Txtdqqq6du1f-P7 June17 MockExamAnswers PDF

Mock One
Advanced Audit and
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Assurance
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(International)
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P7AAA-MK1-Z16-A
Answers & Marking Scheme

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©2016 DeVry/Becker Educational Development Corp.
®
1 PAVIA CO
Tutorial note: Note the timeframe. Financial statements for the year to 30 September 2016
are draft. Certain misstatements may therefore exist due to year-end procedures not yet
having taken place.
Pavia Co Year end 30 September 2016
Briefing notes for planning meeting – Financial statement risks
Prepared by You Manager
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These briefing notes have been prepared on the basis of a series of meetings between Albret
Plage (lead partner) and Paris Mercedes, Financial Director of Pavia. The meeting notes are
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detailed in Appendix 1.
Areas considered in these notes are the financial statement risks for the year ended 30
September 2016, the detailed use of analytical review and audit work to be carried out on
development expenditure on the Fox model, the consignment inventory and the warranty
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provision.
Note: All % and other calculations (1 to 20) made in this section are tabulated at the end of
this section.
(a) Audit risks

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Revenue
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Total revenue1 has increased by 6.4%. Revenue on vehicle sales2 has increased by 11.8%.
This revenue may be overstated through incorrect accounting treatment/cutoff of consignment
sales (e.g. if consignment sales to dealers before the year end have been included in 2016
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revenue but are unsold at the year end).
Tutorial note: Revenue could be understated if consignment sales to dealers before the year
end have been excluded from 2016 revenue but are sold at the year end.
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The overall figure includes other revenue3, $17.9 million, which has fallen by 59% and may
be understated. For example, because the 2016 financial statements are only draft and year-
end procedures may still identify sources of other revenue to be accounted for.
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Tutorial note: An alternative analysis might be to note that other revenue from business
activities has fallen to account for only 2.8% of draft revenue (prior year – 7.2%).
Revenue may be overstated in respect of sales under 0% finance arrangements entered into
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during the year. Revenue recognised from these vehicle sales should be the discounted
amount of the receivable in three years’ time. The difference, that is finance income, should
be recognised as a different source of revenue (if material) over three years.
Other income
Other income4 has increased by 8.3% and may be overstated as it includes “income from the
reversal of provision”. A reversal of a provision is not income but a reduction in expense
previously recognised. Any reversals should be reflected by a reduction in the line item(s)
where the related cost was previously recognised.
©2016 DeVry/Becker Educational Development Corp. All rights reserved. 2
Cost of materials/Change in inventories
Cost of materials5 is the largest expense in the income statement. This cost (as adjusted for
change in inventories) is steady at 51% of revenue (prior year – 50%) so if revenue is found to
be understated this cost may be understated also (e.g. if year-end inventory is overstated due
to insufficient allowance being made for slow-moving/damaged parts).
Tutorial note: Note that although cost of materials has increased by 16.5% ([334.1-
286.8]/286.8), cost of materials used (i.e. as adjusted for change in inventories) has increased
by only 9% ([334.1 – (16.4 + 3.8) – 286.8] ÷ 286.8). That is, approximately half of the
increase is reflected in the replenishment of inventory levels (that fell in the prior period).
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Depreciation/amortisation
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Depreciation may be misstated in respect of assets under construction. For example,
depreciation will be overstated if it is charged for a period before which the asset was ready
for use or if it reclassified to the wrong category of asset with a higher depreciation rate.
Employee benefits expense
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Employee benefits6 expense may be overstated as it has increased by 8.5% although the
average number of employees7 have fallen (by just 1%). This may be due to changes in year-
end provisions (e.g. for holiday pay accruals) that have not yet been taken account of, or the
misclassification of other expenses as employee benefits expense.
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Other expenses
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Other expenses8 have increased by 15.6% and may be overstated if, for example:
 the warranty provision made at 30 September 2016 is overstated;

 period-end adjustments for pre-paid expenditures have still to be made.
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Interest income, net
The net amount11 has fallen by 41.1%. This compounds the effects of interest income9 having
fallen by 33% and interest expense10 having increased by 7.1%. Interest income may be
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understated as cash and cash equivalents12 have increased by 29.5%. This may be because
some interest income accruing during the year to 30 September 2016 has still to be accounted
for.
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Intangible assets
Intangible assets13 have increased by 18%. Development costs included in intangible assets
will be overstated if:
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 any of the IAS 38 Intangible Assets recognition criteria cannot be demonstrated in

respect of the $12.7 million costs incurred during the year;
 any impairment in the year has not yet been written off in accordance with IAS 36
Impairment of Assets.
 In particular, $19.0 million (12.7 + 6.3) development expenditure on the Fox may
be impaired as the launch of the new model has been postponed to next year and
additional costs may have still to be incurred to correct the problems that arose
during trials.
Property plant and equipment
Tangible assets14 have increased by 21.5% and will be overstated if, for example:
 revenue expenditure is inappropriately capitalised (e.g. in assets under construction);

 disposals have not yet been accounted for (e.g. on any assets traded-in during the year);
 any depreciation for the year to 30 September 2016 has still to be accounted for
(e.g. for the month of September).
Inventories
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Inventories may be misstated as a full physical count to ascertain year-end quantities has still
to be undertaken. Inventories15 have increased by 8.6% and may be overstated if there is
insufficient allowance for slow-moving raw materials.
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Trade receivables
Trade receivables16 have increased by 45.3% and may be overstated if:
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 the allowance for non-recoverable debts at the end year has still to be assessed;
 0% finance sales have been recorded at a gross instead of discounted amount.
Tutorial note: The discounted amount recorded during the year should then be “unwound”
to amortised cost at the end of the reporting period.
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Provisions
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Provisions17 have increased by 31.9% and will be overstated if items that do not represent
liabilities at 30 September 2016 are included. Provision should not be made for future costs
of deferred maintenance unless it represents a liability under an onerous contract (e.g. if Pavia
took out non-cancellable maintenance contracts on assets that are no longer used).
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Similarly, provision cannot be made for a future IT reorganisation as it is highly unlikely to

meet the definition of a restructuring (IAS 37 Provisions, Contingent Liabilities and
Contingent Assets).
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Trade payables
Trade payables18 have increased by only 5.3% and may be understated (as costs have
generally increased by more than this) if year-end accruals have still to be accounted for.
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Going concern
There does not appear to be any major threat to going concern, for example, substantial cash
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balances have increased. However, unpredictable supplies of parts for the assembly of Cipeta
models could have consequences for assembly schedules generally and then for delivery of
vehicles to dealers and customers, with potential loss of sales.
Profit19 has fallen substantially, by 25.6% although revenue20 increased by 6.4%. There is a
risk that overall revenue/income is understated and/or expenses overstated.
Appendix of calculations for analysis of financial statement risk
1 (645.4 –606.5)
Total revenue has increased by 6.4% /606.5
2 (588 – 526)
Revenue on vehicle sales has increased by 11.8% /526
3 (17.9 – 43.7)
Other revenue has fallen by 59% /43.7
4 (15.6 – 14.4)
Other income has increased by 8.3% /14.4
5 334.1
Cost of materials steady at 51% of revenue /645.5
6 (91.0 – 83.9)
Employee benefit expense increased by 8.5% /83.9
7 (1003 – 1013)
Average number of employees fallen by 1% /1013
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8 (116.3 – 100.6)
Other expenses increased by 15.6% /100.6
9 (16.8 – 25.1)
Interest income fallen by 33% /25.1
10 (4.5 – 4.2)
Interest expense increased by 7.1% /4.2
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11 (12.3 – 20.9)
Net interest income fallen by 41.1% /20.9
12 (111.4-86.0)
Cash and cash equivalent increased by 29.5% /86
13 (47.8 – 40.5)
Intangible assets increased by 18% /40.5
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14 (124.5 – 102.5)
Tangible assets increased by 21.5% /102.5
15 (30.3 – 27.9)
Inventories have increased by 8.6% /27.9
16 (73.1 – 50.3)
Trade receivables have increased by 45.3% /50.3
17 (160.1 – 121.4)
Provisions have increased by 31.9% /121.4
18 (33.5 – 31.8)
Trade payables have increased by 5.3% /31.8
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Profit has fallen by 25.6%
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/82.8
20 (645.5 – 606.5)
Revenue has increased by 6.4% /606.5
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(b) Illustration of use of analytical procedures as audit evidence

