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CPA
Advanced Leval
Advanvced Auditing and Assurance December 2021
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Advanvced Auditing and Assurance
Revision Kit

QUESTION 1(a)

Q One of the practices that has gained momentum in the recent past is remote auditing, particularly following the outbreak of the COVID-19 pandemic.

Required:

As an auditor, describe how you would approach remote auditing from a practical perspective.
A

Solution


➧ Technology and Infrastructure Readiness:

Ensure that you and your team have access to the necessary technology and infrastructure to support remote auditing. This includes secure and reliable internet connections, video conferencing tools, remote access to client systems, and secure file-sharing platforms.

➧ Communication and Coordination:

Establish clear lines of communication with the client and your audit team. Schedule regular virtual meetings and update the client on the audit progress and requirements. Clarify the expectations and responsibilities of both parties to ensure a smooth audit process.

➧ Risk Assessment and Planning:

Perform a risk assessment to identify key audit risks and tailor your audit approach accordingly. Plan the audit procedures and testing methods, considering the remote working environment's limitations and challenges.

➧ Document Request and Sharing:

Request relevant documents and data from the client electronically. Utilize secure file-sharing platforms to exchange audit evidence securely. Clearly label and organize the files to ensure easy retrieval during the audit.

➧ Virtual Interviews and Inquiries:

Conduct virtual interviews with key personnel to gather information and conduct inquiries. Ensure that you obtain the necessary explanations and clarifications related to the audit procedures.

➧ Electronic Confirmations:

Utilize electronic confirmations, such as email confirmations, to verify account balances and transactions with third parties. Ensure that you have adequate procedures in place to validate the authenticity of responses.

➧ Remote Observation:

Perform remote observation of inventory, physical assets, or other audit procedures as applicable. Use video conferencing or live streaming to observe the client's operations and validate the accuracy of recorded information.

➧ Data Analytics:

Leverage data analytics tools to analyze large datasets efficiently. Data analytics can help identify anomalies, patterns, and potential areas of risk or misstatements.

➧ Secure Data Handling:

Ensure that sensitive client data is handled securely and in compliance with data protection regulations. Encrypt sensitive files and use secure communication channels to protect client information.

➧ Remote Team Management:

Coordinate and supervise your audit team remotely. Conduct regular team meetings to discuss progress, address challenges, and ensure consistency in audit procedures and documentation.

➧ Time Management and Deadlines:

Manage time efficiently, considering potential delays or challenges in the remote working environment. Set realistic deadlines and monitor progress to meet reporting requirements.

➧ Quality Control:

Implement robust quality control procedures to review the audit work remotely. Maintain documentation and provide clear explanations for audit conclusions and findings.

➧ Final Reporting and Opinions:

Compile the audit findings and prepare the audit report. Discuss the results with the client through virtual meetings and provide management with a clear understanding of the audit conclusions.

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QUESTION 1(b)

Q Management audit calls for an inter-disciplinary approach considering the scope and focus of the audit.

Required:

Discuss the above statement with particular reference to:
(i) Steps involved in a management audit.
(ii) Management functions appraised.
(iii) Audit techniques adopted.
A

Solution


(i) Steps involved in a Management Audit:

A management audit involves a comprehensive review and evaluation of an organization's management practices, policies, and processes. The purpose is to assess the effectiveness, efficiency, and overall performance of the management team in achieving the organization's objectives.

The steps involved in a management audit are as follows:

➧ Scoping and Planning:

Define the scope and objectives of the management audit. Identify the areas to be audited, such as strategic planning, organizational structure, leadership effectiveness, decision-making processes, and performance management.

➧ Gathering Information:

Collect relevant data and information through interviews, questionnaires, document reviews, and observations. This step involves interacting with key management personnel and other stakeholders to understand the organization's management practices thoroughly.

➧ Analyzing Policies and Procedures:

Review the organization's policies, procedures, and internal controls related to management functions. Evaluate their adequacy, consistency, and alignment with the organization's goals and industry best practices.

➧ Assessing Leadership Effectiveness:

Evaluate the leadership styles and competencies of top management. Assess their ability to provide strategic direction, motivate employees, and drive organizational success.

➧ Evaluating Decision-Making Processes:

Analyze the decision-making processes within the organization. Assess whether decisions are timely, informed, and aligned with the organization's strategic objectives.

➧ Reviewing Performance Management:

Evaluate the performance management systems, including goal-setting, performance appraisal, feedback mechanisms, and employee development programs. Determine how effectively the management team monitors and improves employee performance.

➧ Identifying Strengths and Weaknesses:

Identify management practices and processes that are effective and contribute to the organization's success. Also, identify areas where improvements are needed to enhance overall management performance.

➧ Developing Recommendations:

Based on the audit findings, develop specific recommendations for improvement. Prioritize these recommendations and present them to the management team for consideration and action.

➧ Reporting and Follow-Up:

Prepare a detailed management audit report highlighting the findings, recommendations, and action plans. Present the report to the organization's management and board of directors. Follow up to ensure that the recommended actions are implemented effectively.

(ii) Management Functions Appraised:

In a management audit, various management functions are appraised to assess their effectiveness and efficiency in achieving organizational goals.

Some of the key management functions that are typically appraised in a management audit include:

➧ Strategic Planning: Assessing the organization's strategic planning process to ensure that it aligns with the overall mission and vision, and is effectively executed to drive growth and competitiveness.

