Audit and Assurance

Suggested
Roll No.

Maximum Marks - 100

Total No. of Questions- 7

Total No. of Printed Pages- 2

Time Allowed - 3 Hours

Marks
Attempt all questions.
1. As an auditor, give your opinions with reasons on the following cases:

(4
5=20)

a) The following information pertains to the trading stock of a company:

Product
Color Tvs
Black & White TVs
Ordinary Bikes
Sport bikes
Computers
Total

Historical cost (Rs.)

200,000
115,000
200,000
110,000
80,000
705,000

Net Realizable value (Rs.)

270,000
150,000
185,000
115,000
100,000
820,000

The company has a policy to value stock at lower of cost or net realizable value
and accordingly trading stock has been valued at Rs. 705,000 in the balance sheet
of the company.
b) Raman Mahaseth, the auditor of a company has signed the audit report on 15 Asoj
2071. He has obtained written representation from the management of the
company dated 15 kartik 2071; i.e. the date of the annual general meeting of the
company.
c) A company purchased machinery on 1st Asoj 2071 for Rs. 10 crores on credit for
6 months. The seller normally does not sell such machineries on credit and cash
price of the machinery is Rs 9.5 crores. The buying company recognizes
machinery at Rs. 10 crores in the books on 1 st Asoj and the liability is fully paid
on Falgun Masant.
d) Total trade receivable of a company is Rs. 20 crores. It includes receivables from
Maheswary Limited amounting to Rs 2 Crores. Maheswary Limited was declared
bankrupt on 15th Asoj 2071; i.e. after the reporting period of Ashad end 2071 and
before the date when financial statements were authorized for issue; i.e. Asoj
Masant 2071. The company management claims that the carrying amount of trade
receivable does not need to be adjusted because the information about bankruptcy
was known after the reporting period.
Answer
a)

Inventories are usually written down to net realizable value (NRV) item by item. In the
given case, cost of all the items on total basis is lower than their NRV. However, if we
compare NRV with cost product-wise, we can note that NRV of ordinary bikes (i.e. Rs
185,000) is lower than its cost (i.e. Rs. 200,000).
The following comparative table may be useful for valuation of inventories
Product

Historical cost Rs

ClourTvs

200,000
FHK

Net
Realizable Presentable
value (Rs.)
value (Rs.)
270,000
200,000
P.T.O.

(2)
Black & White TVs
Ordinary Bikes
Sport bikes
Computers
Total

115,000
200,000
110,000
80,000
705,000

150,000
185,000
115,000
100,000
820,000

115,000
185,000
110,000
80,000
690,000

So, inventory should be presented at Rs. 690,000 in the balance sheet rather than at Rs.
705,000.
b) Because written representations are necessary audit evidence, the auditors opinion cannot
be expressed, and the auditors report cannot be dated, before the date of the written
representations. Furthermore, because the auditor is concerned with events occurring up to
the date of the auditors report that may require adjustment to or disclosure in the financial
statements, the written representations are dated as near as practicable to, but not after, the
date of the auditors report on the financial statements.
In some circumstances, it may be appropriate for the auditor to obtain a written
representation about a specific assertion in the financial statements during the course of the
audit. Where this is the case, it may be necessary to request an updated written
representation.
So, in the given case the written representation cannot be considered as appropriate audit
evidence because it was not obtained on or before the audit report date.
c)

As per NAS 6, the cost of an item of property, plant and equipment is the cash price
equivalent at the recognition date. If payment is deferred beyond normal credit terms, the
difference between the cash price equivalent and the total payment is recognized as interest
over the period of credit unless such interest is capitalized in accordance with NAS 8.
So, in the given case, the machinery should be recognized at Rs. 9.5 crores in the books and
0.5 crores should be recognized as interest over the 6 months period (Asoj-Falgun)

d)

Events after the reporting period are those events, favorable and unfavorable, that occur
between the end of the reporting period and the date when the financial statements are
authorized for issue. Two types of events can be identified:
i) those that provide evidence of conditions that existed at the end of the reporting period
(adjusting events after the reporting period); and
ii) those that are indicative of conditions that arose after the reporting period (non-adjusting
events after the reporting period)
So, the event in the given case (knowing information about bankruptcy of the debtor after
balance sheet date) seems to be an adjusting event because the debtor was bankrupt on the
balance sheet date which was declared by the court later on. Hence the carrying amount of
the trade receivable should be presented at Rs. 18 crores instead of Rs. 20 crores in the
balance sheet.

