Essay On Auditing Inventory Valuation And Rights & Obligations.

Discuss About The Emerging Practice In Social And Ethical Accounting And Auditing.

Two Key Assertions at Risk In Relation To Inventory

The main purpose of this paper is to identify and explain two key assertions at risk in relation to inventory as well as identify and describe two substantive audit procedures that are performed in response to each identified risk. The paper also explains the requirement of ASA 701 that relates to communicating key audit matters. In addition to this, the paper seeks to identify and explain two key assertions most at risk in relation to the intellectual property intangible asset as well as identifying and describing a substantive audit procedure performed in response to each identified risk. The paper also explains the requirement of ASA 701.

There are two assertion that are at risk for Computing Solutions. These are discussed below.

1. Valuation of Inventory

For instance, valuation of inventory is at high risk since the company deals with computer software that may tend to become obsolete with time and their value may become impaired as well. The computer packages may also be valued wrongly since it is evident that the best-selling computer presentation packages for the company have been experiencing huge returns as a result of problems in software. In addition to this, computing solutions may experience difficulties in returning obsolete and improper packages to the supplier due to certain technicalities (Knechel and Salterio 2016, pp. 231).

1. Rights and Obligations

The second assertion that may be at risk for computing solutions is rights and Obligations. This is because the company constantly deals with transporting computer packages and other items from one warehouse to another or even to customers and from suppliers, thus may be holding the items in consignment during these periods. For instance, for items consigned from a supplier, it means that the ownership of the items is vested with the suppliers till the end of the consignment. Additionally, if the computer packages remains unsold for a certain period, they are required to be returned to the respective suppliers. Besides, such items must not be included in the inventory of Computing Solutions since they have not yet been purchased (Hayes, Gortemaker and Wallage 2014, pp. 145).

1. Substantive Audit Procedures that Could be Performed in Response to Each Risk Identified Above

Substantive procedures are approaches used by an auditor to verify or ascertain the actual figures on financial statements of a company that is being audited. There are various substantive audit procedures that can be performed by the auditor in relation to each of the assertion risks identified above (Messier, Glover and Prawitt 2008, pp. 14). These are explained below.

Valuation of Inventory

With regard to this assertion, the auditor must consider inspecting the contract terms with suppliers of various computer packages with a view to determining whether or not there was any provisions relating to return of computer packages and other items that were not sold. The auditor must also inspect the records of inventory of Computing Solutions in order to ascertain whether any packages or items that had been held for extremely long periods had become outdated or obsolete (Hopwood, Leiner and Young 2011, pp. 52).

Furthermore, he must physically inspect the inventory of Computing Solutions to make sure that he looks for items that out of date or obsolete. In doing this, he must thoroughly check at the back of shelves, among other places that may be considered appropriate. He must be keen in observing the condition of items and computer packages in order to recognize any possible signs of obsolescence or impairment. Furthermore, the auditor is expected to carry out their own audit tests on inventory and record the results. He must also ensure that the records of inventory are adjusted appropriately and the adjustments are also reflected in the general ledger of the company (Hooks 2011, pp. 121).

 Additionally, with regard to valuation of Computing solutions’ inventory, the auditor must make sure that essential information on cut-off is obtained so that it is ensured that the company counts items of inventory that are required to be counted, rather than those that are not supposed to be included in the company’s inventory. For instance, he must seek to evaluate and ascertain the last and the most recent consignment documents as well as receipt acknowledgements from company staff. He must also ascertain that the company has valued its inventory at the lower of cost or market value (Net Realizable Value) as required by the International Accounting Standards. In doing this, the auditor should consider recalculating the inventory cost with a view to ensuring that the company has accurately determined the pricing. He must also consider examining the market trends to gain an understanding of the current market prices and then compare them with the cost of inventory to ascertain if the inventory was sold for less or more than the cost (Hargie and Tourish 2009, pp. 103).

With regard to rights and obligations, the auditor must consider inspecting the contract terms of Computing Solutions with its suppliers with an aim of ascertaining if ownership of the commodities was actually passed to the company. With regard to rights and ownership, the auditor must also ensure that items that are on consignment are segregated and not include in the physical count of inventory of Computing Solutions. He must also consider inspecting records of inventory of Computing Solutions with a view to determining whether or not any items that were held on consignment from suppliers could have been mistakenly included in the balance of inventory for the company (Louwers, Ramsay, Sinason, Strawser and Thibodeau 2015, pp. 214).

1. The Requirement of ASA 701 Communicating Key Audit Matters in the Auditor’s Report and the Rationale for This Auditing Standard

Rights and Obligations

This auditing standard is a representation of the equivalent ISA 701, which sets out requirements for auditors to communicate key audit matters in their audit reports. This standards mandates auditors to communicate key audit matters in their reports regarding listed entities’ financial statement audits. The standard also enables auditors of other companies that are not listed to consider determining whether or not to have key audit matters included in their audit opinions and reports for such entities (Moeller 2009, pp. 145). As set out in this standard, the auditor can determine key audit matters through the following:

1. Ascertaining significant matters that are communicated to individuals responsible for the governance of the company
2. Considering areas that are prone to higher risk assessment, high judgment of the auditor, significant judgments from management and impacts of significant transactions and events.

