Auditing and Assurance Report: ASA 701 and Risk Assessment

This report provides an in-depth analysis of auditing and assurance principles within the Australian context, focusing on two key areas: inventory and property, plant, and equipment (PPE). The report begins by examining the risks associated with inventory, including declining inventory turnover and changes in warehousing practices. It identifies and explains key assertions at risk, such as the valuation of inventory and the potential for obsolescence. Furthermore, it outlines appropriate audit procedures, such as work-in-process testing and overhead analysis, to mitigate these risks. The report then shifts its focus to PPE, identifying risks related to the incorrect segregation of capital and revenue expenditure, and the calculation of depreciation. It describes substantive audit procedures, including the clear classification of capital and revenue items and the reconciliation of asset values. Finally, the report discusses the requirements of ASA 701 Communicating Key Audit Matters in the Auditor’s Report, explaining its rationale and importance in providing a true and fair view of the financial statements, particularly in relation to inventory and fixed assets. The report references relevant auditing standards and provides a comprehensive overview of the audit process.

Running head: AUDITING AND ASSURANCE IN AUSTRALIA
Auditing and Assurance in Australia
Name of the Student
Name of the University
Author’s Note
Table of Contents

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Introduction..........................................................................................................................2
Answer to Question 1..........................................................................................................2
a. Identification and explanation of the two key assertions related to inventory................2
b. Identification and description of two important audit procedure which may be used to
perform in response to the risk identified........................................................................................3
c. Explanation of the requirement of ASA 701 Communicating Key Audit Matters in the
Auditor’s Report and the rationale for this auditing standard.........................................................4
Answer to Question 2..........................................................................................................5
a. Identification and explanation of the two main assertions at risk related to PPE........5
b. Identification and description of the of the two substantive audit procedures which
will be able to perform better in response to each risk................................................................6
c. Explanation of the requirement of ASA 701 Communicating Key Audit Matters in
the Auditor’s Report and the rationale for this auditing standard...............................................7
Conclusion...........................................................................................................................7
References............................................................................................................................9

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Introduction
The “Auditing and Assurance Standards Board (AUASB)” is seen to make the
“Auditing Standard ASA 701” comply with “section 227B of the Australian Securities and
Investments Commission Act 2001”. The equivalent nature of the independent standard setting
is relevant to “International Federation of Accountants (IFAC)”. In general, the auditor is seen
to determine the various types of the matters associated to matters related to matters pertaining to
audit. Typically, the areas of increased risk are associated with material misstatement or
significant risk considered in accordance with ASA 315 (Auasb.gov.au 2019). The main
interpretations of the study are aimed to identify and explain the two important assertions at risk
in relation to “property, plant and equipment” as per the case study. Secondly, the study will
also show the description and identification of the two essential audit procedure and performing
the response to the individual identified risk. The report has further explained the requirement
pertaining to ASA 701 Communicating Key Audit Matters in the Auditor’s Report and the
rationale related to this was also stated in the auditing standard. Some of the other aspects of the
report has been also able to infer about the KAM thereby providing the complete rationale for the
determination. These indications are seen with the use of analytical procedures such as inventory
turnover ratio and relating the same with auditing procedures.
Answer to Question 1
a. Identification and explanation of the two key assertions related to inventory
As per the given case study, the inventory turnover of closing inventory reduced down
from 5.4 times in 2017 to 3.8 times in 2018. In addition to this, the advanced computer solution
was able to move the inventory from the central warehouse to six new regional warehouses. It

