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Auditing Fundamentals in A South African Context Graded Question
Auditing Fundamentals in A South African Context Graded Question
May not be reproduced in any form without permission from the publisher, except fair uses permitted
under U.S. or applicable copyright law.
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INTRODUCTION
The following question formats are most often used when the SAICA Code of Professional Conduct is examined:
Apply information in the question or scenario with reference to the SAICA Code of Professional Conduct.
Discuss safeguards that could be implemented where problems have been identified.
Discuss the theory that you had to study regarding the SAICA Code of Professional Conduct.
Variations of the above.
A sound knowledge of the SAICA Code of Professional Conduct, as well as the safeguards that could be
implemented in order to address identified problems, is necessary in order to answer questions in this chapter. These
questions are not difficult if you have properly studied the underlying theory and have worked through a number of
them. All the information you need to obtain a good mark is in the question. The crucial thing is to identify the
relevant information that you need to apply to the principles set out in the code and to apply it properly.
EXAMPLE QUESTION
[12 marks]
Carter & Cash Inc. (CC Inc), a small firm of registered auditors with a single office in East London, is the auditor of
the 20X1 financial statements of Monsterbond Ltd (Monsterbond). Incorporated in 20X0, the company develops
small shopping centres in medium-sized towns. Until four years ago, it had been relatively small, and operating only
in the Eastern Cape. The company then appointed a new managing director, Mr Garth Groenewald, under whose
leadership the company expanded its operations to other provinces, thereby attracting in excess of R250 million in
new investments from non-institutional investors. Monsterbond is now CC Inc’s largest client by far.
Mr Carter, a CA(SA), has been the engagement partner on the Monsterbond audit since the incorpora-tion of the
company. Since the appointment of Mr Groenewald as MD, he has become increasingly uncomfortable with
developments within the company. First, Mr Carter has found Mr Groenewald to be abrupt, uncooperative and
sometimes aggressive. Second, Mr Carter has experienced problems dealing with Monsterbond’s new computerised
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accounting system, as he is not comfortable with computer-assisted audit techniques (CAATs). In response to these
problems, Mr Carter has been delegating more of the responsibility for the Monsterbond audit to Megan Meek, who
is in the third year of her training contract.
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Megan Meek has been placed in charge of the fieldwork for the current year’s Monsterbond audit. Being a rather
timid person, she is also struggling to deal with the difficult Mr Groenewald, as well as other senior managers at
Monsterbond. When she builds the courage to tell Mr Carter about this problem, he says, ‘Megan, stop moaning.
You’re a third-year student now, this is your client, and you must learn to handle senior management.’
REQUIRED
Comment on the above scenario with reference to the SAICA’s Code of Professional Conduct. Where relevant, your
answer should include references to appropriate safeguards that ought to have been implemented.
[12]
GUIDANCE
Identify the theory applicable to the question, and thus the issue
Identify which of the following threats are applicable to the auditor in the scenario:
Self-interest
Self-review
Familiarity
Advocacy
Intimidation
Identify which of the following fundamental principles of the code are threatened by the identified issue(s) in the
scenario:
Objectivity
Professional behaviour
Professional competence and due care
Integrity
Confidentiality
Discuss whether the level of the threat(s) is significant or not and give reasons why.
Identify appropriate safeguards for each of the threats identified.
under U.S. or applicable copyright law.
Exam technique
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Scrutinise the scenario for possible indications of where there might be threats to the CA or RA’s professional
conduct. These have been marked in bold print below. You should also highlight, or underline, the words indicating
possible threats.
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Carter & Cash Inc. (CC Inc), a small firm of registered auditors with a single office in East London, is the auditor of
the 20X1 financial statements of Monsterbond Ltd (Monsterbond). Incorporated in 20X0, the company develops
small shopping centres in medium-sized towns. Until four years ago, it had been relatively small, operating only in
the Eastern Cape. The company then appointed a new managing director, Mr Garth Groenewald, under whose
leadership the company expanded its operations to other provinces, thereby attracting in excess of R250 million in
new investments from non-institutional investors. Monsterbond is now CC Inc’s largest client by far.
Mr Carter, a CA(SA), has been the engagement partner on the Monsterbond audit since the incorporation of the
company. Since the appointment of Mr Groenewald as MD, he has become increasingly uncomfortable with
developments at the company. First, Mr Carter has found Mr Groenewald to be abrupt, uncooperative and
sometimes aggressive. Secondly, Mr Carter has experienced problems dealing with Monsterbond’s new
computerised accounting system, as he is not comfortable with computer-assisted audit techniques (CAATs). In
response to these problems, Mr Carter has been delegating more of the responsibility for the Monsterbond audit to
Megan Meek, who is in the third year of her training contract.
Megan Meek has been placed in charge of the fieldwork for the current year’s Monsterbond audit. Being a rather
timid person, she is also struggling to deal with the difficult Mr Groenewald, as well as other senior managers at
Monsterbond. When she builds the courage to tell Mr Carter about this problem, he says, ‘Megan, stop moaning.
You’re a third-year student now, this is your client, and you must learn to handle senior management.’
Discuss the threat(s) and possible safeguards for each of the issues marked in bold print. Use the
following framework for your answer:
Start by explaining the type of threat(s) that might exist and the fundamental principle(s) being threatened.
Next, state and motivate whether the level of the threat is significant or not (certain lecturers, however, might not
require this step).
Discuss the safeguards that could be implemented.
Use the above framework, which has been applied in the suggested solution below, for each of the areas
highlighted.
In addition, start your answer by indicating why the Code of Professional Conduct will be applicable (refer to
point 1 below).
SUGGESTED SOLUTION
1. Mr Carter is a CA(SA) and therefore needs to comply with the SAICA Code of Professional Conduct. (1)
2. There is a self-interest threat to independence because Monsterbond is now CC Inc’s largest client by far which
1
c) The level of the threat is significant as Monsterbond is the firm’s largest client by far and the newly appointed
managing director is described as aggressive.4 (1)
d) A possible safeguard5 would be to try actively to increase the firm’s client base. (1)
3. Mr Carter has been the engagement partner since the company’s incorporation, which is a contravention of both
the SAICA Code of Professional Conduct as well as the Companies Act, causing independence issues. (1)
a) This might create a familiarity or self-interest threat6 to objectivity as such a relationship can influence Mr
Carter’s judgment (although one could argue that the threat is negated by the fact that he does not seem to be
getting along with the entity’s senior managers). (1)
b) In addition, a self-interest threat to professional behaviour is created as the engagement is in contravention with
the Companies Act requirements. (1)
c) The level of the threat might be regarded as significant as it has been an exceptionally long relationship with no
partner rotation.7 (1)
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d) A possible safeguard8 would be that Mr Carter be replaced as the engagement partner. (1)
4. The client has implemented a new computer system and Mr Carter is not comfortable with CAATs. 9 (1)
a) This creates a further self-interest threat10 to professional competence and due care as Mr Carter seems to be
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i) assign a partner with the required skills to the audit, if possible; or (1)
ii) seek outside assistance. (1)
QUESTIONS
[27 marks]
REQUIRED
1. Why is this approach used? (1)
2. List the steps that should be followed when applying the conceptual framework approach. (2)
REQUIRED
1. State what is contained in each part of the code, and to whom it is applicable. (7)
under U.S. or applicable copyright law.
2. What, if any, is the relationship between the SAICA Code of Professional Conduct and the IRBA Code of
Conduct? (1)
C. Independence is not a fundamental principle in the SAICA Code of Professional Conduct, but many examples are
provided of how a member should respond to a threat to his/her independence.
REQUIRED
1. What is the connection between independence and the fundamental principle of objectivity? (1)
2. List, and briefly explain, the five threats dealt with in the SAICA Code of Professional Conduct. (8)
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D. In an auditing test, Billy Blunder, an accounting student, is required to apply the guidance contained in the SAICA
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Mr Wild is a partner in Wild & Woes, a firm of registered auditors. He has an advertisement placed in Daily Gossip,
a low-quality tabloid newspaper, of which the following is an extract:
The Big 4? Rather choose us. I did my traineeship with one of those firms, and I saw what they are:
lumbering dinosaurs that overcharge their clients for impersonal service. Smaller is better. Try Wild &
Woes, where the client is king.
The CEO of Cavalier (Pty) Ltd read the advertisement and, after some discussion, the company appointed Wild &
Woes as its auditors.
Billy Blunder answered it as follows: This is a self-interest threat. I think this sort of thing is dealt with in section
150 of the Code of Professional Conduct. Safeguards: Cavalier should rather get some other auditing firm to
audit their financial statements, because Mr Wild seems to have poor judgement.
REQUIRED
Comment critically on Billy Blunder’s answer. (7)
[27]
Question 2 LEVEL 2
[10 marks]
Elkom (Pty) Ltd (Elkom) was founded in 20X1 in order to support electricity production in the country. Elkom’s
financial manager, Mr Power, approached one of your audit firm’s partners, Ms Spark, in order to be the external
auditors of the entity. Mr Power and Ms Spark are good friends and therefore Mr Power sees this as a great
opportunity to spend some time together.
Your audit firm, AUD Inc. (AUD), was recently founded and therefore the engagement was immediately
accepted in order to grow the client database. The audit fee that was contracted with Elkom is the previous audit
firm’s fee, increased in line with inflation. Mr Power bought Ms Spark a Rolex watch in order to thank her for
accepting the engagement.
under U.S. or applicable copyright law.
After the engagement was accepted, the planning phase started immediately, and the preliminary engagement team
has been arranged as follows:
Ms Spark – the engagement partner
Mr Capacitor – the audit manager
Mr Volt – the senior audit trainee
Mr Cable – the second year audit trainee
Ms Bulb – the first year audit trainee
Mr Capacitor was the information technology (IT) director at Elkom two years ago, and therefore has in-depth
knowledge of the client. During Mr Capacitor’s directorship, he designed an IT system for Elkom’s financial
reporting, and has since kept the shares that Elkom gave to him as payment for the development of the system. Mr
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Power requested AUD to issue an assurance report on the effective operation of the IT system. As Mr Capacitor has
close connections with the personnel in Elkom, he is currently assisting Mr Volt to find a job at Elkom once the
latter has finalised his articles.
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REQUIRED
Discuss the professional conduct concerns that you may have based on the information provided above. Categorise
your concerns based on the type of threat created by your concerns.
[10]
Question 3 LEVEL 2
[13 marks]
Mr Basil Blink is a director of Blink & Bowles Inc. (B&B), a small firm of chartered accountants and registered
auditors with an office in Century City.
offers each one a director position at B&B on condition that he/she brings clients with a fee income of at least
R1.5 million per annum with him/her to B&B.
REQUIRED
For each of the above situations, identify the threats to Mr Blink’s compliance with SAICA’s Code of Professional
Conduct and explain the fundamental principle(s) being threatened. Briefly explain your reason for stating that each
threat exists.
[13]
Note: Your answer does not have to deal with the following:
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The level of significance of the threats.
Safeguards to mitigate the threats.
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Question 4 LEVEL 2
[15 marks]
REQUIRED
1. List the type of threat(s) that would be created in terms of the SAICA Code of Professional Conduct for each of
the following situations. The fundamental principle, the significance of the threat and the safeguards that could be
implemented in order to reduce the threat to an acceptable level do not need to be addressed.
a) A firm has undue dependence on total fees from a client.
b) A firm is threatened with litigation by the client.
c) A firm has prepared the original data used to generate records that are the subject matter of the assurance
engagement.
d) A chartered accountant is informed by a partner of the firm that a planned promotion will not occur unless the
chartered accountant agrees with an audit client’s inappropriate accounting treatment.
e) A firm enters into a contingent fee arrangement relating to an assurance engagement.
f) A member of the engagement team has a close or immediate family member who is a director or an officer of
the client.
g) A director or an officer of the client, or an employee in a position to exert significant influence over the subject
matter of the engagement, has recently served as the engagement partner.
h) A firm is threatened with dismissal from a client engagement.
i) A firm is concerned about the possibility of losing a significant client.
j) The firm performs a service for an assurance client that directly affects the subject matter information of the
assurance engagement. (10)
2. Benny Edge, a CA(SA) recently qualified as a chartered accountant, has opened his own auditing firm, U3 Inc.
(U3). In an attempt to attract clients, Benny has had high-quality leaflets printed, on which the following
information appears:
Benny Edge CA(SA): three year training contract done and dusted.
The best newly qualified chartered accountant in town.
Fee: Only R1 000 an hour.
With reference to the SAICA Code of Professional Conduct, discuss Benny Edge’s ethical conduct in printing
under U.S. or applicable copyright law.
Question 5 LEVEL 2
[6 marks]
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Frans van Zyl CA(SA), the audit manager on the audit of Mountain Limited (Mountain) bought 1000 shares in
Foothill Limited (Foothill) on 30 April 20X1. Frans was involved in the due diligence review of Foothill, conducted
for Mountain, during April 20X1. Foothill was taken over by Mountain on 1 June 20X1. The share price of Foothill
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before the takeover was 10c per share. It is currently trading for R2,00 per share.
REQUIRED
Discuss Frans van Zyl’s behaviour with reference to the SAICA Code of Professional Conduct.
[6]
1. Frans van Zyl is a CA(SA) and therefore has to comply with the SAICA Code of Professional Conduct and its
fundamental principles. (1)
2. Frans obtained confidential information during the due diligence review which he used for his own benefit. (1)
3. This creates a self-interest threat to confidentiality as he used the information acquired as a result of professional
and business relations for his personal advantage. (1)
4. It can also create a self-interest threat to the professional behaviour as his actions might bring the profession into
disrepute. (1)
5. Frans has to comply with relevant laws and by using the information to purchase shares, knowing that the share
price will probably rise as a result of the takeover, will be transgressing the insider trading act, creating a
self-interest threat to professional behaviour. (1)
6. The threat is significant, as information obtained from a client was used to purchase shares and the share price has
increased because of this. (1)
7. No safeguards can be implemented to reduce the threats to an acceptable level. (1)
Notes:
The required does not exclude any points of the framework, thus the significance of the threat(s) as well as
safeguards need to be included.
When looking at the mark allocation, six marks in a Code of Professional Conduct questions could serve as an
indication that it probably only deals with one issue.
The suggested solution is presented in terms of the framework provided in the guidance question, for example it
started with why the Code of Professional Conduct will be applicable, followed by the identified issue and the
type of threats to the relevant fundamental principles, with an explanation/application of the fundamental
principles, followed by the significance of the threat and a safeguard.
Question 6 LEVEL 2
under U.S. or applicable copyright law.
[8 marks]
Hush Ltd (Hush) placed an advertisement in a newspaper, after the resignation of its auditors, to call for prospective
auditing firms to come and do a presentation on the audit approach they would follow as well as an estimation of
their audit fees. Your auditing firm, Rush Inc. (Rush), which is registered with both the South African Institute of
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Chartered Accountants and the Independent Regulatory Board of Auditors, would like to obtain the audit of Hush
and is therefore planning to do a presentation to Hush. You are a CA(SA) and RA, and your plan is to present a fee
lower than that charged to current clients.
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REQUIRED
Discuss the above with reference to the SAICA Professional Code of Conduct. Also advise regarding alternative
actions and/or steps that could or should have been implemented.
[8]
Question 7 LEVEL 2
[9 marks]
Mr Bonanza is a chartered accountant employed as the most senior financial accountant of a significant division of
Medium Ltd (Medium), a company listed on the JSE Limited. Among other incidents, the following happened to Mr
Bonanza in 20X9:
1. February 20X9: Mr Bonanza spends most of February compiling the division’s financial information, which will
feed into Medium’s financial statements for the financial year ended 28 February 20X9. Medium’s management
awarded Mr Bonanza 300 000 share options in 20X1, which will vest on 30 April 20X9. In February, the share
options are ‘in the money’, as they were awarded when Medium’s share price was R7,20 per share, and the share
price is now over R11 per share. Mr Bonanza is glad about the amount of money that he is likely to receive when
the share options vest, because he was divorced late in 20X3, and needs the money in order to maintain his
standard of living.
2. September 20X9 : In September, the chairperson of the board of directors of Large Ltd (Large), a competitor of
Medium, calls Mr Bonanza and offers him the position of financial director of Large. Mr Bonanza views this as a
once-in-a-lifetime opportunity. However, there is a condition attached to the offer: he must supply Large with a
list of Medium’s clients, showing the amounts that Medium charged each client for services over the last 12
months.
REQUIRED
Discuss each of the above situations in the light of the relevant guidance in the SAICA Code of Professional
Conduct.
Mark allocation
1. (5)
under U.S. or applicable copyright law.
2. (4)
[9]
Question 8 LEVEL 2
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[10 marks]
You are a CA(SA) and registered auditor and were appointed as an audit partner of Frazer Inc. (Frazer), an
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established auditing firm. The following represents clients and potential clients of Frazer:
Shop Ltd (Shop) is a popular grocer and one of the largest retailers in the country, and is the largest client of
Frazer. Shop’s audit fees comprise 65% of the auditing fees of the auditing firm.
The auditor of Buy (Pty) Ltd (Buy), the holding company of Shop, is retiring. You offered to pay the current
auditor of Buy a gratitude fee of 15% of the first year’s audit fees if he persuades the board of Buy to appoint
Frazer as the new auditor of Buy.
REQUIRED
Discuss any ethical concerns with reference to the SAICA Professional Code of Conduct.
[10]
Question 9 LEVEL 2
[10 marks]
GDH Inc. are the auditors responsible for the audit of XXR Ltd (XXR), a manufacturer of luxury cars. John Burton
CA(SA) is a registered auditor and the engagement partner on the audit.
It is customary for John and Harry, the chairperson of the board of XXR, to play a round of golf together on a
Wednesday afternoon. During the course of their last game, Harry made an offer: John could buy the new XXR
sports car at cost (the same rate as that offered to company employees, arguing that the auditors are considered part
of the business).
REQUIRED
With reference to the SAICA Code of Professional Conduct, discuss any ethical concerns evident from the above
scenario. List any steps that should be implemented in order to reduce the threats to an acceptable level.
[10]
Question 10 LEVEL 2
under U.S. or applicable copyright law.
[10 marks]
Smart Books (Pty) Ltd (Smart Books) is a distributor of textbooks to most universities in southern Africa. The entity
has only one office in Pretoria, and all orders are placed online, whereafter Smart Books delivers the books to the
relevant university. Smart Books is currently expanding into the rest of Africa.
The financial director of Smart Books, Anne Smith CA(SA), has requested your audit firm, Lead Audits Inc.
(Lead Audits), to tender for the external audit of the entity for its 30 September 20X1 financial year-end. As several
of the audit firm’s trainee accountants are still studying towards becoming chartered accountants, Anne Smith
offered the audit team members a 10% discount on all books ordered through Smart Books. This offer was made
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during the tender meeting, to which Anne Smith arrived late. At the meeting, the HR director also asked the audit
partner, Ben, if he could recommend some hardworking people that Smart Books could employ in order to fill
positions for the expansion. Ben and the HR director play golf together every Friday, and therefore the HR director
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REQUIRED
Discuss any concerns and considerations relating to the SAICA Code of Professional Conduct you may have, based
on the information provided. Do not include significance and safeguards as part of your answer.
[10]
Question 11 LEVEL 2
[18 marks]
The four paragraphs below describe incidents that occurred during a year in the working life of Mr Hentie Hopper, a
CA(SA). Hentie started the year as a director of Carradine & Hopper Inc. (CH), a firm of chartered accountants and
registered auditors:
1. January: Quicksand (Pty) Ltd (Quicksand), one of CH’s audit clients, is experiencing serious cash-flow problems.
Hentie Hopper, who is the partner in charge of the Quicksand audit, recently inherited a substantial amount of
money and thus decides to make an interest-free loan of R200 000 to Quicksand, because he is a close friend of
Mr Hussey, a major shareholder in the company.
2. 12 March: Mr Jackson, the controlling shareholder in a number of private companies audited by CH, comes to
CH’s offices with a carrier bag containing approximately R800 in cash. Mr Jackson asks Hentie Hopper to store
the money for him for a few days and not to keep any record of having received the money. Finally, Mr Jackson
asks Hentie Hopper to give the money to his (Mr Jackson’s) son should ‘something unfortunate happen to me
before I get to collect the money’.
REQUIRED
With reference to the relevant guidance provided by the SAICA Code of Professional Conduct, discuss any ethical
concerns as well as how Hentie Hopper and/or the firm of Carradine & Hopper should have responded to each of the
situations described above. Do not discuss the significance of the level of threat(s) as part of your answer.
under U.S. or applicable copyright law.
Mark allocation
1. (9)
2. (9)
[18]
Question 12 LEVEL 2
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SAICA Code of Professional Conduct: CA in business
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[3 marks]
You have recently been appointed as the head of ethics at a training firm and your main function is to answer queries
submitted by CA(SA)s who need guidance regarding ethical issues. The following issue was presented to you:
Johan Van Wyk, a CA(SA), was recently appointed as the financial manager at Rubco Ltd (Rubco), a company
that manufactures rubber. Johan’s duty is solely to prepare the financial statements, while the financial director,
Willem Malherbe, also a CA(SA), is responsible for the review of the financial statements. Willem, however, felt he
needed a holiday, and instructed Johan to take over the preparation and review of the financial statements. Johan was
rather concerned about this, and explained to Willem that he could not perform both functions as it would be
considered as a threat. Willem’s response was as follows, ‘I disagree with you. There is no such a thing. Do as I say
or leave the job!’
REQUIRED
Comment on the issue with reference to the SAICA Code of Professional Conduct. Do not include safeguards in
your answer.
[3]
Question 13 LEVEL 2
[5 marks]
Eddie Noyons, registered with SAICA as a CA(SA) in business, has recently been appointed as the financial
manager at Raindrops (Pty) Ltd (Raindrops), an irrigation company. The company is a wholly owned subsidiary of
Hydro Ltd (Hydro), a listed company. One of his main duties is to prepare financial statements for submission to the
holding company.
These financial statements are used in the calculation of bonuses which are paid to management of the
subsidiary. Upon Eddie’s presentation of the June 20X1 results to Pete Venter, financial director of Raindrops, Pete
suggested to Eddie that he should inflate the profit figure in order to reflect a higher profit. Pete whispered to Eddie:
‘Do not forget that managements’ bonuses depend on the profit, and I strongly suggest you do as I say!’
On his way back to the office, Eddie discussed the matter with a colleague, Ahmed Haji, also a CA(SA).
Ahmed’s response was: ‘Just do as you are told, or else Pete will fire you. Besides, you are not in the profession any
longer. Oh, and on the brighter side, our bonuses will be bigger, and it is not like you’re stealing! Lastly, the auditors
are useless so that should not even be a worry to you.’
under U.S. or applicable copyright law.
REQUIRED
Discuss the situation that Eddie Noyons is currently in based on the SAICA Code of Professional Conduct. Do not
include the significance of the threat and safeguards in your answer.
[5]
Question 14 LEVEL 2
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[12 marks]
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Jeffrey Wells, a second-year trainee accountant at MMM Inc., is the audit senior on the audit of BGG Limited
(BGG). During a visit to the canteen, Jeffrey overhears William Woods, the financial director, and Matt Walker, the
financial manager, who are both CA(SA)s, discussing their respective weekends. Matt tells his colleague that he had
to bribe a traffic officer in order to evade a speeding fine. William acknowledges that he too has done so in the past.
In addition, he informs Matt that the editor of Finances magazine offered him R15 000 to tell him (the editor)
whether the financial position of BGG had improved or declined over the past year, which he accepted and so shared
the information.
REQUIRED
With reference to the SAICA Code of Professional Conduct, discuss any ethical concerns arising from the above
scenario. Do not include safeguards in your answer.
[12]
Notes
In answering the question, follow the layout explained in the guidance to the example question.
When analysing the required, take note of the fact that safeguards are excluded from the required.
When looking at the mark allocation, 12 marks in a Code of Professional Conduct question could serve as an
indication that it deals with more than one issue (probably two to three), taking into account that safeguards were
excluded.
1. Both William and Matt are professional accountants in business (CA(SA)s); therefore, Part 2 of the SAICA Code
of Professional Conduct is applicable to them. (1)
2. Matt made the payment of a bribe to a traffic officer and William acknowledged that he had done the same in the
past. (1)
a) Such an action could create a self-interest threat to integrity, as they were dishonest in their dealings with their
offences and the traffic officers. (1)
b) Paying a bribe also causes a self-interest threat to professional behaviour, as such an action is against the law
and could discredit the profession. (1)
c) The level of the threat is significant as in an attempt to protect themselves, they were breaking the law. (1)
3. William has disclosed confidential information to the editor of a magazine in return for R15 000. (1)
a) He should not have done so, since this creates a self-interest threat to confidentiality – he disclosed confidential
information without the appropriate authorisation. (1)
b) In addition, this creates a self-interest threat to professional behaviour, as his unauthorised disclosure will
discredit the profession if it becomes public. (1)
c) The level of the threat is significant as he financially benefitted from the disclosure. (1)
4. The R15 000 can be regarded as an inducement. In terms of section R250.8, William shall not accept any
under U.S. or applicable copyright law.
inducement if a reasonably informed third party would be likely to conclude that it was made with the intent to
influence his behaviour improperly. William is offered R15 000 if he discloses confidential information. A
reasonably informed third party would conclude that the R15 000 was offered to influence him to transgress the
code by disclosing confidential information. (2)
a) Accepting the inducement created a self-interest threat to integrity, as he was not acting in a straightforward and
honest manner by accepting the money in return for the confidential information. (1)
b) It also created a self-interest threat to his objectivity, as his judgement was compromised when he accepted the
money and shared the information. (1)
c) In addition, this will create a self-interest threat to professional behaviour, as the profession’s reputation will be
discredited by his actions. (1)
d) The level of the threat is significant as he acted in his own interest and financially benefitted from the disclosure
. (1)
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Available marks [15]; maximum marks [12]
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Question 15 LEVEL 2
[17 marks]
Mr Reserve is a chartered accountant and is employed as the financial manager at Dodd Ltd (Dodd). Dodd’s
warehouse, in which finished products are stored, was flooded in the last month of the financial year. Dodd was able
to keep it out of the news. Mr Reserve is responsible for preparing the draft annual financial statements and liaising
with the external auditors. The chief financial officer of Dodd instructed Mr Reserve not to make any adjustments to
the inventory balance and advised him that no write-offs were allowed to the lowest of cost price or net realisable
value.
REQUIRED
Discuss the abovementioned with reference to the SAICA Code of Professional Conduct.
[17]
Note: You are not required to discuss the detail of a dispute resolution process.
Question 16 LEVEL 2
[22 marks]
Nomvula Phosa CA(SA) was appointed the head of accounting at Kind Hearts NPC on a six-month contractual
basis. Kind Hearts NPC is a national non-profit company involved in the redistribution of unsold food to people in
need. The company was specifically formed in the wake of statistics showing that an immense volume of food that
has reached its sell-by date goes to waste, despite still being perfectly suitable for human consumption. To
counteract the waste, Kind Hearts NPC will typically obtain the food either for free or at significantly reduced prices
from retail chains and distribute it to soup kitchens and other charity organisations involved in providing food to the
poor. Kind Hearts NPC relies on subsidies from the national lottery, on private donations and on donations from
under U.S. or applicable copyright law.
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the chairman seemed fearful and told her that ‘some battles in life are too big for us ordinary people to fight’ and
recommended that she turn a blind eye to the problem. Nomvula decided not to approach any other party in the
company out of fear that she might be made the scapegoat in the matter, especially since she had no evidence to
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REQUIRED
Discuss the ethical issues, aspects to consider and further actions that Nomvula Phosa could possibly take in terms of
Part 2 of the SAICA Code of Professional Conduct.
[22]
Question 17 LEVEL 2
[10 marks]
1. Paddy Lambkin is a first-year trainee accountant at Abel & Blom Inc., a firm of chartered accountants and
registered auditors. Paddy is a member of the audit team for the audit of the 20X1 financial statements of Really
Big Bank Ltd (RBB), a listed retail bank. During RBB’s 20X1 financial year (but before the start of the audit
testing), Paddy went to an RBB branch and applied for a personal loan. He was granted a R15 000 loan which he
used to buy shares in RBB. The RBB staff members who dealt with his loan application were unaware of his
involvement with the RBB audit.
2. Henry Pollock is a recently qualified CA(SA) and works as a business analyst in the group schemes department of
Solid Ltd, a life assurance company. He is instructed by a senior manager in the department, Mr Grump, to take
R250 000 in cash to the head office of a trade union, and to hand it to the trade union’s general secretary. When
Henry musters the courage to ask Mr Grump the reason for the payment, the latter answers as follows: ‘So, little
Pollock is now asking questions about things that don’t concern him. Shut up and do as you are told, or you will
soon be sitting on a street corner with a placard. This is real-world business, which you don’t know anything
about.’
REQUIRED
Discuss, with reference to relevant guidance in the SAICA Code of Professional Conduct, threats to compliance with
the fundamental principles as outlined in the Code by:
1. Paddy Lambkin (5)
2. Henry Pollock (5)
Note: Your answers should include relevant safeguards that should have been implemented to mitigate the relevant
threats.
under U.S. or applicable copyright law.
[10]
Question 18 LEVEL 3
[21 marks]
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Sweetie Jacobs is the marketing manager at Pratt & Whitney (P&W), a recently formed firm of registered auditors
operating from offices in Rondebosch, Cape Town. She recently drafted a letter that she intends sending out to a
large number of local businesses. The letter reads as follows:
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Dear Sir/Madam
We are the new kids on the audit block, formed to serve the southern suburbs of Cape Town (for now –
we eventually intend to conquer the world of auditing!). The purpose of this letter is to:
inform you of our range of top quality services; if you have dealt with the so-called Big 4 before, we
promise you vastly better service than you received from those lumbering dinosaurs (in fact, we think
they are on the verge of extinction);
invite you to make us your business partner; and
guarantee our speedy acceptance of appointment (within 24 hours, as outlined below), should you do
the sensible thing and choose us as your auditors (and, hopefully, the provider of further services).
All you have to do in order to appoint us as your business partner is to complete the short section towards
the end of this letter: no mess, no fuss. But hurry, because we are only able to offer the terms and
conditions outlined below for a very limited period. (Another reason not to delay, but to act today is that
the first 20 respondents will receive fantastic braai tongs, equipped with a built-in LED light, so you always
have a light handy to check the wors.)
discount. We can offer it because, if, for example, our tax staff does your tax compliance work, the audit
staff will know it’s spot-on, and can then cut back on the related audit work.
If you have had a fall-out with your present auditor, partner with us instead. We promise to assist you,
not fight with you. After all, you pay your auditor good money, and in return deserve the best service.
And don’t just take our word for this: have a look at what one of our many satisfied clients has to say
about us:
I can’t tell you how much I have enjoyed dealing with Pratt & Whitney. Our previous auditors
were expensive, and they found fault with just about everything we did. Pratt & Whitney is so
much nicer to deal with: they’re much cheaper, and they hardly bother us at all. And, most
importantly, they give us exactly what we want, a clean audit report!
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For you to complete
Indicate which of the following service(s) you require in addition to an external audit (and remember: the
more you tick, the more you save!):
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YES NO
Management consulting
Accounting
Internal auditing
Tax compliance
Your name:
We will email you a letter of client acceptance within 24 hours of receipt of the above, and that will serve
as a binding contract between ourselves and your company. That’s how easy we make it for you!
We look forward to doing business with you, and knocking your socks off.
Regards,
Pratt & Whitney
REQUIRED
Guided by the SAICA’s Code of Professional Conduct and general auditing theory, comment critically on the draft
letter.
[21]
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INTRODUCTION
The legal responsibilities of, as well as the requirements to be met by, an auditor are governed by, among other
things, the Companies Act 71 of 2008, the Auditing Profession Act 26 of 2005 (APA), and the King IV Report on
Corporate Governance™ for South Africa 2016.1
The following types of application questions can typically be asked regarding compliance with the Acts and the
King IV™ report:
Discuss whether an incident constitutes a specific event or would give rise to a specific liability in terms of an
Act.
Discuss the non-compliance of an auditor, a company, a committee or the directors in terms of an Act or the King
IV™ report.
Evaluate the conduct of an auditor, a company, a committee or the directors in terms of an Act or the King IV™
report.
EXAMPLE QUESTION
under U.S. or applicable copyright law.
You are a director at AuditCorp Inc., which has recently been appointed as auditors of Distron (Pty) Ltd (Distron), a
cold beverage wholesale supplier servicing the Gauteng area. You were appointed as the designated auditor.
Distron buys its products directly from various beverage manufacturers, and then resells them to independent
shops and retail chains. Distron currently owns a fleet of 12 delivery vehicles, with which it makes its deliveries to
its customers.
During your review of the audit file, you could find no substantive documentation for an amount of R123 456
claimed as a deduction when the second provisional tax return was completed by the financial manager and signed
off by the financial director, Mrs Botha. Further investigations revealed that this amount was the total of all traffic
fines issued during the financial year to the company’s delivery vehicle drivers. Subsequently, you set up a meeting
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with Mrs Botha and were stunned by her response: she was of the opinion that traffic fines received by delivery
vehicle drivers for speeding, illegal parking and so on could be claimed as a deduction from taxable income. She
reasoned that the fines had been issued in the production of income. She argued that the faster the deliveries were
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made, the more profitable the company would be. Mrs Botha insisted that these deductions be made, as the South
African Revenue Service would not pick them up.
REQUIRED
1. Discuss whether Mrs Botha’s treatment of the traffic fines constitutes a reportable irregularity in terms of the
Auditing Profession Act 26 of 2005. (11)
2. Describe the actions that you should take in terms of the Auditing Profession Act 26 of 2005, if you have
concluded that Mrs Botha’s treatment of the traffic fines constitutes a reportable irregularity. (6)
[17]
GUIDANCE
concluded that Mrs Botha’s treatment of the traffic fines constitutes a reportable irregularity. (6)
vehicle drivers for speeding, illegal parking and so on could be claimed as a deduction from taxable income.9 She
reasoned that the fines had been issued in the production of income. She argued that the faster the deliveries were
made, the more profitable the company would be. Mrs Botha insisted that these deductions be made,10 as the South
African Revenue Service would not pick them up.11
Exam technique
Remember: you need to follow a specific approach if you are required to describe, or comment on, requirements set
out in:
Acts, such as the Auditing Profession Act 26 of 2005 and the Companies Act 71 of 2008
the King IV Report on Corporate Governance™ for South Africa 2016.
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You need to:
identify the relevant issue in the Acts and/or the King IV™ code
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state the relevant theory as stated in the Acts and/or the King IV™ code
apply the information in the scenario to the relevant stated theory.
If you are asked to comment on the non-compliance in terms of an Act or the King IV™ code, that is exactly what
you will deal with: non-compliance. However, if you are asked to evaluate or assess the information in terms of an
Act or the King IV™ code, you must include in your answer the instances of both compliance and non-compliance.
Remember also to conclude on the compliance and the non-compliance.
SUGGESTED SOLUTION
1. There is an issue that relates to incorrect tax practices, which could possibly prove to be a reportable irregularity.12
a) It must be in the capacity of the auditor of the company. (Theory) (1)
You were appointed as the designated auditor of Distron. (Application) (1)
AND
b) An unlawful act or omission must have taken place. (Theory) (1)
Provisional tax returns were unlawfully completed owing to the deduction of traffic fines from taxable income.
(Application) (1)
AND
c) The unlawful act or omission must be committed by a person responsible for the management of the company.
(Theory) (1)
Mrs Botha was responsible for, and/or fully aware of, the deduction of the traffic fines from taxable income. (Application)
AND (1)
d) The unlawful act or omission has caused, or is likely to cause, material financial loss to the entity or to a
partner, member, shareholder, creditor or investor of the entity in respect of his/her dealings with that entity.
(Theory) (1)
i) Fines and penalties can be imposed by the South African Revenue Service and Distron will suffer financial
loss. (Application) (1)
ii) If returns go through the way they were completed, the South African Revenue Service will suffer a loss, as
Distron will pay less tax than that to which the South African Revenue Service is entitled. (Application)
OR (1)
e) The unlawful act or omission is fraudulent or amounts to theft. (Theory) (1)
The submission of these falsified tax returns might constitute fraud. (Application) (1)
OR
f) The unlawful act or omission represents a material breach of any fiduciary duties. (Theory) (1)
The submission of falsified tax returns represents a material breach of the financial director’s fiduciary duty, as it
is not in the best interests of the company. (Application) (1)
Therefore, based on the above, Mrs Botha’s treatment of the traffic fines constitutes a reportable irregularity
in terms of the Auditing Profession Act 26 of 2005 (Decision/Conclusion). (1)
a) As per section 45 of the Auditing Profession Act 26 of 2005, the existence of a reportable irregularity must be
reported to the IRBA without delay. (1)
b) Management of Distron must be notified (in writing) of the report to the IRBA within three days of the auditor
sending the first report to the IRBA. (1)
c) The auditor must, as soon as reasonably possible, but no later than 30 days from the date on which the first
report was sent to the IRBA: (1)
i) take all reasonable steps to discuss the report with the management of Distron; (1)
ii) afford the members of the management board of Distron an opportunity to make representations in respect of
the report; and (1)
iii) send a second report to the IRBA stating that:
no reportable irregularity has taken, or is taking, place; or (1)
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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)
the reportable irregularity is continuing. (1)
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QUESTIONS
Question 1 LEVEL 1
Auditing Profession Act 26 of 2005: Reportable irregularity
[8 marks]
Section 45 of the Auditing Profession Act 26 of 2005 imposes an obligation on registered auditors to report a
reportable irregularity to the IRBA if certain requirements are met.
REQUIRED
List and briefly explain the elements that constitute a reportable irregularity.
[8]
Question 2 LEVEL 1
Auditing Profession Act 26 of 2005: Reportable irregularity
[6 marks]
REQUIRED
Briefly outline the process that a registered auditor should follow when he/she is under a duty to report a reportable
irregularity in terms of the Auditing Profession Act 26 of 2005.
[6]
under U.S. or applicable copyright law.
Question 3 2 LEVEL 1/
Auditing Profession Act 26 of 2005: Registration as auditor, duties of auditor
[14 marks]
The three individuals below would like to register with the IRBA. They are not sure what the requirements are and
have asked for your assistance:
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Franc Massri is a qualified CA(SA). He has been vigilant in keeping up with his continuous professional
development requirements as set out by SAICA. He received his South African citizenship five years ago and has
been working at an auditing firm for the past three years.
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Jakky Chiang is a South African citizen. He was released from prison in 20X1, after having been sentenced,
without the option of a fine, to 25 years in prison for the forging of salary cheques at his previous place of
employment. While in jail, he realised his mistake and decided to become an auditor in order to catch fraudsters.
He was released on early parole owing to good behaviour and began studying immediately after his release. He is
ready to write his professional exams and start his training at an audit firm.
Grant Thorn is a well-known and respected accountant in Johannesburg. He complies with all the SAICA
continuous professional development requirements as well as those of the IRBA. He is still waiting for his South
African citizenship to be approved, as he is originally from the UK.
REQUIRED
1. Discuss each person’s eligibility to be registered as an auditor in terms of the Auditing Profession Act 26 of 2005.
Motivate your answer. (9)
2. List the criteria with which an appointed auditor of a company must be satisfied, according to section 44 of the
Auditing Profession Act 26 of 2005, before expressing an unqualified opinion on a company’s financial
statements. (5)
[14]
Question 4 LEVEL 2
Auditing Profession Act 26 of 2005: Reportable irregularity
[13 marks]
Mr Murray is the partner in charge of the 20X1 audit of Mega Ltd (Mega). During the course of its 20X1 financial
year, Mega purchased a much smaller company, Micro (Pty) Ltd (Micro).
One evening, while the Mega audit was in progress, three staff members of Micro came to Mr Murray’s house. They
showed him convincing-looking documents that indicated that, shortly after Mega took over Micro, an executive
director of the former company, a Mr Retief, instructed Micro’s accounts payable clerks to delete from Micro’s
records a large number of entries for deliveries received by the company before the takeover. He instructed them to
do so because:
he hoped that some of the suppliers concerned would not have any record of having made the relevant deliveries
to Micro; and
he wanted to create discrepancies between Micro’s records and the relevant suppliers’ statements in order to delay
having to pay them.
under U.S. or applicable copyright law.
REQUIRED
Given the above information, discuss whether Mr Murray has a reporting responsibility in terms of the Auditing
Profession Act 26 of 2005. Motivate your answer.
[13]
Question 5 LEVEL 2
Auditing Profession Act 26 of 2005: Reportable irregularity
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[11 marks]
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Kelly Auditors Inc. (Kelly) have been the external auditors of the Multicor group for the past four years. Kelly is the
external auditors of all the subsidiaries in the group and the audit team is currently busy with the audit of Wonder
Ltd (Wonder), one of Multicor’s subsidiaries, for the financial year ended 31 May 20X1.
During the inspection of the minutes of directors meetings, the following information was obtained regarding the
remuneration of Wonder’s board of directors and management. The company has six executive directors and one
independent non-executive director. The directors had not been satisfied with their current remuneration, as due to
the ever-increasing cost of living in South Africa, they felt that it had become difficult to maintain their lifestyles.
They had therefore taken it upon themselves to approve a new directors’ remuneration policy. This policy had been
developed during the current financial year by the company’s chief financial officer, who is also a director, but it had
not been approved by the shareholders.
The directors of Wonder do not wish to disclose any remuneration in the annual financial statements of either
Wonder or the group. They are willing to disclose only their basic salary.
REQUIRED
Discuss whether the lack of approval and disclosure of the directors’ remuneration will constitute a reportable
irregularity in terms of the Auditing Profession Act 26 of 2005.
[11]
Question 6 LEVEL 2
Auditing Profession Act 26 of 2005: Legal liability
[9 marks]
Mr John Cowboy is a CA(SA) and a registered auditor. In his role as audit partner at John Cowboy Inc., he issued an
unmodified audit opinion on the financial statements of Dicey Rock (Pty) Ltd (Dicey) that reflected that the
company had a positive financial outlook, and would be a going concern for the foreseeable future. The audit work
performed, however, did not support this statement. The unmodified report was issued, despite Mr Cowboy being
aware of the fact that Dicey was under severe financial pressure at year-end.
Mr Cowboy was also aware that a financial company, Capital Ltd (Capital), would rely on the audit report in
deciding whether or not to provide Dicey with financial assistance in the form of a loan. The granting of the loan by
Capital was specifically dependent on Dicey’s latest audited financial statements, providing assurance that Dicey
would be able to operate as a going concern for the foreseeable future. Mr Cowboy was aware that the potential loan
from Capital would bring some short-term cash flow relief to Dicey, but that this would be insufficient to restore
financial stability.
Based on Mr Cowboy’s audit report, Capital granted the loan to Dicey, as Capital expected the company to be
more than capable of servicing the loan repayments.
under U.S. or applicable copyright law.
A few months after the loan had been granted, Capital realised that Dicey was not in a position to make the
contractual loan repayments. Upon subsequent enquiry, they discovered that Capital had used the loan money to pay
administrative expenses, including salaries.
REQUIRED
Discuss whether Mr John Cowboy will be held liable for the loss suffered by Capital in terms of the Auditing
Profession Act 26 of 2005.
[9]
Question 7
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Question 7 LEVEL 1
King IV™ report
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[13 marks]
You have recently been appointed as an audit manager at the audit firm of General Practitioners of Excellence Inc.,
which has entrusted you with the audit of Goodies Ltd, a company that was incorporated by its chief executive
officer, Mike Goods.
Goodies Ltd manufactures and sells ceramic teapots, and was listed on the JSE in 2000. Mike Goods has heard
about the importance of the King IV Report on Corporate Governance™ for South Africa 2016 and the so-called
‘combined assurance model’. He feels, however, that King IV™ is not applicable to Goodies Ltd, as the external
auditor and the internal audit department work independently with different agendas and goals.
REQUIRED
Write a letter to Mike Goods in which you explain the applicability of the King IV™ report to the company and
describe the concept of and responsibility for combined assurance.
[13]
Question 8 LEVEL 2
King IV™ code
[10 marks]
You are a first-year audit trainee allocated to the statutory aspect of the audit of Kilimanjaro Ltd (KLM).
The company secretary provided the following schedule to the board of directors and the risk committee:
Board of directors
D. Masha – executive director and chairperson
under U.S. or applicable copyright law.
The position of financial director has been vacant for nine months after the previous director’s resignation. The
CEO, A. Anker, is in the process of interviewing candidates and he will, in due course, appoint the new financial
director. Even though there is only one independent non-executive director in the board, the directors and
shareholders are satisfied that the number of directors per company is sufficient and they are not prepared to appoint
additional directors.
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Risk committee
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The nomination committee has recently been dissolved as the CEO believes he and M. Makas have the ability to
handle the appointment process on their own.
REQUIRED
Briefly describe any concerns that you have regarding the composition and appointments of the board of directors
and risk committee. For each concern, provide a recommendation(s) and/or requirement(s) of the King IV™ code
and report.
Concerns (1 mark Recommendations and/or requirements of King IV™ code and report (1 mark
each) each)
Question 9 LEVEL 2
King IV™ report
[21 marks]
The following information relating to the board of directors of Paino and Later Ltd (P&L) has been presented to you
during an audit. You have been assigned the responsibility of investigating compliance with the King IV Report on
Corporate Governance™ for South Africa 2016 (King IV™). The company is listed on the JSE.
chairperson
Joe Tick Inc. Secretary and auditors
D. Preston Not in the employ of P&L. D. Preston was, however, Audit committee member
the CEO up until one year ago, when Al Paccino was
appointed as CEO.
Joe Marciano – Risk director Audit committee member
PhD Maths
R. Balboa Not in the employ of P&L. He owns 2% of P&L’s
shares. This is, however, immaterial to his personal
wealth.
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J. Acker CA(SA) Financial director Audit committee member
B. Acker Self-employed. B. Acker is one of P&L’s significant
suppliers.
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REQUIRED
1. Classify the directors of Paino and Later Ltd as executive or non-executive in terms of the King IV™ report. Also
classify the non-executive directors as independent or not independent in terms of the King IV™ report. Your
answer should be presented in the following tabular form: (12)
2. Discuss any instances of non-compliance with the King IV™ report, specifically with reference to the
composition of the board of directors and the audit committee. The role of the chairperson of the board as well as
the CEO should be included in your answer. (9)
under U.S. or applicable copyright law.
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[21]
Question 10 LEVEL 2
King IV™ report
[20 marks]
You are the audit manager at the audit firm Go ProAudits Inc. (Go ProAudits). Your firm was recently appointed as
the external auditors of Pen ’n Pencil Ltd (Pen ’n Pencil) based on the recommendation of the board of directors.
Management was very helpful during the planning stage of the audit and assisted in providing the following
background information to the senior trainee accountant on the audit team:
under U.S. or applicable copyright law.
The board consists of the following individuals with their different roles:
Ms Danielle Copper – chairperson of the board
Mr Thabo Mofokeng – serves on the audit committee
Ms Fatima Naidoo – chief financial officer (CFO)
Ms Marie Swanepoel – serves on the audit committee
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Mr Siphiwe Makuma – chief executive officer
Mr Yusuf Wascowitz – managing director
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Ms Danielle Copper and Mr Siphiwe Makuma were the founders of Pen ’n Pencil. Both of them separately owned
50% of the entity’s shareholding at inception, but their shareholding has decreased – since the date of listing, they
have owned only 7.5% each. Ms Copper is seen as the best candidate to oversee matters in the company due to her
involvement in the incorporation. Mr Makuma was appointed as chief executive officer for the same reason. The
shareholders at the time therefore elected both of them to their respective positions on the board of directors in 2010.
Mr Thabo Mofokeng is an independent director of Pen ’n Pencil with an extensive background in retail stores.
Pen ’n Pencil therefore appreciates his willingness to assist in the day-to-day operation of the entity.
Ms Fatima Naidoo has a background in psychology, but is currently studying towards becoming a chartered
accountant. She has been in a managerial position at Pen ’n Pencil for the past five years, and was promoted to CFO
after the resignation of the previous CFO. As Pen ’n Pencil aims to maintain a high level of qualification, Ms Naidoo
was requested to further her studies in accounting.
Ms Marie Swanepoel is a stay-at-home mom, and also the sister-in-law of Ms Copper. Ms Copper requested Ms
Swanepoel to assist on the board in order for them to increase the board’s independence.
The directors’ fees are appropriately disclosed in the financial statements by the accounting function, which is
responsible for the preparation of the financial statements.
REQUIRED
Discuss the corporate governance concerns based on the King IV™ report.
Notes:
The required asks for concerns based on the King IV™ report. Therefore you will only deal with instances of non
-compliance in your answer and you will not include a conclusion in your answer.
You need to state the relevant King IV™ requirements (theory) in your answer and have to apply the information
in the case study to the stated King IV™ requirements (application).
Your answer must clearly link the theory to the application. One way of presenting this type of answer is to do it
in tabular format, with the theory in the first column and the application in the second column.
When looking at the mark allocation, 20 marks constitutes 10 relevant King IV™ requirements marks and 10
properly applied application marks.
1 The chairperson of the board is not a non-executive director who is independent, as required
. by the King IV™ report. (1)
Ms Danielle Copper owns a 7.5% share in Pen ’n Pencil, which is material to her personal
wealth, and will not be seen as independent. (1)
2 The company should appoint a lead independent member to strengthen the independence of
. the board. (1)
There is no indication of a lead independent board member. (1)
3 The chairperson of the board as well as the CEO should be appointed by the board of
. directors. (1)
It is a concern that the chairperson of the board was elected by the shareholders and not by
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the board of directors in terms of the King IV™ report. (1)
The CEO was also appointed by the shareholders and not by the board of directors, as
required by the King IV™ report. (1)
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4 The majority of the board members are not non-executive directors. (1)
. Mr Mofokeng assists with the day-to-day activities of Pen ’n Pencil, and therefore cannot be
seen as non-executive. (1)
Four of Pen ’n Pencil’s six directors are executive directors (only Ms Copper and Ms
Swanepoel are non-executive), and therefore the entity does not adhere to this principle. (1)
5 The majority of these non-executive directors are not independent, as required by the King IV
. ™ report. (1)
Neither Ms Copper nor Ms Swanepoel is independent.
IV™. (1)
Question 11 LEVEL 2
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[25 marks]
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Bookings-R-Us Ltd (BRU) is a travel agent in the South African tourism industry. BRU is listed on the JSE. The
board of directors is well aware of the fact that good governance in terms of King IV™ is compulsory for companies
listed on the JSE and, as such, has requested your review of the information provided below.
Mr Red qualified as a chartered accountant after he finished his training contract seven years ago. However, he then
decided to follow his passion of becoming a professional singer. He never kept up to date with the latest changes in
the auditing/accounting profession while pursuing his passion as he was not planning on returning to the profession.
The following memorandum was presented and discussed at the meeting on the 5 March 20X1:
Memorandum
To: The audit committee members
From: Mrs Gold (on behalf of the board of directors)
Dear Member
Please take note of the following additional functions required from the audit committee in assisting the
board of directors to be effective and efficient:
1. Assisting the nominations committee in future with the appointment of a company secretary
2. Appointing or renewing the appointment of the external auditors
3. Investigating suspected instances of fraud during the weekly wage pay-out to the workforce
4. Conducting the audit of the interim financial results
REQUIRED
Highlight all instances of non-compliance with King IV™ and make recommendations as to how BRU can become
under U.S. or applicable copyright law.
Question 12 LEVEL 1
King IV™ report and Companies Act 71 of 2008
[18 marks]
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Per the King IV Report on Corporate Governance™ for South Africa 2016 (King IV™), a company’s audit
committee is supposed to, inter alia, oversee both its external and internal auditors.
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REQUIRED
1. Answer yes or no. In terms of the Companies Act 71 of 2008, it is compulsory for the following companies to
have an audit committee:
a) Public companies (1)
b) State-owned companies (1)
c) Private companies, in the case where the memorandum of incorporation indicates that the company should have
an audit committee (1)
2. What are the duties of the audit committee in terms of the Companies Act 71 of 2008? (15)
[18]
Question 13 LEVEL 2
Companies Act 71 of 2008
[10 marks]
As the senior manager in the technical department of the audit firm of Matthews & Mbowene Inc. with expertise in
aspects of the Companies Act 71 of 2008, you have received a query from one of your colleagues and an email from
another. You need to respond to these queries separately.
1. During the course of a conversation with Meisie Smith, one of the audit seniors at the audit firm, regarding a
prospective client, Trophy (Pty) Ltd, a company that performs all types of engraving, especially that of trophies,
she told you the following:
I have a potential client, Trophy (Pty) Ltd, who approached us to serve as the company secretary. I obtained Trophy
(Pty) Ltd’s memorandum of incorporation (MOI), and there is something that is bothering me. The company’s MOI
only indicates that the company is prohibited from offering its securities to the public. Am I correct in saying that the
company will be seen to be incorporated as a private company in terms of the Companies Act 71 of 2008?
From: [email protected]
To: [email protected]
Date: 20X1/07/08 8:15am
Subject: Companies Act Query
under U.S. or applicable copyright law.
I have a potential audit client, Seals (Pty) Ltd, who is the sole provider of printed degree certificates in
South Africa. Even though they are registered as a private company, they need to know whether or not
they need to be audited according to the new Companies Act. They have provided me with the
following information for the financial year ended 30 June 20X1:
Number of certificates printed during the year under review 40 million
Cost price per certificate R5
Sales price per certificate R7
Average number of employees 40
Total creditors R20 million
Number of shareholders 20
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Do they need to be audited according to the new Companies Act?
REQUIRED
Address each of your colleague’s queries separately.
Mark allocation
1. (4)
2. (6)
[10]
Question 14 LEVEL 2
Companies Act 71 of 2008
[10 marks]
As a member of the audit team of Cheesy Ltd (Cheesy), which manufactures and sells dairy products, you have been
assigned to the audit of statutory matters and, as part of your procedures, have extracted some information pertinent
to your audit.
Group structure
Cheesy Ltd owns 80% of the shares in Boxes Ltd, a company responsible for marketing the products of Cheesy Ltd.
The other 20% of shares are held by independent shareholders.
Fifi Frame
Shervani Govender
Apple Cruise CA(SA)
Boxes Ltd (Boxes) had to appoint a new auditor during the last annual general meeting, but the shareholders could
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not come to an agreement as to who the new auditor should be. Therefore, they gave the directors authorisation to
make an appointment. Listed below are the candidates they are currently considering:
Giddy Fellows (Pty) Ltd, a new dynamic firm in the city whose shareholders are Franc Giddy CA(SA), Mary
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REQUIRED
Discuss the eligibility of the four entities or individuals listed above for the appointment as the auditor of Boxes Ltd
in terms of the Companies Act 71 of 2008.
[10]
[16 marks]
Wellworthit Ltd (WWI) is one of the top 100 companies listed on the JSE. Its business involves retailing of clothing,
food products, groceries and home products to upper- and middle-income customers, and it has operations in South
Africa, Namibia, Botswana, Australia and New Zealand. WWI also has an interest in Wellworthit Financial Services
(Pty) Ltd, which provides financial services such as personal loans.
At WWI’s financial year-end (30 September 20X1), WWI’s board consisted of:
Mr Archibald – chairperson of the board; non-executive director
Mr Brooks – independent non-executive director
Ms Calvin – independent non-executive director
Mr Du Toit – non-executive director
Mr Els – non-executive director
Mr Franken – executive director; chief executive officer
Mr Goodes – executive director; chief operating officer
Ms Hamilton – executive director; head of corporate affairs
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Ms Calvin
The nominations committee did not meet during the 20X1 financial year. Per WWI’s annual report, this committee
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‘meets when required, and it was decided that it was unnecessary to have a meeting during the reporting period’.
The remuneration committee decides on the remuneration of executive directors. All non-executive directors are
remunerated with a meeting attendance fee of R20 000 per board meeting and R15 000 per committee meeting.
The company also has a social and ethics committee, which it is required to have in terms of the regulations to the
Companies Act of 2008.
During the year, two independent, non-executive directors resigned from the board. The first was Mr Langeveld,
who did so after it became known that he had been listed in the Companies and Intellectual Properties Commission’s
(CIPC’s) register of delinquent directors before he was appointed. WWI’s annual report stated that Mr Langeveld
resigned during the reporting period, but did not provide a reason for his resignation. The other director who
resigned was Mr Mlambo. WWI made a statement that the reason for his resignation was ‘to free up time to pursue
other interests’. This statement was repeated in the annual report. The Black Management Forum issued a statement
that accused WWI’s board, and the chairperson of the board in particular, of having been disrespectful towards Mr
Mlambo, and called for a boycott of WWI. The company did not respond to the Black Management Forum’s
statement. Both Mr Langeveld and Mr Mlambo served on WWI’s audit committee before they resigned as board
members.
REQUIRED
Discuss the governance practices at Wellworthit that you regard as being problematic/unacceptable, given relevant
guidance in the King IV™ report and the Companies Act 71 of 2008.
[16]
Companies Act 71 of 2008 and Auditing Profession Act 26 of 2005: Reportable irregularity
[24 marks]
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:
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ACCOUNTS 29 FEB 20X1 (R’000)
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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
Yellow (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:
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)
[24]
[28 marks]
Diversified Ltd (Diversified), a large logistics company, was listed on the JSE in 1983. The company has expanded
into a number of sub-Saharan countries: first, into the countries neighbouring South Africa, and then into West and
East Africa. Generally speaking, the expansion process has been a success.
under U.S. or applicable copyright law.
Board composition
On its 20X1 financial year-end date, the board of directors of Diversified consisted of:
Mr Appleton – chairperson and joint chief executive officer (he was the board chairperson before being made
joint CEO)
Mr Brundyn – joint chief executive officer (he was an executive director, tasked with stakeholder engagement,
before being made joint CEO)
Ms Carter – chief financial officer
Mr Dube – non-executive director
Mr Engels – non-executive director
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Mr Franks – non-executive director
Mr Gordon – independent, non-executive director
Ms Hadebe – independent, non-executive director
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Half-way through the 20X1 financial year, Mr James, Diversified’s CEO at the time, unexpectedly resigned from the
position to which he had been appointed two years ago. Later, it became apparent that Mr James had pushed for the
board to remove the company’s chief financial officer, Ms Carter, and then resigned when the board refused to do
so. Mr Appleton, a former chairperson of Diversified, has been the joint CEO, with Mr Brundyn, since that time. It
is not clear how long this joint CEO arrangement will last.
Shortly after Mr James’s resignation, Mr Klein, the chief operating officer at the time and an executive director,
also resigned. He reportedly left because he had not been appointed chief executive officer. Apparently, the
company does not intend appointing a new chief operating officer. Diversified’s share price dropped considerably
after the above-mentioned events.
Committees
At the financial year-end date, Diversified had an audit committee and three board committees, which were
constituted as follows:
Audit committee:
Mr Appleton – chairperson
Ms Ludd – chief audit executive
Mr Gordon
Mr Irish
Executive committee:
Mr Appleton – chairperson
Mr Brundyn
Ms Carter
Four additional senior managers
Nomination committee:
Mr Appleton – chairperson
Mr Engels
Ms Hadebe
Mr Langa – head of human resources
Remuneration committee:
Mr Franks – chairperson
Mr Irish
Mr Langa – head of human resources
under U.S. or applicable copyright law.
During the financial year, the board decided to do away with both the risk committee and the social and ethics
committee. The functions of the risk committee were transferred to the audit committee, while the functions of the
social and ethics committee were transferred to the executive committee.
Discuss any instances of non-compliance with the King IV™ report and the Companies Act 71 of 2008 with
reference to the information provided relating to Diversified Ltd. You may assume that the Companies Act
requirements relating to quorums of meetings have been met. You are not required to address the issuing of shares in
your answer.
[28]
1 Copyright and trademarks are owned by the Institute of Directors in Southern Africa NPC and all of its rights are
reserved.
2 Requires a decision from you = conclusion.
3 Deals specifically with a reportable irregularity.
4 Criteria stated in the Auditing Profession Act.
5 Actions = what you will do.
6 Stated in the APA = theory.
7 First requirement is met: you are the auditor.
8 Financial director = management is aware.
9 Not in terms of the Income Tax Act = unlawful.
10 Not in the company’s best interest.
11 SARS will lose money.
12 This is the issue, but in this case will not earn a mark as it has been given to you in the required.
under U.S. or applicable copyright law.
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INTRODUCTION
The basic concepts of internal control provide a background to the topics included in the rest of the book. Although
these concepts are not usually tested on their own, a thorough understanding of them will enhance your ability to
apply them in later chapters.
For guidance on the answering of those questions on governance requiring the application of theory, refer to
Chapter 3.
QUESTIONS
Question 1 LEVEL 1
King IV™ report
under U.S. or applicable copyright law.
[16 marks]
Your audit firm, Excellent Service, appointed as the auditors of Corporate (Pty) Ltd, has received the following
document from their new director with regard to uncertainties or questions in terms of the King IV Report on
Corporate Governance™ for South Africa 2016 (King IV™ report).
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According to the King IV™ report, corporate governance is defined as the exercise of ethical and effective
leadership by the governing body towards the achievement of the following governance outcomes: ethical
culture, good performance, effective control and legitimacy.
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Based on the above statement, I have the following queries with regard to governance and internal
control in terms of the King IV™ report:
Query 1
Risks are an integral part of any business striving to achieve its objective.
What is the definition of risk according to the King IV™ report?
Query 2
The governing body should exercise ongoing oversight of risk management and ensure that particular
objectives are achieved.
What are the objectives that should be met in terms of the King IV™ report?
Query 3
After the process of risk identification and risk evaluation, the entity should decide on an appropriate risk
response for each of the risks identified.
What are the different risk responses available to us as an entity?
Mr A. Hopeful
(Director)
REQUIRED
Assist the director of Corporate (Pty) Ltd with his queries.
Mark allocation
Query 1 (5)
Query 2 (5)
Query 3 (6)
[16]
Question 2 LEVEL 1
Internal control: Fundamentals
[19 marks]
under U.S. or applicable copyright law.
The International Standard on Auditing (ISA) 315 (Revised), which identifies and assesses the risks of material
misstatement through an understanding of the entity and its environment, requires an auditor to understand an
entity’s internal control. ISA 315 (Revised) defines internal control and deals with the different components thereof.
REQUIRED
1. Define internal control. (5)
2. List the components of an entity’s internal control, and give a brief explanation of each component. (14)
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[19]
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Question 3 LEVEL 1
Internal control: Fundamentals
[15 marks]
You were recently appointed as a partner at the audit firm of Tom, Dick and Harry Inc. One of your duties includes a
monthly training session with the trainee accountants in order to resolve their uncertainties regarding, among other
things, aspects of internal control.
In order to identify problem areas, you distributed a questionnaire among the trainee accountants, the results of
which revealed that there are reservations about the benefits to be derived from the implementation of a
computerised system, the type of control activities and the inherent limitations of internal control.
REQUIRED
Prepare a guideline that could be used as a reference tool during the training session, in which you:
1. describe five potential benefits identified by ISA 315 (Revised) to be derived from the implementation of a
computerised system (5)
2. list the different type of control activities (5)
3. list five inherent limitations on internal control. (5)
[15]
Question 4 LEVEL 1
Internal control: Control objectives
[11 marks]
You have recently been employed as the audit manager responsible for resolving technical issues and overseeing
trainee accountants completing their studies part-time through Various University. One of your tasks is to assist the
trainee accountants in preparing for their upcoming examinations.
One of the areas of concern is their understanding of internal control and, more specifically, the control
objectives relating to internal control. You have been tasked with the preparation of a presentation on control
objectives in order to answer the following unrelated questions raised by the trainee accountants.
under U.S. or applicable copyright law.
REQUIRED
1. List and define the generic control objectives that need to be present in all accounting systems. Bearing in mind
that the objectives referred to are those of management, and should not be confused with the assertions that
management implies in the financial statements, answer using this tabular format:
Notes:
Listing the generic control objectives requires the provision of one word only – the control objective.