➧ Organizational Structure: Evaluating the organizational structure to determine if it is well-designed, with clear lines of authority and accountability, and supports efficient communication and decision-making.

➧ Leadership and Management Competencies: Appraising the leadership and management capabilities of key executives and managers to ensure they have the skills and qualities required to lead and inspire teams.

➧ Decision-Making Processes: Evaluating how decisions are made, including the involvement of relevant stakeholders, the availability of accurate information, and the analysis of potential risks and opportunities.

➧ Performance Management: Assessing the effectiveness of performance management systems, including goal-setting, performance measurement, and employee feedback mechanisms.

➧ Risk Management: Evaluating the organization's risk management practices to identify potential risks and ensure appropriate risk mitigation strategies are in place.

➧ Communication and Information Sharing: Appraising the effectiveness of communication channels and information-sharing practices within the organization to foster transparency and alignment.

(iii) Audit Techniques Adopted:

In a management audit, a combination of audit techniques is adopted to gather relevant information and assess the effectiveness of management practices.

Some common audit techniques used in a management audit include:

➧ Interviews: Conducting structured interviews with key management personnel, including executives and managers, to gain insights into their roles, responsibilities, and management practices.

➧ Questionnaires: Distributing questionnaires to employees at various levels of the organization to gather feedback on management effectiveness and organizational culture.

➧ Document Review: Analyzing policies, procedures, strategic plans, organizational charts, and other relevant documents to understand the management structure and processes.

➧ Observations: Observing management meetings, decision-making processes, and interactions between management and employees to assess leadership styles and communication effectiveness.

➧ Benchmarking: Comparing the organization's management practices with industry best practices and standards to identify areas of improvement.

➧ Data Analysis: Using data analytics to analyze performance metrics, financial data, and other relevant data to identify trends, patterns, and potential areas for improvement.

➧ Case Studies: Analyzing specific management decisions or projects to evaluate their effectiveness and identify lessons learned.

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QUESTION 1(c)

Q Explore the potential threats to an auditor's
A

Solution


➧ Self-Interest Threat:

Occurs when the auditor or their immediate family members have a financial interest in the client, such as direct ownership of shares or financial incentives tied to the client's performance. This could lead to a conflict of interest and compromise the auditor's ability to provide an unbiased opinion.

➧ Self-Review Threat:

Occurs when the auditor is asked to review their own work or decisions made in previous engagements. This threat can arise when auditors provide non-audit services to the same client or when reviewing the work of internal audit staff who report to the auditor.

➧ Advocacy Threat:

Occurs when the auditor promotes the interests of the client or acts in a manner that compromises their objectivity and independence. This can happen if the auditor becomes an advocate for the client's position or decisions, instead of remaining impartial.

➧ Familiarity Threat:

Occurs when the auditor develops a close and long-standing relationship with the client. Over time, familiarity can lead to personal ties and a reluctance to question the client's actions or challenge management's assertions. ➧ Intimidation Threat:

Occurs when the auditor is influenced by management or third parties to modify their opinion or overlook material misstatements. This can happen when auditors face pressure to maintain a client relationship or fear retaliation for issuing a qualified or adverse opinion.

➧ Management Threat:

Occurs when the auditor relies heavily on management representations without independently verifying the information. If management is not forthcoming or is uncooperative, the auditor's ability to gather sufficient and appropriate evidence is compromised.

➧ Financial Dependency Threat:

Occurs when the auditor depends significantly on the fees from a particular client or a group of clients. Financial dependency can create a perceived or real threat to independence, as auditors may fear losing a significant source of revenue if they take a rigorous stance on issues.

➧ Structural Threat:

Occurs when the auditor's organizational structure or reporting lines create conflicts of interest that influence audit decisions. For example, if the audit team reports to management rather than an independent audit committee, independence can be compromised.

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QUESTION 2(a)

Q You are the Audit Manager at Milele associates, a firm of Certified Public Accountants, You are assigning staff to the final audit of Melrose Ltd., a company listed on the Securities Exchange, for the year ended 30 September 2021. You are aware of the following critical matters:

Melrose Ltd. has recently issued a profit warning. The company has announced that significant synergies expected from the acquisition of Atalanta Ltd., a former competitor company, have not materialised. Moreover, it has emerged that some of Atalanta Ltd. assets are significantly impaired.

Your firm's Corporate Finance Department assisted by two audit carried out due diligence on behalf of Melrose Ltd. before the purchase of Atalanta Ltd. was completed in September 2020.

Required:

Comment on the ethical and other professional issues raised by the above matter and their implications, if any, for staffing the final audit of Melrose Ltd. for the year ended 30 September 2021
A

Solution


The above matter raises several ethical and professional issues that need careful consideration when staffing the final audit of Melrose Ltd. for the year ended 30 September 2021. The critical matters related to Melrose's profit warning and the impairment of assets in its recent acquisition, Atalanta Ltd., have significant implications for the audit engagement.

Here are the key ethical and professional issues to address:

➧ Independence and Objectivity:

Given that Milele Associates' Corporate Finance Department assisted in the due diligence process for the acquisition of Atalanta Ltd., there is a potential threat to the audit team's independence and objectivity. Auditors must assess whether their prior involvement in due diligence could impair their ability to conduct an independent and objective audit.

