Examiners' Commentaries 2015: AC3093 Auditing and Assurance Important Note

Examiners commentaries 2015

AC3093 Auditing and assurance
Important note
This commentary reflects the examination and assessment arrangements
for this course in the academic year 201415. The format and structure
of the examination may change in future years, and any such changes
will be publicised on the virtual learning environment (VLE).
Information about the subject guide and the Essential reading

references
Unless otherwise stated, all cross-references will be to the latest version
of the subject guide (2014). You should always attempt to use the most
recent edition of any Essential reading textbook, even if the commentary
and/or online reading list and/or subject guide refers to an earlier
edition. If different editions of Essential reading are listed, please check
the VLE for reading supplements if none are available, please use the
contents list and index of the new edition to find the relevant section.
General remarks
Learning outcomes
At the end of the course, and having completed the Essential reading and
activities, candidates should be able to:
explain why external audits and other types of assurance services are
conducted
discuss the duties of auditors and other assurance providers and how
these have changed over time
explain the meaning of concepts that are fundamental to auditing
and assurance services, such as independence, audit evidence, risk,
materiality
describe, in general terms, the processes involved in auditing and
other assurance services
distinguish between compliance and substantive testing and describe
various audit tests
discuss the form, content and importance of the auditors reports
provided at the end of the audit or assurance service
discuss the issues of legal liability arising from audits and other
assurance services
discuss current developments in auditing and assurance services.
What are the examiners looking for?

Once again, this years examination was sat by a large number of
candidates, many of whom showed a good working knowledge of
many aspects of auditing and assurance services. A significant number
appeared to have taken particular note of the Examiners commentaries
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from previous years and took pains to heed the advice in those reports.
For example, the vast majority of scripts were well presented and neatly
written. Nevertheless there are some candidates who seem not to bother to
divide their answers into paragraphs of separate points. Scripts written as
a large single block of text look unprofessional and disorganised and more
importantly are very difficult to mark. Candidates must bear in mind that
examiners are looking for particular points. If these are hard to spot then
there is a risk that you will lose the chance to gain credit. In addition of
course you should remember that this is an academic examination about
a professional service. Effective communication is a vital skill that both
examiners and employers prize.
Presentation may seem to candidates to be a small point of detail but it
does make a very significant difference to the marking process. If you can
lay out your answers in a neat and methodical fashion, you stand more
chance of making a good impression on the examiners and therefore
of securing a good mark. This is not to say that good presentation is a
substitute for content. A good answer must contain the relevant technical
points but in addition should be easy to read and coherently argued.
Presentation involves breaking answers into paragraphs a separate
paragraph for each point and starting a new question on a new page.
Some candidates feel duty-bound to include an introduction but where
this simply repeats or paraphrases the question itself, it is a waste of time.
For some unknown reason, more candidates this year chose to ignore this
advice. Introductions should be short and should do no more than set the
scene on which you immediately build the technical content of the answer.
Similarly with conclusions: if you feel you must end with a conclusion,
make sure that it adds something to your argument. Simply repeating
what you have previously said cannot gain you additional marks.
Once again, there are several general style points worth mentioning. A
number of candidates felt the need to include diagrams in answers to
essay questions. Such representations are designed to help communicate
complex ideas to candidates approaching the problem for the first time.
You may assume that the examiners marking your papers are already
experts in the field your diagram will not help them assess whether you
really understand the problem. So avoid reproducing diagrams.
Similarly, simply reproducing the audit risk model as a formula, complete
with mathematical proof, will not add anything to your answer. If the
question asks for factors that impact on the auditors assessment of
inherent risk then look at the case study and consider which aspects of
the company, its industry or its products might be more likely to lead
to misstatements. If the question refers to control risk, then think about
possible weaknesses in control procedures that might allow the financial
statements to be misstated.
The examiners always encourage candidates to think of ways of answering
questions more efficiently and one way of dealing with certain (but not
all) Section A case study questions is to adopt a columnar approach with
answers to parts (a) and (b) being presented side by side. Certainly this
is preferable to the (a), (b), (a), (b), (a), (b) etc. approach which a few
candidates adopt this latter is very difficult and time consuming to mark.
Once again, some candidates chose to ignore this advice. But the columnar
approach is to be used only in certain cases (i.e. where part (b) relates
directly to part (a)). An example might be where part (a) of the question
asks you to identify weaknesses and part (b) asks you to suggest possible
consequences of these weaknesses or remedies to improve the control
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system. The problem is that some candidates do not take the time to think
whether the columnar approach is appropriate but use it mechanistically
in every case this clearly helps neither the candidate nor the examiner.
One common failing of a number of candidates was an apparent inability
to attempt part (b) of one or more of the case studies they had selected.
Given that the marks available for part (a) are limited to 15, failure
to write anything at all for the related part (b) seriously limits the
candidates chances of getting more than a 2:2 classification at best. The
lesson to draw from this is that you need to be careful in choosing the
case study (Section A) questions. Make sure that you can answer or at
least attempt both parts and, having made your selection, make sure you
write something in answer to both parts. The two parts of the case study
questions are related either directly or indirectly so it should be very
unlikely that candidates will be able to answer only one part. On the plus
side, fewer candidates this year than in the past were guilty of this.
In Section B the typical problem from past years recurred with the main
reason for low marks being that the candidate either wrote too little
or failed to focus on answering the question that was set. Too many
candidates still believe that a good answer consists of writing three or four
sides of material based on what has been memorised from lecture notes,
textbooks or the subject guide. What these candidates fail to realise is that
the examiners want to see both knowledge of the technical subject and the
ability to address the particular question set.
A final few points on general writing style: since time is limited you
should not waste precious seconds with unnecessary words (e.g. last but
not least remains a common start to a final paragraph and sometimes
is used more than once in the final few paragraphs, suggesting that the
candidate was not clear as to which was the last point). You need to
be precise wherever possible, therefore, if asked to recommend audit
procedures, you should say the auditor should attend the inventory
count rather than the auditor might want to think about attending ....
Wherever possible try to use technical terms, for example it is much
better to say segregation of duties than dividing up the work. The word
ensure was often used inappropriately for example, the auditors must
ensure that every item of stock is counted a moments thought should
remind you that the auditors are not responsible for counting stock and
use a sample basis for their tests on the stock figure, so the auditor cannot
ensure that every item is counted. Auditors should ensure that they have
assessed the risks and reviewed the procedures and systems put in place
to deal with those risks but they cannot ensure that other people have
carried out their duties properly. Lastly, to rectify a common and annual
misconception: a walk-through test is not a test of controls designed
to provide compliance evidence; a walk-through test is performed on
a sample of one. A transaction is followed through the system from
start to finish so that the auditors can reassure themselves that they
understand the system (see B. Porter, J. Simon and D. Hatherly Principles
of external auditing. (Chichester: John Wiley & Sons, 2014) third edition
[ISBN9781853963650], p.406).
Writing quality
Generally the quality of the writing including spelling and grammar was
quite high. However, there are some words that were so often misused
that it is worth pointing out for future reference. Many candidates talked
of the auditor unqualifying the auditors report if there was nothing to
which attention should be drawn auditors do not unqualify their reports,
3
rather they issue unqualified audit reports. On the other hand, examiners
were told that auditors qualify the audit opinion on the grounds of expect
for limitation of the scope of the audit the correct term is except for.
Equally often examiners read of the auditor having the right to assess the
companys books and records whereas the correct term is access.
Too many colloquial expressions appeared in many essays. For example,
last but not least was often used to conclude a list of points. This
expression adds nothing, takes more time to write than just last and looks
unprofessional. Similarly using next to start every paragraph becomes
tedious and looks unimaginative. The expression the auditor might want
to consider (e.g. circulating suppliers), seemed to make an appearance
this year. This is far too woolly an expression; if the candidate thought that
auditors should or could circulate suppliers, then one of those words
should have been used. Might want to consider is just too tame.
Examination revision strategy

