ACCA AA Exam 1

✅ Correct answer: 16.25%; disclose to those charged with governance; pre- or post-issuance review as safeguard

📌 Explanation: The Code measures total fees from the client, including the tax compliance work: 780,000 / 4,800,000 = 16.25%. Fees from this listed (public interest entity) client also exceeded 15% in 20X5 (702,000 / 4,500,000 = 15.6%). Where fees from a public interest entity audit client exceed 15% of the firm's total fees for two consecutive years, ACCA's Code requires the firm to disclose this to those charged with governance and to consider a review by a professional accountant outside the firm as a safeguard: a pre-issuance review before the 20X6 opinion is issued, or a post-issuance review after it.

❌ Why the other options are wrong: 15.17% leaves out the tax compliance fee, but the Code tests total fees from the client rather than audit fees alone; resignation is not required after two years, because disclosure to those charged with governance and an independent review are the responses the Code sets out, and the firm would cease to act only if the dependence persisted for five consecutive years; 17.33% divides by the 20X5 fee income, and cutting a fee to pass the ratio ignores the required disclosure.

📋 Objective: 1.4 (Professional ethics and ACCA's Code of Ethics and Conduct)

✅ Correct answer: Familiarity; change the audit plan and use senior staff

📌 Explanation: A former audit manager who now prepares Ensigo's financial statements knows the firm's audit approach and has close relationships with the team, which creates a familiarity threat (and possibly an intimidation threat). Appropriate safeguards are to modify the audit plan so that her knowledge of it cannot be used to avoid detection, to assign staff with enough experience relative to her, and to have the work reviewed by an appropriate reviewer.

❌ Why the other options are wrong: Self-review arises when the firm audits its own earlier work, and excluding balances from testing would leave them unaudited; advocacy arises when the firm promotes the client's position, and her own confirmation does not reduce any threat; the threat comes from her move to the client, not from the partner's tenure, so rotating the partner does not address it.

📋 Objective: 1.4 (Professional ethics and ACCA's Code of Ethics and Conduct)

✅ Correct answer: 1, 2 and 3

📌 Explanation: ISA 210 allows an audit to be accepted only when the preconditions are present: the directors will use an acceptable financial reporting framework, and they acknowledge responsibility for preparing the statements, for the internal control needed to prepare statements free from material misstatement, and for giving the auditor access to relevant information and unrestricted access to people.

❌ Why the other options are wrong: Each wrong combination includes statement (4), which is not a precondition: directors cannot promise statements free of misstatement, and the auditor only gives reasonable assurance; the combination without statement (1) also omits the acceptable framework, and those without statement (2) or (3) omit a responsibility that ISA 210 requires management to acknowledge.

📋 Objective: 2.1 (Obtaining, accepting and continuing audit engagements)

✅ Correct answer: $202,500

📌 Explanation: Overall materiality is 3,600,000 x 7.5% = $270,000. Performance materiality is set lower to reduce aggregation risk, so it is 270,000 x 75% = $202,500. The team uses this lower amount to set the extent of testing, so that uncorrected and undetected misstatements together are unlikely to exceed overall materiality.

❌ Why the other options are wrong: $270,000 is overall materiality and stops before the 75% step is applied; $67,500 applies 25% instead of 75% to overall materiality; $351,000 applies 0.75% to revenue of $46.8m, which is not the benchmark the engagement partner chose.

📋 Objective: 2.3 (Assessing audit risks)

✅ Correct answer: Obtain independent germination test results for a sample of seed lots

📌 Explanation: Professional scepticism means questioning evidence and being alert to conditions that may indicate misstatement. A one-page summary from Ensigo's own laboratory is internal evidence prepared by the party with an interest in the result, so the team should seek independent test results for a sample of the older seed lots before accepting that the $2.4m of inventory is saleable.

❌ Why the other options are wrong: Accepting the summary on trust assumes management's honesty, which is the opposite of scepticism; a written representation is weak internal evidence and cannot replace testing that is possible; last year's results say nothing about germination after another season in storage, which is the condition in doubt.