➧ Familiarity Threat:

The fact that Milele Associates was involved in the due diligence process for Atalanta Ltd. creates a familiarity threat. The audit team may become too familiar with the client's operations and management, potentially leading to a lack of professional skepticism in their audit procedures.

➧ Professional Skepticism:

The profit warning and the impairment of assets in the recent acquisition are red flags that require heightened professional skepticism during the audit. The audit team must be vigilant in their assessment of management's estimates, representations, and potential risks.

➧ Competence and Expertise:

The audit team must possess the necessary competence and expertise to understand the complexities surrounding the impairment of Atalanta Ltd.'s assets and the associated accounting and disclosure implications. Specialized knowledge in mergers and acquisitions and fair value measurements may be required.

➧ Audit Committee Communication:

The audit team should communicate the issues raised by the profit warning and asset impairment to the audit committee promptly. Open communication with the audit committee is essential to ensure that they are informed of potential risks and the audit's progress.

➧ Implications for Staffing:

Given the critical nature of the issues related to the profit warning and asset impairment, the staffing of the final audit of Melrose Ltd. requires careful consideration. The following steps should be taken:

➧ Independence Review:

Perform an independence review to assess any threats to independence arising from the Corporate Finance Department's prior involvement in due diligence. If significant threats are identified, consider bringing in a separate team of auditors who were not involved in the due diligence process.

➧ Specialized Skills:

Ensure that the audit team assigned to the engagement possesses the necessary expertise and experience to address the complexities of the profit warning and asset impairment. Additional training or the involvement of specialists may be required.

➧ Professional Skepticism Training:

Reinforce the importance of professional skepticism to the audit team and provide specific training on how to apply it effectively in the context of the profit warning and asset impairment.

➧ Supervision and Review:

Implement a robust system of supervision and review to ensure that the audit procedures and findings are appropriately scrutinized and adequately documented.

➧ Audit Committee Briefing:

Keep the audit committee well-informed about the progress of the audit and any significant issues encountered during the engagement, including the implications of the profit warning and asset impairment.

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QUESTION 2(b)

Q You are the Audit Manager al ABC & Co., a firm of Certified Public Accountants, Currently, you are responsible for the audit of two companies, L Ltd. and M Ltd. The year end for each of the companies is 30 June. You are currently reviewing the audit working papers, files and the audit seniors' recommendations for the auditors' reports. The details are as follows:

(i) L Ltd. is a subsidiary of K Ltd. Serious going concern problems have been noted during this year's audit. L Ltd. will be unable to trade for the foreseeable future unless it continues to receive financial support from the parent company. L Ltd- has received a letter of support (comfort letter) from K Ltd.
The Audit Senior has suggested that due to the seriousness of the situation, the audit opinion must at least be qualified "except for".

(ii) M Ltd. has changed its accounting policy for goodwill during the year from amortisation over its estimated useful life to annual impairment testing. No disclosure of this change has been made in the financial statements. The carrying amount of goodwill in the statement of financial position as at 30 June 2021 is the same as at 30 June 2020 as management's impairment test shows that it is not impaired.
The Audit Senior has concluded that a qualification is not required but suggests that attention could be drawn to the change by way of an emphasis of matter paragraph.

Required:

Discuss with justification, whether you would agree with the Audit Senior's conclusions in each of the cases above.
A

Solution


(i) L Ltd. - Going Concern Issue:

In the case of L Ltd., serious going concern problems have been identified during the audit. The company's ability to continue trading is dependent on financial support from its parent company, K Ltd. The Audit Senior's suggestion of qualifying the audit opinion as "except for" due to the seriousness of the going concern issue needs careful consideration.

Justification:

The going concern assumption is fundamental to the preparation of financial statements. If there are significant doubts about the entity's ability to continue as a going concern, it could have a material impact on the financial statements. The use of a comfort letter from the parent company does not necessarily mitigate the going concern risks entirely, as it depends on the parent company's financial strength and willingness to provide ongoing support.

In this situation, the Audit Senior's suggestion of qualifying the audit opinion "except for" is reasonable and appropriate. A qualification would draw attention to the going concern issue and indicate that the financial statements are not prepared on a going concern basis. It provides transparency to users of the financial statements about the severity of the risk and the reliance on external financial support.

(ii) M Ltd. - Change in Accounting Policy for Goodwill:

In the case of M Ltd., the company changed its accounting policy for goodwill from amortization over its estimated useful life to annual impairment testing. However, no disclosure of this change was made in the financial statements. The carrying amount of goodwill remained the same as management's impairment test showed no impairment.

The Audit Senior's conclusion that a qualification is not required, but an emphasis of matter paragraph could be included, needs careful evaluation.

Justification:

A change in accounting policy is a material accounting issue and requires proper disclosure as per the relevant accounting standards. The failure to disclose the change in the financial statements is a departure from the accounting framework, and users of the financial statements may not be aware of the change and its potential impact.

While the Audit Senior's suggestion of an emphasis of matter paragraph is helpful in drawing attention to the change, it may not be sufficient to fulfill the disclosure requirements of the accounting standards. An emphasis of matter paragraph may provide additional information, but it does not replace the need for proper disclosure in the financial statements.

In this case, the Audit Manager should not agree with the Audit Senior's conclusion. The change in accounting policy should be properly disclosed in the financial statements, and failure to do so could result in a qualified audit opinion. The Audit Manager should ensure that the appropriate disclosure is made or consult with the company's management to rectify the situation before finalizing the audit report.