In defining the listed items, provide a description of each – the generic description for each of the listed control
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objectives.
Whenever (as in this case) you are required to provide an answer in a certain format, use the format throughout
your answer. (9)
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2. Explain the first step (one step only) in the design of a system of internal control and the difference between risks
and control objectives. (2)
[11]
1.
Completeness (1) All transactions that actually occurred during the period are recorded in a timely manner.
No transactions are omitted. (1) (1)
2. When designing a system of internal control, the first step is to formulate control objectives (what the entity wants
the system to achieve or ensure) for each class of transaction, or part of the accounting system. (1)
Risks are things that could go wrong. (1)
Control objectives relate to what management wants the system to achieve. (1)
Available marks [3]; maximum marks [2]
Note: An understanding of the generic meaning of the three control objectives is of utmost importance, as they are
the foundation on which entities, business cycles and the accompanying accounting systems are built.
Question 5 LEVEL 1
under U.S. or applicable copyright law.
[10 marks]
REQUIRED
List and describe briefly the five components of internal control according to ISA 315 Revised that should be
present in every entity’s internal control system.
[10]
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under U.S. or applicable copyright law.
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INTRODUCTION
QUESTIONS
Question 1 LEVEL 2
Multiple choice questions addressing multiple concepts
[10 marks]
REQUIRED
under U.S. or applicable copyright law.
Answer the following multiple choice questions by selecting the appropriate option:
1. Which of the following statements about the control environment is false?
a) Management’s attitude towards internal control and ethical behaviour has little impact on employee beliefs or
actions.
b) An overly complex or unclear organisational structure could be indicative of more serious problems.
c) A written policy and procedures manual is an important tool for assigning authority and responsibility in many
organisations.
d) Supervision is important in organisations that cannot afford elaborate responsibility reporting, or are too small
to have an adequate segregation of duties. (1)
2. All things being equal,
a) detective controls are superior to preventive controls
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2.
3. In order to achieve an effective segregation of duties, certain functions should be separated. Which of the
following is the correct listing of accounting-related functions that should be separated?
a) Control, recording and monitoring
b) Authorisation, recording and custody
c) Control, custody and authorisation
d) Monitoring, recording and planning (1)
4. Which of the following is a control procedure relating to both the design and the use of documents and records?
a) Locking blank cheques in a drawer
b) Reconciling the bank account
c) Sequentially pre-numbering sales invoices
d) Comparing actual physical quantities to recorded amounts (1)
5. Which of the following is the correct order of action to be taken when one undertakes a risk assessment, in order
to implement an effective system of internal control?
a) Identify threats, estimate risk and exposure, identify controls, estimate costs and benefits.
b) Identify controls, estimate risk and exposure, identify threats, estimate costs and benefits.
c) Estimate risk and exposure, identify controls, identify threats, estimate costs and benefits.
d) Estimate costs and benefits, identify threats, identify controls, estimate risk and exposure. (1)
6. Controls designed to ensure that an organisation’s computer-based control environment is stable and well
managed are called
a) general controls
b) applications controls
c) detective controls
d) preventive controls. (1)
7. All of the following are effective control procedures in order to ensure that operators do not make unauthorised
changes to programs and files except for
a) rotating duties
b) having multiple operators in the computer room during processing
c) requiring formal written authorisation and documentation of any program changes
d) maintaining and reviewing a log/register of all operator activity and interventions. (1)
8. Password effectiveness is enhanced by all of the following, except
a) frequent changes
b) user selection of passwords
c) not displaying the password on the screen
d) automatic disconnection after several unsuccessful attempts. (1)
9. Controls designed to prevent, detect or correct errors in transactions as they flow through the various stages of a
specific data-processing program are referred to as
a) general controls
under U.S. or applicable copyright law.
b) application controls
c) administrative controls
d) data-processing controls. (1)
10. The edit check in order to detect the entry of a customer number that does not exist is called
a) a check digit
b) a limit check
c) a sequence check
d) a validity check. (1)
[10]
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Question 2 LEVEL 2
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[18 marks]
You were recently appointed as chief information systems officer (CIO) of Some Nights Ltd (Some Nights),
responsible for the information system controls. Some Nights, a subsidiary of the notorious Black Water Group of
mercenaries, is used to raise money with which to fund the clandestine activities of the Black Water Group in
countries such as Afghanistan and Syria. The company manufactures historic war memorial figurines (the
best-selling ones relate to the American Civil War), and has a modern warfare series. The company’s logo is ‘Listen,
boy; this is war!’
Some Nights operates from its head office just outside Langley in Virginia, USA. The building also houses the
Black Water Group’s offsite back-up facility. Some Nights employees are not aware that a back-up facility is on
their premises; they have simply been informed that they are not allowed into Block B, the research and
development section of the company. Similarly, the company does not allow wireless technology or internet
connections on its premises. The company has a strict ‘no cellphone or tablet’ policy.
Each employee in the computer department has a mini computer connected in real time to the mainframe
computer located in a room at head office. Computers are connected via a local area network. The computer room
contains an applications server, database and a mainframe computer. This network connects with the back-up service
contained in Block B. Users can, by logging on to the network, gain access to various application software
programs, as well as data files stored on the computer hardware located in the computer room. A general procedure
used by Some Nights in order to verify access to the information system is by means of a password linked to a
username. The data administrator is responsible for the maintenance of the computerised information collected
during investigations.
During the year, the company’s head office came under siege when the computer room was attacked by a gang
of five well-armed men. They breached the building with military precision in under 15 minutes. Unbeknown to the
other staff employed by the company, there was also a break-in at Block B. According to the police, another group
of thieves (which is suspected to have included company employees) broke into the building and stole one of the
servers and a few back-up hard drives. On the way out, they exchanged fire with the police.
The company has excellent physical access controls for both blocks A and B, as well as logical access controls to
the computer information system. All these controls were designed by the company in collaboration with an external
computer specialist. You are, therefore, satisfied that they appear sufficient and effective. This was confirmed by
one of the thieves wounded in the gunfight with the police before being arrested. He confessed that, before stealing
the hardware, they had hacked the system and removed and changed some of the information in order to make it
difficult for the Black Water Group to determine which information had been stolen.
REQUIRED
1. Describe the physical access controls (over and above those already mentioned in the scenario) that should have
been implemented in order to prevent the break-in and to ensure that the back-ups stored in Block B of Some
Nights’ premises could be used for authorised purposes only. Your answer must not address logical access
controls. (13)
under U.S. or applicable copyright law.
2. Explain how ‘authorisation matrixes’ could have been used in order to ensure that only valid and authorised
changes could be made to the information on the computer system, which could have prevented the thieves from
removing and changing information stored on the system. (5)
[18]
1.
a) There must be a formal, documented security policy, distributed to all users, that determines that only authorised
staff may have access to and utilise the mainframe computer; and that action will be taken in the event of
unauthorised use or access. This policy should be communicated to all staff members. (2)
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1.
The following physical access controls should be in place in Block B and the back-up store: (1)
i) Access to the room must be restricted through keys, magnetic card readers or a security guard with a register.
ii) A security guard must be present at the entrance in order to accompany visitors through the building. (1)
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iii) Doors to the venue must always be locked if the computer is not in use as well as when staff leave the (1)
computer room. (1)
iv) Only authorised users may have access to keys for the room and/or should have proper control over the
registration of magnetic cards. (1)
v) Additional security gates must be installed at the entrance to the back-up storeroom. (1)
vi) An alarm with motion sensors must be installed. (1)
vii) The hardware must be locked when it is not in use (e.g. in a server case). (1)
viii) There must be no place for the insertion of such media devices as memory sticks or DVDs. (1)
b) The terminal should be located in a highly visible area where it cannot be hidden, so that unauthorised people
approaching the servers are visible. (1)
c) All staff should have uniforms and identification cards in order to be clearly identifiable when entering
non-public areas, such as the server room. (1)
d) Staff should be allowed to use the computer during operating hours only and have to sign in before entering the
computer room; otherwise, the area must be locked. Alternatively, a daily work schedule must be prepared.
(1)
e) Every computer must have a terminal code. (1)
2. An access control matrix (programmed authorisation scheme or CRUD matrix) can contribute in the following
ways in order to ensure that only valid changes to the information in the system are made: (1)
a) By means of a terminal code, only a specific terminal would be permitted access to the program’s module that
makes information changes possible, thereby restricting such changes to a specific terminal; (1)
b) The employment of a log-in system involving user ID authenticated by a password would restrict: (1)
i) the access rights each user has to change information on the system (for example, display and write), and
ii) the possibility that an unauthorised staff member could make changes to the information on any of the (1)
computers, because he/she would then not have the necessary access rights in order to implement such
changes. (1)
c) Changes in accordance with the allocated authorisation level should only be allowed to be made on a
predetermined day of the month. (1)
d) Ad hoc changes should require at least two authorising passwords. (1)
under U.S. or applicable copyright law.
Question 3 LEVEL 3
Access controls
[16 marks]
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You were recently appointed as the computer audit specialist at Marki Ltd (Marki). Marki is known for selling
speciality dog food from its store and storeroom located in Canal Walk shopping centre. As part of your first job,
you formulated a strict policy around dismissals and resignations of employees, as well as a security policy. The
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policy requires that staff’s access to the store be revoked on date of dismissal or resignation. It also includes other
disciplinary consequences.
In order to obtain a better understanding of how the company operates, you documented the following system
description:
Dog food is displayed in large containers on shelves in the store. Customers can fill 5 kg bags with dog food from
these containers. The 5 kg bags are then taken to a till located at the exit of the store, where a cashier weighs the dog
food. Marki also has a self-help express counter at the back of the store where customers can pay exclusively by
credit card. Customers can use one of four touch screen computers to place orders for pre-priced vacuum-packed 5
kg, 10 kg, 20 kg and 50 kg packets of speciality dog food. Customers can browse through pictures and descriptions
of the available dog food on the touch screen and make selections. The touch screen computers are easy to use and
have visual prompt navigation and a help function, and therefore training is not required. Customers who want to use
the service must first register on the touch screen as presented below:
Alternative
email
address:
Security
question:
First
name:
Address:
Postal
code:
Telephone
number:
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Enter 45dg7$7
characters
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you see:
As part of the registration process, customers must capture their credit card information (screenshot not provided),
which the system automatically verifies with the bank. Thereafter, customers receive a unique username and can
select their own unique password.
In order to purchase dog food, the customer can click on the relevant product displayed on the screen. The dog
food is added to the customer’s electronic basket. This is updated to the mainframe computer and server via the local
area network. One of three trained shop assistants receives a picking slip printed in the storeroom and brings the
ordered dog food to the customer.
In addition to the shop assistants, a shift manager is always on duty. The shift manager reviews and investigates all
the available logs (including input logs, error reports and access registers) from the touch screen system. These are
reviewed by the shift manager and he investigates and obtains reasons for unusual access. He is specifically
interested in the following:
Activity log that records who logged on, when and for how long
Exception reports of all unsuccessful or failed attempts to use a username
REQUIRED
Identify the access controls you would expect to be in place over the touch screen system as a whole.
[16]
Question 4 LEVEL 2
Application controls
[12 marks]
Your firm, Du Toit & Mayane Inc., has been the auditors of JBC Ltd, a company retailing earth-moving equipment,
for the past four years. Salaries are a material expense at JBC Ltd, representing 35% of the total expenses of the
entity. Management has therefore implemented stringent controls in order to prevent any fraud or error in the payroll
system. Currently, the payroll system works as follows:
1. All employees are paid by electronic funds transfer (EFT) via the secure bank software application. Julia Ntembe,
one of the payroll clerks, is solely responsible for the EFTs to employees.
under U.S. or applicable copyright law.
2. Fatima Naidoo, another payroll clerk, reconciles these payments by downloading and printing the company’s
bank statement via the secure bank software application and reconciling this to the payroll register.
3. The financial manager, Tim Lake, oversees the payroll process.
REQUIRED
Describe the application controls that you would expect to find in place in order to prevent and detect unauthorised
access to the company’s secure bank software application as well as the printed bank statements.
[12]
Question 5
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Question 5 LEVEL 2
Business continuity
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[10 marks]
You were recently appointed internal auditor of 221B Baker Street Ltd (221B Baker Street) founded by Mr Sholmes
and Dr Watsup. The company is fairly new and the first of its kind. Mr Sholmes and Dr Watsup operate a detective
service and mostly perform background and credit checks on individuals. They consider themselves to be
‘consultative detectives’. The company prides itself on being the company that the police call when they cannot
crack a case. Mr Sholmes is the brains of the operation, while Dr Watsup is considered to be the muscle.
Unfortunately, it has been involved in only two cases. Companies who want to make use of 221B Baker Street’s
services can contact them via the company’s website.
221B Baker Street operates from its head office in London. It uses a mini-computer system that is connected in
real time to the mainframe computer located in a separate room. Computers are connected via a local area network.
The computer room contains various servers and a mainframe computer on which all information is stored.
During the year, an attempt was made on Mr Sholmes’ life by Dr James Mortuary, renowned thief and criminal
mastermind. In addition, an arsonist was hired to burn down the company’s head office. The fire was extinguished
by the fire brigade two days later, after which the power supply to the building was restored. This resulted in
significant losses for the company.
REQUIRED
Briefly describe the business continuity controls that 221B Baker Street could have implemented in order to limit the
losses experienced as a result of the fire.
[10]
Question 6 LEVEL 2
System development
[10 marks]
You are an audit manager at Will.I.Am Inc., located in Cape Town, a company appointed as the external auditor of
Agent J & K (Pty) Ltd (Agent J & K) after the previous audit partner passed away unexpectedly.
Agent J & K retails a famous brand of black suits. It also sells black accessories, such as sunglasses and shoes, as
well as white shirts. Agent J & K’s accounting system is fully computerised. It uses a fully integrated system that
consists of various components that perform specialist functions, such as purchases, sales, payroll and so on. These
integrate to maintain one general ledger and produce the financial statements. Although the company has internet
access, Agent J & K does not currently have its own website, although it is considering creating one that will be used
as a marketing tool for services and to promote any special offers.
under U.S. or applicable copyright law.
A couple of years ago, Agent J & K purchased a biometric timesheet recording module that allows employees to
record their working hours on a biometric reader using their thumbs. According to the agreement with the vendor
who developed the module, the vendor must email a software patch to Agent J & K’s IT administrator when bugs
are detected in the software or when the software requires an upgrade. The IT administrator then loads the patch
onto the server and updates the software.
During the course of the year, a couple of virus scanner updates were not uploaded by the vendor, which resulted
in the biometric system being infected by a virus. In the light of other problems experienced during the uploading of
similar patches for some of the company’s other software modules, it was suggested that the company implement the
necessary internal controls in order to address these risks.
A decision was taken to update the company’s IT procedure manual with these controls. The IT administrator
tasked with this responsibility has requested your assistance in formulating the controls. The IT procedure manual
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already contains sufficient internal controls relating to appropriate user training, and the complete and timely
uploading of patches.
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REQUIRED
Describe the additional controls that should be documented in the IT procedure manual in order to address
appropriately the risks relating to the uploading of software patches.
[10]
Question 7 LEVEL 3
General controls
[16 marks]
You were recently hired as a consultant to I[phone] Ltd (I[Phone]). I[phone] was formed by two entrepreneurs from
Technopark, the silicon valley of South Africa, and retails I-phones and other cellular technologies.
The company records all its transactions in Excel. This was adequate until the company started to grow and expand.
The company has made significant investment in its infrastructure to keep up with the growth and is considering
implementing alternative record-keeping methods. The following two options are being considered:
The company uses a new app from a local bank which prepares a company’s accounting records based on the
company’s bank statements and cash transactions.
The company purchases a new accounting package developed specifically for the South African small- and
medium-enterprise market. The company could purchase this standard package from Pastel Blue™, a software
supplier.
The company is making a significant investment in all its systems. Considering that the company’s accounting
records will be available electronically only, management is worried about the impact of loadshedding on its
business activities and the associated risk of loss of information.
REQUIRED
1. Describe the additional benefits to a company buying and implementing a new accounting package developed
specifically for the South African small- and medium-enterprise market. (9)
2. Describe the additional continuity controls that I[phone] must implement in order to sufficiently protect the
company against the impact of loadshedding on the business. (7)
[16]
under U.S. or applicable copyright law.
Question 8 LEVEL 2
General controls
[11 marks]
Staff Force (Pty) Ltd (Staff Force) is a labour hire entity and connects employers with employees. The entity is the
largest of its kind in South Africa and has an annual turnover exceeding R1 billion. Approximately 250 transactions
flow through the accounting records of the company on a daily basis. The board of directors states compliance with
King IV™ in its annual report, and has therefore focused intensively on eliminating any fraud or error in its financial
statements.
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In order to meet the increasing demands of the accounting division of Staff Force, the board of directors is
considering purchasing a new accounting package, Numberz. A sales representative from Numberz highlighted the
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The accounting personnel at Staff Force previously worked on a simple accounting package that was much smaller
than the Numberz package.
REQUIRED
Discuss the issues the board of directors should consider before buying the Numberz accounting package.
[11]
Question 9 LEVEL 2
General controls
[19 marks]
You are the computer consultant on the internal audit team of Marry Me, Darling Ltd (Marry Me). The company
operates a wedding-planning business in Stellenbosch. The company was started when the owner, Ms Elza Johnson,
realised that there was a need for sophisticated, low-cost wedding planners. She noted, however, that cost was not
the only driver of market demand: there was also a demand for weddings that could be arranged at short notice.
Therefore, if she expanded her company, she would have to place greater reliance on the company’s information
system. In addition, she realised that the existing mainframe on which her accounting systems operated would not be
sufficient and would require frequent program changes.
In order to react proactively to the growth of the company, Ms Johnson had two options:
1. Develop a new system.
2. Make regular changes to the existing system.
The financial director responsible for determining the computerisation needs of the company implemented the
under U.S. or applicable copyright law.
Standards The approved request for the program changes, together with the needs
assessment, are handed to the programmers. The programmers also have to
rely on the PRINCE 2 program change standards when they make program
changes.
Librarian A librarian supervises and keeps records of the issuing and the coping capacity
controls of programs.
The programmer works on a copy of the relevant program and not the live
system.
Since the programmers require access to all programs and files, they use the
administrative password.
The copy of the relevant program is kept in source code in the development
area of the library.
Testing The IS manager reviews the programmers’ work and monitors the compliance
of the documentation relating to the program change to the PRINCE 2 program
change standards. Once the program change has been completed, both the
programmer and IS manager test the coding and the system logic.
Approval Only the upgraded program version control list and program description are
retained in the library.
After a discussion with the internal auditors, users and IS manager, the
financial director approves the testing results.
Since there is no need to retain the test results, they are thrown away.
Implementation Once approval is obtained, the use of the previous version of the program is
immediately stopped and the program change is implemented.
REQUIRED
1. Identify the weaknesses in the controls over changes made to the application software. (13)
2. List the most significant risks that should be considered when a new system is developed. (6)
[19]
Question 10 LEVEL 2
Weaknesses in an IT environment
under U.S. or applicable copyright law.
[30 marks]
Da Rock Ltd imports exotic cars from Spain for resale in Johannesburg. As Spanish cars have become a fashion item
and are gaining in popularity, the company has opened several retail outlets across South Africa, its 20th store being
the one that recently opened in Upington.
The company does all its distribution from its head office and storage facility in Rosebank, Johannesburg, where
its IT department is located.
Because of Da Rock’s nationwide expansion, its computer infrastructure has come under pressure. The areas that
have been affected are:
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staffing
infrastructure
processing.
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Increased pressure in these areas has resulted in errors occurring. Management doubts that the current system
addresses properly all the relevant risks that exist in the computerised information system environment. In order for
it to do so, the company approaches you, as a computer consultant, to provide them with advice. The IT
programming department, which has been placed at your disposal, has capable personnel with sufficient knowledge
and experience in order to develop their own software. Management has stated that, in order to process the
transactions, update records, amend the system and so on, staff should be available to work overtime. It is standard
practice at Da Rock that, if necessary, management approves overtime, as they prefer to reimburse staff for overtime
rather than have them take additional leave. Thus, staff work overtime if and when available, or when requested to
do so by management.
BOARD OF DIRECTORS
IT MANAGER: MR T. PITT
Programmers: Data control clerks:
Mr Johnson Ms van Rhyn
Ms Nye Mr Matshoba
Ms Makanga Operating personnel:
Mr Williams Mr Naidoo
Ms Erica
Ms Parker
Systems analysts:
Mr Muhamad
Mr Mpondo
The IT manager is responsible for the department as a whole, and reports to the board of directors. The current
system has been in use for the past 10 years, as a result of which most staff are familiar with the system. Many of
them have been performing the same type of work ever since they started working at Da Rock Ltd.
When a user identifies problems in the system, or requires a new functionality, he/she can contact a programmer
telephonically and request that the error be fixed, or the new functionality be added to the system. In terms of the
service level agreement with the IT department, all requests should be resolved quickly and the necessary changes
made to the software. The agreement also requires that users obtain immediate access to the system. After a period
of four hours of inactivity, the IT department must reimburse the user department for the loss of income. This allows
users to continue with their work on the system without unnecessary delays.
REQUIRED
under U.S. or applicable copyright law.
Identify the weaknesses in internal controls of Da Rock Ltd’s computerised information system, and recommend
internal controls in order to address these weaknesses. Present your answer in tabular form.
[30]
Question 11 LEVEL 2
Governance in an IT environment
[30 marks]
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The sustainability of any company, particularly one that is listed, could be threatened by any number of risks. In an
information environment, IT risks are becoming more significant. In terms of the King IV™ report, the board of a
listed company is responsible for responding to these risks in an appropriate manner. It has an overall responsibility
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for implementing IT governance, and for formulating an IT-governance framework that cannot be generic and
should be customised to a particular industry or organisation. Responsibility for the implementation of the IT
framework may be delegated to IT management.
REQUIRED
1. Identify what IT management of a listed company should be able to demonstrate with regard to responding to the
risks arising from the information system detailed above. (4)
2. Identify three high-level information security principles that the IT management system should include. (3)
3. Explain why the implementation of these principles is important for the sustainability of a listed private hospital.
4. Explain the responsibility of the board of directors in terms of IT governance, as well as the responsibilities (8)
of the risk and audit committees. (15)
[30]
Question 12 LEVEL 2
Application controls and back-ups
[22 marks]
You are a business consultant employed at Dan-o Ltd. The company, which was set up approximately a year ago,
sells copyrighted pictures at a fixed price to magazine publishers, who can use them in either hard copy or online
publications. Dan-o Ltd owns various licences for pictures ranging from cats and dogs to designer artworks.
You were approached by staff in the IT department to assist with the design of internal controls for a cloud-based
enterprise resource planning system used to manage the company’s sales. They are currently working on the
ordering module of the software. The company prides itself on its state-of-the-art, cloud-based technologies that use
the latest assurance logos, firewalls, encryption and virus protection protocols. The network on which the cloud
service operates is located in the basement of the company’s premises. The network consists of personal computers
linked to a server, which contains the programming of the cloud-based service and an integrated accounting
package.
Cloud-based service
Publishers can install an ordering application (app) from the company’s website onto their system. The app
communicates directly with the company’s network and is then used to process orders and to perform various other
tasks, such as making payments. Publishers can register for the company’s free cloud service app by submitting their
company details, including their name, registration number and delivery address. Publishers must also enter their
banking details onto the app. An account is then created. On registration, the system automatically generates a
under U.S. or applicable copyright law.
username for the publisher; the username consists of the first six letters of the company’s name combined with three
random numbers. The company can choose its own password. The username must be recorded on the app when
orders are placed and electronic payments made.
Publishers can search Dan-o Ltd’s website in order to view the available pictures. They can also view them using
the app. Once a publisher has identified a picture that it would like to use, it can place an order on the app by
selecting the serial number of the picture from a list of available pictures (by means of drop-down boxes, where
applicable). This list is automatically updated on a daily basis as new pictures are loaded. When orders are received,
a member of staff writes the pictures to a DVD and places it in a bubble-wrapped package for distribution. The DVD
is delivered to the publisher by a courier company as soon as the payment of R100 per file has been made
electronically. The system then automatically emails an electronic invoice to the publisher’s accounting department.
This invoice also serves as a pre-numbered receipt.
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Virus infection
The system was recently infected with a virus that corrupted a large portion of the information on the server, because
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the company had not loaded the latest antivirus patches. The information lost could not be recovered, as effective
back-up procedures had not been put in place. All important information is supposed to be backed up onto a CD at
least once a week, but, during busy times, back-ups are not always made, or are lost, and are sometimes not stored
safely.
REQUIRED
1. Describe the application controls that must be present on the cloud service app in order to ensure that all pictures
ordered by publishers are processed accurately and are valid and complete. You must discuss input, processing
and output controls. (12)
2. Describe the controls that should be implemented relating to back-up procedures and controls in order to prevent
back-up CDs from being lost or falling into the hands of unauthorised persons. (10)
[22]
Question 13 LEVEL 3
Application controls (input controls)
[15 marks]
You are employed as the IT governance specialist at Super Shirts Ltd (Super Shirts). Since your staff is aware that
you are very busy and do not always have time to read everything, they have provided you with the following: a
high-level system description and a detailed description of the system.
Customers can use one of three touch screen computers to place orders for men’s shirts depending on their size,
style and measurements. Customers can browse through pictures and descriptions of the available shirts on the touch
screen and make selections. The touch screens are easy to use and have visual prompt navigation and a help
function, and therefore training is not required. In order to purchase a product, customers click on the relevant
product displayed on the screen from the inventory masterfile. The product will be added to customers’ electronic
baskets. After a customer completes a transaction, the system allocates a sequential number to the transaction. This
order number is displayed on the touch screen and a pre-numbered receipt is printed for the customer. The system
automatically creates a picking slip in the storeroom behind the kiosk for each order captured. One of the kiosk
assistants brings the ordered shirt to the customer and confirms the order details and number on the receipt held by
the customer.
A shift manager is always on duty, monitoring the kiosk assistants. The shift manager reviews and investigates
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all the available input logs (including error logs related to inputs) from the touch screen system.
REQUIRED
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Describe the additional input controls which must be present at Super Shirts in order to ensure the completeness and
accuracy of sales transactions captured into the touch screen.
[15]
Question 14 LEVEL 2
Processing and masterfile controls
[24 marks]
Two years ago, you were appointed chief operating officer at Honolulu 5.0 Ltd (Honolulu 5.0), after you had
resigned from a position as an audit manager in a large auditing firm. Honolulu 5.0 is a chain store group that retails
plastic guns, police badges and other such items to the public. The head office of the company, which has shops on
the various islands of Hawaii, is located on the main island of Hawaii, in Pearl Harbour.
As part of your responsibilities as chief operating officer, you are responsible for the human resources function.
You have been able to centralise the salaries and related processes only partially, because of the distances between
the shops located on the various islands. As a result, the computer information system used by the group consists of
mini-computer systems at the various shops, systems that are linked to the mainframe at head office via a virtual
private network. Each shop is responsible for its own staff appointments and for maintaining hard-copy records.
Head office also keeps hard copies and electronic staff records for the whole company and is responsible for
calculating and paying out the monthly payroll. You are responsible for overseeing this function.
The payroll system includes a payroll masterfile and monthly transaction files. During the month, each shop
manager and the departmental manager at head office forwards to you via email all the relevant documentation –
such as appointments, resignations, dismissals, retirements, changes to existing employee information and
transactional information – relating to staff matters, all of which is captured by one of your employees. Masterfile
changes are immediately recorded on input forms and entered into and processed on the payroll masterfile. Where
possible, payroll information already available on the system is extracted from the masterfile. Information that
requires approval is placed in a computerised suspense file for your approval.
The system has an effective report-writing function. Exception reports will, for example, be printed for any error
identified by the programmed matching and reasonableness tests performed on the input field. All exception reports
generated by the system are reviewed by a manager on a monthly basis, and any unusual items investigated.
Reports regarding access violations are also checked. Various other reports, too, are generated, reviewed and
investigated. During last month’s review, you were distressed by the errors highlighted in one of the reports relating
to salaries and wages.
Processing errors occurred during the monthly payroll production run, when the payroll masterfile was updated
with the transaction files. The controls to detect omissions by the calculation of various control totals, among other
things, are sufficient, but the internal controls to detect other types of errors are not.
under U.S. or applicable copyright law.
REQUIRED
1. List the risks arising when attention is not given to the errors that occur during the updating process of the payroll
masterfile. (7)
2. Recommend internal controls in order to detect weaknesses caused by process errors occurring during the
updating of the payroll masterfile. (5)
3. Describe the additional logical internal controls that should be implemented in order to prevent the unauthorised
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3.
use of the payroll masterfile. (12)
Note: In all cases, ignore risks, controls and weaknesses relating to the virtual private network.
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[24]
Question 15 LEVEL 2
Controls regarding changes to masterfile data
[18 marks]
You are the auditor of Jacobs Ltd, a coffee shop in a well-known Cape Town mall. Jacobs Ltd sells brews made
from both locally sourced and imported beans. It also delivers take-away coffee in special heated containers. A
couple of months ago, the business implemented a computer system in order to manage orders, suppliers, prices and
take-away delivery drivers. The program integrates with a point-of-sale module linked to an electronic cash register.
Clients can order coffee either telephonically or over the counter. Deliveries are made by casual staff. The menu
with prices is displayed above the cash register and is also available on the internet. Both the menus and the prices
are revised every two months by the shop manager.
Most business is conducted by means of cash or credit card payments. However, over the past couple of months,
the shop has opened corporate accounts on credit to some local businesses, whose details are recorded on the
masterfile of the computer system before they are allowed to purchase on credit.
Before specific stock levels of coffee run too low, the computer system generates a suggested order, and
identifies the most appropriate supplier, the quantity of coffee required and the appropriate price. This information is
extracted from the supplier and the product masterfile. The system relies on a complicated, but accurate, economic
order-quantity program.
REQUIRED
Describe the controls that should be present within the computer system relating to changes to the supplier and
product masterfile information.
[18]
Question 16 LEVEL 3
Application controls (masterfile)
[22 marks]
under U.S. or applicable copyright law.
Lemon Tree Ltd (Lemon Tree) was founded by P.G. Marais and Martinette Marais in Moorreesburg. The business
was started after their dog Marki developed a habit of digging holes in their garden, which P.G. filled by planting
lemon trees.
Over the past few years, the business has grown so much that they now own a small shop in the main street of
the town. Lemon Tree uses the lemons to make creams, preserves and jams.
REQUIRED
1. Describe the additional controls which must be in place at Lemon Tree in order to ensure that only valid
amendments are made to the inventory masterfile. (10)
2. Describe the additional controls which must be in operation over the internet banking service at Lemon Tree in
order to ensure that only valid payments are made to creditors.
Note: You are not required to discuss the process for the creation of and any changes to beneficiaries. (12)
[22]
under U.S. or applicable copyright law.
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INTRODUCTION
The following types of application questions can typically be asked on the business cycles:
Describe weaknesses in the control system and recommend improvements by describing the required internal
controls. This type of question can also be combined with control objectives and/or account or assertions affected.
Identify and describe risks in the cycle. This type of question can also be combined with control objectives and/or
account or assertions affected.
Design a system of internal controls, both manual and computerised, that will achieve the cycle’s control
objectives.
Weaknesses in the cycle will always be the starting point for all of the above types of questions. Risks are
consequences of identified weaknesses and could affect business operations and financial statements (business
risks), or only the financial statements (risks of material misstatement at the assertion level). By answering the
example questions, you will be guided through weaknesses (example question 1) to the risks, the control objectives
not being achieved and the account or assertions affected (example question 2).
EXAMPLE QUESTION 1
under U.S. or applicable copyright law.
As a trainee accountant at A2Z Inc., a registered audit firm, you were appointed to the audit of Blitz Ltd (Blitz), a
wholesale company that sells electrical goods, such as kettles, toasters, stoves, television sets and MP3 players. All
sales to customers are made on credit and Blitz is responsible for delivering the goods to its customers.
One of the other trainee accountants has already dealt with the following parts of the revenue and receipts cycle:
Credit management
Receipt of orders from customers
Authorisation of sales orders
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Picking of goods from the warehouse
Receipt of cash from customers
Recording of receipts in the accounting records
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The audit senior has requested that you assist with the remaining parts of the cycle and provided you with the
following abstract of the company’s revenue and receipts cycle description:
Invoicing
Upon receipt of a customer-signed delivery note from the driver, the invoicing clerk files it sequentially in a
‘pending invoice file’. First thing every morning, he/she takes the delivery notes from this file and prepares
sequentially numbered invoices for each of them. The invoices are cross-referenced and attached to the original
internal sales order and delivery note.
Towards the end of each month, the bookkeeper: accounts receivable performs a debtors reconciliation between the
grand total of outstanding debtors balances in the debtor’s ledger (computerised debtor’s listing) and the balance of
the trade debtors control account in the general ledger. Any reconciling items are followed up and resolved. After
the invoicing clerk has successfully performed the debtors reconciliations, he/she generates debtors statements for
each debtor, showing:
the outstanding balance (if any) of the debtor brought forward
all transactions with the debtor over the past month (including invoices, receipts and adjustments)
the outstanding balance, with ageing of the balance, payable by the debtor at statement date.
REQUIRED
Describe the weaknesses in the above system.
[8]
GUIDANCE
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Describe the internal control weaknesses1 in the above system description. [8]2
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Thus, you need to know what the ideal revenue and receipts cycle should look like (your framework), and you will
have to measure the system provided in the question against that framework. Internal controls applied incorrectly, as
well as internal controls not mentioned in the question, are weaknesses.
One of the other trainee accountants has already dealt with the following parts of the revenue and receipt cycle:
Credit management
Receipt of orders from customers
Authorisation of sales orders
Picking of goods from the warehouse
Receipt of cash from customers
Recording of receipts in the accounting records
Processing and the recording of returns and other sales adjustments6
The audit senior has requested that you assist with the remaining parts7 of the cycle, and provided you with the
following abstract of the company’s revenue and receipts cycle description:
all goods from the warehouse. He/she then prepares a sequentially numbered, multi-copied delivery note for the
goods to be delivered.10 After the goods have been loaded onto the delivery vehicle, the driver proceeds to the exit
gate, where security guards perform a check on the number of boxes in the truck,11 following which the goods are
delivered to the customer. Upon their delivery, the customer is requested to sign all three copies of the delivery note
as acknowledgement of receipt of the goods.12 The first copy is retained by the customer; the second copy is returned
to the warehouse, where the status of the delivery is updated to ‘delivered’ (this enables the sales order staff to
follow up on long-outstanding orders), and the third copy is submitted directly to the invoicing clerk for the purpose
of invoicing the customer.
Invoicing13
Upon receipt of a customer-signed delivery note from the delivery truck driver, the invoicing clerk files it
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sequentially in a ‘pending invoice file’.14 First thing every morning, he/she takes the delivery notes from this file and
prepares sequentially numbered invoices15 for each of them. The invoices are cross-referenced and attached to the
original internal sales order and delivery note.16
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Towards the end of each month, the bookkeeper: accounts receivable performs a debtors reconciliation18 between the
grand total of outstanding debtors balances in the debtors ledger (computerised debtors listing) and the balance of
the trade debtors control account in the general ledger. Any reconciling items are followed up and resolved. After
the invoicing clerk has successfully performed the debtors reconciliations, he/she generates debtors statements for
each debtor, showing:
the outstanding balance (if any) of the debtor brought forward
all transactions with the debtor over the past month (including invoices, receipts and adjustments)
the outstanding balance, with ageing of the balance, payable by the debtor at statement date.
SUGGESTED SOLUTION
Remember: a weakness is a control that is incorrectly performed or not performed at all. Therefore, it will always be
phrased as not being there with nobody performing it or as being performed incorrectly. In this scenario, the
following controls are missing:
Security guards do not perform spot checks on the contents of the truck by agreeing the goods on the delivery
truck back to the delivery note. (1)
A senior personnel member does not ensure that invoices have been prepared for all returned delivery notes. (1)
A senior personnel member does not ensure that the date on the invoices corresponds with the financial period in
which the deliveries were made (as per the date on the delivery notes). (1)
Missing delivery notes (gaps in sequence) are not identified and followed up with the dispatch area by a senior
personnel member as to why the delivery has not yet taken place. (1)
A senior personnel member does not compare (review) the quantities and prices on the prepared invoices to the
delivery notes and quoted prices respectively. (1)
A second clerk or senior personnel member does not recalculate the costs and calculations on the invoices. (1)
A second clerk or senior personnel member does not check the recorded invoices in the sales journal by agreeing
the entries to supporting invoices. (1)
A second clerk or senior personnel member does not agree the invoice amounts being posted from the invoices to
the sales journal and the debtors ledger. (1)
A second clerk or senior personnel member does not inspect the numerical sequence of the entries being posted
from the invoices to the sales journal and the debtors ledger. (1)
The debtors reconciliation is not reviewed by a senior personnel member before monthly statements are prepared
under U.S. or applicable copyright law.
EXAMPLE QUESTION 2
sales to customers are made on credit and Blitz is responsible for delivering the goods to its customers.
One of the other trainee accountants has already dealt with the following parts of the revenue and receipts cycle:
Credit management
Receipt of orders from customers
Authorisation of sales orders
Picking of goods from the warehouse
Receipt of cash from customers
Recording of receipts in the accounting records
Processing and recording of returns and other sales adjustments
The audit senior has requested that you assist with the remaining parts of the cycle, and provided you with the
following abstract of the company’s revenue and receipts cycle description:
Invoicing
Upon receipt of a customer-signed delivery note from the driver, the invoicing clerk files it sequentially in a
‘pending invoice file’. First thing every morning, he/she takes the delivery notes from this file and prepares
sequentially numbered invoices for each of them. The invoices are cross-referenced and attached to the original
internal sales order and delivery note.
Towards the end of each month, the bookkeeper: accounts receivable performs a ‘debtors reconciliation’ between
the grand total of outstanding debtors balances in the debtor’s ledger (computerised debtor’s listing) and the balance
of the trade debtors control account in the general ledger. Any reconciling items are followed up and resolved. After
the invoicing clerk has successfully performed the debtors reconciliations, he/she generates debtors statements for
each debtor, showing:
the outstanding balance (if any) of the debtor brought forward
all transactions with the debtor over the past month (including invoices, receipts and adjustments)
the outstanding balance, with ageing of the balance, payable by the debtor at statement date.
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REQUIRED
Describe the internal control weaknesses. For each of the identified weaknesses, describe the associated risk as well
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as the control objective not being achieved and the revenue assertion affected in the above system description of the
revenue cycle of Blitz.
[32]
GUIDANCE
Thus, you need to know what the ideal revenue and receipts cycle should look like (your framework) and you will
have to measure the system provided in the question against this framework. Internal controls applied incorrectly, as
well as internal controls not mentioned in the question, are weaknesses. You must now also write down what the
consequences of the weaknesses (the risks) will be.
SUGGESTED SOLUTION
Always remember to make it as easy as possible for the marker to understand what you have done and thus allocate
marks. One of the best ways of presenting a weakness29 and its associated risk,30 control objective and assertion
question is by presenting it in tabular form. Remember that the control objective needs to relate to one of the three
under U.S. or applicable copyright law.
listed above and the assertion to one of the five revenue assertions listed above.
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the goods on the delivery truck delivery notes, leaving are recorded on affected once the
back to the delivery note. (1) insufficient records of the a delivery note. customer has
sales that have taken (1) accepted the
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of the entries being posted from understatement of sales. invoice to the
the invoices to the sales journal (1) sales journal and
and the debtors ledger. (1) the debtors
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ledger. (1)
The debtors reconciliation is not Postings to the debtors Validity: only Occurrence of
reviewed by a senior personnel ledger and control account valid sales are revenue OR
member before monthly in the general ledger may posted from the Accuracy of
statements are prepared for be incomplete, inaccurate invoices to the revenue
mailing to debtors. (1) or invalid. (1) sales journal. OR
OR Completeness of
Accuracy: sales revenue (1)
are correctly
posted from the
invoice to the
sales journal and
the debtors
ledger.
OR
Completeness:
all sales are
posted from the
invoice to the
sales journal and
the debtors
ledger. (1)
QUESTIONS
Question 1 LEVEL 2
Control objectives
[8 marks]
under U.S. or applicable copyright law.
Coffee Bean Ltd (Coffee Bean) is the first roaster of certified fair trade coffee and strives to make a sustainable
difference in the lives of African coffee producers by personally sourcing quality coffee through direct fair trade.
Coffee Bean is a wholesaler of coffee beans and sells on credit to coffee shops. The following internal controls were
implemented by Coffee Bean in the revenue and receipts cycle:
1. When a new customer wants to purchase coffee beans on credit, the customer needs to complete a credit
application form with trade references. The credit controller performs a background check and confirms the credit
status. The credit controller then sets a credit limit for the customer.
2. Sales orders are placed telephonically. The order clerk only accepts orders from customers who are able to
provide an account number and who are on the approved customer list. The order clerk asks the customer to
confirm certain pertinent details (such as ID number and address).
3. The sales orders are then sent to the warehouse. The warehouse prepares pre-printed and pre-numbered picking
slips and cross-references these to the sales order.
4.
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4. The dispatch clerk completes a pre-numbered and pre-printed delivery note for all the coffee beans dispatched.
The driver checks coffee beans against the delivery note and signs the delivery note if it agrees.
5. The customer receives two copies of the delivery note and signs one as proof of acceptance of the coffee beans.
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6. The customer-signed delivery note is handed to the invoicing clerk. The invoicing clerk prepares a pre-numbered,
pre-printed invoice for each delivery note received.
7. Prices and quantities are included on the invoice with reference to the sales order, delivery note and approved
price lists. The second invoicing clerk checks the prices and calculations on the invoice and signs if satisfied.
8. The bookkeeping clerk posts the invoices to the sales journal. A second bookkeeping clerk checks the recorded
invoices in the sales journal by agreeing the entries to the supporting invoices.
9. The second bookkeeping clerk also checks the amounts of the invoices posted and checks the numerical sequence
of the invoices posted.
REQUIRED
Formulate the control objective(s) for each of the internal controls listed above in the revenue and receipts cycle of
Coffee Bean.
[8]
Question 2 LEVEL 2
Functional areas and control objectives
[18 marks]
Business cycles are divided into ‘functional areas’, each of which represents a phase in the cycle through which
transactions flow. In order to ensure the achievement of an entity’s control objectives (the validity, the accuracy and
the completeness of financial information), internal controls are implemented in each functional area.
The functional areas in the revenue and receipts cycle for Homestyles (Pty) Ltd (Homestyles), a wholesale company
selling home appliances and furniture to its retail customers on credit, are:
a) managing of credit
b) receipt of orders from customers
c) authorisation of sales
d) picking of goods from the warehouse
e) dispatch and delivery of goods to customers
f) invoicing and recording of sales
g) posting of sales to the accounting records
h) receipt of cash from customers
under U.S. or applicable copyright law.
Consider the following control activities that have taken place in Homestyles’s revenue and receipts cycle:
1. The driver of the company’s delivery truck requested that a customer sign a copy of the delivery note indicating
the quantities and descriptions of goods delivered to the customer.
2. The computer system prevented the sales clerk from processing a sales order received from a customer, because
the customer would have exceeded his credit limit.
3. A sign on the cashier’s counter requests that customers insist on a printed receipt when settling their account with
cash.
4. The debtors clerk prepared a debtors reconciliation, agreeing the total of the debtors ledger with the balance of the
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4.
REQUIRED
For each of the 10 control activities referred to in the above scenario, identify the functional area in which the
control activity would typically take place and state the control objective(s) achieved by each.
[18]
Question 3 LEVEL 2
Assertions
[9 marks]
You are an accountant in public practice, specialising in the provision of accounting and business consulting services
to start-up companies. A new client of yours, Woodworks (Pty) Ltd (Woodworks), has recently completed the
statutory registration of the company in anticipation of its future manufacturing activities. Its chief executive officer,
Patrick Japhta, has requested your advice on the financial reporting risks the company may face in terms of its
recorded sales transactions.
REQUIRED
List and explain the assertions applicable to the revenue figure in the financial statements of Woodworks. Categorise
the assertions in terms of ‘overstatement of revenue’ and ‘understatement of revenue’. Ignore misstatement risks
pertaining to sales returns, and the presentation and disclosure assertions.
[9]
under U.S. or applicable copyright law.
Question 4 LEVEL 2
Purpose of controls, control objectives and assertions
[23 marks]
Wooltons (Pty) Ltd (Wooltons) is a producer of wool yarn. The company, which buys wool in large quantities from
sheep farmers, produces the yarn before selling it in bulk to clothing manufacturers and haberdashers. Woolton
makes deliveries to customers using its own staff and delivery vehicles.
Before the start of the financial year subject to the current audit, Wooltons implemented several new, improved
internal controls in its revenue and receipts cycle:
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INTERNAL CONTROL
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1. Wooltons has contracted the services of a credit bureau that runs background checks on the credit status of
potential customers wishing to open an account with Wooltons. Based on the results of the checks, the bureau
might suggest a credit limit for a particular customer.
2. On a monthly basis, referring to a list of debtors identified as being at risk of defaulting on their outstanding
debts, the financial manager carefully determines whether long-outstanding debtor balances (or part of a
balance) should be included in the allowance for credit losses.
3. The accounting application on Woolton’s computer system does not allow the sales clerk to process a sale to a
customer’s account if the account has been flagged by the financial manager (by means of the accounting
software application) as at risk of default.
4. Woolton’s senior bookkeeper reviews the file of delivery notes issued to customers upon delivery in order to
ensure that the sequence of delivery notes is intact and that for each delivery note a corresponding invoice has
been generated on the computerised accounting application.
5. The accounting software application automatically calculates item prices and invoice amounts when customer
invoices are generated on the computer by the accounts receivable clerk. This is achieved by referring to the
product code entered and the price stored in the price list masterfile (that is, the clerk does not have to enter
product prices manually).
6. The sales manager is required to authorise all sales returns by referring to a goods returned voucher and a copy
of the invoice on which the details of the returned goods appear.
REQUIRED
Describe the purpose of each internal control listed above. In addition, for each control:
explain the control objective(s) that management attempts to achieve
state the assertion and the account affected by the control.
Question 5 LEVEL 2
Weaknesses
[13 marks]
under U.S. or applicable copyright law.
You have recently been appointed as the manager of Queen Fridge Cakes (Pty) Ltd, a cake company that specialises
in extended-freshness fridge cakes, which can be stored in fridges for up to six months. You have prepared the
following notes to describe extracts of the company’s system of sales:
Orders
The order clerk receives orders via the telephone from customers. The order clerk records telephone orders on sticky
notes which are colour coded. The order clerk only accepts orders from customers who are able to provide an
account number and who are on the authorised customer list. If a customer is not on the customer list, the customer
is referred to the credit controller to commence the credit application process. You can assume that the credit control
department has efficient internal controls in place. As Queen Fridge Cakes (Pty) Ltd has a free delivery policy, most
orders will be for cakes being delivered to existing customers. The order clerk will therefore always confirm the
delivery address from the customer, confirm the price according to the authorised price list and only then sign the
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sticky notes as approval of the final order. The orders are always written down on two different sticky notes: the
green sticky note is filed in the order department and the pink sticky note is sent to the warehouse department.
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REQUIRED
1. Briefly describe the weaknesses in the ‘orders’ function, which forms part of the sales system of Queen Fridge
Cakes (Pty) Ltd. Limit your answer to manual controls. (5)
2. Briefly describe the weaknesses in the ‘warehouse and dispatch’ function, which forms part of the sales system of
Queen Fridge Cakes (Pty) Ltd. Limit your answer to manual controls. (8)
[13]
Question 6 LEVEL 2
Risks
[25 marks]
An entity may have business risks relevant to the various transactions in the business cycles or processes.
Management is responsible for the risk management of the company and should implement internal control in order
to reduce these risks. They may appoint internal auditors to perform the risk management process internally.
Each risk may have a consequence for, or impact on, the financial statements and/or operations of the business.
The auditor is concerned with the risks that might impact directly on the company’s financial statements and
indirectly on the company’s business processes and operations.
The following information is relevant to the company for which you have to supervise the trainee accountants
performing the auditing of the sales cycle:
Type of company: Manufacturer and retailer with high volumes and low gross profit margins
under U.S. or applicable copyright law.
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orders are placed telephonically, whereupon an email is sent to the production line for them to produce the
products
the products are sent either to the retail outlet or directly to the customer, who signs the invoice as proof of
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Owing to the large volumes of sales transactions, the audit partner has instructed the auditor to identify the risks and
list the consequences next to each risk, in tabular form.
REQUIRED
Identify and discuss the risks, relevant to the information given above, that could occur in the sales cycle and list the
consequence(s) next to each risk in tabular form.
[25]
Question 7 LEVEL 2
Risks
[15 marks]
You are the internal auditor of Fruity Juice (Pty) Ltd (Fruity Juice), a company that manufactures a wide range of
fruit juices from its factory located in Elgin. The company has a December year-end. The following is an extract of
information that you have obtained from the sales and marketing director of the company:
Up until April of the current year, all sales were conducted on a cash basis only. The directors approved
a resolution at the March board meeting to start selling products to customers on credit from April. The
decision was made because the company was losing customers to competitors who sold similar
products on credit.
Customers are required to submit the following documents to a sales representative of the company via
email or post in order to qualify to purchase goods on credit:
A completed application form
A certified copy of their identity document
A utility bill indicating where they reside
An income and expenditure estimation to determine how much credit the individual should be granted
under U.S. or applicable copyright law.
The sales representative is required to review the documentation submitted and grant the customer a
credit limit. The customer receives a notification of their credit limit via an email and an official letter
from the company. Credit limits that are granted to customers are capped at a maximum of R100 000.
Customers wishing to have their credit limits increased at a later date are required to submit a written
request for the increase to the credit manager who reviews the request and, if he is satisfied, increases
the limit on the system. He uses his unique user ID and password to gain access to the debtor’s
masterfile to initiate the increase. If the credit manager is away from the office, he leaves his unique
user ID and password with one of the members of his credit team who is permitted to use the log-in
details in order to amend a client’s credit limit by a maximum of R10 000 after reviewing the written
request.
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Credit orders
Customers are only able to place orders over the telephone. When an order is received, customers are
asked to provide their company’s customer number. If unable to do this, they are asked to provide their
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company’s name and address in order to identify that they are an existing customer. The order is
captured on an internal sales order on the sales system by a sales representative. A notification is sent
through to the warehouse manager, the dispatch manager and the creditors clerk responsible for
handling the customer’s account, informing them that there is a new order. The warehouse manager
prints the internal sales order form and hands it to the head picker who is responsible for collecting the
bottles of juice to fill the order. Once the bottles of juice have been prepared, the goods are moved to
the dispatch department where the bottles are stored until the juice is loaded onto the truck and
delivered to the customer. The dispatch manager prepares a delivery note based on the internal sales
and hands it to the driver of the delivery truck. At delivery, the driver of the delivery truck hands a
duplicate copy of the delivery note to the customer. The customer is given one copy of the delivery note
and the driver retains one copy. The driver and the client both sign the delivery to indicate that the
driver was at the client’s premises.
Recording of the sale
Once the driver returns to the premises, he gives the delivery note to the creditors clerk, who prepares
the invoice and recognises the sales and corresponding debtor in the accounting records by using the
information located on the internal sales order document. The detail located on the delivery note is not
reviewed but is simply used to identify that the driver delivered the juice to the client.
Collection of payment from customers
Customers are able to settle their outstanding amounts by making an electronic funds transfer and
using their customer number as their reference. Customers who prefer paying by cash or cheque are
able to deposit the money into the company’s bank account and use their customer number as their
reference. The bank details are provided to the customer by the creditors clerk over the telephone.
Credit allowances at year-end
The amount recognised as an allowance for credit losses for the company at year-end was 5% of the
amount due to the company. While the assumption that 5% of the debtors will not be able to repay the
company may not be entirely accurate, the company does not have enough historic data of credit sales
to make a more realistic allowance.
The company grants customers 30 days to settle their outstanding balances. If clients fail to do so, the
company contacts them to determine the reason they have not settled their outstanding balances. If
clients are unable to make their payment, the company starts charging late payment penalties and
interest on the amount outstanding. If customers have not settled their account within 90 days, the
company recognises 5% of the balance receivable as an allowance for credit losses and contacts a
debt collecting agency to assist in the recovery of the amount due to the company.
REQUIRED
Describe the business risks affecting the revenue and receipts cycle at Fruity Juice (Pty) Ltd.
[15]
under U.S. or applicable copyright law.
Question 8 LEVEL 2
Weaknesses and recommendations
[32 marks]
You are the auditor of Family Mag (Pty) Ltd, a company that publishes a monthly magazine aimed at families in
South Africa. The following has been brought to your attention about the revenue received by the company in lieu of
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advertisements:
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New advertisers
A prospective customer contacts the company’s corporate office and indicates that he/she would like an
advertisement to be published in the company’s magazine. The prospective customer is then transferred to the
marketing department. An employee in the marketing department obtains more details about the advertisement and
then emails the prospective customer an application form that needs to be returned in order to register as a customer
of the company.
Once the application has been emailed back to the marketing employee, he/she prints the application form and
submits it to the marketing manager for approval. The marketing manager scans the contents of the advertisement as
well as the application to register as a customer of the company. If she approves of the new customer, she informs
the marketing employee via a telephone call to load the new customer’s details, including his/her username, on the
sales system and the amount that she feels that the customer qualifies for as his/her initial credit limit. The marketing
employee logs on to the sales system by using the general finance department user ID and password to load the new
customer on the system.
Customers are always granted 30 days to settle their accounts, but the marketing manager has the discretion to
issue credit limits up to R10 000.
Customers can request to have their credit limits increased. The request should be made via email and directed to
the marketing manager at [email protected]. She makes a decision based on whether or not the
customer has placed regular advertisements with the company, in which case she increases the credit limit to R10
000 on her computer by using the general finance department user ID and password to gain access to the system.
The credit manager has indicated that he is not pleased with the current system as many of the customers whose
credit limits are being increased are actually the ones defaulting on their accounts.
For all advertisement requests made by existing customers, the customers email their advertisements through to
the marketing manager, who approves the publication after scanning the contents.
Collection of cash
under U.S. or applicable copyright law.
Customers are permitted to pay their accounts via electronic funds transfer or by direct deposit into the company’s
bank account.
The financial accountant logs into the company’s bank account and identifies all payments received with
customer usernames, allocates the payments to the customers’ accounts and emails the customers an
acknowledgement of receipt.
Where the financial accountant is unable to find customer usernames on the system, he records the income in a
miscellaneous account until the customer contacts the company.
If a customer does not contact the company within 90 days of depositing the money for an invoice or an
acknowledgement of receipt, the money is moved to a staff party fund.
Debtors who have not settled their accounts within 90 days are handed over to the company’s collection agency.
Some debtors have contacted the company informing them that they have indeed settled their accounts as agreed via
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direct bank deposit, but have lost their proof of payment.
REQUIRED
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Identify and discuss the weaknesses in the revenue and receipts cycle above and make suggestions to address them.
[32]
Question 9 LEVEL 2
Weaknesses, risks and recommendations
[20 marks]
You are a trainee accountant on the audit of Doorbell (Pty) Ltd (Doorbell) for its financial year ended 30 September
20X1. Doorbell is a wholesaler of kitchenware, table-top and home décor products. You have been tasked with
auditing certain aspects of the company’s revenue cycle. All sales to customers are on credit, and very little
computerisation is used in the company’s business processes. From enquiries with client staff and from the
observation of cycle activities, you have noted the following:
Credit management
Retail customers wishing to open a credit account with the company must phone Doorbell’s credit controller and
provide their business details. The credit controller then enters the customer’s details on the computer system, and
also sets a credit limit for the customer’s account based on the customer’s credit needs.
You have determined that sound controls are in place regarding the identification of long-outstanding and
uncollectable debt.
REQUIRED
Describe the internal control weaknesses and the associated risks in the above system description of the revenue
cycle at Doorbell (Pty) Ltd. Also describe the recommended control(s) that should be put in place in order to prevent
the consequences associated with each risk for each identified weakness. Present your answer in tabular form.
under U.S. or applicable copyright law.
[20]
CREDIT 1. a) Weakness
MANAGEMENT i) No credit background checks are performed on the creditworthiness of an
applicant. (1)
ii) Credit limits are based on the customer’s needs rather than on his/her
credit history and/or business references. (1)
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b) Risk
Doorbell (Pty) Ltd risks selling goods on credit to customers who cannot
settle their debts, which could lead to possible debt write-offs and
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SALES 1. a) Weakness
ORDERS AND A pre-printed, sequentially numbered order form is not used to record sales
orders from customers. (1)
APPROVAL b) Risks
i) Sales orders could go missing if there are no means of identifying them
owing to their not being numbered sequentially. (1)
ii) The potential for errors and missing order information is increased when
an order is made out on a blank sheet of paper, as there are then no
form details with which to guide the order clerk as to what information
is needed (e.g. the account number, the customer’s name and the
quantities ordered). (1)
iii) It will make it more difficult to cross-reference other documentation (such
as the invoices) to sales orders, thereby increasing the risk of unfilled
sales orders. (1)
c) Recommendation
A multicopy, pre-printed, sequentially numbered internal sales order should
be completed for each order, with one copy being filed in a pending sales
order file for follow-ups. (1)
2. a) Weakness
No additional validity check besides the request for an account number is
performed by the sales order clerk on the customer placing the order. (1)
b) Risk
Despite providing an account number, the person phoning might not be the
genuine customer, which could result in a credit sale that the account holder
cannot, or legally will not, settle. (1)
c) Recommendation
The sales order clerk should request that the customer provide pertinent
under U.S. or applicable copyright law.
details (ID number, address, contact details etc.) that should be compared
to the information on the official list of customers in order to confirm that the
customer is genuine. (1)
3. a) Weakness
No inventory availability check is performed before the sales order is
accepted. (1)
b) Risk
i) There might be insufficient inventory and, if the order is processed, there
will be short-deliveries leading to possible cancelled sales and/or
customer dissatisfaction. (1)
ii) A back-order system cannot be maintained effectively if customers are
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not informed of inventory shortages before an order is accepted, as
these shortages might be identified too late (owing to the delay,
customers might cancel ordered items that are not in stock). (1)
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c) Recommendation
i) In order to confirm inventory availability, the sales order clerks should
have access to an up-to-date official inventory list that they should
consult while taking down an order. (1)
ii) Any inventory shortages should be referred to a back-order system, if the
customer agrees. (1)
SALES 4. a) Weakness
ORDERS AND There is an insufficient segregation of duties between the initiation and the
approval of sales orders, as the order clerks who initiate the orders are also
APPROVAL allowed to approve them. (1)
b) Risk
The sales order clerks might make out sales orders to unauthorised parties
(customers not on the debtors ledger) or customers who have exceeded
their credit limits, which could lead to possible non-payment by such parties.
c) Recommendation (1)
All sales orders should be submitted to the credit controller for approval
before any further processing takes place. (1)
Notes:
When looking at the suggested solution you will note that only weaknesses, risks and recommendations relating to
credit management and sales orders and approvals were included in the solution. This is because these were the
only functions for which information was provided in the case study. You cannot include functions for which
there is no information in the case study.
Another important aspect to take note of is the fact that one weakness can have more than one risk and more than
one recommendation.
Question 10 LEVEL 2
[23 marks]
Leonard Langley was recently appointed as the assistant financial manager of Trucker Tools (Pty) Ltd (Trucker
under U.S. or applicable copyright law.
Tools), a wholesale distributor of vehicle parts serving the trucking and courier industries. One of Leonard’s first
tasks was to solve internal control problems in the revenue cycle. All sales made by the company to its customers are
on credit, and the company performs local deliveries using its own staff and delivery vehicles. Computerisation in
the company is minimal. Trucker Tools’s revenue cycle, from warehousing to recording of sales, takes the following
form:
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the delivery address.
The picking of goods is the responsibility of Henry Crause, the storeman. He also creates a delivery note in
duplicate for all the goods picked. After picking, the slip is signed by Henry and filed directly in the warehouse
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manager’s office.
The goods are then transferred by trolley from the warehouse to the dispatch area, together with the delivery
note. As they enter dispatch, the dispatch clerk, Victor Msimane, immediately starts to pack the goods into boxes.
The security guards at the exit gate report to the dispatch area and assist Victor to load the packaged items onto
the delivery vehicle, thus saving a considerable amount of time and enabling the security guards to experience the
operations of the business first-hand.
Upon delivery of the items to the customer, the driver responsible for deliveries, James Mann, requests him/her
to sign the top copy of the delivery note (which carbon-copies the one beneath) and hands the top copy to the
customer. The second copy is returned to Trucker Tools.
Invoicing
Upon returning to the company premises, James Mann hands the second copy of the delivery note – signed by the
customer – in at the invoicing office.
The invoicing clerk, Bonani Fumba, prepares a pre-printed, sequentially numbered invoice in triplicate for each
delivery, cross-referenced to the corresponding internal sales order.
In order to expedite the process of debt collection, Bonani sends the original of the invoice to the customer (by
postal mail) as soon as possible after invoice preparation. The second copy of the invoice is presented to the
bookkeeping office for recording in the financial records, while the third copy is filed in the pending invoice file. On
a regular basis, the senior bookkeeper checks the invoices in the pending invoice file for sequential numbering (in
order to ensure that there are no missing invoices) and for matching to the delivery note brought back by James
Mann after it has been signed by the customer (in order to ensure that an invoice has been created for each delivery
note).
Recording of sales
The accounts receivable clerk, Helen Troy, is responsible for recording sales in the sales journal. After recording
invoices for the day, the senior bookkeeper reviews the accuracy, completeness and proper cut-off of the recorded
sales in the sales journal by agreeing each entry in the journal with the supporting invoice and delivery note. She
also ensures that an entry in the journal exists for each invoice.
At the end of the month, Helen prepares debtor statements from the debtors ledger for mailing to customers.
Leonard did not find any particular weaknesses in the credit management and sales returns areas of the revenue
cycle.
REQUIRED
Describe the weaknesses and the associated risks in the above system description of the revenue cycle at Trucker
Tools. In addition, for each weakness identified, describe the recommended control(s) that should be put in place in
order to prevent the risks associated with the weakness. Present your answer in tabular form.
[23]
under U.S. or applicable copyright law.
Question 11 LEVEL 3
Weaknesses, risks, decrease in gross profit and recommendations
[40 marks]
You are an internal audit manager employed at WTK Inc. (WTK), a firm of registered auditors and accountants. One
of the firm’s clients is Autonovation (Pty) Ltd (Autonovation), a company that sells vehicle products to the public,
operating from large retail stores situated across the country. Each store is responsible for keeping its own set of
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accounting records, although some reconciliations are performed at head office. The following matters have come to
your attention:
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Extract from the system description of sales function at the Kimberley store
Sales to customers can either be on credit (for pre-authorised account holders) or for cash. After
selecting products, customers proceed to the sales clerk counters. In order to ring up a sale, a sales
clerk logs onto the financial application on the computer system using a common username and
password (the username is saLescLerk123).
Credit customers must show a store card on which an account number appears. The clerk keys in the
number in order to display the customer’s account details on the screen. New credit applicants are
referred to the sales manager’s office before being able to buy products on credit. Cash customers do
not have to provide any form of identification.
Products are scanned with a barcode scanner. Should the customer’s credit limit have been reached,
the clerk enters an override code if the clerk deems the customer’s reason for exceeding the credit limit
to be reasonable. Credit customers receive a printed, sequentially numbered sales invoice. Cash
customers receive a printed sales quote. Sales clerks can enter a discount percentage for cash sales
by using their discretion, even though (according to sales clerks) this function is never used. (Note: the
sales clerks’ commission is based on net sales.) Goods are packed into shopping bags at this stage.
