Section E: Risk, Assertions, Materiality and Audit Strategy(Questions 12 -14)

Scenario information

Sleepyhead Limitedis a large manufacturing firm located in Auckland, involved in producing a single product used in power plants. The entity has been experiencing declining sales over the last two years. Cutting the manufacturing cost has proved difficult due to the nature of the product as it requires the use of high skilled labour, expensive and refined raw material (costs 75% of the total cost of manufacturing), and a complex manufacturing process.

While the bankers are presently happy to continue providing Sleepyhead with loan facilities, they do expect to see improved results in the next financial report. To improve its financial performance, Sleepyhead has significantly reduced its debt collection staff, merged the raw material receiving and issuance functions in the warehouse, and recently moved some of its manufacturing out of Auckland into regional areas. Staff cuts have also been made in Internal Audit and to roles which are purely supervisory or controls related. While this saves around 20% on operating and salary costs, the accounts receivable turnover has significantly decreased (nearly 80% of the sales are on credit) and the manufacturing process takes longer. On several occasions, late delivery has resulted in lost sales.

Identify the three components of audit risk and explain what your assessment of risk is for each component (use only 'high', 'medium' or 'low'). Support your assessments with reference to the scenario information for this section. Also include in your explanation how at least two assertions are affected by the scenario information.

eg Inherent Risk is;

Control risk is :

therefore detection risk is: