Professional Documents
Culture Documents
Auditing Notes Unisa - AUE4861 2017 TL 102 0 B
Auditing Notes Unisa - AUE4861 2017 TL 102 0 B
ZAU4861/102/2017
NAU4861/102/2017
ADVANCED AUDITING
AUE4861/ZAU4861/NAU4861
Year Module
IMPORTANT INFORMATION:
This tutorial letter contains important information
about your module.
2
AUE4861/102
ZAU4861/102
NAU4861/102
INDEX Page
Due date 3
How the topics of this tutorial letter relate to the audit process 5
2 Pre-engagement activities 7
Self-assessment questions 74
HJB
3
AUE4861/102
ZAU4861/102
NAU4861/102
DUE DATE
The Department of Financial Governance has a HELPDESK for postgraduate students. All queries,
except those of a purely administrative nature, may be directed to the Helpdesk. You can contact the
Helpdesk either by e-mail or telephonically between 08h00 to 16h00, Monday to Friday.
E-mail [email protected]
Telephone (012) 429 4943
1. By this time, you should be familiar with the relevant chapters in your prescribed textbook as
well as the International Standards on Auditing covered by the study units. Only refer to the
prescribed material if any principles are contained in the questions, with which you are not
familiar, when working through this tutorial letter.
2. Read the standards and interpretation(s) that are covered in these study units.
3. Answer the questions in the study units and make sure you understand the principles
contained in the questions.
4. Consider whether you have achieved the specific outcomes of the study units.
5. After completion of all the study units, attempt answering the self-assessment questions to test
whether you have mastered the contents of this tutorial letter.
HJB
4
AUE4861/102
ZAU4861/102
NAU4861/102
JANUARY 2017
MONDAY TUESDAY WEDNESDAY THURSDAY FRIDAY WEEKEND
9 10 11 12 13 14+15
16 17 18 19 20 21+22
23 24 25 26 27 28+29
Do self- Do self-
assessment assessment
questions questions
HJB
5
AUE4861/102
ZAU4861/102
NAU4861/102
Pre-engagement activities
(TL 102)
103)
Planning
(TL 102)
King III (TL 103)
Evaluation, conclusion
and reporting
(TL 105)
HJB
6
AUE4861/102
ZAU4861/102
NAU4861/102
INTRODUCTION
The diagram on page 5 sets out the different stages of the audit process. The audit
process can be divided into four stages, namely the pre-engagement phase (1), the
planning phase (2), the obtaining of audit evidence phase (3) and the evaluation and
concluding phase (4). The planning phase (second phase) includes obtaining an
understanding of the entity and its environment, the assessment of risks and
establishing the overall audit strategy and audit plan. The obtaining of audit evidence
phase (third phase) is all about the auditor’s response to the risks that have been
assessed in the planning phase and requires from the auditor to perform tests of
controls and substantive audit procedures. The last phase in the audit process
requires that the auditor evaluate the evidence that has been gathered to make the
necessary recommendations and to issue the most appropriate audit opinion.
This diagram will be included in all the tutorial letters to demonstrate to you where the
topics covered by the different tutorial letters, fit into the audit process. The topics
relevant to this tutorial letter are shaded in the diagram.
While studying the diagram, you will notice that the Code of Professional Conduct
(CPC), By–Laws, Auditing Profession Act (APA), rules regarding improper conduct,
King III and Companies Act are depicted across all the stages of the audit process.
This is because they are not only applicable to a specific stage of the audit process,
but relevant to the whole audit process. The auditor should therefore comply with
ethics, principles and laws, from the time of assessing whether or not to accept the
client until the issuance of the audit report.
OBJECTIVES
After the completion of this tutorial letter, you should be able to:
identify and explain the details of each stage of the audit process.
Auditing notes for South African students, 10th edition, Chapter 6, p 6/6 to 6/8.
HJB
7
AUE4861/102
ZAU4861/102
NAU4861/102
INTRODUCTION
The first phase of the audit process is to perform pre-engagement activities. The auditor
has certain responsibilities in agreeing the terms of an audit engagement.
Pre-engagement activities take place before the auditor accepts or declines an audit
engagement. These activities are performed when the auditor has to decide whether to
accept a new client or to continue with the relationship with an existing client.
OBJECTIVES
After the completion of this tutorial letter, you should be able to:
discuss the pre-engagement activities that you would have to perform before
accepting a prospective client or an existing client; and
evaluate the audit work performed when accepting new clients by referring to
ISQC1, ISA 220, ISA 300, and the CPC.
Also refer to Auditing notes for South African Students, 10th edition. Chapter 6, 6/9 to
6/13.
HJB
8
AUE4861/102
ZAU4861/102
NAU4861/102
Übersicht
At the beginning of the current audit engagement the auditor shall undertake the following activities
(ISA300 par 6):
(a) performing procedures required by ISA 220 regarding the continuance of the client relationship
and the specific audit engagement;
(c) establishing an understanding of the terms of the engagement, as required by ISA 210.
IMPORTANT PRINCIPLE
Before an audit firm can accept or continue with a client relationship the firm has to
consider (ISA 220 par 12 and A8 and ISQC 1 par 26):
1. the integrity of the principal owners, key management and those charged with
governance of the entity;
3. whether the firm and engagement team can comply with the relevant ethical
requirements; and
4. significant matters that have arisen during the current or previous audit
engagement, and their implications for continuing the relationship.
When considering the integrity of the client the engagement partner may consider the following
(ISQC1 par A19):
the identity and business reputation of the client’s principle owners, key management,
and those charged with governance;
the nature of the client’s operations, including its business practices;
information concerning the attitude of the client towards matters such as:
an aggressive interpretation of accounting standards and the internal control
environment; and
a reputation for maintaining poor relationships with its auditors;
the client’s attitude towards paying the audit fee (will they be able to pay the audit fee
and/or are they only concerned with keeping the fee as low as possible);
any indications that the client will impose a limitation on the audit;
indications that the client might be involved in any criminal activities;
the reasons for the proposed appointment of the firm and non-reappointment of the
previous firm (reason/s for the change of auditors); and
the identity and business reputation of related parties.
HJB
9
AUE4861/102
ZAU4861/102
NAU4861/102
When considering the competence, capabilities of the engagement team, the engagement
partner may consider the following (ISA 220 par A11 and ISQC1 par A18):
the audit team’s experience with audit engagements of a similar nature and complexity;
the professional standards and applicable legal and regulatory requirements that must be
adhered to and whether the firm personnel have experience with these requirements, or
the ability to gain the necessary skills and knowledge;
the availability of sufficient personnel at the firm who has the necessary competence and
capabilities;
the technical expertise within the team or access to other auditors or experts that do have
the relevant expertise (ISA600, ISA610 and ISA620);
knowledge of the relevant industry in which the client operates;
the audit team’s ability to apply professional judgement;
the ability to comply with the firm’s quality control policies and procedures as per ISQC1;
the availability of personnel to perform quality control reviews; and
the ability of the engagement team to complete the engagement within the reporting
deadline.
The firm and the engagement team are required to be independent in order to comply with the
ethical requirements prior to accepting a new client or when continuing to provide statutory
audit services to an existing client.
Please refer to the CPC for the different types of threats to independence. Please note that the
CPC is only applicable to chartered accountants, and that it might be that not all the members
of the audit team are chartered accountants. However, all the members of the audit team are
required to be independent in terms of the International Standards on Auditing. As a result, the
CPC will be used as guidance to identify any independence threats of the audit team members,
including those who are not chartered accountants.
Section 210 of the CPC, deals with ethical considerations of a Professional appointment. This
section also entails procedures that need to be followed when contacting the previous auditors.
The scenario states that the engagement partner assigned to the audit of ABC Ltd is
married to the CEO of ABC Ltd. The CEO of ABC Ltd receives a bonus based on profits.
Required: Discuss ethical concerns prior to accepting ABC Ltd as a statutory client.
There is a self-interest threat, as the audit partner has a financial interest in ABC
Ltd as she is married to the CEO.
HJB
10
AUE4861/102
ZAU4861/102
NAU4861/102
Ethical requirements
It will not be appropriate for the audit partner to be involved in the audit of ABC Ltd.
EXAMINATION TECHNIQUE
The threats in the above answer are explained by linking each threat to the information
in the scenario, whereas in the top part of the answer the threats were not applied to the
information in the scenario. Applying of the theory to the information in the scenario is
very important if you want to score the marks.
When considering other significant matters the engagement partner may consider the
following:
any changes that occurred during the year for existing clients;
information obtained from communication with the predecessor auditor (ISA 300 par
13(b));
whether there is a legal vacancy to appoint the auditors (Sec 91 of the Companies Act);
and
any professional and legal responsibilities that might arise (Sec 45 and 46 of the Auditing
Profession Act).
After the auditor has considered the four aspects above, the terms of the audit must be agreed upon.
The auditor may only accept a new client or continue an audit engagement if the terms of the audit
has been agreed upon.
ISA 210 par 9 to 10 states that the agreed terms of the audit engagement shall be recorded in an audit
engagement letter and shall include:
4. the identification of the applicable financial reporting framework for the preparation of the
financial statements; and
5. reference to the expected form and content of any reports to be issued by the auditor and a
statement that there may be circumstances in which a report may differ from its expected form
and content.
Refer to ISA 210, par 9 to 12 for the agreement on audit engagement terms and ISA 210 Appendix 1
for an example of an audit engagement letter.
HJB
11
AUE4861/102
ZAU4861/102
NAU4861/102
QUESTION 1 15 marks
You are an audit trainee at CTZ Auditors (‘CTZ’) and part of the external audit team of Sports
Electronics (Pty) Ltd (‘SET’). CTZ has two partners and 15 professional staff members, and its offices
are located in Sunnyside, Pretoria. CTZ was appointed as auditor of SET in September 2014.
Management has requested that the audit for the financial year ended 30 September 2014 (‘FY2014’)
be completed as soon as possible after the year end, as the company’s bankers urgently require the
financial statements in order to assess an application for finance received from SET.
SET is a rapidly growing company in the information technology (IT) sector and a manufacturer of
wearable connected devices for sport, fitness and wellness. The company was formed three years ago
by five friends who met at university. Being sport fanatics, they identified a gap in the market for
affordable, reliable and fashionable devices for sportsmen and sportswomen that track motion and
activity such as distance travelled, calories burned and active time of exercise. The company operates
from leased premises in Midrand, which house the manufacturing operations, the warehouse and the
administrative offices.
SET has since incorporation been funded by the shareholders from savings and personal borrowings,
but as a result of the rapid growth of its operations, the shareholders urgently need capital to fund its
operations and to stimulate future growth. SET has exhausted all its overdraft facilities, and the bank
has indicated that additional facilities will only be considered if the company receives a clean audit
report. The directors also intend growing the business as fast as possible and to list the company in
two years’ time in order to unlock value for its shareholders. The directors see themselves as ‘go-
getters’ and very dynamic, and persons to whom failure of the business is not an option. They are
determined to maximise the value of the business at all costs.
As all the shareholders are directors and SET’s annual financial statements were in the past neither
audited nor independently reviewed. However, in view of their need for additional finance they now
require audited financial statements, and have resolved to be audited from FY2014 onwards. This was
why CTZ was appointed as the company’s external auditors.
Except for the financial director, all the directors have an engineering background, and have limited
financial and regulatory knowledge. They have in the past relied heavily on CTZ to provide them with
accounting services, as CTZ assisted with setting up the small accounting function, and with the
preparation of the financial statements in accordance with International Financial Reporting Standards
for the last two years. The directors have stated that they also want CTZ to assist them with the listing
of SET in two years’ time.
The audit is currently in progress, and the following work paper is available:
HJB
12
AUE4861/102
ZAU4861/102
NAU4861/102
SET’s activities comprise the manufacture and sale of wearable connected devices for sport,
fitness and wellness. The company has a small research and development department that
focuses on developing new products for the market, together with software updates for its
existing products.
SET’s only tracking device, called SEMS, was developed by the five entrepreneurs in the
garage of one of their parents, and once the prototype was stable and tested, manufacturing
was outsourced to a company in China. In order to gain more control over the production
process, manufacturing operations were moved in October 2013 to the present Midrand
premises. The product proved to be very popular as it is durable, fashionable and very
affordable in comparison to similar overseas products.
SEMS uses a three-axis accelerometer to sense the user’s movement, which measures steps
taken, distance cycled or swum, etc., and then combines it with user data to calculate calories
burned and the distance of the activity, as well as its duration and intensity. It also measures
sleep quality by tracking periods of restlessness, how long it takes for the wearer of the device
to fall asleep and the duration of actual sleep. SEMS has wireless capabilities, which allow the
user to upload the data tracked to a smartphone application (‘app’).
SET offers a free website service, called ‘MyFitness’, that is available with or without the SEMS
tracker and that can be used for recording and viewing data. Users can log their food intake,
activities, weight, blood pressure, heart rate and glucose levels and then monitor them over
time. Users can also set daily and weekly goals for themselves. This data can also be
synchronised between MyFitness and the app. MyFitness is hosted on SET’s IT platform.
For a subscription fee of R250 per annum, the user can access additional functionality on
MyFitness and the app, such as altitude analysis, lap times and the ability to post data directly to
their Facebook or Twitter profile. This is very popular amongst sportsmen and sportswomen,
serving to stimulate friendly rivalry and competition amongst them.
The directors are all equal shareholders (20% each) in the company. The directors subscribe to
the principles of sound corporate governance and corporate citizenship.
3. Overview of operations
The manufacture of the tracking devices is a relatively simple process and involves – sourcing
the internal components from a supplier in China (computing boards, GPS tracking units,
batteries, etc.);
sourcing external components from a local supplier (plastic and rubber casings); and
assembling the tracker units, installing the software and packaging of the devices at the
factory in Midrand.
Once the tracker devices are packaged they are stored in the warehouse.
HJB
13
AUE4861/102
ZAU4861/102
NAU4861/102
Sales are made mainly to South African retailers or directly to South African customers via the
website and agents at major sporting events.
An identification number is assigned to each SEMS tracking device upon installation, and the
device is then activated by sales staff on a sales website provided by SET.
The company makes use of standard enterprise resource planning (ERP) software. The
software is used for accounting and to manage the production process.
CTZ’s IT specialist reviewed the general control environment at SET and highlighted various
issues with regard to the server that hosts the websites, including the following:
The server can be accessed by most employees as it also houses other applications used
by SET (such as the ERP software);
There is a lack of backups, which was recently highlighted when unauthorised access by a
disgruntled customer caused the server to crash. Valuable customer information and
device activation information were consequently lost; and
The database of the device activation details loaded by sales staff is not password
protected.
The IT systems, database and website hosting are all located at the Midrand premises. The
maintenance and operation of the database and software systems are outsourced to a local IT
service provider.
5. Financial performance
The company incurred a pre-tax loss of R10 500 000 in FY2014 that was mainly attributable to
start-up costs and sales that had not yet reached optimum levels. The directors are, however,
confident that the company will be profitable in FY2015.
The following important developments that had a significant impact on the business occurred
late in FY2014:
SET entered into an agreement with Warehouse for Sportsmen (‘WFS’), a leading sports
department store in South Africa, for the retail distribution of the SEMS tracking devices.
The agreement stipulates that WFS stores may sell the devices. Inventory would be
supplied to the WFS stores on a consignment basis.
HJB
14
AUE4861/102
ZAU4861/102
NAU4861/102
In June 2014 the MyFitness website was criticised for its default user activity-sharing
setting. All users have the option of keeping their physical activity information private, but
some users were unaware that the information was public by default. SET responded to
the criticism by changing the default setting to private and requesting that search engines
remove indexed user profile pages from their databases.
REQUIRED
Marks
(a) Discuss the factors that CTZ should have considered before accepting the engagement
as the external auditor of SET. 14
Communication skills – clarity of expression 1
(SAICA I January 2015 – adapted)
SUGGESTED SOLUTION
Part (a) Discuss the factors that CTZ should have considered before accepting the engagement
as external auditor of SET
1.1 This creates a self-review and (possible advocacy) threat to independence. (1)
1.2 Consideration should be given to how significant the threat is, namely the nature of the
services provided, and management’s involvement in taking responsibility for the
financial statements and accounting records. (1)
1.3 The threat is significant and should the audit be accepted, these services should rather
not be provided. (1)
1.4 Alternatively CTZ should consider whether there are safeguards that can be implemented
to ensure the auditors’ independence, for example that the audit team should not be
involved in the accounting records or preparation of the financial statements/second
review partner should review work (any valid safeguard to be considered) (1)
HJB
15
AUE4861/102
ZAU4861/102
NAU4861/102
1.5 The provision of corporate finance services, e.g. structuring arrangements and
transactional services for listing, could directly affect the amounts in the financial
statements and create a self-review/self-interest or possible advocacy threat for
independence. (1)
1.6 Considerations on how significant this threat is, will depend on factors such as the degree
of subjectivity involved, the nature of services, etc. (1)
1.7 Possible safeguards could include using professionals who are not members of the audit
team. (any valid safeguard) (1)
1.8 Management is under pressure for a clean audit report and this may result in an
intimidation threat for the auditor. (1)
2.1 Management’s integrity could be suspect as they appear to have little regard to
compliance and control issues – they seem to want to maximise the value of the
business at all cost. (valid e.g. of non-compliance)
Management are also go-getters and intend listing the company – could be an indicator
of poor control environment. (1)
(a) The control environment is weak given the lack of accounting experience and staff;
and (1)
(b) The financial constraints of the company and possible going concern problems. (1)
2.3 The integrity and reliability of the financial statements are also questionable due to
management’s incentive to manipulate them in order to achieve a clean audit. (1)
2.4 A positive factor might be the directors’ commitment to sound corporate governance
procedures OR there is evidence that there are corporate governance issues and
therefore a weak control environment. (1)
3. AUDIT CONSIDERATIONS
3.1 Does CTZ have enough staff to audit a client that wants to list and expand operations
(only two partners, 15 staff members)? The question is thus whether it has professional
staff independent from the audit staff to provide advice on the listing. (1)
Considering the tight audit deadline (the engagement was only accepted in September)
will there be enough resources to complete in time considering the size of the firm. (1)
3.2 Does CTZ have staff with the relevant experience and expertise, given the complex
accounting issues (R&D costs capitalised, forex transactions, etc.) and are there enough
staff to audit all locations (1)
3.3 Does CTZ want to do the audit in future once the company lists or meets the score for a
statutory audit (currently it is a voluntarily audit only) given the fact that it will be (1)
disqualified as auditors if accounting and financial services are continued to be provided
(it should thus consider not undertaking other services). (1)
HJB
16
AUE4861/102
ZAU4861/102
NAU4861/102
3.4 The risk of legal liability given the fact that the bank will rely on the financial statements
for purposes of granting additional funding. (1)
3.5 Will the client will be able to pay CTZ’s our audit fee given its financial position? (1)
3.6 The client was neither audited nor reviewed in the prior years, will the additional time
required to audit in the current financial year be recoverable? (1)
4. ENGAGEMENT CONSIDERATIONS
4.1 Establish whether the preconditions for the audit are present, such as whether the
financial framework is acceptable. (1)
4.2 Is the client is prepared to sign the standard engagement letter to acknowledge that it
understands its responsibilities with regards to the audit? (1)
4.3 Consider whether the appointment of the auditors has been effected in terms of the
Companies Act. (1)
MARKERS’ COMMENTS
Note that 0.3 minutes reading time per mark is allowed. As such, only five minutes
reading time should be allowed for this question. However, since the question is an
adapted example from the ITC January 2015 exam, the scenario is long and more
reading time is given. When doing practice questions keep the 0.3 minutes per mark
standard in mind and work on your reading skills if necessary. Time management is
very important on CTA level.
