You have been assigned to the audit of the financial statements of Equality Coffee Roasters Limited (ECR) for its year ending December 31, 20X2. The company started five years ago and is in the business of obtaining coffee beans from around the world under a fair trade policy, roasting the beans locally and selling them to coffee shops in Ontario. Most of their sales are in the urban centers of the province. ECR’s business involves obtaining raw coffee beans from coffee producing countries around the world. ECR business model is to only purchase coffee from certified fair trading plantations where the agricultural workers receive a fair wage and share of profits. Investors in ECR’s shares are primarily ethical investors and mutual funds that concentrate on investing in companies that have high corporate social responsibility ratings.

In the preliminary audit planning done to date, your audit manager has determined that inventory is the account with the highest risk of material misstatement. Last year, the audit team uncovered an error in the ending inventory balance in the amount of $65,000 overstatement. You have been assigned to continue the ECR audit planning work by finalizing and documenting various risk assessment and planning decisions so the audit team can move on to developing the detailed audit plans.

It is now January 20X3, and you are at the ECR offices to begin your audit work. In discussion with the company’s management, you have learned that ECR currently has about 10% of the coffee bean market in Ontario. Its coffee is considered to be a premium product because of its ethical sources but also because it purchases only the highest quality of Arabica beans and uses a special just-in-time roasting and delivery business process that puts the very best- quality product into the stores at the peak of its flavor. About 75% of its sales are to independent neighborhood coffee shops in urban areas. ECR also sells to one major coffee shop chain, and supplies an up-market grocery store chain. Fair trade coffees can sell for 20–25% more than coffee from other sources and have enjoyed increasing popularity over the past few years.

Exhibit DC8-6 shows is the December 31, 20X2, adjusted trial balance listing that you have obtained from ECR management.

Required
Continue the audit planning for ECR by answering the following questions:
a. List and explain three factors your audit firm would have to consider in order to have decided to accept the ECR audit engagement for the current year.
b. What materiality levels would you use for planning this audit? Show your calculations and justify your decision.
c. What audit risk level would you be willing to accept for this engagement? Describe your choice in terms of one of these levels: low, lower, or lowest. Explain the factors that support your decision.
d. Describe three business risk factors that could increase the risk of material misstatement in the ECR financial statements. Explain which account(s) each of the business risk factors could affect and the type of misstatement(s) that it might cause.
e. Based on the business risk analysis for ECR, your audit manager believes the ECR inventory account balance has the highest risk of material misstatement. Your manager has asked you to assess the inherent risk of misstatement at the assertion level for the inventory. Use the levels high, medium, or low to describe your assessment and explain the factors that support your assessment.
f. Describe one audit procedure you would perform that would provide relevant evidence regarding one or more of the inventory assertions. Explain what type of evidence the procedure would provide. Discuss how reliable this audit evidenceis.

Transcribed Image Text:

DEBITS CREDITS Cash Accounts receivable 248,726 946,241 Allowance for bad debts 61,444 Inventory, finished goods Inventory, work-in-progress Inventory, raw materials Patents, at cost 4,670,992 606,086 1,668,580 84,547 98,311 Provision for inventory obsolescence Property, plant, and equipment 23,842,581 Accumulated amortization, PPE Accounts payable Income taxes payable Warranty provision Long-term bonds payable, due 20X4 Share capital, common shares Retained earnings, beginning of year Revenue Cost of goods sold General and administration expenses Other expenses Management bonuses Income tax expense Totals 9,585,303 1,961,300 46,206 73,733 4,915,540 245,777 11,838,430 21,658,861 11,469,184 3,687,884 2,209,535 500,000 550,049 50,484,406 50,484,405