Summary

The Audit Manager should agree with the Audit Senior's conclusion regarding the qualification of the audit opinion for L Ltd. due to the going concern issue. However, the Audit Manager should not agree with the suggestion of an emphasis of matter paragraph for M Ltd. and instead ensure that the change in accounting policy is properly disclosed in the financial statements.

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QUESTION 2(c)

Q Explain the case against the rotation of auditors by a client. (Hint: Approach from both the auditor's and client's perspective).
A

Solution


Case Against Rotation of Auditors by a Client:

From the Auditor's Perspective:

➧ Loss of Industry Knowledge: Auditors who have been working with a client for an extended period develop a deep understanding of the client's business, industry, and specific risks. Rotation of auditors can result in a loss of valuable knowledge and insights, leading to a potential decrease in audit effectiveness and efficiency.

➧ Familiarity with Client Operations: Long-term auditors become familiar with the client's internal controls and accounting systems. This familiarity allows auditors to identify areas of potential risk and tailor their audit procedures accordingly. With the rotation of auditors, new auditors may take time to understand the client's operations, potentially increasing the risk of overlooking important audit issues.

➧ Disruption to Audit Continuity: Regular rotation of auditors can disrupt the continuity of the audit process. New auditors may require additional time to get up to speed, leading to delays in the audit and potential disruptions to the client's financial reporting timelines.

➧ Cost and Time Implications: The process of transitioning to new auditors can be time-consuming and costly for both the auditor and the client. It involves activities such as knowledge transfer, orientation, and onboarding, which can impact audit fees and resource allocation.

From the Client's Perspective:

➧ Loss of Experience and Expertise: Clients may value the experience and expertise of their long-term auditors, especially if the auditors have developed a deep understanding of the client's business and industry. Rotation of auditors may result in the loss of trusted advisors who provided valuable insights beyond the audit.

➧ Disruption to Business Relationships: Long-term relationships between clients and auditors foster trust and effective communication. Frequent rotations can disrupt these relationships, potentially leading to miscommunication and misunderstandings during the audit process.

➧ Increased Time and Effort: Transitioning to new auditors requires the client to invest time and effort in familiarizing the auditors with the business operations, internal controls, and accounting policies. This can be a significant burden for management and finance teams.

➧ Risk of Audit Expectations Gap: The expectations gap between what clients expect from the audit and what auditors deliver could widen during the rotation process. Clients may have varying expectations from new auditors, leading to potential dissatisfaction with the audit process or outcomes.

➧ Impact on Confidentiality: Long-term auditors may have access to sensitive financial and strategic information. With the rotation of auditors, clients may be concerned about maintaining the confidentiality of their data and intellectual property.

Conclusion:

The case against rotation of auditors by a client encompasses concerns related to the loss of knowledge, familiarity, and continuity in the audit process from the auditor's perspective. On the other hand, clients may be concerned about the loss of experienced auditors, disruptions to business relationships, increased effort in the transition process, and potential risks to confidentiality. Ultimately, the decision on auditor rotation should consider the benefits of fresh perspectives and independence, balanced with the potential risks and costs associated with frequent auditor changes. Regulators and stakeholders play a significant role in shaping audit rotation policies to strike an appropriate balance between these considerations.

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QUESTION 3(a)

Q An audit strategy sets the direction timing and scope of an audit.

Required:

In the context of the statement above.'
(i) Explore the salient features that distinguish a systems-based approach from a risk-based approach to an audit.
(ii) Describe the factors that influence the choice of an audit strategy.
A

Solution


(i) Systems-Based Approach vs. Risk-Based Approach to Audit:

Focus and Scope:

➢ Systems-Based Approach: In a systems-based approach, the focus is on understanding and evaluating the internal control systems of the organization. The audit examines the design and effectiveness of internal controls to assess the reliability of financial reporting and the prevention of material misstatements.
➢ Risk-Based Approach: In a risk-based approach, the focus is on identifying and assessing the risks that may result in material misstatements in the financial statements. The audit is designed to target areas with the highest risk of misstatement, leading to more efficient and effective audit procedures.

Nature of Testing:

➢ Systems-Based Approach: Testing in a systems-based approach is often extensive and focuses on the testing of controls. The auditor tests the operating effectiveness of internal controls to gain assurance on the overall control environment.
➢ Risk-Based Approach: Testing in a risk-based approach is directed towards areas of significant risk. The auditor identifies relevant risks, assesses their significance, and tailors audit procedures accordingly to address those risks.

Evaluation of Controls:

➢ Systems-Based Approach: In a systems-based approach, the evaluation of internal controls is a primary objective. The auditor provides an opinion on the effectiveness of the entity's internal controls over financial reporting.
➢ Risk-Based Approach: While the auditor may consider the effectiveness of controls, the primary objective is to assess the risk of material misstatement and design appropriate responses to address those risks.

Audit Sample Size:

➢ Systems-Based Approach: Due to the extensive testing of controls, the sample size in a systems-based approach may be larger as the auditor needs to gather sufficient evidence on the operating effectiveness of controls.
➢ Risk-Based Approach: The audit sample size is typically smaller in a risk-based approach, as the focus is on targeted testing in areas with higher assessed risks.

(ii) Factors Influencing the Choice of an Audit Strategy:

➧ Nature and Size of the Entity:

The nature and size of the entity influence the choice of the audit strategy.
Larger and more complex entities may require a risk-based approach to address the wide range of risks they face, while smaller entities may benefit from a more standardized systems-based approach.

