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Question 1

Assume the date is 17 July 2023

You are Chris Maisie and you work in the audit department at ML.

Mike Hepburn, ML’s audit engagement manager for Weston, gives you the following
briefing:

‘You will have reviewed the background information I provided and the handover
notes prepared by Elliott Evans. You will also have familiarised yourself with the data
for Weston for the 11 months ended 30 November 2022.

‘Data for December 2022 has been imported into the data analytics software from
Weston’s nominal ledger, so the full-year nominal ledger data for the year ended 31
December 2022 is now available.

‘I was concerned about the quality of audit procedures carried out by Elliott Evans on
revenue and deferred revenue during audit planning (Advance Information, Exhibit
B). In particular, I believe that Elliott has accepted the client’s explanations too
readily.

‘Last week, just before going on study leave, Elliott performed some further audit
procedures on the directors’ bonus (Exhibit 1). Elliot used the full year data for the
year ended 31 December 2022 to perform these procedures.

‘Sam Patel, an audit senior, identified an unusual on-premises sales invoice (Exhibit
2). Sam also provided additional information (Exhibit 3) about the matters identified
in Elliott’s handover notes (Advance Information, Exhibit B).

‘I have set out, in a separate document (Exhibit 4), instructions for the tasks that I
would like you to perform.’

Requirement

Respond to Mike Hepburn’s instructions (Exhibit 4).

Total: 43 marks

Page 2 of 19
Exhibit 1: Audit procedures on the directors’ bonus – prepared by Elliot Evans

I performed analytical procedures on the directors’ accrued bonus (Account code

2150 − 30 Directors’ Bonus Accrual) and identified that the balance is higher than the
previous year. Jay Saunders explained:

‘The balance represents the bonus payable to Weston’s directors for the year ended
31 December 2022. It has increased because the bonus is linked to revenue, which
has increased from the previous year.’

Jay also informed me that the way in which the bonus is calculated has changed
from a cash bonus to a share-based bonus scheme which entitles the directors to
receive either cash or shares in PAS plc on 31 December 2023, the vesting date.
Jay provided the following details of the scheme:

From 1 January 2022, the amount of the directors’ bonus is linked to revenue
targets set by PAS plc, Weston’s parent company. PAS has set targets for
Weston’s revenue for each of the years ended 31 December 2022 and 2023.
Weston’s directors will only be entitled to a bonus if both these annual revenue
targets are met. At 31 December 2022, the revenue target was met.

Also, the directors must still be board members at the vesting date. At 1 January
2022 and on 31 December 2022, the board expected that there would be no
changes to the composition of the board at 31 December 2023 and five directors
would qualify for the bonus.

On the vesting date, the bonus scheme gives each director the right to elect to
receive either 26,000 shares in PAS plc (the share route), or cash to the value, on
that date, of 20,000 shares in PAS plc (the cash route).

On 1 January 2022, the board estimated the fair value of the right to receive one
PAS plc share under the share route to be £7.

The market price of PAS plc’s shares at 1 January 2022 was £8.70 per share. At 31
December 2022, PAS plc’s share price was £10.12 per share.

I was told that Jay posts a bonus accrual on a monthly basis and estimates the
amount based on the market price of PAS plc’s shares at the end of each month. As
an example, Jay provided me with a working for the bonus accrual for December
2022.

5 directors x 20,000 shares = 100,000 shares

Therefore, the accrual for the month of December 2022 is:

(100,000 shares / 24 months) x £10.12 per share = £42,167

This figure was rounded to £42,170 and posted to Account code 2150 − 30 Directors’
Bonus Accrual.

Page 3 of 19
Audit procedures and conclusion

• Using the Explore module I have checked that revenue has increased, which
supports Jay’s explanation of why the bonus has increased.

• I have checked the accuracy of Jay’s calculations of the December 2022

bonus accrual. I noticed that the amount charged to Account code 2150 – 30
Directors’ Bonus Accrual was £42,170.

• I reviewed the pattern of costs recorded in Account code 2150 – 30 Directors’

Bonus Accrual and I noticed that the accrual for July 2022 was lower than for
other months. I confirmed that the PAS plc share price was lower in July 2022
than in June 2022 and August 2022.

