Audit Risks Auditor’s Responses

1)A new accounting system was introduced. It was tested prior to 1)The audit team should perform substantive
implementation but management does not consider the need for opening balances to check whether they are tran
testing after implementation. not.
There is a risk that opening balances may not be transferred correctly Discuss with management as to whether th
and the system may not working efficiently as the management should difficulty in operating the new system.
consider the need to run old system in parallel.
If this is the case then it will increase risk of misstatement of accounting
records.
2)In order to fund the development project the company obtained a 2)Review loan agreement and recalculate the
loan of $1.2m which is to be paid in 3 years in arrears. current liabilities and review it with the am
There is a risk that Current and non current liability portion of the loan statements to check whether it is correctly
may not be separated correctly in financial [Link] this is the case current and non- current portion.
then the liabilities will be misstated. Recalculate the interest expense for the year an
Additionally, the interest expense is paid in arrears and may have not the accruals schedule.
been accrued correctly at the year end resulting in understated accruals
and interest expense.

3)In order to secure the bank loan, Peach Co agreed to maintain a 3)More experienced team should be allocated fo
minimum operating profit margin and specific sales target. Co and the audit team should exercise professio
There are covenants with loan agreement failing to maintain the remain alert to any kind of fraud.
covenants will ultimately result in repayment of loan or fines payments. Specially, the audit team should remain alert to
In order to maintain the covenants the management may have made requires directors judgement.
several manipulations. Detailed cut off testing should be done to assess
If this is the case then profits, sales and Revenue will be misstated.
4)Peach Co has been developing a new production process which 4)Discuss with management the accounting poli
reduce sugar in its drinks by 50%. case of identifying research and development cos
IAS-38 Intangible assets requires only those costs to be added in Detailed testing of supporting documents should
development costs which meets a certain criteria. the nature of the expenditures. Any develop
There is a risk that research cost is added in development cost should be then set out which meets the criteria o
incorrectly and if this is the case the intangible assets will be overstated
and expenses understated.

5)Peach Co’s previous supplier has launched a legal claim against Peach 5)The audit team should discuss with
Co for breach of a contract and the lawyers have indicated that they correspondence from company’s lawyer as to
will lose the case and an amount of $0.3m will be payable to supplier. supplier winning the case and the amount of pen
IAS-37 Provisions, contingent assets and contingent liabilities requires if As the liability is probable so management shoul
an amount payable is probable then a provision should be made and if a proper provision.
there is possibility then a disclosure should be required.
There is a risk that management may have mot made a provision or
disclosure if this is the case than provisions will understated and
disclosures are inadequate.
6) Directors of Peach Co decided to extend the useful lives of plant 6)The audit team should discuss the rationale
and machinery by an average of five [Link] the fact that old useful lives of assets and ask the criteria for a
machinery being sold at a significant loss. lives.
As per IAS-16 Property plant and equipment useful lives of non-current Furthermore, revised useful lives of the ma
assets should be reviewed annually and if it is reasonable then resulting compared with gain and loss on asset or how o
decrease in depreciation is correct. replaced to get evidence on its reasonableness.
As stated earlier that old machinery is already sold at loss then such
increase in useful lives of assets in not in line with the current situation.
If this is the case then machinery is overstated and depreciation
expense is understated.

7)A member of finance team team was dismissed after it was 7)The audit team should exercise professional sk
discovered that he was fraudulently purchasing non current assets for Discuss this matter with management to inquire
personal [Link] Co started to investigate the fraud by comparing all of this fraud and to ask how controls are imple
physical assets to non current asset register but will not have this fraud.
completed reconciliation by the year end. Furthermore, detailed substantive testing shoul
There is a risk that non-current assets will be overstated. selecting a large sample of assets and comparin
There is also increased control risk if this fraud went undetected. purchase order and assessing that this asset is ge
benefit.
8)Staff costs for preparation of site for new asset and testing costs was 8)Discuss this matter with management and ask t
included in wages and salaries expense. wrong accounting treatment.
As per IAS-16 Property, plant and equipment all the directly Furthermore, a breakdown of staff costs should
attributable costs incurred in preparing the site and testing the machine the criteria for allocating the staff costs.
should be capitalized as pert of asset cost. An adjusting journal entry should be re
If the amount remained unchanged then machinery will be understated management.
and wages and salaries expense will be overstated.