QUESTION 6:

You are an audit partner with WPC, one of Adelaide's leading audit firms. You signed-off on the annual audit of Real Music Ltd on August 4th 2015. As in previous years, your report contained an unqualified audit opinion. Real Music Ltd is a large wholesaler of musical instruments, sheet music and software.

On October 1st 2015, the financial controller of Real Music Ltd retired. She was replaced on October 2nd. While familiarising himself with the accounting system, the new financial controller discovered some material discrepancies in the inventory records. When he looked further, he also found that sales of music software for the last quarter of the 2014/2015 financial year were well below those of previous years.

The new financial controller reported his findings to the board. Initially, board members were surprised by the financial controller's report because they believed that your annual audit would have uncovered all significant issues relating to inventory. After some discussion, the board decided to seek advice from its lawyers about suing you for negligence.

You investigated the matter and discovered that most of the music software had been overvalued because the audit manager had relied on management's representation about its value. Management had failed to take into account a recent advance in technology that allowed customers to obtain high quality music software directly from overseas suppliers at greatly reduced prices. Also, the review of the auditor's working papers showed that audit staff had not attended the stock count because the majority of the stock was in Brisbane.

Required:

Outline the advice that Real Music Ltd's lawyer would provide. In your answer refer to the relevant cases, Corporations Act requirements (section numbers not required), and auditing standards (paragraph numbers are required).