ADVANCED AUDIT & ASSURANCE Time allowed 3 hours Total marks 100 [N.B. The figures in the margin indicate full marks. Questions must be answered in English. Examiner will take account of the quality of language and of the manner in which the answers are presented. Different parts, if any, of the same question must be answered in one place in order of sequence] Marks 1. (i) There has been much hype and hue around the exercise of professional skepticism during the planning, conduct, and conclusion of a statutory audit, both in Bangladesh, and the global domain. Requirement: Explain the meaning of the term professional skepticism, and discuss its importance in planning and performing an audit. 7 (ii) You are an audit manager in Afzal & Co, working on the audit of the Summit Group (the Group), whose financial year ended on 31 December 2017. This is the first time you have worked on the Group audit. The draft consolidated financial statements recognise profit before tax of Tk. 6 crores (2016 Tk. 9 crores) and total assets of Tk. 90 crores (2016 Tk. 82 crores).the Group is a leading infrastructure developer and operator in South Asia, and comprises a group of businesses which develop, own and operate power generating assets and Floating Storage Regasification Units ( FSRU ). Their portfolio of infrastructure assets produce reliable energy for sale to governments and state utilities, in return providing long term, fixed revenue-streams. The company established Bangladesh s first independent power plant in 1998, which represents 11.5% share of the total Bangladesh energy market today. The Group identifies greenfield sites and establishes long term, contractually backed concession agreements with governments and state utilities, in return for stable, de-risked revenue streams based on contracted capacity payments, thereby avoiding price volatility. Over the years, the Group has transcended its business through several business combinations, resulting in goodwill of Tk. 10 crores in its statement of financial position. In December 2017, the Group finance director, Mr. Aziz Khan conducted an impairment review and this year an impairment of Tk. 50 lacs is to be recognised in respect of the goodwill. Aziz 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, Aziz 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 consider 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. Aziz has also informed you that two members of the sales team are suspected of paying bribes 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. Aziz has asked if Afzal & Co would perform a forensic investigation into the alleged bribery payments. (a) Discuss how professional skepticism should be applied to the Finance Director s statement and explain the principal audit procedures to be performed in the impairment of goodwill. 13 (b) Recommend the forensic investigation procedures that would be suitable in this context. 5 Page 1 of 5
2. Described below are situations which have arisen in three audit clients of your firm. The year end in each case is 31 December 2017. Robi Telecom Robi Telecom is the second largest mobile phone operator of Bangladesh and the first operator to introduce GPRS and 3.5G services in the country. The company has introduced many first of its kind digital services in the country and has invested heavily in taking mobile financial services to the underserved communities in the rural and semi-urban areas. It is a joint venture between institutions from Malaysia, India, and Japan, with controlling stake held by the Malaysian entity. Robi has approximately 32.2 million active subscribers. It has the widest network coverage to 99% of the population with over 13,900 on-air sites of which over 8,000 are 3.5G sites. During the year, the company incurred costs of Tk. 8.5 crores in respect of repairs and maintenance to its networks. These costs have been capitalized and included in non-current assets. The directors refuse to make any adjustments in respect of this matter. The pre-tax profit of Robi Telecom for the year ended 31 December 2017 is Tk. 7.2 crores. Ahmed Food Products Limited (AFTL) Ahmed Food Products Ltd. is a family owned concern and one of the leading brand names in the food industry. The company had started with four categories of products; jams, jellies, pickles and squashes with a very small product line. The company later introduced product lines of sauce and ketchup of tomatoes and is the only authorized producer of diabetic food products. Inventories at the year- end include Tk. 240,000 in respect of the cost of items which had been returned by a customer because they were not in accordance with the customer's specification. Thedirectors insist on including the items at cost, as the company has an agreement to sell them to another customer for Tk. 320,000, following the modification of the items at an additional cost of Tk. 140,000. The pre-tax profit of AFTL for the year ended 31 December 2017 is Tk. 2.4 million. Viva Ltd In September 2017Shuhita Siddique was paid Tk. 60,000 for services in respect ofinterior design work at VivaLtd'shead office. Shuhita Siddique is the wife of the managing director and majority shareholder of Viva Ltd. The managing director refuses to disclose details of the transaction in the notes to the accounts because of its sensitive nature. The pre-tax profit of Viva Ltd for the year ended 31 December 2017 is Tk. 10.4 million. (i) Describe the role of the concept of materiality in the conduct of an audit and explain why it can be a difficult area for auditors. 