Key Assertions and Substantive Audit at Risk for Inventory | Advanced Computer Solutions Limited & Green Machine Limited

The current report would emphasise on analysing the audit risk assertion from the two provided scenarios. The first is Advanced Computer Solutions Limited, and the second scenario is from Green Machine Limited. The provided information suggests Advanced Computer Solutions Limited is facing inventory problems, which put the accuracy, valuation, and cut-off at risk. On the basis of the provided information, it can be concluded that Green Machine Limited has issues related to property, plant, and equipment (PPE), which undermines the legitimacy of the valuation.

Running head: AUDITING AND ASSURANCE SERVICES
Auditing and Assurance Services
Name of the Student:
Name of the University:
Author’s Note:
Course ID:

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Executive Summary:
The current report has laid stress on analysing the audit risk assertion from the two provided
scenarios. In case of both Advanced Computer Solutions Limited and Green Machine Limited,
certain auditing assertions have been used. These assertions mainly constitute of accuracy and
valuation and cut off for Advanced Computer Solutions and valuation and existence for Green
Machine Limited. The above analysis clearly makes it apparent that the auditors could gather the
necessary auditing principles for ascertaining the key audit matters from ASA 701, which is the
standard designed for communication of key audit matters to the needed parties. In addition, this
standard has laid down certain guidelines, which the auditors have to comply while carrying out
the audit of the financial statements of the business organisations. Finally, substantive audit
procedures are required to be developed by the auditors after the identification of the significant
audit assertions at risk.

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Table of Contents
Introduction:....................................................................................................................................3
Question 1: Advanced Computer Solutions Limited.......................................................................3
(a) Two key assertions at risk for inventory:...............................................................................4
(b) Two substantive audit procedures:.........................................................................................4
(c) ASA 701 Communicating Key Audit Matters:......................................................................5
Question 2: Green Machine Limited...............................................................................................7
(a) Two key assertions at risk for property, plant and equipment:..............................................7
(b) Two substantive audit procedures:.........................................................................................8
(c) ASA 701 Communicating Key Audit Matters:......................................................................8
Conclusion:....................................................................................................................................11
References:....................................................................................................................................12

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Introduction:
When auditing and assurance services are provided to the audit clients, it is the obligation
of the auditors to scrutinise the accounting information and books of accounts of the latter for
assuring that there are no material misstatements in financial information that would affect the
decision-making process of the stakeholders like shareholders, investors, suppliers and others
(Bachlechner, Thalmann and Manhart 2014). The auditors bear the responsibility of examining
certain assertions that the companies for preparing and presenting their financial statements. The
audit assertions are those inherent declarations undertaken by the management of a business
organisation in order to develop and publish the financial statements. The reason behind the
utilisation of assertions is to assure the accurate and fair disclosure of financial information via
the financial statements (Power and Gendron 2015).
The auditors of the audit clients need to verify whether the latter parties have used the
assertions in the right manner, since audit risks could be developed because of wrong use of
audit assertions. If the assertions are found to be at risk, it is necessary to determine whether they
fall under key audit matters in compliance with ASA 701 (Westermann, Bedard and Earley
2015). The current report would emphasise on analysing the audit risk assertion from the two
provided scenarios.
Question 1: Advanced Computer Solutions Limited
From the provided information, it could be observed that Advanced Computer Solutions
Limited has inventory-related problems, which put the assertions of accuracy and valuation and
cut off at risk.

4AUDITING AND ASSURANCE SERVICES
(a) Two key assertions at risk for inventory:
Valuation and accuracy:
This assertion demands that inventory-related transactions do not contain errors in case of
correct valuation. Therefore, it necessitates the need for undertaking two main initiatives (Boritz
and Timoshenko 2014). Firstly, it is crucial to conduct correct valuation of physical stock
amount and secondly, they need to assure accurate inventory flow amounts from balance sheet to
income statement as cost of sales. Therefore, it is necessary to assure correct valuation. In case of
Advanced Computer Solutions, the physical count technique of inventory could be inaccurate
due to shift from a single place to six new places, which might cause errors placing the assertion
at risk.
Cut off:
According to the cut off assertion, the transactions are required to be recorded at the
accurate periods (Brown, Preiato and Tarca 2014). By obtaining the documents for goods
received and goods supplied, it is possible to test this assertion. However, in case of Advanced
Computer Solutions, the inventory in hand of 2018 comprises of 26% of sales in 2018 and 18%
of sales in 2017. This could be due to the return of best-selling computers of the organisation and
software issues. Along with this, the inventory valuation technique of the organisation constitutes
of considerable judgements and assumptions from the management putting this assertion at risk.
(b) Two substantive audit procedures:
For valuation and accuracy assertion, the auditor needs to observe the processes under
physical stock count methodically (Byrnes et al. 2018). Such observation would help the auditor
in fully understanding the advantages and drawbacks of internal control for the process of

