Planning and Risk Assessment Section B Rote

Question 1

Audit risk explanation for new client?

Answer 1

Increased detection risk as team not familar with policies, transactions and balances of the company

Question 2

Audit risk explanation for company considering stock exchange listing and CEO wants to report rising profit trend?

Answer 2

Possibility that directors try to maniplate FSs to achieve desired result, leading tor evenue overstatement

Question 3

Audit risk explanation for price of components steadily increasing when inventory is valued at cost?

Answer 3

NRV of value may have fallen below the cost incurred by company, resulting in inventory valuation being overstated

Question 4

Audit risk explanation for revalaution of property from 3.4 to 8.4 based on a management revaluation

Answer 4

Revaluation may not have been carried out on an appropriate basis and designed to inflate asset values. Leading to overstatement in asset values

Question 5

Audit risk explanation for period over which plant and equipment is depreciation has been extended from five to eight years?

Answer 5

Risk that the reduction has occurred to boost profits. Assets are overstated and depreciation expense understated

Question 6

Audit risk explanation for recognised receivable in respect of damages as lawyer advised action will likely be successful

Answer 6

If contingent assets recognised when they are not virtually certain. The receivables and profits will be overstated

Question 7

Audit risk explanation for company’s credit controller absent for four months and receivables collection period increased from 45 to 75 days?

Answer 7

Increased risk that allowance will be required. Meaning receivables overstated and allowance understated

Question 8

Audit risk explanation for a payroll clerk carried out fraudulent transactions at company and there is a concern additional frauds have taken place?

Answer 8

Increased control risk as extent of fraudulent transactions has not been determined. Any payments need to be written off so profit and payroll could be overstated

Question 9

Audit risk explanation for when a client wants the audit to be completed one month before year end?

Answer 9

Client staff are under pressure to complete financial information leading to errors. Thereby increasing detection risk that auditor will not gather sufficient evidence

Question 10

Audit risk explanation purchases raw materials from overseas suppliers and has responsibility for goods at point of dispatch, with materials in transit for six weeks

Answer 10

Risk cut-off is not accurate and inventory and payables are understated as company may not correctly recognise raw materials

Question 11

Audit risk explanation for when company places reliance on controls testing work undertaken by IA department?

Answer 11

External audit team may form incorrect conclusion on strength of internal controls. Resulting in insufficeint levels of substantive testing, leading to increased detection risk

Question 12

Audit risk explanation for when company changed one television speaker suppliers to a cheaper alternative, leading to an increase in warranty claims?

Answer 12

Warranty provision will be higher and if director expects provisions to be similar to prior years. Warranty and expenses could be understated

Question 13

Audit risk explanation for when directors only disclosed the amount of renumeration payable to each director and doesn’t comply with local legislation

Answer 13

Director’s renumeration disclosure not complete and accurate if names and individual total payments are not disclosed. FSs are misstated as a result of non-compliance

Question 14

Audit risk explanation for when company intends to capitalise all costs of an intangible asset

Answer 14

If research costs incorrectly classified as development expenditure, risk intangible assets are overstated and expenses are understated

Question 15

Audit risk explanation for an interest bearing loan obtain and will be repaid in quarterly instalments over four years

Answer 15

If loan not allocated correctly between non-current and current liabilities, leads to classification error through misstatement

Question 16

Audit risk explanation for directors are intending to propose a final dividend once financial statements are finalised?

Answer 16

A dividend is a non-adjsuting event and shouldn’t be recognised as a liability. If dividend recognised it will result in an overstatement of liabilities

Question 17

Audit risk explanation for when company spent $1m on refurbhishing stores with this pexenditure is recognised as PPE in SFP

Answer 17

Risk some items of revenue expenditure have been capitalised. Which means PPE is overstated and expenses are understated

Question 18

Audit risk explanation for when daily cash tkaing reports sent to head show an increasing number of cash shortages when comparing contents of cash registers to reports?

Answer 18

Risk discrepancies are result of fraud and when these shortages are combined, could become material

Question 19

Audit risk expalantion for there being an increase in corporate custoemr accounts but no increase for allowance made?