📋 Objective: 2.2 (Objective and general principles)

✅ Correct answer: Control environment; monitoring of controls

📌 Explanation: The managing director's instructions show management's attitude that procedures matter less than relationships, which is part of the control environment, the tone set at the top. The internal audit visits assess whether the credit controls are operating and report the findings to the board, which is the entity's process to monitor the system of internal control.

❌ Why the other options are wrong: Control activities are the specific procedures, such as the credit stop itself, rather than management's attitude to them, and the information system covers how transactions are recorded; the risk assessment process identifies business risks, which the managing director's instructions do not do; treating the branch visits as control activities confuses checking that controls work with the controls themselves.

📋 Objective: 3.1 (Systems of internal control)

✅ Correct answer: Inspect signed monthly aged listings and match stops to over-limit accounts

📌 Explanation: A test of control must show that the control operated during the period. Inspecting the monthly aged listings for the credit controller's signature, and checking that each customer over its limit was placed on credit stop, gives documentary evidence that the review took place and was acted on.

❌ Why the other options are wrong: Asking her to describe the procedure is enquiry alone, which does not show that the control operated; confirmation requests are a substantive test of the existence of receivables, not of the credit control; recalculating the ageing tests the accuracy of the listing rather than whether the monthly review took place.

📋 Objective: 3.3 (Tests of controls)

✅ Correct answer: Prices pulled from a master file clerks cannot change; Discounts above a set limit blocked until a manager approves

📌 Explanation: Both keys are application controls over the accuracy of prices at input. Pulling prices from a protected master file stops clerks keying their own prices, and blocking discounts above a set limit until a manager approves them stops excessive discounts, so invoices are raised at authorised prices.

❌ Why the other options are wrong: A backup of the price file is a general IT control over the availability of data and does nothing about the price used on each invoice; password changes are a general access control and do not check the price keyed; a sequence check on invoice numbers addresses the completeness of invoicing, not the accuracy of prices.

📋 Objective: 3.3 (Tests of controls)

✅ Correct answer: In writing to those charged with governance, on a timely basis

📌 Explanation: ISA 265 requires significant deficiencies in internal control to be communicated in writing to those charged with governance on a timely basis. Because this deficiency involves the managing director himself, written reporting to the board, rather than to staff below him, is the appropriate route, and the matter also belongs in the report to management.

❌ Why the other options are wrong: An oral mention to the credit controller does not meet the requirement for written communication and goes to someone who cannot correct the director's behaviour; an emphasis of matter paragraph highlights a matter properly disclosed in the statements and is not used to report control weaknesses; the auditor reports control deficiencies to those charged with governance, not directly to shareholders at the meeting.

📋 Objective: 3.4 (Communication on internal control)

✅ Correct answer: COMPLETENESS of revenue

📌 Explanation: The despatch note proves that goods left the warehouse. Tracing forward from it to the invoice and the ledger checks that each despatch has been invoiced and recorded, so testing in this direction, from source documents to the accounting records, provides evidence of the COMPLETENESS of revenue.

❌ Why the other options are wrong: Occurrence needs testing in the other direction, from recorded invoices back to despatch notes; the existence of receivables is tested by confirmation or after-date cash, not by tracing despatches forward; classification concerns posting revenue to the right account, which this trace does not address.

📋 Objective: 4.1 (Assertions and audit evidence)

✅ Correct answer: Inspect the signed completion certificate to confirm the installation date

📌 Explanation: Ekitooke says the installation was not finished until 12 January 20X7, which suggests that revenue and receivables were recorded before the work was done, a cut-off error. The customer-signed completion certificate shows when the installation was actually completed, and therefore whether the $88,000 belongs in 20X6 or 20X7.

❌ Why the other options are wrong: A January receipt would show that Ekitooke paid, but not whether the work was completed by the year end; a written representation is internal evidence that cannot replace documents that are readily available; a second confirmation repeats the reply already received and does not explain the difference.

