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CPA
Intermediate Leval
Auditing and Assurance January 2022
Suggested solutions

Audit and assurance
Revision Kit

QUESTION 1(a)

Q ABC Ltd. manufactures mineral water and has factories across the East African region. The company's customer base comprises individuals and retailers who make direct purchases through its website. You are the audit supervisor reviewing the documentation of the company's internal controls and you come across the following matters:

1. ABC Ltd.'s website allows customers to make orders directly and also pay in advance. The website is not integrated with the stock system. Goods are dispatched to the customers via courier service although the courier company does not file returns with ABC Ltd. to confirm delivery.

2. Over the last 9 months, customers have been complaining about delayed deliveries. Investigations have revealed that sales orders are entered correctly, but not dispatched to the delivery department for action.

3. Customers undergo credit checks prior to being given credit and the limits are set by the sales ledger clerks. Customers also place orders through the sales team who decide on the discount to be granted.

4. There have been various complaints raised on the accuracy of supplier statements given that the accountant who used to handle this docket left the organisation.

Required:
With reference to the internal control system of ABC Ltd.:

(i) Explain five deficiencies in the system.

(ii) Describe five tests of control required to assess if the controls are working effectively.
A

Solution


Internal Control Assessment - ABC Ltd.


As the audit supervisor reviewing the documentation of ABC Ltd.'s internal controls, here are the identified deficiencies and corresponding tests of control:

(i) Deficiencies in the System:


  1. Lack of Integration between Website and Stock System

    Orders made on the website are not integrated with the stock system, leading to potential discrepancies between recorded sales and actual stock levels.

  2. Delayed Deliveries and Lack of Dispatch Action

    Sales orders are not consistently dispatched promptly, leading to customer complaints about delayed deliveries.

  3. Lack of Confirmation of Delivery by Courier

    The courier company does not file returns with ABC Ltd. to confirm the delivery of goods dispatched to customers.

  4. Credit Limits Set by Sales Ledger Clerks

    Credit limits for customers are set by sales ledger clerks, potentially leading to conflicts of interest and inadequate credit risk assessment.

  5. Accuracy of Supplier Statements

    Complaints have been raised on the accuracy of supplier statements, especially after the departure of the accountant responsible for this area.


(ii) Tests of Control:


  1. Integration Testing for Website and Stock System

    Select a sample of online orders and trace them through the system to ensure proper integration between the website and the stock system.

  2. Verification of Dispatch Dates

    Select a sample of sales orders and verify their prompt dispatch by comparing the order date with the dispatch date recorded in the system.

  3. Confirmation of Deliveries with Courier

    Obtain a sample of dispatched orders and reconcile them with confirmations from the courier company to ensure accurate and timely deliveries.

  4. Review of Credit Decision Documentation

    Review a sample of credit decisions and assess whether there is proper documentation supporting credit limit assignments and credit risk assessments.

  5. Reconciliation of Supplier Statements

    Select a sample of supplier statements and reconcile them to the corresponding accounts payable records to ensure accuracy and completeness.


These identified deficiencies underscore the need for effective testing of controls to ensure the reliability and integrity of ABC Ltd.'s internal control system.

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QUESTION 1(b)

Q In line with ISA 220 "Quality Control for an Audit of Financial Statements", describe four responsibilities of an audit supervisor in relation to supervising and reviewing the audit assistant's work during an audit
A

Solution


Responsibilities of Audit Supervisor - ISA 220


ISA 220, "Quality Control for an Audit of Financial Statements," outlines the responsibilities of an audit supervisor in relation to supervising and reviewing the audit assistant's work during an audit. Here are the key responsibilities:

  1. Planning and Organizing Work:

    The audit supervisor is responsible for planning and organizing the audit work effectively. This includes assigning specific tasks to audit assistants based on their skills and knowledge, considering the audit plan, and ensuring that deadlines are met.

  2. Providing Clear Instructions:

    Clear and concise instructions should be provided to audit assistants regarding the nature, timing, and extent of the procedures to be performed. The audit supervisor ensures that assistants understand the objectives of their assigned tasks.

  3. Training and Development:

    Supervisors are responsible for the training and development of audit assistants. This involves providing guidance on audit methodologies, technical requirements, and professional standards, fostering a learning environment within the audit team.

