Audit Full mock solution

Answer 1

The key features of review engagement that distinguish it from statutory audit are as
follows:
▪ Review engagement requires less evidence than an audit
▪ Opinion in the review engagement is expressed in negative terms

Two types of review engagements:

▪ Attestation engagement
▪ Direct reporting engagement

Answer 2
The imposition of restriction by foreign country is an adjusting event as the inventory prepared for
the order can not be supplied to any other customer, without considerable expense of Rs. 105 million.
The revised net realizable value of the inventory would therefore be approximately Rs. 395 million
(500-105), as against the cost of Rs. 416.67 million (500÷1.2), resulting in an adjustment of Rs. 21.67
million which is approximately 6.19% of the profit before tax.
As an auditor we have no obligation to perform any audit procedures after the date of the audit report.
However, in view of the fact that the above situation has come to our knowledge, we are required to
discuss the matter with management and inquire how it intends to address the matter in the F/S.
If the F/S are amended, the auditor is required to:
▪ carry out the necessary audit procedures on the amendment.
▪ extend his review of subsequent events up to the date of the new audit report.
If management do not amend the F/S for the event identified, then the auditor should take appropriate
action to prevent reliance on the audit report after taking legal advice.
Answer 3

(a) Offer of CEO cannot be accepted as the letter of representation is to be dated as near as
practicable (but not after) the date of audit report, because:
▪ written representation is also obtained in respect of subsequent events
further matters might also arise during the course of audit for which we may require management
representation

However, the written representations are requested from those responsible for the preparation of
financial statements. Therefore, in the absence of the Chief Executive Officer, management
representation may be obtained from the Chief Financial Officer and those charged with governance.

(b) If the management modifies our requested wording, we may still be able to conclude that it is a
reliable representation.
However, before arriving at any conclusion, we must consider the effects of the information destroyed
in the fire on the financial statements and on our ability to obtain the necessary audit evidence and the
possible impact on our audit report.
(c) If adjustments are immaterial, representation letter may include the effect of any uncorrected
immaterial misstatements. However, the decision regarding materiality of the uncorrected
misstatements is to be made by the auditor and not by the client.
Further, materiality depends on the fact that omission or misstatement would influence the economic
decision of the user, and the financial statements are relevant not only for the owners but also for other
users which may include bankers, government institutions, etc., therefore, the comment of the
managing director regarding the effect on decision making is not correct.
If financial statements remain uncorrected and the required correction is material also, its impact on
audit report would need to be assessed.

Answer 4
 1 Since the related party transaction was not disclosed to the audit team by the client, it creates a risk
of not disclosing all related party(ies) and related party transaction(s). Further, the way the transaction
is structured (i.e. sold on loss and 70% payment over a period of five years), it seems that it is not in
the ordinary course of business.
Key audit procedures to be performed:
(i) Inquire with management the reasons for disposal of freehold land.
(ii) Promptly communicate the relevant information of the related party transaction to other
members of the audit team.
(iii) Request management to identify all transactions with MPL for further evaluation.
(iv) Reconsider the risk that other related parties or significant related party transactions may exist
that management has not previously identified or disclosed to the auditor, and perform
additional audit procedures.
(v) Inquire as to why the CL’s system failed to identify or disclose this related party relationship
and transaction.
(vi) Obtain representation from the management that all related parties have been identified and
disclosed to the auditor.
(vii) Inquire about the influence of director with respect to the said transactions.
(viii) If the non-disclosure by management appears intentional (and therefore indicative of risk of material
misstatement due to fraud), evaluate the implications for the audit

