Auditing Assignment: Independence, Situations, Weaknesses

This auditing assignment discusses the concept of auditor independence, provides answers to independent situations, and identifies weaknesses in internal controls. It covers topics such as confidentiality, conflict of interest, and the importance of independence in auditing. The assignment also highlights weaknesses in the internal control systems of two companies. Overall, it provides a comprehensive understanding of auditing principles and practices.

Auditing ASSIGNMENT
Student Name
[Email address]

Table of Contents
Question 1...................................................................................................................................................2
Question 2...................................................................................................................................................3
Question 3...................................................................................................................................................4
Question 4...................................................................................................................................................5
Question 5...................................................................................................................................................6
References...................................................................................................................................................8

Question 1
a) In general the term independence means freedom from interference. Auditor independence
refers to the freedom of the auditors whether internal or external, in the course of their audit of
the financial statements of any client from the influence of any third party who might have
interest financially or of any other kind in the business of such client, so as to provide
independent view on the financials of the client. APES 110 on Code of Ethics on Professional
Accountants define the term auditor independence in detail. The main aim of auditor
independence is the application of integrity and objectivity in performing the audit process by
the auditor in order to provide audit opinion freely (Alieid, 2016). The auditor independence has
two aspects, namely, real independence – independence which is in fact and the other is
perceived independence – independence which is in appearance. For the purpose of obtaining
the objective of independence, the presence of both the independence is necessary. The real
independence refers to the independence which is present in the auditor’s mind and which is
used by him in dealing with specific situations during the course of audit. The determination of
the true independence of auditor is not easy and comprises of many difficulties, the reason
being aspects like integrity of the auditor, mental attitude and there might also exist
circumstances which demands for compromising attitude by the key managerial persons of the
company. It is not possible to measure the independence of the auditor or guarantee the same.
Even if the auditor is independent but has some factors which indicates otherwise, the public
might preclude that the audit opinion is not independent and the financial report does not
provide true and fair view as required. Hence, it is very important that the auditor’s
independence is reflected in appearance as well so that the credibility of the audit report gets
enhanced (Alexander, 2016).
b) The answers to the independent situations are as follows:
i. In the given situation, Bob is the audit assistant of Club Casino who is undertaking
university studies. He is currently engaged in the audit of the books of Club Casino and
has used the financial information obtained in the course of audit of Club Casino for the
purpose of his university assignment without obtaining the prior approval of the client.
This is clearly the violation of the principle of confidentiality (para 140 of APES 110 on
the Code of Ethics for Professional Accountants) according to which no information of
the client is allowed to be disclosed to any third party, moreover the same also cannot
be used for personal benefits of the auditor. Alternatively, Bob could have instead
discussed the same with his client and taken his prior approval for using the client’s
financial information for the purpose of his university assignment (Arnott, et al., 2017).
ii. In the given situation, Wendy is the engagement partner for the company named ACE
Limited who has managed the internal control of the client company for a period of six
months because of the unavailability of the Company Secretary at the company. This
situation might lead to breach of auditor independence due to the conflict of interest.
The other possible course of action would have been to intimate the management of
the company and should have denied to accept the above role. Moreover, she should
have withdrawn for the audit engagement (Bumgarner & Vasarhelyi, 2018).
iii. In the given situation, Leo has been assigned the audit of Precision Machinery Limited
which comprises of testing of internal controls of the cash payment even though he is
the eldest son of the factory foreman of one of the auditor firm’s major client’s. In an