Many candidates are disappointed to find that their examination
performance is poorer than they expected. This may be due to a
number of reasons. The Examiners commentaries suggest ways of
addressing common problems and improving your performance. One
particular failing is question spotting, that is, confining your
examination preparation to a few questions and/or topics which
have come up in past papers for the course. This can have serious
consequences.
We recognise that candidates may not cover all topics in the syllabus
in the same depth, but you need to be aware that examiners are free
to set questions on any aspect of the syllabus. This means that you
need to study enough of the syllabus to enable you to answer the
required number of examination questions.
The syllabus can be found in the Course information sheet in the
section of the VLE dedicated to each course. You should read the
syllabus carefully and ensure that you cover sufficient material in
preparation for the examination. Examiners will vary the topics and
questions from year to year and may well set questions that have not
appeared in past papers. Examination papers may legitimately include
questions on any topic in the syllabus. So, although past papers can be
helpful during your revision, you cannot assume that topics or specific
questions that have come up in past examinations will occur again.
If you rely on a question-spotting strategy, it is likely
you will find yourself in difficulties when you sit the
examination. We strongly advise you not to adopt this
strategy.

AC3093 Auditing and assurance Zone A
Important note

references
Comments on specific questions

Section A
Answer at least two questions, and no more than three questions from
this section. A total of four questions should be answered with at least one
from Section B.
Question 1
Elementary plc is a UK-listed company providing training courses in everything
from accountancy to plumbing in many countries. The company currently has five
subsidiaries based in France, Spain, Germany, Ireland and Australia. Elementary
plcs year end is 31st March.
Major changes in the year to 31st March 2015 are:
The companys finance director of six years resigned and was replaced
through the promotion of the companys financial controller who had worked
with the FD for several years. The reasons behind the FDs departure were
said to be personal but the financial media were never satisfied by this
explanation and the companys share price has suffered as a result of the
uncertainty over the situation.
The company has expanded its customer base into Australia for the first time
this year. Despite some teething problems the move appears to have been a
success although the audit team found it difficult to obtain documentation
from the Australian subsidiary company.
The company plans to expand into China and India. These plans will require a
combination of rights issues to existing shareholders and bank loans.
During a meeting held between the auditors, the audit committee and the
managing director just before the year end the auditors were informed that
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the Board were very keen to work closely with the audit committee and the
auditors to ensure a successful audit outcome this year.
The auditors must carry out an audit for the Elementary plc group although
the subsidiary companies are all audited separately by local auditors.
Required:
a. When planning the audit of the Elementary plc group what are the audit risks
that the auditor should consider and what audit work should be carried out
in response to these risks?
(15 marks)
b. To what extent can one auditor rely on the work of another and what are the
key factors to consider?
(10 marks)
Reading for this question
Subject guide, Chapter 7
B. Porter, J. Simon and D. Hatherly Principles of exernal auditing. (Chichester:
John Wiley & Sons, 2014) 4th edition [ISBN9780470974452] Chapter 8
I. Gray and S. Manson The audit process: principles, practice and cases. (London:
Thomson, 2008) 5th edition [ISBN 9781844806782] Chapter 5
Approaching the question

The purpose of this question was to test candidates ability to identify
relevant audit risks from the scenario and then to suggest suitable actions
to be taken by the auditor in response to the risks identified. This is an
important part of the audit planning process and the development of the
audit plan.
Despite warnings in past years commentaries that marks were unlikely to
be awarded for simply repeating the audit risk model as a simple formula
or for providing an elaborate description of the various components of
audit risk, many candidates wasted valuable time doing precisely one or
other of these things, and in a few cases, both in answer to part a.
The scenario presented several factors which could present risks to the
auditors and many of these were accurately identified by candidates. The
requirement to suggest how the auditors should respond to these risks
proved to be more challenging.
Risk factors present in the scenario included:
The fact the company is UK-listed. This inevitably means there are
more regulations to be aware of and increases the risks in terms of
auditor liability due to the level of public scrutiny being greater than if
the company were privately owned. Auditors will need to ensure they
have the expertise within their teams for dealing with listed companies
and that they minimise their exposure to auditor liability risk.
The fact that the company operates in several countries. Risks
associated with this fact include the complications around foreign
currency translation, management control and the different
regulations to consider in the different jurisdictions. The auditors will
need to ensure that the company has the resources available and the
expertise to deal with all these issues.
The resignation of the CFO/FD. This is concerning due to the
uncertainty surrounding the reasons behind his resignation which
raises questions over suspicions of fraud either on the part of the CFO
or within the company that were exposed by the CFO. In response
to this risk the auditor must ask questions of management and try to
establish the facts behind his resignation. When investigating what the
CFO is now doing post resignation (stress is unlikely to be a reason,
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for example, if he has moved on to another high-powered position)

