Question 4

Described below are situations which have arisen at three unrelated external audit clients of the firm where you work. The year end in each case is 30 June 2018.

Everdeen Ltd (Everdeen)

Your firm's evaluation of the directors' assessment of Everdeen's ability to continue as a going concern included an examination of the company's cash flow and profit forecasts for the two years ending 30 June 2020. Your firm has concluded that there are significant doubts as to whether Everdeen can continue as a going concern. The directors of Everdeen prepared the financial statements on the going concern basis and the notes to the financial statements include adequate disclosures in respect of the uncertainty related to the going concern assumption.

Lawrence plc (Lawrence)

The husband of the chief executive officer of Lawrence plc owns Katniss Ltd (Katniss), a marketing firm which Lawrence occasionally uses for market research. The total amount paid by Lawrence to Katniss during the year was 250,000. The directors of Lawrence have refused to disclose this transaction in the notes to the financial statements as they claim that the amount is too small to bother disclosing.

The draft financial statements show that Lawrence's profit before tax is 15.8 million and total assets are 120 million.

Prim Ltd

Your firm has completed an engagement to review the prospective financial information of Prim Ltd, for submission to the company's bank in support of a loan application. The bank requested an independent examination of the profit forecasts for the three years ending 30 June 2021. Your firm has concluded that, whilst the prospective information is correctly prepared on the basis of management's assumptions, the assumptions made in respect of revenue growth and cost of sales are highly unrealistic.

Requirements

4.1For each of the situations described above, outline, with reasons, the implications for your firm's audit or assurance report.

(12 marks)

4.2 Explain how audit and assurance firms can reduce their exposure to claims from unforeseen parties who rely on the firm's audit or assurance reports.

(5 marks)

4.3Outline the ways in which the work performed on an external audit of year-end financial statements as directed by International Standards on Auditing differs from the work performed on an engagement examining prospective financial information as outlined International Standard on Assurance Engagements (ISAE) 3400.

(3 marks)

Total: 20 marks