Question

Question 3

Consider each of the following independent situations:

A. Inventory on hand at year-end has been valued at cost in the financial report of your client. However, net realisable value is 10% below cost according to the audit findings. The difference is a material amount.

B. In the previous financial year your client purchased property and entered into a contract to develop a shopping complex and then sell the developed real estate to an unrelated third party for a ‘cost-plus’ settlement price. Following the sale early in the financial year, an economic recession resulted in the rentals and occupancy rates being well below forecasts prepared by your client. Just before year end, the purchaser threatened to sue for damages, alleging they relied on your clients forecasts when entering into the contract. The amount of damages being claimed is highly material to your client. Your client has obtained an opinion from a well-known Senior Counsel (SC) which concludes that no damages should be payable. The directors have therefore included no reference to the matter in the financial report to be released next week. However, you have heard that the purchaser has also obtained advice from an SC which supports its case.

C. Same as scenario B, except that the purchaser threatened action after the end of the financial year, rather than during the financial year.

D. You are auditing PF Limited, where net income is generally about 50% of gross revenues. Due to the small size of the charity’s staff, there is a lack of control over the completeness of revenue. Despite your best efforts, you feel that you do not have enough evidence to conclude that revenue is complete.

E. Management of WER Limited has decided not to disclose director’s fees in the accounts, as they are not material. You cannot convince management to change its decision. However, you do agree that the amounts are not quantitatively material.

F. Management of JFL Limited has estimated that the allowance for doubtful debts should be $540,000. As auditor you believe that the allowance should be $650,000. Management will not change its estimate. Profit before tax for the year is $440,000.

G. Your client has several bank accounts, one of which is in foreign country. Cash balances total $740,000 with the account maintained in the foreign country totalling some $528,750. You have been unable to obtain a bank audit certificate or any thirdparty confirmation with respect to the foreign bank account. The client has been unable to supply you with bank statements or other supporting documentation in relation to this bank account. Materiality for the client has been set at $480,000. All cash balances are classified as current assets in the client’s financial statements.

H. Would your answer to scenario G be different if the client’s only asset and liability was the asset of cash balances totalling $740,000 (that is, the client is a ‘cash box’)?

For each of the above situations, A-H, determine the appropriate audit opinion to be issued and justify your answer.

Answer 1

Case A -

As per Para 9 of Ind AS 2 requires that inventories should be valued at lower of cost and net realizable value. In this case, Net realizable value is less than cost value. Since the inventories have not been adjusted to the net realizable value, the audit opinion will be qualified on the grounds of disagreement with management.

Note - It does not matter whether the amount is material or not.

Case B -

As per Ind AS 37 requires that Contingent Liablity is a present obligation that arises from past events but it is not recognised because it is not probable that an outlow of resources embodying economic benefits required to settle the obligation. A provision shall be recognised when an entity has a present obligation of a past event and it is probable that an outlow of resources embodying economic benefits required to settle the obligation.

In this case,The auditor will have to determine whether the litigation and claims constitute contingent liabilities or provisions.It seems that it is not probable to pay damages. The claims represents contingent liabilities and the client has not made a adequate disclosure in the financial statement, the auditor shall issue a qualified or adverse opinion.

Case C -

As per Ind AS 10, Adjusting event are those event that provide evidence of condition that existed at the end of the reporting period. Non Adjusting event are those event that are indicative of conditions that arose after the reporting period.

In this case, the auditor has to determine whether the event are adjusting event or non adjusting event. The lawsuit is filed after the financial year. Since the conditions are indicative that arose after the reporting period. The client shall not disclose contingent liablities in the financial statement. The auditor should give unqualified opinion.

Case D -

In this case,The auditor does not have enough evidence to conclude that revnue is complete. Since, The auditor can not obtain sufficient appropriate evidence, then he should express qualified or disclaimer opinion.

Case E -

As per Companies Act 2013, The management of company has mandatory to disclose director fees in the director report. It does not matter whether the amount is material or not. The auditor should express qualified or adverse opinion.

Case F-

In this case, The auditor has to evaluate how the management made the accounting estimate and the data on which it is based. The auditor has to evaluate whether the significant assumptions used by management are reasonable.

It in auditor’s judgement, management has not adequately addressed the effects of estimation uncertainty, the auditor shall develop a range with which to evaluate the reasonableness of the accounting estimates. If the accounting estimate is not reasonable, then he should express qualified or adverse opinion.

Case G -

In this case, the auditor can not obtain sufficient and appropriate evidence relating to cash balances. He should express adverse or disclaimer opnion.

Case H-

Same as Case G