  4. Supervising Fieldwork:

    The audit supervisor oversees the fieldwork conducted by audit assistants. This includes monitoring progress, resolving issues or queries raised by assistants, and ensuring that audit procedures are performed in accordance with professional standards.

  5. Reviewing Workpapers:

    Reviewing the workpapers prepared by audit assistants is a critical responsibility. The supervisor assesses the completeness, accuracy, and appropriateness of documentation, ensuring that it supports the conclusions reached and complies with the firm's quality control policies.

  6. Providing Constructive Feedback:

    Feedback is essential for the growth and improvement of audit assistants. The supervisor provides constructive feedback on the work performed, highlighting areas of strength and areas that require improvement. This feedback encourages professional development.

  7. Quality Control Compliance:

    Ensuring compliance with the firm's quality control policies and procedures is a fundamental responsibility. The supervisor ensures that all audit work, including that of assistants, adheres to professional standards and the firm's quality control framework.

  8. Communication and Collaboration:

    Effective communication within the audit team is vital. The supervisor maintains open communication channels with audit assistants, encourages collaboration, and addresses any challenges or concerns that may arise during the audit process.

  9. Timely Reporting:

    The audit supervisor is responsible for reporting the progress of the audit to higher levels of management, highlighting any significant issues or deviations from the audit plan. Timely reporting facilitates proactive decision-making.


These responsibilities contribute to the overall quality, efficiency, and effectiveness of the audit engagement, aligning with the principles outlined in ISA 220.



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QUESTION 1(c)

Q Describe six activities that an audit firm should perform prior to accepting a new audit engagement
A

Solution


Prior Activities for Accepting New Audit Engagement


Before an audit firm accepts a new engagement, several key activities should be performed to ensure that the firm is well-equipped to meet its professional and ethical obligations. Here are the essential activities:

  1. Evaluate Independence and Objectivity:

    Assess the firm's independence and objectivity in relation to the prospective client. Ensure that there are no conflicts of interest or other factors that might compromise the independence and objectivity of the audit team.

  2. Assess Competence and Resources:

    Evaluate the firm's competence and the availability of adequate resources to perform the audit effectively. Consider the complexity of the client's operations and whether the firm possesses the necessary expertise to address potential challenges.

  3. Understand the Client's Business:

    Conduct a thorough understanding of the client's business, industry, and regulatory environment. This includes assessing the client's business risks, financial position, and significant accounting policies.

  4. Consider Ethical Issues:

    Review potential ethical issues related to the client, such as known legal or regulatory violations. Evaluate the client's commitment to ethical business practices and its approach to internal controls.

  5. Evaluate Financial Stability:

    Assess the financial stability of the prospective client. Consider the client's financial health, liquidity, and overall ability to continue as a going concern. Evaluate any indications of financial distress or irregularities.

  6. Review Previous Relationships:

    Examine any previous relationships between the audit firm and the client, as well as relationships with key management personnel. Understand the reasons for any changes in auditors and assess potential risks associated with the transition.

  7. Perform Client Acceptance Procedures:

    Follow the firm's established client acceptance procedures, which may include obtaining approval from senior management or an acceptance committee. Ensure that the client aligns with the firm's values and strategic objectives.

  8. Consider Legal and Regulatory Requirements:

    Review legal and regulatory requirements related to the audit engagement. Ensure compliance with relevant laws, standards, and regulations governing the auditing profession in the jurisdiction where the client operates.

  9. Communicate with Previous Auditor:

    If applicable, communicate with the client's previous auditor to obtain relevant information about the client's financial reporting, accounting policies, and any issues encountered during the previous audit.

  10. Document Decision-Making:

    Document the decision-making process throughout the client acceptance process. This documentation serves as a record of the firm's rationale for accepting the engagement and can be useful in future reviews or inspections.


By thoroughly performing these activities, the audit firm can make an informed decision about accepting a new audit engagement, ensuring that it aligns with the firm's capabilities, values, and professional standards.

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QUESTION 2(a)

Q ISA 320 Audit Materiality" states that "The auditor should consider materiality and its relationship with audit risk when conducting an audit".