it would not be appropriate for the auditors to contact the CFO and
question him.
Plans to enter new markets. In addition to the risks already mentioned
in terms of operating in several different companies this plan exposes
the company to further risks in terms of whether the new plans will be
successful or not and what contingency planning has been put in place
if the ventures do not pay off. Auditors will need to discuss the plans
with management and review them for the above points.
There is a hint that pressure may have been applied by the audit
committee on the auditors to produce a favourable audit report. While
auditors aim to have good relations with the committee, they must
always maintain their independence. If the audit committee appears to
be pushing the auditors away from particular issues, perhaps those are
the areas where more work needs to be done. The fact that the audit
committee appears to be pressuring the auditors is a concern. Perhaps
the auditors need to look more closely at the independence of the
committee itself.
The involvement of other auditors in the overseas companies may be
necessary but it adds an extra element of uncertainty and exposure to
the group auditors who remain responsible for the whole audit despite
not being directly involved in the subsidiary audits. Can we be sure
that the other audiots are competent and independent? To answer that
question the UK auditors would have to assess the stringency of the
audit regulations, standards and approaches in those other countries
and make some assessment of the qualities of the particular auditors
concerned. This can be done through background searches on the
auditors, questionnaires and/or meeting the other auditors.
Please note that there are many possible responses to the various issues
and the marking scheme allowed for credit to be given where reasonable
suggestions were made. However, the examiners were looking for more
than simple, general statements along the lines of the auditors need to
do more work here or the auditors will have to carry out compliance and
substantive tests. In the absence of some specific ideas, it was not possible
to determine whether the candidate possessed a proper understanding of
the nature of auditing.
Part b was a fairly straightforward question that seemed to baffle too
many candidates. The best candidates showed that they were familiar
with ISA 600 being well able to suggest a number of factors that will
influence whether one auditor may rely on another auditor. For example,
the qualifications and perceived independence of that other auditor, the
rules and regulations in place in that jurisdiction, the known skill level
were there problems with that other auditors work in the past? How
material are the companies audited by other auditors if insignificant
perhaps it matters less whether the rules/regulations/competencies are
not as stringent as in other countries. Is it possible to review the detail
of the work programme and the detail of the work done? Are the other
auditors reluctant to grant access to their working papers or are they slow
in responding to requests for information?
In the end however each auditor is responsible for his or her own work.
The primary auditor cannot hide behind the fact that he or she did not
personally undertake each test or examine each piece of evidence.
Question 2
Heroes Ltd, a small manufacturing company based on the south coast of
England, appears to be a successful enterprise with turnover that has been
increasing annually by about 10% and had reached 55m by the year end March
31, 2014. Non-current assets also had increased by about the same annual
percentage, reaching 25m by that year end. Net profit for the year ended March
31, 2014 were 11m.
Heroes had been audited by a small firm for a number of years until the directors
(who are also the major shareholders) decided that they needed a change. They
plan to sell the company in the next two or three years and consider that a
larger audit firm would enable the sale to go through more smoothly and at a
higher price. With this in mind they approached Bishop & Co. with the invitation
to become the auditors.
The senior partner of Bishop & Co. performed some basic background checks
on the company. Heroes had received an unmodified auditors report in each
of the preceding five years. Having obtained professional clearance, Bishop &
Co. accepted the appointment and became the auditors of Heroes Ltd in August
2014.
In October 2014, Bishop & Co. performed a short interim audit designed to get
an understanding of the accounting systems for sales, purchases and wages. The
accounting staff of Heroes were reported to be helpful but a little disorganised
and under a lot of pressure. They were not always able to produce accounting
records when asked to do so by the audit team. The audit team learned that the
majority of the expenditure on non-current assets in recent years had gone into
a remote warehouse located in the North of England where the majority of the
inventory was kept. No mention of this location had been made in the initial
discussions between audit partner and Heroes directors.
During the final audit which started in March 2015, Bishops auditors were
refused permission to visit the warehouse and found that no one was prepared
to tell them exactly where it was. In addition, they noted that the opening
balances for non-current assets included expenditure on an advertising
campaign that ran in 2013-14. They also noted that a number of inventory items
were valued at selling price which was above cost. In addition, the accounting
information requested at the interim audit had still not been located. In early
April 2015, Heroes bank had responded to the auditors letter confirming the
bank balance on the main account but also revealing a loan account with an
outstanding balance of 1m. The draft balance sheet had made no mention of
this and the directors explained to the auditors that it must be a mistake by the
bank.
Required:
a. What issues should be of concern to Bishop & Co and what action should
Bishop & Co take in relation to each issues?
(15 marks)
b. Why is professional clearance important and what does it entail? (10 marks)
Subject guide, Chapter 4, pp.3940 and Chapter 7
Porter, Simon and Hatherly (2014) Chapter 5 pp.183185 and Chapter 8
Gray and Manson (2008) Chapter 5 and Chapter 4 especially pp.15661

This question required consideration of issues following acceptance of an
audit and required the candidate to consider action to be taken by the
auditors in response to these issues. As in similar questions, in part a the
issues are evident from the scenario and simply needed to be identified by
8
candidates and the more challenging aspect of the question was to suggest
how the auditors should act in response to the issues. A tabular format
would have worked well for this question and candidates needed to bear
in mind the 15 marks available and ensure they included enough issues in
their answer.
The issues from the scenario include:
The previous auditors were a small firm and had issued unqualified
audit reports for the past five years. It is possible in hindsight that they
were out of their depth with this audit and had not caught everything
and/or that their independence was compromised and they were being
intimidated by the directors of Heroes Ltd. Having already obtained
professional clearance it is not possible to go back and question the
previous auditors but Bishop and Co should carry out further checks
on the integrity of management and increase the audit risk for the
forthcoming audit ensuring they have the necessary experience in
their audit team. They should also consider a second file review or
an independent file review on the final audit to protect themselves
further.
Above average increase in sales and fixed assets are these figures
accurate and genuine? Given the plans to sell the company in the
future there is an increased risk that the results may be misstated
deliberately in order to attract potential buyers but there is also a risk
that the results are simply inaccurate due to the evidence of a lack
of organisation in the companys record keeping. Auditors should
discuss the results with management, raising their concerns (without
suggesting fraudulent behaviour) and comparing the result to industry
averages. The risks should be reflected in the audit planning for
the final audit and the auditors should consider a more substantive
approach to the audit given the concerns over the accounting records.
The overall impression of the company during the interim audit is
of concern the lack of organisation in record keeping, failure to
locate records requested and staff under pressure. All these factors
increase the risk of material misstatement in the financial statements
due to errors, it could also suggest the staff are being intimidated
by management in order to cover up deliberate misstatement in the
financial statements and hide evidence from the auditors. Auditors
should consider all these risks in their audit planning and discuss their
concerns over record keeping with management emphasising their
responsibilities are management in relation to accounting records and
the auditors reporting responsibilities should the accounting records
not be in compliance with Companies Act 2006.
Other issues of concern include the remote warehouse especially as it
was not revealed to the auditors why was this and what is the client
trying to hide? The advertising campaign included in non-current
assets is this still of value? Inventory is wrongly valued why is
this and does it have a material affect on the financial statements?
The undisclosed loan is a further concern as its effect on the financial
statements needs to be considered. With all these issues the auditors
needs to discuss them with management, consider their responses in
light of other issues raised above and consider how these issues will
affect the overall audit risk and the auditors final audit plan.
Ultimately, and some candidates did suggest this, Bishop and Co need
to consider in light of all these issues whether they wish to continue as
auditors of Heroes Ltd.
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Part b surprisingly was problematic for many candidates who did not
appear to understand the process of professional clearance. Professional
clearance is the term given to the process of a potential new auditor
contacting existing auditors before accepting a new audit. Not only is this
considered good etiquette and professional courtesy it is also a means
of obtaining information not revealed to the potential auditors by the
potential client. In order to obtain the 10 marks available candidates
were required to explain the process of professional clearance and the
role the existing auditors play in alerting a potential auditor to any issues
surrounding their relationship with the client including the reasons behind
their resignation or removal as auditors.
Question 3
Compete Ltd. is a large private limited company which buys and sells computers,
mobile phones and other electronic items. It has a number of large retail stores
around the country. According to its chief financial officer, its stores, offices,
warehouse and accounting function are all highly computerised. You are the
external auditor currently examining Competes purchasing system and note the
following features:
Inventory levels are closely physically monitored by the managers at the
individual stores. When an inventory line is close to running out, the manager
emails the purchasing department in head office to place an order for sufficient
additional items to return the inventory to its original level. Managers are
instructed to keep a copy of the email on their hard drives.
Purchasing staff check the incoming orders for reasonableness and then try to
source the best price from those on the list of approved suppliers. Once the
most appropriate supplier is identified, an order is given a unique number and
the order is sent to the supplier. An electronic copy is kept on the purchasing
departments database. The system records a list of unfulfilled orders.
Warehouse staff check in all deliveries from suppliers. They check the deliveries
for quality and quantity against the order as shown on the system they have
read-only access to the electronic copy of the order. They are instructed not to
accept any goods which are not supported by a delivery note from the supplier
and an order from Compete. The quality and quantity of the delivery note and
order must agree exactly otherwise the entire delivery is rejected and must be
returned to the supplier.
Provided the delivery details agree with the order, warehouse staff accept the
goods from the supplier and that acceptance is recorded by a staff member
pressing the Accept button on the system, an action which removes the item
from the outstanding orders list and updates the perpetual inventory records.
The hard copy of the delivery note is stamped Delivered.
In due course, and not always on time, the supplier will sent an invoice to the
accounts payable department at Compete. The staff in this department are
required to check that the goods had been ordered and had been received
before entering the details of the suppliers invoice onto the accounts payable
system, which action debits purchases and credits the individual suppliers
account.
At the end of each month, some suppliers send in statements showing the
amount due to them from Compete. The accounts payable staff use the
statements received from these suppliers to check the ledger accounts balances
for accuracy.
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Required:
a. Identify any strengths or weaknesses in the accounts payables system and
how you would suggest the these could be tested.
(15 marks)
b. Suggest substantive tests in the area of accounts payable and purchases
which the auditors might perform.
(10 marks)
Porter, Simon and Hatherly (2014) Chapters 10 and 11
Gray and Manson (2008) Chapters 7 and 13