ideal situation, Leo should be removed immediately from the audit assignment or
should not be allowed to participate in the areas of key decision making and the audit
work performed by him should be reviewed by another member of the audit team since
there exists a threat of self-interest due to the existence of personal relationship with
the entity.
iv. In the given case, Chan & Associates are the auditors of the company Classics
Reproductions Pty. Limited, wholesalers of furniture, who have not received their
outstanding audit fees for last three years. In order to continue the audit engagement
the auditors have agreed to take the supply of furniture from the client company which
is worth 50% of the balance amount along with the 25% shareholding worth of $ 1000 in
an unrelated listed company as a thank you present from the client company. This
phenomenon gives rise to threat of self-interest to the independence of the auditor and
therefore before entering in such settlement, the auditors Chan & associates should
take advice from a member other than those who are the part of the engagement team
(Vieira, et al., 2017).
Question 2
In the given question, the company Games Limited which is in the business of manufacturing gaming
machines has approached the audit partner to accept the audit engagement of Gaming Limited, in
whose audit the auditor has been associated in the past. The managing director of gaming Limited is,
however, not happy with such re-appointment of the auditor for the current financial year as the audit
partner who was assigned the audit previously has been changed. Moreover, the company has been
recently named in an anti-corruption enquiry and is under legal review for having offered to the state
government member incentives in order to obtain their support for proposing a bill which would permit
greater number of gaming machines in the licensed premises of the company, which would indirectly
increase the revenue of the company (Lessambo, 2018). Although the charge has not yet been laid
against the company Games Limited or against any of its employees, this situation as referred under
section 310 of APES 110 can be stated as a potential threat since there exists a threat to the
responsibilities which are fundamental in nature of the members who are in charge due to the existence
of situations or relationship which causes threat to those fundamental principles which are to be
followed. The auditor might feel pressurized under such situation both implicitly as well as explicitly. The
director of the company under such circumstances may require the auditor to neglect the laws and
regulation and act in contrary by suppressing and hiding the true facts in a manner whi ch is not ethical
from the anti-corruption enquiry committee. This is unethical under law and may give rise to various
legal issues in the future.
Hence, it would be prudent for the auditor of Games Limited to apply caution and take all the required
safety measures to eliminate the risk or at least lower the risk to a level which is acceptable. Moreover,
the auditor should also discuss with his audit partners the reluctance of the director in reappointing the
auditor and should seek some legal or professional advice on the matter (Sonu, et al., 2017). The matter
should be reported to the DRP (Dispute Resolution Panel) in order to prevent any compromise in the
independence of the auditor which is of prime importance. The application of section 210 of APES 110
which deals on Professional Engagement comes into picture according to which the auditor should gain
knowledge and understanding of the business of the client company, its directors, those charged with

governance, owners and the Key managerial persons before signing the audit engagement. The auditor
should also obtain commitment from the management of the company regarding the business practices
as well as the corporate governance practices are in place and also internal control is the responsibility
of the management (Fay & Negangard, 2017).
Question 3
In the given question, Everyday Supplies Pty. Limited is a single retail store which is engaged in the
business of selling a variety of tools, garden supplies, lumber, small appliances and electric fixtures to
the customers. The supplies made by the company is based on credit of almost half of its supplies, to the
construction contractors. Although the company has an in house receivables management system for
managing the receivables, there are various numbers of weaknesses in the internal control in the billing
function and cash receipt systems. Some of the main weaknesses are given below:
i. A computer generated subsidiary ledger is being prepared on the month to month basis by the
supervisor of account receivable. However, this ledger is being prepared without reconciling the
receivables control account. This deficiency in the system gives rise to various issues related to
reconciliation which if not corrected or looked into then the company might face difficulties
when the financial statements is being prepared during the year end, which will lead to the
preparation of financial statements which is not reliable and contains errors. As a result the
company will not be able to make sound decisions on the basis of the financial statements
(Choy, 2018).
ii. Secondly, the amount of debtor is written off on the basis of six months ageing which is being
calculated from the date from which the notice has been given to the debtor of becoming
overdue initially. For the above purpose the supervisor of the accounts receivable receives
authorization from the bookkeeper of the company to write off the amount of debtors as bad.
This issue is, however, not being discussed with the credit manager of the company prior to
giving approval for bad debt. Also, there is no proper measure for the collection of debt and the
how the outstanding amount should be collected. The basis of recording the bad debt in the
books of account is ageing of overdue letters which is not a wise method and may prove
unfavorable for the company in the future (Jefferson, 2017).
iii. Thirdly, the company does not have any policy regarding credit facility extended to the
construction contractors for supplying good to them on credit. While the retail customers are
required to make the payment either through debit card, credit card or cash basis for the
purchases effected by them, on the other hand the construction contractors are being supplied
goods on credit just on the basis of familiarity with them and their reputation. This contains high
level of risk in the business as the company does not perform any due diligence on such
customers or does any check on the financial status of the contractors prior to providing goods
on credit. This increases the risk of default from the end of the contractors. Moreover, this
might lead to huge amount of bad debts if the contractors defaults in making payment since
almost half of the supplies is done on credit basis and also the company might lose some of its
esteemed customers in the long run (Goldmann, 2016).
iv. There is a clear violation of the 4-eye check principle since the cashier of the company has the
authority to open the mail received from the contractors, verification of the remittance advice,
stamping of the cheques and listing them for depositing but however the cashier at the time of

sending the remittance advice to the bookkeeper of the company for the purpose of recording
the receivables himself retains the verified deposit slips for monthly bank statement
reconciliation even though he is not authorized to access the ledgers and journals. This might
result in embezzlement by the cashier if he choose to not recording any receivable at all without
being noticed.
v. Finally, the verification of the prices and other details which are required is being done solely by
the supervisor of the accounts receivable along with the preparation of the invoices which are
handed over by the accounts receivable supervisor to a part time employee for the purpose of
mailing the same to the contractors. Here, the work of the supervisor is not re verified by any
other personnel which again leads to the violation of the 4-eye check principle, since the
supervisor might charge lower prices from the contractors resulting in loss of income to the
company without being noticed. Also, the job of mailing the invoices to the contractors is being
performed by a part time employee which is again not being verified by anyone to ensure
reliability (Meroño-Cerdán, et al., 2017).
Question 4
The weaknesses which are present in the internal control of the company Retro Pty Limited are being
pointed out as follows:
i. On approval of the purchase requisition, the receiving department receives two copies of
the requisition even though there is no need to forward the same. Instead of forwarding the
requisition to the receiving department, both the copies should be sent to the supplier of
the goods, one copy of which should further be handed over to the shipping agency. This
will help in the verification at the time of delivery of goods and also the copy should be
stamped in order to be used in the documentation and act as a supporting document at the
time of audit.
ii. All the sequence checks of all the accountable forms is being done by the assistant
accountant which is then followed by the preparation of the monthly bank reconciliation
statement by the financial accountant after verifying the monthly statements and any
reconciliation items which needs attention. However, to make sure that the 4-eye principle
is in place all the reconciliation work should be performed by the assistant accountant and
then the same should be reviewed by the financial accountant (Knechel & Salterio, 2016).
iii. At the time of receipt of goods by the receiving department, the shipment is being logged in
by stamping order received on the copies of the purchase orders which are two in number.
One copy of the stamped copy is given to payables department while the other is kept for
the purpose of filing the same in the receivable department. What is missing here is the
delivery challan, which should be generated at the time of receipt of goods according to the
standard procedure. Also the supplier invoice is received directly by the purchase
department.
iv. Furthermore, purchase requisition should ideally be raised by the department which
requires the material, for instance, the raw material department and not by the stores
department on voluntary basis. However, in case of the company the same is raised by the
stores department.

v. In the given case, the payment to the vendors is done by the finance department which
involves preparation of payment cheques for the vendors, signing the same and also the
recording of the payment in the journal of cash disbursement. This treatment is incorrect. In
an ideal situation the cheques should be signed by two signatories followed by the actual
payment. This is not being followed by the company and is an important weakness in the
internal control system (Kangarluie & Aalizadeh, 2017).
vi. As discussed above the purchase requisition is being raised by the stores department. Here
the same should not be authorized to the stores department solely. It should follow various
level of hierarchy for approval or else stock might be purchased in huge quantities which is
not required. This is also considered as a major weakness in the system of internal control of
the company.
vii. The financial accountant receives from the accounts payable department pre numbered
disbursement vouchers along with the supplier invoice, purchase order, purchase requisition
and other records for the purpose of disbursement. However, the ideal scenario should be
that the payment and settlement be done by the accounts payable department itself on end
to end basis and the financial accountant should be only in charge of recording the same in
the books of accounts (Kachelmeier, et al., 2018).
Question 5
a) The six weaknesses in the inventory control system along with their implications has been
discussed below:
i. In the given case, the order for purchases are being generated automatically by the
computer system as soon as the finished goods of the previous month’s sales fall below
the 60%. However, this is not prudent since there might be situation where the previous
month sales and purchases were high but this may not be the case in the current month.
This will lead to unnecessary increase in the stock.
ii. There exists a control deficiency in the password system also. The production controller
has the access to the master data changes in respect of production order, which is not
prudent. Moreover, the accounts clerk should be allowed access to the Masterfile
amendments only in certain specific circumstances that also with all the required
approvals otherwise this will lead to unnecessary changes in the master data by the
accounts clerk and also the purchase order might be placed to wrong suppliers which
might create quality related issues, etc.
iii. Another deficiency in the internal control system is the pre designed logic in the
computer system placing the purchase order as soon as the stock level falls below 70%
of the usage in the previous month. However, this is not correct since there could be a
possibility that the previous month was the peak period so the production requirement
was high and same will not be the case in the current month (Guragai, et al., 2017).
iv. Another deficiency is the automatic selection of the supplier of raw materials and
finished goods on the basis of last prices and delivery timelines. This ignores many
factors which are important, for instance, quality of the goods, delivery time, etc.

v. Furthermore, the purchase order for raw materials or finished goods should be place
only by the departments who are in need and not by any departments. This will lead to
unnecessary pile of stocks. This is another weakness in the inventory control system.
vi. Another important deficiency in the inventory control is that there is no system of
checking on the issue of goods to the supplier in order to generate finished goods
which might result in issues relating to reconciliation and loss of raw materials
(Raiborn, et al., 2016).
b) The two tests which should be performed by the IT division for testing the existing controls for
the inventory system are:
i. The IT team should test the accuracy and correctness of the system of generation of
purchase order and production orders which are based on the last month’s purchase
and production (Linden & Freeman, 2017).
ii. Also, the IT team should verify the amendments in the Masterfile which has taken place
in the last one or two years, and whether it has supporting documents.

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