Question 1
You are the audit manager in charge of the audit of Dartmouth Construction Ltd which is a building construction company for residential and commercial customers. The company is based in Kent and mainly covers the South East and the Home counties. This is the first year that you are auditing this client.
The company employs three hundred and fifty construction workers who are paid monthly under the HMRC’s CIS (Building Contractor) scheme where tax is deducted at source ranging from 20% to 30%. Each construction worker uses a state of the art ‘phone app which allows them to register their attendance at the building site which they have been assigned to and record their hours. The supervisor at each site also keeps a register of the workers who have worked that day. Every week, the payroll department downloads the relevant folder for each worker and calculates the pay and tax and makes payment to each worker.
The company have twenty office staff at their Head office that are paid a monthly salary.
There are twenty regional sales staff who initiate enquiries for construction work and are paid a low basic salary with a monthly commission payment that is based on the monthly sales that they have achieved.
The directors receive a year-end bonus based on the percentage of profit increase from the previous year, this is normally paid three months after the year once the financial statements have been finalised and audited.
Describe and explain using suitable and relevant examples FIVE inherent limitations of internal controls. (5 marks)
From the above scenario, write a memo to the audit team explaining FIVE internal controls that you would expect to find within the payroll department of Dartmouth Construction Limited. (Note: Where necessary, you can expand on the scenario in order to illustrate the points that you’re making). (15 marks)
Total: 20 marks
Question 2
ISA 700 Forming an Opinion and Reporting on Financial Statements states that the objectives of an auditor are:
To form an opinion on the financial statements based upon an evaluation of their conclusions drawn from audit evidence
To express clearly the opinion through a written report
Required:
Identify and briefly describe the main contents of an unmodified audit report.
(5 marks)
Explain your understanding of ‘Emphasis of Matter’ paragraph. Illustrate your answer with TWO relevant examples
(6 marks)
Question continued overleaf ………..
Question 2 (continued)
Explain your understanding of the following different types of modified opinions, using TWO suitable examples for each opinion:
Qualified
Adverse
Disclaimer
(9 marks)
Total: 20 marks
Question 3
You are the audit manager of Bimbola & Co. Certified Accountants and Registered Auditors and you are planning the audit of Tusla Motors Ltd that manufacture custom made sports cars some of which are of an electric plug-in ‘hybrid’ design. The average selling prices of these vehicles are £80,000.
The directors are planning to list Tusla Motors Ltd on the London Stock Exchange in the next 12 months and have asked if the engagement partner can attend the meetings with potential investors. In addition, because the financial director of Tusla Motors Ltd will be very busy with the listing, he has asked if Bimbola & Co can produce the financial statements for the current year.
During the year, the assistant finance director at Tusla Motors Ltd left and joined Bimbola & Co as a partner. It has been suggested that due to his familiarity with the company that he be appointed to provide an independent partner review for the audit. He has stated that he will be very happy to assist the audit team with this and also to deal with any queries that they might have during the course of the audit.
The directors of Tusla Motors Ltd have stated that when they receive the listing, they will require Bimbola & Co to provide the following additional services:
Advice on Corporate Governance best practice
Corporate finance advice
Accounting systems advice
Taxation – both corporate and personal for the directors
BimBola & Co is very keen to be appointed for these services. However, Tusla Motors Ltd have implied that in order to gain the work, BimBola & Co needs to complete the current audit quickly and with the minimal questions and issues.
Because of the current financial success of the company and its imminent listing, the directors of Tusla Motors Ltd have offered to take the audit team to a go- karting event before the audit commences. In addition, they have invited the engagement partner and his wife to join the directors for a meal at an exclusive five-star restaurant where they will be collected and returned home in the company’s chauffeur driven Rolls Royce motor car.
Question continued overleaf …..
Question 3 (continued)
To celebrate the 50-year anniversary of the company and to celebrate the impending flotation, the company has commissioned limited edition scale models of their cars in sterling silver which they have offered to each member of the audit team.
Tusla Motors Ltd have also offered to the audit firm a 25% reduction in the recommended sales price of their vehicles if the audit team would like to purchase a car from them.
The engagement partner’s son has just commenced his training with the firm and the engagement partner has asked that he be a junior on the audit team involved with the audit of this client.
Required:
Write a memo to the audit team explaining FIVE ethical threats identified from the above scenario (Note: You can develop the scenario further to illustrate the points which you may wish to make).
(10 marks)
For each of the threats identified in (a) explain how it might be reduced or eliminated to an acceptable level. (10 marks)
Total: 20 marks
Question 4
Under ISA 500 “Audit Evidence” auditors must design and perform audit procedures to obtain sufficient appropriate audit evidence to enable the auditor to form an audit opinion.
Required:
Explain your understanding of ‘sufficient appropriate evidence’.
(2 marks)
Audit evidence can be obtained from a variety of different sources. Identify the main sources of audit evidence and their degree of reliability, giving a suitable and relevant example of each.
(4 marks)
Identify and describe using suitable and relevant examples TWO procedures that the auditor would use to obtain audit evidence.