Part a of this question was a test of candidates ability to identify from
the scenario the strengths and weaknesses in a clients purchases system,
which is an important element of the audit planning process. The focus for
the question was on how these strengths and weaknesses could be tested
by the client and not on how the weaknesses could be improved by the
client. It is pleasing to note that the majority of candidates did recognise
this. It is important to note that just listing strengths and weaknesses was
not sufficient for full marks and some explanation as to why the issue was
a strength or weakness was required.
A tabular approach could have been used in this question listing the
strength or weakness and then how it could be tested.
Strengths in the system included:
The computerised nature of the system, which helps to strengthen
controls and minimise errors.
Physical monitoring of inventory levels provides an extra check of the
computer system further strengthening the controls to prevent over
ordering or running out of stock items.
The necessity to keep a copy of emails is a strength as it provides an
audit trail if there are queries or problems at a later date. However, it
is only a strength if it is complied with and so this would need to be
tested by the auditors.
Having an approved list of suppliers is a strength in preventing
purchases from unsuitable suppliers or inappropriate sources however
this does need to be routinely monitored and revised.
The requirement for buyers to look for best prices is a strength as it
ensures company funds are not wasted; however, this should not be at
the expense of quality.
Having a list of unfulfilled orders is a strength as it provides a record
of future commitments for the company. However, its accuracy relies
on warehouse staff correctly pressing the accept button for orders
delivered.
Read-only access is a strength as it prevents deliberate or accidental
changes to sales orders by warehouse staff.
The checking of invoices is a strength to ensure they agree with the
original purchase order and delivery note the fact that the invoices
are often received late is an inconvenience but is out of the control of
the company and not a weakness.
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Weaknesses in the system included:

The computerised nature of the system is also a weakness if it is not
properly tested, controlled and backed-up regularly. This will need to
be checked and tested by auditors.
The email order for re-stocking is a little casual and open to abuse a
more formal system should be used.
There is a lack of management authorisation for orders which leaves
the system open to some abuse by purchasing staff particularly if the
approved supplier list is not reviewed and updated regularly.
The requirement to reject and return a complete delivery if it does not
match the order exactly could be a weakness due to being inefficient
and the potential for unnecessary delays.
The use of an accept button by staff is a weakness due to the risks
involved in its inappropriate or inaccurate use management
authorisation is needed to strengthen this control.
Checking ledger balances against supplier statements is a strength;
however, given the fact that not all suppliers provide statements it is a
weakness if accounts staff only check balances for which a statement
has been received.
Examiners provided some flexibility in terms of how these strengths and
weaknesses could be tested, however, suggestions should have been linked
to the issue being raised and involve auditors either ensuring the strength
was effective or the consequences of the weakness.
Part b was not necessarily directly linked to the issues raised in part a and
so required candidates to consider appropriate substantive tests for any
accounts payable and purchases system. These include:
Inspection of documents purchase requisitions, purchase orders,
delivery notes, invoices
Check of invoices to original purchase orders and delivery notes
Supplier circularisation
Review of supplier ledgers and year end balances are there regular
suppliers who have no year end balance unpaid or some unusually
high balances on other accounts? This might be suspicious and so
needs investigation.
Review patterns of purchasing for reasonableness
Ratio analysis creditor days, stock turnover, gross profit margin
compare to previous years and/or industry norms for reasonableness.
Question 4
Heath LLP is a firm of chartered accountants which has audited Roath plc since
1991. Roath plc is an oil refining company with annual turnover of 2bn. and net
profits of 350m.
In January 2013, during the audit of the financial statements for the year ended
December 31, 2012, the audit team discovered that contract documentation
for a number of purchase orders for crude oil from one supplier, Canton, were
missing. The total value of the missing contracts came to 5m. The matter
was raised with the purchasing director, John Splott, who had to approve all
purchase contracts prior to payment. Splott initially dismissed it on the grounds
that it was immaterial, the total cost of oil purchases was in excess of 1bn.
When pressed by the audit manager, he gave assurances that these were valid
transactions made with reputable suppliers. However, he promised that when
12
he had spare time, he would instruct staff to find the missing documents. In
fact, the middle of 2013 proved to be a turbulent time for oil producers with
continued unrest in the Middle East and in Russia. Roaths staff were under
pressure with routine work and the missing documents were never found.
The issue of the missing documents was one of the outstanding matters
discussed at a meeting between the audit team and the audit partner, Ravi
Rhymney, in February 2013. Rhymney raised the matter with the finance director,
Brian Tremorfa, at a meeting in May prior to the signing of the auditors report.
Tremorfa said that they had more important things to worry about; he assured
Rhymney that he had no doubts about the transactions but he promised to look
into the matter of the missing documents and to tighten up controls in that area.
Rhymney accepted these assurances. He had worked under Tremorfa when the
latter was a partner in Heath LLP. Tremorfa resigned from Heath in 2010 and
joined Roath in 2012.
During the next audit early in 2014, the auditors discovered that the system had
not changed since their audit last year. Again documents supporting purchase
contracts with the supplier, Canton, could not be found. This time the auditors
extended their testing and discovered more unsupported transactions totalling
more than 20m. The audit manager quizzed Splott who became increasingly
agitated. Eventually he admitted to having a close working knowledge of Canton
since he was a director of that company too. He begged the audit manager not
to tell the other board members of Roath. The audit manager told him that he
would have to report it to the audit partner who would almost certainly want to
report it immediately either to the board or to the audit committee. The next day
Splott failed to show up for work and could not be contacted on his home phone
or on his mobile. That same day, Tremorfa ordered a detailed investigation. This
investigation eventually discovered that Canton was a shell which had invoiced
Roath, and been paid, for supplies of oil totalling 45m, oil which had never
been received.
Required:
a. Advise the partners of Heath LLP on their likely legal position, if Roath plc
were to sue them for negligence in the conduct of the audit.
(15 marks)
b. Outline the steps prudent auditors take to reduce the risk of claims for
negligence.
(10 marks)
Porter, Simon and Hatherly (2014) Chapter 15 and Chapter 16, pp.67589
Gray and Manson (2008) Chapter 20

