ACCT6006 Auditing Theory and Practice Case Study Analysis and Report

This document presents a comprehensive case study analysis of auditing theory and practice, addressing key concepts such as inherent risk, materiality, debtor confirmation, and ethical considerations within the context of three distinct cases. The first case examines the inherent risks associated with Max Security Ltd., including industry and entity-specific risks, and discusses factors relevant to determining materiality. The second case evaluates the strengths and weaknesses of debtor confirmation as audit evidence for MSHG, exploring the limitations of this evidence and the circumstances in which it may be the only evidence available. The third case delves into the ethical challenges faced by Meg, requiring compliance with APES 110, and considers Meg's audit report options, culminating in a recommended course of action. The analysis covers risk assessment, evidence evaluation, and ethical decision-making within the auditing process, offering practical insights for students studying auditing and related fields.

Running Head: AUDITING THEORY AND PRACTICE
Auditing theory and practice
Name of the student
Name of the university
Student ID

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AUDITING THEORY AND PRACTICE
Table of Contents
Introduction......................................................................................................................................2
Case 1...............................................................................................................................................2
Answer (A)..................................................................................................................................2
Answer (B)...................................................................................................................................3
Case 2...............................................................................................................................................4
Answer (A)..................................................................................................................................4
Answer (B)...................................................................................................................................5
Case 3...............................................................................................................................................6
Answer (A)..................................................................................................................................6
Answer (B)...................................................................................................................................8
Answer (C)...................................................................................................................................8
Conclusion.......................................................................................................................................9
Reference list.................................................................................................................................10

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Introduction
Auditing is the process of examining an individual or an organization financial record to
determine their truth and fairness of the statement in accordance to the applicable rules and
regulation. Auditing is a safeguard measure by which shareholders may effectively assess and
enhance the risk management, control and the governing process. In this project 3 case studies
are provided. In the 1st case report will be on the major inherent risk of Max Security audited
report by considering both industrial risk and entity risk. Further it is needed to discuss on the
factors for considering by determining materiality of Max Security. In 2nd case report is on the
strength and weakness of debtor confirmation as audit evidence of MSHG. Further it is discussed
about the possibilities for Chan and partners for using debtor’s confirmation as the only audit
evidence. In 3rd case report is to discuss about the ethical issues that are faced by Meg and things
needed to do to comply with APES 110. Then it is discussed about Meg’s audit report options
and a recommendation of course of action for Meg (Fung, 2014).
Case 1
Max Security ltd. is an audited client of Smith & Associate for the previous 15 years.
Max Security is situated in Wollongong where they manufacture high tech armory plates for
personnel carriers. Max Security has gone through the competitive market for getting
government contracts. Its main product is Terrain Master which is small but powerful. Max
Security is highly specialized equipment’s and does business with the nations that are recognized
in whole world and having democratic government. Max Security has off the self-costing system
for supporting highly sophisticated as well as cost sensitive product design. Its manufacturing
costing system use its entire manufacturing unit for computing and producing a database of all
the products cost and their sale price (Vaicekauskas & Mackevičius, 2014).

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Answer (A)
There are many complex transactions that require accounting experience, knowledge and
judgment to record them. These records are subject to error in spite of control. So the risk that
might arise in the financial statement of a company even after control then it is known as
inherent risk. Auditing involve inherent risk when they deal with complex transaction which
requires high level of attention during its application. It does not consider the factors which lacks
of control (Yapa, Ukwatte Jalathge & Siriwardhane, 2017). Therefore inherent risk provides
warning for worst case in advance to control fails. In the given case of Max Security inherent
risk are as follows –
 Inherent risk commonly occurs in the financial service sectors as they include the
complexity for regulating the financial institution. Larger the network of related
companies and product it requires more intricate instrument to calculate complicated
calculations.
 Industry related inherent risk is associated with the nature of the product. In this company
manufactures the product which is highly sensitive in nature and requires secured
environment. So inherent risk is high as the entity belongs to an industry which design
product which are highly sensitive. Selling to the allies who may become the enemies in
later period causing selling risk (Sylvander, 2014).
 Entity related risk are like pricing risk for the high complex products that are designed to
meet the specification of the customers, highly dependent products of specialized in
nature is associated with high level of dependency on export customers that will generate
risk of revenue, adequacy of security for customers details and secrecy of product
components.