Required:
Discuss the relationship between materiality and audit risk both when planning for an audit and when evaluating audit evidence.
A

Solution


Relationship between Materiality and Audit Risk - ISA 320


ISA 320, "Audit Materiality," emphasizes the significance of considering materiality and its relationship with audit risk throughout the audit process. Here's an overview of the relationship during both planning and evaluation:

During Audit Planning:


  1. Setting Overall Audit Strategy:

    Materiality influences the auditor's overall audit strategy. The auditor considers the level of materiality to plan the nature, timing, and extent of audit procedures. This helps in allocating resources appropriately.

  2. Determining Performance Materiality:

    Performance materiality is set to reduce audit risk to an acceptable level. The auditor considers materiality in relation to financial statement assertions, ensuring that the risk of not detecting material misstatements is adequately addressed.

  3. Assessing Inherent and Control Risks:

    The auditor considers materiality when assessing inherent and control risks. It helps in identifying areas with higher risks of material misstatement, influencing the selection of audit procedures and the extent of testing in those areas.

  4. Developing the Audit Plan:

    Materiality guides the development of the detailed audit plan. The auditor uses materiality as a benchmark to determine the scope of audit procedures, ensuring that the audit effort is focused on areas with a higher risk of material misstatement.


During Evaluation of Audit Evidence:


  1. Assessing Misstatements and Adjustments:

    When evaluating audit evidence, the auditor compares identified misstatements against materiality thresholds. Materiality serves as a benchmark to assess the impact of misstatements on the financial statements and the need for adjustments.

  2. Evaluating the Overall Presentation of Financial Statements:

    Materiality is considered when evaluating the overall presentation of financial statements. The auditor assesses whether the aggregated effect of uncorrected misstatements is material enough to impact users' decisions.

  3. Forming an Opinion on Financial Statements:

    Materiality influences the auditor's judgment in forming an opinion on the financial statements. The auditor considers the cumulative effect of identified and uncorrected misstatements and whether they are material individually or in aggregate.

  4. Reporting to Those Charged with Governance:

    The auditor communicates information about materiality to those charged with governance. This includes discussing the impact of identified misstatements and providing insights into the overall materiality framework used during the audit.


The relationship between materiality and audit risk is dynamic, with materiality guiding the auditor's decisions at various stages to manage and address audit risk effectively.

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QUESTION 2(b)

Q Explain the following terms:

(i) Peer review.

(11) Hot review.
A

Solution


Explanation of Terms - Peer Review and Hot Review


(i) Peer Review:


Peer review is a process in which a professional's work or performance is evaluated by colleagues or peers within the same field or profession. In the context of auditing, a peer review is typically conducted to assess the quality of an audit firm's practices and compliance with professional standards. The objective is to enhance the overall quality and effectiveness of audit engagements. During a peer review, an independent team of auditors, who are peers of the reviewed firm, examines the firm's audit methodologies, documentation, and compliance with relevant standards. The primary goal is to provide constructive feedback and identify areas for improvement, contributing to the continuous enhancement of audit quality.

(ii) Hot Review:


A hot review refers to an immediate or real-time evaluation of a particular aspect of an audit engagement while the engagement is still in progress. Unlike a traditional post-engagement review, which occurs after the completion of an audit, a hot review involves ongoing monitoring and assessment during the active phases of the audit. The term "hot" implies that the review is conducted promptly, allowing for timely adjustments and improvements. Hot reviews are often implemented as a proactive measure to identify and address issues as they arise, minimizing the risk of material misstatements or deficiencies going unnoticed until the completion of the audit. This real-time feedback mechanism contributes to the efficiency and effectiveness of the audit process, ensuring that potential concerns are addressed promptly to enhance the overall quality of the engagement.

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QUESTION 2(c)

Q Describe six substantive tests that you would undertake over accounts receivable.
A

Solution


Substantive Tests for Accounts Receivable


Substantive tests for accounts receivable are procedures performed by auditors to obtain audit evidence about the completeness, accuracy, and validity of the recorded receivables. These tests provide assurance regarding the existence and valuation of accounts receivable. Here are key substantive tests:

  1. Confirmation of Receivables:

    Send confirmation requests to a sample of customers asking them to verify the accuracy of their recorded account balances. This provides direct external confirmation of the existence and amount of receivables.

