Green Co

Audit Risk Audit Response

1. New client Obtain required information from the
Teal and Co is a new client for previous auditor of the company for
the company and so there is a more understanding and assign
lack of understanding of the adequate time to a suitable and
company’s accounting experienced audit team through a
policies, internal controls etc. detailed team briefing to cover key
leading to detection risk. areas of risk.
2. Sale of shares Advice the audit team to remain
CEO of the company is more alert and skeptical, especially
planning on selling his shares in areas which affect profit and asset
in the stock market. There is a valuations.
risk that he might manipulate
the financial statements for
faster sales of his shares
leading to overstatement of
assets and profits.
3. Refurbishment Cost Obtain a breakdown of
Refurbishment costs spent on refurbishment cost to correctly
incorporating cafés in retail allocate costs under PPE which
stores were recorded under satisfies the criteria
PPE. There is a risk that the
company may have recorded
the expenses under assets
leading to an overstatement of
Assets and understatement of
operating expenses.
4. Loan Obtain the loan agreement and
Refurbishment costs on agree to the split made between
incorporating retail stores current liability and non-current
were partly financed through a liability.
loan of $10M. There is a risk
that the company has not split
the amount between current
and non-current liability
leading to a misstated value of
current and non-current
liability in SOFP.
5. Interest on loan Obtain the loan agreement to
The interest-on-loan taken to recalculate the interest on loan and
incorporate retail stores is not agree to the interest rate in the loan
mentioned. There is a risk that documentation and confirm if it has
the company may have been included in the draft SOPL.
omitted recording the amount
 of interest-on-loan leading to
understatement of finance
cost in SOPL.
6. Advertising expenditure Advice management to rectify the
Advertising expenses is wrong entry and review the correct
expected to generate revenue entry.
and so it is recognized under
Intangible assets. Advertising
expenditure is not an
intangible asset to be
capitalized and amortized and
should be recorded under
expenses.
7. Payment of fine Obtain confirmation from lawyers on
Green Co received a complaint the probability of payment.
from the building authority
due to a breach of building
regulations. A provision on this
should be maintained on the
payment of fine

Lapis Co

Audit risk Audit response

1. Goods-in-transit Discuss with the management to
Lapis Co purchases its raw conduct a detailed cut-off testing by
materials from overseas obtaining purchase invoice and a
suppliers. The company is sample of the shipping documents
responsible for the goods-in- from overseas suppliers to make
transit from the point of sure that nothing was omitted and
dispatch. There is a risk that test its accuracy.
the company may have
omitted to record goods after
they have been dispatched
leading to misstated inventory
and payables.
2. Internal controls Advice audit team to undertake
The external audit team may retesting of controls conducted by
rely on the control testing internal audit team and agree to the
carried out by internal testing carried out by them to
controls. If the external audit confirm the adequacy of tests run by
team relies on this, there is a the internal audit team.
risk they may draw wrong
conclusions leading to
increased detection risk.
3. Allowance on receivables Discuss with the financial director on
 Customers have complained how irrecoverable receivables are
their difficulties in using Lapis identified and request the need for
Co’s televisions. Financial increase in allowance on
director has indicated that receivables. Review the allowance
there is no need for an set on receivables after extending
allowance on receivables. post-year-end cash receipts testing.
There is a risk that some
receivables may not be
received leading to
overstatement of receivables
and understatement of
allowance
4. Warranty provision Obtain invoices on sale of speakers
Television speakers if the after replacement and warranty
company was replaced by a claims received during the year and
cheaper alternative leading to post-year-end to verify if warranty
increased warranty claims for provision has increased. Review the
television speakers. There is a adequacy of warranty provision and
risk that the company may not agree to the financial statements.
have included this increase
leading to understated
warranty provision.
5. Fraud Advice the audit team to remain
Payroll clerk has been more alert and skeptical especially
dismissed after discovering on those matters relating to profits
that he had took a number of and assets.
fraudulent transactions. There
is a risk that he may have
conducted more frauds, earlier
events which has not been
identified.
6. Non-compliance with local Discuss with the management the
standards method of disclosure taken by them
The company has prepared and advise on the need to disclose
financial statements according the requirements according to local
to IFRS standards requiring standards.
only disclosure of
remuneration payable to each
director. However, the
company did not comply with
local accounting standards
which require disclosures of
names of directors and total
amount of remuneration
payable to them
7. Development cost Obtain a breakdown of the
 The company has capitalized development cost to verify
$1.6M as intangible assets as capitalization has been done
part of the development of according to the provisions of IAS 38
new smart television model. Intangible assets and agree to the
There is a risk that costs does supporting statements
not meet the capitalization
criteria relating to overstated
intangible assets and
understated costs.
8. Loan Obtain loan agreement and agree to
Company secured a loan to the split made between current and
finance the development of non-current liabilities.
new smart television. There is
a risk that the company may
not have recorded the split
between current and non-
current liabilities leading to
understated current liabilities
overstated non-current
liabilities.