The auditor is also required by this statement to make a clear description of the key audit matters. However, the auditors is not required to report in his audit report the circumstances or situations in which a certain matter is considered to be a key audit matter. He must also describe the requirements of documentation of the audit that are in relation with the key audit matters (Nigrini 2012, pp. 123).

The rationale for this auditing standard is based primarily on the purpose and the need to communicate key audit matters with a view to enhancing the value of effective communication of the report of the independent auditor through provision of enhanced transparency regarding the financial audit that was conducted. Communication of key audit matters seeks to provide extra information which is useful for intended financial statement users for assisting them in gaining a clear understanding of such matters in the view or judgment of the independent auditor. Communication of key audit matters also helps users in gaining an understanding of the company, as well as significant areas of judgment of the company management with regard to the financial statements being audited (Elder, Beasley and Arens 2011, Pp. 14).

Communication of key audit matters in the report also forms a basis for users to consider engaging further with the company’s management as well as individuals held responsible for governing the entity with regard to certain issues that relate to the company, the financial reports that were audited or the even the financial audit that was carried out. Furthermore, the auditor is required to communicate key audit matters in his context of having established an audit opinion on the financial reports in entirety (Porter, Simon and Hatherly 2008, pp. 45).

The requirements of this auditing standard is applied to financial reports of general purposes of companies that are listed as well as situations in which the auditor chooses to communicate these key audit matters in his report. Additionally, the standard is applied in cases where the law requires the auditor to communicate or disclose key audit matters in his audit report. However, the auditor is prohibited by this standard from communicating key audit matters when he provides a disclaimer on his opinion regarding the financial report (Singleton and Singleton 2010, pp. 78).

ASA 701

The above matters discussed in sections (a) and (b) are key audit matters. Valuation of inventory is considered a key audit mater since it has significant impacts on the amounts of profits realized by an entity. For instance, overvaluation of ending inventory leads to overstatement of a firm’s profit and vice versa. In addition to this, rights and obligations are key audit matters since ownership is considered a key element for purposes of enjoying the benefits associated with any asset or resource, as well as being liable for its costs (Eilifsen, Messier, Glover and Prawitt 2013, pp. 27).

As required by ASA 701, there are various disclosures which are required in the section of Key Audit Matters of the Auditor’s report with regard to the above matters. For instance, the auditor must disclose the valuation method of inventory since it is a significant matter in the audit of Computing Solutions. Additionally, he must make adequate disclosures regarding the ownership of the various computer packages with a view to assuring financial statements users that those items of inventory actually belonged to the company during the financial year whose financial reports are being audited (Cosserat and Rodda 2009, pp. 102).

1. Key Assertions Most At Risk In Relation To the Intellectual Property Intangible Asset

1. Rights and Obligations

The first assertion that may be at risk for Beautiful Hair ltd with regard to its intellectual property intangible asset is rights and Obligations. This is because the entity has acquired Shimmer Pty Ltd, a small manufacturer of high quality organic hair styling products. However, the special formulas used by Shimmer in creating its products are only known to its owner, although Beautiful Hair ltd has recognized these formulas as an intangible asset in their books of accounts. Therefore, there is a potential difficulty in ascertaining whether or not these intellectual properties and production formulas are owned by Beautiful Hair Ltd. If the formulas are not still retained by the acquired firm, shimmer, then they should not be included as assets by Beautiful Hair ltd (Coderre 2009, 31).

1. Existence

Existence of the intellectual property intangible assets for Beautiful hair ltd is also at risk. There is a potential risk that various intellectual property intangible assets such as copyrights and production formulas have not yet been received from the acquired firm, Shimmer. This is because the secret production ingredients are still documented and retained by the solicitors of shimmer, rather than those of Beautiful Hair Ltd (Zadek, Evans and Pruzan 2013, pp. 15).

1. Substantive Audit Procedures That Could Be Performed In Response to Each Risk Identified Above
2. Rights and Obligations

With regard to rights and obligations of Beautiful Hair Ltd, the auditor must consider inspecting the acquisition terms of Beautiful Hair Ltd and Shimmers Ltd with a view to ascertaining if ownership of the intellectual property and production formulas was actually passed to the acquiring company. With regard to rights and ownership, the auditor must also consider ascertaining that the production rights which have not yet been passed to the firm are segregated and not include in the valuation of intellectual property intangible assets of Beautiful Hair Ltd. the auditor must also consider inspecting records of both Beautiful  Hair Ltd and Shimmer ltd with regard to such assets and production copyrights, with a view to ascertaining whether or not any assets not held and owned by the acquiring firm could have been mistakenly included in the balance of intangible assets for the company (Chan and Vasarhelyi 2018, pp. 29).

Conclusion

With regard to existence of intellectual property intangible assets, the auditor must consider inspecting the purchase vouchers of Beautiful Hair ltd and performing audit tests to ascertain that the amounts of intangible assets shown in the records have been actually acquired by the firm. The auditor may additionally consider reviewing the minutes regarding the acquisition of Shimmer Pty Ltd, to determine if the production formulas were actually acquired (Bodnar and Hopwood 2012, pp. 21).