5AUDITING AND ASSURANCE SERVICES
inventory count. Therefore, physical presence of the auditor is crucial during the inventory count
process. In addition, the auditor is required to verify inventory tags and test inventory in six
warehouses by asking confirmation of count from the initial location.
In case of the cut off assertion, the auditors have to undertake investigation and analysis
of the inventory vouchers for goods obtained at warehouses and those provided to the suppliers.
Besides, it is necessary to identify whether any unreasonable transactions occurred in inventory
causing the particular issues (Cannon and Bedard 2016). Finally, the auditor needs to verify the
assumptions and judgements of the management used for inventory valuation.
(c) ASA 701 Communicating Key Audit Matters:
Requirements of ASA 701:
“Clause 7 of Section ASA 701” needs the auditors to identify key audit matters,
formulate audit opinion based on the same along with communicating and disclosing the same in
the report of the auditor. On the other hand, “Clause 8 of Section ASA 701” cites the definition
of key audit matters as issues needed for auditing the financial statements of an entity
(Auasb.gov.au 2019). This needs conversation with the committee looking after the governance
functions of the entity. As per “Clause 9 of Section ASA 701”, compliance is to be maintained
by the auditors with three primary objectives for evaluation of key audit matters. These include
analysis of areas in the reports with the possibility of material misstatements, evaluation of
judgements and uncertainties and effect of significant incidents on the financial statement audit.
Lastly, “Clause 10 of Section ASA 701” obliges the auditors to take into account the critical
transactions deemed to be vital for conducting the audit matters.
Rationale for key audit matters:

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The rationale supporting the risk assertions could be identified in the form of key audit
matters. As inventories are wrongly value, material impact is bound to be obvious on the
financial reports of Advanced Computer Solutions (AICPA 2017). Moreover, judgements and
assumptions made by the management include uncertainties due to their use for inventory
valuation. Finally, as inventories are shifted from one place to six other places, the event is
deemed to be significant and thus, the audit work would be impacted largely (DeFond and Zhang
2014).
Disclosure of key audit matters:
Why significant How audit responded to the key audit matters
Inventory relocation:
Relocation of inventory is made in March 2018
from one main warehouse to six different
warehouses and this is a crucial aspect for
inventory valuation. Moreover, the stock
valuation includes various judgements and
estimates vital for audit work.
The responses to this matter include the
following:
i. Methodical review of the procedures under
physical stock count
ii. Complete insight of the strengths and
drawbacks of internal control system
iii. Analysis of the stock count process conduced
iv. Authorisation of inventory tags
v. Inventory testing in six warehouses along with
asking for confirmation of the count from the
main location
Sales of 2017 and 2018 included in inventory
of 2018:
The responses to this matter include the
following:
i. Evaluation and analysis of stock vouchers for

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The incorporation of a portion of 2017 sales in
the 2018 inventory in hand is a significant
transaction from the audit viewpoint.
Moreover, it takes into account accounting
assumptions and judgements.
goods obtained at warehouses and those
provided to the suppliers
ii. Verification of whether there has been
occurrence of unreasonable events in stock
causing the particular issues
iii. Investigation of the accounting estimates and
judgements
Question 2: Green Machine Limited
From the provided information, it could be observed that Green Machine Limited has
problems related to property, plant and equipment (PPE), which put the assertions of accuracy
and valuation at risk.
(a) Two key assertions at risk for property, plant and equipment:
Valuation:
According to the assertion, the organisations are needed to record all their line items in
the balance sheet statements after correct valuation. Moreover, they are required to record PPE at
cost after deduction of accumulated depreciation (Hay 2015). With the help of fair depreciation
rates, it becomes possible to compute accumulated depreciation. However, from the case
information of the concerned organisation, lower rate of depreciation is applied on PPE
contributing towards wrong valuation of the fixed assets. This could lead to misstatement of net
profit and material impact is certain on the financial reports (Hayes, Gortemaker and Wallage
2014). Moreover, the depreciation method of the organisation takes into account management

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estimates and judgements that could be hampered because of this aspect; thus, placing this
assertion at risk.
Accuracy:
According to this assertion, the organisations have to conduct right valuations of their
PPE (Hayne and Salterio 2014). The assertion is used for assuring accurate segregation of
revenue and capital expenditures associated with PPE. Moreover, all information associated with
the expenditures has to be maintained. According to the case study, revenue and capital
expenditures are wrongly segregated impacting the assertion of accuracy. Moreover, it represents
that the judgements utilised and estimates might be at risk owing to wrong segregation of
expenses. Due to this reason, the accuracy of assertion is found to be at risk (Ji 2017).
(b) Two substantive audit procedures:
For addressing the assertion of valuation at risk in Green Machine Limited, the
substantive audit process would be to assess the mechanisms and policies of the organisation so
that the depreciation rate could be ascertained (Karaibrahimoglu and Cangarli 2016). In addition,
it is necessary to compute the depreciation rate again at the time of observing depreciation rates.
Moreover, the auditors are required to assure reinvestigating the residual amounts of PPE
coupled with gain or loss from selling a portion of the same. Finally, the auditor has to undertake
certifying the used judgements and assumptions of the management in the method of
depreciation (Khlif and Samaha 2014).
(c) ASA 701 Communicating Key Audit Matters:
Requirements of ASA 701:

