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External Auditing Case Presentation #4 Question #1 You are the audit manager of Pineapple & Co and you have been provided with financial statements extracts and the following information about your client, Peach Kitchen Designs Co (Peach), who is a kitchen manufacturer. The company's yearend is 30 April 2017. Peach has recently been experiencing trading difficulties, as its major customer who owes $1.6m to Peach has ceased trading, and it is unlikely any of this will be received. However the balance is included within the financial statements extracts below. The sales director has recently left Peach and has yet to be replaced. The monthly cash flow has shown a net cash outflow for the last three months of the financial year and is forecast as negative for the forthcoming financial year. As a result of this, the company has been slow in paying its suppliers and some are threatening legal action to recover the sums owing. Due to its financial difficulties, Peach missed a loan repayment and, as a result of this breach in the loan covenants, the bank has asked that the loan of $9.8m be repaid in full within three months. The directors have decided that in order to conserve cash, no final dividend will be paid in 2017. Financial statements extracts for year ended 30 April: DRAFT 2017 $m ACTUAL 2016 $m Current Assets Inventory Receivables Cash 3.4 3.8 1.6 2.2 1.2 1.9 Current Liabilities Trade payables Overdraft Loans 5.9 1.8 9.8 2.2 Required: a. Explain the potential indicators that Peach Kitchen Designs Co is not a going concern. b. Describe the audit procedures that you should perform in assessing whether or not the company is a going concern. Having performed the going concern audit procedures, you have serious concerns in relation to the going concern status of Peach. The finance director has informed you that as the cash flow issues are short term he does not propose to make any amendments to the financial statements. Required: State Pineapple & Co's responsibility for reporting on going concern to the directors of Peach Kitchen Designs Co; and (2 marks) (ii) If the directors refuse to amend the financial statements, describe the impact on the audit report. Question 2 The fieldwork for the June 30, 2017, audit of Black's Company Limited was finished August 19, 2017, and the completed financial statements, accompanied by the signed audit reports, were mailed September 6, 2017. In each of the highly material independent events (a. through h.), state the appropriate action (1 through 4) for the situation and justify your response using the principle outlined under IAS 10. The alternative actions are as follows: 1. Adjust the June 30, 2017, financial statements. 2. Disclose the information in a footnote in the June 30, 2017, financial statements. 3. Request the client to recall the June 30, 2017, statements for revision. 4. No action is required. The events are as follows: a. On August 6, 2017 the auditor discovered that a debtor of Black's Company went bankrupt on July 30,2017 The cause of the bankruptcy was an unexpected loss of a major law suit on July 15, 2017 resulting from a product deficiency suit by a different customer. b. On December 14, 2017 the auditor discovered that a debtor of Black's Company Limited went bankrupt on July 15, 2017 due to declining financial health. The sale generating the receivable had taken place January 15, 2017 c. On December 14, 2017 the auditor discovered that a debtor of Black's Company Limited went bankrupt on October 2, 2017 the sale had taken place April 15, 2017 but the amount appeared collectible at June 30, 2017 and August 19, 2017 d. On August 15, 2017 the auditor discovered that a debtor of Black's Company Limited went bankrupt on August 1,2017 The most recent sale had taken place April 2, 2015, and no cash receipts had been received since that date. e. On July 20, 2017 Black's Company Limited settled a lawsuit out of court that had originated in 2013 and is currently listed as a contingent liability. f. On September 14, 2017 Black's Company Limited lost a court case that had originated in 2015 for an amount equal to the lawsuit. The June 30, 2017 footnotes state that in the opinion of legal counsel there will be a favourable settlement. g. On July 20, 2017 a lawsuit was filed against Black's Company Limited for a patent infringement action that allegedly took place in early 2016. In the opinion of legal counsel, there is a danger of a significant loss to the client. h. On May 31, 2017 the auditor discovered an uninsured lawsuit against Black's Company Limited that had