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Tutorial note: Note that “as audit evidence” requires consideration of substantive
analytical procedures rather that the identification of risks (relevant to part (a)).
Revenue
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Analytical procedures may be used in testing revenue for completeness of recording

(“understatement”). The average selling price of a vehicle last year was $68,830 ($526m ÷
7,642 vehicles). Applying this to the number of vehicles sold in the current year, might be
projected to generate $698.8 million ($68,830 × 10,153) revenue from the sale of vehicles.
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The draft financial statements therefore show a potential shortfall of $110.8 million (698.8 –
588) that is, 15.6%.
This should be investigated and substantiated through more detailed analytical procedures.
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For example, the number of vehicles sold should be analysed into models and multiplied by
the list price of each for a more accurate estimate of potential revenue. The impact of
discounts and other incentives (e.g. 0% finance) on the list prices should then be allowed for.
If recorded revenue for 2016 (as per draft income statement adjusted for cutoff and
consignment inventories) is materially lower than that calculated, detailed substantive
procedures may be required in order to show that there is no material error.
“Proof in total”/reasonable tests
The material correctness, or otherwise, of income statement items (in particular) may be
assessed through appropriate “proof in total” calculations (or “reasonableness” tests). For
example:
 Employee benefits costs: the average number of employees by category
(waged/salaried/apprenticed) × the average pay rate for each might prove that in
total $91 million (as adjusted to actual at 30 September 2016) is not materially
misstated. The average number of employees needs to be checked substantively
(e.g. recalculated based on the number of employees on each payroll) and the
average pay rates (e.g. to rates agreed with employee representatives).
Tutorial note: An alternative reasonableness might be to take last year’s actual

adjusted for 2016 numbers of employees grossed-up for any pay increases during
the year (pro-rated as necessary).
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 Depreciation: the cost (or carrying amount) of each category of asset × by the
relevant straight-line (or reducing balance) depreciation rate. If a “ballpark”
calculation for the year is materially different to the annual charge a more detailed
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calculation can be made using monthly depreciation calculations. The cost (or
carrying amount) on which depreciation in calculated should be substantively
tested, for example by agreeing brought forward balances to prior year working
papers and additions to purchase invoices (costings in respect of assets under
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construction).
Tutorial note: Alternatively, last year’s depreciation charge may be reconciled to

this year’s by considering depreciation rates applied to brought forward balances
with adjustments for additions/disposals. y
 Interest income: an average interest rate for the year can be applied to the monthly
balance invested (e.g. in deposit accounts) and compared with the amount
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recognised for the year to 30 September 2016 (as adjusted for any accrued interest
per the bank letter for audit purposes). The monthly balances (or averages) on
which the calculation is performed should be substantiated to bank deposit
statements.
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 Interest expense: if the cash balances do not go into overdraft then this may be
similar expenses (e.g. prompt payment discounts to customers). If this is to
particular dealers then a proof in total might be to apply the discount rate to the
amounts invoiced to the dealer during the period.
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Immaterial items
For immaterial items analytical procedures alone may provide sufficient audit evidence that
amounts in the financial statements are not materially misstated so that detailed substantive
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procedures are not required. For example, a comparison of administration and distribution,
maintenance and insurance costs for 2016 compared with 2015 may be sufficient to show that
material error is highly unlikely. If necessary, further reasonableness tests could be
performed. For example, considering insurance costs to value of assets insured or
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maintenance costs to costs of assets maintained.
Ratio analysis
Ratio analysis can provide substantive evidence that items in the income statement and
statement of financial position are not materially misstated by considering their inter-
relationships. For example:
 Asset turnover: Based on the draft financial statements property, plant and
equipment has turned over 5.2 times (645.5 ÷ 12.5) compared with 5.9 times in the
prior year. This again highlights that income may be overstated, or assets
overstated (e.g. if depreciation is understated).
 Inventory turnover: Using cost of materials adjusted for changes in inventories this
has remained stable at 10.9 times.
Tutorial note: This is to be expected as in (a) the cost in the income statement has
increased by 9% and the value of inventories by 8.5%.
Inventories represent the smallest asset value on the statement of financial position
at 30 September 2016 being 7.8% of total assets (30.3 ÷ 387.1). Therefore
substantive procedures may be limited to agreeing physical count of material items
(vehicles) and agreeing cutoff.
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 Average collection period (73.1 ÷ 645.5 × 365 days): This has increased to 41 days
from 30 days. Further substantive analysis is required, for example, separating out
non-current amounts (for sales on 0% finance terms). Substantive procedures may
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be limited to confirmation of amounts due from dealers (and/or receipt of after-date
cash) and agreeing cutoff of goods on consignment.
 Payment periods (33.5 ÷ 330.3 × 365 days): This has remained constant at 37 days
(prior year – 38 days). Detailed substantive procedures may be restricted to
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reconciling only major suppliers’ statements and agreeing the cutoff on parts
purchased from them.
(c) Principal audit work y

(i) Development expenditure on the Fox model
Agree opening balance, $6.3 million, to prior year working papers.

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 Physically inspect assembly plant/factory where the Fox is being developed and any
vehicles so far manufactured (e.g. for testing).
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 Substantiate costs incurred during the year, for example:
 goods (e.g. components) and services (e.g. consultants) to purchase invoices;
 labour (e.g. design engineers/technicians, mechanics, test drivers) to the payroll

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analysis;
 overheads (e.g. depreciation of development buildings and equipment,

power, consumables) to management’s calculation of overhead absorption
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and underlying cost accounts.
 Review of internal trials/test drive results (e.g. in reports to management and video
recordings of events).
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 Reperform management’s impairment test of development expenditure. In

particular recalculate value in use.
Tutorial note: It is highly unlikely that a reasonable estimate of fair value less
costs to sell could be made for so unique an asset.
 Substantiate the key assumptions made by management in calculating value in use.
For example:
 the level of sales expected when the car is launched to advance orders
(this may have fallen with the delay in the launch);
 the discount rate used to Pavia’s cost of capital;
 projected growth in sales to actual sales growth seen last time a new
model was launched.
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(ii) Consignment inventory
 Agree terms of sale to dealers to confirm the “principal – agent” relationship
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between Pavia and dealers.
 Inspect proforma invoices, return documentation and sales confirmations (agree to

cash received) for vehicles sent on consignment to dealers to confirm number of
vehicles with dealers at the year end.
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 Reconcile opening consignment inventory through vehicles delivered on
consignment, sold or returned to closing consignment inventory.
 Obtain direct confirmation from dealers of vehicles unsold at the year end.

