ACCA

Paper AAA (International/UK)

Advanced Audit & Assurance
Revision Mock Examination
March 2019
Question Paper

Time Allowed 3 hours and 15 minutes

ALL THREE questions are compulsory and MUST be attempted

Do NOT open this paper until instructed by the supervisor.
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 This is a blank page.
The question paper begins on page 4.

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1. You are an audit manager in Sinton & Co, a firm of Chartered Certified Accountants
with 8 offices throughout your home country. You are responsible for the audit of
Sinclair Medical Group, which supplies medical equipment to hospitals, clinics and
doctors’ surgeries. As well as managing some audit clients such as Sinclair Medical
Group, one of your other roles is to monitor the quality of the work done on audits
done by other audit managers, and as such you carry out a biannual “cold review”
process, going through a sample of completed audit files in detail and discussing each
assignment with the staff members who were involved.
The final audit of the financial statements of Sinclair Medical Group for the year ending
31 March 2019 is due to begin in mid-April 2019, and you are provided with the
following exhibits:
1. An email from Les Zamora, the engagement partner on the Sinclair Medical Group
audit
2. Background information on Sinclair Medical Group, including the recent outsourcing
of their payroll function
3. Extracts from Financial Statements of Sinclair Medical Group
4. Review Notes from two other audits done by other managers at your Firm

Required:
Respond to the email from Les Zamora. (46 marks)
Note: The split of the mark allocation is shown within the email.
Professional marks will be awarded for the presentation, structure, logical flow and
clarity of your answer. (4 marks)
Assume today’s date is 4 March 2019.
(50 marks)

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 Exhibit 1: Email from audit partner

Hello.
Regarding the Sinclair Medical audit, I would like you to prepare some briefing notes
for me covering the following:
(a) Using the information you have gathered so far, evaluate the business
risks facing Sinclair Medical. (12 marks)
(b) Evaluate FOUR risks of material misstatement to be considered in
planning the audit. (8 marks)
(c) Design audit procedures that you would perform on the capitalised
development costs. (7 marks)
(d) Explain the impact of the outsourcing of the company’s payroll on your
planning of the audit. (5 marks)
(e) Using Exhibit 4, evaluate the quality control, ethical and other
professional issues raised. (14 marks)
The marks are split evenly between the two audits in (e).
Thanks
Les

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 Exhibit 2: Background information on Sinclair Medical Group
Sinclair Medical Group is a provider of medical instruments to hospitals and doctors’
surgeries. They sell their products throughout the world, and have historically been
the leading supplier in their industry. However, in the past twelve months they
have seen a decline in sales of some of their leading products as competitors have
been bringing out advanced technology products which are both cheaper and of
better quality. Many of the products in the industry require licences before they can
be sold. These licences are relatively cheap but can take several months to receive.
To help address this issue, the Group has been investing heavily in research and
development, including recruiting some R+D staff from two rival companies. At
present no new products have been launched, but the directors are confident that
all of those currently being worked on will be successful, so have capitalised all
development costs as intangible assets. Some of the new competitors have sent
warning letters to Sinclair Medical’s legal department complaining that the new
products being developed are at risk of infringing existing patents because the staff
recruited by Sinclair Medical took confidential trade secrets with them, and making
clear that they will take immediate legal action if necessary. The staff members
concerned are unhappy at the accusations that they stole trade secrets from their
previous employers, and believe that Sinclair Medical should be doing more to
defend their honesty by publicly denying the claims. Two of these employees have
been off sick for several weeks and there are rumours circulating that they have no
intention of returning to work.
Two directors of Sinclair Medical were sacked during the year and both are claiming
wrongful dismissal, and have launched large legal claims against the Group. The
current board believe that the Group has acted correctly, but at a recent board
meeting they decided that it would be best to try to seek out of court settlements
with both ex-directors if possible. They plan to let the claims progress to see if the
two are serious about taking it as far as court, and only then offer a cash
settlement.
In June 2018 the company successfully applied for and received a government
grant to help subsidise the building of a new production facility in a part of the
country suffering from high unemployment. Under the terms of the grant the Group
must employ a minimum of 250 people for a four-year period starting no later than
1 May 2019. Due to falling sales revenue and other cash constraints, construction
of the new facility has not yet started.
In April 2018 the company decided to outsource its payroll to a specialist payroll
company called Payroll Bureau, and they have been managing the company’s
payroll ever since.

