You are the Audit Manager of Mole and Co and are currently planning the audit of your existing client, Ratty Ltd, whose year end was 31 December 2021.

Ratty is a pharmaceutical company that manufactures and supplies a wide range of medical supplies. The draft financial statements show revenue of 27.3 million and profit before tax of 3.2 million.

Rattys previous finance director left the company in October 2021after it was discovered that he had been claiming fraudulent expenses from the company for a significant period of time. A new finance director was appointed in at the start of December 2021. She was previously a Chief Financial Officer of a retail company and has expressed surprise that Mole & Co had not uncovered the fraud during last years audit.

During the year Ratty has spent 1.2m million on developing several new products, including 500,000 on an unsuccessful attempt at a Covid 19 vaccine. These projects are at different stages of development and the draft financial statements show the full amount of 1.2 million within intangible assets. In order to fund this development, 1.5 million was borrowed from the bank and is due for repayment over a seven-year period. The bank has attached minimum profit targets as part of the loan covenants. The new finance director has informed the audit partner that since the year end there has been an increased number of sales returns and that in the month of September over 0.3 million of goods sold in August were returned.

An audit assistant from Mole & Co attended the year-end inventory count at Rattys warehouse. The auditor present raised concerns that during the count there were movements of goods in and out the warehouse and this process did not seem well controlled.

During the year, a review of plant and equipment in the factory was undertaken and surplus plant was sold, resulting in a profit on disposal of 130,000.

Required:

(a) State Mole & Cos responsibilities in relation to the prevention and detection of fraud and error.

(4 marks)

(b) Describe FIVE audit risks, and explain the auditors response to each risk, in planning the audit of Ratty Ltd.

(10 marks)

(c) Describe TWO substantive audit procedures Mole & Co should perform when undertaking the audit of inventory at Ratty.

(4 marks)

The new finance director of Ratty Ltd has decided to change the provider of the internal audit service as she feels they are not delivering their audit programme on time or on budget. As he is pleased with the external audit service that Mole & Co are currently providing, she has approached you to take over the contract without following a formal tender process.

She has invited you to play golf next week to discuss this proposal in more detail.

(d) Identify and explain TWO ethical principles that could be threatened following the finance director's suggestion to discuss the proposal whilst playing golf.

(4 marks)

(e) Explain the significance of Sarbannes Oxley when considering the finance director's proposal to provide Internal Audit Services to Ratty Ltd.

(4 marks)

(f) Identify and explain TWO limitations of external audit.

(4 marks)