Answer 5

(a) In order to ensure the completeness of list of related parties provided by the client, your audit
procedures could include the following:
▪ Review working papers for previous years, to look for names of known related parties.
▪ Review the company’s procedures for identifying related parties.
▪ Inquire about the relationships between directors and other entities i.e. whether any director is
a director, CEO, major shareholder etc. in another company.
▪ Review shareholder records for the names of major shareholders.
▪ Review minutes of BOD meetings and general meetings of the company.
▪ Get confirmation from any other audit firms involved in the audit about related parties.
(e.g. in case of audit of a group of companies, more than one firm of auditors are involved)
(b) According to the International Standard on Auditing (ISAs) the auditor is required to obtain
written representations from management and, where appropriate, TCWG that:
▪ they have disclosed to the auditor the identity of the entity's related parties and all the related
party relationships and transactions of which they are aware; and
▪ they have appropriately accounted for and disclosed such relationships and transactions in
accordance with the requirements of the framework.
In view of the above, the auditor should not accept the argument given by the management. If
management does not provide one or more of requested written representations, the auditor shall:
▪ discuss the matter with management/ TCWG;
▪ re-evaluate the integrity of management and evaluate the effect that this may have on the
reliability of representations (oral or written) and audit evidence in general; and
▪ take appropriate actions, including determining the possible effect on the opinion in the
auditor's report
Answer 6

(a)
(i) Hospitals and clinics:
The decision to send negative confirmation was appropriate as all the conditions for sending negative
confirmation i.e. Large number of small account balances, low risk of material misstatement, low
exception rate as only four customers have disagreed with the balances due and that have been also
reconciled and there was no knowledge of circumstances that would cause recipient to disregard the
confirmation request.
 (ii) Retailers:
Results of confirmations depict high risk of material misstatement and high exception rate. However,
since the decision to send negative confirmation was taken on the basis of initial assessment, the
decision under the circumstances seems correct.
(b)
Balance agreed:
No further audit work is required.

Balance not agreed:

▪ The client should be asked to review the replies and reconcile the balances in its records with
the balances confirmed by the customer.
▪ The reconciliation prepared by the client should be checked.
- The reconciling items depicting errors in the client’s records should be investigated and
corrected.
- The client should be asked to resolve the difference in case the reconciling items
depicting errors on part of the customers.

No reply received:

In these cases, alternative procedures should be performed (e.g. subsequent payments and checking
of invoices/ dispatch notes in order to obtain evidence to confirm the customer’s balances.

(b)From the winding up event it appears that the amount receivable from SDPL is irrecoverable.
Therefore, the auditor needs to ensure that the amount of irrecoverable receivables are written off or
is duly provided for.

The following substantive procedures should also be performed:

▪ Review any correspondence of the SPL with the liquidator/management of SDPL (if any),
relating to recovery of the amount due.
Review the calculation of amount of provision/write off and basis thereof

Answer 7

2 (a) Certain conditions are required to be met before an auditor can decide to use negative
confirmation as a sole substantive procedure, these conditions include:
(i) Auditor has assessed risk of material misstatement as low and has obtained sufficient appropriate
audit evidence regarding operating effectiveness of controls relevant to assertions;
(ii) The population of items subject to negative confirmation procedure comprises a large number
of small, homogeneous account balances, transactions or conditions;
(iii) A very low exception rate is expected; and
(iv) The auditor is not aware of circumstances or conditions that would cause recipients of negative
confirmation requests to disregard such requests.

In the given situation, condition # (i) and (ii), are met; the fact that risk of material misstatement is
low suggests that condition # (iii) is also being met. Therefore it would be appropriate to use negative
confirmation provided that the fourth condition is met.
For 15 major debtors, it would be appropriate to use positive confirmation as their population consists
of small number of large balances.

(b) Audit Procedures:

(i) Prepare or obtain a client roll forward schedule from 31 August 2011, to 31 October 2011.
(ii) Agree Individual entries for 31 October 2011, with the sales ledger and debtors control
accounts.
(iii) Note and obtain explanation for any unusual journal adjustments.
(iv) Vouch material sales or receipts with supporting documents.
 (v) Select a sample of receipts and sales and perform tests of controls to ensure that system of
internal controls continued to operate effectively.
(vi) Re-perform cutoff test at year end.
(vii) Perform analytical procedures by comparing the balances of debtors on 31 August 2011, to
Debtors on 31 October 2011, and ascertain reasons for major variances, if any.
(viii) Check subsequent recovery of year end balances.