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Physically inspect vehicles sold on consignment before the year end that are
returned unsold by dealers after the year end (if any) for evidence of impairment.
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 Perform cutoff tests on sales to dealers/trade receivables/vehicle inventory.
(iii) Warranty provision

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 Agree the principal assumptions in management’s estimate of liabilities under

warranties to the terms of warranty as set out in contracts for sale of vehicle. For
example:
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 the period for which warranties are given;

 whether for parts replacement only or parts and labour;
 exclusion clauses, perhaps for vehicles sold into a particular market, or
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used in a specified industry (e.g. film-making).
 Agree the reasonableness of management’s assumptions in the calculation of the

provision. For example, the proportion of vehicles for which claims are made
within three months, three to six months, six to nine months, etc.
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 Substantiate the economic reality of the basis of management’s calculations. For

example:
 agree the number of vehicles sold each month to a summary sales report;
 agree the calculation of average cost of a repair under warranty to job

records;
 test costs of repair on a sample basis (e.g. parts replaced to price lists and
labour charges to hours worked (per job records) and charge-out rates).
 Consider the reasonableness of management’s estimate by comparing:
 the actual cost of after-date repairs (say for three months) against the
appropriate proportion of the provision made;
 current year provision per vehicle sold against prior provision per vehicle
sold.
 Assess management’s ability to make reliable estimates in this area by comparing

last year’s provision with the actual repairs under warranty costs incurred during the
year in respect of sales made in previous years.
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Tutorial note: The basis of management’s estimate may tend to overstate or
understate the provision required and should be revised accordingly.
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 Agree the extent to which the provision takes account of (has been reduced by) any
recourse to suppliers (e.g. in respect of faulty parts). For example:
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by reviewing terms of purchases from major suppliers;
 by examining records of replacement parts received free of charge.
APPENDIX 1
Tutorial note: The answer refers to an Appendix 1 containing the notes made by Albret
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Plage. In the report these would go here. Clearly it is not necessary to rewrite them here
only to indicate to the marker (for professional marks) that they would go here.
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2 RBG
(a) Briefing notes for SAP

Retail and Business Group
Tender for internal audit services
Prepared by: M E
(i) Potential advantages and disadvantages to RBG of outsourcing internal audit
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Tutorial note: Remember that you are NOT the current auditors. So discussion of the
ethical considerations of being both the external and internal auditor will not be awarded
marks. Also remember that the requirement is from RBG’s perspective and not York & Co’s.
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Advantages
 Affordability as there should be a cost benefit (budget savings) of replacing fixed
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cost full-time employees with a variable cost service.
 Further, if reliance on internal audit by the external auditors is substantially

increased, the external audit fee may be reduced.
 Even if there are some changes in staff in the audit firm providing the internal audit
services, there should be greater continuity than currently (as RBG has high
employee turnover in this department).
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 A wider range of industry-related expertise might be available to RBG from
contracted-in auditors that would be too expensive to maintain internally. This may
be particularly beneficial for ad hoc needs such as due diligence reviews for
acquisitions or business continuity plans in the event of fire or flood.
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 Experienced internal auditors will be available as and when needed (as typically the
audit firm’s staff will be experienced) whereas RBG is currently losing its
experienced employees to other departments. Outsourcing also offers flexibility to
provide more staff at busy times.
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 Outsourcing to an audit firm can provide geographic coverage and more advanced
technology.
Independent evaluation (e.g. of organisational risk) by the audit firm may provide
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
new ideas for improvements (e.g. enhancing risk management).
 Better recommendations for improvements as the audit firm can suggest practical,
tried and tested solutions and not just theoretical ones.
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 Greater assistance to management in the evaluation of the performance of the

external auditors (because the outsourced internal audit firm should be more
experienced to make this assessment).
 Earlier assessment of the impact of changes in financial reporting requirements

(because the outsourced internal audit firm should be technically up-to-date).
 Better utilisation of core competencies, for example, management will have more
time to focus on strategic objectives.
 The audit firm may provide a customer-focussed service that could be lacking in an
in-house department.
Disadvantages
 Over time the audit firm may command a greater premium for internal audit
services as RBG becomes dependent on the audit firm’s knowledge of the group
(i.e. cost savings may be only short term).
 An out-sourced department may not be as effective as an in-house department if, for

example, the audit firm’s staff assigned to RBG are changed regularly.
 The audit firm’s staff may not understand RBG’s business as well as employed staff
if, for example, they work only part-time on the RBG assignment. Employed staff
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are more likely to have a broader perspective of the group from having worked in
other parts of it.
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 The internal audit staff’s principle allegiance will be to the audit firm, not RBG. If
the services provided by the audit firm are not seen to be an integral part of
management, the company may not buy-in to their suggestions.
 If the audit firm plans to schedule internal audit services to RBG in its “quiet
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periods”, they may not always be available when needed.
 RBG will lose a valuable management training ground that provides a source of
future managers. The internal audit department’s current loss of high performing
employees to other departments is a gain to the other departments.
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(ii) Principal matters to be included in submission to provide internal audit services
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 Introduction/background – details about York including its organisation (of
functions), offices (locations) and number of internal auditors working in each
office. The office that would be responsible for managing the contract should be
stated.
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 A description of York’s services most relevant to RBG’s needs (e.g. in the areas of
risk management, IT audits, value for money (VFM) and corporate governance).
 Client-specific issues identified. For example, revenue audits will be required

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routinely for control purposes and to substantiate the contingent rents due. Other
areas of expertise that RBG may be interested in taking advantage of, for example,
special projects such as acquisitions and mergers.
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 York’s approach to assessing audit needs including the key stages and who will be
involved. For example:
(1) Preliminary – review of business, industry and the entity’s operating

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characteristics
(2) Planning – including needs analysis and co-ordination with external audit plan
(3) Post-Audit – assurance that activities were effectively and efficiently executed
(4) Review – of services provided, reports issued and management’s responses.
 A description of internal audit tools used and methodologies/approach to audit

fieldwork including use of embedded audit software and programs developed by
York.
 A description of York’s systems-based audit, the IT issues to be addressed and the
technological support that can be provided.
 Any training that will be offered to RBG’s managers and staff, for example, in a
risk management approach.
 A description and quantity of resources, in particular the number of full-time staff,

to be deployed in providing services to RBG. An outline of RBG’s track record in
human resource retention and development.
 Relevant experience (e.g. in internal and external audit in the retail industry). The
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relative qualifications and skills of each grade of audit staff and the contract
manager in particular.
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 Insurance certifications covering, for example, public liability and professional
indemnity insurance.
 Work ethic policies relating to health and safety, equal opportunities’ and race
relations.
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 How York ensures quality throughout the internal audit process including standards
to be followed (e.g. Institute of Internal Auditors’ standards).
 Sample report templates (e.g. for reporting the results of risk analysis, audit plans
and quarterly reporting of findings to the Audit and Risk Management Committee).
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 Current clients to whom internal audit services are provided from whom RBG will
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be able to take up references, by arrangement, if York is short-listed.
 Any work currently carried out/competed for that could cause a conflict of interest
(and the measures to avoid such conflicts).
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 Fees (daily rates) for each grade of staff and travel and other expenses to be
reimbursed. An indication of price increases, if any, over the three-year contract
period. Invoicing terms (e.g. on presentation of reports) and payment terms (e.g. the
end of the month following receipt of the invoice).
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 Performance targets to be met such as deadlines for completing work and

