The claim was an event after the balance sheet date. Suppose the accident occurred before the year-end of 30 September 2018. In that case, the claim gives additional evidence of a year-end condition and thus meets the definition of an adjusting post balance sheet event. In this case the matter appears to have been properly disclosed in the notes to the financial statements per IAS 10: Events After the Balance Sheet Date and IAS 37: Provisions, Contingent Liabilities and Contingent Assets. A provision would only be necessary if the claim was probable to succeed and there is sufficient appropriate evidence that this is not the case. There is, therefore, no material misstatement and (inability to obtain sufficient appropriate audit evidence).

Therefore the audit manager is correct to propose an unmodified opinion.

However, the audit report doesn’t need to contain an emphasis of matter paragraph.
ISA 705: Modifications to the Independent Auditor’s Report states that an emphasis of matter paragraph should be used to highlight a matter where there is significant uncertainty.

Uncertainties usually are only regarded as significant if they involve a level of concern about the company’s going concern status or would have an unusually significant effect on the financial statements. This is not the case here, as there is enough cash to pay the damages in the unlikely event that the claim goes against Toys Co Ltd. This appears to be a one-off situation with a low risk of the estimate being subject to change, and thus there is no significant uncertainty.

The factory closures constitute a discontinued operation per IFRS 5: Non-Current Assets Held for Sale and Discontinued Operations due to discontinuing a separate major component of the business. It is a major component due to the 10% contribution to revenue in the year to 30 September 2018 and 23% contribution in 2017. In addition, it is a separate business component of the company due to the factories having made only one item, indicating a separate income generating unit.

Under IFRS 5 there must be separate disclosure on the face of the income statement of the post-tax results of the discontinued operation and of any profit or loss resulting from the closures. The revenue and costs of the discontinued operation should be separately disclosed either on the face of the income statement or in the notes to the financial statements. Cash flows relating to the discontinued operation should also be separately disclosed per IAS 7: Cash Flow Statements.

In addition, as Factory Co Ltd is a listed company, IFRS 8: Operating Segments requires separate segmental disclosure of discontinued operations.

Failure to disclose the above information in the financial statements is a material breach of International Accounting Standards. The audit opinion should therefore be qualified on the grounds of disagreement on disclosure requirements of IFRS 5, IAS 7 and IFRS 8. The matter is material but not pervasive, and therefore an ‘except for’ opinion should be issued.
The opinion paragraph should clearly state the reason for the qualification and indicate the financial significance of the matter.

The audit opinion relates only to the financial statements that have been audited. Therefore, the contents of the other information (chairman’s statement and Directors’ Report) are irrelevant when deciding if the financial statements show a true and fair view or are fairly presented.

Emphasis of matter paragraph
An ’emphasis of matter’ paragraph is used to draw the reader’s attention to a matter presented or disclosed in the financial statements, which is fundamental to understanding those financial statements.
When an auditor’s report contains an emphasis of matter paragraph, the opinion is not modified. Therefore, it can only be used where the auditor has obtained sufficient appropriate audit evidence that the matter is not materially misstated in the financial statements. (If the matter is materially misstated, a modified opinion is required.)

Although the opinion is not modified, there is an item in the financial statements, properly presented or disclosed, that the auditor wishes to bring to the attention of users because it is fundamental to an understanding of the financial statements.

Circumstances in which an emphasis of matter paragraph may be necessary
ISA 706 (revised) gives the following examples of circumstances in which an emphasis of matter paragraph may be required:

• Where there is an uncertainty relating to the future outcome of exceptional litigation or regulatory action.
• A significant subsequent event that occurs between the date of the financial statements and the date of the auditor’s report.
• Where the entity has adopted a new IFRS early which has had a pervasive effect on the financial statements.
• To draw attention to a major catastrophe that has had, or continues to have, a significant effect on the entity’s financial position.
• Early application of a new accounting standard that has a pervasive effect on the financial statement

Other matter paragraphs
An ‘other matter’ paragraph is used if the auditor considers it necessary to communicate a matter other than those included in the financial statements that, in his opinion, is relevant to users’ understanding of the audit, the auditor’s responsibilities or the auditor’s report.

