Identifying and Assessing Risk MCQ Quiz - Objective Question with Answer for Identifying and Assessing Risk - Download Free PDF

The website was upgraded during the year at a cost of $1.1m. The costs incurred should be correctly allocated between expense to profit or loss and asset expenditure.

There is a possibility that the new processes and systems may not record data reliably and accurately. This may lead to a risk over completeness and accuracy of data in the underlying accounting records.

Review a breakdown of the costs and agree to invoices to assess the nature of the expenditure and if capital, agree to inclusion within the asset register or agree to the statement of profit or loss.

The audit team should document the revised system and test the completeness and accuracy of data recorded from the website to the accounting records.

Specter Co has entered into a transaction to purchase a warehouse for $3.2m which is planned for completion by the year end.

Only assets which physically exist at the year end should be included in property, plant and equipment. If the transaction has not been completed by the year end, there is a risk that assets are overstated if the company incorrectly includes the warehouse at the year end.

Discuss with management whether the purchase was completed by the year end. If so, inspect legal documents of ownership (e.g. title deeds) to confirm these are dated before 1 August 20X5 and are in the company name.

Significant finance has been obtained in the year, as the company has issued $5m of irredeemable preference shares. This finance needs to be accounted for correctly, with adequate disclosures. As the preference shares are irredeemable, they should be classified as equity rather than non-current liabilities. Failing to correctly classify the shares could result in understated equity and overstated non-current liabilities.

Review share issue documentation to confirm that the preference shares are irredeemable. Confirm that they have been correctly classified as equity within the accounting records and that total financing proceeds of $5m were received.

Also, the disclosures for this share issue should be reviewed in detail to confirm compliance with relevant IFRS Accounting Standards.

The finance director has extended the useful lives of fixtures and fittings from three to four years, resulting in the depreciation expense reducing. Under IAS 16® Property, Plant and Equipment, useful lives are to be reviewed annually; if asset lives have genuinely increased, this change is reasonable

However, there is a risk that this reduction has occurred to inflate profits. If this is the case, fixtures and fittings are overstated and profit overstated.

Discuss with the directors the rationale for any extensions of asset lives and reduction of depreciation rates. Also, the four-year life should be compared to how often these assets are replaced, to assess the useful life of assets.

A customer has had difficulties paying their outstanding balance of $1.2m and Specter Co has agreed to a revised credit period.

Review the revised credit terms and identify if any cash receipts after the reporting date for this customer.

If the customer is experiencing difficulties, there is an increased risk that the receivable is not recoverable and, therefore, overstated.

Discuss with the finance director whether he intends to make an allowance for this receivable. If not, review whether any existing allowance for uncollectable accounts is sufficient to cover the amount of this receivable.

A sales-related bonus scheme was introduced in the year for sales staff, and a significant number of new customer accounts were opened on favourable credit before the year end. This has resulted in a 5% increase in revenue.

Sales staff seeking to maximise their current year bonus may open new accounts for poor credit risks leading to irrecoverable debts and credit losses. There is also a risk of sales cut-off errors as new customers could place orders within the two-month introductory period and subsequently return these goods after the year end.

Increased sales cut-off testing will be performed along with a review of any post-year-end returns as they may indicate cut-off errors.

Also, increased testing of after date cash receipts for new customer account receivables.

Specter Co has halted further sales of its new product Wyatt and a product recall has been initiated for any goods sold in the last four months.

Discuss with the finance director whether this product will be written down and what, if any, modifications may be required with regards the quality.

If there are issues with the quality of the Wyatt product, inventory may be overstated as its net realisable value (NRV) may be less than cost.

Perform tests of details to confirm cost and NRV of the Wyatt products in inventory and that, on a line-by-line basis, the goods are valued correctly.

Review the list of sales of product Wyatt before the recall; agree the sales have been removed from revenue and the inventory included. If the refund has not been paid before the year end, agree it is included within current liabilities.

Merik Co, a customer, has announced its intention to commence legal action for a loss of information and profits in respect of the Wyatt product sold to them.

If it is probable that Specter Co will make a settlement payment, a legal provision is required. If a payment is possible rather than probable, a contingent liability disclosure would be necessary. If Specter Co has not done this, there is a risk that provisions are understated or the necessary disclosure of contingent liabilities is incomplete.

