Audit Risk Auditor’s response
Company: Peony Evaluate the competence and
Peony Co has an internal audit objectivity of the internal audit team
(IA) department which by reviewing the nature of the audit
procedures performed by them ,
undertakes controls testing
reperforming some of the
across the network of stores. procedures and determining the
Each store is visited at least adequacy to minimize the detection
once every 18 months. The risk to acceptable level.
audit manager has discussed
with the finance director that
the external audit team may
rely on the controls testing
which is undertaken by IA.
The competence and
objectivity of the internal audit
must be assessed before
placing reliance on the work
done by them.
If the internal audit team is not
competent and objective then
relying on the work performed
on them by performing less
substantive procedures will
increase detection risk.
Forecast ratios from the Review the breakdown of operating
finance directors shows the expense and COGS, Compare the
breakdown with the previous years
Revenue for the year is
and ensure that expenses has bee
expected to increase by 3% as appropriately classified between
compared to 20X4; the gross operating expense and COGS.
profit margin is expected to
increase from 56% to 60%; and
the operating profit margin is
predicted to decrease from
21% to 18%.
All costs must be properly
classified. The increase in gross
profit margin is significant and
inconsistent with the fall in
operating profit margin.
There is a possible risk that
costs has been misclassified
between COGS and Operating
expense resulting in
overstatement of Operating
expenses and understatement
of COGS.
Peony Co values inventory in Detailed testing of cost and NRV
line with industry practice, must be undertaken with major
focus being if the selling price less
which is to use selling price
average profit margin is close
less average profit margin. approximation to cost.
AS per IAS 2 inventory should
be valued at lower of cost or
NRV. IAS 2 allows any other
method for inventory valuation
if it is close approximation to
cost.
If the use of selling price less
average profit margin is not
close approximation to cost
then inventory could be over or
understated.
Hart co
The audit team will only attend the Assess the materiality of all the sites
WIP counts at five of the 16 sites. and those site with material
balances and having the risk of
All the material balances and misstatement must be visited and
judgmental area must be confirmed for those not visited documentation
with sufficient and relevant of internal control and any
evidence. exceptions must be noted and
discussed with management.
The WIP is a judgmental area and is
64% of PBT which is material
balance, Auditor not attending all
sites increases the detection risk.
Prancer construction
Discuss with the management the
Prancer Construction Co is likely to process undertaken by management
have a material level of work in for the valuation of WIP , document
progress at the year end, being it and review the process during
construction work in progress as attending the inventory count.
well as ongoing maintenance
services, as Prancer Construction Co
has annual contracts for many of the
buildings constructed.
All the material balances and
judgmental area must be confirmed
with sufficient and relevant
evidence.
The calculation of percentage
completion of partially constructive
is a judgmental area and if the
percentage completion is not
calculated correctly there is a
possible risk that inventory could be
overstated.
Lapis Co Discuss with the management the
basis of rebate calculation as $0.8M
It’s likely that Lapis Co will exceed agree the calculation to the total
the minimum volume required to purchase documents and contract
claim this rebate, therefore, it is with supplier and ensure that the
anticipated that the draft financial inclusion as receivable is in
statements will include a receivable accordance with IAS 37.
of $0.8m.-0.5 marks
As per IAS 37 provisions, contingent
asset and contingent liability, any
contingent receipt should only be
recognized as asset if the inflow of
receipt is virtually certain and no
longer contingent.- Principle, IAS or
IFRS
Since the rebate is just probable and
there is no any virtual certainty
inclusion of $0.8M in receivable
shows that there is a possible risk
that Receivable could be
overstated.-
FS ko line item over or understated
Control risk
Detection risk
Sycamore Review a sample of post year end
returns and confirm that they relate
The new finance director has to pre year end sales and that the
informed the audit partner that revenue has been reversed by over
since the year end there has been $0.5M and inventory has been
an increased number of sales reinstated in the year end ledgers.
returns and that in the month of May
over $0.5 million of goods sold in
April were returned.
If the goods sold in April has been
returned in may then the sales
return must be adjusted and
recorded.
If the sales return is not adjusted
properly then there is a possible risk
that revenue would be overstated
and inventory understated.
Hurling: Product Recall Detailed testing of Cost and NRV
must be undertaken for the Luge
Hurling Co has halted further sales product considering the halt in sales
of its new product Luge, and a and product recall and ensure that
product recall has been initiated for the inventory is valued at lower of
any goods sold in the last four cost or NRV.
months.
As per IAS 2 inventory must be
recorded at lower of Cost or NRV.
Since there has been problem in the
product and recall has been initiated
there is a indication that NRV could
be lower than the cost.
Therefore there is a possible risk
that inventory could be overstated
as NRV could be lower than the cost.
Hurling: Product Recall Review the list of sales made of
product Luge prior to the recall,
Since the product sold in last 4 agree that the sale has been
months has been recalled , Hurling removed from revenue and the
company must pay refunds to the inventory included. If the refund has
costumers. not been paid pre year end, agree it
is included within current liabilities.
The sale must be removed, and a
refund liability must be recognized.
If Hurling co fails to account this
correctly then there is a possible risk
that revenue would be overstated,
Liabilities and inventory would be
understated.
Scarlett: Review the bank reconciliation and
The finance director has informed Discuss with management regarding
you that in order to show consistent the removal of supplier
results with the prior year, payment payments(unpresented item) from
run of 1 june 20x5 is shown as an the reconciliation of year end 31
unpresented item on the year‐end may 20x5 and ensure that Bank and
bank reconciliation. payable balances are corrected
using the journal entry.
The payment run of 1 june 20x5
should not be included in the year
end reconciliation of 31 may 20x5.
Since management has included the
payment run of 1 june 20x5 in the
previous year end there is a possible
risk that Bank and payables will be
understated.
Product recall:
Revenue- reverse
Inventorty- Reinstated
Inventorty- Product recall inventory
Refund Provision-