Or this is the paragraph that is used to highlight a matter that has not adequately been presented and disclosed in the financial statement but in the auditor’s judgment is fundamental for user’s understanding of the audit, audit work and the auditor’s responsibility.

Circumstances in which other matter paragraph may be necessary
ISA 706 gives the following examples of circumstances in which an ‘other matter’ paragraph may be required:

• Where the auditor is unable to resign from the engagement even though the possible effect of a limitation of scope imposed by management is pervasive (relevant to users’ understanding of the audit). This should be rare in practice.
• Where local law or custom allows the auditor to elaborate on his responsibilities in his report (relevant to users’ understanding of the auditor’s responsibilities or auditor’s report).
• Another example when another matter paragraph might be used is when the prior year financial statements were audited by a previous auditor, or not audited because this is the first-year audit for the current auditor.
• The auditor is reporting on a set of financial statements prepared using different frameworks, e.g. both IFRS and GAAP.

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)

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

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.

African Designs Co. Ltd (ADCL)

ADCL’s sales ledger has been corrupted by a computer virus; hence no detailed testing has been performed on revenue and receivables. The audit team will need to see if they can confirm revenue and receivables in an alternative manner. If they are unable to do this, then two significant balances in the financial statements will not have been confirmed. Revenue and receivables are both higher than the total profit before tax (PBT) of GH¢ 2million; receivables are 170% of PBT and revenue is nearly eight times the PBT; hence this is a very material issue. The auditors will need to modify the audit report as they are unable to obtain sufficient appropriate evidence in relation to two material and pervasive areas, being receivables and revenue. Therefore a disclaimer of opinion will be required. A basis for disclaimer of opinion paragraph will be required to explain the limitation in relation to the lack of evidence over revenue and receivables. The opinion paragraph will be a disclaimer of opinion and will state that we are unable to form an opinion on the financial statements.     (3 marks)

Ghana Design Co. Ltd (GDCL)
GDCL is facing going concern problems as it has experienced difficult trading conditions and it has a negative cash outflow. However, the financial statements have been prepared on a going concern basis, even though it is possible that the company is not a going concern. The prior year financial statements showed a profit of GH¢1·2 million and the current financial statements show a loss before tax of GH¢ 4·4 million, the net cash outflow of GH¢ 3·2 million represents 73% of this loss (3·2/4·4 million) and hence is a material issue. The auditor will issue a qualified opinion.            (2 marks)

Receivable balance owing from from Nhyira Co. Ltd.

In order to reach a conclusion on the balance the following procedures should be performed:

• Discuss with management the reasons as to why a circularisation request was refused.
• Review the post year-end period to identify whether any cash has now been received from Nhyira Co. Ltd.
• Review correspondence with Nhyira Co. Ltd to assess reasons for the continued non-payment.
• Review board minutes and legal correspondence to assess whether any legal action is being taken to recover the amounts due.
• Discuss with management whether a provision or write down is now required.
• Consider impact on audit opinion if balance is considered to be materially misstated.                                                      (Any 3 points @ 1 mark each = 3 marks)
  Warranty Provisions

In order to reach a conclusion on the balance the following procedures should be performed:

• Review the post year-end period to compare the level of claims actually made against the amounts provided.
• Review the level of prior year provisions with the amounts claimed to assess the reasonableness of management’s forecasting.
• Review board minutes to assess whether any changes are required to the level of the provision as a result of an increased or decreased level of claims by customers.                                    (3 points @ 1 mark each = 3 marks)