6 (ii) In respect of the situations outlined above, reach a conclusion on whether or not you would modify each audit report. Give reasons for your conclusions and describe the potential effect, if any, on each audit report. 9 3. You are a manager in the business advisory department of Rahman & Co. Your firm has been approached to provide assurance to The University Press Limited (UPL), a company which is not an audit client of your firm, on a potential acquisition. You have just had a conversation with Mohiuddin Ahmed, UPL s managing director, who made the following comments: The University Press Limited (UPL) is a leading publisher of Bangladesh. It publishes educational, academic and scholarly books both in the English and Bangla languages. UPL was set up as a publishing company in 1974 and it took over OUP's publishing program in Bangladesh in 1975. It has since closely collaborated with OUP Oxford and its branches in Pakistan and India. UPL also distributes books of foreign publishers in Bangladesh.UPL has since published 800 titles of which about 600 live titles are on its list and has presently an ongoing publishing program of about 50 titles a year. UPL has its main office in Dhaka with office in Chittagong. Books from the United Kingdom, India and Pakistan are distributed by UPL. Page 2 of 5
In the last few years, emergence and increased internet usage has divulged other online medium as main reading portals. Nowmost customers are purchasing books from online sellers. This has led to a reduction in profits, and we recognize that we need to diversify our product range to survive. Because of this, we decided to offer a subscription-based website to customers, which would provide the customer with access to our full range of textbooks and journals online. On investigating how to set up this website, we found that we lack sufficient knowledge and resources to develop it ourselves and began to look for another company which has the necessary skills, with a view to acquiring the company. We have identified Ananya Publishing House as a potential acquisition, and we have approached the bank for a loan which will be used to finance the acquisition if it goes ahead. UPL has not previously acquired another company. We would like to engage your firm to provide guidance regarding the acquisition. I understand that a due diligence review would be advisable prior to deciding on whether to go ahead with the acquisition, but the other directors are not sure that this is required, and they don t understand what the review would involve. They are also unsure about the type of conclusion that would be issued and whether it would be similar to the opinion in an audit report. Mohiuddin Ahmed has sent you the following information about Ananya Publishing House (APH): Company background APH is a technological firm specialized in website development.it was established four years ago by two university graduates, Asif Iqbal and Ahmed Khan, who secured funds from a venture capitalist company, BizGrow, to set up the company. Asif and Ahmed are in sync with contemporary technology based industry and market requirements and have developed website capabilities to meet the consumer needs. Asif and Ahmed created a new type of website interface which has proven extremely popular, and which led to the company growing rapidly and building a good reputation. They continue to innovate and have won awards for website design. Asif and Ahmed have a minority shareholding in APH. APH employs 50 people and operates from premises owned by BizGrow, for which a nominal rent of Tk. 100,000 is paid annually. The company uses few assets other than computer equipment and fixtures and fittings. The biggest expense is wages and salaries and due to increased demand for website development, freelance specialists have been used in the last six months. According to the most recent audited financial statements, APH has a bank balance of Tk. 50 lacs. The company has three revenue streams: 1. Developing and maintaining websites for corporate customers. APH charges a one-off fee to its customers for the initial development of a website and for maintaining the website for two years. The amount of this fee depends on the size and complexity of the website and averages at Tk 100,000 per website. The customer can then choose to pay another one-off fee, averaging Tk. 20,000, for APH to provide maintenance for a further five years. 2. APH has also developed a subscription-based website on which it provides access to technical material for computer specialists. Customers pay an annual fee of Tk. 25,000 which gives them unlimited access to the website. This accounts for approximately 30% of APH s total revenue. 3. The company has built up several customer databases which are made available, for a fee, to other companies for marketing purposes. This is the smallest revenue stream, accounting for approximately 20% of APH s total revenue. Prepare a briefing note for Mohiuddin Ahmed to: (i) Explain a due diligence review and identify and explain the matters which you would focus on in your due diligence review and recommend the additional information which you will need to perform your work. 17 (ii) Describe the type of conclusion which would be issued for a due diligence report and compare this to an audit report. 3 Page 3 of 5