Cash customers proceed with their products to a cashier at the exit, hand the sales quote to the cashier
and pay the amount due. A sequentially numbered cash invoice is printed by the cashier and handed to
the customer after it has been stamped ‘Paid’. The customer then exits the store. Credit customers
leave the store directly after receiving their sales invoice from the sales clerk.
Extract from the internal audit report on the system of cash receipts at the George store
The gross profit percentage of the George store fell from 30% in quarters one to three to 25% in quarter
four (the year-end inventory count has already taken place). A replacement cashier was appointed at
the beginning of the fourth quarter, which coincided with a significant increase in the issuing of written
cash receipts instead of printed cash invoices. Management of the store had not yet detected the
decrease in the gross profit percentage, and showed surprise when asked about the matter. The store
manager confirmed that, although head office does not generally approve of this, the issuing of manual
cash receipts is allowed in emergency cases. As no formal policy document could be provided by the
store manager on the regulations applying to the use of manual cash receipts, this query was referred
to head office.
According to the cashier, frequent network failure between his terminal and that of the sales clerks
compelled him to write out manual cash receipts, as his terminal is dependent on the sales quote
created on the system by the sales clerks. The computer system does not allow him to create a cash
under U.S. or applicable copyright law.
invoice if a sales quote has not previously been generated by a sales clerk. (The cashier keys in the
sales quote number in order to call up the quote details on the screen.) According to the store
manager, she is aware of the network problem.
When a computerised cash invoice is created, sales are automatically recorded in a pending sales file.
Hand-written cash receipts, however, must be manually recorded in the file, which is posted to the
general ledger the next day when the sales amount in the file is reconciled with the cash deposit slip.
The cashier is responsible for performing this reconciliation, recording manual receipts to the pending
sales file and posting the file to the general ledger. He is also responsible for issuing stationery to
company staff.
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Request by Autonovation to assist with the implementation of the sales returns function
The accounting department at the head office of Autonovation has requested your firm to advise the company on the
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internal controls that should be implemented over its sales returns function. To date, the company has followed an
informal approach to sales returns, owing to the limited number of such returns. However, increased sales have
necessitated the formalisation of controls for roll-out across all stores. Management is prepared to establish sales
returns counters at each store, staffed by a sales returns clerk. The financial application currently enables the creation
of both goods return vouchers and credit notes. Returns are made in person by customers.
REQUIRED
1. With reference to the information contained in the extract, describe the deficiencies in the sales function at the
Kimberley store. Explain also the risks associated with the deficiencies and describe the recommended controls
that should be put in place in order to minimise the risks. (16)
2. With reference to the information provided, discuss what might have led to the decrease in the gross profit
percentage of the George store and the delay in the detection thereof. (Refer to the George scenario, but allow the
information in the Kimberley scenario to inform your answer.) (15)
3. Describe the controls that Autonovation should implement in the sales returns function of each store in order to
ensure that the control objectives of validity of sales returns recorded in the financial records are achieved. (Refer
to the information provided in the request, but allow the Kimberley and George scenarios to inform your answer.
Do not include controls for previously stored transaction and masterfile data.) (9)
[40]
Question 12 LEVEL 2
Weaknesses, recommendations, internal controls, role players and documents
[41 marks]
You are the internal auditor employed by South Peninsula Cleaning Services (Pty) Ltd (SP Cleaning), a provider of
cleaning services to office blocks in an around the South Peninsula area. The business has been in existence for the
last five years and has grown 10-fold over that period of time. The administrative function is performed and takes
place from the home of the owner and now chief executive officer, Mrs Radcliff. When the business started up, Mrs
Radcliff could perform the administrative function because she had only one client. Today, Mrs Radcliff employs
the following employees to perform the administrative function of the business:
Mrs Bray – administrative clerk
Mr Adams – sales and marketing manager
Ms Britton – operational staff co-ordinator
Mr Jikijela – financial manager.
At the previous financial year-end, the external auditors were concerned about the revenue and receivables process
under U.S. or applicable copyright law.
and requested SP Cleaning to map the process for their review for the following year’s statutory audit (i.e. the
current audit).
All new and existing business is handled by Mr Adams. In his position as sales and marketing manager, he is
authorised to enter into contractual agreements with customers to provide cleaning services to them. Customers can
only make use of SP Cleaning if they have a signed contractual agreement with the company.
On the first working day of each month, Mrs Bray creates a manual sales order based on the agreement between
the customers and SP Cleaning for cleaning services. The sales order is authorised by Mr Adams after he inspects
the agreements to confirm the number of working days. The original sales order is kept in a book and the carbon
copy is sent to Ms Britton so that she can co-ordinate the cleaning staff for the month ahead.
Upon receipt of the sales order, Ms Britton plans the roster for the cleaning staff. The SP Cleaning model is
based on two shifts – an early morning and a late afternoon shift. As only office blocks are serviced, the business
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model is designed to provide cleaning services in the administrative offices before the customer’s staff arrive for
work as well as after the customer’s staff leave work.
Ms Britton visits the office block locations on a regular basis to make sure that supervisors and cleaning staff are
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doing their work and also to handle queries from customers. All customer queries are logged in a query book used
by Ms Britton to assess cleaning staff performance and also in cases where disputes arise with the Department of
Labour.
At the end of each month, all cleaning staff and supervisors complete their monthly time sheets and this is reviewed
by Ms Britton. She then uses this information to complete a service delivery form. The service delivery form reflects
the following:
Sales order number
Month of service
Cleaning staff and supervisor on duty for the specific office block
Number of hours worked by each staff member based on the authorised time sheets
The service delivery form is reviewed and signed off by Mrs Radcliff, who is responsible for all senior staff,
including Ms Britton. The service delivery form is then sent to Mrs Bray for processing.
At month-end, Mrs Bray creates the sales invoices for customers based on the following documents:
Original sales order in the order book
Service delivery form sent to her from Mrs Radcliff
The sales invoice is made out in duplicate in an invoice book. The carbon copy sales invoice is kept in the invoice
book and the original sales invoice is sent to the customer for payment.
The general customer payment terms are one calendar month from statement date. The debtor’s statement is
created and sent out with the original sales invoice on the last of every month.
There are no unpaid invoices from the previous months as all customers comply with their contractual agreement
with SP Cleaning. There is only a current balance on the debtor’s age analysis as a result of this.
REQUIRED
1. Identify the internal control weaknesses based on the scenario above. For each weakness identified, explain the
consequence(s) and make recommendation(s) for improvement.
[11]
2.
a) Identify the internal controls in the revenue and receivables process of SP Cleaning, as outlined in the scenario,
for the following activities:
i) Receiving and processing customer orders
ii) Granting credit to customers
iii) Delivering the service
b) For each internal control identified, indicate who the role players are and what documents are used in the internal control.
Present your answer in the following format:
under U.S. or applicable copyright law.
[30]
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Question 13 LEVEL 2
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Recommendations
[14 marks]
You are a first-year trainee accountant employed by an audit firm to work in its internal audit department. One of
your firm’s internal audit clients is GameZone (Pty) Ltd (GameZone), a company that operates in the family
entertainment industry.
GameZone’s operations include an indoor laser games compound, where people can simulate a battle using
laser-beam guns. Each participant receives a laser gun connected to a battery-operated body harness that can detect
light beams, upon which the harness registers a shot received from another player. Up to four teams of five people
each can participate in a round lasting 30 minutes and costing R50 per person. During the game, the gameplay
computer collects all game data (e.g. those players shot and by whom, how many times a person was hit and the
firing accuracy of each person). During busy periods, up to R12 000 a day is collected from the laser games
compound.
Mr Mark Costa, owner of GameZone, has confided to you that he believes cash is being misappropriated in the laser
games operation. You have obtained the following information:
Participating players must pay the required fee before a game commences. Receipts are printed by the
compound’s cashier from a stand-alone point-of-sale computer connected to a cash register. Players pay either
with cash or with a bank card using a card-swipe machine. Cheques are not accepted. The point-of-sale computer
is connected neither to the gameplay computer nor to the computer used by Ms Betty Colt, the bookkeeper. A
duty manager oversees the smooth working of all GameZone’s operations, while Mr Costa’s wife, Mrs Arcadia
Costa, assists with finances and accounting in general.
Ms Colt has told you that she occasionally fulfils the duty of cashier at the laser games compound in the evenings
when casual staff members do not show up for work and to ‘supplement my meagre income’.
Daily cash takings for all the operations at GameZone are stored in Ms Colt’s office inside a fireproof safe,
together with the cash receipt report printed out from the point-of-sale computer. Either one of the two keys kept
by Mr Costa and Ms Colt respectively can open the safe.
Ms Colt is responsible for preparing a deposit slip for each day’s total cash takings. Banking is done weekly, and
when the bank-stamped copy of the deposit slip is returned after banking by the company’s messenger, Ms Colt
records the deposits in the cash receipts journal. A bank reconciliation is prepared on a quarterly basis by Ms Colt.
You have not been able to find any indication that the past year’s bank reconciliations have been reviewed.
REQUIRED
Recommend the controls that you would suggest be implemented at GameZone (Pty) Ltd in order to reduce the
possibility of the misappropriation of cash in the company’s laser games operation. Ignore the effect of any
computerised access or input controls.
[14]
under U.S. or applicable copyright law.
Question 14 LEVEL 3
Recommendations
[22 marks]
Handyman Wholesalers (Pty) Ltd (Handyman) distributes a wide range of hardware and paint products to retailers
across South Africa. The audit firm by whom you are employed as a senior auditor has been requested to audit the
company’s financial statements for its financial year ended 30 September 20X1. A trainee accountant on the audit
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has obtained the following system description of the company’s revenue cycle:
Credit management
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All sales to customers are on credit. The company’s credit management office is staffed by Ms Ellie Amber, the
credit controller, who is responsible for:
performing creditworthiness checks on credit applicants
allocating credit limits to customers’ accounts on the debtors masterfile
ensuring that each new customer receives a unique, computer-generated account number
flagging accounts on the system of those customers who are behind with payments or have other pending queries
against their accounts.
updated with the sale. The financial manager to whom Ms Plait reports is Mr Suyesh Khare.
REQUIRED
1. Describe the computerised access and input application controls required in order to achieve the control objectives
of the validity, accuracy and completeness of internal sales orders captured onto the financial system by the sales
order clerk. (12)
2. Describe the computerised input and processing application controls required in order to achieve the control
objectives of validity, accuracy and completeness of invoices recorded in the financial records of Handyman.
(10)
In both of the above questions, ignore controls relating to screen aids and any controls applicable to
amendments to masterfile data.
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[22]
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Question 15 LEVEL 2
Key controls
[8 marks]
In October, you received the latest copy of the accounting and auditing circular from your firm. The main focus of
the circular was key controls. The following extract intrigued you:
Key controls are those internal controls that provide reasonable assurance that material misstatement
in the financial statements (whether owing to fraud or error) will be prevented, or detected and
corrected, before the finalisation of the entity’s financial statements. It follows from this definition that
key controls are those that respond to risks that could result in misstatements in the financial
statements that are considered material. This means that, if a key control fails, there is a reasonable
likelihood that material misstatement (error or fraud) may be present in the financial statements.
After you had read the extract, you decided to look at this list of controls as practised by your current client, Hot and
Cold (Pty) Ltd (Hot and Cold):
1. Customers should be requested to provide orders by fax, email or physical delivery.
2. All written orders should be completed in blue pen.
3. All products obtained should be compared to the order form received from the sales department before they are
moved to the dispatch department.
4. All order forms should be grouped in batches of 10 and bound by an elastic band.
5. Discounts should be authorised by a specified personnel member and granted in accordance with the
organisation’s policy.
6. The organisation’s discounts policy should be displayed on the back of the sales department door.
7. Customers should always sign the delivery note as proof of having received the goods.
8. Customers may sign anywhere on the delivery note.
9. All delivery notes must be pre-numbered and kept in a locked drawer.
10. The sales department should have a scheduled tea break at 10h00 every morning.
REQUIRED
Indicate which of the controls listed above are key controls.
under U.S. or applicable copyright law.
[8]
Question 16 LEVEL 2
Key controls and control objectives
[10 marks]
During the interim audit of Trust-Us (Pty) Ltd (Trust-Us), you requested system descriptions of all the different
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business cycles within the company in order to design the appropriate test of controls. An extract of the revenue and
receipts cycle is presented below. The extract only deals with the revenue generated through the selling of tickets for
specific fundraising events undertaken by the staff of Trust-Us.
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Staff members have five weeks to sell the tickets and the staff member who sells the most tickets
receives a cash incentive. When a staff member has sold all 10 tickets in the booklet, he/she brings the
cash to the cash clerk, who records the cash received and issues a receipt (pre-printed and
pre-numbered in quadruplicate) for the staff member. One copy of the receipt stays with the cash clerk,
one copy is sent to the secretary to ensure that a staff member does not receive a second booklet before
he/she has paid the cash of the first booklet, and one copy is sent to the accountant for independent
review purposes. At the end of the five-week term, all staff members must return the booklets in their
possession – the booklet to the secretary and the cash for sold tickets to the cash clerk (process as
described above).
The accountant performs a reconciliation at the end of the period between the tickets sold according to
the secretary’s booklet register and the total cash received (and banked) by the receipts and deposit slips
of the cash clerk. The accountant performs a reconciliation between the total tickets sold, total unsold
tickets and total tickets available for sale. The accountant investigates any discrepancies found and
records his findings on the reconciliations. The accountant signs the reconciliations and submits it to the
finance manager when a fundraising project is finalised.
REQUIRED
Identify the key controls from the above extract of the revenue and receipts systems description. For each key
control identified also state the main control objective achieved by the key control.
[10]
under U.S. or applicable copyright law.
Question 17 LEVEL 3
Key controls and tests of controls
[10 marks]
You are a member of the internal audit department of Quality Supplies (Pty) Ltd (Quality Supplies), a company that
sells a range of household furniture and electronic appliances from its store located in a prominent mall in Durban.
The company has a December year-end.
The accounting system, which includes a point-of-sales system module, is located on a fully integrated system
run on a local area network at the store.
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Extract: Sales process at company
At the start of each shift, the salesperson logs onto the point-of-sales system using his/her unique user ID
and password, thereby gaining write access to the sales file and read-only access to the inventory and
debtor masterfiles. The system shuts down after three failed attempts at entering an unauthorised
password.
The salesperson asks the client to provide his/her Quality Supplies customer card. When the salesperson
scans the barcode on the card, the following details appear on the screen:
In cases where customers have left their Quality Supplies card at home, they are requested to produce
their identity document, passport or South African driver’s licence. The ID/passport number appearing on
the presented document is captured into the system and the same information appears on the screen as
if the barcode on the customer’s card had been scanned. The system has logic tests built into it that
recognise whether or not a valid ID or passport number has been entered.
If the total purchase price does not cause the outstanding balance to exceed the credit limit, the sale will
be approved and the customer will take immediate delivery of the goods purchased, unless he/she
requires the goods to be delivered, in which case the goods will be delivered within three business days
of the date of purchase.
When the value of the goods purchased causes the outstanding balance to exceed the credit limit, the
sale is loaded onto the system and stored in a sales pending file. At the same time, a notification is sent
to the email address of Mr Jenkinson, the credit manager. The customer will not be permitted any more
sales until his/her credit limit has been increased. The turnaround time for doing so is normally two
working days.
Mr Jenkinson logs onto the system using his unique user ID and password in order to gain access to the
sales module. He reviews all such cases and applies his discretion when increasing the credit limit,
subject to certain requirements. Mr Jenkinson documents his reason on the system for increasing the
credit limit (e.g. regular payments received to date). In some instances, the customer may be required to
provide three months’ bank statements in order to prove his/her increased disposable income. A log is
created of all instances where Mr Jenkinson authorises an increase in the credit limit. It is then printed
and reviewed by Ms Ballinger, the chief financial officer, at the end of each month and all exceptions
(such as where there is no valid reason for the increase) are followed up with Mr Jenkinson. Ms Ballinger
signs the log in order to indicate that she has reviewed it.
Once Mr Jenkinson has documented the reason for the increase and authorised it, a sequentially
numbered notification is sent to Mr Ndlovu, whose duty it is to capture and update the debtor’s masterfile.
under U.S. or applicable copyright law.
The notification received by Mr Ndlovu informs him that he needs to increase the client’s credit limit. Mr
Ndlovu has write access to the debtors masterfile, and uses the authorising email as a debtors masterfile
amendment form. Mr Ndlovu then files the notification.
The customer is informed via SMS the day after the order has been placed in order to:
inform him/her whether the order was successful or not
advise him/her if his/her limit has been increased
give him/her the date on which he/she will be able to take delivery of the goods.
REQUIRED
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Identify the key internal controls in the sales system as described above and describe a test of control which the
internal auditor could perform for each. Present your answer in tabular form.
[10]
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Notes:
The first important aspect to take note of is that the required asked you to identify key controls, thus controls that
will help to ensure that the information in the accounting records and, in the end, the financial statements are
accurate, valid and complete.
Another important aspect to take note of is the fact that the required asked for a test of control, therefore you
under U.S. or applicable copyright law.
Question 18 LEVEL 3
Tests of controls
[30 marks]
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You are the senior auditor on the audit of Quality Clothing (Pty) Ltd (Quality Clothing), a company that sells
clothing to the public from its 15 stores located around South Africa and has its corporate head office located in
Roodeport.
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The following is an extract of information that was obtained during the planning phase of the audit:
General
Customers who purchase goods on credit are required to open an account with Quality Clothing.
The credit application may be completed in the store or on the company’s website.
The following documentation is required in order to approve an individual as a new credit customer and to
determine the customer credit limit:
A completed new customer application form
A certified copy of the customer’s identity document
Proof of residential address
Three most recent payslips or three most recent bank statements
If an individual is unable to provide the documentation required above, the individual will not be permitted
to open a customer account.
For new customer applications submitted in the store, the documentation is scanned into the system and
stored in a new customer pending file.
For new customer applications submitted via the company’s website, the application, along with the
documents that the prospective customer has loaded onto the system, is stored in a new customer
pending file.
Once a prospective customer applies to open an account, it takes four to five business days to process
the application.
The company has several credit managers who log onto the system using their unique user IDs and
passwords. They have read-only access to the information loaded onto the system by the prospective
customer.
If the credit manager inputs his/her user ID or password incorrectly more than three times, the computer
automatically logs off.
under U.S. or applicable copyright law.
Once the credit manager is satisfied that the application and supporting documentation meet the
company’s requirements, the credit manager approves the application by digitally authorising the
application.
An employee in the credit department who is responsible for loading the credit limits onto the customer’s
account logs onto the system by using his/her unique user ID and password. The employee loads the
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new customer’s credit limit based on the disposable income noted on the application form as well as
recommendations made by the credit manager. The new customer’s account is then moved from the
pending file to an approved new customer file. The employee digitally signs off the activation as proof that
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he/she loaded the new customer’s credit limit in terms of the company’s policy.
The new customer is mailed a customer card which takes two to three business days to arrive at the
customer’s mailing address and is activated instore with the approved credit limit. The customer is
required to come into a store, provide proof of identification and swipe his/her customer card in order to
activate it. The system logs the date on which the card was activated in the store for the first time.
The system creates a log of all cards that have been issued as well as those cards that have not been
activated in the store within 21 days, so that the approved customers can be contacted to determine
whether they have received the cards or whether they are still interested in making purchases on credit.
The reason why the approved customer has not activated the card is noted on the system.
The card and offer to purchase on credit for the first time expire 90 days after the card was mailed to the
individual if the individual has not come into a store to activate the card. Once the 90 days has lapsed the
individual is required to reapply.
The credit manager reviews the documentation and determines whether or not the approval is warranted.
If the credit manager is satisfied that the credit limit increase is valid, he/she completes a credit limit
amendment form which is sent to an independent employee in the credit department to load onto the
system. The credit manager signs the credit limit amendment form to indicate that he/she has reviewed
and approved the increase in credit limit in terms of the company’s policy.
An employee in the credit department logs onto the client’s account using his/her unique user ID and
password. The employee changes the credit limit by using the information located on the credit limit
amendment form. The employee signs the credit limit amendment form and digitally signs the change in
credit limit as proof that he/she has made the change. A log of all changes to the credit limit is recorded.
The log is reviewed by the financial manager on a monthly basis and exceptions are followed up. The
financial manager signs the log as proof that he/she has reviewed the log and followed up on any
exceptions.
Orders
Orders are taken in the following manner:
By telephone
In person
When someone calls to place an order, the employee receiving the order follows the following process:
under U.S. or applicable copyright law.
Where an order is placed by a customer in person, the customer is required to provide his/her customer
card when placing the order, as well as proof of identification.
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Prior to approving the sale, the payment history of the customer is reviewed by the sales representative
on the system, and where the customer’s account is in arrears for more than three months, the system
will not permit the sale to proceed unless a manager overrides it. The system creates a log of all sales
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where managers have overridden it, and this log is followed up by the financial manager on a monthly
basis. The financial manager signs the log as proof that he/she has reviewed the log.
Where the purchase results in the customer’s credit limit being exceeded, the system will not process the
order. The customer is informed that the order has exceeded his/her credit limit and the customer is
requested to pay the balance that exceeds the credit limit. Should the customer not be able to pay for the
balance above the credit limit, he/she will be required to reduce the value of the order by removing some
products.
REQUIRED
Identify the key controls as described in the above scenario, and for each key control identified, describe the test of
control that you would perform to determine if the control was working effectively.
[30]
Question 19 LEVEL 3
Tests of controls
[15 marks]
You are the auditor of Juicy M. This business sells a range of juice bottles to both the general public and
wholesalers.
Credit sales, which make up the majority of the company’s total sales figure, are made as follows:
credit limit.
If the limit has not been exceeded, the order form is signed by
the debtors clerk and sent to the inventory warehouse. If the
credit limit has been exceeded, the form is returned to the sales
department. The debtor concerned is contacted.
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credit department, the storeman checks that the items
requested are available.
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If they are, he/she signs the order form and forwards it to the
accounting department. If the items are not available, it is
returned to the sales department and the debtor concerned is
contacted.
Accounting Accounting Once the approved order form has been received, the
clerk and accounting department prepares a pre-numbered invoice in
accountant triplicate. The accounting clerk uses the price list in order to
calculate the total amount due.
Once the signed copy of the invoice has been returned, the
accounting department sends the original invoice to the
customer. The signed invoice, which is filed sequentially, is
entered by the accounting clerk into the sales journal, where it
is also filed sequentially. The third copy of the invoice is sent to
the debtors clerk, who updates the debtors ledger.
REQUIRED
Formulate the audit procedures relating to the internal control objectives of validity and accuracy that you would
perform on the internal controls as contained in the credit sales system described above.
[15]
Question 20 LEVEL 3
Tests of controls
[18 marks]
You are the external auditor employed at Furniture Protectors Ltd (FP). You are assigned to audit the sales cycle of
under U.S. or applicable copyright law.
FP.
FP designs protectors that can be placed on furniture to protect furniture against damage and dirt from young
children and animals. It produces and sells a wide variety of protectors for all types and shapes of furniture. The
following information relating to the sales system is available:
1 Mr Nieuwoudt, the customer relationship manager, is responsible for dealing with customers who
. want to make purchases of furniture protectors on credit.
Mr Nieuwoudt requires proof of physical address and income as well as a customer identity
document before a customer can make purchases on credit. Customers are also required to bring
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three copies of each of these documents with them, when they present the originals. This is done
to reduce FP’s printing costs.
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The credit bureau is also contacted by Mr Nieuwoudt before setting the credit limit for a customer.
A credit form is used, which contains the customer’s information and credit limit.
The customer is requested to check and sign the form, which is filed in a customer file with copies
of the necessary documents listed above.
The customer is given the latest price list and a number of pre-numbered order forms. Customers
can complete the details of their purchase on the order form.
2 If the customers want to order furniture protectors, they contact the call centre telephonically,
. reading the number of the order form (which is in their possession) to the call centre agent.
The call centre agent then prepares a pre-numbered sales order based on the information
received.
The call centre agent records the order form’s number as communicated to him/her by the
customer on the sales order.
Mr Nieuwoudt checks that the customers’ credit limit is not exceeded and authorises the sales
order.
A copy of the order is sent to the head storeman and to Mrs Marais, the accounting clerk. A copy
remains in the call centre.
Mr Nieuwoudt frequently performs a sequence check on the sales orders and investigates any
missing numbers as well as any long-outstanding sales orders whose delivery notes have not been
received.
3 The orders are packed by the storeman and a pre-numbered delivery note is made out.
.
The guard at the gate checks that the goods agree to the sales order and delivery note before the
goods leave the premises. The guard signs the delivery note as proof that he has performed the
check.
A copy of the delivery note is returned to the call centre, two copies are sent to the customer and
one remains in the warehouse.
4 The delivery clerk, who is also the driver of the delivery vehicle, compares the delivery note with
. the original order form as prepared by the customer to ensure that the order is complete.
In the event that the goods being delivered differ from the original order form, changes are made to
the order form and the customer is required to sign next to the changes.
The delivery clerk signs the original order form and returns the form and a signed copy of the
delivery note to the head office. These forms are handed over to Mrs Marais.
5 Mrs Marais compares the original order form, delivery note and sales order with one another and
. investigates any differences.
Mr Benadie checks the calculations on the invoice and that the latest prices were used.
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Monthly statements are sent to debtors via email.
6 Mrs Marais posts the invoices to the sales journal and debtor ledger at the end of each week.
.
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Mr Swartz, the assistant accountant, posts the sales journal to the general ledger on a monthly
basis.
Debtor reconciliations are performed by Mr Patterson, and checked and signed monthly by Mrs
Morris.
REQUIRED
Describe the test(s) of control you would perform to test the operation of each control identified above.
[18]
1 Deal with incorrect controls and/or controls that are not there, and are stated as such by means of the words ‘no’ or
‘not’.
2 8 marks = 8 weaknesses.
3 Take note of the goods being sold; they might affect the answer, as not all of the goods might be packed in boxes.
4 Start thinking about credit management controls.
5 Thus, dispatch function.
6 These functions can thus not be included in the answer.
7 Identify which are the remaining parts from your framework, as well as the internal controls in those remaining parts.
8 The first part of the cycle that you need to think about deals with controls that should be there: the inspection of goods
against the picking slip by the dispatch clerk; numerically sequenced delivery notes based on goods being
dispatched; the two functions performed by the security guard; and the customer’s signature on receiving the
goods.
9 Well done: control is in place.
10 Another control is in place.
11 The security guard performs only one duty; the other one is thus the first weakness.
12 Control is in place.
13 The second part of the cycle that you need to think about deals with controls that should be there: the signed
delivery note filed in a pending file; sequentially numbered invoices prepared; confirmation that invoices have been
prepared for all returned signed delivery notes; checking that invoice dates are correct, missing delivery notes are
followed up, invoices are cross-referenced to internal sales orders and delivery notes, and quantities and prices on
prepared invoices are reviewed, as well as casting and calculations on invoices.
14 Control is in place.
15 Control is in place.
16 Control is in place.
17 The third part of the cycle that you need to think about deals with controls that should be there: the recorded invoices
under U.S. or applicable copyright law.
checked by a second employee – agreeing entries to supporting invoices and agreeing invoice amounts to
amounts in sales journal; the numerical sequence is inspected; and debtors reconciliation is prepared and
reviewed by a senior personnel member.
18 Control is in place.
19 Nothing else is mentioned for this function; the remaining controls, which you expected to find in this function but are
not mentioned, are thus weaknesses.
20 Refer to example question 1.
21 Thus each weakness has to be addressed with the information that follows.
22 Refer to example question 2.
23 Linked to the weakness.
24 Linked to the weakness, and specifically referring to revenue.
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25 Thirty-two marks divided by four (weakness, control objective, revenue assertion = 8 weaknesses).
26 Refer to example question 1.
27 Validity, completeness, accuracy.
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INTRODUCTION
Refer to the guidance and the example questions contained in Chapter 6, as the principles and the approach remain
the same.
QUESTIONS
Question 1 LEVEL 1
Control objectives
[6 marks]
Validity, accuracy and completeness of financial information are the control objectives that management seeks to
under U.S. or applicable copyright law.
achieve in order to address the major risks relating to all the cycles.
It is the responsibility of the audit manager on the engagement to ensure that the audit team knows which control
objectives relate to the specific cycle being audited, as well as the consequence for the entity’s financial statements if
these control objectives are not achieved.
REQUIRED
Using the table below, provide a description of the control objectives and the related risks of misstatement for the
purchases transactions.
Validity
Accuracy
Completeness
[6]
Notes:
under U.S. or applicable copyright law.
Six marks for three control objectives equals approximately two per control objective, but you should know that
accuracy and validity have more aspects than completeness.
The risk of misstatement is the consequence to the financial statements. When looking at the suggested solution
take note of the way in which it was formulated, for example overstatement and understatement.
Question 2 LEVEL 2
Assertions
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[4 marks]
The following scenarios indicate the relevant risk indicators applicable to the payments cycle:
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REQUIRED
For each of the scenarios mentioned above, indicate which assertion(s) will be affected. Provide your solution using
the following tabular format:
[4]
Question 3 LEVEL 2
Weaknesses
[7 marks]
You have recently been appointed as the internal auditor of Minor (Pty) Ltd (Minor). During preliminary discussions
with management, it was decided that you would focus on determining the need for goods as well as the ordering
and the receiving of goods within the purchases and payments cycle.
Ordering of goods
When Mr Radebe received the request from Solly, he assured him that the paper would be ordered. He then
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OBJECTIVE STATEMENTS IF CONTROL OBJECTIVE IS NOT
ACHIEVED
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Validity
Accuracy
Completeness
[6]
Notes:
under U.S. or applicable copyright law.
Six marks for three control objectives equals approximately two per control objective, but you should know that
accuracy and validity have more aspects than completeness.
The risk of misstatement is the consequence to the financial statements. When looking at the suggested solution
take note of the way in which it was formulated, for example overstatement and understatement.
Question 2 LEVEL 2
Assertions
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[4 marks]
The following scenarios indicate the relevant risk indicators applicable to the payments cycle:
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REQUIRED
For each of the scenarios mentioned above, indicate which assertion(s) will be affected. Provide your solution using
the following tabular format:
[4]
Question 3 LEVEL 2
Weaknesses
[7 marks]
You have recently been appointed as the internal auditor of Minor (Pty) Ltd (Minor). During preliminary discussions
with management, it was decided that you would focus on determining the need for goods as well as the ordering
and the receiving of goods within the purchases and payments cycle.
Ordering of goods
When Mr Radebe received the request from Solly, he assured him that the paper would be ordered. He then
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proceeded to phone the first supplier for whom he could find a number in the Yellow Pages and asked them to
deliver the 50 boxes of paper as soon as possible. He did not think it was necessary to complete any documentation.
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Receiving of goods
When the supplier arrived at the warehouse with the boxes of paper, the warehouse clerk, Mr Tobias, realised that
the supplier’s delivery man was a childhood friend whom he had not seen in years. He was so delighted to see him
that he received the delivery without signing the delivery note.
Mr Kromhout, the warehouse supervisor, prepared the goods received note based on the supplier delivery note in
duplicate, after which he sent a copy to the accounting department.
REQUIRED
Identify the weaknesses in the abovementioned system.
[7]
Notes:
Weaknesses equal functions/duties not performed.
You need to have a thorough understanding of the cycles to be able to identify weaknesses, as you have to match
under U.S. or applicable copyright law.
Question 4 LEVEL 1
Risks
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[3 marks]
There are various categories of risks of misstatement relating to the financial information produced in the purchases
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and payments cycle. Should a misstatement be material and not be corrected, the financial statements will not be
fairly presented.
REQUIRED
List the various categories of risks of misstatement, whether owing to fraud or error, that apply to the purchases and
payments cycle.
[3]
Question 5 LEVEL 2
Risks
[17 marks]
You are the auditor of High Heels Ltd (High Heels), a shoe manufacturer. You identified the following weaknesses
in the purchases and payments cycle during the audit of High Heels:
1. There is not a process in place to determine which inventory is required for the production process before orders
are placed. Rush orders are sometimes placed at additional cost.
2. Not all orders are placed using a written order form.
3. Not all orders placed are authorised.
4. Orders are placed with only one supplier.
5. A pre-numbered goods received note is not completed upon receipt of the goods by the receiving department.
6. There is insufficient segregation of duties, as the departmental manager places orders, receives goods and makes
payments to suppliers.
7. Goods delivered are not reviewed, nor is a comparison made between what was ordered and what was received.
8. Invoices received from suppliers are not compared with what was ordered and what was received.
9. Creditors’ reconciliations are not performed between monthly statements received from creditors and the creditor
control account.
10. The cheque is submitted to the accountant and managing director for signing without any supporting
documentation accompanying the payment.
REQUIRED
For each of the 10 weaknesses, identify the resulting risk(s) on the financial statements.
[17]
Question 6 LEVEL 2
Risks
[19 marks]
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You are the internal auditor on the audit of Protector (Pty) Ltd (Protector), a company that manufactures a wide
range of protective cases and screens for mobile devices. Protector sells the cases and screens to a number of
wholesalers and retailers around the country. The company has a February year-end.
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The following is an extract of the key points obtained during a discussion held with Mr Sijeke, the inventory
controller; Mr Jordan, the chief buyer; and Ms Carter, the financial accountant in September of the current year:
Extract
The company is considering implementing a new inventory system as it has not always been able to meet
the demands of its customers. It attributes this primarily to the company’s running out of inventory on a
regular basis, which results in it not being able to process additional orders.
When an employee working on the production line notices that it is running out of a particular item of
inventory, the employee calls Mr Jordan and informs him of the need for the inventory. Mr Jordan
identifies three suppliers on the approved supplier list that are located closest to the factory and calls
them to establish how quickly they would be able to deliver the inventory required. An order is placed with
the supplier that is able to deliver the inventory the fastest. If the supplier requires a purchase order, Mr
Jordan completes one and faxes or emails it to the sales representative at the supplier.
There have been times when the production of certain products has been stopped temporarily while the
company waited for the inventory to arrive at the factory.
For orders where the production has stopped as a result of running out of
inventory
The inventory is received in the west wing of the warehouse by Mr Sijeke. The inventory is offloaded from
the delivery vehicle and Mr Sijeke performs a quick inspection of the inventory to make sure that it is not
damaged. The employee who informed Mr Jordan of the inventory needed is contacted and told to collect
the inventory immediately so that production can continue.
Recording
The creditors clerk records the credit purchase in the accounting records using the information noted on
the invoice that is received from the supplier. Where a purchase order was used, the creditors clerk
compares the information on the purchase order to the information on the invoice. If a difference is noted,
the creditors clerk contacts the supplier to identify the cause for the discrepancy. If a discrepancy is still
noted after the call, the creditors clerk records the credit purchase in the accounting records using the
under U.S. or applicable copyright law.
Payment of creditors
The creditors clerk performs a creditor’s reconciliation on a monthly basis and uses the reconciliation as
the basis to determine the amount to be paid to the supplier. The creditor’s reconciliation as well as
supporting documentation is presented to Ms Carter for review. If Ms Carter is satisfied that the creditor’s
reconciliation has been performed properly and if she agrees with the amount to be paid to the supplier,
she signs the creditor’s reconciliation and a cheque made out to the supplier. The supporting
documentation and the creditor’s reconciliation are returned to the creditors clerk who is responsible for
cancelling the supporting documentation and posting the cheque to the supplier.
The company intends moving away from cheque payments to electronic funds transfers in the next
financial year.
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REQUIRED
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Describe the business risks affecting the purchases and payments cycle at Protector (Pty) Ltd.
[19]
Question 7 LEVEL 2
Risks and assertions
[20 marks]
Sky Paints (Pty) Ltd (Sky Paints) manufactures a range of household paints, for which raw materials in the form of
resin, pigment, solvent chemicals and additives are sourced from various local suppliers and stored after receipt in
the factory stores until needed in the production process. A procurement department is responsible for submitting
purchase orders to suppliers, while an accounting department records all purchases and related liabilities. Controls in
place in Sky Paints’ purchases and payments cycle include the following:
On a weekly basis, the factory manager, together with the cost accountant, determines what the expected need for
raw materials in the production process will be for the week ahead. This production budget is reviewed and
authorised by the senior production manager.
For orders placed with suppliers of raw materials, the purchase order must first be approved by the procurement
manager, who requires a cross-referenced purchase requisition before he signs the order as evidence of his
approval.
The procurement manager regularly checks whether the sequence of purchase orders is intact, at the same time
matching each purchase order to a goods received note. He also investigates missing purchase orders, or where an
order does not have a corresponding goods received note.
Buyers in the procurement department are required to obtain at least three quotations from the company’s list of
authorised suppliers before submitting the purchase order for approval by the procurement manager.
When raw materials are delivered by suppliers and received at the factory stores, a receiving clerk scans a barcode
attached to the outside of the packaging. As the materials are being scanned, the computer system automatically
allocates the items to a materials received note containing the item code, a description and the quantity received.
As part of year-end procedures, a senior staff member in the accounting department matches the date of recorded
purchases as per the accounting records, with the date manually written by the receiving clerk on each purchase’s
corresponding materials received note. (Note: The control is necessary, as Sky Paints’s purchases are not recorded
concurrently with the generating of materials received notes.)
Item prices are pre-arranged with suppliers and stored in an item price masterfile. It is not possible for accounting
staff to change prices in the masterfile and a strict control system over item price amendments is in place.
The accounts payable clerk in the accounting department performs monthly supplier statement reconciliations.
The financial manager reviews the reconciliations before payments to suppliers are made.
REQUIRED
under U.S. or applicable copyright law.
Describe the risks that each of the above internal controls seeks to mitigate, and state the financial statement
assertion(s) affected by each risk. Where no assertion is affected, indicate whether or not the risk is operational in
nature.
[20]
Question 8 LEVEL 2
Weaknesses, risks and recommendations
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[23 marks]
You are one of the internal auditors of Africa Flight Delight Ltd (AFD), a company distributing food to airlines
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throughout South Africa. The company is fully computerised. One of the directors, Mr T. Mofokeng, approached
you to evaluate their purchase cycle (excluding recording of payments). He informed you that, despite the overall
effective internal controls that are in place, the company is still facing difficulties concerning its purchasing system,
which has resulted in substantial financial losses to the company.
On request of a detailed system description on the purchases cycle of AFD, you received the following working
paper:
Mr Naidoo commented that, although the process has been simplified, AFD still overestimates the
quantity of food required, which results in an excess number of food packages being prepared, not sold
and eventually exceeding their sell-by date.
Ordering goods from suppliers
Ms Stumke (buying clerk) electronically processes a purchase order based on the requisition received
from Mr Naidoo or the junior staff member. All calculations on the purchase order are automatically
performed by the computer, which also performs edit checks on the input of data and automatically
addresses the purchase order to the correct suppliers based on the list of pre-approved suppliers
stored in the supplier masterfile. The computer also assigns sequential numbers to all system purchase
orders thus created by Ms Stumke, who then files the purchase order sequentially so as to allow a
senior staff member to follow up on any missing purchase orders on a regular basis. The other copies
of the purchase order are then distributed as follows:
Copy 1 is sent to the supplier.
Copy 2 is sent to the receiving bay of the warehouse.
Copy 3 is filed as mentioned above.
under U.S. or applicable copyright law.
Once they have delivered the goods, the supplier’s delivery personnel hand the delivery note to Mr
Swart. He scrutinises the note for the reference number of the purchase order, which he enters into the
computer. Once the computer has generated an on-screen goods received note (GRN) with standing
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data of the order, Mr Swart scans all the boxes received from the supplier, whereupon the computer
automatically indicates any outstanding items, which are indicated as ‘not received’ on the electronic
purchase order. Mr Swart also writes ‘not received’ next to the relevant items on the supplier’s delivery
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note. If any items scanned do not match the purchase order, the computer raises a warning and Mr
Swart does not accept these items. As an additional check, Ms Stumke assists Mr Swart in checking a
sample of the boxes scanned in order to perform a quality check and to ensure agreement between the
description on the box and its contents. Ms Stumke also has access to the inventory system and can
generate a GRN if necessary (e.g. if Mr Swart were off sick).
Mr Swart is also responsible for distributing goods received notes to the relevant departments:
Copy 1 is sent to the receiving bay.
Copy 2 accompanies the goods during transfer to the warehouse.
Copy 3 is sent to the accounting department.
Copy 4 is sent to the procurement department.
Recording of purchase
Mr Louw is responsible for reviewing the recording process of purchases in the purchases journal after
it has been generated electronically by the computer. The computer application implements the
recording of a purchase based on the purchase order and goods received note generated electronically
once Mr Swart and Ms Stumke have scanned in the goods received.
The computer application automatically uses quantities on the system-stored GRN and the price per
unit entered by Mr Louw (obtained from supplier-approved price lists) in order to record final prices in
the purchase journal. Nobody checks the values entered by Mr Louw, as they feel he is intelligent and
would notice any error.
Mr Louw reviews the electronic recording of the purchase and the corresponding liability (creditor), and
ensures that the computer system matches the following documents:
The purchase order
The delivery note from the supplier, which has been scanned in
The goods received note
An invoice from the supplier, which has been scanned in
Payment preparation
Mr Vosi, the accounts payable clerk responsible for payment preparation, files all statements received
from suppliers in a pending file, which task he leaves until the end of the month, if possible, or
otherwise until he finds himself with time on his hands. Mr Vosi then performs a creditors reconciliation
on-screen, where he enters the balance outstanding, as per the supplier’s statement, into the
computerised system, where it is compared to the supplier’s balance as per the computerised
masterfile. Mr Vosi follows up manually on reconciling the items.
He is aware that most of the time AFD forfeits the discount that they would have received had they paid
within 30 days, but has explained that he is struggling with the work overload, and believes the problem
will be resolved in the future.
under U.S. or applicable copyright law.
Mr Vosi then accesses the supplier payment module on the computer in order to create the payment.
He manually types in the name of the supplier that needs to be paid, based on the creditors statements
received. The computer subtracts this amount from the creditors reconciliation saved in the masterfile,
whereupon it automatically creates a remittance advice for each supplier needing to be paid.
Ms Barnard (senior bookkeeper), who obtains all the relevant documentation received from Mr Vosi,
performs the necessary checks. She then accesses the suppliers payment module on the computer
system with her own password and indicates that the supplier is ready for payment.
Mr Vosi then prints the payment schedule, attaches the supplier’s statements and reconciliation, as well
as the relevant goods received note, the supplier invoice, the supplier delivery note and the purchase
order for each purchase, making up the balance represented for payment.
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Paying the supplier
Mrs Botha (financial manager) receives the relevant documentation from Ms Barnard once the latter
has created the ready-for-payment notice. Mrs Botha then reviews the relevant documentation of the
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payment that needs to be made. If she agrees with it, she logs onto AFD’s bank account using her
username and password and creates an ad hoc payment. She then manually types in the details of the
supplier, the supplier’s bank account details and the amount that needs to be transferred, and clicks on
‘pay’.
REQUIRED
Identify and explain the weaknesses in the above purchases system. For each weakness identified, you should also
recommend improvements to be implemented by Africa Flight Delight. Your report should address computerised
controls only. Provide your solution using the following tabular format:
[23]
Question 9 LEVEL 2
Weaknesses and recommendations
[23 marks]
Mystic Falls Beverages (Pty) Ltd (Mystic Falls) is a distributor of a popular beverage, ‘O’ Positive. It purchases its
beverages from a supplier called Pure Inc. and various other local manufacturers, and thereafter distributes the
beverages throughout South Africa. It is the only supplier in South Africa of ‘O’ Positive.
Mystic Falls has an office and warehouse in Saldanha, Western Cape. The beverages are shipped by sea and
delivered in South Africa at the port of Saldanha. The beverages are then brought to the warehouse by Cape
Winelands Transport where they are stored until they are sold to customers in South Africa. Mystic Falls is a
cash-only business and does not provide any credit.
Mystic Falls has been in existence for the last three years servicing its numerous customers, but has had no
formal control processes in place and has therefore been avoiding the external auditors. The chief executive officer,
Damian Salvatore, has decided to legitimise the business and get control processes in place before the external
auditors arrive at year-end, 31 March 20X1. Because Mystic Falls does not have any control processes in place, you
were approached to provide consulting services.
As you were required to assess all the control processes in Mystic Falls, you decided to start off with the
under U.S. or applicable copyright law.
You had a meeting with the chief operating officer, Steve Salvatore, the brother of the CEO, and jotted down the
following notes of the purchases process:
Owing to the long lead times to receive inventory, Bonita Bennett, the administration clerk, places an order via
telephone to Pure Inc. to purchase the inventory. This is based on the amount of inventory Mystic Falls will
require to service its customers for at least six months.
The quantity that Bonita Bennett orders is based on her instruction from the Salvatore brothers.
Once the beverages arrive and are delivered to the warehouse, the goods are counted by Jim Gilbert, the
warehouse clerk, and stored in the warehouse until they are sold.
After Jim Gilbert stores the beverages, he takes the documents he receives to Marc Donovan to update the
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inventory management spreadsheet that he created in Excel to manage the entire inventory.
Customers place orders for beverages with Carol Forbes. After receiving an order, she calls Jim Gilbert and
instructs him to send Mystic Falls’s driver to deliver the beverages to the customer.
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As soon as the driver leaves the warehouse to deliver the beverages, Jim Gilbert calls Marc Donovan to update the
inventory management spreadsheet with the quantity of beverages that has left the warehouse.
After your meeting, you went to your temporary office in Saldanha and analysed the situation. You are aware that
the company’s only assets are the inventory and cash in the safe, as the Salvatore brothers do not have confidence in
the South African banking system. All premises in Saldanha are leased and Pure Inc. is not a creditor as debt is
settled to a trust, the Original Family Trust, once inventory arrives at the Mystic Falls premises.
REQUIRED
1. Identify the weaknesses in the purchases process based on the scenario above. (8)
2. For each weakness identified, recommend an improvement(s) to address the identified weakness. (15)
[23]
Question 10 LEVEL 2
Recommendations
[12 marks]
Your audit client, Universal Ltd (Universal), deals mainly in the retailing of electronic equipment sourced from
various local and international suppliers. The company owns a central warehouse in Gauteng, from which it
distributes its products to its stores around South Africa.
REQUIRED
Recommend improvements to the current receiving of goods function of Universal at its central warehouse.
under U.S. or applicable copyright law.
[12]
Question 11 LEVEL 2
Key controls and assertions
[6 marks]
Dexford Ltd (Dexford), a paper-manufacturing client based in the Western Cape, has established a division
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publishing magazines and textbooks. One of the current projects on which it is embarking is the publication of an
educational magazine on auditing. Because your audit firm has been engaged in Dexford’s audit for the past three
years, the editor in the publishing division has requested assistance in evaluating a case scenario based on the system
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implemented in his division. You may assume that there is no independence issue that might arise from your
participation.
A reputable academic in the field of auditing has supplied the editor with the following definition of key internal
controls: they provide reasonable assurance that material misstatements in the financial statements will be prevented,
or detected and corrected, and respond to risks that could result in misstatements in the financial statements that are
considered material.
Case study
Management style
The division’s management is of the opinion that its recruitment process is of such a high standard that
the staff it employs are responsible, which ensures that the company does not have to supervise and
police them. The purchases and inventory system is open for all staff to access; as a result, all staff can
add and delete masterfile and transaction data.
On a weekly basis, the buyer prints a report that lists deliveries and ordered goods, and follows up on any
long-outstanding orders.
The accounts payable clerk keeps a file containing all the GRNs received from the warehouse, in
numerical order. Upon receipt of the supplier invoices, the invoices are matched to the corresponding
GRN and recorded in the purchases journal, whereafter they are automatically recorded in the creditors
ledger, the inventory system and respective general ledger accounts by the system. The senior
accountant regularly reviews the GRN file for overdue GRNs for which invoices have not been received
and follows up on them.
REQUIRED
under U.S. or applicable copyright law.
Identify and discuss the key internal controls, taking into account the information above, which the auditor can rely
on in order to meet the assertions. Ignore those internal controls that are important for management only. Your
answer should be presented in such a manner that the key internal controls are discussed per purchase assertion.
[6]
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1. Only genuine purchases are recorded. (Occurrence) (1)
Goods received notes are prepared based on actual inventory delivered. (1)
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Notes:
The first thing you had to determine was the assertions relating to the purchases, thus the transaction assertions.
In addition, you had to deal only with key internal controls, and a hint was given in the required stating that you
had to ignore those internal controls that are important for management only.
If the required asks you to present your answer in a specific format, present your answer accordingly. In this
instance, you had to present your answer according to the assertions.
Question 12 LEVEL 2
Key controls and control objectives
[16 marks]
The following is a description of the purchase system in use at Funky Toys (Pty) Ltd:
REQUIRED
Prepare a report, addressed to the audit manager, with reference to the above description of Funky Toys, in which
you report on the following matters: (1)
1. Identify, by stating the appropriate reference number, the key controls you want to rely on to obtain audit
evidence about the validity, accuracy and completeness of purchases; and (7)
2. State the control objective being addressed by each key control. (7)
under U.S. or applicable copyright law.
[16]
Question 13 LEVEL 3
Key controls and tests of controls
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[30 marks]
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You are the auditor of Plumb Supplies (Pty) Ltd, a company that manufactures a wide range of plumbing supplies
for household and commercial purposes. The manufacturing plant is located in Epping and has a December
year-end.
The following extract from the purchases and payments cycle was obtained through discussions held with the
inventory controller, chief buyer and chief financial officer:
Extract
Ordering of goods
When an employee identifies that the inventory used by his/her team is running low, he/she completes a
requisition on the company’s intranet from the computer located in the breakroom. The requisition is
stored on a requisition pending file. An email notification of the requisition is sent to the employee’s
manager. The manager logs onto the inventory system by using his unique user ID and password and
identifies whether or not the inventory levels are low. He has read-only access to the inventory file. He
inspects the existing process costing schedules to identify if the company requires the item of inventory
being requisitioned in order to fulfil orders for the next three months. If he identifies that a need does exist,
he digitally authorises the requisition and it is moved to an approved requisition file.
A notification of the approved requisition is sent to a buyer in the buying department who logs onto the
system and inspects the approved requisition. The buyer contacts three suppliers on the approved
supplier list for quotes and requests them to email the quotes to [email protected]. Once the
three quotes are emailed to the buyer, he scans them and loads them onto the buyers system. He
inspects the quotes and determines the one which best meets the company’s need. He completes an
electronic purchase order on the buying system which is sent to the chief buyer for approval. The chief
buyer logs onto the system and inspects the purchase order. He compares it with the three scanned
quotes and approved electronic requisition, and once he is satisfied, he digitally authorises the purchase.
The buyer receives an email notification that the chief buyer has approved the purchase order and that
the order can be placed by the buyer with the supplier via email.
Receiving of goods
The goods are delivered to the goods receiving area of the warehouse. On arrival of the goods at the
warehouse, the goods receiving clerk asks the driver for the company name and purchase order number.
He logs onto the system with his mobile tablet computer by using his unique user ID and password. He
has read-only access to the purchase order. He pulls the purchase order up on the mobile tablet
computer and proceeds to receive the goods being delivered.
Once the goods are offloaded, the goods receiving clerk counts the goods and inspects them to see if
they are damaged and if they agree with the purchase order.
The goods receiving clerk prepares a delivery note on his mobile tablet computer and both he and the
under U.S. or applicable copyright law.
driver sign it. Once the delivery note is signed, a notification is sent to the credit clerk stating that the
goods have been delivered. The email address to which the buyer sent the purchase order is immediately
emailed with a copy of the goods receiving note.
The goods are moved from the receiving area to the storage section of the warehouse. A transfer request
is signed by the goods receiving clerk and the warehouse clerk on the goods receiving clerk’s tablet after
they have both counted the items being transferred.
Once the goods are stored in the warehouse, the manager who requested the inventory is informed by
the warehouse clerk that the inventory is available and can be collected. The goods are transferred to
production after the manager requesting the goods and the warehouse clerk count the goods and sign the
transfer request on the warehouse clerk’s mobile tablet device.
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Recording of creditors
Once the creditors clerk receives an email notification that the goods have been received, he/she logs
onto the system to view the goods received note. He/she has read-only access to the inventory system.
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He/she compares the goods received note, the approved purchase order, the approved requisition and
the invoice for any inconsistencies and signs the invoice as proof that he/she has compared the
documents. The creditors clerk re-performs the calculation on the invoice and initials the invoice prior to
recording the purchase on the system.
Where the detail on the invoice is different to the detail recorded on the goods received note, the client is
contacted via email to find out why the difference arose. If the client is adamant that the invoice is correct,
the difference is placed on the creditor reconciliation as a reconciling difference.
The purchase is recorded on the system by the creditors clerk and reviewed by the financial accountant,
who digitally authorises the process.
Payment of creditors
The creditors clerk performs a monthly creditors reconciliation.
The creditors reconciliation and the invoices to be paid are handed to the accountant for review. The
accountant inspects the invoices and re-performs the logic of the reconciliation and signs the
reconciliation as proof of the checks that he performed.
The company has a policy of only making payments to suppliers via electronic funds transfer.
The financial accountant loads all suppliers that the company has had dealings with for more than three
months as approved beneficiaries on the company’s bank account. The chief financial officer reviews the
bank details of all beneficiaries that the financial accountant has loaded onto the company’s electronic
funds transfer (EFT) account by inspecting the documentation (e.g. original bank letter) used by the
financial accountant.
Once she approves of the details, they are stored on the company’s EFT account. She files a report on a
weekly basis, which she signs, indicating all new beneficiaries.
The financial accountant loads all of the payments on the company’s bank account. The chief financial
officer reviews and approves the payment after she checks a sample of the documentation (e.g. creditor’s
reconciliation and invoices). She signs off the documentation she has reviewed.
She hands all of the supporting documents back to the creditors clerk for filing purposes.
REQUIRED
Identify the key internal controls for the purchases and payments cycle included in the above system description and
design the appropriate audit tests to determine whether or not the control is functioning as indicated by management.
[30]
under U.S. or applicable copyright law.
Question 14 LEVEL 2
Tests of controls
[17 marks]
You have been the external auditor of Olympus (Pty) Ltd (Olympus), manufacturers of Greek statues, since the
incorporation of the company five years ago. The company’s year-end is 30 September. The company’s purchases
and payments system operates as follows:
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DEPARTMENT PERSON OPERATIONS
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Production area; Production Once he has determined what raw materials (or products) are
purchases foreman; needed, the production foreman prepares a pre-numbered
department purchases purchase requisition. When approved, the requisition is sent to
clerk; the purchases department, where a purchases clerk prepares a
purchases pre-numbered purchase order in triplicate. The purchases
manager manager sequence checks the order before signing it. The top
copy is sent to the receiving department, while the third copy is
filed with the requisition.
The purchases clerk, who is responsible for checking the
invoices, agrees the prices and terms to the original order, and
confirms the quantities against the GRN. He checks the
calculations and additions on the invoice, whereupon he initials
the invoice, which is sent to the payments department.
Receiving Receiving Once the raw materials have been received, the receiving clerk
department clerk checks the purchase order and the quality of the goods
delivered, and compares the details of the order against the
physical inventory. Thereafter, he prepares a pre-numbered
GRN in duplicate. He also signs the GRN, one copy of which is
sent with the goods to the storeman, while the other is returned
to the purchases department.
Mail room Clerk On receipt of the invoice, the mail room clerk sends it directly to
the purchases clerk in the purchases department.
Payments Purchases The invoice is recorded by the clerk in the purchases journal
department clerk; and filed according to the due date, at which time the
accountant; accountant issues a number of pre-numbered blank cheques,
financial as required, to the payments department.
director
When the cheques have been made out, the related invoices
are stamped as having been paid and are handed, together
with the cheques, to the accountant, who checks the sequence
of the cheques as well as whether all invoices have been
marked ‘paid’. A cheque-signing machine then signs the
cheques in the presence of the financial director.
Accounting Clerk The cheques are handed to the accounting department, where
department the clerk records them in the payments journal. Thereafter, they
are sent back to the payments department, where the payment
date and the cheque number are recorded in the purchases
journal next to the entry of the relevant invoice.
under U.S. or applicable copyright law.
REQUIRED
Formulate the tests of controls that you will perform relating to the purchases and payments system for raw materials
and/or goods.
[17]
Question 15 LEVEL 2
Test of controls and control objectives
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[13 marks]
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Pinefresh (Pty) Ltd (Pinefresh) is a large wholesaler of commercial and household cleaning products. The company
is audited by GPT Inc., which is currently planning the audit of Pinefresh’s 20X1 financial year.
Below is an extract from a system description prepared and updated by a GPT Inc. staff member. It pertains to
the purchases cycle at Pinefresh. All key controls are in bold.
Extract
When goods are received from suppliers at Pinefresh’s central warehouse, the receiving clerk on duty
prepares a goods received note (GRN) regarding the quantity, description and quality of items received.
The GRN is made out sequentially and in multiple copies, one of which is sent to the accounting
department together with a copy of the supplier’s delivery note.
On a regular basis, a bookkeeper in the accounting department records purchases in the purchases
journal from the details contained on the GRN. On a weekly basis, the assistant accounting manager
(AAM) reviews the purchases journal to:
check the sequence of the GRNs and to follow up on missing numbers
ensure a purchase order exists for the purchase entry
perform a check on a sample of purchase entries by comparing the recorded details to the supporting
GRN and supplier delivery note.
Upon finalisation of the above review, the AAM signs the purchases journal below the last purchase entry
reviewed.
At the end of each month, the bookkeeper posts the totals in the purchases journal to the general ledger
account for creditors and purchases. The bookkeeper also performs a reconciliation between the total
balances as per the creditors ledger and the creditors control account in the general ledger. The AAM
reviews the reconciliation and signs it as evidence of the review having taken place. According to the
AAM, he signed only 10 of the 12 reconciliations during the 20X1 financial year, even though he reviewed
them all.
For each supplier in the creditors ledger, a second bookkeeper performs a supplier statement
reconciliation between the statement from the supplier and the balance owing as per the creditors ledger.
Each reconciliation is then signed by the AAM as evidence of his having agreed the respective balances
to the statement and creditors ledger and having scrutinised the statement for any unusual items.
REQUIRED
For each key control in the scenario (bold), formulate the audit procedure the auditor should perform to test the
control. For each test of control, also state the control objective(s) being addressed by the procedure.
[13]
under U.S. or applicable copyright law.
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INTRODUCTION
Refer to the guidance and the example questions contained in Chapter 6, as the principles and the approach remain
the same.
QUESTIONS
Question 1 LEVEL 1
Purpose and control objectives
[11 marks]
Bicyclycy (Pty) Ltd (Bicyclycy), a company that manufactures mountain bikes, stores parts (chains, wheels, etc.)
ordered from different suppliers in the raw material warehouse. The assembly factory requests parts from the raw
under U.S. or applicable copyright law.
material warehouse as and when needed. Assembled mountain bikes are transferred in batches of 20 from the factory
to the finished goods warehouse.
REQUIRED
1. Discuss the purpose of the inventory and production cycle. (2)
2. List and discuss the control objectives of Bicyclycy’s inventory and production cycle. (9)
[11]
Question 2
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Question 2 LEVEL 2
Control objectives
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[8 marks]
Below is a list of controls that could be implemented by the management of various businesses to design a system of
internal control in the production and inventory cycle:
1. Counters should have clear instructions to keep obsolete, damaged or slow-moving inventory separately.
2. Branch managers must place an order at the central inventory warehouse by making use of a pre-printed standard
order form.
3. With dispatch, the security guard must compare the items being sent with the information according to the
delivery note and should not allow any items that do not appear on the documentation to leave the premises.
4. The staff’s personal belongings must be examined when they leave the premises.
5. Logs are kept for all changes to the inventory masterfile.
6. The warehouse reviewer and the branch managers, respectively, must review the number sequence of order and
delivery documents and follow up on missing numbers.
7. Suppliers should be informed that an inventory count is taking place on that specific day and, where possible,
goods should not be delivered that day.
8. When the branch manager receives the goods, he/she must compare the quality and quantity of the items with the
delivery note and order form, and initial/sign as proof of duty performed.
9. The storeroom must only have one entrance. Any doors or windows on the outside must have security gates/be
closed with iron bars.
10. A price masterfile should be created on which the current sales price of each inventory item is stored (per
inventory code).
REQUIRED
For each of the internal controls stated above, list the main control objective achieved by each.
[8]
Question 3 LEVEL 2
Functional areas
[10 marks]
Maiza (Pty) Ltd (Maiza), a South African company that buys maize from farmers, stores the cereal in silos before it
is transferred to the mill. Mr Grain is responsible for determining how much maize needs to be bought from farmers,
under U.S. or applicable copyright law.
as well as when maize has to be milled and the quantities involved in each operation. Once the maize has been
processed, the meal is poured into bags, which are then transferred to the warehouse, where they are stored awaiting
transportation to Maiza’s customers.
REQUIRED
1. List the six functional areas of Maiza’s inventory and production cycle. (5)
2. For each functional area listed, describe how it is applied at Maiza. (5)
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Question 4 LEVEL 2
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Weaknesses
[13 marks]
Candlelight (Pty) Ltd (Candlelight), which has a 30 June year-end, asked you, as an external consultant, to review
the company’s year-end inventory count procedures.
REQUIRED
Identify the weaknesses in internal controls of the inventory count evident from the notes that you made.
[13]
under U.S. or applicable copyright law.
Question 5 LEVEL 2
Risks
[10 marks]
Stallion (Pty) Ltd (Stallion), a company manufacturing catalytic convertors for an international motor vehicle
company, has its factory in Cape Town. Once the convertors have been manufactured, they are shipped
free-on-board from Cape Town to the US.
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The two key components of the cost of the convertors are:
1. the steel, the price of which fluctuates weekly
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2. labour (there has been labour unrest in the motor manufacturing sector over the last few years, which has put
pressure on the industry).
Inventory is held until a shipping container has been filled, which is done under the terms of Stallion’s agreement
with its American customer in order to keep their transportation costs down. However, the customer charges
warehouse rental for the storage and security of the goods up until the convertors are loaded onto the ship.
REQUIRED
With reference to the information provided:
1. list all possible risks that Stallion could face with regard to the manufacture and sale of convertors to its foreign
customer (7)
2. list all possible risks that the foreign customer could face with regard to the purchase of convertors from Stallion.
(3)
[10]
Question 6 LEVEL 2
Weaknesses and risks
[8 marks]
Flower Power (Pty) Ltd (Flower Power), a wholesale company based in Cape Town that sells artificial flowers and
arrangements to companies, buys its raw materials in bulk. Owing to staff shortages, the company’s procurement
process currently has a backlog of three months. Orders are placed without supporting documents when the
procurement clerk contacts suppliers telephonically for orders below R100 000. In terms of Flower Power’s
procurement policy, the procurement clerk is allowed to contact a single supplier.
Goods are delivered to Flower Power’s central warehouse, which has a secure receiving area. Once they have
been offloaded, they are left in a demarcated area until a purchase order has been loaded by the procurement clerk.
This allows the goods to be loaded onto the inventory management system by the warehouse manager.
Flower Power has increased its standing in the market as a result of the competitive prices it pays to suppliers,
which allow them to sell their manufactured goods at attractive prices. As the company aims to be the leader in the
market, it would like to tighten up all its internal controls.
REQUIRED
1. Identify the internal control weaknesses evident from the information provided above. (6)
2. With reference to the weaknesses identified, describe the risk of material misstatement for the accuracy, valuation
and allocation assertion of inventory. (2)
under U.S. or applicable copyright law.
[8]
Question 7 LEVEL 2
Weaknesses and recommendations
[15 marks]
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You are the auditor of Renewable Energy (Pty) Ltd (RE). RE is a manufacturer of renewable energy products such
as solar products and heat pumps. Management has asked you to review the system of internal control. While doing
walk-through testing, you compiled the following system description:
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1. The sales director informs the production manager on a Friday afternoon of which products sold well during the
previous week. Based on this, the production manager allocates responsibilities to the production department.
