ACCA

Paper P7 Advanced Audit & Assurance

Tuition Mock Examination June 2012 Question Paper
Section A Questions 1 and 2 are compulsory and MUST be attempted. Section B You must attempt two out of three questions (answer 2 questions from questions 3, 4, and 5) Time Allowed 15 minutes 3 hours Reading and planning Writing

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 Interactive World Wide Ltd, April 2012 All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without the prior written permission of Interactive World Wide Ltd.

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This is a blank page. The question paper begins on page 4.

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Section A - There are two compulsory questions. Questions 1 and 2 must be answered in full.
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Azure, a limited liability company, was incorporated in Sepiana on 1 September 2011. In October 2011, the company exercised an exclusive right granted by the government of Pewta to provide twice weekly direct flights between Lyme, the capital of Pewta, and Darke, the capital of Sepiana. The introduction of this service has been well advertised as efficient and timely in national newspapers and on the internet. The journey time between Sepiana and Pewta is expected to be significantly reduced, so encouraging tourism and business development opportunities in Sepiana. Azure operates a refurbished 35 year old aircraft which is leased from an international airline and registered with the Pewtan Aviation Administration (the PAA). The PAA requires that engines be overhauled every two years. Engine overhauls are expected to put the aircraft out of use for several weeks. The aircraft is configured to carry 15 First Class, 50 Business Class and 76 Economy Class passengers. The aircraft has a generous hold capacity for Sepianas numerous horticultural growers (eg, of cocoa, tea and fruit) and general cargo. The six hour journey offers an in-flight movie, a meal, hot and cold drinks and tax-free shopping. All meals are prepared in Lyme under a contract with an airport catering company. Passengers are invited to complete a satisfaction questionnaire which is included with the in-flight entertainment and shopping guide. Responses received show that passengers are generally least satisfied with the quality of the food especially on the Darke to Lyme flight. Azure employs 10 full-time cabin crew attendants who are trained in airstewardship including passenger safety in the event of accident and illness. Flight personnel (the captain and co-pilots) are provided under a contract with the international airline from which the aircraft is leased. At the end of each flight the captain completes a timesheet detailing the crew and actual flight time. Ticket sales are made by Azure and also by travel agents in Sepiana and Pewta. On a number of occasions Economy seating has been over-booked. Customers who have been affected by this have been accommodated in Business Class as there is much less demand for this, and even less for First Class. Ticket prices for each class depend on many factors, for example, whether the tickets are refundable/non-refundable, exchangeable/nonexchangeable, single or return, mid-week or weekend, and the time of booking. Azures insurance cover includes passenger liability, freight/baggage and compensation insurance. Premiums for passenger liability insurance are determined on the basis of passenger miles flown. Required: (a) (b) Identify and explain the business risks facing Azure. (10 marks)

Describe how the risks identified in (a) could be managed and maintained at an acceptable level by Azure. (10 marks)

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(c)

Suggest five measures of operational performance for Azure, and the evidence that should be available to provide assurance on their accuracy. (10 marks)

Note - Assume todays date is June 11th, 2012. (30 marks)

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Holly Dayz sells inclusive tours (ie, international flights, hotel accommodation and meals) to two million customers. All hotels are independently owned and operated. The company employs 5,000 people and uses 11 leased aircraft. Holly Dayz has a representative office at each of 13 holiday locations. Their existing external auditors have recently resigned, having completed the audit for the year ended December 31st, 2011. You are an audit manager. This morning you have received the following email from a partner in your firm: To: Audit Manager From: Audit Partner Date: June 8th, 2012 Subject: Potential new audit client Good morning. Our firm has been invited to tender for the audit of Holly Dayz for the year ending 31 December 2012. The company has requested us to send a written submission indicating our interest in the assignment. As the prospective audit engagement manager (should we win this client), I would like you to identify the principal audit risks of material misstatement and other planning issues, including audit strategy, to be presented as part of our firms written submission. The invitation to tender indicates that written submissions will be used as a means of shortlisting for the presentation stage. I have obtained the companys most recent Annual Report for the year ended December 31st, 2011 and have attached a summary of relevant information for you. Attachment (i) Holidays are sold through Holly Dayzs retail travel agency, IsoTours, which has 29 outlets (2010: 31). Direct sales through call centres are the fastest growing distribution method and Internet bookings are also now offered. The internal financial control system includes: Divisional planning and budgeting systems and regular Board reviews of actual results compared to budget and prior year comparatives; An internal audit function and a review of internal audit reports by the Audit Committee.