Purposes of including findings from audit

• A report to those charged with governance is produced to communicate matters relating to the external audit to those who are ultimately responsible for the financial statements.
• ISA 260 Communication of Audit Matters with those charged with governance requires the auditor to communicate many matters, including independence and other ethical issues, the audit approach and scope, the details of management representations, and the findings of the audit. The findings of the audit are commonly referred to as management letter points.
• By communicating these matters, the auditor is confident that there is written documentation outlining all significant matters raised during the audit process, and that such matters have been formally notified to the highest level of management of the client.
• For the management, the report should ensure that they fully understand the scope and results of the audit service which has been provided, and is likely to provide constructive comments to help them to fulfil their duties in relation to the financial statements and accounting systems and controls more effectively.
• The report will also help include, where relevant, any actions that management has indicated they will take in relation to recommendations made by the auditors.

• Control weakness
  ISA 260 contains guidance on the type of issues that should be communicated. One of the matters identified is a control weakness in the capital expenditure transaction cycle. The assets for which no authorisation was obtained amount to 0·3% of total assets (225,000/78 million x 100%), which is clearly immaterial. However, regardless of materiality, the auditor should ensure that the weakness is brought to the attention of the management, with a clear indication of the implication of the weakness, and recommendations as to how the control weakness should be eliminated.
  The auditor is providing information to help those charged with governance improve the internal systems and controls and ultimately reduce business risk. In this case there is a high risk of fraud, as the lack of authorisation for purchase of office equipment could allow expenditure on assets not used for bona fide business purposes.
• Disagreement with accounting treatment of brand
  Audit procedures have revealed a breach of IAS 38 Intangible Assets, in which internally generated brand names are specifically prohibited from being recognised. Charged with Governance Limited (CGL) has recognised an internally generated brand name which is material to the statement of financial position (balance sheet) as it represents 12·8% of total assets (10/78 x 100%). The statement of financial position (balance sheet) therefore contains a material misstatement.
  The report to those charged with governance should clearly explain the rules on recognition of internally generated brand names, to ensure that the management has all relevant technical facts available. In the report the auditors should request that the financial statements be corrected, and clarify that if the brand is not derecognised, then the audit opinion will be qualified on the grounds of a material disagreement – an ‘except for’ opinion would be provided. Once the breach of IAS 38 is made clear to the management in the report, they then have the opportunity to discuss the matter and decide whether to amend the financial statements, thereby avoiding a qualified audit opinion.
• Audit inefficiencies
  Documentation relating to inventories was not always made readily available to the auditors. This seems to be due to poor administration by the client rather than a deliberate attempt to conceal information. The report should contain a brief description of the problems encountered by the audit team. The management should be made aware that significant delay to the receipt of necessary paperwork can cause inefficiencies in the audit process. This may seem a relatively trivial issue, but it could lead to an increase in audit fee. Management should react to these comments by ensuring as far as possible that all requested documentation is made available to the auditors in a timely fashion.

i) In terms of the amount GH¢60,000 is only 2.5% of the profit before tax and 0.11% of the Revenue so the “Overpayment” can safely be stated to be quantitatively immaterial. However, that is far from the whole story.
Firstly, even if no overpayment arose the entire transaction (of which we are not given the quantum) is a related party transaction and should be disclosed under IAS 24. A matter is considered immaterial under IAS 24 only if it is immaterial to both parties to the transaction. This alone might well be sufficient reason to qualify the audit report on this point.
Secondly, the overpayment could be seen as extra director’s remuneration the consequences of which would be twofold. Firstly, it would need to be disclosed as such under The Companies Acts and secondly it might have tax consequences. Again, these might be quantitatively immaterial but might need to be disclosed because of their nature.
In any case, these transactions and the attitude of the directors towards them bodes ill for our continuing relationship with the client.

ii) This would appear to require no adjustment to the audit report and would appear to have no consequences for our continuing relationship with the client. If this were a very significant subsidiary it might require an emphasis of matter paragraph but since we are told this is a “small subsidiary” this would appear not to be the case.
Depending on how the corresponding figures are shown an “other matter” paragraph might be considered appropriate.

iii) Given that the error was corrected before the financial statements are issued, it clearly has no impact on the audit report in spite of the fact that the issue is clearly material (at 50% of profit before tax and 2.22% of turnover). In terms of our continuing relationship with the client, again there would appear to be no issue but we would want to confirm how the error occurred in the first place and perhaps reassess control risk.

