3040-21-s2-practice-mid-semester-test-with-solutions-2021-08-29

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3040 21-S2 Practice mid-semester test with solutions 2021 08 29 Auditing and Assurance Services (Macquarie University) Scan to open on Studocu Studocu is not sponsored or endorsed by any college or university 3040 21-S2 Practice mid-semester test with solutions 2021 08 29 Auditing and Assurance Services (Macquarie University) Scan to open on Studocu Studocu is not sponsored or endorsed by any college or university Downloaded by James Glenwood (jamesglenwood12@gmail.com) lOMoARcPSD|7623594

1 ACCG 3040 Practice Mid-Semester Test, 2021 Semester 2 Suggested Solutions Note: for the case questions other correct answers are possible and would be marked accordingly Case questions Q1 Shade for Stars audit planning Your audit client is Shade for Stars , a manufacturer of high-end sun umbrellas endorsed by numerous celebrities. In relation to the valuation of inventory, you have assessed inherent risk (IR) as low and control risk (CR) as low. 1/ From your assessment of the business risk of Shade for Stars, provide one example of information that would support your assessment of low IR for inventory valuation and one example of information that would lead to an assessment of high IR for inventory valuation (2 marks) o Low: it is a hot summer and there is huge demand for the umbrellas from the public and when new designs are released they sell out immediately. o High: it is a cool summer and the umbrellas aren’t selling well. 2/ Imagine and provide an example of a control activity of Shade for Stars that would support a low assessment of Control Risk and state how you would test this control (2 marks) o The calculation of provision for obsolete stock is performed by the junior accountant and independently checked by the senior accountant o Sight evidence of the review, e.g. the signature of the senior accountant on the provision calculation 3/ Discuss the appropriate determination of detection risk (DR) and the consequent nature, timing and extent of audit procedures. (2 marks) o As IR and CR are low, DR should be high. o Nature: Audit procedures should be primarily testing of controls. Limited substantive testing and this testing should be primarily analytical review. o Timing: As reliance will be placed on controls testing may be during the year as well as at year- end o Extent: More extensive testing of controls and limited substantive testing 4/ After conducting the audit your working papers are reviewed by another partner in your firm. They make the comment that “I agree you did the level of testing required by the rules. But that doesn’t mean it is a good audit”. State and briefly define which element of the expectations gap is most likely being referred to. (1.5 marks) o In this case it is most likely deficient standards, which is the difference between the reasonable expectations of the public and what the standards require. Downloaded by James Glenwood (jamesglenwood12@gmail.com) lOMoARcPSD|7623594

2 Experience from S1, 2021 (note that the questions did not exactly align with the practice test, but were pretty close): Many students gave responses that, whilst they may be true, did not explain why the specified account balance might be misstated – e.g. vague comments regarding overall business conditions. Other common mistakes were to discuss controls over balances as opposed to their inherent risks. Good answers clearly explained account (and assertion) -specific issues such as materiality, complexity, degree of judgement etc. 2/ Control and control test – In relation to the control, some answers described an action or activity but not a control, which suggested that they were not familiar with the categories of control. Some controls were not adequately developed/detailed. In relation to the test of control, some answers stated only that the auditor would undertake the same activity as the client. In most cases, this is a substantive test, not a test of control, unless it specifically states that there is some evidence that the client has undertaken this procedure. For example, if a control is that the senior accountant reconciles the debtors listing to the general ledger, it is not a test of this control for the auditor to reconcile the debtors listing to the general ledger – by itself this is a substantive test. The test of the control is for the auditor to first sight evidence that the reconciliation has been performed by the senior accountant (e.g. via signature) and then the auditor may check the effectiveness of the control by reperforming the reconciliation on a sample basis (and comparing the results to the reconciliations performed by the senior accountant). Another common misreading of the question was to omit the test of control altogether. Q2 Mito Hotels receivables account You are the auditor for Mito Hotels (Mito), for the financial year ending 30 June 2020. Mito is a hotel chain that owns and operates hotels across Australia. You are in the process of planning the Mito audit, and you have noticed that there has been an increasing incidence of corporate clients making large bookings for accommodation. These large clients are allowed to pay on 30-day terms, but some debts remain outstanding after 60 days. Required Relying on the information provided above only - i.e. do not create your own facts - in relation to Mito’s Hotel receivables account, 1. Identify the key assertion at risk. (1 mark) o Accuracy, Valuation and Allocation 2. Explain why this represents a risk to the auditor . (1.5 marks) o Account could be overstated (0.5m) Debts likely to be material given large corporate bookings and may not be repaid (0.5m) ; Receivables should be recorded at amount expected to be collected (or need to provide for doubtful debts) (0.5m) 3. Outline a specific, practical preventive control that would directly address the risk. (1.5 marks) o Each account is assigned a maximum credit limit, above which no bookings can be accepted. 4. Outline how you would test the preventive control recommended in d) above. (1 mark) Downloaded by James Glenwood (jamesglenwood12@gmail.com) lOMoARcPSD|7623594

