Question 2 (12 marks)

For each of following specific audit procedures (A to F) state the specific audit assertion associated with the audit procedure. Be sure to include the type, i.e. whether it is a transaction-related, balance-related or presentation & disclosure-related audit assertion.

 

For each specific audit assertion identified, state the General Audit Assertion and Explain why.  Organize your answer in two columns as follows:

Specific audit assertion and type (1 mark each)	General Audit Assertion with reason (1 mark each)

 

A.   Obtained a client prepared bank reconciliation and agreed the outstanding deposits to the bank statement of the following month.

B.    Externally confirmed the terms and balances of bonds payable with creditors

C.    Calculated an estimated total managerial payroll expense by multiplying the average salary by the number of managers. Compared the estimated payroll expense with actual expense and inquired with payroll manager to obtain the cause for the 30% variance.

D.   Recalculated depreciation expense related to property, plant, and equipment.

E.    Inspected accounts receivable aged trial balance to identify balances greater than 90 days old and traced the amounts to subsequent payments made by customer.

F.    Discussed significant fluctuation in repairs and maintenance account with client management.

 

 

 

Question 3   (15 marks)

 

For the Following Statements, Please indicate whether you AGREE or DISAGREE AND Explain why you AGREE or DISAGREE. Each Statement is worth 3 marks each.

 

1. The actual analytical procedures performed in the execution stage of the audit will normally be quite different from the analytical procedures performed in the planning stage.

 

2. At the completion of each audit, an independent review of the audit file is conducted. In most firms, the primary purpose of such a review is to identify and summarize areas that must be reported to the client, such as recommendations to be made to the audit committee and management for enhancing their internal controls or the accounting system.

 

3. Knowing a client’s business well can provide or enhance evidence to support the valuation assertion for accounts receivable.

 

4. There are four main types of procedures used to test internal controls: inspection, re-performance, enquiry, and observation. Each is equally useful in obtaining reliable audit evidence about internal controls, irrespective of the circumstances of the case.

 

5. You are engaged to audit the financial statements of a public company. However, during the course of the audit, you find that adjusting entries are required to correct some of the account balances. To save time, you make these adjusting entries.

 

 

 

Question 4    (16 marks)

 

You are a manager for David and Blue, LLP, a public accounting firm which has 10 offices and 30 partners. An expert in ethics and professional conduct, you have been contacted by various individuals in the firm and have been asked to provide advice.

 

Situation A (4 marks)

Jamie, CPA is an audit senior. He has just has just called you for advice. He was at his desk when he overheard his colleague Teresita having a phone conversation. She told the person on the other end of the call that Drake Co. Ltd., a public company listed in the Toronto Stock Exchange, and one of the firm's largest audit client, is about to release the company's audited annual financial statements and the results are spectacular. Teresita said that she just bought some shares as she expects that the share price will go up.

 

Situation B (4 marks)

An advertisement has been drafted as part of the firm’s drive to attract more clients. It is suggested it should be placed in the two national newspapers as well as local newspapers.

 

Have you had enough of your accountant charging you too much for poor quality services?   Does your business need a kick-start?   Look no further, David and Blue, LLP provide the most comprehensive range of finance and accounting services in the country as well as having the leading tax team in the country who are just waiting to save you money.   Still not sure? We guarantee cheaper than your existing service provider and for the month of January we are offering free business advice to all new audit clients.   Drop in and see us at your local office for a free consultation.

 

Situation C (4 marks)

Bobby James, CPA, has just returned from a meeting with a potential new audit client, Star Alliance Advertising. Bobby has recently returned to public practice after working in advertising industry as a CFO for a large company. David and Blue recruited him as an audit partner for his contacts within the industry. Part of his compensation is tied to the number of new clients he is able to recruit. It has been eight years since Bobby has performed any audit engagements; however, he is confident that he can rely upon his industry knowledge to assess the resources needed to perform the audit engagement. During the meeting, he reads over the prior year's financial statements and tells the client he will accept the engagement. He tells the client that he will do a substantive-based audit; therefore, he can guarantee that the fee will be less than the fee charged by the previous auditor.