  2. Analysis of Aging Schedule:

    Review the aging schedule of accounts receivable to assess the classification of receivables based on their age. Focus on older receivables as they may require additional attention and scrutiny.

  3. Examination of Sales Contracts and Invoices:

    Examine sales contracts and invoices to ensure that the revenue recognition criteria are met. Confirm that sales are appropriately recorded as accounts receivable based on the terms and conditions of the contracts.

  4. Subsequent Cash Collections:

    Perform a subsequent cash collection review to verify that cash collections match the recorded accounts receivable. Trace cash receipts to the relevant customer accounts to ensure accuracy.

  5. Review of Allowance for Doubtful Accounts:

    Assess the adequacy of the allowance for doubtful accounts by reviewing the historical collection experience, changes in the economic environment, and specific customer creditworthiness.

  6. Testing for Cut-off Procedures:

    Verify that sales are recorded in the correct accounting period by testing the cut-off procedures. This involves examining sales transactions around the end of the reporting period to ensure proper timing.

  7. Reconciliation with Subsidiary Ledgers:

    Reconcile the accounts receivable balances in the general ledger with the subsidiary ledgers. Ensure that the subsidiary ledgers are accurate and complete, and any reconciling items are investigated and resolved.

  8. Investigation of Unusual Items:

    Investigate and analyze any unusual items or large, non-recurring transactions within accounts receivable. Ensure that these items are properly accounted for and supported by appropriate documentation.

  9. Evaluation of Credit Policies and Procedures:

    Review the entity's credit policies and procedures to assess their effectiveness in mitigating credit risk. Ensure that credit terms and limits are appropriately set and adhered to.

  10. Testing Bad Debt Write-offs:

    Test a sample of bad debt write-offs to ensure that they are properly authorized and supported by evidence of the customers' inability to pay. This helps confirm the accuracy of the allowance for doubtful accounts.


These substantive tests collectively provide auditors with sufficient evidence to form conclusions about the fairness of accounts receivable in the financial statements.



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QUESTION 3(a)

Q When auditing a computer accounting system, the independent auditor should understand how the use of computers affects the various characteristics of internal control. The independent auditor should be aware of those control procedures that are commonly referred to as "general" controls and those that are commonly referred to as "application" controls. General controls relate to all computer activities and application controls relate to specific accounting tasks.

Required:
Describe three general controls that should exist in computer-based accounting systems.
A

Solution


General Controls in Computer-Based Accounting Systems


General controls in computer-based accounting systems are overarching measures that apply to the entire information technology environment. These controls are critical for establishing a foundation of security, reliability, and integrity in the use of computer systems. Here are key general controls:

  • Access Controls:

    Implement access controls to restrict and manage user access to the system. This includes user authentication, authorization levels, and segregation of duties to prevent unauthorized access or actions.

  • Physical Security:

    Ensure physical security measures are in place to protect computer hardware and servers. This includes restricted access to server rooms, surveillance, and environmental controls to prevent damage from factors like fire or water.

  • Change Management:

    Establish a robust change management process to control and document changes to the system, including software updates, patches, and configuration changes. This helps prevent unauthorized or unintended alterations.

  • Backup and Recovery:

    Implement regular backup procedures to safeguard data and establish a comprehensive disaster recovery plan. This ensures the ability to recover data in the event of system failures, data corruption, or disasters.

  • System Development Life Cycle (SDLC):

    Adopt a structured SDLC to guide the design, development, testing, and implementation of software applications. This helps ensure that new systems are well-designed, thoroughly tested, and meet business requirements.

  • Security Policies and Procedures:

    Define and enforce security policies and procedures that cover aspects such as password policies, data encryption, and network security. Regularly update and communicate these policies to all system users.

  • Incident Response:

    Establish an incident response plan to address and mitigate security incidents promptly. This includes procedures for detecting, reporting, and responding to security breaches or anomalies.

  • Audit Trails:

    Implement comprehensive audit trails to record and monitor system activities. This helps in detecting and investigating potential security incidents or unauthorized transactions.

  • Training and Awareness:

    Provide training programs to ensure that system users and administrators are aware of security protocols, best practices, and their responsibilities in maintaining a secure computing environment.

  • Vendor Management:

    Manage relationships with system vendors and service providers. Ensure that third-party systems or services meet security standards and are regularly reviewed for compliance.



