Fundamentals Skills Module – Mock 1
Audit and Assurance
Reading and planning: 15 minutes
Writing: 3 hours
All FIVE questions are compulsory and must be attempted
Do NOT open this paper until instructed by the supervisor. During reading and planning time only the question paper may be annotated.
You must NOT write in your answer booklet until instructed by the supervisor.
ALL FIVE questions are compulsory and MUST be attempted.
1 TopNotch4U supplies a wide range of high quality toys to foreign and domestic customers. Whilst the company only has one exclusive shop (including a small storage warehouse), approximately 50% of its sales are made via its award winning website to private customers. A further 25% of sales are to ten overseas franchises (commercial customers). The commercial customers place orders in writing, are issued sales invoices and allowed 60 days credit.
Internet customers view the company’s website and place their orders using the industry standard “shopping basket” approach. When a customer selects a toy on the website, the system transfers the product detail (eg description, product code, price) from the product database to the “checkout” programme for the customer to view. On completing their order, customers proceed to the “checkout” to make a final confirmation of their order, complete delivery details and enter their credit card details. All of this data is taken directly from the web screen by the program and stored in the orders file on TopNotch4U’s secure server. Once an order has been confirmed by the customer, the system prints out a two-part despatch note used by the despatch manager to locate the toys within the shop and warehouse, pack them with the customer’s copy of the despatch note, and despatch the toys. At the end of each day, the second copy of the note is sent to the accounts department. The despatch notes are not pre-numbered by the system. Only the customer’s copy is signed by the manager.
Two years ago, because of the estimated cost to replace the company’s legacy computer system (an integrated sales, ordering, purchase and accounting system) the company had decided to only develop a stand alone web based application. Therefore the sales data from the orders file is transferred to the legacy system via a Zip drive at the end of each day. The Zip disc is automatically formatted after the data has been transferred. No other action or check is taken on this data.
First thing each morning, a product sales report for the previous day is produced by the legacy system. This report is used to manually update the inventory records maintained in a separate programme on the shop manager’s laptop computer and then filed in date order by the manager. Inventory is counted only at the end of the financial period.
The second copy of the despatch note is used by the accounts department to initiate the charging of the customer’s credit card via the legacy system. This is usually done by the retrieving the credit card details from the legacy system and manually entering those details plus the sales value into the online credit terminal. When authorisation has been received, the legacy system is flagged to indicate that the toys have been sent and payment will be received from the credit card company. The copy despatch note is filed in date order.
This is the first year that your firm has audited TopNotch4U. You have just completed your initial planning, which included a thorough business risk review and assessment of the internal control system, and have decided that your audit approach will be fully substantive.
(a) In respect of the private customer sales system of TopNotch4U, prepare a draft
management (internal control weakness) report to the directors which: (i) identifies and explains the weaknesses in that sales system; (ii) explains the possible effect of each weakness; and
(b) For the internet private customers, list and explain the audit procedures you would carry out to obtain assurance that goods dispatched during the year have been correctly recorded within the sales module of the legacy system, and that the related receipt from the credit card company has been received.
(c) Explain the audit procedures you would expect to carry out to confirm the
existence and collectibility of the commercial customers’ period end debts.
(d) Explain the concept of cut-off. (3 marks)
2 (a) The ACCA Code of Ethics and Conduct identifies five fundamental principles and provides a conceptual framework to assist members in identifying, evaluating and responding to threats to compliance with those principles.
List and briefly explain (giving examples) the five categories of threats to the
fundamental principles identified within the conceptual framework. (5 marks)
(b) ISA 315 Identifying and Assessing the Risks of Material Misstatement through Understanding the Entity and its Environment makes clear that as well as understanding the business and its environment the auditor must also understand the internal controls of the entity.
Describe the five components of internal control. (5 marks)
3 You have been the audit manager of Okalas Inc, a company listed on a stock exchange, for the last five years. The company manufactures military tank engines. You are currently planning the audit for the year ended 31 March 2008.
Okalas supplies tank engines to Australasia, Middle-Eastern countries and NATO. Three types of engine are manufactured:
(1) Thunderflash – a very recent development; (2) Fox – has been in service for the last five years;
(3) Snooper – was designed and put into production twenty years ago.
Okalas is currently tendering for a $200m contract with NATO to sell Thunderflash engines for a new NATO tank. However, stiff competition is being received from Thorn Inc, a US company.
The inventory ledger is maintained on a mid-ware computer system. The software was written in-house five years ago.
A continuous stock-checking system is operated on the 25,000 individual product lines carried. The internal audit manager is closely monitoring this year’s physical checking results as counting discrepancies are at a higher than expected level and the overall counting programme is behind schedule.
The reporting partner for the last ten years has just retired and you are due to meet with the new reporting partner to discuss with her the forthcoming Okalas audit.
(a) Describe the areas of financial statement risk particular to Okalas. (12 marks)
(b) Explain the audit work you will perform in relation to:
(i) the warranty claim; and
(ii) inventory. (8 marks)
4 EduChar is a charity whose constitution requires that it raises funds for educational projects. These projects seek to educate children and support teachers in certain countries. Charities in the country from which EduChair operates have recently become subject to new audit and accounting regulations. Charity income consists of cash collections at fund raising events, telephone appeals, and bequests (money left to the charity by deceased persons). The charity is small and the trustees do not consider that the charity can afford to employ a qualified accountant. The charity employs a part-time bookkeeper and relies on volunteers for fund raising. Your firm has been appointed as accountants and auditors to this charity because of the new regulations. Accounts have been prepared (but not audited) in the past by a volunteer who is a recently retired Chartered Certified Accountant.
(a) Describe the risks associated with the audit of EduChar under the headings
inherent risk, control risk and detection risk and explain the implications of
these risks for overall audit risk. (10 marks)
(b) List and explain the audit tests to be performed on income and expenditure
from fund raising events. (10 marks)
NB: In part (a) you may deal with inherent risk and control risk together. You are not required to deal with the detail of accounting for charities in either part of the question.
5 You are the audit manager of Paradise Meltdown, a limited liability company. The company’s annual turnover is over $50 million.
(a) Compare the responsibilities of the directors and auditors, regarding the
published financial statements of Paradise Meltdown, in the areas of preparing
the financial statements, fraud & error and going concern. (6 marks)
(b) An extract from the draft audit report is given below:
“We conducted our audit in accordance with the principles of Auditing Standards. An audit includes examination, on a test basis, of evidence relevant to the amounts and disclosures in the financial statements. It also includes an assessment of all the estimates and judgements made by the directors in the preparation of the financial statements, and of whether the accounting policies are appropriate to the company’s circumstances, consistently applied and adequately disclosed.”
“We planned and performed our audit so as to obtain as much information and explanation as possible given the time available for the audit. We confirm that the financial statements are free from material misstatement, whether caused by fraud or other irregularity or error. The directors however are wholly responsible for the accuracy of the financial statements and no liability for errors can be accepted by the auditor. In forming our opinion we also evaluated the overall adequacy of the presentation of information in the company’s annual report.”
(i) Explain the requirements of IAS 700 The Independent Auditor’s
Report on a Complete Set of General Purpose Financial Statements
covering the two basic reporting elements of the auditor’s
responsibility and the scope of their work. (5 marks)
(ii) Identify and explain the errors and omissions in the above extract.
NOTE you are not required to redraft the report. (9 marks)