105 2010 0 eAA

Hons BCompt/CTA
Applied Auditing
TOE412S
ZAC412D
Tutorial letter 105/2010
Department of Auditing
School of Accounting Sciences
College of Economic and Management Sciences
INDEX
TOE412S/105/2010
ZAC412D/105/2010
PAGE NUMBER
1.
Responsible lecturers
2.
Topics covered in this tutorial letter
3.
Prescribed textbooks
4.
Weekly programme
5.
Topics examined by UNISA
6.
Topics examined by SAICA
7.
Corporate Governance
8.
Completion of the audit, going concern and subsequent events

Stages of the audit process Figure 1
Background
Audit completion
Going concern
Subsequent events
15
16
17
18
21
23
9.
Management consulting services, Special audit investigations (including

independent reviews) and Internal auditing
Background
Management consulting services
Special audit investigations
Independent Reviews
Internal auditing
28
28
29
29
30
34
10.
Reporting by the auditor
35
11.
Self-evaluation assignment - Questions

Exam technique
41
42
12.
Self-evaluation assignment Suggested Solutions
54
13.
Questions and Answers of Compulsory Assignment 70
66
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1.
RESPONSIBLE LECTURERS
The following lecturers are responsible for this tutorial letter:

Responsible lecturer
Neo Thoothe
(012) 429 2269
Other lecturers
Charlene Roets (Boswel)
Jana de Wet
Sumaiya Hassim
Vincent Motholo
Martin Mudau
Alet Terblanche (On maternity leave until July 2010)
Renette van Beek
(012) 429 6079

(012) 429 2495
(012) 429 4944
(012) 429 4713
(012) 429 6982
(012) 429 2495
(012) 429 4744
HELPDESK
The Department of Auditing has introduced a HELPDESK for postgraduate students. All queries,
except those of a purely administrative nature, may be directed to the Helpdesk. You can contact the
Helpdesk either by e-mail or telephonically between 08h00 16h00 (Monday to Thursday) and
08h00 13h00 (on Friday) at:
E-mail
AUDpostgrad@unisa.ac.za
Telephone
(012) 429 4943
2.
TOPICS COVERED IN THIS TUTORIAL LETTER
This tutorial letter consists of the following topics:
Completion of the audit
Going concern
Subsequent events
Management consulting
Independent reviews
Internal audit services
Reporting by the auditor
All these topics are of importance to your studies. Therefore, make sure you master all of them.
3.
PRESCRIBED TEXTBOOKS
1.
SAICA Handbook, Volumes 2 and 3, 2009/2010.
2.
Dynamic Auditing: A student edition (9th edition) Marx,

Van der Walt, Bourne and Hamel. Chapters 4, 6, 7, 11 and 13.
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3.
Applied Questions on Auditing: Student edition (5th edition) Marx, Sadler, Van der Walt and
Van Staden.
4.
WEEKLY PROGRAMME
The following table represents your suggested weekly programme per tutorial letter TREKALS/301/
2010 for the period 28 June 2010 to 4 July 2010.
JUNE AND JULY 2010
MONDAY
28
TOE412-S
Tutorial letter
105
TUESDAY
WEDNESDAY
THURSDAY
FRIDAY
WEEKEND
29
TOE412-S
Tutorial letter
105
30
TOE412-S
Tutorial letter
105
1
TOE412-S
Tutorial letter
105
2
TOE412-S
Do questions in
Applied Questions
3+4
TOE412-S
Do questions in
Tutorial letter 105
Due date for this tutorial letter
28 June 2010
Test 4
31 July 2010
Second Study school
16 August 2010 11 September 2010
Please take note that all the study school material will be made available on myUnisa closer
to the time.
5.
TOPICS EXAMINED BY UNISA
The following tables provide a layout of how the topics covered in this tutorial letter were
examined in the last five years at UNISA:
YEAR MARKS
REQUIRED
2009
The King II report, section 5, requires all companies listed on the JSE Ltd to
report on their sustainability performance and to demonstrate commitment to
organisational integrity. Discuss the items that should be disclosed by Friendly
Fertiliser (Pty) Ltd as part of its sustainability report, as well as how often these
should be disclosed.
55
Identify, discuss and motivate any ethical, professional, statutory and/or

corporate governance concerns that may arise from the scenario.
Please note: You should not discuss any ISA or IFRS recommendations in
detail.
34
Evaluate whether the presentation of the annual financial statements at

31 August 2008, on the going concern basis, is justified.
Describe the changes which a company will have to make to the composition of
its Board of Directors if it is to comply with the requirements of the King Report
on corporate governance.
2008
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YEAR MARKS
REQUIRED
2007
Briefly describe the most important issues that you as a partner will be required
to address or consider, only taking into account the additional information
provided, before you can finalise the financial statements.
2006
32
King II and ethics

King requirements for new directors.
Requirements for widely held company and corporate governance implications.
Describe an assurance engagement and, based on your description of an

assurance engagement, discuss whether or not the circulation audit (based on
the projected circulation figures for the year, will be regarded as the following
types of engagement, or not:
2
3
1
2
4
(i)
(ii)
(iii)
(iv)
(v)
King II and ethics

Sustainability reporting factors to consider.
Areas of sustainability reporting.
King II and ethics

Information technology corporate governance.
2005
15
Mixed Companies Act, Code of Conduct and corporate governance on validity of

a contract.
How to enhance the status of internal audit.
Disclosure of directors responsibilities.
10
6.
Audit of financial statements.

Special purpose audit engagement (ISA 800).
Assurance engagement other than audits or reviews (ISAE 3000R).
Engagement to review financial statements (ISRE 2400).
Evaluation of prospective financial information (ISAE 3400)
Composition and functions of audit committee
TOPICS EXAMINED BY SAICA
The following table provides a layout of how the topics covered in this tutorial letter were
examined in the last five years in the Part I Qualifying Exam of SAICA (QE1).
YEAR MARKS
REQUIRED
2009
Discuss, with reference to the information provided, any concerns you may have
about relying on the work of the internal Audit Division for the purposes of the
2009 audit of Diversico Ltd. Confine your answer to the following areas:
Organisational status
Technical competence
Due professional care
10
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YEAR MARKS
REQUIRED
2008
20
King II and ethics

Ethical (with reference only to the SAICA Code of Professional Conduct),
professional, statutory and/or corporate governance concerns.
2007
Discuss the nature of any modifications required to the standard unqualified

audit report which will enable the drafting of the audit report on the annual
financial statements, assuming that the internal audit investigations have
identified the possibility of fraudulent misstatement of inventory balances and
that the audit team has been unable to satisfy itself regarding the existence of
the inventory balance.
2006
10
King II and ethics

Corporate governance and Companies Act requirements that directors should
consider.
2005
Outline the additional steps you would take to ensure that you have sufficiently
addressed, for purposes of the audit opinion, the risk of fraudulent financial
reporting in respect of related party transactions.
7.
CORPORATE GOVERNANCE
STUDY MATERIAL
Topic
Relevant section in Dynamic auditing
Chapter 4
7.1
Introduction
As a member of society you are somehow linked in to companies. You may be a shareholder,
who is interested in maximising his return on an investment; a supplier who requires that his
account be paid promptly and that you can continue to sell your products to the company; an
employee who might look for fair terms of employment or you may be the general public
concerned about pollution control in your neighbourhood, if it is located near an oil refinery.
This challenge was articulated by Sir Adrian Cadbury, author of Cadbury Report in the United
Kingdom as follows:
Corporate Governance is concerned with holding the balance between economic and social
goals and between individual and commercial goals the aim is to align as nearly as
possible the interests of individuals, corporations and society.
(Adopted from Jackson & Stent seventh edition Auditing notes for South African students.)
At this point you are probably wondering what is meant by Corporate Governance. Corporate
Governance is defined as a system or process whereby companies are directed or controlled.
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7.2
7.3
Background
The King Report
1994
(King I)
The King Report 2002
First issued in
South Africa in
1994
Issued in 2002, as a followup to King I in order to incorporate changes that occurred

since its issue in 1994.
These changes included
changes in social ethical
accounting, auditing and
reporting on safety, health
and environment
Issued in September 2009.

The issuance of King III was necessitated by the new Companies Act of
South Africa and changes in international governance trends since
the release of the second King
Report in 2002.
Effective March 2010
Applicability:
All listed entities
Public sector enterprises
Financial institutions
Departments of State
Applicability:
All entities regardless of form of
incorporation, size or whether it is
operating in the private/public
sector.
(King II)
King Code of Corporate principles

2009
(King III)
Characteristics of good corporate governance
Transparency
Accountability
Responsibility
Fairness
Please refer to your prescribed text for detailed explanation of what is meant by each one of
the above characteristics.
When asked a question on corporate governance we recommend

that you write at least one point making reference to the
characteristics.
The following are significant matters covered by King III:
1.
2.
3.
4.
5.
6.
7.
8.
Board of Directors
Audit Committees
Governance of Risk (Refer to Chapter 4, Section 5.4)
Governance of IT (Refer to Chapter 4, Section 5.5)
Compliance with Laws, Codes and Standards (Refer to Chapter 4, Section 5.6)
Internal Audit
Governing Stakeholder Relationships (Refer to chapter 4, Section 5.8)
Integrated Reporting and disclosure (Refer to chapter 4, Section 5.9)
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7.4
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Boards of directors
This is a very important section of King III and is often

linked with a Companies Act and Ethics question.
7.4.1 Role and functions of the boards
There should be unitary Board (as opposed to multi-tiered board).

The board should act as the focal point for and custodian of corporate
governance.
The board should appreciate that strategy, risk, performance and sustainability
are inseparable.
The board should ensure the company has an effective and independent audit
committee.
The board should be responsible for the governance of risk.
The board should be responsible for information technology (IT) governance.
The board should ensure that the company complies with applicable laws and
considers adherence to non-binding rules, codes and standards.
The board should ensure that there is effective risk-based internal audit.
The board should appreciate that stakeholders perceptions affect the companys
reputation.
The board should ensure that integrity of the companys integrated report.
The board should report on the effectiveness of the companys system of internal
controls.
The board and its directors should act in the best interests of the company.
The board should consider business rescue proceedings or other turnaround
mechanisms as soon as the company is financially distressed as defined in the
Companies Act.
The board should elect a chairman who is an independent non-executive director
(annual basis). The CEO of the company should not also fulfil the role of
chairman of the board.
The board should appoint the chief executive officer and establish a framework
for the delegation of authority.
7.4.2 Composition of the Board
The board should comprise a balance of power with a majority of non-executive

directors. The majority of non-executive directors should be independent.
Directors should be appointed through a formal process.
The induction of, and ongoing training and development of directors should be
conducted through formal processes.
The board should be assisted by a competent, suitably qualified and experienced
company secretary. (Refer to Dynamic Auditing, Chapter 4, page 4-11.)
The evaluation of the board, its committees and the individual directors should be
performed every year.
The board should delegate certain functions to well structured committees but
without abdicating its own responsibilities. [King III recommends (for larger entities) four standing committees, namely, audit, risk, remuneration and nomination
committees.]
A governance framework should be agreed between the group and its subsidiary
boards.
Companies should remunerate directors and executive fairly and responsibly.
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Companies should disclose the remuneration of each individual director and

certain senior executives.
Shareholders should approve the companys remuneration policy.
7.4.3 Board committees

Audit committee
Remuneration
committee
Nomination
committee
Risk committee
Chairman
Independent nonexecutive director
Not specified in
King III
Membership
All members must

be board members.
All members must

be board members.
All members must

be board members.
All members must

be board members.
All members should

be independent
non-executive
directors.
Majority should be
non-executive
directors.
Majority should be
non-executive
directors.
Executive and nonexecutive directors.
Majority of nonexecutive directors

should be
independent.
Majority of nonexecutive directors

should be
independent.
Board chairman to
be a member.
7.4.4 Audit committee
The board should ensure that the company has an effective and independent
audit committee.
Audit committee members should be suitably skilled and experienced
independent non-executive directors.
The audit committee should be chaired by an independent non-executive director.
The audit committee should oversee integrated reporting.
The audit committee should ensure that a combined assurance model is applied
to provide a co-ordinated approach to all assurance activities.
The audit committee should satisfy itself of the expertise, resources and
experience of the finance function.
The audit committee should be responsible for overseeing of internal audit.
The audit committee should be an integral component of the risk management
process.
The audit committee is responsible for recommending the appointment of the
external auditor and overseeing the external audit process.
The audit committee should report to the board and shareholders on how it has
discharged its duties.
7.4.5 Internal audit
The board should ensure that there is an effective risk based internal audit
function.
Internal audit should follow a risk-based approach.
Internal audit should provide a written assessment of the effectiveness of the
companys system of internal control and risk management.
The audit committee should be responsible for overseeing internal audit.
Internal audit should be strategically positioned to achieve its objectives.
Also refer to ISA 610 Using the work of the Internal Auditors.
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Now work through the following Questions and Answers to

test your basic knowledge on corporate governance.
Questions and Answers

1.
Explain the term corporate governance.
(2)
Answer:
1.1 Corporate governance is the system or process whereby companies are directed
or controlled.
1.2 It is essentially about those charged with governance e.g. the board lead the
company in all its spheres of activity and in respect of all its stakeholders.
2.
Explain the difference between the comply or else approach and the apply or explain
approach to corporate governance.
(4)
Answer:
2.1 The comply or else approach to corporate governance is based on passing
statutes with which companies must comply. If they fail to comply, some form of
penalty or punishment is stipulated. In effect, comply with the law or else you
will be punished.
2.2 The apply or explain approach to corporate governance is less rigid in that it is
based on a code of principles and practices rather than legislation. This approach
allows the directors more latitude in that if they consider that in a certain
instance(s) it is in the best interests of their company not to apply with the code,
they need not follow the code but must explain to stakeholders why they have not
followed the code. Hence, apply or explain. Obviously in this approach some
matters will be legislated e.g. public companies must have an audit committee,
but the overall approach is to recommend through a code.
2.3 The apply or explain approach is a more flexible version of the comply or
explain approach.
3.
Identify three reasons for South Africa not adopting a comply or else approach to
corporate governance.
(3)
Answer:
3.1 Cost e.g. the costs of external parties ensuring that companies have complied
with the relevant legislation. This takes time and costs money.
3.2 Incorrect focus of the board with a comply or else approach, boards may
focus too much on complying with the legislation to make sure they dont get into
trouble, to the detriment of the business activities themselves.
3.3 Voluntary compliance the apply or explain basis promotes a greater desire
in companies to voluntarily strive for better corporate governance. Rather than
forcing companies (comply or else), King III aims at getting companies to
embrace the principles and practices of good governance.
4.
Despite the King III Code of governance principles adopting the apply or explain
approach, the JSE requires listed companies to follow a comply or else approach.
True or False. Explain.
(2)
Answer:
False
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4.1
4.2
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The JSE requires that listed companies comply with King III. A listed company
which does not comply and explains (satisfactorily) why it doesnt contravene any
JSE requirements.
Furthermore the JSE cannot insist on a comply or else approach as much of our
corporate governance is not legislated as explained above.
What is an integrated sustainability report?
(2)
Answer:
An integrated sustainability report is a report by a company (the board) to its stakeholders which deals with its performance with regard to governance, strategy and the
sustainability of the company in a combined (integrated) manner. Essentially King III
says that you cannot report effectively on your performance if you do not report on your
performance with regard to sustainability.
6.
To which entities does the King III Code of Governance Principles apply?
(2)
Answer:
King III applies to all entities regardless of their manner and form of incorporation or
establishment. Obviously the size and complexity of the entity will determine the extent
to which entities apply, e.g. a large listed company will have different governance
structures to a small close corporation, but the basic principle of good governance
apply to all.
7.
Explain the term good corporate citizenship.
(3)
Answer:
7.1 Good corporate citizenship means establishing an ethical relationship of
responsibility between a company and the society in which it operates.
7.2 A good corporate citizen should protect, enhance and invest in the well being of
society and the natural ecology (environment).
7.3 A good corporate citizen displays leadership, integrity and responsibility in its
dealings with its stakeholders, adopting a holistic approach to economic, social
and environmental issues.
8.
Distinguish between an executive and non-executive director.
(2)
Answer:
8.1 Executive directors are involved in the management of the company, they have
day to day responsibilities in running the company e.g. sales, marketing, manufacture. Non-executive directors do not have these responsibilities, they act as
advisors at board level from time to time.
8.2 Executive directors are full-time salaried employees, non-executive directors are
not.
9.
Would the following individuals qualify as independent non-executive directors in terms

