ACFI 301 Advanced Auditing MAY ASSESSMENT/EXAMINATION 2021

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ACFI 301 Advanced Auditing

MAY ASSESSMENT/EXAMINATION 2021

Question One

1.1 You are the auditor of Royale Ltd, a manufacturer of fireworks. Following a disappointing last three months of trading, the company has requested an extension to its overdraft facility from its bankers. The bank has in turn asked your firm to provide a report on the company’s working capital, focusing on the recoverability of trade receivables and inventory.

Requirement
Explain the benefits and limitations to both the bank and Royale Limited of obtaining the working capital report.

4 marks

1.2 Your firm acts as auditor to Columbus Ltd, a retail car dealer. During the course of your audit for the year ended 30 June 20X5, you discover that the company’s sales manager, helped by the accounts clerk, has deliberately falsified details of the value of vehicles sold in order to increase his monthly bonus payments.

Requirement
Set out your responsibilities in respect of the above matter and contrast these with the responsibilities of the management of Columbus.

3 marks

1.3 Your firm’s largest client is Count Ltd (Count), a non-listed company. The statutory audit fee amounts to £468,000 per annum. In addition, your firm provides tax services to Count worth £179,000 per annum. Your firm’s total fee income for the current year is estimated at £6,200,000 including all the fees from Count described above.

Requirement

Outline the ethical issues and state how your firm should address these issues.

3 marks

1.4 At the audit planning meeting for the year ended 28 February 20X4 with the finance director of Malbec Ltd, you ascertained that payroll processing, which had been outsourced for a number of years, was brought back in-house in December 20X3. Management was not satisfied with the performance of the service provider and repudiated the contract. The service provider had been responsible for making payments to the employees and the monthly remittances to HMRC. Two of Malbec Ltd’s accounts clerks have been trained in payroll processing.

Requirement

Identify the audit risks in respect of the above matter for the year ended 28 February 20X4 and state how you would address these risks.

4 marks

1.5 You are planning the audit of Scorpio plc (Scorpio) for the year ending 31 December 20X0. Scorpio’s principal activity is the manufacture of a range of electrical appliances. In today’s newspapers, there are headlines about Scorpio recalling one of its most popular products due to electrical faults which, in a number of cases, have caused fires.

Requirement

Explain why this matter should be considered when planning the audit of Scorpio for the year ending 31 December 20X0.

2 marks

1.6 The directors of Pinot plc have included the following note in the accounts for the year ended 31 December 20X3: “The company reached agreement with its lenders, in October 20X3, to extend the maturities of its debt facilities until September 20X4, waive all existing covenant breaches and reduce interest costs. All preconditions contained in the facilities agreement have now been satisfied. The company is working on initiatives to significantly reduce its current debt levels and is to explore opportunities to raise further funds by September 20X4.

Based on progress to date, the directors remain confident that the company will be successful in achieving its strategy. While there can be no certainty, the directors believe that the adoption of the going concern basis is appropriate in the preparation of the financial statements. If adoption of the going concern basis was not appropriate, adjustments would be required to write down assets to their recoverable value, to reclassify non-current assets as current assets and to provide for any further liabilities that might arise.”

Requirement

Describe, with reasons, the possible effects of this note on the auditor’s report for the year ended 31 December 20X3.

4 marks

Total 20 marks

Question Two

Your firm is the external auditor of Wahey plc (Wahey) for the year ended 31 March 2021. Wahey is a leading online fashion retailer operating in a dynamic and fast-moving fashion market.

You are the audit senior responsible for planning the audit. The engagement partner has asked you to consider the following key areas of audit risk:

(1) Valuation of inventory

(2) Valuation of provision for sales returns (returns inward)

The engagement partner has provided you with the following extracts from the financial statements:

Statement of profit or loss for the year ended 31 March 2021 (extract)

	2021 (Draft) £’000	2020 (Audited) £’000
Revenue	1,967,687	1,154,824
Cost of Sales	1,101,905	623,605
Gross Profit	865,782	531,219

Statement of financial position as at 31 March 2021 (extract)

	2021 (Draft) £’000	2020 (Audited) £’000
Current Assets
Inventory	122,105	60,956
Current Liabilities
Provision for sales returns	24,250	22,110

In addition, the engagement partner provided you with the following information:

· Inventory consists of fashion items including clothing, footwear and accessories. Wahey maintains a perpetual inventory system and uses this to calculate the value of inventory for inclusion in its year-end financial statements.

· Profit before tax for the year ended 31 March 2021 is £99.6 million.

· The provisioning policy against inventory is primarily based on the age of items with additional amounts recognised against inventory lines that management expects to be subject to a discount.

· Wahey offers a 30-day sales returns policy on all sales. This period is extended for faulty items. Management calculate the returns provision using historical returns data, combined with the value of sales made in the final two months of the year.

· Your firm’s data analytics software has produced the following dashboard of Wahey’s sales returns profile for the 13 months ended 30 April 2021:

· Recent news reports have indicated that Wahey have been using suppliers who reportedly pay their workers below minimum wage. The reports acknowledge that Wahey were not profiting from these breaches of law, however the reports show that the directors of Wahey did know about these practices and chose not to act. There has also been controversial news coverage of the executive pay at Wahey. At the company’s last annual meeting, 25% of the shareholders opposed the remuneration report. The partners at your firm are concerned about being associated with Wahey, particularly in light of these recent news stories. The audit is due to be put out to tender for the 2022 audit and your firm is considering not tendering for the audit.

