SECTION A (ALL 15 questions are compulsory and MUST be attempted, there is only one possible answer per question)
Each question is worth 2 marks.
The following scenario relates to questions 1 – 5:
You are the audit senior on the audit of Bell Limited (BELL), who manufacture mobile phones and has a year end of 31 March 2020. On Monday morning the audit partner calls you into the office for a meeting to inform you that you have been allocated a work experience student called Lucy for the week and you are required to take her out to BELL to show her how an audit is conducted and to give her experience in completing audit procedures.
The client has arranged a factory tour for the audit team on Monday afternoon and Lucy attends that. Everyone is keen to see how mobile phones are made – it was a great experience! At the end of the tour the factory manager gives everyone on the audit team, including Lucy, a free mobile phone from some excess stock they hold.
Later in the week, you ask Lucy to get involved in some walkthroughs, in particular those for the bank and cash process. Lucy noted the following in the audit file – ‘When the post is received into BELL the cashier opens it (the cashier has worked at BELL for seven years), counts the cash, posts the entries on the accounting system and lodges the cash each day as the owner of BELL does not like cash being held overnight at the premises’.
Lucy is delighted with her experience over the week, however she has asked some questions from you which are outlined below.
- What is audit risk?
- Audit risk is when there is a risk you fail to win the audit of a new client
- Audit risk is the risk that the manager fails to review the whole audit file
- Audit risk occurs when business and control risk are high
- Audit risk is the risk that the auditor expresses the wrong opinion on the financial statements
- What level of assurance does an external audit provide?
- Limited assurance
- Absolute assurance
- Reasonable assurance
- No assurance provided
- Lucy has asked if she and the audit team should accept the mobile phones.
- Yes, as the value of the mobile phones is insignificant to BELL
- Yes, as the combined value of the phones is under £500 therefore allowable under the FRC ethical standard
- No, gifts should not be accepted by the audit team or Lucy as this could be seen to impair the teams integrity, objectivity and independence
- Yes, as long as the audit manager and audit partner are not aware they accepted them
- Lucy isn’t sure if there is an issue with the cashier doing all the tasks mentioned above with cash and has asked for some guidance, which one of the following is the best advice you can give?
- No issue as the finance team could be small so people may have to do more than one job
- No issue as the cashier is a long standing staff member at BELL so they must be trustworthy
- If cash is banked daily – there isn’t a problem
- There is a lack of segregation of duties here, money could be misappropriated by the cashier and go undetected, issue should be highlighted to BELLs management and audit manager
- Lucy has asked what the difference is between the audit strategy and the audit plan.
- They are both the same thing
- The audit strategy sets out the overall approach to the audit and the plan outlines the nature, timing and extent of audit procedures
- The audit plan sets out the overall audit approach and the audit strategy outlines the nature, timing and extent of audit procedures
- The audit strategy outlines who will work on the audit, the audit plan highlights when the audit will be completed
The following scenario relates to questions 6 – 10:
You are involved in the audit of Griffen Limited (Griffen) for the year ended 31 December 2019. Griffen design, manufacture and sell vacuum cleaners in the UK. They have a strong supply chain in the UK however management have been doing research and discovered that they can obtain parts for their vacuum at a cheaper price from international suppliers. Therefore they are starting to develop this international supply chain to reduce the cost of their product.
It is coming close to the end of the audit and you are completing your work on the current liabilities of the company. You are tasked with addressing the questions below on the audit of this part of the company.
The draft financial statements are as follows:
|31 December 2019||31 December 2018|
|Trade Payables – sterling (1)||£567,293||£631,937|
|Trade payables – foreign (2)||£239,895||£86,539|
|Provision for legal case (3)||£40,000||–|
- Represents trade payable balances from purchases made from UK suppliers and recorded in sterling
- Represents trade payable balances from purchases made from international suppliers in foreign currencies and converted to sterling
- The legal case provision relates to an unfair dismissal claim bought against the company by a former employee during the financial year. The case is due in court in
September 2020, and the company’s lawyers believe it is likely the employee will win and the claim will be close to £40,000
Assume materiality is £45,000
- Which of the following procedures would be best suited to testing the completeness of the Trade Payables balance?
- Supplier statement reconciliations & cut off testing
- Post year end cash testing and bank reconciliations
- Review of debit balances on the creditors ledger & review of classification in the accounts between ‘due less than one year’ and ‘due in greater than one year’ (d) None of the above test completeness
- For the foreign trade payables, what foreign exchange rate should be used to translate the balances to sterling at year end?
- The foreign exchange rate at the date of the transaction
- The year-end rate
- The rate at the date the auditor is auditing the account balance
- Any rate during the financial year, whatever the client decides as the most appropriate
- What is the most reliable form of evidence to audit the legal provision?
