Suggested solution Audit (Mid-term)

Q-1

I. (a) A person who, not being qualified to be an auditor of a company, or being or having become
subject to any disqualification to act as such, acts as auditor of a company shall be liable to fine
which may extend to twenty five thousand rupees.

(b) The appointment as auditor of a company of an unqualified person, or of a person who is

subject to any disqualifications to act as such, shall be void, and, where such an appointment is
made by a company, the Commission may appoint a qualified person in place of the auditor
appointed by the company.

II. An assurance engagement performed by a practitioner will consist of the following five elements:
 A three party relationship:

o Practitioner – the individual providing professional services that will review the
subject matter and provide the assurance. E.g. the audit firm in a statutory audit

o Responsible party – the person(s) responsible for the subject matter. E.g. the
directors are responsible for preparing the financial statements to be audited

o Intended users – the person(s) or class of persons for whom the practitioner
prepares the assurance report. E.g. the shareholders in a statutory audit

 Subject matter: This is the data such as the financial statements that have been prepared
by the responsible party for the practitioner to evaluate. Another example might be a cash
flow forecast to be reviewed by the practitioner.

 Suitable criteria: This can be thought of as ‘the rules’ against which the subject matter is
evaluated in order to reach an opinion. In a statutory audit this would be the applicable
reporting framework (e.g. IFRS and company law).

 Evidence: Information used by the practitioner in arriving at the conclusion on which their
opinion is based. This must be sufficient (enough) and appropriate (relevant).

 Assurance Report: The report (normally written) containing the practitioner’s opinion. This
is issued to the intended user following the collection of evidence.

Q-2

a) The appointment of Sajid, Hameed and Company (SHC), Chartered Accountants will be in order
as Kashif is not the employee of any director of MHL, instead he is employed by the trust in
which the directors are the trustees.
b) ACA will not be disqualified from acting as auditor of Hatib Ltd due the fact that Mr. Ali is
presently not a partner of a director of Hatib Ltd, whereas the law only applies to a current
partner.
Furthermore, holding of shares in Beta Ltd by Mr. Ali’s father will not disqualify him from acting
as auditor of Hatib Ltd.
c) According companies ordinance 1984, a company shall be holding company if it owns 50% or
more share of another the company. As black Barry limited own only 40% of the share of the
LPL so it is not in a holding subsidiary relationship. Furthermore the paid up capital of LPL is less
than 3 million for which the requirement qualification of external auditor does not apply. But
the managing agent falls in the definition of officers which are prohibited to become auditor of
the company. So Mr.ice cream soda has become disqualified becomes auditor of the company
as he is officer of the company.
 d) Azar Limited and Faiz Limited would be considered as Associated Companies as Mr. Ahmad is a
director at Azar Limited and hold 22% shares of Faiz Limited.
UCA would not be disqualified from acting as auditor of Faiz Limited provided Mr. Shahzaib
agrees to disclose the fact of his shareholding in Azar Limited at the time of his appointment and
agrees to dispose of the shares within 90 of such appointment.
e) As per Companies Ordinance, 1984, a person is disqualified from becoming an auditor if he was
an employee in the company or any of its associates in the last 3 years. Furthermore, the auditor
of a private company which is subsidiary of a public company should be a chartered accountant.
Mr. Dragneel was a director in Wally Cones Limited in the last 3 years moreover, he is not a
chartered accountant, hence he is disqualified from acting as an auditor of Cooper Warehouses
(Pvt.) Limited.
f) Zain and Company is ineligible for appointment as the auditor of HL as Imran is a partner in Pure
Investment Associates, which holds share in HL which is prohibited under the Companies
Ordinance, 1984. In order to be eligible for appointment shares are to be disposed-off within 90
days of such appointment.

Q-3
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Q-4

A person is not qualified to be appointed as an auditor of a company if he is disqualified for appointment

as auditor of its holding company or subsidiary company.
A person or his spouse or minor children or partner of firm who holds any shares in an audit client or any
of its associates is disqualified, unless he discloses the fact of shareholding at appointment and divests
them within 90 days.

As in this case Bashir is an adult, none of the provisions of the Companies Ordinance 1984 shall apply on
this matter.

There shall be no disqualification due to the directorship of Mr. Mirza’s daughter. Mr. Mirza shall
disclose at appointment that his spouse holds 20,000 shares in Noman Ltd. and shall divest them within
90 days.
Q-5

ISA 210 requires the auditor to consider the justification for the request and whether it is “reasonable”.

 If the auditor considers that it is a reasonable request then revised terms should be agreed and
recorded.
 If the auditor is unable to agree to a change of terms he should withdraw from the engagement
and consider whether there is any obligation to report the circumstances to those charged with
governance, owners or regulators.

Q-6
I. Before accepting an appointment, the audit firm should:
 Assess whether acceptance would create any threats to compliance with the
fundamental principles and consider the significance of any threat identified.
 Ensure that resources are available to complete the audit assignment; in
particular, it must ensure that there will be sufficient staff (of the right level of
expertise) available at the right time.
 Take up references on the proposed client company and its directors, if they are
not already known to the auditors. This is usually referred to as client screening.
II.
o Arrangements regarding the planning and performance of the audit, including
the composition of the audit team;
o The expectation that management will provide written representations;
o The basis on which fees are computed and any billing arrangements;
o A request for management to acknowledge receipt of the engagement letter and
to agree to its terms;
o Arrangements concerning the involvement of other auditors, experts or internal
auditors (or other staff of the entity); and
o Any restriction of the auditor’s liability when such possibility exists.