 

Situation D (4 marks)

Sarah Wong, CPA, is a senior manager at the firm HMZ LLP. One of Sarah’s largest clients is Lenovo Inc. a publicly traded retailer of high-end electronics. This year’s audit has been challenging; Sarah has been working extra hours on the audit, as Lenovo implemented a new IT system. Furthermore, the controller has been disputing a number of audit adjustments that Sarah has proposed. The auditors have been working in one of the spare offices located close to the warehouse. One evening, Sarah notices a shipment of tablets that had not been locked up. To compensate herself for the additional hours she has been working on the file, she takes one of the tablets and slips it into her laptop bag on her way out of the client site.

Required

For each of the independent situations above Evaluate and Perform the following:

• Identify and explain the ethical and professional conduct issues
• Recommend any actions necessaery in response to the issues identified

 

 

Question 5     (15 marks)

 

For each of the following unrelated situations a standard unqualified auditor’s report was issued. , Outline possible deviations (if any) from the report issued that may be necessary. Give reasons. (5 Marks for each situation. 1 mark for each valid point for a situation)

 

• Queen Lake Construction Ltd. uses an aggressive revenue recognition policy under the percentage of completion method for long-term construction contracts. Your review of this year’s new large construction contracts indicates that several significant projects have been recorded with high revenue for the first two years,      and then have negligible earnings for the next three years.

 

• Maple Manufacturing Limited constructs furniture out of maple wood. The furniture is prized for its durability and craftsmanship. Last year, the company received a letter from a governmental agency advising that it had been found that    the factory was located on contaminated land that leached hazardous chemicals into the air. This was a preliminary letter stating that a full investigation into the health effects was underway. Management stated that everything is OK – the investigation was terminated. However, the client’s legal letter indicates that there are several lawsuits with respect to employee claims for long term disability due to a nervous disorder that affected employees’ ability to work. The employees claim that the nervous disorder is connected with the contaminated land. Neither the investigation nor the lawsuits are disclosed in the notes to the financial statements.

 

• Save our Trees is a charitable organization devoted to maintaining national woodland and green space. The majority of its revenue is from fund-raising activities handled by volunteers who are unsupervised. Fund raising is handled primarily by means of electronic mail and door to door canvassing by these volunteers. Volunteers conducting canvassing provide receipts at the door using pre-numbered receipts from two-part booklets. When funds are raised by email, a separately numbered sequence is used and donors are sent receipts by email. Numeric sequences of receipts are not accounted for.

 

 

Question 6   (12 marks)

 

You are completing the audit of Derban Automative Inc. (DAI), a new client, and encountered the following issues. For each issue, describe the impact upon the December 31, 2013 financial statement audit, and any further actions that you should take: (4 Marks for each situation. 1 mark for each valid point for a situation)

 

1. Based on your communication with the previous auditor, you learned that the previous auditors had a dispute with DAI management concerning the valuation of inventory. The previous auditor provided a clean opinion since the inventory balance was not material, but resigned anyway because of the poor relations with DAI’s management.

 

2. Inventory consists of raw materials, semi-processed liquids, and finished goods. The fourth quarter inventory count was attended by the previous auditors, who have provided a copy of their working papers related to the inventory count to your firm.

 

3. The fourth quarter inventory count resulted in a significant write-down of work-in-progress and finished goods inventory. Management thinks that the write-down may have been caused by outdated standard costs.

For the Following Statements, Please indicate whether you AGREE or DISAGREE AND Explain why you AGREE or DISAGREE. Each Statement is worth 3 marks each.

1. The actual analytical procedures performed in the execution stage of the audit will normally be quite different from the analytical procedures performed in the planning stage.

AGREE. While there is considerable overlap in the analytical procedures used in the planning and execution stages of the audit, the procedures used are substantially different as analytical procedures in the execution stage tend to be more specific compared to the planning stage where broad techniques are used. Auditors use analytical procedures such as vertical and horizontal analysis of the financial statements and comparison of company financial ratios with industry ratios in the planning stage to provide a picture of the financial position. In the execution phase, the auditor will use analytical procedures designed to identify unexpected differences in specific areas.

