THE PUBLIC ACCOUNTANTS EXAMINATIONS BOARD

A Committee of the Council of ICPAU

CPA(U) EXAMINATIONS LEVEL ONE

AUDIT THEORY PAPER 7
THURSDAY, 09 DECEMBER 2010
INSTRUCTIONS TO CANDIDATES: 1.
Time allowed: 3 hours 15 minutes.

The first 15 minutes of this examination have been designated for reading time. You may not start to write your answer during this time. 2. 3. 4. 5. 6. Attempt all questions in Sections A and B, and any two questions in Section C. Section A has twenty compulsory multiple-choice questions, each carrying 1 mark. Section B has one compulsory question carrying 30 marks. Section C has three questions and only two are to be attempted. Each question carries 25 marks. Please read further instructions on the answer booklet, before attempting any question.

2010 Public Accountants Examinations Board

Audit Theory Paper 7

Question 1 (i) (a) (b) (c) (d) (ii)

SECTION A

An engagement letter is described as a letter: written by an auditor whose purpose is to describe the auditors responsibility. which clearly defines the responsibilities of the auditor and clients management and acts as a written confirmation of the auditors acceptance. of acceptance sent to management. sent by the auditor responding to the previous discussions between the auditor and the management.

The staff that would be most suitable for the audit of a client engaged in e-commerce would be those who have: (a) (b) (c) (d) accumulated adequate continuing professional development hours. appropriate technical expertise. commercial expertise. been coached by more experienced staff about independence on audits. mathematical correctness of the vouchers. activities occurring after the reporting date. physical controls over the vouchers. verification of assets and liabilities.

(iii)

When verifying vouchers, an auditor would pay particular attention to the: (a) (b) (c) (d)

(iv)

An internal control questionnaire is an essential audit document because it: (a) (b) (c) (d) records the clients internal audit and accounting functions. records queries raised during the audit. enables the auditor to document evidence. enables use of numerous audit symbols on working papers. Invalid data is used to check that clients software processes data accurately. Test data is devised by the auditor to check accounting software operation. Invalid data may corrupt files if live files are used.

(v)

Which of the following is true about test data in computer auditing? (i) (ii) (iii)

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Audit Theory Paper 7

(iv) (a) (b) (c) (d) (vi)

Test data is used to check that clients software processes the data accurately. (i) and (iv). (ii) and (iii). (i) and (ii). (iii) and (iv).

Which of the following situations would be an indication of irregularities in an organisation? (a) (b) (c) (d) Existence of an audit committee. Closing of cash books immediately after the year end. Establishment of systems of internal control. Transactions with overseas companies in tax havens.

(vii)

Under the rules of professional conduct, conflict of interest may arise as a result of: (a) (b) (c) (d) acceptance of goods and services from an audit client. involvement in receivership, liquidation and audit of client companies. having beneficial interest in shares and investments of client companies. having undue dependence on an audit client.

(viii) When assigned to apply test checking during an audit, what would your sample size mainly depend on? (a) (b) (c) (d) (ix) Sources of audit evidence. Varieties of evidence to be used. The auditors attitude to each transaction. The audit risk attached.

Which of the following is true of a letter of representation by management? (a) (b) (c) (d) Should be signed at a high level. It is formally approved at an annual general meeting ideally attended by the auditor. Should be used as a standard letter at each audit. The auditor can rely on it to avoid carrying out tests.

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Audit Theory Paper 7

(x)

Internal control in an organisation can be limited by: (a) (b) (c) (d) potential human alertness to error and fraud. segregation of duties. abuse of responsibility. control procedures.

(xi)

What should an auditor consider before deciding to seek a specialists opinion during an assignment? (a) (b) (c) (d) Sufficiency of knowledge on the matter at hand. The competence of the specialist. Holding a consultation between auditor, client and specialist. Evaluation of the specialists evidence.

(xii)

In a current audit file, sections related to statement of financial position items should include: (a) (b) (c) (d) a record of queries raised during the audit and those coming forward from previous years. a schedule of important statistics such as analytical reviews. evidence of external verification. a checklist for compliance with statutory requirements.

(xiii) Procedures to confirm the quantity of inventory held by a company at the reporting date would include: (i) (ii) (iii) (iv) (a) (b) (c) (d) (a) (b) (c) (d) inventories to be dispatched during the day of the count should be segregated and excluded from the final inventory figure. audit of perpetual inventory systempurchase, receipt, requisition and issue notes. inventory be arranged in an orderly manner with each item tagged and clearly marked after counting. review of the internal control system relating to inventories. (i) and (ii). (i) and (iii). (iii) and (iv). (ii) and (iv). staff duties are segregated. cashiers and sales staff are rotated regularly. accounts are prepared based on the historical cost convention. transaction reconciliations are irregular.

(xiv) Teeming and lading could be a common practice where:

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Audit Theory Paper 7

(xv)

Risk to the auditor arising from particular audits can be best minimised by: (a) (b) (c) (d) ensuring that audit files are kept in a more compact form. encouraging online supervision of audit staff. briefing of audit staff and ensuring comprehensive documentation. sending a letter of weakness to the client and demanding for management responses. To review evidence of cost and valuation. Because audit reports have an impact on how auditors gather evidence. To enable auditors form a correct opinion. Because auditing demands different approaches for auditors. asset costs are in line with current market prices. ownership of assets is spread amongst the stakeholders. asset values meet stakeholders expectations. assets are fairly presented in the financial statements.