· During the course of the audit, the following internal control deficiencies were identified:

a) It was discovered that Wahey does not routinely update its anti-malware software. In April 2021, a computer virus corrupted the data held on the inventory system resulting in the loss of records relating to some of the inventory at 31 March 2021. The directors have included an estimate for inventory of £5.8 million in the financial statements, but your firm has been unable to corroborate this value.

b) When reviewing the accounting records for significant journal entries, it was noted that a year-end journal to record prepayments had been posted to the general ledger twice in error. Some journal entries had not been authorised or reviewed and IT controls do not prevent the posting of journals with a reference number which is identical to an existing journal.

Requirements

2.1 Justify why the items listed as (1) and (2) have been identified as key areas of audit risk and, for each key area, describe the audit procedures that should be included in the audit plan to address those risks.

You may present your answer using a two-column format headed ‘Justification’ and ‘Procedures’.

(22 marks)

2.2 For each of the two internal control deficiencies listed as (a) and (b) in the scenario, draft points for inclusion in your firm's report to those charged with governance and management at Wahey. For each deficiency, you should outline the possible consequence(s) of the deficiency and provide recommendations to address it.

You should present your answer under the following subheadings: (a) Company does not routinely update its anti-malware software (b) Journal entries are not reviewed and IT controls do not prevent the posting of journals twice.

(8 marks)

2.3 State, with reasons, the implications for the auditor's report on the financial statements of Wahey for the year ending 31 March 2021 of the loss of records relating to some of the inventory.

(6 marks)

2.4 With reference to the recent news reports about suppliers not paying their employees the minimum wage and the shareholders not approving the remuneration report, discuss why it is important to consider management integrity and reputational risk when deciding whether to provide audit services to the company.

(4 marks)

Total 40 marks

Question Three

Look Fabulous Ltd (LF) provides a monthly beauty box delivery service to customers in the UK and the rest of Europe. Each beauty box contains sample and full-sized beauty products for customers, including both new and classic items. Customers subscribe to the beauty box delivery service via LF’s website where they select the types of products they would like to receive.

Customers’ payment details are saved on the website and their credit card is charged with the price of the beauty box (in £) one week before it is delivered. Customers must give at least five days’ notice to cancel their subscription.

LF is planning to expand its operations to include a monthly vegan treat subscription box. These boxes will include vegan beauty products as well as vegan snack food and other vegan products such as handbags and clothing.

LF’s finance director has prepared profit and cash flow forecasts, including the diversification into vegan treat boxes, for the three years ending 31 May 2024. These will be submitted to LF’s bank in support of a loan application to fund the diversification. LF’s bank has requested that the forecasts are independently examined. LF has appointed your firm to perform the independent examination and provide an assurance report.

LF has provided you with the following information about the diversification into vegan treat boxes:

· LF will launch its vegan treat box service to customers on 1 October 2021. LF expects the monthly fee for vegan treat boxes to be higher than that of the beauty box. They have conducted some market research to give them an insight into the likely demand.

· An advertising campaign, starting in September 2021, will include a 25% discount voucher for customers to use against their first three months’ subscription.

· In August 2021, LF will acquire the leasehold for an additional distribution centre based in Birmingham. LF currently has a distribution centre in the south of England which it will continue to operate. Both distribution centres will be used to process and distribute the beauty boxes and the vegan treat boxes. Rent on both distribution centres will be paid quarterly in advance. The new distribution centre will be fitted with specialist fittings and equipment.

· Contracts for the supply of vegan treats will be negotiated with local and international suppliers. LM anticipates that it will negotiate volume-based rebates which are likely to take effect from December 2021. Suppliers will invoice LF in their local currency.

· LM has contracts with local delivery companies to collect beauty boxes from its distribution centre and deliver them to customers. LM plans to enter into further contracts with additional delivery companies, local to their new distribution centre, once it is operating.

The external audit of LF is due to be put out to tender for the year ending 31 December 2022. The directors of LF would really like your audit firm to consider tendering for the external audit. The directors have asked your firm to consider putting in a bid below the current audit fee in exchange for LF appointing you for some non-audit services they are expecting to need later in the year.

Requirements

3.1 From the information provided above, identify the specific matters that you should consider when reviewing the reasonableness of the assumptions underlying the receipts and payments included in the cash flow forecast for the three years ending 31 May 2024.

(15 marks)

3.2 Identify and explain the threats to objectivity and independence, and the professional issues (if any), that arise a result of the directors of LF’s request for you to offer a lower audit fee in return for appointing your firm for additional non-audit services. State any actions that your firm should take in respect of these matters.

(5 marks)

Total 20 marks

Question Four

4.1 In response to the issuing of the Brydon report, Business Secretary Andrea Leadsom said “The quality and reliability of audit has come under the spotlight on too many occasions, and it’s essential that we rebuild trust and confidence in this vital business oversight. Sir Donald’s review, as well as work carried out by Sir John Kingman and the CMA, will help inform our reform of audit.”

With reference to one, or more, cases of corporate collapse where the auditor’s role has been called in to question, such as Carillion, Thomas Cook and Patisserie Valerie, discuss the extent to which you think the consequences of these collapses were the result of a lack of audit quality . Give reasons for your answer.

Evaluate the extent to which proposed reforms to audit, such as those suggested in the Brydon Report, will help to address concerns regarding audit quality and reliability.

(10 marks)

4.2       (a) Outline the responsibilities of an auditor in relation to the going concern status of a company it is auditing.

(b) Assume an auditor expresses an opinion concluding that the financial statements of a company it is auditing are true and fair and those financial statements have been prepared on a going concern basis. If the company subsequently ceases to trade within 12 months, explain how it could still be the case that the auditor has performed a high-quality audit and has gathered sufficient, appropriate evidence to support its opinion.

(10 marks)

Total 20 marks