Substantive Procedures

SUBSTATIVE PROCEDURES FREE MARKS FOR SUBSTANTIVE PROCEDURES Opening balances - Agree opening balance for xxx to the prior year audit file and audited financial statements. Closing balance – Agree the closing balance of the loan to the trial balance and annual financial statements. INVENTORY Assertions – existence, classification, completeness, accuracy cut-off, presentation and disclosure Existence (i) (ii) (iii) (iv) Substantive procedures for inventory held at third party warehouses and Attend any inventory count at the third party warehouses to review the controls in operation, to ensure the completeness and existence of inventory and to perform any necessary test counts. Send a letter requesting direct confirmation of inventory balances held at year end from the third party warehouse including quantities, condition and slow moving items. Inspect and review any available reports by the auditors of the third parties owning the warehouses in relation to the adequacy of controls over inventory. Inspect any documentation relating to third party inventory. Substantive procedures for inventory held at our own warehouse/many locations i. Using CAATS select a sample of inventory items from the inventory stock sheets and trace them them to their physical location. ii. Cut-off i. ii. iii. Obtain the last goods received notes of the year Obtain the first dispatch notes post year end Substantive procedures to confirm standard costs used for inventory valuation. (v) (vi) (vii) – Obtain an analysis of the standard costs used in inventory valuation and compare them with the costs shown on actual invoices or in wages records to see if they are reasonable – Analyse the variances between standard and actual costs and discuss the reason for these with management and the action taken in respect of any variances. – Discuss with management how standard costs are formulated and applied to the inventory valuation, and the procedures in place to ensure these are updated to account for movements in actual cost when necessary. Valuation i. ii. iii. iv. v. vi. vii. viii. ix. Purchased inventory cost Usings CAATS, select a sample of inventory items and agree the cost price to the original purchase price. Care should be taken to ensure that the invoice relates specifically to the item in question. Imported inventory - Verify the cost of imported paint and materials to produce xxx includes the cost price and non-refundable taxes/ fees and shipping and any insurance costs. Manufactured inventory Standard costs Obtain the variances schedule and analyse the variance between standard costs and actual costs. Discuss with management about the reasons behind significant variances and action to be taken. Discuss with management on the basis on standard costs are formulated and applied to inventory valuation and how often these are reviewed and updated. Obtain a breakdown of the standard costs and agree a sample of these costs to actual invoices or wage records to assess their reasonableness. Net realisable value Obtain a schedule of the ageing of inventory and identify slow moving goods. For items identified as slow moving discuss with management the need to make an allowance if not already provided for. Obtain the schedule of sales made shortly after year end and compare the selling price and recorded costs to confirm that costs do not exceed the NRV/selling price. If costs exceed NRV, adjustments should be made accordingly. Obtain and inspect the aged inventory reports and investigate older items to confirm that they are valued at the lower of cost or NRV. BANK LOAN Assertions – existence, classification, completeness, accuracy cut-off, presentation and disclosure i. ii. iii. iv. v. vi. vii. viii. ix. x. Agree opening balance for xxx to the prior year audit file and audited financial statements. Inspect and review the bank loan agreement and confirm the terms and conditions are the ones that have been applied and disclosed on the loan such as a. The applicable interest rate b. The loan period c. The dates on which interest and interest amounts are due and payable d. The parties to the loan Obtain a confirmation from the bank in respect of the amount owed , any assets held as collateral and agree amounts and discloures to the financial statements. Recalculate the loan balance and agree to the trial balance and draft annual financial statements Inspect and review the draft annual afs and confirm that all the necessary disclosures have been done in accordance to the applicable financial reporting framework, local regulators and applicable legislation. Inspect the bank statements and cashbooks to confirm the amount. If any of payments that were made during the year in respect of the loan. New loan - Inspect and review the minutes of the board and confirm that the bank loan was authorized. Old loan – Inspect and review the minutes of the board and confirm that no additional information on the loan such as indicators/actual of difÏculty in meeting loan obligations were noted. Late repayment – Inspect and review the post year-end bank statements and cashbook to confirm if any subsequent payments were made in respect of the bank loan. Late repayment - Inspect