EXAMINATION : INTERMEDIATE LEVEL
SUBJECT : AUDITING PRINCIPLES AND PRACTICE
CODE : B3
EXAMINATION DATE : THURSDAY, 4TH MAY, 2017
TIME ALLOWED : THREE HOURS (9:00 A.M. – 12:00 NOON)
------------------------------------------------------------------------------------------------------------
GENERAL INSTRUCTIONS
1. There are TWO sections in this paper. Sections A and B which comprise a total of SIX questions.
2. Answer question ONE in section A.
3. Answer ANY FOUR questions in section B.
4. In total answer FIVE questions.
5. Marks are shown at the end of each question.
6. In marking candidates’ scripts, examiners will take into account clarity of exposition, logic of arguments, proper arrangement and presentation of answers together with the use of relevant examples.
7. This question paper comprises 6 printed pages.
------------------------------------------------------------------------------------------------------------
SECTION A
Compulsory Question
------------------------------------------------------------------------------------------------------------
QUESTION 1
(a) Explain each of the fundamental principles of Code of Ethics for Professional Accountants issued by the International Ethics Standards Board for Accountants (IESBA). (5 marks)
(b) ISA 570 Going Concern provides guidance to auditors in respect of ensuring that an entity can continue as a going concern.
REQUIRED:
Explain the
actions that an auditor should carry out to ascertain whether an entity is a going
concern. (5 marks)
(c) Swahili Holidays & Safaris is an independent travel agency. It takes commission on holidays sold to customers through its chain of high street shops. Staff are partly paid on a commission basis.
Well-established tour operators run the holidays that Swahili Holidays & Safaris sells. The networked reservations system through which holidays are booked and the computerized accounting system are both well-established systems used by many independent travel agencies.
Payments by customers, including deposits, are accepted in cash and by debit and credit cards.
Swahili Holidays & Safaris is legally required to pay an amount of money (based on its total sales for the year) into a central fund maintained to compensate customers if the agency should cease operations.
REQUIRED:
Describe the
nature of the risks arising from fraud and errors to which Swahili Holidays
& Safaris is subjected to. (10 marks)
(Total:
20 marks)
------------------------------------------------------------------------------------------------------------
SECTION B
There are FIVE questions. Answer ANY FOUR questions
------------------------------------------------------------------------------------------------------------
QUESTION 2
(a)
The rights, duties and responsibilities of an
auditor are sometimes confused with those of management by stakeholders. Some of them are of the view that the
auditors are the same as the management of the company. This is based on the fact that the auditors
and management of a company are both concerned with financial reporting. Although there is common ground regarding the
actual work done, the functions of the auditors and management are essentially
different. Consequently, their
respective rights, duties and responsibilities will also differ.
REQUIRED:
Outline and explain any three:
(i)
Rights of auditors. (3
marks)
(ii)
Duties of the auditor. (3
marks)
(b) Assume that you have been properly appointed as an auditor of MAKARI Enterprises Ltd. As part of your first interim audit of the company you attended a wages payout. The exercise brought to light the fact that some of the wages were drawn for non-existent employees. Further enquiry revealed more that some of the wages were in fact for the personal domestic staff of the five directors of the company and that this had been a practice for some years. The practices were never authorized by any policy documents of MAKARI Enterprises Ltd.
You indicated that the matters should be reported to the shareholders. It seems that the directors were unhappy about your reaction of reporting the matter to the shareholders. You have been accordingly informed that your services are no longer required. You have received a special notice of general meeting of the company to be held for the purpose of dismissing you as one auditor of MAKARI Enterprises Ltd in due course.
REQUIRED:
(i) State the procedures applied to protect the removal of an auditor from the office. (8 marks)
(ii) From the scenario above, State whether the auditor may be removed in the manner proposed. Give reasons. (6 marks)
(Total: 20 marks)
QUESTION 3
The examination of evidence is fundamental to the audit process. ISA 500: Audit Evidence states that: “The auditor should obtain sufficient appropriate evidence to be able to draw reasonable conclusions on which to base the audit opinion”. Audit Evidence will comprise source documents and accounting records underlying the financial statements’ assertions and corroborative information from other sources.