Note how the answer is structured under the subheadings of independence and
objectivity, management’s integrity and business risk, audit considerations and
engagement considerations. This corresponds with the four considerations explained
in Section A of this study unit.
From the above, it is clear that good exam technique when answering a pre-
engagement question is to use ISA 220 par A8 (from ISA 220 par 12) as framework.
This will ensure that you take all four pre-engagement considerations into account.
Don’t forget to apply the theory (i.e. ISA 220 par A8) to the information supplied in
the scenario.
Corporate governance and companies act considerations were excluded from the
question as it will only be covered in a later tutorial letter; However, keep in mind that
these topics will form part of a typical pre-engagement question during the exams.
Corporate governance and companies act issues usually relate to the integrity of the
principle owners, key management and those charged with governance of the entity
considerations.
HJB
17
AUE4861/102
ZAU4861/102
NAU4861/102
INTRODUCTION
Planning plays a vital role when conducting an audit. Planning an audit of the financial
statements is the second phase of the audit process. Planning an audit involves
establishing the overall audit strategy and developing an audit plan (ISA 300 par 2).
For ease of discussion, the basic concepts that will be discussed are as follow:
OBJECTIVES
After the completion of this tutorial letter, you should be able to:
explain how the auditor may gain an understanding of an entity and it’s
environment;
identify and assess the risks of material misstatements through understanding the
entity and its environment;
identify the risk indicator from the scenario and describe the audit risks/risks of
material misstatement;
know the difference between risks at overall financial statement level and risks at
assertion level;
discuss the details dealt with in the audit plan and audit strategy;
HJB
18
AUE4861/102
ZAU4861/102
NAU4861/102
ISA 200 : Overall objectives of the independent auditor and the conduct of an
audit in accordance with International Standards on Auditing
ISA 300 : Planning an audit of financial statements
ISA 315 : Identifying and assessing the risks of material misstatement through
understanding the entity and its environment
ISA 320 : Materiality in planning and performing an audit
ISA 330 : The auditor’s responses to assessed risks
ISA 600 : Audits of group financial statements (including the work of component
auditors)
Also refer to Auditing notes for South African Students, 10th edition Chapter 7.
During the planning phase the auditor shall obtain an understanding of the entity and its
environment including the entity’s internal controls. Obtaining this understanding enables the
auditor to identify and assess the risks of material misstatement whether due to fraud or error,
at the overall financial statement level and at the assertion level. This risk assessment will then
provide the auditor with a basis for designing and implementing the responses to the assessed
risks of material misstatement (ISA 315 par 3). In identifying and assessing the risks of material
misstatement the auditor shall perform risk assessment procedures.
The auditor shall obtain an understanding of the aspects as set out in ISA 315 par 11 to 24. It
is important for the auditor to obtain an understanding of the entity and its environment (ISA
315 par 11) as well as of the entity’s relevant internal controls (ISA 315 par 12 to 24). It is a
matter of the auditor’s professional judgement whether a control, individually and/or in
combination with others would be relevant to the audit. For a detailed discussion on the
auditors understanding of the entity’s internal control please refer to Study unit 4.
The risk assessment procedures shall include the following (ISA 315.par 5 – 10):
HJB
19
AUE4861/102
ZAU4861/102
NAU4861/102
EXAMINATION TECHNIQUE
1. Audit risk;
2. Business risk;
3. Control risk;
4. Detection risk;
5. Inherent risk;
6. Risks of material misstatement; and
7. Significant risk.
Risks of material misstatement only entails inherent and control risk, whereas audit risk on
the other hand includes inherent risk, control risk (which is risk of material misstatement) and
detection risk.
Therefore if you are required to describe the risks of material misstatement you will not discuss
detection risk.
Business risk is broader than the risks of material misstatement of the financial statements,
although it includes the latter.
Risks of material misstatement at the overall financial statement level refer to risks that relate
pervasively to the financial statements as a whole and potentially affect many assertions (ISA
315 par A124).
The following table provides examples of conditions and events that may indicate the existence
of audit risk at the overall financial statement level. The examples provided cover a broad
range of conditions and events; however, not all conditions and events are relevant to every
audit engagement and the list of examples provided below is not necessarily a comprehensive
list. Refer to ISA 315, Appendix 2 for the list of these examples.
HJB
20
AUE4861/102
ZAU4861/102
NAU4861/102
EXAMINATION TECHNIQUE
No marks are allocated for the risk indicators, unless you are required to list the risk
indicators. Marks are awarded for describing the risk as per the “description of risk
column” in the table above. The risk indicator will be mentioned in the scenario of a
question to enable you to discuss or describe the required risk.
Remember to apply the risks which you identified to the information provided in a given
scenario otherwise no marks can be awarded to you.
Assertions are representations made by management that are embodied in the financial
statements, and are used by the auditor to consider the different types of potential misstate-
ments that could possibly occur (ISA 315 par 4(a)). ISA 315 par A124 sets out the assertions
used by the auditor to consider the different types of potential misstatements that could occur.
These assertions fall into the following three categories:
assertions about classes of transactions and events for the period under audit;
assertions about account balances at the period end; and
assertions about presentation and disclosure.
HJB
22
AUE4861/102
ZAU4861/102
NAU4861/102
To demonstrate conditions and events which may affect risks at the assertion level, we will use
the following example. (Note that these conditions and events can be found in ISA 315,
Appendix 2.)
EXAMPLE
You are a first year trainee accountant of ABC Ltd (ABC). The audit senior on the job has
provided you with the following information which you will require in the audit of ABC.
Revenue comprises sales to local and foreign customers. Foreign customers are invoiced
in their respective currencies. During the year, ABC entered into a forward exchange
contract (FEC) for the goods ABC sold to one of their once off foreign customers to
protect itself against foreign currency fluctuations. The normal credit terms are 30 days.
ABC provides for credit losses at 2% of the trade receivables balance. Management of
ABC receives a bonus based on profit for the year. At year end, trade receivables were
factored to provide ABC with the cash flow that was required.
REQUIRED:
(a) Identify the significant account balance(s) and/or class(es) of transactions in the
above scenario of ABC Ltd.
(b) Describe the risks of material misstatement of the identified account balance(s)
and/or class(es) of transactions.
(c) Indicate which assertions are affected.
SUGGESTED SOLUTION
HJB
23
AUE4861/102
ZAU4861/102
NAU4861/102
Please note:
1. The first two columns are not required. They are included in the suggested solution
to demonstrate to you how conditions or events can affect risks at the assertion
level.
HJB
24
AUE4861/102
ZAU4861/102
NAU4861/102
3. Completeness and classification are not at risk relating to revenue at ABC Ltd,
hence they are not addressed in the suggested solution.
4. The completeness assertion has not been addressed for the trade receivables
account as it is not at risk for ABC Ltd.
EXAM TECHNIQUE
1. Present your answer using assertions even when not required to do so. This will
enable you to generate points and would demonstrate to the marker that you are
able to make the link between the risk and the applicable assertion.
2. Use ISA 315 par A124 when answering a question on risks at the assertion level.
This will enable you to address the correct assertion that is at risk for a class of
transaction, account balance and/or disclosure.
3. When you are required to describe the risk at the assertion level, use the
information in the scenario. For instance, if you were to write “there is a risk that
trade receivables might be valued incorrectly”, your answer would be incomplete
as you did not link it to the information in the scenario. You would have to link your
answer to forex valuation and the impact of the provision for credit losses when
addressing the valuation assertion.
4. When you are required to describe the risks at the assertion level, do not confuse
the required for an audit procedures question. The audit procedures will be
covered in TL 104.
4. Planning activities
As per ISA 300 par 7 the auditor shall establish an overall audit strategy that sets the scope,
timing and direction of the audit, and that guides the development of the audit plan.
For instance:
1. The financial reporting framework (IFRS, SA GAAP, GRAP, etc.).
2. Industry-specific reporting requirements (compliance with JSE regulations),
Government regulations (Environmental, labour, etc.) etc.
3. Number of locations for expected audit coverage.
(For more examples on the characteristics of the engagement refer to ISA 300 Appendix)
(b) ascertain the reporting objectives of the engagement to plan the timing of the audit and
nature of communication required;
HJB
25
AUE4861/102
ZAU4861/102
NAU4861/102
For instance:
1. Entity’s reporting timetable for interim financial results and year end financial
results.
2. Meetings with management and those charged with governance.
3. Communicating with auditors of components regarding the time deadlines.
(For more examples on the reporting objectives, timing of the audit and nature of
communications refer to ISA 300 Appendix)
(d) Consider the results of the preliminary engagement activities and, where applicable,
whether knowledge gained on other engagements performed by the engagement partner
for the entity is relevant; and
(e) ascertain the nature, timing and extent of resources necessary to perform the
engagement.
The nature, timing and extent of resources will include the following:
1. The selection of the engagement team.
2. The engagement budget.
(Refer to ISA 300 Appendix)
As discussed above refer to ISA 300 par 8 and A8 to A11 as well as the Appendix for
considerations in establishing the overall audit strategy. (The Appendix has a detailed list of
considerations in establishing the overall audit strategy.)
The auditor shall design and implement overall responses to address the assessed risks of
material misstatement at the overall financial statement level (ISA 330 par 5).
A high risk of material misstatement at the overall financial statement level will have the
following impact on the overall audit strategy (ISA 330 par A1 to A3):
follow a substantive approach or a combined approach (if there are deficiencies in the
control environment);
perform more tests of detail and less analytical procedures;
incorporate an element of unpredictability in testing;
exercise professional scepticism;
consider the use of an expert;
perform procedures closer to year end;
put less reliance on management representations;
extend sample sizes;
engage more experienced staff; and
lower materiality.
The completion of the overall audit strategy guides the development of the audit plan.
HJB
26
AUE4861/102
ZAU4861/102
NAU4861/102
IMPORTANT PRINCIPLE
Risks at the overall financial statement level will be addressed by the overall
audit strategy (ISA 330, par 5 and A3). The risks at the assertion level will be
addressed by the audit approach (ISA 330, par 6 and A4 to A8).
The audit plan is more detailed than the overall audit strategy and include a description of (ISA
300 par 9):
(a) the nature, timing and extent of planned risk assessment procedures as determined
under ISA 315;
(b) the nature, timing and extent of planned further audit procedures at the assertion level as
determined under ISA 330: and
(c) other planned audit procedures that are required to be carried out so that the
engagement complies with the ISAs.
The auditor’s assessment of the identified risks at the assertion level provides a basis for
considering the appropriate audit approach (combined audit approach or a substantive audit
approach) for designing and performing further audit procedures (ISA 330 par A4).
a combined audit approach which entails tests of controls and substantive procedures.
This is normally when the auditor intends to rely on the operating effectiveness of controls or
substantive procedures alone cannot provide sufficient appropriate audit evidence at the
assertion level (ISA 330, par 8);
OR
A substantive approach which entails both tests of detail and substantive analytical
procedures.
IMPORTANT PRINCIPLE
IMPORTANT PRINCIPLES
Nature (ISA The nature of audit procedures refers to its purpose (that is,
330 par A5): test of controls or substantive procedures) and its type
(inspection, observation, inquiry, confirmation, recalculation,
reperformance, or analytical procedures).
HJB
27
AUE4861/102
ZAU4861/102
NAU4861/102
(Refer to ISA 330, par A4 to A19 for detailed response to the assessed risks at the
assertion level.)
Materiality in planning and performing an audit is determined when developing the overall audit
strategy.
Study ISA 320 in detail to understand the effect that the determination of materiality in planning
and performing the audit, will have on conducting and concluding the audit. Know the
difference between planning materiality and performance materiality (Refer to ISA 320 par 10
to 11). Please note that performance materiality is lower than planning materiality. This enables
the auditor to minimise the risk of expressing an incorrect audit opinion.
EXAMPLE
This audit firm applies the following percentages to gross profit in the materiality
calculation:
high inherent risk 0,5%
medium inherent risk 1%
low inherent risk 2%
HJB
28
AUE4861/102
ZAU4861/102
NAU4861/102
You can use the above percentages as a guide on which to base the materiality
calculation. If you are given percentages in a scenario, you should use the given
percentages.
Remember to consider the nature of the business. For an entity that is capital
intensive you are likely to use total assets for your materiality calculation. The
materiality calculation bases will differ from audit firm to audit firm.
HJB
29
AUE4861/102
ZAU4861/102
NAU4861/102
QUESTION 1 27 marks
You are a first-year trainee accountant at Andre Gauta Ephraim Incorporated (AGE), a medium-sized
firm. You are one of six audit team members to audit the DanChrome Group.
In preparation for the audit of DanChrome Group, your audit senior presented you with the following
information on the DanChrome Group.
DanChrome Ltd (DanChrome) was established in 1976 in South Africa. Its core business is the mining
and smelting of chrome ore. Chrome ore is converted to ferrochrome through intense metallurgical
processing. DanChrome is one of the largest integrated ferrochrome producers in the world with an
annual capacity of one million tons. DanChrome produces three grades of ferrochrome, namely
charge chrome, intermediate chrome and low carbon ferrochrome, each used in different areas of the
stainless steel smelting process.
DanChrome’s mining operations are situated in Meyerton. The head office is situated in the central
business district of Johannesburg. The DanChrome Group employs a workforce of 16 300 employees.
In April 2010 AGE was awarded a tender to audit DanChrome and its newly acquired subsidiary
company, SamCoal (Pty) Ltd (SamCoal) for the year ended 31 August 2010. The appointment of AGE
will be evaluated annually at DanChrome’s annual general meeting as stated in the revised
memorandum of incorporation of the company. The appointment of AGE as the auditors of
DanChrome came about as a result of the previous auditors filing a notice of resignation. They
resigned because they considered themselves as not having adequate resources to service
DanChrome due to the company’s growth. When the previous auditors were contacted by AGE, they
confirmed that they had enjoyed the long association with DanChrome and also stated that
DanChrome has a good reputation in the industry.
DanChrome acquired a 55% shareholding in SamCoal on 11 September 2009. At the time, the year
end for SamCoal was 31 March. To ensure consistency in group reporting, the financial year end of
SamCoal was changed to 31 August. The core business of SamCoal is the mining of coal. SamCoal
has three coal mining sites in various areas of the Mpumalanga province and a newly established
mining site in the Limpopo province. Each coal mining site has accounting staff responsible for
capturing financial data. The head office of SamCoal is situated in Middelburg.
During mid-March 2010, Denzil Phillips, the audit partner on the audit, was approached by Sipho
Platinum Mines Ltd, an 80% shareholder of DanChrome, to negotiate the sale of their shares in
DanChrome. The sale was completed successfully in May 2010. This resulted in the delisting of
DanChrome from the JSE Ltd. The new shareholding of DanChrome is as follows:
HJB
30
AUE4861/102
ZAU4861/102
NAU4861/102
In May 2010, the DanChrome Group was affected by the South African Transport Union’s strike that
lasted for a month. Employees of DanChrome Group also went on a strike in July 2010 over salary in-
creases. This strike lasted for two weeks. The DanChrome Group was not able to export ferrochrome
and coal to overseas customers during this period. These customers represent 80% of the group’s
customer base. As a result, the group recorded a loss for the 2010 financial year, for the first time in
years.
On 30 June 2010 the service contract of both the chief executive officer (CEO) and the managing
director (MD) of DanChrome Group came to an end. The majority shareholders decided at a general
meeting not to renew their contracts. Both the CEO and MD had been employed by DanChrome for
more than 10 years. It has been reported in the business press that they are the main people who can
be credited for the financial success of DanChrome over the years. The search is on for two
candidates with the required skills, knowledge and experience to fill the vacant positions. In the
meantime, the financial director is acting as both the CEO and MD.
To ensure that the DanChrome Group is well managed, a significant part of the remuneration of
directors is incentive-based. The director’s remuneration is determined by the audit committee.
A week before the DanChrome Group’s financial year end, the audit partner became aware of the
following article in the financial press:
On 5 September 2010, the attorneys of the DanChrome Group indicated that the court is likely to rule
in favour of the Department of Water Affairs and Forestry. The estimated cost set to restore the site
amounts to approximately R10 000 000.
The acting CEO has informed AGE that the new holding company requires the audited financial
statements of the DanChrome Group within two weeks after the year end. The shareholders require
this information as soon as possible to determine if the group might need to be steered in a different
direction.
HJB
31
AUE4861/102
ZAU4861/102
NAU4861/102
The AGE audit management team has reviewed the draft financial statements to identify significant
accounts and your audit senior has brought the following to your attention:
Revenue
Revenue has decreased significantly as compared to prior years, due to the strikes that occurred
during the current financial year. DanChrome’s revenue comprises mainly the sale of ferrochrome to
international customers.
Trade receivables
At 31 August 2010, DanChrome had a trade receivables balance of R9.8 million. European customers
comprised 67% of this balance, while Americans made up 13% and South African customers made up
the balance. Both the Europeans and the Americans are invoiced in their respective currencies. When
a sale is made to international customers, DanChrome enters into forward exchange contracts to
protect itself against foreign currency fluctuations.
Goodwill
Goodwill of R10 000 000 was raised on acquisition of SamCoal. Goodwill was not assessed for
impairment at year end. As per discussions with the acting CEO, he indicated that goodwill will be
carried at cost given the company’s performance.
Patent
Also included in the intangible assets is a patent with a carrying value of R55 000 000. The patent
relates to “Optimised Mine Ventilation on Demand” technology purchased from Swiss Technologies.
The patent is carried at cost and its useful life is 20 years. The contract with Swiss Technologies is for
15 years.