and review correspondence with the bank to confirm if there have been any penalties for late payments or any other fees and confirm that these have been included in the profit or loss or/and accrued accordingly. xi. DIRECTORS REMUNERATION Think what are the assertions – occurrence, classification, completeness, accuracy, cut-off, presentation and disclosure. Think of risks as well. If questions asks for ‘bonus’ procedures then only use word bonuss i. ii. iii. Inspect and review the board meeting minutes and meetings of any remuneration committee for evidence of any additional payments not disclosed. Inspect and review the disclosure of directors' remuneration and confirm that there are in line with required regulations & applicable legislation and accounting framework. (P+D) Inspect and agree the directors salary and bonus to the board minutes to confirm that payments have been authorized and are valid. iv. v. vi. vii. viii. Obtain a written representation from management confirming the completeness of directors’ remuneration including the bonus. Obtain a schedule of the directors’ bonus paid in month xxx and cast the schedule to confirm accuracy and agree amount disclosed in the financial statements. Obtain the schedule of schedule of director's bonus payments and cast the totals to confirm accuracy agreement with the disclosure in the financial statements. (A) Obtain prior year financial statements and schedules and compare the bonuses with both the previous year's bonuses and with expectations, taking into account the knowledge obtained during the audit (for example, whether the performance targets, if any, have been met) and assess the reasonableness thereof. (A) Agree the bonus payments to payroll records for the individual directors and agree the amounts paid on the bank statements and cashbook to the payroll records. If bonus is paid post year end ix. ObtainReview the schedule of current liabilities and confirm the bonus accrual is included as a year-end liability. x. Obtain the payroll bonus schedule and confirm the amount of each bonus paid per director post year end by agreeing to the cash book and bank statements. PAYROLL Substantive procedures for payroll costs i. Compare the total payroll expense to the previous year and investigate any significant variances. – Review monthly payroll charges and compare this to the prior year monthly charges and to budgets. Discuss significant variances with management. ii. Reconcile the total wages and salaries expense per the payroll records to the cost in the financial statements and investigate any differences. iii. Agree amounts owed to the tax authorities to the payroll records and with the amount subsequently paid and clearing the bank statement post year-end to ensure completeness. iv. Cast a sample of payroll records to confirm completeness and accuracy of the payroll expense. v. Recalculate the gross and net pay for a sample of employees and agree to the payroll to confirm accuracy vi. Re-calculate statutory deductions to confirm whether the correct deductions are included within the payroll expense. vii. Perform a proof in total of total factory workforce wages by taking last year's expense, dividing by last year's average employee numbers to arrive at an average wage and multiplying by current year average employee numbers (the calculation should also viii. ix. x. xi. xii. xiii. xiv. xv. xvi. xvii. xviii. xix. xx. xxi. incorporate the pay increase). Compare this estimate of the current year charge with the actual wages cost in the financial statements and investigate significant differences. Agree the start or leaving date to supporting documentation for a sample of joiners and leavers, and recalculate their first or last pay packet to ensure it was accurately calculated and properly recorded. Agree the total net salaries paid on the payroll records to the bank transfer listing of payments for sales and administrative staff, and to the cashbook for weekly paid employees. Agree the total cash withdrawn for wage payments equates to the weekly wages paid plus any left over cash subsequently banked to confirm completeness and accuracy. Agree individual wages and salaries per the payroll to the personnel records and records of hours worked per the swipe card system. Agree the total wages and salaries expense per the payroll system to the trial balance, investigate any differences. – Cast a sample of payroll records to confirm completeness and accuracy of the payroll expense. – For a sample of employees, recalculate the gross and net pay and agree to the payroll records to confirm accuracy. – Re-perform the calculation of statutory deductions to confirm whether correct deductions for this year have been made in the payroll. – Compare the total payroll expense to the prior year and investigate any significant differences. – Review monthly payroll charges, compare this to the prior year and budgets and discuss with management for any significant variances. – Perform a proof in total of total wages and salaries, incorporating joiners and leavers and the annual pay increase. Compare this to the actual wages and salaries in the financial statements and investigate any significant