External auditor of shuffle ltd

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All FIVE questions are compulsory and MUST be attempted

1.Your firm is the external auditor of shuffle ltd, and you recently attended the year-end inventory count at the company's warehouse. The company manufactures high quality tableware (plates, cups and

saucers etc.) and it maintains an integrated computerised system that shows the inventory held at any given point in time. At the year-end inventory count, the various categories of inventories (but not the quantities) are printed off the system and the quantities of inventories actually counted are inserted manually by the counters, for later comparison with the computerised quantity.The count instructions were received by both you and the counters the day before the count was due to take place. The instructions included the following details:

  1. Counters must arrive at 8am on the morning of the count.

  2. They will work in teams of 2 people.
  3. Each team will be assigned a specific area of the warehouse to count. They will receive stock sheets listing the product to be found in their area.
  4. The stock sheets are numbered.
  5. Once the counters have finished the inventory count, the stock sheets must be handed to the warehouse manager.
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This system has proved successful in recent years but unfortunately, your notes show a number of

deficiencies in the current year-end count: Many areas in which the count took place were untidy and inventory was sometimes difficult to find because it was not in the allocated area. The same categories of inventories were sometimes found in several different areas and some inventory was incorrectly labelled. The count was conducted in a hurry in order to close the warehouse before a public holiday and there were insufficient counters to conduct the count properly in the time available. The issue and receipt of inventory sheets (on which the quantities were recorded by counters) was not properly controlled. It was difficult to reconcile the inventory quantities recorded at the count to the computerised records and some significant differences remain outstanding. Although no finished goods were dispatched during the inventory count, a large delivery of raw materials was received into the warehouse.

Required

(a) Explain why inventory valuation and the year-end inventory count are important to the audit of

financial statements and describe the alternatives to a year-end count as a basis for the year-end

valuation. (6 marks)

(b) Draft for the inclusion in a report to the management on shuffle ltd.

(i) The deficiencies you found

(ii) The potential consequences

(iii) Your recommendations for remedying the deficiencies in the current year count, and your

recommendations for future years. (9 marks)

(c) Existence and completeness are two key assertions auditors must consider when testing inventory.

What procedures are performed at the stock count to provide evidence to support these assertions?

(8 marks)

(d) List the audit procedures to be performed to establish which inventories are worth less than cost at

Shuffle ltd. Explain the reason for each procedure. (7 marks)

(Total = 30 marks)

2.(a) ISA 500 Audit Evidence explains that audit evidence must be obtained using a recognized audit procedure such as Inspection.

Required:

Apart from Inspection, list and explain FIVE recognised audit procedures.

(5 marks)

(b)Explain the purpose of a management representation letter and the actions the auditor will take if initially management refuse to provide this letter.

(5 marks)

(Total 10 marks)

3 You are the senior in charge of the audit of Celeron Co, a distributor of electrical components. A member of the audit team has undertaken a review of the accounting and control systems and has identified and confirmed the following significant points of deficiency:

(1)Purchases

Purchase ledger clerks amend the payables master file with details of new suppliers on oral authority of the financial controller. No printout of amendments is obtained.

(2)Sales

Credit limit parameters within the sales order processing software are unrealistically low, resulting in a high volume of items being rejected as exceptions.

(3)Cash at bank

The monthly bank reconciliations prepared by the assistant accountant are not reviewed.

(4)Contingency planning

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There is no formal disaster recovery plan.

Required

Set out, in a manner suitable for inclusion in a report to management, the possible consequences of the above deficiencies and the recommendations to remedy the deficiencies. Your recommendation should clearly describe how the control procedures should operate.

(12 marks)

Note: You are not required to repeat the deficiencies in your answer.