of the King III Report? Justify your answer.
9.1
9.2
9.3
9.4
a partner of the law firm that acts as legal advisors to the company
the companys auditor
the companys recently retired chief executive
a shareholder who holds 3% of the companys shares.
(4)
Answer:
No: Professional advisors are not independent of the company and are specifically
excluded by the report.
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No:
The auditor is prohibited from being a director by Sec 90 of the Companies Act
2008, and from the perspective of King III, is a professional advisor.
No: In terms of the report, individuals who have been employed in an executive
capacity by the company within the previous three years are excluded.
Yes: Minority shareholders do not have the capacity to significantly influence or control
management.
10.
What is a board committee?
(1)
Answer:
A board committee is a group of people appointed by the board of directors to assist
the board in meeting its responsibilities in respect of a particular activity or function, e.g.
nominations committee, audit committee.
11.
Does the Companies Act 2008 distinguish between executive directors and nonexecutive directors?
(1)
Answer:
No. As far as the Companies Act 2008 goes a director is a director. The Act does make
provision for alternate directors, but makes no other distinctions
12.
May a board committee include a person who is not a director? Explain.
(3)
Answer:
Yes. The Companies Act 2008, Sec 72 specifically allows this but:
12.1 such a person must not be disqualified from being a director or appointment as a
director;
12.2 such a person may not vote on any matter dealt with by the committee; and
12.3 the Memorandum of Incorporation may state that board committees cannot be
appointed.
13.
When is it appropriate for a company to appoint a lead independent non-executive

director (LID)?
(2)
Answer:
It is appropriate for a company to appoint a LID where the chairperson of the company
does not meet, for some justifiable reason, all the criteria for independence or being a
non-executive director. The appointment of a LID will assist the board in dealing with
situations where the chairpersons lack of independence/non-executive status gives
rise to a conflict of interest.
14.
State whether the following are true or false in terms of the King III Code:
14.1 The chairperson of the audit committee should be the chairperson of the board.
(1)
14.2 The CEO must chair the remuneration committee.
(1)
14.3 The nominations committee should consist of only non-executive directors.
(1)
Answer:
14.1 False (independence problem).
14.2 False. (all members should be non-executive directors)
14.3 True.
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The King III Code of governance principles place significant importance on risk management.
15.
Define risk management.
(2)
Answer:
Risk management is the practice of identifying and analyzing the risks associated with
the business and, where appropriate, taking adequate steps to manage the risks by
either eliminating the risk or mitigating the risk.
16.
Risk management is not really important in small or medium sized business, its only
important in listed companies which have a large number of shareholders. True or
false? Justify your answer.
(3)
Answer:
False
16.1 All companies face risks, it is not about size or shareholders, it is about being in
business.
16.2 Very often small or medium sized companies face greater risks than large companies, and have less resources to eliminate or mitigate the risks, e.g. recession
in the economy usually places the sustainability of small companies under
extreme risk as sales decline, cash flows slow and profits turn into losses.
16.3 Risk management is about looking after the interests of all stakeholders not just
shareholders, and all companies small, medium and large have stakeholders, e.g.
suppliers, customers, providers of finance, employees.
17.
Who in a large listed company is responsible for:

17.1
17.2
17.3
17.4
implementing the risk management process;

the process of risk management;
approving the companys chosen risk philosophy; and
providing independent assurance on the risk management policy.
(1)
(1)
(1)
(1)
Answer:
17.1 Management
17.2 Board or risk committee
17.3 Board (probably on the recommendation of the risk committee)
17.4 Internal audit.
18.
What is the companys risk philosophy?
(2)
Answer:
The risk philosophy is the boards position or stance on the risks in its business
environment, and will be somewhere along the spectrum ranging from risk taking to
risk averse.
19.
Identify four key risks facing the modern company per King III.
(2)
Answer:
19.1 Reputational risk
19.2 Sustainability risk
19.3 Information technology risk
19.4 Risk of the unknown
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Risk assessment should take place once a year but prior to the commencement of the
following financial year. True or false? Justify.
(2)
Answer:
False: a company should ensure that a thorough assessment, using a recognized
methodology, is performed at lease annually and used continually; emerging risks
should be incorporated and assessed as soon as they are identified.
21.
In terms of principle 4.2 of King III, the board should set the levels of risk tolerance once
a year. Suggest with a brief explanation, five factors which may be considered when
assessing a companys tolerance of risk and loss.
(5)
Answer:
21.1 The potential effect of the risk the effect may range from minor to huge
21.2 Effectiveness of risk responses the risk/loss may be minimised by appropriate responses to the risk, or losses may still be sustained despite the
responses.
21.3 Capital adequacy does the company have enough capital strength to
withstand the potential loss.
21.4 Solvency/liquidity could the loss potentially place the company in an illegal
position and render it insolvent (even temporarily).
21.5 Going concern is the risk/loss potentially so great that the going concern ability
of the company is under threat.
21.6 What effect will the risk/loss have on financial performance i.e. how negative
will it be?
21.7 Sustainability of the strategy which gave rise to the risk e.g. is the risk
temporary or should the strategy be abandoned/modified?
21.8 The importance of values of the company which are placed at risk e.g. is there a
risk of long-term damage to the companys reputation.
21.9 Is there a possibility of transferring the risk to another party, and if so to what
extent?
22.
In terms of principle 5.2, the board should ensure that information technology is aligned
with business objective and sustainability and it is important for the board to take
responsibility for IT governance and set the direction management should follow.
Identify four ways in which the board can achieve this.
(4)
Answer:
22.1 Ensuring that IT is included on the board agenda for meetings.
22.2 Challenging managements activities with regard to IT activities, e.g. questioning,
probing to ensure problems or IT issues are uncovered.
22.3 Guiding management in aligning IT initiatives with real business needs and
ensuring that management understands the full effect of IT related risks on the
business.
22.4 Insisting that IT performance be measured and reported to the board.
22.5 Establishing an IT strategy committee with responsibility for communicating IT
issues between the board and management.
22.6 Insisting that there be a management framework for IT, based on a recognized
approach.
23.
Describe four possible risk response options which the board/management may adopt.
(4)
Answer:
23.1 Avoid or terminate the activity which gives rise to the intolerable risk.
23.2 Treat, reduce or mitigate the risk through improvements to the control
environment.
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23.3 Transferring the risk exposure to a third party (insurance, outsourcing).

23.4 Accepting the risk, where the level of exposure is as slow as reasonably
practicable, or where exceptional circumstances prevail.
23.5 Exploiting the risk i.e. turning it into an opportunity, e.g. launching a new
business in a recession (note, the risk will still need to be managed).
23.6 Combining a number of the options above.
24.
Outline the four matters the board should include in its report on the effectiveness of the
companys risk management in the integrated report.
(4)
Answer
24.1 Acknowledgement of the boards responsibility for the total process of risk management and for forming its opinion on the effectiveness of the process.
24.2 A statement that, for the period under review, the board maintained a reporting
system that enabled it to monitor changes in the risk profile and gain an
assurance that risk management was effective. (If this is not possible to state, an
explanation should be given as to why and as to what is being done about it).
24.3 A statement that the company has and maintains an efficient and effective
process of risk management to manage risk and that accordingly the board is not
aware, or is aware and is addressing, any key risk, current, imminent or forecast,
that may threaten the sustainability of the company.
24.4 Disclose any material losses and their causes, the effect of the losses and the
steps taken to prevent an occurrence (due regard should be given to disclosing
commercially privileged information).
8.
COMPLETION OF THE AUDIT, GOING CONCERN AND SUBSEQUENT EVENTS
The following publications are applicable to this section:

ISA 560
Subsequent events.
ISA 570
Going Concern.
ISA 700
Forming an opinion and reporting on financial statements.
ISA 705
Modifications to the opinion in the independent auditors report.
ISA 706
Emphasis of matter and other paragraphs in the independent auditors report.
ISA 710
Comparatives Corresponding figures and comparative financial statements.
ISA 720
Auditors responsibilities relating to other information in documents containing

audited financial statements.
ISA 800
Special considerations audits of financial statements prepared in accordance with

special purpose frameworks
ISRE 2400 :
Engagements to review financial statements (previously ISA 910).
ISRSs 4400 :
Engagements to perform agreed-upon procedures regarding financial information

(previously ISA 920)
SAAPS 2
Financial reporting frameworks and audit opinions.
SAAPS 3
Illustrative auditors report on financial statements.
SAAPS 4
Enquiries regarding litigation and claims.
The following illustrates where the completion stage fits into the audit process:
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STAGES OF THE AUDIT PROCESS

STAGES OF THE AUDIT PROCESS
Preliminary activities
(TL 102)
Planning
Audit Strategy
(TL 102)
Obtain an understanding of
the accounting information
and internal controls system
(TL 103)
Obtain knowledge of the

entity and its environment
(TL 102)
Set detection risk

(TL 102/TL 103)
Evaluate inherent risk (TL

102)
Evaluate control risk

(TL 103)
Set audit risk (Financial

statement level and assertion
level) (TL 102/TL 103)
Determine materiality
(TL 102)
NB: Although Corporate
Governance is not a
specific stage in the
audit process, it is
considered throughout the process
Determine the audit plan (nature,

timing and extent of substantive
procedures and test of controls)
(TL 102/TL 103)
Obtain audit evidence

(TL 104)
Perform tests
of control (TL
103 and TL 104)
Perform substantive procedures (TL 104)
Evaluation, Concluding and

Reporting (TL 105)
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STUDY MATERIAL
Topic
Relevant section in Dynamic Auditing
Chapter 14
BACKGROUND
This section contains the last step in the audit process, namely evaluating, concluding and reporting.
Some of the factors the auditor needs to take into consideration are subsequent events, going
concern and trading whilst factually insolvent. These factors are important as it may influence the
auditors report. It is important that you are able to apply the theory of the study material in practical
scenarios. We will assist you with this by working through comprehensive practical examples.
Please note that these topics should not be studied in isolation. It can be easily integrated with other
topics in your test and examination. We recommend that you attempt the questions first prior to
revising the theory. This will indicate to you which theory aspect you need to revisit.
The following framework sets out the issues the auditor needs to consider during the completion of
the audit.
Step
Issues
1. Evaluate the sufficiency and Audit evidence adequate, applicable, and reliable?
appropriateness of audit evidence Working papers cross-referenced to financial state(ISA 230, 500, 501).
ments?
Management representation letter.
2. Consider final audit
(ISA 320 & 450).
materiality Final audit materiality.

Qualitative and quantitative materiality of audit differrences.
3. Overall review of the financial Final analytical procedures.

information (ISA 315, 520).
Fair presentation.
4. Evaluate whether the entitys Subordination agreements.
liabilities exceed its assets (factual Financial, operating and other indicators.
insolvency) and consider the
entitys ability to continue as a
going concern (ISA 570)
5.
Perform a subsequent events

review. (ISA 560)
Events that occur between the balance sheet date and

the date of the auditors report.
Events that occur between the date of the auditors

report and the date when the financial statements were
issued.
Events that occurred after the financial statements
were issued.
6.
Conclude and draft the auditors

report. (ISA 700, 705 )
Opinion.
Quality control.
7.
Post-audit review.
Staff evaluation.
Re-appointment.
Future audits.
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AUDIT COMPLETION
The audit completion stage, is the stage at which all of the fieldwork is completed and the stage
before reporting. This is normally performed by more experienced staff. The procedures performed
include the following:
Evaluation of adequacy and applicability of audit evidence [ISA 230, 500 and 501].
Evaluation of audit differences [ISA 320 & 450].
Overall review of financial information.
Going concern consideration.
Subsequent events considerations.
Consider the following practice questions:

Note:
These questions address the basic principles regarding

audit completion. This will assist you in answering
complex audit completion questions.
Practice Question 1
A qualified audit report arises either where the auditor has been restricted in his scope or where the
auditor believes that some aspect of the financial statements is misstated to the extent that fair
presentation is affected. To assist in determining whether fair presentation is affected the auditor
considers what is termed final materiality.
A question that a user might raise is Why would the directors not correct the misstatement which the
auditor has identified and which will give rise to a qualification. Surely if the correction is made there
will be no need for qualification?
REQUIRED
(a)
Explain the concept of final materiality.
(b)
Comment on whether misstatements should be considered both quantitatively and

qualitatively for reporting purposes.
(c)
Explain briefly the reasons that the directors may refuse to correct a misstatement to avoid a
qualification of the audit report.
SUGGESTED SOLUTION
(a)
1.
Financial statements are not 100% correct, there is too much subjectivity and
uncertainty in the underlying amounts for them to be so.
2.
As a result the auditor cannot certify the correctness of the financial statements, but
rather passes an opinion on their fair presentation.
3.
The auditor must now decide what margin of error can be tolerated before the financial
statements are no longer (wholly or partially) fairly presented.
4.
Setting a final materiality level is an attempt to quantify the amount of misstatement

which could be present in the financial statements without affecting fair presentation.
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(b)
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5.
The auditor then uses this amount as a guideline against which he can measure the
misstatement that has been identified on the audit e.g. the auditor identifies a misstatement in the valuation of inventory which will have a negligible effect on the value of
inventory in the balance sheet but will affect the net profit by 4%. If the auditor, in his
judgment, has decided that a misstatement of anything less than 5% of net profit is
unlikely to affect the decision of a user of the financial statements, he would regard the
inventory misstatement as immaterial based on final materiality (for net profit of 5%).
6.
Final materiality should also be contrasted with planning materiality which is a level or
limit which is set at the planning stage when deciding on the audit plan to be adopted.
1.
The reason for this is that annual financial statements do not consist of figures only
information is conveyed by figures and words (i.e. disclosures in the notes).
2.
Where an important disclosure (as opposed to amount) has been misstated or omitted
it will be material to users and the auditor must consider this not in a quantitative way
but in a qualitative way. For example if disclosures about an important contingent
liability are omitted or misstated the quality of the financial statements is affected.
The directors may refuse to correct a misstatement because:

1.
They do not believe there is a misstatement, e.g. the auditor interpretation, of say, an
accounting statement may differ to that of the directors who, in turn, think their
interpretation is correct.
2.
They do not regard the misstatement as material. Materiality is subjective and the
auditor makes his own decision. The directors may believe differently i.e. the misstatement will not affect a user.
3.
They have ulterior motives e.g. the directors wish to paint a particular picture in the
financial statements to satisfy their own objectives. (They would probably also believe
that they could explain a qualified audit if questioned on it by a user).
4.
They must regard it as too much trouble to correct the misstatement e.g. to correct the
misstatement might result in changes to numerous accounts, the balance sheet and
income statement, accompanying notes, supporting schedules etc, which they regard
as not worth the effort.
5.
They may be unconcerned about receiving an unqualified report e.g. they are the
directors and shareholders and there are few other users, or they dont think users will
be particularly concerned about the qualification.
Practice question 2
You completed the detailed fieldwork on the audit of Afric Art (Pty) Ltd on 19 September 2009 and
the only work remaining is the resolution of certain outstanding audit issues and the review of the
annual financial statements. You have settled on the following amounts to be used as final
materiality guidelines:
Profit after tax
Net current assets
R25 000
R40 000
Afric Art (Pty) Ltd changed the basis for calculating the provision for obsolete inventory in the 2009
financial year.
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The provision for obsolete inventory at 30 June 2009, calculated in terms of the new approach,
amounted to R5 806. The provision would have been R53 675 had the company applied its previous
policy.
REQUIRED
Discuss, giving reasons, what actions you would take should the directors of Afric Art (Pty) Ltd be
prepared to make all adjustments requested by you, except for an adjustment to the provision for
obsolete inventory which, based on the audit evidence you have gathered, should be R53 675.
SUGGESTED SOLUTION
1.
The difference between managements estimate and the amount best supported by the
available evidence is a misstatement, and its effect on the financial statements should be
considered to evaluate if it has a material effect on fair presentation.
(1)
2.
Is the misstatement material?