The audit opinion will be a qualified opinion. The issue at stake is material but not pervasive. Management is in disagreement with the auditor in the adoption of lower of cost and net realisable value in the valuation of inventories.

INDEPENDENT AUDITORS’ REPORT TO THE MEMBERS OF YAWA COMPANY LIMITED FOR THE YEAR ENDED 31ST DECEMBER 2017
Report on the audit of the financial statements

Qualified opinion
We have audited the financial statements of Yawa company limited which comprise the statement of financial position as at 31st December, 2017 and the statement of comprehension income, statement of changes in equity and statement of cash flows for the year then ended and notes to the financial statements, including a summary of significant accounting policies.
In our opinion, except for the matter stated in the basis of qualified opinion, the accompanying financial statements give a true and fair of the financial position of Yawa company limited as at 31st December 2017 and of its financial performance and its cash flow for the year then ended in accordance with International Financial Reporting Standards (IFRSs) and in the manner required by the companies Act 1963, Act 179.       (4 marks)

Management Responsibility
The Board of Directors are responsible for the preparation and fair presentation of the financial statements in accordance with the International Financial Reporting Standards and in the manner required by the companies Act 1963, Act 179 and for such internal control the board of Directors determines is necessary to enable the preparation of financial statements that are free from material misstatements whether due to fraud or error.
In preparing the financial statements the Board of Directors is responsible for assessing the company’s ability to continue as a going concern, disclosing as applicable, matter related to going concern and using the going concern basis of accounting unless the Board of Directors either intend to liquidate the company or the cease operations, or have no realistic alternative but to do so. The Board of Directors is also responsible for overseeing the company’s financial reporting process.   (2 marks)

Auditor’s Responsibilities for the audit of the financial statements
Our objectives are to obtain reasonable assurance about whether the financial statements as a whole are free from material misstatements, whether due to fraud or error, and to issue an auditor’s report that includes our opinion. Reasonable assurance is a high level of assurance but is not a guarantee that an audit conducted in accordance with ISA, s will always detect a material misstatement when it exists. Misstatements can arise from fraud or error and are considered material if individually or in the aggregate they could reasonably be expected to influence the economic decisions of users taken on the basis of these financial statements.
As part of an audit in accordance with ISAs, we exercised professional judgement and maintained professionalism throughout the audit.    (2 marks)

Unmodified report
From the information in the disclosure notes it is apparent that the company is not a going concern. However it is not clear on which basis the financial statements have been prepared. They may have been prepared:

• On the going concern basis: or
• On an alternative basis.

An unmodified auditor’s report means that:

• The accounts give a true and fair view
• They have been prepared in accordance with statute

If the accounts have been prepared on a going concern basis, an unmodified opinion would not be appropriate as this does not reflect the true position of the company. The results would be misleading as the readers would make assumptions about the company’s ability to continue, which are clearly not the case. In addition to the inappropriate basis of preparation, disclosure is inadequate as the notes to the accounts do not highlight the significant problems the company is facing. In this respect they are not properly prepared.
If the accounts have been prepared on an alternative basis an unmodified opinion would still not be valid. This is due to the inadequacy of disclosure. The going concern assumption is a fundamental principle. Readers of accounts assume the company is viable unless it is clearly stated otherwise. In this case even though the basis of preparation is correct the lack of disclosure means that they are not properly prepared.          (5 marks)

Alternative opinions
The ‘except for’ or disclaimer of opinion would not be appropriate irrespective of the basis of preparation as the issue is not one of uncertainty. The company has liquidated assets and we are told that the company has ceased to trade in October.