➧ Industry and Regulatory Environment:

Different industries may have specific risks and regulatory requirements that impact the audit strategy. For example, industries with significant financial reporting complexities, such as financial institutions, may necessitate a risk-based approach.

➧ Previous Audit Findings:

Past audit findings and the effectiveness of the client's internal controls may influence the choice of the audit strategy. A history of control deficiencies may prompt a shift towards a risk-based approach.

➧ Client's Financial Reporting History:

The client's financial reporting history, including the quality and accuracy of past financial statements, may influence the audit strategy. A history of material misstatements may lead to a more risk-focused approach.

➧ Materiality and Financial Statement Assertions:

The materiality of certain financial statement assertions and their associated risks guide the audit strategy. High materiality items may warrant a risk-based approach to ensure appropriate coverage.

➧ Client's Risk Appetite:

Understanding the client's risk appetite and management's attitude towards risk can help tailor the audit strategy to align with the client's risk tolerance.

➧ Time and Resources:

The availability of time and resources also impacts the choice of the audit strategy. Tight deadlines or limited resources may influence the feasibility of certain approaches.

➧ Auditor's Professional Judgment:

Ultimately, the auditor's professional judgment plays a significant role in determining the most suitable audit strategy based on the unique circumstances of the engagement.

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QUESTION 3b

Q There is a strong inter-connection between a financial audit and an operational audit, However, differences also exist.

Required:

Discuss the above statement, clearly bringing out any differences between the two types of audit.
A

Solution


Inter-connection between Financial Audit and Operational Audit:

➧ Common Objective: Both financial audit and operational audit share a common objective, which is to provide assurance to stakeholders about the accuracy and reliability of financial and operational information. They aim to enhance the credibility of the information presented and ensure compliance with relevant standards and regulations.

➧ Shared Information: Financial audits and operational audits often rely on the same underlying data and information. The accuracy and completeness of financial data can significantly impact the results of operational audits, as operational performance is reflected in financial statements.

➧ Complementary Insights: While financial audits focus on the fairness of financial statements and adherence to accounting standards, operational audits provide insights into the efficiency, effectiveness, and economy of operations. The results of both audits complement each other, offering a comprehensive view of the organization's overall performance.

➧ Impact on Risk Assessment: The findings from operational audits can influence the risk assessment process during financial audits. Identifying weaknesses in operational controls may indicate potential financial reporting risks that the financial audit should address.

Differences between Financial Audit and Operational Audit:

Scope and Focus:

➢ Financial Audit: The primary focus of a financial audit is to examine the fairness of financial statements, ensuring that they present a true and fair view of the organization's financial position and performance. The scope is limited to financial transactions and reporting.
➢ Operational Audit: Operational audits concentrate on evaluating the efficiency, effectiveness, and economy of an organization's operational activities. The scope is broader and includes areas like production processes, resource utilization, inventory management, and compliance with internal policies.

Auditing Standards and Approaches:

➢ Financial Audit: Financial audits follow auditing standards such as International Standards on Auditing (ISAs) and generally adhere to a risk-based approach, focusing on materiality and the risk of financial misstatements.
➢ Operational Audit: Operational audits often follow the Institute of Internal Auditors' International Standards for the Professional Practice of Internal Auditing (IPPF) or other relevant standards. These audits employ a risk-based approach as well, but the risks assessed are related to operational processes.

Reporting and Communication:

➢ Financial Audit: The primary output of a financial audit is the auditor's report, which expresses an opinion on the fairness of the financial statements. The report is addressed to the shareholders or owners of the organization.
➢ Operational Audit: The outcome of an operational audit includes a detailed report highlighting findings, recommendations, and opportunities for improvement. The report is typically shared with management and other relevant stakeholders.

Relationship with External Auditors:

➢ Financial Audit: External auditors perform financial audits, and their reports provide assurance to external stakeholders, such as shareholders, regulators, and creditors.
➢ Operational Audit: Operational audits are often conducted by internal auditors or external specialists. Their focus is primarily on assisting management in improving operations and identifying operational inefficiencies.

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QUESTION 3(c)

Q The International Standards on Auditing (ISAs) address various professional standards of practice for auditors. In particular, ISA 240 - "The Auditor's Responsibilities Relating to Fraud in an Audit of Financial Statements" requires the auditor to focus on areas where there is risk of material misstatements due to fraud, including management fraud.

Required:

Explain the actions that an auditor should take to effectively deal with issues of fraud during an audit.
A

Solution


➧ Understand Fraud Risk Factors: The auditor should gain a thorough understanding of the entity's environment, including industry-specific fraud risk factors. This involves assessing the entity's control environment, its internal control systems, and identifying potential areas where fraud is more likely to occur.

➧ Perform Fraud Risk Assessment: The auditor should conduct a fraud risk assessment, considering both inherent and specific fraud risks related to the entity and its financial statements. This assessment helps identify areas that require more attention during the audit.

➧ Plan the Audit to Address Fraud Risk: Based on the fraud risk assessment, the audit plan should be tailored to address areas of higher fraud risk. The audit team should allocate more resources and perform more extensive testing in these identified risk areas.

➧ Obtain Sufficient and Appropriate Evidence: The auditor should obtain sufficient and appropriate audit evidence through testing, observation, inquiry, and other audit procedures. This evidence should be scrutinized for indications of fraud, including intentional misstatements and fraudulent financial reporting.