REQUIRED
Marks
(a) With regard to the opening paragraph and the DanChrome Group business
background information:
1. Describe the risks of material misstatement at the overall financial statement 17
level of the DanChrome Group.
(b) With regard to the financial data of DanChrome:
1. Describe the risks of material misstatement at the assertion level of
DanChrome for each of the items listed. 10
HJB
32
AUE4861/102
ZAU4861/102
NAU4861/102
SUGGESTED SOLUTION
(a) 1. Risk of material misstatement at the overall financial statement level of the
DanChrome Group
(v) There is a risk that the going concern principle might not be appropriate and may
not be appropriately addressed in the financial statements as a result of the
following:
the contracts of the key personnel, (CEO and MD) were not renewed and
their positions are still vacant; (1)
the company reported a financial loss for the first time in years; (1)
DanChrome Group could have lost the majority of its clients during the period
it was not able to export ferrochrome and coal, resulting in existing clients
rather purchasing from its competitors; (1)
the fact that SamCoal is being sued for the destruction of the cultural heritage
site indicates a contravention of the law which might result in a reportable
irregularity; and (1)
DanChrome group could incur more losses due to a bad reputation. (1)
HJB
33
AUE4861/102
ZAU4861/102
NAU4861/102
(viii) Due to the loss of key personnel (MD and CEO) there might be a break-down in the
control environment which might result in errors in the financial statements. (1)
(x) The DanChrome Group operates in strictly regulated industry, therefore there is a
risk that all relevant laws and regulations, including the Companies Act for the sale
of shares, might not be complied with appropriately. (1)
Total 21
Maximum 17
(b) 1. Risk of material misstatement at the assertion level of DanChrome (Pty) Ltd for the
identified classes of transactions and account balances
(i) Revenue
Revenue might be overstated due to the fact that the company’s financial
performance is not as good compared to the prior years and the directors
might want to project better results (accuracy; cut-off). (1)
There is a risk of fictitious sales being recorded as a result of the company
performing worse than in previous years and the directors might want to
reflect better results (occurrence). (1)
There is risk that foreign sales might not be translated at the correct
exchange rate (accuracy). (1)
Revenue might not be accounted for at fair value of the consideration
received (accuracy). (1)
HJB
34
AUE4861/102
ZAU4861/102
NAU4861/102
Goodwill
There is a risk that goodwill might not be accounted for properly at acquisition
in terms of IFRS 3 (existence/rights and obligations/valuation/ completeness).
(1)
There is a risk that goodwill is carried at the incorrect amount at year end as it
was not tested for impairment (valuation). (1)
(iv) Patent
There is a risk that the amortisation could be based on an inappropriate
amortisation method (valuation). (1)
There is a risk that the useful life used to depreciate the patent is incorrect, as
the years used to write off the patent are more than the years of the contract
(valuation). (1)
There is a risk that the patent might not meet the requirements of an
intangible asset in terms of IAS 38 (existence). (1)
Available 16
Maximum 10
MARKERS’ COMMENTS
Part (a)
Most students did not properly link the risk at the assertion level to the scenario given.
Instead, students used assertions and vaguely formulated a risk, as in this case,
“There is a risk that revenue might not be accurately accounted”. Please refer to the
solution to see how risk at the assertion level should have been described.
Allgemein
HJB
35
AUE4861/102
ZAU4861/102
NAU4861/102
QUESTION 2 8 marks
Objective
ABC (Pty) Ltd is a truck manufacturing company. ABC anticipates a net loss as a result of significant
foreign currency losses. During 2014 the Rand has been performing weaker against foreign
currencies. The company’s customers include farmers and construction companies. The customer
portfolio of ABC increased by 10% in comparison to last year. The actual 2014 financial results are not
available as management is still finalising the closing journal entries.
1. Use the 2013 audited results as they are the most accurate in comparison to the 2014 forecast
and the 2014 actual results are not available.
2. Materiality is calculated using the net loss as it reflects the financial results of ABC.
4. Inherent risk is assessed as high therefore (1 500 000 net profit x 2.5%) = R37 500 is an
appropriate planning materiality figure of ABC.
HJB
36
AUE4861/102
ZAU4861/102
NAU4861/102
REQUIRED
Marks
By providing reasons and calculations where applicable, criticise working paper A100 on the
planning and performance materiality calculation. 8
SUGGESTED SOLUTION
1. The prior year audit results are not an appropriate base for the calculation of the 2014 planning
materiality as it does not take the 10% increase in the customer portfolio into account. (1)
2. The 2014 forecast results will be most appropriate to use as management is still closing the
journal entries on the 2013 actual results. (1)
3. In terms of ISA 320 par A4 the profit before tax from continuing operations is often used for
profit-orientated entries. In this case a net loss has been forecasted. (1)
5. The materiality calculation must be based on stable figures. Net loss incurred is not a stable
figure (due to the foreign currency losses incurred). (1)
6. Revenue, gross profit and total assets represents stable figures instead. Revenue and gross
profit would be considered for the materiality calculation as ABC’s existence is dependent on
the revenue it generates. Total assets would also be considered as ABC is a manufacturing
company and thus considered to be asset intensive. (1)
8. Since inherent risk is assessed as high, materiality will be set as low. (1)
9. Therefore materiality for ABC (Pty) Ltd for 2014 will be set at R350 000 (total assets). (1)
10. The working paper does not indicate the performance materiality figure. The performance
materiality figure would be more conservative i.e. lower than the planning materiality figure. (1)
11. Since the forecast figures are used in calculating planning materiality, performance materiality
will also need to be determined. This will be the auditor’s safety margin in order to express an
appropriate audit opinion. (1)
Available 12
Maximum 8
HJB
37
AUE4861/102
ZAU4861/102
NAU4861/102
INTRODUCTION
Obtaining an understanding of the control environment forms part of the planning phase
of the audit process. Through understanding the entity and its environment, including
control, the auditor identifies and assesses the risks of material misstatement in the
financial statements.
For ease of discussion, the basic concepts that will be addressed are as follow:
OBJECTIVES
After the completion of this tutorial letter, you should be able to:
HJB
38
AUE4861/102
ZAU4861/102
NAU4861/102
Also refer to the following chapters in Auditing notes for South African Students, 10th
edition. Chapter 5 p 5/1 to 5/28, Chapter 7 p 7/1 to 7/21, Chapter 8 and Chapters 10 to
14.
COMMENT
It is very important that you meticulously study the theory in Auditing Notes regarding
business cycles (Chapters 10 to 14). This will build the foundation that you need to answer
questions relating to risks in manual and computerised information system (CIS)
environments.
It is not sufficient to only work through this tutorial letter. The information contained in the
relevant chapters in Auditing Notes is not duplicated in this tutorial letter and should be
studied from Auditing Notes. You will miss crucial information if you do not study the
relevant chapters from Auditing Notes.
You need to be well familiar with the basic knowledge of business cycles before attempting
any questions. You must be able to apply the basic principles of auditing to both manual
and computerised business environments.
Due to its integrated nature, computer auditing should not be seen in isolation. It can be
combined and integrated with almost all of the other auditing topics and tutorial letters. You
should therefore expect integrated computer auditing questions in almost every test during
the year and the final examination.
You don’t need to be an information technology (IT) expert. The basic concepts covered in
this tutorial letter and in the relevant chapters of Auditing Notes is sufficient for you to
answer computer related questions.
HJB
39
AUE4861/102
ZAU4861/102
NAU4861/102
IMPORTANT PRINCIPLE
ISA 315 par 12 stipulates that the auditor has to obtain an understanding of the internal con-
trols that are relevant to the audit. Internal control is designed and implemented to address
identified business risks that threaten the achievement of any of the above objectives. When
the auditor obtains an understanding of internal control, he/she has to (ISA 315 par 13):
COMMENT
Internal control, according to ISA 315 par 14 to 24, consists of the following
components:
the control environment;
the entity’s risk assessment process;
the information system (including the related business processes
relevant to financial reporting and communication);
control activities relevant to the audit; and
monitoring of controls.
Study these components from ISA 315. Also make use of ISA 315 Appendix 1
for further guidance on these components. Flag Appendix 1 of ISA 315, as it
explains these components in detail and gives valuable examples to guide you in
a test or the exam.
HJB
40
AUE4861/102
ZAU4861/102
NAU4861/102
When the auditor obtains an understanding of the entity’s control activities, ISA 315 par 21
stipulates that the auditor must ALSO obtain an understanding of how the entity responds to
risks arising from IT, as the use of IT affects the way that control activities are implemented.
From an audit perspective, controls over IT systems are effective when they maintain the
integrity of information and the security of the data and include effective general and
application controls. (ISA 315 par A103 to A105).
COMMENT
It is important for you to familiarise yourself with ISA 315 par A60 to A66. These
paragraphs deal with the characteristics of manual and automated elements of
internal control.
In a fully manual system it may be easy to trace a transaction’s path from initiation to its
inclusion in the financial statements by following the flow of documentation. However, in
computerised system environments, it may be more difficult to trace transaction flows through
systems as these may not be visible. In some cases it may be impossible to obtain an under-
standing of the flow of transactions without the aid of sophisticated computer programs which
map out the flow of data as it moves through the live processing phases of a computer system.
Business cycles can be described as the process of grouping together similar types of
transactions or transaction processing systems.
In general organisations group their accounting transactions according to the following five
common business cycles:
the revenue and receipts cycle;
the acquisition and payments cycle;
the inventory and production cycle;
the payroll and personnel cycle; and
the finance and investment cycle.
ISA 315 par 27 requires the auditor to determine whether any of the risks identified are in
his/her judgment, a significant risk.
HJB
41
AUE4861/102
ZAU4861/102
NAU4861/102
IMPORTANT PRINCIPLES
HJB
42
AUE4861/102
ZAU4861/102
NAU4861/102
HJB
43
AUE4861/102
ZAU4861/102
NAU4861/102
EXAMINATION TECHNIQUE
Internal control related questions are typically examined in the following ways (in tests
and examinations):
A question can either only require one of the above (e.g. only the weaknesses),
or it can require a combination of two (e.g. weaknesses and risks), or even
weaknesses, risks and recommendations.
If more than one of the above are required, present your answer in a tabular
format (even if the question does not specifically require it). This will assist you in
presenting your answer in a structured manner and it will make it easier for the
marker.
For example:
Identify the weaknesses, potential risks/consequences of the weaknesses as well
as your suggestions for improvement thereof relating to the revenue and receipts
cycle.
Please note: These should still be relevant to what is given in the scenario.
EXAMPLE
The following question formed part of Unisa’s Exam of 2013. This question
provides a good indication of how this section of the tutorial letter could possibly
be tested.
You are a second year trainee accountant at Amanda, Mirriam & Gert Incorporated
(AMG), a firm of Registered Auditors. AMG is a medium sized audit firm in South Africa
with offices in Cape Town, Durban, Mangaung and Pretoria.
You were allocated to the audit team busy with the audit of Cottonworth Holdings
Limited (hereafter referred to as Cottonworth). AMG was recently reappointed at the
annual general meeting of Cottonworth to be the external auditor of the company and
group’s financial statements for the year ended 31 August 2013. AMG is also the
external auditor of Cottonworth (Proprietary) Limited (hereafter referred to as CPL). The
partner in charge of the audit was excited about the reappointment since Cottonworth
and CPL represent at least 80% of revenue earned by AMG.
HJB
44
AUE4861/102
ZAU4861/102
NAU4861/102
You held several discussions with the Chief Information Officer (CIO), the Information
Technology (IT) manager and other staff members in the IT department at Cottonworth.
The following is an e-mail you sent to the senior trainee accountant on the audit:
From: [email protected]
Sent: Friday, 16 August 2013, 2:32 PM
To: [email protected]
Subject: General- and application controls at Cottonworth
Dear Helen,
I had a meeting with the current CIO, Don Futherton, on Monday 5 August
2013. He provided me with a breakdown of salaries for all Cottonworth
employees even though I didn’t request it. This made me feel a bit
uncomfortable as he made a joke that he likes the feeling of having sensitive
company information at the push of a button and the power to use it as he sees
fit. I got the idea that he is very friendly and helpful, but maybe not the most
ethical person.
Don showed me the hard copy of the Cottonworth code of ethical behaviour. He
informed me that there is currently only one copy of this document and that
employees are welcome to come and read it in his office when they have ethical
concerns. He mentioned that this was not specifically communicated but that he
believes employees will speak up if they have issues.
HJB
45
AUE4861/102
ZAU4861/102
NAU4861/102
I had a discussion with Mark on Tuesday 13 August 2013. He believes that his
apparent “lack of competence” in the tasks allocated to him as database
administrator were not communicated to him by management or his supervisors
at any stage during the year and that it was never clearly explained to him what
his role or specific tasks would be.
The disaster recovery document was lost in the fire and everyone was a bit
confused as to their roles and responsibilities after the incident. Will explain
that there was never a good opportunity to test the recovery plan prior to the
fire. Unfortunately the extent of data loss has not yet fully been determined as
the back-up server was also partially damaged in the fire. According to Will, on-
site back-ups are made weekly and on a monthly basis all data is backed-up to an
off-site server.
After taking note of the Facebook comment made by Mark Jacobs about the
fact that he has access to make changes to his own salary, I did some
investigations and it seems that his salary on the master file is substantially
higher than the salary documented in his employment contract (signed in
January 2013).
I don’t want to sound like “Trainee of the year”, but I read the relevant ISAs
(International Standards on Auditing) over the weekend and came to the
following conclusions:
HJB
46
AUE4861/102
ZAU4861/102
NAU4861/102
I know what you might be thinking, I am only a trainee accountant and already I
am showing partner qualities, but that is just how I am. A born leader… (Just
joking!).
Regards,
Unisa Student
REQUIRED
Marks
Evaluate the reasoning and conclusions of the second year trainee
accountant with reference to the change in salary information mentioned in
the email to Helen Peterson. 14
Note: Detailed reporting requirements of significant risks and
significant deficiencies in internal controls are not required.
Communication skills: Logic, structure and layout 1
(Unisa – Exam 2013 – adapted)
SUGGESTED SOLUTION:
Evaluate the reasoning and conclusions of the second year trainee accountant
with reference to the change in salary information mentioned in the email to
Helen Peterson.
Fraud:
1. The statement made by the trainee accountant that the incident cannot be
classified as fraud is incorrect. (1)
2. In terms of the definition of fraud set out in ISA 240, the incident does
constitute fraud. (1)
3. The incident:
(a) Was an intentional act by an employee (which is included in the definition
of fraud) as Mark Jacobs intentionally made changes to his salary
information. (1)
(b) Involved the use of deception to obtain an unjust or illegal advantage as
making unauthorised changes to salary detail gave Mark an unjust
and illegal advantage. (1)
HJB
47
AUE4861/102
ZAU4861/102
NAU4861/102
4. The statement made by the trainee accountant that he believes the incident to
be an isolated incident is not correct. (1)
5. If there is an indication of fraud (as per ISA 240 paragraph 35), the auditor shall
evaluate the implications of the misstatement in relation to other aspects
of the audit (1)
and the auditor should recognize that fraud is unlikely to be an isolated incident.
Significant risk:
6. The statement made by the trainee accountant that the incident is not a
significant risk is incorrect. (1)
7. In terms of ISA 315 par 28 the auditor shall, in exercising judgment as to which
risks are significant risks, consider whether the risk is a risk of fraud (1)
8. In terms of ISA 240 par 27 the auditor shall treat the assessed risk of material
misstatement due to fraud as a significant risk. (1)
9. The statement made that payroll related access controls were tested in detail in
the prior year and that he does not believe it should be tested in the current year
is incorrect. (1)
10. In terms of ISA 330 par 15, should the auditor want to place reliance on controls
over a risk that has been identified as a significant risk, the auditor shall test
those controls in the current period. (1)
11. ISA 240 par 27 also states that the auditor shall obtain an understanding of the
entity’s related controls, including control activities, relevant to significant
risks. (1)
12. The statement made by the trainee accountant that there is no significant
deficiency in internal control is incorrect. (1)
13. As the incident might not be an isolated incident and the extent of the fraud might
be difficult to ascertain, the deficiency in the controls relating to access to payroll
files could possibly lead to material misstatements in the financial statements
(1)
of Cottonworth for the year ending 31 August 2013.
14. The access controls over payroll related data do not operate effectively (1)
as Mark was able to change his own salary.
15. In terms of ISA 265 par 6 this would constitute a deficiency in internal control
(1)
as the controls were not able to prevent, detect or correct misstatements (1)
in the financial statements on a timely basis
16. As per ISA 265 par A6, in considering whether a deficiency in internal control
can be classified as a significant deficiency in internal control, the auditor should
consider whether the related asset or liability is susceptible to fraud, (1)
which in this case salaries are.
HJB
48
AUE4861/102
ZAU4861/102
NAU4861/102
17. In terms of ISA 265 par A7, misstatements that are detected by the auditor’s
procedures and were not prevented, or detected and corrected by the
entity’s internal controls, (1)
are indicators of significant deficiencies in internal controls.
18. The deficiencies in the access controls over payroll data would therefore
constitute a significant deficiency in internal control. (1)
19. The comment made by the trainee accountant that it is not necessary to discuss
this with management is incorrect. (1)
20. As per ISA 265 par 9, the auditor should respond to a significant deficiency in
internal control by communicating it in writing to those charged with
governance on a timely basis. (1)
Communication skills: Logic, structure and layout (1)
Available 23
Maximum 15
The following control activities can be found in any good internal control system. They apply to
all the business cycles. When you are answering a question relating to internal control, always
keep the control activities in mind and apply them to the given scenario.
Always remember that you should mainly address the control activities that are most relevant
to the given scenario.
What is the difference between identifying a weakness, describing the risk and making a
recommendation.
Risk You might be asked to describe the risks in a given scenario. The
risk is the potential consequence of the weaknesses mentioned
above. This is normally what management and we as auditors are
concerned about, as the risk usually relates to the impact on the
financial statements and/or the financial/reputational impact on the
client’s business.
HJB
49
AUE4861/102
ZAU4861/102
NAU4861/102
EXAMPLE
Weakness Risk/Consequence
There is poor segregation of duties Possible fraud or other irregularities could
since Mr X performs all of the following go undetected which could have a
functions (list the functions): negative financial impact on the entity.
= Potential consequence.
= Internal control not being
performed at all.
No tests of creditworthiness are carried Sales could be made to clients who are
out on clients before the order is not creditworthy. This could have severe
processed. financial implications for the entity.
= Internal control not being = Potential consequence.
performed at all.
