Upon completion of your Postgraduate Diploma in Accounting, you started your articles at Wolmarans (Pty) Ltd (Wolmarans) three years ago. Wolmarans has been the auditor of CDE Industries for the past six years. At the beginning of the year, you were promoted to Audit Senior.

You were assigned to the audit of CDE Industries. CDE Industries is an engineering company that mainly does construction in the Western Cape. CDE Industries imports raw materials, especially when it is cheaper than buying materials locally. CDE Industries has a February year-end.

You are currently busy with the finalisation of the 28 February 2023 audit and were provided with an extract of the draft financial statements of CDE Industries for the financial year ended 28 February 2023.

1. Legal claims

The draft financial statements for 2023 contain no reference to provisions for legal claims. As part of the routine audit procedures, you enquired from Mr. Henn, the Managing Director, about the existence of any pending legal claims against CDE Industries. He answered that no legal claims have ever been instituted against CDE Industries and you recorded this in your working papers. You performed no additional audit procedures as your assessment was that the risk of material misstatement in this regard is low.

Last night, however, you were reading an online article on problems encountered by clients of engineering companies in South Africa, specifically relating to the importing of cheaper raw materials that does not last as long as intended. The article included interviews with three clients of CDE Industries who indicated that they have already been involved in lawsuits with CDE Industries during the past six months. The claims result from financial damage to clients. The total of the three claims amounts to approximately R1 870 000.

Mr. Henn informed you that on the 7th of July 2023, the court ordered CDE to pay the legal costs as well as damages amounting to 2 million to the three claims. The court ruled that the damages must be paid with immediate effect.

2. Expense relating to BBBEE status

CDE is also a level 1 BBBEE contributor. They make payments for the skills development of staff and enterprise and supplier development. During the audit of expenses, you noticed an account called BEE expenses. You selected this account for substantive testing and noticed 5 payments adding up to R2 800 000 under suppliers development.

You noticed it was all paid to the same company called Thandi Ventures. You did a Google search on the company and noticed that the Chief Financial Officer (CFO) of CDE, Mr Ceasar is also a Director of Thandi Ventures. On further investigation, you noticed that Thandi Ventures are not one of CDEs suppliers. The person responsible for these payments is the Financial Manager.

REQUIRED:

3.1 With reference to the information under Legal claims, define this event in terms of ISA 560. Further, discuss the auditors responsibilities in terms of ISA 560 and the risks involved.