differences. – Select a sample of joiners and leavers, agree their start/leaving date to supporting documentation, recalculate that their first/last pay packet was accurately calculated and recorded. – Agree the total net pay per the payroll records to the bank transfer listing of payments and to the cashbook. – Agree the individual wages and salaries per the payroll to the personnel records for a sample. – Select a sample of weekly overtime sheets and trace to overtime payment in payroll records to confirm completeness of overtime paid. Accrual for income tax payable on employment income i. ii. iii. Agree the year-end income tax payable accrual to the payroll records to confirm accuracy. Re-perform the calculation of the accrual to confirm accuracy. Agree the subsequent payment to the post year-end cash book and bank statements to confirm completeness. iv. v. Review any correspondence with tax authorities to assess whether there are any additional outstanding payments due; if so, agree they are included in the year-end accrual Review any disclosures made of the income tax accrual and assess whether these are in compliance with accounting standards and legislation REVENUE Substantive procedures to confirm Tinkerbell's revenue i. Compare the total revenue with that reported in previous years and the revenue budgeted, and investigate any significant fluctuations. ii. For a sample of customer orders, trace the details to the related despatch notes and sales invoices and ensure there is a sale recorded in respect of each (to test the completeness of revenue). iii. For a sample of sales invoices for larger customers, recalculate the discounts allowed to ensure that these are accurate. iv. Select a sample of despatch notes in the month immediately before and month immediately after the year end. Trace these through to the related sales invoices and resultant accounting entries to ensure each sale was recorded in the appropriate period. v. Obtain an analysis of sales by major categories of toys manufactured and compare this to the prior year breakdown and discuss any unusual movements with management. vi. Calculate the gross profit margin for Tinkerbell for the year and compare this to the previous year and expectations. Investigate any significant fluctuations. vii. Recalculate the sales tax for a sample of invoices and ensure that the sales tax has been correctly applied to the sales invoice. viii. Select a sample of credit notes issued after the year end and trace these through to the related sales invoices to ensure sales returns were recorded in the proper period. RECEIVABLES BALANCE Property, plant and equipment (non-current assets) Substantive procedures Valuation (i) Review depreciation rates applied in relation to asset lives, past experience of profits and losses on disposals, and consistency with prior years and disclosed accounting policies. (ii) If assets have been revalued, consider: – Experience and independence of valuer – Scope of the valuer's work – Methods and assumptions used – Whether valuation bases are in line with IFRSs. (iii)  Recalculate the depreciation charge for a sample of assets and agree the charges to the asset register (iv)  Perform a depreciation proof in total taking into account timing of additions/disposals and investigate any differences. (v)  Agree the cost of a sample of additions of surgical equipment to purchase invoices Completeness (vi) (vii) (viii) (ix) (x) (xi) (xii) (xiii) Compare non-current assets in the general ledger with the non-current assets register and obtain explanations for differences. For a sample of assets which physically exist agree that they are recorded in the non-current asset register  Reconcile the schedule of non-current assets with the general ledger  Review the repairs and maintenance expense account in the SOCI for capital items Rights and obligations Verify title to land and buildings by inspection of: – Title deeds – Land registry certificates – Leases Examine documents of title for other assets (including purchase invoices, contracts, hire purchase or lease agreements) Review new lease agreements to ensure properly classified as finance lease or an operating lease in accordance with IFRSs.  Inspect vehicle registration documents (eg Ambulances) to confirm ownership of motor vehicles. REDUNDANCY PROVISION i. Obtain an analysis of the redundancy calculations (cost by employee) and cast it to ensure completeness. ii. Obtain written representation from management confirming the completeness of the provision. iii. In order to establish that a present obligation exists at the year end, ask the directors whether they formally announced their intention to make the sales ledger department redundant during the year. iv. If the redundancies have been announced pre-year end, review any documentation corroborating that the decision has in fact been formally announced. v. Review the board minutes to assess the probability the redundancy payments will be paid. – Recalculate the redundancy provision to confirm completeness and agree components of the calculation to supporting documents. vi. Confirm whether any redundancy payments have been made post year end and compare any amounts paid to amounts