouched to control accounts in Inventory and Cost of Goods Sold. (F) Beneficial ownership/ obligation
_____7. The Romalpa clause applied to some of the client’s equipment, and the debt remains outstanding. (G) Presentation
(H) Validity: Authorisation
(I) Validity: Classification