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QUESTION 3(b)

Q Explain four potential problems of using audit software indicating how each may be resolved.
A

Solution


Potential Problems of Using Audit Software and Resolutions


While audit software offers numerous advantages, it may encounter certain challenges. Here are potential problems and resolutions:

  • Data Integrity Issues:

    Problem: Inaccurate or incomplete data can compromise the effectiveness of audit software.

    Resolution: Implement data validation checks and reconcile data from multiple sources to ensure accuracy. Regularly update and cleanse databases to maintain data integrity.

  • Security Concerns:

    Problem: Unauthorized access or data breaches can occur, posing a risk to sensitive information.

    Resolution: Implement robust security measures, including encryption, access controls, and regular security audits. Keep software and security protocols up-to-date to address vulnerabilities.

  • Integration Challenges:

    Problem: Difficulty integrating audit software with existing systems and databases.

    Resolution: Choose audit software that offers compatibility with common data formats and systems. Work closely with IT professionals to streamline integration processes.

  • User Training and Adoption:

    Problem: Users may struggle to adapt to new software, leading to underutilization.

    Resolution: Provide comprehensive training programs for users. Foster a culture of continuous learning and support to encourage effective use of the software.

  • Software Bugs or Glitches:

    Problem: Technical issues such as bugs or glitches can impact the software's performance.

    Resolution: Regularly update the software to patch bugs and address performance issues. Maintain a close relationship with the software provider for prompt support and updates.

  • Lack of Customization:

    Problem: The software may not meet specific audit requirements or adapt to unique organizational needs.

    Resolution: Choose audit software with customization options. Work with the software provider to tailor features to align with the organization's audit processes.

  • Data Analysis Complexity:

    Problem: Complex data analysis may be challenging for users without advanced analytical skills.

    Resolution: Offer training in data analysis techniques and provide user-friendly interfaces. Consider involving data analytics experts in complex analyses.

  • Documentation and Compliance:

    Problem: Ensuring proper documentation and compliance with audit standards may be overlooked.

    Resolution: Develop clear documentation processes within the software. Regularly review and update audit procedures to align with evolving standards.

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QUESTION 3(c)

Q Explain the concept of "auditing around the computer" and why it increases audit risk.
A

Solution


"Auditing Around the Computer" and Increased Audit Risk


Auditing around the computer refers to an audit approach where auditors rely more on manual audit procedures and substantive testing of non-computerized components rather than directly testing the controls and transactions processed by the computerized system. This approach is typically adopted when auditors lack the technical expertise or resources to perform a comprehensive audit of computerized information systems.

Here's why "auditing around the computer" increases audit risk:


1. Limited Assurance of Internal Controls:

When auditors choose to audit around the computer, they may not gain a sufficient understanding of the internal controls within the computerized system. This lack of insight increases the risk of not identifying control weaknesses or misstatements that may exist in the automated processes.


2. Potential for Fraud and Errors:

By bypassing direct testing of computerized transactions, auditors may miss detecting fraudulent activities or errors that are specific to automated processes. Automated systems can introduce unique risks, and not assessing these risks directly increases the likelihood of overlooking significant issues.


3. Incomplete Coverage of Audit Objectives:

Auditing around the computer may result in incomplete coverage of audit objectives, especially those related to the accuracy, completeness, and validity of data processed by the computerized system. The audit risk increases when important areas are not adequately addressed.


4. Failure to Identify Systemic Issues:

Computerized systems often involve complex interactions between various components. Auditing around the computer may lead to a failure to identify systemic issues or weaknesses that could have a pervasive impact on the financial statements. This increases the risk of material misstatements going undetected.


5. Lack of Compliance Assessment:

Many computerized systems are subject to regulatory and compliance requirements. Auditing around the computer may result in a limited assessment of the system's compliance with relevant regulations. This increases the risk of non-compliance issues going unnoticed.


6. Increased Reliance on Substantive Testing:

When auditors audit around the computer, they often rely more on substantive testing of account balances and transactions. While substantive testing is essential, an over-reliance on it without evaluating the effectiveness of internal controls increases the overall audit risk.


Overall, "auditing around the computer" may be a pragmatic approach in certain situations, but it comes with the trade-off of increased audit risk due to the limitations in assessing and addressing computerized system risks.