Conclusion

I believe that the accrued bonus liability is fairly stated.

Page 4 of 19
Exhibit 2: Unusual on-premises sales invoice – identified by Sam Patel

Using the Detect module, I identified a large on-premises sales invoice in November
2022 – see transaction ID 3630.

Kelly Muard explained that this invoice relates to GY Inc, a non-UK customer. GY
insisted on being invoiced in its local currency, the A$.

On 30 November 2022, the invoice was recorded in the nominal ledger and revenue
recognised at the exchange rate of £1 = A$2.

Kelly told me that Weston issued the licence key for GY to download and use the
software on 31 December 2022. The exchange rate at 31 December 2022 was £1 =
A$3.

The customer eventually paid the invoice on 31 March 2023, when the exchange
rate had moved to £1 = A$3.50.

No adjustments have been made to the carrying amount of the GY receivable at 31

December 2022.

Page 5 of 19
Exhibit 3: Additional information − prepared by Sam Patel

I followed up the matters raised in the handover notes prepared by Elliott (Advance
Information, Exhibit B). I provide an update below:

Note 1: On-premises sales transactions – cash in advance

I asked Kelly Muard about the sales transactions identified by Elliott.

Kelly confirmed that Weston requires cash to be paid by customers before an invoice
is raised for some on-premises sales contracts. Kelly said that customers paying in
advance sometimes demand that the licence key is sent to them as soon as the cash
is paid.

Kelly emails Jay Saunders with details of the dates on which licence keys are issued
for all on-premises sales contracts.

Note 2 Account code 2600 − 30 Deferred SaaS Revenue

I have obtained the working for the revenue recognition journal for cloud and on-
premises revenue for December 2022. The amount of revenue recognised for
December 2022 comprises:

£
Cloud revenue invoices for December 2022 invoiced to cloud revenue
customers in advance and posted in November 2022. 1,032,365

Release of December 2022 deferred revenue for cloud revenue

customers invoiced quarterly and annually in advance. 8,807

On-premises invoices posted in December 2022. (If the contract is for Nil
24 months, only 50% of the amount invoiced is recognised as
revenue).

Genie Care Homes cash received in December 2022 (invoiced in 672,624

January 2023).
1,713,796
Total

Account code 2600 − 40 Deferred Revenue Support Services

While following up Elliott’s handover notes, I also identified that the £nil balance on
Account code 2600 − 40 Deferred Revenue Support Services is unchanged from
November 2022.

Page 6 of 19
Exhibit 4: Audit engagement manager’s instructions – audit of Weston for the
year ended 31 December 2022

1. In respect of the directors’ bonus (Exhibit 1):

a. Set out and explain the correct financial reporting treatment for the directors’
bonus in Weston’s financial statements for the year ended 31 December
2022. Prepare journal entries to correct the balance recorded on Account
code 2150 − 30 Directors’ Bonus Accrual.

b. Identify and explain any weaknesses in the audit procedures carried out by
Elliott.

2. Set out and explain the appropriate financial reporting treatment of the on-
premises sales invoice identified by Sam (Exhibit 2) for the year ended 31
December 2022.

3. Using all information available:

a. Identify and explain the key audit risks for revenue and deferred revenue. For
each audit risk, use the data analytics software to identify illustrative
transactions and balances and justify why these give rise to the audit risk.

b. Set out the key audit procedures that ML should perform to address the audit
risks that you have identified for revenue and deferred revenue.

Page 7 of 19
Question 2

Assume the date is 17 July 2023

You recently joined Finley LLP, a firm of business advisers. You assist John Byron,
your line manager, in providing technical financial reporting advice to clients.

John gives you the following briefing:

‘Welcome to Finley. I have set out technical issues for you from two unconnected
clients (Exhibit 1: Hex Ltd and Exhibit 2: JTY Ltd). I would like you to prepare
briefing notes for me to review before I discuss these issues with the clients. At the
end of the description of the technical issues for each client, I have set out detailed
instructions for the work that I would like you to carry out.’

Requirement

Prepare the briefing notes requested by John.