provided to assess the adequacy of the provision. vii. Review the disclosure of the redundancy provision to ensure it complies with IAS 37 Provisions, contingent liabilities and contingent assets. ESTIMATES i. ii. iii. iv. v. vi. vii. viii. ix. Enquire of management how the estimate has been arrived at and evaluate whether the assumptions used are reasonable. Review the judgements and decisions of management in making the accounting estimates to identify if there are indications of possible management bias. Develop a point estimate or range with which to evaluate the reasonableness of the accounting estimate made by management. Test whether controls over development of management estimates are operating effectively. Obtain written representations from management that they believe the significant assumptions used are reasonable. Compare the estimate with expectations and the prior year’s estimate and investigate variances. For accounting estimates that give rise to significant risks, evaluate the adequacy of disclosure of their estimation uncertainty. Obtain sufÏcient appropriate audit evidence about whether disclosures are correct. Evaluate whether the accounting estimates are either reasonable or misstated. RESTRUCTURING PROVISION Verify the announcement to shareholders was actually made in late October by inspecting documentary evidence of the announcement. – Board minutes should also be reviewed to confirm the decision to reorganise the business was taken pre year end. – Obtain an analysis of the reorganisation provision and confirm that only expenditure attributable to the restructuring is included. – Cast the breakdown of the reorganisation provision to ensure it has been correctly calculated. – Review the expenditure and confirm retraining costs are not included. – Agree costs included within the provision to supporting documentation to confirm the appropriateness and accuracy of items included. – Review the related disclosures in the financial statements to assess whether they comply with the requirements of IAS 37 Provisions, contingent liabilities and contingent assets. – Obtain a written representation confirming management discussions in relation to the announcement of the reorganisation. Conflicts of interest i. Both Recorder Communications Co and its competitor should be notified that Piano & Co would be acting as auditors for each company and, if necessary, consent obtained. ii. Advising one or both clients to seek additional independent advice iii. The use of separate engagement teams, with different engagement partners and team members; once an employee has worked on one audit, such as Recorder Communications Co, then they would be prevented from being on the audit of the competitor for a period of time. This separation of teams is known as building a 'Chinese wall'. iv. Procedures to prevent access to information, for example, strict physical separation of both teams, confidential and secure data filing. Clear guidelines for members of each engagement team on issues of security and confidentiality. These guidelines could be included within the audit engagement letters. Potentially the use of confidentiality agreements signed by employees and partners of the firm. Regular monitoring of the application of the above safeguards by a senior individual in Piano & Co not involved in either audit. v. vi. vii. GOING CONCERN SUBSTANTIVE PROCEDURES i. Obtain Walters' cash flow forecast and review the cash payments and receipts. Assess the assumptions for reasonableness and discuss the findings with management to understand if the company will have sufÏcient cash flows. ii. Review any current agreements with the bank to determine whether any covenants in relation to the overdraft have been breached. iii. Read minutes of the meetings of shareholders, the board of directors and important committees for reference to financing difÏculties and for evidence of any future financing plans.  Review the company's post year-end sales and order book to assess the levels of trade. Evaluate whether the revenue figures in the cash flow forecast are reasonable. iv. Review post year-end correspondence with suppliers to identify any restriction in credit that may not be reflected in the cash flow forecasts. v. Inquire of the lawyers of Walters as to the existence of litigation and claims. vi. Perform audit tests in relation to subsequent events to identify any items that might indicate or mitigate the risk of going concern not being appropriate. vii. Review post year end management accounts to assess if it is in line with cash flow forecast. viii. Consider whether any additional disclosures as required by IAS 1 Presentation of financial statements in relation to material uncertainties over going concern should be made in the financial statements. ix. Confirm the existence, legality and enforceability of arrangements to provide or maintain financial support with related and third parties and assess the financial ability of such parties to provide additional funds. x. Consider Walter's position concerning any unfulfilled customer orders. xi. Obtain a written representation confirming the director's view that Walters is a going concern xii. rnReview