Auditing

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Question 1

Wallace & Davey Partners, as an chartered accounting firm, should seriously consider the current situation and relative factors before accepting the offer which performs the external audit work of AdoreU Children Fashion Ltd. Apart from the compliance with Law and Regulations, Wallace & Davey Partners also needs to follow the standards on professional ethics during performing the audit work. The following will address the potential threats to professional ethics then followed by the corresponding safeguards.

Self-interest threat: Firstly, the revenue from AdoreU is very vital for Wallace & Davey since it accounted for 16% of the total revenue. It is highly likely that Wallace & Davey will concern too much and perform inadequate work. As a result, the self interest threat exists. Safeguards could be either remove the members from inquiry altogether or perform an independent review of any significant judgements by that individual while on engagement. Where an audit firm provides assistance in a client’s internal audit activities, or under-takes the outsourcing of some of the activities, any self‐review threat created may be reduced to an acceptable level by ensuring that there is a clear separation between the management and control of the internal audit by audit client management and the internal audit activities themselves.

Neil Jenkins, the managing director of AdoreU, who plays an important role in the company’s operation, at the same time, his daughter is working for Wallace & Davey Partners as a graduate auditor. The close relationship between them may arise a familiarity threat. Significance of threat could be dependant on the role, duration of time working at the firm and the overall structure of the firm. Possible safeguards could be that Wallace & Partners could assign her daughter on another project to avoid such threat. Another possible safeguard could be assigning an assurance team that is a full time experienced auditor (not graduates) with the audit graduate.

Finally, the internal audit team of AdoreU consists of three members who are also included in the board of directors of AdoreU. This would create a self-interest,familiarity and intimidation threats when auditing. This is concerning and could potentially breach the code of ethics, if the situation is not handled with effective safeguards. Internal auditing team could easily manipulate the information they distribute or mislead Wallace & Davey partners when they come to perform their jobs. The three directors could even threaten their own auditing team to give misleading information to Wallace & Davey partners, which would lead to material misstatement and Wallace & Davey partners could be reported for fraudulent activity. Safeguard could be to avoid the three board of directors during the audit procedures and to do through review of the work they have completed. (somebody fix)

Question 2

Use the following format to present your answer. Identify the risks (facts) (a)	The potential impact on the assertions of financial statements or the audit. (b)	Audit strategies or procedures to address the risks (c)
1. AdoreU, a company which is running business in child-ware industry. But Wallace & Davey does not have any experience in this industry, and it is the first time performing audit work.	· Assumptions of auditors’ preliminary knowledge would be made so some disclosures would not be mentioned particularly that cause some hidden misstatements would not be found. · Legal exposure for the auditors · First time auditing requires more time and effort to understand client.	a. Seek the expertise’s opinion b. Compare the ratio with other similar company (Industry) i.e. size, revenue, etc. in the same industry. c. Predominantly substantive testing (ADD)
2. Wallace & Davey Partners also provide tax and treasury advice to AdoreU.	As factors in Part A mentioned, Wallace may provide an inappropriate or even wrong advice. AdoreU may breach the law and regulations and has a legal liability. Furthermore, the reputation would be a damage of reputation. The related cost would be huge and unpredictable	a. Address all the service and responsibility in the engagement letter b. Separation of work to ensure the independence. c. Seek for external expertise’s advice after the permission of the client.
3. Mr Jenkins’s opinion on inventory would be inappropriate. The decrease of loss cannot show the reduced inventory level. What’s more there is a decrease in inventory turnover from the calculation in inventory turnover. (?)	The statement of director is very important and could bring many impacts, such as the inflation of share price, change of operating strategy and even the overall market of the industry.	a. Mr Jenkins need to make sure his speech and expression as precise as he can. b. Auditors need to advice on his speech that make it is supported with evidence and convincing. c. Auditors need to do an independent inquiry of their own to ensure Mr.Jenkins opinion is legitimate. (Independence of mind)
4. Previous auditors argued 10% inventory’s value which should be written off. With the insistence of management team, this 10% inventory was show on balance sheet at the original value.	10% would be material to the financial statements which could be deemed as misstated. Company may face the legal lability. Company is too optimistic and make inappropriate predictions.	a. Auditors need to check the amount, effective realized value of inventory. They could compare with similar products’ value in the market and show the net realized value in the balance sheet. b. They should even perform an inventory count (physical) at the warehouse. c. Check sales records of that inventory compared to the industry.
5. Three of five directors are also the member of the internal audit committee. (Possibly remove)	Even though with the code of conduct and ethics guidance, it’s probable that the directors would manipulate the financial statements and make material misstatements which could mislead the shareholder and stakeholders.	a. Form a new audit committee which makes sure the separation of duty. b. Make a more strict guidance. c. Detailed internal audit report in a short and regular time.
6. AdoreU currently run business in three country, New Zealand, Australia and Ireland. Since the distance and different culture between NZ and Ireland, Wallace & Davey needs to carefully check the whether its financial statements are true and fair according to the NZ IFRS.	Financial statements might be misleading or even deceptive. The law and regulations might be different in Ireland. (change) Ensure the financial statement performed for sections of the financial statements (international) also comply with the NZ IFRS. Any above possibility could cause material misstatements on the consolidate financial statements.	a. Wallace & Davey needs to talk with the audit team in Ireland, and check the reasonableness of the financial statements. b. Wallace & Davey needs to do a research and have a basic knowledge of Ireland’s law and culture. (?)
7. AdoreU operates in a global market and have account receivables in five different currencies which means the currency effect must be considered. The currency may be fluctuate drastically and cause gain or loss.	The resource of currency rate used must be consistent and effective. And any financial instruments used to reduce the risks must be also disclosed in the financial statements. Otherwise, the financial statements are misrepresented.	a. Check the reasonableness and time period of the source of currency exchange rate. b. Check the actual financial instruments it currently has and whether they are showed in the financial statements.
8. Mr Jenkins states that the movement of interest bearing liabilities is a good sign of financial condition, however, from the previous auditor’s statement and dramatically deceased interest coverage ratio, the relationship with bank is very intensive and bank may refuse to offer more debt for the new production line, which requires an investment.	The company may suffer a hard time in cash flow management, so they might raise money in other possibles method. These methods could be inappropriate or even illegal. (?)	a. Wallace & Davey should also focus on the statement of cash flow to ensure no material misstatement. b. They should talk with the bank about the debt situation after the permission of AdoreU c. Independent review of the clients debt contracts with the bank.
9. Mr Jenkins is developing and managing a new project, he believes this project would bring new chances and improve the overall company’s situation. Investment for this project is needed. The revenue has decreased by 1% with an 1% increase in gross profit margin.	The profit and loss statement shows the overall performance of AdoreU, it is hard determine one project’s performance by several figures. The financial statements might be manipulated to “achieve”the promised performance and attract more investment.	a. Wallace needs to required the detailed notes and check them throughly. b. Check the investment distribution and review the corresponding performance. c. Understand the market demand of this particular product line. (advisory) d. Study the industry about the resources.
10. Plant, property and equipment accounts nearly 30% of total asset, straight line depreciation method is used and impairment loss is depends on the overall performance of other stores.	The actual condition of the PPE is not revealed, the condition might be not same as expected. The depreciation method used may not be appropriate. The realistic condition might be better or worse which will lead to a higher or lower value of total asset.	a. Wallace & Davey needs to check the condition of high value PPE and their realistic value. b. The depreciation method and revaluation method need to be tested, adjustments need to be made if the current methods are inappropriate.