Each of these sources presents
the auditors with differing considerations as to the quality of the evidence so
produced.
REQUIRED:
(a) Define ‘audit evidence’ (2 marks)
(b) Explain four sources of audit evidence. (8 marks)
(c) Provide explanation on the following terms in relation to audit evidence:
(i) Sufficiency of audit evidence
(ii) Reliability of audit evidence
(iii) External confirmation
(iv) Analytical Procedures (10 marks)
(Total : 20 marks)
QUESTION 4
(a) At the completion of the audit work the auditor makes two reports:
· One report to the shareholders of the company (statutory Audit Report).
·
Another Report to the management of the entity
i.e. the management letter (letter of weakness).
REQUIRED:
(i) Explain the purposes of the statutory audit report. (3 marks)
(ii) Identify the disclosures to the statutory audit report. (4 marks)
(iii) State and explain the circumstances that may lead to qualified opinion in the audit report. (4 marks)
(b) Vouching is defined as the independent examination of the source documentary evidence by the auditor.
REQUIRED:
Identify any six matters that the auditor should pay keen attention to when examining vouchers. (9 marks)
(Total: 20 marks)
QUESTION 5
You are assigned as the Audit senior in charge of the audit of Huisha Limited for the year ended 31st August 2015. The company operates 10 sales points throughout Tanzania and customers can buy its exclusive anti-aging products as well as availing of treatments. One of its products, “Jaribu”, is sold at TZS.12,000 per 300 ml pack, therefore cosmetic inventory is a material amount in the accounts of Huisha Ltd. For a number of years Huisha Ltd has maintained perpetual records of inventory at each of its ten sales points. However, it has continued to determine closing inventory by physical count at or near the year end. You are in the process of planning the audit of inventory. In a meeting with the company’s Finance Director, she has told you that the company is hoping to dispense with the annual physical count and to rely on the perpetual records in determining closing inventory.
The company is in the process of creating an internet based sales order system for customers to purchase its anti-aging products using credit cards for payment.
REQUIRED:
(a) State four reasons why inventory is often the most difficult and time consuming aspect of many audits. (4 marks)
(b) On the assumption that control risk is low and there is no necessity to observe the inventory count on or near year end, describe the substantive procedures you would perform, both during the year and at the year end, in order to verify the completeness and existence of inventory. (12 marks)
(c) Identify risks that management should consider in relation to implementing an online sales system and suggest an internal control for each risk that management could implement that would reduce that risk. (4 marks)
(Total:
20 marks)
QUESTION 6
(a) Public sector auditing strengthens public governance by providing accountability and protecting the core values of the public sector entity, ensuring managers and officials conduct the public’s business transparently, fairly, and honestly, as well as with equity and integrity. Elected and appointed officials at all levels of the public sector should support effective audit activities by establishing independent audit functions that meet all of the key elements.
REQUIRED:
Outline six
key elements of an effective public sector Audit activity. (6 marks)
(b)
State the effect
of the following alternative situations to your audit report:
(i) Depreciation had not been provided on any non-current asset for a number of years, the effect of which if corrected would be to turn an accumulated profit into a significant accumulated loss.
(ii)
Sam
& Co were appointed auditors after the end of the financial year of Nik
Co. Consequently, the auditors could not
attend the year-end inventory count.
Inventory is material to the financial statements of Nik Co.
Note: you are not required to
draft any audit reports.
(5 marks)
(c) ISA 315 (Redrafted) Identifying and Assessing the Risks of Material Misstatement through Understanding the Entity and Its Environment requires auditors to obtain an understanding of the entity and its environment, including its internal controls.