Total: 27 marks

Page 8 of 19
Exhibit 1: Hex Ltd

Hex is a private engineering company. Its year end is 30 September.

In 2014, Hex issued 40 million 25p ordinary shares at par to a private equity firm,
Longton Investments LLP. The shares were fully paid up in cash.

The shareholders of Hex are as follows:

Number of 25p
ordinary shares
Million
Longton Investments LLP – Private equity firm 40
Kelvin Green – Founder and CEO 50
Other members of the Green family 10
100

Hex has provided the following forecast summary statement of financial position at
30 September 2023:

£000
Cash and cash equivalents 13,655
Other net assets (Note) 38,867
52,522

Share capital 25,000

Retained earnings 12,522
Revaluation surplus (Note) 15,000
Total equity 52,522

Note

Included in ‘Other net assets’ is property, plant and equipment (PPE). This PPE
includes specialist engineering equipment which Hex bought on 1 October 2017 for
£20 million. Until 30 September 2022, the equipment was held under the cost model
and depreciated with a useful life of 20 years and £2 million residual value.

On 1 October 2022, Hex changed its accounting policy for specialist engineering
equipment to the revaluation model. On that date, this equipment was revalued to
£30.5 million and the Hex board estimates the remaining useful life and residual
value to be 12 years and £5 million respectively. The board has used these figures to
calculate the depreciation charge in its forecast financial statements for the year
ending 30 September 2023. Hex’s auditors have agreed the change in accounting
policy and the revalued amount.

The revaluation surplus relates only to the specialist engineering equipment. Hex’s
accounting policy is not to make annual transfers between revaluation surplus and
retained earnings.

Proposed share transactions

Page 9 of 19
The forecast summary statement of financial position does not include the following
proposed share transactions.

In February 2023, Longton Investments asked Hex to repurchase its 40 million

ordinary shares. Hex’s Articles of Association permit share repurchases. At a
shareholder meeting in May 2023, Hex’s shareholders agreed that the share
repurchase would be in the best interests of the company and passed a special
resolution to approve it.

On 1 August 2023, Hex will pay £12 million to Longton Investments in consideration
for its 40 million 25p ordinary shares. £12 million represents the fair value of the
shares.

On 1 August 2023, to finance part of the share repurchase, Hex will issue 5 million
25p ordinary shares at par to Cath Green, Kelvin’s wife. Cath will pay cash for these
shares.

The Hex board would like advice on the impact on Hex’s distributable profits of these
proposed share transactions.

Instructions

In your briefing notes:

a) Set out and explain the financial reporting treatment of the proposed share
transactions in Hex’s financial statements for the year ending 30 September
2023. Include journal entries.

b) Redraft the forecast summary statement of financial position for Hex at 30

September 2023 including your journal adjustments from a).

c) Calculate and explain Hex’s forecast distributable profits at 30 September 2023

and the maximum dividend it could declare.

Ignore any adjustments for current and deferred taxation as these will be dealt with
later.

Page 10 of 19
Exhibit 2: JTY Ltd

JTY operates a chain of supermarkets in the UK and its functional currency is the £.
On 30 September 2023, JTY will acquire its first subsidiary, Frangla SARL, a small
specialist food retailer located in France. JTY will pay €1,725,000 for 100% of the
shares in Frangla. Both JTY and Frangla have a 30 September year end.

To finance the acquisition of Frangla, JTY entered into a sale and leaseback
agreement with AU Bank plc. On 1 July 2023, JTY sold a supermarket property to
AU Bank for £2,300,000. Immediately prior to the sale, the property was recognised
in JTY’s statement of financial position at a carrying amount of £2,880,000, which is
equal to the fair value of the property. The carrying amount includes 9 months
depreciation to 1 July 2023.

Following the sale, JTY arranged to lease back the property for five years
commencing on 1 July 2023. The annual lease payments are £654,000, payable
annually in arrears. The lease payments are at market rate. The first payment will be
made on 30 June 2024. JTY has agreed to pay insurance and maintenance costs for
the property over the 5-year period of the lease. It will continue to trade from the
property. At the end of the lease, JTY has the option to repurchase the property from
the lessor for £1.

