Section A

The following scenario relates to questions 1 - 5

You are an audit manager at Otillie & Co and one of the audit partners has asked
you to review the arrangements with some of the firm’s long-standing audit clients
to make sure there are no ethical issues with the services being provided.
Grisaille Co
Grisaille Co, a listed company, is one of Otillie & Co’s largest clients. Last year the
fees for audit and other services was $2.1m and this year fees are expected to be
$2.3m which represents 15.5% and 16.1% of Otillie & Co’s total income
respectively.
Ochre Co
Ochre Co is a large private company and has been an audit client of Otillie & Co for
many years. Rachel Craig, a partner of Otillie & Co, has acted as the audit
engagement partner for seven years. This year, Ochre Co has requested Otillie & Co
provide tax advice to minimise the company’s tax liability, in addition to the
external audit. The directors have suggested that the fee could be based on the
level of tax saving achieved to ensure the payment for the service does not
outweigh the benefit obtained. The fee is expected to be significant.
Payne Co
Otillie & Co is the external auditor of Payne Co, and also provides other non-audit
services to the company. The audit team comprises an engagement partner, a
recently appointed manager, an audit senior and a number of audit assistants. The
previous audit manager left the firm before the completion of the prior year audit
and is now the finance director of Payne Co. The finance director and new audit
manager are good friends.

1 In relation to Grisaille Co, which of the following threats to independence may

arise as a result of the level of fees?
1 Self-interest
2 Advocacy
3 Self-review
4 Intimidation

A 2 and 3 only
B 2, 3 and 4
C 1, 3 and 4
D 1 and 4 only
2 Which of the following actions would NOT be relevant in order for Otillie & Co
to maintain their objectivity in relation to the level of fee income from Grisaille
Co?
A Assign an engagement quality control reviewer
B A pre-issuance review to be conducted by an external accountant
C The use of separate teams to provide the audit non-audit services
D Disclosure to those charged with governance that fees from Grisaille Co
represent more than 15% of Otillie & Co’s total fee income

3 In relation to Rachel Craig being the audit engagement partner of Ochre Co,
which of the following correctly identifies the threats to Otillie & Co’s
independence and proposes an appropriate course of action?

Threats Course of action

A Familiarity only Can continue with appropriate safeguards
B Self-interest and familiarity Must resign as auditor
C Self-review and self- interest Can continue with appropriate safeguards
D Self-review and familiarity Must resign as auditor

4 Which of the following statements is TRUE in respect of Ochre Co’s request for
the tax advice fee to be based on the tax saving achieved?
A The fee basis is acceptable if both Otillie & Co and Ochre Co agree to it
B The fee basis is not acceptable as contingent fee arrangements are not
acceptable for any accountancy work
C The fee basis is acceptable as it does not relate to the audit fee
D The fee basis will not be acceptable as the fee is significant to the firm

5 In relation to the audit of Payne Co, select the type of threat which could arise
as a result of the finance director’s relationship with the audit manager and
select an appropriate safeguard.