REQUIRED:
Explain why obtaining an understanding of the entity and its environment is important for an auditor. (9 marks)
(Total: 20 marks)
________________ p _____________
SUGGESTED SOLUTIONS
B3 – AUDITING PRINCIPLES AND PRACTICE
MAY 2017
ANSWER 1
(a) Fundamental principles
(i) Integrity. A professional accountant should be honest and straightforward in performing professional services.
(ii) Objectivity. A professional accountant should be fair and not allow personal bias, conflict of interest or influence of others to override objectivity.
(iii) Professional competence and due care. When performing professional services, a professional accountant should show, competence and duty of care by keeping up-to-date with developments in practice, legislation and techniques.
(iv) Confidentiality. A professional accountant should respect the confidentiality of information acquired during the course of providing professional services and should not use or disclose such information without obtaining client permission.
(v) Professional behavior. A professional accountant should act in a manner consistent with the good reputation of the profession refrain from any conduct which might bring discredit to the profession.
.
(b) Audit work – going concern
§
Review management’s plans for future actions
based on its going concern assessment.
§ Gather additional sufficient and appropriate audit evidence to confirm or dispel whether or not a material uncertainty exists regarding the going concern concept.
§ Seek written representations from management regarding its plans for future action. (eg intention to liquidate or cease operations).
§ Obtain information from company bankers regarding continuance of loan facilities.
§ Review receivables ageing analysis to determine whether there is an increase in days which may also indicate cash flow problems.
§ Seek information from existence of key staff
§ Seek information from the company on any pending legal matter.
§ Find existence of substantial assets that make base of company’s operation.
§ Analyzing and discussing cash flaws profit and other relevant forecast with management.
(c) Nature of risks arising from fraud and error: Swahili Holidays & Safari.
§ Swahili Holidays & Safaris is subject to all of the risks of error arising from the use of computer systems. If programmed controls do not operate properly, for example, the information produced may be incomplete or incorrect. Inadequate controls also rise to the risk of fraud by those who understand the system and are above to manipulate it in order to hide the misappropriation of assets such as receipts from customers.
§ All networked systems are also subject to the risk of error because of the possibility of the loss or corruption of data in transit. They are also subject to the risk of fraud where the transmission of data is not securely encrypted.
§ All entities that employ staff who handle company assets (such as make mistakes (error) or that they may misappropriate those assets (fraud) and then seek to hide the error or fraud by falsifying the records.
§ Swahili Holidays & Safaris is subject to problems arising from the risk of fraud perpetrated by customers using stolen credit or debit cards or even cash. Whilst credit card companies may be liable for such frauds, attempts to use stolen cards ca cause considerable inconvenience.
§ There is a risk of fraud perpetrated by senior management who might seek to lower the amount of money payable to the central fund (and the company’s tax liability) by falsifying the company’s sales figures, particularly if a large proportion of holidays are paid in cash.
§ There is a risk that staff may seek to maximize the commission they are paid by entering false transactions into the computer system that are then reversed after the commission has been paid.
ANSWER 2
(a)
Rights and
Duties of an Auditor
(i)
Rights of
Auditors
· Rights of access to records – the auditor has the right to access the company’s books of account, records, vouchers and other documents necessary to collect evidence.
· Right of information and explanations – auditor can ask any of the officers or other persons associated with the company to provide information or explanations essential to discharge their duties effectively as an auditor.
· Right to receive resolutions – auditor has the right to receive a copy of any written resolution proposed and any further related to it in the same way as a member of the company.
· Right to attend and speak – auditor has a right to speak and to be herd at general meetings of the company on any matter which concerns him as an auditor.
(ii) Duties of Auditor
· Ascertain adequate of accounting records – auditor must check whether proper and adequate accounting records have been maintained and prepared, adequate returns have been received from the branch not visited by them.
· Check compliance with legislation – it is the duty of the auditor to ensure that the applicable provisions of the laws have been complied with while preparing the financial statements.