4 (a) You are an audit manager in Ruby & Co., a firm of Chartered Accountants. One of your audit clients Wartsila Ltd. provides satellite broadcasting services in a rapidly growing market. In February 2017 Wartsila Ltd purchased Asiatic Bangladesh Ltd., a competitor group of companies. Significant revenue, cost and capital expenditure synergies are expected as the operations of Wartsila Ltd and Asiatic Bangladesh Ltd. are being combined into one group of companies. The following financial and operating information consolidates the results of the enlarged Wartsila Ltd. group: Year-end 31 December 2016 (Actual) 2017 (Budget) Taka in million Taka in million Revenue 6,827 4,404 Cost of sales (3,109) (1,991) Distribution costs and administrative expenses (2,866) (1,700) Research and development costs (25) (22) Depreciation and amortization (927) (661) Interest expense (266) (202) Loss before tax (366) (172) Number of subscribers 14.9m 7.6m Average revenue per subscribers (ARPS) Taka437 Taka 556 In November 2017 Wartsila Ltd. purchased Outbox Ltd. a large cable communications provider in Bangladesh, where your firm has no representation. The financial statements of Outbox Ltd. for the year ending 31 December 2017 will continue to be audited by Mustafiz & Co. Chartered Accountants. Outbox Ltd. s activities have not been reflected in the above estimated results of the group. Wartsila Ltd. is committed to introducing its corporate image in the country. In order to sustain growth, significant costs are expected to be incurred as operations are expanded, networks upgraded and new products and services introduced. a. Identify and describe the principal business risks for the Wartsila Group. 6 b. Explain what effect the acquisitions will have on the planning of Ruby & Co. s audit of the consolidated financial statements of Wartsila Ltd. group for the year ending 31 December 2017. 10 (b) Upon the completion of the audit of TMC Company Ltd, the Engagement Partner reviewed the audit working papers and came across the following; (i) There was material inconsistency between the financial information and other information in documents containing the financial statements and the auditor s report thereon. The material inconsistency has been traced to the financial information but management has refused to effect any change when requested to do so. (ii) Stocks worth Tk.5 million were valued at cost in the financial statements. The review of the post balance sheet events indicated that not all the stocks could be sold in the normal course of business. Some were damaged and some have become obsolete and slow moving. The total assets of the company are Tk.20 million. If the stocks were valued at net realizable value, the value would have reduced by Tk.2.0 million. The Directors have refused to allow the stocks to be valued at lower of cost and net realizable value and valued all the stocks at cost. (iii) Management refused to allow auditors to carry out circularization of debtors. The receivables figure was material in the financial statements. In addition, the auditors have not received a reply to the letter of enquiry sent to the company s solicitors in respect of a major litigation affecting the company. The auditors assessed that the effect of the two items is both material and pervasive. (iv) Subsequent events indicated that a major debtor has become insolvent. The amount involved was material. The directors refused to recognize the provision for a write- off of the amount. Page 4 of 5
(a) For each of the items, recommend the type of audit opinion to be issued. 6 (b) Consider what action the auditors should take in view of management refusal to accept the recommendations and/or allowed the auditor to carry out the necessary audit procedures. 8 (c) You are the manager responsible for performing reviews on audit files where there is a potential disagreement between your firm and the client regarding a material issue. You are reviewing the going concern section of the audit file of Pacific Co. Ltd., a client with considerable cash flow difficulties, and other, less significant operational indicators of going concern problems. The working papers indicate that Pacific Co. Ltd. is currently trying to raise finance to fund operating cash flows, and state that if the finance is not received, there is significant doubt over the going concern status of the company. The working papers concluded that the going concern assumption is appropriate, but it is recommended that the financial statements should contain a note to explain the cash flow problems faced by the company, along with a description of the finance being sought, and an evaluation of the going concern status of the company. The directors do not wish to include the note in the financial statements. i) Consider and comment on the possible reasons why the directors of Pacific Co. Ltd. are reluctant to provide the note to the financial statements. 5 ii) Discuss the implications for the auditors if the directors refuse to include the disclosure note. 5 Page 5 of 5