(7+8=15)

2. Answer the following:

a) Explain the analytical procedures that an auditor can adopt to verify inventories.
b) Explain the situations of modifying the auditors report as per NSA.
Answer
FHK

(3)
a)

Analytical procedure for inventories: The auditor can adopt the following analytical
procedures to verify inventories.
i)
ii)
iii)
iv)
v)
vi)

Quantitative reconciliation of opening stock, purchases, production, sales and

closing stock
Comparison of closing stock quantities and values with those of previous year.
Comparison the inventory turnover ratio with that of the previous year and industry
average, if available.
Comparison of the current year gross profit ratio with that of previous year.
Comparison of actual stock, purchase and sales figures with the budgeted one.
Comparison of raw material yield/wastage with previous year.

b) There are the following situations of modifying the auditors report wording:
I. Matters that Do Not Affect the Auditors Opinion
i.
Emphasis of matter: In certain circumstances, an auditors report may be modified
by adding an emphasis of matter paragraph to highlight a matter affecting the
financial statements which is included in a note to the financial statements that more
extensively discusses the matter. The addition of such an emphasis of matter
paragraph does not affect the auditors opinion. The paragraph would preferably be
included after the paragraph containing the auditors opinion but before the section
on any other reporting responsibilities, if any. The emphasis of matter paragraph
would ordinarily refer to the fact that the auditors opinion is not qualified in this
respect.
II. Matters that Do Affect the Auditors Opinion
i.
Qualified opinion: A qualified opinion should be expressed when the auditor
concludes that an unqualified opinion cannot be expressed but that the effect of any
disagreement with management, or limitation on scope is not so material and
pervasive as to require an adverse opinion or a disclaimer of opinion. A qualified
opinion should be expressed as being except for the effects of the matter to which
the qualification relates.
ii.
Disclaimer of opinion: A disclaimer of opinion should be expressed when the
possible effect of a limitation on scope is so material and pervasive that the auditor
has not been able to obtain sufficient appropriate audit evidence and accordingly is
unable to express an opinion on the financial statements.
iii.
Adverse opinion: An adverse opinion should be expressed when the effect of a
disagreement is so material and pervasive to the financial statements that the auditor
concludes that a qualification of the report is not adequate to disclose the
misleading or incomplete nature of the financial statements.
3. Give your comments on the following:

(3
5=15)

a) PQR Company conducts its business through 3 offices situated in Kathmandu,

Pokhara and Nepalgunj. 50% of the business volumes are conducted through the
offices outside Kathmandu valley. All the vouchers and records of Pokharaand
Nepalgunj offices are maintained at Pokhara and Nepalgunj Offices respectively.
The management of PQR has approached the auditor for audit with the request
that the offices outside Kathmandu valley are not to be visited by the auditor to
save the audit costs. Whether the auditor should accept the appointment.
KHF

P.T.O.

(4)
b) An INGO invites bid from interested CA firms for audit service for the calendar
year 2014. Upon request by Lakhe & Co, Chartered Accountants, the INGO does
not provide information about the audit fees for the year 2013. Please advise
whether Lakhe & Co should submit his bid for the audit or not.
c) Financial Statements for the year 2069/70 was issued in Paush 2070. While
preparing the financial statements of 2070/71, it was known that the financial
statements of 2069/70 included error. The auditor advises the management to
correct and revise the financial statements of 2069/70 and circulate the revised
financial statements with all the authorities where original financial statements
were submitted.
Answer
a) If management or those charged with governance impose a limitation on the scope of the
auditors work in the terms of a proposed audit engagement such that the auditor believes
the limitation will result in the auditor disclaiming an opinion on the financial statements,
the auditor shall not accept such a limited engagement as an audit engagement, unless
required by law or regulation to do so.
In the given case if the auditor accepts the appointment he has to provide his opinion
without verifying the records which constitutes around 50% of business volume of the
company. So, it is better not accept such appointment because it is known in advance that
the limitation put by the management on auditors work. However, if he accepts the audit,
he should consider disclaiming opinion based on possible effects of the opinion.
b) As per council decision/code of ethics in relation to minimum audit fee, an audit firm shall
take into account the audit fees of the previous year while quoting audit fees such that the
current years fee should not be less than the previous year. If information about the
previous years fee cannot be obtained, the auditor shall specify in his proposal that his fee
shall be higher of the proposed audit fee and previous years audit fee.
So, in the given case, Lakhe & Co can submit his proposal by clearly mentioning that the
audit fee shall be the higher of the proposed audit fee or previous years audit fee.
c)