 

2. At the completion of each audit, an independent review of the audit file is conducted. In most firms, the primary purpose of such a review is to identify and summarize areas that must be reported to the client, such as recommendations to be made to the audit committee and management for enhancing their internal controls or the accounting system.

DISAGREE. The independent review of the audit file is conducted to confirm the CPA’s compliance with auditing standards in the collection of sufficient audit evidence to arrive at an opinion regarding management’s assertions regarding the financial statement

3. Knowing a client’s business well can provide or enhance evidence to support the valuation assertion for accounts receivable.

AGREE. Knowledge of a client’s business will improve the extent to which the CPA can support the valuation assertion of accounts receivable as he/she is aware of the expected levels of sales, the portion of sales made on credit, and the typical proportion of accounts receivable that is uncollectible.

 

4. There are four main types of procedures used to test internal controls: inspection, re-performance, inquiry, and observation. Each is equally useful in obtaining reliable audit evidence about internal controls, irrespective of the circumstances of the case.

DISAGREE. Control assessment procedures vary in their reliability both in general and with respect to the circumstances of the case. For example, inquiry is relatively unreliable in the assessment of control risk when the control environment is characterized by managerial laxity towards fraud. Inspection is on the other hand, highly reliable in obtaining evidence of internal controls, in most circumstances.

 

5. You are engaged to audit the financial statements of a public company. However, during the course of the audit, you find that adjusting entries are required to correct some of the account balances. To save time, you make these adjusting entries.

DISAGREE. Undertaking accounting work for the audit client is against the professional code of conduct as it inhibits the independence of the auditor. Additionally, preparation of financial statements falls under management’s purview and should not be undertaken by the auditor.

Question 2       (12 marks)

 

For each of following specific audit procedures (A to F) state the specific audit assertion associated with the audit procedure. Be sure to include the type, i.e. whether it is a transaction-related, balance-related or presentation & disclosure-related audit assertion.

 

For each specific audit assertion identified, state the General Audit Assertion and Explain why.  Organize your answer in two columns as follows:

Specific audit assertion and type (1 mark each)	General Audit Assertion with reason (1 mark each)

 

A.   Obtained a client prepared bank reconciliation and agreed the outstanding deposits to the bank statement of the following month.

Specific audit assertion and type (1 mark each)	General Audit Assertion
Verify the completeness of recorded cash; balance-related	Completeness; confirm the cash balance statement is accurate and not understated

 

B.    Externally confirmed the terms and balances of bonds payable with creditors

Specific audit assertion and type (1 mark each)	General Audit Assertion
Verify the completeness of long-term liabilities; balance related Verify the accuracy of the classification of bonds payable in the balance sheet; presentation related	Completeness; confirm that all bonds payable are reported Presentation and disclosure; confirm that bonds payable maturing in the next one year are classified as current liabilities

 

C.    Calculated an estimated total managerial payroll expense by multiplying the average salary by the number of managers. Compared the estimated payroll expense with actual expense and inquired with payroll manager to obtain the cause for the 30% variance.

Specific audit assertion and type (1 mark each)	General Audit Assertion
Verify the occurrence of the actual payroll expense if variance is unfavorable; transaction related Verify the completeness of the actual payroll expense if variance is favorable; transaction related	Occurrence; the auditor’s objective is to identify the cause of the higher payroll expense. Could be a result of an erroneous/fraudulent misstatement or increase in the number of hires Completeness and cut-off; the auditor’s objective is to confirm whether the entire salary/wages expense for the period is recorded

 

D.   Recalculated depreciation expense related to property, plant, and equipment.

Specific audit assertion and type (1 mark each)	General Audit Assertion
Verify that PP&E are properly valued; balance-related	Valuation; PPE are presented at their appropriate values in accordance to the accounting policies in use and the application depreciation method

 

E.    Inspected accounts receivable aged trial balance to identify balances greater than 90 days old and traced the amounts to subsequent payments made by customer.