III. According to the ICAP’s code of ethics “Advertising for solicitation must be avoided”,
hence, as any advertisement is aimed at obtaining work for the audit firm, then this
advertisement expressly violates ICAP’s code of ethics.
 The testimonial of Mr. Noman violates the fact that any announcements should
not contain testimonials and endorsements.
 By giving a guarantee of unmodified opinion, the advertisement creates false,
deceptive and unjustified expectations of favorable results; hence this statement
is also void.
 Comparison may be made to the fee of others, provided that this is not
misleading and that it follows local regulations or legislations. By stating that the
Alpha Chartered Accountants’ fee is the lowest this provision is also violated.
 The fact that the free taxation services are not for all clients has not been
disclosed in an objective manner hence violates ICAP’s Code of Ethics.
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 The statement that Alpha Chartered Accountants have been serving since 1949
does not conform to basic principles of honesty and truthfulness as; they have
been providing auditing services since 2010.

Q-7

I.
a) Materiality (when base is PBT):
3,118 ,333,211×5%=Rs.155,916,661
b) Materiality (When base is Revenue):
8,000,000,000×1%=Rs.80,000,000
c) Performance Materiality for Part (a):
155 ,916,661×50%=Rs.77 ,958,330
Performance Materiality for Part (b):

80,000,000×50%=Rs.40,000,000
II.

At the financial statement level these “responses” are overall ones, which may include:

 Emphasizing to the audit team the need to maintain an attitude of professional

scepticism.
 Assigning more experienced staff or increased supervision of staff.
 The use of experts.
 Changing the nature, timing and extent of audit procedures (for example, performing
more substantive procedures at the final rather than at the interim audit, or obtaining
more “persuasive” audit evidence).
 Incorporating additional elements of unpredictability in the selection of further audit
procedures to be performed.

III.
A.R = I.R × C.R × D.R
0.1 = 0.2 × 0.3 × D.R
D.R = 1.6667
IV. Business Risk:
Business risks are risks occurring as a result of significant conditions, events,
circumstances, actions or inactions that could affect an entity’s ability to reach its
objectives and carry out its strategies. Business risks can also occur as a result of setting
of inappropriate objectives, strategies or goals.

Audit Risk: The risk that the auditor expresses an inappropriate audit opinion when the
financial statements are materially misstated. Audit risk is a function of the risks of
material misstatement and detection risk.
 This model can be stated as a formula:
AR = IR × CR × DR
Where:
AR = audit risk IR = inherent risk
CR = control risk, and DR = detection risk.

Q-8
Audit risk

There is a risk that revenue from fees income and sale of goods is misstated due to
reasons:

 Fees income may be recognized immediately on receipt of fees rather than

recognized on monthly basis as the services are rendered.
 Discounts given to students may not be accounted for properly, resulting in
overstatement of revenue.
 There is a risk that revenue related to sale of course material is in-appropriately
classified as part of the university fees, as a result of which it may have been
recognized proportionately on the basis of time (services provided).
 Entire revenue from sale of course material may not be recognized.

Q-9

I. The given situation depicts that the whole team was subject to Familiarity threat
towards independence including the engagement partner. This also signifies that there
is a lack of quality control at firm level since seniors are also found involved in practices
which challenges the quality of audit being delivered.

Safeguards:
 A reporting mechanism must be put in place so that such incidents are timely
reported.
 An independent partner shall review the working papers of said client to establish
whether the report issued was appropriate in circumstances or not.

II. Such types of services are considered to be a normal part of the audit process and are
not considered to affect the independence of an auditor. However the auditor shall
ensure that he does not perform management functions.
Safeguards:
 Since the client is a listed entity, it should be ensured that an independent partner
review has taken place to cover the threat of self-review in that area.

Q-10
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a) Information can be disclosed to the extent to which the details are made public
by the company, which is a common practice and requirement of law in the
nutrition sector.
b) According to the Code of Ethics, a professional accountant may be required to
disclose confidential information when:
 Disclosure is permitted by law and is authorized by the client or the
employer.
 Disclosure is required by law (For example in the course of legal
proceedings or disclosure to appropriate public authorities if
infringement of law is discovered).

In case a written notice is received from the Ministry of Health, the relevant
information may be provided after ensuring that it is actually required by
law. However, even in such case, the client should at least be informed
before sending the information

c) Past information of earnings per share may be disclosed; as the same is public
information but future projections should not be disclosed as it is confidential
information of the entity.

Q-11

(i) This situation does not contain any threat as the spouse of a partner in the firm
is a legal consultant and is assisting an audit client of that firm in filing its tax
return, this would not create any threat as the spouse is providing legal services
in her individual capacity and is not an employee of the audit client of the firm.
Moreover, she is providing services of filing tax return to the company which is
not close to the subject matter.
(ii) Self-Interest Threat arises in this situation as Subsequent employment with the
assurance client is of personal interest to the audit manager which will impair
the independences and objectivity of the audit manager in the professional
matter.
Safeguards:
 The audit manager should inform the firm about the job offer, offered to
him by the client company.
 The firm should remove the audit manager from the engagement team, if
he is considering accepting the job offer.
(iii) Intimidation Threat arises in this situation as the CEO of the client has actually
threatened the firm of replacement in case there is a disagreement by the
auditor over the issues.
Safeguards:
 Partner should discuss the issue with the other partners in the firm.
 Disclose to the audit committee or those charged with governance, and
 May decide to withdraw from the current year engagement.
(iv) Familiarity Threat arises in this situation as the prolonged period of time during
which partner has been the engagement partner could lead to a close
relationship with the company. This could affect his objectivity as he may decide
not to discuss contentious matters with the management, to maintain good
relationship.
Safeguards:
 The firm is required to rotate the partner in charge frequently in order to
reduce threat to an acceptable low level.