2. The raw materials used to produce the products are kept in the raw materials warehouse. The raw materials
warehouse has a head storeman and two other storemen working there. Whenever raw materials are needed for
production, the production foreman requests the items with verbal or written authorisation.
3. No perpetual inventory records are kept, but monthly inventory counts are done. You attended one of the
inventory counts and were satisfied with the controls surrounding the inventory count.
4. A re-order level has been set for each product. The head storeman of the raw materials warehouse compares the
inventory count sheets with the re-order levels. If the inventory according to the count is less than the re-order
levels, then a pre-numbered purchase requisition is prepared by one of the storemen and signed by the head
storeman and then sent to the purchases department.
REQUIRED
List the shortcomings in the system of internal control and make recommendations to improve the purchase, receipt,
storage and issue of raw materials.
Weaknesses Recommendations
[15]
Question 8 LEVEL 2
Weaknesses and recommendations
[13 marks]
Candlelight (Pty) Ltd (Candlelight) will be conducting a year-end inventory count for the first time. The company
has brought you in as an external consultant to review its year-end inventory count procedures. Candlelight has a 28
February year-end.
Planning meeting
During the month of February, before year-end, Candlelight’s inventory management team had a planning meeting
under U.S. or applicable copyright law.
for the year-end inventory count. The following is discussed during the planning meeting:
When the count will take place
The staff that will be performing the counts
Who will be the inventory controller
The stationery required for the day of the count
Candlelight has a large warehouse in terms of floor space, and it has a large quantity of inventory. As a result, only
the high value items are selected to be counted, which constitute 80% of the total inventory balance.
Inventory count
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The inventory count takes place on 1 March. On the day, inventory is still being dispatched out for deliveries to
customers and deliveries are being accepted from suppliers.
The inventory count controller issues the three count teams (made up of two members each) with count sheets on
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the selected inventory to be counted. Each team counts the selected inventory twice. Each team member gets a
chance to count the inventory while the other team member does the recording.
The count sheets are designed to allow for both counts to be counted on the same sheet so that the count can be
better controlled. All inventories are tagged as evidence of their having been counted by the count teams. After the
count is completed by the team, the inventory count controller sends the count sheets to the inventory administration
clerk to capture and compare to the inventory system. If variances are found, the team is notified of the variances
and is sent back to recount the inventory items.
REQUIRED
1. Identify the weaknesses in the internal controls for the inventory count. (4)
2. Recommend improvements to the internal controls for the inventory count procedures. (9)
[13]
Question 9 LEVEL 2
Recommendations
[21 marks]
Glister Ltd (Glister), a company manufacturing gold and diamond jewellery for retail stores, has a standard
catalogue from which such stores can order jewellery. Appointed as the internal auditor of Glister, you have been
assigned the responsibility of reviewing the company’s internal controls over the order, receipt, storage and issue of
gold and diamonds (raw materials only). You have received the following notes on the current system:
Because inventory levels are low, no perpetual inventory records are kept, and the staff do not keep records of gold
and diamonds received or issued. A monthly physical inventory count is carried out in order to compensate for this.
Procedures for this count are effective and reliable.
After the physical count, the store supervisor compares quantities counted against a predetermined order level. If
under U.S. or applicable copyright law.
the count for a given item is below that level, the supervisor enters the inventory code on a pre-numbered requisition
list, which he then sends to the accounts payable clerk, who prepares a purchase order for a pre-determined order
quantity for each item before emailing the purchase order to the supplier from whom the item was last acquired.
When gold and diamonds ordered are delivered, they are received at the store by any available staff member.
They then count the gold and diamonds and agree the quantity to the supplier’s delivery note, which is initialled,
dated and filed in the store in case of a dispute.
REQUIRED
Make recommendations in order to mitigate the weaknesses in the ordering, receiving, storage and issuing of gold
and diamonds (raw material only). Do not list the weaknesses.
[21]
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SUGGESTED SOLUTION TO QUESTION 9
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1. Ordering
a) The pre-determined order levels should be reviewed regularly by a senior staff member so that no under- or
overordering takes place. (1)
b) Prior to requisitions being made, store or production staff should confirm that the inventory (gold or diamonds)
is really needed. (1)
c) A buying function should be established in order to ensure that inventory of the highest quality, and at the best
prices, is ordered. (1)
d) The company should have an approved suppliers list to which the buyer should refer when ordering. (1)
e) Even when ordering from an approved supplier, the buyer should contact the supplier in order to confirm
availability and delivery dates. (1)
f) All requisition lists and purchase orders should be authorised by a senior staff member. (1)
g) Before the order is placed, a supervisor or senior buyer should:
i) compare the order to the requisition list for accuracy and authorisation (1)
ii) review the order for suitability of supplier, reasonableness of price, quantity and the nature of the goods on
order. (1)
h) The ordering department should file the requisition lists sequentially and review frequently the files for
requisitions that have not been cross-referenced to an order. (1)
i) A copy of the order should be filed sequentially, checked and frequently cross-referenced to goods received
notes in order to confirm that either:
i) goods ordered have not yet been received; or
ii) the pending file of orders in the receiving area have been reviewed for long-outstanding orders. (1)
2. Receiving
a) One of the stores staff (receiving clerk) should be given the task of:
i) confirming inventory received. (1)
ii) preparing a goods received note based on the actual goods received as indicated on the delivery note. (1)
He/she should not be involved in any recording functions. (1)
b) The receiving of goods should be designated to a goods receiving section that should be physically secure and
have proper access controls. (1)
c) A copy of the purchase order should be sent to the goods receiving section so that it can confirm that goods
received have in fact been ordered before receiving the goods. (1)
d) When receiving goods, the receiving clerk should inspect their quality and compare the quantity and the
description of the goods to the delivery note. (1)
e) Suppliers’ delivery notes and GRNs should be forwarded to the creditors clerk as evidence that inventory being
paid for has been received. (1)
f) On the transference of the goods to the store, the stores clerk should compare the physical goods to the goods
received note, acknowledging receipt by signing the GRN. (1)
3. Storage
a) Perpetual inventory records should be maintained so that physical counts can be compared to the theoretical
under U.S. or applicable copyright law.
records. (1)
b) Receipts and issues of inventory should be entered into these inventory records. (1)
c) Inventory counts should be carried out frequently by the stores staff, together with an independent person;
shortages and surpluses should be reported to, and investigated by, management. Inventory cards should then
be adjusted accordingly. (1)
d) One of the stores staff (or an independent staff member) should be given the task of maintaining the perpetual
inventory, and should have no responsibility for either the receiving or the counting of inventory. (1)
4. Issues
a) No issues should be made without a written issue note authorised by one of the production foremen. (1)
b) A copy of each issue note should be forwarded to the costing or accounting department for production records.
5. General (1)
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5.
a) Purchase orders and issue notes should be pre-numbered. (1)
b) The sequence of all purchase orders and issue notes should be accounted for. (1)
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Notes:
The starting point for answering a recommendation question, in which the weaknesses are not required, is first to
identify the weaknesses (but you do not have to include them in your answer) and then to formulate
recommendations to address the identified weaknesses.
An important aspect is the way in which a recommendation is formulated. You will see that each of the
recommendations listed above contain the word ‘should’.
Question 10 LEVEL 2
Key controls
[4 marks]
You are the audit senior on the audit of Canfruta Ltd (Canfruta), a company that cans fresh fruit bought directly from
farmers. The company distributes the cans to numerous retail shops across South Africa.
A first-year articles clerk has summarised the controls over inventory at Canfruta, but is unsure which controls are
key and which are not. Below is an extract from the summarised controls:
Extract
CONTROL
1 All access to the computerised inventory system is controlled with unique user ID codes and
passwords.
2 All inventory documents (manual or computerised) are pre-numbered.
3 Canfruta has a 24-hour call centre, which handles queries relating only to when orders can be
expected to be delivered, available to its customers.
4 All inventory items are counted monthly and the actual quantity at hand is compared to the quantity
per the perpetual inventory records. Any discrepancies are followed up and corrected, if necessary.
5 All amendments resulting from the inventory count (refer to control 4) are filled out on an inventory
amendment form authorised by the warehouse manager before being captured by an independent
under U.S. or applicable copyright law.
administrative clerk. All amendments to the inventory file are followed up by the inventory
warehouse manager.
6 Canfruta’s delivery system determines the most cost-effective route for each delivery.
7 When information is captured onto the inventory system, appropriate edit checks are performed on
the data being captured.
REQUIRED
Identify five key controls from the summarised list provided above.
[4]
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Question 11 LEVEL 3
Purpose and tests of controls
[25 marks]
You are the senior auditor on the audit of Utensils (Pty) Ltd, a mining company that manufactures a wide range of
eating utensils. The company is located in Durban and has a December financial year-end.
During the planning phase of the audit, the following internal control questionnaire was used to gain a better
understanding of the internal controls in place at the client:
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assumptions used, and sign the
calculation off as evidence that I have
inspected the accuracy thereof.
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REQUIRED
For each internal control documented above, list the purpose of the control (mentioned in the response column) and
describe the test of control that you would perform to determine if the control is working as intended by
management.
[25]
Question 12 LEVEL 3
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Tests of controls
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[20 marks]
You are the audit manager responsible for the audit of Dreamwedding Ltd (Dreamwedding), a company founded by
wedding co-ordinator, Jane Love, when she realised that South Africa did not have a one-stop shop to assist brides
and grooms in planning and organising their dream weddings.
One of the audit team members has prepared the following list of controls that the company has implemented:
Working Paper P2
REQUIRED
Describe a maximum of two tests of control you would perform in order to test the operating effectiveness of each of
the controls identified in Working Paper P2.
[20]
Question 13 LEVEL 3
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Control objectives, key controls and tests of controls
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[24 marks]
You are an audit manager assigned the responsibility of evaluating the inventory system of MasterCake (Pty) Ltd
(MC), a company that bakes and distributes biscuits in the Gauteng region. You have received the following
document from the company’s internal audit department listing some of its inventory controls:
CONTROL
1 Fixed re-order levels are set for all inventory. The warehouse manager reviews these levels
regularly.
2 Before the ordering department places any orders, it confirms that they are goods (flour, eggs, etc.)
generally used by MC.
3 The buying department obtains two quotations from authorised suppliers before any order is placed.
4 The ordering department files requisitions sequentially and frequently reviews the file for
requisitions that have not been cross-referenced to an order.
5 Computerised perpetual inventory records are maintained.
6 No issuing of inventory from the warehouse to the bakery takes place without an authorised issue
note, all of which are filed numerically in the warehouse.
7 All documents utilised in the inventory system (such as purchase orders and issue notes) are
pre-numbered. The computerised system generates a weekly report of any missing or duplicate
numbers. This report is followed up by the head accountant on a weekly basis, signed as proof of
his having performed the control and filed according to date.
8 Whenever an employee performs a control procedure on a document (e.g. compares quantities on
the delivery note to the actual quantity), the employee responsible for the control signs the relevant
document.
REQUIRED
1. For each control mentioned above, list and explain the control objectives MC’s management is attempting to
achieve. (15)
2. Indicate for each of the controls listed above whether it is a key control. Provide an explanation for each of your
answers. (6)
3. Describe two tests of controls that the audit team could perform on each of the key controls identified above. (3)
[24]
under U.S. or applicable copyright law.
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INTRODUCTION
Refer to the guidance and example questions contained in Chapter 6, as the principles and the approach remain the
same.
QUESTIONS
Question 1 LEVEL 1
Risks
[15 marks]
After months of deliberation, you have decided to start an auditing practice with two friends with whom you studied
at university, after which each of you completed your training contracts at different audit firms in South Africa. All
under U.S. or applicable copyright law.
of you are chartered accountants who have recently registered as auditors with the Independent Regulatory Board of
Auditors. Your new firm’s first assignment involves assisting a non-audit client with the design of an internal
control system for their human resources cycle. You have decided the best approach is to identify the risks in this
cycle and thereafter to develop internal controls in order to mitigate these risks.
REQUIRED
Identify the risks involved in the human resources cycle.
[15]
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SUGGESTED SOLUTION TO QUESTION 1
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1. Dishonest, lazy or incompetent workers could be employed, resulting in fraud, errors and inefficient operations
which could lead to financial losses. (1)
2. Family members could be employed, thereby disadvantaging more qualified (and/or more suitable) candidates,
resulting in inefficient operations and in effect less profit. (1)
3. Fictitious workers could be added to the payroll, resulting in the salaries account being misstated. (1)
4. Incorrect dismissal procedures might be followed, resulting in law suits which could lead to fines and penalties as
well as reputational damage. (1)
5. The company could contravene labour legislation, resulting in law suits which could lead to fines and penalties as
well as reputational damage. (1)
6. Unauthorised amendments such as salary adjustments could be made to employee records, resulting in the salaries
account being misstated. (1)
7. Details in employee records (e.g. the amount of leave taken) might be inaccurate or incomplete, resulting in
labour disputes which could cause reputational damage. (1)
8. Wage or salary payrolls might not be reconciled from the previous pay-out to the next, resulting in unauthorised
people being paid and the salaries account being misstated. (1)
9. Invalid hours might be recorded on the clock-card system and paid out, resulting in the salaries account being
misstated. (1)
10. The hours registered on the clock cards might have been inaccurately calculated and captured, resulting in the
salaries account being misstated. (1)
11. The calculation of the payroll might be incorrect (if, for example, the incorrect salary or rate per hour is
employed), resulting in the salaries account being misstated. (1)
12. Security might be lacking when cash is drawn or paid out, resulting in theft and financial losses. (1)
13. Cash could be stolen as a result of a poor segregation of duties, leading to financial losses. (1)
14. Unclaimed wages could be misappropriated, resulting in financial losses. (1)
15. Deductions from salaries might be incorrectly made, or deductions payments not made promptly, resulting in fines
and penalties and reputational damage. (1)
16. The company might not have all its employees’ permissions on file for all the non-standard deductions to be
made, resulting in labour unrest and reputational damage. (1)
17. The payroll printout might not be properly approved before payments are made, resulting in payments to fictitious
employees and subsequent misstatement of the salaries account. (1)
18. Security surrounding payroll records, which contain sensitive information, could be lacking, leading to sensitive
information being disclosed and resulting in labour unrest and reputational damage. (1)
Note:
The risks included above are generic risks, as no case study was provided. If a case study is provided, the risk will
relate to the weaknesses identified in the case study. In addition, each of the risks contains a consequence (leading to
…, resulting in …).
under U.S. or applicable copyright law.
Question 2 LEVEL 2
Risks
[23 marks]
You are the auditor of Lbw Engineers (Pty) Ltd (Lbw Engineers), a civil engineering company whose head office is
located in Cape Town. Lbw Engineers employs 1000 employees in various capacities. The following information
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was obtained during a walk-through, which you conducted, of the payroll cycle:
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The employee is required to provide the human resources officer with the following information:
A signed copy of the contract
A letter from his/her bank with bank account details
A certified copy of his/her identity document
Proof of address.
Once the employee has provided the documentation to the human resources officer, the human resources officer then
logs onto the payroll system using his/her unique user ID and password. The human resources officer proceeds to
upload the new employee’s details on the employee file.
All employees are expected to work a minimum of 40 hours per week. Employees (with the exception of
management) are permitted to work up to 10 hours of overtime per week at their own discretion. Employees have
the option either to have the overtime paid out at the end of the financial year or to have it converted into paid days
off. Each employee accumulates leave at 1.25 days per month and is entitled to 3 days compassionate leave. The
employee’s leave is carried over for a maximum of one calendar year, after which the employee will lose the days
not taken.
The company pays 50% of the employees’ medical aid contributions as well as 50% of their pension fund
contributions. Management and executives at the company qualify for a car allowance and an annual
performance-based bonus. All other employees are entitled to a 13th cheque, which is paid in December. The
employees can either have the full 13th cheque taxed in December or they can opt to have the tax deferred over the
course of the 12 months. Employees are required to sign a letter at the start of the year indicating how they want the
tax to be treated on their 13th cheque. Most employees opt to have the full amount taxed at the end of the year as
they feel that deferring the tax implications over 12 months affects what they are able to do in their personal lives on
a monthly basis.
All changes made to employee files are made by the human resources officer. The changes made are based on an
instruction received from the financial manager via email in the case of salary increases and special bonuses, and the
returned letter from the employees indicating how they would like the tax on their bonuses to be treated.
Dismissal of employees
If a manager is not happy with the performance of an employee the process followed depends on how long the
employee has worked at the company for:
If he/she has worked for three or fewer months, the manager has the power to dismiss the employee with
under U.S. or applicable copyright law.
immediate effect.
If he/she has worked for four or more months, but not exceeding one year, one weeks’ notice is required.
If he/she has worked for more than one year, two to four weeks’ notice is required, depending on the
circumstances of the dismissal.
Once the employee has been notified of the dismissal, the manager informs the human resources officer, whose duty
it is to remove the employee from the payroll register.
The human resources officer logs into the employees file and changes the employee’s status from ‘active’ to
‘terminated’ and identifies the employee’s last day of employment.
the case of compassionate and sick leave, employees are required to record the days that they were out of work on
the system within two days of being back at the office.
The system calculates the days worked for the month by deducting the approved leave recorded on the system
from the total number of days that the employee was expected to work in the month. The system then determines the
amount to be paid by dividing the gross remuneration that would have been paid if the employee worked for the full
month by the total number of normal days expected to be worked in a normal working month, and then multiplying
the answer by the actual days worked as calculated by the system.
REQUIRED
Describe the business risks affecting the payroll cycle at Lbw Engineers (Pty) Ltd.
[23]
under U.S. or applicable copyright law.
Question 3 LEVEL 2
Risk of material misstatement at assertion level
[12 marks]
You are the supervisor in charge of the audit of Victoria Falls (Pty) Ltd (Victoria Falls) for the year ended 31
December. Victoria Falls outsources its payroll services to LetsPay (Pty) Ltd (LetsPay). LetsPay is a company that
offers HR solutions to small and medium-sized companies.
LetsPay was established by two university graduate students, Bob and Rob. Both Bob and Rob are the directors
of LetsPay and are studying to become chartered accountants.
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LetsPay was established and commenced with its primary mission of offering payroll services just over a year
ago. It is therefore still establishing itself in the market. The company provides a range of payroll services, including
preparation of monthly payslips, payment of salaries and duties related to the South African Revenue Service
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(SARS), such as completion of taxation returns and payment of pay-as-you-earn (PAYE), standard income tax on
employees (SITE) and unemployment insurance fund (UIF) amounts.
As part of a job creation campaign, Bob and Rob decided to appoint mostly staff members who are part-time
accounting or marketing students still in the process of obtaining their degrees.
During your discussions with some of the staff at Victoria Falls, it became apparent that:
Victoria Falls had to pay penalties on late payments of PAYE, SITE and UIF to SARS as LetsPay did not meet
the SARS deadline payment dates
at the end of December, the staff members of Victoria Falls received a bonus pay-out, but they complained that
the taxation payable on the bonuses was calculated incorrectly
one of the members at a well-known newspaper got hold of the salaries and bonus amounts of the directors of
Victoria Falls and published these in a story on the front page
REQUIRED
1. Describe the risks of material misstatement at the assertion level relating to the salaries balance in the statement of
profit or loss and other comprehensive income for the year ended. (6)
2. For each risk described, identify the applicable assertion. (6)
A. B.
DESCRIPTION OF THE RISKS OF MATERIAL ASSERTIONS
MISSTATEMENT AT THE ASSERTION LEVEL
RELATING TO THE SALARIES BALANCE
(1 MARK EACH) (1 MARK EACH)
1.……………………………..…… .…………………………
.………
[12]
Question 4 LEVEL 2
under U.S. or applicable copyright law.
[30 marks]
You are the senior auditor for a new client, Galv-Tanks (Pty) Ltd (Galv-Tanks), a company specialising in the
installation of galvanised storage tanks built at the company’s warehouse in Blackheath. On completion, the tanks
are transported for installation by company personnel. Galv-Tanks has a December financial year-end.
The following extract of the systems description, compiled by the second-year audit trainee and based on
information obtained from Mr Tank, the owner of Galv-Tanks (who is also the chief executive officer), relates to the
payroll function of the company:
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Extract: System description – Human resources cycle
All permanent employees have contracts indicating the terms of their employment with Galv-Tanks. The
contracts are stored in a drawer by Ms Steel, the person responsible for hiring administration employees
and for all remuneration-related tasks (e.g. salaries and wages, and the Unemployment Insurance Fund
(UIF) and SARS calculations and payments) for both the salaried and the wage workers at the company.
Ms Steel matriculated two years ago and is engaged to Mr Tank’s youngest son, who also works for the
company.
Mr Tank Snr has delegated the hiring of individuals to the following people:
Ms Steel in the HR office
Mr Cooper in the warehouse
Increases
Mr Tank Snr and Mr Cooper determine the amount of each employee’s bonus, which is paid in December,
as well as the amount of the annual increase to be awarded in the first month of each new financial year.
The increased rate of pay and the annual bonuses to be paid are emailed to Ms Steel by Mr Tank Snr,
whereupon Ms Steel prints the email and uses it in order to compile a document in which she notes the
new rate of pay for each individual. She uses this document as the basis for calculating the amount to be
paid twice a month to wage employees. She prints the email and stores it in the top drawer of her desk in
order to allow for easy access.
Employees are informed of their rate increases in letters drafted by Ms Steel and signed by Mr Tank Snr.
Ms Steel places copies of these letters into her desk drawer in case an enquiry should arise.
Although she sometimes misplaces signed contracts and rate increase letters, she does have soft copies
on her computer that she can print out if an employee approaches her for one. Once she has inserted Mr
Tank Snr’s signature digitally, she has the employee sign the copy of the contract.
On Mr Cooper’s request, these temporary employees provide him with a copy of their ID documents, or
their passports if they not South Africans, all of which Mr Cooper stores in his desk drawer. Normally he
does not have time to draft their contracts until the conclusion of their employment periods. They are not
expected to provide utility bills in order to prove where they live, as payments are not deposited into their
bank accounts, but made in cash directly to the employees themselves.
under U.S. or applicable copyright law.
Dismissal of employees
If an employee transgresses, it is documented in his/her employee file. If the transgression is deemed not
severe enough to warrant immediate dismissal, he/she is given a written warning. The company’s policy
of issuing three written warnings within a specific time period before the termination of employment results
in the worker being fired by either:
Mr Tank Snr in the case of permanent employees, or
Mr Cooper in the case of temporary employees.
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Time-keeping: Warehouse employees
All employees are expected to work from 08h00 to 16h30. The company’s clock-card machine ceased
operating in June, since when it has not been replaced. Mr Cooper considers the employees so
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trustworthy that he is content to have them record their times of arrival and departure manually on their
clock cards themselves.
In the event that a deadline needs to be met, employees are expected to work overtime, which Mr Cooper
is responsible for authorising.
The clock cards for all employees, including Mr Cooper himself, are placed at the entrance to the
warehouse by Mr Cooper and collected by him every Wednesday evening. He uses these cards in order
to perform the calculations of the total hours worked. He puts out the new clock cards every Thursday
morning.
Other information
The company has 35 permanent employees, eight salaried individuals and 27 workers who receive their
wages twice a month.
REQUIRED
Identify the weaknesses, as well as the consequences of each weakness, in the human resources cycle described
above.
[30]
Question 5 LEVEL 2
Weaknesses and risks
[38 marks]
You have been the partner in charge of the audit of Fishy Fisheries Ltd (Fishy) for the last four years. The company
has a substantial fleet of fishing trawlers and processes fish in its factories on the West Coast. You are currently
engaged in the March 20X1 year-end audit of Fishy, and have been presented with the following system description,
prepared by your audit team.
account using one of the terminals situated in the accounting department. Every week, R5 is deducted from each
worker’s wage for the end-of-year staff party.
Each Monday, it being the start of the working week, the foreman or captain hands blank clock cards to each of
the workers under his supervision. These workers write their names and employee numbers on the cards and use
them for that working week. The clocking devices are situated at the entrance to the factory. The fishermen on the
trawlers, who receive the same kind of clock cards, clock in at the harbour near where their clothing lockers are
situated. Workers clock in and out by inserting their clock cards into the clocking machine, which then records times
on the card.
The following Monday morning, the foreman or captain hands the completed clock cards to the wages clerks,
each of whom is responsible for the wages of all the workers at the factory or on the trawlers allocated to him/her.
The wages clerks add up the total number of hours worked per clock card and write the total on the relevant clock
card, all of which are then sent to head office where the clock card hours are entered into the payroll file on the
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computer by one of the clerks in the human resources section. In order to ensure completeness of processing, clock
cards are batched in groups of 25 during the capturing process. The computer calculates each worker’s gross pay,
his/her deductions and net pay by using the latest wage rates and deductions according to the information in the
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masterfile. A weekly wages report is printed and filed sequentially in the human resources department at head office.
After the human resources manager has reconciled differences between the current and the previous week’s
wages reports, and initialled the report, he prepares a cash cheque for the exact amount of the week’s net wages. The
cheque is then cashed by one of the employees in the human resources department. The computer prints pay
envelopes (each bearing a worker’s name and employee number) for all those being paid. Clerks in the human
resources department fill the pay envelopes with the cash due to each employee as per the wages report. If there is
money unaccounted for at the end, the pay envelopes are double-checked by the clerks and corrections made. The
pay envelopes are then sealed.
On Thursdays, the pay envelopes are collected by the production manager, who then drops them off at the
various factories and at the harbour. On Friday afternoons, the pay envelopes are handed to the relevant foreman or
captain for the weekly pay-out. Each foreman or captain then hands out the wages to the workers under his
supervision. Generally speaking, the foreman or captain calls the workers together and reads out the names one by
one. As soon as each employee has received his/her wages, he/she promptly heads for the factory gate.
During the course of the year, a power failure occurred at head office, which resulted in wages being paid three
days late, on the Monday instead of on the Friday. Since the workers were very unhappy about the late payment, the
accountant, Mrs Arendse, authorised an additional R10 per hour payment to each worker for that week only. In order
to do this, the assistant accountant changed the pay rate per hour by adding R10 for all workers onto the payroll
masterfile. After the payroll for that week had been finalised, the assistant accountant changed the rate back to the
normal rate per hour.
REQUIRED
Identify the weaknesses in the wages system as described and provide an explanation for each weakness. Ignore
unclaimed wages. Use the following format for your answer:
WEAKNESS EXPLANATION
[38]
Question 6 LEVEL 2
Weaknesses and recommendations
[16 marks]
Payroll-Exact (Pty) Ltd (the company) is an IT company that specialises in payroll outsourcing services. It is
under U.S. or applicable copyright law.
responsible for processing electronic payments of wages and salary payrolls, including electronic payments of
employee taxes, medical aids and retirement benefits contributions to the respective third parties.
Interested clients provide the company with a password protected csv file consisting of the client’s monthly
payroll information such as personnel details (name, surname, personnel numbers and bank account details),
monthly gross income and deductions. The company charges 10% of the total gross income as its processing fee.
Upon receipt of the csv file, the customer relationship manager (CRM) is responsible for unprotecting the file
with a unique password obtained from the shared drive. The csv file is then saved on the shared drive. The CRM
checks whether total gross income per the csv file plus the 10% processing fee has been paid to the company’s bank
account. Once completed, he prepares a schedule of the lump sum payments to be made to third parties for employee
taxes, medical aids and retirement benefits contributions. This schedule along with the csv file are sent to the finance
manager.
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The finance manager agrees the lump sum payments per the schedule to the totals noted on the client’s csv file
and makes EFT payments to the respective parties. In addition, he uploads the csv file onto their payroll software to
load and pay net income to the client’s employees. This payment run normally occurs at midnight.
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REQUIRED
Identify the weakness in controls implemented by management that caused the company to experience the
irregularities and recommend how management can improve its controls.
[16]
Question 7 LEVEL 2
Weaknesses and recommendations
[32 marks]
You are the auditor on the audit of Framing Supplies (Pty) Ltd, a company that manufactures a wide range of photo
and painting frames at their factory in Epping. The company has a December financial year-end.
Mrs Moodley, the chief executive officer, has requested that you review internal controls that are in place over
the payroll system, and to make recommendations where the company can improve.
The following has been noted during a walk-through that you performed at the company:
clock card into the system using the employee number located on the clock card. Where duplicate employee
numbers are identified, Mr Jacobus identifies an individual for whom no clock card has been submitted and allocates
one of the clock cards to the individual who he believes wrote down the incorrect employee number.
The system automatically calculates the gross remuneration of the employee by using the hours captured (by Mr
Jacobus) × rate tariff (located on the employee’s file).
The system also automatically identifies the deductions to be made from the employee’s gross remuneration and
determines the amount to be paid to the employee via electronic funds transfer at the end of each fortnight.
Once the system has determined the amount to be paid to each employee, a notification is sent to Ms Arendse,
the financial manager, notifying her that the payroll is ready to be paid. Ms Arendse proceeds to log onto the payroll
system using her unique user ID and password, and authorises the electronic funds transfer.
Changes can be made to personnel masterfiles by using the general payroll user ID and password. In the past, Mr
Jonas was the only one who was able to make these changes, using his unique user ID and password. Owing to his
retirement, it was felt that relying on one person to make these changes was inefficient. If the person was away from
the company for a week or two while on vacation, for instance, no changes could be made to the personnel
masterfile during this period.
The general payroll user ID and password only work on computers located in the payroll department.
Changes to personnel masterfiles should only be made on the basis that a payroll masterfile amendment form has
been authorised.
REQUIRED
Discuss the weaknesses identified during the walk-through and make recommendations to address the weaknesses.
[32]
Question 8 LEVEL 2
Recommendations
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[9 marks]
Glad Ltd (Glad), a manufacturer of high-end domestic appliances, was recently incorporated and will start
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manufacturing appliances at the beginning of next month. The following controls have already been implemented:
1. The manufacturing division is divided into five sections and a foreman has been appointed for each section; 120
wage employees have been appointed. The foreman reports to the factory manager.
2. A clock card system has been purchased and administrative clerks will issue clock cards.
3. The administrative clerk will collect all the clock cards. He will perform the calculations on the clock cards and
hours will be approved by the foreman. The clock cards are then handed over to the wage clerks who will prepare
the wage journal. The wage journal will be authorised by the accountant. The wage cheque will be authorised by
the accountant and the managing director.
4. The wage packets and pay slips will be prepared by the wage clerks.
Glad has not implemented controls surrounding the wage pay-out process and has contacted you to assist with this.
REQUIRED
Design a system of internal control for the wage pay-out at Glad.
[9]
Question 9 LEVEL 3
Key controls and tests of controls
[32 marks]
You are the auditor of BBQ Delight (Pty) Ltd, a restaurant that specialises in selling slow-cooked BBQ meals. The
company has 10 restaurants which are located in shopping malls around the country. The company has a December
year-end.
The human resources function is centralised at the company’s head office, which is located in Johannesburg.
Appointment of employees
The manager at each restaurant is responsible for the appointment of servers (waiters and waitresses) and cooks at
the restaurant. Managers and assistant managers are appointed by head office.
If a vacancy does exist, the prospective candidate is requested to compile a two-page long curriculum vitae (CV).
The prospective employee is asked to submit his/her CV in person at the BBQ Delight restaurant or to email the
CV to the manager of the restaurant.
The manager reviews all CVs and contacts the prospective employee within two weeks of submission of the CV
for an interview.
The interview is conducted between the manager and the prospective employee, and the individual is informed
within five working days whether or not his/her application has been successful.
All successful applicants are instructed to come to the restaurant and to sign a contract of employment.
All successful candidates are required to submit the following information to the manager on their first day at the
restaurant:
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A copy of the contract
A certified copy of their identity document
A utility bill proving where they reside. If the candidate lives with his/her parents or is unable to provide a utility
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Every manager at a restaurant has a sequentially numbered checklist which he/she goes through to ensure that all of
the information is submitted by the employee. The manager signs and dates the checklist to indicate that he/she has
received all the information.
The documentation is scanned and emailed to the human resources officer at head office who is responsible for
loading the information on the employee personnel system.
The checklist, along with the supporting documentation, is filed in sequential order in a pending hardcopy file in
the manager’s office. The restaurant manager inspects the file on a weekly basis and follows up with the human
resources officer to determine how far along in the process they are with loading the new employee on the system.
The human resources officer emails the manager to acknowledge receipt of the documentation and the manager
files acknowledgment along with the other pending documents.
The human resources officer logs onto the payroll system using his/her unique user ID and password and creates
the new employee on the system using the information sent through by the manager.
The computer system logs out after three incorrect user IDs or passwords have been captured.
Prior to the information of the new employee being finalised on the payroll system, the human resources
manager, who has read-only access to the new employee file, logs onto the system by using his/her unique user ID
and password. The human resources manager reviews the information loaded on the system with the detail sent
through from the manager to the human resources officer and digitally authorises the loading of the new employee
on the payroll system. Once the human resources manager has authorised the loading of the new employee on the
payroll system, an automatic notification is sent to the restaurant manager indicating that the employee was
successfully loaded on the system.
The restaurant manager removes the documents from the pending file and files all the documents as well as the
notification received in a hardcopy ‘approved employee’ file.
All of the restaurants pay their servers the same basic salary. The rest of the servers’ salaries are based on tips
that they make during the month.
Managers, assistant managers and cooks earn a fixed monthly salary.
The directors of the company meet at the end of November and decide on the percentage by which all
employees’ salaries are to be increased in the next financial year. The percentage increase in salary is communicated
to the human resources manager via email. The human resources manager instructs a human resources officer to
calculate the increase for each employee of the company in a spreadsheet and to draft increase letters for each
employee.
The spreadsheet and increase letters are reviewed by the human resources manager and the letters are signed as
proof that the human resources manager agrees that the correct amounts have been transferred to the increase letters
that have to be sent to the employees.
Each employee receives a letter indicating what his/her increase in salary will be in the next financial year.
The employees are required to sign the letter and to submit it to their respective managers by 10 December. The
under U.S. or applicable copyright law.
letters are scanned and emailed to the human resources department. The restaurant managers file the signed letters in
their respective offices.
Once all of signed letters are returned, a human resources officer completes a salary increase masterfile
amendment form in the second week of January, which the human resources manager authorises by signing the
salary increase amendment form.
The human resources officer logs on to the payroll system by using his/her unique user ID and password and
loads the changes, which are effective at the end of January. The changes are reviewed by the human resources
manager, who logs onto the system using his/her unique user ID and password. The human resources manager has
read-only access to the system.
The human resources manager prints a copy of the changes that have been made and files it along with the
authorisation letter from the directors and the salary increase amendment form, after signing the documents as proof
that the review has taken place.
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The chief financial officer reviews all changes which have been recorded on a log of changes and compares it to
the documents that have been filed by the human resources manager, and follows up on exceptions.
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The assistant managers at the restaurants perform a sample check on a selection of receipts which are filed
sequentially to determine if the correct tip was recorded on the system at the point of payment. They sign the
receipts as an indication of the check performed.
Where the assistant manager identifies a difference, he rectifies it and documents the reason for the change on
the system. All changes of this nature are logged by the system and followed up by the chief financial officer, who
requests a copy of the receipt to be scanned and emailed to him at head office for inspection. He compares the
receipt to the amount recorded on the system by the assistant manager and signs the log as proof that he has checked
the changes made and approves of them.
Where the assistant manager is satisfied with the tip recorded on the system, he/she logs onto the system using
his/her unique user ID and password and approves of the tips recorded, at which point a notification is sent through
to the restaurant manager. The restaurant manager then checks a sample of tips in the same manner as the assistant
manager, and if he/she is satisfied, he/she digitally authorises the tips on the system. The tips, once authorised, are
automatically included in payroll along with the employee’s basic salary.
Payment
Salary payments take place on the 25th day of the month. The payroll period runs from the 21st of the current month
to the 22nd of the following month.
The chief financial officer logs onto the payroll system by using his unique user ID and password. He has
read-only access to the system. He selects a random sample of three employees from each restaurant and reviews the
documentation (e.g. receipts for tips and signed increase letters) and re-performs the calculations processed by the
payroll system. He signs a control sheet indicating that he has performed the review and agrees with the amount to
under U.S. or applicable copyright law.
be paid, and loads the payroll payment onto the company’s bank account by using the company’s confidential bank
account login details.
REQUIRED
Identify the key controls provided in the information above and, for each key control identified, describe the tests of
controls that you would perform to determine if the control is working as intended by management.
[32]
Question 10 LEVEL 3
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Question 10
Key controls and tests of controls
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[28 marks]
You are a first-year audit trainee on the audit of Fresh-Smell (Pty) Ltd (Fresh-Smell), a company that imports body
and skin care products from around the world for marketing to retailers in South Africa, where it is one the largest
distributors.
Allocated the responsibility of auditing the client’s payroll system, you have identified the following while in
discussion with Mr Kingston, the head of human resources:
General
Fresh-Smell has 150 permanent employees on its payroll, all of whom receive a salary via EFTs on the 25th day of
every month, or on the Friday if the 25th falls on a weekend. All employees are entitled to an annual bonus equal to
one month’s salary. The bonus may be taken in full in the month of the employee’s birthday or he/she may opt to
take part of the bonus each month of the year.
Each employee has an employee file that is stored in a fire-proof safe. Access to the safe is limited to authorised
individuals only, as confidential information is stored there. In order to gain access to the safe, an authorised
individual has to sign the log book and indicate his/her reason for wanting access. Once the log book has been filled
out, the chief executive officer’s secretary gives the individual the key to the safe and, on receiving the key back,
notes the time at which it was returned. The log book is reviewed on a regular basis by a senior employee of the
company, who investigates any unusual activity. He signs the log book at the end of each review, indicating whether
or not he is satisfied with the reasons for any such unusual activity.
Step 1
under U.S. or applicable copyright law.
Mr Kingston sends Ms Klink a sequentially numbered payroll amendment form and a document signed by the
employee as to how he/she wishes to receive his/her bonus. The payroll amendment form indicates the new salary or
any additional remuneration to be paid to the employee, the date on which the new salary or additional remuneration
is to be paid and the appropriate deductions.
Step 2
Ms Klink inspects the payroll amendment form to determine whether it has been signed and authorised by Mr
Kingston and the head of the department in which the employee works.
Step 3
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Ms Klink logs onto the payroll system and accesses the payroll masterfile, to which application she has write access,
using her unique user ID. If she inputs her user ID incorrectly three times, the application closes, and she needs to
log a request with IT support in order for them to unlock the application.
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The masterfile amendment screen is designed to look like the payroll amendment form in order to reduce input
errors.
Salary changes
Ms Klink enters the employee’s employee number into the system in order to access all his/her details. She then
inputs the amount to which the salary is to be increased.
Both these fields (employee number and the amount to which the salary is to be increased) have inbuilt
alphanumeric protection in order to ensure that only numbers are captured. In addition, a logic test ensures that the
amount to which the salary is to be increased is not above the set threshold.
Ms Klink then makes use of the drop-down date field in order to select the day on which the change is to be
effected. Once she has done so, she clicks on the tab indicating the reason for the change (salary increase or
additional remuneration). If additional remuneration is involved, she captures the reason noted on the payroll
amendment form.
Step 4
Mr Combrink logs onto the payroll system and accesses the payroll masterfile using his unique user ID. If he inputs
this number incorrectly three times, the application closes and he needs to log a request with IT support in order for
them to unlock it. Mr Combrink has read-only access in this file.
He compares the changes loaded onto the system to the payroll amendment form. If he is satisfied that the
changes are accurate, he clicks ‘accept’ and, following the computer’s prompting, ‘yes’, which updates the
employee’s profile; if he is not satisfied with the changes made, he has the option of rejecting them by indicating his
reason(s) in a text box for the relevant employee.
After receiving notification to correct it, Ms Klink does so. Steps 3 and 4 are repeated until Mr Combrink is
satisfied with the changes made.
A log of all rejections is recorded and a report prepared by Mr Combrink for Mr Kingston’s perusal. The latter
reviews the log, which he signs if he is satisfied with the reasons given. Mr Combrink then files the copy of the
payroll amendment forms sequentially. The sequence is inspected by a colleague of Mr Combrink’s on a monthly
under U.S. or applicable copyright law.
basis. Any missing forms noted are investigated and reported to Mr Kingston in a missing payroll amendment form
report.
REQUIRED
Identify the key controls in the payroll system mentioned above. For each control identified, describe how you
would test it.
[28]
Question 11 LEVEL 3
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Question 11
Tests of controls
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[9 marks]
Happy Chappies (Pty) Ltd (Happy Chappies) is a small entity located near rural areas and was founded in 20X1 in
order to reduce local unemployment. Happy Chappies manufactures bubble gum, which is sold internationally. The
entity mainly employs people from the rural areas for the production process and suitably qualified personnel for the
finance and management function. The current financial year-end of Happy Chappies is 31 October.
Your audit firm, Tick Away Inc., has been the auditors of Happy Chappies since its incorporation. Happy
Chappies’s personnel have always been very helpful during the external audit process. The Happy Chappies audit
has been allocated to your audit portfolio in the current year. The previous partner always followed a combined
approach and after the planning stage of the audit, you, the new audit partner, concluded that you will also
incorporate tests of controls during the audit.
The first-year trainee accountant on your audit team has identified the following controls which are relevant to the
wage cycle of Happy Chappies for the 31 October year-end:
1. All employees have a signed employment contract, which is authorised by the human resources (HR) manager.
2. All employees are provided with a personnel card, which is used to gain access to the workplace.
3. There is only one entrance to Happy Chappies, and employees must swipe their personnel card to gain access. A
card can only be swiped once. A security guard supervises the entrance at all times.
4. Happy Chappies’s computerised system calculates the hours worked by personnel and prints a report which each
division’s head should review.
5. The division heads review all reports for any unusual entries and approve any overtime.
6. After the head has reviewed the hours report and authorised overtime by way of a signature, the report is sent to
the finance department for recording.
7. After the payroll clerk has recorded the hours into the accounting records, a reconciliation is prepared which is
reviewed by the financial manager. The financial manager also re-performs the payroll calculations by comparing
them to the authorised hours report. The financial manager approves the payroll and reconciliation by way of a
signature.
8. All payroll payments are authorised by two cheque signatories, who have to:
scrutinise the payroll records and reconciliation for unusual items
sign the payroll and reconciliation as proof of duty performed.
REQUIRED
Describe the tests of controls that you will perform in order to ensure that the controls identified by the first-year
trainee accountant are operating effectively.
[9]
Question 12 LEVEL 3
under U.S. or applicable copyright law.
[20 marks]
You are the audit partner in charge of Best Wares (Pty) Ltd (Best), a company manufacturing hardware products
sold to retailers and wholesalers throughout South Africa. The company employs over 200 workers at its factory at
Wadeville in Gauteng.
The following control activities have been documented by one of your audit trainees regarding timekeeping and
payroll preparation:
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Wages, paid every Friday afternoon, are based on the hours captured on the employees’ clock cards.
All clock cards are prepared by the human resources department.
A senior employee in the department agrees the number of clock cards per division to the latest list of authorised
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REQUIRED
By linking them to one of the assertions, discuss the controls implemented by management that the auditor can rely
on in the system as described above. In addition, describe the test(s) of control(s) that the auditor can perform for
each discussed control.
[20]
Question 13 LEVEL 3
Audit procedures
under U.S. or applicable copyright law.
[10 marks]
Inquire from the wages clerk about procedures followed regarding leave records.
Attend a wage pay-out and check that unclaimed pay packets are locked away immediately at the conclusion
thereof.
Scrutinise the wages control account at year-end for any unusual journals posted and investigate these journals
together with supporting documentation.
Enquire from the human resources manager what procedures he/she follows in order to ensure that the company
complies with labour legislation.
REQUIRED
Classify the audit procedure instructions in the above scenario as a test of control and/or a substantive procedure
and/or a risk assessment procedure.
[10]
Question 14 LEVEL 3
Risks, internal controls and substantive procedures
[25 marks]
Three Digital (Pty) Ltd (Three Digital) is a highly technological company working on technological products and
market research in its field. Tangible products, such as 3D printers, satellite components, etc., make up 20% of its
business, and 80% is from market research in the field of new advancements in technologies.
All operations take place on its premises in Tokai, south of Cape Town. The premises are split into three floors.
The top floor is used for administration and management, and the floor below is for researchers to conduct their
research. The ground floor is split between a warehouse, where raw materials and finished goods are stored, and the
manufacturing area, where the goods are produced.
Access to the premises and the various areas around the building is controlled with staff cards that should be
displayed on employees at all times. These cards are scanned to allow employees access to particular areas.
Three Digital uses its website to input data, which is then interfaced with its accounting systems. Access to the
website requires a username and password.
You read through the policy document and make the following notes to assist you with future internal audits:
Manufacturing process
Once a sales order is created, an internal job card is created in the manufacturing department. Raw materials are
issued against the job card.
under U.S. or applicable copyright law.
The hours worked against the sales order are also captured in the online time sheet application. Each staff member
logs onto the Three Digital website and allocates his/her time based on a job card number. This is also used to
track productivity.
The time sheet is then approved by the supervisors for whom the work was performed.
Standard costing is used in the process of manufacture. For labour costs, this is based on the job description of
each employee as each job description has its own rates. The labour rates are based on actual payments to
employees. For overheads, it is based on the flat rate per hour determined annually.
Once the goods are completed, an internal purchase order is created against the job card and sent to the warehouse
in order for the staff there to anticipate the goods to be received.
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Components are requested on a weekly basis from the manufacturing department via an internal sales order. This
is an internal online document between the two departments. It can only be created if the manufacturing
department has a valid sales order number.
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The picker will then pick the goods, based on the electronic picking slip.
After he/she picks the components, a notification is sent to the warehouse supervisor who then checks whether the
picker has picked the correct goods and quantity. After the supervisor’s inspection, he/she approves it.
The warehouse assistant creates an internal delivery note, which gets approved by the warehouse manager. A
notification is then sent to the manufacturing department to collect the goods.
When the components are collected, the manufacturing business representative inserts his/her user ID, which
serves as acceptance of goods.
Additional information
All goods are sold at a 100% mark-up. The price is determined based on what the market is willing to pay versus the
costs to the manufacturer.
REQUIRED
1. Describe the risks to the payroll preparation phase of the payroll process. For each described risk, recommend
internal controls to mitigate that risk. [14]
2. There has been speculation that the wages payments received by the manufacturing department are inaccurate as a
result of fraud. Describe the substantive audit procedures you would perform on this engagement to satisfy
yourself regarding the following assertions:
a) Occurrence of wages
b) Accuracy of wages[11]
[25]
under U.S. or applicable copyright law.
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INTRODUCTION
Refer to the guidance and example questions contained in Chapter 6, as the principles and the approach remain the
same.
QUESTIONS
Question 1 LEVEL 2
Control objectives
[11 marks]
You are general manager at a local charity, Help-Mekaar. You are responsible for organising a raffle in order to raise
under U.S. or applicable copyright law.
funds for the charity. You were able to arrange donations from a local auditing firm as prizes: tablets with wifi and
3G connections, Woolworths vouchers and hampers of homemade dolls. You adapted a system description you
found on the internet to suit your needs as follows:
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Tickets
The secretary who sells the tickets has a set of pre-designed, pre-numbered tickets, printed specifically for the raffle
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in a book format. The tickets contain the ticket holder’s name, identity number, and contact and residential details.
Each ticket has a carbon copy attached to it which will be used for the draw.
Deposit of cash
You are required to record the receipts in the cash book daily. This updates the income system. The cash is then
handed to a security guard who deposits the cash.
REQUIRED
Formulate the internal control objectives for cash receipts from the sale of raffle tickets.
[11]
Question 2 LEVEL 2
Segregation of duties, fraud and error
[9 marks]
You are a third-year audit trainee at the audit firm of EWC Inc. (EWC), which has recently been appointed the
auditors of Electro-Tricks (Pty) Ltd (Electro-Tricks).
Since its inception in 2006, Electro-Tricks has established itself as a leading provider of electrical equipment
such as radios, irons, fridges, ovens, cordless telephones and television sets, which the company provides to both the
general public and corporate clients. Electro-Tricks, which operates through 12 retail stores across South Africa,
aims to offer the most competitive prices for quality equipment. The company owns several delivery vehicles for
transporting the larger appliances (e.g. fridges and ovens) to its clients. The accounting department operates from the
company’s head office in Pretoria.
Every so often, Electro-Tricks purchases property, plant and equipment (PPE) items, which include delivery
vehicles, desktop computers, laptops, printers, and so on. A PPE acquisition form needs to be completed and
approved before any such items may be purchased. A clerk in the accounting department is responsible for updating
and maintaining the PPE asset register. On a quarterly basis, a physical inventory of PPE items is taken by a clerk in
that same department in order to identify any stolen or broken items, and to reconcile the PPE asset register with the
physical items.
under U.S. or applicable copyright law.
The manager in charge of the audit assigned you to review the controls that Electro-Tricks currently has in place
regarding their PPE, specifically those relating to the segregation of duties. During the initial audit planning meeting,
the manager requested that you explain briefly to the team a few of the principles of the segregation of duties in
terms of controls over PPE, as well as the possible errors or fraud that could result if these controls were not in
place.
REQUIRED
List briefly the segregation of duties in respect of controls over property, plant and equipment that you would expect
to see at Electro-Tricks (Pty) Ltd. In addition, discuss the possible errors or fraud that could result in the event of
each of these duties not being segregated.
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Answer using the following tabular format:
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[9]
Question 3 LEVEL 2
Weaknesses and risks
[12 marks]
BaAgi (Pty) Ltd (BaAgi), a construction company whose main business is the development of townhouses in newly
established residential areas, is based in Boksburg. The company, which has grown over the years, now employs 320
staff members, including five directors.
The four brothers who founded BaAgi in 1994 are not involved in the day-to-day management of the company.
As a member of the audit team responsible for the audit of BaAgi, you were presented with the following
information:
Notes:
1. Loans to directors were authorised at a directors’ meeting. No loan agreement was signed by the directors and the
company in connection with these loans, however, as the directors believed it to be unnecessary since those
awarded the loans are still in the employ of BaAgi.
2. In order to expand into other cities, the directors obtained a five-year term loan attracting interest at prime plus
2% per annum. No other financing options were considered.
3. Certain machinery was acquired during the financial year under review, after a director who is the head of the
operations department made a request for their purchase. Purchases of capital expenditure at BaAgi are decided
when the head of a department determines the need to acquire additional assets. No budgets are prepared. The
under U.S. or applicable copyright law.
machinery was purchased from a company owned by the wife of the director in the operations department (said
director did not mention this fact at the meeting). All directors, including the director in the construction
department, voted in favour of this acquisition.
REQUIRED
Identify the weaknesses in BaAgi’s internal control process of the finance and investment cycle. In addition, explain
the consequence(s) of the identified weaknesses.
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WEAKNESES EXPLANATI ON OF WEAKNESES
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[12]
Question 4 LEVEL 3
Risks: Companies Act 71 of 2008
[12 marks]
As a first-year trainee accountant at Deno & Partner Inc. (Deno), a medium-sized audit firm, you are a member of
the audit team that is responsible for the audit of Techno Ltd (Techno), a company that sells technological products,
such as television sets, music systems and tablets. Techno has a 30 June year-end.
Share capital
Notes:
1. The opening balance represents 480 000 shares at R2 per share.
2. During the year under review, the board passed a resolution to assist two new non-executive directors in acquiring
30 000 shares in Techno. The two directors insisted that the shares be sold to them at 99 cents per share, each of
which at that stage was trading at R2.50. A loan of R13 500 per director, payable in 24 monthly instalments
earning 1% interest, was approved by the board. The share register was not updated with this share issue.
under U.S. or applicable copyright law.
REQUIRED
Identify the risks relating to non-compliance of the Companies Act 71 of 2008 as discussed in note 2 above. For
each of the risks identified, discuss the procedure/steps that should have been implemented in order to eliminate the
risks of non-compliance with the Act.
RISK PROCEDURES/STEPS
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[12]
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Question 5 LEVEL 2
Weaknesses and recommendations
[11 marks]
You are the second-year trainee on the audit of the Yest WEG Group (Yest). Yest is the leading supplier of low-,
medium- and high-voltage electric motors, variable speed drives, softstarters, switchgear, transformers,
containerised substations, diesel generator sets and co-generation and energy solutions as well as electrical and
instrumentation engineering and project management services in Africa.
The following document received from the managing director sets out some of the controls implemented to reduce
the risk associated with capital expenditure for the year.
Yest has a project management policy document; however, this could not be located and provided to the
auditors at the time requested. Any available staff at the time are appointed on an available project. The
project manager believes he always attracts the best staff and therefore does not feel it is necessary to
ensure staff have the relevant qualification necessary to perform the job. The project manager does not
have to present regular progress reports to the capital expenditure committee. The last time he made
such a presentation was six months ago due to the fact that he is always busy inspecting projects at the
various sites.
REQUIRED
Identify the weaknesses in the controls implemented by Yest to reduce the risk associated with capital expenditure
and provide recommendations to improve them.
[11]
under U.S. or applicable copyright law.
Question 6 LEVEL 2
Weaknesses and recommendations
[33 marks]
You are the senior auditor of Supermart (Pty) Ltd (Supermart), a chain of grocery stores located in the Gauteng
province while their corporate head office is located in Sunninghill. The company has a December financial
year-end.
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You met with Mrs Vilakazi, the newly appointed chief executive officer, at the start of the financial year when
she indicated to you that she does not want a repeat of the prior year’s modified audit report that arose as a result of
material misstatements in fixed assets. She has requested you to spend a week at the company visiting stores and
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head office to identify all of the weaknesses in the current control system and to draft a report including suggestions
for improvement which they can implement to ensure that the company receives an unmodified audit report in the
current year.
The following was identified during the week spent at the client:
For assets requiring that the full acquisition price must be settled on delivery
In some instances, the company is required to settle the full acquisition price on delivery of the asset to a store.
Where this is the case, the accountant records the asset on the accounting system on the date that he receives the
contract from the manager by using the detail (e.g. cost price, installation costs and delivery costs) in the contract
and sets up an automatic electronic payment from the company’s bank account to the supplier for the delivery date
recorded in the contract.
The asset is immediately recognised in the fixed asset register when the asset is recorded on the accounting
system.
For assets where the acquisition price is to be settled over the course of the useful life of the asset
Where the acquisition price of the asset is to be settled over the useful life of the asset, the manager at the store
informs the accountant via an email that the asset has been installed. The accountant uses the email instruction as his
basis for recording the asset on the accounting system.
The asset is immediately recognised in the fixed asset register when the asset is recorded on the accounting
system.
There have been instances in the past where installation and transportation costs have been handled by third
parties (i.e. not the supplier) and store managers have indicated that they were not aware that they needed to furnish
the accountant with this information as the delivery and installation was normally handled by a family or friend in
order to save the company money.
Disposal of assets
Where the manager at the store feels that the asset is not producing as much economic benefit for the store as
under U.S. or applicable copyright law.
expected, he/she has the right to dispose of the asset to whomever he/she wants. Where the asset has passed its
original useful life, the manager has the authority to take the asset for him/herself or to give the asset to an employee
at the store.
Where an asset has been disposed of for cash or zero value, the manager informs the accountant at head office
via email to remove the asset from the fixed asset register.
The accountant logs onto the system and removes the asset from the accounting system and simultaneously from
the fixed asset register. The accountant is required to print and file the instruction emailed to him, but it was noted
during a discussion with him that there were a few email instructions that were not available. He attributed this to
email storage problems and that he must have erroneously deleted the email instructions in order to free up space in
his inbox.
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Depreciation
When a new asset is purchased, the accountant inspects the contract with the supplier and, based on the detail
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located in it, determines the depreciation rate and useful life of the asset. The accountant checks the internet for
detail on the residual value of assets of a similar kind and records this in the accounting system when initially
capitalising the asset.
The system automatically calculates the depreciation for the month and posts the depreciation to the accounting
records.
Impairment
Managers are informed that if they see damaged fixed assets at their store, they should take a photo of the asset and
email it to the accountant. The accountant assesses whether or not the asset is impaired based on the photo and
writes down the asset to the appropriate carrying value amount in the accounting records and fixed asset register.
The accountant has indicated that it is not feasible to drive out to a store to view the asset, especially considering the
time he would have to spend in traffic.
REQUIRED
Draft a report to Mrs Vilakazi where you identify weaknesses surrounding the fixed assets at the company and make
recommendations to address them.
[33]
Note: [2] marks will be awarded for using the correct format.
Question 7 LEVEL 2
Recommendations
[18 marks]
Wowlands Ltd (Wowlands), founded by Wouter Landman, opened its doors for the first time in Melville,
Johannesburg, on 1 February 1998. Today, the company, which is listed on the JSE, is one of South Africa’s leading
retail chains with over 60 stores across South Africa. The success of Wowlands is driven by Wouter’s belief that
service should be consumer focused and that superior quality food, clothing and home appliances should be made
available at reasonable prices. This belief is shared, and upheld, by Wowlands’s board of directors.
As a member of the company’s internal auditing department, you are currently busy with the internal audit for
the current financial year. The following breakdown, setting out certain transactions that took place during the
current financial year, was received from management:
Transaction 1
under U.S. or applicable copyright law.
Wowlands issued 2 000 8% debentures of R1 000 each during February 20X1 in order to raise long-term debt
financing for an investment in a new branded environmental programme, Enviro-Aware, a programme aimed at
communicating environmental issues to customers via the labels and the logos on selected Wowlands products on
which customers receive discounts.
Transaction 2
During the financial year, Wowlands purchased a new accounting software system called COMPUWARE from
Spectacular Connections (Pty) Ltd as a standard accounting package. Owing to the highly specialised technical
nature of the new system, employees involved with its operation had to undergo specific training.
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Transaction 3
Wowlands purchased 35 new desktop computers from Spectacular Connections (Pty) Ltd during the year for use in
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REQUIRED
List the key controls that you, as the internal auditor, would want to see relating to:
1. the occurrence and management authorisation of long-term debt financing in transaction 1 (5)
2. the occurrence and authorisation of the purchase of the COMPUWARE accounting software system in transaction
2 (8)
3. the completeness of property, plant and equipment records for computers purchased in transaction 3. (5)
[18]
1.
a) The long-term debt financing transaction should be properly initiated, reviewed and authorised by the board of
directors. (1)
b) The authorisation for this financing transaction should be properly documented and kept as proof thereof (e.g.
minutes taken at the board meeting at which approval was given). (1)
c) There should be proper debenture agreements or contracts in place with debenture holders. (1)
d) These agreements or contracts should be signed by authorised individuals from Wowlands as well as the
debenture holders. (1)
e) The debenture agreements or contracts should set out all terms and conditions, dates of repayment, interest rates,
etc. (1)
f) A proper segregation of duties should be in place between the execution of and accounting for this transaction.
(1)
Available marks (6); maximum marks (5)
2.
a) A feasibility study should be performed regarding the accounting software. (1)
b) Competitive quotations should be obtained and considered (possibly even tenders). (1)
c) There should be a specific capital budgeting process and provision specifically made in this budget for the
purchase of the COMPUWARE accounting system. (1)
d) The board of directors should take ultimate responsibility for the acquisition of property, plant and equipment
(including the purchase of the new accounting system), and this should be set out in the company’s
memorandum of incorporation (MOI). (1)
e) Approval for purchase should be documented in the minutes of the board meeting at which such authorisation
was given. (1)
f) Management should monitor capital expenditure against the budget. (1)
g) Special approval and authorisation from the board of directors should be obtained for any overruns on the
capital expenditure budget. (1)
h) There should be an authorisation table (setting out which managerial level may approve transactions between
under U.S. or applicable copyright law.
certain monetary ranges) based on the size of the capital asset transaction (e.g. only the board of directors may
authorise a purchase of property, plant and equipment above a certain amount). (1)
i) Both the IT and the accounting departments should have input in the technical specifications of software and
approve it. (1)
j) A proper segregation of duties should be in place between the authorisation for and the accounting of
transactions. (1)
Available marks (10); maximum marks (8)
3.
a) Detailed property records (manual or computerised) should be maintained for PPE items, and should be updated
with the purchase of the computers. (1)
b) The following should be documented in these records:
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3.
c) The PPE subsidiary ledger should be reconciled periodically to the general ledger account in order to ensure that
it is complete. (1)
d) Periodic comparisons should be performed between the subsidiary ledger and the existing capital assets (from
the assets to the ledger). (1)
Available marks (6); maximum marks (5)
Notes:
In order to be able to answer the question, you should have a thorough knowledge and understanding of key
controls and the control objectives/assertions.
A further point to take note of is the following part of the required: ‘would want to see’, which is another way of
asking for recommendations. Thus there should be ‘shoulds’ in all the controls that you have written down.
Question 8 LEVEL 2
Recommendations
[5 marks]
You are a trainee auditor at TPC & Co. (TPC), a firm of registered auditors assigned to the 20X1 statutory audit of
Orange (Pty) Ltd (Orange), whose year-end is 31 August 20X1.
The company specialises in a unique South African clothing brand for children that is not only affordable, but
also fashionable and functional. Orange trades from its 15 retail stores across South Africa. Each branch has its own
account with ABBA bank, which allows it to pay certain expenditures on an ad hoc basis. Both the accounting and
the internal audit departments of Orange operate from their head office in Durban.
REQUIRED
Briefly list the key controls over the branch bank accounts that you would expect to see at Orange.
[5]
Question 9 LEVEL 2
Recommendations
under U.S. or applicable copyright law.
[10 marks]
ABC Earthworks (Pty) Ltd (ABC Earthworks) is a civil construction company operating in the field of road
construction, mass earthworks, township development and plant hire. It has extensive experience in all forms of
roads and earthworks, including construction, upgrading, rehabilitation and resurfacing.
The company operates an extensive fleet of modern earthworks plants and equipment, including excavators,
graders, loaders, dozers, trucks, crushers, and asphalt and surfacing machinery. The company attracts and retains
highly qualified and experienced individuals with solid track records in the road construction sector.
In the current year, ABC Earthworks was awarded a tender worth R150 million to demolish, reconstruct and
refurbish rundown buildings in the city centre owned by the local municipality. To meet tender requirements, ABC
Earthworks purchased additional earthworks equipment and increased its staff base.
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REQUIRED
List the key controls the auditor can expect over the purchase of the additional earthworks equipment.
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[10]
Question 10 LEVEL 3
Tests of controls
[10 marks]
You are the independent auditor of Car Manufacturing (Pty) Ltd, a company that manufactures motor vehicles.
You intend to place reliance on the investment system of internal control. From the previous year’s working
papers, and after discussions with management, you documented the ordering and recording of the fixed asset
system as follows:
Purchases of fixed assets are divided into two categories: purchases below R50 000 and purchases above R50 000.
Different authorisation levels are required for purchases below and above R50 000.
The fixed- asset purchase application form is then sent to the head of the purchasing division. There is a fixed asset
committee that meets once a month and looks at all the fixed asset purchase application forms and decides which
fixed asset items will be purchased. The chairman of the committee signs the fixed asset purchase application form
and sends it to the purchase division.
Purchase division:
The purchases clerk receives the purchase requisition form or fixed asset purchase applications and completes the
pre-numbered orders in threefold.
Purchases are only made from a list of approved suppliers.
The purchases manager compares the requisition or ‘request for purchase’ form, depending on whether the
purchase is above or under R50 000, with the purchase order, ensures that the order is placed with an approved
supplier and signs the purchase order.
One copy of the order is sent to the supplier, one copy is sent to the division that placed the order, one copy is sent
to the creditors clerk and one copy remains in the purchase division. The purchase manager regularly follows up
under U.S. or applicable copyright law.
Formulate the tests of controls you would perform on the internal controls for the ordering and recording of fixed
assets as described above. You have already formulated tests of control for the classification and cut-off of
transactions.
[10]
Question 11 LEVEL 2
Key controls and assertions
[11 marks]
You are a member of the audit team responsible for the audit of Amanzi Ltd (Amanzi), a company that sells natural
spring water, for the year ended 30 June 20X2. You are responsible for the audit of the share capital account.
Share capital
Notes:
1. The opening balance represents 200 000 shares at R3 per share. The share register is updated every time there is a
change in shareholding. Every month, the balance in the share register is matched to the share capital account in
the general ledger.
2. During the year, 100 000 shares were issued to the general public at R3 per share in order to raise funds for the
expansion of Amanzi’s operations. At the time of the new share issue, the company had 250 000 authorised
shares, which fact, confirmed by the directors, was in line with the company’s memorandum of incorporation. In
order to allow for the additional share issue, the memorandum was amended (by means of a special shareholder’s
resolution obtained by the directors prior to the amendment) in order to increase the number of authorised shares
to 500 000. Payments made in this regard are matched to the cash book and the proof of payments.
3. An additional 10 000 shares at R3 each were issued to the directors themselves by means of a loan granted to
them in order to help them acquire them. For the transactions (which were conducted in line with Amanzi’s
memorandum of incorporation stipulations) to be valid, a shareholders special resolution was obtained.
under U.S. or applicable copyright law.
The financial accountant matched all considerations received during the year with regard to share issues to the
share issue price as determined by the board and then recalculated the amounts.
4. At year-end, the financial accountant agreed the balance of the share capital account in the general ledger to the
trial balance, the statement of changes in equity and the statement of financial position.
REQUIRED
Identify the key controls relating to the share capital account of Amanzi for the year ended 30 June 20X2. For each
key control identified, allocate the applicable assertion(s). Answer using the following tabular format:
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KEY CONTROLS ASSERTIONS
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[11]
Question 12 LEVEL 3
Internal control vs test of control, control objectives
[9 marks]
You are the auditor of Fast Freight (Pty) Ltd (Fast Freight), a freight company well known in South Africa since its
incorporation in 20X2 that specialises in sea, air and road freight. Customers, ranging from individuals to large
corporations, are all guaranteed valuable advice on the best distribution methods as well as the other options
available to them.
Although their head office is situated in Pretoria, Fast Freight has branches across South Africa, the rest of
Africa and the UK. The company has a large fleet of vehicles and operates an innovative system that prints labels,
waybills and so on.
During the year under review, the following activities took place:
1. A new online tracking system (Track & Trace), which allows customers to log into the system via Fast Freight’s
website in order to view the status of their delivery, was purchased. Owing to its highly specialised nature and the
value of the purchase, the board of directors was directly involved in authorising the purchase transaction for the
addition to property, plant and equipment at a board meeting.
2. The company conducted a physical verification of vehicles during the last month of the financial year. This
entailed employees physically inspecting each vehicle in their fleet and comparing them to the details in the fixed
asset register.
3. One of the vehicles in the fleet was involved in an accident, during which several items for delivery in the vehicle
were damaged. Included in the financial statements of Fast Freight for the year under review is a provision for
damages arising from a pending court case as the driver of the delivery vehicle had been under the influence of
alcohol at the time of the accident. As a result, the company decided to provide for the damages based on the
estimated market prices of the affected items. However, the auditors obtained their own estimated market prices
for the items and compared them to those provided by the company.
4. Having obtained the company’s insurance register, the auditors noted that, as part of their financial records, a
substantial amount had been included for prepaid insurance. In addition, all new insurance policies were inspected
in order to confirm that they had been signed by an authorised individual at Fast Freight.
5. Jamal Daily, a company clerk, is responsible for updating the fixed asset register, while Peter Davies, the asset
manager, is responsible for authorising the low-value purchases and disposals of any property, plant and
equipment.
under U.S. or applicable copyright law.
REQUIRED
For each of the activities referred to above, state whether it is an internal control or a test of control. In addition, state
the control objective(s) applicable.
[9]
Question 13 LEVEL 3
Test of control vs substantive procedure, objective of audit procedure
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[13 marks]
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You are the audit manager assigned to the audit of BWM (Pty) Ltd (BWM) for the financial year ending 30 June
20X1. Founded in 1998, the company is currently one of the 25 largest vehicle manufacturers in the world.
In August four years ago, BWM opened a new manufacturing plant in Johannesburg boasting a high-tech
assembly line that carries with it the promise of producing the planned capacity of 230 BWM vehicles per day by
December 20X1. The total investment cost relating to the full construction of the plant and machinery totalled R9,8
million for the relevant financial year. The new assembly line, on which operations are performed by both humans
and robots, includes a conveyor belt that transports the vehicles from one station to the next, and allows the vehicles
to be tilted and rotated some 90 degrees from the horizontal.
The plant is divided into three buildings arranged in a circle around the central office building, an arrangement that
divides operations into:
the construction of the main framework
the paint job
the assembly of other remaining car parts.
Audit procedures were performed on the new manufacturing plant and related machinery, both of which constitute
part of the property, plant and equipment (PPE) account balance in the financial statements for the year ending 30
June 20X1:
1. Material expenses relating to the new manufacturing plant in Johannesburg (obtained from invoices, contracts,
etc.) were compared to approved capital expenditure budgets.
2. Minutes of directors meetings were inspected for approval of the capital expenditure budgets relating to the new
manufacturing plant.
3. A sample of plant and machinery assets was extracted from BWM’s asset register (including the material
additions for the year); such selected assets were inspected physically and matched to the descriptions in the fixed
asset register.
4. All purchase documents and documents of title deeds relating to the new manufacturing plant were inspected in
order to confirm that they were in the name of BWM.
5. The dates on material purchase documentation (i.e. invoices) for the new manufacturing plant, as well as the dates
in the relevant ledger accounts, were inspected in order to verify the accounting period in which these expenses
had been incurred.
6. Relevant job descriptions were inspected in order to ensure that the person(s) responsible for the initiation of a
capital asset acquisition had not been the same persons responsible for the final approval thereof.
7. The minutes of directors meetings were inspected in order to ensure that all purchases relating to the new
manufacturing plant upon which the directors agreed were recorded in the financial records of BWM.
8. Amounts in the general ledger (relating to the purchases of the plant and the machinery) were agreed to the
minutes of the directors meetings, the capital expenditure budgets, the invoices, the contracts and other relevant
documentation.
REQUIRED
under U.S. or applicable copyright law.
For each of the audit procedures listed above, state whether the audit procedure is a test of control or a substantive
procedure, and explain what the objective of the audit procedure is.
[13]
Question 14 LEVEL 3
Tests of controls vs substantive procedures
[16 marks]
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Owing to the uniqueness of transactions in the investment and financing cycle as well as the fact that the number of
transactions that take place in this cycle is considerably smaller than in other business cycles, the functional areas
depend on the type of transaction.
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Authorisation, which is an example of one such area, depends on the type of transaction. When a company
intends issuing shares, the authorisation might have to come from the board of directors and may also be subject to
other authorisation requirements as laid down in the company’s memorandum of incorporation. On the other hand,
authorisation for a prepayment of insurance might only include the signature of an individual authorised staff
member.
Although the functional areas are unique, internal controls are still implemented by management in each of them
in order to ensure the achievement of an entity’s control objectives (occurrence and authorisation, accuracy and the
completeness of financial information).
Auditing the investment and financing cycle may be divided into three categories:
1. Audit of certain current and non-current assets, such as prepaid expenses, intangible assets, goodwill, property,
plant and equipment
2. Audit of financial instruments, shareholders’ equity, long-term liabilities and statement of comprehensive income
accounts
3. Audit of cash and investments
Bearing this in mind, consider the following scenario. Rent-a-Car (Pty) Ltd (Rent-a-Car), one of the leading car
rental companies in South Africa, offers a fleet of approximately 16 000 vehicles at over 98 locations throughout
South Africa. In the performance of your duties as the company’s auditor during the year-end audit, you have:
1. examined copies of debenture agreements in order to confirm that they were in the name of Rent-a-Car (Pty) Ltd
2. inspected a sample of monthly bank reconciliations for the signature of the person performing the authorisation
3. observed whether the function of initiating a property, plant and equipment acquisition had been segregated from
the final approval thereof
4. examined the minutes of the board of directors meetings, as well as any communication with Rent-a-Car’s legal
counsel, in order to determine whether or not there was any pending litigation with regard to trademarks, patents
and/or copyrights
5. verified the mathematical accuracy of the last bank reconciliation for the year under audit and agreed the balance
to the general ledger, trial balance and financial statements
6. determined the basis for valuing investments by tracing values to published quotations for marketable securities
7. inspected the minutes of meetings of the board where the acquisition of a long-term loan had been authorised by
the directors
8. compared the schedule of provisions for the current financial year to that of the previous year, following up on
any provisions not included on the current year’s list or those that had changed significantly in value
9. traced the proceeds from the disposal of vehicles in the fleet to the bank statements of the company
10. confirmed the market value for the listed shares in which the company had invested by means of an inspection of
the relevant stock exchange publications.
REQUIRED
under U.S. or applicable copyright law.
For each of the 10 audit procedures provided above, identify the category of the investment and financing cycle in
which the audit procedure would typically be performed, stating whether such a procedure is a test of control or a
substantive procedure. Present your answer in tabular form.
[16]
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INTRODUCTION
The topics contained in this chapter provide a background to those included in the rest of the book. Normally, they
are not tested on their own, but a thorough understanding of them will enhance your application of these topics in
later chapters.
QUESTIONS
Question 1 LEVEL 1
Stages and steps
[13 marks]
under U.S. or applicable copyright law.
External audit is a systematic process of obtaining and evaluating evidence and information objectively regarding
assertions about economic actions and events in order to determine the degree of correlation between those
assertions and predefined criteria, and to communicate the results in writing to the users of the financial statements.
REQUIRED
List the phases of the audit process and discuss the steps or considerations appropriate to each phase.
[13]
LEVEL 1
Question 2
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Question 2
Audit evidence
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[7 marks]
In order to demonstrate compliance with the International Standards on Auditing when conducting an audit, an
auditor is required to prepare and to retain audit documentation, which is presented in the form of working papers
kept in an audit file.
REQUIRED
List examples of audit documentation that should be prepared and retained by an auditor and explain why an auditor
should prepare audit documentation in a timely manner.
[7]
Question 3 LEVEL 1
Audit evidence
[7 marks]
An auditor’s audit opinion and report are based on audit evidence that the auditor collected during the ‘obtaining
audit evidence’ phase of the audit process and which is contained in his/her working papers (audit documentation).
REQUIRED
Describe the requirements for audit evidence.
[7]
Note:
As the concepts/principles of sufficient and appropriate audit evidence are important, they should be kept in mind
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when formulating audit procedures in chapters 13 and 14.
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Question 4 LEVEL 2
Impact of computerised environment on audit procedures
[7 marks]
Most entities have their financial statements prepared using accounting software packages. As a result of using these
packages for generating the financial statements subject to audit, the auditor has to consider the impact of the
computer environment on the audit process.
REQUIRED
Indicate and discuss the impact/effect of the computer environment on the audit process during the four phases of
that process.
[7]
1. Pre-engagement activities
a) Prior to accepting the audit engagement, the auditor needs to consider the existence of the computer
environment and the complexity thereof, which will influence his/her consideration of his/her professional
competence to conduct the audit with proper care, and specifically the need for an information technology (IT)
specialist (expert), and the availability thereof. (1)
b) If the auditor concludes that an IT specialist is required, but such a specialist is not available at the time of the
audit, the audit should not be accepted. (1)
2. Planning
a) During the planning stage of the audit process, the auditor will consider the influence of the computer
environment when identifying and assessing the risk of material misstatement (i.e. inherent and control risk).
b) Suitable audit procedures should be formulated in order to respond to the assessed risks, which may (1)
include testing the computerised controls implemented by the management of the auditee. (1)
3. Obtaining audit evidence
a) In obtaining audit evidence that is sufficient and appropriate, the auditor may consider the use of
computer-assisted audit techniques (CAATs) in a case where the auditee stores financial information
electronically. (1)
b) CAATs may be used to perform both tests of controls and substantive procedures. (1)
c) CAATs are audit procedures performed through the use of software in order to gather audit evidence in a
computerised environment when it is impractical or inefficient to obtain audit evidence manually. (1)
under U.S. or applicable copyright law.
d) In order to obtain evidence about the effectiveness of the computerised control environment and control
activities, the auditor will use system-orientated CAATs. Data-orientated CAATs are used in order to perform
mainly substantive procedures and, in some instances, also tests of controls. (1)
e) The evaluating, concluding and reporting phase of the audit process is not affected significantly by the existence
of the computer environment. (1)
Question 5 LEVEL 1
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Audit opinion: Modified and unmodified
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[4 marks]
An audit opinion is an opinion expressed by an auditor in an audit report as to whether the financial statements of an
entity are fairly presented or not. The auditor can express either an unmodified or a modified audit opinion.
REQUIRED
Discuss the difference between an unmodified and a modified audit opinion and list the different types of modified
audit opinions.
[4]
under U.S. or applicable copyright law.
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INTRODUCTION
The following types of application question may typically be asked regarding the pre-engagement and planning
phase of an audit:
Discuss the factors to be considered prior to accepting an audit engagement.
Discuss the strategy that an auditor will follow for a specific audit.
Calculate the planning materiality figure for a specific audit.
Describe the audit risk or the risk of material misstatement at financial statement level.
Assess the audit risk or the risk of material misstatement at financial statement level.
Describe the risk of material misstatement at assertion financial statement level.
EXAMPLE QUESTION 1
Pre-engagement
[10 marks]
under U.S. or applicable copyright law.
Solomon & Phillips (S&P) is a firm of registered auditors with offices in Pretoria, Bloemfontein and East London.
In October 20X6, S&P was awarded a tender to be the statutory auditors of Zondi Ltd (Zondi) for the 20X5 financial
year, after the previous auditors resigned, as they could not provide Zondi with a quality audit service as a result of
staff shortages.
Zondi, a company listed on the JSE, supplies paper manufactured at their plant in Mpumalanga, and has
distribution outlets in 10 major South African cities. Zondi’s clientele comprises, among others, universities and
corporate organisations.
The chief executive officer of the company is a qualified chartered accountant who is highly regarded in the
industry. Since his appointment 12 years ago, Zondi has been reporting favourable results and has awarded its
shareholders a handsome dividend.
S&P has allocated eight audit team members, including the partner in charge, who has a 7.5% shareholding in
Zondi, to the audit for the year ended 30 June 20X5.
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REQUIRED
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Discuss the factors S&P should have considered prior to accepting the statutory audit engagement of Zondi for the
year ended 30 June 20X5.
[10]
GUIDANCE
Remember that the last action during the pre-engagement phase of the audit is to finalise the terms of the
engagement by means of an engagement letter.
In order for you to identify the relevant information in the scenario, you should also know what each of the
above-mentioned steps involves. For example, in order to know whether the auditor wants to perform the audit, you
will need to establish:
whether the auditor is satisfied that his/her firm is not prohibited from performing the audit in terms of the ISA
210 requirements
whether the auditor wants to be associated with this industry
whether the auditor wants to be associated with the owners or management of the entity (you need to remember
that the auditor would not want to be associated with management if there were indications that they lacked
integrity: refer to ISQC 1 Guidance on Management’s Integrity)
what the nature of the client–auditor relationship is likely to be
any significant risks of material misstatement that the auditor might be aware of at this stage
whether taking on the engagement would be a sound business decision (i.e. whether the company would be
willing, and able, to pay the audit fee).
Solomon & Phillips (S&P) is a firm of registered auditors with offices in Pretoria, Bloemfontein and East London.4
In October 20X5, S&P was awarded a tender to be the statutory auditors of Zondi Ltd (Zondi) for the 2016 financial
year after the previous auditors resigned, as they could not provide Zondi with a quality audit service5 as a result of
staff shortages.
Zondi, a company listed on the JSE, supplies paper manufactured at their plant6 in Mpumalanga and has
distribution outlets in 10 major South African cities.7 Zondi’s clientele comprises, among others, universities and
corporate organisations.
The chief executive officer of the company is a qualified chartered accountant who is highly regarded in the
industry.8 Since his appointment 12 years ago, Zondi has been reporting favourable results and awarded its
shareholders a handsome dividend.9
S&P has allocated eight audit team members, including the partner in charge, who has a 7.5% shareholding in
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Zondi,10 to the audit for the year ended 30 June 2016.
Exam technique
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In general, there is not a lot of examination technique involved in a pre-engagement question. However, in order to
obtain the maximum marks, structure your answer according to the steps set out above under the heading Identify
the theory applicable to the question.
When dealing with the auditor’s ethical issues, remember to structure your answer according to the Code of
Professional Conduct’s conceptual framework:
Identify the issue.
State the type of threat and the fundamental principle being threatened.
Consider the significance of the threat and, if it is significant, deal with the safeguards.
SUGGESTED SOLUTION
The CEO of Zondi appears to have integrity, as he is a qualified chartered accountant14 who is highly regarded in
the industry. (1)
3. Communication with the previous auditor15
S&P needs to contact the previous auditor in order to identify whether or not there is any reason why the audit
engagement of Zondi should not be accepted. It is unlikely that there is a reason16 not to accept the audit
engagement, as the previous auditor resigned as a result of not having adequate staff with which to service Zondi.
4. Zondi’s ability to pay the audit fee17 (1)
Zondi will be able to pay the audit fee, as the company has been paying its shareholders handsome dividends for
the past 12 years.18 (1)
5. Auditor’s ethical requirements19
a) The partner in charge of the audit engagement of Zondi has a 7.5% shareholding in the company. (1)
b) This might create a self-interest threat to objectivity. (1)
c) The threat could be regarded as significant. (1)
d) The safeguard that could be applied in this regard is to let the partner dispose of the shareholding, or not to let
20
When it is comfortable with accepting the statutory audit of Zondi, S&P needs to draft an engagement letter
under U.S. or applicable copyright law.
EXAMPLE QUESTION 2
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Strategy
[4 marks]
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You have been the audit partner of Pink Boyd (Pty) Ltd (Pink Boyd) for the past five years. Recently, the company
decided to expand its business, not only by selling music both online and in its stores, but also by providing online
lessons for various instruments.
This has made it necessary for you to obtain knowledge of the new expansion, in the process of which you gathered
that:
1. Pink Boyd (Pty) Ltd has branches in 10 different cities throughout South Africa
2. the maintenance of the application programs used for online sales are subcontracted to Help Inc.
REQUIRED
Explain how each of the above instances will influence your audit strategy.
[4]
GUIDANCE
[4]
This has made it necessary for you to obtain knowledge of the new expansion, in the process of which you gathered
that:
under U.S. or applicable copyright law.
1. Pink Boyd (Pty) Ltd has branches in 10 different cities26 throughout South Africa
2. the maintenance of the application programs27 used for online sales are subcontracted to Help Inc.
Exam technique
There is not a specific way of answering audit strategy questions. In general, though, because the necessary
information is provided in the scenario, you need only to identify the issues and explain how they will affect the
audit strategy and thus the scope, the timing and the direction of the audit, as well as the resources allocated to the
audit.
SUGGESTED SOLUTION
1.
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1.
a) This will affect the scope of the audit, as all the branches will have to be visited28 in order for inventory counts
to be performed and their internal controls reviewed. (1)
b) Therefore it will have to be ascertained whether or not there are enough staff members available in order to
29
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EXAMPLE QUESTION 3
Materiality
[10 marks]
You are a first-year trainee on the audit of Zondi Ltd (Zondi), a company listed on the JSE that supplies paper
manufactured at their plant in Mpumalanga. Zondi’s clientele comprises, among others, universities and corporate
organisations.
Your audit firm has recently been appointed as the auditors of Zondi. The following is an extract from the
company’s financial information:
The actual 20X1 financial results are not yet available, as management is currently finalising the closing entries.
Notes:
1. It is anticipated that the sales volume of paper for 20X1 will increase by at least 10%, as a result of Zondi being
able to sell paper in Lesotho and Swaziland.
2. Zondi plans to purchase new machinery to be used in the production of paper, in order to meet increased demand.
Your audit firm applies the following percentages in calculating planning materiality:
Revenue 0.5–1%
Gross profit 1–2%
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Profit before tax 5–10%
Total assets 1–2%
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REQUIRED
Discuss, with calculations, the planning materiality figure for Zondi for the 30 June 20X1 year-end audit.
[10]
GUIDANCE
You also need to know that planning materiality consists of both overall and performance materiality, and that the
latter will always be lower than the overall materiality figure.
Your audit firm has recently been appointed35 as the auditors of Zondi. The following is an extract from the
company’s financial information:
The actual 20X1 financial results are not yet available, as management is currently finalising the closing entries.
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Notes:
1. It is anticipated that the sales volume of paper for 20X1 will increase by at least 10%, as a result of Zondi being
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Your audit firm applies the following percentages36 in calculating planning materiality:
Revenue 0.5–1%
Gross profit 1–2%
Profit before tax 5–10%
Total assets 1–2%
Exam technique
Remember: As the calculation of planning materiality is a matter for the auditor’s professional judgement, you need
to motivate the decisions taken in calculating such materiality. Also remember to deal with the inverse relationship
between audit risk and materiality, and to consider both overall and performance materiality.
SUGGESTED SOLUTION
1. Decision on financial results to use in calculating planning materiality37
a) The choice38 is between the current year’s budgeted figures and the previous year’s audited results, since the
actual results of the current year are not yet available. (1)
b) The current year’s budgeted figures will be the most appropriate to use, since they take into account the 10%
growth in sales volumes and the acquisition of the new machinery.39 (1)
c) The current year’s budgeted figures also appear to be stable when compared with the previous year’s audited
figures, and no other adjustments will be necessary, as the figures already include the changes in circumstances
(the 10% growth in sales volumes and the acquisition of the new machinery).40 (1)
2. Choose a component in the set of figures selected
a) Zondi is a profit-orientated entity, therefore it would be appropriate to use components from the statement of
comprehensive income. (1)
b) Profit before tax can be considered to be the most appropriate benchmark, because Zondi is a profit-orientated
entity. (1)
3. Determine a range for the selected component
5–10% of R2 380 000 = R119 000 to R238 000 (1)
4. Calculate a materiality figure within the range
a) Given the fact that this is a new audit engagement, inherent risk41 is assessed as high. (1)
b) As a result, it will be appropriate to consider a planning materiality figure towards the lower end of the range.42
c) The lower planning materiality will allow the auditor to obtain sufficient and appropriate audit evidence to (1)
address the high inherent risk, thereby reducing the audit risk. (1)
5. Conclusion on planning materiality figure43
Based on the calculation above and the discussion on the high inherent risk the overall planning materiality44 for
under U.S. or applicable copyright law.
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EXAMPLE QUESTION 4
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You are the auditor of Fixit Ltd (Fixit), a company listed on the JSE with a financial year-end at the end of February.
You are busy with the planning of the audit for the financial year ended 28 February 20X1.
For five years, Fixit, the holding company for a group of smaller companies, had the contract to supply repair
and maintenance services to 15 municipalities in Gauteng. When the contracts expired in February 20X1, the
company had gentlemen’s agreements with all the municipalities that the contracts would be renewed. In February
20X1, when 13 of the municipalities put their repair and maintenance contracts out to tender, Fixit won only five
contracts.
At the end of January 20X1, the purchase manager had imported R800 000 worth of inventory from China on
credit. This bulk purchase had been estimated to be sufficient in order to conduct repairs for all 15 municipalities
over the following 18 months. Payment for the bulk purchase, on which penalties and interest are payable on late
payment, is due on 1 May 20X1. As Fixit will receive retention fees from the municipalities by the end of March
20X1, the company is expected to be able to meet the payment deadline.
As a result of the loss of clients, Fixit has implemented an incentive scheme: all managers who achieve a total
profit of R500 000 for their department for the year ending February 20X1 will each receive a bonus of R50 000.
While updating your knowledge of the business questionnaire, you have determined that the company has a lack
of internal controls in various departments. The 20X1 audited financial statements are required by 31 March 20X1.
REQUIRED
Describe the risk of material misstatement at overall financial statement level.
[6]
GUIDANCE
3. Detection risk
The first two can be controlled by the company, and the third by the auditor. Risk of material misstatement refers to
the first two components only. Thus, the financial statements could be misstated materially as a result of:
fraud
error, or
the incorrect preparation of the financial statements on the going concern basis instead of on the liquidation basis.
You also need to know, and understand, the difference between risk at overall financial statement level and risk at
the assertion level:
Risk at overall financial statement level refers to risks associated with the financial statements as a whole and/or
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risks that cannot be linked to a specific line item.
Risk at the assertion level refers to risks associated with specific line items, which could normally be linked to a
specific assertion as well.
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Exam technique
When required to describe the risk of material misstatement at financial statement level, you need to establish the
indicators that increase the risk of material misstatement (thus inherent risk and control risk). Therefore, read the
scenario line by line and identify such indicators. Remember that you are looking for indicators that might indicate
that the financial statements are materially misstated as a result of:
fraud
error, or
the incorrect preparation of the financial statements on the going concern basis instead of on the liquidation basis.
You cannot write down the indicator only and expect to earn marks (unless you are required merely to list the
indicators). As part of your answer, you need to:
write down the indicator
link it to fraud, error or the incorrect preparation of the financial statements on the going concern basis instead of
on the liquidation basis
explain how the indicator would lead to the risk mentioned (e.g. fraud, error or the incorrect preparation of the
financial statements on the going concern basis instead of on the liquidation basis).
When required to describe audit risk, follow the same approach described above. However, you need to establish the
under U.S. or applicable copyright law.
indicators that increase detection risk. Therefore, read the scenario line by line and identify such indicators.
Remember that you are looking for indicators that might show that the auditor’s procedures might not detect
material misstatements in the financial statements. You need to:
write down the indicator
link it the auditor’s procedures that might not detect material misstatements in the financial statements
explain how the indicator would lead to the auditor’s procedures not detecting material misstatements in the
financial statements.
When required to assess or evaluate the risk of material misstatement or audit risk, you need to establish the
indicators that increase and decrease the risk of material misstatement or audit risk. In addition, you need to reach a
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conclusion about the risk, indicating whether it is high, medium or low. Read the scenario line by line and identify
the indicators. Remember: this time you are looking for indicators that might increase or decrease the possibility that
the financial statements are materially misstated as a result of either:
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fraud
error, or
the incorrect preparation of the financial statements on the going concern basis instead of on the liquidation basis.
If asked to do so, look for audit risk indicators that might increase or decrease the possibility that the auditor’s
procedures might not detect material misstatements in the financial statements.
SUGGESTED SOLUTION
1. As Fixit is listed on the JSE,55 the company’s financial statements might be materially misstated as a result of
fraud56 perpetrated in order to adhere to the JSE’s listing requirements.57 (1)
2. As the company is listed on the JSE, the company’s financial statements might be materially misstated as a
58
result of fraud59 perpetrated in order to improve the financial results with a view to increasing the share price,
thereby attracting investors.60 (1)
3. Fixit was contracted to five municipalities only,61 which might lead to a major loss of income and profit;62
therefore, the company’s financial statements might be materially misstated as a result of the incorrect application
of the going concern assumption.63 (1)
4. The company has already imported inventory for the repairs and maintenance for the contracts that they did not
win;64 therefore, the company will not generate any income,65 and they have already incurred expenses on which
penalties and interest are payable, if late payments are made. The company’s financial statements might be
materially misstated as a result of the incorrect application of the going concern assumption.66 (1)
5. Fixit has a lack of internal controls;67 therefore, their financial statements might be materially misstated as a result
of errors and fraud,68 as a lack of internal controls make it easier to commit fraud. Errors will not be picked up.69
6. Fixit is the holding company for a group of smaller companies.70 Consolidation requires specialised (1)
knowledge,71 and mistakes could be made that might lead to material misstatement in the financial statements as a
result of error.72 (1)
7. The company requires the audited financial statements within a month of year-end, which constitutes a tight
73
audit deadline that might lead to mistakes being made by the compilers of the company’s financial statements,74
the outcome of which might be material misstatement resulting from error.75 (1)
8. Incentive bonuses based on profits are payable to the managers,76 which might lead to material misstatement in
the financial statements as a result of fraud 77 perpetrated in order to increase the profits with a view to achieving
the required profit and thereby the award of incentive bonuses.78 (1)
EXAMPLE QUESTION 5
[4 marks]
You are working on the audit of Inkwe Ltd (Inkwe), a company that has been listed on the JSE for the past five
years. Recently, Inkwe decided to buy a total of 100 properties for use as storage space. As the properties, the
majority of which were financed through the raising of mortgage bonds, are situated across South Africa, it will be
impossible for you to visit them all.
REQUIRED
Describe the risk of material misstatement at the assertion level for property, plant and equipment (PPE).
[4]
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GUIDANCE
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Exam technique
When required to describe the risk of material misstatement at assertion level, establish the indicators that increase
the risk of material misstatement (inherent risk and control risk). Read the scenario line by line and identify the
indicators. However, remember to include the inherent risks, such as accounting standards and requirements. In
general, look for indicators that might show that the specific line item might be materially misstated as a result of
error or fraud.
You cannot write down the indicator only and expect to earn marks (unless you are required merely to list the
indicators). In your answer:
write down the indicator
link it to fraud or error
explain how the indicator could lead to the risk mentioned (e.g. through fraud or error)
state the relevant assertion.
When required to describe the audit risk, follow exactly the same approach described above. However, you also
need to establish the indicators that increase the detection risk. Therefore, read the scenario line by line and identify
these indicators. Remember: you are looking for indicators that might show that the auditor’s procedures might not
detect material misstatements in the financial statements.
In your answer:
write down the indicator
link it the auditor’s procedures that might not detect material misstatements in the financial statements
explain how the indicator could lead to the auditor’s procedures not detecting material misstatements in the
financial statements
under U.S. or applicable copyright law.
When required to assess or evaluate the risk of material misstatement or audit risk, establish the indicators that
increase and decrease the risk of material misstatement or audit risk, and conclude whether the risk is high, medium
or low.
Read the scenario line by line and identify the indicators. Remember that this time you are looking for indicators
that might increase or decrease the possibility that the specific line item is materially misstated as a result of fraud or
error.
If asked to do so, look for audit risk indicators that might increase or decrease the possibility that the auditor’s
procedures might not detect material misstatements in the financial statements.
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SUGGESTED SOLUTION
1. There is a risk that the properties were not accounted for at the correct amounts,84 because all the costs on
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acquisition of the properties might not have been included in the cost of the properties, or might have been
included incorrectly in the cost of the properties (valuation and allocation).85 (1)
2. There is a risk that the properties were not accounted for at the correct amounts, because the useful life of the
86
properties87 might have been incorrectly estimated (valuation and allocation).88 (1)
3. There is a risk that the properties were not accounted for at the correct amounts,89 because their residual value90
might have been incorrectly estimated (valuation and allocation).91 (1)
4. There is a risk that the properties were not accounted for at the correct amounts, because the depreciation
92
method selected93 in order to depreciate them might not reflect the manner in which they decrease in value
(valuation and allocation).94 (1)
5. There is a risk that the properties were not accounted for at the correct amounts,95 because the borrowing costs on
the mortgage bonds96 might have been incorrectly allocated (valuation and allocation).97 (1)
QUESTIONS
Question 1 LEVEL 2
Planning materiality
[7 marks]
You are the auditor of Took his Toll (Pty) Ltd (Took his Toll). The company, which is responsible for the
maintenance of toll roads, receives a significant amount of fees (turnover) by requiring motorists using the toll roads
to pay a minimum fee at the applicable toll gates. Besides spending approximately 40% of the fees received on the
maintenance of the toll roads and approximately 20% on their labour-intensive site workers, Took his Toll has
invested a significant amount of its profit accrued over the years on tollgate buildings, including an offsite cafeteria
for its employees.
Appointed as the audit manager responsible for the planning of Took his Toll’s audit for the year ending 31 March
20X1, you have obtained the following figures from management on their management accounts of Took his Toll
for the period 1 April 20X0 to 30 September 20X0:
under U.S. or applicable copyright law.
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equipment
Long-term loans 945 000 1 016 561 875 000
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After reviewing the above figures, you believe them to be reasonably accurate. In addition, you anticipate that Took
his Toll will achieve the budgeted figures for the year ending 30 March 20X1. You have assessed the overall risk of
material misstatement as high.
According to audit firm policy, the following indicators and percentages may be used in order to calculate
materiality:
0.5–1% of turnover
1–2% of gross profit
5–10% of operating profit before tax
1–2% of total assets
2–5% of equity
REQUIRED
Determine the planning materiality figure that needs to be used during the planning phase of the audit of Took his
Toll for the year ending 31 March 20X1. Give detailed reasons for your answer, providing all relevant steps in
determining the planning materiality figure. Base your materiality calculation on the guidelines provided above.
[7]
Question 2 LEVEL 2
Planning materiality
[10 marks]
You are the senior auditor on the newly awarded audit of Budget Fly Ltd (Budget Fly). The company has been listed
on the JSE for five years and has a December financial year-end. Your audit firm was appointed as auditor in
October. The previous audit firm was a well-established audit firm with a reputable reputation. The previous
auditors issued an unmodified audit opinion in prior years and the former engagement partner has agreed to
communicate with our firm with regard to previous audit work conducted by her firm.
The following information was obtained during the planning stage of the audit:
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Additional information:
The current year’s unaudited results are not finalised as the management of the company are still in the process of
updating the financial accounts for the last month of the financial year and will do so after returning from their
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end-of-year vacation.
Budget Fly expanded their flying routes to include two locations outside South Africa:
– three flights a week to Namibia
– two flights a week to Zanzibar
The budgeted figures for the current year take into account the impact of these additional international flights.
Budget Fly acquired two additional aircrafts in December of the current year. They each seat 125 economy class
and 32 business class passengers, which enabled Budget Fly to increase the number of local flights offered on the
Johannesburg-to-Cape Town and Johannesburg-to-Durban routes.
It is estimated that the aircraft will have a 20-year useful life and a 10% residual value.
The company obtained a R1.8 billion loan from a bank in Switzerland to acquire the two additional aircraft.
The acquisition of the two additional aircraft was not included in the 20X6 budgeted figures.
It is your firm’s audit policy to use the following benchmark percentages when calculating planning materiality:
DESCRIPTION PERCENTAGE
Revenue 1–2%
Gross profit 1–2%
Profit before tax from continuing operations 5–10%
Total assets 1–2%
Your overall assessment of the risk of material misstatement is high for the current year.
REQUIRED
Discuss, with calculations, the planning materiality figure for Budget Fly for the December year-end audit.
[10]
Question 3 LEVEL 3
Planning materiality
[11 marks]
You are an audit partner at Du Toit & Mbeka Inc., a medium-sized audit firm in Cape Town. Go Travel (Pty) Ltd
under U.S. or applicable copyright law.
(Go Travel) was recently allocated to your portfolio during the year and you requested an audit trainee to commence
with the planning of the audit after the pre-engagement activities were successfully performed. The audit trainee
prepared the following working paper:
Section: Understanding of the entity and its environment Date prepared: 15/04/20X1
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Reviewed by:
Date reviewed:
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Go Travel was founded in April two years ago and is situated 15 km outside Cape Town. Its main
business activity is a travel agency for international tours. This will be the first year that an audit will be
conducted on the financial statements. The previous year’s figures were independently reviewed by
other external auditors and no concerns were highlighted in the review report. Go Travel earns between
5 and 10% commission on all tours, depending on the agreement with its travel partners.
The entity is run by Chloe Vermaak (financial director) and Chris Moloi (executive director), who are
also the founders and shareholders of the entity. Chloe and Chris are planning to expand Go Travel
rapidly and require the audited financial statements within two weeks after year-end in order to apply
for additional financing from Money Bank. Previous communication from Money Bank stated that
additional funding would be considered when healthy solvency and profitability indicators were
achieved.
The directors provided you with the following extract from the financial statements:
During the 20X1 financial year, Go Travel was awarded a R100 000 one-off contract in order to perform
travel arrangements for a soccer team.
Du Toit & Mbeka Inc. applies the following percentages in calculating planning materiality:
Turnover 0.5–1%
Gross profit 1–2%
Profit before tax 5–10%
Total assets 1–2%
REQUIRED
Calculate, properly motivated, the planning materiality to be used for the audit of Go Travel for the period ending 31
March 20X1. Ignore taxation for purposes of the question.
under U.S. or applicable copyright law.
[11]
Question 4 LEVEL 3
Planning materiality
[14 marks]
You are the audit senior on the audit of Pro Gear Ltd (Pro Gear), a company which manufactures a wide range of
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sporting apparel and footwear, and supplies it to wholesalers around the country. Pro Gear has a 30 September
financial year-end and is listed on the JSE. The company is highly leveraged.
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The following schedule was compiled by you during the planning stage of the current year’s audit, reflecting actual
and budgeted financial figures of Pro Gear:
It is your firm’s policy to use the following benchmark percentages when calculating the planning materiality level:
DESCRIPTION PERCENTAGE
Revenue 1–2%
Profit before tax from continuing operations 5–10%
Total assets 1–2%
It is also the firm’s policy to reduce the calculated planning materiality figure by 50% in order to determine
performance materiality, while the clearly trivial level for the audit is calculated at 10% of the performance
materiality figure.
Note:
Management of the company decided at the March board meeting that it was unnecessary for the company to own a
Citation X private plane. Subsequently, the company was able to sell the plane for R125 million on 1 April 20X1.
This resulted in the company making a profit of R75 million, calculated as follows: Cost price of R200 million less
the accumulated depreciation up to 31 March 20X1 of R150 million equals the carrying value of R50 million. Sales
price of R125 million less the carrying value of R50 million equals the profit of R75 million. R10 million
depreciation is charged to the asset on an annual basis.
The sale was not budgeted for and is therefore not included in the company’s current year budget appearing above.
All effects of the sale are however, included in the nine months’ unaudited figures.
under U.S. or applicable copyright law.
Your firm’s past experience as the auditor of Pro Gear has shown that the company’s sophisticated budget
process normally provides an accurate reflection of the actual financial results and position of the company
presented in the final financial statements.
Your overall assessment of the risk of material misstatement was set as ‘high’ for the current year.
REQUIRED
1. Explain the difference between a factual and likely error.
2. Explain the difference between a qualitative and quantitative misstatement that might arise in a set of financial
statements.
3. Discuss with detailed workings how you would calculate the planning materiality, performance materiality and
clearly trivial level for the audit of Pro Gear.
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[14]
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Question 5 LEVEL 3
Planning materiality
[21 marks]
You are the external auditor of Natasha’s Gambling Palace (Pty) Ltd (Natasha’s Gambling Palace) located in Cape
Town. Natasha’s Gambling Palace’s operations consist of various casinos that conduct business across the Western
Cape. The company is listed on the JSE. Its largest development is located at the Western Grand entertainment
complex.
Natasha’s Gambling Palace owns its own equipment, while the buildings from which it operates its casinos are
leased from the company’s main investor. During the 20X1 financial year, Natasha’s Gambling Palace opened a new
casino, also in one of the main investor’s hotels where it leases business space. For this purpose, it took out a sizable
loan from AfriBank Ltd to fund the addition of new roulette tables, slot machines and other equipment for the
gaming area.
You have just completed the assessment of internal controls for all the business cycles within the company and
concluded that control risk should be provisionally evaluated as ‘low’, while the susceptibility of all account
balances and classes of transactions to material misstatement, without considering internal control, is ‘high’ in
general. The audit partner instructed you to calculate planning materiality using the following guidelines:
Income 0.5–1%
Gross profit 1–2%
Profit before taxation 5–10%
Total assets 1–2%
Although the statement of comprehensive income has been fairly unstable over the past three years, the company has
been able to manage and maintain its gross profit percentage to the extent of remaining consistent. Regardless, the
company’s financial situation has changed significantly from the prior year: the statement of financial position is not
as strong as the directors would like it to be as the company is running a large overdraft and its trade creditors are
long outstanding.
Also during the 20X1 financial year, the company’s main investor invested in improving the infrastructure of the
buildings from where Natasha’s Gambling Palace operates – in order to increase the lease income potential of the
buildings. The investor built, among others, an amphitheatre next to one of its hotels which can seat 50 000 people.
Thus far, shows hosted at the amphitheatre by Natasha’s Gambling Palace have been mostly booked out, with artists
like PitBull, Nivo & Vinz, Fallout Boys and 1Direction (less one member) having performed there. It is expected
that these developments will improve income during the next couple of years.
You obtained the following actual financial statement figures from the chief accounting executive:
under U.S. or applicable copyright law.
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Property, plant and 211 180
equipment
Total current assets 575 650
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During preliminary enquiries to the accounting staff about the company’s financial performance and position, they
commented that several errors were made in drafting the actual financial statements. These have not been corrected
as yet:
1. It is likely that errors have occurred in the debtors’ book, included in current assets, because a new accounts
receivable clerk was appointed at the beginning of the financial year.
2. Income in the amount of R500 000 was not recorded and is not reflected in the figures above. The effect of this
error on gross profit amounted to R275 000.
3. ‘Operating expenses’ of R700 000 were reflected under ‘other expenses’.
REQUIRED:
1. Calculate, with proper motivation, taking all information into account, the planning materiality figure for the
20X1 financial statement audit of Natasha’s Gambling Palace.
2. Briefly explain the relationship between ‘materiality’ and ‘audit risk’.
[21 marks]
Question 6 LEVEL 2
Pre-engagement
[20 marks]
You are a first-year trainee accountant at Ofentse & Kelebohile Inc. (O&K), a firm of registered auditors recently
appointed the statutory auditors of Foodworth Ltd (Foodworth) for the 30 June financial year-end.
Foodworth is a retail company that manufactures its mainly organic food products and sells them to upper- and
middle-income customers. Foodworth, which has 32 outlets situated in upper class suburban areas country-wide, has
a factory in Cape Town and a farm on the outskirts of the city, where it grows its products. Head office is in
Johannesburg. The company has been listed on the JSE since 1999.
O&K became aware that Foodworth would be changing its statutory auditors when Mrs Jacobs, the wife of the
under U.S. or applicable copyright law.
audit partner in charge of the audit of Foodworth, advised him to tender for the audit. She considered O&K to be the
most appropriate auditors for the company, as the majority of O&K’s clients are in the food retail industry. Mrs
Jacobs is the chief financial officer (CFO) at Foodworth.
After O&K was awarded the tender, Mrs Jacobs requested O&K to assist the company with the following
non-assurance services:
The identification of potential investors to invest in Foodworth (the investments will be used to expand into the
East African market)
The preparation of the company’s tax returns (the CFO will take full responsibility for the returns, including any
significant judgement made)
For the year ended 30 June, Foodworth’s reported profit for the year was R13 million. The processing of all
transactions is done using Data-Adapta-System (DAS) accounting software, and, in order to create a greener
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environment and cut down on the use of paper, all communications with suppliers and bankers are electronic.
Foodworth has a strong, competent internal audit department that assists in evaluating and monitoring the assessed
risks.
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The team members for the Foodworth audit comprise the audit partner, the audit manager and you. The CFO has
informed the audit partner that the audited financial statements, which will be used in order to assist the management
of Foodworth on strategies for expanding its market share in South Africa, as well as the signed audit report, are
required three weeks after year-end.
REQUIRED
Discuss the factors that O&K should have considered prior to accepting the statutory audit engagement of
Foodworth for the year ended 30 June.
[20]
Note:
Refer to example question 1 for guidance on how on to approach answering this question.
b) As the audit needs to be completed three weeks after year-end, this will be a tight audit deadline and, given the
limited number of audit team members, the deadline might not be met. O&K should have considered
increasing the number. (1)
c) The audit firm should have considered whether it had the necessary auditing software in order to audit the
financial data stored in the DAS accounting software. (1)
d) Consideration should have been given to engaging an IT expert to assist with auditing the computerised
controls. (1)
e) O&K should have considered the influence that work performed by the internal audit would have on the
statutory audit. (1)
3. O&K should have given consideration to drafting an engagement letter highlighting, among other issues:
a) the responsibilities of both the auditor and management (1)
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3.
Question 7 LEVEL 2
Pre-engagement activities
[12 marks]
Feldmans Inc. has been the auditor of the Eastland Dairy Ltd group (Eastland Dairy) for the past four years and is
currently considering whether to accept reappointment as the company’s auditor for its September 2015 financial
year-end.
Company background
Eastland Dairy was incorporated 22 years ago and is listed on the JSE. Down Under Investment Ltd, a company
based in Sydney, Australia, owns 65% of the company’s shares and the remaining 35% of the shares are owned by
members of the South African public.
The entities in the Eastland Dairy group produce a wide range of cheese, butter, yoghurt, milk and ice cream
products. The group sells its products both in local and in the Zambian, Namibian and Botswanan markets. Some of
the products sold in these foreign markets are produced in the other countries by dairies owned by the group, while
other products are imported from South Africa.
Eastland Dairy has level 1 BBBEE contributor status and was recently recognised for its efforts in leading the
industry in the area of corporate social responsibility.
Audit-related aspects
Ms Kelly has been the engagement partner on the audit of Eastland Dairy for the past three years, while Mr Milner
was appointed as the human resources director of Eastland Dairy at the start of the 20X5 financial year. The two
were introduced at a Christmas party at the end of the previous financial year and got engaged in April of the 20X5
financial year. The interim audit is scheduled to take place during the first two weeks of July 20X5.
Feldmans Inc. does on occasion make use of component auditors to assist it with audit work to be performed in
regions located outside South Africa.
As part of planning the audit, significant reliance has been placed on the internal control audit procedures
performed by Eastland Dairy’s internal audit department during the financial year.
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A representative of Down Under Investment Ltd has indicated that it requires audited financial statements by the
end of the third week of October in order for the company to consolidate its results.
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REQUIRED
Discuss the matters that Feldmans Inc. would have considered prior to accepting the reappointment as auditor of
Eastland Dairy for the 2015 financial year.
[12]
Question 8 LEVEL 2
Pre-engagement activities
[15 marks]
You are a manager at Ace Audits Inc. (Ace Audits) a medium-sized audit firm with offices in Johannesburg, Pretoria
and Cape Town. Ace Audits Inc. is currently considering whether to accept the appointment as external auditor of
All Bronze Ltd (All Bronze) for All Bronze’s financial year ending 31 January 20X6. This is as a result of Mr Peach,
the chief executive officer (CEO) of All Bronze, asking Jakes Apricot in January 20X6 to have Ace Audits tender
for the position of external auditor. Jakes Apricot is a trainee accountant at Ace Audits and the nephew of Mr Peach.
Mr Peach also requested that Ace Audits should perform some secretarial and taxation services for All Bronze.
All Bronze is an entity manufacturing chutney and was formed in the early 1980s. The company had a turbulent
period during the first decade of operation, but profitability has increased steadily. Currently, the entity is highly
profitable. All Bronze owns approximately 35% of the chutney product market of South Africa and faces only one
noteworthy competitor, Mr Molls (Pty) Ltd. All Bronze’s manufacturing plant is in Johannesburg, and its head office
is in Pretoria.
The entity imports all product ingredients from various countries around the world in order to ensure high quality
of its final product. Management has always promoted a strong internal control environment and therefore all import
transactions are hedged. Management also strives to fully comply with the requirements of King IV™ and
communicates ethical codes to all levels of employees at All Bronze. The deadline for completion of the financial
statements is strictly adhered to in accordance with the Companies Act.
Most of Ace Audits’ clients’ year-ends are between the end of December and the end of February each year, and
its clients’ type of industries range vastly, from retail to manufacturing to investments. The previous auditors of All
Bronze resigned due to a staff shortage, but are willing to meet Ace Audits, with All Bronze’s permission, in order
to provide Ace Audits with relevant information and prior year working papers.
REQUIRED
Discuss whether Ace Audits should accept the audit engagement of All Bronze for its 31 January 20X6 financial
year.
[15]
under U.S. or applicable copyright law.
Question 9 LEVEL 2
Pre-engagement activities
[13 marks]
You are an audit manager at KBNV Inc. (KBNV), which operates primarily from Port Elizabeth and has been
assigned to the 29 February 20X1 audit of Fresh Air Ltd (Fresh Air), a company that has been providing the South
African public with a wide range of fragrant solutions since the company was incorporated 20 years ago. The
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company listed on the JSE 10 years ago and has a March year-end. It is the first year that the audit firm you work for
will be auditing Fresh Air.
The company is 65% owned by the Fresh family, from where the company draws its name, and the remaining
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35% is owned by other investors. From your initial discussions with the chief operating officer (COO) of Fresh Air,
you gathered the following information:
Product information
The company’s products are produced in a variety of forms and fragrances, from robust aerosols to slow releasing
gels. A total of 75% of its products are manufactured at the company’s newly completed factory located at Coega,
near Port Elizabeth, in the Eastern Cape. The remaining 25% of the products are produced at the company’s other
factories located in Cape Town and Johannesburg. Fresh Air aims to have all production moved to the new facility
over the course of the next two years.
The products are sold to both wholesalers and retailers around the country.
Marketing information
Fresh Air was forced to reconsider its sales and marketing strategy at the start of the 20X1 financial year due to an
unexpected increase in market competition. The increase came about as a result of a number of new fragrance
suppliers importing cheap products from the Far East and then selling these to wholesalers and retailers at prices
much lower than that of Fresh Air’s products.
The company implemented a new state-of-the-art supply chain management computer system during July 20X0.
The new system has enabled the company to produce more products at a reduced cost, which may result in greater
market share through increased sales. All employees involved in the supply chain process were sent on rigorous
training courses.
The change in sales and marketing strategy as well as the implementation of the new supply chain management
computer system has ensured that the company has remained profitable in the midst of the new competition.
REQUIRED
Discuss the matters that KBNV would have considered prior to accepting the appointment as the auditor of Fresh
Air for its 20X1 financial year.
[13]
Question 10 LEVEL 3
Client acceptance decision
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[26 marks]
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You are a partner at FZ, a firm of chartered accountants and registered auditors, and you are a member of a
three-person panel tasked with deciding whether or not new clients should be accepted by the firm.
The information below relates to three prospective clients that have to be assessed for client acceptance by the panel
of which you are a member:
1. LifeAfrika Ltd (LifeAfrica), a JSE-listed company, markets life assurance products and related financial services
in South Africa and 14 other countries on the African continent. LifeAfrica was recently fined an amount of
US$2.6 billion by regulators in one of the countries where it operates (one of the most populous countries in
Africa), and may lose its licence to provide services in that country. LifeAfrica’s management released
information about the fine only after journalists became aware of the fine having been imposed and started
contacting the company for comment. LifeAfrica was also fined by regulators in another country less than two
years ago.
2. Breadwinners Ltd (Breadwinners), a JSE-listed company, is a diversified food group. In the previous financial
year, the company had problems with acquisitions that did not prove as successful as had been hoped,
impermissible accounting practices, and lower-than-expected demand in its substantial milling division. In
response to these problems, Breadwinners fired its auditors (after the conclusion of the prior year audit), and all
three of its executive directors (the chief executive officer and managing director, the chief financial officer and
the chief operating officer) who served on the company’s board resigned in the past year. The company’s
chairman, who used to be its chief executive officer, has been acting as its chief executive officer for the past six
months.
3. Upinsmoke (Pty) Ltd (Upinsmoke) is a manufacturer of cheap cigarettes that it distributes in the major cities of
South Africa. Upinsmoke was founded three years ago by former senior management-level staff members of a
multinational cigarette manufacturing company, and has gained a good market share since then. The company has
informed you that it needs loan funding to expand its manufacturing plant in Germiston and will be presenting its
next set of audited financial statements to a number of banks as part of that process. The managing partner of FZ
is a close friend of Upinsmoke’s chief executive officer and is strongly in favour of taking the company on as a
client.
REQUIRED
Discuss how the information provided above would influence your judgement on the acceptance decision relating to
each of the prospective clients.
[26]
Question 11 LEVEL 2
Pre-engagement
[12 marks]
under U.S. or applicable copyright law.
As the audit partner in the medium-sized audit firm of Perfect Services Inc. (PSI), you have had a discussion with a
friend who has recently completed her electronic engineering degree. Three years ago, together with fellow students
from the same faculty, she registered a private company, Special Speech (Pty) Ltd (Special Speech), a company
specialising in speech technology services that has shown significant growth in the last two years. Transactions are
processed using a Unix system.
Because her previous auditors did not apply International Financial Reporting Standards (IFRS), which would
have presented the company in the most favourable light, she asked you to perform the audit.
You asked the audit senior at PSI to contact your friend with a view to drawing up a potential client
pre-acceptance working paper.
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Working paper
Prepared by: H.D.C. du Plessis (audit senior)
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REQUIRED
Describe any additional pre-engagement activities that need to be considered and addressed before you accept the
auditing engagement of Special Speech.
[12]
Question 12 LEVEL 2
Risk at assertion level
[9 marks]
Mereki Platinum Mines Ltd (Mereki) is a small platinum mine situated in Rustenburg, North-West Province with
head offices in Johannesburg. The company, which was established in 1989, is listed on the JSE.
As a first-year trainee accountant at Mbatha Inc. (Mbatha), which has been the auditors of Mereki for five years, you
are responsible for the 30 June audit of the property, plant and equipment section. You have been provided with the
following information:
Notes:
1. ‘Property’ relates to the land on which the mining operations take place and on which the head offices are located.
2. ‘Plant’ relates to the actual mine and warehouse, which have been provided as security for the bank loan acquired
that year.
3. During the course of the year, additional mining equipment was acquired from a supplier in Germany, as a result
of which such costs as import duties and transportation were incurred. Settlement was made in euros. In order to
ensure that they operate optimally, the machines undergo maintenance every six months.
4. Mereki follows IFRS. Property, plant and equipment (PPE), which is measured at a cost model, is depreciated
using the estimated useful life of each significant component, after the residual value has been deducted on a
straight line method.
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Account: s7246381
REQUIRED
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Describe the risks of material misstatement at the assertion level for property, plant and equipment of Mereki
Platinum Mines for the year ended 30 June as evinced in the above scenario.
[9]
Question 13 LEVEL 2
Risk at financial statement level
[12 marks]
As a first-year trainee accountant at Motholo Inc. (Motholo), you are currently assigned to a team responsible for the
audit for the financial year ended 30 June of BesaNama (Pty) Ltd (BN), whose financial statements have not been
audited before.
An entertainment outlet that provides facilities for braaiing and for having one’s car washed and valeted while
one enjoys a drink (either non-alcoholic or alcoholic) and snacks, BN operates weekdays between 11h30 and 22h00,
and on weekends between 11h30 and 02h00. On Saturdays and Sundays, which are the busiest days for BN,
customers are entertained by a live band.
BN’s operations are based in Tembisa, a township in the Ekurhuleni municipality, and Mamelodi, a township in
the City of Tshwane municipality.
The company, which was established 15 years ago, is a family business managed by the husband and wife team
of Mr and Mrs Chauke. Until just over a year ago, when an accounting software system was purchased, Mrs Chauke
was responsible for handling BN’s financial affairs, manually recording all transactions. Then, when Thabo Chauke,
the couple’s son, who had just completed Grade 12, was appointed financial manager, he took over responsibility for
the company’s financial affairs and the recording of all transactions.
Although he attended a training course in order to become acquainted with the newly acquired accounting
software system, Thabo has acknowledged that he is not as yet fully au fait with the system, as a result of which he
sometimes makes mistakes while capturing transactions. In addition, as a result of the high volume of transactions
and his being the only responsible person (apart from a cousin who helps with the capturing of transactions at the
Mamelodi outlet) for the recording of transactions, he was not able to record all such transactions. Thabo and his
cousin are paid an annual bonus based on profits for the year.
BN’s monthly revenue averages R600 000. Sometimes, however, when the company operates on weekends
beyond 02h00 in order to sell alcoholic drinks in contravention of the South African Liquor Act, this figure can rise
to R1 000 000.
The company has seen a gap in the market and intends to grow its business to other townships in Gauteng. In
order to do so, BN has applied for a bank loan, approval of which depends on its audited financial statements.
REQUIRED
under U.S. or applicable copyright law.
Identify the risk indicators evinced in the above scenario. In each case, describe the risks of material misstatements
at overall financial statement level of BN the year ended 30 June. Answer using the following tabular format:
[12]
Question 14
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Question 14 LEVEL 2
Risk at assertion level, the audit approach and the risk thereto
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[22 marks]
Dikoloi Ltd (Dikoloi) is an automobile-, motorcycle- and engine-manufacturing company founded in 20X2 with its
head office and manufacturing plant in Brits, North-West Province. Dikoloi adopts IFRS in preparing its financial
statements.
As a first-year trainee accountant at Phillips & Sons Inc. (Phillips & Sons), you have been assigned to the team
responsible for the audit of Dikoloi for the year ended 30 June. You are tasked with the audit of the following
accounts:
Inventory
Notes:
1. Raw material is sourced both locally and in Germany with the German account being settled in euros. Such costs
as import duties and transportation are incurred when raw material is purchased from the foreign supplier. At
year-end, there was inventory, purchased free on board from the supplier, that was still at sea.
2. Work in progress represents automobiles and motorcycles that are incomplete and therefore not yet ready to be
sold.
3. Dikoloi follows a standard costing method in order to account for the allocation of costs to its finished goods.
Loan
Two years ago, Dikoloi obtained a five-year term loan from ABBA Bank in order for the company to increase
production. The loan attracts interest at 12% per annum, with interest payable twice a year.
Share capital
During the year under review, additional shares were issued in order to raise funds to open an additional plant in
East London. The directors issued the shares without first confirming that there were enough unissued shares for
under U.S. or applicable copyright law.
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Account: s7246381
Notes:
1. Salaries are payable at the end of each month to permanent employees, who are paid according to set salary
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scales.
2. Dikoloi has over 500 employees who earn wages, which are paid weekly on a Friday. Such employees are
employed on a contract basis and earn a specified rate per hour. A higher rate is paid to employees who work
overtime.
3. There are such third-party costs as PAYE and medical aid contributions that Dikoloi withholds from the payment
of employees in order to pay the amount over to the respective authorities.
REQUIRED
1. Describe the risks of material misstatement at the assertion level relating to the identified accounts at Dikoloi as
evinced in the above scenario for the year ended 30 June. Link each of the risks to an assertion. (11)
2. Describe the audit approach/responses appropriate to addressing the risks of material misstatements identified in
the first question. Detailed audit procedures are not required. (11)
[22]
Question 15 LEVEL 3
Risk at assertion level and the response thereto
[20 marks]
You are the audit senior on the audit of Leading-Page (Pty) Ltd (Leading-Page). The company, which is growing at
a rapid rate, manufactures coated paper that it distributes throughout Africa. The company has a March financial
year-end.
The following information was brought to your attention during a meeting held in November with the chief financial
officer of the company:
Leading-Page obtained a loan from Financial Bank in the US for $1 million.
The four-year loan is payable annually in arrears at a rate of 12% per annum on the outstanding balance.
The funds from the loan were used to purchase several of the latest paper-manufacturing machines from a supplier
in the US at a cost of $125 000 each.
Four of the eight machines ordered had arrived by year-end, while the remaining three are scheduled to arrive in
June of the next financial year.
The company has two production facilities: one in Cape Town, which specialises in the production of graphic
paper, and the other in Johannesburg, where a range of coated paper is manufactured.
Leading-Page uses several logistics companies for the transportation of paper within South Africa and to
neighbouring countries. In the case of those foreign cities/towns located more than 4 000 km away, the company
under U.S. or applicable copyright law.
makes use of sea freight in order to transport the paper to the closest port of entry for that country, after which it is
the buyer’s responsibility to arrange transport of the imports to their final destination(s).
All sales to buyers outside South Africa are concluded in US dollars. Leading-Page hedges 40% of its foreign
transactions.
As the company does not accept cash or cheque payments, all sales are concluded via EFTs. The credit terms
stated in the contracts between Leading-Page and its buyers determine the amounts due and the dates by which
payments are required.
A select group of buyers has been granted the right to hold 30% of the inventory ordered on consignment on a
trial basis. If it proves to be profitable, the company might increase the number of such buyers.
REQUIRED
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Account: s7246381
Describe the risk of material misstatement at assertion level as evidenced in the above scenario, in each case giving
your responses thereto in your capacity as the auditor of the company.
[20]
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Question 16 LEVEL 2
[10 marks]
You are commencing your third year as a trainee accountant. The senior manager on the client has selected you to
plan the current year’s audit of the Gold Group (Pty) Ltd (Gold Group). The company has a December year-end.
You obtained the following information while preparing your planning working papers:
policy to recognise only 90% of the sale until the 60 days has passed by.
Products sold by the stores within the Gold Group are acquired from local suppliers and foreign suppliers in the
Far East. Products purchased from foreign suppliers are generally shipped freight on board to Durban harbour
before being distributed to the various stores.
– The ‘Home Specialist Store’ had sold products only for cash prior to being acquired by the Gold Group.
The company obtained a R15 million loan from the Industrial Development Corporation in October of the current
financial year in order to acquire the Home Specialist Store. The loan is repayable over the loan term of seven
years with interest charged at prime +2% payable on a monthly basis.
REQUIRED
Describe the factors that increase the risk of material misstatement at account and assertion level.
[10]
Question 17 LEVEL 2
Risk at financial statement level
[16 marks]
You have recently been appointed as auditor of Mobile Connectivity Ltd (Mobile Connectivity). The company is
one of the largest internet service providers in South Africa and was incorporated 10 years ago. The company was
listed on the JSE two years ago. During the preliminary engagement procedures, you held discussions with senior
personal.
The profit margin of the company increased slightly over the past year even though there was an increase in the
number of smaller service providers entering the industry.
The company’s management took a strategic decision half way through the year that it would reduce its rates
substantially in order to compete with the rates being offered by the smaller service providers.
The company imports its fibre optic cables from Fibre Corp, a manufacturer of fibre optic cables, in Dallas,
Texas. The fluctuation of the rand has caused the directors of the company to reconsider the current policy of
hedging 25% of foreign purchases.
Mr James, the human resources director, indicated that the company’s bonus structure works in the following way:
Employees of the company, other than executive directors and senior management, receive a bonus equal to one
month’s salary in the month of their birthday.
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Account: s7246381
Executive directors and senior management receive a bonus linked to the profit generated by the company during
the financial year.
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Additional information:
Mobile Connectivity’s previous auditor resigned after servicing the company for nine years. The previous auditors
determined that it was not able to service a client of this size appropriately any longer. The senior engagement
partner on the audit has indicated that his audit firm is willing to assist your audit team with information regarding
previous audits, but has requested that such assistance be communicated in a timely manner as all of his managers
are generally extremely busy at that time of the year.
The firm will make use of an audit firm in Zimbabwe to assist in the performance of audit procedures that are
required to be completed at these branches.
Mobile Connectivity’s reporting currency is South African rand.
REQUIRED
Describe the factors that increase the audit risk at the financial statement level.
[16]
Question 18 LEVEL 3
Risk at assertion level
[12 marks]
The following paragraphs provide information about Collectors’ Emporium (Pty) Ltd (Collectors’ Emporium). The
business is managed by Mr Jonah Abercrombie, who has been involved in art and book dealing for more than 30
years. He also has a 50% shareholding in Collectors’ Emporium. Collectors’ Emporium’s financial year-end date is
31 December:
1. Collectors’ Emporium’s business involves dealing in collectible books and artworks.
2. Books and artworks are imported from and exported to a number of countries. Items are transported by plane, as
far as possible. Items that are sold are despatched or released to the buyer only after receipt of payment, and such
items generally are despatched within 48 hours after receipt of payment. The business closes two weeks before
Christmas and re-opens only in the third week in January.
3. Not long before Collectors’ Emporium’s financial year-end date, Flossie Visagie, the company’s bookkeeper,
managed to delete all Collectors’ Emporium’s receivables records while trying to make backups. She has since
tried her best to reconstruct the receivables records, but due to her poor record-keeping, the process involved a
considerable degree of guesswork.