Answer 19

Risk of customers not paying. Result in receivables being overstated and allowance being understated

Question 20

Audit risk expalantion for supplier statements indicating a higher balance is owing by company than is shown on list of individual supplier balances

Answer 20

Differences have been included as reconciling items on supplier statement reconciliations rather than being investigated

Question 21

Audit risk explanation for inventory being noted as being damanged due to containing contaminated sole. And inventory holding period increased from 28 days to 54 days

Answer 21

If damaged inventory not written down to NRV, inventory is overstated and cost of sales understated

Question 22

Audit risk explanation for last year’s management report higlighted a number of significant deficiencies in company’s payroll cycle? (misstatement)

Answer 22

If deficiencies not addressed, leads to increased ROMM. Wages and salaries expense may be misstated

Question 23

Audit risk explanation for company’s operating profit margin decreasing and gross profit margin increasing

Answer 23

Classification risk that costs have been omitted from cost or sales or included in operating costs incorrectly. Meaning cost of sales is understated and operating costs overstat ed

Question 24

Audit risk explanation for a patent cost

Answer 24

Administrative expenses being capitalised when they shouldn’t be. Risk that intangible assets and profit for the year are both overstated

Question 25

Audit risk explanation for a batch of invoices miscoded and not recorded as trade payables. The payables payment period has decreased from 64 days to 39 days

Answer 25

Risk there are other batches of miscoded invoices. If these are not identified, purchases and trade payables will be understated

Question 26

Audit risk explanation for 1.1 inventory damaged as a result of figure and has not been replaced. Along with 1.9 inventory balance in year end and inventory holding period has increased?

Answer 26

Risk inventory has not been fully written off and there is other slow-moving inventory. Inventory may be overstated and cost of sales is undersated

Question 27

Audit risk explanation for including a current asset of 1.1 in respect of an insurance claim relating to the fire and insurance company hasn't responded to the claim?

Answer 27

Recognising the amount claimed overstates profit and other receivables

Question 28

Audit risk explanation for an additional bonus is payable to sales staff which gives an incentive to achieve sales targets in that period

Answer 28

Increases incentive for staff to create ficticious sales or record sales for incorrect period to achieve additional bonus

Question 29

Audit risk explanation for trade discounts offered to regular customers been separately accounted for as an expense?

Answer 29

Trade discounts should be offset against revenue Risk that revenue and cost of sales are overstated

Question 30

Audit risk explanation for being under tax investigation relating to sales tax and is likely that company will be required to pay a penalty of 0.6

Answer 30

Provision should be recognised as there is a probable outflow of resource as a result of past events. Provisions are understated and disclosures inadequate

Question 31

Audit risk explanation for a new accounting system was introduced and post-impelementation testing has not been conducted?

Answer 31

Risk of opening balances being misstated and loss of ongoing data if it has not been transferred from the old system correctly

Question 32

Audit risk exaplanation for significant staff costs involved in preparation of site for new machinery

Answer 32

Costs directly attributable to bringing the asset to the condition necessary for its intended use are only capitalised

Question 33

Audit risk explanation for a a member of finance team fradulently purchased assets for personal use

Answer 33

Risk that non-current assets are overstated as reconciliation of physical assets to non-current asset register will be ongoing at year end

Question 34

Audit risk explanation for directors not accounted for any costs under new contract for bottles as no amnounts are due to be paid until after year end

Answer 34

Risk that costs incurred have not been recognised and therefore costs and liabilities are understated and profits overstated

Question 35

Audit risk explanation for strict covenants in place regarding the loan?

Answer 35

Increased risk that existence of covenants gives an incentive to manipulate key balances by overstating revenue and profit to ensure convenants are made

Question 36

Audit risk explanation for company has a returns policy allowing a customer to return goods within 28 days of purchase if dissatisfied with the product

Answer 36

Company should recognise a refund liability for goods which are expected to be returned. If not correctly accounted for, revenue will be overstated and refund liability understated

Question 37

Audit risk explanation for central warehouse and all 20 branches will be carrying out an inventory count at year-end date 31 August

Answer 37

As it is unlikely auditor will attend all sites. This increases detection risk

Question 38

Audit risk explanation for dismissal of payables supervisor, PIs have yet to be recorded in the individual supplier accounts

Answer 38

Risk purchases and trade payables at year-end have been understated if these invoices are not recorded before system is closed down for the year

Question 39

Audit risk explanation for staff training costs being capitalised for purchasing a non-current asset?