As per NAS 8, prior period errors are corrected in the comparative information presented in
the financial statements. Unless it is impracticable, an entity shall correct material prior
period errors retrospectively in the first set of financial statements authorized for issue after
their discovery by: (a) restating the comparative amounts for the prior period(s) presented
in which the error occurred; or (b) if the error occurred before the earliest prior period
presented, restating the opening balances of assets, liabilities and equity for the earliest
prior period presented.
So, in the given case, the error in the financial statements of 2069/70 can be rectified in the
comparative information of the financial statements of 2070/71. The financial statements of
2069/70 which was already issued need not be revised.
(3
5=15)

4. Answer the following:

a) Explain the control environment as a part of Internal Control System.
b) Help- SIPA, a NGO registered in Nepal raises funds from members, donors or
contributors to support victims of Earthquake of Sindhupalchok. Explain the
points which you will consider in preparing the Audit Programme of this NGO.
c) Explain the compliance procedure and substantial procedures as Audit methods
of collecting evidences for forming an audit opinion.
Answer
FHK

(5)
a)

Control environment refers to overall attitude, awareness and actions of governance and
management regarding the internal control system and its importance in the entity. The
control environment has an effect on the effectiveness of the specific control procedures. A
strong control environment, for example, one with tight budgetary controls and an effective
internal audit function, can significantly complement specific control procedures. However, a
strong environment does not, by itself, ensure the effectiveness of the internal control system.
Factors reflected in the control environment include:
The function of the board of directors and its committees.
Managements philosophy and operating style.
The entitys organizational structure and methods of assigning authority and responsibility.
Managements control system including the internal audit function, personnel policies and
procedures and segregation of duties.

b) The audit programme should include in a sequential order all assets, liabilities, receipts and
expenditures ensuring that no material item is omitted.
(a) Corpus Fund: The contributions / grants received towards corpus be vouched with special
reference to the letters from the donor(s). The interest income be checked with Investment
Register and Physical Investments in hand.
(b) Reserves: Vouch transfers from projects / programmes with donors letters and board
resolutions of NGO. Also check transfer of gross value of asset sold from capital reserve
to general reserve and adjustments during the year.
(c) Ear-marked Funds: Check requirements of donors institutions, board resolution of NGO,
rules and regulations of the schemes of the ear-marked funds.
(d) Project / Agency Balances: Vouch disbursements and expenditure as per agreements with
donors for each of the balances.
(e) Loans: Vouch loans with loan agreements, receipt counter-foil issued.
(f) Fixed Assets: Vouch all acquisitions / sale or disposal of assets including depreciation and
the authorizations for the same. Also check donor's letters/agreements for the grant. In the
case of immovable property check title, etc.
(g) Investments: Check Investment Register and the investments physically ensuring that
investments are in the name of the NGO. Verify further investments and disinvestments
for approval by the appropriate authority and reference in the bank accounts for the
principal amount and interest.
(h) Cash in Hand: Physically verify the cash in hand and imprest balances, at the close of the
year and whether it tallies with the books of account.
(i) Bank Balance: Check the bank reconciliation statements and ascertain details for old
outstanding and unadjusted amounts. Verifiy the transaction with the bank statement
provided by the bank
(j) Stock in Hand: Verify stock in hand and obtain certificate from the management for the
quantities and valuation of the same. Stock should also be physically verified at a specific
period specified by the auditor
(k) Programme and Project Expenses: Verify agreement with donor/contributor(s) supporting
the particular programme or project to ascertain the conditions with respect to undertaking
the programme / project and accordingly, in the case of programmes/projects involving
contracts, ensure that income tax is deducted, deposited and returns filed and verify the
terms of the contract.
KHF

P.T.O.