The product catalogue is only updated The product catalogue that a client is
quarterly. using might be out of date which could
= Existing control being performed lead to sales being made at incorrect
incorrectly. prices. This could lead to financial losses
for the company.
= Potential consequence.
There is no independent review of the As Mr X is not independently reviewed, he
work performed by Mr X. could commit fraud and/or errors (made by
= Internal control not being him) could go undetected. This could have
performed at all. a negative financial impact on the entity.
= Potential consequence.
A question can also require you to “evaluate the effectiveness of an internal control system”.
Here you will have to address both negative (weaknesses) as well as positive aspects of the
controls being performed. An evaluation means that you compare the negative and the positive
of a certain matter and conclude thereon.
HJB
50
AUE4861/102
ZAU4861/102
NAU4861/102
A question can require you to identify/list/describe the internal controls (both manual and
automated) that should be present in a clients’ internal control system, or that should be
implemented to ensure certain control objectives are met. Don’t confuse this with tests of
controls. You should be comfortable with the various business cycles and the internal controls
that should be performed in each cycle. You cannot describe controls that a client should have
in place if you are not familiar with the controls in each cycle.
EXAMPLE
Control
A reconciliation between deposits captured and bank statements should
be performed by the accounting department.
This reconciliation should be reviewed by a senior official (manager).
Any security breaches must be logged and followed up by management.
As you can see you are not testing the control, but merely stating what the
control should be.
General aspects
Refer to all the self-assessment questions in this tutorial letter for past Unisa test and exam
questions. These questions will provide you with guidance on how internal control related
topics were tested and examined in the past. Please note that you have to determine exactly
what a question requires you to do. Does the question only require you to look at a certain
function of a transaction cycle? Does it require you to address only certain control objectives
(assertions)? The golden rule is to limit your answer to what is required from you!
Determine from whose point of view the question is asked (i.e. the external auditor, internal
auditor or management). This would influence the way in which you have to formulate your
answer.
As discussed in the previous section, controls in a CIS environment include both general and
application controls. These controls can be both manual controls and controls designed and
built into computer programs (automated controls).
In terms of ISA 315 par A104, general IT-controls are policies and procedures that relate
to many applications and support the effective functioning of application controls. They
apply to mainframe, mini-frame and end-user environments.
HJB
51
AUE4861/102
ZAU4861/102
NAU4861/102
Refer to Auditing Notes page 8/7 to 8/25 for a discussion on the categories of general
controls.
As per ISA 315 par A105, application controls are manual or automated procedures that
typically operate at a business process level and apply to the recording of transactions by
individual applications. Application controls relate to specific tasks performed by compu-
terised information systems and can be preventative or detective in nature. Their function
is to provide reasonable assurance that the initiation, recording, processing and reporting
of financial data are properly performed. Application controls are categorised as “input”,
“processing”, “master file maintenance” and “output” controls. Application controls
relate primarily to the occurrence, authorisation, accuracy and completeness of trans-
actions within a specific application in an organisation. General controls, in turn, provide
the standards and guidelines under which employees function in their work governing the
functions of developing, maintaining and operating systems to process data.
Refer to Auditing Notes page 8/26 to 8/41 for a discussion on application controls.
COMMENT
EXAMINATION TECHNIQUE
The following table should always be used when planning your answer on an
application control related question.
First of all determine which transaction cycle (or part of it) is being addressed in the
scenario (e.g. payroll cycle). Secondly determine which function of the process in the
transaction cycle is being addressed in the scenario. Does the scenario deal with the:
input phase;
processing phase;
output phase; and/or
master file maintenance phase?
For example, capturing employees’ clock card hours onto the payroll system would fall
into the input phase of the payroll transaction cycle.
Thirdly determine which control objective(s) is/are being addressed. Does the question
require you to address:
occurrence;
authorisation;
accuracy; and/or
completeness?
HJB
52
AUE4861/102
ZAU4861/102
NAU4861/102
EXAMPLE
List the controls that the management of company X should implement to ensure the
accuracy and completeness of the capturing of clocked hours on the clock cards.
You should only address the input phase of the payroll cycle and the accuracy and
completeness control objectives.
Most marks in the test or exam will normally be allocated to the input and
processing phases. Master file change controls are VERY popular and for
relatively high mark allocations.
IMPORTANT PRINCIPLE
Access controls can be both general and application controls. Use the following as
guidance:
Access Controls
For example user ID and For example servers For example user ID and
password to gain access to kept in locked server password to gain access to the
computer (e.g. Windows rooms. payroll application (e.g. VIP
program) payroll program)
HJB
53
AUE4861/102
ZAU4861/102
NAU4861/102
GENERAL CONTROLS
Payroll Program Inventory Program
Application controls Application controls
I P O M I P O M
O&A O&A
A A
C C
I P O M I P O M
O&A O&A
A A
C C
The illustration above indicates that general controls relate to all applications. If there is a
weakness in the general controls, it could affect some or all of the applications.
The following general controls are very popular for tests and exams:
Access controls:
Know the theory relating to access control as set out in Auditing Notes
It is not just passwords!!
Continuity of operations:
Including disaster recovery plans, physical elements, back-ups, etc.
HJB
54
AUE4861/102
ZAU4861/102
NAU4861/102
ISA 315 par A60 clearly indicates that an entity’s system of internal controls contains both
manual and automated elements.
HJB
55
AUE4861/102
ZAU4861/102
NAU4861/102
QUESTION 1 30 marks
Background information
You are a third-year audit trainee at the audit firm TOE Incorporated (TOE). TOE has recently been
appointed as the auditor of Top-Electric (Pty) Ltd (Top-Electric).
Top-Electric owns and operates 15 retail stores in South Africa that provide electrical equipment
including televisions, DVD players, portable radios, irons, ovens, cordless phones, etc. to the general
public. Since its inception in 2005, the company has established itself as the leading conglomerate in
South Africa in electrical equipment, offering the public low and competitive prices. Through increased
brand awareness and radical marketing strategies, Top-Electric continues to grow in popularity and
size.
Top-Electric has succeeded in winning over the South African consumer by fulfilling its promise to
provide the widest variety of electrical products at the lowest retail prices. Its continuous battle against
inflation-based price escalation has given it the nickname “inflation rebel”.
The financial year end of Top-Electric is 31 March 2014 and the financial director indicated that he
would like to have the final audit report on 20 April 2014 at the latest.
You have been assigned by the audit manager to review the controls that Top-Electric currently has in
place over the ordering and receiving of goods and to comment on the draft report on significant
deficiencies in internal controls. You have been provided with the following working papers and other
documentation:
HJB
56
AUE4861/102
ZAU4861/102
NAU4861/102
Entity name: Top-Electric Prepared by: A Morgan Year end: 31 March 2014
AA – 1
Reviewed by: DH Mabotja Date: 3 January 2014
Information on the acquisition and payments cycle: Ordering of goods
General
Top-Electric’s retail stores purchase goods (electrical equipment) over the internet and then sell
the goods to the general public.
Each of the 15 retail stores is responsible for ordering and receiving its own goods.
Standardised procedures (stipulated in the Standardised Procedures Manual), established by
Top-Electric’s management, and should be followed in this regard by the retail stores for
consistency purposes.
Discussions with management at each of the 15 retail stores revealed that only 7 of these retail
stores’ personnel were aware of the existence of such a manual.
A predetermined mark-up percentage is added to the purchase price of an item to calculate the
selling price to the public. This mark-up percentage is stipulated in the Standardised
Procedures Manual.
Ordering of goods
Top-Electric’s management believes that the internet is the best way to do business. They
believe that the most competitive prices are obtained through thorough internet research and
bulk purchases.
Each retail store has its own ordering department with a number of order clerks. The number of
order clerks depends on the size of the retail store. At this stage there are 16 order clerks at the
largest store and 4 order clerks at the smallest store.
Each order clerk is equipped with a personal computer with internet access. Their main task is
to search on the internet for low and competitive prices with discounts on bulk purchases.
As soon as an order clerk identifies a “bargain” on the internet, that clerk has the authority to
immediately place an order with the relevant supplier.
The order clerk has to obtain an order confirmation document from the supplier, which is then
filed in an order file that is kept by each order clerk.
HJB
57
AUE4861/102
ZAU4861/102
NAU4861/102
Entity name: Top-Electric Prepared by: A Morgan Year end: 31 March 2014
BB - 1
Reviewed by: DH Mabotja Date: 3 January 2014
Information on the acquisition and payments cycle: Receiving of goods
Receiving of goods
The goods receiving department receives a copy of the order confirmations from the ordering
department.
Each of the retail stores has its own goods receiving department and warehouse with a
number (depending on the size of the retail store) of goods receiving clerks.
Upon arrival of the supplier’s delivery vehicle, goods are offloaded into the goods receiving
area.
Any available goods receiving clerk then obtains the delivery note from the supplier’s truck
driver and checks that the quantity of the received goods corresponds with the supplier’s
delivery note.
Consistent problems with theft have been experienced at six of the retail stores which have
led to major losses for Top-Electric. Management is under the impression that the problems
are experienced owing to fraudulent activities by some of the company’s personnel. These
cases of theft are still under investigation.
REQUIRED
Marks
1. Identify the weaknesses and discuss the potential business risks of each weakness
relating to the ordering of goods as evident from the background information and
working paper AA – 1. 20
Note: Do not include any weaknesses or business risks relating to the use of the
internet as part of your answer.
2. Recommend in detail improvements to the current receiving of goods function of the
company as described on working paper BB – 1. 10
(Unisa: Test 2 2011 – adapted)
HJB
58
AUE4861/102
ZAU4861/102
NAU4861/102
SUGGESTED SOLUTION:
HJB
59
AUE4861/102
ZAU4861/102
NAU4861/102
Delivery truck drivers should sign an access register (detailing the name of the
supplier, date of delivery etc.) at the entrance gate upon arriving and leaving. (1)
HJB
60
AUE4861/102
ZAU4861/102
NAU4861/102
The goods receiving clerk taking receipt of the delivered goods should:
ensure that the quality and nature/description of the goods received
correspond with the supplier’s delivery note; (1)
ensure that the goods delivered are in good condition (e.g. no items are
broken); (1)
reject all incorrect deliveries (i.e. should not take receipt of incorrect goods)
and make a note; (1)
take receipt of goods, even though the quantity may be short delivered, but
make a note of the actual quantity received on the delivery note; (1)
ensure that the delivery truck driver signs both copies of the delivery note
including all rejected items, short deliveries etc.; (1)
sign both copies of the supplier’s delivery notes as acknowledgement of
verifying the quantity, quality and description of the goods received; (1)
prepare a sequentially numbered goods received note and only enter the
quantity and description of the items actually accepted; (1)
sign the goods received note; (1)
reconcile the delivery note/goods received note with the order confirmation
document received from the order clerks (in terms of quantity and description
of goods ordered vs goods actually received); (1)
two people to receive each delivery/check each other/counter sign delivery
note and goods received note; and (1)
on transfer of the goods from the goods receiving area to the warehouse, the
following procedure should be followed:
the goods receiving clerk should sign the goods out on the goods
received note that accompanies the goods to the warehouse; (1)
on receipt of the goods at the warehouse the warehouse foreman
should check the actual quantity of goods to the goods received note
and sign it as proof of receipt. (1)
Available 17
Maximum 10
MARKERS’ COMMENTS
HJB
61
AUE4861/102
ZAU4861/102
NAU4861/102
This part is basically pure theory on the acquisition and payments cycle.
Many students overspent on their allocated time for part 1 and therefore
did not have sufficient time left for part 2.
QUESTION 2 64 marks
Background information
You are a first-year trainee accountant at Motholo & Terblanche Incorporated (Motholo & Terblanche)
a medium-sized audit firm in South Africa. Motholo & Terblanche operates from its only office situated
in Johannesburg. There have been talks among the directors of the firm to open an office in
Bloemfontein and East London once the clientele of Motholo & Terblanche increases.
You are currently involved in the 31 July 2015 year end audit of Billing4U Limited (Billing4U) and have
been provided with the following information by your audit senior:
In September 2014, Motholo & Terblanche was appointed for a third term (a term is a five year period)
as the statutory auditors of Billing4U. Billing4U was established in 1998 and it was listed on the AltX of
the JSE in 2006. Billing4U deals exclusively with providing billing solutions to eight (8) metropolitan
municipalities in South Africa. Billing4U bills the residents living in the relevant municipalities for
services that include water, electricity and rates on behalf of the municipalities. Billing4U has provided
this service to metropolitan municipalities since 2005.
HJB
62
AUE4861/102
ZAU4861/102
NAU4861/102
During February 2015, Billing4U changed its software from Billfast X200 to Speedbill 9000 in order to
streamline the accounts of the residents for the services provided by the municipalities.
In March 2015 thousands of households in the City of Johannesburg were disconnected from the
services provided by the municipality. According to media reports, there were numerous complaints
from residents. These complaints included inaccurate and hugely inflated bills. Complaints in other
metropolitan municipalities were also reported but they are said to be insignificant compared to the
complaints about the City of Johannesburg. The residents of the City of Johannesburg marched in
protest to the Mayor’s office demanding that their municipal services be reconnected and for their bills
to be corrected. The Mayor of the City of Johannesburg contacted the CEO of Billing4U, Julius Zille, to
help deal with the residents’ crisis. Julius Zille knew about these issues after he has received
numerous complaints from residents following the implementation of the new billing software system.
However, he informed the Mayor that there was no crisis regarding the billing of the residents, as he
believed the number of complaints is immaterial to the total number of residents in the City of
Johannesburg.
The Mayor independently investigated the matter and found that there are problems within the billing
system of Billing4U. The Mayor decided to terminate the contract with Billing4U when it reaches the
end of its term on 31 March 2016. The Mayor lodged a lawsuit against Billing4U for the inconvenience
caused to the residents of the City of Johannesburg. The lawsuit is set to cost Billing4U R210 million,
and the legal team is confident that the ruling will be in favour of the Mayor. Billing4U does not have
insurance to cover such lawsuits. The revenue received by Billing4U from the City of Johannesburg is
the largest compared to revenue received from other metropolitan municipalities.
HJB
63
AUE4861/102
ZAU4861/102
NAU4861/102
During August 2014 the Information Technology (IT) director, Mrs Rosa, sent out a
questionnaire to the staff members who would be performing billing functions to obtain an
understanding of their specific needs and requirements in terms of the new billing system.
Only Mr Johnson, the Information Technology (IT) manager, replied to this questionnaire. As he
is mainly responsible for the effective functioning of the new system, Mrs Rosa decided that Mr
Johnson spoke on behalf of all the staff members and she decided not to waste any more time
on further queries regarding this matter.
Mrs Rosa conducted an extensive feasibility study in September 2014. She did some market
research and discussed the following matters with the international supplier of the Speedbill
9000 system:
all the specifications and requirements of this new billing system versus those of other
billing systems (locally and abroad) on the market;
all relevant costs associated with this new system (purchase costs as well as
implementation and maintenance costs);
whether there would be new updated versions of the Speedbill 9000 system in the future,
as this is a standard package; and
whether the international supplier has a good reputation locally and abroad.
The international supplier of the Speedbill 9000 system has several branches and offices
abroad. However, the South African branch closed down in 2013.
No problems were identified during the feasibility study conducted by Mrs Rosa.
Mrs Rosa contacted one company abroad currently using the Speedbill 9000 system. The
company indicated that it did not experience any problems, although this company did not
provide billing services to municipalities with a customer base of more than 250 residents. Mrs
Rosa was of the opinion that if it worked for a customer base of 250 residents, it would work for
a customer base of 1,2 million residents as in the case of the City of Johannesburg.
After a detailed cost – benefit analysis conducted by Mrs Rosa and the financial manager, Mr
Kriel, it was decided that the Speedbill 9000 system would be purchased from the international
supplier. The purchase was authorised by management as well as the steering committee
appointed by management to run the Speedbill 9000 project.
HJB
64
AUE4861/102
ZAU4861/102
NAU4861/102
Mrs Rosa was assigned to the conversion process by the steering committee and
management. She was appointed as the only member of the “conversion project team”. She
was mainly responsible for:
deciding on an appropriate conversion method;
setting deadline dates and cut-off points;
setting time schedules for specific stages of the project;
allocating specific tasks to appropriate staff members;
giving clear guidance and support to these staff members as well as time schedules for
completion of these tasks;
regularly monitoring the progress of the process;
identifying possible problems in the process; and
reporting to the steering committee at regular intervals.
Mr Johnson was allocated to the training of staff members on the Speedbill 9000 system, as he
trained himself in the use of the new system. Due to time constraints, he had brief discussions
with the management of each department. He advised management that task descriptions
would not have to be changed as each person would still be responsible for the same functions
in general.
As part of the preparation for conversion, Mrs Rosa allocated the tedious task of preparing
standing data files for the Speedbill 9000 system as well as the task of balancing files on the
existing Billfast X200 system to Mr Kriel. She explained that in her opinion Mr Kriel was the
financial manager and therefore would know much about making things balance.
After Mr Kriel had performed the above preparation tasks, the data transfer was authorised by
management and the steering committee. Supervisors (senior management) were appointed to
oversee the conversion. The external auditors, Motholo & Terblanche, also attended the
conversion.
It was decided that the system would not be tested after the conversion and that the first month
of actual billing to residents would be the test run of the Speedbill 9000 system.
All Speedbill 9000 system flowcharts, system descriptions, operating manuals, etc. either were
drawn up or were updated.
Back-ups were made of the new system and they were kept off-site.
HJB
65
AUE4861/102
ZAU4861/102
NAU4861/102
Billing4U deals with all residents’ bill disputes, queries and complaints on behalf of its
municipalities on a monthly basis. A separate module on the Speedbill 9000 system called
“Disputes” is used specifically for this purpose. On average, approximately 1 500 disputes are
received in aggregate for all the municipalities on a monthly basis.
In the month following the implementation of the Speedbill 9000 system, thousands of disputes
on bills were received from the City of Johannesburg residents. It was agreed by the City of
Johannesburg and Billing4U that Billing4U would conduct a formal investigation, as the number
of disputes were far in excess of the average number of monthly disputes.
After a full investigation by Billing4U, the following matter was identified as the main cause for
the disputes:
During the conversion process from the Billfast X200 system to the Speedbill 9000 billing
system, a power outage occurred.
The power outage took place during the transfer of data files for the City of Johannesburg
from the old to the new billing system.
As the generator had not been used in several months, it did not function on the day of
the power outage.
A comparison between the files on the Billfast X200 system and the files on the Speedbill
9000 system for the City of Johannesburg was made as part of the investigation. It was
estimated that data on approximately 98 000 residents of the City of Johannesburg were
lost, incorrectly transferred or duplicated.