PEACH

Audit risk Auditor’s response

1. New accounting system Advice audit team to undertake
A new accounting system was detailed testing to confirm accuracy
introduced which was tested and completeness of the transferred
before implementing it. There data.
is a risk that the opening Walkthrough to document the new
balances may have been system and test its controls.
misstated if transfer from old Discuss with the management if any
system has not been issues have been faced since its
conducted properly. implementation.
2. Development costs Discuss with the management the
The company is developing a accounting policy used to determine
new product. The total amount the amount of development cost to
estimated to be capitalized is be capitalized.
$0.8M. There is a risk that this Obtain a breakdown of these costs
cost may not meet the and agree to supporting documents
capitalization criteria to make sure that capitalization has
according to IAS 38 Intangible been done accurately and agree to
assets leading to supporting documents.
overstatement of intangible Discuss with eh management the
assets and understatement of assessment of useful life of the
costs. There is also a risk that capitalized expenditure and its
the capitalized expenditure reasonableness.
 has not been amortized over Recalculate the amortization
its useful life. expense to confirm calculations are
accurate.
3. Inventories Discuss with the management the
Due to lower demands, the reasonableness to sell inventory
company is unable to sell more than its cost.
inventory of $277000. There is Obtain sales agreement to confirm
a risk that the value of probability of sales to international
inventories may have gone customers.
below the cut-off leading to Discuss with the management if a
overstated inventory and written down is needed after
understated cost of sales. assessment of NRV through delivery
and shipping cost and agree to
supporting documents.
4. Staff costs Advice the management to
Machinery was replaced and reclassify staff costs with an
so significant staff costs were adjusting journal entry.
incurred by the company. Review the journal entry to confirm
However, these were recorded if the adjusting entry has been
under wages and salaries. accurately recorded.
Staff costs are not part of
wages and salaries and needs
to be capitalized which leads
to misclassification and
overstated wages and salaries
amount and understated
property, plant and
equipment.
5. Loss on sale Discuss with the management the
Machinery was sold at a depreciation policy followed by them
significant loss. There is a risk and recalculate charge according to
that the depreciation policy the relevant accounting standards
used may not be appropriate by obtaining a sample of assets to
leading to overstated verify accuracy of valuation.
depreciation charge and
understated profits.
6. Useful life Discuss with the management the
The management has decided method used to increase useful life
to increase useful of and its reason to verify the
machinery by an average of 5 reasonableness for this valuation.
years. This might be an
attempt to reduce
depreciation charge, leading
to overstated profits.
7. Fraud Discuss with the management to
A member of the finance team understand how fraud was detected
 conducted fraudulent and corrected.
transactions like purchase of Advice the audit team to remain
non-current assets and so he more alert and maintain professional
was dismissed by the skepticism especially on matters
company. There is a change relating to non-current assets and
that he may have conducted profits.
fraud previously leading to
overstated PPE and so
increased control risk.
8. Reconciliation Obtain NCA register and reconcile
Due to fraud, the company occurrences to reconcile remaining
has started to investigate events through a journal entry and
fraud at the beginning of the agree to the supporting documents.
year. However, these have not Review the journal entry passed by
been completed at year-end. the company on reconciliation.
There is a risk that this might
lead to misstated financial
statements.

ESK

Audit risk Audit response

1. New client Assign suitable and well-
Esk Co is a new client for the experienced audit team and allocate
company. Therefore, there is a adequate time for gaining
lack of understanding of the knowledge of the company and its
company’s accounting accounting policies, internal controls
policies, internal controls etc. etc. through a detailed team-briefing
leading to increased detection to cover key areas of risk.
risk.
2. Patent Discuss with the management the
The Company purchased accounting policy used to capitalize
patent for $2.6M to patent purchase.
manufacture a waste disposal Obtain a breakdown of the amount
system. The purchase cost paid for the purchase of patent.
along with legal fees, Review the amount and agree to
administration expenses and supporting documents to verify that
other costs were capitalized. expenses that meet the
These costs are not part of IAS capitalization criteria are capitalized
38 Intangible assets and and other costs are written off in the
should not be capitalized SOPL.
leading to overstatement of
intangible assets and
understatement of indirect
expenses in SOPL.
3. Loan Obtain loan agreement and confirm
Purchase of patent was the split made between current and
financed through a loan. There non-current liabilities has been done
is a risk that the company may according to the relevant accounting
not have split the loan into standards and local legislation and
current and non-current agree to the financial statements.
liabilities leading to Re-calculate the interest amount
overstatement of non-current with the rate mentioned in the
liabilities and understatement agreement to verify its accuracy and
of current liabilities. agree to the financial statements.
There is also a risk that the
company may have omitted to
include interest-on-loan
expense within finance cost in
SOPL.
4. Miscoded invoices Discuss with the payables clerk to
Payables ledger clerk has understand how miscoded invoices
discovered that there has were discovered to undertake
been a mis-coding in invoices detailed testing.
and trade payables were not Obtain payables ledger and sample
recorded. This error was of invoices of trade payable and
corrected but there is a risk agree to supporting documents like
that previous invoices were reconciliations made to verify
mis-coded leading to balances are not misstated.
understated trade payables in
SOFP.
5. Damaged inventory Obtain purchase invoice to
There was a fire in the understand the purchase cost and
warehouse resulting in post-year-end sales invoices and
damaged inventory and compare the amounts. Discuss with
inventory of $1.1M was written the management to see any written
off. There is a risk that the down on inventory is required.
company may not have
written down the inventory
leading to overstated
inventory and understated
cost of sales.
6. Insurance claim Obtain insurance agreement and
An insurance claim was raised discuss with the insurance agents
on damaged inventory which the probability on receiving a claim
has been recorded under against the damaged inventory.
receivables as the directors If it is virtually certain, the treatment
are confident that they will is correct.
receive this amount. There is a If it is not virtually certain, the
risk that this claim might be treatment is incorrect and the audit
rejected leading to team must request management to
 overstatement of receivables. remove it from profits.
7. Sales targets Advice the audit team to remain
Sales staff has been given an more alert and maintain professional
opportunity to receive a bonus skepticism. Obtain a sample of sales
if sales targets are met. There invoices from sales staff and verify
is a risk that the staff may its accuracy by confirming it with
misstate sales in receive the the customers and agree to the
bonus leading to supporting documentations.
overstatement of profits.
8. Fine Discuss with the tax consultants of
The tax authorities have the company the probability of
raised a penalty or fine payment of fine to estimate the
against the company due to allowance on payment of fine.
breach of sales tax
regulations. An allowance on
this payment must be set
aside depending on the
probability of payment. There
is a risk that the company may
not have set an allowance on
this leading to understatement
of provisions.