(6)
(l) Establishment Expenses:
Verify that provident fund, life insurance premium,
employees insurance and their administrative charges are deducted, contributed and
deposited within the prescribed time. Also check other office and administrative expenses
such as postage, stationery, travelling, etc.

c) Auditor should obtain sufficient and appropriate audit evidences and test them before framing
an opinion about the assertions the financial statements reveal. For this, the auditor checks
evidences through
Compliance procedure/test of control and
Substantial procedure.
Compliance procedures are tests designed to obtain reasonable assurance that those internal
control on which audit reliance is to be placed are in effect. It seeks to test that
there exists internal control,
the existing internal control is effective and
the internal control is in full force / continues during the period under review.
When internal control is found to be at the acceptable level, the accounting entries generated
in such a system is more reliable than the one where the control is weak.
Mere satisfaction about the existence of internal control may not be sufficient for auditors to
express opinion about the assertions the financial data in the form of balances and
transactions. These i.e. transactions and balances need to be tested. This is done by audit
procedure called substantial checking.
Substantial procedures are designed to obtain audit evidence as to the completeness, accuracy
and validity of the data produced by the accounting system.
The substantial procedures involve
(a) Checking of transactions and balances and
(b) Analytical review. The checking of transaction and balances involves vouching of sales,
purchases, payments, receipts and scrutiny of ledgers.
The analytical procedure involves critically examining the accounts in an overall manner and
it may entail computation of ratios, trend analysis so as to dwell in length for examination of
unusual or unexplained deviations.
(3
5=15)

5. Answer the following:

a) Explain propriety audit in the context of Audit Act, 2048.
b) Explain the provisions of Custody of Client Assets as given in Code of Ethics.
What are the safeguards or measures to be taken to balance this threat?
c) How are ISA, NSA, IAASB and IFAC connected?
Answer
a)

(As per section 5 of) the Audit Act, 2048 requires that the Auditor General shall audit
following matters considering the propriety thereofI) On the propriety of any expenditure and its authorization, if in the opinion of the Auditor
General such expenditure is a reckless one or is an abuse of national property, whether
movable or immovable, despite that the expenditure confirms to the authorization, and
ii) On the propriety of all authorizations issued in respect of any grant of national property
whether movable or immovable, fixed or current, or underwriting of any revenue, or any
FHK

(7)
contract, license or permits relating to mining, forest, water resources, etc. and any other act of
abandoning movable or immovable, assets of the nation.
The Auditor General may not include in the report minor items of discrepancy and other items
deemed as insignificant in view of their property which were observed during the audit of
income and expenditure.
a) While taking custody of Client Assets following things needs to be evaluated:
Keep such assets separately from personal or firm assets;
Use such assets only for the purpose for which they are intended;
At all times be ready to account for those assets and any income, dividends, or gains
generated, to any persons entitled to such accounting;

Comply with all relevant laws and regulations relevant to the holding of and accounting for
such assets.

Make appropriate inquiries about the source of such assets and consider legal and
regulatory obligations.

Consider seeking legal advice where needed.

b) International Standards on Auditing (ISA) are professional standards for the

performance of financial audit of financial information. These standards are issued by
International Federation of Accountants (IFAC) through the International Auditing and
Assurance Standards Board (IAASB). The International Auditing and Assurance Standards
Board (IAASB) is an independent standard-setting body that serves the public interest by
setting high-quality international standards for auditing, assurance, and other related standards,
and by facilitating the convergence of international and national auditing and assurance
standards. In doing so, the IAASB enhances the quality and consistency of practice throughout
the world and strengthens public confidence in the global auditing and assurance profession.
In 2006, the Auditing Standards Board (AuSB) adopted an official position of convergence
to ISAs - aligning its agenda with that of the IAASB and using the ISAs as a base. AuSB
started redrafting Nepal Auditing Standards in line with relevant ISAs, including the Preface
and Framework. 22 out of 30 issued NSAs are already revised and are in the process of issuing
for mandatory application by members of the Institute of Chartered Accountants of Nepal.
(4
2.5=10)

6. Write short notes on the following:

a)
b)
c)
d)

Consultation in quality audit

Self-review threat
Teeming and lading
Audit of contingent liabilities

Answer
a) NSQC 1 and NSA 220 provides that the engagement partner should:

Be responsible for the engagement team undertaking appropriate consultation on

difficult or contentious/controversial matters;
Be satisfied that members of the engagement team have undertaken appropriate
consultation during the course of the engagement
Be satisfied that the nature and scope of, and conclusions resulting from, such
consultations are documented and agreed with the party consulted; and
KHF

P.T.O.