Type of threat Safeguard

1 Intimidation A The firm should resign from the engagement
2 Self-review B A different audit manager should be appointed
3 Familiarity C The finance director must not have contact with the
audit manager whilst the audit is ongoing
The following scenario relates to questions 6 – 10
It is 1 July 20X5. Abrahams Co develops, manufactures and sells a range of
pharmaceuticals and has a wide customer base across Europe and Asia. You are an
audit manager in Nate & Co and you are planning the audit of Abrahams Co for the
financial year ending 31 August 20X5. You attended a planning meeting with the
finance director and audit engagement partner and are now reviewing the meeting
notes in order to prepare the audit strategy and plan. Revenue for the year is forecast
at $25 million and profit before tax is forecast at $1.6m.
During the year the company has spent $2.2 million on developing several new
products. Some of these are in the early stages of development whilst others are
nearing completion. The finance director has confirmed that all projects are likely to
be successful and is intending to capitalise the full $2.2 million.
Once products have completed the development stage, Abrahams Co begins
manufacturing them. At the year-end it is anticipated that there will be significant
levels of work in progress. The company uses a standard costing method to value
inventory. The standard costs are set when a product is first manufactured and are
not usually updated. In order to fulfil customer orders promptly, Abrahams Co has
warehouses for finished goods located across Europe and Asia. Approximately one
third of these are third party warehouses where Abrahams Co rents space.
In April 20X5 a new accounting package was introduced. This is a bespoke system
developed by the information technology (IT) manager. The old and new packages
were not run in parallel as it was felt that this would be too onerous for the
accounting team.
In order to fund the development of new products, Abrahams Co has restructured its
finance and taken out a long-term loan of $2.5 million. There are bank covenants
attached to the loan, the main one relating to a minimum level of total assets. If these
covenants are breached, the loan becomes immediately repayable.
The reporting timetable for completion of the audit is quite short, and the finance
director would like to report results within four weeks of the year end.

6 Which of the following is the LEAST significant audit risk to be considered when
planning the audit of Abrahams Co?
A Overstatement of intangibles
B Valuation of work in progress
C Overstatement of trade payables
D Inadequate disclosure regarding the loan

7 Which of the following factors increases the inherent risk for the audit of
Abrahams Co?
A Change of the accounting system in April 20X5
B Tight reporting deadline
C One third of the warehouses belonging to third parties
D Covenants attached to the loan
8 In respect of the work in progress, which one of the following audit procedures is
NOT appropriate?
A Discuss with management the basis of the standard costs
B Agree the total standard cost to purchase invoices for a sample of products
C Review the level of variances between standard and actual costs and discuss how
these are treated
D Observe the procedures carried out in assessing the level of work-in-progress at
the year end

9 Which TWO of the following describe appropriate auditor responses to the audit
risk related to the tight reporting deadline?
A Increase the number of staff allocated to work on the audit
B Increase the reliance on controls so that the number of substantive procedures
are reduced
C Perform some audit procedures before the year end during an interim audit
D Increase materiality so that fewer balances need to be tested
E Inform the finance director that it will not be possible to complete the audit in
four weeks

10 Which of the following is the LEAST appropriate materiality level to be used in

the audit of Abrahams Co?
A $90,000
B $150,000
C $200,000
D $300,000
The following scenario relates to questions 11 – 15
You are an audit senior in Brennon & Co. You are preparing the audit programme
for the revenue and receivables system of Seeley Co. Seeley Co is a wholesaler of
electrical goods such as kettles, televisions, music systems, etc. The company
maintains one large warehouse in a major city. The customers of Seeley Co are
small retailers who sell to consumers.
Audit documentation is available from the previous year’s audit, including internal
control questionnaires and audit programmes for the despatch and sales system.
The audit approach last year did not involve the use of automated tools and
techniques and the same approach will be taken this year. As far as you are aware,
Seeley Co’s system of internal control has not changed in the last year.
Despatch and sales system
Seeley Co only sells to authorised customers following appropriate credit checks.
Each customer is given a Seeley Co identification card to confirm their status and
the card must be used to obtain goods from the warehouse. Customers visit Seeley
Co’s warehouse and load the goods they require into their vans after showing their
Seeley identification card to the despatch staff. A goods despatch note (GDN) is
produced and signed by the customer and a member of Seeley Co’s despatch staff
confirming goods taken. One copy of the GDN is sent to the accounts department,
the second copy is retained in the despatch department. Accounts staff enter
goods despatch information onto the computerised sales system. The computer
system produces the sales invoice, with reference to the inventory master file for
product details and prices, maintains the sales day book and also the receivables
ledger. Invoices are sent to each customer either by post or email and a copy is
maintained by the accounts department. Invoices are compared to GDNs by
accounts staff and signed.
Prior year deficiencies
On the prior year audit file the following deficiencies within the sales system were
identified:
(i) The system used in the warehouse allows customers to take goods which
exceed their credit limit.
(ii) Goods despatch notes were not sequentially numbered.