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QUESTION 3(d)

Q The directors of XYZ Enterprises Ltd. have prepared a cash flow forecast for submission to the bank. They have asked you as the auditor to provide a negative assurance report on this forecast.

Required:
(i) Discuss two differences between "positive" and "negative" assurance.

(ii) Explain two advantages to the directors of providing a negative assurance report on their cash flow forecast.
A

Solution


(i) Differences between "Positive" and "Negative" Assurance:


Positive Assurance:


  • In positive assurance, the auditor provides a clear and affirmative statement about the accuracy and reliability of the financial information or forecast being presented. It is a more direct form of assurance.
  • The auditor expresses an opinion that the financial information or forecast is fairly presented in all material respects in accordance with the applicable financial reporting framework or criteria.

Negative Assurance:


  • Negative assurance is a more limited form of assurance. Rather than making an affirmative statement, the auditor states that, based on the procedures performed, nothing has come to their attention that would indicate the financial information or forecast is not fairly presented.
  • It does not provide absolute certainty but rather a reasonable level of assurance.
  • It is often used in situations where providing a positive assurance may not be feasible or practical.

(ii) Advantages of Providing a Negative Assurance Report on a Cash Flow Forecast:


  • Enhanced Transparency: Negative assurance communicates that, based on the procedures performed, no material discrepancies have been found. This enhances transparency without making an absolute guarantee.
  • Flexibility: It allows for flexibility in situations where providing a positive assurance may be challenging, such as in the case of forecasts which, by their nature, involve a degree of uncertainty.
  • Cost-Effective: Providing negative assurance can be more cost-effective than conducting extensive procedures required for a positive assurance report.
  • Timeliness: It may expedite the reporting process as it doesn't require the same level of detailed examination as positive assurance, making it a quicker option.
  • Reasonable Assurance: While not providing absolute assurance, it gives stakeholders a reasonable level of confidence in the reliability of the cash flow forecast.

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QUESTION 4(a)

Q You are the manager responsible for the audit of Jamii Retail Ltd., a public quoted company, which has a number of stores that sell household products including; furniture, electrical equipment, iron sheets, cement, vehicle spare parts. cooking equipment and carpets to the general public. Jamii Retail Ltd. is highly respected by investors across East Africa.

The company has an average annual turnover of Sh.20 billion. In the previous year's audit, there have been problems, some of which were highlighted in recent media coverage. The problems related to:

1. Pilferage of stock by employees and customers.

2. Slow moving and damaged stock which was worth less than cost.

3. Incomplete recording of sales when the customer pays in cash (these represent 65% of all sales).

The company has a small internal audit department. The internal audit staff occassionally visit branches and perform appropriate audit work at the head office.

Required:
Describe the work you would carry out and the matters you would consider in planning the audit prior to the commencement of the detailed audit work, including consideration of the timetable for the audit.
A

Solution


Audit Planning for Jamii Retail Ltd.


1. Understanding the Business and Industry:


  • Gather Information: Obtain details on Jamii Retail's business operations, industry conditions, and the competitive landscape.
  • Identify Key Products: Recognize and understand the various product lines, including furniture, electrical equipment, iron sheets, cement, vehicle spare parts, cooking equipment, and carpets.
  • Evaluate Market Position: Assess the company's market position and its significance to investors across East Africa.

2. Risk Assessment:


  • Identify and Prioritize Risks: Assess the risks highlighted in the previous year's audit, including pilferage, slow-moving and damaged stock, and incomplete sales recording.
  • Quantify Impact: Evaluate the financial impact of identified risks on the company's financial statements and overall performance.
  • Consider Industry Factors: Take into account industry-specific risks and challenges faced by retail businesses in East Africa.

3. Internal Controls Evaluation:


  • Assess Internal Audit Department: Review the role and effectiveness of the internal audit department, considering their occasional branch visits and work at the head office.
  • Examine Internal Audit Reports: Evaluate findings from internal audit reports, especially those related to stock management and sales recording.
  • Recommend Improvements: Suggest improvements to internal controls based on the assessment of the existing framework.