The finance director has requested that the audit completes one week earlier than normal as he wishes to report results earlier. A reduction in the audit timetable will increase detection risk and place additional pressure on the team in obtaining sufficient and appropriate evidence.

Also, the finance team of Specter Co will have less time to prepare the financial information leading to an increased risk of errors arising in the financial statements.

The timetable should be confirmed with the finance director. If it is to be reduced, performing an interim audit in late July or early August should be considered; this would then reduce the pressure on the final audit.

The team needs to maintain professional scepticism and be alert to the increased risk of errors occurring.

The company is intending to propose a final dividend once the financial statements are finalised. There can be no provision for this in the 20X5 financial statements, as the obligation only arises once the dividend is announced, which is after the year end. Providing for the dividend would result in an overstatement of liabilities and understatement of equity.

Discuss the issue with management and confirm that the dividend will not be provided for in the 20X5 financial statements.

If proposed before the financial statements are authorised for issues, the relevant disclosure note needs to be reviewed to confirm that it is adequate.

The finance director is keen to report Specter Co’s financial results earlier than normal and has asked if the audit can be completed in a shorter time frame.

This may create an intimidation threat on team members; they may feel under pressure to cut corners and not raise issues to satisfy the deadlines. This could compromise the objectivity of the audit team and quality of audit performed.

The engagement partner should discuss the timing of the audit with the finance director to determine whether the audit can commence earlier and so ensure adequate time for the team to obtain evidence.

If this is not possible, the partner should politely inform the finance director that the team will undertake the audit in accordance with all relevant ISAs and quality management procedures. Therefore the audit is unlikely to be completed earlier.

If any residual concerns remain or the intimidation threat continues, Litt & Co may need to consider resigning from the engagement.

A non-executive director (NED) of Specter Co has just resigned and the directors have asked whether the partners of Litt & Co can assist them in recruiting to fill this vacancy.

This represents a self-interest threat as the audit firm cannot undertake the recruitment of members of the board of Specter Co, especially a NED who will have a key role in overseeing the audit process and audit firm.

Litt & Co is able to assist Specter Co in that they can undertake roles such as reviewing a shortlist of candidates and reviewing qualifications and suitability. However, the firm must ensure that it is not seen to take management decisions and so must not seek out candidates for the position or make the final decision on who is appointed.

The EQ reviewer assigned to Specter Co was until last year the audit engagement partner.

This represents a familiarity threat as the partner will have been associated with Specter Co for a long period of time and so may not retain professional scepticism and objectivity.

As Specter Co is a listed company, the previous audit engagement partner should not be involved in the audit for at least a period of two years. An alternative EQ reviewer should be appointed instead.

Litt & Co provides taxation services, the audit engagement and possibly services related to the recruitment of the NED.

There is a potential self-interest or intimidation threat as the total fees could represent a significant proportion of Litt & Co’s income and the firm could become overly reliant on Specter Co; the firm may be less challenging or objective due to fear of losing such a significant client.

Litt & Co should assess whether audit, recruitment and taxation fees would represent more than 15% of total fees for two consecutive years.

If the recurring fees are likely to exceed 15% this year, whether to undertake the recruitment and taxation services requires further consideration.

If the firm retains all work, it should arrange a pre-issuance (before the audit opinion is issued) or post-issuance (after the opinion has been issued) review by an external accountant or by a regulatory body.

The finance director has suggested that the audit fee is based on the profit before tax of Specter Co which constitutes a contingent fee.

Contingent fees give rise to a self-interest threat and are prohibited under ACCA’s Code of Ethics and Conduct. If the audit fee is based on profit, the team may be inclined to ignore audit adjustments which could lead to a reduction in profit.

At today’s date, 20% of last year’s audit fee is still outstanding and was due for payment three months ago.

A self-interest threat can arise if the fees remain outstanding, as Litt & Co may feel pressure to agree to certain accounting adjustments in order to have the previous year and this year’s audit fee paid.

Also, outstanding fees could be perceived as a loan to a client which is strictly prohibited.

Litt & Co should discuss with those charged with governance the reasons why the final 20% of last year’s fee has not been paid. A revised payment schedule must be agreed to settle the fees before much more work is performed for the current year audit.