11 Which of the following is NOT an objective of Seeley Co’s despatch and sales
system?
A To ensure that all goods despatched are correctly invoiced
B To ensure that discounts received are accounted for completely and accurately
C To ensure that goods are despatched to creditworthy customers only
D To ensure that all orders are recorded completely and accurately
12 Which of the following would be the LEAST appropriate procedure to check
the accuracy of the previous year’s internal control questionnaires?
A Obtain system documentation from the client and review this to identify any
changes made in the last 12 months
B Interview client staff to ascertain whether systems have changed this year and to
ensure the internal control questionnaires produced last year are correct
C Complete a new internal control questionnaire with the sales staff
D Perform walk-through tests to ensure the previous year’s internal control
questionnaire is still accurate and can be relied upon this year

13 Which of the following control objectives is addressed by the accounts

department staff comparing the invoice to the GDN and signing it?
A To ensure all orders are processed
B To ensure all goods despatched are recorded on the system
C To ensure all goods despatched are invoiced
D To ensure only valid sales are recorded

14 For each of the following procedures, select whether it is a test of control or a

substantive procedure.
Review a sample of GDNs for signature Test of control Substantive procedure
of the accounts staff.
For a sample of goods despatched Test of control Substantive procedure
immediately before and after the year
end, trace the GDN to the invoice to
ensure it has been recorded in the
correct period
Discuss with management the process Test of control Substantive procedure
for determining the allowance for
receivables.
Observe Seeley staff inspecting the Test of control Substantive procedure
customers’ identification card prior to
goods being loaded onto the vans

15 Which TWO of the following risks arise as a result of the two deficiencies noted
in the prior year file?
A Risk of irrecoverable debts
B Risk of orders not being fulfilled on a timely basis
C Risk of revenue being understated
D Risk of invoices being recorded inaccurately
E Risk that revenue is not recorded in the correct accounting period
Q 16
Your firm has been appointed auditor of Wickets Co, a company which manufactures
furniture. The company employs 60 weekly-paid employees comprising upholsterers,
carpenters, joiners and general labourers. All employees are paid by bank transfer
directly into their accounts.
Hours worked are recorded on clock cards. Employees clock in and out on arrival at
and departure from the premises. The clocking in and out process is not monitored.
At the end of each week, the factory manager, Mr Lamb, gives the accounts
supervisor, Mrs Gooch, the clock cards for that week and collects the clock cards for
the following week. Each employee’s name and number is entered on the card by Mrs
Gooch.
The payroll is processed using a computer with a hard disk which stores the payroll
program, standing data and transactions relating to employees. On completion of
payroll processing, the hard disk is copied onto a CD which is stored in one of the
filing cabinets in the accounts office. Mrs Gooch calculates the hours worked for each
employee, split between basic and overtime. The cards are then passed to Miss
Smith, the payroll clerk, who enters the details into the computer. Batch controls are
not used. The figures for gross and net pay are calculated by the program and the
following reports are generated:
Payroll: details per employee of gross pay, deductions and net pay;
totals thereof and total hours split between basic and overtime;
Summary: cumulative details to date per employee;
Payslips: details of gross pay, deductions and net pay;
Bank payment list: bank account details, net pay per employee and total net pay.

No checks are performed on the calculations as it is assumed the computer calculates

the amounts correctly. The finance director, Mr Lewis, reviews the total net pay on
the bank payment list to ensure this is comparable to previous months and signs it to
authorise the bank transfer.
Mr Lamb gives a list detailing starters and leavers to Miss Smith who enters these
changes into the computer as and when the situation arises. She uses the same
password as for payroll preparation even though there is a facility within the software
for hierarchical passwords. Miss Smith then files the list with the personnel records in
her filing cabinet.
Required:
(a) In respect of the wages system of Wickets Co:
(i) Identify and explain FIVE deficiencies in the system
(ii) Provide a recommendation to alleviate each deficiency
(iii) Describe a test of control the auditor should perform to assess whether the
control, if implemented, is effective.
(b) Describe substantive procedures the auditor should perform to confirm Wickets
Co’s payroll expense.
(Total: 30 marks)
Q 17