submitting and issuing reports.
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(iii) Impact on the audit of the financial statements
Tutorial note: The answer to this part should reflect that it is not the external auditor who is
providing the internal audit services. Thus comments regarding objectivity impairment are
not relevant.
 The appointment will include an evaluation of organisational risk. The results of

this will provide Grey with evidence, for example:
 supporting the appropriateness of the going concern assumption;

 of indicators of obsolescence of goods or impairment of other assets.
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 As the quality of internal audit services should be higher than previously, providing
a stronger control environment, the extent to which Grey rely on internal audit work
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could be increased. This would increase the efficiency of the external audit of the
financial statements as the need for substantive procedures should be reduced.
 However, if internal audit services are performed on a part-time basis (e.g. fitting
into the provider’s less busy months) Grey must evaluate the impact of this on the
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prevention, detection and control of fraud and error.
 The internal auditors will provide a body of expertise within RBG with whom Grey
can consult on contentious matters.
(b) “Lowballing”
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Tutorial note: The answer which follows is indicative of the range of points which might be
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made. Other relevant material will be given suitable credit.
Explanation of term
“Lowballing” is the “loss-leading” practice in which auditors compete for clients by reducing
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their fees for statutory audits. Lower audit fees are then compensated by the auditor carrying
out more lucrative non-audit work (e.g. consultancy and tax advice). Audits may even be
offered for free.
Such “predatory pricing” may undercut an incumbent auditor to secure an appointment into
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which higher price consultancy services may be sold.
Ethical risks
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There is a risk of incompetence if the non-audit work does not materialise and the lowballing
firm comes under pressure to cut corners or resort to irregular practices (e.g. the falsification
of audit working papers) in order to “keep within budget”. However, a lack of audit quality
may only be discovered if the situation arises that the company collapses and the auditors are
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charged with negligence.

If, rather than compromise the quality of the audit, an audit firm substantially increases audit
fees, a fee dispute could arise. In this case the client might refuse to pay the higher fee. It
could be difficult then for the firm to take the matter to arbitration if the client was misled.
Thus an intimidation threat may arise.
Financial dependence is a direct incentive that threatens independence. A self-interest threat
therefore arises when, having secured the audit, the audit firm needs the client to retain its
services in order to recoup any losses initially incurred.
The provision of many other services gives rise to a self-review threat (as well as a self-
interest threat).
Sufficiency of current ethical guidance
In current ethical guidance, the fact that an accountancy firm quotes a lower fee than other
tendering firms is not improper, providing that the prospective client is not misled about:
 the precise range of services that the quoted fee is intended to cover; and
 the likely level of fees for any other work undertaken.
This is clearly insufficient to prevent the practice of lowballing.
Legal prohibitions on the provision of many non-audit services (e.g. bookkeeping, financial
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information systems design and implementation, valuation services, actuarial services,
internal audit (outsourced), human resource services for executive positions, investment and
legal services) should make lowballing a riskier pricing strategy. This may curb the tendency
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to lowball.
Lowballing could be eliminated if, for example, auditors were required to act “exclusively as
auditors”. Although regulatory environments (e.g. USA and Europe) have moved towards
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this for public interest entities there is not yet a total prohibition on non-audit services across
the board and across jurisdictions.
3 TYREX
(a) “Quality controls”

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Definition: “The policies and procedures adopted by a firm designed to provide it with
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reasonable assurance that the firm and its personnel comply with professional standards and
regulatory and legal requirements, and that reports issued by the firm or engagement partners
are appropriate in the circumstances.”
The firm’s system of quality control should include policies and procedures addressing each
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of the following elements:
(a) Leadership responsibilities for quality in the firm

(b) Ethical requirements
(c) Acceptance and continuance of client relationships and specific engagements
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(d) Human resources

(e) Engagement performance
(f) Monitoring.
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(b) (i) Responses to issues
Tutorial note: The letter itself is not called for; only its content. “You” is therefore Graham
Phillips. By asking for the responses that you would make in such a letter the examiner is not
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only requiring you to apply your technical auditing skills to provide a relevant answer, but
also for you to demonstrate the higher skills of professionalism, tact and diplomacy in
“defending” the conduct of the audit and appeasing the client.
(1) & (2) The audit team
The senior-in-charge of an audit is a trained and proficient member of staff with the
experience necessary to complete the audit expeditiously. The fact that Stephen was also new
to Tyrex meant that he was a new “set of eyes” with new perspectives and objectivity in his
approach. Even if the same senior had been allocated to the audit as last year you would still
have been asked to respond to enquiries, for example, looking at matters from a different
angle or regarding changes implemented during the year.
To control the conduct of an audit requires that staff understand the objectives of the
procedures they undertake. If staff members, of any level, are unclear as to their
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responsibilities their tasks may not be performed efficiently. Control was properly effected
by Stephen in directing and supervising the audit assistants’ work. Lack of supervision may
have otherwise resulted in tests needing to be reperformed (e.g. if they were inadequately
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documented).
It is appropriate for a senior to give guidance as to how audit working papers should be laid
out as this will facilitate their subsequent review, to confirm that work has been performed to
an acceptable standard. The review process would require an unnecessary utilisation of senior
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time if working papers were, for example, incomplete or unclear.
(3) Adjustments to draft management accounts
The audit work commenced, in accordance with the timetable agreed with you, before draft
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accounts were finalised. This did not affect the scope and timing of verification work
performed on all audit areas (e.g. tests on sales and trade receivables proceeded as planned).
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The adjustments to the draft management accounts (which form the basis of the financial
statements) have to be verified as we are required to report an opinion on the financial
statements.
It was not the fact that there were amendments which took the time to verify, but the cause of
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the amendments. In particular, that no account had been taken of goods received but not
invoiced was due to control weaknesses as your systems should have easily identified these
outstanding invoices through:
– routine preparation of monthly suppliers’ statement reconciliations; and

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– procedures to establish of a correct purchases/cash/payables cutoff.
The verification of subsequent amendments involved extending substantive procedures in

these areas in which we would normally seek to reduce the level of year end testing through
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reliance on your internal controls.
(4) Audit work on inventory allowances and write-downs