Profit after tax
Difference (53675-5806)
Net current assets
47 869
47 869
(1)
(13 403)
(13 403)
(1)
Net effect
34 466
34 466
(1)
Final materiality limits
25 000
40 000
Tax effect @ 28%
As the effect of the misstatement exceeds the final material limits in respect of profit after
tax, it is quantitatively material.
(1)
3.
Management should be informed that you would have to qualify your audit opinion should
they fail to make the adjustment required to the obsolescence provision.
(1)
4.
Should management continue to refuse to make the adjustment, you must then consider
whether the material misstatement has a pervasive effect on the financial statements.
(1)
4.1
If the material misstatement is pervasive and fundamental, an adverse audit opinion

should be reported.
(1)
4.2
If the material misstatement is not pervasive and fundamental (more likely in this
instance), a qualified except for audit opinion should be expressed.
(1)
COMMENTS
This question deals with a situation when management refuses to make an

adjustment to an account (In this case: Provision for absolute inventory).
You have to determine if it

definition of a misstatement.
Then determine if the misstatement is material or not:
In this case the materiality figures were provided. You should

however note that you might have to calculate the materiality. In
that case, knowledge acquired when studying for Tutorial letter
102 will be applied.
is
"misstatement",
based
on
the
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Be aware that
considered.
You should cover all the actions as per the required. Therefore you
should include the effect of management refusal to make adjustments on
the audit report i.e. as per point 4 of the suggested solution.
the
net
effect
after
tax
is
the
amount
that
is
GOING CONCERN
As going concern is a fundamental principle in the preparation of the financial statements,
management has a responsibility to assess the entities ability to continue as a going concern. The
extent of managements assessment of going concern will vary considerably from entity to entity.
Many entities are historically sound and suffer no short term threat to their continued existence.
Many other face uncertain futures and extensive assessment of their ability to continue as a going
concern will be necessary.
At the evaluating and concluding stage: the auditor considers all the individual pieces of evidence
gathered relating to going concern, collectively.
ISA 570 Going concern, provides an analysis framework and examples of events or conditions
which may cast doubt about the entitys ability to continue as a going concern specifically financial,
operating and other events or conditions. In a situation where these suggest that going concern is
at risk, mitigating factors (factors which reduce the risk) should also be considered.
Frequently asked questions
Practice Question 1
a.
Define the going concern concept.

The going concern concept is that the entity will continue in operational existence for the
foreseeable future. This means in particular that the income statement and balance sheet
assume no intention or necessity to liquidate or curtail significantly the scale of operation.
b.
State the broad categories of indicators which the auditor should consider in his assessment
of the appropriateness of the application of the going concern concept.
Financial
Operating
Other
Mitigating Factors
c.
If the auditor, having looked at the indicators, has doubts about the entity's ability to continue
as a going concern, what should he do?
d.
He should carry out further auditing procedures to gather audit evidence relating to the
applicability of the going concern concept in an attempt to reduce audit risk to an
acceptable level.
He should consider whether the significance of factors that cause doubt about an
entity's ability to continue as a going concern is mitigated by other factors.
Should the auditor consider the going concern concept at all stages of the audit? Explain.
Yes, the going concern concept should be considered at all of the three stages:
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Planning stage: consideration of the risk that the going concern concept under-lying
the financial statements may be inappropriately applied suggested
perhaps by information gathered whilst assessing the risk of material
misstatement.
Performance:
consideration as to whether the evidence gathered is sufficient and

appropriate to enable him to draw the conclusion that the entity is a
going concern.
Review:
reconsideration of the audit conclusion to be drawn in the light of all

available audit evidence in respect of the appropriateness of the going
concern concept.
Give two examples of situations where the auditor would be justified in giving an "except for"
qualification in respect of the going concern concept.
Any number of examples exist. The two examples should show that if some future (or
existing) event occurs (or continues) the company will continue as a going concern.
f.
The company has tendered for a contract which it appears it will be awarded.
The company is awaiting confirmation of an application for finance which it appears

they will receive.
"Disclaimers and adverse opinions should be avoided as this type of opinion tends to be
disastrous for the company". Comment.
The auditor is required to give an independent opinion; if he believes (based on his evidence)
that the disclaimer or adverse opinion is valid then he must have the strength of his
convictions. The auditor is not responsible for the facts that exist; he has, however, a
responsibility to the manner in which those facts are reported.
Practice question 2
An entity has incurred losses during the last four years, and its current liabilities exceed its total
assets. The entity was in breach of its loan covenants and has been negotiating with the relevant
financial institutions in order to keep them supporting its business. These factors raise substantial
doubt about the entitys ability to continue as a going concern.
How should management disclose uncertainties that affect the entitys ability to continue as a going
concern? What would be the effect on your audit opinion if management refuses to disclose the
above?
Management should disclose any uncertainties that may cast significant doubt on the entitys
ability to continue as a going concern in the directors report and the notes to the annual financial
statements.
Management should disclose details of the uncertainty, as well as an explanation of the
uncertainties as well as the actions proposed to address the situation. Management should also
disclose the possible effects on the financial position, or that it is impracticable to measure them.
Additionally, management should state whether or not the financial statements include any
adjustments that might result from the outcome of these uncertainties. In particular, if bank
borrowings have been disclosed as non-current in the assumption that discussions with the bank will
result in an extension of the loan facilities, details of this fact should be disclosed.
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Refer to ISA 570 paragraphs 17 to 24 for the effect of going concern on audit conclusions and
reporting.
TAKE NOTE
Factual Insolvency is one of the indications of going concern
problems.
Factual insolvency
For the purpose of this topic there are two categories of insolvency to consider:
1.
Commercial insolvency arises when an undertaking is unable to pay its debts as they fall
due as a result of illiquidity, even though its assets may exceed its liabilities. Commercial
insolvency would clearly indicate going concern problems and would be taken into
consideration by the auditor in assessing the appropriateness of going concern.
2.
Factual insolvency arises when the liabilities of an undertaking exceed its assets, fairly
valued. Factual insolvency also clearly indicates going concern problems but, in addition,
has far more serious implications for the auditor. Where a company continues to trade when
its liabilities exceed its assets, fairly valued, a situation is created where certain irregularities
may be taking place. If such irregularities are taking place, a duty on the part of the auditor to
report a reportable irregularity as contemplated by Sec 45 of the Auditing Profession Act
2005 may arise. The mere fact that the company continues to trade whilst factually insolvent
is not in itself, an irregularity, but a situation is created which may give rise to certain
irregularities.
COMMENTS
At this stage, you should have a basic understanding of
principles covered under going concern. This will assist you in
answering complex going concern questions.
SUBSEQUENT EVENTS
Although the auditor reports on the financial statements at a specific date, audit evidence is not
simply gathered up to that date and no further. When evaluating and concluding, the auditor is
obliged to consider whether all material events occurring after the balance sheet date and up to the
date of the audit report, which may indicate the need for adjustment to, or disclosure in, the financial
information on which the opinion is being issued, have been identified. ISA 560 Subsequent
Events takes this a step further by identifying, not only the auditors duty after balance sheet date
to the report date, but also identifying a duty should certain situations arise after the report date.
(Note: the report date is the date on which the auditor signs the report.)
Remember!!
There are two types of subsequent events:
Adjusting events
Non-adjusting events
Work through the following examples and test your knowledge.
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Practice Question 1
1.
For what purpose are procedures to identify events occurring after balance sheet date
(subsequent events) carried out?
2.
What do such post balance sheet procedures generally include?
3.
List five specific enquiries of management which the auditor might make in his post balance
sheet procedures.
4.
What responsibility does the auditor have to perform procedures to identify subsequent
events after the date of the audit report?
5.
Where the auditor concludes after signing his report that action should be taken to prevent
future reliance on that report, what courses of action could be taken?
SUGGESTED SOLUTION
1.
To identify matters which may require adjustment to or disclosure in the financial

statements under audit.
2.
2.1
Consideration of relevant information that has come to his attention from sources
outside the entity.
2.2
Reviewing minutes of the meetings of shareholders, board of directors, and audit and
executive committees for the period after the balance sheet date; and inquiry about
matters discussed at meetings for which minutes are not available.
2.3
Reading the entity's latest available interim financial information, including budgets,
cash flow forecasts and other related management reports.
2.4
Inquiry and confirmation or extension of previous inquiries of the entity's legal advisers
concerning litigation, claims and assessments.
2.5
Specific inquiries of management as to whether any material subsequent events have

occurred which may affect the financial statements being reported on.
2.6
Reviewing procedures management has established to ensure that subsequent events

are identified.
3.1
The current status of items that were accounted for on the basis of tentative,
preliminary or inconclusive data.
3.2
Whether commitments have been made, such as by way of investments, new

borrowings, or guarantees.
3.3
Whether there has been, or is planned to be a sale, disposal or abandonment of assets

or operating units.
3.4
Realisation of assets for less than their balance sheet values.
3.5
Whether the entity has made a new share issue or has agreed to a plan of merger or
liquidation.
3.
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3.6
Whether assets of the entity have been destroyed, for example by fire or flood, or
appropriated by government.
3.7
Whether there have been any developments relative to known risk areas and
contingencies, whether inherent in the nature of the business or revealed by previous
audit experience.
3.8
Whether any unusual accounting adjustments have been made since the date of the
balance sheet.
3.9
Whether management is aware of any events which have occurred or are likely to
occur which will bring into question the appropriateness of accounting policies used in
the financial statements.
3.10 Whether management is aware of circumstances which may bring into question the
concept of going concern which underlies the financial statements.
4.
None.
5.
Exercising his right in terms of Section 93(c) of the Companies Act, No 71 of 2008 to
attend and be heard at the annual general meeting.
Notifying each person whom he knows has received the original financial statements
that the auditor's report should no longer be relied upon.
Notifying any other person whom he knows intends relying on the financial statements
that the auditor's report should no longer be relied upon.
Announcing through the public media that the auditor's report should no longer be
relied upon.
Notifying any regulatory agency having jurisdiction over the entity that the auditor's
report should no longer be relied upon.
Practice Question 2
The following events (subsequent events) took place after the reporting period at various audit
clients of your firm.
1.
The internal audit department discovered (whilst conducting a site visit) that machinery and
equipment had, during the financial year under audit, been stolen from the site.
2.
A final judgement was given by the court in a case in which the audit client was successfully
sued for damages amounting to R5m. At balance sheet date the client had provided R3m in
respect of this claim.
3.
An explosion at the audit clients factory (after the financial year-end) resulted in the directors
announcing a plan to discontinue that specific manufacturing operation.
4.
Due to escalating fuel prices, Transrail Ltd disposed of a major subsidiary which operated a
commuter bus service.
5.
The audit client company signed subordination agreements with three of its strategic
suppliers.
6.
The company declared a dividend of 25c per share to its ordinary shareholders.
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7.
The collapse of the audit client companys market in Asia has resulted in the assumption that
the company is a going concern being no longer appropriate.
8.
The Board of Directors took the decision to terminate the employment of two of its senior
executives. The two executives have agreed to accept the termination with a severance
package of R2m each, payable in three months time.
REQUIRED
(a)
Distinguish between the two types of subsequent event.
(b)
Classify with a brief reason, each of the subsequent events (1 8) according to the types
you identified in (a) above.
Consider all matters to be material.
SUGGESTED SOLUTION
(a)
(b)
The two types are

1.
Those events that provide evidence of conditions that existed at the end of the
reporting period, termed adjusting events after the reporting period.
2.
Those that are indicative of conditions that arose after the reporting period, termed nonadjusting events after the reporting date.
1.
Adjusting
machinery and equipment overstated at year-end; theft existed at

balance sheet date.
2.
Adjusting
increase of Rm required - known obligation at balance sheet date.
3.
Non-adjusting
discontinuation did not exist at balance sheet date; disclosure

should be made as it is at least a material matter (given).
4.
Non-adjusting
decision did not take place prior to year-end, nothing to adjust

disclosure required.
5.
Non-adjusting
agreements not in existence at year-end, no adjustment but should

be disclosed.
6.
Non-adjusting
no liability at year-end, no adjustment but disclosure.
7.
Adjusting
although collapse took place after financial year-end, IAS 10

requires specifically that financial statements be adjusted so as not
to be presented on the going concern basis.
8.
Non-adjusting
no obligation at financial year-end to pay R4m. Disclosure.
Also look at IAS 10 for more examples.
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Practice Question 3
Management of the CTA Ltd Group (CTA) are preparing its consolidated financial statements for the
year ended 31 December 2007. CTA disposed of subsidiary QE Ltd on 15 February 2008 incurring a
loss of R700,000 which is material to CTA. CTAs consolidated financial statements are due to be
finalised on 28 February 2008.
Management have confirmed that the individual assets held in QE Ltd have been reviewed for
impairment and no provision for impairment is required in the subsidiarys single-entity financial
statements.
Management have also confirmed that no other significant events have occurred since
31 December 2007 to cause a reduction in the value of CTA. There has therefore been no material
change in the value of CTA between year-end and the date of disposal.
REQURIED
Should management recognise a loss in the consolidated financial statements of CTA in respect of
the sale of a subsidiary after the balance sheet date where that subsidiary is sold at a loss?
SUGGESTED SOLUTION
Yes, management should adjust the consolidated financial statements because the event provides
evidence of conditions that existed at the balance sheet date. (ISA 10)
The subsidiary must have already been impaired by the balance sheet date, because there has not
been a significant event since the balance sheet date to cause a reduction in the value of the
subsidiary. The disposal since year-end simply provides evidence of the impairment. Management
should therefore recognise an impairment of the subsidiary in the consolidated financial statements.
Management should adjust the amounts recognised in the financial statements of an entity to reflect
adjusting events after the balance sheet date. Additionally, they should update the disclosure related
to the conditions that are clarified in the light of the new events.
Practice question 4
18 February 2008: Fire in the new warehouse destroys inventory with a cost price of R250 000.
While investigating this matter, the auditor discovers an error in the allocation of overheads to
inventory resulting in other inventory (other than those lost in the fire) being overstated by R500 000.
(Year-end: 31 December.)
There are two events here. Identify them and state how they should be treated in the financial
statements at 31 December 2007. Give reasons.
The two events are the fire and the discovery of the inventory that was overstated.
1.
The fire would seem to be a non-adjusting event, an event after the balance sheet date which
concerns conditions which did not exist at the balance sheet date. Although the value of the
inventory appears to be material, it is unlikely to be significant enough to cast doubts on
whether the company is a going concern, and this would appear there-fore to be an item to
be disclosed rather than an adjusting event. The auditor would have to ascertain whether the
company was insured against this sort of loss to determine the net amount of the loss.
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2.
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The discovery of the fact that inventory was overvalued by R500 000 as a result of the
misallocation of overheads is an adjusting event as it gives more information about a
condition that existed at the balance sheet date. It is certainly material in relation to the stated
profit.
NOTE
These questions are included in this tutorial letter to explain
basic principles regarding the treatment of subsequent events.
Most of the principles covered in the above practice questions
are also covered in financial accounting. These can be asked on
their own or integrated with other auditing and accounting
principles as part of a big question.
After revising the theory and understanding the basic principles, you should be able to apply it to the
questions.
Do the questions, mark them and make notes of the important lessons learned.
9.
MANAGEMENT CONSULTING SERVICES, SPECIAL AUDIT INVESTIGATIONS