4. The business operates from Mr Abercrombie’s sprawling house in Houghton, Johannesburg, with most of the
rooms used to display business inventory. Mr Abercrombie is a collector himself, and many of his own artworks
are displayed in the rooms where the business inventory is displayed.
5. Mr Abercrombie takes items in for selling on a consignment basis, but these items are not kept in a defined area.
under U.S. or applicable copyright law.
6. Collectors’ Emporium employs a full-time art and book restorer, who is known for the high quality of his work.
He restores only books and artworks that form part of Collectors’ Emporium’s inventory.
REQUIRED
Explain how the information in each of the numbered paragraphs increases the risk of material misstatement at the
assertion level in the financial statements of Collectors’ Emporium.
Note: Your answer should not deal with risk at the overall financial statement level.
Use the following tabular layout for your answer:
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Account: s7246381
AFFECTED ASSERTION(S) EXPLANATION
1.
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2.
[12]
Question 19 LEVEL 3
Audit risk overall level
[19 marks]
You are a senior manager under the employment of Boswell & Sons Audits Inc. (Boswell & Sons). Boswell & Sons
has been recently appointed as the auditors of Sniffindale Ltd (Sniffindale) for the 20X0 financial year-end.
Sniffindale is a ski resort located in a very small town called Sniffindale, South Africa. Sniffindale attracts
thousands of local and overseas tourists and has been in operation for 15 years. The entity is a subsidiary of a group
that is listed on the Australian stock exchange. In order for all entities in the group to have the same year-end,
Sniffindale changed its financial year-end during the current year from 28 February 20X1 to 31 December 20X0. In
order to complete the consolidation, the Australian holding company requested Sniffindale’s financial statements to
be finalised at 21 January 20X1. Sniffindale reports in rand.
Sniffindale’s management promotes a strong internal control environment. The accounting function has 10
highly competent, qualified and experienced accountants. As Sniffindale strives to promote care for the
environment, all transactions within the company occur on a fully integrated, computerised system, limiting any
paperwork to the minimum.
Previously management received earnings-based bonuses. However, on 1 January 20X0, the policy was
amended and management currently earns bonuses based on customer satisfaction.
During the 20X0 financial year, a global recession hit and Sniffindale had approximately 25% less customers
than previous years. Sniffindale therefore had to arrange for overdraft facilities at Money Bank, which requires a
liquidity ratio of at least 2:1.
REQUIRED
Evaluate the audit risk at the overall financial statement level of Sniffindale, for the 31 December 20X0 financial
year-end.
[19]
Question 20 LEVEL 3
under U.S. or applicable copyright law.
[20 marks]
You are the audit senior on the audit of Poison Ltd (Poison) for the year ending on 31 October 20X1. The company
manufactures poisons for use against intrusive plants and weeds. Poison was established approximately seven
months ago by a group of friends who recently obtained their BSc degrees. They inadvertently and successfully
developed the new poison as a result of a failed experiment during which they initially attempted to develop a
kitchen cleaning product. They subsequently formed the company.
The company has been experiencing financial difficulties and has not made a profit to date. The company found
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Account: s7246381
it difficult to gain market share due to strong market competition. As a result, an audited set of financial statements
is required for submission to the bank to negotiate additional financing. The company is also struggling to collect
debts, with an average outstanding debtor period of 101 days at year-end.
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The above matter also impacted the company’s ability to pay suppliers. Two large suppliers have already refused
to supply Poison with any further products until the outstanding debts have been settled. The current creditor
payment period is 79 days. The directors have, however, told you that the board managed to source two suppliers
located in China due to past trade talks initiated during a visit by South Africa’s minister for trade and industry and
his business delegation. The products will be imported by Poison free-on-board to South Africa. The minister’s
delegation was able to negotiate a 60-day credit term on behalf of Poison.
REQUIRED
Describe the factors that will increase the risk of material misstatement on assertion level for inventory, accounts
payable and accounts receivable in respect of the audit of Poison for the year ending 31 October 20X1. Ignore
control risks.
[20]
Question 21 LEVEL 3
Risk and response at assertion level
[17 marks]
You are the senior auditor on the audit of Power (Pty) Ltd (Power), a company that distributes generators and
transistors to wholesalers and the public from its warehouse in Durban. The company has a December financial
year-end.
The company was incorporated seven years ago by two friends, Miss Chumanga and Mr Casey, on completion
of their undergraduate studies at the same local university. They both have an equal stake in the company. Miss
Chumanga is the marketing director at the company, as she obtained a marketing degree, and Mr Casey is the chief
financial officer, as he obtained a degree in accounting. They both receive a bonus linked to the revenue generated
by the company over the course of the financial year.
The company obtained a R40 million loan from the Industrial Development Corporation on 1 July in order to
finance a plant from which it intended to mass produce generators instead of purchasing generators from the Far
under U.S. or applicable copyright law.
East. It has not yet started constructing the plant and therefore plans to start producing generators and transistors
only in the next financial year.
The terms of the loan are as follows:
The loan draws interest of 22% per annum.
The interest and a portion of the capital on the loan are payable monthly in arrears.
The loan must be paid back in full within seven years from the date of receiving the loan.
The Industrial Development Corporation requires signed financial statements within 30 days of the financial
year-end.
The Industrial Development Corporation can demand immediate settlement of the loan if Power’s current ratio
drops below 2.5:1.
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Account: s7246381
Should the loan be recalled at the year-end, Power’s current liabilities would exceed its current assets by a
substantial amount.
Neither Miss Chumanga nor Mr Casey has any additional money to contribute to the business – part of the loan
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conditions from the Industrial Development Council required that they invest R10 million each into the project.
The company hedges 45% of the generators and transistors purchased in the Far East with forward exchange
contracts which it takes out with the company’s local bank.
The generators and transistors normally take 1.5 months to arrive in Durban from the date that the goods leave
the supplier’s warehouse and an additional week to clear customs. Thereafter, the generators and transistors are
transported to the company’s warehouse from which they are sold to the wholesalers and public. R2 million worth of
generators and transistors were on route from the supplier in the Far East to the Durban warehouse at year-end.
Power saw an increase in its sales during the winter months as a result of promotions that it ran during the
month. These included granting customers up to 5% off from their initial invoiced cost if they settled their accounts
within 30 days from the date of purchase. The discounts were approved at the director’s board meeting held on 5
April.
REQUIRED
Describe the factors that increase the risk of material misstatement at assertion level and briefly how you, as auditor,
would respond to the risk.
[17]
Question 22 LEVEL 3
Detection risk
[22 marks]
HKL Auditors Inc. (HKL), with its main office in Johannesburg, is currently engaged in planning the audit of
Diamond Hardware (Pty) Ltd (Diamond Hardware) for the client’s 31 December 20X1 financial year. Diamond
Hardware is a large wholesaler of hardware equipment and is also situated in Johannesburg.
During the audit planning meeting, where only some of the junior audit team members were present, the
susceptibility of the client’s financial statements to material misstatement was discussed. The engagement partner,
Hein Williamson, addressed the audit team members present and made the following comments, inter alia:
The budget for the 31 December 20X1 year-end audit of Diamond Hardware is unfortunately very tight.
The two owner-managers of the company have specifically asked me to keep the audit fees the same as
last year, otherwise HKL might get replaced by another audit firm next year. This, despite Diamond
Hardware having installed a new accounting system in 20X1, which meant a change to a significant part
of the company’s system of internal controls.
I would also like to announce that Karina McKay, a second-year trainee accountant at our firm, will be the
under U.S. or applicable copyright law.
responsible audit senior on the audit seeing that the prior year’s audit senior is currently on study leave. In
addition, the audit manager, who is newly assigned to the audit, should not be bothered with any
questions except in very important cases, as she will be too busy on other audits at that time. Karina,
although we know you have not been on the audit in any prior year, we are forced to throw you into the
deep end. We trust that you will be able to cope!
To take some pressure off the audit team, I will ensure that the sample sizes used in substantive audit
procedures are smaller than usual.
Also keep in mind that the audit manager on the prior year’s audit of Diamond Hardware, Terence
Radebe, has recently been appointed as the financial manager of Diamond Hardware. As you might know
, Diamond Hardware’s previous financial manager was dismissed two months prior to the 20X1 year-end
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Account: s7246381
equipment
Long-term loans 945 000 1 016 561 875 000
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After reviewing the above figures, you believe them to be reasonably accurate. In addition, you anticipate that Took
his Toll will achieve the budgeted figures for the year ending 30 March 20X1. You have assessed the overall risk of
material misstatement as high.
According to audit firm policy, the following indicators and percentages may be used in order to calculate
materiality:
0.5–1% of turnover
1–2% of gross profit
5–10% of operating profit before tax
1–2% of total assets
2–5% of equity
REQUIRED
Determine the planning materiality figure that needs to be used during the planning phase of the audit of Took his
Toll for the year ending 31 March 20X1. Give detailed reasons for your answer, providing all relevant steps in
determining the planning materiality figure. Base your materiality calculation on the guidelines provided above.
[7]
Question 2 LEVEL 2
Planning materiality
[10 marks]
You are the senior auditor on the newly awarded audit of Budget Fly Ltd (Budget Fly). The company has been listed
on the JSE for five years and has a December financial year-end. Your audit firm was appointed as auditor in
October. The previous audit firm was a well-established audit firm with a reputable reputation. The previous
auditors issued an unmodified audit opinion in prior years and the former engagement partner has agreed to
communicate with our firm with regard to previous audit work conducted by her firm.
The following information was obtained during the planning stage of the audit:
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Additional information:
The current year’s unaudited results are not finalised as the management of the company are still in the process of
updating the financial accounts for the last month of the financial year and will do so after returning from their
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end-of-year vacation.
Budget Fly expanded their flying routes to include two locations outside South Africa:
– three flights a week to Namibia
– two flights a week to Zanzibar
The budgeted figures for the current year take into account the impact of these additional international flights.
Budget Fly acquired two additional aircrafts in December of the current year. They each seat 125 economy class
and 32 business class passengers, which enabled Budget Fly to increase the number of local flights offered on the
Johannesburg-to-Cape Town and Johannesburg-to-Durban routes.
It is estimated that the aircraft will have a 20-year useful life and a 10% residual value.
The company obtained a R1.8 billion loan from a bank in Switzerland to acquire the two additional aircraft.
The acquisition of the two additional aircraft was not included in the 20X6 budgeted figures.
It is your firm’s audit policy to use the following benchmark percentages when calculating planning materiality:
DESCRIPTION PERCENTAGE
Revenue 1–2%
Gross profit 1–2%
Profit before tax from continuing operations 5–10%
Total assets 1–2%
Your overall assessment of the risk of material misstatement is high for the current year.
REQUIRED
Discuss, with calculations, the planning materiality figure for Budget Fly for the December year-end audit.
[10]
Question 3 LEVEL 3
Planning materiality
[11 marks]
You are an audit partner at Du Toit & Mbeka Inc., a medium-sized audit firm in Cape Town. Go Travel (Pty) Ltd
under U.S. or applicable copyright law.
(Go Travel) was recently allocated to your portfolio during the year and you requested an audit trainee to commence
with the planning of the audit after the pre-engagement activities were successfully performed. The audit trainee
prepared the following working paper:
Section: Understanding of the entity and its environment Date prepared: 15/04/20X1
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Account: s7246381
Reviewed by:
Date reviewed:
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Go Travel was founded in April two years ago and is situated 15 km outside Cape Town. Its main
business activity is a travel agency for international tours. This will be the first year that an audit will be
conducted on the financial statements. The previous year’s figures were independently reviewed by
other external auditors and no concerns were highlighted in the review report. Go Travel earns between
5 and 10% commission on all tours, depending on the agreement with its travel partners.
The entity is run by Chloe Vermaak (financial director) and Chris Moloi (executive director), who are
also the founders and shareholders of the entity. Chloe and Chris are planning to expand Go Travel
rapidly and require the audited financial statements within two weeks after year-end in order to apply
for additional financing from Money Bank. Previous communication from Money Bank stated that
additional funding would be considered when healthy solvency and profitability indicators were
achieved.
The directors provided you with the following extract from the financial statements:
During the 20X1 financial year, Go Travel was awarded a R100 000 one-off contract in order to perform
travel arrangements for a soccer team.
Du Toit & Mbeka Inc. applies the following percentages in calculating planning materiality:
Turnover 0.5–1%
Gross profit 1–2%
Profit before tax 5–10%
Total assets 1–2%
REQUIRED
Calculate, properly motivated, the planning materiality to be used for the audit of Go Travel for the period ending 31
March 20X1. Ignore taxation for purposes of the question.
under U.S. or applicable copyright law.
[11]
Question 4 LEVEL 3
Planning materiality
[14 marks]
You are the audit senior on the audit of Pro Gear Ltd (Pro Gear), a company which manufactures a wide range of
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sporting apparel and footwear, and supplies it to wholesalers around the country. Pro Gear has a 30 September
financial year-end and is listed on the JSE. The company is highly leveraged.
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The following schedule was compiled by you during the planning stage of the current year’s audit, reflecting actual
and budgeted financial figures of Pro Gear:
It is your firm’s policy to use the following benchmark percentages when calculating the planning materiality level:
DESCRIPTION PERCENTAGE
Revenue 1–2%
Profit before tax from continuing operations 5–10%
Total assets 1–2%
It is also the firm’s policy to reduce the calculated planning materiality figure by 50% in order to determine
performance materiality, while the clearly trivial level for the audit is calculated at 10% of the performance
materiality figure.
Note:
Management of the company decided at the March board meeting that it was unnecessary for the company to own a
Citation X private plane. Subsequently, the company was able to sell the plane for R125 million on 1 April 20X1.
This resulted in the company making a profit of R75 million, calculated as follows: Cost price of R200 million less
the accumulated depreciation up to 31 March 20X1 of R150 million equals the carrying value of R50 million. Sales
price of R125 million less the carrying value of R50 million equals the profit of R75 million. R10 million
depreciation is charged to the asset on an annual basis.
The sale was not budgeted for and is therefore not included in the company’s current year budget appearing above.
All effects of the sale are however, included in the nine months’ unaudited figures.
under U.S. or applicable copyright law.
Your firm’s past experience as the auditor of Pro Gear has shown that the company’s sophisticated budget
process normally provides an accurate reflection of the actual financial results and position of the company
presented in the final financial statements.
Your overall assessment of the risk of material misstatement was set as ‘high’ for the current year.
REQUIRED
1. Explain the difference between a factual and likely error.
2. Explain the difference between a qualitative and quantitative misstatement that might arise in a set of financial
statements.
3. Discuss with detailed workings how you would calculate the planning materiality, performance materiality and
clearly trivial level for the audit of Pro Gear.
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[14]
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Question 5 LEVEL 3
Planning materiality
[21 marks]
You are the external auditor of Natasha’s Gambling Palace (Pty) Ltd (Natasha’s Gambling Palace) located in Cape
Town. Natasha’s Gambling Palace’s operations consist of various casinos that conduct business across the Western
Cape. The company is listed on the JSE. Its largest development is located at the Western Grand entertainment
complex.
Natasha’s Gambling Palace owns its own equipment, while the buildings from which it operates its casinos are
leased from the company’s main investor. During the 20X1 financial year, Natasha’s Gambling Palace opened a new
casino, also in one of the main investor’s hotels where it leases business space. For this purpose, it took out a sizable
loan from AfriBank Ltd to fund the addition of new roulette tables, slot machines and other equipment for the
gaming area.
You have just completed the assessment of internal controls for all the business cycles within the company and
concluded that control risk should be provisionally evaluated as ‘low’, while the susceptibility of all account
balances and classes of transactions to material misstatement, without considering internal control, is ‘high’ in
general. The audit partner instructed you to calculate planning materiality using the following guidelines:
Income 0.5–1%
Gross profit 1–2%
Profit before taxation 5–10%
Total assets 1–2%
Although the statement of comprehensive income has been fairly unstable over the past three years, the company has
been able to manage and maintain its gross profit percentage to the extent of remaining consistent. Regardless, the
company’s financial situation has changed significantly from the prior year: the statement of financial position is not
as strong as the directors would like it to be as the company is running a large overdraft and its trade creditors are
long outstanding.
Also during the 20X1 financial year, the company’s main investor invested in improving the infrastructure of the
buildings from where Natasha’s Gambling Palace operates – in order to increase the lease income potential of the
buildings. The investor built, among others, an amphitheatre next to one of its hotels which can seat 50 000 people.
Thus far, shows hosted at the amphitheatre by Natasha’s Gambling Palace have been mostly booked out, with artists
like PitBull, Nivo & Vinz, Fallout Boys and 1Direction (less one member) having performed there. It is expected
that these developments will improve income during the next couple of years.
You obtained the following actual financial statement figures from the chief accounting executive:
under U.S. or applicable copyright law.
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Property, plant and 211 180
equipment
Total current assets 575 650
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During preliminary enquiries to the accounting staff about the company’s financial performance and position, they
commented that several errors were made in drafting the actual financial statements. These have not been corrected
as yet:
1. It is likely that errors have occurred in the debtors’ book, included in current assets, because a new accounts
receivable clerk was appointed at the beginning of the financial year.
2. Income in the amount of R500 000 was not recorded and is not reflected in the figures above. The effect of this
error on gross profit amounted to R275 000.
3. ‘Operating expenses’ of R700 000 were reflected under ‘other expenses’.
REQUIRED:
1. Calculate, with proper motivation, taking all information into account, the planning materiality figure for the
20X1 financial statement audit of Natasha’s Gambling Palace.
2. Briefly explain the relationship between ‘materiality’ and ‘audit risk’.
[21 marks]
Question 6 LEVEL 2
Pre-engagement
[20 marks]
You are a first-year trainee accountant at Ofentse & Kelebohile Inc. (O&K), a firm of registered auditors recently
appointed the statutory auditors of Foodworth Ltd (Foodworth) for the 30 June financial year-end.
Foodworth is a retail company that manufactures its mainly organic food products and sells them to upper- and
middle-income customers. Foodworth, which has 32 outlets situated in upper class suburban areas country-wide, has
a factory in Cape Town and a farm on the outskirts of the city, where it grows its products. Head office is in
Johannesburg. The company has been listed on the JSE since 1999.
O&K became aware that Foodworth would be changing its statutory auditors when Mrs Jacobs, the wife of the
under U.S. or applicable copyright law.
audit partner in charge of the audit of Foodworth, advised him to tender for the audit. She considered O&K to be the
most appropriate auditors for the company, as the majority of O&K’s clients are in the food retail industry. Mrs
Jacobs is the chief financial officer (CFO) at Foodworth.
After O&K was awarded the tender, Mrs Jacobs requested O&K to assist the company with the following
non-assurance services:
The identification of potential investors to invest in Foodworth (the investments will be used to expand into the
East African market)
The preparation of the company’s tax returns (the CFO will take full responsibility for the returns, including any
significant judgement made)
For the year ended 30 June, Foodworth’s reported profit for the year was R13 million. The processing of all
transactions is done using Data-Adapta-System (DAS) accounting software, and, in order to create a greener
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environment and cut down on the use of paper, all communications with suppliers and bankers are electronic.
Foodworth has a strong, competent internal audit department that assists in evaluating and monitoring the assessed
risks.
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The team members for the Foodworth audit comprise the audit partner, the audit manager and you. The CFO has
informed the audit partner that the audited financial statements, which will be used in order to assist the management
of Foodworth on strategies for expanding its market share in South Africa, as well as the signed audit report, are
required three weeks after year-end.
REQUIRED
Discuss the factors that O&K should have considered prior to accepting the statutory audit engagement of
Foodworth for the year ended 30 June.
[20]
Note:
Refer to example question 1 for guidance on how on to approach answering this question.
b) As the audit needs to be completed three weeks after year-end, this will be a tight audit deadline and, given the
limited number of audit team members, the deadline might not be met. O&K should have considered
increasing the number. (1)
c) The audit firm should have considered whether it had the necessary auditing software in order to audit the
financial data stored in the DAS accounting software. (1)
d) Consideration should have been given to engaging an IT expert to assist with auditing the computerised
controls. (1)
e) O&K should have considered the influence that work performed by the internal audit would have on the
statutory audit. (1)
3. O&K should have given consideration to drafting an engagement letter highlighting, among other issues:
a) the responsibilities of both the auditor and management (1)
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3.
Question 7 LEVEL 2
Pre-engagement activities
[12 marks]
Feldmans Inc. has been the auditor of the Eastland Dairy Ltd group (Eastland Dairy) for the past four years and is
currently considering whether to accept reappointment as the company’s auditor for its September 2015 financial
year-end.
Company background
Eastland Dairy was incorporated 22 years ago and is listed on the JSE. Down Under Investment Ltd, a company
based in Sydney, Australia, owns 65% of the company’s shares and the remaining 35% of the shares are owned by
members of the South African public.
The entities in the Eastland Dairy group produce a wide range of cheese, butter, yoghurt, milk and ice cream
products. The group sells its products both in local and in the Zambian, Namibian and Botswanan markets. Some of
the products sold in these foreign markets are produced in the other countries by dairies owned by the group, while
other products are imported from South Africa.
Eastland Dairy has level 1 BBBEE contributor status and was recently recognised for its efforts in leading the
industry in the area of corporate social responsibility.
Audit-related aspects
Ms Kelly has been the engagement partner on the audit of Eastland Dairy for the past three years, while Mr Milner
was appointed as the human resources director of Eastland Dairy at the start of the 20X5 financial year. The two
were introduced at a Christmas party at the end of the previous financial year and got engaged in April of the 20X5
financial year. The interim audit is scheduled to take place during the first two weeks of July 20X5.
Feldmans Inc. does on occasion make use of component auditors to assist it with audit work to be performed in
regions located outside South Africa.
As part of planning the audit, significant reliance has been placed on the internal control audit procedures
performed by Eastland Dairy’s internal audit department during the financial year.
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A representative of Down Under Investment Ltd has indicated that it requires audited financial statements by the
end of the third week of October in order for the company to consolidate its results.
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REQUIRED
Discuss the matters that Feldmans Inc. would have considered prior to accepting the reappointment as auditor of
Eastland Dairy for the 2015 financial year.
[12]
Question 8 LEVEL 2
Pre-engagement activities
[15 marks]
You are a manager at Ace Audits Inc. (Ace Audits) a medium-sized audit firm with offices in Johannesburg, Pretoria
and Cape Town. Ace Audits Inc. is currently considering whether to accept the appointment as external auditor of
All Bronze Ltd (All Bronze) for All Bronze’s financial year ending 31 January 20X6. This is as a result of Mr Peach,
the chief executive officer (CEO) of All Bronze, asking Jakes Apricot in January 20X6 to have Ace Audits tender
for the position of external auditor. Jakes Apricot is a trainee accountant at Ace Audits and the nephew of Mr Peach.
Mr Peach also requested that Ace Audits should perform some secretarial and taxation services for All Bronze.
All Bronze is an entity manufacturing chutney and was formed in the early 1980s. The company had a turbulent
period during the first decade of operation, but profitability has increased steadily. Currently, the entity is highly
profitable. All Bronze owns approximately 35% of the chutney product market of South Africa and faces only one
noteworthy competitor, Mr Molls (Pty) Ltd. All Bronze’s manufacturing plant is in Johannesburg, and its head office
is in Pretoria.
The entity imports all product ingredients from various countries around the world in order to ensure high quality
of its final product. Management has always promoted a strong internal control environment and therefore all import
transactions are hedged. Management also strives to fully comply with the requirements of King IV™ and
communicates ethical codes to all levels of employees at All Bronze. The deadline for completion of the financial
statements is strictly adhered to in accordance with the Companies Act.
Most of Ace Audits’ clients’ year-ends are between the end of December and the end of February each year, and
its clients’ type of industries range vastly, from retail to manufacturing to investments. The previous auditors of All
Bronze resigned due to a staff shortage, but are willing to meet Ace Audits, with All Bronze’s permission, in order
to provide Ace Audits with relevant information and prior year working papers.
REQUIRED
Discuss whether Ace Audits should accept the audit engagement of All Bronze for its 31 January 20X6 financial
year.
[15]
under U.S. or applicable copyright law.
Question 9 LEVEL 2
Pre-engagement activities
[13 marks]
You are an audit manager at KBNV Inc. (KBNV), which operates primarily from Port Elizabeth and has been
assigned to the 29 February 20X1 audit of Fresh Air Ltd (Fresh Air), a company that has been providing the South
African public with a wide range of fragrant solutions since the company was incorporated 20 years ago. The
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company listed on the JSE 10 years ago and has a March year-end. It is the first year that the audit firm you work for
will be auditing Fresh Air.
The company is 65% owned by the Fresh family, from where the company draws its name, and the remaining
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35% is owned by other investors. From your initial discussions with the chief operating officer (COO) of Fresh Air,
you gathered the following information:
Product information
The company’s products are produced in a variety of forms and fragrances, from robust aerosols to slow releasing
gels. A total of 75% of its products are manufactured at the company’s newly completed factory located at Coega,
near Port Elizabeth, in the Eastern Cape. The remaining 25% of the products are produced at the company’s other
factories located in Cape Town and Johannesburg. Fresh Air aims to have all production moved to the new facility
over the course of the next two years.
The products are sold to both wholesalers and retailers around the country.
Marketing information
Fresh Air was forced to reconsider its sales and marketing strategy at the start of the 20X1 financial year due to an
unexpected increase in market competition. The increase came about as a result of a number of new fragrance
suppliers importing cheap products from the Far East and then selling these to wholesalers and retailers at prices
much lower than that of Fresh Air’s products.
The company implemented a new state-of-the-art supply chain management computer system during July 20X0.
The new system has enabled the company to produce more products at a reduced cost, which may result in greater
market share through increased sales. All employees involved in the supply chain process were sent on rigorous
training courses.
The change in sales and marketing strategy as well as the implementation of the new supply chain management
computer system has ensured that the company has remained profitable in the midst of the new competition.
REQUIRED
Discuss the matters that KBNV would have considered prior to accepting the appointment as the auditor of Fresh
Air for its 20X1 financial year.
[13]
Question 10 LEVEL 3
Client acceptance decision
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[26 marks]
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You are a partner at FZ, a firm of chartered accountants and registered auditors, and you are a member of a
three-person panel tasked with deciding whether or not new clients should be accepted by the firm.
The information below relates to three prospective clients that have to be assessed for client acceptance by the panel
of which you are a member:
1. LifeAfrika Ltd (LifeAfrica), a JSE-listed company, markets life assurance products and related financial services
in South Africa and 14 other countries on the African continent. LifeAfrica was recently fined an amount of
US$2.6 billion by regulators in one of the countries where it operates (one of the most populous countries in
Africa), and may lose its licence to provide services in that country. LifeAfrica’s management released
information about the fine only after journalists became aware of the fine having been imposed and started
contacting the company for comment. LifeAfrica was also fined by regulators in another country less than two
years ago.
2. Breadwinners Ltd (Breadwinners), a JSE-listed company, is a diversified food group. In the previous financial
year, the company had problems with acquisitions that did not prove as successful as had been hoped,
impermissible accounting practices, and lower-than-expected demand in its substantial milling division. In
response to these problems, Breadwinners fired its auditors (after the conclusion of the prior year audit), and all
three of its executive directors (the chief executive officer and managing director, the chief financial officer and
the chief operating officer) who served on the company’s board resigned in the past year. The company’s
chairman, who used to be its chief executive officer, has been acting as its chief executive officer for the past six
months.
3. Upinsmoke (Pty) Ltd (Upinsmoke) is a manufacturer of cheap cigarettes that it distributes in the major cities of
South Africa. Upinsmoke was founded three years ago by former senior management-level staff members of a
multinational cigarette manufacturing company, and has gained a good market share since then. The company has
informed you that it needs loan funding to expand its manufacturing plant in Germiston and will be presenting its
next set of audited financial statements to a number of banks as part of that process. The managing partner of FZ
is a close friend of Upinsmoke’s chief executive officer and is strongly in favour of taking the company on as a
client.
REQUIRED
Discuss how the information provided above would influence your judgement on the acceptance decision relating to
each of the prospective clients.
[26]
Question 11 LEVEL 2
Pre-engagement
[12 marks]
under U.S. or applicable copyright law.
As the audit partner in the medium-sized audit firm of Perfect Services Inc. (PSI), you have had a discussion with a
friend who has recently completed her electronic engineering degree. Three years ago, together with fellow students
from the same faculty, she registered a private company, Special Speech (Pty) Ltd (Special Speech), a company
specialising in speech technology services that has shown significant growth in the last two years. Transactions are
processed using a Unix system.
Because her previous auditors did not apply International Financial Reporting Standards (IFRS), which would
have presented the company in the most favourable light, she asked you to perform the audit.
You asked the audit senior at PSI to contact your friend with a view to drawing up a potential client
pre-acceptance working paper.
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Working paper
Prepared by: H.D.C. du Plessis (audit senior)
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REQUIRED
Describe any additional pre-engagement activities that need to be considered and addressed before you accept the
auditing engagement of Special Speech.
[12]
Question 12 LEVEL 2
Risk at assertion level
[9 marks]
Mereki Platinum Mines Ltd (Mereki) is a small platinum mine situated in Rustenburg, North-West Province with
head offices in Johannesburg. The company, which was established in 1989, is listed on the JSE.
As a first-year trainee accountant at Mbatha Inc. (Mbatha), which has been the auditors of Mereki for five years, you
are responsible for the 30 June audit of the property, plant and equipment section. You have been provided with the
following information:
Notes:
1. ‘Property’ relates to the land on which the mining operations take place and on which the head offices are located.
2. ‘Plant’ relates to the actual mine and warehouse, which have been provided as security for the bank loan acquired
that year.
3. During the course of the year, additional mining equipment was acquired from a supplier in Germany, as a result
of which such costs as import duties and transportation were incurred. Settlement was made in euros. In order to
ensure that they operate optimally, the machines undergo maintenance every six months.
4. Mereki follows IFRS. Property, plant and equipment (PPE), which is measured at a cost model, is depreciated
using the estimated useful life of each significant component, after the residual value has been deducted on a
straight line method.
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REQUIRED
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Describe the risks of material misstatement at the assertion level for property, plant and equipment of Mereki
Platinum Mines for the year ended 30 June as evinced in the above scenario.
[9]
Question 13 LEVEL 2
Risk at financial statement level
[12 marks]
As a first-year trainee accountant at Motholo Inc. (Motholo), you are currently assigned to a team responsible for the
audit for the financial year ended 30 June of BesaNama (Pty) Ltd (BN), whose financial statements have not been
audited before.
An entertainment outlet that provides facilities for braaiing and for having one’s car washed and valeted while
one enjoys a drink (either non-alcoholic or alcoholic) and snacks, BN operates weekdays between 11h30 and 22h00,
and on weekends between 11h30 and 02h00. On Saturdays and Sundays, which are the busiest days for BN,
customers are entertained by a live band.
BN’s operations are based in Tembisa, a township in the Ekurhuleni municipality, and Mamelodi, a township in
the City of Tshwane municipality.
The company, which was established 15 years ago, is a family business managed by the husband and wife team
of Mr and Mrs Chauke. Until just over a year ago, when an accounting software system was purchased, Mrs Chauke
was responsible for handling BN’s financial affairs, manually recording all transactions. Then, when Thabo Chauke,
the couple’s son, who had just completed Grade 12, was appointed financial manager, he took over responsibility for
the company’s financial affairs and the recording of all transactions.
Although he attended a training course in order to become acquainted with the newly acquired accounting
software system, Thabo has acknowledged that he is not as yet fully au fait with the system, as a result of which he
sometimes makes mistakes while capturing transactions. In addition, as a result of the high volume of transactions
and his being the only responsible person (apart from a cousin who helps with the capturing of transactions at the
Mamelodi outlet) for the recording of transactions, he was not able to record all such transactions. Thabo and his
cousin are paid an annual bonus based on profits for the year.
BN’s monthly revenue averages R600 000. Sometimes, however, when the company operates on weekends
beyond 02h00 in order to sell alcoholic drinks in contravention of the South African Liquor Act, this figure can rise
to R1 000 000.
The company has seen a gap in the market and intends to grow its business to other townships in Gauteng. In
order to do so, BN has applied for a bank loan, approval of which depends on its audited financial statements.
REQUIRED
under U.S. or applicable copyright law.
Identify the risk indicators evinced in the above scenario. In each case, describe the risks of material misstatements
at overall financial statement level of BN the year ended 30 June. Answer using the following tabular format:
[12]
Question 14
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Question 14 LEVEL 2
Risk at assertion level, the audit approach and the risk thereto
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[22 marks]
Dikoloi Ltd (Dikoloi) is an automobile-, motorcycle- and engine-manufacturing company founded in 20X2 with its
head office and manufacturing plant in Brits, North-West Province. Dikoloi adopts IFRS in preparing its financial
statements.
As a first-year trainee accountant at Phillips & Sons Inc. (Phillips & Sons), you have been assigned to the team
responsible for the audit of Dikoloi for the year ended 30 June. You are tasked with the audit of the following
accounts:
Inventory
Notes:
1. Raw material is sourced both locally and in Germany with the German account being settled in euros. Such costs
as import duties and transportation are incurred when raw material is purchased from the foreign supplier. At
year-end, there was inventory, purchased free on board from the supplier, that was still at sea.
2. Work in progress represents automobiles and motorcycles that are incomplete and therefore not yet ready to be
sold.
3. Dikoloi follows a standard costing method in order to account for the allocation of costs to its finished goods.
Loan
Two years ago, Dikoloi obtained a five-year term loan from ABBA Bank in order for the company to increase
production. The loan attracts interest at 12% per annum, with interest payable twice a year.
Share capital
During the year under review, additional shares were issued in order to raise funds to open an additional plant in
East London. The directors issued the shares without first confirming that there were enough unissued shares for
under U.S. or applicable copyright law.
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Notes:
1. Salaries are payable at the end of each month to permanent employees, who are paid according to set salary
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scales.
2. Dikoloi has over 500 employees who earn wages, which are paid weekly on a Friday. Such employees are
employed on a contract basis and earn a specified rate per hour. A higher rate is paid to employees who work
overtime.
3. There are such third-party costs as PAYE and medical aid contributions that Dikoloi withholds from the payment
of employees in order to pay the amount over to the respective authorities.
REQUIRED
1. Describe the risks of material misstatement at the assertion level relating to the identified accounts at Dikoloi as
evinced in the above scenario for the year ended 30 June. Link each of the risks to an assertion. (11)
2. Describe the audit approach/responses appropriate to addressing the risks of material misstatements identified in
the first question. Detailed audit procedures are not required. (11)
[22]
Question 15 LEVEL 3
Risk at assertion level and the response thereto
[20 marks]
You are the audit senior on the audit of Leading-Page (Pty) Ltd (Leading-Page). The company, which is growing at
a rapid rate, manufactures coated paper that it distributes throughout Africa. The company has a March financial
year-end.
The following information was brought to your attention during a meeting held in November with the chief financial
officer of the company:
Leading-Page obtained a loan from Financial Bank in the US for $1 million.
The four-year loan is payable annually in arrears at a rate of 12% per annum on the outstanding balance.
The funds from the loan were used to purchase several of the latest paper-manufacturing machines from a supplier
in the US at a cost of $125 000 each.
Four of the eight machines ordered had arrived by year-end, while the remaining three are scheduled to arrive in
June of the next financial year.
The company has two production facilities: one in Cape Town, which specialises in the production of graphic
paper, and the other in Johannesburg, where a range of coated paper is manufactured.
Leading-Page uses several logistics companies for the transportation of paper within South Africa and to
neighbouring countries. In the case of those foreign cities/towns located more than 4 000 km away, the company
under U.S. or applicable copyright law.
makes use of sea freight in order to transport the paper to the closest port of entry for that country, after which it is
the buyer’s responsibility to arrange transport of the imports to their final destination(s).
All sales to buyers outside South Africa are concluded in US dollars. Leading-Page hedges 40% of its foreign
transactions.
As the company does not accept cash or cheque payments, all sales are concluded via EFTs. The credit terms
stated in the contracts between Leading-Page and its buyers determine the amounts due and the dates by which
payments are required.
A select group of buyers has been granted the right to hold 30% of the inventory ordered on consignment on a
trial basis. If it proves to be profitable, the company might increase the number of such buyers.
REQUIRED
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Describe the risk of material misstatement at assertion level as evidenced in the above scenario, in each case giving
your responses thereto in your capacity as the auditor of the company.
[20]
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Question 16 LEVEL 2
[10 marks]
You are commencing your third year as a trainee accountant. The senior manager on the client has selected you to
plan the current year’s audit of the Gold Group (Pty) Ltd (Gold Group). The company has a December year-end.
You obtained the following information while preparing your planning working papers:
policy to recognise only 90% of the sale until the 60 days has passed by.
Products sold by the stores within the Gold Group are acquired from local suppliers and foreign suppliers in the
Far East. Products purchased from foreign suppliers are generally shipped freight on board to Durban harbour
before being distributed to the various stores.
– The ‘Home Specialist Store’ had sold products only for cash prior to being acquired by the Gold Group.
The company obtained a R15 million loan from the Industrial Development Corporation in October of the current
financial year in order to acquire the Home Specialist Store. The loan is repayable over the loan term of seven
years with interest charged at prime +2% payable on a monthly basis.
REQUIRED
Describe the factors that increase the risk of material misstatement at account and assertion level.
[10]
Question 17 LEVEL 2
Risk at financial statement level
[16 marks]
You have recently been appointed as auditor of Mobile Connectivity Ltd (Mobile Connectivity). The company is
one of the largest internet service providers in South Africa and was incorporated 10 years ago. The company was
listed on the JSE two years ago. During the preliminary engagement procedures, you held discussions with senior
personal.
The profit margin of the company increased slightly over the past year even though there was an increase in the
number of smaller service providers entering the industry.
The company’s management took a strategic decision half way through the year that it would reduce its rates
substantially in order to compete with the rates being offered by the smaller service providers.
The company imports its fibre optic cables from Fibre Corp, a manufacturer of fibre optic cables, in Dallas,
Texas. The fluctuation of the rand has caused the directors of the company to reconsider the current policy of
hedging 25% of foreign purchases.
Mr James, the human resources director, indicated that the company’s bonus structure works in the following way:
Employees of the company, other than executive directors and senior management, receive a bonus equal to one
month’s salary in the month of their birthday.
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Executive directors and senior management receive a bonus linked to the profit generated by the company during
the financial year.
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Additional information:
Mobile Connectivity’s previous auditor resigned after servicing the company for nine years. The previous auditors
determined that it was not able to service a client of this size appropriately any longer. The senior engagement
partner on the audit has indicated that his audit firm is willing to assist your audit team with information regarding
previous audits, but has requested that such assistance be communicated in a timely manner as all of his managers
are generally extremely busy at that time of the year.
The firm will make use of an audit firm in Zimbabwe to assist in the performance of audit procedures that are
required to be completed at these branches.
Mobile Connectivity’s reporting currency is South African rand.
REQUIRED
Describe the factors that increase the audit risk at the financial statement level.
[16]
Question 18 LEVEL 3
Risk at assertion level
[12 marks]
The following paragraphs provide information about Collectors’ Emporium (Pty) Ltd (Collectors’ Emporium). The
business is managed by Mr Jonah Abercrombie, who has been involved in art and book dealing for more than 30
years. He also has a 50% shareholding in Collectors’ Emporium. Collectors’ Emporium’s financial year-end date is
31 December:
1. Collectors’ Emporium’s business involves dealing in collectible books and artworks.
2. Books and artworks are imported from and exported to a number of countries. Items are transported by plane, as
far as possible. Items that are sold are despatched or released to the buyer only after receipt of payment, and such
items generally are despatched within 48 hours after receipt of payment. The business closes two weeks before
Christmas and re-opens only in the third week in January.
3. Not long before Collectors’ Emporium’s financial year-end date, Flossie Visagie, the company’s bookkeeper,
managed to delete all Collectors’ Emporium’s receivables records while trying to make backups. She has since
tried her best to reconstruct the receivables records, but due to her poor record-keeping, the process involved a
considerable degree of guesswork.
4. The business operates from Mr Abercrombie’s sprawling house in Houghton, Johannesburg, with most of the
rooms used to display business inventory. Mr Abercrombie is a collector himself, and many of his own artworks
are displayed in the rooms where the business inventory is displayed.
5. Mr Abercrombie takes items in for selling on a consignment basis, but these items are not kept in a defined area.
under U.S. or applicable copyright law.
6. Collectors’ Emporium employs a full-time art and book restorer, who is known for the high quality of his work.
He restores only books and artworks that form part of Collectors’ Emporium’s inventory.
REQUIRED
Explain how the information in each of the numbered paragraphs increases the risk of material misstatement at the
assertion level in the financial statements of Collectors’ Emporium.
Note: Your answer should not deal with risk at the overall financial statement level.
Use the following tabular layout for your answer:
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AFFECTED ASSERTION(S) EXPLANATION
1.
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2.
[12]
Question 19 LEVEL 3
Audit risk overall level
[19 marks]
You are a senior manager under the employment of Boswell & Sons Audits Inc. (Boswell & Sons). Boswell & Sons
has been recently appointed as the auditors of Sniffindale Ltd (Sniffindale) for the 20X0 financial year-end.
Sniffindale is a ski resort located in a very small town called Sniffindale, South Africa. Sniffindale attracts
thousands of local and overseas tourists and has been in operation for 15 years. The entity is a subsidiary of a group
that is listed on the Australian stock exchange. In order for all entities in the group to have the same year-end,
Sniffindale changed its financial year-end during the current year from 28 February 20X1 to 31 December 20X0. In
order to complete the consolidation, the Australian holding company requested Sniffindale’s financial statements to
be finalised at 21 January 20X1. Sniffindale reports in rand.
Sniffindale’s management promotes a strong internal control environment. The accounting function has 10
highly competent, qualified and experienced accountants. As Sniffindale strives to promote care for the
environment, all transactions within the company occur on a fully integrated, computerised system, limiting any
paperwork to the minimum.
Previously management received earnings-based bonuses. However, on 1 January 20X0, the policy was
amended and management currently earns bonuses based on customer satisfaction.
During the 20X0 financial year, a global recession hit and Sniffindale had approximately 25% less customers
than previous years. Sniffindale therefore had to arrange for overdraft facilities at Money Bank, which requires a
liquidity ratio of at least 2:1.
REQUIRED
Evaluate the audit risk at the overall financial statement level of Sniffindale, for the 31 December 20X0 financial
year-end.
[19]
Question 20 LEVEL 3
under U.S. or applicable copyright law.
[20 marks]
You are the audit senior on the audit of Poison Ltd (Poison) for the year ending on 31 October 20X1. The company
manufactures poisons for use against intrusive plants and weeds. Poison was established approximately seven
months ago by a group of friends who recently obtained their BSc degrees. They inadvertently and successfully
developed the new poison as a result of a failed experiment during which they initially attempted to develop a
kitchen cleaning product. They subsequently formed the company.
The company has been experiencing financial difficulties and has not made a profit to date. The company found
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it difficult to gain market share due to strong market competition. As a result, an audited set of financial statements
is required for submission to the bank to negotiate additional financing. The company is also struggling to collect
debts, with an average outstanding debtor period of 101 days at year-end.
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The above matter also impacted the company’s ability to pay suppliers. Two large suppliers have already refused
to supply Poison with any further products until the outstanding debts have been settled. The current creditor
payment period is 79 days. The directors have, however, told you that the board managed to source two suppliers
located in China due to past trade talks initiated during a visit by South Africa’s minister for trade and industry and
his business delegation. The products will be imported by Poison free-on-board to South Africa. The minister’s
delegation was able to negotiate a 60-day credit term on behalf of Poison.
REQUIRED
Describe the factors that will increase the risk of material misstatement on assertion level for inventory, accounts
payable and accounts receivable in respect of the audit of Poison for the year ending 31 October 20X1. Ignore
control risks.
[20]
Question 21 LEVEL 3
Risk and response at assertion level
[17 marks]
You are the senior auditor on the audit of Power (Pty) Ltd (Power), a company that distributes generators and
transistors to wholesalers and the public from its warehouse in Durban. The company has a December financial
year-end.
The company was incorporated seven years ago by two friends, Miss Chumanga and Mr Casey, on completion
of their undergraduate studies at the same local university. They both have an equal stake in the company. Miss
Chumanga is the marketing director at the company, as she obtained a marketing degree, and Mr Casey is the chief
financial officer, as he obtained a degree in accounting. They both receive a bonus linked to the revenue generated
by the company over the course of the financial year.
The company obtained a R40 million loan from the Industrial Development Corporation on 1 July in order to
finance a plant from which it intended to mass produce generators instead of purchasing generators from the Far
under U.S. or applicable copyright law.
East. It has not yet started constructing the plant and therefore plans to start producing generators and transistors
only in the next financial year.
The terms of the loan are as follows:
The loan draws interest of 22% per annum.
The interest and a portion of the capital on the loan are payable monthly in arrears.
The loan must be paid back in full within seven years from the date of receiving the loan.
The Industrial Development Corporation requires signed financial statements within 30 days of the financial
year-end.
The Industrial Development Corporation can demand immediate settlement of the loan if Power’s current ratio
drops below 2.5:1.
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Should the loan be recalled at the year-end, Power’s current liabilities would exceed its current assets by a
substantial amount.
Neither Miss Chumanga nor Mr Casey has any additional money to contribute to the business – part of the loan
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conditions from the Industrial Development Council required that they invest R10 million each into the project.
The company hedges 45% of the generators and transistors purchased in the Far East with forward exchange
contracts which it takes out with the company’s local bank.
The generators and transistors normally take 1.5 months to arrive in Durban from the date that the goods leave
the supplier’s warehouse and an additional week to clear customs. Thereafter, the generators and transistors are
transported to the company’s warehouse from which they are sold to the wholesalers and public. R2 million worth of
generators and transistors were on route from the supplier in the Far East to the Durban warehouse at year-end.
Power saw an increase in its sales during the winter months as a result of promotions that it ran during the
month. These included granting customers up to 5% off from their initial invoiced cost if they settled their accounts
within 30 days from the date of purchase. The discounts were approved at the director’s board meeting held on 5
April.
REQUIRED
Describe the factors that increase the risk of material misstatement at assertion level and briefly how you, as auditor,
would respond to the risk.
[17]
Question 22 LEVEL 3
Detection risk
[22 marks]
HKL Auditors Inc. (HKL), with its main office in Johannesburg, is currently engaged in planning the audit of
Diamond Hardware (Pty) Ltd (Diamond Hardware) for the client’s 31 December 20X1 financial year. Diamond
Hardware is a large wholesaler of hardware equipment and is also situated in Johannesburg.
During the audit planning meeting, where only some of the junior audit team members were present, the
susceptibility of the client’s financial statements to material misstatement was discussed. The engagement partner,
Hein Williamson, addressed the audit team members present and made the following comments, inter alia:
The budget for the 31 December 20X1 year-end audit of Diamond Hardware is unfortunately very tight.
The two owner-managers of the company have specifically asked me to keep the audit fees the same as
last year, otherwise HKL might get replaced by another audit firm next year. This, despite Diamond
Hardware having installed a new accounting system in 20X1, which meant a change to a significant part
of the company’s system of internal controls.
I would also like to announce that Karina McKay, a second-year trainee accountant at our firm, will be the
under U.S. or applicable copyright law.
responsible audit senior on the audit seeing that the prior year’s audit senior is currently on study leave. In
addition, the audit manager, who is newly assigned to the audit, should not be bothered with any
questions except in very important cases, as she will be too busy on other audits at that time. Karina,
although we know you have not been on the audit in any prior year, we are forced to throw you into the
deep end. We trust that you will be able to cope!
To take some pressure off the audit team, I will ensure that the sample sizes used in substantive audit
procedures are smaller than usual.
Also keep in mind that the audit manager on the prior year’s audit of Diamond Hardware, Terence
Radebe, has recently been appointed as the financial manager of Diamond Hardware. As you might know
, Diamond Hardware’s previous financial manager was dismissed two months prior to the 20X1 year-end
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as a result of possible fraud that took place in the company’s accounting department. They needed a
person with Terence’s skills to restore order in their accounting function.
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Please note that we will be making use of many first-year trainee accountants on this assignment to save
on costs. More experienced, senior audit staff members will be too expensive.
REQUIRED
Identify and explain the factors that increase detection risk on the audit of Diamond Hardware for its 20X1 financial
statement audit, evident from the scenario. Structure your answer as follows:
[22]
Question 23 LEVEL 2
Audit strategy
[6 marks]
You were recently appointed as the auditor of People Ltd (People). As part of the planning of the audit, you are
trying to gain an understanding of the company’s operations. The following information has been brought to your
attention.
People Ltd is a holding company with five subsidiaries, two of which reside outside South Africa.
Your audit firm will be responsible for the audit of the holding company only and not the subsidiaries.
REQUIRED
Indicate how each of the above pieces of information will affect your audit strategy.
[6]
Question 24 LEVEL 2
under U.S. or applicable copyright law.
Planning strategy
[9 marks]
You are an audit manager at the audit firm of UHK Inc. (UHK) and have been assigned to the audit of CashNow
Bank Ltd (CashNow), a registered bank in South Africa. CashNow provides banking, insurance and investment
products and services to retail, commercial, corporate and public sector customers. CashNow has a 31 December
year-end.
You acquired the following information during the preliminary engagement phase of the 2015 audit:
1. The bank is listed on the JSE.
2.
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2. It has four divisions, three subsidiaries and two associates. One of the subsidiaries is audited by another audit
firm, while all other entities are audited by UHK.
3. CashNow’s trading systems are fully computerised.
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4. CashNow has an internal audit department which focuses on areas relating to financial reporting identified by its
audit and risk committee.
5. As a result of an unfavourable economic environment, CashNow has been experiencing high levels of bad debt
write offs and has incurred losses during the 20X1 financial year.
6. The audit reporting deadline is 10 February.
REQUIRED
Explain how each of the matters listed in points 1 to 6 affects the scope, timing and/or direction (whichever is
relevant) of the 20X1 audit of CashNow.
[9]
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32 It adds in human resources.
33 You need to do (and explain your reasoning behind) the calculations, thus motivating your decisions.
34 Thus overall as well as performance materiality.
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68 Risk.
69 Explanation.
70 Indicator.
71 Explanation.
72 Risk.
73 Indicator.
74 Explanation.
75 Risk.
76 Indicator.
77 Risk.
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78 Explanation.
79 Inherent and control risk.
80 Remember the balances assertions.
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81 PPE accounting requirements, such as depreciation method, residual value, useful life, allocation of costs, etc. =
inherent risk.
82 Borrowing costs incorrectly allocated = inherent risk.
83 Detection risk.
84 Explanation, error.
85 Assertion.
86 Explanation, error.
87 Indicator (accounting requirement).
88 Assertion.
89 Explanation, error.
90 Indicator (accounting requirement).
91 Assertion.
92 Explanation, error.
93 Indicator (accounting requirement).
94 Assertion.
95 Explanation, error.
96 Indicator (accounting requirement).
97 Assertion.
under U.S. or applicable copyright law.
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INTRODUCTION
It is important to identify whether a substantive question relates to balances or to transactions, since the framework
to be applied in answering questions referring to both types will differ according to the audit assertions. Example
question 1 provides the framework to be applied in answering those questions regarding balances, while example
question 2 provides the framework for answering questions regarding transactions.
Important in an analysis of what, and how much, to write is the mark allocated to each question. Although a
detailed answer may be required if the mark allocation is 20 (for example), the answer should be limited to the
essentials if only five marks have been allocated.
Remember that the solutions provided in this chapter, which have been suggested by the compilers of the
questions themselves, are merely guides to the types of procedures that should be performed. No solution to
substantive questions can be comprehensive, as many other procedures may exist. In addition, because each student
communicates differently, the examiner will not expect him/her to produce an answer set out exactly as in the
suggested solution.
under U.S. or applicable copyright law.
EXAMPLE QUESTION 1
Balances
[17 marks]
Your firm was recently appointed as auditors of Quench (Pty) Ltd (Quench), a company manufacturing a range of
beverages at its plant in Atlantis. The company, which has a December year-end, has a fully integrated computerised
system that runs on local area network (LAN).
You have been assigned to audit the purchases and payments cycle. In the course of the planning stage of the
audit, you met with the chief financial officer, Mrs Price, and the chief buyer, Mr Pravesh, in order to gain an
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understanding of this cycle.
Extract from a meeting held with Mrs Price and Mr Pravesh on 5 October
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All the ingredients needed in order to produce the beverages are purchased from local suppliers, most of
which are paid via EFT. However, a few of them still prefer cheque payments.
Additional information
Your firm conducted the inventory count on 31 December, during which it was noted that the last GRN number
was XJ 10980.
You have received a listing of all the trade payables at both the current and the previous year-ends.
In addition to the credit manager, Mr Paton, the credit department comprises two other staff members, namely Ms
Louwrens and Mr Tabane.
Trade payables at 31 December are stated as R9 350 000 (previous year: R12 345 000).
REQUIRED
Describe the substantive audit procedures that you should perform in order to verify (a) the trade accounts payable
balance at year end, and (b) that the amount is not understated.
[17]
GUIDANCE
understand the audit procedures that are usually relevant to the specific item(s) being audited
identify the specific issues and risks that need to be addressed
identify the IFRS criteria
identify the specific audit standards applicable to the scenario.
The best way to prepare yourself for tests/examinations is to work through as many substantive questions under
examination conditions as possible, noting the different frameworks and the procedures applicable in the various
types of questions.
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Your firm was recently appointed as auditors of Quench (Pty) Ltd (Quench), a company manufacturing a range of
beverages at its plant in Atlantis. The company, which has a December year-end, has a fully integrated computerised
system that runs on local area network (LAN).
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You have been assigned to audit the purchases and payments cycle.3 During the planning stage of the audit, you
met with the chief financial officer, Mrs Price, and the chief buyer, Mr Pravesh, in order to gain an understanding of
this cycle.
Extract from a meeting held with Mrs Price and Mr Pravesh on 5 October4
All the ingredients needed in order to produce the beverages are purchased from local suppliers, most of
which are paid via EFT. However, a few of them still prefer cheque payments.
Additional information
Your firm conducted the inventory count on 31 December, during which it was noted that the last GRN number
was XJ 10980.5
You have received a listing of all the trade payables6 at both the current and the previous year-ends.
In addition to the credit manager, Mr Paton,7 the credit department comprises two other staff members, namely
Ms Louwrens and Mr Tabane.
Trade payables at 31 December are stated as R9 350 0008 (previous year: R12 345 000).
Exam technique
1. Use the audit assertions of balances as a framework for your answer:
Completeness and existence
Obligations
Valuation
Disclosure
Since the scenario indicates a possible risk of understatement of accounts payable, more procedures than usual apply
to the completeness and existence assertion. However, this is not the case when auditing accounts receivable
(management usually overstates trade debtors in order to increase profits), with the result that fewer procedures need
to be performed for the assertion.
under U.S. or applicable copyright law.
Both the obligations and the disclosure assertions are usually covered by one procedure each.
Valuation, the most important one to address, contains the most procedures, since material misstatement could
easily occur.
re-perform
observe
scrutinise
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If you start your sentence with ‘ensure’, ‘check’, ‘confirm’ or ‘verify’, you risk losing marks, since they indicate that
you are not tackling the specifics of how to perform the procedure. Furthermore, the words ‘Check that cut-off
procedures were properly performed at year-end for revenue’ will mean nothing to someone with no experience in
that specific field. Therefore, describe your audit procedure as if you were explaining it to a novice.
1. Communicate properly.
If the examiner is able to write HOW, WHAT or WHY next to your answer, you will forfeit marks. For example, in
the sample answer already quoted (‘Check that cut-off procedures were properly performed at year-end for sales’),
he/she is able to discern the WHY (the cut-off of sales), but not the HOW (the last 20 delivery notes before and after
year-end) or the WHAT (the dates on the delivery note).
SUGGESTED SOLUTION
1. Completeness and existence
a) Obtain a management representation10 letter with specific reference to the completeness and existence assertion
for trade accounts payable. (1)
b) Inquire from Mr Paton about any explanations for the material decrease in the creditors balance from R12 345
11
000 (previous year) to R9 350 000 (current year), and follow up his explanations with supporting
documentation.12 (1)
c) Compare the list of creditors at 31 December to the previous year’s working listing for:13
i) creditors on the latter list who do not appear on the former (1)
ii) creditors balances that are significantly smaller at 31 December than during the previous year. (1)
Elicit reasons from the creditors clerks and corroborate them with Mr Paton where they are material or
necessary. Obtain supporting documentation for all explanations given. (1)
d) Extract a listing of creditors from the creditors masterfile that has an entry in the disputes field. By means of the
number, trace the dispute to the correspondence or supporting documents. Follow up on the status of disputed
accounts with both Mr Paton and the creditor. (1)
e) Perform analytical review procedures14 on the creditors balance and follow up on such material fluctuations as
those revealed when comparing current year purchases and creditors, as well as those for previous years. (1)
f) Inspect working papers relating to the inventory count for any instances where physical inventory materially
exceeded theoretical inventory,15 which could indicate purchases that were received before year-end but were
not raised as a liability at year-end. (1)
g) After stratifying the purchases journal for January, select a sample of 20 material purchases and trace them to
the GRNs. Confirm that the GRN numbers are greater than XJ 10980,16 and that the dates on the notes and the
supplier’s delivery notes are later than 31 December, the financial year-end. (1)
h) Select a sample of 20 material payments made subsequent to 31 December, and by means of an inspection of
the dates on the corresponding GRNs and the supplier delivery notes, confirm whether or not the goods were
under U.S. or applicable copyright law.
received prior to 31 December and if the corresponding creditors had been raised at year-end. (1)
2. Obligation
Inspect from the samples17 selected that source documentation was made out in the name of Quench (Pty) Ltd.
3. Valuation (1)
a) Extract and cast the creditors balances of the creditors located in the masterfile and agree them to the creditors
control account in the general ledger. (1)
b) Re-perform a sample of the cross cast (days outstanding) on the masterfile. (1)
c) Scan the masterfile for such error conditions as duplicate supplier numbers and duplicate addresses. (1)
d) Inspect the masterfile for debit balances, follow up on the reasons for them with Mr Paton, and reclassify the
remaining debit balances to accounts receivable.18 (1)
e) Scrutinise the creditors control account for unusual entries (particularly rounded-off amounts) and follow up
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with supporting documentation. (1)
f) Select a sample of creditors reconciliations at 31 December19 (which includes reconciliations prepared by both
the clerks) and:
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EXAMPLE QUESTION 2
Transactions
[15 marks]
You are a senior auditor on the audit of Gracys Ltd (Gracys), a company with a September year-end. Your audit firm
has been Gracys auditors for the past five years.
The company sells clothing, shoes and beauty products at 22 branches located across the country as well as from
their virtual store at which online sales are made.
Management usually pays close attention to the sales figures, as the manager of each store receives a
performance bonus that is linked to sales.
Sales
The chief financial officer, Mr Chris Tommylin, has indicated that total sales (R833 million) for the year have
increased by 7% over those of the previous year (R778 million).
The accounting systems of the company, whose head office is located in Cape Town’s central business district,
are fully integrated and run on a wide-area network. The points-of-sales systems at each of the stores are connected
to Gracys intranet via Telkom’s virtual private network.
In-store purchases
In-store purchases are made with cash, on credit and by using either the Gracys customer store card (on which a
pre-determined credit limit has been set) or the customer’s bank credit card.
Once a transaction has been processed, the sale is immediately posted to the sales account with a unique branch
under U.S. or applicable copyright law.
code in order to identify the branch to which the sale relates. A copy of the invoice handed to the customer is
automatically generated at head office at the conclusion of the transaction. These copies are archived electronically
until needed.
Online purchases
Online purchases are concluded by the customer inputting his/her credit card details. Deliveries are made to South
African addresses only.
Notification is sent to the store located closest to the customer whenever an approved order is received. A
designated sales clerk at the store then processes the order based on the information received in the notification.
Three delivery notes are generated, after which a courier delivers the product(s) to the address indicated by the
customer. However, before the courier leaves the company’s premises, the security guard at the gate checks the
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description of the goods on the delivery note against the goods in the courier’s vehicle, signing the delivery note as
proof that he/she has performed this task.
Upon receiving the goods, the customer signs all three copies of the delivery note, one of which he/she retains.
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The other two copies are returned to a designated sales clerk at the store from which the products were delivered.
The sales clerk then captures the delivery date on the system and scans one of the delivery notes onto the system in
order for it to serve as proof of delivery. The accounting system then generates an invoice (much like the invoice for
in-store sales). At the end of each week, the sales clerk files one copy of the signed delivery note, sending the third
to head office, where it is filed. The sales manager at head office, Mrs Kobe, has indicated that her team performs
weekly reconciliations between the delivery notes that arrive via courier and those scanned into the system at the
store. To date, they have discovered no discrepancies.
REQUIRED
Describe the substantive audit procedures that you would perform in order to verify sales as part of your year-end
audit. Ignore goods returned.
[15]
GUIDANCE
Note: The previous example was the audit of balances. We are now going to focus on audit transactions.
Sales
The chief financial officer, Mr Chris Tommylin, has indicated that total sales (R833 million) for the year have
increased by 7% over those of the previous year (R778 million).
The accounting systems of the company, whose head office is located in Cape Town’s central business district,
are fully integrated and run on a wide-area network. The points-of-sales systems at each of the stores are connected
to Gracys intranet via Telkom’s virtual private network.
In-store purchases 26
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In-store purchases are made with cash, on credit and by using either the Gracys customer store card (on which a
pre-determined credit limit has been set) or the customer’s bank credit card.
Once a transaction has been processed, the sale is immediately posted to the sales account with a unique branch
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code in order to identify the branch to which the sale relates. A copy of the invoice handed to the customer is
automatically generated at head office at the conclusion of the transaction. These copies are archived electronically
until needed.
Online purchases27
Online purchases are concluded by the customer inputting his/her credit card details. Deliveries are made to South
African addresses only.
Notification is sent to the store located closest to the customer whenever an approved order is received. A
designated sales clerk at the store then processes the order based on the information received in the notification.
Three delivery notes are generated, after which a courier delivers the products to the address indicated by the
customer. However, before the courier leaves the business premises, the security guard at the gate checks the
description of the goods on the delivery note against the goods in the courier’s vehicle, signing the delivery note as
proof that he/she has performed this task.
Upon receiving the goods, the customer signs all three copies of the delivery note, one of which he/she retains.
The other two copies are returned to a designated sales clerk at the store from which the products were delivered.
The sales clerk captures the delivery date on the system and scans one of the delivery notes onto the system as proof
of delivery. The accounting system then generates an invoice (much like the invoice for in-store sales). At the end of
each week, the sales clerk files one copy of the signed delivery note, sending the third to head office, where it is
filed. The sales manager at head office, Mrs Kobe, has indicated that her team performs weekly reconciliations
between the delivery notes that arrive via courier and those scanned into the system at the store. To date, they have
discovered no discrepancies.
Exam technique
1. Use the audit assertions of transactions as a framework in answering the question:
occurrence
accuracy
classification28
cut-off
completeness
disclosure
2. Start your sentences with:
inspect
inquire
re-perform
observe
scrutinise
select a sample (or extract)
OR
agree (or match).29
3. Communicate properly.
under U.S. or applicable copyright law.
Note: Although a lot of information was given in the question relating to the internal control of Gracys, this will be
relevant only if the auditor needs to perform test of controls. If the questions are substantive, you may ignore this
information, since it will have no relevance to your answer.
SUGGESTED SOLUTION
(Note the difference in headings from the previous example question.)