The website was upgraded during the year at a cost of $1.1m. The costs incurred should be correctly allocated between expense to profit or loss and asset expenditure.

There is a possibility that the new processes and systems may not record data reliably and accurately. This may lead to a risk over completeness and accuracy of data in the underlying accounting records.

Review a breakdown of the costs and agree to invoices to assess the nature of the expenditure and if capital, agree to inclusion within the asset register or agree to the statement of profit or loss.

The audit team should document the revised system and test the completeness and accuracy of data recorded from the website to the accounting records.

Specter Co has entered into a transaction to purchase a warehouse for $3.2m which is planned for completion by the year end.

Only assets which physically exist at the year end should be included in property, plant and equipment. If the transaction has not been completed by the year end, there is a risk that assets are overstated if the company incorrectly includes the warehouse at the year end.

Discuss with management whether the purchase was completed by the year end. If so, inspect legal documents of ownership (e.g. title deeds) to confirm these are dated before 1 August 20X5 and are in the company name.

Significant finance has been obtained in the year, as the company has issued $5m of irredeemable preference shares. This finance needs to be accounted for correctly, with adequate disclosures. As the preference shares are irredeemable, they should be classified as equity rather than non-current liabilities. Failing to correctly classify the shares could result in understated equity and overstated non-current liabilities.

Review share issue documentation to confirm that the preference shares are irredeemable. Confirm that they have been correctly classified as equity within the accounting records and that total financing proceeds of $5m were received.

Also, the disclosures for this share issue should be reviewed in detail to confirm compliance with relevant IFRS Accounting Standards.

The finance director has extended the useful lives of fixtures and fittings from three to four years, resulting in the depreciation expense reducing. Under IAS 16® Property, Plant and Equipment, useful lives are to be reviewed annually; if asset lives have genuinely increased, this change is reasonable

However, there is a risk that this reduction has occurred to inflate profits. If this is the case, fixtures and fittings are overstated and profit overstated.

Discuss with the directors the rationale for any extensions of asset lives and reduction of depreciation rates. Also, the four-year life should be compared to how often these assets are replaced, to assess the useful life of assets.

A customer has had difficulties paying their outstanding balance of $1.2m and Specter Co has agreed to a revised credit period.

Review the revised credit terms and identify if any cash receipts after the reporting date for this customer.

If the customer is experiencing difficulties, there is an increased risk that the receivable is not recoverable and, therefore, overstated.

Discuss with the finance director whether he intends to make an allowance for this receivable. If not, review whether any existing allowance for uncollectable accounts is sufficient to cover the amount of this receivable.

A sales-related bonus scheme was introduced in the year for sales staff, and a significant number of new customer accounts were opened on favourable credit before the year end. This has resulted in a 5% increase in revenue.

Sales staff seeking to maximise their current year bonus may open new accounts for poor credit risks leading to irrecoverable debts and credit losses. There is also a risk of sales cut-off errors as new customers could place orders within the two-month introductory period and subsequently return these goods after the year end.

Increased sales cut-off testing will be performed along with a review of any post-year-end returns as they may indicate cut-off errors.

Also, increased testing of after date cash receipts for new customer account receivables.

Specter Co has halted further sales of its new product Wyatt and a product recall has been initiated for any goods sold in the last four months.

Discuss with the finance director whether this product will be written down and what, if any, modifications may be required with regards the quality.

If there are issues with the quality of the Wyatt product, inventory may be overstated as its net realisable value (NRV) may be less than cost.

Perform tests of details to confirm cost and NRV of the Wyatt products in inventory and that, on a line-by-line basis, the goods are valued correctly.

Review the list of sales of product Wyatt before the recall; agree the sales have been removed from revenue and the inventory included. If the refund has not been paid before the year end, agree it is included within current liabilities.

Merik Co, a customer, has announced its intention to commence legal action for a loss of information and profits in respect of the Wyatt product sold to them.

If it is probable that Specter Co will make a settlement payment, a legal provision is required. If a payment is possible rather than probable, a contingent liability disclosure would be necessary. If Specter Co has not done this, there is a risk that provisions are understated or the necessary disclosure of contingent liabilities is incomplete.