(c) If Management refuses to allow the auditor to send a confirmation request, the auditor shall:
(i) Inquire as to management’s reason for the refusal, and seek audit evidence as to their validity
and reasonableness;
(ii) Evaluate the implications of management’s refusal on the auditor’s assessment of the relevant
risks of material misstatement, including the risk of fraud
(iii) , and on the nature, timing and extent of other audit procedures; and
(iv) Perform alternative audit procedures designed to obtain relevant and reliable audit evidence.
(v) If the auditor concludes that
▪ Management’s refusal to allow the auditor to send a confirmation request is unreasonable; or
▪ the auditor is unable to obtain relevant and reliable audit evidence from alternative audit
procedures the auditor shall communicate with TCWG and auditor shall also determine
implications of results of procedures carried out above on the audit and the auditor’s opinion.
Answer 8

1 (a)
(i) Familiarity and self-interest threat may arise because of long association of Qaiser on the audit of
SML.
The threat is significant but it also needs to be further evaluated by considering whether SML’s
management team has changed or whether the nature or complexity of SML’s accounting and
reporting issues has changed.
Following safeguards may be applied:
▪ Replace Qaiser with any other senior manager having appropriate experience.
▪ Asking a professional accountant who was not a member of the audit team to review the
work.
▪ Regular independent internal or external quality reviews of the engagement.
(ii) Requesting CFO for expediting the delivery may create self-interest, familiarity, intimidation
threat to the independence of the audit team member.
The threats seem to be significant because the preferential treatment was not in the normal course
of the business.
The audit team member who has obtained preferential treatment should not be made part of the
audit team and in case he is made part of the team, his work should be reviewed by an independent
chartered accountant.
It should also be ensured that no such breach of ethics occurs in future and the firm should
communicate and strictly implement its policies in this regard. Firm may also consider taking
disciplinary action against the individual who had obtained the preferential treatment from SML.
(iii) Family and personal relationship between a member of the audit team and the Head of Marketing
of SML may create self-interest, familiarity and / or intimidation threats.
The threat would be significant because of the close relationship. The significance would also
depend on Amjad’s responsibilities on the audit team.
Following safeguards may be applied:
▪ Removing Amjad from the audit team
▪ Structuring the responsibilities of the audit team so that Amjad does not deal with matters
that are within the responsibility of his father.
▪ Review of work carried out by Amjad,
(b) A chartered accountant should refrain from disclosing confidential information acquired as a result
of professional and business relationships. However, under the following circumstances, a
chartered accountant may be required to disclose confidential information:
▪ Disclosure is required by law.
▪ There is a professional duty or right to disclose, when not prohibited by law.
 ▪ Disclosure is permitted by law and is authorized by the client.
Answer 9
(i) Following are the threats in the mentioned situation:
▪ Suggesting the client about accounting treatment would create a selfreview threat, because that
accounting treatment will also be the subject matter of the assurance engagement.
▪ Even though Amjad’s friend has attended the workshop on IFRS-15, it does not necessarily mean
that he is competent enough to advise the client regarding the accounting treatment under IFRS-
15, as it could involve significant judgment. It would create a threat to professional competence
and due care.
▪ Sharing of information with his friend may create threat to confidentiality.
(ii) Following actions could be taken by the firm to avoid such a situation in future:
▪ Regularly conduct professional development of its staff for any recent changes or updates in
professional pronouncement.
▪ Circulate documented internal policies and procedures requiring compliance with the
fundamental principles.
Implement an effective disciplinary mechanism to promote compliance with policies and procedure

Answer 10

(a) The appointment of Farrukh& Co. will be in order because the firm would not be considered
indebted to the company as the period for which the utility dues are unpaid does not exceed 90 days.

(b) Mr. Shahid cannot be appointed as statutory auditor of Rehman Limited because of the following:
(i) Mr. Shahid is not eligible for appointment as statutory auditor since only 100 days have passed
since the company’s incorporation and therefore obviously less than three years have elapsed
since he left the employment of the company.
(ii) Directors have lost their authority to appoint external auditors after the expiry of 90 days from
date of incorporation
(c) Mr. Dawood’s appointment shall be void because only a chartered accountant can be appointed as
auditor of a private limited company having share capital of Rs. 3 million or more..