Answer 39

Training costs should be charged to SPL. Therefore PPE and profits are overstated

Question 40

Audit risk explanation for company breaching terms of overdraft facility and company is dependent on this overdraft facility

Answer 40

If bank refuses to continue to support the company, there may be doubts as to the company's ability to continue as a going concern

Question 41

Audit risk explanation for customers paying a 25% deposit on signing the contract to purchase the playgrounds

Answer 41

Deposit should not be recognised as revenue immediately and instead be recognised as deferred income within current liabilities. Risk revenue is overstated and current liabilities understated

Question 42

Audit risk explanation for audit team will only attend WIP counts at 5 of the 16 sites

Answer 42

As valuation of WIP is material and is a judgmental area. Detection risk is increased as team will be unable to directly obtain evidence relating to WIP since they can't attend all sites

Question 43

Audit risk explanation for a rights issue in the year. There is a non-standard transaction and there is increased risk that issue has not been recorded correctly (FSs)

Answer 43

Risk split between share capital and share premium has not been accounted for correctly. As share capital and share premium is accounted for separately within equity

Question 44

Audit risk explanation for a payroll function is outsourced to an external service organisation

Answer 44

Detection risk arises as to whether appropriate evidence is available to confirm completeness and accuracy of controls over the payroil cycle

Question 45

Audit risk explanation for a temporary accountant being put in?

Answer 45

Increased risk of errors in FSs as temporary accountant may not be familar with company's activities

Question 46

Audit risk explanation for FSs to be prepared in order to secure bank finance and management wish to report strong results

Answer 46

Increases risk that directors may manipulate FSs, overstating profits and understating liabilities

Question 47

Audit risk explanation for a specialised machine was acquired and staff members had to be trained in machine's use at a cost of 15 which has been capitalised as part of the cost of the machine

Answer 47

IAS 16 prohibits training costs being capitalised, so expenses are understated and PPE is overstated

Question 48

Audit risk explanation for directors announed that a brand was being discontinued resulting in four members of staff being made redundant

Answer 48

A provision needs to be recognised in FSs as there is a present obligation for which costs can be reliably measured. If provision is not recognised, profits are overstated and liabilities and payables are understated

Question 49

Audit risk explanation for company's suppliers have been paid on 1 June 20X5 and payment has been included as an unpresented item in year-end bank reconciliation

Answer 49

Possible evidence of window dressing which results in understated payables and bank balances

Question 50

Audit risk explanation for finance director is planning on reducing estimated return rate for goods sold on a sale or return basis to wholesale customers from 10% to 5%

Answer 50

Goods which may be returned, company should recognised a refund liability if after 60 days goods are not returned. Liabiltiy should be reversed and revenue recognised. By reducing return return rate, risk revenue and cost of sales overstated and liabilities understated

Question 51

Audit risk explanation for surplus plant and machinery was sold during the yer, resulting in a loss on disposal of 160

Answer 51

Significant profits or losses may indicate depreciation policy of plant and machinery may not be appropriate. Depreciation may be understated and profits are overstated

Question 52

Audit risk explanation for financial controller dismissed and threatening to sue company for unfair dismissal

Answer 52

if provision payable is probable make provision or if possible, make a disclosure. If company has not done this, risk over completeness of any provisions or contingent liabilities disclosures

Question 53

Audit risk explanation for if production provblems affecting quality of a significant batch of tyres. Therefore inventory holding period has increased from 34 to 41 days

Answer 53

Inventory may be overvalued as NRV may be below its cost. If inventory can't be fixed, may need to be written off completely. There is a risk of overstatement of inventory

Question 54

Audit risk explanation for a significant customer has been granted a six-month payment break and receivables collection period has increased from 38 to 51 days

Answer 54

A risk that receivables will be overvalued as some balances may not be recoverable and so will be overstated if adequate allowance has not been made

Question 55

Audit risk explanation for company wanting to restructure its debt finance. But interest cover decreased and gearing has increased

Answer 55

Worsening interest cover and gearing increases risk directors may manipulate FSs, by overstating profits and assets and understating liabilities

Question 56

Audit risk explanation for bonus issue and share capital should increase and a reserve should decrease accordingly

Answer 56

If company not accounted for bonus issue, risk could have been incorrectly treated with equity being under or overstated

Question 57

Audit risk explanation for a customer has returned $120,000 of faulty goods to the company before the year end but a credit note is yet to be issued?

Answer 57

As this sale occurred before the year end, there is a risk that revenue and receivables are overstated if the credit note is not correctly recorded before the year end

Question 58

Audit risk explanation for the company’s suppliers have been paid on 1 June 20X5 and the payment has been included as an unpresented item in the year-end bank reconciliation?

Answer 58

This is possible evidence of window dressing which results in understated payables and bank balances.