MAGPIE CO

Audit Risk Audit Response

1. New Client Obtain information from previous
Magpie Co is a new client for auditor of the firm to understand the
the firm. The company lacks accounting policies, internal controls
knowledge about the internal etc. and assign a well-experienced
controls, accounting policies and suitable audit team and allocate
etc. of the Magpie Co, leading adequate time to understand the
to increased detection risk. client through a detailed team
briefing explaining the key areas of
risk.
2. Refurbishment costs Obtain a breakdown of the
The company spent $0.75M on refurbishment costs.
refurbishing its stores, which Review the amounts to see if it
has been included in the satisfies the criteria given under the
financial statement as PPE. relevant accounting standard and
This treatment is wrong as the rest is expensed and agree to
refurbishment costs may not the financial statements.
satisfy the criteria given under
IAS 16 PPE, leading to
overstated PPE and
understated expenses.
3. New system Obtain documentations relating to
The company installed a new the new system and confirm the
system which helps daily accuracy and completeness of the
records from sales to be sent transferred data.
to the central finance Undertake test to confirm correct
department. There is a risk opening balances have been
that errors like wrong opening transferred from the old system.
balances etc. and other errors Discuss with the management to
may have occurred while see any other issues has raised
transferring data to the new which may lead to misstatement in
system. financial statements.
4. Cash shortages Discuss with the management to
With installing the new see if these cash shortages are part
system, the head office of fraud
recognized increased cash Obtain cash register and undertake
shortages in each store and substantive procedures on the
these differences have not balances by comparing it with the
been reconciled as they are cash invoices and agree with the
small amounts. There is a risk financial statements.
that these differences could Advise audit team to remain more
be large but net off to smaller alert and maintain professional
amounts and not reconciling skepticism through the audit and
them leads to misstate cash especially areas relating to cash
balances in the financial balances.
statements.
5. Receivables Undertake aged customer listing
The company extended its test and review post year end
credit terms and so the receipts and discuss with the
number of receivables to be management to see if there is a
received has increased but the need for allowance or if other
finance director does not allowances will be enough to cover
intend to make an allowance these balances
on this. There is a risk that if
the company does not set an
allowance, it leads to
understated allowances and
overstated receivables in the
financial statements.
6. Supplier reconciliations Discuss with the payables clerk to
Payables clerk noticed that the understand the reasonableness for
balance owed by the company including reconciling items in the
to its suppliers is more than supplier reconciliation statements.
that of the list of individual Undertake test to determine current
supplier balances, but no test year after-date purchase invoices
has been performed on this. and agree to the accruals listing.
There is a risk that if test are
 not run, misstated payable,
cost of sales and expense
balances will be shown in the
financial statements.
7. Inventory Obtain post year-end sales receipts
The company discovered that to identify the selling price of soil
soil of cost $0.1M has been and compare it with the cost of soil
contaminated and is not being to see if a written down is need to
able to be sold. There is a risk satisfy the criteria of lower of cost or
that selling prices of soil may NRV according to the provisions of
have gone lower than cost IAS 2 Inventories.
price and this is not shown as
financial statements leading to
overstated inventory balances
and understated cost of sales.

SCARLET

Audit Risk Audit Response

1. New client Obtain information from previous
Scarlet Co is a new client for auditor of the firm to understand the
the firm. The company lacks accounting policies, internal controls
knowledge about the internal etc. and assign a well-experienced
controls, accounting policies and suitable audit team and allocate
etc. of the firm, leading to time to understand the client
increased detection risk. through a detailed team briefing
explaining the key areas of risk.
2. Temporary financial Obtain required certificates and
accountant documentations from the new
Due to illness, the previous accountant to verify his eligibility to
financial accountant was not confirm his technical competency
able to prepare draft financial and experience.
statement and so a new Discuss the accounting policies and
accountant was temporarily other needed information with the
introduced. There is a risk that new accountant.
the accountant may not be
fully versed in the accounting
policies etc. of the firm leading
to misstated statement.
3. Strong results Advice the audit team to remain
The company is planning to more alert and maintain professional
raise finance through a bank skepticism especially on those
loan to replace three machines matters affecting profits and assets.
in the production facility and
so the company has requested
 for faster financial statement
preparation. The directors of
the company is keen on
reporting strong results to the
bank for the purpose of loan.
There is a risk that the
management may try to
manipulate statement to
overstate profits and assets.
4. Training costs Discuss with the management the
Company purchased new reasonableness for capitalizing
machine which can only be training costs. Request management
used by trained staff and for to correct this treatment through a
this staff had to undertake rectifying journal entry and review
training courses which costs the journal entry. Obtain a
$15000 for the firm and breakdown on other costs of
capitalized this as part of cost machinery and verify they have
of asset. This treatment is been recorded according to the
wrong as training costs do not criteria and agree to support
meet the criteria to be documents.
capitalized under PPE, leading
to overstated machinery and
understated expenses.
5. Goods-in-transit Obtain confirmation from supplier
Company purchases its goods once goods are dispatched and
from an overseas supplier and include them within inventories and
is responsible for the goods agree to the GRNs and supplier
once they leave the supplier’s dispatch notes once goods are
warehouse. There is a risk the dispatched.
company may have omitted
recording goods-in-transit
leading to understated
inventory.
6. Receivables collection Discuss with the management on
period how irrecoverable debts are
The company discovered that identified.
receivables collection period Review results of aged receivables
has increased from 38 days to and post-year-end cash receipts
52 days. There is a risk that a listing and
provision for irrecoverable discuss if general provision are
debts may not have been enough to cover irrecoverable debts
recognized by the company, or whether a new provision is to be
leading to overstated determined.
receivables and understated
provision.
7. Bonus Disclose the matter with the
 Directors have received management and request the
significant bonus which was management to correct the
included within payroll charge treatment and show bonus charge
in SOPL. However, local with respect to local legislation.
legislation requires separate
disclosures of directors’
bonuses in FS. There is a risk
that the company may not
have complied with local
legislation leading to wrong
presentation.
8. Return of goods Obtain credit note and verify if
Chemicals for $210000 was goods returned have been included
sold to a customer but was within inventory and receivables and
returned because the chemical revenue reduced in SOFP.
mis did not match the
customer’s specifications.
There is a risk that the
company may not have
included the return of goods
and receivables to customer
leading to overstated revenue
and receivables.