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Exhibit 3: STATEMENT OF FINANCIAL POSITION
Note As at 31 March As at 31 March
2019 2018
Draft Actual
Non-current Assets $m $m
Goodwill 1 4 36
Brands 2 17 27
Other intangible assets 3 28 10
Property, plant & equipment 40 35

Total Non-current Assets 89 108

Current Assets
Inventory 16 11
Receivables 4 24 22
Bank and Cash 2 9

Total Current Assets 42 42

Total Assets 131 150

Equity and Liabilities

Equity
Share capital 5 15 5
Retained earnings 13 68
Other components of equity 5 5

Total Equity 33 78

Liabilities
Non-current liabilities 6 60 40
Current liabilities 7 38 32

Total Liabilities 98 72

Total Equity & Liabilities 131 150

STATEMENT OF PROFIT OR LOSS

Note As at 31 March As at 31 March

2019 2018
Draft Actual
$m $m
Revenue 8 50 75
Operating expenses 9 (95) (80)
Operating Profit (45) (5)
Finance Charges (10) (5)
Loss Before Tax (55) (10)

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Notes to the extracts from the financial statements

1. Goodwill

Goodwill relates to the Group’s only subsidiary and is tested annually for
impairment.

2. Brands

Brands are amortised over 30 years and are tested annually for impairment.

3. Other intangible assets

Other intangible assets are mostly capitalised development costs. All of these relate
to projects which remain incomplete at the year end and therefore are not currently
subject to amortisation. They are tested annually for impairment.

4. Receivables

Receivables comprise only trade receivables and are shown net of a provision for
doubtful debts, which was 3% of gross receivables at 31 March 2019 (2018: 3%).

5. Share capital

A share issue in February 2019 raised cash of $10m, to fund development projects.

6. Non-current liabilities

Non-current liabilities comprise borrowings of $50m (2018: $35m), provisions of

$5m (2018: $1m) and deferred income of $5m (2018: $4m). A new 10-year loan
of $15m was taken out during the year at an annual interest rate of 20%. Provisions
relate to various ongoing legal cases. Deferred income relates to grants which are
released to profit or loss to match the costs they are designed to support, primarily
over a 4-year period.

7. Current liabilities

All current liabilities are amounts owing to trade suppliers.

8. Revenue

Revenue relates entirely to trade sales and is shown net of VAT.

9. Operating expenses 2019 2018

$m $m

Staff Costs 20 18
Costs of raw materials and production 48 52
Other operating expenses 27 10
Total 95 80

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Exhibit 4: Notes of review of audits of Bidwell plc and Manning plc
Bidwell plc
On the planning section of the file, revenue is described as an area of low risk.
However, there is no explanation of why this conclusion has been reached, and no
results from any tests of control over revenue are on the file. You spoke with the
trainee who did all of the audit work on revenue, and she informed you that she
had been instructed by the audit manager to focus only on analytical procedures
and to do nothing else, because the manager had worked on this client for 10 years
and had never found any problems with the accounting for revenue in that time.
She spoke highly of the manager, saying she had never audited revenue before as
on other audits she had only been trusted with testing bank and cash. The audit
file appears to have been fully reviewed and signed off by the appropriate levels of
audit personnel.

Manning plc
Another of the clients whose files you reviewed is Manning plc. Most of the audit
testing procedures were completed during July 2018. However, the assessment of
your firm’s independence was completed and signed off in August 2018, one week
after the audit report had been signed. The independence assessment was carried
out by a recently qualified audit senior. When you spoke with him, he told you that
the audit partner and manager had not been available much during the audit of
this client, because a recent marketing drive by your firm had been more successful
than anticipated and a number of new clients had been taken on. Both the manager
and partner had been heavily involved in work on these new clients, and had
informed the senior that now he had passed his final exams it was time he took on
a lot more responsibility, and ought to be trusted to work without constant
supervision. The audit file appears to have been fully reviewed and signed off by
the appropriate levels of audit personnel.

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 2. You are a manager in the transaction advisory services department of Smith & Co,
a large firm of accountants and auditors based entirely in the UK, but who are part
of a global network of similarly sized firms. You have been contacted by a manager
from the audit department of your firm regarding one of their clients, Gregory Co,
who are looking to expand by acquiring Abbott Co, a smaller competitor in the
same industry. Abbott Co are based in Asia, an area of the world where Gregory
Co currently have no presence or operations, and their most recent accounting year
ended 9 months ago. At present Abbott Co is a subsidiary within a large group of
companies.
After initial discussions between the Boards of the two companies, Gregory Co have
been granted exclusive access to Abbott Co for a period limited to four weeks, to
see if a potential offer will be made. This four-week period begins from today, and
Gregory Co and its appointed advisors will be able to have full access to all sites,
staff, books and records of Abbott Co during this period. The management of
Gregory Co know that if they do not have an offer accepted within this four-week
window, other companies are likely to start a bidding war and they are likely to
lose what they see as a perfect expansion opportunity. They have already
approached their bank to start discussions about a loan to help finance this
acquisition.
The management of Gregory Co are keen to act fast and since they believe their
relationship with your firm is very good because of the audit service you have
provided over the past three years since being appointed, they are not going to put
the due diligence work out to tender. They have invited your firm to accept
appointment to carry out a full investigation of Abbott Co, to include financial, legal
and all other relevant aspects.
Last year, the board of Abbott Co decided to start publishing non-financial
performance data in their annual report. The initial plan had been to focus purely
on environmental data including carbon emissions and the percentage of waste
being recycled, but they have also disclosed data on staff sickness, the proportion
of time that plant and equipment was unavailable because of breaking down or
other maintenance issues, and customer satisfaction scores. The board of Gregory
Co have been impressed by this and irrespective of whether they acquire Abbott
Co, they are considering reporting similar performance data from next year. If they
go through with this plan, they have asked if your firm could provide an assurance
report on this data in addition to auditing their financial statements.