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needs to be also seen that during the end of the year the inventory at hand showed 26% of sales
in 2018 and 18% sales in 2017 (Griffiths 2016). It is also stated that the company recently won a
tender for supplying large government department with several products however it agreed to
supply the items at 10% lesser than its cost price. The two main assertions at risk are listed as
follows:
1. Reducing closing inventory: Computing Solutions agreeing to supply items at 10%
lesser than the cost price despite of the inventory turnover of closing inventory reduced
down from 5.4 times in 2017 to 3.8 times in 2018. Moreover, it has also planned to move
its inventory from a central warehouse to six new regional warehouses in March 2018. It
will increase the operating cost due to inventory. This is considered as a serious risk
concerned with going concern of the firm (Knechel and Salterio 2016).
2. Reduction in inventory at hand: As per the analysis of inventory at hand, there was
26% of sales in 2018 and 18% of sales in 2017. This reduction in the inventory at hand is
also considered to pose a stern threat of going concern in the future (Louwers et al.
2015).
b. Identification and description of two important audit procedure which may be used to
perform in response to the risk identified
The general process of auditing applicable to inventory can range among several
techniques. This includes cut of analysis, observing the physical inventory count, reconciliation
of the inventory count to the general ledger, testing of high value items, testing of error prone
items and testing of inventory in transit. Some of the other general procedures of inventory
valuation system can range from inventory layers by use of FIFO or LIFO inventory valuation
system, inventory ownership and inventory allowances. In this particular case the two most
appropriate audit procedure to respond to the risk identified are listed as follows:

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1. Work in process testing- The implementation of techniques such as WIP inventory will
regulate the percentage of completion for manufacturing items. This procedure will be
able to determine the overall percentage of completion for the WIP items. This will be
beneficial in addressing in better tracking of the inventory items and also helping
reducing the problem of inventory going down from 5.4 times in 2017 to 3.8 times in
2018 (Jones 2017).
2. Overhead analysis of inventory- In case the overhead costs are applied to the inventory
valuation technique, the auditors may be able to verify that they are consistently using the
same leger for general ledger accounts for sourcing the overhead costs. This should also
help in determining whether to include any abnormal costs which will be charged to
expense as they are incurred for testing the validity and consistency of the closing
inventory. This audit procedure is particularly applicable for reduction in the inventory at
hand (Cannon and Bedard 2016).
c. Explanation of the requirement of ASA 701 Communicating Key Audit Matters in the
Auditor’s Report and the rationale for this auditing standard
As per “ASA 701 Communicating KAM” it is important for the auditors in providing a
true and fair opinion about the effects of adjustment associated to the inventory. This is
necessary to be determined as per the desired level of physical inventory quantities and financial
report of the entities which are in accordance with “Corporations Act 2001”. Some of the main
features of such an audit opinion under the norms of ASA 701 is considered with providing a
true and fair view by giving a clear identification of financial position of the company in a
certain year ending. The other feature applicable is also seen with providing a true and fair view
of inventory which is in compliance with the AAS as well as “Corporations Regulations 2001”.
In some of the other circumstances there may be a limitation on the scope of auditor’s work

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which may be considered with the entity. However, even in this case the limitation may be
proposed in terms of auditors unable to observe the physical count of the inventories (Patriarca et
al. 2017).
Answer to Question 2
a. Identification and explanation of the two main assertions at risk related to PPE
The two significant assertions associated to PPE can be inferred in terms of existence and
valuation.
1. Incorrect segregation of capital and revenue expenditure- As per the given case study
needs to be identified that there are problems associated with making distinction between
capital and revenue expenditure. Therefore, some items are capitalised whereas they
should have been expensed, while the other capital items needed to be included under
maintenance and repairs in the income statement (Andon, Baxter and Chua 2015). In
addition to this, appropriate segregation of capital and revenue expenditure is crucial as
the assets of the company needs to be shown in the fixed assets register which goes into
the general ledger in the financial statements. In auditing theory, such a type of risk is
termed as risk of classification (Cao et al. 2015).
2. Calculation of depreciation- Based on the depreciation policy of the company the
buildings are charged with 2% to 4% depreciation as per straight-line basis. In addition to
this, the plant and machinery are charged with a 5% to 10% on a straight-line basis and
the fixtures, equipment and fittings are charged with the depreciation of 5% to 20% as per
straight-line basis. However, there are significant range of depreciation rates in some
categories which are seen to be significantly low. This is a major concern for the
company as valuation assertion is the main concern about the net present value being