HARLEM

Audit Risk Audit Response

1. Wholesale customers Review returns during the 60-day
The company sells goods to its period mentioned in the agreement
wholesale customers on a sale and compare it with the 5% return
or return basis on which return set by the finance director and
rate is assumed to be 10% but discuss major variations if any, with
the finance director is the finance director.
planning on reducing this to
5%. There is a risk that the
finance director may have
anticipated lower returns
leading to overstatement of
revenue and cost of sales
2. Patent Recalculate the amortization
The company purchased a expense of patent over its useful life
patent for $800,000 of four years according to the
capitalized under intangible provisions of IAS 38 Intangible
assets. There is a risk that the assets and agree with the
company may have omitted supporting documentation.
 calculation of amortization of The calculated amortization expense
patent over its useful life of 4 should be charged with a rectifying
years leading to overstated journal entry which should be
intangible assets and reviewed by the audit team.
understated amortization
charges.
3. Disposal Review the depreciation policy used
The company reviewed its by the management and recalculate
plant and machinery, and depreciation expense to verify loss
surplus items were sold at a on disposal have not been
loss of $160,000. There is a misstated.
risk that the company may not
have used appropriate
depreciation policies leading
to understated assets and
profits.
4. Fraud Discuss with the management to
The financial controller was understand how fraudulent
dismissed after he carried out transactions were identified and
fraudulent transactions additional substantive test should be
against the company. There is taken over the areas affected in the
a risk that he may have financial statements.
carried out other fraudulent Advise the audit team to remain
transactions leading to more alert and maintain professional
misstated financial statements skepticism throughout the audit and
and increased control risk. in terms of further fraud.
5. Court fine Obtain confirmation from the
The financial controller has lawyers on the payment of fine and
threatened to sue the accordingly set provision with
company due to unfair accordance to the relevant
dismissal and disputes the accounting standard.
allegations. There is a risk that
the company may not have
set a provision for the
payment of fines leading to
understated provisions.
6. Quality of tires Obtain post-year-end sales receipts
The company occurred a and compare it with the cost of the
problem during production tires produced after the defect was
which affected the quality of found to see if a written down is
the tires. There is a risk that required according to the provisions
the NRV of tires have gone of IAS 2 Inventories
down than cost which may not
be recorded going against the
provision given under IAS 2
Inventories leading to
 overstated inventory.
7. Receivables Discuss with the management the
A significant customer of the reasonableness for not increasing
company was given 6 months allowance.
for payment, but he is facing Undertake aged customer listing and
financial difficulties. The post year end cash receipts testing
company anticipates to verify the creditability of the
allowance on receivables to be customer and discuss if there is a
same as that of previous year. need to set allowance or if the
Therefore, there is a risk that allowance set will be enough.
allowance required may be
more than anticipated leading
to overstated receivables and
understated allowance.
8. Bonus issue Obtain share certificates and agree
The company is planning on to the increase in shares with the
paying its shareholders a share register and reduction in
bonus issue of $0.5 per equity reserves.
share instead of a dividend. Confirm legality of share issue with
There is a risk that the the statutory constitution of the
company may not have company and review board minutes
recorded decrease in reserves to verify that issues have taken
and a risk that bonus issue place with approval.
was not accounted with Review adequate share issue
respect to the company’s disclosure in the financial
statutory constitution leading statements.
to misstated share capital and
may not have shown adequate
disclosures.

PEONY

Audit Risk Audit Response

1. Internal audit Review the results of the test run by
The IA department takes the IA department and evaluate or
controls testing once every 18 re-take the test run by the IA
months and the finance department to confirm its adequacy.
director has asked the
external audit team to reply
on the controls testing of IA.
There is a risk that errors may
have occurred during tests
and relying on them leads to
increased detection risk.
2. Operating profit Review the classification items in
 Revenue and gross profit is the operating expenses and
forecasted to be increased by compare it with the prior year and
3% and from 56% to 60% inconsistencies investigated to
respectively but operating confirm if it has been accurately
profit is forecasted to decrease recorded.
from 21% to 18%. There is a
risk that misclassification of
items in the financial
statements have occurred
leading to misstated financial
statements.
3. Inventory valuation Discuss with the management the
The company values its reasonableness of close
inventory as selling price less approximation of cost.
average profit margin as it is Review selling price minus average
anticipated to be a close profit margin and compare with the
approximation to cost. There is actual cost to see if there is any
a risk that inventories may be major differences.
overstated as their valuation is Request management to value
not according to the criteria of inventory according to the
lower of cost or NRV as only provisions of IAS 2 Inventories.
close approximation of cost is
taken not the actual cost.
4. Inventory Count Obtain perpetual inventory counts
The company undertakes timetable and review the controls
perceptual inventory counts over the counts.
across all stores and Discuss with the management to
warehouses which showed undertake year end inventory count
higher quantity than physical as inventory records may not be
quantity of inventory which reliable.
has been a recurring issue.
There is a risk that errors may
have been raised during
inventory counts leading to
misstated inventory balances.
5. Non-current Assets Review the depreciation policy used
The IA performed NCA present by them and confirm its
in the company’s stores which reasonableness.
has not been depreciated and Discuss with the management to
was identified as obsolete. verify if obsolete assets have been
There is a risk that written off an review the
depreciation policies adopted adjustments to confirm its
by the company may not be completeness.
appropriate leading to
understated depreciation
charges and overstated assets
 and profits.
6. Advertising expenditure Discuss with the management the
The company introduced reasonableness of this recognition.
advertising campaigns and a Obtain evidence for this recognition
current asset of $0.7M has to review its reasonableness and
been recognized as the agree to the supporting documents.
financial director believes Request management to remove
there will be a boost in sales. current asset and record the amount
This treatment is incorrect, as expense in SOPL.
leading to overstated current
assets and understated
expenses.
7. Payroll function Contact the service organization and
The company outsourced its obtain type 1 and type 2 records to
payroll function to an external confirm the level of controls in place
service organization, and it and to review the accuracy and
sends monthly reports on completeness over the data
wages and salaries and transferred.
statutory obligations. There is
a risk that errors may have
occurred while transferring
data.
8. Loan Obtain loan agreement and agree to
The company obtained loan of the split made between current and
$3M to finance the opening of non-current assets.
three new stores. There is a Re-calculate the interest expense
risk that the company may not with the interest rate mentioned in
have split between current the loan agreement and agree to the
and non-current liabilities, financial statements.
leading to misstated balances
of current and non-current
liabilities. There is also a risk
of omission of interest-on-loan
expense leading to
understated finance cost.