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 Risk associated with new costing method for inventories after bringing new system which
will generate comparable information with all other clients (Wearne & Brown, 2014).
 Adequate documentation is required for tendering.
 Complex designed product and their costing methods may raise question regarding
standard costing and movement of inventories.
 Risk is associated with the waste management system like colleting it and also the way of
disposing it properly.
Answer (B)
Materiality in accounting is an important concept and very subjective and relative to size.
Financial information may be of material importance to one company but may be immaterial to
another company. Materiality concept is more noticeable in companies by comparing their size
like large or small companies. A similar cost may be material in large company but may be
immaterial in small companies. The main objectivity of material concept is to assess the financial
statement under consideration that makes significant opinion on the financial statement. If the
statement is not material then the company does not required worrying in their financial
statement. While planning audit auditor is required to make the financial report to check the
materiality. Auditor assessment regarding materiality is associated with accounting balance and
classes of the transaction (Ismail, Sitnikova & Slay, 2015). Factors required to be considered
while determining materiality are as follows –
 Materiality is a relative concept and not an absolute concept because the auditor applies
his own judgment while deciding whether the item is material or not.

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 Establishing a benchmark for materiality to determine whether any misstatement is
material or not. Companies’ products which are sensitive in nature and require high level
of confidentiality are more regular to misstatement (Tan & Ho, 2016).
 Quantitative factor have more impact on materiality as the user compares each and every
item.
 Misstatement may be minor or major it always effect the earning trend.
Case 2
Answer (A)
Debtor confirmation is substantial evidence associated with MSHG account receivable
provide evidence regarding existence of assertion. Valuation and allocation related information is
expected and reliable as debtor does not provide an assurance or willing in paying the amount
identified as error in account balance. Receivable balance of shady ok amount is $39, 74,569.
Further the term payment is 14 days, overdue for 60 days signifies credit approval system of
shady oak along with the collection of debt is not effective (Lenning, 2018). Debtor confirmation
as the evidence for audit is as follows –
 Debtor confirmation gives evidence regarding existence for the accounts receivable of
MSHG. When debtor feedback is affirmative this will provide external evidence that they
owe money for the service rendered by MSHG.
 Debtor confirmation provides information about rights and obligation as they provide
evidence regarding amount owed to MSHG.

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 Smaller account that makes 40% of the balance sheet has more doubt as most of the
debtors are allowed more than 14 days. Debtor confirmation will also provide evidence
regarding their existence (Rosli, Siew, & Yeow, 2016).
 Existence of evidence of debtors can be confirmed through allowing confirmation to
large balance since 60% is owed by only 5 medical practitioners.
Weaknesses –
 It does not deliver reliable evidence regarding valuation as well as allocation of resources
as debtors does not provide any assurance of paying the account as they find an error in
their account balance.
 Further processing of large balance is required for getting reliable evidence of valuation.
It also mention the period of overdue of balance. If it is due within 14 days it is not
expected any significant doubts will arise regarding recovery but review of receipts will
provide additional evidence that requires owing of accounts material nature.
 Smaller debtor’s confirmation will provide evidence regarding their evidence which is
needed to ascertain the valuation. Allowances of doubtful debt are taken from trade
receivable account where auditor will review the transaction and analyse the credit
control (Ding, 2019).
Answer (B)
Debtor confirmation or accounts receivable is solely used as audit evidence that may
provide adequate evidence regarding allocation and valuation for the account receivable. The
main cause of large balance of account receivable is material and evidence where most of the
balance is overdue from smaller debtors. Auditor requires making assumption, method and data
used by the management which is considered as addition to reasonableness of adjustment to

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accounts. It is further required to discuss about the management approach for doubtful debt and
its further allocation and valuation. In the given case it further attracts Para 9 of ASA 230 for
audit documentation, documenting the extent, timing and nature regarding the procedure of audit
conducted (Auasb.gov.au. (2019). The auditor shall record -
 Who has done the audit work and completion date of the work
 Identifying the characteristics of every item or the matters those were tested.
 Who has reviewed the audit work and in which date such review has been done.
Auditor shall also document the ageing analysis of account receivable balance. Like the
transaction in which account receivable is included or analysed or date on which the balance of
account receivable was generated who reviewed the analysis for items on which date shall a
conclusion accordingly (Aitchison, 2015).
Case 3
Answer (A)
Main reason to comply with APES 110 is Meg and its fundamental principle includes
objectivity, confidentiality, integrity, professional behavior and professional competence along
with due care. According to the section 100 of APES 110 it confirms with the fundamental
principle which potentially threatened by wide variety of circumstances and may come under the
category of self-review threats, intimidation threat, familiarity threat and advocacy threat. In the
given case of Meg threats to APES 110 principle incudes –
 Behind intimidation threat the CEO is appeared to intimidate Meg by making them agree
on the valuation and also the auditor statement needed to be more realistic which can