1. Occurrence30
a) Obtain the sales schedule from Mr Chris Tommylin and cast31 it. (1)
b) Agree the total of R833 million to the general ledger and the trial balance.32 (1)
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c) Scrutinise the sales schedule for any such unusual entries as duplicate sales invoices, duplicate account holders
and duplicate addresses. (1)
d) Stratify the in-store sales further (e.g. per region and branch) and select a sample of invoices to be tested. (1)
33
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e) Print the sample selected and, using the invoice numbers noted on the sales schedule, agree the invoice numbers
to the signed filed invoices or delivery notes (which have been sent to head office by the store from which the
goods were delivered), in order to confirm that the debtor has acknowledged the debt or the transfer of risk.
2. Accuracy34 (1)
For a sample of invoices selected:
a) cast the invoices (1)
b) recalculate the VAT on them (1)
c) agree the sales prices on the invoices to the approved sales price listing35 (1)
d) scrutinise the sales account for any suspicious journal entries (1)
e) follow up on items noted on any exception reports affecting sales. (1)
Identify the key information (such as product sold, quantity, date, etc.) recorded on the invoices selected and
agree the key information to the detailed audit trail of each sale recorded in the accounting records. (1)
3. Classification 36
Scrutinise the sales account in the general ledger for non-revenue items incorrectly posted to sales, such as
dividend income and interest received. (1)
4. Cut-off
a) In-store sales
As management receive bonuses,37 select a sample of 20 invoices from one month prior to and one month after
year-end and trace them through to the sales account in order to determine whether the sales were recorded in
the correct financial period. (1)
b) Online sales
Select a sample of 20 signed delivery notes from one month prior to and one month after year end and trace
them through to the invoices and the sales account in order to determine by an inspection of the dates on the
delivery notes whether the sales were recorded in the correct period. (1)
5. Completeness
a) For a sample of delivery notes and invoices:
i) inspect the sequences for missing numbers, and, where exceptions arise, follow up on them with
management; and (1)
ii) reconcile the delivery notes and invoices in order to ensure that all transactions are accounted for. (1)
b) Perform the following analytical review procedures:38
i) For each store: Make a year-on-year comparison of credit sales, cash sales, total sales and online versus
in-store sales in order to obtain reasons for any unexpected fluctuations. (1)
ii) For each region: Make a year-on-year comparison of credit sales, cash sales, total sales and online versus
in-store sales in order to obtain reasons for any unexpected deviations. (1)
Any other valid procedures. (1)
6. Disclosure
Inspect the correct disclosure of revenue in the financial statements, including the accounting policies. (1)
QUESTIONS
Question 1 LEVEL 3
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Revenue applying IFRS 15
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[14 marks]
Trackster Ltd (Trackster) operates in the private security sector. The company’s external auditor is currently auditing
the revenue figure disclosed in Trackster’s draft annual financial statements for the financial year ended 30
September 20X1. Trackster earns revenue in two ways: the sale of GPS-based tracking services and the sale of
emergency roadside kits, accounted for in two separate general ledger accounts. Trackster applies IFRS 15.
Tracking services
GPS-based tracking services involve Trackster installing a GPS-based tracking device in a customer’s vehicle in a
position that makes the device difficult to find. When a customer’s vehicle is stolen, the customer can identify its
location by means of Trackster’s smart phone app and, at the same time, alert Trackster to the theft. Trackster will
send out an armed response team to attempt a retrieval of the vehicle.
In order to obtain a tracking device, a customer must subscribe to a 12-month contract priced at R100 per month,
invoiced at the beginning of a month. Should the customer want to make use of a discount of 20%, he/she must pay
a one-off (up-front) fee of R960 at the beginning of the 12-month contract and does not have to pay any monthly fee
thereafter. The tracking device remains the property of Trackster throughout the subscription period. New customers
must sign a written sales agreement either at a Trackster retail outlet or in the comfort of their homes in the presence
of a Trackster sales agent. All prices charged are the same as in the 20X0 financial year.
Trackster records the details of all subscribers’ contracts, including amounts recognised each month as revenue,
in a contracts spreadsheet.
REQUIRED
1. Discuss in detail why Trackster will not be able to recognise the full R1 785 400 revenue from emergency
roadside kits for the 20X1. (3)
2. Describe the substantive audit procedures which Trackster’s auditor must perform in order to test the occurrence,
accuracy and cut-off of revenue derived from the sale of GPS-based tracking services and recorded in Trackster’s
annual financial statements.
Note: Ignore the cost implications of the GPS tracking device for Trackster and do not address the testing of the
presentation assertion or related disclosures in your answer. (11)
[14]
under U.S. or applicable copyright law.
Question 2 LEVEL 2
Revenue
under U.S. or applicable copyright law.
[15 marks]
Prompt Health (Pty) Ltd (Prompt Health), a private hospital founded 15 years ago, focuses on neonatal and
neurological cases. In addition, the company is the 100% owner of a pharmacy, Health Products (Pty) Ltd (Health
Products), located on its premises, to which it sells medicines and related products at a 5% mark-up.
With the exception of a handful of private patients, all Prompt Health patients have medical aids. Before a
patient in the latter category is admitted, authorisation for treatment is obtained from his/her medical aid. Although
medical aids are able to pay outstanding amounts within 30 days, private patients need to pay in advance.
Currently employed at Auditors4U Inc., you have already completed the first two years of your three-year
articles. Owing to your knowledge and experience, you have been appointed as the senior on the audit, for which the
revenue and receivables sections have been assigned to you. After performing walk-through tests on all the relevant
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sections, the audit manager has concluded that a substantive-based audit will be performed for the 30 September
20X1 year-end audit.
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You have received the following trial balance extracts from the financial manager of Prompt Health:
REQUIRED
Describe the substantive audit procedures that you would perform with regard to the 20X1 year-end revenue figure
of Prompt Health in order to obtain appropriate audit evidence regarding the relevant audit assertions (excluding
classification).
[15]
Question 3 LEVEL 2
Revenue
[13 marks]
Flowers.Net (Pty) Ltd (Flowers.Net), specialists in the online retailing of flowers and gifts, has appointed RightWay
Incorporated (RightWay) as its external auditors for the 30 June 2016 year-end audit. The auditing firm was
appointed by the shareholders of Flowers.Net at the annual general meeting held on 30 September 20X1, after the
decision had been taken to rotate external auditors in terms of the Companies Act.
After customers have placed goods in their online baskets, their credit card details are required before sales may
be transacted. A number of edit checks exist on the system, with the result that orders are accepted only if all the
necessary details (delivery addresses, customers’ names, contact numbers, etc.) have been supplied.
Sales are processed once confirmation has been received from the customers’ banks that the transactions have
been approved.
Customers are emailed automatically with confirmations and the reference numbers for the orders.
Orders are logged automatically onto Flowers.Net’s computer system.
The system automatically generates a picking slip, which is used to pick the goods in the warehouse and signed by
the picker. A warehouse clerk produces a printout of all picking slips.
The goods are delivered to customers by Flowers.Net’s couriers.
Staff members in the delivery section generate a duplicate delivery note from the invoicing module, one copy of
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which is signed by the customer on receipt of the goods. This copy is returned with the delivery staff.
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REQUIRED
Describe the substantive audit procedures that you would perform with regard to the sales system of Flowers.Net in
order to obtain audit evidence regarding the following revenue assertions:
Occurrence
Accuracy
Completeness
[13]
Question 4 LEVEL 2
Revenue
[25 marks]
As the audit manager, you are currently busy with the year-end external audit of Advertising Space (Pty) Ltd
(Advertising Space), a company selling advertising space on billboards along the highways of South Africa. The
company was formed by an entrepreneur who wanted to create direct competition to ‘Below the belt advertising’
CC, which he believed provided a poor service to its customers. Advertising Space earns commission on every
square metre of billboard space that it sells. Since the commission account is considered a high-risk balance, you
decided to audit the balance yourself. You are busy with the substantive procedures of the commission account in
the statement of comprehensive income for the year ended 31 October.
Since Advertising Space does not have the necessary capital with which to build its own billboards, it has signed
contracts with billboard companies (operators) in terms of which Advertising Space sells the billboard spaces
(referred to henceforth as packages) on their behalf. Fees vary, depending on the nature of the billboards, their
location, whether they are static or electronic, etc.
Advertising Space, which has seen much growth of late, has several packages on its books. Commission on the
packages is earned through selling them to clients from other operators. Once the sale of a package has gone
through, a contract is concluded between the operator and the client, the commission being calculated as a
percentage of the purchase price of the package. Clients are obligated to pay a deposit of 10% of the purchase price
of the package on top of the commission to be paid to Advertising Space.
The company uses a bank-clearing account system that records all monies deposited by customers and generates
a pre-numbered receipt, a copy of which is sent to the client as proof of the receipt of payment. Advertising space
then transfers a portion of the amount due to the account of the relevant operator. The commission owing to
Advertising Space is paid into its current bank account by means of a cheque. No electronic payments, cash
payments or transfers are made.
For each transaction, a sales file is maintained, in which all details of that transaction are filed, including a copy
of the contract, details of the terms and conditions and the terms of payment.
under U.S. or applicable copyright law.
REQUIRED
Describe the substantive procedures you would perform in order to audit the commission account in the statement of
comprehensive income for the year ended 31 October.
[25]
Question 5 LEVEL 2
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Revenue
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[22 marks]
You are the audit manager on the 20X1 year-end audit of DreamHomez (Pty) Ltd (DreamHomez), a company with a
31 December year-end that specialises in domestic design and interior decoration. As DreamHomez believes in
investment in the local economy, all building materials are purchased from South African suppliers.
You have assigned one of your second-year trainees, Tim Hanks, to the revenue cycle. After discussions with the
client, Tim drafted the following working paper.
3 After having received an approved quotation, the legal department draws up a contract, which is
. signed by both the credit manager and the client, thereby legally binding the latter to the repayment
of the loan and the payment of all costs relating to the work done.
4 Revenue recorded is based on the percentage of completion.
. Clients are invoiced monthly on pre-numbered invoices.
Interest on the loans accrues from the date of invoicing.
5 The financial manager performs monthly debtor reconciliations, which she signs as proof of
. performance.
under U.S. or applicable copyright law.
REQUIRED
Design the audit procedures that should be performed in order to obtain sufficient, appropriate audit evidence
regarding the revenue figures of DreamHomez for the 31 December 20X1 financial year-end, indicating in each case
whether it is a substantive procedure, a test of control or a dual-purpose test.
[22]
Question 6
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Question 6 LEVEL 3
Revenue
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[28 marks]
You are employed as the auditors of TOP Fashion (Pty) Ltd (TOP Fashion). TOP Fashion became a market leader in
fashion after it launched its TCL reality show: Say heck yay to the shirt. The company provides fashion advice and
tips to clients. TOP Fashion has two main income streams. One-third of the income is generated from consultation
fee income and ad hoc services the company provides during consultations. The other two-thirds of the company’s
income is generated from the personal shopping service TOP Fashion provides to its customers.
They also carry a line of costume jewelry and semi-precious gems with them, which they can sell to clients during
consultations.
copy, payable in 30 days, is given or sent to the client, and the other is attached to the stamped quotation. Clothing
sold to the client is invoiced separately, as it must be paid cash on delivery (COD), since TOP Fashion cannot return
worn clothing to its suppliers. A sales invoice is issued immediately together with a cash receipt. The invoices for
sale of goods and for services rendered are recorded daily by the accounting department.
REQUIRED
1. Discuss the risks (other than those relating to the presentation assertion) which will increase the chances of
material misstatement on account/assertion level in respect of revenue generated during consultations. Also, list
the assertion(s) affected by the risk. (8)
Presentation (table and assertion) (1)
2. Assuming that the general procedures have already been performed, formulate the substantive procedures that you
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2.
would perform in respect of the revenue from services provided. In documenting the test of details, clearly show
how the requirements of IFRS have been met. (18)
Presentation (application of requirements of IFRS) (1)
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[28]
The risk exists that consulting fee income is not recognised accurately and completely Accuracy and
according to the different performance obligations: consulting fees, cleaning services, completeness
sewing services, etc. (1) of revenue (1)
Risk exists that revenue is overstated and revenue recorded where consultations did Occurrence
not take place. Alternatively, excessive hours can be recorded to render the service. (1) of sale (1)
The risk exists that income from the various services and sales are incorrectly Classification
classified as: of revenue
1. consulting income
2. sale of goods, or
3. service income.
(1) (1)
A risk exists that income is recognised when it is invoiced and not when the service is Cut-off and
rendered and incorrectly classified as income rather than income received in classification
advance. (1) of revenue (1)
The risk exists that income did not actually occur and that not all fees have been paid, Occurrence
since depending on the consultation, fees are payable at different frequencies, while and
ad hoc payments must also be accounted for. completeness
(1) of revenue (1)
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Identify the performance obligations in the contract:
g) For the sample of invoices:
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i) Inspect the details on the invoice and confirm that they relate only to services rendered and not goods sold,
which is invoiced separately. (1)
ii) Inspect the date of the invoice and the date stamp of the signed quotation to confirm the transaction is
recorded in the correct period. (1)
Question 7 LEVEL 2
Commission paid
[15 marks]
You are currently engaged on the audit of Mobile mania (Pty) Ltd (Mobile mania), a company, which was
incorporated in 2002 by Mr Jenkinson and Mr Sotherby, selling a range of mobile phones, tablet computers and
under U.S. or applicable copyright law.
laptops from their 20 branches located in shopping malls across South Africa.
All of the branches are linked to head office in Sunninghill via a virtual private network. The company’s
financial accounting system (LAN) is housed at head office, where all personnel files are stored.
All administration and finance staff earn a monthly salary and an annual bonus. Employees are paid via EFTs on
the 23rd of each month. While branch managers earn a monthly salary and receive a bonus based on the
performance of the branch during the course of the year, the sales representatives at the branches earn a basic salary
and earn a commission on each sale made.
At the conclusion of a sale, the client receives a hard copy of the contract, while a duplicate is filed at the
applicable branch. The information recorded on the hard copy contract is captured onto the system by the sales
representative, who inputs his/her staff number and the sale code, thereby ensuring that he/she receives the
commission due to him/her for the sale.
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The next day, the branch manager validates the legitimacy of the sale by comparing the original hard copy
contract to the information loaded onto the system. Once the sale has been validated, the commission on the sale is
posted to the commission account, whereupon the system identifies all commission due to each sales representative
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by the payroll run date and the amount is allocated as part of his/her monthly salary.
Administration and finance staff, as well as the branch managers, belong to the company’s provident fund and
medical aid. Sales representatives do not receive this benefit, as they tend to be students who usually leave the job
after a year or two.
REQUIRED
Describe the substantive audit procedures you would carry out in respect of commission paid during the financial
year under review.
[15]
Question 8 LEVEL 3
Purchases and payments balances
[18 marks]
You are the auditor of Packaging Solution (Pty) Ltd (Packing Solution), a South African company that supplies the
public and wholesalers with a wide range of packaging products. The company has a 30 September financial
year-end.
You are responsible for the audit of the trade payables balance on the audit engagement and the only outstanding
audit work is the substantive audit procedures to be performed on the creditor reconciliations at year-end.
The following is an example of a creditor’s reconciliation that you obtained from Mrs Mary Mhlongo, the credit
manager, who is responsible for approving all pending payments to creditors after she has reviewed each creditor
reconciliation:
CORI SUPPLIES CC
Description Amount Explanation by the client’s creditors clerk
Balance per R297 000
statement on
30 September
Goods (R47 000) Invoice 244 was not recorded because the goods ordered (high-gloss
received after paper material) were still en route from Cape Town to our production
year-end: facility in Johannesburg at year-end. The goods arrived on 10 October.
invoice 244
under U.S. or applicable copyright law.
Error: invoice (R35 000) Invoice 227 indicated that Cori Supplies CC charged Packaging
227 Solution for 10 pallets of high-gloss material, but we received only 9
pallets on 28 September. Each pallet has 1 000 sheets of high gloss
paper on it at a cost of R35 a sheet.
Goods (R74 000) High-gloss paper was delivered to Packaging Solution on 22
returned: September. However, the items were of an incorrect colour. The whole
invoice 229 shipment was subsequently returned to Cori Supplies CC by way of
goods returned note 76. Cori Supplies CC indicated that it would write
us a credit note (for invoice 229), but by year-end the supplier has not
yet done so.
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Payment (R52 000) Payment made to Cori Supplies CC on 28 September not taken into
account on the supplier statement.
Balance as per R89 000 M Mhlongo
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creditors ledger
on 30
September
REQUIRED
1. Describe what the term ‘dual-purpose test’ means. (1)
2. Describe two tests of controls you could perform on the creditors reconciliation of Cori Supplies CC. (2)
3. Describe the substantive audit procedures you would conduct on the creditors reconciliation of Cori Supplies CC.
Assume that computer-assisted audit techniques (CAATs) will not be used in the testing of the reconciliation.
(15)
[18]
Question 9 LEVEL 2
Purchases
[14 marks]
You are the auditor of Fitness Supplies (Pty) Ltd (Fitness Supplies), a company with a December financial year-end
that supplies a range of personal training equipment to the public.
Although the company imports its equipment from suppliers in China and the USA, all purchases are
denominated in US dollars. As a result of an increase in demand for training equipment, Fitness Supplies imported
more goods in the current year than in the previous three years combined. The goods are sold from its stores located
in shopping malls across the country.
The company’s integrated computerised system links all the stores’ individual computer systems. When the
inventory level for a particular item of equipment reaches the economic order quantity level pre-set into the
computer system, an order request is sent through to the chief buyer. Once he/she has signed his/her approval, the
order is placed with the relevant overseas supplier.
Once the equipment reaches South Africa and has been cleared by the customs division of SARS, it is delivered to
the company’s warehouse in Epping, Cape Town, in one section of which the administration office is located. The
following reports are then sent to the creditors department:
A completed GRN
The customs report
The clearing agent’s invoice
The logistics company’s invoice
under U.S. or applicable copyright law.
REQUIRED
Discuss the substantive audit procedures that you would perform on the purchases recorded for the financial year
under review. In answering the question, make use of general audit software as far as possible.
[14]
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Question 10 LEVEL 3
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[20 marks]
You are the audit senior on the audit of Open Oceans (Pty) Ltd (Open Oceans) for its 30 November 20X1 financial
year. Open Oceans is a deep-sea fishing and fish processing company which is situated close to a large harbour. Its
facilities consist of a processing and fish-freezing factory, which includes several cold rooms and an ice plant (for
making artificial ice). Open Oceans is registered as a VAT vendor.
The company’s operations are electricity intensive. The total electricity expense recorded for the 30 November
20X1 financial year amounted to R1 278 400, which is material for audit purposes. Included in this total is R245 390
spent on diesel that was used to power generators during periods of load shedding. Management prepared a
spreadsheet to show how the diesel-related expense was allocated to the electricity account from diesel purchases.
The spreadsheet shows the litres of diesel used by the generators, the cost allocated per litre for a particular month
and the quantity of kilowatts generated as per the generators’ built-in meters. Municipal and diesel expenses are
recorded separately in the general ledger account.
Electricity bills are received from the local municipality on a monthly basis, but at the time of the audit in
January 20X2, the invoice for November 20X1 has not yet been received by Open Oceans. Accordingly,
management created an accrued expense in the amount of R85 500 relating to November 20X1.
REQUIRED
Describe the substantive audit procedures that should be performed to test the electricity expense recorded by Open
Oceans for its 30 November 20X1 financial year. Structure your answer in terms of the relevant assertions and
include any relevant general procedures.
[20]
Question 11 LEVEL 3
Prepaid expenses
[8 marks]
You are a second-year trainee accountant at Q&Z Inc. and are currently busy with the audit of A2Z Ltd (A2Z) for
the 28 February 20XX financial year. A2Z is a clothing wholesale retail company and sells its products to clothing
retail companies across the country. You are responsible for the audit of the company’s accounts receivable balance
as at year-end. You obtained the schedule below, detailing the general ledger accounts that represent the accounts
receivable balance contained in the statement of financial position as at year-end, from the company’s accountant:
under U.S. or applicable copyright law.
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You have already performed all the necessary procedures regarding the company’s trade debtors.
Note 1:
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This amount consists of additional amounts which the company paid on its municipal and telephone accounts.
REQUIRED
Formulate the substantive procedures that you should perform to obtain sufficient and appropriate audit evidence
regarding the company’s prepaid expenses included in the statement of financial position as at 28 February 20XX.
[8]
1. Obtain a list from management of all the items included in the prepaid expense balance on 28 February 20XX and
recalculate the total on the list. (1)
2. Compare this list to last year’s working paper for completeness purposes. Discuss any changes with the
accountant and corroborate his/her reply with invoices/statements. (1)
3. Agree the total on the list to the balance reflected in the prepaid expense account in the general ledger and on the
trial balance. (1)
4. Inspect correct opening balance to working paper of previous year and confirm this opening balance was reversed
at the beginning of the financial year. (1)
5. Re-perform the calculation on the list to check that it adds up to R175 982. (1)
6. Agree the amounts on the list for the water and electricity and telephone accounts to the actual statements on 28
February 20XX. (1)
7. Inspect the water and electricity, telephone and other periodic expense accounts in the general ledger to determine
whether all amounts have been correctly included (e.g. 13 payments instead of 12). (1)
8. Perform an analytical review of the prepaid expenses in the current year to the prepaid expenses of the previous
financial period for reasonableness and investigate any variances. (1)
9. Obtain a management representation letter regarding the existence, completeness, accuracy, valuation and
allocation, rights and obligations, classification and presentation of the prepaid expenses balance at 28 February
20XX. (1)
10. Inspect the financial statements and the notes to the financial statements to ensure the prepaid expenses have been
included as a separate line item in the accounts receivable balance note. (1)
Question 12 LEVEL 3
Prepayments
under U.S. or applicable copyright law.
[16 marks]
You are the audit senior on the audit of Peru Rocks (Pty) Ltd (Peru Rocks). The company has been your client since
your first year of articles. Peru Rocks imports rocks from South America, against the hills of Machu Pichu, to sell
across South Africa. The rocks are used in building projects, gardens, landscaping and other similar projects.
Peru Rocks discloses two prepaid balances on the face of its statement of financial position.
Marketing campaign
The company has seen a drop in sales and as a result, the sales director approached a marketing company to run a
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marketing campaign. Peru Rocks had never previously relied on any form of marketing other than word of mouth.
The marketing campaign would run for a 10-month period. The contract consisted of two elements. An amount of
R250 000 was payable five months after the commencement of the campaign. This amount was payable only if Peru
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Rocks realised an increase in sales of R1 million. If this target was reached, Peru Rocks could decide whether it
wanted to extend the contract for another five months for an additional amount of R250 000, due when the target
was reached. Peru Rocks saw an increase in sales in excess of R1 million four months after the commencement of
the campaign and as a consequence decided to make the additional payment a month before year-end, while the
contract still had a further four months to completion.
Other prepayments
Peru Rocks pays various other smaller expenses in advance, which include, inter alia, rental and insurance payments.
REQUIRED
1. Assuming you have already completed the general procedures relating to the marketing campaign account,
formulate the substantive procedures you would perform in respect of the prepaid marketing campaign expense
account in the statement of financial position. (10)
2. Formulate analytical procedures that you would perform in respect of the other prepayments in the statement of
financial position. (6)
[16]
Question 13 LEVEL 2
Wages
[25 marks]
You are the audit manager on the audit of Playground (Pty) Ltd (Playground), a manufacturer of self-assembly
playground equipment. You are currently busy with the audit for the year ended 31 December. The preliminary work
performed by one of the audit trainees involved the documentation of the client’s wages system for its 40 wage
employees.
After evaluating the system description and following discussions with the trainee, you decided that a
substantive-based audit approach with limited reliance being placed on substantive analytical procedures would be
the most appropriate.
Once an offer of employment has been made, both the personnel manager and the new employee sign a letter of
appointment, which is filed in the personnel department.
Annual performance evaluations are performed by the production supervisor and the production manager. These
are used in order to determine annual increases, which are communicated to the personnel department. After the
personnel manager has approved them, the wage increase letters are filed in the personnel department.
Most employees, who are required to wear red overalls while on duty, work in the factory. In order to ensure that
no injuries occur during working hours, all work-based activities are monitored through the deployment of CCTV
cameras. No employee is required to work overtime, but may do so voluntarily.
At the beginning of each week, the wages clerk prepares the wage journal, calculating the gross wage of each
employee by multiplying the hours worked – information on which is gleaned from the computerised clock-card
system – by the appropriate hourly rate. At the same time, deductions for income tax and medical aid contributions
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are made. Both the personnel manager and the financial manager sign the weekly net payment schedule that is sent
to the bank. A copy of the schedule is filed in the personnel department.
The company uses a wages control account in order to control the payment of wages, which is made by the bank
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directly into each employee’s bank account at the end of each week.
REQUIRED
Formulate the substantive procedures that you would perform on the wage expense of Playground. You are not
required to address salaries or the directors’ remuneration.
[25]
Question 14 LEVEL 2
Salaries
[15 marks]
You are currently engaged on the audit of Maxi-Med Ltd (Maxi-Med), the 10th largest private hospital group in the
world. With nearly 6 300 beds in 32 multidisciplinary hospitals in South Africa and Namibia, Maxi-Med employs
approximately 7 600 people.
Payroll
The accounting system, which includes a payroll module, is run on a LAN at head office in Durban. The payroll
expense for the current financial year end is R3 955 229 340 (the previous year was R3 638 610 839). All employees
are paid via EFT on the 25th of each month.
An employee’s signed contract and appointment letter, which are filed at the administration office at the hospital
in which he/she works, are scanned by the administration clerk at that particular hospital and emailed to the human
resources (HR) officer at head office. The HR officer inspects the letter for the signatures of both the hospital
manager and the employee, and, if he/she is satisfied, inputs the data into the payroll masterfile system.
REQUIRED
Describe the substantive audit procedures you would carry out in respect of salaries at year-end.
[15]
request that the hospital where his/her original documents (employment contract, letter of appointment,
certified copy of ID document, etc.) are kept courier the original documents to head office. (1)
b) Inspect the documents for validity. (1)
c) Inspect all third-party correspondence (e.g. with SARS) in order to confirm validity. (1)
d) Perform a positive identification of salary earners whilst visiting hospitals randomly selected during the audit.
e) Through discussion with the staff in the human resources section and an examination of the authorised (1)
employment and dismissal documentation, confirm that staff are introduced to, and removed from, the salaries
register within the correct time period. (1)
f) Using general audit software, identify whether or not any employees have been noted with, for example:
i) duplicate identity numbers
ii) missing names
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iii) duplicate addresses
iv) missing tax numbers. (2)
2. In order to confirm accuracy:
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a) agree the total salaries expense of R3 955 229 340 (the previous year it was R3 638 610 839) for the year to the
trial balance, the general ledger and the annual financial statements (1)
b) by inspection, agree the employee’s gross salary paid to that authorised in the employee’s contract, and vice
versa (1)
c) compare all deductions (e.g. PAYE/SITE, pension and medical aid) to the appropriate tables and to the
authorised deduction form at the human resources department, inquiring into any discrepancies with human
resources and, if necessary, the employee (1)
d) recalculate a sample of the deduction calculations (1)
e) re-perform some calculations on both the salaries account and the monthly payroll printouts (1)
f) re-perform a sample of postings from the salaries account to the general ledger in order to determine that
postings have been correctly performed (net salaries and all deductions). (1)
3. In the case of classification, scrutinise the payroll accounts for any unusual entries and wrong postings. (1)
4. In order to confirm completeness and cut-off:
a) establish that the payroll account has 12 salary debits for the year in order to ensure completeness of payroll
expense (1)
b) scrutinise monthly reconciliation reports where the current month’s salary has been reconciled to the previous
month’s with regard to new employees, employees dismissed, changes in salary rates, bonuses paid, etc. (1)
c) trace a sample of these changes to masterfile amendment forms and supporting documentation, or personnel
files. (1)
5. During analytic procedures, compare:
a) the salaries for Maxi-Med Ltd on a month-to-month basis and investigate any large fluctuations by means of
supporting documentation (1)
b) the salaries for each hospital on a month-to-month basis and investigate any large fluctuations by means of
supporting documentation. (1)
Question 15 LEVEL 3
Lifetime expected credit losses
[21 marks]
You are auditing Zazo (Pty) Ltd (ZA), a group of exclusive fashion boutiques that operates shops at all the main
shopping centres in South Africa. ZA is a subsidiary of a Spanish company which has been in the fashion industry
for over five decades.
under U.S. or applicable copyright law.
The company allows sales on credit to customers to maximise sales. Before customers can purchase on credit,
they must complete a credit application form which will be followed up by head office’s credit department. Only
creditworthy customers will then be allocated a credit limit which is strictly enforced by the company. ZA’s
financial year-end is 30 June.
Trade receivables
The company will be using a provision matrix approach to calculate the lifetime expected credit loss on trade
receivables as stipulated in IFRS 9. The trade receivables age analysis has the following balances at year-end:
The expected default rate as shown above was determined by the procurement manager at head office.
Your audit firm has performed tests of controls on the revenue/trade receivables cycle of ZA.
REQUIRED
1. Calculate the lifetime expected credit loss at year-end, using the provision matrix approach on the information
supplied in the question.(3) Also discuss the taxation effect of this provision on the current year as well as the next
financial year. (3)
2. Describe the audit procedures to verify the valuation of the lifetime expected credit loss as calculated in (1) above.
(15)
[21]
1. Provision matrix
Marks: R779 200 (or R780 000 rounded) (2 marks); framework used (1 mark)
Taxable income will decrease by (779 200 @ 40%) R311 680 in the current year (2)
This amount must be added back to taxable income in the following year. (1)
The percentage used can increase to 85% if a directive is obtained from SARS. (1)
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1.
b) Enquire from the procurement manager how he decided on the default rate percentages. Corroborate his
explanation with supporting documentation. (1)
c) Determine the competency and experience of procurement manager to calculate the default rate percentage by
investigation of previous work prepared by him/her. (1)
d) Investigate the actual defaults in the current year and compare them to the default rate percentages used in the
prior year. This will indicate how accurate the default rate percentage was calculated in the previous year. (2)
e) Follow up payments after year-end by debtors and have discussions with debtors clerks regarding possible
defaults. Also take into account accounts handed over to attorneys for collection and disputes with debtors. Up
to now, we have only covered possible bad debt that already existed at year-end. Certain ‘good debt’ will also
go bad later after year-end. The auditor must estimate a provision for these losses. (4)
f) Also investigate any other subsequent events after year-end which indicate that debtors need to be impaired.
g) For example, if you calculated that lifetime expected credit loss amounts to R1 200 000 based on (1)
procedures performed under points (e) and (f) above, then you know the amount calculated by the client of
R779 200 used in the provision matrix is too low. (2)
h) Follow up any large discrepancies as revealed by procedures in (e) above with the CFO. If the CFO does not
rectify the matrix, take audit difference to unders/overs schedule. (1)
Question 16 LEVEL 2
Accounts receivable
[18 marks]
Soft Cloud (Pty) Ltd (Soft Cloud) is a manufacturer and wholesaler of high-quality mattresses, whose clients
comprise such bulk-buyers as hotels and game lodges. You were appointed as the audit senior on the 31 August
20X1 year-end audit.
under U.S. or applicable copyright law.
In the course of the planning phase of the audit, the financial manager, Mr Zuchter, who assigned the revenue
and receipts cycle to you, informed you that during the financial year Soft Cloud adopted a new bad-debt provision
policy.
The following extract from the trial balance was provided to you by Mr Zuchter:
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Inventory 32 125 25 154
Debtors 52 175 49 487
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REQUIRED
Describe the substantive procedures that you would perform in order to obtain appropriate and sufficient audit
evidence for the valuation assertion with regard to the net debtors balance of R41 021 000 at year-end.
[18]
Question 17 LEVEL 2
Provision for future expected credit losses
[14 marks]
You are the auditor of Cape-Dairy (Pty) Ltd (Cape-Dairy), a company producing organic milk at its facility in
Durbanville. The company has a December financial year-end.
The only audit work performed on the allowance for credit losses balance at year-end was an analytical review
procedure:
Actual allowance calculated by management: R10 000 000 (gross receivables) @ 7.5% = R750 000
Action: Follow up with management and corroborate explanations through the performance of substantive
audit procedures.
Chief financial officer: Based on my experience in the industry, and the fact that we have an aggressive
under U.S. or applicable copyright law.
collections policy, I do not see any valid grounds for increasing the allowance for future expected credit
losses, as this would not be a fair reflection of what is taking place within our company. In any event, if we
are wrong, the difference should not be material. We provided for 7.5% in the previous year when the
industry average was 10%, with which figure your firm was satisfied. So I don’t see that there is any valid
reason for increasing the allowance for the credit losses figure in the current year.
Other information
During the performance of subsequent events testing, it was brought to your attention that a debtor included in the
60-days total at year-end had become insolvent, which served to strengthen your view that the provision for future
expected credit losses at the company was understated. You informed the chief financial officer about the debtor and
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that you believed that the industry average percentage of 11% would be more reasonable in determining the
allowance for credit losses. The chief financial officer indicated that he did not agree and refused to make any
additional adjustments.
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The provision for future expected credit losses for the previous year was R525 000.
REQUIRED
Discuss the substantive audit procedures that you would perform on the allowance for the credit losses figure at
year-end.
[14]
Question 18 LEVEL 2
Accounts receivable
[20 marks]
An audit manager at Audit Inc., a firm of registered auditors based in Cape Town, you have reached the completion
stage of the December year-end audit of Saucy Ltd (Saucy). A company listed on the Alternative Exchange (AltX),
Saucy manufactures a variety of condiments that it sells to wholesalers, retailers, restaurants and hotels. Your audit
firm has been Saucy’s auditors for the past five years.
All audit work has been sufficient and effectively completed (including a positive and negative debtors
circularisation), except for the outstanding work to be performed on the valuation assertion for accounts receivable.
Accounts receivable
The company’s accounting systems are fully integrated and run on a local area network (LAN). Sales are made on a
under U.S. or applicable copyright law.
credit basis only. By the end of November, customers have been supplied with a product catalogue, together with the
following year’s approved price list. Although prices are generally fixed, they may change, depending on the
quantities purchased and the discounts granted.
Each prospective client completes a credit application. Mr Melapo, the credit manager, compares the information
noted on the form to the information obtained from the credit bureaux in order to determine whether or not he/she
should be granted credit. For each applicant whom he approves, he requests one of the debtors clerks (Ms Mokumbe,
Mr Pienaar or Mr Adams) to load the client onto the system with a pre-approved credit limit.
In addition to all customers receiving 30-day settlement accounts, it is company policy to make an allowance for
credit losses against the customer if he/she has not settled his/her debt within 90 days. In the previous year, the
allowance for credit losses amounted to R220 500.
The current year age analysis obtained from Mrs Newton, the chief financial officer, is as follows:
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ACCOUNTS CURRENT > 30 > 60 > 90 > 120
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REQUIRED
Describe the substantive audit procedures that you would perform in order to satisfy yourself that the accounts
receivable balance is valued correctly at the December year-end.
[20]
balance of R220 500 (R109 000 + R111 500) (in this scenario, it is consistent) (1)
iii) evaluate the effectiveness and reliability of the procedures adopted in order to authorise the allowance for
future expected credit losses by management (1)
iv) select a small sample of accounts receivable and, by tracing the amounts owed back to the invoices and the
subsequent receipts, confirm that the manual ageing of the amount agrees with the ageing as calculated
per the masterfile. (1)
b) using general audit software, stratify the debtors masterfile into the following categories:
i) A debtor’s amount in an age field that exceeds the accounts receivable individual credit terms (1)
ii) A debtor’s amount in the over-90-days age field (1)
c) for each debtor identified above, discuss with Mr Melapo his/her historical payment history and the likelihood
or not of him/her paying the outstanding amount (1)
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d) inspect Saucy’s legal and customers correspondence files in order to identify disputes with customers, and (1)
if there are any, follow up with the Mr Melapo in order to obtain the latest information on the state of the
disputes (1)
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e) compare the amount written off in the current year to the allowance made in the previous year in order to assess
management’s ability to provide realistic provision for future expected credit losses (1)
f) perform analytical review procedures on the accounts receivable balance and the provision for future expected
credit losses (2)
g) calculate the days outstanding and compare them to those of the previous year (1)
h) compare the R299 250 to the R220 500 provision (1)
i) compare the accounts receivable age analysis to that of the previous year (1)
j) compare the accounts receivable to the credit sales for both the current and the previous year (1)
k) for all of the above, obtain reasons from management for any unusual variances, and follow up on their
explanations employing source documentation (1)
l) after performing all the above procedures, determine one’s own provision for future expected credit losses based
on the audit evidence obtained, comparing that allowance to the R299 250 calculated by management.
3. Follow up any difference with management, and then conclude. (1)
4. Any other valid procedures (1)
Question 19 LEVEL 2
Positive confirmation and provision for future expected credit losses
[26 marks]
You are the audit senior on the external audit of Leep Frog Ltd (Leep Frog), a company that owns and leases
buildings across South Africa. During the current year, there was a significant decrease in the number of properties
leased as a result of declining interest rates. Consequently, the company’s rentals in arrears account has grown
dramatically over the past few months. In response, the audit manager has decided to send out positive confirmation
letters to lessees.
Invoicing
under U.S. or applicable copyright law.
The accounting department at head office maintains a rent register in which all rentable office space is listed, along
with the details of all lessees.
On the first day of every month, an invoice serving as a reminder of the rent due on or before the fourth day of
the month in terms of the rental agreement, is mailed to each lessee. In addition, the invoice is debited to the lessee’s
account in the rent register.
Receipts
Rentals are paid directly to head office. When payment has been received from a lessee, it is credited to the client’s
account in the rent register.
Month-end procedures
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All lessees with outstanding rent payments receive a monthly statement prepared and mailed on the 10th of each
month. Copies of these statements are filed in the respective correspondence files of the lessees.
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Additional information
The credit manager determines the provision for future expected credit losses by inspecting the age analysis at
year-end and considering the recoverability of all individual lessee amounts outstanding for more than 90 days.
According to the audit program, you should perform the following audit procedures:
Verify the existence of lessees and rental in arrear balances relying on positive circularisations.
With regard to the provision for future expected credit losses, inspect and test the procedures performed by the
audit client when calculating such a provision.
REQUIRED
1. Describe the procedures that you would perform in respect of the positive confirmation by lessees of the gross amount of
rental in arrears. (11)
2. Formulate the substantive procedures that you would perform at year-end relating to the provision for future expected credit
losses. (15)
[26]
Question 20 LEVEL 2
Creditors statement reconciliation
[15 marks]
A junior trainee accountant assigned to the 31 December 20X1 audit engagement of Raffles (Pty) Ltd (Raffles), a
large retailer of furniture and electronic appliances with outlets across the country, you have been allocated to the
testing of trade payables and will perform the audit of Raffles’s creditors reconciliations in mid-January 20X2.
The following creditors statement reconciliation, performed for a supplier, Furnley Ltd, by the Raffles creditors
clerk, was included in a sample for testing. The reconciliation for January 20X2 for Furnley Ltd, which closed down
on 23 December 20X1, is not yet available.
DESCRIPTION NOTE R
Balance as per Furnley Ltd statement 23/12/20X1 466 980
Add:
Goods received note GRN681 not yet invoiced 113 750
Correct mathematical adding error on supplier’s statement 15 789
under U.S. or applicable copyright law.
Notes:
1. The creditors clerk at Raffles erroneously posted the amount charged as per Furnley Ltd’s invoice FRN1078 to the
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1.
creditors ledger account of Hautmanns (Pty) Ltd, indicating the correction on the reconciliation only. FRN1078
has not yet been settled.
2. Raffles qualified for a 5% discount on invoice FRN1105 as a result of making a payment to Furnley Ltd within 30
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days of the invoice date, which Furnley Ltd did not take into account on its statement.
3. Raffles purchased several LED television sets from Furnley Ltd. According to Raffles, some of the goods
received were older models than those originally ordered. However, Furnley Ltd disputes this claim, saying that
Raffles never indicated the model number on its order.
REQUIRED
Describe in detail the substantive audit procedures you will perform on the creditors statement reconciliation for
Furnley Ltd prepared by the creditors clerk of Raffles (Pty) Ltd. Consider all amounts and reconciling items
material, ignoring any VAT implications.
[15]
(Notes within brackets are for informational purposes only and do not form part of the required answer.)
1. Agree the supplier’s balance of R466 980 as per the reconciliation to Furnley Ltd’s statement, confirming that the
date on the statement is 23 December 20X1. (1)
2. Agree the balance of R351 929 per Raffle’s reconciliation to the creditors ledger at 31 December 20X1. (1)
3. Re-perform the casting of the reconciliation, testing the logic of the calculations (i.e. where items fall under the
heading ‘Less’, that these were indeed subtracted and not added) in order to ensure mathematical accuracy. (1)
4. Inspect the supplier’s statement for amounts incorrectly duplicated on the reconciliation as well as other unusual
entries not adequately addressed on the reconciliation (e.g. GRN681’s invoice should not appear on the supplier’s
statement as well). (1)
5. With reference to the goods received note:
a) inspect GRN681 for the date of the delivery of the goods in order to confirm Raffles’ acknowledged receipt of
the shipment in December 20X1 (the test for cut-off) (1)
b) request from the creditors clerk the client’s calculation of the amount of R113 750 and agree items/quantity on
the supplier’s delivery note and prices to such supporting evidence as the invoice subsequently received in
January 20X2 (Note: the supplier delivery note might not contain item prices). (1)
6. Recalculate the supplier’s statement in order to confirm that he/she made a mathematical error and agree the result
(R15 789) with the correction as per Raffle’s calculation. (1)
7. With reference to the correction of posting error:
a) inspect invoice FRN1078 for the amount of R75 380 in order to confirm that the date shown is within the 20X1
financial year. Alternatively, ensure that the invoice appears on Furnley Ltd’s December 20X1 statement, as it
should do (1)
b) recommend to the client a correction to the creditors ledger accounts of both Furnley and Hautmanns, as
currently the former’s account is understated and Hautmanns’ overstated by R75 380 (Note: this entry on the
reconciliation should be removed once the correction to the accounting records has been made). (1)
under U.S. or applicable copyright law.
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to debt owing to Furnley Ltd and not to another supplier. (1)
10. With reference to the debit note:
a) confirm from the goods return voucher that the goods sent back to Furnley Ltd were returned before the 20X1
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year end, which therefore justifies the recording of a debit note (1)
b) if the goods were not returned in the 20X1 financial year (this seems likely, though, owing to the dispute
between Raffles and Furnley Ltd) or returned only in January 20X2, recommend to management a reversal of
the debit note (Note: in terms of generally accepted accounting practice, a debit note may not be processed if
the goods have not been returned) (1)
c) inspect the original purchase order for an indication that the model number of the affected television sets was
not specified by Raffles, as this will lend support to Furnley’s refusal to accept the returns, thereby warranting
a reversal of the debit note (1)
d) if the recording of the debit note is justified, recalculate the debit amount with reference to the quantity and the
description of the goods returned and the original invoiced item prices. (1)
Question 21 LEVEL 2
Trade payables
[12 marks]
You are responsible for the audit of trade payables of Neoplats Trading (Pty) Ltd (Neoplats Trading). The audit
manager requested that you read through the debenture agreements to identify loan covenants that will affect the
audit of trade payables. While reading the agreements, you came across the following section:
Loan covenants
The Borrower undertakes that for each accounting period ending, its financial position shall have been
such that:
a) the ratio of net cash flow to debt service liability shall not be less than 1.3:1; and
b) the current ratio (current assets over current liabilities) shall not be less than 1.5:1.
Upon inspection of Neoplats Trading’s preliminary annual financial statement, you noted that current liabilities
consisted of trade payables and provisions. Through discussions with management, you discovered that management
only raises a provision for management fees payable to its holding company. The provision for management fees
was audited by your audit senior who was satisfied that it was not understated. However, you are now concerned that
trade payables may be understated in order to improve the current ratio.
REQUIRED
Formulate audit procedures that you will perform to test for the completeness of trade payables at year end.
under U.S. or applicable copyright law.
[12]
Question 22 LEVEL 3
Trade and other payables
[25 marks]
You are an audit manager at Q&Z Inc. and are currently busy with the audit of Pick-A-Party Ltd (Pick-A-Party) for
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the 28 February 20XX financial year. Pick-A-Party is a wholesale company which buys snacks, sweets, cold drinks
and themed party items such as paper plates, plastic glasses, serviettes, balloons, etc. on credit from various local
and overseas suppliers, which are then sold by Pick-A-Party to retail companies and the public across the country.
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REQUIRED
1. Discuss the assertion(s) which will normally be at risk when auditing the trade creditor’s balance of a company.
2. Describe the substantive procedures that the audit team should perform to obtain sufficient and appropriate (3)
audit evidence regarding the creditors balance reflected in Pick-A-Party’s notes to its financial statements at
year-end. (22)
[25]
2. Substantive procedures
Completeness
a) Compare the list of creditors at the current year-end to the previous year-end and identify:
i) creditors on the previous list who do not appear on the current list (1)
ii) creditors balances which are significantly smaller at the current year-end than at the previous year end (1)
iii) and by enquiry from management and inspection of the necessary supporting documents, determine and
evaluate the reasons for the differences.
b) Obtain the list of goods received notes (GRNs) which were unmatched to invoices at year-end and inspect the
journal entry which was raised for the corresponding creditors at year-end. (1)
c) Recalculate the amount owed as recorded in the journal with reference to price of the goods received (from the
order or pricelist or corresponding invoice if it has arrived) and the quantity as indicated on the GRN. (1)
d) Select a sample of large payments from the cash payments journal for the month(s) after the financial year-end
and inspect the GRN and delivery note to confirm that if the payment relates to goods or services received
prior to year-end, the corresponding creditor had been raised at year-end (subsequent payment testing). (1)
under U.S. or applicable copyright law.
iv) Inspect supporting documentation and/or enquire regarding the reconciling items on the reconciliations.
j) Select a sample of overseas creditors from the creditors list and inspect the creditors statements at year-end (1)
(28 February) to determine the amounts owed to the creditors in the foreign denominated currency. (1)
k) Obtain the applicable foreign currency exchange rate at financial year-end (28 February) and using the obtained
rate, recalculate the amounts owed to the creditors at the financial year-end in rands (local currency). (1)
l) Compare the recalculated amounts to the amounts recorded for the creditors on the creditors list. (1)
m) Inspect the creditor’s correspondence file for correspondence relating to unsettled disputes with suppliers, and
by discussion with management, determine whether any adjustments to creditors are required. (This could also
address accuracy, valuation and allocation if the actual delivery or condition of the goods delivered is
disputed.) (1)
n) Inspect the creditors control account in the general ledger for any unusual debit entries and enquire from
management. (1)
Classification
p) Identify any debit balances on the creditors list and request management to transfer the balances to trade
debtors. (1)
Presentation
q) Inspect the notes to the financial statements to ensure that creditors are included as part of the company’s
current liabilities. (1)
General
r) Obtain a management representation letter addressing the existence, completeness, accuracy, valuation and
allocation, classification, rights and obligations and presentation assertions of the creditors balance as at
year-end. (1)
s) Perform analytical procedures and obtain supporting documentation for any material fluctuations, for example:
i) current year’s purchases and creditors at year-end to prior years (1)
ii) creditors as a percentage of current liabilities at year-end to prior years. (1)
t) If necessary, obtain confirmation of balances directly from a sample of creditors, i.e. conduct a positive creditors
confirmation. (It may be appropriate to obtain direct confirmations of nil balances; major creditors (to confirm
that the balances are not understated despite being large); balances which have significantly reduced since the
prior year, and creditors for which there are no statements.) (1)
u) Scrutinise the creditors ledger and the trade creditors control account in the general ledger for any abnormal
entries and confirm any material adjusting entries with supporting documentation. (1)
under U.S. or applicable copyright law.
Question 23 LEVEL 3
Trade and other payables balance
[23 marks]
You are a trainee accountant at Q&Z Inc. and are currently busy with the audit of Pick-A-Party Ltd (Pick-A-Party)
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for the 28 February 20XX financial year. Pick-A-Party is a wholesale company which buys snacks, sweets, cold
drinks and themed party items such as paper plates, plastic glasses, serviettes, balloons, etc. on credit from various
local suppliers, which are then sold by Pick-A-Party to retail companies and the public across the country. As part of
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the substantive testing of the trade and other payables balance at year-end, you have selected the following creditors
reconciliation for testing:
Note 1:
This overcharging resulted from an order for 15 boxes of themed serviettes at R499.00 per box which was received
by Pick-A-Party but Paper Plates Galore incorrectly invoiced Pick-A-Party for 51 boxes.
Note 2:
The delivery of the salt biscuits, with comic characters’ pictures printed on them, relating to this invoice took place
on 26/02/20XX, but while moving the boxes to the warehouse, the warehouse clerk noticed that the sell- and use-by
date was 31 January 20XX. Paper Plates Galore was notified and acknowledged the mistake and collected the
expired salt biscuits from Pick-A-Party on 28 February 20XX – goods returned note number GRN0478.
REQUIRED
1. Explain what external confirmations are and why external confirmations are normally obtained as part of the
substantive procedures for debtors, but not for creditors. (3)
2. Describe the substantive procedures that should be performed on the creditors reconciliation of Paper Plates
Galore (Pty) Ltd for the 28 February 20XX financial year-end. (20)
under U.S. or applicable copyright law.
[23]
1. a) External confirmations are written responses obtained directly from a third party, for example a debtor, and are
used by the auditor to obtain evidence regarding the entity’s account balances, etc. (1)
b) When auditing debtors, all the supporting documentation supporting the debtors balances are generated within
an entity, for example delivery notes, invoices and debtors statements. One way of confirming these debtors
balances is by speaking to the debtors directly. (1)
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c) Creditors normally send creditors statements to an entity, which serves as external confirmation, which is then
used by the auditor when auditing the creditors reconciliations. (1)
2. Substantive procedures – creditors reconciliation
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General
a) Inspect Paper Plates Galore’s creditor statement to confirm that:
i) it is issued to Pick-A-Party Ltd (1)
ii) the date on the statement is 28 February 20XX (1)
iii) the balance owing on the statement is R146 493.36 as reflected on the reconciliation. (1)
b) Inspect Paper Plates Galore’s account in Pick-A-Party’s creditors ledger (and list of creditors) as at 28 February
20XX and confirm that the balance is R56 092.13 as reflected on the reconciliation. (1)
c) Re-perform the logic of the reconciliation and the reconciling items, assessing logic and reasonableness. (1)
d) Recalculate the calculations on the reconciliation. (1)
e) Inspect Paper Plates Galore’s March 20XX creditor statement/creditors reconciliation to confirm that all the
February 20XX reconciling items were resolved. (1)
f) Inspect the creditors correspondence file for any correspondence relating to the reconciling items. (1)
Invoice INV09678
g) Inspect the goods receive note for any deliveries on 22 to 24 February 20XX from Paper Plates Galore and
inspect that such a delivery was not received. (1)
h) Inspect the invoice (if available) and confirm that Pick-Your-Party was invoiced and not Pick-A-Party. (1)
INV0567 (note 1)
i) Obtain INV0567 and inspect for the corresponding goods received note number. Inspect the relevant goods
received note to confirm:
i) the description of the goods received (themed serviettes) (1)
ii) that 15 boxes were received. (1)
j) Inspect invoice number INV0567 from Party Plates Galore and confirm that Pick-A-Party was invoiced for 51
boxes. (1)
k) Inspect the inventory records to confirm the accurate recording of the 15 boxes received. (1)
l) Recalculate the reconciling item amount (51 15 = 36 × 499.00 = R17 964.00). (1)
Goods returned
o) Inspect goods returned note number GRN0478 to confirm that:
i) it was signed by a Paper Plates Galore representative, acknowledging receipt of the returned goods (1)
under U.S. or applicable copyright law.
ii) it was for the quantity as indicated on invoice number INV04512 (1)
iii) the date returned was 28/02/20XX. (1)
p) Inspect the inventory records to confirm that the salt biscuits were not included in the inventory balance as at
year-end. (1)
Question 24 LEVEL 2
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Inventory
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[18 marks]
Berck (Pty) Ltd (Berck) is a leading company for innovative and top-quality high-tech products in healthcare, life
science and performance materials. A substantial part of the business consists of the manufacturing of medical
supplies such as medicine. A large portion of the inventory balance at year-end is made up of medicinal products.
The schedule below is an extract from the notes to the draft 20X1 financial statements detailing the medicine
inventory balance:
Medicine
Inventory at 29 February 20X1 prior to adjustments R179 352 177 607
Sundry write-downs: damaged packaging R181 153 262
Inventory obsolescence entry (net realisable value) R2 017 663 325
Inventory at 29 February 20X1 according to financial statements R177 153 361 020
The inventory obsolescence entry is an accounting estimate to write down the remaining inventory to the lower of
cost and net realisable value at year-end. This method of calculation has been consistently applied over the years.
To this end, you were provided with a detailed age analysis of all the inventory items. The inventory
obsolescence entry is based on the age of the inventory items and an estimate of an immediate sales trend of a
product on hand older than 100 days. If a product does not sell, Berck may be left with particular medicine supplies
on hand which will soon reach expiry date and therefore cannot be sold. Once a sales projection of product items is
made and the slow movers are extracted from the inventory list, the inventory obsolescence entry is calculated.
You also have access to the inventory database and the necessary audit software to retrieve any information you
may require for your audit procedures.
REQUIRED
Describe the substantive audit procedures you would perform to test the reasonableness of the inventory
obsolescence entry (net realisable value) disclosed in the draft financial statements in the amount of R2 017 663 325.
[18]
Question 25 LEVEL 2
Inventory and roll forward procedures
[25 marks]
CleanWorxx (Pty) Ltd (CleanWorxx) is a company in the technical industry that specialises in the selling of
under U.S. or applicable copyright law.
industrial cleaning equipment. The company has a 31 December 20X1 financial year-end.
Concerned about inventory levels, the MD of CleanWorxx, Mr Zumba, has requested that a full stock count take
place on 30 September 20X1 and not at year-end, as is normally the case. Mr Yoga, the engagement partner on the
audit, has agreed to this, as CleanWorxx has a record of clean audits, and the internal control environment of the
company is satisfactory.
Assigned as audit manager on the 20X1 year-end audit, you have requested your second-year trainee, Ms Kickbox,
to prepare an inventory audit working paper setting out the audit evidence that she plans to obtain over the year-end
balance of inventory. She has produced the following preliminary working paper:
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Financial year-end: 31 December 20X1 Prepared by:
Section: Inventory Reviewed by:
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3. Verify that inventory is carried at the lower of net realisable value or cost.
REQUIRED
Redraft audit working paper BS-05 in order to set out the audit procedures you would need to perform with a view to
gathering sufficient, appropriate audit evidence with regard to the gross inventory balance of CleanWorxx as at 31
December 20X1. Disregard the provision for obsolete stock.
[25]
Question 26 LEVEL 2
Inventory
[16 marks]
You are the senior on the audit of Grand Dairy Ltd (Grand Dairy), a company with a September financial year-end.
The dairy, which has five plants across the country, is one of the larger ones in South Africa, and was incorporated
in 2000.
The company, known for its superior quality products, has won several awards at the prestigious SA Dairy
Championships: a testament to the company’s ability to compete with the best in the industry. The company sells a
variety of products: cheeses, milks (long-life and flavoured), yoghurts and butter.
Grand Dairy’s accounting records are fully computerised and include a perpetual inventory module. The
accounting systems installed at the plants are linked to one another via Telkom VPN Professional. The main
accounting and administration functions are handled at head office in Port Elizabeth.
Inventory
In addition to a year-end inventory count, the company performs cyclical counts at all of the plants on the last
Saturday of every month. All differences identified during the counts are recorded on the inventory system, so that
quantities on the system reflect the actual quantities at hand. Accounting policy is to value inventory on the
first-in-first-out (FIFO) method.
under U.S. or applicable copyright law.
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Date inventory was received 30 December
Quantity sold year to date 13 302 342 litres
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During the year-end inventory count, no material differences were noted by the audit team.
REQUIRED
Describe the substantive procedures that you would perform in order to satisfy yourself regarding the valuation
assertion of inventory of Grand Dairy Ltd at year end.
[16]
Question 27 LEVEL 2
Inventory
[23 marks]
You are an audit manager at Q&Z Inc. and are currently busy with the audit of Dizzy Fizzy Ltd (Dizzy Fizzy) for the
28 February 20XX financial year. Dizzy Fizzy is a wholesale company which buys cold drinks and flavoured
sparkling mineral water from local suppliers, which are then sold by Dizzy Fizzy to retail companies across the
country. The company’s inventory is recorded on the first-in, first-out (FIFO) cost basis.
Dizzy Fizzy makes use of a perpetual inventory system. Regular inventory counts are performed, and the
differences identified as a result of the counts are investigated and corrected. In addition, year-end inventory counts
are performed by the company.
REQUIRED
Describe the substantive procedures that the audit team should perform after the inventory count attendance to
obtain sufficient and appropriate audit evidence regarding the inventory balance reflected in Dizzy Fizzy’s financial
statements at year-end.
[23]
9.
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9. Compare the obtained selling prices for the selected inventory items to the cost prices on the selected inventory’s
inventory records. (1)
10. Enquire from management regarding:
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a) the process used to determine the inventory obsolescence allowance and evaluate the process for reasonableness
and consistency with prior years (1)
b) the procedures in place for the approval of the final inventory obsolescence allowance (1)
c) any specific events which may have occurred during the year which may have an impact on the allowance (1)
d) any specific inventory items which may already be obsolete (or soon will be) and how this has been recognised
in calculating the allowance for inventory obsolescence. (1)
11. Perform analytical procedures to confirm the reasonableness of the inventory obsolescence allowance (e.g. by
comparison of current year figures and/or ratios to prior year figures/ratios). For example:
a) compare the current year’s inventory obsolescence allowance to the previous year’s (1)
b) compare the inventory obsolescence allowance as a percentage of total inventory for this year to that of the
previous year. (1)
12. Enquire from management regarding indicators of inventory obsolescence problems such as no recent sales or
purchases of particular items, products which have reached their sell by dates in the post-reporting period, or
correspondence relating to inferior products supplied to customers. (1)
13. Compare the inventory obsolescence allowances raised in prior years to the actual write-offs in subsequent years.
14. Inspect the inventory obsolescence allowance for the inclusion of the inventory items that were identified as (1)
damaged/obsolete/slow moving during the attendance and test count at the year-end inventory count as per the
audit working papers. (1)
15. Recalculate the inventory obsolescence allowance and compare to the amount calculated by management. (1)
Presentation
Inspect the financial statements as well as the notes to the financial statements for the following:
1. Inventory is a separate line item under current assets on the face of the statement of financial position and is
shown net of impairments. (1)
2. The disclosure in the notes reflects inventories before and after the inventory impairment allowances. (1)
General
1. Obtain a management representation letter addressing the existence, completeness, accuracy, valuation and
allocation, classification, rights and obligations, and presentation assertions of the inventory balance as at
year-end. (1)
2. Perform analytical procedures and obtain supporting documentation for any material fluctuations, for example:
under U.S. or applicable copyright law.
Question 28 LEVEL 3
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Inventory
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[15 marks]
You are an audit manager at Q&Z Inc. and are currently busy with the audit of Dizzy Fizzy Ltd (Dizzy Fizzy) for the
28 February 20XX financial year. Dizzy Fizzy is a wholesale company which buys cold drinks and flavoured
sparkling mineral water from both local and overseas suppliers, which are then sold by Dizzy Fizzy to retail
companies across the country. The company’s inventory is recorded on the FIFO cost basis.
Dizzy Fizzy makes use of a perpetual inventory system. Regular inventory counts are performed and the
differences identified as a result of the counts are investigated and corrected. In addition, year-end inventory counts
are performed by the company.
REQUIRED
1. Describe the substantive procedures that the audit team should perform during the attendance of Dizzy Fizzy’s
year-end inventory count which will assist them in obtaining sufficient and appropriate audit evidence regarding
the inventory balance reflected in Dizzy Fizzy’s financial statements at year-end. (5)
2. Describe the substantive procedures that the audit team should perform to obtain sufficient and appropriate audit
evidence regarding the accuracy, valuation and allocation of the inventory balance reflected in Dizzy Fizzy’s
financial statements at year-end. Exclude any procedures dealing with the inventory obsolescence allowance from
your answer. (10)
[15]
Question 29 LEVEL 2
Property, plant and equipment
[20 marks]
You are the auditor of Fitness Extreme (Pty) Ltd (Fitness Extreme), a company that was launched 15 years ago with
10 branches across South Africa. Since then, a further 35 branches have been opened, making it the second largest
fitness club in the country.
The company’s head office is in Sandton, Johannesburg, where the account system, which runs on a LAN, is
housed. Fitness Extreme has a March year-end.
Each branch is run as a profit centre, with branch managers being held accountable if profit targets are not
achieved.
Fitness Extreme has the following categories of property, plant and equipment (PPE):
Buildings
Training equipment
under U.S. or applicable copyright law.
Computer hardware
Office furniture
REQUIRED
Describe the substantive audit procedures you will perform in respect of property, plant and equipment at year-end.
Disregard depreciation and impairment of assets procedures.
[20]
1. Valuation
Cost
a) Compare the opening balances for each category of property, plant and equipment (PPE) to the previous year’s
working papers and fixed asset register. (1)
b) Re-perform a sample of calculations of the carrying value field for all PPE categories. (1)
c) Agree the total of the lead schedule per the PPE category to the closing balance in the fixed asset register. (1)
2. Additions
a) Occurrence and completeness
i) Stratify the asset accounts (the land and buildings, the training equipment, the computer hardware and the
office equipment) per region (e.g. per branch name or the branch with the most valuable PPE assets).
under U.S. or applicable copyright law.
Having done so, select a sample and agree the assets purchased to the minutes of the board of directors
meeting and capital budget for evidence of the authorisation to acquire the asset selected for testing. (1)
ii) Inspect the purchase contract in order to confirm that the contract or the invoice is made out to Fitness
Extreme, and (1)
that it matches the detail of the asset selected in the sample (asset number, erf number, description, etc.).
iii) Agree the new assets on the insurance document of the client to the list of the additions prepared by (1)
management. (1)
b) Accuracy
i) Confirm that the amount posted to the relevant asset account excludes VAT, and that it agrees with the
purchase price reflected on the contract or the invoice and the fixed asset register. (1)
ii) Recalculate the calculations and any applicable discounts on the invoices or the contracts. (1)
3.
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3. Disposals
a) Occurrence and completeness
i) Obtain confirmation from Fitness Extreme’s insurers of all the assets that have been removed from the list of
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those assets insured during the course of the year and compare this to the list of disposals. (1)
ii) Scrutinise any assets that:
have a date of purchase exceeding the original useful life of the asset category (e.g. if treadmills have a
three-year life-span, search for a treadmill that still appears on the asset register six years after the date
of purchase)
do not have disposal dates.
Question 30 LEVEL 3
Investment property
[14 marks]
You are an audit manager assigned to the audit of HighRise (Pty) Ltd (HighRise) for its 20X1 financial year.
HighRise operates in the real estate sector. It owns several residential apartment buildings as well as commercial
office complexes that it rents out to tenants under operating leases. (The company refers to these properties as its
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‘rental properties’.)
During a recent discussion about how HighRise accounts for its properties, the company’s chief executive officer
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HighRise accounts for its rental properties as investment properties in terms of IAS 40. In addition, we use
the fair value model to measure these assets subsequent to initial recognition. During the 20X1 financial
year, the company was faced with the following two matters in regard to its properties:
1. We moved HighRise’s administrative headquarters to one of the office complexes which the company
rented out up to that point. All tenants who occupied the complex were given the legal notice period to
vacate the premises after which HighRise moved in. The board of HighRise decided to continue
accounting for this property as ‘investment property’ for 20X1, because we think it is still a very good
investment despite the change in the nature of the occupancy!
2. One of the company’s residential buildings, located in Milnerton, Cape Town, was identified as having
the potential to be sold, at a good profit, in the next year or two. We decided rather to account for this
property on the cost model in the 20X1 financial year and going forward, until it is sold.