The purpose of the first part of the question was to test candidates
knowledge of the legal liabilities of auditors. An apparent fraud has
been committed against the company by an employee. The question
invited a review of the auditors position with reference to decided cases
if appropriate. Since no third party is involved, that line of case law
(e.g. Ultramares, Caparo and others) is not relevant. Instead, what good
candidates picked up on was that the auditors had searched for evidence
and had been unable to locate certain documents and had raised the
matter with a director. The auditors accepted the directors assurances
that the transactions were valid here the better candidates quoted
the Kingston Cotton Mill precedent that auditors are entitled to trust
senior officials of the client, unless there are suspicious circumstances.
Some of the very best answers also raised the issue of materiality (the
missing invoices accounted for a small fraction of the total purchases)
13
and questioned whether the company could be said to have kept proper
accounting records without these invoices.
A similar lack of documentation in the ensuing year could be as suspicious
and certainly a sign of weak internal controls (London Oil Storage) which
ought to have been brought to the boards attention as soon as possible
(AWA v Daniels) so as to avoid or reduce the risk of further losses (Sasea
Finance). However, auditors have no authority to insist that control
systems be changed (S.P. Catterson).
Another line of enquiry might question the auditors independence since
the finance director is an ex-partner of the audit firm; however, there
appears to be no breach of the UKs ethical rules since two years had
elapsed between leaving the audit firm and joining the audit client.
The fact that the director had undisclosed links with a related party (it
appears that he had set up a fictitious company in order to falsely invoice
his employer) suggests that the board as a whole had not established
effective control in this area. We might ask whether they required from
each director a declaration of directors and senior managements interests.
Also what background checks were done before accepting a new supplier?
There was no requirement for candidates to come to a definite conclusion
on the legal position (i.e. whether or not the auditors might be negligent).
It is highly unlikely that a situation described on one page could provide
enough detail to allow for this sort of determination. In any event, only a
court of law can decide a question of negligence.
Part b of the question should have been fairly straightforward for the wellprepared candidate. Auditing firms naturally want to reduce the risk of
being sued and accordingly they put in place a number of steps such as:
Avoiding risky clients
Continually re-assessing the risks of each client
Recruiting employees with appropriate attributes
Training staff
Allocating staff to appropriate jobs commensurate with their skills
Quality control procedures in the firm to ensure that work is reviewed
at each stage to see whether it has been properly carried out
Offering support to staff to stand up to management/directors
Being prepared to challenge management and to raise matters with
the audit committee
If necessary, good auditors will modify the report where they have
doubts about the accuracy of the financial statements or disagree with
directors accounting treatments.
A number of candidates commented at length on the need for auditors
to have professional indemnity insurance; this will not reduce the risk
of being sued if anything it may increase it it only reduces the risk of
financial harm if the plaintiff is successful.
14
Section B
Answer at least one question, and no more than two questions from this
section. A total of four questions should be answered with at least two
from Section A.
Question 5
Critically evaluate the auditors unmodified report as a medium of
communication. You should consider both what is said and not said in the typical
report.
Porter, Simon and Hatherly (2014) Chapter 14

This essay required more than a simple regurgitation of what should be
included in an audit report. A critical evaluation of it as a medium of
communication was specified in the question and so candidates should be
able to discuss the main components in terms of why the specific issues are
included and whether it tells the reader enough in terms of the work done
by and the findings of the auditor. Consideration of the new audit report
was expected have the changes been made and additional requirements
done enough to respond to the critics of the audit report?
Some discussion on the expectation gap could have been included here to
discuss the audit reports role in closing this gap and whether it meets this
objective, however, this was not the main theme of the essay.
Question 6
Explain how auditors can justify forming their opinions based on the
examination of only a very small number of supporting documents.
Porter, Simon and Hatherly (2014) Chapter 12, pp.46790

This essay discusses one of the principle elements of the audit process
audit evidence. Audit as an opinion of truth and fairness rather than 100%
accuracy is relevant as is the need for audit evidence to be reasonable
and relevant. An explanation of materiality is relevant together with the
sampling process and the risks associated with sampling. For all these
issues the candidate must not only explain their relevance to the question
but also how all the issues are linked and how the auditor can therefore
justify their opinion having not carried out 100% testing.
Question 7
Critically examine the arguments for and against mandatory audit rotation.
15

This was a popular question choice due most likely to its links to auditor
independence; an issue candidates often feel confident discussing.
However, it was important here to ensure focus was maintained on the
question being asked and candidates did not just see it as an opportunity
to list threats to independence. The rationale behind mandatory
audit rotation as a safeguard towards ensuring auditor independence
were relevant and this did require some explanation of why auditor
independence is important and how it can be put at risk. However, the
main sections of the essay should have been dedicated to examining
arguments for and against mandatory audit rotation; which involved
looking at beyond issues surrounding auditor independence, for example,
costs, efficiency, skills required for specific sectors, the need for knowledge
in ensuring audit quality.
Question 8
With reference to auditing scandals from the past, evaluate the lessons for
todays auditing profession.

This essay was fairly open-ended and gave candidates flexibility in what
they discussed and how they approached the essay. However, candidates
have access to materials that cover scandals, frauds and liability cases
where things appear to have gone wrong and so they should be able
to discuss the general issues to emerge from these cases and to suggest
lessons, which may be learned from these apparent failures. Overall this
essay was done well although the better candidates were those that could
discuss the lessons from the scandals rather than simply listing scandals
and what went wrong.
16

AC3093 Auditing and assurance Zone B
Important note

references
Comments on specific questions

Section A
Answer at least two questions, and no more than three questions from
this section. A total of four questions should be answered with at least one
from Section B.
Question 1
Hull LLP is a firm of chartered accountants which has audited Riding plc since
1991. Riding plc is an oil refining company with annual turnover of 2bn. and net
profits of 350m. In January 2013, during the audit of the financial statements
for the year ended December 31, 2012, the audit team discovered that contract
documentation for a number of purchase orders for crude oil from one supplier,
Caistor, were missing. The total value of the missing contracts came to 5m.
The matter was raised with the purchasing director, John Scotter, who had to
approve all purchase contracts prior to payment. Scotter initially dismissed it on
the grounds that it was immaterial, the total cost of oil purchases was in excess
of 1bn. When pressed by the audit manager, he gave assurances that these
were valid transactions made with reputable suppliers. However, he promised
that when he had spare time, he would instruct staff to find the missing
documents. In fact, the middle of 2013 proved to be a turbulent time for oil
producers with continued unrest in the Middle East and in Russia. Ridings staff
were under pressure with routine work and the missing documents were never
found.
The issue of the missing documents was one of the outstanding matters
discussed at a meeting between the audit team and the audit partner, Raj
Laceby, in February 2013. Laceby raised the matter with the finance director,
Bernard Tetney, at a meeting in May prior to the signing of the auditors report.
Tetney said that they had more important things to worry about; he assured
Laceby that he had no doubts about the transactions but he promised to look
17
into the matter of the missing documents and to tighten up controls in that area.
Laceby accepted these assurances. He had worked under Tetney when the latter
was a partner in Hull LLP. Tetney resigned from Hull in 2010 and joined Riding in
2012.
During the next audit early in 2014, the auditors discovered that the system had
not changed since their audit last year. Again documents supporting purchase
contracts with the supplier, Caistor, could not be found. This time the auditors
extended their testing and discovered more unsupported transactions totalling
more than 20m. The audit manager quizzed Scotter who became increasingly
agitated. Eventually he admitted to having a close working knowledge of Caistor
since he was a director of that company too. He begged the audit manager not
to tell the other board members of Riding. The audit manager told him that he
would have to report it to the audit partner who would almost certainly want
to report it immediately either to the board or to the audit committee. The next
day Scotter failed to show up for work and could not be contacted on his home
phone or on his mobile. That same day, Tetney ordered a detailed investigation.
This investigation eventually discovered that Caistor was a fictitious company
set up by Scotter in order to defraud Riding. Caistor had invoiced Riding for
supplies of oil which had never been delivered. Riding had paid 45m over 5
years for these non-existent supplies.
Required:
a. Advise the partners of Hull LLP on their likely legal position, if Riding plc
were to sue them for negligence in the conduct of the audit. You should cite
examples of case and/or statute law when appropriate.
(15 marks)
b. Outline the steps prudent auditors take to reduce the risk of claims for
negligence.
(10 marks)
B. Porter, J. Simon and D. Hatherly Principles of exernal auditing. (Chichester:
John Wiley & Sons, 2014) 4th edition [ISBN9780470974452] Chapter 15
and Chapter 16, pp.67589
I. Gray and S. Manson The audit process: principles, practice and cases. (London:
Thomson, 2008) Chapter 20