The City of Johannesburg residents were given the option either to lodge a formal dispute
personally at one of four Billing4U care centres in the Johannesburg area or to call the
Billing4U call centre. Operating hours at the care centres and the call centre were from 08:00 to
18:00 from Monday to Saturday.
Billing4U employed temporary clerks at each of the four Billing4U care centres, as well as at
the call centre to capture the formally lodged disputes on the “Disputes” module. All temporary
clerks signed employment contracts what were valid for a period of two months.
HJB
66
AUE4861/102
ZAU4861/102
NAU4861/102
After capturing the resident’s unique account number, the “Disputes” module automatically
retrieves the resident’s details from the Speedbill 9000 master file and displays these on the
screen. The system does not allow the clerks to delete or edit resident’s master file details.
The “Disputes” module only allowed the following types of disputes to be captured:
incorrect stand and physical addresses;
excessive billing amounts;
deeds transfers not correctly updated on the Speedbill 9000 system;
incorrect estimated meter readings;
bills not received;
receiving duplicate bills;
incorrect detail given on bills; and
services unduly disconnected.
REQUIRED
Marks
1. With regards to working paper 2800-1, describe the weaknesses in the procedures
followed by Billing4U which relate to the purchase of Speedbill 9000, as well as the
conversion, testing and post-implementation review thereof. 25
2. With regards to working paper 2900-1, describe any additional computerised (pro-
grammed) application controls that you would expect to see in order to ensure the:
(i) occurrence and authorisation; and 11
(ii) completeness of the lodged disputes by the temporary clerks. 2
(Unisa 2011 Exam – adapted)
HJB
67
AUE4861/102
ZAU4861/102
NAU4861/102
SUGGESTED SOLUTION
1. Weaknesses in the procedures followed by Billing4U Ltd, which relate to the purchase,
conversion, testing and post-implementation of Speedbill 9000.
HJB
68
AUE4861/102
ZAU4861/102
NAU4861/102
HJB
70
AUE4861/102
ZAU4861/102
NAU4861/102
2. The computerised (programmed) application controls you would expect to see to ensure
the following:
(i) The occurrence and authorisation (validity) of the capturing of lodged disputes by
the temporary clerks.
HJB
71
AUE4861/102
ZAU4861/102
NAU4861/102
HJB
72
AUE4861/102
ZAU4861/102
NAU4861/102
(ii) The completeness of the capuring of lodged disputes by the temporary clerks.
Information from the scenario to which Computerised application control over input –
the application control relates completeness
(DOES NOT COUNT MARKS)
Completeness
A reference number, allocated by the The “Disputes” module should follow up on the
“Disputes” module, was given to a sequence of the reference numbers and report any
customer on receipt of the formal missing numbers (possibly through an exception
dispute. This number was used by report). (1)
Billing4U to track the progress on the
specific dispute.
Each clerk was allocated a personal Field presence checks (missing data checks) should
computer on which the clerk captured be in place to ensure that all critical input fields
the resident number, the date of lodging (mandatory fields) are present e.g. the resident
the dispute, the nature of the dispute number and the drop-down box for the nature of the
etc., directly via a keyboard. dispute should be present and completed before a
reference number is allocated. (1)
__
Available 2
Maximum 2
Presentation: layout (table) - Part 1 (1)
- Part 2 (1)
MARKERS’ COMMENTS
Part 1
Students quoted the words from the scenario when identifying a weakness, rather
than interpreting the information at a higher level.
The obvious weaknesses were often identified, but many students failed to identify
the more difficult weaknesses.
Students did not seem to understand the difference between testing a conversion
and testing software developed from scratch.
Part 2
Many students listed edit checks without applying these to the case study.
The edit checks used and the description thereof often did not match.
Students obtained most of their marks from writing down access controls and not
from recommending controls pertaining specifically to this case study.
HJB
73
AUE4861/102
ZAU4861/102
NAU4861/102
Many students recommended controls that were not applicable to the scenario.
Many students did not understand the system where information is received via
telephone. Students instead reverted back to generic manual controls as per the
standard transaction cycles.
Students did not seem to understand the risks involved in the case study and the
effect thereof on the specific controls.
Many students formulated audit procedures to test the system controls, rather than
writing down the recommended controls.
HJB
74
AUE4861/102
ZAU4861/102
NAU4861/102
SELF-ASSESSMENT QUESTIONS
Part 1
HJB
75
AUE4861/102
ZAU4861/102
NAU4861/102
Part 2
The following questions are included in this tutorial letter. The questions are extracts from previous
Unisa tests, Unisa examinations and SAICA examinations. Please note that the reading and writing
time were rounded up. As per SAICA you receive 30 minutes reading time for a 100 mark question
and two and a half hours writing time.
COMMENT
We recommend that you approach these questions in the same way you would in a test
and examination. Read the scenario first for the time allocated prior to reading the
requirements. Do not look at the requirements until your reading time is up. Once the
reading time is up, read the requirements, plan your answers and write down your
answers the same way you would in a test and examination. You should write down your
answers in the time allocated (writing time). You need to stick to the writing time so you
can train yourself on speed and adhering to time. When writing out your answers please
do not refer to the suggested solution until you are done writing. Once you have finished
writing your answers down please refer to the suggested solution of which you would use
to mark yourself. When marking yourself you should pay attention to the following:
HJB
76
AUE4861/102
ZAU4861/102
NAU4861/102
Points included in our suggested solution that you did not include when
writing your answers. You should pay attention to these points as they are an
area of concern to you. You will need to identify why you omitted to write these
points from your solution. During this process you will easily identify and be able to
explain why you missed some of these points in your solution. Make note of these
points so that you don’t repeat the same mistake of omitting to write them (when
applicable) in a test or examination. Some points however, might require you to
read the requirement and scenario again to identify what has led to the point being
included in the suggested solution. If you are still not certain as to why the points
are included in the suggested solution please refer to the markers comments
included under the suggested solution for a possible explanation. If you are then
still not clear of the reason for the inclusion of some points in the suggested
solution, please do not hesitate to contact us.
Points that you have written in your answer but that do not form part of our
suggested solution. In this instance you will follow the same process as indicated
in the above comment.
Please spend more time when marking yourself and don’t get anxious. This is when the
real learning occurs. Don’t be discouraged by the low marks when attempting these
questions. These questions are included to evaluate the knowledge you have and assist
you in identifying areas to which you need to pay more focus and attention prior to the
test and exam.
QUESTION 1 40 marks
You are a trainee accountant at Kgopa & Associates Inc. (K&A), a firm of Registered Auditors
responsible for the audit of Ngwato & Phahla (Pty) Ltd (N&P) for the year ended 31 March 2013.
An extract from the audit planning file describing N&P’s history and operations is shown below.
N&P was incorporated 20 years ago. It was founded by Albert Ngwato, who established a small
pottery making tableware such as dishes, plates and cups. The products quickly grew popular, with
one range of products becoming highly sought after when it was used at a royal wedding. The com-
pany’s products have retained their popularity over the past two decades, and the brand enjoys a
strong identity and good market share. N&P has a history of steady profitability and stable
management.
HJB
77
AUE4861/102
ZAU4861/102
NAU4861/102
You have received an email (included below) from Gustav Mahlare, the audit engagement partner.
From: [email protected]
Sent: Thursday 28 February 2013:11:50
To: [email protected]
Subject: N&P audit planning
Dear Thabo
I have just been to a meeting with Charles Modise, the finance director of N&P; we were discussing
recent events which will have a bearing on your forthcoming audit. One of the issues discussed is the
acquisition of a 90% interest in Bauba (Pty) Ltd (Bauba) earlier this year, which is considered a
significant component of N&P. Our firm has been appointed as auditor of Bauba, which also has a
year ending 31 March 2013. The terms of the engagement have been agreed with the client. We
need to start planning the audits of N&P and Bauba as soon as possible to ensure that we conduct a
quality audit and meet the audit deadlines.
Regards
Your firm has audited N&P for the past five years. Bauba was audited by Nameng Inc., a firm of
Registered Auditors for the year ended 31 March 2012.
The most significant event for N&P this year was the acquisition of Bauba which took place on
1 October 2012. N&P purchased 90% of Bauba’s equity shares for a cash consideration of R125
million, and a further contingent consideration of R30 million that will be paid on the third anniversary
of the acquisition, if N&P’s net profit before tax grows by 8% per annum. N&P engaged an external
consultant to perform a due diligence on Bauba and to measure the non-controlling interest. His report
estimated the fair value of Bauba’s net assets to be R140 million and the non-controlling interest to be
R12 million at the date of acquisition. It is the group‘s policy to measure non-controlling interest at fair
value.
HJB
78
AUE4861/102
ZAU4861/102
NAU4861/102
Bauba manufactures pottery figurines and ornaments. All manufacturing operations are based in
Silverton, Pretoria. The company is considered a good strategic investment to the group, as its
products are luxury items like those of N&P. The acquisition of Bauba will enable the group to diversify
into a different market. Approximately 30% of Bauba’s sales are made to foreign customers. Foreign
customers settle their accounts using their respective currencies. Prior to the acquisition, Bauba
operated as a single company, this is the first year that it is part of a group of companies.
Inventory
Raw materials used to manufacture luxury pottery figurines and ornaments are purchased from
suppliers in Europe. These suppliers invoice Bauba in Euro’s. Raw materials are normally delivered by
sea and small orders can be delivered by plane in emergencies. At year end there was inventory to
the value of R950 000 at sea. This inventory was purchased free-on-board (FOB) terms. Work in
progress for the group at 31 March 2013 was valued by Bauba’s production manager based on the
estimated stage of completion of each product. Work in progress consists of direct materials, direct
labour and allocated manufacturing overheads.
For the period ending 31 March 2013, some indicators of the financial performance and position are
as follows:
Ngwato & Bauba
Phahla (Pty) Ltd (Pty) Ltd
R million R million
Revenue (actual) 149 42
Revenue (budget) 135 38
Gross Profit (actual) 80 20
Profit before tax (actual) 22 12
Profit before tax (budget) 20 11
Total assets 250 140
Note:
Revenue is earned evenly throughout the year.
Bauba’s results are for the six month period beginning on 1 October 2012 (date of acquisition).
N&P‘s results are for the year ended 31 March 2013.
For group purposes, any component greater than 15% of actual consolidated revenue is
considered to be a significant component.
HJB
79
AUE4861/102
ZAU4861/102
NAU4861/102
N&P received a grant of R35 million on 1 September 2012 in relation to the redevelopment of its main
manufacturing site. The government is providing grants to companies for capital expenditure on
environmentally friendly assets. N&P has spent R25 million of the grant received on solar panels to
operate electrical machines to generate electricity in their production process. The remaining grant will
be spent within a year on upgrading its production and packaging lines. In terms of a signed
agreement with the government, if the grant is not spent within a year it must be repaid. It is the
group’s accounting policy to recognise government grants as deferred income. Assume that the
government grant is taxable. N&P’s finance director has limited knowledge of the International
Financial Reporting Standards (IFRS) and this is his first time preparing consolidated financial
statements. The group adopts IFRS.
K&A applies the following percentages in calculating materiality for N&P and Bauba:
Revenue ½%
Gross profit 1%
Profit before tax 2%
Total assets 1½%
REQUIRED
Marks
(a) Describe the effect that N&P’s acquisition of the interest in Bauba (Pty) Ltd will have
on the audit planning for the 2013 financial statements audit of Bauba (Pty) Ltd. 6
Communication skills: clarity of expression 1
(b) As part of the formulation of your overall group audit strategy and the development of
your group audit plan;
(i) Identify the risks of material misstatement at the overall financial statement level
relating to the company and group financial statements of Ngwato & Phahla (Pty)
Ltd for the year ended 31 March 2013. 6
(ii) Briefly describe your proposed overall audit responses to address the risks
identified in part (b) (i) above. 4
Note: Detailed audit procedures are not required as part of your audit responses.
(iii) Identify the risks of material misstatement at the assertion level relating to the
company and group financial statements of Ngwato & Phahla (Pty) Ltd for the
year ended 31 March 2013 on the following:
Goodwill 12
Revenue
Inventory
Government grant.
Communication skills: proper identification of risks 1
(c) Calculate and discuss the planning materiality that should be used for the audit of
Bauba (Pty) Ltd for the year ending 31 March 2013. 10
HJB
80
AUE4861/102
ZAU4861/102
NAU4861/102
QUESTION 2 40 marks
You are an audit trainee at Tsebang Auditors Inc. (Tsebang). You are currently part of the audit team
on the external audit of Maroteng Construction Ltd (Maroteng), a new audit client of Tsebang.
Maroteng is listed on the Johannesburg Securities Exchange (JSE).The previous audit firm, Mlotshwa
& Associates, were requested to resign at the end of the 2013 audit. The resignation was prompted by
the issue of an adverse opinion.
Maroteng’s operations focus on the development and construction of properties and they undertake
various construction projects countrywide. Maroteng develop properties in all the provinces of South
Africa and its head office is situated in Sandton. You received the financial statements from the Chief
Financial Officer (CFO). The CFO however has a problem with understanding IFRS and how to
account all the accounting issues in the required manner. The following are extracts of the financial
statements of Maroteng.
Extract of statement of profit or loss and other comprehensive income for the year ended
28 February 2014
Additional R’000
Notes
Gross profit 27 000
Operating expenses 1.1 (30 500)
Operating profit / (loss) (3 500)
Finance costs (1 250)
Loss for the year (4 750)
HJB
81
AUE4861/102
ZAU4861/102
NAU4861/102
Operating expenses include a R4.5 million provision, relating to a potential fine that is
payable to the Advertising Standards Regulatory Authority (ASA) of South Africa, for
alleged inappropriate claims that were made in an advertising campaign. The fine is
being disputed and Maroteng expect to receive the courts judgement by the end of
April 2014.
Included in property, plant and equipment is the head office building, motor vehicles,
machinery and office equipment. All items of property, plant and equipment are held for
the use thereof in the production, supply of services and/or for administrative purposes.
The head office building was damaged by heavy rain and floods which occurred
countrywide on 14 February 2014. It is the accounting policy of Maroteng to value the
head office building using the revaluation model and to value all the other items of
property, plant and equipment at the cost model. The recent valuation of the head office
building was performed by Mr Peter Ramabu, a recently qualified property valuer.
Construction raw materials on site are used to develop properties, it’s purchased from
local suppliers and are delivered by train. At year end construction raw materials to the
value of R1 million were still on a train.
Construction work in progress consists of direct raw material, direct labour and allocated
manufacturing overheads. Construction work in progress at 28 February 2014 was
valued by Maroteng‘s newly appointed engineer, Mr Werner Kruger, who based the
valuation on the estimated stage of completion of each property under development. Up
to 28 February 2013, the previous auditors made use of an independent external
property valuator to provide them with a valuation report of the construction work in
progress.
Finished inventory consist of the cost of all the completed properties and consumables
consists of small tools.
The financial statements are prepared according to the International Financial Reporting
Standards (IFRS).
HJB
82
AUE4861/102
ZAU4861/102
NAU4861/102
2. Other matters
Maroteng is facing difficult trading conditions. Consumer spending declined due to high
interest rates in the economy. The construction and property industry remains very
competitive and a major competitor has launched a very successful range of new low
cost houses during the year, which led to a significant decline of Maroteng’s revenue.
Cash flow has been a problem this year, largely due to the cash that was spent on
developing new houses. An increase in Maroteng’s bank overdraft was negotiated in
December 2013 to finance working capital.
Pheladi Mampuru, a third year trainee accountant at Tsebang, documented the following
system description of the acquisitions and payments cycle in the audit planning file:
A detailed requisition list of raw materials required for each project is prepared in
advance by a quantity surveyor, which is then approved by the construction manager,
Hlabirwa Phala. A copy of the list of raw materials are then sent to the building site and
the original list is filed.
Maroteng has a policy of not working on more than eight projects simultaneously. The
project foreman and the project manager are responsible for the development of the
houses. Once a project has been completed, that team starts with the next project. This
enables Maroteng to allocate eight administrative teams of three members each to a
project. The administrative team is responsible for all acquisitions and payments of
suppliers, the payment of wages and the maintenance of inventory records. The senior
administrative clerk is responsible for the acquisition of raw materials as well as the
payment thereof. When the need arises, the foreman requests the senior administrative
clerk to make out a requisition for raw materials. The senior administrative clerk then
compares the requisition received from the foreman with the raw material requisition list
and only thereafter places the order telephonically with the supplier. The senior
administrative clerk may place the order with any supplier of his choice.
All purchases are made on credit. Upon receipt of the inventory, the senior administrative
clerk counts the inventory, then signs a delivery note and keeps a copy thereof for
administrative purposes. When the invoice is received the senior administrative clerk
matches the invoice with the delivery note and files it for payment. On the 20th of each
month the senior administrative clerk prepares a monthly list of all payable invoices for
that particular month. The monthly list contains the creditor’s name, account number due
and the payable amount. This list is then faxed to head office in order to process the
payment. The payments to the suppliers are done on the 25th of each month.
HJB
83
AUE4861/102
ZAU4861/102
NAU4861/102
The other two clerks are respectively responsible for the payment of wages and the
maintenance of the inventory records.
REQUIRED
Marks
(a) Describe the automated application controls that Maroteng Construction Ltd will have to
implement over the creditors masterfile. 9
(b) (i) Describe the risks of material misstatement at the overall financial statement level
of Maroteng Construction Ltd for the year ended 28 February 2014. 11
(ii) For each of the risks identified above (b)(i), describe the most appropriate audit
response to eliminate or reduce the risks to an acceptable level. Present your
answer in a tabular format as follows: 7
Note: Detailed audit procedures should not be provided when formulating the
audit response.
Communication skills: Proper linking of the audit responses with the risks 1
(c) Describe the risks of material misstatement for inventory and the head office building, at
the assertion level of Maroteng Construction Ltd for the year ended 28 February 2014. 11
QUESTION 3 40 marks
BACKGROUND INFORMATION
You are an audit senior at Brown Incorporated, a firm of Registered Auditors in Pretoria, and you have
been assigned to the audit of Electrocar Limited (Electrocar) for its financial year ended
31 December 2014. Electrocar is a new client of Brown Incorporated and requires an external audit in
terms of its Memorandum of Incorporation. Electrocar is a JSE listed company.
Electrocar is a leader in the manufacture, marketing and selling of electrical motor vehicles in the
South African automotive industry and is situated in Uitenhage in the Eastern Cape. Electrocar
currently focuses mainly on their plug-in electric car production line. Their operations exclude the
maintenance of motor vehicles following delivery to end-users. End users consist of Electrocar motor
dealerships all across major centres in South Africa.
