Inventory of various medical supplies and drugs is a material account on the Shady Oaks Hospital audit engagement. You are planning to adopt a combined audit approach for existence of inventory and place a heavy reliance on preventative control procedures around the physical security of inventory, such as access to the dispensary and the store room being limited to a few authorised staff.

You have just completed your tests of controls in relation to physical security procedures. Your projected error rate based on the results of your already large sample size is higher than the tolerable error.

You are satisfied that the sample is representative and the errors occurred throughout the period audited.

Required

(a) Briefly outline the impact of the projected error rate on your planned substantive audit procedures.

(b) Assume that all of the deviations from the internal control procedures tested (that is, errors in the sample) relate to a three-week period when a senior staff member was on annual leave. Discuss how this would affect your planned substantive tests of detail.

Chan & Partners Chartered Accountants is a successful mid-tier accounting firm with a large range of clients across Australia. During the 2017 year, Chan & Partners gained a new client, Medical Services Holdings Group (MSHG), which owns 100 per cent of the following entities:

• Shady Oaks Hospital, a private hospital group

• Gardens Nursing Home Pty Ltd, a private nursing home

• Total Cancer Specialists Limited (TCSL), a private oncology clinic that specialises in the treatment of cancer.

Year-end for all MSHG entities is 30 June.

You are a senior auditor working on the Shady Oaks Hospital engagement for the 2017 year and are currently in the planning stage of the audit. In discussions with management you discover that Shady Oaks has recently acquired two new, full body scanning machines. These machines use the latest technology and cost the company more than $10 million each. Although they are more than 50 per cent more likely to detect tumours and other abnormal internal growths, there are new academic studies suggesting there may be potential long-term side effects for patients scanned by these machines. However, because the machines are new the evidence about long-term effects will not be known for many more years. Despite this, there has been some bad press for Shady Oaks highlighting the potential risks to patients. Shady Oaks charges a premium price for using the scanning machine and there is extremely high demand. To manage the demand Shady Oaks requires that all patients pay for their scans in full at the time of booking, and the payments are immediately recognised as revenue by the hospital. Shady Oaks has taken bookings for four months in advance — although it is only April 2017, the hospital has bookings for July and August 2017.

The Australian Doctors and Hospital Association is currently reviewing the use of the scanning machines and is considering banning their use within Australia until the issue is resolved. A decision is expected on 1 August 2017, and management tell you that they believe there is an 80 per cent chance the scanners will be approved.