4. Materiality and Audit Timetable:


  • Determine Materiality Thresholds: Set materiality thresholds for financial statement items based on the company's average annual turnover of Sh.20 billion.
  • Develop Audit Timetable: Create a realistic audit timetable, considering the complexity of the audit, availability of client personnel, and regulatory filing deadlines.
  • Allocate Resources: Ensure adequate staffing and resources are allocated to address specific challenges identified in the previous audit.

5. Fraud Risk Assessment:


  • Conduct Fraud Risk Assessment: Evaluate the risk of fraud, especially concerning stock pilferage and incomplete sales recording. Implement procedures to detect and prevent fraudulent activities.

6. IT Systems Review:


  • Review IT Systems: Assess the adequacy and security of the company's information technology systems, especially those related to inventory management and sales recording.

7. Communication with Stakeholders:

  • Communicate Audit Objectives: Engage with key stakeholders, including management and the board of directors, to communicate audit objectives, gain insights, and address any concerns.

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QUESTION 4(b)

Q In the context of ISA 240 "The Auditor's Responsibilities Relating to Fraud in an Audit of Financial Statements", explain the auditor's responsibilities in relation to the prevention and detection of fraud and error in the course of an audit assignment.
A

Solution


ISA 240 - The Auditor's Responsibilities Relating to Fraud


1. Understanding and Assessing the Risk of Fraud:

The auditor is responsible for obtaining an understanding of the entity and its environment, including its internal control relevant to the audit.

This includes assessing the risks of material misstatement due to fraud and errors in the financial statements.


2. Assessment of Inherent and Control Risks:

The auditor is required to assess inherent and control risks, including those related to fraud, at the financial statement level and the assertion level for classes of transactions, account balances, and disclosures.


3. Responding to Assessed Risks:

Based on the assessed risks, the auditor must design and implement audit procedures that are responsive to the risk of material misstatement due to fraud.


4. Evaluating the Results of Audit Procedures:

The auditor is responsible for evaluating the results of audit procedures and assessing whether the audit evidence obtained is sufficient and appropriate to detect material misstatements due to fraud.


5. Communicating Fraud to Management and Those Charged with Governance:

If, during the course of the audit, the auditor identifies a fraud or suspected fraud that is material to the financial statements, they have a responsibility to communicate that information to management and, where appropriate, those charged with governance.



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QUESTION 5(a)

Q In the context of auditing in the public sector:

(i) Describe four roles of Parliament and County Assemblies, or their equivalents, in public audit.

(ii) Explain the salient features of "regulatory audits", "forensic audits" and "performance audits".

(iii) Summarise four reasons for qualified audit reports in the public sector.
A

Solution


(i) Roles of Parliament and County Assemblies in Public Audit:


  1. Oversight and Scrutiny: Parliament and County Assemblies review and scrutinize audit reports to ensure accountability and transparency in the use of public funds.
  2. Budget Approval: Parliament and County Assemblies approve budgets, and the audit reports help assess whether the allocated funds were used appropriately.
  3. Policy Formulation: Based on audit findings, Parliament and County Assemblies may formulate new policies or amend existing ones to enhance financial management in the public sector.
  4. Decision-Making: Audit reports assist in decision-making processes, guiding Parliament and County Assemblies on issues such as resource allocation and program effectiveness.
  5. Legal Compliance: Parliament and County Assemblies ensure that audit recommendations are implemented and may take legal actions if there are instances of financial misconduct or non-compliance.
  6. Public Accountability: Through public hearings and discussions, Parliament and County Assemblies engage with citizens, ensuring that the public is informed about the government's financial management.

(ii) Salient Features of Regulatory Audits, Forensic Audits, and Performance Audits:


Regulatory Audits:


  1. Objective: Regulatory audits primarily aim to ensure compliance with established laws, regulations, and standards.
  2. Scope: The focus is on assessing whether the audited entity adheres to prescribed rules and regulations in its financial reporting and operations.
  3. Authority: Regulatory audits are often conducted by government agencies or regulatory bodies with legal authority over the industry or sector being audited.
  4. Reporting: The audit reports from regulatory audits typically highlight areas of non-compliance and provide recommendations for corrective actions.
  5. Frequency: Regulatory audits are often conducted periodically to ensure ongoing compliance, and the frequency may be dictated by regulatory requirements.
  6. Emphasis on Legal Framework: The emphasis is on evaluating adherence to the legal framework governing the industry rather than assessing operational efficiency or effectiveness.