The purpose of the first part of the question was to test candidates
knowledge of the legal liabilities of auditors. An apparent fraud has
been committed against the company by an employee. The question
invited a review of the auditors position with reference to decided cases
if appropriate. Since no third party is involved, that line of case law
(e.g. Ultramares, Caparo and others) is not relevant. Instead, what good
candidates picked up on was that the auditors had searched for evidence
and had been unable to locate certain documents and had raised the
matter with a director. The auditors accepted the directors assurances
that the transactions were valid here the better candidates quoted
the Kingston Cotton Mill precedent that auditors are entitled to trust
senior officials of the client, unless there are suspicious circumstances.
Some of the very best answers also raised the issue of materiality (the
missing invoices accounted for a small fraction of the total purchases)
and questioned whether the company could be said to have kept proper
accounting records without these invoices.
A similar lack of documentation in the ensuing year could be as suspicious
and certainly a sign of weak internal controls (London Oil Storage) which
ought to have been brought to the boards attention as soon as possible
18
(AWA v Daniels) so as to avoid or reduce the risk of further losses (Sasea

Finance). However, auditors have no authority to insist that control
systems be changed (S.P. Catterson).
Another line of enquiry might question the auditors independence since
the finance director is an ex-partner of the audit firm; however, there
appears to be no breach of the UKs ethical rules since two years had
elapsed between leaving the audit firm and joining the audit client.
The fact that the director had undisclosed links with a related party (it
appears that he had set up a fictitious company in order to falsely invoice
his employer) suggests that the board as a whole had not established
effective control in this area. We might ask whether they required from
each director a declaration of directors and senior managements interests.
Also what background checks were done before accepting a new supplier?
There was no requirement for candidates to come to a definite conclusion
on the legal position (i.e. whether or not the auditors might be negligent).
It is highly unlikely that a situation described on one page could provide
enough detail to allow for this sort of determination. In any event, only a
court of law can decide a question of negligence.
Part b of the question should have been fairly straightforward for the wellprepared candidate. Auditing firms naturally want to reduce the risk of
being sued and accordingly they put in place a number of steps such as:
Avoiding risky clients
Continually re-assessing the risks of each client
Recruiting employees with appropriate attributes
Training staff
Allocating staff to appropriate jobs commensurate with their skills
Quality control procedures in the firm to ensure that work is reviewed
at each stage to see whether it has been properly carried out
Offering support to staff to stand up to management/directors
Being prepared to challenge management and to raise matters with
the audit committee
If necessary, good auditors will modify the report where they have
doubts about the accuracy of the financial statements or disagree with
directors accounting treatments.
A number of candidates commented at length on the need for auditors
to have professional indemnity insurance; this will not reduce the risk
of being sued if anything it may increase it it only reduces the risk of
financial harm if the plaintiff is successful.
Question 2
Cisco Ltd (Cisco) is a toy manufacturer. Cisco employs 200 people of three
categories: salaried, hourly paid and commission-only staff. Tina Garner is the
payroll manager and has a team of two members of part-time staff, Paula and
John.
Salaried employees
There are 60 salaried office-based employees; all are members of the
companys pension scheme which aims to provide income for employees
once they have retired from work. Every month, one of Tinas assistants
(Paula) reviews any adjustments required to the salaries for that month.
These adjustments range from sick pay, maternity pay, salary increases, and
part-time adjustments. Staff must inform the payroll office via email of any
19
adjustments required by the 20th of each month. Paula then reviews and
actions these adjustments and submits a summary from the computer system
to Tina for authorisation. The monthly salaries are processed via computer
software, checked and approved by Paula and then submitted for final
authorisation by the finance director before being paid by bank transfer on
the 25th of each month. Staff records include details of their bank accounts
and other personal information and are kept electronically. These records are
only accessible by Tina and her team. Any change made to a record requires
the team member to enter his/her unique pin code.
Hourly rate employees
A clocking-in system is used by the 120 factory and warehouse staff. The
system is not supervised. A higher rate is paid for overtime but the hours
must be authorised in advance by a manager. At the end of each week the
clocking-in system sends John a report which he uses to process the weekly
wages. Tina authorises the final payroll calculations and then John processes
the payments. Some staff have elected to be paid in cash which is distributed
by John on Friday afternoons; most employees choose to be paid by bank
transfer.
Commission based employees
There are only 20 commission based employees. Monthly commission
payments are made based on the previous months sales for each employee.
The accounts team produce a spread-sheet showing the relevant monthly
sales for each employee and this is reviewed by Tina who calculates the
appropriate commission payments due. Tina then submits the information
to Paula who processes the tax and other deductions and calculates the net
pay for each employee. No further authorisation is deemed necessary at this
stage before Paula processes the bank transfer by the 25th of each month.
Required
a. Identify five strengths and five weaknesses in the system and for each
weakness you should also recommend an appropriate solution. (15 marks)
b. What audit assertions would you, as auditor, test in your audit of Ciscos
commission based payments and what procedures would you use to test
those assertions?
(10 marks)