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AUDITING THEORY AND PRACTICE
construct the threats for replacing the Meg and his audit firm by any other audit firm that
will be agree upon the valuation made by hem.
 Self-interest occurs as Meg would not like to upset the CEO by anything else that fear the
firm may lose the audit contract with the client champion securities (Apesb.org.au, 2019).
Some of these threats may lead to loss of Meg professional objectivity as they might have
to abide the request of CEO. So Meg shall take these threats seriously and take necessary
safeguard policies. Different possibility include –
 When all the audit documentation is complete and shall refer the same to the ethical
committee of Meg’s audit firm with the request for the guidance.
 May ask other partners of audit firm to evaluate the same and make them to join the deal
with CEO.
 Refer the clients of board and audit committee in a formal way.
 Explaining problem that may arise to the shareholders of the entity at the annual general
meeting.
 Ask any independent broker to value the asset.
 Resignation from the client (Ihsan et al. 2016).
 ASIC must be informed about the subject matter.
Answer (B)
The best way to ensure audit opinion is to have a subject for an audit and to keep track of
company’s finances which will ensure reconciled bank account with income and expenses as
well as liabilities and assets. Option for Meg’s report is as follows –

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 Highlighting unqualified report of a paragraph in case of an agreement on asset valuation
is reached and owing to that significant issues regarding going concern approach that is
disclosed adequately.
 In case of Meg an unqualified report is able to reach the conclusion with CEO for
appropriate valuation.
 In case of misstated valuation qualified report does not have any impact on the financial
reports then it is unexpected to signify the nature with the given information to make
profitability assessment as well as solvency of the entity.
 In case of misstatement for valuation of adverse report has significant impact on the
financial report. Specifically this is expected during misstatement regarding asset
valuation which will raise doubt regarding going concern status of the entity.
Auditing process can result from a mistake which indicates fraud within an entity. An
adverse opinion is when the company goes through their documentation before getting audited
for the second time. While the most common report is known as the disclaimer of opinion which
means that the auditor will not be able to complete the audit due to a reason (Aitchison, 2015).
Answer (C)
Meg shall try to solve the issue of assistance from clients’ board as well as other partners
of audit firm and shall provide the appropriate valuation of the assets to disclose through the
financial report. Second reporting option presents in part (a) which will be the most likely in that
case. Making of adverse report and reporting them to ASIC and resigning from the client’s audit
will be last alternative if relationship between client and the auditor breaks down. But Meg shall
not agree with the request of CEO for overhauling the asset which is against the professional
ethics (Jape & Korde, 2014).

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Conclusion
An audit is more than just formalities it become a necessity for protecting the business
and reduce thrive. For business it helps the management to detect error and frauds, helps to
obtain loans from bank and other financial services, it increase reputation of the business in the
market, government accepts the audited statement for the purpose of taxation as it shows true
and fair view of the statement. From the above three cases provided it can be established that in
case 1 some of the major inherent risks are related to products, with pricing of sensitive products
and information for the supply and sell of the products. In case 2 auditor looks for other evidence
as debtor confirmation cannot be taken as the only audit evidence. In case 3 Meg shall issue an
opinion of his own and shall not comply with the request of CEO for asset valuation.

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Reference list
Apesb.org.au. (2019). Retrieved 21 August 2019, from
https://www.apesb.org.au/uploads/standards/apesb_standards/23072019055710_APES_1
10_Code_of_Ethics_for_Professional_Accountants_December_2010_-_Final.pdf
Auasb.gov.au. (2019). Retrieved 21 August 2019, from
https://www.auasb.gov.au/admin/file/content102/c3/ASA_230_Compiled_2015.pdf
Aitchison, C. (2015). Writing the practice/practise the writing: Writing challenges and
pedagogies for creative practice supervisors and researchers. Educational Philosophy and
Theory, 47(12), 1291-1303.
Connell, L. A., McMahon, N. E., Tyson, S. F., Watkins, C. L., & Eng, J. J. (2016). Mechanisms
of action of an implementation intervention in stroke rehabilitation: a qualitative
interview study. BMC health services research, 16(1), 534.
Ding, Z. (2019). Other Comprehensive Income, Auditor Practice Experience and Audit
Pricing. American Journal of Industrial and Business Management, 9(1), 233-252.
Fung, S. (2014). Hong Kong Auditing: Economic Theory & Practice. City University of HK
Press.
Ihsan, H., Sulaiman, M., Alwi, N. M., & Adnan, M. A. (2016). Waqf accountability from the
stakeholder salience theory: A case study. Journal of Islamic Monetary Economics and
Finance, 2(1), 1-40.
Ismail, S., Sitnikova, E., & Slay, J. (2015). Studying SCADA Organisations Information
Security Goals: An Integrated System Theory Approach. In PACIS (p. 77).