HJB
84
AUE4861/102
ZAU4861/102
NAU4861/102
Electrocar made the decision to change external auditors and appoint Brown Incorporated, due to the
previous auditors taking too long in their opinion, to conduct and finalise their annual audit. Electrocar
requested that Brown Incorporated complete the 2014 annual audit within one month after year end.
This request is due to Electrocar’s bankers requiring audited 2014 financial statements for purposes of
providing finance for the research and development of a new hydrogen fuelled prototype car, to
commence as soon as possible in 2015.
In recent times Electrocar experienced financial pressure due to stringent competition from affordable
Korean motor vehicles being supplied to the South African market at very competitive prices, as well
as a downturn in new vehicle sales in the South African automotive industry in general. In an attempt
to mitigate the challenges of the South African market, Electrocar’s board of directors decided during
the 2014 financial year to expand operations by supplying plug-in electric cars to motor dealerships in
neighbouring African countries as well. This decision was particularly taken due to an agreement that
was reached amongst Southern African Development Community (SADC) members to pay tax
rebates to buyers of environmentally friendlier motor vehicles such as Electrocar’s plug-in electric cars.
Electrocar believes that these rebates will make their cars more affordable and as a result turn them
into a fierce competitor in the motor vehicle industry in Southern Africa.
The main concern related to the expansion of operations to neighbouring countries expressed by the
operations director of Electrocar, is whether or not the company will be able to meet market demand
for their electrical cars. This is due to extended national labour strikes of metal worker unions towards
the end of 2014, to which Electrocar’s labourers belong. Electrocar reacted to the strikes by employing
semi-skilled temporary workers in the manufacturing and assembly plants in 2014. However, these
temporary workers struggled to meet the required production targets in 2014 due to the specialised
skills required for the manufacturing and assembly of electrical cars.
Since you identified the labour related account balances as a possible high risk at an assertion level,
you compiled the following planning working paper from the wage system description provided by
Mrs Green, the accountant who prepares the weekly wages cheques. This system description forms
part of your audit work in assessing Electrocar’s system of internal control as part of the planning
phase of your audit.
HJB
85
AUE4861/102
ZAU4861/102
NAU4861/102
The company’s premises consist of three buildings, namely the manufacturing plant, the assembly
plant and an administrative building. All employees enter the premises through one guarded gate.
In addition to Electrocar’s large salaried staff, they employ approximately 650 skilled wage earners
who mainly work in the manufacturing and assembling plants. Wages are paid on Fridays for the week
ending the previous Wednesday.
The foreman of each plant is fully responsible for the functioning of the plant, as well as for the
appointment and determination of the wage rate for each of the wage earners, which he keeps on file
in his office in the plant. No distinction is made between the wages of permanent and temporary wage
earners in terms of wage rates or working hours.
When wage earners arrive for work they sign an attendance register and swipe their clock cards at a
central clocking machine situated at the centre of each building. As soon as employees submit their
completed clock cards to the foreman on Thursdays, they are issued with blank clock cards for the
next working week. Work shifts are eight hours each and no overtime is worked at Electrocar.
The foreman signs the completed clock cards on Thursday mornings and hand them, together with his
own clock card for the week, over to one of two wage clerks, namely Miss Kruger assigned to the
manufacturing plant and Mr Smith assigned to the assembly plant. They prepare separate wages
payrolls for the manufacturing and assembly plants.
The number of hours worked for each wage earner is obtained from their clock cards and the fixed
hourly wage rate is carried over from the previous week’s wages payrolls. Adjustments to wage rates
are made once a year, as soon as the fixed annual wage increase percentage is agreed upon with
labour unions. Deductions are made using the relevant deduction tables.
As soon as the wages payrolls for the week are prepared by Miss Kruger and Mr Smith, it is handed
over to Mrs Green, the accountant who prepares one wage cheque. The cheque is given to a security
firm that cashes the cheque on the day of the wages pay-out (Fridays).
The security company hands the cash over to Miss Kruger and Mr Smith who prepare the individual
wage packets. They then give the wage packets to the foreman of each of the manufacturing and
assembly plants who are responsible for the distribution of wage packets to employees. Employees
sign the relevant previous week’s clock cards as proof of receipt of their wages.
Apart from the functions described above, no other internal controls are performed in Electrocar’s
plant wages system over:
appointment;
time keeping;
preparation of wages payrolls and wage packets;
pay-out of wages; or
unclaimed wages.
HJB
86
AUE4861/102
ZAU4861/102
NAU4861/102
During the planning phase of your audit, you became aware of a threat made by striking employees
that they plan to set fire to the buildings at Electrocar’s premises if their wage increase demands were
not met.
Upon discussion of the likelihood of this threat with management, they expressed great concern about
the threat as incidents of violence and damage to their properties during labour strikes, have occurred
in the past. Management referred to incidents in 2013 when metal worker industry labour strikes
followed violent mining industry strikes earlier that year. Management went on to explain that
temporary workers appointed by Electrocar during the strike in 2013 as well as non-striking permanent
labourers, were attacked and intimidated into not showing up for their work shifts in the production and
assembly plants.
During the 2013 labour unrest, salaried employees in the administration building were instructed to
perform their administrative duties from home by remotely logging on to the company’s computerised
administrative and accounting system. Although this arrangement ensured administrative staff’s
safety, some accounting information was lost due to the sheer number of financial transactions per
day that the financial manager unsuccessfully attempted to back-up form his remote location.
Simultaneously in 2013, a delivery truck on its way to delivering five new electrical cars to end user
motor dealerships were hijacked and set alight. All five new cars were irreparably damaged in the fire.
The financial losses suffered by Electrocar due to the loss of production and the five electrical cars
destroyed in the fire, had a significant impact on Electrocar’s reported profits in 2013.
Due to the eminence of the striking labourers’ threat and the fact that Electrocar’s operations are
centralised at one premises, you advised management to urgently review their disaster recovery plans
as part of the continuity of operations strategies. Based on the accounting information lost in 2013 due
to the unsuccessful data back-up attempt by the financial manager, you advised them to place special
emphasis on their information technology (IT) controls in this regard.
REQUIRED
Marks
(a) Based on the information provided under the heading Background Information, describe
the audit risks at the overall financial statement level of Electrocar for the year ended
31 December 2014. 9
Communication skills: logical layout and argument 1
(b) With reference to Electrocar’s wages system described on working paper V201, list the
weaknesses that you identified during your evaluation of the system of internal control
during the planning phase of the audit. (Weakness regarding unclaimed wages is limited
to one.) 20
(c) Advise the management of Electrocar on the general computer controls that should
be implemented to ensure adequate control the over continuity of operations in the
event of an emergency. 9
Restrict your answer to only disaster recovery controls.
Communication skills: logical layout and argument 1
(Unisa – 2015 Test 1)
HJB
87
AUE4861/102
ZAU4861/102
NAU4861/102
QUESTION 4 40 marks
Background information
You are an audit trainee at Groenewald Auditors Incorporated (Groenewald). You are currently part of
the audit team on the external audit of Energy Solutions Ltd (Energy Solutions), a new audit client of
Groenewald. Energy Solutions is listed on the Johannesburg Stock Exchange. The previous audit firm,
Thlabane & Associates, were requested to resign at the end of the 2015 audit. The resignation was
prompted by the issue of an adverse audit opinion. Energy Solutions’ financial year end is on
29 February 2016.
Energy Solutions’ operations focus on the provision of alternative energy to industrial and household
electricity consumers, in the light of challenges faced by Eskom to meet the electricity demand of the
South African economy. To date, Energy Solutions manufactured and installed mainly solar panels
across all provinces in South Africa, with their head office and manufacturing plant in Gauteng.
Recently a new home battery developed by an American company has drawn Energy Solutions’
attention. The home battery charges using electricity generated from solar panels or when general
electricity utility rates are low. The home battery can then be used during Eskom’s load shedding
phases. The battery is automated, compact and simple to install and enables users to maximise self-
consumption of solar power generation.
Energy Solutions are excited about the solution that the home battery can offer to frustrated
South African households. In particular, Energy Solutions are delighted with being the first
South African company to import these batteries from America. The long awaited pilot project for the
sale of the new batteries has been launched in Gauteng in April 2015. The project entails a number of
sales representatives going from door-to-door with information packs about the home batteries in
suburbs where load shedding is active at the time. Sales representatives are able to illustrate the use
of the batteries during door-to-door visits to prospective customers. If sales are good (which
Energy Solutions are very optimistic about) sales will be expanded to other provinces in South Africa
and the door-to-door marketing model will be expanded to more sophisticated marketing and sales
models.
Based on the background information on Energy Solutions and with specific reference to the adverse
audit opinion in 2015 by the previous auditor, audit risk is assessed as high during the planning phase
of the 2016 year end audit. Working paper R102 below was prepared by you on the revenue and
receipts system with regards to the new home battery.
HJB
88
AUE4861/102
ZAU4861/102
NAU4861/102
The company has allocated nine of their most experienced sales representatives to the marketing and
sale of home batteries across Gauteng, as part of the initial pilot project. Sales representatives are
issued with boxes of pre-printed home battery information packs which they hand out to customers
upon visit.
Sales representatives record orders on electronic order pads which generates blank order forms with
pre-set home battery selling prices. Price increases are implemented by management on the sales
price masterfile on an ad hoc basis based on product cost, import costs and the popularity of home
batteries in the local market.
All sales are done on credit. Credit payment terms and any discounts negotiated are allowed at the
discretion of sales representatives. The sales manager takes the discounts granted into consideration
when calculating sales representatives’ commissions at the end of each month.
When sales representatives return to the company premises on a weekly basis, they hand their order
pads to the store manager. The store manager prepares pre-numbered delivery notes in duplicate
from the order pads. The delivery notes are handed to the store clerk who commences to pack the
home batteries. Physical security over access to the warehouse is adequate.
The company’s delivery clerk then collects the goods for delivery, as well as the two copies of the
delivery notes from the store clerk and delivers them to customers. One copy of the delivery note is
kept by the customer, whilst the second copy is signed by the customer as proof of receipt. The
second, signed copy of the delivery note is returned by the delivery clerk to the store manager.
The store manager attaches the signed delivery note to a copy of the order which he has printed and
hands these to the invoice clerk. The invoice clerk prepares invoices from these documents. The
bookkeeper enters the invoices in the sales journal and debtor’s ledger.
The bookkeeper opens incoming mail and is responsible for entering payments received from
customers in the cash book and debtor’s ledger. She banks the money on a daily basis.
On the rare occasion that customers are unhappy with their home batteries and choose to return
them, the bookkeeper issues a credit note which she enters on the system in the same way as
invoices. Sales and debtors’ accounts are reversed with the relevant amount.
HJB
89
AUE4861/102
ZAU4861/102
NAU4861/102
REQUIRED
Marks
(a) Discuss the effect of the assessment of audit risk as high, on the overall response for
the 2016 audit of Energy Solutions. 10
(b) Based on all the information in the background information and working paper R102
above, describe the risk of material misstatement at assertion level relating to
revenue on the sale of home batteries for Energy Solutions for the year ended
29 February 2016. 4
Communication skills: logical layout and argument 1
(c) With reference to the revenue and receipts system – home batteries described in
working paper R102, list the control weaknesses that you identified during the
planning phase of your audit. 14
Communication skills: logical layout and argument 1
(d) Advise the management of Energy Solutions on the application controls in a
computerised environment that should be implemented to ensure that only authorised,
accurate and complete amendments are made to the sales price masterfile. 10
QUESTION 5 25 marks
Background information
You are a first year trainee accountant at Abrahams, Gauta & Engelbrecht Incorporated (AGE), a
medium size audit firm, situated in Centurion. The firm aims to be at the cutting edge of utilising the
latest information technology in its audit engagements.
During 2011 AGE became aware that Jet Air Holdings Limited (Jet Air) would be changing its external
auditors. This came to light when one of the partners (who is now in charge of the Jet Air statutory
audit) was informed thereof by her husband, who holds 18% of the issued share capital in Jet Air. Prior
to accepting the engagement AGE contacted the previous auditor of Jet Air.
The previous auditor indicated that he enjoyed his association with Jet Air and that there was no
reason for AGE not to accept the appointment for the 2012 financial year.
Jet Air is an aviation company with three operating business segments, namely a low-fare airline
(TwoJet), an aircraft maintenance business (TechJet) and an air charter business (CraftJet). The head
office of Jet Air is situated in Kempton Park.
HJB
90
AUE4861/102
ZAU4861/102
NAU4861/102
Information technology (IT) is one of Jet Air’s cornerstones. It is specifically important to TwoJet,
because since its inception six years ago, 90% of ticket sales took place through the internet. The
board of directors of Jet Air as a result has established an IT governance committee. The Board
discontinued the audit committee in December 2011, as it believes that its functions were duplicated
by those of the internal audit department, which is said to be highly efficient.
AGE agreed to assist the system development department of Jet Air with the identification of the
specific application controls that should be present in the newly upgraded internet-based on-line
reservation system.
Jet Air has a 30 September year end and the audit report is required three weeks after year end. The
CEO has informed the partner in charge that the audit report will be required when applying for finance
to expand the operations of Jet Air. Four team members including the partner in charge and yourself
have been allocated to the audit of Jet Air.
The airline has enjoyed excellent growth in revenue and passenger numbers over the years and
consequently internet traffic and system load has increased dramatically. The company is in the
process of upgrading its website and plans for it to be operational by the end of October 2012.
The following user requirements were developed by Jet Air’s business analyst and flight administration
department:
A webpage must be designed that firstly allows customers to perform a search on the availability
and costs of seats on one of the flights operated. TwoJet’s flight schedule includes flights to and
from Johannesburg and the following destinations:
Flights operate seven days per week and 364 days per year (no flights occur on Christmas day).
A customer who identifies an available seat on a flight that he or she wants to book must be able
to book the flight by providing his or her name, surname, ID number or passport number, cell
phone number, e-mail address and method of payment. Customers must also specify whether
or not it is a one-way or return flight. A 10% discount is applicable to all bookings that are made
on a return basis.
According to TwoJet’s policy, unaccompanied passengers below the age of 12 are not allowed
to fly on any of its flights. The flight fee for passengers younger than 12, accompanied by an
adult, is 40% less than the normal flight fee.
HJB
91
AUE4861/102
ZAU4861/102
NAU4861/102
Ticket fees are determined monthly by the Fees Committee and forwarded to the IT department
on the first day of each month for updating. Airport taxes must also be paid by the passenger
and must be added to the flight fee. These taxes depend on the destination of the flight, for
example if the destination is Durban, the Durban airport tax amount must be paid by the
passenger.
Once a customer confirms a booking on the website, the customer has 48 hours to pay for the ticket.
Payment can either be done on-line by way of credit card while making the booking via a secure
connection, or by electronic funds transfer (EFT), where the proof of payment must be faxed to the
head office. The customer can also pay directly at the kiosk at the airport, but only if the booking is
done there and the payment method at the kiosk is either cash or credit card. The ticket fee is
recognised immediately as revenue at the time payment is made by a customer. The database is
immediately updated and the seat reserved. The plane ticket is issued electronically to the customer
shortly after the payment is made by a customer. At the end of each day the transaction file is updated
to the general ledger.
Plane tickets may be cancelled by customers if JetAir is notified thereof, in writing, at least 30 days
prior to the flight date. A penalty amounting to 20% of the ticket fee is payable upon cancellation. The
balance of the ticket fee is refunded to the customer.
When a passenger arrives at the airport, he must report at the check-in desk. Here the ticket is
scanned, the passenger’s identity is confirmed and, once payment and / or proof thereof is confirmed,
the baggage is checked-in and a perforated boarding pass is printed and handed to the passenger.
Once passengers have received their boarding passes, they are directed to the airport security area.
All carry-on baggage is scanned for unlawful items. Once through the security area, passengers are
directed to the boarding gates.
At the boarding gate, passengers present their boarding passes and this information is captured on
the Passenger Loading List transaction file. The boarding pass is torn and one part is kept at the gate
while the other part is handed back to the passenger to indicate their seat in the aircraft. Once pas-
sengers progress through the boarding gate, they may not turn back and must proceed to the aircraft.
Fifteen minutes before the flight is scheduled to depart, the boarding gate closes and a Passenger
Loading List is prepared by the system, indicating the names of the passengers on board the flight.
REQUIRED
Marks
1. Identify the weakness in the on-line reservation system that will significantly influence
the occurrence of revenue recognised. 2
2. Discuss the specific application controls that should be present in the on-line
reservation system. 21
Note: Exclude application controls relevant to access controls, payments, and
masterfile updates from your solution.
Communication skills 2
(Unisa: Supplementary examination AUE4862, 2012 – adapted)
HJB
92
AUE4861/102
ZAU4861/102
NAU4861/102
QUESTION 6 27 marks
Background information
You are an audit senior in the firm of AUE & Associates Registered Auditors. AUE & Associates was
recently approached by Save-a-Lot Ltd (Save-a-Lot) to conduct the audit for its financial year ended
31 August 2012. You have been assigned to manage the audit of Save-a-Lot.
Save-a-Lot Ltd is listed on the JSE Ltd and operates in more than 40 cities in 20 different countries. Its
registered offices are in Johannesburg. Save-a-Lot’s website (www.savealot.co.za) features
unbeatable discounts on travel, leisure, meals, etc. on a daily basis in various cities and countries. It
has been hailed a web phenomenon as it is changing the way businesses market themselves around
the world. Save-a-Lot offers businesses increased brand awareness through their website and in turn
receives large discounts for subscribers. Through collective buying power, businesses registered with
Save-a-Lot could increase their sales volumes substantially. Save-a-Lot retains 8% of all revenue from
sales transactions and the balance is paid to the relevant business. Since the website was launched in
September 2009,Save-a-Lot has experienced rapid growth. It grew from 1,2 million registered
subscribers in 2009 to just under 12,5 million by August 2012.
A potential business that wants to offer deals to subscribers through Save-a-Lot, has to register
on a separate page on the website (“Save-a-Lot partners”) by providing certain business
particulars, product lines, etc. A thorough check is done on each potential business partner by
Save-a-Lot’s sales director before being added to the official partner list.
The new subscriber is also required to complete certain fields with personal information such
as name, surname, ID number (subscribers should be 18 years or older), physical address (for
deliveries), banking details for refunds, etc. These fields with personal information are
mandatory fields and the subscriber cannot sign up without completing these fields.
The subscriber selects (from a drop-down menu) the country and city for which he/she wants to
receive information on discounted deals.