Clarinet’s cash flow forecast. Evaluate the underlying data and assumptions to assess whether they are reasonable, and discuss the assumptions with management. • Considering whether any additional facts or information have become available since the date management made its assessment, and determine the impact such information would have on the cash flow forecast. – Obtain the company’s cash flow forecast and review the cash in and out flows. Assess the assumptions for reasonableness and discuss the findings with management to understand if the company will have sufÏcient cash flows. – Perform a sensitivity analysis on the cash flows to understand the margin of safety the company has in terms of its net cash in/out flow. – Discuss with the finance director whether the sales director has yet been replaced and whether any new customers have been obtained to replace the one lost. – Review the company’s post year-end sales and order book to assess if the levels of trade are likely to increase and if the revenue figures in the cash flow forecast are reasonable. – Review the loan agreement and recalculate the covenant which has been breached. Confirm the timing and amount of the loan repayment. – Review any agreements with the bank to determine whether any other covenants have been breached, especially in relation to the overdraft. – Discuss with the directors whether they have contacted any alternative banks for finance to assess whether they have any other means of repaying the loan of €4·8m. 15 – Review any correspondence with shareholders to assess whether any of these are likely to increase their equity investment in the company. – Review post yearend correspondence with suppliers to identify if any others have threatened legal action or refused to supply goods. – Enquire of the lawyers of Strawberry as to the existence of any additional litigation and request their assessment of the likely amounts payable to the suppliers. – Perform audit tests in relation to subsequent events to identify any items that might indicate or mitigate the risk of going concern not being appropriate. – Review the post year-end board minutes to identify any other issues that might indicate further financial difÏculties for the company. – Review post year-end management accounts to assess if in line with cash flow forecast. – Consider whether the going concern basis is appropriate for the preparation of the financial statements. – Obtain a written representation confirming the director’s view that Strawberry is a going concern. i. ii. iii. iv. v. vi. vii. viii. ix. x. Perform audit procedures in respect of subsequent events to identify any event which might affect the going concern assessment. Evaluating management's plans for the future of the business, by finding out from the financial director whether the company has gained any new customers to replace the customers lost. Discuss with management their plans for obtaining alternative funding for new product development. Review the company’s post year end sales and order book to determine whether the revenue forecast is reasonable, in the light of increased competition. Review board meeting minutes for evidence of progress on recruiting specialist developers to replace the ones who have left to join Drum. Review post year end board meeting minutes to identify any reference to further financial difÏculties. Review loan and overdraft agreements to determine whether any covenants have been breached. Review correspondence with the bank to assess the likelihood of the overdraft facility being renewed. Review correspondence with the shareholders to assess the probability that any of the shareholders choose to increase their investment Analyse and discuss the entity's latest available interim financial statements (or management accounts) to determine whether it is consistent with the cash flow forecast. xi. xii. Request Clarinet’s lawyers to provide an assessment of the company losing the legal action brought by the customer, along with an estimate of the likely damages payable. Confirm, by discussions with the lawyer, whether the company is implicated in any other litigation in progress. Requesting written representations from management and those charged with governance about plans for future action and the feasibility of these plans Responsibility to report on going concern to the directors Must report to the directors any information which casts doubt on the ability of the company to continue as a going concern. In accordance with ISA 570 Going concern Kiwi & Co will report the following: i. Whether the events or conditions constitute a material uncertainty ii. Whether the use of the going concern assumption is appropriate in the preparation of the financial statements iii. The adequacy of related disclosures in the financial statements Review engagements Review engagements are often undertaken as an alternative to an audit, and involve a practitioner reviewing financial data, such as six-monthly figures. This would involve the practitioner undertaking procedures to state whether anything has come to their attention which causes the practitioner to believe that the financial data is not in accordance with the financial