DARJEELING

Audit Risk Audit Response

1. Development costs Obtain breakdown of the
The company has included development costs and verify if it
$0.9M under intangible assets has been satisfied according to the
as part of development costs. provisions of IAS 38 Intangible
There is a risk that these costs assets.
may not satisfy the criteria
 given under IAS 38 intangible
assets leading to
overstatement of intangible
assets and understatement of
expenses.
2. Manufacturing line Discuss with the management to
The company included a understand the reasonableness for
manufacturing line within PPE this valuation.
which includes the cost price, Request management to remove
installations costs of $0.4M additional costs like installation
etc. which has been costs, servicing plan etc. from PPE
capitalized. This treatment is and include within expenses in SOPL
incorrect, leading to through a rectifying journal entry.
overstatement of PPE Review the rectifying journal entry.
3. Loan Obtain loan agreement and agree to
The company borrowed a loan the split made between current and
of $4M to help finance the non-current assets and agree to the
development project. There is financial statements in accordance
a risk that the company may with the relevant accounting
not have split between current standard.
and non-current liabilities,
leading to misstated balances
of current and non-current
liabilities.
4. The company borrowed a loan Re-calculate the interest expense
of $4M to help finance the with the interest rate mentioned in
development project. There is the loan agreement and agree to the
a risk that the company may financial statements by confirming it
not have split between current with the bank ledger account and
and non-current liabilities, bank statements.
leading to misstated balances
of current and non-current
liabilities. There is a risk of
omission of interest-on-loan
expense leading to
understated finance cost.
5. Stock exchange Advise the audit team to remain
The company is intending to more alert and maintain professional
undertake a stock exchange skepticism throughout the audit
listing within the next 12 especially on matters relating to
months. There is a risk that profits and assets.
the directors of the company
may try to manipulate the
financial statements for
overstating profits and assets.
6. Receivables Discuss with the management to
 The company extended its understand how they identify
credit terms to its customers irrecoverable receivables review
in order to boost sales. There procedures undertaken to ensure
is a risk that irrecoverable credit control is operating
receivables have increased effectively.
and an allowance is not set on Undertake aged customer listing and
this leading to overstatement post year end cash receipts testing
of receivables and and discuss if there is a need to set
understatement of allowance. allowance or if the allowance set will
be enough
7. Price promise Discuss with the management to
The company introduced price understand the basis of $0.25M as
promise under which the refund liability and agree to
customers who purchased supporting documents to confirm
cheaper products from reasonableness of assumptions and
elsewhere will be able to claim valuations.
the difference from the
company on which a refund
liability of $0.25M refund
liability has been included.
There is a risk that the
company may not have
accounted this according to
the provisions of the relevant
accounting standard leading
to misstated revenue, profits
and liabilities.
8. Inventory valuation Undertake test to confirm cost and
There was a problem relating NRV of the faulty goods to see if
to mixing of materials with they are recorded in accordance
production process, leading to with the criteria of lower of cost or
faulty products which has NRV.
been sold, leading to Discuss with the management if
increased number of customer there is a need to write down
complaints. There is a risk that inventory or if modifications are
the value of inventory has required to rectify the quality of
gone down which has not products.
been accounted according to
the provisions of IAS 2
Inventories.

CORLEY APPLIANCES
 Audit Risk Audit Response
1. Warranty Provision Review the calculation for warranty
The company has a warranty provision to verify its
provision on products to repair reasonableness and completeness
defects at its own cost which with the management and assess
is expected to be lower than the number of warranty claims after
the required amount as year end to verify if the set warranty
directors are confident that provision is enough.
products will be of very high
standard. There is a risk that
provision set is lower than
expected leading to
understated provision.
2. Goods-in-transit Discuss with the management to
Goods are purchased from an confirm if inventory is recorded from
overseas supplier based in the point of dispatch and agree to
Asia and the company is the supporting documents.
responsible for goods once Discuss if there is a need to increase
they are dispatched from the cut-off by undertaking detailed cut-
supplier’s warehouse. There is off testing of shipping documents
a risk that the company may before and after year and by
not have included inventory obtaining the purchase costs of
and payables within the goods.
statements leading to
understated inventory and
trade payables.
3. Inventory count The audit team must assess which
Inventory count is scheduled inventory count they will attend in
to take place on 31 August terms of materiality of balances,
20X5 across all 20 sites. There central warehouse and those
is a risk that audit staff for this warehouses having exceptions
purpose is not adequate and before.
so errors can occur leading to
misstated inventory count
4. Receivables collection Discuss with the management to
period understand how irrecoverable dets
The company has receivables are identified by the company and
collection period of 55 days, reasonableness on not increasing
which is more than the the allowance. Obtain lists of aged
company’s target of 42 days. customers to verify the need for an
The finance director believes increase the allowance or if general
that there is no need for an allowance is only needed to cover
increase in allowance for this these.
matter which leads to
understatement of allowance.
5. Fraud Discuss with the management to
 Fraud was discovered in the understand how they discovered
finance department, and the fraud in the business and make sure
value of fraud is to be that balances in the ledger is
recognized as an expense in reconciled and request the audit
SOPL, and purchase invoices team to remain more alert and
were not recorded in the maintain more professional
individual supplier accounts skepticism especially on these
leading to misstated areas.
statements.
6. Automated dispatch Obtain a breakdown of cost to verify
system if only those cost which satisfy the
New machinery was criteria according to the provision of
purchased which was included IAS 16 Property, plant and
in PPE at cost including equipment are capitalized and other
installation costs, training costs like training costs etc. that are
costs etc. This is not the right wrongly recorded are rectified
treatment as installation costs, through a journal entry. Review the
training costs should not have rectifying journal entry.
been capitalized leading to
overstated PPE.
7. Overdraft Discuss with the finance director if
The company’s overdraft any alternative sources of income
facility has increased over the has been identified or if there is a
limit of $0.7M and bank has possibility of increasing the
expressed its concerns over overdraft facility and understand if
the overdraft and decision is there is any going concern risks and
yet to be made whether bank review them.
will continue to provide
overdraft facility. There is a
risk that the company may
have included anticipated
increase in overdraft leading
to overstated overdrafts in the
FS.
HART