JTY’s finance director, Petra Younis, has treated the transaction as a disposal and
therefore derecognised the property and included a loss on disposal of £580,000 on
1 July 2023 in the statement of profit or loss.

Petra has provided the following summary forecast statements of financial position at
30 September 2023:

JTY Ltd Frangla

£000 €000
PPE 9,450 1,250
Investment in Frangla 1,500
Current assets 230 207
Total assets 11,180 1,457

Share capital 1,000 200

Retained earnings 6,650 702
Current liabilities 265 255
Non-current liabilities 3,265 300
Total equity and liabilities 11,180 1,457

Assumptions:

• The carrying amounts of Frangla’s assets and liabilities will equal their fair
values at 30 September 2023.
• The exchange rate at 30 September 2023 will be £1 = €1.15.

Petra has requested advice on how to reflect the above issues in JTY’s financial
statements for the year ending 30 September 2023.

Page 11 of 19
Instructions

In your briefing notes:

a) Explain the appropriate financial reporting treatment of the sale and leaseback
transaction in JTY Ltd’s financial statements for the year ending 30
September 2023. Include journal entries.

b) Prepare a forecast consolidated statement of financial position for the JTY

Group at 30 September 2023, including your journal adjustments from a).

c) Explain briefly your consolidation adjustments.

Ignore any adjustments for current and deferred taxation.

Page 12 of 19
Question 3

Assume the date is 17 July 2023

You are Kim Howe, an audit senior working for MN LLP, a firm of ICAEW Chartered
Accountants. You are currently planning the audit of Asher Property Ltd (AP) for the
year ending 30 September 2023. You have asked your assistant, Naz Hamar, to
perform preliminary audit planning procedures.

AP is owned by two cousins, Matt and Jem Asher, who each hold 50% of AP’s
issued ordinary share capital. Matt and Jem are the only directors of AP.

AP operates in the rental and leasing services sector. It owns a number of small
shops and offices in the UK, which it rents to local businesses or individuals on
leases of between one and five years. AP’s investment properties are funded by a
bank loan. The terms of the bank loan require AP to have an annual audit.

From 1 April 2023, AP has started to offer loans to some of its business tenants
(tenant loans).

Matt is AP’s chief executive and an ICAEW Chartered Accountant.

Prior to October 2022, Jem had no involvement with the AP business other than as a
shareholder. On 1 October 2022, he returned to live in the UK after spending a
number of years in Asia. Jem approached Matt with suggestions of how AP could
expand its business into Asia.

Matt was excited by Jem’s plans, so appointed him as AP’s director of Asian
business development. On 1 January 2023, Jem loaned AP £400,000 to buy its first
non-UK property, Gavi Mansion, located in South East Asia. Jem arranged the
purchase of this property and he is managing it for AP.

Your assistant, Naz, met with Matt and Jem yesterday and has provided a working
paper (Exhibit 1) summarising their discussion and Naz’s observations from the
audit procedures performed to date. Naz has also provided a copy of AP’s
management accounts for the 9 months ended 30 June 2023, which were prepared
by the AP financial controller (Exhibit 2).

The audit engagement manager, Mo Mendez, calls you:

‘I have had a call this morning from Jem Asher expressing concern about the
meeting that he and Matt had with Naz yesterday. Jem thinks that Naz asked too
many questions and did not really understand the company or its business. I am
surprised by this as I have always considered Naz to be a very good auditor. I have
agreed to meet with Matt and Jem tomorrow to explain our audit approach.

‘I have also had an email from Matt Asher (Exhibit 3) asking for our help in respect
of the Asian business expansion.

Page 13 of 19
‘In advance of my meeting tomorrow with Matt and Jem, review all the information
provided and prepare a briefing paper for me in which you:

1. Use the information provided in Matt’s email (Exhibit 3) to:

a. Identify and explain the key audit risks arising from AP’s Asian
business expansion. Include an explanation of any financial reporting
issues.

b. Set out how I should respond to Matt’s request for advice, explaining
any ethical considerations for MN arising from the email or from AP’s
Asian business expansion. Identify any actions that I should take.

2. Identify and explain the other key audit risks for AP for the year ending 30
September 2023. Include an explanation of any financial reporting issues.
Ignore the audit risks you have already identified in relation to AP’s Asian
business.’