(ii)

(iii)

Financial extracts ($m): Revenue (Note i) Operating profit before tax Tangible non-current assets Trade receivables Cash and cash equivalents Current liabilities (Note ii) 5% Convertible debt due 2015 (Note iii) 2011 942.8 27.3 109.1 29.7 138.6 (237.2) (73.0) 2010 763.7 25.7 80.3 18.2 91.0 (200.5) -

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Notes: (i) Revenue represents gross revenue receivable from inclusive tours and travel agency commissions. Revenues and expenses relating to inclusive tours are taken to the income statement on the date of holiday departure. Revenue received in advance included as Deferred Income in Current Liabilities amounts to $69.9 million (2011: $61.4 million) Debt will be redeemed at its principal amount on July 7th, 2015 unless it is converted at the option of the debt holder any time before June 30th, 2015. Annual commitments under non-cancellable operating leases are as follows ($m): Less than one year Between one and five years Five years or more 2011 4.3 16.7 17.4 38.4 2010 2.5 17.9 12.7 33.1

(ii) (iii)

(iv)

Required: (a) Explain the audit planning issues which should be included in the written submission as requested by Holly Dayz. Respond to the partners email. (15 marks) Suggest and comment on appropriate selection criteria which should be used by Holly Dayz in its evaluation of submissions received, when selecting an appropriate new external auditor. (10 marks) Define money laundering and describe the client procedures specific to money laundering that your firm should perform should you be nominated as auditor of Holly Dayz. (5 marks)

(b)

(c)

Assume todays date is June 11th, 2012. (30 marks)

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Section B - There are three questions of which you must answer TWO.
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(a) Explain the importance of the role of confidentiality to the auditor-client relationship and explain current ethical guidance in this area. (8 marks) Your firm acts as auditor and adviser to Blake Seven, a private limited company, and to its four directors as individuals. The company is owned 50% by Brad Capella, 25% by his wife Minerva and 10% by Janus Trebbiano. Brad is the chief executive and Janus the finance director. Januss sister, Rosella Trebbiano, has recently resigned from the executive board, following a disagreement with the Capellas. Rosella has now formed her own company, Blakes Heaven, in competition with Blake Seven. Rosella is currently negotiating with her former co-executives the profitrelated remuneration due to her, and the sale of her 15% holding of shares in Blake Seven to one or all of them. Rosella has contacted you to find out Brads current remuneration package since he refuses to disclose this to her. She has also requested that your firm should continue to act as her personal adviser and become auditor and adviser to Blakes Heaven. Required: Comment on the matters that you should consider in deciding whether or not your audit firm can comply with Rosellas requests. (12 marks) (20 marks)

(b)

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You are the manager responsible for the audit of Lamont Co. The companys principal activity is wholesaling frozen fish. The draft consolidated financial statements for the year ended 31 March 2012 show revenue of $67.0 million (2011 $62.3 million), profit before taxation of $11.9 million (2011 $14.2 million) and total assets of $48.0 million (2011 $36.4 million). The following issues arising during the final audit have been noted on a schedule of points for your attention: (a) In January 2012 a chemical leakage from refrigeration units owned by Lamont caused contamination of some of its property. Lamont has incurred $0.3 million in clean up costs, $0.6 million in modernisation of the units to prevent future leakage and a $30,000 fine to a regulatory agency. Apart from the fine, which has been expensed, these costs have been capitalised as improvements. (7 marks) While the refrigeration units were undergoing modernisation Lamont outsourced all its cold storage requirements to Hogg Warehousing Services. At 31 March 2012 it was not possible to physically inspect Lamonts inventory held by Hogg due to health and safety requirements preventing unauthorised access to cold storage areas. Lamonts management has provided written representation that inventory held at 31 March 2012 was $10.1 million (2011 $6.7 million). This amount has been agreed to a costing of Hoggs monthly return of quantities held at 31 March 2012. (7 marks) Lamont owns a residential apartment above its head office. Until 31 December 2011 it was leased out for $3,000 a month. Since 1 January 2012 it has been occupied rent-free by the senior sales executive. (6 marks)

(b)

(c)

Required: For each of the above issues: (i) (ii) Comment on the matters that you should consider; and State the audit evidence that you should expect to find,

in undertaking your review of the audit working papers and financial statements of Lamont Co for the year ended 31 March 2012. Note. The mark allocation is shown against each of the three issues. Assume todays date is June 11th, 2012. (20 marks)

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(a)

Quality control policies and procedures should be implemented at both the level of the audit firm and the individual audits. Required: Give examples of quality control procedures relevant to each individual audit assignment. (5 marks)

(b)

You are an audit manager in Ebony, a firm of Chartered Certified Accountants. Your specific responsibilities include planning the allocation of professional staff to audit assignments. The following matters have arisen in connection with the audits of three client companies: (i) The Finance Director of Almond, a private limited company, has requested that only certain staff are to be included on the audit team to prevent unnecessary disruption to Almonds accounting department during the conduct of the audit. In particular, that Xavier be assigned as accountant in charge (AIC) of the audit and that no new trainees be included in the audit team. Xavier has been the AIC for this client for the last two years. (5 marks) Alex was one of the audit trainees assigned to the audit of Phantom, a private limited company, for the year ended 30 September 2011. Alex resigned from Ebony with effect from 31 May 2012 to pursue a career in medicine. Kurt, another AIC, has just told you that on the day Alex left he told Kurt that he had ticked schedules of audit work as having been performed when he had not actually carried out the tests. (5 marks) Scooby has drafted its first Report to Society which contains health, safety and environmental performance data for the year to 31 March 2012. Amy, the audit senior, has filed it with the comment that it is to be dealt with when all other information for inclusion in the companys annual report is available. (5 marks)

(ii)

(iii)

Required: Comment on the ethical, quality control and other professional issues raised by each of the above matters and their implications, if any, for Ebonys staff planning. Note. The mark allocation is shown against each of the three issues. Assume todays date is June 11th, 2012. (20 marks)

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