(INCLUDING INDEPENDENT REVIEWS) AND INTERNAL AUDITING
BACKGROUND
This study unit includes a number of interesting topics, the so-called special topics. However, the
principles of these special topics are based on general auditing principles.
Whether an auditor provides management consulting services, internal auditing services or special
audit investigations, the following principle will apply:
The auditor must act with integrity, objectivity and independence, and should have the
necessary professional knowledge and skills to be able to perform the duties.
It is important for the auditor to set out matters clearly and agree on such matters with a client in an
engagement letter to ensure that there are no expectation gaps.
The normal principles for the performance of any assignment apply, including the following:
engagement considerations;
planning;
performing the assignment;
reporting.
Chapter 15 of Dynamic auditing deals with these special topics, and this study unit will help you with
some practical applications.
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MANAGEMENT CONSULTING SERVICES

STUDY MATERIAL
Topic
Management consulting services
Chapter 15.2.1 15.2.8 (pages 15-3 to 15-5)
The link with independence

Auditing firms need to conduct independent evaluations. In recent years, management consultancy
fees have made a major contribution to the total revenue of huge auditor's firms. These firms employ
a variety of professionals who are specialists in their own fields. Then they ask the auditors to review
these professionals' work and report about activities that their own colleagues have performed. This
is clearly a problem, especially in the light of the Enrons, Parmalats and Worldcoms of the world.
The Companys Act requires the auditor to comply with the Code of Professional Conduct (CPC). In
terms of the CPC, advisory services include management consulting services. The provision of these
services does not impair the practitioners independence; provided that no management functions
are performed or management decisions taken.
SPECIAL AUDIT INVESTIGATIONS
STUDY MATERIAL
Topic
Chapter 15.3.1 15.3.5 (pages 15-6 to 15-15)
The following are examples of special audit investigations:
Performance audits. These audits are used to determine whether the clients business is run
in an economic, efficient and effective manner. (Could also apply to a section of the
business.)
Fraud investigations. These investigations are performed to determine

whether fraud has occurred
the amount involved, where fraud has been confirmed (e.g. for
insurance purposes)
Investigations in respect of mergers/takeovers. These investigations determine the reasonableness of information contained in the statements.
Compliance with contracts. This is done to ensure that the provisions of contracts are being
complied with.
Investigations of the effectiveness of internal controls.
Compliance with corporate governance principles.
Environmental audits. These audits are conducted to determine whether the client complies
with laws and regulations regarding policies in respect of environmental issues.
Due diligence investigations. These investigations determine the reasonableness of information in financial statements, contracts, etc.
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One of the more frequent engagements auditors receive these days, is to perform a due
diligence review on a specific company. Work through Dynamic Auditing pages 15-10 to 1513, to ensure you can apply this in a question.
Due diligence includes:

o
any investigation dealing with the acquisition of a company;
o
risk analysis in financing; and
o
pre-contractual enquiries.
The scope of the due diligence will also depend on the size and importance of the
transaction and the nature of the resources (personnel) and the terms of the contract/
agreement between parties.
Benefits of a due diligence:

o
good corporate governance;
o
information relating to the value of the target asset is highlighted;
o
ensures that a damaging deal is halted before any contractual commitment has
been made; and
o
its costs will be covered by the savings made as a result of the process.
NOTE: Most of the above investigations will be covered under assurance engagements other than
audits or reviews of historical financial information usually with a take-over in mind.
INDEPENDENT REVIEWS
(ISRE 2400 Engagements to review financial statements)
The link with Companys Act No 71 of 2008
In terms of S30(2)(b)(ii), any company that is not a public company must be either audited voluntarily
or independently reviewed.
Section 30(7)(b) further states that the Minister may make regulations regarding the manner, form
and procedures for the conduct of an independent review.
Based on the above you should keep in mind that in relation to an audit, all the audit requirements in
terms of ISAs should be applied by the auditor. However in terms of an independent review, the
manner, form and procedures prescribed by the minister together with the requirements of ISRE
2400. Engagements to review financial statements should be adhered to by the auditor.
Note: The following practice question

concepts for revision purposes.
illustrate
number
of
Practice Question 1
The audit report is perhaps the most common report given by registered auditors. However
registered auditors are frequently engaged on assignments which give rise to reports other than
audit reports. These assignments could either be review engagements or what are termed related
services engagements.
REQUIRED
(a)
Distinguish between assurance and non-assurance engagements.
(b)
Distinguish between limited assurance and reasonable assurance engagements.
(c)
Describe briefly the nature of review and related service engagements.
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SUGGESTED SOLUTION
(a)
(b)
(c)
1.
Assurance engagements an engagement in which the registered auditor expresses a

conclusion designed to enhance the degree of confidence of the intended user on the
financial information on which the opinion has been expressed e.g. an audit opinion
expressed on a set of financial statements.
2.
A non-assurance engagement is an engagement where the registered auditor does not

express a conclusion designed to enhance the confidence of a user. A task is carried
out on behalf of the client, and/or specific facts are sought and reported on.
1.
A limited assurance engagement is an engagement where the procedures conducted

are deliberately limited relative to a reasonable assurance engagement to the extent
that only a negative form of expression of conclusion can be expressed i.e. nothing
has come to our attention that causes us to believe that the accompanying financial
statements do not fairly present.
2.
For a reasonable assurance engagement the auditor performs procedures designed to

put himself/herself in a position to express a positive opinion i.e. In our opinion the
financial statements fairly present in all material respects
1.
Review
2.
1.1
This engagement does not require a positive opinion but rather requires some
credibility to be given to the financial information which is being reported upon, in
the form of a negative opinion.
1.2
The scope of these engagements is unrestricted in the sense that the registered
auditor must be allowed to do what he believes he must, to be in a position to
give some credibility to the financial information. This is despite the fact that his
examination will not be as extensive as it would be should a positive opinion be
required (i.e. it is still unrestricted scope).
1.3
As a positive opinion is not being given the procedures conducted will not comply
with all international auditing standards but must comply with the ISRES
(International Standards on review engagement).
1.4
This type of engagement gives rise to a report on which the user is entitled to
place moderate assurance.
1.5
The report conveys "negative assurance": i.e. "nothing came to our attention ..."
Related Services Agreed upon procedures

2.1
This engagement requires a registered auditor to establish facts and report those
facts to the client. He is neither required to give an opinion or convey any
assurance, he simply presents the facts as found.
2.2
The scope of these engagements is restricted to the facts sought.
2.3
The procedures are agreed upon by the registered auditor and his client.
2.4
The report conveys no assurance (a clear statement to this effect is included in

the report), only the procedures undertaken and the facts found.
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Compilation
2.5
This type of engagement requires that the registered auditor compile financial
statements/schedules from information provided by the client.
2.6
No opinion or assurance is given, and this is made clear in the report.
Practice Question 2
A friend of yours who runs a small business tells you that recently he was discussing the services
which an audit firm could offer him. The partner to whom he was talking mentioned the word
"assurance" on a number of occasions. Not wanting to look stupid, your friend did not ask what
"assurance" meant, let alone "positive assurance" and "negative assurance".
REQUIRED
Explain to your friend the meaning of above the terms.
SUGGESTED SOLUTION
1.
Assurance:
1.1
2.
3.
This is the term given to the degree to which the auditors report increases the
credibility of the representations of others, in other words if you (your friend) prepare a
set of financial statements to present to the bank, the bank will be more inclined to
believe your representations (financial statements) if the auditor has performed certain
procedures to confirm the validity thereof.
Positive assurance:
2.1
This is the term given to the situation where the auditor has carried out sufficient audit
procedures to be in a position to actually express an opinion on your financial
statements (representations). The auditor gets to the stage where he/she is able to say
"In my opinion your financial statements:
present fairly or
present fairly except for some material aspect or
do not present fairly.
2.2
if no opinion can be reached no assurance is given.
Negative assurance:
3.1
This is the term given to the situation where the auditor has carried out sufficient
procedures to state that (based on limited procedures) nothing has come to his/her
attention to cause him/her to believe that the financial statements do not present
fairly.
3.2
Negative assurances is given for a review engagement where limited procedures have
been conducted; insufficient work has been done to warrant the expression of an
opinion (positive assurance).
3.3
In a sense the auditor is saying "as far as we can see the financial information is not
wrong" as opposed to the more positive statement "in our opinion the financial
information is correct (presented fairly)".
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4.
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Moderate assurance is (in terms of ISRE 2400) the level of assurance which is provided by a
review engagement (negative assurance). It must be contrasted with reasonable assurance
which is the level of assurance provided by an audit (positive assurance).
Practice Question 3
In terms of ISRA 4400 - Engagements to perform agreed upon procedures regarding financial
information, an auditor should prepare an engagement letter which provides a clear understanding
regarding the agreed procedures and the conditions of the engagement.
REQUIRED
(a)
Discuss the auditors right of access in an agreed upon procedures engagement.
(b)
Outline the important matters which should be agreed upon in the engagement letter.
(c)
Comment on the kind of procedures which may be used in such an engagement.
(d)
Comment on the assurance given by the auditor in an agreed upon procedures

engagement.
SUGGESTED SOLUTION
(a)
(b)
1.
The practitioner's right of access will depend entirely on the procedures which have
been agreed upon.
1.1
the practitioner must be given right of access to all information which is required
to fulfil the engagement.
1.2
the practitioner has no right to information which he does not require to fulfil the
engagement, but obviously the client cannot restrict access to required
information.
2.
As by its nature this is an engagement where client and practitioner decide what is to be
done, any change to the "agreed upon procedures" must be accepted by both parties,
e.g. if the practitioner realises that to achieve the engagements objective, further
procedures not agreed upon are required, agreement must be reached with the client
on the further procedures. The practitioner does not have the right to "do what he/she
wants to do."
1.
Matters to be covered in engagement letter.

1.1
nature of the engagement including the fact that the procedures performed will
not constitute an audit or a review and that no assurance will be expressed.
1.2
purpose of the engagement.
1.3
identification of the financial information to which the agreed upon procedures will
be applied.
1.4
nature, timing and extent of the specific procedures to be applied.
1.5
anticipated form of the report of factual findings.
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1.6
limitations on distribution of the report.
1.7
acknowledgement of understanding by the client..
1.8
basis of fee charging.
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(c)
1.
The procedures applied by the practitioner will again be governed by the agreement
with the client, but will normally be based upon the conventional procedures usually
conducted by auditors, i.e. inspection, observation, enquiry and analysis, obtaining
confirmations, recomputation comparison and other clerical accuracy checks.
(d)
1.
No assurance is given in this type of engagement. The auditor simply presents his or
her findings in respect of the agreed upon procedures.
2.
Users access for themselves the procedures and findings and draw their own
conclusions.
INTERNAL AUDITING
STUDY MATERIAL
Topic
Internal Auditing Services
Chapter 15.4.1 15.4.8 (pages 15-17 to 15-20)
Dynamic auditing provides a good summary of the definition of internal auditing, the scope of internal
auditing, and important related principles and procedures.
You should keep in mind that an external auditor can perform internal audit services to the client. For
example, performance of special investigations for management or implementation, monitoring and
reviewing of the internal controls and systems. In these cases the report is intended for the use of
management.
However, when an auditor performs external audit services to the client, they can make use of the
work of internal auditor appointed by the client. In that case the auditor would perform procedures as
required by ISA 610.
Remember to refer back to the requirements for an internal audit as part of corporate governance
(see Dynamic Auditing, Chapter 4, pages 4-20 to 4-23).
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10.
REPORTING BY THE AUDITOR
BACKGROUND
Upon completion of an engagement the auditor has to issue a report. The contents, format and type
of report will be determined by the nature of the work performed, as agreed in the engagement letter.
The theory on reporting is contained in chapter 16 of the textbook Dynamic Auditing, Ninth edition.
You have to study it thoroughly.
STUDY MATERIAL
Topic
Relevant section in Source reference

Dynamic Auditing
Auditors report on financial statements
Chapter 16.2
ISA 700, 705,

IAPS 1014
The auditors responsibilities relating to other information in documents containing audited financial
statements
Chapter 16.3
ISA 720
Special purpose engagements
Chapter 16.4
ISA 800, ISRE 2400,

2410, ISRS 4400,
ISAE 3000
Engagements to compile financial information
Chapter 16.5
ISRS 4410
Profit forecasts
Chapter 16.6
SAICA Guideline:
Profit Forecasts
The examination of prospective financial information
Chapter 16.7
ISAE 3400
Communications with those charged with governance
Chapter 16.8
ISA 260
Giving second opinions
Chapter 16.9
IRBA circular 01/06
You should now refer to the diagrams and related definitions in

