AUDIT AND ASSURANCE WEEK 13 QUESTIONS TOPIC: CONCEPT OF PROFESSIONAL SKEPTICISM, ISSUE AND ETHICS

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1 AUDIT AND ASSURANCE WEEK 13 QUESTIONS TOPIC: CONCEPT OF PROFESSIONAL SKEPTICISM, ISSUE AND ETHICS Kindly go through chapter 7 (part 1-2) in the video lecture before you attempt the questions because the topic have been simplified and analyzed for easy understanding. QUESTION 1 (a) A high-quality audit features the exercise of professional judgement by the auditor, and importantly, a mind-set which includes professional skepticism throughout the planning and performance of the audit. Explain the meaning of the term professional skepticism, and discuss its importance in planning and performing an audit. You are an audit manager in Soprano & Co, working on the audit of the Tony Group (the Group), whose financial year ended on 31 March This is the first time you have worked on the Group audit. The draft consolidated financial statements recognize profit before tax of 6 million ( million) and total assets of 90 million ( million). The Group manufactures equipment used in the oil extraction industry. STARRY GOLD ACADEMY , , info@starrygoldacademy.com, Page 1

2 Goodwill of 10 million is recognized in the Group statement of financial position, having arisen on several business combinations over the last few years. An impairment review was conducted in March 2015 by Silvio Dante, the Group finance director, and this year an impairment of 50,000 is to be recognized in respect of the goodwill. Silvio has prepared a file of documentation to support the results of the impairment review, including notes on the assumptions used, his calculations, and conclusions. When he gave you this file, Silvio made the following comment: I don t think you should need any evidence other than that contained in my file. The assumptions used are straightforward, so you shouldn t need to look into them in detail. The assumptions are consistent with how we conducted impairment reviews in previous years and your firm has always agreed with the assumptions used, so you can check that back to last year s audit file. All of the calculations have been checked by the head of the Group s internal audit department. Silvio has also informed you that two members of the sales team are suspected of paying bribes in order to secure lucrative customer contracts. The internal audit team were alerted to this when they were auditing cash payments, and found significant payments to several new customers being made prior to contracts being signed. Silvio has asked if Soprano & Co would perform a forensic investigation into the alleged bribery payments. (b) (i) Discuss how professional skepticism should be applied to the statement made by Silvio; and (ii) Explain the principal audit procedures to be performed on the impairment of goodwill. STARRY GOLD ACADEMY , , info@starrygoldacademy.com, Page 2

3 QUESTION 2 (a) Kennel & Co, a firm of Chartered Certified Accountants, is the external audit provider for the Retriever Group (the Group), a manufacturer of mobile phones and laptop computers. The Group obtained a stock exchange listing in July The audit of the consolidated financial statements for the year ended 28 February 2013 is nearing completion. You are a manager in the audit department of Kennel & Co, responsible for conducting engagement quality control reviews on listed audit clients. You have discussed the Group audit with some of the junior members of the audit team, one of whom made the following comments about how it was planned and carried out: The audit has been quite time-pressured. The audit manager told the juniors not to perform some of the planned audit procedures on items such as directors emoluments and share capital as they are considered to be low risk. He also instructed us not to use the firm s statistical sampling methods in selecting trade receivables balances for testing, as it would be quicker to pick the sample based on our own judgement. Two of the juniors were given the tasks of auditing trade payables and going concern. The audit manager asked us to review each other s work as it would be good training for us, and he didn t have time to review everything. I was discussing the Group s tax position with the financial controller, when she said that she was struggling to calculate the deferred tax asset that should be recognized. The deferred tax asset has arisen because several of the Group s subsidiaries have been loss making this year, creating unutilized tax losses. As I had just studied deferred tax at college I did the calculation of the Group s deferred tax position for her. The audit manager said this saved time as we now would not have to audit the deferred tax figure. The financial controller also asked for my advice as to how the tax losses could be utilized by the Group in the future. I provided her with some tax planning recommendations, for which she was very grateful. In relation to the audit of the Retriever Group, evaluate the quality control, ethical and other professional matters arising in respect of the planning and performance of the Group audit. (b) The audit committee of the Group has contacted Kennel & Co to discuss an incident that took place on 1 June On that date, there was a burglary at the Group s warehouse where inventory is stored prior to dispatch to customers. CCTV filmed the thieves loading a lorry belonging to the Group with boxes containing finished goods. The last inventory count took place on 30 April 2013.The Group has insurance cover in place and Kennel & Co s forensic accounting department has been asked to provide a forensic accounting service to STARRY GOLD ACADEMY , , info@starrygoldacademy.com, Page 3