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reported under the fixed assets. Therefore, the company is in risk of facing
understatement of the fixed assets for certain assets which are significantly affected by
the technology (Chan and Vasarhelyi 2018).
b. Identification and description of the of the two substantive audit procedures which will
be able to perform better in response to each risk
1. Clear classification of capital expenditure and capital revenue items: The auditor
needs to ensure that the items to be treated under capital expenditure should include raw
material and consumables, interest on capital, selling and distribution expenditure, wages,
development expenditure, repairs and renewals (Benson et al. 2015). On the other hand,
the company needs to rightfully classify the revenue expenditure items as purchases,
wages, interest on borrowings, royalty paid, and will lease rent, depreciation and loss
incurred on sale of fixed assets. The revenue expenditure classification should also
clearly include the repairs and maintenance overhead and it shall not be included under
the capital items. In case the cost of the spend on assets are to be extended then such cost
should not be included into repair and maintenance. These are to be capitalised
appropriately (Cao et al. 2015).
2. Reconciliation of book value of the assets to GL and TB: the auditors need to maintain
the entity’s financial statement trial balance and general ledger for the time period which
they are auditing. Therefore, before working on GL and TB it is essential for an auditor to
cross check whether these are linked with fixed assets book value, accumulated
depreciation for strengthening the financial statements (Carson, Fargher and Zhang
2016). The auditor needs to ensure that the accountant has used depreciation schedule for
controlling and calculating the depreciation expenses along with that accumulated
depreciation value. There needs to be a review of working paper of the reconciling fixed
assets as per the list of actual count and at the same time ensure that such results are

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reflected under the fixed assets over in the financial statement. Therefore, it is important
for the auditor to review the depreciation rates which are being allotted to these fixed
assets. The reconciliation process can be aided by maintaining a register for fixed asset
which will be important for the purpose of maintaining existence, accuracy and
completeness in the financial statement. There need to be a review of the fixed asset
based on “IAS 36 Impairment”. As per this method, the entity is needs to be impaired on
an annual basis (Louwers et al. 2015).
c. Explanation of the requirement of ASA 701 Communicating Key Audit Matters in the
Auditor’s Report and the rationale for this auditing standard
As per the ASA 701 KAM the provision for the depreciation in a particular year needs to
be considered with annual rate of 5% for building and 20% for equipment. As per the fixed asset
it needs to be reduced to a rate of aggravated depreciation of the amount pertaining to loss for a
year and accurate deficit to be increased in a respective manner. The main purpose of
communicating the KAM is seen with announcement of value of the auditor’s report about the
disclosure of fixed assets in a better way (Kotsanopoulos and Arvanitoyannis 2017). Therefore,
the applicable treatment for such an audit risk can be considered with the application of ASA 705
which is related to expressing the modified audit opinion for circumstances related to specific
audit engagement and ASA 570 which feel at is the material uncertainties existing in an event of
going concern. As per the identified problems the treatment of both the compliance measure will
be able to address the problems of going concern in the company (Simunic, Ye and Zhang 2017).

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Conclusion
The risk associated to inventory can be considered with reducing closing inventory and
reduction in inventory at hand. The overall evaluations have been further able to identify about
two important audit procedure. The treatment for such risk can be seen with implementation of
techniques such as WIP inventory which will regulate the percentage of completion for
manufacturing items. This procedure will be able to determine the overall percentage of
completion for the WIP items. This will be beneficial in addressing in better tracking of the
inventory items and also helping reducing the problem of inventory going down from 5.4 times
in 2017 to 3.8 times in 2018. Additionally, the overhead analysis will determine whether to
include any abnormal costs which will be charged to expense as they are incurred for testing the
validity and consistency of the closing inventory. The risk pertaining to depreciation are further
seen with incorrect segregation of capital and revenue expenditure items and calculation of
depreciation. Some of the main form of treatments for this risk can be depicted in form of clear
classification of capital expenditure and capital revenue items and reconciliation of book value of
the assets to GL and TB.

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