Specific audit assertion and type (1 mark each)	General Audit Assertion
Verify the occurrence of bad debts to support the valuation of accounts receivable; balance-related	Valuation; the auditor’s objective in tracing the account is to determine whether the customer made any subsequent payments and the consequent materialization of bad debts to support the valuation of accounts receivable.

 

F.    Discussed significant fluctuation in repairs and maintenance account with client management.

Specific audit assertion and type (1 mark each)	General Audit Assertion
Confirm that the repairs and maintenance expenses pertain to repairs that occurred on the client’s assets; transaction related	Occurrence; the auditor aims at verifying management’s assertion of repairs and maintenance.

 

 

 

Question 3   (15 marks)

 

For the Following Statements, Please indicate whether you AGREE or DISAGREE AND Explain why you AGREE or DISAGREE. Each Statement is worth 3 marks each.

 

1. The actual analytical procedures performed in the execution stage of the audit will normally be quite different from the analytical procedures performed in the planning stage.

 

2. At the completion of each audit, an independent review of the audit file is conducted. In most firms, the primary purpose of such a review is to identify and summarize areas that must be reported to the client, such as recommendations to be made to the audit committee and management for enhancing their internal controls or the accounting system.

 

3. Knowing a client’s business well can provide or enhance evidence to support the valuation assertion for accounts receivable.

 

4. There are four main types of procedures used to test internal controls: inspection, re-performance, enquiry, and observation. Each is equally useful in obtaining reliable audit evidence about internal controls, irrespective of the circumstances of the case.

 

5. You are engaged to audit the financial statements of a public company. However, during the course of the audit, you find that adjusting entries are required to correct some of the account balances. To save time, you make these adjusting entries.

 

 

 

Question 4   (16 marks)

 

You are a manager for David and Blue, LLP, a public accounting firm which has 10 offices and 30 partners. An expert in ethics and professional conduct, you have been contacted by various individuals in the firm and have been asked to provide advice.

 

Situation A (4 marks)

Jamie, CPA is an audit senior. He has just has just called you for advice. He was at his desk when he overheard his colleague Teresita having a phone conversation. She told the person on the other end of the call that Drake Co. Ltd., a public company listed in the Toronto Stock Exchange, and one of the firm's largest audit client, is about to release the company's audited annual financial statements and the results are spectacular. Teresita said that she just bought some shares as she expects that the share price will go up.

 

Situation B (4 marks)

An advertisement has been drafted as part of the firm’s drive to attract more clients. It is suggested it should be placed in the two national newspapers as well as local newspapers.

 

Have you had enough of your accountant charging you too much for poor quality services?   Does your business need a kick-start?   Look no further, David and Blue, LLP provide the most comprehensive range of finance and accounting services in the country as well as having the leading tax team in the country who are just waiting to save you money.   Still not sure? We guarantee cheaper than your existing service provider and for the month of January we are offering free business advice to all new audit clients.   Drop in and see us at your local office for a free consultation.

 

Situation C (4 marks)

Bobby James, CPA, has just returned from a meeting with a potential new audit client, Star Alliance Advertising. Bobby has recently returned to public practice after working in advertising industry as a CFO for a large company. David and Blue recruited him as an audit partner for his contacts within the industry. Part of his compensation is tied to the number of new clients he is able to recruit. It has been eight years since Bobby has performed any audit engagements; however, he is confident that he can rely upon his industry knowledge to assess the resources needed to perform the audit engagement. During the meeting, he reads over the prior year's financial statements and tells the client he will accept the engagement. He tells the client that he will do a substantive-based audit; therefore, he can guarantee that the fee will be less than the fee charged by the previous auditor.

 

Situation D (4 marks)

Sarah Wong, CPA, is a senior manager at the firm HMZ LLP. One of Sarah’s largest clients is Lenovo Inc. a publicly traded retailer of high-end electronics. This year’s audit has been challenging; Sarah has been working extra hours on the audit, as Lenovo implemented a new IT system. Furthermore, the controller has been disputing a number of audit adjustments that Sarah has proposed. The auditors have been working in one of the spare offices located close to the warehouse. One evening, Sarah notices a shipment of tablets that had not been locked up. To compensate herself for the additional hours she has been working on the file, she takes one of the tablets and slips it into her laptop bag on her way out of the client site.