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As you are aware, the company operates in a technological industry and the risk of inventory
allowances being materially understated (e.g. in respect of obsolescence) is high. The
adequacy of inventory allowances and write-downs is one area in which a considerable
amount of audit judgement is required.
It is necessary for the audit team to obtain sufficient, relevant and reliable audit evidence from
which the audit opinion is to be drawn. In areas where subjective management judgement has
been exercised to support the audit evidence obtained, written representations from
management are sought by auditors on such subjective judgements. It would be insufficient to
rely solely on a written representation from management which provides just one source, the
only source, of evidence. It would also be inappropriate to expect you to provide an
unsupported representation.
In this case, a written representation was not considered necessary as sufficient, relevant and
reliable evidence had been obtained from audit tests and other sources (including after date
sales and analytical procedures) to form an opinion on the adequacy of the amounts. Just
because our work did not identify any issues does not mean that such work was not necessary.
(5) Audit fee
As you are aware the level of audit work undertaken for the current year has increased beyond
your expectations. This was mainly due to the audit firm being unable to rely on control
systems at the company in particular areas, necessitating an increase in the level of
substantive procedures required.
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It is unlikely that any significant reduction in fees can be achieved as our assessment of
inherent risk (of errors arising) is high. Therefore, to ensure that there is a reasonable
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expectation of detecting material errors, our level of testing must be relatively high. Factors
which contribute to high risk include the high-tech nature of the industry in which the
company operates and the decentralisation of its activities.
However, the increase in fees necessitated by additional work (e.g. resulting from the higher
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than usual control risk) may be prevented in future if appropriate steps are taken.
(ii) Steps to be taken
You will be receiving, in due course, our management letter in respect of the current year’s
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audit. This will set out the areas in which control risk has been increased and make
recommendations for improvements. In particular, monthly suppliers’ statement
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reconciliations must be undertaken and reviewed in respect of all major suppliers. We will
confirm the action taken to implement our recommendations during our next interim visit.
In addition to implementing controls in areas noted, Nick Jones may contribute to a stronger
control environment. For example, the monthly management accounts facilitate budgetary
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control. If our assessment of controls in future years is that they are strong, we may, through
greater reliance on tests of controls, be able to reduce the level of detailed substantive
procedures and so keep audit costs down.
As the management accounts provide the basis of the financial statements it is preferable if
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they have been compiled in respect of all fifteen locations before the final audit commences.
The audit timetable will be finalised at our pre-final planning meeting with Nick Jones.
To reduce the audit time necessary to substantiate the inventory allowances some working
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papers could be prepared by Nick Jones and his staff. These could include, for example,
summaries and details of inventory identified at the physical count as slow-moving, faulty,
obsolete, etc, and schedules of inventory items against which allowances have previously
been made (with current and prior quantities).
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4 RHONDO GROUP
(a) Consignment
(i) Additional information required
 The value of the consignment to assess its materiality, in a group context.
 Whether this consignment was for a particular sale as both the sale and the customer
may be lost. If so, the materiality of the customer in terms of potential lost sales in
the future should be assessed. Loss of a major customer may have a bearing on the
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going concern assumption (about which there are already concerns).
 The reason for the detention by customs officials. If this is a regular occurrence, or
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is likely to become so, there may be implications for the viability of trading in the
country concerned. Also, this knowledge would assist in assessing the chances of
recovering the inventory.
 Insurance arrangements and whether any recovery is possible.
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Tutorial note: If the equipment was purchased FOB (free on board) insurance is the
responsibility of the subsidiary. If purchased CIF (carriage, insurance and freight) the
supplier should have insured the goods. The former may be suggested by the fact that the
goods have been paid for.
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 Whether the validity of the purchase has been confirmed, for example, by reference
to:
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 an authorised purchase order;
 supporting supplier’s invoice and statement;
 payment by banker’s draft/bill of exchange;
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 any invoice for carriage etc
(ii) Possible consequences for group financial statements
 This item will only have an impact on the group financial statements if it is material
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to the group inventory figure.
 If it is considered material it may be necessary to make an allowance for it or write

it off in the consolidated accounts.
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Possible consequence for the auditor’s report thereon
 If this item is immaterial to the group accounts it will have no impact on the
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auditor’s report.
 If the item is adjusted for (e.g. written off) in the consolidated accounts there will be
no effect on the auditor’s report.
 Assuming it is material and remains in the accounts at cost then either:
 there will be uncertainty as to the existence of the inventory and the

opinion on the group accounts should be modified “except for any
adjustments that might have been found to be necessary . . .”, on the
grounds of insufficient audit evidence; or
 there will be disagreement with the decision not to provide for or write off
the item (material misstatement in the financial statements) and an “except
for (the absence of this provision/failure to write off) . . .” modification
will be appropriate.
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(b) Going concern problems
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 Cash flow forecasts and budgets to establish how long the company will be able to
continue if no further action is taken.
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 Details of the attempts the company is making to obtain finance to alleviate its
problems. The holding company may be considering giving financial assistance.
 Whether the local bank has been approached/has provided/has refused financial
assistance. The latter could indicate that the bank does not believe the restrictions
to be short-term.
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 Whether selling prices are being increased to recoup the increasing cost of sales.
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Whether customers are paying increased prices.
 Whether the currency is continuing to decline as it is possible that the exchange controls
could be tightened. Whether the company has plans to cope with this eventuality.
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 Whether the currency has begun to stabilise and if the restrictions are likely to be lifted.

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 The imposition of temporary exchange control restrictions is a non-adjusting event

after the reporting period. However, if it indicates that the application of the going
concern concept to the African subsidiary is inapplicable, it should be adjusted for
in the group accounts (in accordance with IAS 10 Events after the Reporting
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Period) if it is material to the group.
This would involve writing down the subsidiary’s assets to their realisable value,
providing for all additional liabilities which might arise, and possibly reclassifying
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assets and liabilities.
 It is unlikely that the going concern of the whole group is likely to be affected by
this matter. However, the matter should be disclosed in the notes to the financial
statements (and directors’ report).
Possible consequences for the auditor’s report thereon
 It is unlikely that the going concern problems of the subsidiary give rise to doubts
about the applicability of the going concern concept for the group and no
modification (i.e. the inclusion of a going concern section) would be expected to
arise on these grounds.
 The uncertainty regarding the applicability of the going concern concept and its
consequent effect on asset values, etc, may be regarded as material to the group
accounts. In this case it should be adequately disclosed in the financial statements
(IAS 1 Presentation of Financial Statements). The auditor’s report should include a
going concern section (following the basis of opinion section and before the key
audit matters section) referring to the going concern problem.
If disclosure in the financial statements is inadequate (regarding the going concern

problem), the audit opinion will be modified “except for” the absence of appropriate
disclosure. In this case, no going concern section would be necessary as the basis
for modified opinion would explain the impact of the lack of appropriate disclosure.
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(c) Modifications
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 Form of audit opinion to confirm whether they are due to inability to obtain audit
evidence or that the auditors have identified material misstatements and just
material or pervasive.
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 If either aspect of the modification is because material misstatements exist (e.g.
“except for the failure to/absence of . . .”) this implies:
 a sufficiency of evidence to provide a basis for disagreement;


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quantification of amounts involved.
Further information should therefore be forthcoming.

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 If there is an “except for” arising from insufficiency of evidence (e.g. regarding the
consignment) the reason for the insufficiency should be explained in the basis of
qualified opinion paragraph.
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 If the matters are identified misstatements, modification on the group accounts can
be avoided by adjustment(s) being made on consolidation (e.g. to provide in full
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against any uninsured loss on the equipment held by customs).
 The directors might choose not to make adjustments in the group financial
statements if the related matters are not material to the group as a whole.
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Possible consequences for the auditor’s report thereon
 Modification of the subsidiary’s auditor’s report does not necessarily mean