➧ Exercise Professional Skepticism: Auditors should maintain an attitude of professional skepticism throughout the audit. This involves a questioning mindset and a critical evaluation of evidence, particularly when encountering unusual or unexpected results.

➧ Communicate Fraud Findings: If the auditor identifies potential fraud or material misstatements, they should communicate these findings to the appropriate levels of management and the audit committee promptly. Communication should be clear, factual, and objective.

➧ Consideration of Management Override: The auditor should consider the risk of management override of controls, which may result in intentional misstatements. This involves evaluating the rationale behind significant accounting estimates and judgments made by management.

➧ Use of Technology and Data Analytics: Auditors should leverage technology and data analytics to detect anomalies or unusual patterns that may indicate fraud or inconsistencies in financial data.

➧ Obtain External Legal and Fraud Expertise (if needed): In cases of complex or suspected fraud, auditors may seek assistance from external legal counsel or fraud experts to properly investigate and address the issues.

➧ Documentation: Thorough documentation of the audit procedures performed, fraud risk assessment, and findings is crucial. Proper documentation helps support the auditor's conclusions and demonstrates adherence to auditing standards.

➧ Reporting: If the auditor concludes that material fraud has occurred, they should consider the implications on the audit report. The auditor may need to issue a modified opinion, such as a qualified or adverse opinion, depending on the materiality and pervasiveness of the fraud.

➧ Consultation and Professional Judgement: In dealing with fraud-related matters, auditors may need to seek advice and guidance from colleagues, supervisors, or external experts. The exercise of professional judgment is essential when evaluating the overall impact of fraud on the financial statements and audit conclusions.

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QUESTION 4(a)

Q Audit committees play a critical role in the governance structure of institutions and in the protection of public interest.

Required:

Discuss the key responsibilities of an audit committee.
A

Solution


➦ Audit committees indeed play a crucial role in the governance structure of institutions, including public and private companies, non-profit organizations, and government bodies. They are responsible for overseeing financial reporting, internal controls, risk management, and compliance processes.

The main responsibilities of an audit committee typically include:

➧ Financial Reporting Oversight: One of the primary functions of an audit committee is to review and oversee the financial reporting process. This involves ensuring that the financial statements are accurate, reliable, and comply with accounting standards and relevant regulations. The committee assesses the integrity of financial reports and seeks explanations for any significant or unusual transactions.

➧ Internal Controls and Risk Management: Audit committees are responsible for monitoring the effectiveness of the organization's internal control systems. Internal controls are procedures and processes designed to safeguard assets, prevent fraud, and ensure compliance with laws and regulations. The committee also assesses and addresses the organization's exposure to various risks, such as financial, operational, and reputational risks.

➧ External Auditors Oversight: The audit committee is in charge of appointing, evaluating, and overseeing the work of the external auditors. These auditors are responsible for conducting an independent examination of the organization's financial statements. The committee ensures that the auditors are independent, competent, and objective in their assessments.

➧ Compliance and Legal Matters: Audit committees monitor the organization's compliance with laws, regulations, and internal policies. They review any legal matters that could have a significant impact on the financial statements or the organization's reputation. This involves discussions with legal counsel and management on compliance-related issues.

➧ Ethical and Whistleblower Programs: An important aspect of an audit committee's responsibility is to promote and oversee the organization's code of ethics and whistleblower programs. These programs help create a culture of integrity and accountability within the organization and provide employees and stakeholders with channels to report unethical behavior or potential fraud anonymously.

➧ Cybersecurity and IT Oversight: With the increasing reliance on technology and digital systems, audit committees are now also involved in monitoring the organization's cybersecurity and IT infrastructure. They assess the effectiveness of measures to protect sensitive information and ensure data privacy and integrity.

➧ Internal Audit Function: The audit committee oversees the internal audit function, ensuring that it operates independently and objectively. Internal auditors provide valuable insights into the organization's operations, risk management, and internal controls, and the committee ensures that their findings are addressed by management.

➧ Financial and Non-Financial Risk Management: Apart from financial risks, the audit committee may also be involved in monitoring non-financial risks, such as environmental, social, and governance (ESG) risks. These risks can have a significant impact on the organization's long-term sustainability and reputation.

➧ Communication with Stakeholders: The audit committee communicates with various stakeholders, including the board of directors, management, external auditors, and regulatory authorities. They provide transparency on their activities and raise any concerns or recommendations regarding financial reporting and governance matters.

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QUESTION 4(b)

Q Money Laundering continues to gain currency in spite of efforts by countries and international financial institutions to combat it.

Required:

Summarise some of the measures undertaken by various countries and international financial institutions to control and prevent money laundering.
A

Solution


➦ Despite ongoing efforts by countries and international financial institutions to combat money laundering, the issue continues to persist. However, significant measures have been undertaken to control and prevent money laundering.

Here is a summary of some of these measures:

➧ Know Your Customer (KYC) Regulations: Many countries have implemented strict KYC regulations that require financial institutions to verify and identify their customers. This includes obtaining and verifying personal information, such as identification documents and proof of address, to ensure the legitimacy of financial transactions.

➧ Anti-Money Laundering (AML) Laws: Countries have enacted AML laws that mandate reporting suspicious transactions to the relevant authorities. Financial institutions are required to establish robust AML programs, conduct risk assessments, and monitor transactions for potential money laundering activities.

