Risk Analysis in Advanced Computer Solutions Limited
There is an increased obligation for the auditors for analysing and verifying the company’s financial statements in order to make sure that the material misstatements are not included within it in a way that the stakeholders can be offered with suitable information that can support their decision making process (Auasb.gov.au. 2019). When such financial reports are prepared, it is important to make certain important assertions. Such audit assertions are included proclamations conducted by companies while preparing the financial statements. The major causes for which these assertions are employed encompass making sure the suitability along with suitable financial disclosure information with the support of the financial statements (Baharud-din, Shokiyah and Ibrahim 2017). It is important for the auditors to analyse the manner by which the companies employ such assertions as it can result in audit risk related with improper audit assertion use. In case such assertions are observed to be at risk, they require making sure that these can be segmented within the “Key audit matters” in compliance with ASA 701. The report is focussed on analysing the audit risk certification along with the assertions from the given two companies.
As per the offered information, the Advanced Computer Solutions financial statements include material misstatements within inventory that lead to audit risk (Boolaky and Omoteso 2016). The two major assertions those are conducted with consideration to inventory are indicated under:
(a) Risk Assertion with Respect to Inventory:
Accuracy and valuation: As per such assertion, this acts as statements within which all the figures indicated within the financial statement are devoid of any errors and these are relied on suitable asset valuation, equity balances along with liabilities. In case of Advanced Computer Solutions it is gathered that the company has agreed to supply items at a specific price that is less than 10% of the cost price (Fernandez-Feijoo, Romero and Ruiz Blanco 2018). For this reason, it is important to carry out inventory valuation suitably within the net realizable amount. In addition to that, the company’s computer presentation package is dealing with suspected software concern. For this reason, it is important for the company to recognise the net realizable amount for the selling goods within the annual inventory.
Existence: Based on such assertion, the inventory based transactions is required to be suitably reported. The supply and recepts related with the product documents associated with inventory support to the companies in carrying out the same. It is also not suitable to encompass the previous year’s saes within stock of the recent year as this might lead to faulty valuation of inventories. In the case of this organization, in the year 2017 18% of sales and in 2018 26% of sales were included within the current year’s stock (Fu, Carson and Simnett 2015). This can be because of the inward return due the software concerns. In addition, the accounting judgements along with anticipations of the management are involved within the inventory valuation that puts assertion at high risk.
Key Assertions at Risk
(b) The Audit Processes Related with Identified Risks:
Audit procedure associated with accuracy and valuation:
In order to evaluate such audit assertion, the auditors require analysing the processes within the physical stock count in a methodological manner. This might facilitate the auditors in attaining an explained knowledge related with internal control system in the company with respect to inventory count. In addition, the physical existence of the auditor is important while carrying out the valuation process of the inventory (Jeacle 2017). In addition, the auditors are required to ensure while carrying out certification of every tag that is related with stock count. Lastly, the auditor requires analysing the inventories transferred to new areas through attaining count confirmation from the main area.
Audit procedure related with existence:
In accordance with existence assertion, it is important for auditors to evaluate the monitor the inventory tags for thee receipts of attained goods and those attained rom the suppliers. However, it is important to analyse whether an irrational events took place within inventory count has led to certain specific concerns (Legislation.gov.au. 2019). Moreover, the auditor can also evaluate the existence assertion through analysing the property, plant and equipment register in the first year of audit client. Lastly, the management judgements are required to be analysed along with accounting anticipations implemented by companies in carrying out valuation of inventory.
(c) ASA 701 Aligned with Key Audit Matters:
ASA 701 Requirements: The key audit matters as per “Section 7 ASA 701” are important to be ascertained with developing an audit opinion along with disclosing it within the audit report. In alliance with “ASA 701 Section 8”, the key audit matters are explained to be the issues for which the auditors are responsible to explain while auditing a company’s financial statements (Lesage, Ratzinger-Sakel and Kettunen 2017). For the same, the company’s governance authority is considered to be the discussion approach. “ASA 701 Section 9” necessitates the auditors to maintain alliance to some objectives in evaluating the key audit matters. This encompass certain aspects within financial statements likely to give increased material misstatement risk, existence of doubts in accounting judgements along with impacts and estimates of the major events on the audit of financial statements. Lastly, based on “Section 10 of ASA 701”, the responsibility of the auditor is to consider the important events for audit of financial statements (Marques 2019).
Importance of key audit matters: The recognised risk assertions encompass three major rationales deemed necessary within key audit matters. Due to improper valuation of inventory, the material effect likability can be present in the Advanced Computer Solution Limited’s financial statements (Boolaky and Omoteso 2016). Moreover, there are several uncetainities within the accounting judgements and estimations employed by the management for valuation of inventory. In addition, inventory transfer within six locations might have a drastic impact on the audit of the financial statements.