- Discussions with management
- Review of board minutes
- Review of legal correspondence held by Griffen
- Sending of enquiry letter directly to Griffens lawyers
- It has emerged that the legal claim settlement is closer to £37,500, assuming management make no further adjustment or disclosure in the accounts what is the expected impact on the audit report?:
- Unqualified audit opinion – difference is immaterial
- Qualified audit opinion- ‘except for’
- Modified audit opinion – disclaimer
- Modified audit opinion – adverse
- It has emerged that the legal claim settlement is closer to £80,000, assuming management make no further adjustment or disclosure in the accounts what is the expected impact on the audit report
- Unqualified audit opinion – difference is immaterial
- Qualified audit opinion- ‘except for’
- Modified audit opinion – disclaimer
- Modified audit opinion – adverse
The following scenario relates to questions 11 – 15:
You are the auditor of OxyGen, a limited liability company who make and supply oxygen tanks to the health care sector – both public and private. They have a number of sites across the UK and Ireland which helps with the distribution of the products. The audit of OxyGen for the year ended 31 March 2020 had the following events:
- 29 April 2020 – One of OxyGen’s major private customers when into liquidation, they had a balance at year end representing 25% of the debtors ledger due to the timing of their purchases
- 7 May 2020 – Accounts were approved by the Board of Directors
- 15 May 2020 – Audit field work was completed
- 21 May 2020 – Final audit meeting held with management, all audit issues were discussed and audit adjustments approved
- 29 May 2020 – Auditors report signed
- 5 June 2020 – Accounts issued to members
- 17 June 2020 – Fire at one of OxyGens plants which destroyed around 60% of the stock at that site (this represents 2% of the company’s overall stock)
- In relation to the event on 29 April 2020, outline the appropriate auditing treatment for the 31 March 2020 audit.
- Post year end event therefore non adjusting, not material, no further work required
- Post year end event but an adjusting event, material, further work required
- Post year end event but an adjusting event, not material, no further work required
- All post year end events are irrelevant and will have no impact on the auditors work
- Which of the following statements best describe the procedures the auditor should undertake in relation to subsequent events?
- Obtain written representations from management alone will suffice
- Reading newspaper and internet based articles to see if there are any significant events which would impact the company
- Make enquiries from management, review board minutes, review communications with lawyers and review post year-end financial results
- The onus is on the company to alert auditors to subsequent events, therefore the auditor has no specific procedures to complete.
- In relation to the event on 17 June 2020, outline the appropriate auditing treatment for the 30 March 2020 audit:
- Accounts have already been signed, the auditor has no further obligation to consider events after this date
- Accounts have already been signed, however the auditor needs to assess the impact on the financial statements, discuss with management and determine if the accounts need to be adjusted
- Accounts have already been signed, however the auditor needs to assess the issue, discuss with management and ensure they are fully aware of the issue for the next financial year’s audit
- None of the above
- On 7 May 2020 the accounts were approved by the Board of Directors but whose responsibility is it to prepare the financial statements?
- The auditor
- Management and the auditor
- The Board of Directors
- ISA 580 on Written Representations outlines areas were auditors may seek representations from management, what are typical areas this may include?
- Knowledge of fraud and going concern conclusions
- Confirmation that they are satisfied with the level of materiality used by the auditors
- Provision of details of all related party transactions conducted by the company in the financial year
- Provision of information relating to their key competitors
- i only
- i, ii and iii
- i and iii
- All of the above
SECTION B (ALL 3 questions are compulsory and MUST be attempted)
You are the senior in the audit department of Johnson and Co, responsible for the audit of the Hilden Hotel Group (HILDEN), who has a financial year end of 31 March 2020. HILDEN have two large hotels – one in the North of England and one in the South. Their key period for occupancy is from April until September. The market is competitive as rival hotel groups try to undercut HILDEN at every opportunity. However HILDEN focus on excellent customer service and have a high level of repeat customers who return year on year.
The group are hoping to upgrade and extend the hotel in the South coast of England which is particularly popular due to its seaside location – average occupancy there is around 70% throughout the year, however this has fallen from 80% in the last 5 years. The drop in occupancy rates is due to competitor hotels having done refurbishments recently therefore offering a more attractive place to stay, combined with some competitive pricing. Furthermore the hotel in the South has recently lost its award winning chef to a competitor hotel, so its reputation has been hit as a result. In order to complete the refurbishment of the hotel in the South, HILDEN will need to obtain a bank loan.
During a planning meeting with the owner of HILDEN he noted the following:
‘While the hotel in the South of England is doing OK, we are struggling with the one in the North of the country, average occupancy rates there are only 45% across the year. This hotel is loss making, we are having to close it outside of the April-September period & we’ve made a few staff redundant there this year. This is mostly caused by the competition in the North and lower levels of people holidaying there. It is a concern for us.
The hotel in the South, while it holds good occupancy rates, the profitability associated with those stays has decreased over the last 5 years, gross profit margin down from 30% to 22%.