9AUDITING AND ASSURANCE SERVICES
The auditors have to determine the key audit matters, providing audit opinion depending
on the same along with its disclosure in the audit report for fulfilling “Section 7 of ASA 701”.
Supported further by “Section 8 of ASA 701”, key audit matters are substances deemed to be
indispensable for auditing the financial statements of the entities. For this, conversing with the
department responsible for governance is crucial (Auasb.gov.au 2019). “Section 9 of ASA 701”
points out the fact that the auditors need to carry on maintaining conformity with three primary
objectives so that key audit matters could be investigated appropriately. They include assessment
of areas in the financial reports having greater material misstatement risk, considering the impact
of main transactions on financial statement audit and presence of doubts in accounting
approximates and management expectations. Finally, “Section 10 of ASA 701” enforces the
liability of the auditors to take into account the critical events vital for carrying out the audit
activities of the financial reports of the organisations (Auasb.gov.au 2019).
Rationale for key audit matters:
According to ASA 701, the assertions found to be at risk could be categorised under key
audit matters owing to a variety of reasons. At first, the wrong consideration of the rates of
depreciation and segregation between revenue and capital expenditures could result in significant
material impact through understatement of profit margin and overstatement of expenses (Lin,
Yang and Wang 2018). Secondly, the aspects discussed above in case of Green Machine Limited
take into account the necessary accounting assumptions of the management and its judgements,
which are based on various uncertainties. Finally, the incorrect application of the rate of
depreciation and inaccurate division of expenditures could be identified as major transactions
having considerable effect on auditing the financial statements of the organisation (Louwers et
al. 2015).

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Disclosure of key audit matters:
Why significant How audit responded to the key audit matters
Wrong classification of revenue expenditure
and capital expenditure:
From the provided situation, it could be cited
that the organisation has capitalised a part of
revenue expenditures and there has been
inclusion of a part of capital expenditures in
the income statement. The event is deemed to
be significant for the organisation, as it
comprises of management assumptions and
judgements.
The responses to this matter include the
following:
i. Critical inspection of both revenue and capital
expenditures in relation to PPE
ii. Reinvestigating the procedures for
capitalisation of expenses
iii. Reassessing the used assumptions and
judgements of the management for ascertaining
revenue and capital expenditures
iv. Checking the source documents associated
with expenditures pertaining to PPE
Use of low depreciation rates for PPE:
Excess rate of depreciation is applied in case of
PPE and this could have material effect on the
financial statements of the organisation. Along
with this, the management has utilised certain
accounting judgements and assumptions
critical to auditing
The responses to this matter include the
following:
i. Analysis of the business mechanisms as well
as policies so that the depreciation rate could be
ascertained appropriately
ii. Computing the depreciation rate again for
arriving at the actual depreciation expense
iii. Reinvestigation of the residual amounts of
PPE along with loss or gain from sale of a part of
PPE

11AUDITING AND ASSURANCE SERVICES
iv. Certification of the judgements used as well
as accounting assumptions
Conclusion:
To conclude, it could be said that the audit assertions perform a critical role in the entire
audit process owing to the fact that the key audit matters could be ascertained effectively. In case
of both Advanced Computer Solutions Limited and Green Machine Limited, certain auditing
assertions have been used. These assertions mainly constitute of accuracy and valuation and cut
off for Advanced Computer Solutions and valuation and existence for Green Machine Limited.
The above analysis clearly makes it apparent that the auditors could gather the necessary auditing
principles for ascertaining the key audit matters from ASA 701, which is the standard designed
for communication of key audit matters to the needed parties. In addition, this standard has laid
down certain guidelines, which the auditors have to comply while carrying out the audit of the
financial statements of the business organisations.
The auditors need to carry on maintaining conformity with three primary objectives so
that key audit matters could be investigated appropriately. They include assessment of areas in
the financial reports having greater material misstatement risk, considering the impact of main
transactions on financial statement audit and presence of doubts in accounting approximates and
management expectations. Finally, substantive audit procedures are required to be developed by
the auditors after the identification of the significant audit assertions at risk.

12AUDITING AND ASSURANCE SERVICES
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Entity's Ability to Continue as a Going Concern (No. 126). John Wiley & Sons.
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