reporting framework. A review engagement differs to an external audit in that the procedures undertaken are not nearly as comprehensive as those in an audit, with procedures such as analytical review and enquiry used extensively. In addition, the practitioner does not need to comply with ISAs as these only relate to external audits. Levels of assurance The level of assurance provided by audit and review engagements is as follows: External audit – A high but not absolute level of assurance is provided, this is known as reasonable assurance. This provides comfort that the financial statements present fairly in all material respects (or are true and fair) and are free of material misstatements. Review engagements – where an opinion is being provided, the practitioner gathers sufÏcient evidence to be satisfied that the subject matter is plausible; in this case limited assurance is given whereby the practitioner confirms that nothing has come to their attention which indicates that the subject matter contains material misstatements. Importance of assessing risks at the planning stage ISA 315 says that the auditor shall identify and assess the risks of material misstatement at the financial statement level and at the assertion level for classes of transactions and related disclosures, and account balances and related disclosures. It is very important that auditors carry out this risk assessment at the planning stage because: i. It helps the auditor gain an understanding of the entity for audit purposes ii. It helps the auditor focus on the most important areas of the financial statements (where material misstatements are more likely), therefore increasing efÏciency iii. The risk assessment will form the basis of the audit strategy and the more detailed audit plan iv. Once the risks have been assessed, audit team members of sufÏcient skill and experience can be allocated to maximise the chance of those risks being addressed. Factors to consider – Reliance on work performed by internal audit The following important criteria will be considered by the external auditors when determining if the work of internal auditors is likely to be adequate. Extent to which its objectivity is supported The auditor must consider the extent to which the internal audit function's objectivity is supported by its organisational status, relevant policies and procedures. Considerations include to whom internal audit reports, any conflicting responsibilities, any constraints or restrictions, whether those charged with governance oversee employment decisions regarding internal auditors and whether management acts on recommendations made. Level of technical competence The auditor must consider whether internal auditors are members of relevant professional bodies, have adequate technical training and proficiency and whether there are established policies for hiring and training. Whether a systematic and disciplined approach is taken The auditor must also consider whether internal audit activities are systematically and properly planned, supervised, reviewed and documented; and whether suitable audit manuals, work programs and internal audit documentation exist. The auditor must also consider whether the function has appropriate quality control procedures in place. Limitations of an internal audit department i. Bush-Baby Hotels have not had an internal audit department before so employees may not like the idea of being observed in their work and being reported on. ii. SetÝng up the department will cost a considerable amount and as there are 18 hotels in the company, the directors need to ensure they recruit an adequate number of internal audit staff to be able to achieve coverage across the company. Unless the department will be set up from existing employees, it is unlikely that the staff recruited will have the knowledge and experience required to audit this type of industry. iii. iv. v. Furthermore, internal auditors are not required to be professionally qualified so staff may not be sufÏciently knowledgeable in the industry or the work of internal audit initially. Internal auditors can never be completely independent, unlike external auditors, as they are employees of the company. Independence is therefore impaired, especially if senior management are dominant. Internal auditors may be unwilling to report serious findings to senior management for fear of losing their jobs. Internal auditors should report to both senior management and those charged with governance (dual reporting) but if this is not the case, management could unduly influence the internal audit plan, scope and reporting responsibilities. Additional functions of internal audit i. ii. iii. iv. v. The internal audit team could undertake value for money reviews, looking at the economy, effectiveness and efÏciency of activities and processes within the company. IT audits, ie performing tests of controls on the computer systems of the company. Financial audits, using substantive procedures and tests of controls in different areas such as cash, inventory and purchasing for example. operational audits, looking at the operational processes in place. The internal auditors could also examine compliance with laws