Question 59

Audit risk for a payroll clerk was dismissed as they had carried out fraudulent transactions at Lapis Co. Controls have since been implemented to prevent this reoccurring

Answer 59

Significant number of fraudulent transactions may have occurred. Control risk also increased as controls did not prevent fraud

Question 60

Audit risk for Lapis Co is planning to include a $0.8m receivable relating to a supplier rebate based on purchases for the year?

Answer 60

Receivable should only be recognised if virtually certain. May be overstated and cost of sales understated

Question 61

Audit risk if sales system was installed but it was not felt necessary to run old and new system in parallel?

Answer 61

Opening balances from the old system may not have been transferred correctly

Question 62

Audit risk if a new accounting system was introduced in March 20X5 and post implementation testing has not been conducted.

Answer 62

There is a risk of opening balances on the new system being misstated and loss of ongoing data if they have not been transferred from the old system correctly

Question 63

Audit risk if Hart Co placed an order for $2.4m of machinery, paying $1 m in advance. The machinery was due to be received in July 20X5 but will now be delivered post year end

Answer 63

If the deposit of $1m paid in advance has been capitalised within PPE then prepayments are understated and PPE will be overstated

Question 64

Audit risk if Hart Co made a rights issue in the year. This is a non‐standard transaction and there is increased risk that the issue has not been recorded correctly?

Answer 64

There is a risk that the split between share capital and share premium has not been accounted for correctly and that these balances are misstated

Question 65

Audit risk if Hart Co made a rights issue in the year. This is a non‐standard transaction and there is increased risk that the issue has not been recorded correctly?

Answer 65

If any errors occurred during the transfer process, these could result in sales and receivables being under/overstated.

Question 66

Audit risk if Prancer Construction Co offers its customers a building warranty of five years, which covers any construction defects?

Answer 66

Risk that this provision could be understated as calculating warranty provisions requires judgments

Question 67

Audit risk if a customer of Hurling Co, has announced that it intends to commence legal action for a loss of information and profits as a result of the Luge product sold to them

Answer 67

If Hurling Co has not done this, there is a risk over the completeness of any provisions or the necessary disclosure of contingent liabilities

Question 68

Audit risk if Centipede Co maintains accounting records at four additional sites which were not visited during the interim audit, and the records from these sites are incorporated monthly into the general ledger

Answer 68

There is a detection risk if the team does not visit or undertake testing of the records at these sites. Further, if the interface does not occur appropriately, there is a risk that accounting records are incomplete.

Question 69

Audit risk if operating expenses have increased by 51% compared with an increase in cost of sales of only 13% and revenue of 19%?

Answer 69

Increase in oeprating expenses is significant and has been overstated possibily due to misclassification of costs between operating expenses and cost of sales

Question 70

Audit risk if In June, a fire damaged inventory such that it has been written down from $0.9 million to $0.2 million which is its scrap value?

Answer 70

If goods remain unsold afer the year-end, scrap value may be voerstated. Risk of inventory is overvalued

Question 71

Audit risk if sales-related bonus scheme has neen introduced in the year?

Answer 71

This may lead to sales cut‐off errors with employees aiming to maximise their current year bonus. Overstatement of revenue

Question 72

Audit risk if there are production problems which have affected the quality of significant batch of tyres. In addition to inventory holding period has increased from 34 to 41 days?

Answer 72

Invneotry may be overvalued if NRV is below cost. If can't be rectified, inventory may need to be written off completely

Question 73

Audit risk if FSs have been prepared to secure bank finance and management wish to report strong results?

Answer 73

Increase risk directors may manipulate FSs by overstating profit and understating liabilities

Question 74

Audit risk if company purchases their goods from its main suppleir and has responsibility for goods at the point of dispatch?

Answer 74

Risk cut-off of purchase may not be accurate as may not be recognise the goods from the point of dispatch. Also risk inventory and trade payables understated

Question 75

Audit risk if company offers its customers a warranty at no extra cost, which guarantees the playgrounds will function as expected for three eyars?

Answer 75

Can be recognised as a warranty provision but warranty provisions require a lot of judgement. Leading to understated expenses and liabilities

Question 76

Audit risk if company raised new finance through issuing 1.2 of shares at a premium?

Answer 76

If not correctly split between share capital and share premium, there may be misstated

Question 77

Audit risk if discovered that a significant teeming and lading fraud had been carried out by 4 members of the sales ledger department?

Answer 77

Customer receivables balances may be under/overstated as a result of misallocation