· Verification of records – it is the auditors’ duty to examine, compare and verify the accounting records and returns with the financial statements. If the accounting records do not agree with the financial statements or are incomplete, then it is the duty of the auditor to report this fact to the shareholders.
· To provide an opinion on truth and fairness – it is the duty of the auditor to make sure that he prepare the audit report stating whether in his/her opinion, the financial statements give a true and fair view of state of affairs and of its income statements for the period ended, comply with the reporting framework and other relevant statutory provisions.
· Adequate disclosure – auditor should make sure that the financial statements and all other material disclosures are made in accordance with the applicable laws and other reporting framework. For example, the auditor needs to verify whether all the payments and benefits accruing to directors from the company are properly disclosure in the accounts.
(b) (i) Procedures to protect the removal of an auditor.
· The appointment and removal is placed on the shoulders of shareholders – it is the shareholders who can appoint, remunerate and remove the auditor from the office.
· Directors are not empowered to remove the auditors – directors can only recommend to the shareholders if they think the auditor is to be removed from the office.
· Right to make representation – auditors have the right to make representation to the shareholders as to why they should not be removed from the office. This gives them the chance to defend their position before the shareholders.
· Depositing the statement of circumstances – when resigning the auditors are required to deposit the Statement of Circumstances to the shareholders, explaining clearly the reasons for their resignation. This afford them the chance to express themselves to the shareholders as to whether there are pressures from the directors/management.
· Requirement for professional clearance – during the professional clearance the auditor may get a chance to express themselves whether there are any professional reasons for not accepting the assignment by the outgoing auditor.
(ii) I will not be removed as there is no professional reasons for terminating my services.
Reasons:
(a) There is no professional reasons for terminating. As an auditor I will applied all professional ethics in performing my duty.
(b) As known auditor’s proposal was to help safeguarding the company’s assets to maximize shareholder’s wealth as the auditor performed.
(c) The auditor also performed in considering public interest since these transactions has impacts on tax.
ANSWER 3
(a) Audit evidence:
ISA 500 provides
meaning of audit evidence as “all the information used by the auditor in
arriving at the conclusions on which the audit opinion is based, and includes
the information contained in the accounting records underlying the financials
statement and other information”.
(b) Sources of audit evidences:
· Accounting records – these include the records of initial entries and supporting records, such as cheques and records of electronic fund transfers; invoices, contracts, general and subsidiary ledgers, journal entries and other adjustments to the financial statements.
· Non accounting records – these include minutes of the meetings, confirmations from third parties, analysts’ reports, comparable data about competitors, control manuals and other information obtained by the auditor by performing the audit procedures.
· Management representations and explanations – the management representations especially in writing form the important part of the audit evidence.
· Entity’s tangible assets – physical verification of the tangible assets to establish their existences, provide a very important source of audit evidence.
(c)(i) Sufficiency of Audit Evidence – this relates to the quantity of evidence that the auditor should obtain. It is the auditor’s judgement to decide what constitutes the sufficient evidence. It is influenced by the following factors:
· Risk involved in audit of financial statements.
· Experience gained during the previous audit
· Results of audit procedures and any work carried out by the auditor in the course of audit.
· Source and reliability of information made available to the auditors.
(ii) Reliability of Audit Evidence – this
relates to the nature and the extent to which the evidence can be trusted. The following factors affect the reliability
of the audit evidences;
·
Evidences
from independent sources are more reliable provided the sources are
knowledgeable.
·
Evidences
from strong internal controls are more reliable than the evidences from weak
internal controls.
·
Written
evidences are more reliable than oral evidences.
·
Original
documents are more reliable than photocopies.
(iii)
External Confirmation – according to ISA
505, it is the process of obtaining and evaluating audit evidence through a
representation of information or an existing condition directly from a third
party in response to a request for information about particular item affecting
assertions in the financial statements or related disclosures.