Substantive Audit Procedures for Accuracy and Valuation
Key audit matters disclosure:
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Key audit matters |
Response of audit scope |
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Transfer of Inventory: There has been inventory transfer from one to six places that is the major consideration in inventory valuation. Moreover, this valuation encompasses the management assumptions and estimations (Boolaky and Omoteso 2016). |
The processes those are needed to be carried out in valuation of inventory includes: · Recomputing the weighted average expense along with those aspects needs to be aligned with past purchase invoices for the inventory goods sample. · Monitoring by the management of ageing report through considering an inventory goods sample to previous recorded invoice (Boolaky and Omoteso 2016). |
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Previous year sales consideration in inventory of recent year: Due to consideration of sales of previous year in the current year, it is evident that it is a considerable audit matter. |
In order to carry out the inventory valuation certain processes are needed to be followed: · Monitoring the net realizable value based on inventory lines and current selling prices. · Recompilation of the inventory |
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High return level resulting in software concerns: Due to a complex software system as changing integration level is identified that might have effect on the integrity of the financial reporting and is also important for audit (Boolaky and Omoteso 2016). |
To deal with such concern, the undermentioned processes must be followed: · Monitoring the IT control designs related with the financial reporting systems · Communication with the management concerning IT environment along with important financial processes (Boolaky and Omoteso 2016). |
The Green Machine Limited Company’s case offers an overview within which there is concern observed associated with plant, property and equipment with respect to accumulated depreciation carried forward, cost, and additions along with disposals within the depreciation expenses and within a specified period (Fu, Carson and Simnett 2015). The below mentioned are within risk in consideration to the mentioned assets:
(a) Risk Assertion related with property, plant and equipment:
Categorization: As per the audit assertions, the company is committed in maintaining suitable classifications related with their plant, property and equipment. In addition, with support of such assertion the companies might make sure that suitable division of capital expenditures and revenue with the PPE (Fu, Carson and Simnett 2015). For this reason, it is important in sustaining the expense based information for suitable categorization. As per this case, the insufficient categorization of the revenue expenditure along with capital can be recognised and this impacts the audit categorization assertion. For this reason, it might also be stated that the employed estimates along with judgements can turn out to be improper that can result in improper expense categorization that leaders such assertion at risk (Birkey, Michelon, Patten, and Sankara 2016).
Valuation: In alliance with specific assertion, the companies are required to record all the items within their balance sheet after suitable valuation. In addition, PPE is recorded at cost after lessening the accumulated depreciation (Fu, Carson and Simnett 2015). The calculation of accumulated depreciation is conducted by means of straight line method for the Green Machine Limited. In addition, the company has implemented a depreciation rate that is decreased than the actual rate. For this reason, the non-current asset’s valuation might not be appropriate in such case. This improper valuation can result in high net profit and for this reason the impact might be material within the financial statements. Lastly, the accounting estimations along with management judgements are employed for computing depreciation that might be highly inappropriate (Fu, Carson and Simnett 2015).
(b) Audit procedures related with identified risks:
Audit procedure related with categorization: In this risk assertion, the auditor might carry out review of the PPE based revenue expenditure and capital in order to realise the same in an efficient way. In addition, the policies related with the company’s expense capitalization that needs re-investigation. Moreover, the source documents related with PPE expenditures within another important step required to be implemented by auditors.
Audit procedure related with valuation: In this particular risk assertion, the considerable audit procedure might be to review certain mechanism along with policies of the company so that the rate of depreciation might be effectively ascertained (Fu, Carson and Simnett 2015). Other than that, the rates of depreciation are calculated for the effective PPE valuation. Additionally, an increased investigation is needed that is based on the residual amounts associated with PPE along with the profit and loss from a part of PPE sale. The auditor also requires considering the accounting anticipations certification along with the necessary management judgements within depreciation method.
Substantive Audit Procedures for Existence
(c) ASA 701 related with Key Audit Matters:
ASA 701 Requirements: The analysis of the key audit matters as per “ASA 701 Section 7” is important along with offering audit opinion through combining two aspects based on which information must be communicated and disclosed within the auditor report (Lesage, Ratzinger-Sakel and Kettunen 2017). It is explained within “ASA 701 Section 8” that the key audit matters acts as issues those are deemed to be inevitable by the auditor while they carry out any company’s financial statements auditing. So it is important to be involved within a discussion with management of the mentioned companies.
“ASA 701 Section 9” explains that the auditors must follow some objectives in analysing key audit matters. This is for the reason that this investigation might lead to recognition of audit risk and material misstatements. Such objectives are explained below:
- Existence of issues within accounting judgements and estimations of the management
- Areas within financial statements encompassing high risk of material misstatements
- Impact of major events within the audit of financial statements
Based on “ASA 701 Section 10”, the auditors are liable to take into account certain major events or concerns important at the time of auditing a company’s financial statements (Lesage, Ratzinger-Sakel and Kettunen 2017).