Chapter 1 of Dynamic Auditing pages 1-10 to 1-16, for various
services that can be provided by the auditor and the various
types of reports.
Remember, that at this stage it is very important to understand the impact of any audit work or
findings on the audit report, specifically on the opinion paragraph. A full audit report will not be
required of you you have the statement with you as part of your SAICA Handbook (Volume 2).
However, you must be able to identify, explain and write a paragraph representing a modification to
a report. This includes an emphasis of matter paragraph, which doesnt affect the auditors opinion,
but nonetheless modifies the report. You also have to know matters that do affect the auditors
opinion i.e. qualified opinion, disclaimer of opinion, or adverse opinion.
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The following figure illustrate to you, the different kinds of audit reports that can be issued.
Financial statement fairly

presented in all material respect
Yes
No
Misstatement
material only
Does it affect the

auditors opinion?
Unqualified
audit opinion
Misstatement material
and pervasive
Disagreement with
management
Include limitation of
scope
Yes
No
Modified opinion
including
emphasis of matter
paragraph
(e.g. Going concern)
Adverse opinion
Disclaimer of opinion
(e.g. The client applied

accounting policies which
are not consistent with
the applicable
Accounting Standards
(e.g. Client financial data for

the 9 months of the financial
year destroyed in fire and can
not be recovered.)
No
Qualified audit
opinion
(e.g. Sales and debtors
materially misstated.)
Work through the following questions to test your knowledge on reporting.
The following practice questions are included to demonstrate

basic principles regarding reporting.
Practice Question 1
A qualified audit report arises either where the auditor has been restricted in his scope or where the
auditor believes that some aspect of the financial statements is misstated to the extent that fair
presentation is affected. To assist in determining whether fair presentation is affected the auditor
considers what is termed final materiality.
A question that a user might raise is Why would the directors not correct the misstatement which the
auditor has identified and which will give rise to a qualification. Surely if the correction is made there
will be no need for qualification?
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REQUIRED
(a)
Explain the concept of final materiality.
(b)
Comment on whether misstatements should be considered both quantitatively and

qualitatively for reporting purposes
(c)
Explain briefly the reasons that the directors may refuse to correct a misstatement to avoid a
qualification of the audit report.
Suggested solution
(a)
(b)
(c)
1.
Financial statements are not 100% correct, there is too much subjectivity and
uncertainty in the underlying amounts for them to be so.
2.
As a result the auditor cannot certify the correctness of the financial statements, but
rather passes an opinion on their fair presentation.
3.
The auditor must now decide what margin of error can the financial statements before
the financial statements are no longer (wholly or partially) fairly presented.
4.
Setting a final materiality level is an attempt to quantify the amount of misstatement

which could be preset in the financial statements without affecting fair presentation.
5.
The auditor then uses this amount as a guideline against which he can measure the
misstatement that has been identified on the audit e.g. the auditor identifies a misstatement in the valuation of inventory which will have a negligible effect on the value of
inventory in the balance sheet but will affect the net profit by 4%. If the auditor, in his
judgment, has decided that a misstatement of anything less than 5% of net profit is
unlikely to affect the decision of a user of the financial statements, he would regard the
inventory misstatement as immaterial based on final materiality (for net profit of 5%).
6.
Final materiality should also be contrasted with planning materiality which is a level or
limit which is set at the planning stage when deciding on the audit plan to be adopted.
1.
The reason for this is that annual financial statements do not consist of figures only
information is conveyed by figures and word (i.e. disclosures in the notes).
2.
Where an important disclosure (as opposed to amount) has been misstated or omitted it
will be material to users and the auditor must consider this not in a quantitative way
but in a qualitative way. For example if disclosures about an important contingent
liability are omitted or misstated the quality of the financial statements is affected.
The directors may refuse to correct a misstatement because:

1.
They do not believe there is a misstatement, e.g. the auditor interpretation, of say, an
accounting statement may differ to that of the directors who, in turn, think their
interpretation is correct.
2.
They do not regard the misstatement as material. Materiality is subjective and the
auditor makes his own decision. The directors may believe differently i.e. the misstatement will not affect a user.
3.
They have ulterior motives e.g. the directors wish to paint a particular picture in the
financial statements to satisfy their own objectives. (They would probably also believe
that they could explain a qualified audit if questioned on it by a user).
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4.
They must regard it as too much trouble to correct the misstatement e.g. to correct the
misstatement might result in changes to numerous accounts, the balance sheet and
income statement, accompanying notes, supporting schedules etc, which they regard
as not worth the effort.
5.
They may be unconcerned about receiving an unqualified report e.g. they are the
directors and shareholders and there are few other users, or they dont think users will
be particularly concerned about the qualification.
Practice Question 2
Consider the following statements:
1.
To avoid a qualification the auditors can adjust the financial statements themselves if the
directors refuse, provided the shareholders agree.
2.
The auditor has no duty in respect of information contained in a group report other than the
information he/she must report on in terms of the Companies Act.
3.
The audit report should not be signed prior to the date on which the directors sign the
financial statements.
4.
If the auditor ends up with two unresolved audit differences, both of which are material and
pervasive, but one is based on a limitation of scope and the other is based on a
disagreement, the auditor should give an adverse opinion and not a disclaimer of opinion.
REQUIRED
State, giving reasons, whether each of the above statements is true or false.
Suggested solution
1.
False:
The directors are appointed by the shareholders and have a duty to prepare the
annual financial statements. The auditor has no right, duty or power to alter the
directors financial statements.
2.
False:
The auditor has a duty to establish whether the other information contains material
inconsistencies with the financial statements or whether the other information
contains material misstatement of fact.
3.
True:
Normally the auditors and directors will sign-off on the same day. The audit is
really completed only at the date of signing.
4.
True:
The auditors duty is to report an opinion, so he/she should endeavour to do so

wherever possible. If the auditor is in a position to state that the financial statements
do not fairly present (adverse opinion) he must do so; the auditor cannot disclaim
an opinion if he or she is able to form an opinion.
Practice Question 3
You have recently completed the audit of Wearever (Pty) Ltds debtors for the financial year-end
31 March 2009. You had paid particular attention to the allowance for bad debts and having
evaluated all problem debtors individually found that the allowance of 8,3% of debtors was fair and
consistent with the allowances for the previous 4 years which had ranged between 8 and 9 percent.
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Shortly before your manager was due to review your working papers you conducted a final check of
the balance on your debtors lead schedule against the draft financial statements. As all aspects of
your audit of debtors had been successfully completed, you were surprised to find that they did not
agree. On further investigation you established that subsequent to your audit, the allowance for
doubtful debts had been reversed.
Besides increasing current assets, the reversal has resulted in an increase of 8 percent in net profit
before taxation. The notes to the draft financial statements contained no reference to this new policy.
You immediately raised the matter with the financial manager who informed you that the directors
decided to reverse the allowance for bad debts at 31st March and to write off any bad debts as and
when they occur in the future. As far as we are concerned this is consistent with trends in current
accounting theory which states that prudence is no longer important.
When you met with your manager to discuss this matter, he decided to take the opportunity to give
you some on the job training by posing the following questions:
1.
What is the justification behind your view that our audit report must be modified?
2.
I agree that our audit report must be modified but must we qualify it or can we give an
emphasis on matter? Can you explain your answer please?
3.
If this matter was immaterial we could ignore it for reporting purposes, so what indications do
you have that
3.1 it is not immaterial (i.e. it is material)
3.2 it is not actually material and pervasive?
4.
Do we address our audit report to the directors or the members? Justify your choice.
5.
What will the opening phrase in your opinion paragraph be?
6.
How should we sign off the report?
REQUIRED
Respond to the questions put to you by your manager.
Suggested solution
(a)
My reasoning is that
1.
I disagree with the value at which debtors have been reflected in the AFS, they are not
presented at fair value. The value of debtors does not reflect the impairment that
the evidence suggests will occur.
2.
This amounts to a departure from international financial reporting standards.
3.
The client made a allowance for the year 2009 which I audited and found to be fair,
reasonable and consistent with prior years.
4.
For at least the last 4 years the company has made an allowance of between 8% and
9% and there are no circumstances which suggest this should change.
5.
Assets must be presented at fair value and, as it stands debtors are overstated as the
evidence suggests that the amount shown will not be realized.
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(b)
We must qualify, an emphasis of matter is not appropriate.

Reason
:
:
(c)
1.
2.
An emphasis of matter is only appropriate if the unresolved audit query does

not affect the auditors opinion
In this case it is our opinion that debtors are understated and profits
overstated.
I dont believe the matter is immaterial because by not allowing for bad debts
1.1
1.2
debtors have been overstated by 8% but more significantly

net profit before tax has been overstated by 8%.
I do not think it is material and pervasive;

2.1
2.2
2.3
(d)
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this qualification is based on a disagreement between us and Wearever (Pty) Ltd,

and
a disagreement will only be material and pervasive when its impact is so great
that fair presentation as a whole has been undermined or the financial statements
have been rendered misleading, or incomplete.
this matter has an impact on only a limited number of account headings, and the
rest of the information in the financial statements is fairly presented, and useful to
users.
We address our audit report to the members (shareholders).

Justification
:
:
we are appointed by the shareholders

the Companies Act requires that we report to them.
(e)
The opening phrase will be In our opinion, except for the matter referred to above
(f)
In practice there are a number of ways of signing off, but an important requirement is that we
specify the designated auditor i.e. the individual responsible for the audit.
Examples:
Director: D J Jones
Registered Auditor
2 Balance Road
Townsville
Gauteng
Deloitte and Touche Or PriceWaterhouse Inc

Partner: P J Green
Registered Auditor
3 Water Way
Durban
17 May 2009
17 Feb 2009
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11.
SELF-EVALUATION ASSIGNMENT - QUESTIONS
You are now ready to do a self-evaluation assignment to test your knowledge and to practise the
suggested examination technique while doing questions.
PLEASE NOTE THAT YOU SHOULD NOT SUBMIT THIS ASSIGNMENT.
CONTACT US IF YOU EXPERIENCE ANY PROBLEMS.
Remember that it is of utmost importance to compare your answer to the suggested solution AND to
identify AND WRITE DOWN the reasons for everything that:
is in your answer but not in the suggested solution - what information in the question that
limits the scope of the answer did you not take note of?
is in the suggested solution but not in your answer - was your knowledge lacking or did you
not identify critical information contained in the question causing your answer to be
incomplete?
Self evaluation assignment

You should attempt the questions under normal examination conditions and mark them.
ASSIGNMENT
QUESTION
NUMBER
Applied Questions
on Auditing
MARKS
Chapter 4,
Question 1
35
53
Compliance with the King III Code
Chapter 4,
Question 2
35
53
Sundry governance issues
Chapter 4,
Question 3
40
60
Chapter 4,
Question 4
70
105
Chapter 14,
Question 1
35
53
Reliance on internal audit,

management representations and
subsequent events
Chapter 14,
Question 3
45
68
Subsequent events
Chapter 14,
Question 6
50
75
Going concern and corporate

governance
Chapter 14,
Question 8
65
98
Various aspects of finalisation

phase
Chapter 15,
Question 1
15
23
Special audit considerations
10
Chapter 15,
Question 2 (Part e)
24
36
Deficiencies in audit work
11
Chapter 16,
Question 1 (Part B)
10
15
Types of audit options
TIME
TOPICS COVERED
(minutes)
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EXAM TECHNIQUE
Keep the following in mind when you attempt questions:
1.

Questions that may be asked (but not limited to these):
1.
2.
Required to specify outstanding audit issues when the fieldwork has been completed.
Questions concerning audit differences or misstatements: calculations and discussions.
Note:
In this case you should consider the following:
Consider whether the audit work is sufficient to support the audit report. i.e. sufficiency
and appropriateness of the audit evidence.
Consider whether the audit work performed addresses all the risk identified.
Consider whether the management representation letter has been obtained.
Adequacy of the audit documentation (i.e. working papers).
Materiality of audit differences.
Final search for unrecorded liabilities.

Look out!!
The detail of the solution will depend on the number of marks allocated to a question.
As a result, stick to the time allocated to the question and ensure that only relevant points are
stated/ written.
2.
Subsequent events
1.
2.
3.
Required to state actions to be taken by auditor or considerations.

This can be integrated with an Accounting question.
Going concern
In answering a question:
1.
2.
3.
Relate the factors given in statement ISA 570 to the specific circumstances identified in
the question. Do not merely list the factors.
Regardless of whether the question lists specific plans of management you should
realise that the going concern question depends largely on the clients ability to sustain
its cash flows for the foreseeable future. Thus you would always perform audit work on
the future cash flow of the company. This will involve assessing budgets, forecasts,
cash flows, etc. You would also make enquiries (with client permission) of bankers and
major creditors regarding whether they will continue to support the company financially.
Management may also have specific plans to resolve the situation involving new
products, planned increases in turnover, cost reduction, etc. It is important that these
plans are audited in detail and you would need to assess their feasibility and general
likelihood of success. The audit work on each plan should be described as specifically
as possible and would usually involve inspection and review of documents supporting
managements assertions.
We also include a number of additional questions from page 43,

including old Unisa tests and exams, to prepare you for what you
can expect in tests, exams and the QE exam.
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QUESTION 1
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11 marks
The following is an extract from a question:

Criteria for question selection
The following question is a 2006 Unisa exam question.
This question illustrates various engagements that an auditor can
involved in. It also shows you to how to use your books in a test.
be
Circulation figures
The marketing department of the Gauteng News Ltd performs the costing of all placements for
advertisements from advertising agencies. The cost is determined by taking the following into
account; the size of the advertisement, the section where it will appear in Gauteng News (for
example a front page advertisement is the most expensive) and if any colour is used (a full colour
advertisement being more expensive than a plain black and white advertisement). At the end of the
year the sales manager determines the tariffs to be used for advertising placements in the next year.
These tariffs are based on a circulation audit that has to be performed on the projected circulation
figures of the newspaper for the following year. The circulation audit is done by the external auditors
of Gauteng News Ltd who review the projected circulation figures of the Gauteng News for the
following year. The results of the circulation audit are very important because they are used by the
sales manager to determine the advertising tariffs of the following year. These have to remain
competitive in the market, for example an advertising agency will rather run a R2 million advertising
campaign with a newspaper that has 400 000 readers than with a local newspaper with only 60 000
readers, if the advertising tariffs of both companies are the same. Therefore a local newspaper, like
Gauteng News has to charge at more competitive advertising tariffs to retain their clientele. As the
auditor of Gauteng News Ltd you will once again be involved in the circulation audit.
REQUIRED
Marks
Describe an assurance engagement and based on your description of an assurance
engagement discuss whether or not the circulation audit (based on the projected circulation
figures for the year ended 31 March 2007), will be regarded as the following types of
engagement:
(i)
(ii)
(iii)
(iv)

Assurance engagement other than audits or reviews (ISAE 3000).
Engagement to review financial statements (ISRE 2400).
The examination of prospective financial information (ISAE 3400)
2
1
2
4
(UNISA 2006)
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QUESTION 2
5 marks

This is a UP adapted question.
The required deals with audit differences. You should be able to identify
that the significance of audit differences is considered in relation to
materiality. You should also keep in mind that audit differences are
considered individually and in aggregate.
Approach on answering this question:
Once you have read the required and you are certain as to what is required
of you, plan your answer.
Consider materiality of both the income statement and balance sheet.
You are currently engaging in the audit of Porpoise Limited, a group of departmental stores operating in
all major cities in South Africa.
Porpoise Limited has an established, effective and well staffed internal audit department. The
internal audit department operates independently of management and reports directly to the audit
committee. All accounting is done at the head office and the company has a sound system of control
and financial reporting.
The following working paper has been prepared after all the outstanding audit work has been
finalised.
ABC&D (Incorporated)
(Registered Auditor)
C200
Auditee: Porpoise Limited
Financial year-end: 30 September 20X6
Prepared by: A Acrobatic

(31 October 20X6)
Reviewed by:
AUDIT DIFFERENCES
The following audit differences have been identified
Inventory is overstated by
Property, plant and equipment is overstated by
Trade and other payables are overstated by
R
786 550
302 346
398 995
Materiality figure:
R250 000 for the income statement and R750 000 for the balance sheet.
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REQUIRED
Marks
Conclude on the effect of the audit differences, as documented in working paper C200
above, on your audit opinion.
(5)
(UP adjusted)
QUESTION 3
8 marks

This is a QE1 2007 adapted question.
This question deals with modifications to the audit report. The actual
audit report is not required due to the fact that it is an open book
examination. This question tests your ability to identify circumstances
that may result in other than unqualified opinion and to apply information
in the question.
In your solution you should discuss all the possibilities based on the
information provided in the question.
Based on your discussion, you have to come to a conclusion.
Fraud
The internal audit function of Client Ltd recently conducted a surprise visit to the warehouse to
perform audit testing. Their work included compliance testing of documented internal controls and
the performance of cyclical physical inventory verification procedures. The performance of these
procedures led to the detection of a significant discrepancy between the physical inventory of certain
small high-value components and the inventory records. The value of the missing inventory
represents a potential material loss to Client Ltd. The internal audit function is currently investigating
the discrepancy as an instance of fraud by warehouse staff.
REQUIRED
Marks
Discuss the nature of any modifications required to the standard unqualified audit report
which will enable the drafting of the audit report on the 2007 annual financial statements of
Client Ltd, assuming that the internal audit investigations have identified the possibility of
fraudulent misstatement of inventory balances and that the audit team has been unable to
satisfy itself regarding the existence of the inventory balance.
Ignore the impact of a possible reportable irregularity in your answer.