Required

For each of the independent situations above Evaluate and Perform the following:

• Identify and explain the ethical and professional conduct issues
• Recommend any actions necessaery in response to the issues identified

 

Situation A

Teresita violated the rule of independence by investing in the stock of an audit client and the rule confidentiality by sharing information regarding the client’s business. An auditor engaged in the audit team is prohibited from owning the client’s stock as it could jeorpadize independence in future engagements. Profiting from confidential information is considered an act discreditable of the profession. I would recommend that Jamie begin the process to let Teresita go and report her actions to the provincial ethics board.

 

Situation B

  The firm is allowed to advertise its services as long as the advertisement is not misleading to client’s nor creates unreasonable expectations of a favorable report. The CPAs are in violation of the advertisement and solicitation rules as they claim to have a leading tax team that is “just waiting to save you money”. The CPA’s obligation to a tax client is to ensure that the client pays the correct amount of taxes and no more. The advertisement promises a favorable result, which might not be the case if the client is underpaying taxes or paying the exact amount. While the CPA cannot perform managerial functions for attest clients, he/she can give business advice without violating the independence requirement as long as the client assumes all managerial responsibilities and evaluates the adequacy of the advice provided amongst other managerial duties. If the firm is committed to offering free advice to new clients, this advertising technique is not in violation of any ethical rules or principles surrounding advertisement and solicitation. I would recommend eliminating the promise to save tax client’s money from the advertisement.

 

Situation C

While Bobby James guarantee to charge the client a lower fee than the previous auditor, it does not constitute of a violation to the professional code of conduct at the current stage. The reduction in fees is not contingent on a given result. If the audit firm allows Bobby to conduct the substantive-based audit, it will have failed in its of providing sufficient evidence of the absence of material misstatements in the audit. A more qualified CPA should be placed on the audit and the firm should correct unreasonable guarantees made before accepting the client.

 

Situation D

Sarah’s theft of a client’s merchandise qualifies as an act discreditable to the profession. She should have communicated the difficulties to partners on the audit engagement instead of committing a crime. I would recommend that the firm relieve her of her duties and communicate the theft and actions taken to the audit client.

 

 

Question 5     (15 marks)

 

For each of the following unrelated situations a standard unqualified auditor’s report was issued. , Outline possible deviations (if any) from the report issued that may be necessary. Give reasons. (5 Marks for each situation. 1 mark for each valid point for a situation)

 

• Queen Lake Construction Ltd. uses an aggressive revenue recognition policy under the percentage of completion method for long-term construction contracts. Your review of this year’s new large construction contracts indicates that several significant projects have been recorded with high revenue for the first two years,      and then have negligible earnings for the next three years.

The quality of earnings is an important consideration in the analysis of a company’s financial performance in order to ascertain the risk of material misstatement. The use of aggressive revenue recognition practices has negative implications for the quality of earnings as the reported income is reflective of accounting policy choices rather than economic performance. The auditor should modify their opinion to a qualified opinion as the use of aggressive revenue recognition is not in line with the revenue recognition accounting principles but does not represent a serious departure from the accounting principles as to render the financial statements grossly misstated.

• Maple Manufacturing Limited constructs furniture out of maple wood. The furniture is prized for its durability and craftsmanship. Last year, the company received a letter from a governmental agency advising that it had been found that    the factory was located on contaminated land that leached hazardous chemicals into the air. This was a preliminary letter stating that a full investigation into the health effects was underway. Management stated that everything is OK – the investigation was terminated. However, the client’s legal letter indicates that there are several lawsuits with respect to employee claims for long term disability due to a nervous disorder that affected employees’ ability to work. The employees claim that the nervous disorder is connected with the contaminated land. Neither the investigation nor the lawsuits are disclosed in the notes to the financial statements.