Key audit matters Importance: In accordance with ASA 701, the recognised risk assertions might be adjudged as a part of key audit matters due to certain causes. The first cause is the improper depreciation rates use along with improper segmentation of capital and revenue expenditure. This can result in material impact in the form of operating expenses understatement along with net income overstatement (Lesage, Ratzinger-Sakel and Kettunen 2017). In addition the aforementioned areas within the case of Green Machine Limited consider considerable accounting estimations decided by management along with judgements including uncertainties. Moreover, because of improper deprivation rate implementation along with segregation of costs, important transactions or events took place that is considered to have material impact at the time of audit the company’s financial reports.
Key audit matters disclosure:
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Key audit matter |
Response of audit scope |
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Improper categorization of capital and revenue expenses: With taking into account every vital factor, there is a revenue expense capitalization along with including capital expenses within the consolidated profit and loss and such event is vital in audit functions. In addition, this considers the audit based anticipations and judgements (Boolaky and Omoteso 2016). |
The process below is to be followed in dealing with the concerns: · Realizing the techniques within companies long with the document bases for suitable judgements and estimations. · Analysing the PPE based capital expenses as well as revenue · Source documents authorization associated with PPE · Expense capitalization based policies are to be repeatedly reviewed |
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Implementation of low depreciation rates associated with plant, property and equipment: The company has followed actual depreciation rate in attaining net PPE. This rate implementation might have certain material impact on the company’s financial reports (Boolaky and Omoteso 2016). |
To address the concern the following processes must be followed: · Analysis of major anticipations employed to attain a PPE based recoverable amount and whether any leases are segmented in the difficult lease agreements. · Analysis is to be conducted relied on a simple in revealing the mathematical accuracy associated with cash flow models along with ensuring data within current forecasts along with approved budgets (Boolaky and Omoteso 2016). · Disclosure suitability evaluation encompassed within financial reports · Carrying out sensitivity analysis for major assumptions such as focus on operating product drivers, revenue growth rates along with discount rate employed impairment models. |
Conclusion:
The report was focussed on analysing the audit risk certification along with the assertions from the given two companies. It was gathered that in order to evaluate such audit assertion, the auditors require to analyse the processes within the physical stock count in a methodological manner. This might facilitate the auditors in attaining an explained knowledge related with internal control system in the company with respect to inventory count. As per the audit assertions, the company is committed in maintaining suitable classifications related with their plant, property and equipment. Due to consideration of sales of previous year in the current year, it is evident that it is a considerable audit matter. In addressing issues with key audit matters carrying out sensitivity analysis is important for major assumptions such as focus on operating product drivers, revenue growth rates along with discount rate employed impairment models. Analysis is to be conducted relied on a sample in revealing the mathematical accuracy associated with cash flow models along with ensuring data within current forecasts along with approved budgets.
References:
Auasb.gov.au., 2019. [online] Available at: https://www.auasb.gov.au/admin/file/content102/c3/ASA_701_2015.pdf [Accessed 21 Jan. 2019].
Baharud-din, Z., Shokiyah, A., and Ibrahim, M. S. 2017. Effects of Strong Internal Audit Departmental Setting in Assessing Practice and Evaluation of Organizational Performance. ICOPS2017 eProceedings, 880.
Birkey, R., Michelon, G., Patten, D.M. and Sankara, J., 2016. Does assurance on CSR reporting enhance environmental reputation? An examination in the US context.
Boolaky, P. and Omoteso, K., 2016. International standards on auditing in the international financial services centres: What matters?. Managerial Auditing Journal, 31(6/7), pp.727-747.
Fernandez-Feijoo, B., Romero, S., and Ruiz Blanco, S. 2018. Regional differences in industry specialization in the sustainability assurance market. Management Decision.
Fu, Y., Carson, E. and Simnett, R., 2015. Transparency report disclosure by Australian audit firms and opportunities for research. Managerial Auditing Journal, 30(8/9), pp.870-910.
Jeacle, I., 2017. Constructing audit society in the virtual world: the case of the online reviewer. Accounting, Auditing & Accountability Journal, 30(1), pp.18-37.
Legislation.gov.au., 2019. ASA 701 – Communicating Key Audit Matters in the Independent Auditor’s Report – December 2015 . [online] Available at: https://www.legislation.gov.au/Details/F2015L02016/Explanatory%20Statement/Text [Accessed 18 Jan. 2019].
Lesage, C., Ratzinger-Sakel, N.V. and Kettunen, J., 2017. Consequences of the abandonment of mandatory joint audit: An empirical study of audit costs and audit quality effects. European Accounting Review, 26(2), pp.311-339.
Marques, R.P.F., 2019. Continuous Assurance and the Use of Technology for Business Compliance. In Advanced Methodologies and Technologies in Business Operations and Management (pp. 429-441). IGI Global.
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