Generally part a of the question was very well done. Candidates were
asked to identify five strengths in the described payroll system. Examples
included:
the involvement of two members of staff always better than just one
the fact that the summary of the payroll is sent for authorisation before
processing
the report is sent from Paula to the finance director without going
through Tina
bank transfers are used for most of the staff
unique pin codes are required to be used to access certain records
overtime for manual workers must be authorised in advance.
20
Candidates were also expected to spot the weaknesses in the system and to
suggest solutions. These included:
The use of part-time staff might be a problem unless adequate cover is
provided by other staff to allow for the times when the part-timer(s) is
absent. (It should be noted that just because staff are part-time it does
not mean that they are necessarily less competent.)
Staff inform payroll if any adjustment is needed they may not
inform if the adjustment is unfavourable. Each report needs to be
substantiated by a supervisor/manager before it can be actioned.
The report sent to Tina lacks detail she will not be able to see if
something is wrong. The report needs to have a break-down not just
totals. She has to be able to see the detail even if she does not check it
all.
The clocking-in is unsupervised which might lead some employees to
abuse the system. There is no other check on hours claimed to have
been worked. A supervisor needs to confirm each clock card at end of
the week before payroll is made up.
John has access to both records and cash a classic risk situation. The
two duties need to be segregated (e.g. get Paula to distribute the cash
in pay packets).
Commission-based pay: one possible weakness is that commission
is paid before the related sale is known to be good. Can goods be
returned longer than a month? If so the salesman may have been
paid and left the company before the return of the goods. A clawback
mechanism should be introduced for leavers.
It is rarely likely to be sufficient as a solution to suggest employing more
staff.
A number of candidates attempted to frame an answer to this question in a
three-column format with strengths, weakness and solutions as the column
headings. This clearly was ridiculous. Others had a two-column approach
with strength as one heading and solution as the other again this was
clearly ridiculous as there would be no need to suggest solutions to a
strength. Those who made these errors had clearly not thought carefully
enough before starting to write.
Answers to part b surprised the examiners as few candidates were able
correctly to identify more than two income statement assertions. As a
reminder, the area to be tested was payroll, an income statement item.
Income statement assertions are occurrence, completeness, accuracy, cutoff and classification. It was astonishing how many candidates included
statement of financial position assertions such as existence and rights and
obligations. A moments thought should cause one to question whether
wages exist in the income statement.
The textbooks are replete with examples of the sort of audit tests which
can be done. For example, taking a sample of individuals on the payroll
and then for a particular week or month tracing to the background
documents/clocking in cards for occurrence and recalculating their pay to
test for accuracy. These items could also be used to provide evidence that
the item of expenditure for correctly classified as operating expenses or
administrative expenses depending on the type of employee concerned.
For one test of completeness, the sales from the last month of the year
could be ascertained and then the commission calculation re-performed to
see whether the year-end accrual (and thus the charge against income) is
understated.
21
Question 3
Fundamentals plc is a UK-listed company providing training courses in
everything from accountancy to plumbing in many countries. The company
currently has five subsidiaries based in France, Spain, Germany, Ireland and
Australia. Fundamentals plcs year end is 31st March. The total revenue of
Fundamentals plc and its subsidiaries for the year to 31st March 2015 is 150m
and net profit is 15m.
Major changes in the year to 31st March 2015 are:
The companys chief financial officer, Tseng, resigned having been in post for
six years. He was replaced through the internal promotion of the companys
financial controller who had worked under Tseng for five years. The reasons
behind Tsengs departure were said to be personal but the financial media
were never satisfied by this explanation and the companys share price has
suffered as a result of the uncertainty over the situation.
The company has expanded its customer base into Australia for the first time
this year. Despite some teething problems the move appears to have been
a success with revenue equivalent to 10m and profit equivalent to 2m.
However, the audit team found it difficult to obtain documentation from the
Australian subsidiary company.
The company plans to expand into China and India. These plans will require
a combination of rights issues to existing shareholders and bank loans to
increase both forms of finance by 20%.
During a meeting held between the auditors, the audit committee and the
chief executive officer just before the year end the auditors were informed
that the Board were very keen to work closely with the audit committee and
the auditors to ensure a successful audit outcome this year.
The auditors must carry out an audit for the Fundamentals plc group
although the subsidiary companies are all audited separately by local
auditors.
Required:
a. When planning the audit of the Fundamentals plc group what are the audit
risks that the auditor should consider and what audit work should be carried
out in response to these risks?
(15 marks)
b. To what extent can one auditor rely on the work of another and what are the
key factors to consider?
(10 marks)

Despite warnings in past years commentaries that marks were unlikely to
be awarded for simply repeating the audit risk model as a simple formula
or for providing an elaborate description of the various components of
audit risk, many candidates wasted valuable time doing precisely one or
other of these things, and in a few cases, both in answer to part a.
When answering part a, the best candidates realised that the scenario
provided a number of factors which presented the auditors with particular
risks. For example, the fact that the company is UK-listed means that there
are more regulations to be aware of, the exposure to liability and public
scrutiny are also greater than if the company were privately held. The
fact that the company operates in a number of countries introduces the
22
difficulties of management control and accuracy of financial reporting

where different jurisdictions are involved. We also have the problem of
exchange risk. The auditors need to make sure that the company has
adequate resources to deal with these extra responsibilities. What in-house
expertise does the company have? Is there an treasury function to deal
with the various foreign currency exposures?
In addition there is the resignation of the CFO which is never fully
explained. Where there are doubts about the circumstances, this must
remain a worry for the auditors. To dispel these doubts, the auditors
must ask discreetly about the real reasons. They must follow it up; if, for
example, the CFO is known to have found a high-powered position with
another listed company, it is unlikely that the resignation was because of
stress.
The company is entering into new markets which exposes it to extra risks.
The auditors need to review the managements plans for dealing with
various contingencies what if the new ventures do not pay off?
There is a hint that pressure may have been applied by the audit
committee on the auditors to produce a favourable audit report. While
auditors aim to have good relations with the committee, they must always
maintain their independence. If the audit committee appears to be pushing
the auditors away from particular issues, perhaps those are the areas
where more work needs to be done. The fact that the audit committee
appears to be pressuring the auditors is a concern. Perhaps the auditors
need to look more closely at the independence of the committee itself.
The involvement of other auditors in the overseas companies may be
necessary but it adds an extra element of uncertainty. Can we be sure
that they are competent and independent? To answer that question the
UK auditors would have to assess the stringency of the audit regulations,
standards and approaches in those other countries and make some
assessment of the qualities of the particular auditors concerned.
There are many possible responses to the various issues and the marking
scheme allowed for credit to be given where reasonable suggestions were
made. However, the examiners were looking for more than simple, general
statements along the lines of the auditors need to do more work here
or the auditors will have to carry out compliance and substantive tests.
In the absence of some specific ideas, it was not possible to determine
whether the candidate possessed a proper understanding of the nature of
auditing.
Again part b was a fairly straightforward question that seemed to baffle
too many candidates. The best showed that they were familiar with ISA
600 being well able to suggest a number of factors that will influence
whether one auditor may rely on another auditor. For example, the
qualifications and perceived independence of that other auditor, the rules
and regulations in place in that jurisdiction, the known skill level were
there problems with that other auditors work in the past? How material
are the companies audited by other auditors if insignificant, perhaps
it matters less whether the rules/regulations/competencies are not as
stringent as in other countries. Is it possible to review the detail of the
work programme and the detail of the work done? Are the other auditors
reluctant to grant access to their working papers or are they slow in
responding to requests for information?
In the end, however, each auditor is responsible for his or her own work.
The primary auditor cannot hide behind the fact that he or she did not
personally undertake each test or examine each piece of evidence.
23
Question 4
You are an audit partner in Dragon & Co., a firm of registered auditors. The
following extracts all relate to some of your audit clients:
i. You are carrying out the audit of Vine Ltd in respect of the year ended 31st
March 2015. During your routine review of the companys correspondence
files you discover that the company has been in dispute with a customer over
a warranty on one of its products. When you question the sales director about
this issue he tells you that he is confident the complaint has no substance
and is unlikely to be successful.
ii. You have just completed the audit of Sloane Ltd in respect of the year
ended 31st December 2014. During the final audit meeting you receive an
anonymous note informing you that since the year-end one of Sloane Ltds
major clients has become insolvent. The note tells you that the Sloane Ltds
board had made the decision not to tell you about the issue due to the effect
it would have on the financial statements.
iii. Bond Ltd manufactures computer equipment. Inventory is a material area of
its financial statements. Your appointment as auditor to Bond Ltd was made
just after its year-end. You were therefore not able to attend the companys
physical count of its inventory.
iv. Leicester plc has a number of branches across the UK. One branch is in a
remote location in the far north of Scotland. You have never visited this
branch because it is relatively small and you could not justify incurring the
travel cost.
v. During the audit of the accounts receivable section of Mayfair plc, your audit
team were unable to locate a file containing suppliers statements for the
last two months of one year and the first month of the new financial year. All
other records were in the correct place.
Required:
a. For each issue above explain why there might be a problem for you as
auditor, what additional audit work you would need to do in response to the
problem and how the outcome might affect your final audit opinion.