You are the senior in charge of the audit of Dean Manufacturing. To assist you in
your audit planning, one of the audit team has provided the following description
of the purchasing system. No other controls exist apart from those described.
The company has no buying department so employees place orders in their own
area of responsibility. A three part order form is used; copy 1 is retained by the
originator, copy 2 is sent to the goods inward department and copy 3 is sent to the
supplier.
Goods are received, but not checked, by the goods inwards clerk. Once received,
the supplier’s delivery note and the purchase order for those goods are sent to the
purchase ledger clerk.
When the supplier’s invoice is received the purchase ledger clerk checks the
calculations on it, initials it and staples the delivery note and purchase order to it.
She enters the invoice on to the purchase ledger.
The invoice is then sent to the manager responsible for the employee who ordered
the goods. The manager codes the invoice and returns it to the purchase ledger
clerk. Coded purchase invoices are entered onto an analysis sheet and posted to the
nominal ledger monthly by journal entry.
The cashier pays suppliers monthly on instructions from the purchase ledger clerk.
The purchase ledger control account is reconciled monthly by the purchase ledger
clerk who also reconciles suppliers’ statements.

Required: For each internal control deficiency in the purchasing system:

(a) Identify the deficiency and briefly explain its audit significance (if any), in
terms of the type of errors that could result from it. (14 marks)
(b) Describe the effect it would have on your normal audit procedures in terms
of any additional or extended procedures required. (6 marks)

(Total: 20 marks)
18 Jasmine Co manufactures motor vehicle components and its year end was 30
June 20X8. You are an audit supervisor of Peppermint & Co and the final audit is
due to commence shortly. Total assets are $43·2m and profit before tax is $7·2m.
The following matters have been brought to your attention:
Trade receivables
Jasmine Co’s trade receivables ledger is comprised of a large number of customers.
In previous years, the audit team has undertaken a positive trade receivables
circularisation to confirm year-end balances. However, the customer response rate
has historically been low and so alternative audit procedures have been
undertaken. A decision has been made that for the current year audit a
circularisation will not be performed. The year-end trade receivables balance is
$3·9m (20X7: $2·8m) and the allowance for trade receivables is $410,000 (20X7:
$300,000).
Bank balances
The bank and cash figure included in Jasmine Co’s draft financial statements is
comprised of a number of bank account balances: an overdraft of $5·1m which is
the company’s main current account and $0·2m relating to several savings
accounts. The finance director has informed the audit manager that all accounts
have been reconciled as at the year end.
The overdraft of $5·1m has increased significantly since the prior year (20X7:
$1·2m). The directors have informed you that the overdraft facility, which the
company requires in order to operate on a daily basis, is due for renewal in October
20X8 and that they are confident it will be renewed.
Required:
(a) Describe substantive procedures the auditor should perform to obtain
sufficient and appropriate audit evidence in relation to Jasmine Co’s trade
receivables. (5
marks) (b) Describe substantive procedures the auditor should perform to
obtain sufficient and appropriate audit evidence in relation to Jasmine Co’s
bank balances.
(5 marks) (c) Describe the audit procedures the auditor should perform in
assessing whether or not Jasmine Co is a going concern.
(5 marks)

During the final audit, the finance director has informed the audit team that
Jasmine Co’s bankers will not make a decision on the renewal of the overdraft
facility until after the auditor’s report is signed. The audit engagement partner is
satisfied that the use of the going concern basis is appropriate.
The directors have agreed to include some brief going concern disclosures in the
draft financial statements and the audit team still have to assess the adequacy of
these disclosures.
 Required:
(d) Discuss the issue and describe the impact on the auditor’s report of Jasmine
Co of adequate AND inadequate going concern disclosure. (5 marks)
(20 marks)