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ACC621 Auditing And Professional Practice
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ACC621 Auditing And Professional Practice
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Course Code: ACC621
University: University Of The Sunshine Coast
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Country: Australia
Question:
You are an intermediate member of your firm’s audit team and the audit partner has asked you to assist with the planning stage of the audit for a small client. You have access to the preliminary trial balance for the client and would like to use this to identify accounts that are likely to require significant audit attention. To access the trial balance for your client, open the document named ‘Trial balances for task 2′ and follow the directions to the appropriate worksheet.
Your task:
Prepare a report for the audit senior, which addresses the 5 issues below.
The audit partner has suggested that the preliminary assessment of materiality for the financial report as a whole be set at $15,000. Comment on the appropriateness of this figure for your client. Provide evidence to support your view. Include a brief discussion of the effect that changing the preliminary assessment would have on the audit budget.
Prepare an analytical review (in the form of a trend analysis) using the income statement items from the trial balance. Note: Present your analysis in table format; comments on the results are not required for requirement 2.
Use the trend analysis to identify 4 income statement accounts that appear to be atrisk of material misstatement. Provide justification for why these accounts should be subjected to significant audit testing. In your explanations, identify an assertion that is likely to be at-risk for each account (i.e. identify 1 assertion per account; 4 in total).
For each account and assertion identified in requirement 3, design and describe an audit procedure that would provide relevant evidence for this (i.e. describe 1 procedure for each account; 4 procedures in total). Note: you need to explain the procedures in your own words with as much detail as possible (for example, if applicable, identify the sampling frame and specific documents required for your procedure).
The audit partner has suggested that fraud risk should not be considered for this client, as he feels that the client’s staff are all very trustworthy. Comment on the appropriateness of the audit partner’s suggestion. Identify whether there are any indications of fraud evident in the analytical review.
Answer:
Introduction
Authorisation
The given report has been prepared for the audit partner of the firm and will be handed over with the details on the audit planning of one of the small entities “Cadmium Enterprises”. The report also has conclusion and the recommendation at the end.
Limitations
The given report has only one of the limitations in the form of the trial balances which is not balanced. The debit and the credit totals are not matching for both the periods and therefore the same has been assumed to be suspense account. Since the nature of the same is not known, it has not been considered in any of the analytics (Bumgarner & Vasarhelyi, 2018).
Scope
The report starts with the determination of the materiality limit for the entity. It also enlists the critical accounts to be audited and the audit procedures to be undertaken to audit them. It encloses the common size income statement and the variance analysis in respect of the entity. Towards the end, the fraud risk analysis has been done for the given entity to check on the possibility of fraud (Willcocks, 2017).
Inputs to the report – Analysis
Trial balance input
The trial balance of “Cadmium Enterprises” has been enclosed below for the year 2015-16. For the year 2016-17, the balance is only for first 5 months so better analysis purpose, the same has been annualised to enable comparability and uniformity
Cadmium Enterprises
Trial Balance
Particulars
Jul 1,’16 – Nov 30,’16
Jul 1,’15 – June 30,’16
Debit
Credit
Debit
Credit
Cash at Bank
85,000
80,000
Accounts receivable
118,340
111,000
Inventory
187,500
174,000
Machinery
71,000
65,000
Accumulated Depreciation
27,667
24,375
Motor Vehicles
66,000
66,000
Accumulated Depreciation
24,155
21,000
Furniture
7,400
7,400
Accumulated Depreciation
2,520
2,220
Bank Loan
230,000
230,000
Sales
78,750
187,450
Cost of sales
28,958
63,595
Consultancy fees
24,688
57,000
Interest income
20
50
Bank charges
145
350
Depreciation
6,746
15,863
Interest expense
4,792
11,500
Printing
105
250
Repairs and Maintenance
600
5,050
Wages
20,000
53,000
Superannuation
1,483
4,770
Total
598,069
387,800
657,778
522,095
Determination of Materiality
Materiality may be defined as one of the key criteria’s in determining what to be focused upon and what not during the conduction of audit. It is one of the key tools being used in auditing. Anything can be said to be material, if the same has ability to change or vary the decision of the user (Kuhn & Morris, 2016). In the given case, the audit partner has suggested the materiality to be taken as $15000 but the same is too large for the given entity and if the same is being considered many of the critical accounts would be left from the ambit of audit. There are many international accounting bodies round the world like those of IASB and AASB which have suggested as to how to calculate materiality. Some of these are as a percentage of sales, assets, profits or owner’s equity as per which the materiality has been calculated. For the given organization, materiality should fall within the range of $787 to $ 966 as then the accounts like depreciation, interest, superannuation, repair and maintenance and furniture would also be checked and audited (Alexander, 2016).