HJB
93
AUE4861/102
ZAU4861/102
NAU4861/102
Each day, after the initial sign up, the subscriber receives an e-mail providing details on
unbeatable deals at discounted prices in the country and city he/she selected upon registration.
Should the subscriber be interested in a particular deal, he/she selects the link (as provided in
the e-mail) which then takes him/her directly to the Save-a-Lot website.
Each deal is only available for 24 hours, after which it is automatically removed from the
website. A minimum number of 100 different subscribers is needed for a deal to become
effective. During the 24 hours that the deal is available on the website, the number of
subscribers that have purchased the deal up to that time is shown on the website.
To purchase a deal, the subscriber clicks on the “Purchase” button on the website which then
opens the purchase screen. The purchase screen provides a drop-down list with the deals
available for that day, as well as a drop-down list with the number of vouchers that the
subscriber wants to purchase (maximum of 30 per subscriber per deal). After selecting the deal
as well as the number of vouchers (vouchers are sequentially numbered), the total price is
automatically calculated and displayed on the screen (this includes VAT for South African
businesses).
Should the subscriber want to pay by credit card, he/she selects this option on the purchase
screen and then completes card details such as initials, surname, account number, CVV
number (last three digits on the back of the card) and the expiry date of the credit card. These
fields are mandatory. Should he/she decide to pay by EFT (Electronic Funds Transfer), this
option should be selected which then provides the subscriber with the company’s banking
details and other particulars.
The subscriber has to tick the tick box that states “I am at least 18 years old and I have read
and understood the terms and conditions” for a purchase to be accepted.
If the subscriber is satisfied with the total of the purchase and other details relating to it, he/she
then has to click on the “Submit purchase” option.
After a few minutes, the subscriber will receive an e-mail confirming that his/her credit card has
been charged or payment has been received via EFT. The actual receipt voucher is provided in
a second e-mail to the subscriber (after the deal has expired and there is confirmation that 100
or more different subscribers have purchased that particular deal). This e-mail also provides
details on how to print the voucher. As soon as a voucher has been issued, no changes can be
made to it and no refunds will be given. The voucher states that it is only valid for six months
from the date of purchase.
Should the minimum number of 100 different subscribers for a specific deal not be met by the
time the 24 hours expire, subscribers are refunded and the deal voucher will not be
redeemable.
HJB
94
AUE4861/102
ZAU4861/102
NAU4861/102
1. Subscribers who wished to change any of their details (including e-mail addresses, passwords,
physical addresses, banking details and other personal information) could merely log onto
Save-a-Lot’s website and change their details by selecting the “change my details” option. All
changes could be made electronically by the subscribers themselves on the website.
2. Save-a-Lot however received numerous complaints during the year under review from
subscribers. These complaints mostly related to the fact that the “change my details” option
was not user-friendly. The subscribers complained that the website did not provide user-
friendly information on how to go about making changes.
Subscriber master file amendments as from 21 July 2012 (only for interim purposes until
programme changes are made)
4. As from 21 July 2012, subscribers were no longer allowed to merely log onto the website to
make changes to their details.
6. Should a subscriber wish to make changes to personal details after 21 July 2012 (for the
interim period until programme changes have been made), the subscriber is requested by the
Save-a-Lot website to send an e-mail to [email protected] requesting the change.
7. All the requests e-mailed to this e-mail address are received by Peter Makeachange. He is
responsible for all subscriber master file amendments and receives approximately 50 change
requests per day.
8. Upon receipt of an e-mail from a subscriber requesting certain changes, Peter completes a
subscriber master file amendment form (MAF) electronically on a blank Word template. This
Word document is not password protected.
HJB
95
AUE4861/102
ZAU4861/102
NAU4861/102
10. After completing the form, Peter prints out a copy and files it in a hardcopy file for audit
purposes and deletes the e-mail from the subscriber. He does not save the changes on the
Word document.
11. Peter then logs onto the subscriber master file with a generic username and password. There
are currently eight personal computers (PCs) that run this application and Peter can log onto
any of these. He then makes the necessary amendments as per the subscriber MAF that he
completed.
12. On a weekly basis, Peter prints out a listing of all subscriber master file changes and agrees
the detail to the printed subscriber MAFs in the hardcopy file.
13. During the audit it was discovered that the financial manager, Michael Altin, made un-
authorised changes to subscriber details on the master file despite the generally strong
computerised control environment. In most instances he altered the subscriber’s banking
details to reflect his own personal banking details in order to receive refunds that were
supposed to be paid to the subscribers. Due to the complexity of identifying all these changes,
the number and value of these master file changes and refunds still have to be determined.
REQUIRED
Marks
Based on the information presented on working paper 100-2:
(i) identify the weaknesses in the controls relating to the occurrence and authorisation
(validity) of changes to personal details in the subscriber master file as from 21 July
2012; and 5
(ii) for each weakness identified, give possible recommendations for improvements to the
controls. 20
Communication skills 2
Present your answer in a tabular format, e.g.:
Weakness Recommendations
1. … …
…
QUESTION 1
(a) The effect that the acquisition of Bauba (Pty) Ltd will have on the audit planning
From our audit of N&P we will already have knowledge of the pottery industry, however,
Bauba’s operations are different in that it specialises in figurines and makes some foreign
sales, and therefore we would be required to obtain an understanding of Bauba’s
operation in this regard. (1)
We may request access to Nameng Inc’s. working papers, especially in respect of any
matters which appear contentious or significant. We should also review their prior year
audited AFS and audit opinion as this may include matters that impact on the current
year’s audit. (1)
As the opening balances were audited by Nameng Inc., we should plan to perform
additional work on opening balances as required by ISA 510.6 Initial Audit Engagements
– Opening Balances. (1)
The acquisition of Bauba resulted in a change of auditors and the risk of material
misstatement will increase. (1)
The effect of the increased risk of material assessment will impact on planning and
performance materiality, which should set at a lower level. (1)
We will have to communicate with the group audit team to obtain an understanding of
their requirements with regard to:
coordinating work and agreeing on reporting deadlines (1)
the consistent application of accounting policies (1)
Communication skills: clarity of expression (1)
Available 8
Maximum 6
(b) (i) Risks of material misstatement at the overall financial statement level
The AFS of N&P may be materially misstated as related party relationships and
transactions might not be accounted for at arm’s length and disclosed properly. (1)
The group AFS of N&P might be misstated as Bauba’s financial statements will be
audited for the 2013 year by K&A but only six month results will be consolidated. (1)
The consolidated AFS may be materially misstated if the group companies do not
apply accounting policies consistently. (1)
HJB
97
AUE4861/102
ZAU4861/102
NAU4861/102
The consolidated AFS may be materially misstated because this will be the first
time that the finance director is preparing consolidated financial statements. Lack of
personnel with appropriate financial reporting and accounting skills, increases the
likelihood of error in the financial statements. (1)
The group AFS of N&P may be materially misstated as management may have felt
pressure to overstate Bauba’s financial performance and position in order to secure
a good sale price for the company (1)
The group AFS of N&P may be materially misstated as the opening balances of
Bauba might be incorrect since it was previously audited by Nameng Inc. who
might not have been competent or independent. (1)
The group AFS of N&P may be materially misstated as Bauba might not comply
with the relevant laws and regulations, such as foreign regulation leading to going
concern problems. (1)
N&P’s revenue and expenses may be understated to avoid the payment of the
contingent consideration for the acquisition of the interest in Bauba. (1)
Available 9
Maximum 6
(ii) Overall responses to address the risks of material misstatement at the financial
statement level (ISA 330.A1)
Due to high risks of material misstatement at the overall financial statement level relating
to (opening balances, pressure to manipulate financial statements (fraud) and related
parties) the auditor shall design and implement the following overall responses to
address the identified risks: (1)
Assigning more experienced staff or those with special skills or using experts, e.g.
valuers of goodwill and NCI, valuers to value the fair value of assets (1)
Making general changes to the nature, timing or extent of audit procedures, for
example: performing substantive procedures at the period end instead of an interim
date, or modifying the nature of audit procedures to obtain more persuasive audit
evidence. (1)
Available 6
Maximum 4
HJB
98
AUE4861/102
ZAU4861/102
NAU4861/102
Goodwill
The risk that the contingent consideration might not be discounted to its present
value. (1)
The external consultant possibly not being competent and appropriately qualified in
valuing the goodwill.(valuation and allocation) (1)
Revenue
There is a risk that revenue may not be recognised in line with the requirements of
IAS 18 Revenue (completeness, occurrence and cut off) (1)
There is a risk that foreign sales revenue may not be translated using the correct
exchange rate at the date of the transaction.(accuracy) (1)
There is a risk that revenue may be understated because of the contingent element
of the consideration for the acquisition of the interest in Bauba. (completeness) (1)
Inventory
Raw material
There is a risk that all costs (e.g. purchase price, import duties, insurance and
transport costs) incurred in importing raw materials may not be included in the cost
price as required by IAS 2 Inventories. (completeness and valuation and allocation)
(1)
There is a risk that inventory purchased FOB at sea at year end may not be
included in the balance of inventory at year end (completeness and rights &
obligations). (1)
There is a risk that inventory purchased may be translated to ZAR at the incorrect
foreign exchange rate prevailing at the transaction date (1)
Work in progress
There is a risk that work in progress may not include the appropriate allocation of
labour and manufacturing overheads as required by IAS 2 Inventories.(valuation
and allocation) (1)
HJB
99
AUE4861/102
ZAU4861/102
NAU4861/102
There is a risk that work in progress may be overstated because the stage of
completion is determined by the production manager who is an employee of Bauba.
The likely subjectivity of the estimation process, the risk of material misstatement
exists.(valuation and allocation) (1)
Finished goods
There is a risk that finished goods may not be valued at lower of cost or net
realisable value.(valuation and allocation) (1)
Government grant
There is risk that a deferred tax asset may not be recognised on deferred income
(completeness) (1)
Communication skills: proper identification of risks (1)
Available 19
Maximum 12
We are given actual and budgeted figures. As the actual figures are available and
the budget is a projection, we will use actual figures. (1)
ISA 320.A4 states that profit before tax is often used for entities which are profit
orientated, and Bauba is profit orientated. (1)
There is also nothing in the scenario indicating that profit before tax is not a stable
base to use in the calculation of materiality. (1)
Bauba is dependent on the sales it makes. Therefore revenue and gross profit are
also considered appropriate benchmarks. (1)
Bauba is a manufacturer of pottery figurines and ornaments and has a total asset
base of R140 million. Bauba is a capital intensive entity and total assets may be
considered an appropriate benchmark as well. (1)
C. Perform calculations
HJB
100
AUE4861/102
ZAU4861/102
NAU4861/102
Total assets seem to be an outlier and will be excluded from the determination of
materiality. (1)
Since Bauba is a new audit client of K&A the inherent risk might be considered high
and therefore a lower materiality should be chosen. (1)
D. Conclusion
Therefore the planning materiality for the audit of Bauba for the year ended
31 March 2013 will be set at R240 000. (Note to markers: a student can earn a mark
for planning materiality amount of between R210 000 and R400 000) (1)
Maximum 10
MARKERS’ COMMENTS
Part (a) This section dealt with the effect that N&P’s acquisition of the interest in
Bauba will have on the audit planning
It was evident that most students did not study the auditing standards dealing with
planning an audit. Those who studied the standards failed to apply their theoretical
knowledge to the given scenario.
Most of the students confused audit planning with audit approach. They extensively
discussed audit approach (nature, timing and extent) of audit procedures in this part
and lost easy marks.
This part of the question was poorly answered by majority of the students.
Part (b). This section dealt with Risks of Material Misstatement (ROMM) at overall
financial statements and assertion levels as well as overall responses.
A presentation mark was awarded for proper identification of risks at the assertion
level.
Most of the students did not understand the difference between ROMM at overall
financial statement level and at assertion level, although this area has been
adequately covered at undergraduate studies. It is clear that most of the students did
not study ISA 315.
Most of the students are still unable to describe the ROMM and list the risk indicators
of ROMM. Some of the students mentioned that Bauba is new client (risk indicator)
but failed to describe that AFS may be materially misstated because of possible
misstatement of the opening balances.
HJB
101
AUE4861/102
ZAU4861/102
NAU4861/102
Some of the students are still unable to differentiate between Audit Risk (AR) and
ROMM. AR includes Inherent Risk (IR), Control Risk (CR) and Detection Risk (DR)
and ROMM refers to only IR and CR. Some of the students mentioned that Bauba is
new client and we may not be familiar with the operations and therefore we may not
be able to detect material misstatements. This is a DR and not ROMM which was
asked.
The majority of students did not identify risk relating to a contingent consideration
based on net profit as a risk at overall financial statement level.
Some of the students wrongly treated the risk relating to valuation of the non-
controlling interest by the consultant as financial statement level risk rather than as
assertion level risk (goodwill).
The risks at assertion level relating to goodwill were poorly handled by the majority
of students. It is clear that students are unable to apply their theoretical knowledge
of IFRS 3 to the given auditing scenario. Most of the students stated how the
goodwill is calculated. It will never earn you a mark to say goodwill may not be
properly valued without stating why.
ROMM relating to revenue was fairly handled by the students, but most of the
students failed to identify risk relating to misstatement of revenue because of the
contingent element of the consideration for the acquisition of the interest.
With regard to ROMM relating to inventory, very few students identified that Bauba’s
production manager valued work in progress and properly described the risk relating
to overstatement of inventory.
It is concerning to note that majority of the students don’t understand how to treat
inventory in transit when shipped FOB terms from an accounting point view. Most of
the students were confused whether inventory in transit should be included or
excluded at year end.
It is concerning to note the majority of students lack basic principles of cost and
management accounting. Most of the students failed to mention obvious risk relating
to inappropriate allocation of overheads as required by IAS 2. This area is
adequately covered in management accounting.
Very few students lost an easy mark, by failing to mention that inventory may not be
valued at lower of cost or net realisable value.
Risks relating to government grant were poorly handled by the majority of students.
Students failed to describe the risks but rather stated the accounting requirements of
the government grant as required by IAS 20. Risk relating to deferred tax was not
mentioned at all by the students.
The section dealing with overall responses to ROMM at overall financial statement
level was well handled by most of the students. Students, who did not do well here,
did not study ISA 330 Par 1. This was a direct theory from the standard.
HJB
102
AUE4861/102
ZAU4861/102
NAU4861/102
Overall, this section was poorly handled by the students, although a lot of marks
were available.
Part (b). This section dealt with discussion and calculation of planning materiality
Overall, this section was well handled by the majority of students. The calculations
was well handled, but a few students adjusted the figures for a full year, although the
question clearly stated that revenue is earned evenly throughout the year.
It has been noted with concern that students are still unable to discuss or motivate
their chosen benchmarks. Very few students noted that Bauba is also a capital
intensive company (having total assets of R140 million and manufacturing
operations) and total assets could also be used as a chosen benchmark
Allgemein
Students should make sure with what assertions they are dealing with in terms of
ISA315 par A124 in order to properly describe relevant risks.
Some students did not properly describe ROMM. It is essential to properly learn how
to describe risks in order to deserve marks. You should always remember what may
go wrong with AFS and account balances when you describe the ROMM.
Study the ISAs indicated in this tutorial letter. It is crucial to make use of your ISAs
and be able to apply them.
Read the required properly. Students should make time to properly read and
understand the requirement, as a misunderstanding could cost you a lot of marks.
QUESTION 2
(a) Automated application controls that Maroteng Construction Ltd will have to implement
over the creditors masterfile
Restrict write access to a specific member of the creditors section by the user ID and
passwords (1)
The sequenced of the logs themselves should be checked for any missing logs (1)
Available 12
Maximum 9
(b) (i) Identify the risk of material misstatement in the 2014 financial statements of
Maroteng at the overall financial statement level
HJB
104
AUE4861/102
ZAU4861/102
NAU4861/102
Inventory
Reliance on engineer
The AFS may be materially misstated as the newly appointed architect might not be
objective, competent and properly qualified in performing the work required for audit
evidence. The architect may overstate the valuation of properties to impress the
management (Valuation and allocation). (1)
There is a risk that all costs (purchase price, insurance and transport costs) incurred in
purchasing construction materials may not be included in the cost price as required by
IAS 2 Inventories (Completeness and valuation & allocation). (1)
There is a risk that construction materials purchased and in transit (on train) may not be
included in the balance of inventory at year end (completeness and rights & obligations).
(1)
There is a risk that construction work in progress may not include the appropriate
allocation of labour and manufacturing overhead as required by IAS 2 Inventories
(Valuation and allocation and completeness). (1)
There is a risk that construction work in progress may be overstated because the stage of
completion is determined by the newly appointed employee (engineer) of Maroteng.
(Existence and Valuation and allocation). (1)
The likely subjectivity of the estimation process, the risk of material misstatement exists
(Valuation and allocation). (1)
There is a risk that finished inventory of properties may not be valued at a lower of cost or
net realisable value (Valuation and allocation). (1)
HJB
106
AUE4861/102
ZAU4861/102
NAU4861/102
Consumable supplies
There is a risk that consumables are incorrectly classified as inventory (Classification). (1)
There is a risk that the head office building may not belong to Maroteng Ltd. (Rights and
obligations) (1)
There is a risk that Peter Ramabu, property valuer may not be competent, experienced
and objective to perform a valuation of the head office building. The revalued amount
may be likely overstated. (Valuation and allocation). (1)
There is a risk that a revaluation surplus may not be correctly calculated according to the
requirements of IAS 16 (Property, Plant and Equipment) (Valuation and allocation and
accuracy). (1)
There is a risk that revaluation surplus may not be recognised as part of other
comprehensive income in the statement of profit or loss and other comprehensive
income (Completeness). (1)
There is a risk that deferred tax on revaluation surplus may not be recognised in other
comprehensive income or not recognised at all. (Completeness). (1)
There is a risk that the head office building may not be identified as an impaired asset
and not tested for impartment at all. (Valuation and allocation). (1)
There is a risk that impairment loss may be incorrectly calculated (Valuation and
allocation). (1)
There is a risk that calculated impairment loss may not be recognised as a deduction
against a revaluation surplus in terms of the requirements IAS 16 (Valuation and
allocation). (1)
There is a risk that deferred tax asset on impairment loss may not be recognised in terms
of the requirements of IAS 12 Income Taxes (Valuation and allocation). (1)
There is a risk that depreciation expenses may not be adjusted for the effect of
revaluation and may be misstated (Valuation and allocation). (1)
Communication skills: Splitting inventory and head office building (1)
Available 20
Maximum 12
HJB
107
AUE4861/102
ZAU4861/102
NAU4861/102
MARKERS’ COMMENTS
(a) Describe the automated application controls that Maroteng Construction Ltd
will have to implement over the creditors masterfile.