and regulations. As the company operates in the hotel industry, this may be a key area to focus on. Finally, the internal auditors could carry out customer service reviews. This would most likely be in the form of analysing the results of customer service surveys. ISA 265 includes examples of matters to consider when determining whether a deficiency in internal control is a significant deficiency. These include: i. ii. iii. iv. v. The likelihood of the deficiencies resulting in material misstatements in the financial statements in the future The importance of the controls to the financial reporting process The susceptibility to loss or fraud of the related asset or liability The interaction of the deficiency with other deficiencies in internal control The amounts exposed to the deficiencies Purpose of a value for money (VFM) audit VFM focuses on the best combination of services for the lowest level of resources. The purpose of a VFM audit is to examine the economy, efÏciency and effectiveness of the activity or process in question.  Economy: Attaining the appropriate quantity and quality of physical, human and financial resources (inputs) at lowest cost.  EfÏciency: The relationship between goods or services produced (outputs) and the resources used to produce them.  Effectiveness: Concerned with how well an activity is achieving its policy objectives or other intended effects. CAATs – Advantages – CAATs allow the audit team to test a large volume of inventory data more accurately and more quickly than if tested manually. – CAATs decrease the scope for human error during testing and can provide evidence of a higher quality. – By using CAATs, auditors can test actual inventory transactions within the system rather than working on printouts from spool or previewed files which are dependent on other software (and therefore could contain errors or could have been tampered with following export). – Assuming the inventory system remains unchanged, CAATs used in the audit of Lily year on year should bring time (and therefore cost) savings in the long term, which should more than compensate for any set up costs. – Auditors can utilise CAATs to test programme controls as well as general internal controls associated with computers. – Results from CAATs can be compared with results from traditional testing. If the results correlate, overall confidence is increased. – The use of CAATs allows audit team members more time to focus on risk areas and issues requiring judgement, rather than performing routine calculations that can be carried out by audit software. CAATs – Disadvantages i. ii. SetÝng up the software needed for CAATs in the first year is likely to be time consuming and expensive. Audit staff working on Lily’s audit will need to be trained so they have a sufÏcient level of IT knowledge to apply CAATs when auditing the inventory system. iii. If testing is performed on data in the live inventory system, there is a risk that live client data may be corrupted and lost. If the inventory system at Lily changed then it may be expensive and time consuming to redesign the CAATs. If the inventory system at Lily is not compatible with Dafodil & Co’s CAATs then they will need to be tailored to Lily’s system, which may be costly. If testing is performed on data from copies of the live files rather than the live data itself, there is the risk that these files have been affected by the copying process or have been tampered with. If there is not adequate systems documentation available, it will be difÏcult to design appropriate CAATs due to a lack of understanding of the inventory system at Lily. iv. v. vi. vii. Steps to take following refusal to provide written representations i. ii. iii. Management has not provided a requested written representation, therefore ISA 580 Written representations requires the auditor to discuss the matter with management and ask why they will not provide the representation relating to the warranty provision. ISA 580 also requires the auditor to re-evaluate the integrity of management and evaluate the effect this may have on the reliability of any other representations (such as on the Yellowmix balance) and audit evidence in general. The auditor must then take appropriate actions, including determining the impact on the auditor’s opinion in the auditor’s report. Impact on the auditor’s report i. ii. iii. Given the limited evidence available other than the representation, the auditor will be unable to obtain sufÏcient appropriate evidence over the material warranty provision. Therefore a modification of the auditor’s opinion is required. A qualified opinion will be issued because the misstatement, although material, will not be pervasive. The opinion paragraph will explain that, except for the possible effects of the matter explained in the following paragraph, the financial statements are fairly presented in all material respects (or show a true and fair view). A basis for qualified opinion paragraph will be included after the opinion paragraph explaining the opinion has been modified because of management’s refusal to provide the written representation Procedures To Undertake In Relation To The Uncorrected Misstatement i. ii. The