(xvi)

Which of the following explains why auditors need to review audit files? (a) (b) (c) (d) (a) (b) (c) (d)

(xvii) Assets must be verified during an audit in order to ensure that:

(xviii) Why is it essential to have inventory instructions before each inventory count? (a) (b) (c) (d) (xix) Because it enables the auditor to draw up his/her audit programme. Because there should be no sales or purchases during the inventory counting process. Because it enables client staff to understand the counting procedures. Because the auditor can be held accountable if the inventory count is not done in the presence of the storekeeper.

Which of the following conditions indicates that financial statements show a true and fair view? (i) (ii) (iii) (iv) Transactions of the reporting entity occurred and were properly recorded. The auditor could not detect any errors or fraud. The auditor was able to prove that assets in the financial statements belong to the entity and liabilities were obligations to the same. The auditor was able to prove that even if the audit approach changed from vouching to system based audit, financial statements still show a true fair view.

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Audit Theory Paper 7

(a) (b) (c) (d) (xx)

(i) and (ii). (ii) and (iv). (iii) and (iv). (i) and (iii).

Which of the following would call for further adjustments during the audit of a bank reconciliation statement? (a) (b) (c) (d) Cheques dishonoured after the year end and long outstanding cheques. Cheques signed by an unauthorised signatory. Honoured cheques whose payee details do not match details in the accounting records. Cheques with unusual circumstances such as alterations or endorsements. SECTION B

Question 2

RICHODVET (1978) LIMITED Richodvet (1978) Limited (Richodvet) is a Kawempe based veterinary pharmaceutical products stockist with a wide range of drugs which are supplied to farmers, pet shops and animal clinics in a number of towns in Wakiso and Luweero districts and beyond. The company had an annual turnover of Shs 1.5 billion of which up to 80% was realised in cash sales. The debtors and creditors were Shs 155 million and Shs 135 million respectively according to the audited financial statements for the year ended 30 September 2009. You were recently appointed audit senior with Qwedo & Co, a Jinja based firm of Certified Public Accountants who are the auditors of Richodvet, and placed in charge of the audit of Richodvet for the year ended 30 September 2010. The manager on this engagement, Js Malaika brought to the attention of your team the inherent risk at Richodvet due to the numerous cash transactions involving salesmen, cashiers, roundsmen, travellers etc, who respond to orders from customers including those received via emails and telephone. During the review of the permanent audit file, you noted that weaknesses relating to management of cash resources of the company have been quite numerous. You have also learnt from the press that two of the companys cashiers and the chief cashier were recently made to record statements with the police when their cash reconciliation and the physical cash counts showed a material discrepancy. Based on this information, you are convinced that there would be a lot of room for improvement when you carry out a detailed review during the audit and issue your recommendations.
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Audit Theory Paper 7

Required: (a) Describe measures of internal control you would recommend to Richodvet to ensure that cash receipts and resources are properly accounted for and managed. (15 marks) Explain what is meant by the term management letter. (3 marks) Explain why Qwedo & Co. should issue a management letters to their client, Richodvet. (7 marks) Briefly outline the factors that an auditor needs to consider when planning for an audit. (5 marks) (Total 30 marks) SECTION C AUDITORS REPORTS ON ETHICS AND RISK

(b) (c) (d)

Question 3

The requirements relating to audits of limited liability companies are dictated by both statute and professional bodies. All company auditors are required to be supervised by a regulatory body. In Uganda, the Institute of Certified Public Accountants of Uganda (ICPAU) is entrusted with this responsibility. The presence of the Institute has, in a way, benefited auditors by assisting them to reduce audit risk and, in the process, made reports prepared by auditors to be considered credible by various stakeholders. Required: (a) Explain why stakeholders of many organisations would consider reports produced by auditors to be more credible than those produced by management. (10 marks) Outline the restrictions that ICPAU has put on its practising members in regard to advertising. (6 marks) Explain what is meant by audit risk and how it can arise in an audit assignment. (9 marks) (Total 25 marks)

(b) (c)

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Audit Theory Paper 7

Question 4

MORRISON CERTIFIED PUBLIC ACCOUNTANTS

Morrison & Co. is a firm of accountants in Eastern Uganda. The firm believes that as a means of consolidating quality control, auditors should include, in their working papers, immense quantities of evidence to support their audit opinions. Required: (a) Outline the categories of evidence an auditor such as Morrison & Co. should collect during an audit. (15 marks) (b) Which categories of working papers should Morrison & Co include in the: (i) current audit files? (ii) permanent audit files? (10 marks) (Total 25 marks) Question5 AUDIT EVIDENCE AND IRREGULARITIES (a) Auditors should obtain reliable, relevant and sufficient evidence as to the ownership, valuation and existence of clients current assets. Required: Briefly explain the substantive procedures you would carry out in validating debtors of a trading company. (10 marks) Errors and omissions in financial statements are some of the areas that need special attention because their occurrence could signal the covering up of irregular transactions. Required: (i) (ii) Explain what you understand by the term irregularities in relation to financial statements. (5 marks) Suggest actions you would take on discovering irregularities in a clients financial statements. (10 marks) (Total 25 marks)

(b)

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