QUESTION 11 (16 marks / 32 minutes)

(Source: Auditing Fundamentals in a South African Context: Graded Questions,

Revised Third edition, 2023, Chapter 3, Question 16)

Colorz Ltd (Colorz) manufactures ink cartridges for laser jet printers. Colorz has a 28
February 20X1 financial year-end. The company has been in operation for 20 years
and has been profitable up until the current financial year when a major global
financial recession hit. The recession, along with the fact that an increasing number
of individuals and companies are 'going green, has caused a massive decline in
profitability. Mrs Pink, the financial director and a financial accountant, provided you
with the following extract from the statement of financial position as at year-end:

ACCOUNTS 29 FEB 20X1 (R'000)

Inventory R59 157
Debtors R45 178
Non-current assets R125 689
Overdraft R55 431
Creditors R45 682
Non-current liabilities R85 479

During the 20X1 financial year, Mrs Pink approved a loan to the executive director,
Mr Green, to enable him to partake in a new business venture. Mrs Pink approved
the loan on 15 April 20X10 without consultation with Ms Xellow (chief risk officer) or
Mr Blue (human resources director) as, in Mrs Pink's opinion they have limited
financial knowledge. The loan amounted to R6 million, and is repayable at the end of
March 20X1, as this is the month when directors are awarded bonuses. The loan
does not carry interest. The loan was funded out of the bank overdraft and Mrs Pink
posted the following journal entry in order to record the transaction on 15 April 20X0:

Dr Debtors R6 000 000

Cr Non-current liabilities R6 000 000
General journal entry in order to record loan to debtor

REQUIRED

Note: Ignore any taxation implications.

1. Discuss whether Mrs Pink acted in compliance with section 45 of the

Companies Act 71 of 2008. (7)

2. Discuss the effect of your findings in (1) in terms of section 45 of the Auditing
Profession Act 26 of 2005. (17)

22
GOA 200
Faculty of Economic and Management Sciences
© 2024 University of Pretoria
 UNIVERSITY OF PRETORIA

Department of Auditing
Governance and Assurance 200

ASSESSMENT: Additional Question 11 suggested solution

MARKS: 24 TIME: 48 minutes

SUGGESTED SOLUTION

GRADED QUESTIONS, CHAPTER 3, QUESTION 16

Companies Act 71 and Auditing Profession Act 26: Reportable irregularity

Part 1
Companies Act requirements Application
Section 45 of the Companies Act deals with financial assistance to directors of the company
A company can provide financial assistance
to its director or director of its subsidiary or
to a person related to the director subject to
the following conditions: (½)
▪ Conditions/restrictions relating to
granting of financial assistance in the
Memorandum of Incorporation are
adhered to. (½)
▪ A special resolution was obtained within No special resolution was obtained from
the last two years. (½) shareholders, but only Mrs Pink approved
the loan to Mr Green. (1)

▪ Board is satisfied that: The loan was also allocated to debtors

- Immediately after granting financial without any disclosure that the loan was to
a director. This was potentially done in
assistance, liquidity or solvency
order to ‘hide’ the transaction. (1)
tests are satisfied. (½) The loan was incorrectly classified to non-
current liabilities and should form part of
current liabilities (bank overdraft). (1)
This will result in the company not being
liquid after the granting of the loan (current
liabilities exceed current assets after
inclusion of the R6 million). (1)
 - Financial assistance terms are fair
and reasonable to the company. (½) The terms of the loan are also not fair to the
entity as no interest is charged. (1)
The board should must provide written
notice to all shareholders and trade unions,
within 30 business days if the amount of the
financial assistance was less than one-
tenth of 1% of the company’s net worth. (½)

The loan to Mr Green was granted in contravention of Section 45 as all the conditions
set out in the Act have not been satisfied and therefore void. Mrs Pink therefor acted in
contravention of section 45 of the Companies Act. (1)
mark allocation: 1 mark per aspect, unless indicated otherwise maximum 7
total 9

Part 2

APA Requirements Application

Section 1 of the Act defines a reportable The Company’s Act Section 45 stipulates
irregularity; certain requirements that need to be met when
as any unlawful act or omission; (1) directors approve a loan to a director – not
complying as such is a contravention of the
Act and therefore unlawful. (1)
committed by any person responsible for the Ms Pink, who approved the loan, is the
management of a company; (1) financial director of Colorz and is therefore
part of management. (1)
which has caused or is likely to cause material The loan is likely to cause material financial
financial loss to the company or to any loss as:
partner, member, shareholder, creditor, or • the loan causes the entity to be illiquid; (1)
investor (stakeholder); OR (1) • in light of the financial problems of the
entity, there is a risk that directors will not
be receiving bonuses and therefore the
director will default on the payment of the
loan; (1)
• no interest is charged on the loan, where
the entity could have used the cash to
settle debt/earn interest. (1)

is fraudulent or amounts to theft; OR (1) Mrs Pink intentionally disclosed the loan as
non-current liability/debtor in order to conceal
it; and (1)
Mrs Pink is a financial accountant and should
be aware of the requirements of IFRS. (1)

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 APA Requirements Application

represents a material breach of any fiduciary Being a director, Mrs Pink has a fiduciary duty
duty owed by such person towards the entity, towards the company and all its stakeholders
partner, member, shareholder, creditor or and seeing that she isn’t acting in the best
investor (stakeholder). (1) interest of the company, it results in a material
breach of his duty. (1)
Conclusion: There is a reportable irregularity taking place at the company. (1)

In terms of Section 45 of the APA:

The auditor must therefore, without delay, send a written report to the Regulatory
Board about the reportable irregularity. (1)
Within three days of sending the report to the Regulatory Board, the auditor must
notify management that a report was sent to the Regulatory Board in terms of
section 45 of the APA. (1)
Within 30 days of sending the report to the Regulatory Board, the auditor must: (1)
a) discuss the report with management; (1)
b) afford management the opportunity to make representations in respect of the
report; and (1)
c) send another report to the Regulatory Board, which includes a statement with
proof, that:
i. no reportable irregularity has taken place or is taking place, or (1)
ii. the suspected reportable irregularity is no longer taking place and that
adequate steps have been taken for the prevention or recovery of any
loss as a result thereof, if relevant, or (1)
iii. the reportable irregularity is continuing. (1)

mark allocation: 1 mark per aspect, unless indicated otherwise maximum 17

total 22

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