THIS IS THE QUESTION OF AUDITING ASSIGNMENT. Thank you so much!

QUESTION 3 (30 MARKS)

Case Background

You are the audit senior on the audit of Resilient Furniture Manufacturers Pty Ltd (Resilient). Your firm has recently been appointed as the first auditors of the company.

You interview the managing director of the company to obtain background information on Resilient and to understand its business operations, its environment and system of internal control. You noted and documented

the following:

Resilient was founded 30 years ago and makes 'grandfather' clocks (freestanding, weight driven,

pendulum clocks).

The clocks are made in one factory (situated in the Alice Springs) and are distributed through boutique

homeware and antique furniture stores.

The clocks are advertised mainly in local newspapers and through pamphlet drops.

In order to promote longer production runs and minimise finished goods stocks, Resilient's retail

distributors are offered stock on a 'sale or return' basis. This means that the homeware and antique

furniture stores are invoiced immediately, subject to a 90-day term of payment, but are allowed to return

the stock up to 30 days before payment is due. Only the marketing manager has been given the

authority to make these offers.

All of Resilient's timber is obtained from offshore sources. Timber prices, which are denominated in US

dollars, have risen substantially over the past two years and the recent drop in the value of the

Australian dollar has caused them to rise even further.

Timber purchases are secured by providing Resilient's suppliers with letters of credit which become due

when the container shipment of timber arrives in Australia.

Labour costs are high due to the craftsmanship and quality required for the production of the

grandfather clocks. Skilled labour is not easy to obtain and wage rates have recently risen.

Resilient has found it difficult to pass on these timber and labour price increases to customers.

An analysis of costs indicates that there have been material negative purchase price variances in purchases of

timber over the course of the year. You have compiled the following information from Resilient's financials:

the current ratio as at 30 June 2019 is 1.24

the shareholders' funds to total assets ratio is 30%

gross profit margins and net profit margins for the year ended 30 June 2019 have dropped to the level

where losses are being incurred.

NB: An excerpt of Resilient's Financial Reports is attached.

Resilient's bank finances the company's timber purchases using bills of exchange drawn at 90 days from the

date of payment of the shipment. It has also extended loan finance to Resilient. The bank covenant, which is

due for review shortly, requires Resilient to:

maintain a current ratio of 1.2

maintain a shareholders' funds to total assets ratio of at least 30%

maintain net sales of a minimum of $100,000 per quarter

prepare a general purpose financial report for the year ended 30 June 2019 and have it audited

according to Australian Auditing Standards. Note that this is a requirement of the bank covenant as

Resilient is not required to produce a general purpose financial report under the Corporations Act.

Required - Q3 Part 1:

For parts (a), (b) and (c) of this question, please disregard all going concern considerations. Based on the

background information above and your use of preliminary analytical procedures, answer the following

questions:

a) Identify and explain two (2) asset accounts at risk of material misstatement (6 marks).

b) Describe one (1) issue regarding the prior year's figures and explain why (2 marks).

c) Describe three (3) factors that may bring into question the going concern assumption for Resilient.

Disregarding the evaluation of management's assessment of the going concern assumption, briefly describe

the effect of the facts on your audit planning (6 marks).

[6 + 2 + 6 = 14 marks]

Now, after examining Resilient's detailed trial balance, you notice that one of the expenses of the sales and

marketing department is 'sales bonuses'. You question this expense and the company's accountant informs you

that a monthly bonus of 10% of salary is paid to all sales and marketing staff if sales for the month exceed the

budgeted target. The marketing manager is entitled to a 20% bonus if the targets are achieved. This incentive

was implemented during the previous financial year and was in place for the last six months of the year. You

note that the bonus has been paid every month since the incentive was implemented (except for the previous

month, when sales were much lower than expected). This seems a little unusual because Resilient had only achieved its budgeted sales targets in two out of the six months prior to the start of the scheme. You investigate results for the last six months of the year and find that:

sales were above the monthly budget figure when bonuses were paid

there was no significant change in gross margins

returns of stock sold on the 'sale or return' basis were well below those in the first six months except in

the final month of the year

debtors' levels (measured in days outstanding) were above their budgeted levels but returned to a more normal level at year end.

On further enquiry, the accountant advises that the marketing manager is authorised to do the following with

regard to the stock sold on a 'sale or return' basis:

offer customers a 'sale or return' deal as long as the deal is within the company's pricing structures and

the terms of the scheme

initiate and approve the invoicing of customers when a sale is made (i.e. if the stock is not returned

within 60 days)

initiate and approve the issue of credit notes for these customers when returns are made within 60 days

or when pricing or quality issues arise.

Required - Q3 Part 2:

Based on the background information above, answer the following questions:

a) Explain one (1) internal control issue at Resilient (2 marks).

b) Identify and explain two (2) fraud risk factors at Resilient (4 marks).

c) Identify two (2) assertions (as defined by ASA 315) at risk as a result of the fraud risk factors identified in (b)

above. Justify your answer with reference to the background scenario (6 marks).

d) Describe two (2) audit procedures that would address potential misstatements arising from fraudulent

financial reporting. Ensure that your procedures are specific to the scenario and the fraud risk factors

identified in (b) above. You may wish to refer to Appendix of ASA 240 (4 marks).