ACCA F8 _INT&UK_ Final Assessment - Answers _J12

ACCA

Paper F8 (INT & UK)

Audit & Assurance

June 2012

Final Assessment – Answers

To gain maximum benefit, do not refer to these answers until you have completed the final assessment questions and submitted them for marking.

ACCA F8 (INT & UK) AUDIT & ASSURANCE

2 KAPLAN PUBLISHING

© Kaplan Financial Limited, 2012

The text in this material and any others made available by any Kaplan Group company does not amount to advice on a particular matter and should not be taken as such. No reliance should be placed on the content as the basis for any investment or other decision or in connection with any advice given to third parties. Please consult your appropriate professional adviser as necessary. Kaplan Publishing Limited and all other Kaplan group companies expressly disclaim all liability to any person in respect of any losses or other claims, whether direct, indirect, incidental, consequential or otherwise arising in relation to the use of such materials.

All rights reserved. No part of this examination may be reproduced or transmitted in any form or by any means, electronic or mechanical, including photocopying, recording, or by any information storage and retrieval system, without prior permission from Kaplan Publishing.

FINAL ASSESSMENT ANSWERS

KAPLAN PUBLISHING 3

1 CLOUD CARE HOMES CO

Key answer tips

It is vitally important to plan your time effectively when answering the 30 mark question. After your reading time is over you have 1.8 minutes per mark. Mark sure you allocate your time against each requirement and do not overrun.

Following this it is vital to plan your answer so that you structure it effectively to answer the requirement and so that you know how many points to write.

For part (a) you are asked to explain the reasons for an auditor obtaining an understanding of the entity. “Explain” is worth up to 1 mark for each point made, and so you will need to make 4 points. Although you do not need to apply your answer to the scenario in this case, you must ensure you include enough detail to score a full mark for each point you make.

In part (b) you are asked specifically for five deficiencies. You will not score any extra marks if you give any more so do not bother: you will waste valuable time. Make sure you explain each deficiency in order to secure a full mark. You are then asked to explain each deficiency and make a recommendation for each deficiency. You will receive 1 mark for each explanation and 1 for each recommendation. You are also asked for a covering letter. These are easy marks so make sure you provide your answer in the format requested – and don’t forget to sign the letter off! If all the elements of the question are linked a table format (like the one below) is appropriate.

Part (c) is another knowledge based requirement, and similar to part a requires 4 well made points to score full marks.

Part (d) requires you to describe substantive procedures. Note that each procedure explains the purpose/objective of the procedure. This is required to score the full mark in the exam.

(a) Understanding of Internal Control Relevant to the Audit

The auditor needs to obtain an understanding of internal control relevant to the audit for a number of reasons, including:

• To enable the auditor to identify and assess the risk of material misstatement in the financial statements. In order to design further audit procedures, the auditor must assess the risk of material misstatement in the financial statements. Internal controls (and control risk) are a vital component of this risk model. The stronger the internal controls, the lower the risk of material misstatement in the financial statements.

• To assist the auditor in identifying potential misstatements and factors affecting the risk of material misstatement.

• To help the auditor obtain an understanding of their client, including the nature of the entity and its operations, and the classes of transactions, account balances and disclosures to be expected in the financial statements.


4 KAPLAN PUBLISHING

• To enable the auditor to effectively plan and execute tests of control to assess the design and operating effectiveness of internal control, and determine the reliance which can be placed on the internal controls.

• To enable the auditor to design the nature, timing and extent of further audit procedures necessary to ensure that audit risk is reduced to an acceptable level.

• The International Standards on Auditing (ISA 315, Identifying and Assessing the Risks of Material Misstatement through Understanding the Entity and its Environment) require the auditor to obtain an understanding of internal control relevant to the audit.

(b) Board of Directors

Cloud Care Homes Co 1 Main Road Anytown

1 December 2011

Dear Sirs,

Re: Audit of Cloud Care Homes Co

Please find enclosed the report to management on significant deficiencies in internal controls identified during the audit for the year ended 30 September 2011. The report considers deficiencies in the payroll system, implications of those deficiencies and provides recommendations to address those deficiencies.

Deficiency (i) Implication (ii) Recommendation (iii)

Care Staff timesheets are authorised by Care Home Managers who do not work directly with the Care Staff and could therefore not confirm if they worked their hours.

Timesheets may be authorised and payment made for hours that have not been worked by Care Staff.

Timesheets should be authorised by the Wing Manager who has responsibility for that member of Care Staff. They should then be countersigned by the Care Home Manager.

Rotas, which show the hours staff are working for the next week, are authorised retrospectively. Rotas are stored on a shared computer, and could therefore be accessed and amended by Care Staff.

Care Staff could add extra hours to the rotas to support false timesheet claims.

Rotas should be authorised by the Wing Manager before the start of the week to which they relate, and used by the Care Home Manager when checking timesheets.


KAPLAN PUBLISHING 5

Sunny’s timesheets are signed despite not being fully completed and handed back to Sunny to allow him to make amendments or further entries.

Care Staff could make false entries in their timesheets, and consequently would be overpaid.

Timesheets should be signed retrospectively. Confirmation of hours worked should be sent electronically in order to meet payroll’s deadline, and followed up with hard copies.

A student nurse, Ray’s daughter, is not being supervised during her first 1,000 hours of work, although this is a requirement for all student nurses.

Cloud Care Homes could be exposed to negligence claims, if Ray’s daughter makes mistake before she has completed her 1,000 supervised hours.

All student nurses should be supervised for a full 1,000 hours before being signed off as competent, or being allowed to work unsupervised. Ray’s daughter should be posted to another care home during her supervision stage, and any other relatives of any Care Home/Wing Managers should not be allowed to complete their supervision stage in the same care home as their relative.

The payroll department does not reconcile timesheets submitted to a current list of employees.

Payments could be made to staff who no longer work for Cloud Care Homes, unnoticed.

All leavers/joiners should be removed/added to payroll’s list of employees following completion of a leavers’/joiners’ form, signed by their immediate line manager and countersigned by a more senior member of staff. Care Home Managers should undertaken periodic checks of the pay run (at least half-yearly) to ensure that those appearing on the list are still employed. Payroll should reconcile all timesheets submitted to the current list of employees, which should be securely stored.


6 KAPLAN PUBLISHING

A multipurpose change in circumstances form is used for both permanent pay rises and temporary responsibility allowances. Records of important conversations with Cloud employees are not kept.

Instructions could easily be misunderstood, where the same form is used for different tasks, resulting in errors in payments to Cloud employees. If records are not kept of important telephone conversations, neither Cloud employees nor payroll department staff can prove that the conversation took place or what was said during it.

A record should be made and kept of all conversations in which staff calling to query a potential overpayment is told that their payment is correct (or other similarly important issues). Terms and Conditions and/or contracts of employment should state that staff is responsible for checking their pay-slips and for bringing potential overpayments to the attention of their line manager and the payroll department, and that they could be prosecuted if they knowingly retain money which has been paid to them in error. Different forms shouldbe used for permanentpay rises, temporary responsibility allowances, and other adjustments to pay to avoid confusion.

Please note that this report only addresses any significant deficiencies identified during the audit and if further testing had been performed then more deficiencies may have been reported.

This report is solely for the use of management and if you have any further questions then please do not hesitate to contact us.

Yours faithfully,

An Audit Firm

(c) Modifying the audit strategy and plan

The auditor is required to respond to and address the assessed risks of material misstatement in the financial statements.

If the results of tests of control indicate significant risk of material misstatement due to deficiencies in internal controls, the auditor should respond by modifying the overall audit strategy and audit plan and thereby the resulting planned nature, timing and extent of further audit procedures.


KAPLAN PUBLISHING 7

This may include:

• Increasing procedures conducted at and after the year-end;

• Increasing substantive procedures;

• Increasing the locations included in the audit scope;

• Assigning more experienced staff or those with special skills; and/or

• Using experts.

If the results of tests of control indicate an effective control environment, the auditor may:

• place more reliance on internal controls;

• place more reliance on evidence generated internally within the entity (which is more reliable within an effective control environment); and

• reduce the quantity of detailed substantive procedures.

(d) Substantive procedures

Perform a proof in total of payroll: Ascertain the average number of employees within Cloud (for both the current and previous year) and obtain details of the average pay rise (%) given in the year. Calculate the average salary for both the current and previous year, investigating any unexpected movement between the two.

Compare the total taxation deductions included in the financial statements for the year, with any payments made to (per the bank statements) or agreed (in correspondence) with the taxation authorities and investigate any unexpected differences.

Select a sample of payments made in the year, and reconcile to a current list of employees to confirm the employees exist.

Select a sample of payments made in the year, and reconcile to the supporting timesheets and contracts to verify the time worked has been correctly included and the employees are being paid at the correct rates (accuracy).

Select a sample of payments made in the year and reperform the calculation of hours worked multiplied by rate per hour to verify the accuracy of the payroll calculations, and recalculate the tax deductions to ensure they are properly calculated and accounted for.

Obtain a listing of total salary payments made each month/week, and reconcile to the amounts included in the nominal ledger, and the total included in the financial statements.

Obtain a listing of total salary payments made each month/week and investigate any material fluctuations from one month/week to the next.

Reconcile a sample of payments made to employees (from the bank statements) to the amounts included in the payroll records, to confirm accuracy, completeness and occurrence.


8 KAPLAN PUBLISHING

ACCA marking scheme

Marks

(a) Understanding Internal Control

• 1 mark for each point from the ideas list

– To assess the risk of material misstatement

– To identify potential misstatements

– To help obtain an understanding of the entity

– To plan and execute tests of control

– To design further audit procedures

– Required by the standards 4

(b) Payroll Cycle:

• 1 mark for each deficiency

• 1 mark for each implication

• 1 mark for each appropriate recommendation

– Authorisation of timesheets

– Authorisation and storage of rota

– Incomplete timesheets signed

– Unsupervised student

– No check to current list of employees

– Multipurpose change in circumstances form

– Records of conversations not kept

Up to 2 professional marks for letter format and overall professionalism 16

(c) Modifying audit strategy and plan

• 1 mark for each point from the ideas list

• Ineffective controls:

– Increased post year-end procedures

– Increased substantive procedures

– Locations

– More experienced staff

– Experts

• Effective controls:

– Reduced substantive procedures

– More reliance on internal controls

– More reliance on internal evidence 4

(d) Audit procedures

• 1 mark for each appropriate procedure 6

Total

–––

30

–––

2 REGULATION AND BENEFITS OF AUDITING

Key answer tips

Question 2 always requires repetition of knowledge, usually with regard to an International Standard of Auditing or other fundamental auditing principle. As there is no application to scenarios the general marking guide is ½ mark for listing of points of knowledge and ½ for consequent explanations of those points. You can use a similar rough marking guide when tackling ‘discussion’ based question 2’s. Remember: you only have 18 minutes on question 2!


KAPLAN PUBLISHING 9

(a) (i) Regulatory environment

Audit practitioners have to follow two sets of regulatory guidance:

• The Code of Ethics; and

• Auditing Standards (International Standards on Auditing).

The Code of Ethics

The objective of an audit is to provide an independent opinion on the financial statements; an audit can enhance the credibility of the financial statements if they have been examined independently. The IFAC and ACCA Code of Ethics require auditors to be and be seen to be independent and objective, and to consider whether it is appropriate to act as auditor given the impact of factors affecting their independence and objectivity.

In addition, the accountancy profession has a responsibility to act in the public interest, as well as the interests of a particular client or employer. If members observe and comply with the ethical requirements of the IFAC and ACCA Code of ethics, they will be acting in the public interest.

Auditing Standards

International Standards on Auditing:

• Harmonise audit practice worldwide so that users of audit services are confident in the nature of audits being conducted; and

• Focus on audit quality to strengthen public confidence in financial reporting.

(ii) National Corporate Law

National Corporate Law governs:

• Who needs an audit and why: in order to protect those who would not benefit, from the burden of the expense and disruption of an audit and ensure that those who would benefit from it have assurance over the accountability of the Director’s they entrust with running their company.

• Who is and is not eligible to audit: in order to ensure the independence and professional competence of the auditor.

• The rights and duties of an auditor: in order to set out the objectives of an audit and ensure the auditor can fulfil those objectives.

(b) Relationship between International Standards on Auditing and national standards

The international regulatory body which sets auditing standards, IFAC, has no legal standing in individual countries. Individual countries therefore have arrangements in place for:

• regulating the audit profession; and

• implementing auditing standards.


10 KAPLAN PUBLISHING

National standard setters:

• may set their own auditing standards; or

• may adopt and implement ISAs, possibly after modifying them to suit national needs.

(c) Benefits of an audit

Management may value having an independent professional scrutinise their business, systems, and processes.

Having an audit may deter potential fraudsters, ensure employees take more care when processing transactions reducing the risk error, and discourage management override of controls.

Third parties are more likely to rely on financial statements that have been audited, as it adds credibility to the financial statements.

Deficiencies in the internal control system may be highlighted (in the management letter).

ACCA marking scheme

Marks

(a) Audit procedures:

• ½ mark for identification of each of Auditing Standards/Code of Ethics

1 mark each for explanation of:

– Code of Ethics

– Auditing Standards

– National Corporate Law 4

(b) International and National Standards

• 1 mark for each point from ideas list

– IFAC no legal standing

– National standard setters must regulate the profession and implement audit standards

– National standard setters may set their own standards or adopt ISAs (after modification) 2

(c)

Benefits of an audit

• 1 mark for each point from ideas list

– Independent scrutiny

– Deterrent

– Enhanced credibility

– Deficiencies highlighted 4

Total ––– 10

–––


KAPLAN PUBLISHING 11

3 CUPCAKE CO

Key answer tips

This question tests your understanding and application to the scenario of a typical requirement in the exam – risk assessment.

Note that the question also includes a discussion of one of the key concepts in the syllabus, “reasonable assurance”. You need to explain the limitations of an audit in order to answer the question.

In part (b) you need to explain the difference between statistical and non-statistical sampling, as well as explain three types of statistical sampling. Note that Haphazard and Block sampling are not explained since they are non-statistical sampling methods.

In part (c) a two column approach is appropriate and easy to mark. You will received ½ mark for identifying risks relevant to the scenario, ½ mark for explaining them and 1 mark for explaining the audit response. The question requires you to include six risks, again don’t include more as they will not be marked and will just waste time.

(a) Limitations of an audit:

It is not possible to provide absolute assurance over the financial statements because:

Financial statements contain accounting estimates and other judgmental and subjective areas. There may be little evidence to support these amounts, and there is a higher risk of management bias in these areas.

The auditor may rely on the internal controls as a source of audit evidence. Internal controls themselves have inherent limitations, e.g. they are only effective for routine transactions, which can reduce the assurance they provide.

The auditor may rely on written representations in order to obtain sufficient appropriate evidence. These representations may not be a reliable source of audit evidence as they are subject to management bias and dependent on the integrity of management.

Audit evidence is often persuasive but not conclusive, e.g. a sales invoice is often the only evidence to support the occurrence or accuracy of a sale, however it is evidence generated by the client and therefore less reliable and its reliability is dependent on the effectiveness of the internal controls which processed the transaction.

The auditor tests on a sample basis. There is a risk that a material misstatement that exists is not identified because the misstatement is contained in transactions or balances other than those selected for testing.

(b) Sampling

Statistical sampling means any approach to sampling that uses:

• Random selection of items within a population to form the sample; and

• Probability theory to evaluate the results of testing a sample.



Any approach that does not have both these characteristics is considered to be non-statistical sampling.

Three types of statistical sampling are:

(i) Random: each item in a population is given a unique reference number and random number tables are used to select items within the population to form a sample for testing;

(ii) Systematic: a sampling interval is calculated by dividing the total number of items in the population by the sample size. The first item is selected using random number tables, and then the rest of the sample is selected by adding the sampling interval to the unique reference number for the previous item chosen, i.e. every nth item is selected.

(iii) Monetary unit: a population is divided into monetary units and each monetary unit is given a unique reference number. Random number tables are used to select monetary units from within the population. Items with a higher value therefore have a greater chance of selection, since they contain more monetary units.

(Tutorial note: Haphazard and Block are both non-statistical sampling methods.)

(c) Audit Risk

Audit Risk Audit Response

Cupcake sells a luxury product, in a country where there is currently a recession.

Sales are likely to be adversely affected by the recession. Combined with Cupcake’s small profit, there is the potential Cupcake may not be able to continue as a going concern and therefore disclosures regarding the uncertainty of its going concern status may not be adequate.

Perform a detailed going concern review including reviewing any profit and cash-flow forecasts carefully and consider the appropriateness of the assumptions used.

Cupcake has acquired a new store and new fixtures and fittings, in the year ended 30 November 2011.

Assets may have been inappropriately capitalised or recorded incorrectly.

Depreciation may not be calculated correctly, i.e. it may not pro-rated for 7/12 of the year.

Inspect the completion document/sale agreement for the new store to agree the purchase price to the amount capitalised.

Inspect the purchase invoices for a sample of fixtures and fittings acquired and agree the value recorded.

Enquire of management as to useful lives adopted and consider if these are appropriate, and recalculate the depreciation charge for the year for the store and a sample of fixtures and fittings.

Recalculate the depreciation charge for the new store to confirm accuracy.



Cupcake obtained a new bank loan in the year to finance a new store.

The balance of the loan will need to be split to show separately, the amount falling due within and after one year. The loan may be incorrectly classified.

Finance costs may be calculated incorrectly.

Agree the amount and terms of loan received from the bank to the bank statement or loan agreement and inspect the financial statements for appropriate classification and split of the loan as current and non-current.

Recalculate the interest charge based on the agreement, and agree to the amount recorded in the income statement.

Cupcake makes cash sales in stores.

Cash sales are susceptible to misappropriation and there is a risk that sales revenue is understated.

Extended controls testing to be performed over cash sales and detailed testing to be performed over completeness of income.

Cupcake provides eat-in facilities, meaning some sales are taxable. Cupcake may not be correctly charging customers tax.

There may be understated liabilities arising from sales tax owed to the taxation authorities, and/or fines penalties arising from the incorrect taxation of sales.

Enquire of management how sales staff identify whether sales are eat-in or take-out and extend testing of controls over this area.

Inspect correspondence with taxation authorities and completed tax returns to identify any unrecorded or understated liabilities.

The Stayrose contract is due for renewal on 31 January 2012 and Cupcake may have breached the current contract.

The Stayrose contract accounts for around 25% of total revenue. Combined with Cupcake’s small profit, there is the potential Cupcake may not be able to continue as a going concern.

If Cupcakes has breached the contract, there may be penalties that have not been accounted for, i.e. provisions may be understated, or contingent liabilities inadequately disclosed.

Perform a detailed going concern review including inspecting correspondence with Stayrose and enquiring of director’s what contingencies they have in place should the Stayrose contract not be renewed (e.g. potential contracts with other major retailers).

Inspect the contract with Stayrose to identify any penalty clauses within it, and ensure that any penalties are correctly accounted for as a provision or disclosed as a contingent liability.

The production and despatch of finished goods will continue during the year-end inventory count.

Ingredients and finished goods may not be counted correctly. There may be a cut-off error within closing inventory.

Attend the year-end inventory count and observe the effectiveness of controls over the despatch of finished goods and use of raw materials during the year-end inventory count.

Perform two-way test counts at the yearend inventory count and compare quantities to the quantities recorded by Cupcake – ascertain reasons for any discrepancies.



The directors have been approached by Yummy to acquire their shares in Cupcake and Yummy require the audited financial statements before making any offer.

The directors have an incentive to overstate profits and assets, and understate liabilities and costs in order to maximise the price they can achieve for their shares.

There may be time pressure put on the auditors to complete the audit for the purpose of the share purchase.

Direct attention and testing to more subjective and judgemental areas of the financial statements such as provisions, inventory valuation, depreciation, etc.

Agree the timetable in advance with the client, and ensure that adequate resource is allocated to the audit to enable sufficient appropriate evidence to be obtained.

ACCA marking scheme Marks

(a) Limitations:

• 1 mark for each limitation from the ideas list

– Estimates and judgements

– Internal controls

– Written representations

– Evidence persuasive not conclusive

– Sample basis 4

(b) Sampling:

1 mark for each of:

• Statistical = random + probability theory

• If not both characteristics, non-statistical

• 1 mark for explanation of each method

– Random

– Statistical

– Monetary Unit 4

(c) Audit Risk:

• 1 mark for explanation of each risk

• 1 mark for audit response/procedure responding to risk

– luxury product

– new store

– bank loan

– cash sales

– taxable sales

– breach of contract/contract renewal

– inventory cut-off

– yummy acquisition

12 –––

Total 20 –––



4 GREEDY INC

Key answer tips

Compliance with the IFAC and ACCA ethical codes of conduct and in particular auditor independence is a basic requirement for all audits. Audit committees play a role in this too.

Part (a) and (b) use the verb “describe”, worth one mark per point made. Each requirement will therefore require five points.

In part (c) a two column approach is again appropriate. For ten marks you will need to explain five ethical issues and identify one appropriate measure (i.e. safeguard) to reduce the threat to independence for each issue identified.

(a) Confidentiality

Auditors should respect the confidentiality of information acquired as a result of professional and business relationships and should not disclose any such information to third parties without proper and specific authority or unless there is a legal or professional right or duty to disclose.

Furthermore, confidential information acquired as a result of professional and business relationships should not be used for the personal advantage of members or third parties.

In their role as auditor of Greedy Inc, it is likely that Hargreaves and Rogers Co will have a professional duty to report certain matters to the financial services industry regulator in Happy Kingdom.

A breach of the financial regulations is likely to fall into one of these categories.

If the breach identified is not one which Hargreaves and Rogers Co is required to report to the regulator, they may have a right to report the matter if it is considered to be in the public interest.

There is no specific definition of what would constitute a matter of public interest. However, if Hargreaves and Rogers Co have made a public interest disclosure, they should have sought legal advice before doing so.

(b) Functions of an audit committee

• Monitoring the integrity of the financial statements. The audit committee can challenge management over the accounting treatment of particular balances or classes of transactions, particularly in relation to areas of significant financial subjectivity or judgement.

• Reviewing the company’s internal financial controls. The NEDs within the audit committee will have a wealth of knowledge and experience which would be useful in evaluating the effectiveness of internal controls.

• Monitoring and reviewing the effectiveness of the internal audit function. By reporting directly to the audit committee, the organisational status and independence of the internal audit function is increased.



• Making recommendations in relation to the appointment and removal of the external auditor and their remuneration. Having the audit committee make such recommendations, rather than management, increases the independence and objectivity of the external auditor.

• Reviewing and monitoring the external auditor’s independence & objectivity This can increase the effectiveness, quality and reliability of the audit process.

• Developing and implementing policy on the engagement of the external auditor to supply non-audit services. This will help protect the independence and objectivity of the external auditor ensuring that appropriate safeguards have been implemented. This will increase the shareholders’ confidence in the external audit process.

• Reviewing arrangements for confidential reporting by employees and investigation of possible improprieties (‘Whistleblowing’). Providing independent oversight ensures that the value of whistleblowing is promoted and will give employee’s confidence that they will be fairly treated when raising such concerns.

(c) Ethical threats and suggested safeguards

Threat Safeguard

The audit engagement partner and Finance Director regularly play golf together.

Whilst it would be normal for audit engagement partners to entertain clients (including by playing golf together), the auditor must remain independent of the client, and the fact that the Finance Director and audit engagement partner “regularly” play golf together, suggests a close relationship has been formed.

A close relationship would create a familiarity threat as the audit engagement partner may be too trusting of Mr Tickle, or too sympathetic to Mr Tickle’s interests.

The whole audit team must be, and be seen to be independent of the client. If the engagement partner no longer appears to be independent of the client, he should be removed from the audit team and replaced (rotated).

Alternatively, an independent partner review may be appropriate; in order to ensure the engagement partner has performed his work objectively



The Finance Director has asked Hargreaves and Rogers Co to represent Greedy Inc in court to defend an unfair dismissal claim.

Representing an audit client in the resolution of a dispute in court, where the amounts are material to the financial statements, would create a significant advocacy and self-review threat. The auditor would be and be seen to be promoting the client’s interests and so not independent.

In addition, if an auditor was to represent their client, they would not be able to objectively review the provision included in the financial statements in relation to the case.

The threat would be significant that no safeguard could reduce the threat to an acceptable level; therefore the auditor should politely refuse the request explaining the reasons for their decision.

The Finance Director’s daughter has requested to join the audit team.

This would create a familiarity threat as well as potential self-interest and intimidation threats.

The immediate family relationship creates a familiarity threat as Mr Tickle’s daughter would not be able to review the financial statements objectively as she would be too trusting of Mr Tickle and too sympathetic to his interests.

Mr Tickle’s daughter should not work on the audit or any other assignments that the audit firm undertakes for Greedy Inc.

A self-interest threat (or intimidation threat) may be created as Mr Tickle’s daughter may conceal (or be asked to conceal by her father) material misstatements she identifies during the audit, in order to ensure an unmodified opinion is given on the financial statements, protecting her father’s business interests.

Hargreaves and Rogers Co provide other services in addition to the audit.

This creates a self-review threat. The audit team may be less able, or willing, to identify errors identified during the audit process, which were originally made by the audit firm when providing other services.

Separation of the engagement teams (including separate reporting lines) that provide the audit and other services, ideally by utilising staff from different offices within Hargreaves & Rogers Co, would reduce this threat.



7% of Hargreaves and Rogers Co’s total fees are from services provided to Greedy Inc.

The high level of recurring fees earned from Greedy Inc creates a self-interest threat.

Because of their dependence on the client, the auditor may be more concerned about retaining the client (and engagements) and protecting the fees than forming the correct opinion on the financial statements.

The recurring fees from the client should be regularly monitored to ensure they do not breach the ACCA fee limits (10% for a listed client).

The level of fees earned and auditor independence should be discussed with the new audit committee of Greedy Inc.

An independent partner review may be appropriate; in order to ensure the audit team has performed their work objectively.


(a) Confidentiality

• Up to 1 mark for each point from ideas list

– No disclosure

– No personal advantage

– Professional duty to report to regulator

– Regulatory breach

– Public Interest

– Legal advice 5

(b) Audit Committee

• Up to 1 mark for each function described

– Monitoring FSs

– Reviewing internal controls

– Monitoring internal audit

– Recommending external auditor

– Monitoring independence

– Policy re non-audit engagements

– Whistle-blowing

5

(c) Threats and safeguards

• 1 mark for each threat explained

• 1 mark for each safeguard

– Golf Familiarity threat / remove from audit

– Dispute Advocacy threat / refuse request

– Daughter Familiarity threat / not on audit team

– Self review threat / separate teams

– Fees Self-interest threat / monitor fee levels 6

–––

Total 20 –––



5 PLANETS

Key answer tips

The requirement for question five always relates to the completion and/or reporting phase of the audit. ‘Subsequent events’ is a common question in this area.

Part (a) should pose few problems and requires little more than learned knowledge from the study text.

Part (b) requires application of the knowledge from part (a) to the two events described. Don’t forget to calculate materiality – this is always considered by the auditor when determining whether an event is adjusting or non-adjusting.

Part (c) requires you to explain appropriate substantive procedures. As with Q1(d) don’t forget to explain the purpose/objective of the procedure. This is required to score the full mark for each procedure in the exam.

Part (d) is more difficult. For the reporting questions in the exam, it is vital that you can discuss the difference between a misstatement and an inability to obtain sufficient appropriate evidence. You also need to be able to discuss the difference between material and pervasive (not the size of an error but whether the financial statements can be relied on in part or not at all!) If you can do this the form of opinion is answered for you.

It is also important that you can discuss an ‘emphasis of matter’ paragraph. This is not a modification to the audit opinion, just the audit report. When you include an EOM you typically given an unmodified opinion (i.e. “the accounts are true and fair”) you simply draw the shareholders attention to a note already disclosed in the accounts. Expect 1 mark for each point of explanation in part (d).

(a) Definitions

(i) Event after the reporting period: An event, which could be favourable or unfavourable, that occurs between the end of the reporting period and the date that the financial statements are authorised for issue.

(ii) Adjusting event: An event after the reporting period that provides further evidence of conditions that existed at the end of the reporting period, including an event that indicates that the going concern assumption in relation to the whole or part of the enterprise is not appropriate.

(iii) Non-adjusting event: An event after the reporting period that is indicative of a condition that arose after the end of the reporting period.

(b) Analysis of events Metal in breads: The issue of metal in breads is within the scope of IAS 10, because the problem was identified after the reporting date (31 October 2011) but before the date that the financial statements will be authorised for issue. The issue is material, because, 95,000 of the products were in stock at the year with a value of €133,000, and as these products had to be disposed of their net realisable value is €0, meaning that the full €133,000 cost would have to be written off to the income statement. €133,000 is 13.5% of profit, and 8.5% of total assets.



The issue is an adjusting event because it provides evidence of conditions existing at the end of the reporting period. As at 31 October 2011, the breads had been manufactured and already contained fragments of metal.

Therefore profit should be reduced and inventory decreased by €133,000.

Flood: The flood is within the scope of IAS 10, because it was occurred after the reporting date (31 October 2011) but before the date that the financial statements will be authorised for issue. The flood is material because €405,000 of inventory was destroyed, representing 41% of the company’s profit before tax, and 26% of total assets.

The flood is a non-adjusting event because it is indicative of a condition that arose after the end of the reporting period. Therefore the write off of inventory should not be recognised in the financial statements for the year ended 31 October 2011. However, as the amount to be written off from inventory is so material, the flood should be disclosed in a note to the financial statements.

In addition, because of the amount of inventory lost, there may be a significant impact on the going concern status of the entity which may require an additional or more detailed disclosure.

(c) Audit procedures

Metal in bread:

• Inspect Board Minutes to confirm action taken to investigate incident, identify affected products, and prevent future similar incidents occurring.

• Obtain confirmation of the products disposed of/affected and agree the cost of these products to supporting evidence, e.g. cost cards/purchase invoices etc.

• Recalculate the total cost of the products disposed of and agree this amount to the amount written off in the income statement and against inventory for the year ended 31 October 2011.

• Review trade/consumer press to identify whether the issue might damage Uncle Raj’s reputation which could impact future revenues or even create a going concern threat.

• Propose adjustment of the financial statements to the directors.

Flood:

• Inspect Insurance documents to confirm that no claim can be made in respect of the flood.

• Inspect cash flow and profit forecasts as part of the going concern assessment of Uncle Raj’s and ensure the impact of the flood has been taken account of.

• Review correspondence with customers to identify if any contracts have not been fulfilled as a result of the floods, and consider the impact on the going concern status of Uncle Raj’s, e.g. potential loss of customer contract, compensation payments to customers etc.

• Propose an adjustment to the financial statements to disclose the flood and the potential impact on the going concern status of Uncle Raj’s as necessary.



(d) Impact on audit opinion

The auditor must modify the audit opinion on the financial statements if the directors refuse to make the relevant adjustments in the financial statements requested by the auditors.

Both the metal in breads inventory write-off (which should have been recognised) and the flood (which should have been disclosed rather than recognised) are material to the financial statements and would result in a material misstatement in the financial statements if the appropriate adjustments are not made.

The auditor must express a qualified (‘except for’) opinion if they conclude that the misstatements are material, but not pervasive, to the financial statements.

The auditor must express an adverse opinion if they conclude that misstatements are both material and pervasive to the financial statements.

Given the size of the amounts involved, an adverse opinion may be appropriate in relation to the flood, and a qualified opinion in relation to the metal in breads inventory write-off.

If the auditors conclude that there is a fundamental uncertainty about the going concern status of Uncle Raj’s due to the loss of inventory following the flood, and the disclosures made in the financial statements are adequate, they should express an unmodified opinion, with an emphasis of matter paragraph, explaining the issue and referring the users to the relevant disclosure note.




(a) Definitions

• Up to 1 mark for each definition 3

(b) Analysis of events

• Up to 1 mark for each matter described

• Event 1

– Subsequent event

– Materiality

– Adjusting event

– Reduce profit, decrease inventory

• Event 2

– Subsequent event

– Materiality

– Non-adjusting event

– Disclosure needed

– Going concern impact

8

(c) Audit procedures

• Up to 1 mark for each audit procedure

5

–––

(d) Audit opinion

• Up to 1 mark for each point:

– Modify audit opinion if not adjusted

– Material misstatement

– Qualified except for opinion

– Adverse opinion if material and pervasive

– Adverse opinion flood disclosure

– Qualified opinion inventory write off

– Fundamental uncertainty, emphasis of matter

–––

Total 4 –––

ACCA F8 _INT&UK_ Final Assessment - Answers _J12

Documents

final assessment

unique reference

mr tickles

permanent

care home

acca marking

temporary

random number