📋 Objective: 4.4 (The audit of specific items)

✅ Correct answer: $308,000

📌 Explanation: ISA 530 requires the auditor to project the misstatement found in the sample to the whole population. The error is 88,000 / 1,840,000 = 4.78% of the value tested, so the projected misstatement is 88,000 x 6,440,000 / 1,840,000 = $308,000, which the team then compares with performance materiality.

❌ Why the other options are wrong: $88,000 is the known error only and ignores the untested balances; $220,000 projects the error onto the untested $4,600,000 only, leaving out the known $88,000; $396,000 adds the known error to the full projection again, so it is counted twice.

📋 Objective: 4.3 (Audit sampling and other means of testing)

✅ Correct answer: Agree the balance to signed installation certificates and invoices; Trace post year-end receipts from Ennyonyi to the bank statement

📌 Explanation: ISA 505 requires alternative procedures when a positive confirmation is not returned. Receipts from Ennyonyi after the year end are strong evidence that the balance existed and was recoverable, and agreeing it to customer-signed installation certificates and invoices shows that the work was done and billed.

❌ Why the other options are wrong: Swapping Ennyonyi for a customer that replied distorts the sample and leaves the balance untested; an email from the sales director is internal evidence from someone with an interest in the result; a non-reply to a positive request gives no evidence at all about the balance.

📋 Objective: 4.4 (The audit of specific items)

✅ Correct answer: Non-adjusting event; disclose its nature and estimated financial effect

📌 Explanation: IAS 10 treats the fire as a non-adjusting event, because it arose from a condition that did not exist at 31 December 20X6: the inventory was undamaged at the year end. The loss is about 50% of profit before tax (1,150,000 / 2,300,000), so it is material, and the nature of the event and an estimate of its financial effect must be disclosed.

❌ Why the other options are wrong: Writing the inventory down treats the fire as evidence of year-end conditions, which it is not; omitting disclosure ignores the IAS 10 requirement to disclose material non-adjusting events so that users are not misled; a provision cannot be recognised at the year end for a loss from an event that had not yet happened.

📋 Objective: 5.1 (Subsequent events)

✅ Correct answer: Discuss it with management and decide whether amendment is needed

📌 Explanation: Under ISA 560, after the report date the auditor has no duty to perform procedures, but when a fact becomes known that might have caused the report to be amended, the auditor must discuss it with management and decide whether the statements need amending. If they are amended, the auditor extends procedures to the new date and issues a new auditor's report.

❌ Why the other options are wrong: Doing nothing ignores the ISA 560 duty to act on facts that come to light before the statements are issued; an active subsequent events review is required only up to the date of the auditor's report, not after it; a disclaimer is for an inability to obtain evidence and is not the response to a known event that management can disclose.

📋 Objective: 5.1 (Subsequent events)

(a) Materiality and performance materiality

Materiality is the size or nature of a misstatement that, individually or in aggregate, could reasonably be expected to influence the economic decisions of users taken on the basis of the financial statements. It is set at the planning stage, used to decide the nature, timing and extent of audit procedures, and used again to evaluate the misstatements found.

Performance materiality is a lower amount than overall materiality. It is set to reduce to an appropriately low level the aggregation risk that uncorrected and undetected misstatements together exceed materiality, and is usually well below overall materiality (for example 50% to 75% of it).

The suggested range is therefore $240,000 to $1,040,000. The level chosen is a matter of professional judgement. Profit before tax is forecast to fall from $5.6m to $4.8m and there are several higher-risk areas, so a figure towards the lower end of the range, based on profit before tax, would be appropriate.

📋 Objective: 2.3 (Assessing audit risks)

(b) Audit risks and auditor's responses

📋 Objective: 2.3 (Assessing audit risks)

(c) Understanding the entity

Risk assessment procedures

• Enquiries: make enquiries of the finance director, the managing director and staff such as the warehouse and export managers, and enquire in particular about changes in the business, the new grinding line and the dispute with Muwawu.
• Analytical procedures: compare the forecast with the prior year, for example the fall in profit before tax despite higher revenue, and calculate a gross margin ratio and receivables days to identify unusual movements.
• Observation: observe the grinding process, the storage of bags in the warehouses and the despatch of containers, to see how operations and controls work in practice.
• Inspection: inspect documents such as board minutes, the grant agreement, sales contracts and management accounts.