4 determine the amount to be claimed in respect of the burglary. The insurance covers the cost of assets lost as a result of thefts. It is thought that the amount of the claim will be immaterial to the Group s financial statements, and there is no ethical threat in Kennel & Co s forensic accounting department providing the forensic accounting service. In respect of the theft and the associated insurance claim: (i) Identify and explain the matters to be considered, and the steps to be taken in planning the forensic accounting service; and (ii) Recommend the procedures to be performed in determining the amount of the claim. STARRY GOLD ACADEMY , , info@starrygoldacademy.com, Page 4

5 QUESTION 3 You are an audit manager of Pink Partners & Co (Pink) and are planning the audit of Golden Finance Co (Golden), a banking institution which provides a range of financial services including loans. Your firm has audited Golden for four years and the company s year-end is 30 September At the end of August, Golden s financial controller left and the new replacement is not due to start until approximately two months after the year end. The finance director, who is the sister-in-law of the audit engagement partner, has asked if a member of the audit team can be seconded to Golden for three months to act as the temporary financial controller. You are aware that a number of the audit team members currently bank with Golden and two team members have significant loans owing to the company. Pink s taxation department also provides services to Golden. They have been approached by Golden to represent them in negotiations to resolve some outstanding issues with the taxation authorities, for which the fees quoted are substantial. The finance director has informed the audit engagement partner that when the audit is complete, she would like the whole team to attend an evening watching the national football team play a match followed by a luxury meal. Using the information above: (i) Identify and explain FIVE ethical threats which may affect the independence of Pink Partners & Co s audit of Golden Finance Co; and (ii) For each threat, explain how it might be reduced to an acceptable level. STARRY GOLD ACADEMY , , info@starrygoldacademy.com, Page 5

6 QUESTION 4 Explain briefly on the following under the umbrella of Professional Ethics, (i)meaning of Professional Ethics (ii)professional Code of Ethics (iii)fundamental Principles of Ethics (iv)requirements and application of Professional Ethics in the conduct of Auditors duties and responsibilities. STARRY GOLD ACADEMY , , info@starrygoldacademy.com, Page 6

7 QUESTION 5 You are a manager at Chennai & Co, a firm of Chartered Certified Accountants. One of the partners has asked you to investigate and respond to a number of issues which have arisen with two different companies. (a) Delhi Co, a potential new client, is a privately owned and rapidly expanding company which currently operates below the audit threshold in the country in which it is based. The company s management is currently considering having either a full audit or a limited assurance review of their financial statements. The partner would like you to assist the management of Delhi Co by writing a response to them in which you: (i) Explain the difference between an audit of historical financial statements and a limited assurance review. (ii) Discuss the relative advantages and disadvantages to Delhi Co of having an audit of their historical financial statements as opposed to a limited assurance review. Delhi Co was incorporated in 2005, with founder and chief executive Mr. Nimesh Dattani as the sole shareholder. After a period of rapid growth, Delhi Co took out a ten-year bank loan facility in June 2007 to finance Mr. Dattani s ambitious expansion plans. This was supported by a further injection of financial capital in 2014 through a new issue of shares in the company. The shares were sold to Mr. Robert Hyland, an ex-business partner of Mr. Dattani. The sale gave Mr. Hyland a 40% shareholding in Delhi Co. He has no involvement in the management of the company. Until recently Delhi Cooperated with a small accounting department, comprising one full-time member of staff and one part-time employee. Due to the expansion of the company and Mr. Dattani s plans to expand the customer base internationally, it has been necessary to increase the size of the accounting function to include two new full-time members of staff. Both of the new recruits are part-qualified accountants and Mr. Dattani has committed to sponsoring them through their remaining training and ACCA examinations. Prepare the response to the management of Delhi Co as requested by the partner. STARRY GOLD ACADEMY , , info@starrygoldacademy.com, Page 7

8 (b) The audit committee of another client, Mumbai Co, has asked the partner to consider whether it would be possible for the audit team to perform a review of the company s internal control system. A number of recent incidents have raised concerns amongst the management team that controls have deteriorated and that this has increased the risk of fraud, as well as inefficient commercial practices. The audit report for the audit of the financial statements of Mumbai Co for the year ended 31 March 2016 was signed a few weeks ago. Mumbai Co is a listed company. In respect of the request for Chennai & Co to review Mumbai Co s internal control systems: Identify and discuss the relevant ethical and professional issues raised, and recommend any actions necessary. (c) Recommend the procedures to be used in performing a forensic investigation on the alleged bribery payments. STARRY GOLD ACADEMY , , info@starrygoldacademy.com, Page 8