Audit Risk Audit Response

1. New client Contact the previous auditor of the
Morph & Co is a new client for company. Assign a suitable and well-
the company. There is a lack experienced audit team and allocate
of understanding of the adequate time to understand the
internal controls, accounting company and its key areas of risk
policies etc. of the company, through a detailed team briefing.
leading to increased detection
risk.
2. Profits Advice the audit team to remain
Directors are pleased with more alert and maintain professional
forecast profits as they are skepticism, especially on those
paid bonus from profits before matters relating to manipulation of
taxes. There is a risk that the profits and assets.
directors may have
manipulated financial
statements to overstate profits
and assets.
3. Revenue Review the contracts of customers
The company is undertaking to verify the performance
construction of playgrounds obligations and discuss with the
and customers have to pay an management to understand the
initial deposit of 25% and pay accounting policy used to estimate
the rest once ownership is performance obligation and to see if
transferred to the customer. it it according to the relevant
There is a risk that the accounting standard.
company may have recorded
this as revenue and not
deferred income or contract
liability leading to overstated
revenue and understated
deferred income or contract
liability.
4. WIP Request the audit team to visit
Valuation of WIP will be those sites that are material and
undertaken in all sites where then undertake valuation of WIP in
playground is under accordance to the relevant
construction, but the audit accounting standard and agree to
team is to attend only 5 sites. the supporting documents.
There is a risk that valuation
 of other WIP are omitted
leading to increased detection
risk.
5. Development costs Obtain a breakdown of research and
The company incurred $1.8M development expenditure and make
relating to research and sure that this has been recorded in
development and $0.6M was accordance with the criteria given
written off in SOPL and no under IAS 38 Intangible Assets.
amortization expense was Assess the useful life of the asset
included. There is a risk that and estimate the amortization
the written off expenditure expense to be written off.
satisfies the criteria of
development costs according
to IAS 38 Intangible Assets.
There is also a risk of not
including amortization
expense leading to overstated
intangible assets and
understated amortization
expense.
6. Machinery Advice the management to rectify
Machinery was purchased machinery included through a
from a supplier for $2.4M out rectifying journal entry and review
of which $1M was paid but the the journal entry and verify if $1M
machinery was not delivered was included within payables. If not,
on time. There is a risk that advise management to do so.
the company may have
recorded this under PPE and
also a risk that the company
may not have recorded
payables of $1.4M leading to
overstated PPE and
understated trade payables.
7. Rights issue Obtain share certificates and verify
The company raised finance to if rights issue has been recorded
purchase the payment of new with respect to the relevant IFRS
machinery through rights standard and has been split
issue to existing shareholders. between share capital and share
There is a risk that the premium appropriately.
company may have recorded
this under share capital and
not under rights issue leading
to overstated share capital.
8. Disclosure Advise the management to disclose
Directors’ remuneration was information in accordance with local
disclosed in line with IFRS legislation and review if it has been
 standards which was not in done appropriately.
accordance with the local
legislation which requires
more extensive disclosures.
There is a risk of wrong
presentation if disclosures are
not in accordance with local
standards.

Green Co

Audit Risk Audit Response

1. New client Contact the previous auditor and
Green Co is a new client for assign a suitable and well-
the firm. This leads lack of experienced audit team and allocate
understanding of the adequate time to gain
accounting policies, internal understanding of the client through
controls etc. leading to a detailed team briefing.
increased detection risk.
2. Listed company Request the audit team to remain
The CEO is intending to sell his more alert and maintain professional
shares in the market. There is skepticism throughout the audit,
a risk that he may try to especially on matters affecting
manipulate financial profits and assets.
statements to overstate profits
and assets.
3. Refurbishment costs Obtain a breakdown of
The company capitalized refurbishment costs and agree to
$14.2M as part of the financial statements to make
refurbishment costs under sure that expenses are recorded in
PPE. This is a recognition of SOPL and costs which need to be
costs is incorrect leading to capitalized are recorded in SOFP.
misstated PPE and expense
balances.
4. Loan Obtain loan agreement and agree to
Refurbishment costs were the split made between current and
financed with the help of loan non-current liabilities with the
of $10M. There is a risk that financial statements.
the company may not have Review the interest rate and
split loan between current and recalculate the interest amount and
 non-current liabilities leading agree with the financial statements.
to misstated balances of
current and non-current
liabilities.
There is also a risk that the
company may have omitted
recording interest-on-loan,
leading to understatement of
finance costs.
5. Advertising campaign Discuss with the management to
Advertising costs spent on understand the reasonableness for
cafes were included within this recognition and advise passing
intangible assets. This leads to an adjusting journal entry to correct
overstated intangible assets the treatment.
and finance costs as Review the rectifying journal entry.
advertising costs do not
satisfy the criteria given under
IAS 38 Intangible Assets and it
is being amortized over 24
months.
6. Provision for Fine Obtain confirmation from building
The building authority notified authority of the company on the
the company that probability of payment of fine and
refurbishments were not accordingly request management to
recorded in accordance with recognize provision on payment of
building regulations. There is a fine.
risk that the company may not
have maintained a provision or
adequate contingent liability
disclosures on this leading to
understated provisions.
7. Development costs Discuss with the management to
Green Co is developing a new understand the criteria used to
project on maintaining the capitalize development costs and
correct temperature and verify if it satisfies the criteria given
humidity in its greenhouses under IAS 38 Intangible Assets and
and incurred cost of $350,000 agree to the financial statements.
which was recognized under
intangible assets. There is a
risk that development costs
may not have met the criteria
given under IAS 38 Intangible
assets leading to overstated
intangibles and understated
expenses.
8. Inventories Obtain a sample of the damaged
 Inventories of cost $425000 inventory to test if NRV has gone
were damaged due to a flood. down and compare with the cost of
There is a risk that NRV of damaged inventories to verify that it
these inventories has gone satisfies the criteria of lower of cost
down and inventories is still or NRV according to IAS 2
shown at their cost which does Inventories.
not satisfy the criteria given
under IAS 2 Inventories
leading to overstatement of
inventories.

BPP KIT QUESTIONS

Sunflower Stores

Audit Risk Audit Response

1. Disposal of warehouse Discuss with the depreciation policy
The company disposed one of used and recalculate to confirm its
its warehouses which was only accuracy to make sure that profit is
occasionally used at a profit. not overstated.
There is a risk that the Review NCA register and confirm
company may have reduced that the warehouse has been
depreciation charge leading to removed.
a profit on disposal.
There is also a risk that the
company may not have
removed the disposed
warehouse for property, plant
and equipment leading to its
overstatement.
2. Loan Obtain loan agreement and agree to
The company has spent the split made between current
$1.6M on refurbishing its liabilities and non-current liabilities
supermarkets. To finance this in the financial statement.
the company has borrowed Recalculate the interest amount with
$1.5M from bank. There is a the interest rate given in the loan
risk that the company may agreement and agree to the finance
have failed to split loan costs in financial statements.
between current and non-
current liabilities leading to
misstated current and non-
current liability balances.
There is also a risk that the
company may have omitted
recording an interest-on-loan
 leading to understated
finance costs.
3. Inventory valuation Discuss with the finance director to
The finance director believes understand the reasonableness of
valuing inventory on the basis this valuation and request to value
of selling costs less average inventory on the basis of lower of
profit margin gives a close cost or NRV giving the correct
approximation to cost. This is valuation of inventory.
wrong valuation of inventory
and against IAS 2 Inventory
standard leading to misstated
inventory valuation.
4. Inventory count Conduct materiality testing by
Inventory count will take place taking a sample of sites to visit to
across 25 supermarkets. The see the supermarkets which are
auditor will not be able to material for audit and request
attend the inventory count of auditor to take inventory counts of
all these supermarkets leading those supermarkets.
to misstated inventory count.
5. Financial records Obtain financial records to test the
Each supermarket maintains accuracy and completeness of
its own financial records which financial records submitted.
are submitted monthly to the
head office. There is a risk that
errors might occur while
transferring the records,
leading to increased inherent
risk.

