Karna (Pty) Ltd was formed 15 years ago by the current managing

director, Ben Smith. Karna (Pty) Ltd has 15 members and Ben is the

majority shareholder. Karna (Pty) Ltd is in the waste disposal business and

has long term contracts with local government bodies to remove and

dispose of environmental waste.

It operates from 30 branches nationwide. Sam Smith, Ben's son was

appointed as financial director on 30 January 2017. Sam, who holds a

Bachelor of Science degree, is 27 years old and joined the company on 1

January 2015. Sam has been a friend of yours since school days.

Finalisation of the audit for the year ended 28 February 2016 has been

delayed due to disagreement between the auditor, Jo Gonna, a sole

practitioner, and management on the accounting treatment of certain

structured finance transactions entered into during January 2016.

You are a partner in a medium-sized audit firm with offices in all major

cities and were approached by Sam at the beginning of March 2017 for

your opinion on the accounting issues.

You agreed with the accounting treatment proposed by management.

Gonno thereafter reluctantly agreed to issue an unqualified audit report

for the year ended 28 February 2016. Sam nevertheless asked Gonno to

resign as auditor. Gonno has refused to issue his audit report and resign,

unless he is paid.

Sam offered you the statutory audit appointment subject to your fee quote

being acceptable. Sam is of the opinion that the previous fee was too high.

During the course of meetings with senior management to determine the

scope of the audit as a basis for your quote, the following information was

obtained:

-Pat Knox, who was Gonno's audit manager on the 2016 audit of Karna

(Pty) Ltd, was appointed by Karna (Pty) Ltd in July 2016 to set up an

internal audit department which focuses on branch audits.

-Karna (Pty) Ltd was very profitable until two years ego, but profitability

has declined since then. For the year ended 28 February 2017 a small loss

was incurred, as a result of cuts in local government spending.

-Management responded to the declining profitability by re-engineering

the budgetary and target system and introducing an incentive bonus

scheme for management based on branch performance.

-All branches of Karna (Pty) Ltd use common software packages.

-Litigation has been instituted against Karna (Pty) Ltd by an environmental

lobby group alleging that the company has been discharging pollutants

into certain rivers. The directors are of the opinion that these claims

cannot be proved.

-Each branch controls its own sales and debtors whilst the purchases and

creditors functions are centralised.

With Sam's permission you contacted Gonno to ask him if he would allow

you access to his working papers. Gonno told you that he would allow you

to review some of his working paper files in his offices under his

supervision, once he has been paid by Karna (Pty) Ltd. However, he would

not be making certain working papers available to you and indicated that

you may not photocopy any documents.

The board of directors asked you whether you are agreeable to sign the

2016 audit report, with an appropriate qualification on the scope of the

audit if necessary, since these annual financial statements must be

submitted to the Receiver by 31 March 2017. Sam also told you that he

wants to appoint new bankers for the company and that you must select a

bank on their behalf.

REQUIRED:

(a) Discuss the conduct of Gonno as far as his professional and ethical

responsibilities as auditor of Karna (Pty) Ltd are concerned. (8)

(b)

(c)

(17)

List the issues you would consider and the procedures you would

follow prior to accepting the appointment as auditor of Karna (Pty) Ltd.

State the matters you would consider in developing your overall audit

plan for the year ended 28 February 2017, assuming you are appointed

as auditor of Karna (Pty) Ltd.