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3 o Observe that the clerk has signed that they have checked the booking has not exceeded the credit limit 5. Outline a specific, practical detective control that would directly address the risk. (1.5 marks) o The senior accountant reviews the aged debtors list, follows up on overdue amounts and records specific debtors to be provided against 6. Outline how you would test the detective control recommended in f) above. (1m) o Obtain the aged debtors list and inspect for evidence this review, follow up and provision being recorded. Experience from S1, 2021 (note that the questions did not exactly align with the practice test, but were pretty close): 1/ Key assertion – Many students did not seem to be sufficiently familiar with the assertions to answer this question correctly. Common mistakes were to give an impossible assertion (e.g. ‘occurrence’ when the question asked for consideration of a balance sheet account) or one which was highly unlikely (e.g. ‘valuation’ when dealing with a cash account). 2/ Explanation of the risk – This was generally much better handled, with most students being able to identify the possibilities of theft and/or misstatement in the provided scenarios. 3 & 5/ Explanation of a preventative / detective control – This was also generally well done. As per the comments on Question 1(2) above, however, some students did not seem familiar with the categories of controls and so wrote vague answers that did not clearly address the risks, or incorrectly categorised the control as preventative / detective. 4 & 6 / Testing of the control - As per the comments on Question 1(2) above, the most common mistake was for students to simply state the auditor would perform the control without seeking any evidence that the control had previously been performed by the client. Multiple choice questions 1. In relation to your evaluation of controls addressing the payroll expense, you note that the human resources department notif ies the payroll department of any promotions and their effective dates.  What is the  key assertion   addressed by this control? A. Occurrence. B. Accuracy. C. Presentation. D. Completeness. 2. Which of the following would be an appropriate control in relation to the completeness of accounts receivable? A. The accounting supervisor reviews major year-end receivables to ensure they have been paid in the following months and follows up any non-payments. B. The accounting supervisor reviews amounts that have been paid in the following months and ensures they are listed as receivables at year-end. C. The accounting supervisor reviews the calculation of the provision of doubtful debts, which is undertaken by the junior accountant. Downloaded by James Glenwood (jamesglenwood12@gmail.com) lOMoARcPSD|7623594

4 D. The accounting supervisor reviews correspondence with debtors and ensures that complaints are reflected in the provision for doubtful debts. 3. Which of the following would an auditor be least likely to undertake in determining whether to accept a prospective client? A. Reviewing available financial information about the prospective client. B. Evaluating the audit firm’s independence status concerning the prospective client. C. Evaluating the audit firm’s technical skills to undertake the audit. D. Evaluating the level of adherence to controls by the prospective client’s employees. 4. Which of the following statements least accurately describes the auditor’s determination of planning materiality? A. Misstatements, including omissions, are considered to be material if they, individually or in the aggregate, could reasonably be expected to influence the decisions of auditors. B. There is an inverse relationship between the level of assessed risk and materiality. C. The stability of the base must be considered in determining planning materiality. D. There is usually only one planning materiality for an engagement. 5. Which of the following results of analytical procedures would indicate a high risk associated with a client entity’s inventory valuation? A. An increase in the quick ratio from 0.85 to 0.92. B. A decrease in the gross profit ratio from 0.45 to 0.42. C. A decrease in the net profit ratio from 0.11 to 0.09. D. A decrease in the inventory turnover ratio from 7.3 to 5.5 times a year. Experience from S1, 2021 (note that the questions did not exactly align with the practice test, but were pretty close): 1 - 2/ Assertions 1 & 2 - Overall students struggled to correctly match risks and controls with relevant assertions. 3/ Agency theory – there were two variations of this question and both were poorly answered. 4/ Materiality – the idea here was to look at the variation in results for the previous years – if stable then the appropriate base was profits, if highly variable then the appropriate base was sales. 5/ Ratios – These questions were also poorly answered. To find the correct answer required being familiar with the elements of each of the ratios and considering which elements would be impacted by the scenario which was described. ** End of practice exam solutions ** Downloaded by James Glenwood (jamesglenwood12@gmail.com) lOMoARcPSD|7623594