(8)

Determine that conclusions resulting from consultations have been implemented

b) It is the threat that a professional accountant will not appropriately evaluate the results of a
previous judgment made or service performed by the professional accountant, or by another
individual within the professional accountants firm or employing organization, on which the
accountant will rely when forming a judgment as part of providing a current service.
c) It is a fraud arrangement whereby amount received from a customer being misappropriated;
also to prevent its detection the money received from another customer subsequently being
credited to the account of the customer who has paid earlier. Similarly, moneys received from
the customer who has paid thereafter being credited to the account of the second customer and
such a practice is continued so that no one account is outstanding for payment for any length
of time, which may lead the management to either send out a statement of account to him or
communicate with him.
d) The auditor may take following steps to verify the contingent liabilities:
i. Inspect the minute books of the company to ascertain all contingent liabilities known to
the company.
ii. Examine the contracts entered into by the company and the likelihood of contingent
liabilities emanating there from.
iii. Scrutinize the lawyers bills to track unreported contingent liabilities.
iv. Examine bank letters in respect of bills discounted and not matured.
v. Examine bank letters to ascertain guarantees on behalf of other companies or
individuals.
vi. Discuss with various functional officers of the company about the possibility of
contingent liability existing in their respective field.
vii. Obtain a certificate from the management that all known contingent liabilities have
been included in the accounts and they have been properly disclosed.
viii. Ensure that proper disclosure has been made as per NAS 12, Provisions, Contingent
Liabilities and Contingent Assets.

(2
5=10)

7. Distinguish between
a) Internal Audit and Statutory Audit
b) Vouching and Verification
Answer
a)
Audit & Statutory Audit:

1. Internal audit is the arrangement within the organization to verify on continuous basis the
correctness and truthfulness of the transactions by the salaried staff/outsourced.
Statutory audit is the examination of the books of accounts of the business by an external
auditor and to report that the profit and loss account and balance sheet are
drawn according
to provisions of law and the financial statements reveal the true and fair view of the results of
operations and financial state of affairs of the business.
2. Internal audit is not compulsory.
Statutory audit is compulsory as per applicable law.
3. Internal audit is carried out by the person appointed by the business enterprises. It is not
necessary that the internal auditor should possess the qualification prescribed for professional
auditor.
FHK

(9)
Statutory audit can be carried out only by those who are qualified for appointment as per the
provision of the Companies Act and other Acts.
4. Internal auditor is answerable to the management. His duties, responsibilities etc. regarding
audit work are determined by the management. The management can increase the powers and
authority of the internal auditor. Similarly it can also curtail his powers.
The rights, duties, responsibilities and liabilities of statutory auditors are governed by the
provisions of law. The auditor is independent of management.
5. The internal auditor points out irregularities in the procedural aspects and suggests ways and
means to rectify the same. He assures that the financial operations and other types of control in
force are carried out in conformity with the accounting systems.
The statutory auditor is concerned with the legality and validity of the transactions of business.
His audit work is based on the financial statement prepared by the business.
b)

Vouching & Verification:

1.

2.

3.
4.
5.

Meaning : The act of examining the vouchers is known as vouching. A voucher is

any
documentary evidence in support of a transaction entered in the books of
account.
Verification and be explained as establishing the truth or securing some kind of
confirmation with respect to the assets and liabilities appearing in the balance Sheet of a
concern.
Nature & Purpose : Vouching involves establishing the arithmetical accuracy and the
authenticity of the transactions of a concern. Vouching proves that an asset ought to exist.
Verification goes beyond vouching. It seeks to establish that assets as stated in the
Balance Sheet of a concern exist in fact and that the liabilities are properly disclosed.
Verification proves that an asset does exist.
Time: Vouching is done during the whole year verification is done on specific date mostly
at the end of the year.
Utility : Vouching Certifies correctness of records whereas Verification Certifies
correctness of assets and liabilities.
Personnel : Vouching is done by the junior staff of the auditor under the supervision of a
senior person. verification is done by the auditor himself assisted by senior.

KHF

P.T.O.