Example of account balances which require external
confirmation are as follows;
·
Bank balances and other information from
bankers
·
Accounts receivable balances with
debtors
·
Property title deeds held by lawyers or
financiers for safe custody or as a security.
·
Loans from lenders
·
Accounts payable balances, etc.
(iv)
Analytical Procedures – this is the
analysis of significant ratios and trends including the resulting investigation
of fluctuations and relationships that are inconsistent with other relevant
information or deviate from predicted amounts.
They include the followings;
·
An analysis of significant ratios,
trends statistics, consideration of relationships among elements of financial
information as well as non – financial information.
·
Comparison of information with prior
periods, anticipated results of the entity e.g. budgets, forecasts, or
expectations of the auditor.
·
An investigation of fluctuations and inconsistencies
from the expected levels.
ANSWER 4
(a) (i) A
statutory audit report serves the following purposes:
· The end product of the Audit independent examination exercise;
· The media for communicating an opinion to the shareholders;
· The authority and approval of annual accounts for publication purpose to be deposited to the registrar of company to become the public records.
· It increase confidence and credibility.
The writing, signing and issuing of the audit report is the responsibility of the auditor.
(ii) Disclosures to the statutory audit report.
· The reports written by the auditor must be in accordance to the statutory requirements;
· They must bear the titles of the auditor;
· They must be signed by the auditor and properly dated;
· The opinion and basis of opinion paragraphs must also be indicated.
(iii) Qualified opinion;
Qualified opinion is an opinion other than unqualified. This means that it is an opinion with reservations of comments as regards to be true and fair view. It means that in some areas of the audit, the auditor was unable to conclude affirmative about the truth and fairness of the financial statements. This opinion is issued by the auditor due to;
· Limitations in the scope of the audit.
· Circumstances of disagreements with the directors;
· Inability to obtain sufficient appropriate Audit Evidence-SAAE
· SAAE available but misstatement in F/strict.
· Matter material but not pervasive to F/strict.
Examples include:
· Where the valuations of the stock, investments or non-current assets are not appropriately carried out.
· Where the management have not provided depreciation charge on the plant and machinery because they do think that the value of the plant and machinery included in the statement of financial position is below the cost.
Qualified opinion means that the auditors has issued except for form of qualifications.
(b) Matters that the auditor should pay keen attention to when examining vouchers are:
· Whether the vouchers have been properly authorized by the rightful authority through specimen signatures;
· Whether the vouchers are in the names of the reporting entity;
· Whether the amounts in words do agree with the amount in figures;
· Whether the cost of the expense included in the vouchers falls within the financial limits of the clients;
· Whether the details in the vouchers relate to the client’s ordinary transactions;
· Whether the vouchers are mathematically correct;
· Whether the vouchers are serially numbered and filed correctly in the respective files.
ANSWER 5
(a)
Inventory is often the most difficult
and time consuming part of many audit engagements because:
1. Inventory
is generally a major item on the balance sheet and often the largest item
making up the accounts included in working capital. It needs much time & manpower.
2. The
need for organizations to have the inventory in diverse locations makes the
physical control and counting of the inventory difficult.
3. Inventory
takes many different forms that are difficult for the auditor to fully
understand.
4. The
consistent application of different valuation methods can be fairly
complicated.
5. The
valuation of inventory is difficult due to such factors as the large number of
different items involved, the need to allocate the manufacturing costs to
inventory, and obsolescence.
(b)
Substantive
procedures:
Make test counts of inventory during
attendance at periodic counts. The
extent of such counts and of the number of locations at which counts are
observed need careful consideration, particularly whether it is necessary to
observe and test count at each selling point during the year. In following up test counts I would;
-
ensure that they agreed with the
entity’s count,
-
compare quantities with inventory
records at the date of the count,
-
investigate the cause of differences,
-
see that the records are properly
corrected;
-
check agreement of counts made by entity
personnel with inventory records and see that all differences are noted and
investigated;
-
verify the explanation of differences
identified as a result of comparison of book inventory to physical inventory;
-
see that the schedule of differences is
properly approved and that inventory records are properly adjusted;
-
trace entries to inventory records from
sales and purchasing transactions.