The finance director has requested that the audit completes one week earlier than normal as he wishes to report results earlier. A reduction in the audit timetable will increase detection risk and place additional pressure on the team in obtaining sufficient and appropriate evidence.

Also, the finance team of Specter Co will have less time to prepare the financial information leading to an increased risk of errors arising in the financial statements.

The timetable should be confirmed with the finance director. If it is to be reduced, performing an interim audit in late July or early August should be considered; this would then reduce the pressure on the final audit.

The team needs to maintain professional scepticism and be alert to the increased risk of errors occurring.

The company is intending to propose a final dividend once the financial statements are finalised. There can be no provision for this in the 20X5 financial statements, as the obligation only arises once the dividend is announced, which is after the year end. Providing for the dividend would result in an overstatement of liabilities and understatement of equity.

Discuss the issue with management and confirm that the dividend will not be provided for in the 20X5 financial statements.

If proposed before the financial statements are authorised for issues, the relevant disclosure note needs to be reviewed to confirm that it is adequate.

The finance director is keen to report Specter Co’s financial results earlier than normal and has asked if the audit can be completed in a shorter time frame.

This may create an intimidation threat on team members; they may feel under pressure to cut corners and not raise issues to satisfy the deadlines. This could compromise the objectivity of the audit team and quality of audit performed.

The engagement partner should discuss the timing of the audit with the finance director to determine whether the audit can commence earlier and so ensure adequate time for the team to obtain evidence.

If this is not possible, the partner should politely inform the finance director that the team will undertake the audit in accordance with all relevant ISAs and quality management procedures. Therefore the audit is unlikely to be completed earlier.

If any residual concerns remain or the intimidation threat continues, Litt & Co may need to consider resigning from the engagement.

A non-executive director (NED) of Specter Co has just resigned and the directors have asked whether the partners of Litt & Co can assist them in recruiting to fill this vacancy.

This represents a self-interest threat as the audit firm cannot undertake the recruitment of members of the board of Specter Co, especially a NED who will have a key role in overseeing the audit process and audit firm.

Litt & Co is able to assist Specter Co in that they can undertake roles such as reviewing a shortlist of candidates and reviewing qualifications and suitability. However, the firm must ensure that it is not seen to take management decisions and so must not seek out candidates for the position or make the final decision on who is appointed.

The EQ reviewer assigned to Specter Co was until last year the audit engagement partner.

This represents a familiarity threat as the partner will have been associated with Specter Co for a long period of time and so may not retain professional scepticism and objectivity.

As Specter Co is a listed company, the previous audit engagement partner should not be involved in the audit for at least a period of two years. An alternative EQ reviewer should be appointed instead.

Litt & Co provides taxation services, the audit engagement and possibly services related to the recruitment of the NED.

There is a potential self-interest or intimidation threat as the total fees could represent a significant proportion of Litt & Co’s income and the firm could become overly reliant on Specter Co; the firm may be less challenging or objective due to fear of losing such a significant client.

Litt & Co should assess whether audit, recruitment and taxation fees would represent more than 15% of total fees for two consecutive years.

If the recurring fees are likely to exceed 15% this year, whether to undertake the recruitment and taxation services requires further consideration.

If the firm retains all work, it should arrange a pre-issuance (before the audit opinion is issued) or post-issuance (after the opinion has been issued) review by an external accountant or by a regulatory body.

The finance director has suggested that the audit fee is based on the profit before tax of Specter Co which constitutes a contingent fee.

Contingent fees give rise to a self-interest threat and are prohibited under ACCA’s Code of Ethics and Conduct. If the audit fee is based on profit, the team may be inclined to ignore audit adjustments which could lead to a reduction in profit.

At today’s date, 20% of last year’s audit fee is still outstanding and was due for payment three months ago.

A self-interest threat can arise if the fees remain outstanding, as Litt & Co may feel pressure to agree to certain accounting adjustments in order to have the previous year and this year’s audit fee paid.

Also, outstanding fees could be perceived as a loan to a client which is strictly prohibited.

Litt & Co should discuss with those charged with governance the reasons why the final 20% of last year’s fee has not been paid. A revised payment schedule must be agreed to settle the fees before much more work is performed for the current year audit.