(Amt in $)
Cadmium Enterprises
Quantitative estimate of materiality
Criterion
Base
Amount
Materiality level/range
0.5% to 1% of gross revenue
Gross Revenue
78,750
393.75 to 787.5
1% to 2% of the total assets
Total Assets
480,898
4808.98 to 9617.96
1% to 2% of the gross profit
Gross Profit
48,308
483.08 to 966.17
2% – 5% of the shareholders’ equity
Equity
NA
NA
5% to 10% of the net profit
Net profit
40,628
2031.42 to 4062.83
Preliminary Analytical Review
As a part of the preliminary analytical review, the common size income statement and the variance analysis has been prepared for the given entity. For variance analysis to be effective and comparable, the numbers have been annualised.
Cadmium Enterprises
Income Statement
Particulars
2017
% of sales
2016
% of sales
Sales
78,750
76.1%
187,450
76.7%
Consultancy fees
24,688
23.9%
57,000
23.3%
Other Income + Interest
20
0.0%
50
0.0%
Total Revenue
103,458
100.0%
244,500
100.0%
Less: Expenses
Cost of sales
28,958
28.0%
63,595
26.0%
Bank charges
145
0.1%
350
0.1%
Depreciation
6,746
6.5%
15,863
6.5%
Interest expense
4,792
4.6%
11,500
4.7%
Printing
105
0.1%
250
0.1%
Repairs and Maintenance
600
0.6%
5,050
2.1%
Wages
20,000
19.3%
53,000
21.7%
Superannuation
1,483
1.4%
4,770
2.0%
Total Expenses
62,829
60.7%
154,378
63.1%
Net Profit
40,628
39.3%
90,122
36.9%
Cadmium Enterprises
Income Statement
Particulars
2017
2016
Variance
Variance %
Sales
78,750
187,450
1,550
1%
Consultancy fees
24,688
57,000
2,250
4%
Interest income
20
50
– 2
-4%
Total Revenue
103,458
244,500
3,798
2%
Less: Expenses
Cost of sales
28,958
63,595
5,905
9%
Bank charges
145
350
– 2
-1%
Depreciation
6,746
15,863
327
2%
Interest expense
4,792
11,500
–
0%
Printing
105
250
2
1%
Repairs and Maintenance
600
5,050
– 3,610
-71%
Wages
20,000
53,000
– 5,000
-9%
Superannuation
1,483
4,770
– 1,210
-25%
Total Expenses
62,829
154,378
– 3,588
-2%
Net Profit
40,628
90,122
7,386
8%
Net Profit %
39.27%
36.86%
Discussion on the report
Income statement accounts to be analysed
Based on the analysis above, several critical accounts have been chosen for analysis which have been enlisted below along with the assertions and the relevant risks.
Sl. No.
Account Name
Audit Assertion and risk
1.
Sales
The sales has increased by just 1% as compared to the last year on annualised basis, whereas the profit of entity has increased by 8% and therefore it needs to be checked if the management assertion of revenue recognition criteria has been met and the right to recognise the revenue in books was established (Erik & Jan, 2017).
2
Cost of Sales
The cost of sales has increased by a massive 9% for the sales increase of 1%. As a % of total receipts as well, the same has increased from 26% to 28% and therefore management assertion of accuracy in recording the cost and appropriateness of the cut off entries w.r.t. the cost needs to be checked (Belton, 2017).
3
Repair and maintenance
The repair expenses has shown a sharp decline of 71% as compared to last year and even as percentage of total receipts, it has fallen by 1.5% and therefore it needs to be checked if the expenses have been recorded completely and accrual and matching concept has been taken into consideration (Meroño-Cerdán, et al., 2017).
4
Superannuation
These have had a decline of 25% as compared to last year despite having the same sales. Therefore it needs to be checked if employees has left or resigned and if management assertion of completeness in recording of expenses has been met (Chron, 2017).