originated on February 28, 2017 External Auditing Case Presentation #4 Question #1 You are the audit manager of Pineapple & Co and you have been provided with financial statements extracts and the following information about your client, Peach Kitchen Designs Co (Peach), who is a kitchen manufacturer. The company's yearend is 30 April 2017. Peach has recently been experiencing trading difficulties, as its major customer who owes $1.6m to Peach has ceased trading, and it is unlikely any of this will be received. However the balance is included within the financial statements extracts below. The sales director has recently left Peach and has yet to be replaced. The monthly cash flow has shown a net cash outflow for the last three months of the financial year and is forecast as negative for the forthcoming financial year. As a result of this, the company has been slow in paying its suppliers and some are threatening legal action to recover the sums owing. Due to its financial difficulties, Peach missed a loan repayment and, as a result of this breach in the loan covenants, the bank has asked that the loan of $9.8m be repaid in full within three months. The directors have decided that in order to conserve cash, no final dividend will be paid in 2017. Financial statements extracts for year ended 30 April: DRAFT 2017 $m ACTUAL 2016 $m Current Assets Inventory Receivables Cash 3.4 3.8 1.6 2.2 1.2 1.9 Current Liabilities Trade payables Overdraft Loans 5.9 1.8 9.8 2.2 Required: a. Explain the potential indicators that Peach Kitchen Designs Co is not a going concern. b. Describe the audit procedures that you should perform in assessing whether or not the company is a going concern. Having performed the going concern audit procedures, you have serious concerns in relation to the going concern status of Peach. The finance director has informed you that as the cash flow issues are short term he does not propose to make any amendments to the financial statements. Required: State Pineapple & Co's responsibility for reporting on going concern to the directors of Peach Kitchen Designs Co; and (2 marks) (ii) If the directors refuse to amend the financial statements, describe the impact on the audit report. Question 2 The fieldwork for the June 30, 2017, audit of Black's Company Limited was finished August 19, 2017, and the completed financial statements, accompanied by the signed audit reports, were mailed September 6, 2017. In each of the highly material independent events (a. through h.), state the appropriate action (1 through 4) for the situation and justify your response using the principle outlined under IAS 10. The alternative actions are as follows: 1. Adjust the June 30, 2017, financial statements. 2. Disclose the information in a footnote in the June 30, 2017, financial statements. 3. Request the client to recall the June 30, 2017, statements for revision. 4. No action is required. The events are as follows: a. On August 6, 2017 the auditor discovered that a debtor of Black's Company went bankrupt on July 30,2017 The cause of the bankruptcy was an unexpected loss of a major law suit on July 15, 2017 resulting from a product deficiency suit by a different customer. b. On December 14, 2017 the auditor discovered that a debtor of Black's Company Limited went bankrupt on July 15, 2017 due to declining financial health. The sale generating the receivable had taken place January 15, 2017 c. On December 14, 2017 the auditor discovered that a debtor of Black's Company Limited went bankrupt on October 2, 2017 the sale had taken place April 15, 2017 but the amount appeared collectible at June 30, 2017 and August 19, 2017 d. On August 15, 2017 the auditor discovered that a debtor of Black's Company Limited went bankrupt on August 1,2017 The most recent sale had taken place April 2, 2015, and no cash receipts had been received since that date. e. On July 20, 2017 Black's Company Limited settled a lawsuit out of court that had originated in 2013 and is currently listed as a contingent liability. f. On September 14, 2017 Black's Company Limited lost a court case that had originated in 2015 for an amount equal to the lawsuit. The June 30, 2017 footnotes state that in the opinion of legal counsel there will be a favourable settlement. g. On July 20, 2017 a lawsuit was filed against Black's Company Limited for a patent infringement action that allegedly took place in early 2016. In the opinion of legal counsel, there is a danger of a significant loss to the client. h. On May 31, 2017 the auditor discovered an uninsured lawsuit against Black's Company Limited that had originated on February 28, 2017