You have been provided with a list of properties that make up the total investment property balance of R145 800 000
disclosed in the 20X1 financial statements of HighRise. The list contains seven properties, indicating the registered
erf number and address of each. It also includes the above two properties mentioned by the CEO.
Audit procedures have already been performed on the opening balance of investment properties, while the
closing balance as per the above list has been agreed to the general ledger account for investment properties, the trial
balance and financial statements.
REQUIRED
1. State whether you agree or disagree with the CEO regarding the accounting treatment of the two matters
pertaining to the head office and Milnerton properties and explain your answer. (5)
2. Describe the additional substantive audit procedures that should be carried out to test the existence, rights and
obligations and completeness assertions relating to the investment property balance of R145 800 000 disclosed in
the 20X1 annual financial statements of HighRise. Ignore procedures to test the presentation assertion and related
disclosures. (9)
[14]
1.
a) I do not agree with the CEO on either of the matters. (1)
b) HighRise cannot continue accounting for its head office as an investment property as it does not comply with
the definition of ‘investment property’ in terms of IAS 40 anymore. (1)
As the property has become ‘owner occupied’, it should now be accounted in terms of IAS 16 Property Plant
and Equipment. (1)
The CEO seems to be under the impression that ‘investment property’ means that a property is a ‘good
investment’; however, this is a misinterpretation, as the term ‘investment property’ for accounting purposes has
under U.S. or applicable copyright law.
a specific meaning in terms of IAS 40.8 and does not describe an economic investment. (1)
c) HighRise will not be able to account for the Milnerton property in terms of the cost model, as IAS 40 makes it
clear that one valuation model should be adopted for all investment properties. (1)
IAS 40 further notes that it is ‘highly unlikely’ that a change from the fair value model to the cost model will
result in more appropriate presentation. (1)
Existence
a) Obtain from management the list of investment properties making up the total balance in the financial
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statements and physically inspect each property for existence. Note: (1) depending on physical inspections in
prior years, a sample may be selected; however, all new investment properties to be inspected at a minimum;
(2) the head office will be tested under IAS 16 procedures. (1)
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b) Inspect the bank statement and cash book for evidence of large receipts of funds which could indicate that an
investment property might have been sold during the year and therefore should have been derecognised as an
asset. (1)
Completeness
f) Through enquiry with management, verify that no other investment properties should have been recorded that
are not on the list (e.g. property acquisitions). (1)
Inspect rental expense accounts to identify properties rented by HighRise under an operating lease which may
comply with the definition of investment property and ensure these have been disclosed as investment
properties accordingly (IAS 40.6). (1)
g) Request a schedule of properties from the deeds office registered in HighRise’s name and agree each property
on the schedule that qualifies as an investment property to the list of investment properties provided by
management. (1)
h) Compare the current year list provided by management to the prior year working papers on investment
properties and obtain reasons for any properties which appear in the prior year working papers, but not on the
current year’s list. (1)
Question 31 LEVEL 3
Property, plant and equipment
[18 marks]
You are a trainee accountant assigned to the audit of Bastion City College Ltd (BCC). The financial year being
under U.S. or applicable copyright law.
audited ends 31 October 20X1 and you have been allocated the task of auditing the balance relating to vehicle assets
as disclosed in BCC’s financial statements.
BCC is a large private institution that offers tertiary education to several thousand students across three campuses
located in the province of Gauteng. BCC has a fleet of vehicles it owns, used for various purposes, including staff
and student transport, security services, maintenance, official travel, etc. The balance for vehicle assets, included in
property, plant and equipment, is reflected in the trial balance as at year-end as follows:
20X1 20X0
Vehicles R10 750 000 R12 500 000
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During the 20X1 financial year, the company acquired three new minibuses, each at a cost of R450 000, utilised for
transporting students between certain pick-up locations in cities and its campuses. At year-end, BCC owned 40
vehicles in total that are recorded in a fixed asset register which provides details of each vehicle, including
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registration and licensing numbers, descriptions, acquisition and disposal dates, accounting values, etc. According to
BCC’s financial manager, there were no disposals of vehicles during the year of which he is aware.
BCC makes use of AutoSure, an insurance company specialising in providing insurance for corporate vehicle
fleets.
Each campus has a facilities management complex where vehicles are cleaned and kept and from where they are
signed out by staff authorised to make use of BCC-subsidised transport. At any given point in time, some vehicles
might not be on any particular campus (e.g. they have been signed out and are located off-campus).
Some vehicles may also be off-campus at vehicle servicing and repair shops, undergoing routine maintenance, or
having faults that have been discovered, or being repaired after an accident. According to a report by the main
campus’s facilities manager, who oversees all facilities management complexes, one vehicle sustained severe
damage in an accident during the 20X1 financial year, but is still listed on the fixed asset register. The manager
confirmed that the accident was reported to AutoSure and that a response from the insurer was sent to the finance
department.
According to BCC’s accounting policy disclosed in its prior year audited financial statements, it accounts for all
its assets on the cost model. Carrying value is arrived at by subtracting amortisation (at 20% straight-line per year)
and any impairment losses.
REQUIRED
Describe the substantive audit procedures that should be performed to verify the fair presentation of the balance
relating to vehicle assets included in property, plant and equipment in the financial statements of Bastion City
College Ltd. Ignore the following in your answer:
Testing of the presentation assertion and disclosures relating to all other assertions
Tax effects
The use of computer-assisted audit techniques
Procedures already performed
[18]
Existence of vehicles and occurrence and cut-off of purchase transaction for new vehicles
1. For a sample of vehicles selected from the fixed asset register, physically inspect the vehicles for existence. (1)
Include the three new minibus vehicles in the sample. (½)
During physical inspection, for each vehicle, agree the VIN (vehicle identification number) and licence
plate number as per the fixed asset register to the numbering on the vehicle itself. (1)
Note: the VIN is usually visible where it is embedded in the dashboard towards the bottom of the
windscreen, whereas the licence plate number should also be confirmed on the licence disc attached to the inner
side of the windscreen.
For vehicles selected that are off-campus on the day the test is performed, request management to arrange for the
vehicles to be available on a particular day when the inspection will be finalised. (1)
2. For the three new minibus vehicles, obtain the purchase documentation (invoice(s) from supplier of the vehicles)
and verify that:
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2.
off/stolen and, if any, verify through inspection of the fixed asset register that these vehicles are shown at zero
carrying value at year-end. (1)
Accuracy, valuation and allocation of vehicles and accuracy and classification of transactions for new vehicles
Cost
1. Inspect the purchase documentation relating to the three new minibuses and to ensure that:
a) the cost of each vehicle is R450 000 (1)
b) any additional costs relating to the purchase of the vehicles that can be capitalised have been included in the
cost (e.g. delivery charges, sales fees, etc.) (1)
c) the total cost of each vehicle has been correctly transferred to the general ledger account for vehicles/PPE. (1)
Carrying values
1. Recalculate the fixed asset register for vehicles by subtracting depreciation and impairment losses from opening
carrying value, in order to arrive at closing carrying value and re-perform all castings. (1)
5. During physical inspection of vehicles across the three campuses, note any indication of possible damage to
vehicles or vehicles which appear not to be in working condition and, if any, discuss with management the
necessity for impairment. (1)
Completeness
1. Inspect the latest list of insured vehicles received by BCC form AutoSure and agree all vehicles on the list to the
fixed asset register to verify the register is complete. (1)
2. Enquire from the facilities manager and client staff assigned to assist the auditor with physical inspection of
vehicles whether they are aware of any other vehicles which might not be on the campuses at the time of physical
inspection and which are not in the fixed asset register. (1)
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Available marks [22]; maximum marks [18]
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Question 32 LEVEL 3
Intangible asset
[10 marks]
You are the trainee accountant assigned to the audit of Veripoint (Pty) Ltd’s financial statements and have been
tasked with the audit of its intangible asset balance. Veripoint (Pty) Ltd (Veripoint) is an importer of electronic
‘gadgets’, security systems and remote-controlled toys. It sells its products through Veripoint outlets located in malls
throughout the country. The company’s year-end is 31 December 20X1.
On occasion, Veripoint also buys patents that describe ‘high-tech’ gadgets destined for future release onto the
market. The latest patent that Veripoint acquired during the current financial year documents a new invention for a
sophisticated ‘security drone’ used with alarm systems. This drone can automatically proceed along a
pre-programmed path of a building’s perimeter towards the area where motion has been detected by the alarm
system, taking video footage as it proceeds. The patent was bought from an American company specialising in
product design and development. The total purchase price was $150 000, or R2 100 000, and the patent was
registered in the name of Veripoint on 1 July 20X1. The patent has an expected useful life of 10 years.
At year-end, Veripoint disclosed the above security drone patent as an intangible asset at R1 995 000 in its
financial statements, after having expensed the appropriate amortisation. The accounting policy of the company
indicates that intangible assets are measured using the cost model.
REQUIRED
Describe the substantive audit procedures necessary to test the transaction relating to the acquisition by Veripoint in
the current financial year of the security drone patent.
[10]
This answer is limited to the acquisition of the intangible asset only, not the audit procedures at year-end on the
balance.
1. Inspect the minutes of the board meeting where the decision was taken to acquire the security drone patent and
verify that the board authorised its acquisition. (1)
2. Inspect the sales agreement between Veripoint and the American company which sold it the patent for evidence
that:
a) the buyer is Veripoint (½)
b) the purchase price is $150 000 (½)
under U.S. or applicable copyright law.
8. Inspect that items appearing on discounted cash flow forecast with supporting evidence, for example sales with
future sale forecasts, expenses taking inflation into account, etc. (2)
9. Obtain from management a written representation letter on the occurrence, accuracy, classification and cut-off
assertions pertaining to the acquisition of the security drone patent. Transactions and events assertions are
confirmed, as a transaction is tested instead of a balance. (1)
Question 33 LEVEL 3
Property, plant and equipment
[24 marks]
You recently qualified as a CA(SA) and accepted full-time employment at Patagonia CA(SA) Inc. Patagonia
CA(SA) Inc. has been the auditor of Ice CAPS (Pty) Ltd (Ice CAPS). Ice CAPS consists of a group of companies
that imports bottled water harvested from the glaciers in the Patagonia Mountains in Argentina, near Ushuaia. These
bottles are then resold to supermarkets across South Africa.
During the course of the previous financial year, Ice CAPS launched a new line of flavoured water. Ice CAPS
used a previously dormant company in the group to house the production. The only asset on the dormant company’s
statement of financial position at the beginning of the financial year was land and buildings purchased 10 years ago.
In order to add the flavour to the water, Ice CAPS purchased two machines. One machine was purchased locally
from a registered VAT vendor and the other imported from Ushuaia for Argentinian pesos.
In terms of the group policy, land and buildings that are in use should be revalued annually by independent
experts, while other assets are depreciated over their economic useful life on the straight-line method, depending on
the class of the asset. Expected residual values are taken into account in determining the depreciable values of assets.
Patagonia CA(SA) Inc. makes use of its own independent, suitably qualified expert to determine the value and the
residual value of assets.
REQUIRED
Formulate the substantive procedures that you will perform relating to property, plant and equipment of the dormant
company owned by Ice CAPS. You are not required to address substantive analytical procedures, nor procedures
relating to the disclosure and presentation assertion.
[24]
under U.S. or applicable copyright law.
Question 34 LEVEL 3
Goodwill
[22 marks]
You are the auditor of Global Furniture Ltd (GB), a large listed entity. The company’s year-end is 30 September.
You have been the auditor of GB for the last three years.
Over more than a few decades, GB has developed into a global retailer that provides everyday household
products at affordable prices, serving customers at their convenience. GB aims to be the number one retailer of
choice for household goods for quality and value, with more than 8 500 stores in more than 22 countries. To achieve
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this, various subsidiaries were acquired during the previous few years. Two loss-making subsidiaries were also sold
during the current year. To obtain finance for these acquisitions, numerous shares were issued during the last five
years. GB disclosed R85 million goodwill at year-end, that was all related to acquisition cost when subsidiaries were
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acquired all over the world. GB’s main objective is to provide everyday products at discount prices.
From big box destination stores, to store-in-store concepts, to focused speciality stores, GB’s goal is to make
shopping as easy and convenient as possible. Customers can view, experience and buy in ways that are most
convenient to them. Shopping can be done in-store or online, with purchases being delivered to homes, or collected
in-store via click-and-collect.
To support the retail stores and ultimately provide the best shopping experience to customers, GB has a
well-established supply chain in place. This means that various specialist group divisions ensure that the final
product is provided at the best quality and price. These divisions control or manage everything from raw material
sourcing, manufacturing and product sourcing to shipping and delivery. Owning or managing these activities not
only enhances the group’s ability to deliver, but also benefits the customer in terms of providing products at
affordable price points.
REQUIRED
Describe the substantive procedures you would perform to gather sufficient appropriate evidence regarding the R85
million goodwill amount in the consolidated accounts of GB.
[22]
Opening balance
1. Agree opening balance to prior year working paper. (1)
Current year
Valuation
Impairments made in the current year by management:
1. Recalculate all impairments made by management in the current year. (1)
2. Inspect cash flows and other documentation (e.g. budgets, marketing reports) to verify their impairments made.
(1)
Audit of impairments:
1. Inspect working paper of goodwill that all possible impairments have been calculated:
a) Inspect discounted cash flows of every division/subsidiary to verify that future benefits/profits will exceed
amount capitalised at year-end. (1)
b) Agree discount rate used to that used on popular sites like Moneyweb and to rates used on other audits where
discounted cash flows were used. Also obtain rates used by merchant banks which are involved with takeovers
and mergers. (1)
c) Inspect marketing reports of every division/subsidiary to verify that revenue stated in cash flows is achievable.
under U.S. or applicable copyright law.
d) Inspect current year’s budgets regarding expenses of every division/subsidiary to verify that expenses (1)
adjusted for inflation stated in cash flows are achievable. (1)
e) Enquire from divisional managers and perusing operating reports the reasonableness of the assumptions made in
the cash flows. (1)
f) If a division/subsidiary is continuously making a loss, its goodwill should be impaired. (2)
g) If future profits of a division/subsidiary do not exceed the amount capitalised at period end, calculate the
amount that needs to be impaired. (1)
h) Discuss your possible additional impairments with the audit committee since there might be other factors that
you did not consider. (1)
i) After your discussion, calculate final impairments that need to be made. If management is not prepared to adjust,
take differences to overs/unders schedule. (1)
j) Scrutinise that GB is not trying to write back goodwill which was previously impaired since this is not allowed.
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(1)
Additions
1. Inspect contracts for any new subsidiaries acquired in the current period and recalculate goodwill on purchase
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date. (2)
2. Inspect management’s goodwill calculation and compare this to your calculation made in 8 above. Discuss any
variances with CFO. (1)
Disposals
1. Inspect contracts for any disposals of subsidiaries in the current period. (1)
2. Inspect that all goodwill amounts relating to disposals have been removed in the general ledger account. (1)
3. Inspect minutes for board approval for any disposals. (1)
Rights
1. Inspect shareholders’ registers and minutes of board meetings that GB does hold substantive rights to control all
the subsidiaries where goodwill was calculated. (1)
Completeness
1. Compare this year’s goodwill working paper that you prepared to that of last year to verify any goodwill that
might have been left out. (1)
2. Write to the legal advisors and merchant banks regarding any new or any disposal of subsidiaries/divisions that
needs to be taken into account. (1)
General
1. Obtain a management representation letter regarding the valuation of all goodwill. (1)
2. Agree the balance of the goodwill as calculated on your working paper to the amount disclosed as goodwill in the
statement of financial position as at year-end. (1)
Disclosure
1. Inspect that goodwill has been properly disclosed in the statement of financial position under non-current assets.
2. Inspect that a note shows all the movements in the goodwill amount for the 12 months ended (IFRS 3 – par. (1)
B67). (1)
Question 35 LEVEL 3
Loans
under U.S. or applicable copyright law.
[10 marks]
You are the auditor of Hip & Hap (Pty) Ltd, a company that sells a wide range of clothing from its stores located in
shopping malls around the country. The company has a December year-end.
The company’s majority shareholder is Mr Hip, the founder of the company, who owns 51% of the company.
The remaining 49% is owned by 37 other shareholders.
In order to fund the expansion plans of the company, the following two loans were made during the course of the
year (the schedule was prepared by Mr Jones, the financial manager):
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DESCRIPTION LOAN NUMBER RAND
Foreign loan 1 R10 664 202.25
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Loan 1
The company obtained a loan from Mr Hip’s uncle in London to the amount of £500 000 on 1 July of the current
year. The loan is repayable over a period of five years with equal monthly instalments at an interest rate of 1%.
The rand:pound exchange rate at the initiation date of the loan was R20.50:£1.
The loan was therefore recognised in the accounting records at R10 250 000 on 1 July.
The balance of the loan is therefore stated at R10 664 202.25 on 31 December in the financial statements.
Loan 2
The company obtained a loan of R10 million from the Industrial Development Corporation on 1 August of the
current year. The loan is repayable over a period of seven years with equal monthly instalments at an interest rate of
prime + 3%.
The ruling prime lending rate at the time of taking out the loan was 9.5% and it has remained unchanged at year-end.
The balance of the loan is therefore stated at R9 796 084.68 on 31 December in the financial statements.
General
Both loans are loaded into the loan system by Mrs Naicker, the accountant, who uses her unique user ID and
password to gain access to the loan system. The system automatically calculates the interest charged on the loan
using the detail loaded onto the system, which is based on the terms located in the loan contracts.
Payment is made via EFT into the bank accounts stated on the contracts.
Mrs Naicker processed a manual journal entry at the end of the financial year to take into account the foreign
exchange loss made on the first loan as a result of the rand depreciating in value.
under U.S. or applicable copyright law.
REQUIRED
Describe the substantive procedures that you would perform on both loans at year-end.
[10]
Question 36 LEVEL 3
Long-term borrowings
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[20 marks]
You are a trainee accountant employed by an audit firm and have been assigned to the audit of Letsatsi Printing
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(Pty) Ltd (Letsatsi) for its financial year ended 31 October 20X1. Letsatsi owns several premises throughout South
Africa from where it provides printing and copying services to government departments and schools. In order to
fund its properties, Letsatsi makes use of loans it acquires from various financing institutions. In this respect,
mortgages (long-term borrowings) exist over all its properties.
You are in the process of auditing Letsatsi’s long-term borrowings, disclosed under liabilities in its 20X1 annual
financial statements. Management provided you with a list of what the year-end balance of R12 340 000 for
long-term borrowings comprises:
R R
Provider of loan Note 20X1 20X0
Notes:
1. The loan from Samatra Mutual was obtained during the 20X1 financial year in order to fund a newly acquired
property.
2. The account for the loan from Gerald Dean did not show any movement during the year. Gerald Dean is the chief
executive officer of Letsatsi. The financial manager indicated that there is no written loan agreement for this
amount and that it was provided by Dean based on a verbal agreement between him and Letsatsi.
3. Both loans from Second National Bank and Topstarr Holdings were settled in full during the 20X1 financial year.
REQUIRED
1. Explain why, in general, it may be challenging for an auditor to obtain sufficient appropriate audit evidence
regarding the completeness assertion for long-term borrowings. (4)
2. Describe the substantive audit procedures that should be performed to verify the fair presentation of long-term
borrowings as disclosed in the annual financial statements of Letsatsi. Assume the nominal and effective interest
rates of each loan are the same. Exclude from your answer:
procedures relating to the testing of opening balances
under U.S. or applicable copyright law.
[20]
1.
a) Management may have an incentive to keep long-term borrowings off the statement of financial position in
order for the financial statements to reflect a stronger net asset position. (1)
They may therefore engage in active manipulation of the long-term borrowings balance by attempting to hide
some loans from the auditor. (1)
Because the direction of testing for the completeness assertion generally is from supporting
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documentation to the financial records, the hiding of evidence will result in the auditor finding it particularly
challenging to test for completeness of long-term borrowings. (1)
b) The non-recording of loans may encompass error rather than fraud: there is the possibility that management
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might not be aware of all the company’s long-term borrowings and, as a result, the loans do not all get
recorded. (1)
Where a company’s system of internal control fails to identify long-term borrowings or misidentifies them as
not being long-term borrowings, the possibility exists that not all loans are recorded. (1)
Available marks [5]; maximum marks [4]
Completeness
f) Inspect the minutes of the board meetings and if applicable, capital acquisitions committee as well as the fixed
asset register, for indications of new properties bought during the year and any decision taken on the source of
funding of the asset. (1)
Note: Since the company finances all properties with long-term borrowings, each property likely will have a
corresponding loan.
g) Inspect the general ledger account for interest paid on long-term loans and reconcile all interest to a
corresponding loan on the list of long-term borrowings. (1)
h) Inspect the bank statements for the year and cash book for indications of large amounts of funding received,
discuss the nature of these receipts with management and agree the receipts to the list of long-term borrowings
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(new loans obtained). (1)
i) Compare the prior financial period’s list of long-term borrowings with the current year’s list to ensure that all
loans have been included in the current year, except where settled in 20X1. (1)
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General
l) Obtain a written representation from management in which they confirm the existence, rights and obligations,
accuracy, valuation and allocation, completeness and presentation assertions regarding Letsatsi’s long-term
borrowings included in the company’s 20X1 financial statements. (1)
Question 37 LEVEL 3
Loans
[22 marks]
One of your audit clients is experiencing financial difficulties. You are the engagement partner on this audit. During
the course of the previous financial year, the company which you now have to audit took out a R5 million long-term
loan with Zero Bank to ease its short-term cash flow burden. The loan bears interest at prime minus two basis points
per annum and is repayable in 20 equal instalments of which the first is payable three months after year-end. The full
loan amount received was used to settle some of its overdue short-term debts and purchase much needed inventory.
The audit client has no other long-term liabilities, however in a discussion, the chief financial accountant
informed you that the company is in the process of obtaining additional financing in the form of other long-term
loans from external parties, while also making arrangements with Zero Bank and current trade creditors on extended
repayment terms. Management is also trying to convince debt suppliers to grant the company a debt holiday so that
the company can trade out of its current financial difficulties. Debt suppliers will then be required to sign
subordination agreements regarding debt amounts that do not have to be paid till the company is once again
financially secure. Management is prepared to give certain of its assets as security to debt suppliers.
REQUIRED
1. Formulate the substantive procedures your audit team have to perform in respect of the long-term loan as at
year-end. (11)
under U.S. or applicable copyright law.
2. Describe the additional audit procedures you would perform in order to substantiate management’s statements
relating to the additional financing arrangements. Do not address any Companies Act requirements. (11)
[22]
Question 38 LEVEL 3
Interest paid/debentures
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[25 marks]
You have recently been promoted to audit manager at the auditing firm Brazil Inc. You are excited because the
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promotion comes with an office with a lovely view. You are busy planning the year-end external audit of Rio (Pty)
Ltd (Rio). Rio imports parrots from South America to be sold as pets in South Africa.
During the middle of the financial year, Rio sold three of its delivery vehicles for R1 800 000. The CEO wanted
to use the funds to expand inventory of parrots, however the financial director heard of a good investment
opportunity. Rather than use the proceeds from the sale of the delivery vehicle to purchase inventory, the financial
director decided to invest the proceeds in a debenture and borrow money for inventory from Bankrupt Bank, since
the interest rate offered on the debentures exceeded the borrowing costs from the bank. This would be Rio’s first
investment in debentures, and therefore would be recorded at amortised cost. You may assume that the IFRS
requirements have been met.
Investment in debenture
Rio purchased a five-year debenture with a nominal value of R2 000 000 at a discount of 10% and therefore
recorded a first-day profit in its general ledger. Rio would incur transaction costs payable on initial of the
transaction. The debentures bear interest at 13% on the nominal value of the debenture, payable biannually in the
middle of the year and at year-end. A market-related interest rate on similar investments was 15% per annum
(compounded biannually). Rio received its first coupon payment at year-end, much to the excitement of the financial
director.
REQUIRED
1. Formulate the substantive procedures you would perform regarding the interest paid expense included in the
statement of comprehensive income of Rio. You are not required to provide analytical procedures. (10)
2. Formulate the substantive procedures you would perform in respect of the journal entries relating to the
debentures in which Rio invested during the current financial year. Ignore any Companies Act requirements, as
well as allowances for credit losses. (15)
[25]
Question 39 LEVEL 3
Warranty provision
under U.S. or applicable copyright law.
[14 marks]
RCA Stores (Pty) Ltd (RCA Stores) is a large retailer of electronic equipment and appliances to the public. It
operates from several stores located in malls across the country. Each year, the company includes a provision for
warranty claims in its financial statements based on an estimate of the costs the company could incur on faulty
products returned by customers.
The draft 20X1 financial statements of RCA Stores indicate a provision for warranty repairs of R1 150 000. The
previous year’s audited financial statements included a provision of R1 100 000.
While waiting for the audit senior to brief him on the audit procedures for warranty provisions, Jeff Solomons, a
trainee accountant assigned to the audit of the company’s 20X1 financial year, made the following remarks to other
team members:
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I think it is unnecessary for me to be briefed on audit procedures for the warranty provision, because the
auditing of estimates involves low risk. In fact, it is an area where an auditor can save much time on an
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engagement by simply ticking the boxes. In the case of RCA Stores, the increase of R50 000 in the
provision for warranty claims is in line with a 5% inflation adjustment and may therefore be considered
reasonable. All I have to do is to obtain a written representation letter from management confirming that
they have taken the necessary care in calculating the estimate and that the data on which the estimate is
based are complete and accurate. I then simply recalculate management’s estimate in order to ensure
mathematical accuracy.
REQUIRED
1. Discuss why Jeff Solomons’ views are inappropriate, not only as to the audit of estimates generally but also to
RCA Stores’s 20X1 warranty provision in particular. (8)
2. Describe briefly the additional substantive audit procedures that should be performed in order to determine the
reasonableness of RCA Stores’s 20X1 provision for warranty claims. (6)
[14]
Question 40 LEVEL 3
Provision for bonuses
[18 marks]
Poolsure Ltd (Poolsure) is a manufacturer of chemicals used in the treatment of swimming pool water (i.e. chemicals
such as chlorine, sodium bicarbonate (baking soda) and stabilising agents). The company has a large footprint on the
African continent and supplies its products to 15 countries. Its head office is situated in Johannesburg, while three
factories are located across South Africa. The company employs over 270 salaried and 180 wage employees and has
a financial year-end of 31 December.
You have been assigned to the audit team that audits Poolsure’s 20X1 financial year, in your capacity as a trainee
accountant. One of your first tasks is to audit the bonus accrual included in Poolsure’s financial statements as a
provision under current liabilities. The balance included in the notes to the draft financial statements appears as
follows:
20X1 20X0
Provisions
Bonus accrual 2 175 200 1 854 500
under U.S. or applicable copyright law.
Bonuses are payable to all salaried employees in January of each year in addition to their normal remuneration for
that month. A bonus equals the preceding December’s salary, excluding benefits. However, employees who are
appointed during a financial year receive a bonus that is apportioned in accordance with the number of months they
have worked for the company up to the end of December. In order to determine the total provision for bonuses for
the year, the financial manager of Poolsure logs in to the human resources system and generates, from the December
payroll, a list of all salaried employees. The list displays each employee’s gross remuneration including benefits,
together with the amount excluding benefits, equalling the provision required. The total on the list becomes the
‘new’ provision balance for the year, consisting of the bonus accruals of around 270 salaried staff members.
The monthly payroll for salaried staff is generated by the computer from the employee masterfile. Standing
information for each employee in the masterfile is supported by a paper-based employment contract and salary
adjustment form indicating the latest approved gross salary of the employee and shows the various benefit amounts
included. Salary increases occur only at the beginning of July of each year.
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One of your fellow trainee accountants was unsure as to whether a provision for bonuses is allowed as an
acceptable accounting practice. The trainee argued that a payment for the bonuses will take place in a subsequent
financial year, which therefore does not pertain to the 20X1 financial year of Poolsure and which should therefore
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REQUIRED
1. Explain, from an accounting perspective, why Poolsure may recognise a provision for bonuses at year-end. (3)
2. Describe the substantive audit procedures that should be performed to obtain sufficient appropriate audit evidence
about the provision for bonuses included in current liabilities in Poolsure’s 20X1 financial statements. Ignore the
following:
Tax implications and the use of computer assisted audit techniques
Procedures relating to the audit of the presentation assertion (15)
[18]
1. Recognition of a provision
Poolsure may create the provision for bonuses at year-end given that the amount complies with the definition of a
‘provision’ in accordance with IAS 37.14:
a) A legal, present obligation has arisen at year-end to pay future bonuses as a result of a past event, the signing of
a contract with employees in which Poolsure promises to pay salaried employees a bonus in January of each
year. (1)
b) Payment is probable as there are no indications the bonuses are not paid every year. (1)
c) The amount can be reliably estimated, given that the amount is clearly equal to one month’s salary excluding
benefits. (1)
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d) Select a sample of salaried employees from the December 20X1 payroll and agree their details against the
provision list to ensure they have been included. (Completeness) (1)
Inspect the bonus provision general ledger account to ensure the prior year’s provision has been reversed and
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for any unusual entries (especially abnormal debit entries decreasing the balance). (1)
e) Perform analytical procedures by comparing the bonus provision made in the 20X1 financial year to the
provision made in 20X0 and discuss unexpected differences if any with management, taking into account: (1)
i) the average increase in salary in July 20X0 (½)
ii) the average number of employees across the two years. (½)
f) Obtain a written representation letter from management with regard to the existence, rights and obligations,
completeness and accuracy, valuation and allocation assertions pertaining to the provision for bonuses. (1)
Question 41 LEVEL 3
Provision created for environmental rehabilitation costs
[15 marks]
You are the audit manager on the 20X1 audit of Ityuwa Lakes Ltd (Ityuwa), a company that manufactures table salt.
Ityuwa owns several large salt evaporation ponds in the Eastern Cape from which it extracts and harvests the salt and
from where it is sent to a nearby factory for further processing. Most of Ityuwa’s products are manufactured for the
export market.
During the 20X1 financial year, Ityuwa established a new salt evaporation pond after limited rock salt deposits
were found next to a natural lake near Coega. However, before it could commence with evaporation activities, in a
designated area to the side of the lake, the company had to agree to terms and conditions laid down by the
Department of Environmental Affairs. The agreement indicated the various aspects of rehabilitation required. An
important condition was that Ityuwa had to rehabilitate the land after 10 years of operation when the rock salt
deposits were expected to become depleted.
The company obtained the services of Jerome Randall, an environmental engineer employed by an external
company, Green to Go Consultancy Inc., to determine the amount of the provision that needs to be created in the
20X1 financial year. In his report, Mr Randall indicated that the provision to be accounted for covers the following
rehabilitation costs:
Drying of the salt evaporation pond
Levelling of any sand banks created
Re-establishment of the natural vegetation
Consulting fees of conservation specialists who will assist with the rehabilitation
At first, management of Ityuwa questioned Mr Randall’s calculation of the provision, indicating that it appeared too
high compared to what it cost to establish the evaporation pond in the first place. However, management
under U.S. or applicable copyright law.
nevertheless relied on Mr Randall’s calculations and recorded a provision for rehabilitation costs at R3 350 000 in
the company’s 20X1 financial year.
REQUIRED
1. Describe in general why a company’s management might want to understate a provision for environmental
rehabilitation costs in its financial statements. (3)
2. Describe the substantive audit procedures that should be performed to verify the existence and accuracy, valuation
and allocation assertions relating to the provision for environmental rehabilitation costs as disclosed by Ityuwa in
its 20X1 annual financial statements.
Ignore any tax implications and the future value of the provision. Do not address related disclosures or the
presentation assertion in your answer. (12)
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[15]
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2. Substantive procedures to audit the provision: existence and accuracy, valuation and allocation
a) Perform the following procedures to determine whether reliance can be placed on the environmental specialist,
Mr Jerome Randall, as a professional:
i) Evaluate Mr Randall’s competence and expertise by requesting and inspecting evidence of his qualifications
and certification with professional bodies. (1)
Furthermore, request his curriculum vitae or client portfolio and inspect the document for evidence of
environmental assessments he undertook for similar projects in the past. (1)
To assess his reputation and reliability as a professional, contact, with permission, previous clients of
his and enquire about the quality of his service. (1)
ii) Evaluate Mr Randall’s objectivity by enquiring from both his employer and management of Ituywa whether
he has performed any previous work for Ituywa and the nature of the work if relevant as well as the effect
of any possible personal and professional relationships with Ituywa personnel. (2)
b) Evaluate the scope, adequacy and correctness of Mr Randall’s work by inspecting the report he prepared and in
which his calculations of the provision appear. (1)
i) Scrutinise the report for any indications of restrictions placed by Ituywa management on his work. This may
also be determined through discussion with the expert. (1)
ii) Determine whether the assumptions and data used in the calculation appear reasonable and complete. (1)
iii) Recalculate any calculations Mr Randall performed in order to arrive at the provision he proposed and agree
the result to the R3 350 000 recorded in the accounting records. (1)
c) i) Inspect the report for the ‘aspects of the rehabilitation’ (what the provision consists of) and agree these to the
agreement between Ituywa and the Department of Environmental Affairs for completeness (i.e. this procedure
will affect the accuracy and valuation of the provision). (1)
ii) Inspect the agreement for any other pertinent requirements relating to the department’s conditions of
establishing the evaporation pond, including the date of the agreement and signatures of the parties
involved. (1)
d) With reference to other audit evidence obtained during the course of the audit, and in light of the auditor’s
experience and knowledge of similar provisions created, consider whether the conclusions reached by Mr
under U.S. or applicable copyright law.
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Question 42 LEVEL 3
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[14 marks]
You are a trainee accountant employed by the audit firm of Sabata & Lerato Inc. and have been assigned to the audit
of Tecnika (Pty) Ltd (Tecnika) for the company’s 31 December 20X1 financial year-end. It is your task to audit the
provision for leave pay.
Tecnika employs about 200 permanent staff members. Each staff member may take 21 days’ vacation leave per
annum, of which 10 days may accrue during a calendar year (i.e. 10 of the 21 days’ leave may be untaken and rolled
over to the next year). Seeing that accrued leave will have to be paid out to a staff member should he/she leave the
employment of Tecnika, the company creates a provision at year-end for all leave days which have not been used
during the year, but which have accrued to its personnel. The amount provided per staff member is based on a staff
member’s monthly salary payable for the last month of the year divided by 21 business days, multiplied by the
number of leave days that have accrued as at year-end.
At 31 December 20X1, the ‘provision for leave pay’ balance amounted to R1 204 290 as per the trial balance. You
are aware that, in the prior year and pertaining to the previous provision, the audit team found that:
some employees were never included in the provision
for some who were included in the provision, the incorrect number of leave days accrued was used in the
provision calculation – in all cases, fewer days than should have been used.
The following is an example entry for a staff member on the schedule of accrued leave pay. The schedule is
maintained in electronic format using a spreadsheet application installed on the company’s computer system:
Each staff member has a paper-based employee file stored in the office of the human resources manager. Inside the
file, there are, among other documents, printouts of monthly pay slips and a leave schedule for each employee
indicating leave days taken and leave days accrued at the end of each month.
under U.S. or applicable copyright law.
REQUIRED
1. Describe the major risks of material misstatement relating to the provision for leave pay created by Tecnika for its
20X1 financial year, evident from the information provided. (2)
2. Describe the substantive audit procedures that should be performed to verify the existence, completeness and
accuracy, valuation and allocation assertions relating to the provision for leave pay balance as at 31 December
20X1. (12)
Do not use computerised assisted audit techniques in your answer and ignore any tax implications.
[14]
Question 43
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Question 43 LEVEL 3
Provision for leave pay/share option scheme
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[31 marks]
You are an audit specialist employed by the Zondo Inc., a forensic auditing firm. You have been tasked by the newly
appointed CEO of a state-owned entity (SOE) Gold Pot Power Utility to review its human resource policies and, in
particular, its remuneration policy. The new CEO was appointed after a whistleblower implicated some of the senior
management team of the SOE in state capture and self-enrichment. One senior management team member had been
implicated in a fictitious employee scheme worth millions of rands.
The CEO also requested that you formulate substantive procedures that the internal auditors could perform that
would form the foundation of work that the SOE’s external auditors could place reliance on during the next financial
audit. The SOE has a 30 June year-end.
The CEO provided you with the following information relating to the most recent financial year:
The SOE employs 291 employees and consists of a senior management team of eight members. All permanent
employees receive a basic salary, which includes a 13th cheque. All employees are entitled to receive a
long-service award equalling one month’s extra salary every 10th year of employment. At the most recent
directors meeting, the company approved a general increase of 12% in the basic salaries of all staff. The increase
was significantly above inflation due to pressure from the unions following labour action.
The SOE is expecting further labour action because of a change in the leave policy of the SOE. The change in the
policy resulted in a decline of the provision for leave pay in the statement of financial position. As from 1 July, it
was decided that only the senior management team are allowed to transfer their leave from one financial year to
the next, whereas previously, all personnel were allowed to transfer unused leave from one year to the next.
Other than the senior management team, no other members of staff receive bonuses. In terms of their employment
contract, the senior management team receive bonuses and share options. A new incentive scheme was approved
at a directors’ meeting for the senior managers at the beginning of the financial year. At the beginning of the
financial year, each senior management team member will be entitled to 20 000 share options. This will allow
them to purchase shares after a three-year period at R55 per share, provided they remain employed by the
company and reach their annual individual sales targets during this period. At the end of the financial year, the
programme was amended to reduce the purchase price by R10. None of the senior staff from the senior
management team had resigned or had been fired since the inception of the scheme. One senior management team
member who had been implicated in state capture did not reach his individual target. The fair value of the share
options is being determined by independent professional valuers.
REQUIRED
Assuming the external auditors will rely on the work performed by the internal auditors:
1. Formulate only the general (generic) substantive procedures that you would recommend be performed to
substantiate the amount shown in the statement of financial position for both the senior managers’ share option
scheme and the provision for leave pay. (6)
2. Other than the procedures in part (1) above, formulate the additional substantive procedures that you would
under U.S. or applicable copyright law.
perform to substantiate the amount disclosed in the statement of financial position for the senior managers’ share
option scheme. You are not required to formulate substantive analytical procedures, nor any procedures relating to
the Companies Act. (9)
3. Other than the procedures in part (1) above, formulate the additional audit procedures you would perform in
respect of the provision for leave pay. You are not required to formulate substantive analytical procedures. (9)
4. Using computer-assisted audit techniques, list the exception reports the external auditors would extract, to
determine whether fictitious employees are present on the payroll system. (7)
[31]
Question 44
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Question 44 LEVEL 3
Provision for bonuses
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[14 marks]
Given all the accounting scandals that have occurred in South Africa recently, your audit practice has gone through
hard times. Your practice has lost some clients, however you were able to retain some of your long-standing ones.
One of these is Stones, Rocks & Tiles (Pty) Ltd (Stones, Rocks & Tiles), a retailer of tiles and stone cladding,
situated outside Paarl. Stones, Rocks & Tiles has a 30 September year-end.
You have completed the audit of payroll. You followed a system based audit approach. The test of controls
confirms the preliminary low control risk assessment. You only need complete the audit work relating to the
provision for the bonuses.
Stones, Rocks & Tiles has had a good financial year and the management decided to pay bonuses to all
employees. The payment is expected to be included on the December payslip. Permanent employees receive a 13th
cheque equal to one month’s salary at date of payment. Casual employees will receive a gift worth 25% on their net
wage of the last work week in December. The only requirement for a bonus to be paid is that the employee should
still be employed at payment date. Management indicated that historic resignation patterns show that approximately
10% of the casual staff and 5% of the permanent employees would resign before payment date. They used this
assumption when raising a provision for bonuses at year-end.
REQUIRED
Formulate the substantive procedures you would perform in respect of the provision for bonuses. You are not
required to perform substantive analytical procedures.
[14]
1. Obtain a schedule from HR manager of the bonus provision calculation and re-perform all calculations and
castings. (1)
2. Agree the total of this schedule to the account in the general ledger, trial balance and financial statements. (1)
3. Obtain a management representation letter confirming the completeness and accuracy of the provision. (1)
4. Inspect minutes of meetings of the board for any reference to the bonuses and the approval of them. (1)
5. Inspect the financial statements to confirm whether the provision has been disclosed as a current liability in
accordance with IFRS. (1)
6. Enquire from management to gain an understanding of the process management used to calculate the provision.
Evaluate the reasonableness of the estimate based on your knowledge of the business. (1)
7. Select a sample of employees from management’s schedule and confirm the payroll (for both permanent
employees and casual staff) for existence of the employees (or by physical verification). (1)
8. Select a sample of employees from the bank statements and confirm that they appear on the schedule. (1)
9. For a sample of employees on the schedule:
under U.S. or applicable copyright law.
a) Agree the monthly salary for December as used in the calculation with the payroll for December. (1)
b) Recalculate the salary to be paid out in December (taking into account potential increases in salary) and the cost
of the gift (being a week’s wages × 25%). (1)
c) Should employees receive an increase after year-end, obtain a copy of any approved increase letters in
recalculating the adjusted salary. (1)
d) Confirm the nature of employment (permanent vs casual staff) by inspecting a sample of employees’
appointment letters in their staff files. (1)
10. Inspect the payroll and employee records between year-end and payment date to identify resignations. (1)
11. Enquire from the human resources department of any resignations after year-end, other than the two resignations
that you are aware of. (1)
12. Confirm the reasonableness of the management’s percentage (%) of resignations before payment date by
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12.
inspecting the employee records for the trends in resignations during the year as well as after year-end. (1)
13. Develop an expectation of a reasonable bonus and provision by discussions with management, industry
knowledge, etc. (1)
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Question 45 LEVEL 3
Provision for rehabilitation of land
[20 marks]
Your firm, UNIVEN Inc., specialises in high-risk audit clients. It has a team of specialists, each focusing on a
specific industry. Your area of expertise is the specialised weapon industry and you have been asked to assist one of
your clients, Denel Advanced Weapons SA Ltd (DAW), in the audit of a provision for the rehabilitation of land
around DAW’s advanced weapons development facility in Somerset West. New weapons are developed and tested
at the advanced weapons development facility.
During the course of the financial year, an environmental pressure group began protesting outside the gates of the
advanced weapon development facility. They claim that one of DAW’s facilities, where the chemical weapons and
weapons of mass destruction are tested, is polluting the environment and killing the native species of tortoises.
Publically, DAW is denying any responsibility. Internally, a confidential memo from DAW’s lawyers confirms the
following:
DAW has a 20-year lease of the land from the Western Cape government that contains a clause that any damage,
caused by DAW’s activities, to the land and surrounding areas must be rectified.
Statements in DAW’s previous integrated reports that they are a socially responsible company that causes no
harm to anyone gives rise to a constructive obligation for DAW to rehabilitate the land.
An environmental study conducted by DAW’s maintenance department found sufficient evidence that DAW is
having a negative impact on the surrounding environment. Moreover, they prepared a discounted cash flow
calculation of the expected cost to rehabilitate the land when the lease expires. The maintenance department is
headed by an environmental specialist who reviewed the study.
Although DAW does not want to admit guilt, the financial director decided to raise a provision for the rehabilitation
of the environment.
under U.S. or applicable copyright law.
REQUIRED
Formulate the audit procedures that you would perform in respect of the provision for rehabilitation.
[20]
Question 46 LEVEL 3
Provision for chemical spill
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[25 marks]
You are an audit manager at Mabusa Inc., a medium audit firm situated in Cape Town. You are currently at one of
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your clients, African Chemicals (AC), performing the audit of a provision for the rehabilitation of land around AC’s
testing facility in Paarl. The company’s year-end is 30 April. Mabusa Inc. has been the auditor of AC for the last
four years. New chemicals are developed and tested at the Paarl facility which caused damage as discussed below.
The site manager at the Paarl facility has alerted the management of AC regarding a chemical spill at the facility
during the year, which polluted the environment and killed the indigenous species of plants and various small
animals. The groundwater has also been affected, which resulted in livestock from neighbouring farms also dying.
Publically, the firm is denying any responsibility regarding damages. A letter from AC’s lawyers confirms, however,
that the site manager is correct in his assessment that environmental damage did occur. Some of the farmers in the
vicinity sent water samples to a laboratory, which found traces of toxic chemicals used by AC and confirmed that
their livestock were killed from drinking it.
An environmental study was conducted by an external environmental expert regarding possible damage that
needs to be rectified. Moreover, he prepared a discounted cash flow calculation of the expected cost to rehabilitate
the land where the Paarl facility is situated as well as to clear the groundwater of the toxic chemicals. The expert
estimates that it will take at least three years to eradicate the effects of this chemical spill.
Although AC does not want to admit guilt to the farmers, the chief financial officer (CFO) decided to raise a
provision of R14.2 million at year-end for the rehabilitation of the environment.
REQUIRED
Formulate the audit procedures that you would perform in respect of the R14.2 million provision for rehabilitation at
year-end.
[25]
Obligation/existence
1. Obtain legal representative’s letter where it was stated that the chemical spill did have a negative impact on the
environment. (1)
2. Inspect correspondence and other audit evidence from farmers indicating damage due to chemical spill. (1)
3. Obtain and analyse laboratory reports indicating that toxic chemicals used by AC were found in the groundwater.
4. Enquire from the site manager at the Paarl facility how he discovered the environmental damage due to (1)
chemical spill. (1)
5. Conclusion: All the above clearly indicate a present obligation which will lead to future payments that can be
reasonably estimated. (1)
Completeness/cut-off
1. Inspect the site and ask the site manager if there are other areas of AC that also experienced damage. (1)
2. Inspect board minutes for any discussion on the additional provision that is needed regarding the rehabilitation of
under U.S. or applicable copyright law.
Valuation
1. Obtain a schedule of the discounted cash flow calculation from the external expert and re-perform the calculations
on the discounted cash flow calculation. (1)
2. Enquire from the environmental specialist about the assumptions used and evaluate the reasonability of these
assumptions to source documents and reports/claims from farmers in the surrounding area. (1)
3. Determine that the damage to groundwater was included in the cash flow forecast. Chemicals tend to infiltrate the
groundwater, which has led to death of livestock on the surrounding farms and claims for losses suffered by
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3.
farmers. (2)
4. Enquire from the external expert about the procedures and methods that were followed in the preparation of the
discounted cash flow forecast. Scrutinise the logic of these procedures and methods used; for example, was
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11. Inspect the minutes of the audit committee meeting approving the present value of the cash flows and the
provision itself. (1)
12. Enquire from the external expert and site manager about the nature of the rehabilitation required and extent of
work required to rehabilitate the environment. (1)
13. Confirm the discussion with the expert and site manager by inspecting relevant correspondence and corroborative
technical documentation. (1)
Analytical review
1. This is the first year that this provision is raised and therefore no analytical review will be possible.
Disclosure
1. Inspect the note disclosure relating to the provision of R14.2 million as a long/short-term liability in the financial
statements and confirm the compliance with IFRS. (1)
General procedures
1. Compare the total of the calculation to the year-end balance of R14.2 million in the general ledger and trial
balance. (1)
under U.S. or applicable copyright law.
2. Obtain a letter of representation from management confirming the completeness and accuracy of the provision.
(1)
Question 47 LEVEL 3
Provision for defective work
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[13 marks]
You firm, UNIVEN Inc., specialises in high-risk audit clients. It has a team of specialists, each focusing on a
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specific industry. Your area of expertise is the specialised weapon industry and you have been assigned to the audit
of Big Guns SA Ltd (Big Guns). Big Guns sells customised heavy calibre weapons to clients across South Africa.
Clients can order heavy calibre weapons from Big Guns with any specifications they might require. Big Guns holds
a large inventory of weapons and spare parts and if it does not have a particular weapon or spare part in its
inventory, it can source it from reliable suppliers. It is rumoured that Big Guns even has some illegal gun dealers on
its books. Big Guns does not assemble the weapons itself, rather sub-contracting this task. Big Guns then sells the
weapons to licensed dealers approved by the government.
At the beginning of the financial year you are currently auditing, Big Guns sold a vehicle with a mounted
high-calibre machine gun with extended ammunition storage to a security company. Since this was the first time it
mounted a weapon on a vehicle, Big Guns subcontracted the assembly as well as the mounting of the weapon on the
vehicle to Vin Petrol, an auto body shop. Big Guns struggled to find a body shop that was willing and able to mount
the weapon. Vin Petrol agreed to mount the weapon only after an immunity agreement was signed in terms of which
no claim could be instituted against it. The vehicle was delivered in the middle of the year.
Shortly after receiving the vehicle, the security company complained that the gun kept on jamming and that the
weapon had become faulty due to the vibration of the vehicle. In terms of Big Guns warranty policy, it appears as if
Big Guns is responsible for rectifying any product defects. Because of the immunity agreement signed with Vin
Petrol, Big Guns will not be able to recover anything from Vin Petrol. One of Big Guns’ supervisors inspected the
vehicle and the weapon and concluded that the jamming resulted from poor workmanship of a sub-contractor that
installed the large ammunition storage unit and Vin Diesel’s assembly. He also contracted an independent specialist
who confirmed this and recommended that the vehicle undergo a full inspection. Rectification work will be
necessary to reduce the impact of the vibration on the assembly unit which attaches the weapon to the vehicle.
Shortly before year-end, a new contactor was appointed to perform the necessary work. He commenced the work but
still had a lot of work to complete after year-end. The independent specialist prepared an estimate of the total costs
involved, which was approved by management and formed the basis of the provision.
REQUIRED
Describe the audit procedures you would perform in respect of the provision for defective work at year-end.
[13]
Question 48 LEVEL 3
under U.S. or applicable copyright law.
[15 marks]
You are a trainee accountant at the audit firm of Glass and Cupp Inc. and have been assigned to the audit of High
Lights (Pty) Ltd (High Lights), a wholesaler of electrical lights and fittings. The company’s financial year under
consideration ends 31 December 20X1. During the year the following two transactions, which require your further
attention, occurred:
Issue of shares
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According to your prior scrutiny of High Light’s memorandum of incorporation (MOI), the company had 500 000
authorised and issued shares as at July 20X1, the day its board of directors decided to issue another 100 000 shares.
In terms of the decision, the shares are to be issued at R10 each and no directors are allowed to take up any of the
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shares. You also confirmed through inspection of the MOI that the directors do not have the power to change the
number of authorised shares. After the necessary legal requirements were considered, all shares were duly issued
and monies received in full. Inspection of the general ledger revealed that the share capital account was credited with
R1 million and the bank account debited with the same amount.
Dividends declared
In December 20X1, the board of directors declared the only dividends for 20X1, payable to all shareholders, at R3
per share. The amount of the dividends declared has not yet been paid by the time the dividend declaration was
audited.
REQUIRED
Describe the substantive audit procedures that should be performed to test the fair presentation of the transactions in
High Lights relating to:
the issue of shares in July 20X1 (9)
the declaration of dividends. (6)
Do not repeat any procedures already performed as per the above scenario and ignore any procedures relating to
presentation and disclosure of the matters in the financial statements.
[15]
Question 49 LEVEL 2
Equity
[21 marks]
Greyfox Protection Services Ltd (Greyfox) is a large, but unlisted company that provides security services
throughout the country. The auditor of Greyfox required audit evidence for the following matters that applied during
the course of the company’s most recent financial year:
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(Note that you have already confirmed that there
are no restrictions to this extent in company’s MOI.)
g. The company had the financial means to pay the (½ × 2) (3)
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above dividends.
h. The finance committee of Greyfox, carrying out its (½ × 2) (2)
mandate as obtained from the board, decided to
obtain a long-term loan for Greyfox from West-end
Bank and subsequently agreed to terms and
conditions with the bank for the loan.
REQUIRED
For each of the above controls/activities:
1. name the document on which you will find evidence for the matter (6)
2. for each document named, briefly describe the nature of the evidence that it provides for audit purposes. (15)
[21]
Note: More than one document may apply for each matter. Do not address matters for which you have already
obtained audit evidence as described in the scenario.
b. MOI (½) Any restrictions that may apply to the directors’ ability to issue
Minutes of the shares (1)
shareholders’ Evidence of there being a sufficient number of authorised shares in
meeting (½) respect of the prospective share issue (1)
Rules regarding the directors’ ability to change the MOI in order to
increase the authorised number of shares (otherwise, a special
resolution by shareholders will be required) (1)
Evidence of the shareholders’ approval, by means of a special
under U.S. or applicable copyright law.
d. Bank statement (½) The bank statement provides evidence that funds were in fact
Cash book (½) received from shareholders and the cash book provides evidence
that the receipts were recorded in the accounting records. (1)
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e. Shareholders’ register The shareholders’ register is prepared by Greyfox to record the
(½) particulars of each shareholder, including the number of shares held
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g. Minutes of the board Evidence that the directors applied the solvency and liquidity test as
meeting (½) per section 4 of the Companies Act (1)
Trial balance at Indication that the board, subsequent to the performing the test,
time of dividend concluded that Greyfox will satisfy the solvency and liquidity test
declaration/other valid immediately after completing the proposed distribution (1)
accounting Evidence that the assets of the company, as fairly valued, equal or
information (½) exceed the liabilities of the company, as fairly valued and it appears
that the company will be able to pay its debts as they become due
in the ordinary course of business for a period of 12 months
following the distribution of the dividends to shareholders (1)
h. Minutes of the finance Evidence of approval for the loan to be acquired from West-end
committee’s meeting Bank (1)
Loan agreement (½) Indication that both parties (Greyfox and the bank) agreed to the
with West-end terms of the contract and that an authorised representative of
Bank (½) Greyfox signed for the loan (1)
Question 50 LEVEL 3
Other reserves
[14 marks]
Matchstix Ltd (Matchstix) is a large manufacturer of matchsticks used for lighting fires. During its most recent
financial year, the company’s auditor was concerned about the board of directors’ treatment of the following matters
affecting the 20X1 statement of profit and loss and other comprehensive income and statement of changes in equity:
under U.S. or applicable copyright law.
The company owned three properties during its 20X1 financial year, consisting of open pieces of land in the
following locations: Midrand, Pretoria and Mbombela. By year-end, the company owned only two of these
properties as the land in Pretoria was sold. Further details are as follows:
A revaluation surplus to the value of R380 000 existed on the Pretoria property at the time when it was sold. The
Pretoria property was last revalued seven years ago. This surplus amount was transferred to the 20X1 retained
earnings through profit and loss.
The directors decided to revalue the Midrand property on which the company is planning to build a future match
stick factory. As a result, the board requested property agent Mark Shaw, a cousin of the chief executive officer,
to perform the revaluation. The revaluation resulted in the Midrand property increasing in value by R550 000 and
was duly recorded as such in the 20X1 financial statements.
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The Mbombela property was not revalued for the 20X1 financial year.
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REQUIRED
1. Discuss the possible reasons as to why the auditor of Matchstix was concerned about the company’s accounting
treatment of the matters relating to the three properties. (5)
2. Describe the substantive audit procedures you would expect the auditor of Matchstix to have performed to gather
sufficient appropriate audit evidence about the accuracy, valuation and allocation assertion and related disclosures
of the revaluation surplus of R550 000 (Midrand property) recorded in the financial statements. Assume all
amounts are material and that use will not be made of an auditor’s expert. Ignore any tax consequences. (9)
[14]
qualifications and experience and inspect the evidence to determine whether he:
appears competent and skilled in property valuations (1)
is registered or certified with a professional property valuation body. (1)
c) Request from management the agreement signed between Mark Shaw and Matchstix to determine whether the
scope of the property valuator’s work is adequate and enables the valuator to perform his work without
restrictions or influence from management. (1)
Discuss with Mr Shaw whether he was free to perform the valuation without limitations placed on his work.
d) Inspect the valuator’s valuation report and: (1)
i) confirm by means of this inspection that the Midrand property’s fair value at year-end results in an increase in
R550 000 as per the accounting records (1)
ii) recalculate any calculations made by the valuator in the report (1)
iii) assess the reasonability of any assumptions used by the valuator given the auditor’s knowledge of the
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industry and any other audit evidence obtained during the course of the audit of Matchstix. (2)
e) Inspect the statement of other comprehensive income and note the increase of R550 000 transferred through
retained earnings. (1)
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f) Inspect the statement of changes in equity and note the increase in R550 000 under revaluation surplus. (1)
Question 51 LEVEL 2
Bank reconciliation
[7 marks]
You are a second-year trainee accountant at Q&Z Inc. and are currently busy with the audit of NOCDE Ltd
(NOCDE) for the 28 February 20XX financial year-end. NOCDE is a clothing retail company with branches across
the country. You are responsible for the audit of the company’s bank balances at year-end and were presented with
the following bank reconciliation by the company’s accountant:
REQUIRED
Describe the substantive procedures that you should perform on the bank reconciliation presented to you as part of
obtaining sufficient and appropriate audit evidence regarding the company’s bank balance at year-end.
[7]
under U.S. or applicable copyright law.
General
1. Obtain a bank confirmation confirming the balance according to the bank statement on 28 February 20XX and
agree the bank balance per the reconciliation to the balance on the bank statement or the bank confirmation as at
28 February 20XX. (1)
2. Recalculate the calculations on the reconciliation. (1)
3. Re-perform the logic of the bank reconciliation and the reconciling items on the reconciliation. (1)
4. Agree the balance according to the cash book on the reconciliation to the balance in the cash book as at 28
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4.
Outstanding deposits
1. Agree the amounts of the outstanding deposit to the March 20XX bank statements. (1)
2. Agree the date (28 February 20XX) and the amount R7 541.73 to the cash receipt journal to ensure that it was
recorded in the correct period. (1)
3. Inspect the deposit slip for the amount of R7 541.73 and the date of the deposit (28 February 20XX). (1)
Bank charges
1. Agree the amount of the bank charges (R897.50) to the February 20XX bank statement. (1)
Question 52 LEVEL 2
Bank confirmation letters
[10 marks]
You are a second-year trainee accountant at Q&Z Inc. and are currently busy with the audit of NOCDE Limited
(NOCDE) for the 28 February 20XX financial year-end. NOCDE is a clothing retail company with branches across
the country. The company has multiple bank accounts and you are responsible for the audit of the company’s bank
balances as at year-end and are in the process of preparing bank confirmation letters for the company’s bank
accounts at year-end.
REQUIRED
1. List and explain the assertions relating to the cash and bank balance contained in the financial statements for
which evidence will be obtained by means of bank confirmation letters. (2)
2. Discuss any other information (other than the cash and bank balance) which will also be obtained as part of the
bank confirmation process and how it can be used by the auditor. (8)
under U.S. or applicable copyright law.
[10]
1.
a) Existence, as the banks will confirm that the bank accounts existed at year-end (1)
b) Accuracy, valuation and allocation assertions, as the banks will be confirming the balance of the various bank
accounts at year-end (1)
2.
a) Interest paid and received during the financial year for all the entity’s bank accounts (1)
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2.
This will be used by the auditor to verify the occurrence, completeness and accuracy of the entity’s interest
expenses and interest revenue. (1)
b) Details of any pledged and ceded balances and any collateral provided for liabilities (1)
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This can be used to verify the accuracy and completeness of disclosure and the presentation of, inter alia,
contingent liabilities in the financial statements as well as rights and obligations and completeness of the
related assets and liabilities. (1)
c) Details of any forward contracts (1)
This can be used to verify the financial instrument, including the relevant year-end disclosures and presentation
in the financial statements. (1)
d) Available overdraft facilities that the entity may use and the date of the review of these (1)
This can assist in the going concern evaluation because it provides information regarding the availability of
short-term funding to the entity. (1)
e) Information regarding the authorised signatories on the entity’s bank accounts (1)
This can be used during the audit of payments made by the entity during the year to identify invalid payments
which would assist in the identification of fraudulent transactions. (1)
Question 53 LEVEL 3
Deferred taxation
[16 marks]
Since you recently completed your MCom (Taxation) the audit partner on the audit of Screen Capture (Pty) Ltd
(Screen Capture) requested that you assist in the audit of the deferred taxation asset balance. Screen Capture is a
firm of private investigators that specialise in electronic surveillance.
Following the revelations of the State Capture commission of bribery, fraud and corruption by government
officials, Screen Capture has seen a significant increase in demand for special investigations and has been awarded
various contracts to conduct electronic surveillance. In order to store all the data that is generated by the new
contracts, Screen Capture purchased 10 new servers during the financial year. Electronic equipment is written off on
a straight-line basis over the period of expected use and is impaired where necessary.
Screen Capture estimates that the expected period of use of the electronic equipment is shorter than the write-off
period allowed by the South African Revenue Service. The financial directors recommended that the equipment be
written off using the official tax wear-and-tear rates, however the board of directors agreed that the actual useful life
would result in a better reflection on the statement of financial position. This resulted in a deferred taxation asset,
arising from the deductible temporary differences in respect of the servers purchased.
REQUIRED
Assuming that the fixed assets have already been audited and that the deferred taxation asset account is separately
under U.S. or applicable copyright law.
disclosed from the deferred taxation liability account, formulate the substantive procedures that you would perform
in respect of the deferred taxation asset account.
[16]
1. Scrutinise the general ledger account (for both the deferred taxation liability and asset accounts) for unusual
entries and enquire from management about any such entries. (1)
2. Inspect the deferred taxation liability account as well as the related deferred taxation liability calculation for any
unusual items. (1)
3. Inspect all material journal entries processed during the preparation of the financial statements and enquire from
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3.
management about their purpose. (1)
4. Obtain the deferred taxation calculation;
5. agree its total to the general ledger, trial balance and financial statements. (1)
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6. Recalculate the:
a) carrying amount of the asset
b) tax base
c) deferred tax asset. (max 2)
7. Compare the tax rate and wear-and-tear rate used in the calculation with current (‘enacted or substantially
enacted’) legislation. Note the date of the enactment. (2)
8. Obtain forecasts from management and review whether it is probable that sufficient taxable income will be earned
in future, against which the temporary difference can be deducted.
a) Enquire from the accountant about the procedures and methods that were followed in the preparation of the
forecast. (1)
b) Enquire from the accountant about the basis of the assumptions made in respect of the taxability, tax planning
events, probabilities, possible variances and timing of future cash flows, and compare it with trends and
industry norms considering the knowledge of the business and the industry. (1)
c) Compare the discount rate used by the accountant with the ruling interest rate in the media or on the internet.
d) Recalculate all calculations and projections. (1) (1)
e) Confirm the details in the projections with the underlying evidence and consider the taxation impact of the
projections (evaluate whether there will be sufficient taxable profit earned, against which deductions can be set
off; also refer to other requirements of IAS 12, para 36) and the recoverability of the deferred taxation asset.
f) Evaluate events after year-end that provide additional information in respect of the above-mentioned (max 2)
assumptions (e.g. changes in the interest rate and the economy which may impact future sales and sales
volumes; timing when temporary difference could potentially reverse; tax planning opportunities) in order to
confirm that the loss will be realised. (max 2)
g) Inspect the minutes of management meetings to verify that the requirements of IAS 12, para 36 are discussed.
9. Inspect the disclosure of the deferred taxation in the financial statements to confirm that it is disclosed in (1)
accordance with IFRS. (1)
Question 54 LEVEL 3
Taxation payable
[22 marks]
You are the audit senior employed by Wingman Accounting Inc. (Wingman). Wingman received a phone call from
the local university. The chairman of the School of Accountancy at the university urgently needs a guest lecturer
with taxation experience as well as audit experience. Wingman’s managing partner suggests that you present the
under U.S. or applicable copyright law.
lecture, since it would assist Wingman’s recruitment activities on campus. The brief you received from the
university via email states the following:
Dear Wingman
Thank you for agreeing to lecture next week. I would like to request that you give a 50-minute lecture on
the various forms of taxation, and since we (at the university) have started implementing the CA2025
framework, you must please integrate taxation with auditing during your lecture. Please focus on
substantive procedures. Integrated thinking is a key principle in the CA2025 framework.
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