(QE1 2007 adapted)
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QUESTION 4
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50 marks

This is an extract of Unisa Test 4 question for 2007.
This is an integrated question, dealing with planning materiality, risks,
going concern and post balance sheet/subsequent events. Therefore the
principles studied in Tutorial letter 102 should be revised.
Planning materiality:
Make sure you know which figures to use.

Consider all the factors affecting materiality.
Conclude
Audit risks:
Identify risk indicators and formulate your audit risks from them.
You are a partner at Sithole & Smith, a medium sized audit firm, with its head office in Sunnyside,
Pretoria. The client base of the firm has grown significantly over the last couple of years. This is
attributed to the quality of audit and consulting services provided by your firm.
You are currently busy with the audit of Stars Limited. Stars Limited is a holding company with its
main activity being the manufacture of various products for the industrial market. The group also
invests in various forms of other business ventures by attaining equity shareholding in such
companies. The year-end of the group is 30 June 2007, and you are currently busy planning the
2007 audit.
You have been the partner in charge of the audit for the last seven years. As audit partner you are
very involved in the planning of the audit, as you feel it is essential to spend time on understanding
the entity and its environment. You accordingly performed your risk assessment procedures and
obtained the following information relevant to the planning of the 2007 audit.
You are aware of the fact that the audit must be completed by 18 July 2007, as the bankers require
this.
1.
Draft Financial Statements

In a planning meeting with the financial director, Ms N Rada CA(SA), on 15 April 2007, you
were presented with the following draft financial statements for 2007.
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Stars Limited Group
Consolidated income statements
Amounts in R000s
Sales
10 months
ended
30 April 2007
Year ended
30 June 2006
1 061 574
2 753 214
Cost of sales
(947 697)
(2 547 697)
Gross profit
113 877
205 517
94 325
254 325
(304 120)
(324 123)
(26 786)
(10 434)
(8 825)
(3 958)
(131 529)
121 327
(9 840)
(7 540)
(141 369)
113 787
(147)
(68 936)
(141 516)
44 851
Minority interests
(2 548)
(856)
Net (loss)/profit
(144 064)
43 995
Other operating income

Distribution costs
Administrative expenses
Other operating expenses
(Loss)/profit from operations
Finance costs (net)
(Loss)/profit before tax
Income tax expense
(Loss)/profit from ordinary activities after tax
Stars Limited Group

Consolidated Balance Sheet
At 30
April 2007
At 30
June 2006
132 760
250 820
58 065
74 695
138 700
112 120
7 954
118 577
80 000
80 000
8 393
7 500
(84 793)
29 271
3 600
116 771
4 354
1 806
124 806
132 243
Non-current liabilities
81 958
99 062
Current liabilities
42 848
33 181
132 760
250 820
Amounts in R000s
ASSETS
Non-current assets
Current assets (including cash R40 million)
EQUITY
Stated capital (1)
Fair value reserves (2)
Accumulated (loss/profit
Minority interests
LIABILITIES
EQUITY AND LIABILITIES
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Note:
(1) Stated capital: Authorised and issued 100 000 000 ordinary shares.
(2) Fair value reserves: This is the result of a revaluation of plant and equipment to fair
values at year-end. The valuation was done by a sworn appraiser.
2.
Background information and governance structures

Stars Limited was formed 10 years ago by Mr Brandt. He has since built the company into a
large conglomerate which listed its shares eight year ago on the JSE. Mr Brandt, who is the
CEO of the company, together with key management staff and all of the directors, owns a
significant number of shares in the company.
The company has, however, experienced strong competition over the last couple of years
and this, together with a combination of mismanagement and poor economic conditions, has
resulted in losses for the company and certain subsidiaries in recent years. This resulted in
the companys share price reaching an all time low in August 2006. As a result of the poor
financial performance of the company, the board decided to employ a turnaround specialist,
Jack Hattingh, as its new management director to replace Mr Brandt, who will retire as CEO
from active duty, but who will now be appointed as the chairman.
At a board meeting on the 20th January 2007, at which all the directors were present, it was
decided to sell the kitchen manufacturing division, together with the equipment, as a going
concern to the Brandt Family Trust, a trust controlled by Mr Brandt and his wife. The selling
price was set at R18 million which represents a discount of 25% on the open market value of
the division. The proceeds from the sale of the kitchen division would be used to reduce its
short term debt and to upgrade its plant and equipment.
The directors also discussed at the same meeting a possible share buyback scheme. The
decision was taken to utilise cash of R30 million to buy back some to the company shares
from minorities. They considered this to be a good time, since the company share price was
at an all time low, and thus the shares would be cheap. They were confident that the
restructuring of the business would bear fruit and that it would result in increased profits in
future years which will, together with the reduction in share capital, lead to a higher return on
capital. The proposal is to buy back 30 million shares at a price of R1 per share. Since the
shares were currently trading on the JSE Stock Exchange at 75 cents per share they
consider this to be a fair price. This proposal was implemented during May 2007.
Some directors expressed concern about the future financial prospects of the company. A
sudden drop in the share price of the company triggered discussion of the financial
performance of the company by the directors, with the executive directors showing the most
interest in the performance of the share price due to their shareholdings.
It has always been the policy of the company to comply with Statements of Generally
Accepted Accounting Practice and this fact is stated in the annual financial statements.
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REQUIRED
Marks
(a)
Calculate the planning materiality for the 2007 audit.
(6)
(b)
List the inherent audit risks that exist for the 2007 audit.
(14)
(c)
Discuss if Stars Limited comply with the going concern principle regarding the 2007
audit.
(6)
List the most important post-balance procedures that need to be performed on the
2007 audit.
(9)
(d)
QUESTION 5
44 marks

This is a Unisa Test 4 question for 2008.
This
is an integrated question dealing with the following:

Pre-engagement activities
Audit differences: Theory and calculations
Audit report: Not the complete report but an extract thereof.
Pre-engagement activities: Apply the knowledge as studied in

tutorial letter 102.
Audit differences: Consider these individually and in aggregate.
Audit report: Apply the information in the question to determine
what type of modification is applicable.
The majority of shares of Cookies-Galore (Pty) Ltd, a company that has been involved in the
manufacturing of biscuits for the past 20 years, are held by family members whilst the balance of the
shares are also all held by natural persons. Besides its manufacturing and distribution operations,
the company has no other investments. The companys audit report, for the financial year that ended
on 31 January 2007, was unqualified.
Kaizer Inc. has acted as the companys auditors since its incorporation, while Du Toit Inc., another
firm of auditors, has performed secretarial services on behalf of the company for the last seven
years. Due to Du Toit Inc.s involvement, John Rock CA (SA), the financial director of the company,
does not consider it necessary to establish an internal audit function for the company.
At its annual general meeting during the beginning of April 2008, all the shareholders of the company
properly voted out Kaizer Inc. as the auditors of the company and voted in favour of the appointment
of Du Toit Inc. as the new auditors of the company, subject to their acceptance of the appointment.
All the shareholders also agreed in writing that Du Toit Inc. may continue to perform secretarial
services to the company.
Before the commencement of the audit, John Rock presented the following summary of the draft
financial statements of the company to Du Toit Inc.
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Statement of Financial Position as at 31 January 2008

R Millions
Employment of capital
Property, plant and equipment
Inventory
Accounts receivable
Bank
Accounts payable
38
20
16
14
(20)
68
Capital employed
Shareholders equity
Long term liabilities
48
20
68
Statement of Comprehensive Income for the Financial Year ending 31 January 2008
2008
Turnover
Gross Profit
Net income before Tax
196
88
20
R Millions
2007
164
68
18
Du Toit Inc. completed the audit of the company during May 2008 and except for the following audit
differences, was satisfied with the results of the audit:
Audit differences identified:
(a)
Borrowing costs which were capitalised to property, plant and equipment, were overstated by
R200 000.
(b)
Plant and machinery were overstated by R250 000. Certain maintenance and repairs costs
were capitalised regardless of the fact that the companys own engineers did the installations.
(c)
Sundry accruals at the year-end have been understated by R225 000. Sundry accruals to the
value of R100 000 in the previous year were not adjusted for.
(d)
Inventories of raw materials have been valued at the rate of exchange at year-end. The cost
of inventory is overstated by R325 000.
(e)
The provision for bad debts is R450 000. Du Toit Inc. estimated the provision to be R745 000
within a R20 000 range of accuracy.
(f)
Failure to pass any entries whatsoever in respect of goods in transit from suppliers at a cost
of R50 000. A similar audit difference of R100 000 was identified by Kaizer Inc. during the
2007 audit, but they did not deem it material enough to request adjustment.
Du Toit Inc. discussed the audit differences with John Rock. He was however unwilling to adjust the
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REQUIRED
Marks
1.
2.
3.
List the issues Du Toit Inc. should have considered and the procedures they should
have performed prior to accepting the appointment as auditors of the company.
(25)
Set out the audit differences for each account balance in tabular form and calculate
and aggregate total. State whether or not, in your opinion, you regard the aggregate
audit difference to be material to fair presentation of the financial statements. Justify
your opinion in writing. Show all calculations and present your answer in the form of a
working paper.
(11)
Prepare the opinion paragraph as well as any qualification paragraph, if necessary,

which Du Toit Inc. should consider necessary for inclusion in their audit report on the
(8)
QUESTION 6
30 marks

This is a Unisa Test 4 for 2009.
This question deals with various aspects.
covered:
Post balance sheet date events
Audit differences
Going concern
The
following
topics
were
This was a well-balanced question covering most of the important aspects

of the completion phase.
Part (a)
The main issue is to identify whether the event is adjusting or

non-adjusting event.
You will be able to arrive at this conclusion after applying the

information in the question.
Part (b)
You should note the format that is being required and present
your answer in that manner.
Take note of the mark allocation (12 marks) and actual number of
audit differences (4 audit differences). This is an indication
that you are required to provide more than a table i.e.
discussions as well.
Always keep in mind that you need a final materiality figure to

assess materiality of audit differences.
Part (c)
This is a straight-forward theory question.
You have to use your SAICA statement to answer this part.
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52
Isakhiwo Contractors Ltd (Isakhiwo) is a construction company involved in the building of both
commercial and residential properties. Joshua Dlamini, Pindi Msimanga, Edward Anderson and
Thulani Radebe established the company in 2000 and they are all directors of the company. They
formed the company by using their savings and a small loan from a bank. Isakhiwo is situated in
Polokwane, but it renders services all over the country. The company has shown tremendous growth
since its inception and profits were generally high. This lasted until a year ago when the building
industry started to deteriorate.
Your firm has been the auditors of the company for the last few years and you have been assigned
as the audit manager for the 31 March 2009 financial year-end audit. Early in May, the company was
ready for the final audit and provided you with draft financial statements. You are currently
performing procedures as part of the audit finalisation stage. The client wants the audit to be
finalised by 15 June 2009, as it needs audited financial statements to extend its bank overdraft.
The audit senior calculated a materiality figure of R3.5 million for the audit.
The draft abridged financial statements for the year ended 31 March 2009 are as follows:
ISAKHIWO CONTRACTORS LTD
STATEMENT OF COMPREHENSIVE INCOME FOR THE YEAR ENDED 31 MARCH 2009
R000
Revenue
16 000
Profit for the year attributable to equity holders of the company
3 000
STATEMENT OF FINANCIAL POSITION AS AT 31 MARCH 2009

2009
R000
Non-current assets
2008
R000
122 500
76 800
42 000
37 000
164 500
113 800
Equity and liabilities
49 800
29 800
Non-current liabilities
68 000
55 000
Current liabilities
46 700
29 000
164 500
113 800
Current assets
Total assets
Total equity and liabilities

Minutes of directors' meetings
When inspecting the minutes of the directors' meetings, you noted the following:
1.
During the year, a contract of R3 million to refurbish the offices of Isakhiwo was awarded to
Corporate Designs, ahead of four other contractors who had tendered for the job. One of the
non-executive directors of Isakhiwo, Jill Macpherson, opposed this decision, as she preferred
the proposal made by one of the other contractors. Joshua Dlamini, the managing director of
the company was, however, very much in favour of the Corporate Designs proposal and had
convinced the rest of the board to vote accordingly.
2.
A loan of R5 million was made to Gold-in-Property (Pty) Ltd to enable this company to
purchase a property. The loan, authorised by the directors, is to be repaid over five years and
interest is charged at market rates.
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While reviewing the audit file, you noted the following on one of the working papers:
Notes:
Jill Macpherson had coincidentally discovered, subsequent to the directors', meeting that
Corporate Designs belonged to Sara and Patricia Dlamini, Joshua Dlaminis daughter and
wife respectively. She phoned the audit senior to inform him about this.
One of the audit team members established that Gold-in-Property (Pty) Ltd was jointly owned
by Edward Anderson (60% holding) and one of his business partners (40% holding).
Matters discovered by the audit team

A meeting was scheduled with the financial director, Pindi Msimanga, to discuss the above issues as
well as the following audit differences discovered by the audit team:
A cut-off test was performed on a sample of purchase invoices. Your team discovered that
some of the invoices recorded related to projects that will only be undertaken after year-end.
These invoices amount to R2 million.
The audit team also discovered advance receipts from certain debtors, which resulted in
debtors with credit balances being included in the draft financial statements. The total of
these debtors is R1.5 million.
Based on predictive tests performed by one of the audit clerks, the total amount of the
provision for bad debts is estimated to be R3.4 million, but the client has made an estimate of
R1.6 million. The predictive tests have taken into account the fact that the company has a
client that has financial difficulties. Based on communications with the companys legal
advisor, it seems highly unlikely that the client will pay the amount back. However, Pindi
Msimanga is positive that the money will be recovered.
The audit team further discovered that the accruals were underprovided by R750 000.
Post balance sheet review

During the performance of the post balance sheet review in the first week of June, you identified the
following matters that have to be considered before finalising the financial statements.
1.
During February 2009, one of Isakhiwos new delivery trucks, valued at R600 000, was
hijacked. The truck was insured and has not been seen since the incident. The financial
director wrote the vehicle off on 31 March 2009. She also recognised a small loss that was
anticipated when taking into account the expected payout from the insurance company. The
insurance claim was raised as a debtor. You were satisfied with this accounting treatment.
However, late in May 2009, the insurance company notified Isakhiwo that they would not be
paying out any amount in respect of the hijacked vehicle as their investigation revealed that
the driver of the hijacked vehicle had been involved in the hijacking. The driver, who was an
employee of Isakhiwo, resigned from the company shortly after the incident. Isakhiwo had
referred the matter to its lawyers who indicated that, in terms of a strict interpretation of the
insurance policy, the insurance company could be correct. They recommended that the
matter be taken to court and Isakhiwo intends doing this.
2.
Isakhiwo made a long-term investment of surplus funds in an investment company, Big