➧ Customer Due Diligence (CDD) Procedures: CDD procedures are a part of AML regulations, requiring financial institutions to assess the level of risk posed by each customer and conduct enhanced due diligence on high-risk customers. This helps identify potential money laundering risks associated with certain individuals or entities.

➧ AML Training and Awareness: Countries and financial institutions provide training to employees to raise awareness about money laundering risks and prevention techniques. Employees are educated on how to identify suspicious activities and report them to the appropriate authorities.

➧ International Cooperation and Information Sharing: International financial institutions and regulatory bodies collaborate to share information and intelligence related to money laundering activities. This helps identify global trends and networks involved in money laundering.

➧ Financial Intelligence Units (FIUs): Many countries have established FIUs, which are specialized government agencies responsible for receiving, analyzing, and disseminating reports on suspicious financial transactions. FIUs act as a bridge between financial institutions and law enforcement agencies.

➧ Freezing and Confiscation of Assets: Governments have implemented laws that allow for the freezing and confiscation of assets linked to money laundering activities. This acts as a deterrent to potential money launderers and helps recover illicit funds.

➧ Technological Solutions: International financial institutions and governments have invested in technological solutions to enhance AML efforts. This includes the use of artificial intelligence and machine learning algorithms to detect unusual patterns in financial transactions and identify potential money laundering activities.

➧ Trade-Based Money Laundering Controls: Countries have focused on strengthening controls related to international trade to prevent trade-based money laundering, where illicit funds are hidden within legitimate trade transactions.

➧ International Sanctions: Countries and international bodies impose sanctions on jurisdictions or individuals involved in money laundering or supporting illicit activities. These sanctions restrict access to the global financial system and make it harder for money launderers to move their funds.

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QUESTION 4(c)

Q Describe some of the areas that an audit review should address.
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Solution


➦ An audit review should comprehensively assess various areas of an organization to ensure compliance, accuracy, and reliability of financial reporting and internal controls.

Some of the key areas that an audit review should address include:

➧ Financial Statements: The audit review starts with a thorough examination of the organization's financial statements, including the balance sheet, income statement, cash flow statement, and statement of changes in equity. The audit ensures that these statements are prepared in accordance with relevant accounting standards and present a true and fair view of the organization's financial position and performance.

➧ Internal Controls: The audit review evaluates the effectiveness of the organization's internal control systems. This involves assessing the processes and procedures in place to safeguard assets, prevent fraud, and ensure the accuracy and reliability of financial reporting.

➧ Compliance with Laws and Regulations: The audit review verifies that the organization is complying with relevant laws, regulations, and industry standards. This includes tax regulations, labor laws, environmental regulations, and any other applicable legal requirements.

➧ Revenue Recognition and Sales: The auditor scrutinizes the organization's revenue recognition practices to ensure that revenues are recorded accurately and appropriately in line with the accounting principles.

➧ Expense and Expenditure Analysis: The audit review examines the organization's expenses and expenditures to verify their legitimacy and appropriateness. This involves checking for any unauthorized or fraudulent expenses.

➧ Asset Management: The auditor assesses the management and safeguarding of the organization's assets, including tangible assets (e.g., property, equipment) and intangible assets (e.g., intellectual property, goodwill).

➧ Inventory Management: If applicable, the audit review analyzes the organization's inventory management practices, including valuation, accuracy, and control procedures.

➧ Debt and Liability Assessment: The auditor reviews the organization's debt and liability positions to ensure proper recording and disclosure of obligations.

➧ Related Party Transactions: The audit review examines transactions with related parties (e.g., company owners, directors, key management personnel) to ensure they are conducted at arm's length and properly disclosed.

➧ Contingent Liabilities and Commitments: The auditor evaluates contingent liabilities and commitments that may have an impact on the organization's financial position.

➧ Corporate Governance: The audit review assesses the organization's corporate governance framework to ensure that there are adequate checks and balances in place and that the board of directors is fulfilling its responsibilities effectively.

➧ Risk Management: The auditor examines the organization's risk management processes to identify any weaknesses or areas that require improvement.

➧ Information Technology and Cybersecurity: In modern audits, IT systems and cybersecurity measures are thoroughly assessed to ensure the protection of sensitive data and the integrity of financial information.

➧ Going Concern Assumption: The auditor evaluates whether the organization can continue its operations as a going concern for the foreseeable future.

➧ Management Representations: The auditor obtains written representations from management to confirm the accuracy and completeness of information provided during the audit.

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QUESTION 5(a)

Q Explain the main rules of evidence in court proceedings relating to audit issues.
A

Solution


➦ In court proceedings relating to audit issues, the rules of evidence are essential to determine the admissibility and weight of evidence presented by both parties. These rules help ensure that only relevant and reliable information is considered, leading to a fair and just resolution.

Here are the main rules of evidence that apply to audit-related court proceedings:

➧ Relevance: The evidence presented must be relevant to the issues at hand. In the context of audit issues, this means that evidence should pertain to the specific matters being disputed, such as the accuracy of financial statements, compliance with accounting standards, or the auditor's professional conduct.

➧ Admissibility: To be considered by the court, evidence must meet certain admissibility criteria. It should be legally obtained and not subject to any exclusionary rule. For example, evidence obtained through illegal means, such as hacking or unauthorized access, is likely to be deemed inadmissible.