-
Vouch entries to inventory records to
sales and purchase records and properly approved corrections arising from
differences on counting;
-
test the arithmetical accuracy of the
inventory records;
-
review the records of test counts and
differences detected, and
-
ensure that all inventories are counted
at least once during the year,
-
consider the accuracy of the inventory
records as determined by the extent of discrepancies discovered;
-
discuss with management evidence as to
the reliability of inventory records and whether it might be necessary to carry
out a full count at or close to the year-end
-
test check the inventory listing to and
from the inventory records;
-
check that the balance of inventory per
the inventory records agrees with the control account on the nominal ledger;
-
verify sales and purchases cut-off
including entries to inventory records;
-
perform analytical procedures to confirm
the reasonableness of the amounts recorded as inventory.
(c) An
online sales ordering system poses many potential risks for an audit
client. Risks that may exist include:
1. Customer
data is susceptible to interception by unauthorized third parties.
2. The
client company’s data, programmes, and hardware are susceptible to potential
interception or sabotage by external parties
3. An
unauthorized third party may attempt to transact business with the client
company.
These risks can be addressed by the use
of firewalls, encryption techniques, and digital signatures. A firewall is a system of hardware and
software that monitors and controls the flow of e-commerce communications by
channeling all network connections through a control gateway. A firewall protects data, programmes, and
other IT resources from external users accessing the system through networks,
such as the Internet. Encryption
techniques are based on computer programmes that transform a standard message
into a coded (encrypted) form. One key
(the public key) is used for encoding the message and the other key (the
private key) is used to decode the message.
Encryption techniques protect the security of electronic communication
during the transmission process.
Finally, the use of digital signatures ca enhances internal control over
the online sales order system by authenticating the validity of customers and
other trading partners who conduct business with the client company.
ANSWER 6
(a) The six (6) key Elements of an Effective
Public Sector Audit Activity:-
(i) organizational
independence
(ii) a
formal mandate
(iii) Unrestricted
access
(iv)
Sufficient funding
(v)
Competent leadership
(vi)
Objective staff
(vii) Competent
staff
(viii) Stakeholder
support
(ix)
Professional audit standards.
(b)
Reporting options:
(i)
The auditor would still disagree with
the lack of depreciation on non-current assets so a modified opinion on the
grounds of disagreement would be required.
As the financial statements need
significant amendment (profit becoming a large loss) then the auditor may
conclude that the financial statements do not show a true and fair view and
issue an adverse report (rather than an ‘except for’ report).
(ii)
The auditors normally attend the
inventory count to confirm the existence of inventory. As the count was not attended, the existence
of inventory cannot be confirmed.
The auditor will be uncertain regarding
existence and consequently valuation of inventory. An ‘except for’ audit report will be issued
noting that adjustments may be necessary to the inventory value.
(c) Understanding
entity and environment consider the following points:
(i) To
identify and assess the risks of material misstatements, whether due to fraud
or error, at the financial statement and assertion levels. Risks would include inherent risk and control
risk. An important objective would be to
determine the extent to which the auditor would rely on the internal control
system.
(ii) To
provide a basis for designing and implementing responses to the assessed risks
of material misstatement in the financial statements. This would involve the design and performance
of the audit procedures required to form an opinion on the truth and fairness
of the financial statements. An
important objective would be to determine the extent and nature of audit
procedures to reduce detection risk, and therefore audit risk, to an acceptable
level.
(iii)
To set the scene for identifying
assertions and collecting sufficient appropriate evidence to prove that the
assertions are reasonable.
______________ 5 ______________
No comments:
Post a Comment