Requirement

Prepare the briefing paper requested by Mo Mendez.

Total: 30 marks

Page 14 of 19
Exhibit 1: Working paper prepared by Naz Hamar – audit assistant

This working paper summarises key points for MN’s audit of AP for the year ending
30 September 2023. It includes matters noted both from my discussion with Matt and
Jem Asher and from the preliminary audit procedures I have performed to date.

Materiality

Based on the forecast results for the year ending 30 September 2023 (Exhibit 2), I
have calculated materiality for the AP audit as £16,000.

UK rental business

AP continues to rent its UK shops and offices to local businesses and individuals on
leases of between one and five years. In prior years, MN has reviewed UK rental
agreements in detail and concluded that they are all operating leases. Matt assures
me that AP’s standard rental agreement has not changed and my review of a sample
of rental agreements confirms this. AP is responsible for building insurance, repairs
and maintenance. Rentals are payable quarterly in advance, on or before the last
day of the previous quarter.

At 30 June 2023, AP was owed rent totalling £75,000. Of this, £40,000 is due from
one tenant, Dove Ltd and £5,000 from another tenant, Bee Ltd. The balance of
£30,000 relates to other tenants who have now paid.

Dove leases an office from AP for rent of £10,000 per quarter, but it has paid no rent
since the payment made on 30 June 2022 in respect of the quarter ended 30
September 2022. The owner of Dove is refusing to pay any rent because he argues
that the property has not been well-maintained by AP.

Bee Ltd, signed a three-year rental agreement on 30 September 2022. It paid its rent
for the first three quarters on the due dates, but it has not paid the rent of £5,000 for
the quarter ending 30 September 2023, which was due for payment on or before 30
June 2023.

Following an approach from Bee’s managing director, Matt has agreed that AP will
not charge Bee rent for the period from 1 July 2023 to 31 December 2023, provided
that Bee agrees to increased quarterly rentals of £7,200 from 1 January 2024 to the
end of its lease term on 30 September 2025.

In October 2022, AP acquired Cobb House, a new UK investment property, for

£288,000. The property is divided into five small shops, each of which was leased to
a different tenant on 1 January 2023. The base rent for each unit is £1,000 per
quarter payable in advance. Tenants must also pay additional rent equal to 3% of
their retail turnover for each calendar year.

I reviewed one of the new rental agreements and noted that the additional rent is
payable annually, one month after the end of the calendar year to which it relates. All
other terms are the same as those in AP’s standard rental agreement.

Page 15 of 19
Recording of invoices and rental income

When invoices are issued to tenants for the quarterly rent due, the entry made in
AP’s financial statements is a debit to receivables for rent due and a credit to
deferred income within current liabilities.

The rental income to be recognised each month is calculated using a spreadsheet

prepared by AP’s administrative assistant. A journal entry is made to recognise
rental income by a debit to deferred income and a credit to revenue.

The data entered in the spreadsheet for each rental agreement comprises the start
and end dates for the rental agreement and the quarterly rentals due. I selected a
sample of five entries in the spreadsheet and was able to agree the details to rental
agreements.

Tenant loans – granted by AP to its business tenants

From 1 April 2023, AP has offered loans to business tenants to buy fixtures and
fittings. To qualify for a loan, tenants must have at least two years remaining on their
rental agreement with AP. Tenant loans range from £1,000 to £50,000.

The loan principal is repayable in full at the end of the tenant’s rental agreement
together with a premium. The premium equals 0.5% of the loan principal, for each
month of the loan term. For example, if a loan of £10,000 is provided for a tenant
with two years remaining on its rental agreement, the total amount that the tenant
must repay in two years’ time is £10,000 + (24 months x 0.5% x £10,000) = £11,200.

AP’s financial controller has recorded the tenant loans as receivables in the
management accounts and has charged all associated loan costs to AP’s statement
of profit or loss. No other accounting entries have been made.