Kangaroo Constructions

Audit Risk Audit Response

1. Credit terms Discuss with the management to
Due to financial difficulties, understand how irrecoverable
the company has decided to receivables are identified.
offer extended credit terms to Review aged customer listing and
its customers. Receivables post year end receipts testing and
collection period for 2012 was discuss if there is a need to maintain
49 days (48.67) going up to 91 allowance.
days (90.5) for 2013. There is
a risk that the company may
not have maintained an
allowance on irrecoverable
receivables, leading to
overstated receivables and
 understated allowances.
2. Inventory Obtain sample of houses to test to
Complete houses are included see if their selling prices have gone
in inventory at selling price down and compare it with purchase
even though selling prices cost or manufacturing costs of
may have gone down due to building and compare to see if prices
decreased demand. There is a have gown down and agree to the
risk that inventory not financial statements.
recorded using criteria given
under IAS 2 Inventories leads
to misstated inventory
balances.
3. Depreciation Discuss with the management to
The company has increased understand the reasonableness of
useful lives of plant and increasing the useful life and
machinery from 3 years to 5 undertake required tests to see how
years. There is a risk that this often assets are replaced and if
might be an attempt to reduce there is an actual increase in useful
depreciation charge, leading life of plant and machinery.
to overstatement of profits
and assets.
4. Profits target Advice audit team to remain more
Directors need to meet their alert and maintain professional
profit targets for them to be skepticism especially on the matters
paid with their bonuses. There relating to assets and profits.
is a risk that the directors may
try to manipulate assets and
profits leading to their
overstatement for meeting the
target profits.
5. Loan Obtain loan agreement and agree to
The company borrowed $1M the split made between current and
to help them finance their non-current liabilities and agree to
operating cash flow. There is a the financial statements.
risk that the company may not Re-calculate the interest expense
have split between current using interest rate in loan
and non-current liabilities. agreement and agree to the
There is also a risk that the financial statements.
company may have omitted to
record interest expense
leading to misstated finance
cost.

Smooth brush
 Audit Risk Audit Response
1. Selling of goods Obtain sales agreement and verify
The company sells goods for the selling price at which goods are
large home improvements and sold and compare with the
60% of goods to one large manufacturing costs of goods to
chain store homewares at review to see if it satisfies IAS 2
reduced selling prices. There is Inventories criteria of lower of cost
a risk that the selling prices or NRV and agree to the financial
may be lower than cost statements.
leading to overstated
inventories.
2. Credit period Discuss with the management to
The company has offered four- understand how irrecoverable
month credit offer to its receivables are treated.
customers when its credit Undertake aged customers and post
period is only one month. year end receipts testing to see if
There is a risk that there is an increase in irrecoverable
irrecoverable receivables and discuss the need to maintain
might increase on which a provision on this.
provision is not set leading to
overstated receivables and
understated provisions.
3. Plant and equipment Discuss with the management the
Plant and equipment has been reasonableness of the treatment.
written down to its scrap value Request management to record
even though it was not used. plant and equipment not according
There is a risk that the to the provisions of IAS 16 PPE but
company may have according to relevant standard of
understated property, plant impairment of assets.
and equipment in SOPL and
recognition was not done
according to IAS 16 PPE.
4. Inventory count Obtain inventory register and agree
The company undertakes to the sample of Goods Received
perceptual inventory counts Notes and Goods Dispatched Notes
done by its internal audit team to test that movements were
and warehouse member appropriately recorded in
across 12 areas, where accordance to the relevant
movement of goods continued accounting standard.
to take place. There is a risk
errors may have occurred
during inventory counts
leading to misstated inventory
counts
5. Court Obtain confirmation from lawyers on
The finance director left the the probability of payment of
 company and has threatened penalty and adequately set
to sue the company for unfair provision.
dismissal. There is a risk that
the company may not have
maintained a provision on
payment of penalty, leading to
understated provisions.

Walters Co

Audit Risk Audit response

1. Financial results Advise the audit team to remain
The management undertook more alert and maintain professional
various strategies to improve skepticism throughout the audit,
trading results. There is a risk especially in areas where profits and
that the management may try assets are affected.
to manipulate the financial
statements to improve profits
and assets.
2. Sales-related bonus Obtain sales register and review
schemes post year-end sales returns and
The company introduced other invoices to confirm balances
sales-related bonus schemes have been correctly accounted.
to their salespersons. There is
a risk that the salespersons
may try to manipulate and
include false or fictitious
transactions leading to
overstated profits
3. Credit period Discuss with the management how
The company introduces irrecoverable receivables are
extended credit periods to identified.
their customers. The trade Conduct aged customer listing and
receivables collection period post year receipts testing to see the
has increased from 61 days to number of receivables increased and
71 days. There is a risk that discuss if there is a need to set
the company may not have provision.
set a provision on
irrecoverable receivables
leading to overstated
 receivables and understated
provision.
4. Operating profit Obtain breakdown of operating
Gross profit for the year has expenses and cost of sales and
increased from 44.4% to review the evidence for
52.2% but operating profit misclassification.
decreased from 22.2% to
19.6%. There is a risk that
there has been a
misclassification of expenses
in the SOPL from cost of sales
to operating expenses.
5. Inventory Discuss with the management the
The finance director reasonableness for this valuation
conducted inventory valuation and request to reclassify overheads
policy and has included under direct expenses in SOPL
additional overheads under
inventories as he considers
them to be part of production.
This is not the right treatment
as it may not satisfy the
criteria given under IAS 2
Inventories leading to
overstatement of inventories.
6. Going concern disclosures Undertake detailed going-concern
When compared to the testing and review cash forecasts for
previous year, the cash the company for 12 months from
balance for the company year-end and discuss any major
decreased to zero, when at assumptions or judgements with the
the same time, there has been management.
an overdraft of $0.9M. There is
a risk that the company may
not be going concern.