Forensic Audits:


  1. Objective: Forensic audits focus on investigating specific incidents, financial irregularities, fraud, or legal disputes.
  2. Scope: The scope of forensic audits is narrower and more targeted compared to other types of audits, focusing on the specific issue or incident under investigation.
  3. Investigative Approach: Forensic auditors use investigative techniques and procedures to collect, analyze, and preserve evidence that may be presented in legal proceedings.
  4. Independence: Forensic auditors may need to maintain a high level of independence and objectivity, especially when dealing with legal matters and potential litigation.
  5. Reporting: Reports from forensic audits are detailed and include findings, conclusions, and recommendations related to the specific issue being investigated.
  6. Legal Implications: Forensic audits often involve collaboration with law enforcement agencies, and the results may be used as evidence in legal proceedings.

Performance Audits:


  1. Objective: Performance audits aim to assess the efficiency, effectiveness, and economy of an organization's programs, activities, or functions.
  2. Scope: The scope of performance audits extends beyond financial transactions to include broader organizational performance, program outcomes, and impact on stakeholders.
  3. Criteria for Evaluation: Performance audits use predetermined criteria, which may include performance standards, benchmarks, or best practices, to evaluate the organization's performance.
  4. Focus on Outcomes: The emphasis is on outcomes and results, examining whether programs achieve their intended objectives and deliver value for money.
  5. Independence: Performance auditors require independence to objectively assess the efficiency and effectiveness of programs and operations.
  6. Recommendations for Improvement: Reports from performance audits typically include recommendations for improving the efficiency and effectiveness of programs and operations.

(iii) Reasons for Qualified Audit Reports in the Public Sector:


  1. Lack of Compliance: Non-compliance with accounting standards or legal requirements can lead to qualification if the financial statements are materially affected.
  2. Material Misstatements: Substantial errors or misstatements in financial reporting may result in a qualified opinion from auditors.
  3. Insufficient Evidence: If auditors cannot obtain enough appropriate audit evidence, they may issue a qualified opinion due to the limitations in their examination.
  4. Complex Transactions: Complicated or intricate financial transactions that are challenging to audit may lead to qualification due to the difficulty in obtaining assurance.
  5. Scope Limitations: Restrictions on the scope of the audit, such as lack of access to certain records, may hinder the auditor's ability to form an opinion without qualification.
  6. Uncertainties: Uncertainties related to future events or conditions that may affect the financial statements can lead to qualifications in the auditor's report.

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QUESTION 5(b)

Q With reference to the e-commerce environment, discuss three controls that an entity needs to put in place to safeguard the accuracy, completeness and integrity of financial information.
A

Solution


Controls for Safeguarding Accuracy, Completeness, and Integrity of Financial Information in E-commerce:


1. Access Controls: Implement stringent access controls to ensure that only authorized personnel have access to financial systems and data. This helps prevent unauthorized changes or manipulations.

2. Encryption and Secure Transmission: Use encryption for the transmission of financial data to protect it from interception. This is crucial for maintaining the confidentiality and integrity of sensitive financial information during online transactions.


3. Data Validation and Verification: Employ data validation checks to ensure that entered data is accurate and meets predefined criteria. Verification processes help confirm the accuracy of financial transactions and prevent errors.


4. Audit Trails: Implement robust audit trails to track and log changes to financial data. This allows for the monitoring of user activities, aiding in the detection of any unauthorized or suspicious activities.


5. Regular Reconciliation: Conduct regular reconciliations between different financial records, such as bank statements and transaction logs. This ensures that financial information is consistent, accurate, and complete across various systems.


6. System Redundancy and Backups: Establish system redundancy to ensure continuous availability of financial systems. Regularly back up financial data to prevent loss in case of system failures, data corruption, or other unforeseen events.


7. Segregation of Duties: Implement a segregation of duties policy to distribute responsibilities among different personnel. This helps prevent fraud and errors by ensuring that no single individual has complete control over financial processes.


8. Real-time Monitoring: Employ real-time monitoring tools to promptly identify and address any anomalies or irregularities in financial transactions. This allows for immediate corrective action and reduces the risk of financial data manipulation.

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