extent of the potential misstatement should be considered and therefore a large sample of inventory items should be tested to identify the possible size of the misstatement. The potential misstatement should be discussed with Clarinet Co’s management in order to understand why these issues are occurring. iii. iv. v. vi. The misstatement should be compared to materiality to assess if the error is material individually. If not, then it should be added to other errors noted during the audit to assess if in aggregate the uncorrected errors are now material. If material, the auditors should ask the directors to adjust the inventory balances to correct the misstatements identified in the 2014 year end. Request a written representation from the directors about the uncorrected misstatements including the inventory errors. Consider the implication for the audit report if the inventory errors are material and the directors refuses to make adjustments. CLIENT ACCEPTANCE PROCEDURES (i) (ii) (iii) (iv) (v) . (1) Ensure the firm is professionally qualified to act: Salt & Pepper will need to consider whether it could be disqualified to audit Cinnamon on legal or ethical grounds. This includes evaluating any threats to auditor independence and ensuring that the engagement is compliant both with the ACCA's Code of Ethics and Conduct and with local legislation. (2) Ensure existing resources are adequate: Salt & Pepper will need to ensure that it has the staff and technical expertise required to perform the audit competently within the timescale agreed. (3) Obtain references: Salt & Pepper will need to verify the identity, reputation and integrity of Cinnamon's directors. If necessary, references should be obtained for the directors. (4) Consider the associated risk: Based on the knowledge obtained about Cinnamon's business and its directors, Salt & Pepper will need to determine the level of risk associated with the audit engagement. It will need to assess whether the level of risk is acceptable to the firm, and whether the proposed audit fee is appropriate in the light of the associated risk. (5) Communicate with the predecessor auditors: Salt & Pepper should enquire about Cinnamon's reason for not reappointing its previous auditor. It should obtain permission from Cinnamon's directors to contact the outgoing auditor, and then communicate with the outgoing auditor to confirm whether there have been any actions by the client which would on ethical grounds preclude Salt & Pepper from accepting the engagement. The outgoing auditor will also require the directors' permission to respond to Salt & Pepper's request. If the directors refuse to allow Salt & Pepper to communicate with the outgoing auditor, or withholds permission for the outgoing auditor to respond, Salt & Pepper should not accept the audit engagement. PRECONDITIONS OF AN AUDIT Preconditions for the audit Auditors must only accept a new audit engagement if the preconditions for the audit are present.  Determine whether Cinnamon's financial reporting framework is acceptable. Factors to consider include the nature of the entity, the purpose of the financial statements, the nature of the financial statements, and whether law or regulation prescribes the applicable financial reporting framework .  Obtain agreement from Cinnamon's management that it acknowledges and understands its responsibilities for the following: – Preparing the financial statements in accordance with the applicable financial reporting framework – Instituting a system of internal control sufÏcient to enable the preparation of financial statements which are free from material misstatement – Providing Salt & Pepper with access to all information of which management is aware that is relevant to the preparation of the financial statements, with additional information that the auditor may request, and with unrestricted access to entity staff from whom the auditor determines it necessary to obtain audit evidence If these preconditions are not present, the auditor shall discuss the matter with Cinnamon's management . Salt & Pepper should not accept the audit engagement if: It has determined that the financial reporting framework to be applied is not acceptable .  Management's agreement referred to above has not been obtained. Audit strategy and plan Benefits of audit planning Audit planning (ISA 300) is addressed by ISA 300 (UK and Ireland) Planning an audit of financial statements. It states that adequate planning benefits the audit of financial statements in several ways: – i. ii. iii. iv. v. Helping the auditor to devote appropriate attention to important areas of the audit. – Helping the auditor to identify and resolve potential problems on a timely basis. Helping the auditor to properly organise and manage the audit engagement so that it is performed in an effective and efÏcient manner. Assisting in the selection of engagement team members with appropriate levels of capabilities and competence to respond to anticipated risks and the proper assignment of work to them. Facilitating the direction and supervision of engagement team members and the review of their work. Assisting, where applicable, in coordination of work done by experts