Bucks Ltd, during the year. Audit procedures performed confirmed it to be a sound
investment on 31 March 2009. The directors concurred with this. Early in May 2009, it was
announced in the press that a major fraud (which had been committed over a number of
years) at Big Bucks Ltd had been exposed and that the company was suspended from the
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JSE Ltd. Confirmation of this was obtained from the companys spokesperson. No further
details, other than that Big Bucks Ltd is likely to be placed under liquidation, are available.
REQUIRED
Marks
(a)
(b)
(c)
12.
Explain your considerations on how the post balance sheet events should be dealt
with in the financial statements as at 31 March 2009.
(12)
Prepare a schedule of audit differences identified by the audit team. Discuss the
further action you would take regarding these audit differences and indicate
whether these audit differences would affect your audit opinion.
(12)
Assuming your audit findings indicate that a going concern uncertainty exists,
explain how this will affect your audit opinion.
(6)
SELF-EVALUATION ASSIGNMENT SUGGESTED SOLUTION
QUESTION 1 - SUGGESTED SOLUTION

Type of engagement
1.
In terms of the framework an assurance engagement means an engagement in which a

practitioner expresses a conclusion designed to enhance the degree of confidence of the
intended users.
(2)
2.
You, as the auditor, will express a conclusion on the projected circulation figures, but this
opinion will not be used to enhance the degree of confidence of users other than
management, that is responsible for the outcome of the evaluation or measurement of the
projection.
(1)
3.
You will perform the circulation audit for management and no other users will rely on this
audit, therefore it cannot be regarded as an assurance engagement.
(1)
Total 4
Maximum 2
(i)
(ii)
1.
An audit is an assurance engagement where the auditor provides a high, but not
absolute level of assurance.
(1)
2.
As indicated above the circulation audit is not an assurance engagement.
Assurance engagements other than audits or reviews of historical financial information (ISAE 3000)
1.
(iii)
(1)
2
Due to the fact that the circulation audit does not qualify as an assurance engagement,
it cannot be regarded as this type of engagement.
(1)
Engagement to review financial statements (ISRE 2400)

1.
A review engagement provides a moderate level of assurance; this is expressed in the

form of negative assurance.
(1)
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(iv)
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The circulation audit does not qualify as an assurance engagement, regardless that
only negative assurance is given from a review.
(1)
2
The examination of prospective financial information (ISAE 3400)

1.
This standard specifically provides guidance on engagements to examine and report on

prospective financial information. Prospective financial information means financial
information based on assumptions about events that may occur in the future. It can be
in the format of a forecast, a projection or a combination of both.
(2)
2.
The circulation audit, which is performed a projected circulation figures for the next
financial year, can therefore be regarded as an engagement in terms of this standard.(1)
3.
In such an engagement, the auditor is not in a position to express an opinion as to

whether the results shown in the prospective financial statements will be achieved. (1)
4.
Due to the fact that the auditor performs only an examination and report on the
prospective information it cannot be regarded as an assurance engagement because it
is not an audit, review or assurance opinion.
(1)
5.
Consequently, when reporting on the reasonableness of managements assumptions

the auditor provides only a moderate level of assurance that relates only to the
assumptions used in the projection.
(1)
Total 6
Maximum 4
MARKERS COMMENTS
Students could use their Auditing Standards in the SAICA Handbook, to look up the
information on the types of engagements, but still performed poorly in this question.
Very few students know how to describe an assurance engagement.
This question was very leading, i.e. we gave students the reference numbers of the Auditing
Standards and tried to test their abilities to make use of their open books. Students still need
a lot of practise with this!

Effect of audit differences on the audit opinion
Although the net effect of the audit differences (R689 901) is less than the balance sheet
materiality, it is not appropriate to compare the net effect of the differences identified to the
materiality figure. The aggregated difference (R1 487 891) should be evaluated.
(2)
The effect of over- and understatements should be evaluated separately to reach a

conclusion regarding the fairness of the financial statements.
(1)
Individually all three of the audit differences are material to the income statement.
(1)
The inventory differences are material to the balance sheet.
(1)
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The aggregated audit difference is clearly material to both the balance sheet and the income
statement and should result in an adverse or qualified audit opinion.
(2)
Total 7
Maximum 5

Nature of the modifications required to the standard audit report.
Marks
The inconclusive investigation by Internal Audit into the possible management fraud,
coupled with your inability to gather sufficient appropriate evidence, represents a limitation
on the scope of the auditors work (insufficient work to conclude on the inventory balance).
(1)
As the scope limitation is no doubt material (both quantitatively and qualitatively) a

modification of the audit opinion is necessary, in this case either a qualified opinion or a
disclaimer of opinion should be expressed. [ISA 705.11]
(1)
A qualified opinion should be expressed when the auditor concludes that an unqualified
opinion cannot be expressed, but that the effect of any limitation on scope is not so
material and pervasive as to require a disclaimer of opinion.[ISA 705.13(a)]
(1)
A disclaimer of opinion should be expressed when the possible effect of a limitation on

scope is so material and pervasive, that the auditor has not been able to obtain sufficient
appropriate audit evidence and accordingly is unable to express an opinion on the
financial statements.[ISA 705.13(b)(ii)]
(1)
The fraud and scope limitation appear only to relate to the existence of inventory and does
not affect other financial statement information.
(1)
The inability to conclude on the inventory balance, although individually material, is

unlikely to be so pervasive that the auditor would need to disclaim an opinion on the
financial statements as a whole.
(1)
Accordingly, the auditor should issue a qualified (except for) opinion.
(1)
The qualification paragraph (which should precede the opinion paragraph) should include:
- a clear description of the limitation (circumstances of the fraud) and
- indicate the possible adjustments to the financial statements that might have been
determined necessary had the scope limitation not existed.
(1)
(1)
Total
Maximum
10
8
(1)

(a)
Since the company have going concern problem use the current years actual figures:
Assets
1 2%
R1,32 R2,65 million
Gross profit
2007 (12/10 x R113 877 000) 1 2% R1,36 R2,73 million
Turnover
2007 (12/10 x R1 061 574 000) - 1% R6,37 R12,73 million
(1)
(1)
(2)
An important consideration is that the materiality figure must be stable, therefore equity and
net profit will not be considered.
(1)
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Given the fact the company is a manufacturer and conglomerate, turnover, gross profit and
total assets will be of importance.
(1)
However, the company is barely solvent and therefore we should use a conservative
materiality figure.
(1)
Conclusion:
Use assets/gross profit for setting materiality between R1,32 R2,73,million.
(b)
(c)
(1)
8
Maximum 6
Inherent risk
1.
The company is listed, and thus should comply with the stringent JSE Ltd listing
requirements.
(1)
2.
The company should also comply fully with IFRS standards in terms of the JSE Ltd
listing requirements.
(1)
3.
The company has subsidiaries and consolidated financial statements must be

prepared:
(1)
risk of intercompany balance transactions not eliminated: related parties not

disclosed, etc.
(1)
reliance by the group auditors (us) on other parties, and possible subsidiary
auditors.
(1)
4.
The directors hold a significant number of shares, creating an incentive to manipulate

financial information.
(1)
5.
The combination of strong competition, mismanagement and poor economic conditions

has resulted in the company incurring losses.
(1)
6.
The control environment seems weak and management integrity is under suspicion, for
example the selling of assets to the Brandt Family Trust at a 25% discount.
(1)
7.
Tight audit deadline, which might lead to subsequent events not being detected, and
financial statements being incomplete as well as placing increased pressure on the
auditors to complete the year-end audit.
(1)
8.
Risk of legal liability, because the bankers will rely on the audited financial statements
(Sec 46(1) of the APA).
(1)
9.
Non-compliance with the Companies Act, and possible reckless trading by the directors
(Sec 22).
(1)
sales of assets not properly approved, and directors interests in contracts not
declared
(1)
share buy back worsens liquidity and solvency of company.

(1)
10.
The company is technically insolvent going concern problems.
(1)
14
Compliance to going concern

1.
The companys equity decreased from R116,7 million in 30 June 2006 to R3,6 million
on 30 April 2007.
(1)
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2.
The company made a loss of R144 million up to 30 April against a profit of R43,9
million the previous year.
(1)
3.
Should we extrapolate this loss for the last 2 months up to year-end, it is possible that
an additional loss of R28,8 million could be realised before year-end.
(1)
4.
If above loss is set-off against equity the company will have a negative equity of around
R25 million, which will mean the company is technically insolvent.
(1)
5.
The Balance Sheet shows cash of R40 million on 30 April 2007. During May 2007 R30
million cash was used for the share buy-back. This transaction worsened the liquidity
and solvency of the company.
(1)
6.
The share buy-back plus the additional loss expected for the two months up to yearend will result in the companys current liabilities exceeding its current assets, which
also makes the company commercially insolvent.
(1)
6
Conclusion:
It appears that the company do not comply with the going concern principle.
(d)
(1)
Most important post-balance procedures to be performed

1.
Since it appears that the company do not comply to the going concern principle the
auditor needs to establish the following:
(1)
Is the company still making losses after year-end?

(1)
Can the company pay its liabilities as they become due after year-end?
(1)
Have any new finances/equity been obtained after year-end to help the company
being solvent again?
(1)
Is there any litigation against the company due to its solvency and liquidity
problems?
(1)
Have any loss of management, market, suppliers occurred which will worsen the
financial position after year-end?
(1)
2.
Follow up the share buy-back since it contravenes section 48 of the Companies Act
which stipulates that after any payment to shareholders the company must still be liquid
and solvent.
(1)
If a liquidator is appointed for the company he/she will also set this transaction aside.
This transaction only benefited the shareholders, and was probably only done since
management, who are also shareholders, saw that the company might be liquidated. (2)
3.
Have discussion with management specifically regarding to:
issues related to the companies going concern; and
the unlawful share buy-back.
(1)
(1)
11
Maximum 9

1.
Pre-engagement activities
Consider independence
1.1
There might be a self review threat that exists as Du Toit Inc performs the secretarial
work for Cookie-Galore (Pty) Ltd.
(1)
HJB
59
1.2
1.3
TOE412S/105/2010
ZAC412D/105/2010
This will however not affect Du Toit Inc acting as the external auditor as well; because:
1.2.1
Cookies-Galore (Pty) Ltd is a private company.
(1)
1.2.2
All members have agreed in writing for them to act as auditors.
(1)
1.2.3
None of the shares of Cookies-Galore (Pty) Ltd are held by a listed company. (1)
1.2.4
The relevant circumstances will be set out in the auditors report and annual
(1)
There might be a familiarity threat as Du Toit Inc have been performing the secretarial
work for 7 years.
(1)
Consider the clients integrity (business standing) and business risk.
(1)
1.4
The financial director (John) is a CA registered with SAICA.
(1)
1.5
The company has generated profit hence going concern problem is reduced.
(1)
1.6
There is no internal audit department, this increases the audit risk.
(1)
1.7
Management is unwilling to adjust the prior years audit differences.
(1)
Procedures in this regard in respect of the Code of Professional Conduct comprise:

1.7
Enquire from management whether Kaizer Inc has been informed of the intention to
replace them.
(1)
1.8
Obtain managements permission to contact Kaizer Inc.
1.9
Contact Kaizer Inc and enquire whether there is a professional reason not to accept the
engagement.
(2)
(1)
1.10 If Kaizer Inc does not respond within a reasonable period, write another letter in which
request is repeated, together with a statement that if the fails to respond, it will be
assumed that there is no reason to accept the engagement.
(2)
1.11 If permission to contact Kaizer Inc is refused, do not accept the engagement.
(1)
Du Toit Inc must further consider whether:

1.12 There is a vacancy in respect of the auditor, namely whether Kaizer Inc had resigned or
was dismissed in terms of the provisions of the Companies Act.
(2)
1.13 Cookies-Galore (Pty) Ltd is prepared/able to pay our audit fee.
(1)
Requirement of knowledge and skill

1.14 Du Toit Inc must consider whether we have:
1.14.1 Knowledge and skill;
1.14.2 staff and time;
1.14.3 to offer a competent service.
(1)
(1)
(1)
HJB
TOE412S/105/2010
ZAC412D/105/2010
60
Engagement conditions
1.15 If Du Toit Inc accepts the engagement, they must confirm the condition per engagement
letter and confirm the following:
(1)
Auditors responsibility and management responsibility.

(2)
Secretarial services offered.

(1)
Duty to report Reportable irregularity to IRBA.

(1)
1.16 Consider whether there will be a conflict of interest with existing events if they accept
this engagement.
(1)
27
Maximum 25
2.
Audit Differences
Client:
Cookies-Galore (Pty) Ltd
Yearends:
31 January 2008
Prepared by:
Joe Mimeza
Date: 10 February 2008

(2)
Reviewed by:
Subject: Audit Differences
2.1
Aggregation of Audit Differences

NonCurrent
Assets
A/C
Payable
A/C Rec.
Inventories
Income
statement/
Retained
earnings
Prior Period
U/S Accruals
GIT
(100 000)
Current Period
Borrowing costs
Installation costs
U/S Accruals
Inventories
U/S Prov d/debts
(200 000)
(250 000)
(1)
(1)
(225 000)
(275 000) or
(295 000)
GIT
( 50 000)
(450 000)
2.2
(1)
(275000)
(1)
(295 000) or
(275 000)
(325 000)
(1)
50 000
(1)
(1)
(275 000)
200 000
250 000
225 000
325 000
295 000 or
275 000
1 195 000 or
1 175 000
Setting of Final Materiality

%
Turnover
Gross Profit
Net Profit
Total Assets
Shareholders Equity
Final materiality range is between
0.5-1
1-2
5-10
1-2
2-5
R
980 000 1 960 000 ()
880 000 1 760 000 ()
1 000 000 2 000 000 ()
880 000 1 760 000 ()
()
960 000 2 400 000
R880 000 to R1 760 000
()
HJB
(1)
61
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Justification
An important consideration is that the materiality figure must be stable, therefore equity
will not be considered.
(1)
Given the fact that the company is a manufacturer, turnover, gross profit, total assets
and net profit will be of importance.
(1)
Given the fact that inventory is the core of the business and it is likely to be misstated,
therefore we should use a conservative materiality figure.
(1)
Use total assets/gross profit for setting materiality between R880 000 and R1 760 000.
(1)
Note: As this is an area that requires professional judgement, net profit can also be
used between the ranges of R1 000 000 and R2 000 000.
2.3
Impact on materiality of audit differences.

Income is overstated by R1 175 000/R1 195 000.
Maximum
3.
(1)
18
11
Extracts of the Audit Report

Basis for Qualification Opinion
The company has capitalised certain costs on a basis which does not comply with
International Financial Reporting Standards.
(1)
As a result of this accounting treatment, property, plant and equipment are overstated by
R450 000.
(1)
Furthermore, the company has computed the cost of certain inventories on a basis which
does not comply with International Financial Reporting Standards, and has failed to provide
for certain irrecoverable debts and to accrue for certain liabilities.
(1)
As a consequence inventories are overstated by R325 000, accounts receivable are
overstated by R275 000 and accounts payable are understated by R225 000.
(1)
The above matters resulted in over-statement of net income before taxation by R1 175 000/
R1 195 000.
(1)
Qualified Opinion
In our opinion, except for the effect on the financial statements of the matter referred to in the
preceding paragraph, these financial statements fairly present, in all material respects, the
financial position of the company at 31 January 2008, and the results of its operations and
cash flows for the year then ended in conformity with the International Financial Reporting
Standards.
(3)
HJB
62
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ZAC412D/105/2010
Note
1.
The above report does not refer to the prior year audit difference, as it may be argued
that an amount of R100 000 in the circumstances would not be considered a
fundamental accounting error, nor the goods in transit error as this is considered a
soft error.
2.
An unqualified report can also be accepted with motivation and in relation to part
3.
3 Marks are awarded for the unqualified paragraph and 5 marks for motivation.
Opinion
In our opinion, the financial statements give a true and fair view of (or present fairly, in
all material respects) the financial position of Cookies-Galore (Pty) Ltd as of
31 January 2008, and of its financial performance and its cash flows for the year then
ended in accordance with International Financial Reporting Standards.
Bonus mark (1)
9
MARKERS COMMENTS:
Part 1:
Many students did not use the information in the scenario and apply it to the question.
Some students did not plan the answer prior to answering the question.
Some students did not understand the required.
Part 2:
Students did not consider calculating materiality before making a conclusion as to whether the
unadjusted differences are material or not.
Many students did not know how to calculate materiality.
Many students calculated planning materiality instead of final materiality indicating that they do
not know the difference between the two.
Students did not split the summary of audit differences between income statement and
balance sheet and between assets and liabilities. (Giving no indication of debits or credits).
The question specifically asked to prepare the answer in the form of a working paper; many
students did not do this and therefore lost easy marks.
Part 3:
Students did not make use of ISA 700 and 701 (old statement, current applicable statement is
ISA 705) to prepare their audit opinion and therefore lost easy marks.
HJB
63
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ZAC412D/105/2010
General:
Some students wrote quite a lot, but repeated the same ideas thereby wasting a lot of time.
Students did not keep to time when answering the test, more time was spent on other questions and many students did not even attempt the question. This is very poor exam technique
and indicates that students have not been answering questions under exam conditions.