This part of the question was poorly answered by majority of the students.
It evident that students don’t understand what a masterfile is.
Most of the students mentioned manual controls when answering this part of the
question, while automated controls were asked.
It is recommended that students study computer controls seriously, including
masterfile controls.
(d) (i) Describe the risks of material misstatement at the overall financial
statement level of Maroteng Construction Ltd for the year ended 28
February 2014.
(ii) For each of the risks identified above (b)(i), describe the most appropriate
audit response to eliminate or reduce the risks to an acceptable level.
Present your answer in a tabular format as follows:
A presentation mark was awarded for linking risks and responses
Most of the students did not understand the difference between ROMM at
overall financial statement level and at assertion level, although this area
has been adequately covered at undergraduate studies. It is clear that most
of the students did not study ISA 315.
Most of the students we unable to describe the ROMM but listed risk
indicators of ROMM. Some of the students mentioned that Maroteng is new
client (risk indicator) but failed to describe that AFS may be materially
misstated because of possible misstatement of the opening balances.
Some of the students are still unable to differentiate between Audit Risk
(AR) and ROMM. AR includes Inherent Risk (IR), Control Risk (CR) and
Detection Risk (DR) and ROMM refers to only IR and CR. Some of the
students mentioned that Maroteng is new client and we may not be familiar
with the operations and therefore we may not be able to detect material
misstatements. This is a DR and not ROMM which was asked.
It is concerning to note that majority of the students don’t understand how to
treat inventory in transit when shipped FOB terms from an accounting point
view. Most of the students were confused whether inventory in transit
should be included or excluded at year end.
It is concerning to note that majority of the students still lack the basic
principles of cost and management accounting. Most of the students failed
to mention obvious risk relating to inappropriate allocation of overheads as
required by IAS 2. This area is adequately covered in management
accounting.
Very few students lost an easy mark, by failing to mention that inventory
may not be valued at lower of cost or net realisable value.
It is concerning to have noted that most of the students were able to
describe the risks but were not in a position to provide an appropriate
responses to address those risks. In practice, it unacceptable to identify the
risks and leave those identified risks unresponded.
The responses to the risk were not well handled by most of the students.
Students, who did not do well here, did not study ISA 330 Par 1. This was a
direct theory from the standard. Five (5) marks could have been earned by
rewriting overall responses directly from ISA 330 Par 1.
Overall, this section was fairly handled by the students.
HJB
108
AUE4861/102
ZAU4861/102
NAU4861/102
(c) Describe the risks of material misstatement for inventory and the head office
building, at the assertion level of Maroteng Construction Ltd for the year
ended 28 February 2014.
Overall, this section was poorly handled by the majority of students. It is of a
serious concern to have noted that most of the students are still unable to
differentiate between risks at the overall financial statement and assertion
levels. It is clear that most of the students did not study ISA 315.
Allgemein
QUESTION 3
(a) Audit risk at overall financial statement level of Electrocar for the year ended 31
December 2014
2. Electrocar is listed on the JSE and should therefore comply with stringent JSE
requirements. There is a risk of an oversight of JSE requirements. (1)
3. There is a risk of fraud that management might manipulate the financial statements in
order to increase the share price to attract more investors (JSE Listed). (1)
5. There is a risk of a weak internal control environment in general in the organisation due to
decentralised operations (expansion to neighbouring countries). (1)
6. Brown Incorporated is under time pressure to complete the audit within three weeks.
This deadline might be unrealistic and restrict Brown Incorporated in its ability to perform
the necessary audit field work, for example detect subsequent events. (1)
HJB
109
AUE4861/102
ZAU4861/102
NAU4861/102
7. There is a risk of error by management when they are under pressure to prepare the
financial statements to enable the auditors to meet the audit deadline (for example
subsequent events). (1)
8. The approval of finance by Electrocar’s bankers is subject to providing them with audited
financial statements. There might be a risk of management manipulating financial
statement figures to stand a better chance of obtaining finance. (1)
9. There is a legal risk for Brown Incorporated due to third party reliance on the financial
statements. (1)
10. Electrocar expanded operations to neighbouring African countries and there is increased
risks related to:
frisk of error due to additional statutory requirements (for example regarding
exports, customs and excise, meeting SADEC requirements for customers to
qualify for the tax rebate, etc.). (1)
11. The combination of strong competition in the market, poor economic conditions and/or a
possible risk of failure of the new production line could result in the company incurring
financial losses. These factors could pose a possible future going concern risk. (1)
12. The industry is plagued by labour strikes. The following factors could pose a possible
going concern risk:
Electrocar’s ability to meet production targets which could adversely affect business
relations with end user motor dealerships; (1)
a reputational risk for the Electrocar brand as temporary workers could manu-
facture and produce inferior quality motor vehicles to the market; and (1)
financial losses as settlements with unions could lead to Electrocar having to pay
permanent labourers for the strike period as well as temporary workers (as was the
case in the mining industry in 2014). (1)
Logical lay-out and argument (1)
Available 16
Maximum 10
Appointments
1. New employees are appointed by the plant foreman and not by Electrocar’s human
resources (HR) department. As such appointments are not authorised by senior
management and employees added to the wages payroll without authorisation. (1)
2. The plant foreman determines the wage rates of new employees. Wage rates are not
based on fixed company policy and are not authorised by senior management. (1)
Time keeping
3. Clock cards are kept by employees and not locked away under the supervision of a
security guard. (1)
4. No control exists over the clocking machines: there is no mention of a security guard or
foreman supervising the clocking-in process. (1)
5. The clocking machines are not located at a single entrance point at each plant. (1)
HJB
110
AUE4861/102
ZAU4861/102
NAU4861/102
6. Clock cards are not controlled: they are not checked for numerical sequence
completeness or duplications and there is no mention of cards being issued in
employees’ names (1)
7. Hours worked are not authorised in that the foreman does not check and authorises each
clock card. He simply hands them over to the wages clerk without checking for, for
example possible overtime hours. (1)
8. No reconciliations are performed between clock cards and an employee list kept by the
warehouse foreman before handing them to the wages clerk. (1)
9. The foreman’s hours worked and clock card is not reviewed for accuracy by his
supervisor or senior personnel for example Mrs Green. (1)
10. No security exists over clock cards and employee files kept in the foreman’s office. (1)
11. No segregation of duties exists between the preparation of the wages payroll and the
preparation of the wage packets by the wages clerks. (1)
12. The calculations on the wages payroll is not checked to confirm accuracy in terms of
hours recorded on clock cards, wage rates and adjusted wage rateson personnel
records, deductions according to wage tables. (1)
13. No reconciliations are performed between hours worked per clock cards and the wages
payroll to ensure the accuracy of the wages payroll. (1)
14. The wages payroll is not compared to previous months’ payrolls and supporting
documentation. (1)
15. The wages payroll is not authorised for pay-out by a senior manager. (1)
16. The wages cheque is signed by only one signatory (Mrs Green) and is not compared to
the wages payroll before it is signed. (1)
17. No physical security exists over the cash handed over to Miss Kruger and Mr Smith by
the security company (for example, the cash should be counted on receipt and the
prepared wage packets should be locked away in a safe until pay-out). (1)
Pay-out of wages
18. The foremen do not sign for the cash on receipt from Miss Kruger and Mr Smith. (1)
19. The foreman pays the wages to employees without them having to identify themselves
(large workforce of approximately 650 employees with two foremen). (1)
20. Wage earners do not count their cash in the pay-packets in the presence of the foreman
in order to confirm the correct amount received. (1)
21. Wage earners do not sign the wages payroll as proof of receipt of their wages packets.
This is a better control than signing weekly clock cards. (1)
22. No segregation of duties exist between the appointment of staff (a human resources
function) and the pay-out of wages. Both functions are performed by the warehouse
foreman. (1)
HJB
111
AUE4861/102
ZAU4861/102
NAU4861/102
Allgemein
23. No controls exist over unclaimed wages (Note: limited to any one valid weakness related
to unclaimed wages). (1)
24. No surprise visits are performed by management on clocking, wage payroll preparation or
wage pay-out activities. (1)
Available 25
Maximum 20
(c) General computer controls over the continuity of operations at Electrocar in the event of
an emergency disaster recovery controls:
2. The disaster recovery plan should be tested (ideally annually) to ensure that the plan
works as intended. (1)
3. The disaster recovery plan should set out the procedures and tasks which should be
carried out by each employee in the case of a disaster. (1)
6. The back-up server and on-site back-ups should be maintained in fireproof safes or off-
site at an undisclosed location. (1)
8. Back-ups of all significant accounting and operational data and programmes should be
carried out frequently and regularly. (1)
10. There should be three generations of back-ups maintained (grandfather, father, son). (1)
Communication skills (1)
Available 12
Maximum 10
QUESTION 4
(a) The effect of the assessment of audit risk as high, on the overall response
1. Engage more experienced staff, in particular staff with experience of listed company
audits. (1)
3. Providing more senior supervision, in particular management that will not be intimidated
(with reference to previous auditor’s resignation) (1)
HJB
112
AUE4861/102
ZAU4861/102
NAU4861/102
6. Lower the materiality level in order to lower the audit risk to an acceptable level. (1)
9. Perform more substantive procedures with more test of detail (less analytical procedures)
and less reliance on tests of control. (1)
10. Put less reliance on management’s representation given the fact that their integrity is
questionable (requesting the previous auditor to resign). (1)
11. Consider the use of an expert in areas where you don’t possess the required skills as
auditors, for example foreign exchange transactions and inventory valuation. (1)
(b) Risk of material misstatement at assertion level relating to revenue and receipts on the
sale of home batteries for Energy Solutions for the year ended 28 February 2016
1. There is a risk that management might recognise fictitious sales due to the JSE listing
(meeting listing requirements and attract shareholder investment) (Occurrence). (1)
2. There is a risk that revenue on home batteries ordered close to year end might be
recognised incorrectly in the current year if stock levels are insufficient at year end (stock
availability is not checked during ordering, nor is completeness of despatched goods)
(Cut-off and Occurrence). (1)
3. There is a risk that revenue on home batteries sold at a discount might be recognised
inclusive of the discount (Accuracy). (1)
4. There is a risk that revenue is recognised at incorrect prices should the home batteries
prices not be updated on the ordering pads with recent prices (Accuracy). (1)
5. There is a risk that revenue is not completely or accurately recognised as sales are
captured by the bookkeeper and not reviewed or reconciled by management
(completeness and accuracy). (1)
7. There is a risk that revenue might not be presented correctly in the notes to the financial
statements (for example separate from other alternative energy products) (Presentation
and disclosure). (1)
Logical lay-out and presentation (1)
Available 8
Maximum 5
HJB
113
AUE4861/102
ZAU4861/102
NAU4861/102
(c) Weaknesses in the revenue and receipts system of Energy Solutions February 2016
Sales orders
25. The sales representatives do not keep record of home battery orders taken and
customers are not given a copy of the order to verify the details of the order. (1)
26. Sales are made on credit at the sales representatives’ discretion and no credit worthiness
checks or management authorisation is required for credit terms arranged with
customers. (1)
27. No authorisation is given for the discounts granted by the sales representatives to
customers. (1)
28. Orders are accepted without consideration given to the availability of home batteries on
hand. (1)
29. No proper control exists over orders on order pads, i.e. without sequential numbers and
no weekly reconciliations for outstanding/duplicate orders, cancelled orders etc. (sales
representatives issue orders at free will which could be susceptible to fraud) (1)
Despatch
30. No picking slips are prepared from order notes to guide/control the store man in packing
home batteries for delivery. (Batteries may be unavailable for picking and delivering). (1)
31. The store’s manager doesn’t review picked goods by comparing the purchase order to a
picking slip and delivery note and then to actual home batteries picked and packed. (1)
32. Goods are delivered without it being checked at the gate by a security guard who
compares actual goods to delivery notes and signs off on the goods leaving the
premises. (1)
Invoicing
33. Controls over the completeness of invoices are poor as they are not pre-numbered and
no independent checks are done on the sequence of invoices (for missing or duplicated
invoices). (1)
Recording of sales
35. A debtor’s age analysis is prepared, but not reviewed by a manager. (1)
36. The reconciliation of the debtors control account to the debtor’s ledger is not reviewed by
a manager and exceptions not followed up. (1)
Receipts
37. Mail opening procedures are insufficient. The bookkeeper opens the mail alone. (1)
38. The bookkeeper receives cash and also banks the cash herself. These are incompatible
functions; no segregation of duties exists between these functions. (1)
HJB
114
AUE4861/102
ZAU4861/102
NAU4861/102
Sales returns
40. Credit notes are issued without proper authority from management and without reference
to supporting documents. (1)
41. The bookkeeper issues credit notes and captures them on the system. These are
incompatible functions, segregation of duties are lacking. (1)
Allgemein
43. Overall employees are not held accountable for functions performed by them, i.e.
employees are not required to sign off on duties performed (isolation of responsibility). (1)
44. Any one other valid weakness in the system of internal control over revenue. (1)
Logical lay-out and presentation (1)
Available 21
Maximum 15
1. Write access to the sales price masterfile should be restricted to the sales manager by a
user ID and password. (or any other one valid access control measure) (1)
Screen aids:
5. Screen formatting, screen looks like the masterfile amendment form (MAF), screen
dialogue. (1)
6. The new price should be automatically calculated by the system once the increase
percentage is entered for a product range. (1)
Programme checks:
8. Alpha numeric checks should be performed, for example the system rejects an alpha
numeric item code (number item codes) or percentage increase. (1)
HJB
115
AUE4861/102
ZAU4861/102
NAU4861/102
9. Range and /or limit/data approval checks on increase percentage field. (1)
10. Field size check and mandatory/ missing data checks should be carried out, for example
the product code, pre-increase price and cost price must be entered. (1)
11. Sequence checks should be performed on MAFs entered to detect duplicate or missing
MAFs (1)
12. Dependency checks should be done on MAFs entered, for example price increase
ranges for specific product ranges. (1)
13. Masterfile amendments should be reviewed to ensure they occurred, were authorised
and were accurately and completely processed. (1)
Available 13
Maximum 10
QUESTION 5
Revenue is recognised when the payment is made instead of on the flight date, when the
risks and rewards will pass to the customer. (1)
For cancelled flights, revenue should be recognised on the date of cancellation for the
20% penalty. (1)
Available 2
Maximum 2
There must be sufficient customer instructions or a help function available on the web-
page to enable customers to make a booking without any difficulty. (1)
There must be drop-down menus for the following fields to limit data entry errors / limited
keying of information (1)
o Airports
o One-way / return
o Dates (providing a calendar)
o Times Max (1)
Upon accepting the quotation the screen must prompt the customer to enter the following
information: first name, last name, ID number, passport number, cell phone number, e-
mail address and method of payment. (2)
Prices must be automatically retrieved from the price masterfile and displayed on the
screen with no customer access to the price field i.e. verification check. (2)
Seats on the flights should be reserved when booking is in the process to prevent
simultaneous booking for the same seats. (1)
A summary of the flight details and selections made as well as the full pricing calculation,
including discounts and airports taxes should be displayed on the screen as a final
quotation so that the customer can check it for correctness. (2)
All bookings should be allocated a sequence number to identify missing bookings. (1)
A customer should be required to complete a tick box to agree to any terms and
conditions. (1)
A customer should be required to click on a submit button in order to confirm the deal. (1)
If the ticket is not paid within 48 hours, the system should automatically cancel the
booking made and notify the passenger by email. (1)
Communication skills: systematic flow of answer (2)
Available 31
Maximum 21
QUESTION 6
Weaknesses Recommendations
The Word document is not The subscriber MAF should preferably be pre-printed
saved after it has been com- with space for the necessary detail. (1)
pleted/MAF is not pre-printed. (1)
(See par 8 and 10 on working paper The unused pre-printed subscriber MAFs should be kept
100-2) locked away OR Access to the unused pre-printed sub-
scriber MAFs should be limited. (1)
Weaknesses Recommendations
The subscriber MAFs are not se- Subscriber MAFs should be sequentially numbered
quentially numbered/prenum- (preferably pre-printed on the hardcopy to avoid duplicate
bered/incorrect design of MAF. MAFs for validity purposes). (1)
(1)
(See par 8 on working paper 100-2) Provision should be made on the MAF for the signatures
of the preparer and the authoriser. (1)
The Word document is not The Word document should only allow access when a
password protected. (1) unique password is entered OR should be password
(See par 8 on working paper 100-2) protected. (1)
The e-mail from the subscriber The e-mail from the subscriber should be printed out and
requesting the change is deleted attached to the subscriber MAF. (1)
by Peter. (1)
(See par 10 on working paper 100- The e-mail should be retained as part of the audit trail
2) and should not be deleted. (1)
Subscriber MAFs are not The subscriber MAF should be authorised/signed by
authorised/reviewed. (1) another employee. (1)
(See par 10 on working paper 100-
2) The MAF should only be authorised by the reviewer after
the MAF details have been agreed to the supporting e-
mail from the subscriber. (1)
Peter then logs onto the sub- Unique username and password for each user. (1)
scriber master file with a generic
username and password. (1) Access to the subscriber master file should be restricted
(See par 11 on working paper 100- through e.g. user profiles/least privilege/access tables.
2) (1)
HJB
118
AUE4861/102
ZAU4861/102
NAU4861/102
Weaknesses Recommendations
There is an insufficient audit trail The details of all master file amendments should be
of master file changes. (1) automatically logged by the computer on sequenced
(See par 10 on working paper 100- logs. (1)
2)
The username and the nature of the activity performed by
each user should also be automatically recorded in
activity logs. (1)
Refer to page 8/39 to 8/40 of Auditing Notes for detailed Master file amendment controls.
MARKERS’ COMMENTS
Students were requested, based on the information in a certain working paper, to identify
the weaknesses in the controls for the occurrence and authorisation (validity) of changes to
personal details in the subscriber master file as from 21 July 2012. For each weakness
identified, possible recommendations were required.
Presentation marks (2) were awarded for presenting the answer in a tabular format. Most
students received these presentation marks.
Most students obtained the maximum of 5 marks for identifying the weaknesses in the
scenario. There were 9 possible marks available for the weaknesses that were considered
to be easier marks.
Some students wasted time by raising concerns on changes made to subscriber master
file detail PRIOR to 21 July 2012. This was not required and received no marks.
Students wasted time by wording their weaknesses as risks. These risks did not receive
any marks as only weaknesses were required. Students also wasted time by repeating the
same recommendations over and over.
HJB