➧ Hearsay: Hearsay is an out-of-court statement offered for the truth of the matter asserted. Generally, hearsay is not admissible as evidence because the original speaker is not present to be cross-examined. However, there are exceptions to this rule, and certain hearsay statements may be allowed under specific circumstances.

➧ Authentication: Evidence must be properly authenticated to establish its genuineness and credibility. In the context of audit issues, this may involve verifying the authenticity of financial records, audit reports, or other relevant documents.

➧ Best Evidence Rule: The best evidence rule requires that the original or primary evidence be presented if available. Copies or secondary evidence may be accepted if the original is lost or unavailable, but the court generally prefers primary evidence.

➧ Opinion and Expert Testimony: Expert testimony may be admitted when the subject matter requires specialized knowledge, such as accounting principles or auditing standards. The court will determine the qualifications of the expert and the reliability of their opinions.

➧ Privileged Information: Certain types of information may be protected by privilege, such as attorney-client privilege or doctor-patient privilege. Such privileged information is generally not admissible in court.

➧ Character Evidence: Character evidence, which relates to a person's general character traits, is generally not admissible to prove conduct or actions in audit-related court proceedings. However, character evidence may be relevant in specific circumstances, such as defamation cases.

➧ Prejudicial Evidence: The court may exclude evidence that is highly prejudicial, meaning it could unduly influence the jury or judge and hinder a fair trial.

➧ Cross-Examination: Parties have the right to cross-examine witnesses to challenge their credibility and test the accuracy of their statements.

➧ Habit and Routine Practice: Evidence of a person's habit or an organization's routine practice may be admissible to show that they acted in accordance with their habit or practice in a particular instance.

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QUESTION 5(b)

Q Discuss each of the following matters as applied in auditing and assurance:

(i) Due diligence investigations.
(ii) Role of auditors in receiverships and liquidations,
(iii) Integrated reporting.
A

Solution


(i) Due Diligence Investigations in Auditing and Assurance:

Due diligence investigations are essential in auditing and assurance engagements, especially during the planning phase. These investigations involve a comprehensive assessment and verification of relevant information to evaluate the integrity, accuracy, and reliability of financial data and other critical aspects.

How due diligence investigations are applied in auditing and assurance:

➧ Mergers and Acquisitions: Before acquiring or merging with another company, the acquiring party conducts due diligence investigations to assess the target company's financial health, potential risks, and liabilities. Auditors may be engaged to review the target company's financial statements and internal controls to provide an independent assessment of its financial position.

➧ Financial Audits: During financial audits, auditors perform due diligence investigations to gather evidence supporting the financial statements' accuracy and compliance with accounting standards. They assess internal controls, verify account balances, review transactions, and test the reliability of financial information.

➧ Special Purpose Audits: In certain cases, such as fraud investigations or forensic audits, due diligence investigations play a vital role in uncovering potential financial irregularities or misconduct. Auditors conduct thorough examinations of financial records and transactions to detect fraudulent activities or misstatements.

➧ Compliance Audits: In assurance engagements related to regulatory compliance, due diligence investigations ensure that organizations adhere to relevant laws, regulations, and industry standards. Auditors verify the organization's compliance efforts and identify areas of non-compliance.

(ii) Role of Auditors in Receiverships and Liquidations:

Receiverships and liquidations occur when a company faces financial distress or is unable to meet its financial obligations.

The role of auditors in receiverships and liquidations include:

➧ Receiverships: When a company defaults on its debt, a receiver may be appointed to take control of its assets to protect the interests of creditors. In such cases, auditors may be engaged to assess the financial position of the company and help the receiver understand the true financial status.

➧ Liquidations: Liquidation involves winding up a company's affairs and selling its assets to pay off its debts. Auditors may be involved in the process to assess the company's financial records, verify asset valuations, and provide a final audit report on the company's financial position.

➧ Investigative Audits: In receiverships and liquidations, auditors may be appointed to conduct investigative audits, where they examine financial records and transactions to identify any fraudulent or improper activities that may have contributed to the company's financial distress.

➧ Reporting: In receiverships and liquidations, auditors provide reports to relevant parties, such as creditors, shareholders, or regulatory authorities. These reports may include the findings of the audit, financial analysis, and recommendations for the way forward.

(iii) Integrated Reporting:

Integrated reporting is a comprehensive reporting approach that goes beyond traditional financial reporting. It provides stakeholders with a broader view of an organization's value creation process, considering its financial, environmental, social, and governance (ESG) performance.

The role of auditing and assurance in integrated reporting includes:

➧ Assurance Engagement: Auditors may be engaged to provide assurance on the integrated report to enhance its credibility and reliability. The assurance engagement examines the organization's reporting process, the accuracy of information disclosed, and adherence to reporting frameworks such as the International Integrated Reporting Framework.

➧ Materiality Assessment: Integrated reporting requires organizations to identify material issues that impact their long-term value creation. Auditors can assist in the materiality assessment process by evaluating the significance of different ESG factors and their potential effects on the organization's performance.

➧ Verification of Non-Financial Information: Auditors may verify non-financial information, such as environmental impact, social initiatives, and governance practices, to ensure that it is accurate and supported by relevant evidence.

➧ Enhanced Stakeholder Communication: Integrated reporting facilitates better communication with stakeholders by providing a holistic view of the organization's performance and its impact on various stakeholders. Auditors can help ensure that this communication is transparent and trustworthy.

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