Required:
(a) Using the specific information provided, describe the matters which
should be considered by your firm before accepting the assignment to
provide the due diligence service to Gregory Co. (8 marks)
(b) If the assignment were to be accepted, describe the principle areas of
investigation that the due diligence work is likely to involve. Note,
there is no need to check any of Abbott Co’s recently added non-
financial performance data.
(9 marks)
(c) Assuming the board of Gregory Co go ahead with their plan to report
the non-financial performance data they have seen Abbott Co disclose,
describe the examination procedures that could be carried out to
provide assurance on that data. (8 marks)
(25 marks)

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3. (a) In 2015, international audit standards were updated to reflect significant changes
to the form and content of audit reports on company financial statements. Included
in these changes was the introduction of “Key Audit Matters” (“KAM”).

Required:
Explain the responsibilities of the auditor in relation to “Key Audit Matters”
within audit reports, and give examples of items likely to be included
within this section. (5 marks)
(b) You are the manager on the audit of Harper Co for the year ended 31 December
2018. The audit work is almost complete and the financial statements and audit
report are both due to be signed early next week. The company is not currently
listed, but has plans to list on its country’s stock exchange within the next two
years, and already has an audit committee in place. The financial statements show
revenue of $80m (2017 - $79m), profit before tax of $12m (2017 - $17m) and
total assets of $34m (2017 - $32m).
You are reviewing points left for your attention by the audit senior as described
below, in order to conclude whether or not these points will impact the audit report
on the financial statements. You also need to draft your report to those charged
with governance, and have agreed with the audit committee that this report should
be available for discussion in advance of the signing of the financial statements and
audit report next week.
Points for Manager’s Attention
Inventory Count
The audit team attended the company’s year-end inventory count on 31 December
2018. When we arrived, we found the company’s premises to be very messy and
disorganised, and several of the company’s staff appeared unaware that the
inventory counting was going on, meaning inventory was moving around during
the count. The staff doing the count did not appear to have been briefed at all.
When we realised the count was far from efficient, we increased our own procedures
substantially and found no evidence of material misstatement in the final year end
inventory figures.
Borrowing Costs
The company took out a $5m loan on 1 January 2018 to finance the construction
of some new premises. The loan has an interest rate of 5% per annum and the first
interest payment was made on 31 December 2018. The loan is due for repayment
in full after 10 years. Construction began on the day the loan was taken out and
was completed on 30 June 2018. The interest payment of $250,000 has been
included in finance charges within the Statement of Profit or Loss. We have
communicated this mistake to the Finance Director but he has informed us that he
does not intend to correct it.
Going Concern
Based on our audit work, we agree with management that the company is a going
concern. However, during the year a whistleblower at the company went to a
national newspaper with revelations that the company had been cheating on fire
safety tests on its products in order to achieve the necessary industry certifications.
An investigation has begun and the board of directors has already confessed that
the reports appear to be true. It is too early to say what penalties the company will
face but they are likely to be severe, and there is a possibility that the company
will be forced to stop selling some of their most profitable products for a period of

w w w . s t ud y i nt e r a c t i v e . o r g 11
 time until they can reassure regulators as to their safety. The directors have
included a detailed disclosure note in the financial statements regarding this matter
highlighting the significant threat to the company’s going concern status, and we
are satisfied that the disclosures are sufficient. We are also satisfied that the
provision they have included in the financial statements in respect of potential fines
is satisfactory.
Integrated Report
The company has produced its first Integrated Report this year, and this will be
supplied to shareholders along with the audited financial statements. We have read
through this Integrated Report, and note that it includes the following sentence:
“The Board is delighted with the continued substantial growth of the company’s
financial performance during the year.”

Required:
Explain the impact of these matters both on your report to those charged
with governance, and on your audit report to the shareholders. (14 marks)
Assume today’s date is 4 March 2019.
(c) ISA 560 Subsequent Events lays out the responsibilities of the statutory auditor for
those events that happen subsequent to the accounting year end of audit clients.
Required:
Explain the responsibilities of an auditor relating to subsequent events.
(6 marks)
(25 marks)

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