(15 marks)
b. In order for auditors to carry out an efficient and effective audit they are
given certain legal rights in the UK under the Companies Act 2006. State
these rights excluding those related to the resignation and removal of
auditors.
(10 marks)
Porter, Simon and Hatherly (2014) Chapters 14 and 5, pp.19194

Part a of the question was designed to test whether candidates could relate
particular problems to the impact on the audit report. There were five
brief scenarios.
Vine candidates were expected to consider whether the warranty claim
could be significant; if it is a systemic fault other customers might start
claiming. There could be undisclosed liabilities/expenses in the form of
having to take the faulty goods back or rectify them. Auditors have to
probe the matter to the bottom. They should seek evidence about the
fault, examine correspondence with customers and consult the technicians.
Candidates should not assume that the issue is not a problem. Impact
24
on report: if deemed to be material and no adjustment to allow for

rectification, an except for opinion because of the auditors disagreement
with non-provision.
Sloane a potential bad debt. Is the debt material? If it is, auditors
might look at the customers payment record, check local press, and
other sources of information. If the insolvency is a fact, there will be
announcement. If the debt is material, it will need to be provided for and
disclosed. Auditors should confront directors with their apparent lack of
openness. Again an except for opinion if no adjustment is made.
Bond non-attendance at inventory count means the auditor will have to
seek other forms of evidence. Is it possible to do another inventory count
and work backwards to the inventory at the year end? Probably it will be
simplest best to modify the report with an except for limitation in the
scope of the audit.
Leicester involves a small remote branch which has not been visited.
At some stage the auditors should visit as while it may not be material,
it might be hiding material liabilities. The clients reluctance to pay the
expenses should not restrict the necessary audit activities. The intention
was to give the idea that this branch was small and therefore immaterial
and most candidates picked up on this. Nevertheless, the most common
(wrong) answers were either that the auditor should modify or should
report an emphasis of matter.
Mayfair there are missing records. Alternative sources could be sought
(e.g. by writing to the third parties directly to get them to confirm
balances). If there remains a significant doubt, the report should be
modified on the grounds of a limitation of scope and an except for
modification is the most likely.
For part b, most candidates were able to come up with two of the legal
rights of auditors. Few managed to produce a list of more than three.
Among the rights that might have been discussed are:
right of access to all books and records
right to ask for explanations and information of employees and officers
right to obtain information from overseas subsidiaries
right (and sometimes a duty) to report suspicions to the relevant
authorities
right to be notified of the general meetings
right to attend general meetings of the members (not as was often
claimed, the directors meetings)
right to address meetings
right (actually it is a duty, but this was allowed as an answer) to report
an audit opinion to the members.
25
Section B
Answer one question and no more than one further question from this section. A
total of four questions should be answered with at least two from Section A.
Question 5
In the context of audit evidence, explain what is meant by sufficient and
appropriate and discuss the claim that all evidence is good evidence.
Porter, Simon and Hatherly (2014) Chapter 5, pp.27177

The question concerned evidence generally and the answer should have
covered both substantive or compliance evidence. The sort of points the
examiners were looking for were:
Evidence needs to be from an independent source.
Sufficient refers to quantity and the more material an item, the more
evidence would be needed.
Appropriate means the type of evidence which is most relevant in
the context of the assertion being testing (e.g. seeing a building is
evidence of its existence but not necessarily its value).
Candidates should have been able to discuss the different types of
evidence and their suitability for different assertions. They should also
have been able to discuss the varying degrees of persuasiveness and
reliability.
Question 6
Explain how auditing is regulated at an international level and discuss the
advantages and disadvantages of the harmonisation of auditing standards.

Few candidates attempted this question although for those with an interest
in the international harmonisation process, the arguments for and against
uniformity have been frequently rehearsed.
Some discussion of the role and work of IFAC and the International
Auditing and Assurance Standards Boards work was expected as a
backdrop to the discussion and the pros and cons of international
regulation.
Among the claimed advantages for international standards are the
following arguments:
a. International investors will be assisted comparison of investment
opportunities will be facilitated if financial statements globally are
drawn up, and audited on a consistent and uniform basis.
b. International accounting firms will benefit the recruitment and
transfer of staff across international boundaries would be assisted if
the required training and possession of skills and knowledge were
similar in different countries.
26
c. Individual accounting practitioners can gain if training requirements

and technical standards were harmonised, job opportunities would be
created or expanded both in terms of the possibility of relocation and
work referred from abroad.
d. Accounting institutes (especially in developing countries) will be
helped institutes may avoid duplication of research and standardsetting efforts by adopting nationally the standards developed and
accepted at the international level. Many already do so.
e. Regulatory agencies will also stand to gain both tax authorities and
securities regulators would find their supervisory and enforcement
roles eased if national differences in financial reporting and auditing
were reduced.
Disadvantages or arguments against international standards:
Accounting imperialism
The influence of major countries, especially the UK and the USA, is
certainly clear in the pronouncements of both IFAC and IASB. Resistance
can be expected in countries where international pronouncements are seen
as belonging to economically superior countries a form of accounting
colonialism.
Inappropriate standards
Other criticisms of the harmonisation process centre around the fact that
standards set internationally cannot possibly cater for the wide range of
national circumstances, legal systems, stages of economic development
and cultural differences.
Historically low response rates to exposure drafts
Proposed pronouncements of both IASB and IFAC are exposed for
comment. This exposure process gives outsiders the chance to contribute
to the standard-setting process (provided the standard-setters are
responsive to the letters of comment they receive).
Compromises
On relatively straightforward and uncontroversial issues it may not
be difficult for a committee of standard-setters to reach unanimous
agreement on the preferred position. On other issues compromises may
have to be struck in order for a proposed standard to be accepted.
Question 7
Explain to a non-accountant the value of an audit.

Most candidates should have been able to discuss the role of the audit in
the context of the modern western economies. Inevitably there must be
some discussion of the need to trust financial information. Essays should
have stressed the importance of credible information for the smooth
running of the capital markets.
Independent and competent audits help to build that trust. Candidates
should have made some reference to the fact that an audit is not a
guarantee against fraud or error but it does add assurance to the accuracy
of the figures presented by management.
27
The limitations of an audit also needed to be addressed.

Essays that simply focused on the expectations gap were not likely to get
high marks.
Question 8
Using reasoned argument, consider whether the prevalence of computerised
accounting systems makes the job of the external auditor more or less difficult.
Porter, Simon and Hatherly (2014) Chapter 12 pp.49196

Candidates should have been able to discuss from the auditors point of
view the advantages and problems posed by computerised systems.
Computerisation speeds up the accounting process, reduces risk of error
provided system set up correctly, reduces the tedium of the manual
systems, likely to be more accurate, more efficient in terms of getting to
the final accounts.
But there is a big risk if the system fails or is hacked.
A simple error can be repeated many times if not detected early on. There
is a need for more formal and more sophisticated controls and back up
systems. Auditors need special skills to understand computer programmes
and to interrogate computers.
This underlines the need for special audit software.
There is a risk of possible loss of audit trail if procedures are conducted
within the black box.
28

Examiners' Commentaries 2015: AC3093 Auditing and Assurance Important Note

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