 

The situation relates both to the auditor’s responsibility to detecting material mistatement in the financial statements as well as to the detection of the company’s compliance with non-accounting rules and regulations. With respect to the latter, CPAs are mandated with detecting noncompliance with laws that have a direct effect on the financial statements. The auditor is required to obtain sufficient evidence to show the absence of noncompliance with laws with material effect on the financial statements as they would on the absence of material errors and fraud. It is probable that the company will settle the lawsuits. This will have material implication on the financial statements. As such, the investigation and lawsuits should be recognized as contingent liabilities in the notes to the financial statements.  Since the auditor is aware of the failure to disclose a material item, he/she should communicate this misstatement to management and advise that the financial statements be amended to disclose the item failure to which an adverse opinion should be issued.

 

• Save our Trees is a charitable organization devoted to maintaining national woodland and green space. The majority of its revenue is from fund-raising activities handled by volunteers who are unsupervised. Fund raising is handled primarily by means of electronic mail and door to door canvassing by these volunteers. Volunteers conducting canvassing provide receipts at the door using pre-numbered receipts from two-part booklets. When funds are raised by email, a separately numbered sequence is used and donors are sent receipts by email. Numeric sequences of receipts are not accounted for.

The absence of numeric sequences of receipts is suggestive of incompleteness of the donations account. The lack of volunteer supervision is reflective of the client’s poor internal control

Question 4   (16 marks)

 

You are a manager for David and Blue, LLP, a public accounting firm which has 10 offices and 30 partners. An expert in ethics and professional conduct, you have been contacted by various individuals in the firm and have been asked to provide advice.

 

Situation A (4 marks)

Jamie, CPA is an audit senior. He has just has just called you for advice. He was at his desk when he overheard his colleague Teresita having a phone conversation. She told the person on the other end of the call that Drake Co. Ltd., a public company listed in the Toronto Stock Exchange, and one of the firm's largest audit client, is about to release the company's audited annual financial statements and the results are spectacular. Teresita said that she just bought some shares as she expects that the share price will go up.

 

Situation B (4 marks)

An advertisement has been drafted as part of the firm’s drive to attract more clients. It is suggested it should be placed in the two national newspapers as well as local newspapers.

 

Have you had enough of your accountant charging you too much for poor quality services?   Does your business need a kick-start?   Look no further, David and Blue, LLP provide the most comprehensive range of finance and accounting services in the country as well as having the leading tax team in the country who are just waiting to save you money.   Still not sure? We guarantee cheaper than your existing service provider and for the month of January we are offering free business advice to all new audit clients.   Drop in and see us at your local office for a free consultation.

 

Situation C (4 marks)

Bobby James, CPA, has just returned from a meeting with a potential new audit client, Star Alliance Advertising. Bobby has recently returned to public practice after working in advertising industry as a CFO for a large company. David and Blue recruited him as an audit partner for his contacts within the industry. Part of his compensation is tied to the number of new clients he is able to recruit. It has been eight years since Bobby has performed any audit engagements; however, he is confident that he can rely upon his industry knowledge to assess the resources needed to perform the audit engagement. During the meeting, he reads over the prior year's financial statements and tells the client he will accept the engagement. He tells the client that he will do a substantive-based audit; therefore, he can guarantee that the fee will be less than the fee charged by the previous auditor.

 

Situation D (4 marks)

Sarah Wong, CPA, is a senior manager at the firm HMZ LLP. One of Sarah’s largest clients is Lenovo Inc. a publicly traded retailer of high-end electronics. This year’s audit has been challenging; Sarah has been working extra hours on the audit, as Lenovo implemented a new IT system. Furthermore, the controller has been disputing a number of audit adjustments that Sarah has proposed. The auditors have been working in one of the spare offices located close to the warehouse. One evening, Sarah notices a shipment of tablets that had not been locked up. To compensate herself for the additional hours she has been working on the file, she takes one of the tablets and slips it into her laptop bag on her way out of the client site.

Required

For each of the independent situations above Evaluate and Perform the following:

• Identify and explain the ethical and professional conduct issues
• Recommend any actions necessary in response to the issues identified

Situation A