(b)Explain how a report on these matters written by internal audit would differ from the external auditors' report to management. (8 marks)

(Total = 20 marks)

4. Aneela, a partner in a firm of Chartered Certified Accountants, is engagement partner on the audit of Tweeter, a publicly quoted incorporated business. She is reviewing the audit file for the year ended 31 October 20X9. At the front of the file is a memo from the audit manager recommending the issue of a qualified audit opinion. Tweeter's major customer is known to be in financial difficulties yet no provision has been made against the material amount owed to Tweeter. Tweeter's Financial Director is arguing that the customer has nearly completed development of a new product, sales of which will enable the company to repay all its debts. He claims to have consulted another firm of accountants who have indicated that an allowance might not be necessary. Aneela is unhappy with the situation for the following reasons:

(a) She is reasonably certain that, if she issues a qualified opinion, the directors of Tweeter will recommend appointment of another firm as auditors.

(b) Her firm supplies many other non-audit services to Tweeter such as tax and consultancy which bring in twice as much revenue as the audit and are more profitable. It is highly unlikely the firm would

continue to be asked to provide these services if the audit is lost. In total, fees paid by Tweeter for the

audit and these other services amount to 9% of the audit firm's revenues.

(c) She has been the engagement partner for ten years and has no reason to doubt the integrity of the

Finance Director with whom she has worked closely over that period of time. She is prepared to

believe his assertion that the debt will be repaid. However, she also accepts that evidence in the audit

file is equally persuasive that the customer is, currently, in financial difficulty.

She calls the Finance Director to advise him that she will have no option but to issue a qualified

opinion if the financial statements do not contain an allowance against the debt.

Required

(a) In connection with the threat of removal from office

(i) Describe actions the engagement partner can take when being threatened with removal by the

directors.

(4 marks)

(ii) Explain how an audit committee can provide additional safeguards to audit independence in

such a situation. (3 marks)

(b) Point (b) in the scenario raises the issue of providing non-audit services to audit clients.

(i) State the requirements of ACCA's Code of ethics and conduct relating to the supply of non-audit

services to audit clients. (4 marks)

(ii) Explain why the provision of non-audit services to audit clients might be seen as a problem

and why it is sometimes suggested that auditors should not provide such services. (4 marks)

(c) Point (c) in the scenario raises the issue of 'audit rotation'. What is meant by audit rotation and what

are its supposed benefits and drawbacks? (5 marks)

Where appropriate, your answers should be illustrated by reference to the situation described.

(Total = 20 marks)

5.You are the auditor of EastWest Pharmaceuticals Co, a limited liability company that researches and prepares various medicinal drugs. The audit for EastWest Pharmaceuticals Co for the year ended 30 June 2010 revealed the following subsequent events:

EVENTS:

18 August 2010

Amazon Ltd, one of the major suppliers of penicillin to EastWest closed down operations. Henceforth, the requirement of this raw drug will have to be satisfied through a number of small suppliers in the market and the price to be paid will be about 15% higher, resulting in a loss of profit for East West.

23 September 2010

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The financial statements are approved by the directors.

25 September 2010

Audit work is completed and the audit report is signed.

4 November 2010

The manufacturing process of the drug ‘sylax' generates toxic waste which is disposed of through a pipeline after processing. However, the pipeline carrying the toxic waste has recently developed a leak which resulted in the disposal of the toxic waste into the nearby lake, causing considerable damage to the environment. Management had made adequate disclosure of this in the financial statements to the year ended 30th June 2010.

25 November 2010

The financial statements are issued.

29 November 2010

An earthquake hit Riverdale city and destroyed one of the biggest warehouses of EastWest. Inventories worth 1.2 million were destroyed and the company has made an insurance claim towards the loss of inventories. The insurance company contends that the inventory was overvalued and the actual loss amounted to 0.8 million only. The matter will be disputed in court.

Required:

(i) State whether the events occurring on the following dates are adjusting or non-adjusting according to IAS 10 Events After the Reporting Period, giving reasons for your decision: (6 marks)

* 18 August 2010

* 4 November 2010

* 29 November 20

(ii) Explain the auditor's responsibility and the audit procedures that should be carried out.

(b) ISA560, Subsequent Events explains the audit work required in connection with subsequent events.

Required:

List the audit procedures that can be used prior to the auditor's report being signed in order to identify events that may require adjustment or disclosure in the financial statements.