Recorder

Audit Risk Audit Response

1. Inventory valuation Obtain inventory register and
The company undertakes sample of GDNs and GRNs and
perceptual inventory counts agree to the balances recorded in
instead of year-end inventory the inventory register to make sure
count. There is a risk that no errors have taken place to ensure
errors have occurred in the completeness and accuracy.
 inventory system leading to
misstated inventory
valuations.
2. Goods-in-transit The audit team must undertake
The company does not record detailed cut-off testing of goods-in-
good when it is in transit, but transit from suppliers to ensure cut-
when it is received. There is a off is accurate and complete.
risk that the inventory may
not be properly recorded
leading to understated
inventory.
3. Sales Bonus Obtain sales ledger and confirmation
The company introduced from customers confirming sales
bonus systems based on sales. transactions recorded are accurate
There is a risk that the and sales cut-off testing to review
salespersons may record post year-end cancellations which
fictitious sales leading to indicates errors.
overstated profits.
4. Receivables Discuss with the management to
Receivables for the company understand how irrecoverable debts
has increased for the company are identified.
and concerns are arising about Undertake aged-customer listing
the creditworthiness of some and post yearend cash receipts
customers. There is a risk that testing to see if irrecoverable debts
the company may not have have increased and advise
set a provision on management to set the required
irrecoverable receivables provision or discuss if the general
leading to understated provision will be enough to cover it.
provision and overstated
receivables.
5. Director’s bonus Discuss with the management to
Bonus to directors are understand the reasonableness of
recorded in wages and this presentation and request them
salaries. The local legislation to make the adequate disclosure
requires separate disclosures with respect to local legislations.
of bonus leading to wrong
presentations of financial
statements.

Abrahams Co

Audit Risk Audit Response

1. Development costs Obtain breakdown of the
 The company spent $2.2M on development costs and identify the
development of new products costs that satisfies the criteria
which are in the early stages according to IAS 38 Intangible assets
of development and the and the rest should be expensed.
financial director is planning
on capitalizing the amount as
he is confident about these
products being successful.
There is a risk that the
company is not recording
development costs according
to the provisions given under
IAS 38 Intangible assets
leading to overstated
intangible assets and
understated expenses.
2. Inventory Standard costs set should be
The company uses standard compared with actual costs to see if
costing methods based on it satisfies the criteria given under
when the product is first IAS 2 Inventories and changes
manufactured and is not later should be discussed with the
updated. There is a risk that management.
the costing method does not
satisfy the criteria under IAS 2
Inventories leading to
understated inventory.
3. New accounting package Undertake testing to confirm the
The company introduced new accuracy and completeness of data
accounting system. The new transferred by documenting the new
and old systems did not run system.
parallelly as expected, leading
to distress among accounting
team. There is a risk that
errors may have occurred
while transferring data to the
new system.
4. Issue of shares Obtain share certificates and agree
The company raised finance to the split made between share
through share issues with capital and share premiums with the
premium to finance financial statements.
development of new products.
There is a risk that the
company may not have split
between share capital and
share premiums leading to
misstated balances.
 5. Loan Obtain loan agreement and agree to
The company raised funds the split made between current
through loans to finance liability and non-current liability with
development costs to which the financial statements.
bank covenants are attached. Recalculate the interest expenses
There is a risk that the with the interest rate in the
company may not have split agreement and agree to the
between current and non- financial statements.
current liabilities leading to Obtain NCA register and agree to
misstated balances. There is the balances of assets to confirm
also a risk of omission of fictitious or fake assets are not
interest and increased balance recorded to confirm its accuracy.
of assets to meet bank
covenants leading to
understated finance costs and
overstated assets.

Sleep tight Co

Audit Risk Audit Response

1. New client Contact the previous auditor to gain
The company has been more knowledge on the company
recently appointed as external and appoint suitable and well-
auditors for Sleep Tight. There experienced audit team and allocate
is a lack of knowledge of the adequate time to understand the
company’s accounting key risk areas, internal controls,
policies, internal controls etc., accounting policies etc. of the firm
leading to increased detection though a detailed team briefing
risk.
2. Financial director Obtain documentation of controls. If
The company only has part- they are evaluated to be weak,
time directors and no financial undertake increased substantive
director but has a financial tests accordingly.
controller who is a qualified
accountant. There is a risk of
increased undetected fraud
and errors in the financial
statements leading to
increased control risk.
3. Revenue Discuss with the management to
Customers are initially asked understand the point at which
to pay a deposit of 40% of the revenue is being recognized and
total order value and the rest agree with the financial statements
after final delivery. There is a to confirm that revenue is not
risk that the company may recorded until goods are delivered.
 include this under revenue
instead of deferred income
leading to overstatement of
revenue and understatement
of deferred income.
4. Guarantee Discuss with the financial controller
Beds are delivered with a two- the basis of establishment of the
year guarantee. There is a risk amount set as provision and review
that the company may not the judgments and assumptions
have recorded a provision on made by him.
this leading to understated
provision.
5. Payables Review invoices from subcontractors
The company employs to see if they are part of current
external subcontractors to yearend and confirm they have been
help them make beds. The included within accruals and agree
subcontractor’s issue invoices to the financial statements.
for the work they carried out
which sometimes do not get
round to until the following
month. There is a risk that the
company may not have
included payables in this
leading to understatement of
payables and expenses.
6. Inventory valuation Discuss with the director the basis
The director will estimate the on which inventory is valued and
value of finished goods and request director to value it according
will consider the order value in to the provisions of the relevant
doing so. There is a risk that accounting standard.
the director may not consider
the criteria of lower of cost or
NRV according to the
provisions of IAS 2 Inventories
leading to misstated inventory
balances.
7. Loan Obtain loan agreement and agree to
The company borrowed a loan the split made between current and
for funding the purchase of non-current assets.
new premises. There is a risk Re-calculate the interest expense
that the company may not with the interest rate mentioned in
have split between current the loan agreement and agree to the
and non-current liabilities, financial statements.
leading to misstated balances
of current and non-current
liabilities. There is also a risk
 of omission of interest-on-loan
expense leading to
understated finance cost.
8. Loan covenants Advise the audit team to remain
The bank has attached more alert and maintain professional
covenants on the loan taken skepticism throughout the audit
by the company to find the especially on areas where profits
purchase of the premises and assets are affected.
which are profit-related. There
is a risk that the directors may
try to manipulate books of
accounts to meet the loan
covenants leading to
overstated profits and assets.