(2 marks)
Question 4 continued overleaf …..
Question 4 continued …..
You are the audit senior working on the audit of Tong See Carriage Ltd which is a company that provides international courier services for corporate and private clients. During the course of the audit, you come across the following items which may have relevance. These items are:
A local newspaper report stating that if the expansion to the local airport is approved, it will mean that part of the freehold properties belonging to Tong See Ltd will be demolished.
A letter from Tong See’s bank indicating the agreed overdraft facilities for the next year.
A comment by the Procurement Director over lunch that the air conditioning and heating controls in the warehouse were in a bad state of repair and were in need of upgrading.
The sample of items that were physically counted by the audit junior when he attended Tong See Ltd.’s year- end inventory count.
Required:
In respect of each of the above items:
State their relevance to the overall audit objective of forming an opinion on the financial statements. (1 mark for each point made). (4 marks)
State, with reasons, the degree of reliability. (1 mark for each point made). (4 marks)
State ONE additional item of supporting evidence that you could obtain as corroboration. (1 mark for each point made). (4 marks)
(Total:12 marks)
Total: 20 marks
Question 5
You are the audit manager at Hardwick & Co, the auditors of Gliders Plc (‘Gliders’), a listed company, for the year ended 31 December 2020. Gliders manufacture helicopter engines and replacement spare engine parts in the UK. The following issues have been brought to your attention at a recent review because the directors refuse to make allowances against the following:
During the external audit of Gliders for the year ended 31 December 2020 you discover a letter dated 1 February 2021 from the administrator of Easy Flyers Ltd (‘Easy Flyers’), a customer of Gliders. The letter informs Gliders that Easy Flyers is in administration and that the amounts due to Gliders will not be paid. Gliders’ financial statements include a trade receivable due from Easy Flyers of £950,000. Gliders’ draft financial statements for the year ended 31 December show profit before tax of £4.5 million and total assets of £34.6 million.
Question continued overleaf …………………..
Question 5 continued ….
The lockdown due to the pandemic during Dec 2020 to Feb 2021 affected workforce retention. As a result, an attempt to ensure the future of the company, a decision to make 30% of the workforce redundant was made with effect from 1 March 2021. The company’s directors have estimated that the likely redundancy payments will amount to £475,000.
It was discovered that inventory, which was included in the statement of financial position at a cost of £225,000, was sold for £175,000 on 15 January 2021.
Gliders held long-term trade investments in another public company, Nutshells Plc. On 1 February 2021, it was announced that Nutshells was going into liquidation. The investment is shown in the Statement of Financial Position at the historical cost of £400,000 and a note of its stock market value of £435,000 is included in the notes to the accounts. With this recent announcement, it is likely the investment may turn out to be worthless.
Required:
(a) Explain and contrast the effects of facts and events on the financial statements relating to a period but becoming known or occurring after the end of an accounting period. Comment on the acceptability of the company’s decision not to adjust its financial statements. (4 marks)
(b) In respect of the four situations above, explain the accounting treatment and disclosure; and discuss the detailed work which the auditor should undertake.
(16 marks)
Total: 20 marks
Question 6
Described below are three situations which have arisen at three unrelated external audit clients of your firm which the audit partner has asked you to review.
1. Silvan Ltd (‘Silvan’)
The financial statements of Silvan show the purchase of a motor vehicle from Endeavour Ltd (Endeavour), for £16,500, which has been appropriately included in non-current assets. While reviewing Silvan’s board minutes you discovered that Endeavour is owned and managed by the husband of Silvan’s managing director. The directors of Silvan refuse to disclose the transaction in the notes to the financial statements as they claim that the amount is too small to warrant disclosure. The draft financial statements of Silvan show total assets of £7.5 million.
Question continued overleaf ………..
Question 6 continued ………..
2.Plantoquip Plc (‘Plantoquip’)
Plantoquip’s audit documentation in relation to ‘plant and equipment’ notes an error in the calculation of depreciation on some items in the sample tested. The audit junior who performed the test extrapolated the error across the population of plant and equipment. This resulted in an overall expected error of £56,555. Materiality for the audit was set at £85,000. The audit junior concluded the error was not material.
3.May Plc (‘May’)
Your firm attended the inventory count at May’s warehouse on 30 June 2020, but was unaware that May also owned inventory held at a third party’s premises on this date. May has not retained any count records in respect of the inventory held by the third party and there are no other records from which the amount of inventory can be substantiated. The directors wish to include the inventory held at the third party’s premises in the year-end financial statements at £105,000.
The total assets of May at 30 June 2020 are £4.2 million and the profit before tax for the year ended 30 June 2020 is £950,000.
Required:
(a) Write a memo to the engagement partner in relation to each situation described above, explain your decisions as an auditor in light of materiality and the appropriate accounting principles. (You can develop the scenarios further as appropriate to illustrate the points made) (12 marks)
(b) Explain using suitable and relevant examples TWO reasons why performance materiality is set by auditors. (4 marks)
(c) Describe the relationship between materiality and audit risk within the external audit process.
