3 (a) You are a manager in Lark & Co, responsible for the audit of Heron Co, an owner-managed business which
operates a chain of bars and restaurants. This is your firm’s first year auditing the client and the audit for the year
ended 31 March 2012 is underway. The audit senior sends a note for your attention:
‘When I was auditing revenue I noticed something strange. Heron Co’s revenue, which is almost entirely
cash-based, is recognised at $5·5 million in the draft financial statements. However, the accounting system
shows that till receipts for cash paid by customers amount to only $3·5 million. This seemed odd, so I questioned
Ava Gull, the financial controller about this. She said that Jack Heron, the company’s owner, deals with cash
receipts and posts through journals dealing with cash and revenue. Ava asked Jack the reason for these journals
but he refused to give an explanation.
‘While auditing cash, I noticed a payment of $2 million made by electronic transfer from the company’s bank
account to an overseas financial institution. The bank statement showed that the transfer was authorised by Jack
Heron, but no other documentation regarding the transfer was available.
‘Alarmed by the size of this transaction, and the lack of evidence to support it, I questioned Jack Heron, asking
him about the source of cash receipts and the reason for electronic transfer. He would not give any answers and
became quite aggressive.’
Required:
(i) Discuss the implications of the circumstances described in the audit senior’s note; and (6 marks)
(ii) Explain the nature of any reporting that should take place by the audit senior. (3 marks)
(b) You are also responsible for the audit of Coot Co, and you are currently reviewing the working papers of the audit
for the year ended 28 February 2012. In the working papers dealing with payroll, the audit junior has
commented as follows:
‘Several new employees have been added to the company’s payroll during the year, with combined payments of
$125,000 being made to them. There does not appear to be any authorisation for these additions. When I
questioned the payroll supervisor who made the amendments, she said that no authorisation was needed
because the new employees are only working for the company on a temporary basis. However, when discussing
staffing levels with management, it was stated that no new employees have been taken on this year. Other than
the tests of controls planned, no other audit work has been performed.’
Required:
In relation to the audit of Coot Co’s payroll:
Explain the meaning of the term ‘professional skepticism’, and recommend any further actions that should
be taken by the auditor. (6 marks)
(15 marks)
84 You are a senior manager in the audit department of Raven & Co. You are reviewing two situations which have arisen
in respect of audit clients, which were recently discussed at the monthly audit managers’ meeting:
Grouse Co is a significant audit client which develops software packages. Its managing director, Max Partridge, has
contacted one of your firm’s partners regarding a potential business opportunity. The proposal is that Grouse Co and
Raven & Co could jointly develop accounting and tax calculation software, and that revenue from sales of the software
would be equally split between the two firms. Max thinks that Raven & Co’s audit clients would be a good customer
base for the product.
Plover Co is a private hospital which provides elective medical services, such as laser eye surgery to improve eyesight.
The audit of its financial statements for the year ended 31 March 2012 is currently taking place. The audit senior
overheard one of the surgeons who performs laser surgery saying to his colleague that he is hoping to finish his
medical qualification soon, and that he was glad that Plover Co did not check his references before employing him.
While completing the subsequent events audit procedures, the audit senior found a letter from a patient’s solicitor
claiming compensation from Plover Co in relation to alleged medical negligence resulting in injury to the patient.
Required:
Identify and discuss the ethical, commercial and other professional issues raised, and recommend any actions
that should be taken in respect of:
(a) Grouse Co; (8 marks)
(b) Plover Co. (7 marks)
(15 marks)