Audit procedures to be undertaken
For the accounts identified above in the analysis, some of the audit procedures to be undertaken by the auditor in this regards are mentioned below:
Sales: For checking on the sales revenue of the entity, the vouching of the sales invoices needs to be done and it needs to be checked if the same is matching with the sales ledger and books of accounts. The revenue recognition policy of the company needs to be compared with the accounting standard and the appropriateness of the same needs to be validated to check if the right to accrue revenue has been established(Kangarluie & Aalizadeh, 2017).
Cost of Sales: The cost of sales has increased by a massive 9% on the sales base increase of 1%. It needs to be checked if the management has recorded all the expenses correctly and what is the accounting treatment of the cut off entries being done in the books of accounts. Vouching of bills needs to be employed for this.
Repair and Maintenance: The decline in repair and maintenance expenditure is substantial and it needs to be checked if the management has taken the provision entries in the books and has ensured completeness in recording of all the period expenses. It also needs to be checked if the expenses has not been capitalised in the balance sheet(Truong, et al., 2008).
Superannuation: The superannuation expenses have declined and therefore the employee register needs to be checked to verify if the employee head count has gone down or the company has changed the policy in respect of the superannuation expenses. The auditor also needs to check if the company has followed all the laws and regulations in place(Vieira, et al., 2017).
Conclusion
The last section in the audit of the entity is the fraud risk analysis which is generally done to check the possibility of fraud in the organization but in the given case, the partner of the firm has suggested that the fraud risk analysis need not be done for the given client as the client is trustworthy. But this is completely against the concept of professional scepticism and the ethics for auditors as stated in APES 110 as per which the auditor should apply professional judgement in such circumstances and check the client for FRF irrespective of anything else (Fay & Negangard, 2017).
There are few accounts of the entity which hint towards the possibility of the fraud in the organization. Some of such accounts are cost of sales and the repair and expenditure account for the reasons which have already been explained above. Furthermore the wages account and the superannuation account needs to be verified as there is a substantial decline with decrease in the sales.
Recommendations
Few of the recommendations for the given client’s audit is:
The auditors should not only be emphasizing on the income statement accounts but also be checking the balance sheet for further evidences.
The opening balance verification also needs to be done in case the auditor is new.
References
Alexander, F., 2016. The Changing Face of Accountability. The Journal of Higher Education, 71(4), pp. 411-431.
Belton, P., 2017. Competitive Strategy: Creating and Sustaining Superior Performance. London: Macat International ltd.
Bumgarner, N. & Vasarhelyi, M., 2018. Continuous auditing—a new view.. Continuous Auditing: Theory and Application, 20(1), pp. 7-51.
Chron, 2017. five-common-features-internal-control-system-business. [Online] Available at: https://smallbusiness.chron.com/five-common-features-internal-control-system-business-430.html[Accessed 07 december 2017].
Erik, H. & Jan, B., 2017. Supply chain management and activity-based costing: Current status and directions for the future. International Journal of Physical Distribution & Logistics Management, 47(8), pp. 712-735.
Fay, R. & Negangard, E., 2017. Manual journal entry testing : Data analytics and the risk of fraud. Journal of Accounting Education, Volume 38, pp. 37-49.
Kangarluie, S. & Aalizadeh, A., 2017. ‘The expectation gap in auditing. Accounting, 3(1), pp. 19-22.
Kuhn, J. & Morris, B., 2016. IT internal control weaknesses and the market value of firms. Journal of Enterprise Information Management, 30(6).
Meroño-Cerdán, A., Lopez-Nicolas, C. & Molina-Castillo, F., 2017. Risk aversion, innovation and performance in family firms. Economics of Innovation and new technology, pp. 1-15.
Truong, G., Partington, G. & M, P., 2008. Cost of Capital Estimation and Capital Budgeting Practice in Australia. Australian Journal of Management, 33(1), pp. 95-121.
Vieira, R., O’Dwyer, B. & Schneider, R., 2017. Aligning Strategy and Performance Management Systems. SAGE Journals, 30(1).
Willcocks, L. P. L. M. C. &. S. C., 2017. Introduction. In Outsourcing and Offshoring Business Services. Cham: Palgrave Macmillan,.
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