Page 16 of 19
Exhibit 2: Summary management accounts for AP – prepared by AP financial
controller

Summary statements of profit or loss

Year ended 9 months

ended

30 September 30 September 30 June

2022 2023 2023
(Actual) (Forecast) (Actual)
£000 £000 £000

Revenue from rental business 675 800 584

Staff and other operating costs (457) (570) (444)

Interest payable on bank loan (Note

1) and loan from Jem (125) (161) (118)

Legal costs relating to tenant loans − (18) (12)

Gain in fair value of investment
properties (Note 2) 247 − −

Profit before tax 340 51 10

Tax at 19% (65) (10) (2)

Profit after tax 275 41 8

Dividends paid (137) (20) −

Page 17 of 19
 Summary statements of financial
position As at

30 September 30 September 30 June

2022 2023 2023
(Actual) (Forecast) (Actual)
£000 £000 £000

Non-current assets
- Investment properties (Note 2) 3,527 4,215 4,215
- Property plant and equipment 203 200 185

Current assets
- Receivables for rent due 10 50 75
- Receivables for tenant loans - 500 236
- Other current assets 73 55 54
- Cash at bank 610 150 198
Total assets 4,423 5,170 4,963

Equity
- Share capital 500 500 500
- Retained earnings 695 716 703

Non-current liabilities
- Bank loan (Note 1) 2,500 2,500 2,500

- Loan from Jem Asher - 400 400

Current liabilities 728 1,054 860

(including deferred rental income)
Total liabilities and equity 4,423 5,170 4,963

Notes:

1. Interest on the bank loan is charged at an annual rate of 5% payable on 30

September each year. The bank loan is secured on UK investment properties and
the principal is repayable on 30 September 2030.

2. AP has chosen to use the fair value model for all its investment properties. Matt
Asher has told me to assume that:

• the fair values of AP’s rental properties at 30 September 2023 will be the
same as their carrying amount at 30 September 2022; and
• the fair value of properties purchased in the current year will be the same as
their purchase cost.

Page 18 of 19
Exhibit 3: Email from Matt Asher, AP CEO, to Mo Mendez, audit manager

Mo, I need your help. It is great that Jem is now AP’s director of Asian business
development. However, the explanations and documentation he has provided for the
Asian business expansion are confusing me and he gets irritated when I ask for
clarification.

AP’s purchase of its first property in South East Asia, Gavi Mansion, was funded by
a loan of £400,000 made by Jem on 1 January 2023. The loan carries interest at an
annual rate of 12% payable quarterly in arrears. Jem explained that the risks
associated with the property business in Asia are much higher than in the UK and
that this justifies the high interest rate. The loan is repayable at par on 31 December
2042.

Jem has given me a legal document which provides an address for Gavi Mansion
and states that it was bought from an unnamed private individual for £400,000.
When I use an internet search to find and view an image of the property, it pinpoints
a location where there are no buildings. Jem tells me that the images are out of date.

Jem told me that he arranged for AP to rent out Gavi Mansion to a local tenant for
£100,000 per annum. On 30 April 2023 AP paid Jem £10,000 commission for
arranging the rental agreement for Gavi Mansion.

AP’s bank statement shows a receipt of £100,000 on 1 April 2023 from a bank
account in Switzerland. I asked Jem for a copy of the rental agreement but the
tenant’s name on this agreement is different from the name on the bank account
from which the rent was received. Jem says that he has checked this and the rent
was paid by a business associate of the tenant who owed the tenant money.

Jem informed me that parts of Gavi Mansion need refurbishment and he is arranging
this through a building company he knows in Asia. The building company requested
funds in advance to purchase materials and, on 10 April 2023, AP paid the company
£80,000 and recorded this as a cost in the statement of profit or loss.

Jem provided AP with a copy of a receipt for the £80,000 advanced to the building
company. I have searched the internet for the company named on the receipt and I
have not been able to find it. Jem tells me he has met the directors and can
personally confirm that the company exists, but it does seem odd that we have no
formal contract.

I do not want to upset Jem or interfere with areas of the business that I have
allocated to him. It would help me if you could identify any additional information and
documentation that you need in respect of the transactions relating to Gavi Mansion
and Jem’s loan. As a result, Jem will believe any request is coming from you, the
auditor, rather than from me. Please share with me any information you receive.

Page 19 of 19