(a)
Hijacked vehicle
The financial statements at 31 March are presently incorrect.
(1)
This represents an adjusting journal.
(1)
The insurance company cannot be raised as a debtor, as they have stated they will not
pay Isakhiwo Contractors Ltd out.
(1)
In terms of IAS 37 any income from the insurance company can only be recognized if
its receipt is virtually certain. In this case it is not.
(1)
The subsequent event (notification by the insurance company that no payment would
be made) gives additional information about a situation which existed at 31 March
2009.
(1)
As the existence of the truck at balance sheet date could not be confirmed/established
it was correct to remove it from the accounting records (AFS).
(1)
The full loss on the theft of the truck should be recognised in the statement of
comprehensive income at 31 March 2009.
(1)
A note, giving a full explanation, including the intention to take the insurers to court
should be included in the directors report.
(1)
A note with any additional information relating to this matter could also be included in
the financial statements for transparency purposes.
(1)
Available 9
Maximum 4
Long-term investment
This presents a non-adjusting journal.
As it stands, the investment in Big Bucks Ltd would have been shown at fair value i.e.
the quoted price on the JSE (which we would have confirmed)
(1)
This was, according to the post balance sheet date information, an over-inflated value,
by virtue of a fraud which was in existence at year-end, but which was not known.
(1)
This amounts to a contingent loss as the true value of the investment will only be known
once the liquidation of Big Bucks Ltd is completed.
(1)
(1)
HJB
TOE412S/105/2010
ZAC412D/105/2010
64
(b)
On the basis of the information available to the directors of Isakhiwo Contractors Ltd, it
is impossible to make an adjustment to the financial statements at 31 March 2009: (1)
although it is probable that the value of the asset will be impaired;
the amount cannot be reasonably estimated.

(2)
To comply with IAS37 (Contingencies) this contingency should be disclosed in the

following manner:
the nature of the contingency;
the uncertain factors (amount and timing) that may affect its future income;
a statement to the effect that an estimate of the contingent loss cannot be made.
(3)
A note should also be included informing users that interest on the investment
(dividends) is unlikely to be earned.
(1)
Available 11
Maximum
8
Schedule of audit differences and action

Description
Accounts payable/
accruals/provisions
R000
Dr/Cr
Accounts
receivable
R000
Dr/Cr
Retained
earnings
R000
Dr/Cr
Purchase invoice incorrectly

accounted for at year-end
2,000 (1)
Reclassification of debtors with

credit balances
1,500
(1)
Provision for bad debt
1,800
(1)
1,800 (1)
750
(1)
750 (1)
Accruals underprovided
2,000 (1)
1,500
(1)
Presentation marks if this schedule is presented in tabular format.
(1)
The final materiality figure of R3.5m is used, to compare the audit differences to.
(1)
When considering each audit difference individually, they do not exceed materiality and
therefore would not affect fair presentation of the financial statements.
(1)
Consider whether the audit differences in aggregate exceed materiality.
(1)
I would advise management to make the adjustments in order to reduce the total amount to
below materiality, should they exceed materiality.
(1)
If management agrees, then we wont need to qualify the report.
(1)
If they refuse, we will have to qualify the audit report.
(1)
If materiality is not exceeded, management should also be asked to adjust the financials. (1)
This will not have any effect on the audit report.
Available
Maximum
(1)
17
12
HJB
65
(c)
TOE412S/105/2010
ZAC412D/105/2010
The aggregate of all the audit differences will affect the profit as follows:
I would obtain additional evidence to verify whether the going concern basis is applicable. (1)
Depending on the significance of the going concern uncertainty, consider if the financial
statements need to be prepared on a liquidation basis.
(1)
I would inspect the financial statements to verify that the fact that there is uncertainty about
the going concern has been disclosed.
(1)
If this is disclosed we will not qualify the audit report, but will include an emphasis of
matter.
(2)
If management is not willing to disclosed, we will qualify our audit report with an adverse
opinion, because this matter is material and fundamental.
(2)
We will have to consider if there is possible reportable irregularity, due to reckless trading. (2)
Available 9
Maximum 6
MARKERS COMMENTS
General:
This was a very straight forward question. If a student studied the theory, he/she could have
passed this test fairly easily.
Students dont use to information in the question to their advantage.
Part (a):
Students dont know the basic accounting principles to differentiate between an adjusting or
non adjusting event.
Part (b):
If audit differences are asked always try to present it in a table with the relevant headings
(see solution), as it will indicate to the marker that you are on the right track and the possible
effect thereof on the financial statements. It will also assist you in your discussion regarding
the effect thereof and the necessary actions to be taken.
In this case, one presentation mark was given for presenting the schedule of audit
differences in a tabular format.
Many students gave the schedule of audit differences, but did not discuss further action they
would take or how the differences would affect the audit opinion.
Part (c):
Although the question specifically stated that you can assume that a going concern
uncertainty exists, some students explained why they feel it does not. If a question tells you
to assume something, you should assume it.
HJB
66
13.
TOE412S/105/2010
ZAC412D/105/2010
QUESTIONS AND ANSWERS ON COMPULSORY ASSIGNMENT 70
The following are the questions and answer to Compulsory Assignment 70, included in Tutorial letter
TREKALS/101/2010, which had a due date of 7 May 2010.
QUESTION 1
Which of the following is least likely to be placed on the agenda for discussion at a pre-engagement
meeting?
1.
2.
3.
4.
Purpose and scope of the engagement.

Records and client personnel needed.
Sampling plan and key criteria.
Expected starting and completion dates.
Answer
(c)
Motivation
Asked: The item that is least possible to be discussed at a pre-engagement meeting. This preengagement meeting between the auditor and the engagement client presents the opportunity to
discuss planning and internal process matters regarding the engagement. The sampling plan will
possible not be discussed, as it will not be determined until the preliminary understanding and
evaluation of controls have been completed.
QUESTION 2
During the initial planning phase of an audit, an auditor most likely would:
(a)
(b)
(c)
(d)
Identify specific internal control activities that are likely to prevent fraud.
Evaluate the reasonableness of the client's accounting estimates.
Discuss the timing of the audit procedures with the client's management.
Inquire of the client's attorney as to whether any unrecorded claims are probable of assertion.
Answer
(c)
Motivation
Procedures that the auditor might consider during the planning of the audit includes among other
things, the discussion of the time schedule with the managers of the client.
HJB
67
TOE412S/105/2010
ZAC412D/105/2010
QUESTION 3
Inherent risk and control risk differ from detection risk in that they:
(a)
(b)
(c)
(d)
Arise from the misapplication of auditing.

May be assessed in either quantitative or non-quantitative terms.
Exist independently of the financial statement audit.
Can be changed at the auditors discretion.
Answer
(c)
Motivation
Asked: The manner in which inherent risk and control risk differs from detection risk. Inherent risk is
the possibility that a material misstatement may occur in the absence of controls. Detection risk is
the risk that the auditor will not detect a material misstatement. It can be changed according to the
judgement of the auditor by changing the nature, timing and extent of the audit procedures.
Answer (a) is incorrect, because the misapplication of audit procedures can influence detection risk,
but it is independent from inherent and control risk.
Answer (b) is incorrect, because all three risks, whether quantitative or quantitative, can be
determined.
Answer (d) is incorrect, because inherent risk and control risk must be determined and cannot be
changed by the auditors judgement.
QUESTION 4
The purpose of input controls is to ensure the:
(a)
(b)
(c)
(d)
Authorisation of access to data files.

Authorisation of access to program files.
Completeness, accuracy, and validity of processing.
Completeness, accuracy, and validity of input.
Answer
(d)
Motivation
Asked: The purpose of input controls. Input controls give reasonable assurance that the data
received for computer processing is complete, accurate and valid. Input controls also relate to
dismissal, correction and re-capturing of data that was initially incorrect.
Answer (a) is incorrect, because access controls authorise access to data files.
Answer (b) is incorrect, because access control authorise access programme files.
Answer (c) is incorrect as processing controls ensure the completeness, accuracy and validity of
processing.
HJB
68
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ZAC412D/105/2010
QUESTION 5
Which of the following is not a general computer control?
(a)
(b)
(c)
(d)
Business continuity controls.

Access controls to data and programs.
Organisational and management controls.
Edit tests.
Answer
(d)
Motivation
Application controls are controls which are relevant to a specific function within the computerised
accounting system. These ensure that the information produced by the system is valid, accurate and
complete. Edit tests are performed by the computer to test the accuracy of data.
QUESTION 6
Please indicate which of the following options is NOT TRUE. Internal Control is defined by ISA 315
as the process designed and effected by those charged with governance, management and other
personnel to provide reasonable assurance about:
(a)
(b)
(c)
(d)
The achievement of the entitys objectives with regard to the reliability of financial reporting.
The effectiveness and efficiency of its operations.
All the rules regulating the audit profession.
The compliance with applicable laws and regulations.
Answer
(c)
Motivation
Management are responsible for the operating of the business and should thus be interested and
involved in implementing and ensuring functioning of internal controls. This relates to the client and
not the audit profession. The audit profession is regulated by the Auditing Profession Act.
QUESTION 7
Which of the following is an essential factor in evaluating the sufficiency of information? The
information must:
(a)
(b)
(c)
(d)
Be well documented and cross-referenced in the working papers.

Be based on references that are considered suitable.
Bear a direct relationship to the observation and include all of the elements of an observation.
Be convincing enough for a reasonable person to reach the same decision.
Answer
(d)
HJB
69
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ZAC412D/105/2010
Motivation
Asked: The essential factor in evaluating the sufficiency of information. Sufficient information is
factual, sufficient and convincing so that a mindful, knowledgeable person will come to the same
conclusions as the auditor.
Answer (a) is incorrect, because documentation and cross-referencing is suitable, but shows no
specific relation to any of the characteristics of the information (sufficiency, reliability, relevance and
usefulness).
Answer (b) is incorrect, because competence is a characteristic of reliable information.
Answer (c) is incorrect, because relevant information supports observations.
QUESTION 8
Which of the following expressions would most likely be included in a management representation
letter?
(a)
(b)
(c)
(d)
No events have occurred subsequent to the balance sheet date that require adjustment to, or
disclosure in, the financial statements.
There are no reportable conditions identified during the prior-year's audit of which the audit
committee of the board of directors is unaware.
We do not intend to provide any information that may be construed to constitute a waiver of
the attorney-client privilege.
Certain computer files and other required evidential matter may exist only for a short period of
time and only in computer-readable form.
Answer
(a)
Motivation
It is appropriate that a management representation letter includes a statement regarding postbalance sheet events.
QUESTION 9
You are the audit partner for the audit of Gonewrong (Pty) Ltd. The entity is staffed with
inexperienced personnel performing the accounting function. As a result, your audit team has found
that there has been incorrect accounting treatment for every account in the financial statements.
Management of Gonewrong refuses to adjust the financial statements. Which audit opinion will you
issue?
(a)
(b)
(c)
(d)
Qualified opinion
Disclaimer of opinion
Modified audit opinion with an emphasis of matter paragraph
Adverse audit opinion
Answer
(d)
HJB
70
TOE412S/105/2010
ZAC412D/105/2010
Motivation
When there is incorrect accounting treatment for every account in the financial statements and
management refuses to adjust the financial statements this constitutes disagreement with
management. The disagreement is material and pervasive due to the fact that it relates to every
account in the financial statements. As a result an adverse audit opinion will be issued because fair
presentation as a whole has been undermined.
QUESTION 10
Which of the following audit procedures most likely would assist an auditor in identifying conditions
and events that may indicate substantial doubt about an entity's ability to continue as a going
concern?
(a)
(b)
(c)
(d)
Reading the minutes of meetings of the stockholders and the board of directors.
Comparing the market value of property to amounts owed on the property.
Reviewing lease agreements to determine whether leased assets should be capitalized.
Inspecting title documents to verify whether any assets are pledged as collateral.
Answer
(a)
Motivation
The auditor must inspect any matter that is in contradiction with the going concern basis. Reviewing
minutes of the shareholders and directors meetings is one procedure that can be used in this
regard.
HJB

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Hons BCompt/CTA

Topics covered in this tutorial letter

Topics examined by UNISA

Topics examined by SAICA

Completion of the audit, going concern and subsequent events

Management consulting services, Special audit investigations (including

Reporting by the auditor

Self-evaluation assignment - Questions

Self-evaluation assignment Suggested Solutions

Questions and Answers of Compulsory Assignment 70

The following lecturers are responsible for this tutorial letter:

(012) 429 2269

(012) 429 6079

(012) 429 4943

TOPICS COVERED IN THIS TUTORIAL LETTER

This tutorial letter consists of the following topics:

SAICA Handbook, Volumes 2 and 3, 2009/2010.

Dynamic Auditing: A student edition (9th edition) Marx,

Due date for this tutorial letter

Second Study school

16 August 2010 11 September 2010

TOPICS EXAMINED BY UNISA

Identify, discuss and motivate any ethical, professional, statutory and/or

Evaluate whether the presentation of the annual financial statements at

King II and ethics

Requirements for widely held company and corporate governance implications.

Describe an assurance engagement and, based on your description of an

King II and ethics

Areas of sustainability reporting.

King II and ethics

Mixed Companies Act, Code of Conduct and corporate governance on validity of

How to enhance the status of internal audit.

Disclosure of directors responsibilities.

Audit of financial statements.

Composition and functions of audit committee

TOPICS EXAMINED BY SAICA

Due professional care

King II and ethics

Discuss the nature of any modifications required to the standard unqualified

King II and ethics

Relevant section in Dynamic auditing

The King Report 2002

Issued in 2002, as a followup to King I in order to incorporate changes that occurred

Issued in September 2009.

King Code of Corporate principles

Characteristics of good corporate governance

When asked a question on corporate governance we recommend

This is a very important section of King III and is often

7.4.1 Role and functions of the boards

There should be unitary Board (as opposed to multi-tiered board).

7.4.2 Composition of the Board

The board should comprise a balance of power with a majority of non-executive

Companies should disclose the remuneration of each individual director and

7.4.3 Board committees

Independent nonexecutive director

Independent nonexecutive director

Independent nonexecutive director

All members must

All members must

All members must

All members must

All members should

Executive and nonexecutive directors.