Nov 2020 Q3 a, b
GBA Co. Ltd. (GBCAL) operates a chain of food wholesalers across the country and its year end is 31 December 2018. The company is financed solely from equity including internally generated fund of the Company since incorporation.
The final audit is nearly complete and it is proposed that the financial statements and audit report will be signed on 31 January 2019. Revenue for the year is GH¢ 100 million and profit before taxation is GH¢ 15 million. Total assets amounted to GH¢ 500 million.
The following events have occurred subsequent to the year end.
Warehouse
GBCAL has three warehouses and following a torrential rain on 25 January 2019, the warehouse located in Adenta got flooded. All the inventory was damaged and has been written-off. The insurance company has already been contacted. No amendments or disclosures have been made in the financial statements.
Lawsuit
A key supplier of GBCAL is suing them for breach of contract. The lawsuit was filed prior to the year end, and the sum claimed by them is GH¢ 2 million. This has been disclosed as a contingent liability in the notes to the financial statements. However, a correspondence has just arrived from the supplier indicating that they are willing to settle the case for a payment by GBCAL of GH¢0.9 million. It is likely that the company will agree to this.
Receivable
A customer of GBCAL has been experiencing cash flow problems and owed the company GH¢ 0.08 million. The company has just become aware that its customer is experiencing significant going concern difficulties. GBCAL believe that as the company has been trading for many years, they will receive some, if not full, payment from the customer, hence they have not adjusted the receivable balance.
Required:
a) For each of the three events above:
i) Discuss whether the financial statements require amendment. (3 marks)
ii) Describe audit procedures that should be performed in order to form a conclusion on the amendment. (4 marks)
iii) Explain the impact on the audit report should the issues remain unresolved. (3 marks)
View Solution
The warehouse at Adenta has been subject to flood in late January, the entire inventory has been written off and the company has insurance in place. This event occurred after the year end and the flood would not have been in existence as at 31 December, and hence this event indicates a non-adjusting event.
The financial statements should not be adjusted; however, if the impact of any uninsured losses are material, then a disclosure of the nature of the event and any estimates of the financial impact may be required. If the amount is not material then it may not be necessary to include any disclosures.
The following audit procedures should be applied to form a conclusion as to the extent of any disclosures:
- Discuss the matter with the directors, checking whether the company has sufficient inventory to continue trading in the short term.
- Obtain a written representation confirming that the company’s going concern status is not impacted.
- Obtain a schedule showing the inventory destroyed and compare this to the average inventory in the other two warehouses to see if the amount claimed to be damaged is reasonable.
- Review any correspondence from the insurers, confirming the amount of the insurance claim to assess the extent of any uninsured amounts.
The amount of damaged inventory is likely to be material; however, the company has insurance and so it is only the uninsured level of inventory which should possibly be disclosed.
If disclosures are not required, because the uninsured loss is immaterial, then there will be no reporting implications for the audit report.
If disclosure of this subsequent event is required and management refuse to make these disclosures, then the audit report will need to be modified with a qualified ‘except for’ opinion.
If the impact of the uninsured level of inventory is such that the company’s going concern status is impacted, consideration should be given to modifying the audit report opinion. This would involve including an emphasis of matter paragraph drawing attention to the possible risk in relation to going concern.
Lawsuit
A key supplier is suing GBCAL for GH¢2 million; the company has made contingent liability disclosures. However, subsequent to the year end the supplier agreed to settle at GH¢0.9 million and it is likely the company will agree. Although the settlement was agreed after the year end, it provides further evidence that the company had a present obligation as at 30 September.
The financial statements should be adjusted with the contingent liability disclosures being removed and instead a provision of GH¢0.9 million being recorded.
The following audit procedures should be applied to form a conclusion as to the level of the adjustment:
- The auditor should contact the company’s lawyers to ask their view as to whether the settlement is probable and whether GH¢0.9 million is the likely amount.
- Review the correspondence with the supplier to confirm that the amount they are willing to accept is in fact GH¢0.9 million.
- Discuss with management as to whether it is probable that they will pay this sum and obtain a written representation confirming this.
The sum being claimed is GH¢2 million but the probable payment is GH¢0.9 million, this is material as it represents 6% of profit (0.9/15) and hence management should provide for this amount.
If management refuse to make provision then the audit report will need to be modified. As management has not complied with IAS 37 Provisions, Contingent Liabilities and Contingent Assets and the error is material but not pervasive then a qualified opinion would be necessary.
A basis for qualified opinion paragraph would be required and would need to include a paragraph explaining the material misstatement in relation to the lack of a provision and the effect on the financial statements. The opinion paragraph would be qualified ‘except for’.
Receivable
A customer, owing GH¢0.08 million at the year end, is experiencing significant going concern difficulties. This information was received after the year end but provides further evidence of the recoverability of the receivable balance at the year end. Under IAS 10 Events after the Reporting Period, if the customer is experiencing cash flow difficulties just a few months after the year end, then it is highly unlikely that the GH¢0.08 million was recoverable as at year end. The receivables balance is overstated and consideration should be given to adjusting this balance, if material, through the use of an allowance for receivables or by being written off. The following audit procedures should be applied to form a conclusion as to the level of the adjustment:
- The correspondence with the customer should be reviewed to assess whether there is any likelihood of payment.
- Discuss with management as to why they feel an adjustment is not required.
- Review the post year-end period to see if any payments have been received from the customer.
The receivable of GH¢0.08 million is not material as it represents 0.53% of profit (0.08/15) and 0.08% of revenue (0.08/100) and therefore, although overstated, it does not require adjustment. However, the GH¢0.08m should be noted in the summary of unadjusted errors.
As the error is immaterial then no amendment is required to the audit opinion. (10 marks)
b) Describe your responsibility for subsequent events;
i) Assuming the events occurred before your report is signed (5 marks)
View Solution
ISA 560 Subsequent Events responsibilities
Period between the year-end date and the date the auditor’s report is signed
I have an active duty to design and perform audit procedures to identify and obtain sufficient and appropriate evidence of all events up to date of the auditor’s report that may require adjustment or disclosure in the financial statements. These procedures should be performed as close as possible to the date of the auditor’s report and in addition representation regarding subsequent events should be sought on the date the report was signed. I would ensure that management have accounted or disclosed subsequent events properly if not the implication on the audit report.
Audit procedures to meet the above requirement include:
• Review management procedures for ensuring that subsequent events are identified
• Read board minutes of shareholders and management for evidence of subsequent events
• Enquire from management of any subsequent events
• Obtain correspondence from solicitors of the outcome of any pending legal case
ii) Assuming the events occurred after signing your report but before the report was issued. (5 marks)
View Solution
Period between the date the auditor’s report is signed and the date the financial statements are issued
However, if a fact becomes known to me that, had it been known to the auditor at the date of the auditor’s report, may have caused me to amend my report, the auditor shall: discuss the matter with management, determine whether the financial statements need amendment and, if so, inquire how management intends to address the matter in the financial statements.
The auditor does not have any responsibility to perform audit procedures or make any enquiry regarding the financial statements or subsequent events after the date of the auditor’s report. In this period, it is the responsibility of management to inform the auditor of facts which may affect the financial statements.
When the auditor becomes aware of a fact which may materially affect the financial statements, the matter should be discussed with management. If the financial statements are appropriately amended then a new audit report should be issued, and procedures relating to subsequent events should be extended to the date of the new audit report. If management does not amend the financial statements to reflect the subsequent event, in circumstances where the auditor believes they should be amended, a qualified or adverse opinion of disagreement should be issued.