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Paper F8
Audit and Assurance
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Mock Examination
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Question Paper
Time allowed
15 minutes
3 hours
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Page 1 of 7
Question 1
All-Eco Co
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The company has computerised inventory records. The system records inventory levels,
costs, sales price, and movement history. It can identify the supplier of each item of
inventory and when it was purchased. The system integrates with the order system to
the extent that customers can see the level of inventory available when their order is
placed.
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The company operates a perpetual inventory system. All inventory items are counted at
least once every six months, with inventory counts taking place once a month. After
each count, differences (which usually relate to damaged goods) are validated and
authorised by a member of staff not usually connected with inventory and then amended
on the system.
All-Eco Co has experienced rising prices of goods during the year.
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Required:
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(b) List the audit procedures you should perform to confirm the completeness and
existence of inventories in the financial statements at All-Eco Co. For each
procedure, explain the purpose of that procedure. (12 marks)
(c) List the substantive procedures you should perform to confirm the valuation of
inventories in the financial statements at All-Eco Co. For each procedure,
explain the purpose of that procedure. (6 marks)
(d) Discuss the extent to which Computer Assisted Audit Techniques (CAATs)
might be used in your audit of inventories at All-Eco Co. (8 marks)
(Total: 30 marks)
Page 2 of 7
Briefly explain the reasons for auditors documenting their work. (3 marks)
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(a)
Question 2
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(b) SSA 530 Audit sampling and other means of testing states that in determining
the sample size, the auditor should consider whether sampling risk is reduced to an
acceptably low level.
Required:
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List six factors that influence sample sizes for tests of details. (3 marks)
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(Total: 10 marks)
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Page 3 of 7
Question 3
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Knowing that you work for an audit firm with many large companies as clients, he has
asked you for an update on corporate governance regulation, particularly those aspects
that relate to audit.
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Required:
You have been asked to prepare a memo which provides key information on the
principles of good corporate governance.
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(i)
(ii)
(10 marks)
(Total = 20 marks)
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(b) The role and responsibilities of the audit committee. (10 marks)
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Question 4
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You are the senior in charge of the audit of Sparks Co, a distributor of electrical
components. A member of the audit team has undertaken a review of the accounting
and control systems and has identified and confirmed the following significant points of
weakness:
(1) Purchases
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Purchase ledger clerks amend the payables master file with details of new suppliers
on oral authority of the financial controller. No printout of amendments is obtained.
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(2) Sales
Credit limit parameters within the sales order processing software are unrealistically
low, resulting in a high volume of items being rejected as exceptions.
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The monthly bank reconciliations prepared by the assistant accountant are not
reviewed.
(4) Contingency planning
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Required:
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(a)
Note: You are not required to repeat the weaknesses in your answer.
(b)
Explain how a report on these matters written by internal audit would differ
from the external auditors' report to management. (8 marks)
(Total = 20 marks)
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Question 5
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Creation Co is a listed construction company with an annual revenue of $350 million and
its draft income statement shows an operating profit for the year ended 31 December
20X8 of $40 million. This is the first audit by the audit firm. Enquiry of the previous
auditor revealed no reasons for concern. On completing audit work at the company's
premises, the audit senior drafts a memo, extracts from which are reproduced below.
(a) Inventory valuation
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Inventories include $7 million, at cost, for scrap rubber from used car tyres. This material
is widely used as a road surface in other countries. Contracts for road building with this
country's Highways Agency, the state authority for road construction, do not currently
permit the use of this material. However, the matter was known to be under review and,
on being offered a special purchase of this material, Creation speculated on a
favourable outcome of this review and purchased the material. In February 20X9, shortly
before the financial statements were approved by the directors, the Highways Agency
reported that it would not, currently, accept the use of this material. If used on nonHighways Agency contracts the material's net realisable value would not exceed $2
million. The finance director maintains that the issue of the Highways Agency report was
a non-adjusting post balance sheet event. The write down of the inventory should,
therefore, be reflected in the next period's financial statements.
(6 marks)
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(b) Depreciation
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In 20X4 the company purchased two computer controlled earth movers at a cost of
$2,500,000 each and a further two at the same price in 20X5. Depreciation has been
provided at 10% straight line, the same basis as it previously depreciated conventional
earth movers. This year, 20X8, the company has decided that improvements in
technology made it worthwhile scrapping their first two computer controlled earth movers
and replacing them with the latest model at a cost of $4,000,000 each. The company's
chief engineer tells you that technology is developing so rapidly it appears likely they will
continue to replace these machines every five years. In spite of this the finance director
claims that the depreciation rate of 10% is in line with the industry standard and reflects
the physical life of the machines. He argues that continued improvements in technology
cannot be foreseen and that there is no justification for increasing depreciation to 20%
because of the possibility of technological obsolescence.
(7 marks)
(c) Contingent liability
The company is being sued for $50 million by the Highways Agency for defective work
on a recently completed road. The company maintains that it met the Highways
Agency's specification and it is the Agency's engineers who are at fault in drawing up the
specification. Creation maintains that it has no case to answer, that the possibility of loss
is remote and that the claim need not be disclosed as a contingent liability. An
investigative journalist has recently published an article suggesting that other roads
constructed by the company exhibit similar faults. The managing director has admitted
that the company's road building techniques are under investigation by the Highways
Agency. If the company were to lose the case its future going concern would be
threatened.
(7 marks)
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Required:
Explain the effect of each matter
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(Total = 20 marks)
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(ii) if the company were to refuse to amend the financial statements, on the
auditor's report. Your answer should consider materiality where appropriate.
Page 7 of 7