1. The Requirement of ASA 701 Communicating Key Audit Matters in the Auditor’s Report and the Rationale for This Auditing Standard

This auditing standard is a representation of the equivalent ISA 701. The standard sets out requirements for auditors to communicate key audit matters in their audit reports. Auditors mandated by this standard to communicate key audit matters in their reports regarding listed entities’ financial statement audits. As set out in this standard, the auditor can determine key audit matters through ascertaining significant matters that are communicated to individuals responsible for the governance of the company and considering areas that are prone to higher risk assessment, high judgment of the auditor, significant judgments from management and impacts of significant transactions and events. In addition to this, he can do this by evaluating matters that are most essential for inclusion in the report. The auditor is also required by this statement to make a clear description of the key audit matters. Furthermore, he must provide a description of the requirements of documentation of the audit that are in relation with the key audit matters (Boynton, Kell and Johnson 2011, pp. 25).

The rationale for this auditing standard is based primarily on the purpose and the need of communicating key audit matters with an aim of enhancing the value of effective communication of the report of the independent auditor through provision of enhanced transparency regarding the financial audit that was conducted (Arens, Elder and Mark 2012, pp. 54).

The matters discussed above are considered key audit matters. Rights and obligations of the intellectual property intangible assets are considered a key audit mater since they have significant impacts on the level of production made by Beautiful Hair Ltd. Additionally, rights and obligations are key audit matters since ownership is considered a key element for purposes of enjoying the benefits associated with any asset or resource. Existence of such assets is also a key audit matter (Bodnar and Hopwood 2012, pp. 12).

According to ASA 701, there are various disclosures which are required in the section of Key Audit Matters of the Auditor’s report with regard to the matters discussed above. For instance, the auditor must make adequate disclosures regarding the ownership of the intellectual property intangible assets in order to assure users of financial statements that those assets actually belonged to Beautiful Hair ltd (Arens, Elder and Beasley 2013, pp. 21).

Conclusion

As discussed in the above sections, there are various key assertions that are at most risk in relation to inventory and intellectual property intangible assets. The auditor must therefore carry out various substantive audit procedures for each of the key risks identified.

References

Arens, A.A., Elder, R.J. and Beasley, M.S., 2013. Auditing and assurance services. Pearson Higher Ed.

Arens, A.A., Elder, R.J. and Mark, B., 2012. Auditing and assurance services: an integrated approach. Boston: Prentice Hall.

Bodnar, G.H. and Hopwood, W.S., 2012. Accounting information systems. Pearson Higher Ed.

Boynton, W.C., Kell, W.G. and Johnson, R., 2011. Modern auditing. Wiley.

Chan, D.Y. and Vasarhelyi, M.A., 2018. Innovation and practice of continuous auditing. In Continuous Auditing: Theory and Application (pp. 271-283). Emerald Publishing Limited.

Coderre, D., 2009. Computer Aided Fraud Prevention and Detection: A Step by Step Guide. John Wiley & Sons.

Cosserat, G.W. and Rodda, N., 2009. Modern auditing. Wiley.

Elder, R.J., Beasley, M.S. and Arens, A.A., 2011. Auditing and Assurance services. Pearson education.

Eilifsen, A., Messier, W.F., Glover, S.M. and Prawitt, D.F., 2013. Auditing and assurance services. McGraw-Hill.

Hargie, O. and Tourish, D. eds., 2009. Auditing organizational communication: A handbook of research, theory and practice. Routledge.

Hayes, R.S., Gortemaker, H. and Wallage, P., 2014. Principles of auditing: an introduction to international standards on auditing. Prentice Hall, Financial Times.

Hopwood, W.S., Leiner, J.J. and Young, G.R., 2011. Forensic accounting and fraud examination. McGraw-Hill.

Hooks, K.L., 2011. Auditing and assurance services: Understanding the integrated audit. Wiley.

Knechel, W.R. and Salterio, S.E., 2016. Auditing: Assurance and risk. Routledge.

Louwers, T.J., Ramsay, R.J., Sinason, D.H., Strawser, J.R. and Thibodeau, J.C., 2015. Auditing & assurance services. McGraw-Hill Education.

Messier, W.F., Glover, S.M. and Prawitt, D.F., 2008. Auditing & assurance services: A systematic approach. Boston, MA: McGraw-Hill Irwin.

Moeller, R.R., 2009. Brink's modern internal auditing: A common body of knowledge. John Wiley & Sons.

Nigrini, M., 2012. Benford's Law: Applications for forensic accounting, auditing, and fraud detection (Vol. 586). John Wiley & Sons.

Porter, B., Simon, J. and Hatherly, D.J., 2008. Principles of external auditing (Vol. 3). Chichester: Wiley.

Singleton, T.W. and Singleton, A.J., 2010. Fraud auditing and forensic accounting (Vol. 11). John Wiley & Sons.

Zadek, S., Evans, R. and Pruzan, P., 2013. Building corporate accountability: Emerging practice in social and ethical accounting and auditing. Routledge.