Matters to understand

• Industry and regulatory factors: the cocoa market and world price movements, export rules and food safety regulation.
• Nature of the entity: its ownership and governance, including related parties such as Ebibala Farms Ltd, its business model and its financing.
• Financial reporting framework: the applicable financial reporting framework and the accounting policies used, for example for inventory, foreign currency and grants.
• Performance measures: the key performance indicators the directors use, such as margins and volumes, which may create pressure to misstate results.

📋 Objective: 2.4 (Understanding the entity, its environment and the financial reporting framework)

(a) Control objectives

• To ensure that only genuine employees are paid, so that no fictitious employees or former staff are included in the payroll.
• To ensure that staff are paid at correct rates for hours actually worked, using authorised rates, and that gross pay, tax and deductions are correctly calculated.

📋 Objective: 3.3 (Tests of controls)

(b) Deficiencies, recommendations and tests of control

📋 Objective: 3.4 (Communication on internal control)

(a) Procedures during the count

• Observe the counting teams to check that they follow the count instructions, for example that areas are marked once counted and that one person counts while the other records.
• Select items from the floor and trace them to the count sheets (floor to sheets) to test the completeness of the count.
• Select items from the count sheets and trace them to the physical furniture (sheets to floor) to test existence.
• Look for damaged, worn, ex-display or slow-moving items and check that they are recorded as such on the count sheets, as they may need writing down.
• Record the last goods received note and goods despatch note numbers (the last numbers used before the count) so that cut-off can be tested at the final audit.
• Check that furniture already sold to customers and awaiting delivery, for which customer deposits have been paid, is counted separately and excluded from inventory.

📋 Objective: 4.4 (The audit of specific items)

(b) Net realisable value procedures

• For a sample of inventory lines, compare cost with the selling price on sales invoices raised after the year end (post year-end sales) to check that items are not held above what they will sell for.
• Obtain the estimated costs to sell, such as delivery and commission, agree them to delivery charges and commission agreements, and deduct them from the selling price.
• Review the aged inventory report to identify slow-moving lines and old stock, and discuss with management whether they need writing down.
• Review board minutes and discuss with the sales director which ranges have been discontinued or are sold at a discount, and check that these are included in the write-down review.

📋 Objective: 4.4 (The audit of specific items)

(c) Issues and impact on the auditor's report

Mpologoma inventory: IAS 2 requires inventory to be measured at the lower of cost and net realisable value. NRV is the expected selling price less costs to sell: 410,000 - 40,000 = $370,000. Cost is $620,000, so the inventory should be written down by 620,000 - 370,000 = $250,000. Inventory and profit are overstated by $250,000.

Cut-off error: the goods are correctly included in inventory, but no purchase was recorded, so trade payables are understated by $74,000 and cost of sales is understated, overstating profit by $74,000.

Materiality: the total uncorrected misstatement is 250,000 + 74,000 = $324,000. This is 324,000 / 1,800,000 = 18% (18 per cent) of profit before tax and 324,000 / 14,400,000 = 2.25% (2.25 per cent, about 2.3%) of total assets, above the usual thresholds of 5% of profit and 1% to 2% of total assets, so the misstatements are material. Under ISA 450 the auditor should ask management to correct them before concluding.

Impact on the auditor's report: the misstatements are material but not pervasive, because they are confined to inventory, payables and cost of sales, and the rest of the financial statements are fairly stated. The auditor should therefore issue a qualified opinion, stating that except for the effects of these matters the financial statements give a true and fair view. A Basis for Qualified Opinion paragraph, placed immediately after the opinion paragraph, should explain the matters and quantify their effect on inventory, payables and profit.

📋 Objective: 5.5 (The independent auditor's report)