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modification for the auditor’s report of Rhondo if, for example, the matters are:
 not material to the group;
 resolved from a group perspective (e.g. by adjustment on consolidation).
 If Rhondo’s auditor’s report is modified in respect of these matters, it should be in a

consistent form (e.g. “except for any adjustments . . .” in both the subsidiary’s and
Rhondo’s auditor’s report). If however the subsidiary’s modification was of a
pervasive nature (e.g. disclaimer), such an extreme form would be unlikely when
assessed from the group’s perspective. This is because the problem is restricted to
one subsidiary of five, and is therefore not pervasive to the group financial
statements.
5 JINACK CO
(a) Auditor’s responsibilities for subsequent events
 Auditors must consider the effect of subsequent events on:
 the financial statements;

 the auditor’s report.
 Subsequent events are all events occurring after the end of the reporting period.
This covers events after the year end date (as defined in IAS 10) as well as events
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after the financial statements have been authorised for issue.
Events occurring up to date of auditor’s report
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 The auditor is responsible for carrying out procedures designed to obtain sufficient
appropriate audit evidence that all events up to the date of the auditor’s report that
may require adjustment of, or disclosure in, the financial statements have been
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identified.
 These procedures are in addition to those applied to specific transactions occurring

after the period end that provide audit evidence of period-end account balances (e.g.
inventory cutoff and receipts from trade receivables). Such procedures should
ordinarily include:
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 reviewing minutes of board/audit committee meetings;
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 scrutinising latest interim financial statements/budgets/cash flows, etc;
 making/extending inquiries to legal advisors on litigation matters;
 inquiring of management whether any subsequent events have occurred
that might affect the financial statements (e.g. commitments entered into).
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 When the auditor becomes aware of events that which materially affect the financial
statements, the auditor must consider whether they have been properly accounted
for and adequately disclosed in the financial statements.
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Facts discovered after the date of the auditor’s report but before financial statements are issued
Tutorial note: After the date of the auditor’s report it is management’s responsibility to
inform the auditor of facts which may affect the financial statements.
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 If the auditor becomes aware of such facts which may materially affect the financial
statements, the auditor:
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 considers whether the financial statements need amendment;

 discusses the matter with management; and
 takes appropriate action (e.g. audit any amendments to the financial
statements and issue a new auditor’s report).
 If management does not amend the financial statements (where the auditor believes
they need to be amended) and the auditor’s report has not been released to the
entity, the auditor should express a qualified opinion or an adverse opinion (as
appropriate).
 If the auditor’s report has been released to the entity, the auditor must notify those
charged with governance not to issue the financial statements (and the auditor’s
report thereon) to third parties.
Tutorial note: The auditor would seek legal advice if the financial statements and auditor’s
report were subsequently issued.
Facts discovered after the financial statements have been issued
 The auditor has no obligation to make any inquiry regarding financial statements
that have been issued.
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 However, if the auditor becomes aware of a fact which existed at the date of the
auditor’s report and which, if known at that date, may have caused the auditor’s
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report to be modified, the auditor should:
 consider whether the financial statements need revision;

 discuss the matter with management; and
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 take appropriate action (e.g. issuing a new report on revised financial
statements).
(b) Implications for the auditor’s report
(i) Corruption of perpetual inventory records

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 The loss of data (of physical inventory quantities at the year-end date) gives rise to a
potential inability to obtain sufficient appropriate audit evidence about the
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inventory.
Tutorial note: It is the records of the asset that have been destroyed – not the
physical asset.
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 The systems failure in July 2016 is clearly a non-adjusting subsequent event (IAS
10). If it is material (such that non-disclosure could influence the economic
decisions of users) Jinack should disclose:

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the nature of the event (i.e. systems failure); and

 an estimate of its financial effect (i.e. the cost of disruption and
reconstruction of data to the extent that it is not covered by insurance).
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Tutorial note: The event has no financial effect on the realisability of inventory,
only on its measurement for the purpose of reporting it in the financial statements.
 If material this disclosure could be made in the context of explaining how inventory
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has been estimated at 30 June 2016 (see later). If such disclosure, that the auditor
considers to be necessary, is not made, the audit opinion should be qualified “except
for” lack of disclosure.
Tutorial note: Such qualifications are extremely rare since management should be
persuaded to make necessary disclosure in the notes to the financial statements
rather than have users’ attention drawn to the matter through a qualification of the
audit opinion.
 The limitation on scope of the auditor’s work has been imposed by circumstances.
Jinack’s accounting records (for inventory) are inadequate (non-existent) for the
auditor to perform tests on them.
 An alternative procedure to obtain sufficient appropriate audit evidence of inventory
quantities at a year end is subsequent count and “rollback”. However, the extent of
“roll back” testing is limited as records are still under reconstruction.
 The auditor may be able to obtain sufficient evidence that there is no material
misstatement through a combination of procedures:
 testing management’s controls over counting inventory after the year end
date and recording inventory movements (e.g. sales and goods received);
 reperforming the reconstruction for significant items on a sample basis;
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 analytical procedures such as a review of profit margins by inventory
category.
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 “An extensive range of inventory” is clearly material. The matter (i.e. systems
failure) is not however pervasive, as only inventory is affected.
 Unless the reconstruction is substantially completed (i.e. inventory items not
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accounted for are insignificant) the auditor cannot determine what adjustment, if
any, might be determined necessary. The auditor’s report should then be modified,
“except for”, due to the inability to obtain sufficient appropriate audit evidence.
 However, if sufficient evidence is obtained the auditor’s report should be

unmodified.
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Tutorial note: An “emphasis of matter” paragraph would not be appropriate
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because this matter is not one of significant uncertainty. An uncertainty in this
context is a matter whose outcome depends on future actions or events not under the
direct control of Jinack.
2017
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 If the 2016 auditor’s report is qualified “except for” on grounds of insufficient

evidence (limitation on scope) there are two possibilities for the opening inventory
figure (i.e. as at 30 June 2016) determined on completion of the reconstruction
exercise:
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(1) it is not materially different from the inventory figure reported; and
(2) it is materially different.
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 In (1), with the limitation now removed, the need for qualification is removed and
the 2017 auditor’s report would be unmodified (in respect of this matter).
 In (2) the opening position should be restated and the comparatives adjusted in
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accordance with IAS 8 Accounting Policies, Changes in Accounting Estimates and

Errors. The 2017 auditor’s report would again be unmodified provided full
disclosure (e.g. notes) is made in accordance with IAS 8.
Tutorial note: If the error was not corrected in accordance with IAS 8 it would be
a different matter and the auditor’s report would be qualified (“except for”)
disagreement on accounting treatment.
(ii) Wholly-owned foreign subsidiary
 The cash transfer is a non-adjusting event after the statement of financial position
date. It indicates that Batik was trading after the year end date. However, that does
not preclude Batik having commenced trading before the year end.
 The finance director’s oral representation is wholly insufficient evidence with

regard to the existence (or otherwise) of Batik at 30 June 2016. If it existed at the
year-end date its financial statements should have been consolidated (unless
immaterial).
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 It is reasonable to expect that other evidence relating to Batik would be available
(e.g. legal papers, registration payments, etc) so the lack of this evidence suggests a
limitation on the scope of the audit.
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 If such evidence has been sought but not obtained then the limitation is imposed by
the entity (rather than by circumstances).
 Although the transaction itself may not be material, the information concerning the
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existence of Batik may be material to users and should therefore be disclosed (as a
non-adjusting event). The absence of such disclosure, if the auditor considered
necessary, would result in a qualified “except for”, opinion.
Tutorial note: Any matter that is considered sufficiently material to be worthy of

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disclosure as a non-adjusting event must result in such a qualified opinion if the
disclosure is not made.
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 If Batik existed at the year-end date and had material assets and liabilities then its
non-consolidation would have a pervasive effect. This would warrant an adverse
opinion.
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 Also, the nature of the limitation (being imposed by the entity) could have a
pervasive effect if the auditor is suspicious that other audit evidence has been
withheld. In this case the auditor should disclaim an opinion.
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Marking Scheme
Marks
1 PAVIA CO
(a) Financial statement risks

Generally ½ mark for identification +
1 mark each point of explanation max 12
Up to 4 marks for format of briefing notes and clarity of explanation max 4
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Ideas
 Revenue/Receivables – potential over/under/misstatement
(consignment inventory, cutoff, draft financial statements,
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0% finance, discounting)
 Other income – overstated? (reversal of provisions)
 Cost of materials – overstated?/inventory understated?
 Employee benefits – overstated?
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 Depreciation/amortisation – overstated?
 Other expenses – overstated?
 Interest income – understated? Cash & cash equivalents
increased, accruals not yet accounted for
 Intangibles – potential overstatement (IAS 38 recognition
criteria IAS 36 Fox development impaired?

