Issues In Accounting Practice: Auditing And Assurance

General Overview

Auditing can be defined as the process of examining the financial statements of an organization and expression of an opinion as whether the financial statements present a true and fair view of the subject organization. The auditor’s work is confined within examination of books and expression of opinion thereof. Preparation of financial statements on the other hand, is the responsibility of the company director. The auditors are however, allowed by law to unearth any issue related to fraud, which comes to their attention during audit process. Prior to disclosure of such an issue the auditors are required by law to have a round table discussion with the managing directors and appraise them of the same. According to Trudell (2014), the auditors are also required to declare their independence, so as to make the users of the audit report and in making prudent investment decisions. This is a report presented by the independent auditors for Capri Enterprises for the past three year’s financial statements. Auditing has been done in accordance with the International Auditing Standards. Being independent auditors, the roles are confined to examination of the financial statements and expression of opinion.

Materiality Appropriateness

According to CPA Australia Limited (2014), materiality in auditing, refers to an omission that has a significant impact on the final financial report. Materiality therefore, relates to both the content of the financial statements and the level and type of testing to be done. The decision for materialized is based the sound judgement that a particular auditor has, concerning the size, nature specific circumstances which would lead to misstatements or omissions, which would in turn make the users of the financial statements work difficult. The various items for Capri Enterprise ranges from $ 28 to $ 187, 000. The figures for materiality which has been set at $ 15, 000 is therefore realistic and within the auditing range. The auditors usually base their materiality level on their professional judgement, as well the information which has been provided by the client’s financial statement. In this case however, a trial balance, which is the summary of the accounts reported in the financial statements has been provided. In this case the materiality level has been provided as $ 15, 000. Meaning that any error which is $ 15, 000 is believed to have a significant effect on the final figures represented in the financial statements. Any error below this figure is therefore ignored as it would be immaterial. In the likely event that the auditor as well as the auditing committee decides to reduce the level of materiality, there more evidence of auditing will have to be gathered. This is due to the fact that the auditor will need an implicit assurance that an error of the low figure set is likely to affect the final results in the financial statements. It is worth to note that a higher quantity of evidence is usually needed by auditors when a lower materiality level has been set.

By lowering the level, an auditor will be obliged to increase the level of sensitivity to potential statements. The fact that more audit evidence will be required, coupled with high sensitivity levels, it is obvious that the magnitude of the work to be done by the auditor will increase, hence increasing the audit budget. In this case, when the auditor will be analyzing test results, potential misstatements in aggregate will be referenced to the company’s planning materiality. In essence, the lower the materiality, the more the probability of the auditor concluding that the misstatements are material hence necessitating more tests.

The items with Potential Misstatement Risks

Misstatement risk refers to the possibility of a particular item in the financial statements either being overstated or understated. Misstatement is one of the main contributors of materiality, as it distorts the final figure reported in the subject financial statement. In the case of income statement, a misstatement would lead to a distorted, reported income or loss. It is important to note that for items on the credit side, understatement would reduce e income while overstatement would increase income. For items on the debt side, understatement would increase income, while overstatement would reduce income. The following items have the potential of misstatement:

Accumulated depreciation

This is the reduction in the value of an asset, as a result of its day to day usage. The methods that are used in calculation of deprecation are reducing balance and straight line methods. The balance carried forwards is added to the depreciation of the year, in order to arrive at the accumulated depreciation. This is what makes it prone to misstatement, as the balances must be properly calculated and the methods used consistently. Any variation in the method used for any of the non-current assets would automatically lead to misstatement. A misstatement on the value of accumulated depreciation will affect both the income reported in the income statement and the net book value reported for the subject trading period. An assertion that is likely to be at risk here is the real deprecation of the various non-current assets. It is for this reason that risk test has to be intensified.

Cost of Sales

Cost of sales, otherwise known as the cost of goods sold, is the cost incurred in readying goods for the market. Cost of sales is calculated by adding the opening inventory with purchases and deducting the closing inventory. Inventory valuation methods are numerous. It is incumbent upon the enterprise to ensure that it sticks to one method of valuation as variation would lead to distorted values, hence the possibility of misstatement. It is evident that under this category, the assertion which is more prone to risk is inventory. The auditor will have to do a more risk sensitivity test in this area.

Superannuation

According to Mizrahi and Ness (2007), superannuation is an organizational pension program created by a company for the benefit of its employees. It is also known as a company’s pension plan. Funds which are deposited in a superannuation account will grow, typically without any tax implications, until the contributor either retired from his or her service or before he or she withdraws from the plan. The plans can either be defined-benefit or defined contribution. Since an employee is at liberty to choose which method to subscribe to, the enterprise is obliged to have more than one system. Besides they are very long accounts, which involve calculation throughout the career life. This therefore makes it prone to misstatement, either due to malice or intentionally. The assertion which is likely to be at risk in this case is the real expenditure on pensions. It is for these reasons that an intensified risk tests has to be accrued out for this account.

Repairs and Maintenance

This s an accumulated account or ledger, which contains all expenditures incurred to ensure that the non-current assets are operational. Due to the fact that the account has a number of items which have been condensed together, it is very prone to misstatement. In the list of the items given in the trial balance, these are the ones prone to misstatement. In this case, the cost incurred in making simple but significant repairs are the example of an assertion. An example of such expenditure is repair of motor vehicles, which are on a journey. This is likely to be reported just as motor vehicle expenditure. This among other reasons is what necessitates more risk testing for this particular item.

Risk Procedure

Under this item, the book value of the subject item will have to be evaluated. The original purchasing date for the subject fixed assets will have to be established, and the method used by the enterprise be used to arrive at the reported accumulated depreciation. This will then be compared with the figure in the income statement. If the figure is more than $ 15, 000 then it is said to be material, while if it is less than $ 15, 000 then it said to be immaterial.

Cost of Sales

The auditor will have to inquire from the management on the method used in valuation of inventory. Based on the method, the value of the closing and opening inventories will be determined. Invoices received as well as receipts for payment for purchases will also have to be perused. The values computed during auditing will then be compared with the value reported in computing the Cost of sales, taking into consideration the level of materiality. Superannuation In auditing this item, the auditor will have to liaise with the human resource department, in order to know the number of employees who have subscribed to the pension system and the method used by the enterprise in computing superannuation. All the list of those who either withdraw of retired during the subject years will also be obtained. Computation then be done by the auditor on the amount of superannuation. Once figure has been computed, it will be compared with the one reported in the income statement, based on the materiality level.

Repairs and Maintenance

The repairs and maintenance for the individual items will have to be alienated. The auditor will compared analyze the petty cash book and compute the cost incurred in repairs and maintenance. This will then be compared with the amount reported in the income statement, taking into consideration the rate of materiality.

Comment on Fraud Risk

As had been stated earlier, the role of the auditor is to examine the financial statements and express opinion as to whether or not they present the true and fair view of the company. While it is true that the financial statements present a true and fair view of the company, it is prudent that professional pessimism be used. This will help in establishing whether or not there is a fraud. The suggestion of the audit partner is therefore in order, as there is no material misstatement which has been noticed. Subjecting the employees to fraud risk test is therefore baseless.