Explain why an understanding of the governance of an audit client is important in assessing the client’s business risk.Explain why the auditors’ understanding of business risk is relevant to public expectations of the audit process.Identify the three potential audit risk areas and evaluate the implications of your analysis on the year-end audit testing. Identify the accounts likely to be affected, the impact of the affect and the assertion that is at risk.Give examples of at least 3 types of transactions that would occur at Fitness for Life.Explain what could go wrong with these transactions if the system of internal controls could not meet any of the seven generally accepted objectives of internal controls.Generate a list of possible audit procedures that could be used by the audit team to test the controls in the client’s sales software application.
Principles and recommendations
Corporate governance has set some principles. These principles are made after making recommendations. Companies that were listed on the Australian stock exchange and which were on the way to get listed on the stock exchange gave their view, feedback and recommendations. After considering the views of al such companies the Board made certain rules and regulations which were to be compulsorily followed by all the companies that want to be listed on the Australian Stock Exchange. These recommendations were made after considering the recommendations of the investors also.
The company has to compulsorily disclose the following
It is the overall responsibility of the Board that to select the principles from the list of corporate governances framed by the Board. The directors are free to select any of them and implement the same. But this is the most relevant and significant concern for the members of the Board. The Board holds a fiduciary position. They are the trustees of the assets of the company so they should use the resources and their powers are diligent manner as it is in overall benefit of the company. It us the duty of the Board to conduct the business of the company in a fair manner by utilizing the resources of the company in optimum manner
As per the Principles and Recommendations, when the board of directors came to know that the company and its council recommendation is not proper for the above circumstances which are shown in the company and they recommend that not to adopt such policy. If the company is adopting that than it has to give the reason that why it has not accepted the recommendation which was provided to them by using the approach of “if not, why not”.
Hence the “if not, why not” method is vital to the operation of the Principles and Recommendations.
There are certain rules to be followed for getting the company to be listed over the Australian Stock Exchange.
The company has to include the corporate governance principles that it follows in its annual reports and the same should be verified by the auditor. In many cases the Board of corporate governance made some recommendations to the company regarding following certain principles and not certain others, the company should state in the annual report the extent to which it agrees and implement not only the recommendations but also other principles. The company further has to show in the annual report the reasons that it feel for not accepting the recommendations of the Board
This auditing standard is made and issued by ASA. This imposes certain mandatory duties over the auditor by assigning him or her responsibility to compulsorily communicate with Those Charged With Governance which conducting an audit of financial statements of such company.
This auditing standard focuses mainly on the communication between two persons. One is the auditor and the other is Those Charged With Governance (TCWG). Certain recommendations are as follows
It is left at the discretion of the auditor to select the person with whom he will communicate while conducting the audit. The auditor will communicate the findings to such person. He will also communicate the weaknesses in the internal control system with the auditor. The person may be head of the audit committee or any independent director. They both will determine what aspects to be communicated with the other members and what not. In some cases where the business is small and the owner is himself involved in all the activities then the standard requires communication with such person Such matter is been noted in paragraph 16(c) of this Standard of auditing.
ASA 315 Identifying and Assessing the Risk of Material Misstatement through understanding the entity and its environment.
This standard compulsorily requires the auditor to conduct a risk assessment in order to satisfy himself that the financial statements of the company are free from frauds or any other material misstatements and such should be conducted at all levels of audit. These procedures are as follows
In large businesses the company has a separate audit department which regularly performs audit functions and does the risk analysis. This department is in direct touch with the Board of Directors. This department ensures that the reporting is transparent, the internal controls are effective and the committee is independent.
The auditor faces certain limitations while conducting an audit of an organization. These are
All these limitations posses risk of giving incorrect opinion on the financial statements based on which the shareholders take decision to invest or not. This is called audit risk. There are certain tools which will help the auditor to reduce the risk up to an acceptable level. The level after which the risk cannot be reduced is called residual risk. The audit risk ha two parts
The very basic purpose of the audit is to check out any material inconsistency termed as misstatement and to communicate the same to the stakeholders in the form of audit report. Audit report is the tool through which the auditor communicates with the stakeholders.
There are various types of audit risk. The major ones are as follows
After conducting an analysis of the ratios provided in the question, the potential risk that prevails in the current structure of the company is as follows:
Each product has its life cycle. The product of the company may at declining stage because only at this stage we notice that even though after incurring huge expenditure on advertising the company is still incurring losses. Or it might be so that a new competitor has entered the market. Whatsoever may be the reason, it is posing a big risk to the company.
Having leverage in the capital structure is advantageous to the company. The interest that it pays to the lenders provides benefit in the form of tax savings. So a levered firm is better than an unlevered firm. But the company should ensure that it has a liquidity ratio of more than 2 because payment of interest is revenue expenditure so the company has to regularly pay interest on monies borrowed. In our case the current ratio is more than 2 so it is good for the company. But what we have noticed is that the D/E ratio has increased from 3.25 times to 5 times. The company has to pay huge interest to the money lenders. Though there is a tax saving but there won’t be anything left for the shareholders or for transferring into reserves. So there is a risk that as the company will pay less dividends the market price of shares may fall. The company is incurring loss so it may happen that in the coming years it won’t be able to pay interest or any principal installment. This may reduce the credit worthiness of the company
This has fallen down from 0.04% to -0.10%. The resources of the company like fixed assets, etc. are over utilized or underutilized. This represent opportunity loss to the company
The management in order to comply with corporate governance requirements must establish procedures for year-end and the ensure controls over the commitments, payables and the financial reporting. The identification and the accuracy of the PAYEs and the internal communication of the new spending would also further strengthen the practices of financial management.
Payables at the Year-End (PAYEs)
Criteria Mostly Met
Commitments and Year-End Budget Management
Criteria Mostly Met
Financial Information Reporting
Internal controls help the entity in laying down the procedure of preventing and detecting any fraud or error. The very purpose of internal control is segregation of duty. It ensures that the work done by one person is checked by other.
The following are some transactions that would occur at the Fitness for Life Company
The question deals with testing the internal controls at the client’s sales software application. Let us first understand where it is compulsory on the part of the auditor to perform tests
Tests are conducted for two main reasons
Consider the amount of receivables in the SOFP. There are many ways in which the same can be manipulated. There are certain customers who are very irregular in paying the debts owed to the company. Such can be easily manipulated by the company’s employees like cashier, etc
The controls that can be used to prevent such fraud
Accounting Web, ND Test of Controls
Open tuition, 2015 Test of Controls
Western Economic Diversification Canada, 2011, “Year End Audit Procedures” .
Enel, ND, “Principles of Corporate Governance”
University of Tasmania, 2014, “Audit and Risk Committee”
HM Revenue and Customs, ND, “Audit and Risk Committee”
Thrivent Financial, 2014, “Year End Audit Procedures”Monica Zorn, 2014, “Year End Audit Procedures”
Proformative, 2014, “Year End Audit Procedures”
Accounting Tools, 2015, “Test of Controls”
Cram.com, 2015, “Test of Controls”
Accounting Concern, ND, “Test of Controls”
PCAOB, 2015, “Identifying and Assessing risk of material misstatement"
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