We have worked hard to cut costs this year – we relooked at our supplier base in particular and have opted for cheaper suppliers of food and drink, our major cost within the business. We also have extended our credit terms with most suppliers from 30 to 45 days. This is a real ‘win’ for us.
Cashflow has also been challenging at times, we are at our upper limit of our banking facilities hence why need to secure a loan to do the refurbishment in the South and to maintain working capital. The group have prepared a 3 year cashflow forecast for the bank loan application.
On a brighter note, we have completed the installation of the new computerised accounting system, it appears to be working well. We are able to get management data produced much more quickly so I’m delighted with that. We did have some teething problems but I believe we have managed to recover any data we lost during the transition.’
- State with reasons FIVE factors that would affect the initial assessment of inherent risk associated with the audit of the financial statements of HILDEN.
- Outline the audit procedures you would consider necessary to assess HILDENs ability to continue as a going concern.
- During the audit you suspect that not all the data lost during the installation of the new computerised system has been recovered properly – in particular you note that expense transactions for 10 weeks within the year look incomplete and could change the current small profit recorded in the accounts to a sizeable loss. When you discussed this with the accountant at HILDEN, they outlined that they were confident that all data was there.
- Outline the impact on the audit report, if any, that would arise if no further information was provided on the missing data
- If upon further investigation it emerged that the 10 weeks of incomplete data was in fact not included in the financial statements when they should have been and they are available for audit but the client is unwilling to adjust the accounts, outline the impact on the audit report.
- The bank have requested a report from HILDENs auditors to confirm the accuracy of the cashflow forecasts, describe THREE procedures you would adopt in your examination of the cash flow forecast produced for the bank.
Total 30 marks
Flying high Co is an aerospace company which manufactures aeroplane seats for some of the large airlines like British Airways, Emirates and Qatar. Seats range from economy to the latest high-tech premium seats reserved for first class passengers on these airlines. They operate a single factory in Northern Ireland and employ around 500 employees. Employees who work in the factory are paid wages weekly, whereas management and administration staff are salaried and paid monthly.
Details of the payroll system for the factory employees has been documented below.
- On arrival at the plant, all factory employees must swipe their staff cards on a keypad at the gate. This clock in/clock out system allows the company to keep track of who is on site and when.
- The various elements of the production process is overseen by a factory manager, who has a record of all employee numbers and can issue temporary staff cards to new employees.
- When overtime is worked it is recorded by the staff member on an ‘overtime form’ which is signed by the factory manager. The factory manager is responsible for passing this onto the company accountant by the Wednesday following the week in which the overtime is worked.
- The company accountant works out the gross basic and overtime pay for all employees using a spreadsheet, then updates the computerised financial system with the details. The computerised system then works out the deductions from gross pay (tax & national insurance), and produces the final net pay amount.
- Based on the final net pay amount, the accountant makes the necessary withdrawal from the bank, reconciling the net pay to cash collected.
- The accountant and another staff member make up the wages packets for the factory employees, this is made up of the cash and a summary hand written payslip showing gross pay, deductions and net pay.
- The accountant passes these packets onto the factory manager to be distributed to the factory employees.
- a) Identify FIVE deficiencies in the system described above, the risk associated with each deficiency and an appropriate recommendation on how to deal with each deficiency.
15 marks b) Outline the benefits for companies in using a computerised accounting system for their payroll process.
Total 20 marks
Down United is a second division football club in Northern Ireland and your audit firm, Preston, Wilson and Sweeney have won the audit for the 30 June 2020 year end. The club are performing well on the field and are drawing in new supporters on a regular basis. They hope to make it to the first division next season. On speaking with the clubs owners at the outset of the audit they highlighted a fraud which had been committed in the year in relation to their ticket sales.
All ticket sales occur at the club grounds on the night of the game – there is no option to purchase a ticket in advance of the game. Ticket sales are all in cash and are purchased on a first come, first served basis. A long standing supporter of the club and volunteer, John Davidson, was on the clubs gate at every game, selling tickets to the regular supporters and welcoming the new ones. He also lodged the cash the day after the game. All supporters paid £20 into the game and got a paper ticket from John, which he printed up that day. Details on the ticket included the date, who the opposing team was and kick off time.
Sales at each game were around £4,000. The club owners were happy with this as for the same period last year sales per game were approximately £3,000 a month – the increase reflecting the increased interest and attendance by supporters.
Unfortunately for John, he took ill for the last three months of the financial year, however the club owners highlighted that sales began to rise to around £4,500-£5,000 per game over this period. Upon further investigation it emerged that John was not reporting all the cash sales at the gate and was keeping some of the cash for himself to help fund medical bills.
The club are confused as to why the previous auditors did not detect this as it had being ongoing for a number of years.
- Outline THREE control deficiencies in the ticket sales process and provide a recommendation for each deficiency.
- With reference to relevant academic literature, critically discuss the extent to which the ‘expectations gap’ around the auditor’s responsibility for identifying and detecting fraud can be narrowed or closed.