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P, P & E – potential overstatement (unrecorded disposals,
revenue expenditure capitalised)
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 Inventories – understated/overstated? (physical count,
slow moving items)
 Receivables – overstated? (no year-end allowance, 0%
finance sales discounted)
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 Provisions – potential overstatement?

 Trade payables – understatement/unrecorded liabilities,
accruals
 Going concern – no major threat but unpredictable
supplies, disruption to assembly schedules, loss of sales,
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fall in profits needs careful examination
(b) Illustration of analytical procedures (as audit evidence)

Generally 1 mark each point max 7
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Ideas
 Revenue – testing for understatement
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 Revenue – investigating predicted shortfall

 “Proof in total”/reasonableness tests – employee costs,
depreciation, investment/interest income
 Immaterial items – may be sufficient audit evidence
 Ratio analysis – asset turnover, inventory turnover,
average collection/ payment periods
Marks
(c) Principal audit work
Generally 1 mark each area of principal audit work,
max 4 each item × 3 12
Ideas – (i) Development expenditure

 Opening balance
 Physical inspection (Fox model)
 Additions to purchase/sub-contractor’s invoices
 Payroll records/analysis
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 Overhead absorption
 Internal trial (test drive) results
 Impairment test, value in use
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 Key assumptions of value in use
Ideas – (ii) Consignment inventory

 Agreements – terms of “sale” to dealers
Proforma invoices
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
 Direct confirmation
 Physical inspection – vehicle returns
 Cutoff tests
Ideas – (iii) Warranty provision

 Agreements – terms of warranty
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 Management’s assumptions – reasonable, based on
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commercial reality
 After-date repairs (parts and labour)
 Current year warranty costs v prior year provision
 Recourse to suppliers (e.g. faulty parts)
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35
____
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2 RBG
(a)(i) Advantages and disadvantages of outsourcing

Generally 1 mark each suggestion from RBG’s perspective max 6
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Ideas
Advantages
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 Cost saving
 Continuity
 Expertise
 Availability/flexibility
 Independent evaluation
 Better recommendations/improved quality
Disadvantages
 Costlier in long run
 Less effective
 Less integrated
 Lack of availability
 Loss of management training
Marks
(ii) Principal matters to be included in submission
Generally ½ mark each matter identified up to max 5 marks for identification
and up to 1 mark for each description
max 9
Ideas
 Introduction/background
 Description of services
 Identification of client issues
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 Other services that may assist client
 Methodologies and tools
 Resources
Experience and training
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
 Insurance (e.g. public liability, professional indemnity)
 Work/code of ethics
 Standards to be followed (e.g. quality control)
 Sample work (reports)
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 Potential conflicts
 Available references
 Invoicing and payment
 Performance targets y
(iii) Possible impact on audit of financial statements
Generally 1 mark each point of explanation max 3
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Ideas
 Organisational risk assessment
 Internal control assessment – greater reliance?
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 Reduction in substantive procedures

 Fraud and error risk assessment
(b) “Lowballing”
Generally 1 mark each explanation/ethical risk/
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comment on sufficiency of guidance max 7
Ideas
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 Explanation/definition of term
 Ethical risks
– integrity (why called into question)
– objectivity (e.g. self-interest threat of financial benefit)
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– professional competence and due care (audit quality) (i)

& (ii)
– professional behaviour (ii)
– confidentiality (iii)
 Ethical guidance
– prohibition?
– change in professional appointment
 Legal requirements (iii)
 Current developments/further measures
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25
____
Marks
3 TYREX
(a) Quality control

Comprehensive definition, up to 2 marks
½ mark each element, up to 2 marks 4
Definition – key words

 Policies and procedures
 Reasonable assurance
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 Professional standards
 Regulatory and legal requirements
 Appropriate in circumstances
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Elements
 Leadership
 Ethics
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 Acceptance and continuance
 Human resources
 Engagement performance
 Monitoring
(b)(i) Suitable responses

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Generally 1 mark each point contributing to a suitable response
up to 3 marks any one issue max 12
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Issues
 New audit senior
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– Senior will be highly experienced

– New eyes, new insight and objectivity
 Trainees
– Senior’s role in control/conduct of the audit
– Directing and supervising juniors
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– Aim to achieve effective and efficient work

– Close supervision ensures effective and efficient review
 Audit work on management account adjustments
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– Material adjustments must always be verified

– Adjustments to one area will not impact scope and timing
of other work
– Justification of auditor’s action
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 Audit work on inventory provisions

– Nature of company’s environment
– Subjective management judgement
– Sufficient, relevant and reliable audit evidence must be
obtained
– Audit judgement re need for representation
 Audit fee
– Increase in level of work
– Justification (as earlier)
– Impact of risk assessment due to nature of business
(ii) Steps to resolve (applies only to (3) – (5))
Generally 1 mark each point
up to 2 marks any one issue max 4
Ideas
 Relate back to issues raised in (i) (e.g. management
account adjustments, inventory valuation)
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20
____
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4 RHONDO
(a) Consignment
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Generally up to 1½ mark each item of additional information and
1 mark for each possible consequence. max 7
Ideas – additional information
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 Materiality
 Loss of major customer?
 Reasons why held by customs
 Regular occurrence?
 Insurance
 Validity of purchase
Ideas – consequences
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 Materiality to group financial statements
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 Impaired – write-off if material
 Immaterial = no impact on auditor’s report
 Written off = no impact on auditor’s report
 Material + at cost = except for, insufficient evidence due to
uncertainty over existence OR if evidence of existence ….
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 Material + no write off = except for, material error
(b) Going concern

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Ideas – Additional information

 Cash flow and budgets
 Obtaining finance
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 Approach to local bank?

 Selling prices
 Currency movement
Ideas – Consequences
 Non-adjusting event
 Impact on group
 Need to disclose uncertainty
 Going concern section or except for if inadequate disclosure
(c) Modifications
Ideas – Additional information

 Why modified opinion
 If material misstatements exist – more information required
 If insufficient evidence, explain in basis of opinion paragraph
Ideas – Consequences
 Consolidation adjustments
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 Ignore if not material
 Impact on group auditor’s report?
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20
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5 JINACK CO
Sc
(a) Auditor’s responsibilities for subsequent events
Generally 1 mark each comment max 6
Ideas [ISA 560]

 Consideration of IAS 10
y
 Addition to routine procedures
ud
 Up to date of auditor’s report
 Accounting and disclosure
 After … but before financial statements are issued
 Qualified or adverse opinion
St
 After financial statements issued

er
ck
Be
(b) Implications for auditor’s report
Generally ½ mark identification and 1 mark a comment
Ideas – (i) Corruption of perpetual inventory records

 Data loss (vs asset loss)  inability to obtain evidence
 Non-adjusting post statement of financial position event
 Limitation imposed by circumstances
 Sufficient evidence – records vs alternative (“rollback”)
 Alternative procedures – analytical procedures
 Material – not pervasive
ol
 Potential adjustment necessary
 Material  modified opinion (“except for”)
 Immaterial  unmodified report
ho
 2017 – restate opening position/comparatives for error
(if any) therefore unmodified
Ideas – (ii) Wholly-owned foreign subsidiary
Sc
 Management’s oral representation – insufficient evidence
 Non-adjusting post year end event (?) – disclosure?
 Lack of evidence  limitation on scope
 Limitation imposed by entity?
 Material vs material and pervasive
 Unmodified vs modified “except for” limitation vs
disclaimer
y
ud
(i) max 8
(ii) max 6
____
20
St
____
er
ck
Be
MOCK EXAM FEEDBACK SUMMARY – PAPER P7 MOCK 1
Q Part Topic Study RQB Commentary
ol
Text ref coverage
1 (a) Planning 8 17 – 20 The distinguishing feature in this typical P7 Question 1 was the ability for candidates to analyse the
ho
scenario and apply their knowledge to the scenario when answering all parts. The regurgitation of
textbook knowledge (‘everything I know about (a) planning an audit, (b) analytical procedures, and (c)
audit work’) was not required and would have earned few, if any, marks.
As the requirement was for risks of material misstatement, answers based on business risk and/or audit
Sc
risk would not have been given credit.
(b) Analytical 7, 9 Good candidates would have only dealt with applying analytical procedures to the detail of the scenario
procedures to produce audit evidence. Poor candidates would have referred in vague terms to substantive
analytical procedures without illustrating their use and then wasted time in detailing general substantive
procedures not connected with analytical review (zero marks).
y
(c) Principal 11 24 – 26 Good candidates understand what “principal audit work” means. Poor candidates just rattle off a list of
ud
audit work all audit procedures they can think of. Quality will always result in a pass mark rather than quantity.
(a)
2 Outsourcing 17 40 & 41 A subject covered in F8, so relatively straight forward to gain good marks provided both advantages
(i)
and disadvantages were covered.
(ii) Principal
matters on
outsourcing St
Good candidates would have read and understood the requirement (principal matters …. include in
submission … to provide internal audit) rather than launch off into anything and everything about
internal audit. Poor candidates would have considered this as a question on acceptance procedures.
er
(iii) Impact on the A careful reading of the scenario was essential to be able to gain marks. Good candidates would have
external audit seen the relationships and acted accordingly. Poor candidates would have got completely mixed up
and answered the requirement incorrectly.
ck
(b) Lowballing 6 51 Carefully reading of the requirement is, as always, essential. Not merely to define “lowballing” but to
explain the practice AND the associated ethical risks AND discuss the sufficiency of current ethical
guidance. The latter requires knowing what the current guidance is and, for full marks, would need to
propose how this might be changed.
Be
MOCK EXAM FEEDBACK SUMMARY – PAPER P7 MOCK 1
Q Part Topic Study RQB Commentary
ol
Text ref coverage
Section B (2 from 3) – 20 marks each
ho
3 (a) Quality 5 11, 13, 18 Basic bookwork. A well prepared candidate would have studied this. The poor candidate would have
control & 24 tried to question spot and skipped it.
Sc
(b) 43 Candidates with a sound understanding of audit procedures, audit quality control and entity internal
controls would have done well in this question. If they had also recognised that the draft letter was to
the chief accountant and had phrased their comments to the third party, this would have added to their
marks.
4 Group audit 12 27 – 30 Poor candidates would have listed general audit procedures and given all consequences on the group
y
audit report without the reasons why or would have failed to link the reasons to the scenario.
ud
5 (a) Subsequent 10 21 – 23 Important to distinguish between auditing and accounting aspects of subsequent events. The
events requirement is for audit, not financial accounting. The good candidate distinguished between the audit
aspects of pre-audit report date, pre-financial statement issue date and post financial issue date.
(b) Auditor’s 18 42 – 45 Good candidates identified the issues and added value to the detail given in the scenario. They then
report
analysis
St
selected and explained the most appropriate audit report format rather than use a scatter gun approach
of discussing all report and opinion options without saying which one should be used.
er
ck
Be

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Mock One

Advanced Audit and

Answers & Marking Scheme

Pavia Co Year end 30 September 2016

Briefing notes for planning meeting – Financial statement risks

Prepared by You Manager

(a) Audit risks

revenue but are unsold at the year end).

Employee benefits expense

 the warranty provision made at 30 September 2016 is overstated;

Interest income, net

 any of the IAS 38 Intangible Assets recognition criteria cannot be demonstrated in

 revenue expenditure is inappropriately capitalised (e.g. in assets under construction);

Trade receivables16 have increased by 45.3% and may be overstated if:

Similarly, provision cannot be made for a future IT reorganisation as it is highly unlikely to

(b) Illustration of use of analytical procedures as audit evidence

Analytical procedures may be used in testing revenue for completeness of recording

“Proof in total”/reasonable tests

Tutorial note: An alternative reasonableness might be to take last year’s actual

Tutorial note: Alternatively, last year’s depreciation charge may be reconciled to

maintenance costs to costs of assets maintained.

(c) Principal audit work y

Agree opening balance, $6.3 million, to prior year working papers.

 Substantiate costs incurred during the year, for example:

 goods (e.g. components) and services (e.g. consultants) to purchase invoices;

 labour (e.g. design engineers/technicians, mechanics, test drivers) to the payroll

 overheads (e.g. depreciation of development buildings and equipment,

and underlying cost accounts.

 Reperform management’s impairment test of development expenditure. In

 the discount rate used to Pavia’s cost of capital;

 Agree terms of sale to dealers to confirm the “principal – agent” relationship

 Inspect proforma invoices, return documentation and sales confirmations (agree to

(iii) Warranty provision

 Agree the principal assumptions in management’s estimate of liabilities under

 the period for which warranties are given;

used in a specified industry (e.g. film-making).

 Agree the reasonableness of management’s assumptions in the calculation of the

 Substantiate the economic reality of the basis of management’s calculations. For

 agree the calculation of average cost of a repair under warranty to job

 Assess management’s ability to make reliable estimates in this area by comparing

(a) Briefing notes for SAP

(i) Potential advantages and disadvantages to RBG of outsourcing internal audit

 Affordability as there should be a cost benefit (budget savings) of replacing fixed

 Further, if reliance on internal audit by the external auditors is substantially

 Greater assistance to management in the evaluation of the performance of the

 Earlier assessment of the impact of changes in financial reporting requirements

 An out-sourced department may not be as effective as an in-house department if, for

 Client-specific issues identified. For example, revenue audits will be required

(1) Preliminary – review of business, industry and the entity’s operating

(4) Review – of services provided, reports issued and management’s responses.

 A description of internal audit tools used and methodologies/approach to audit

 A description and quantity of resources, in particular the number of full-time staff,

 Performance targets to be met such as deadlines for completing work and

 The appointment will include an evaluation of organisational risk. The results of

 supporting the appropriateness of the going concern assumption;

which higher price consultancy services may be sold.

charged with negligence.

This is clearly insufficient to prevent the practice of lowballing.

(a) “Quality controls”

of the following elements:

(a) Leadership responsibilities for quality in the firm

(d) Human resources

(b) (i) Responses to issues