If the financial statements have been prepared on a going concern basis an adverse opinion should be expressed. This would be due to a material and pervasive misstatement as a result of the basis of preparation. For example assets and liabilities are likely to be misclassified as non-current, when they should be classified as current. The opinion would be adverse as the misstatement is pervasive to the overall true and fair view.

If the accounts have been prepared on an alternative basis reflecting that the company is not a going concern, for example the break-up basis, provided that this has been applied correctly the auditor would agree with this treatment. However a qualified ‘except for’ auditor’s opinion should be issued on the grounds of a material misstatement in respect of the adequacy of the disclosure regarding the basis of preparation.    (5 marks)

Suitability of the report
The report is not suitable under the circumstances as there is the need for an EMPHASIS OF MATTER paragraph immediately after the opinion under ISA 560 on the note on Going Concern and Subsequent Events. This must, however state clearly that the inclusion of the Emphasis of matter is not a qualification of the opinion in respect of the matter.         (4 marks)

The paragraph could read like:
Emphasis of Matter
We draw attention to the note … to the financial statements which indicates that the company incurred a net loss of GH¢24.8 for the year ended 31 December 2015 and, as of that date, the company’s current liabilities exceeded its current assets by GH¢37.8M. The note states that these conditions, along with other matters, indicate the existence of a material uncertainty which may cast significant doubt on the company’s ability to continue as a going concern. Our opinion is not qualified in respect of this matter.        (4 marks)

• IAS 2 requires that inventory be valued at the lower of cost and net realisable value. IAS 2 defines cost as all costs of purchase, conversion and other costs incurred in bringing the inventory to its present location and condition.
• The IAS 2 outlines a number of methods of arriving at an approximation of cost in the absence of a satisfactory costing system. One such method is the use of a selling price less an estimated profit margin. This is a costing method commonly used in retail entities. However, this is reasonable only if it can be shown that the method gives a reasonable approximation of cost.
• Given that 50% of Duakor’s inventory is manufactured in-house, it appears to be unlikely that they cannot ascertain the cost of the inventory in a better way than the selling price method. The chain of shops is small, and there should be sufficient controls over inventory transfer to enable the company to establish the cost of inventory using a FIFO system.
• While the auditors might suggest to the directors that they look into the costing system and make improvements in future years, it is unlikely that they would modify the audit report in the current year over this matter, assuming that the directors have shown that the accounting policy gives a reasonable approximation of cost. This is because if a reasonable approximation of cost is given, the difference is not going to be material to the financial statements.
• Also, if Duakor has had the policy for a long period, the policy is at least consistent with itself. If the auditors had made recommendations that the system was reviewed in future years and the directors refused to make any amendments to the system in future, the auditors might want to consider taking further action in future years.
• To conclude, if there are no other audit matters arising in relation to inventory, the audit report will be unmodified in this respect.                  (Any 5 points for 5 marks)
  

• Duakor offers refunds and exchanges to unhappy customers and experience shows that this offer is commonly taken up. If a sale is refunded, it is as if the sale never took place. It is therefore not prudent for Duakor to recognise profits on such sales. If items are exchanged, the profit element would still exist, so only the inventory element would be potentially misstated.
• As the refund period is 28 days, the issue is isolated to sales made in the last month of the year. In the absence of specific figures, this approximates to 1/12 of annual revenue and profit, and is therefore potentially material. Using these approximations, this would mean that if more than a quarter of June’s sales were refunded, this could be material to revenue, and potentially to profit.
• Given that the accounts are unlikely to be finalised before the end of July, the refunds figure for June should be available to both the directors and the auditors. They should both be able to assess whether the potential provision required is material to the financial statements, and how much the provision should be, if one is required.
• In conclusion the audit report would only be modified in respect of this matter if the auditors felt that a material provision was required and the directors refused to include one in the financial statements. In this case, the auditors would issue an ‘except for’ opinion, on the grounds of material misstatement in the financial statements.
• On the whole it appears likely that in both cases the auditors will issue an unmodified report for the year ended 30 June, 2015.                  (5 points for 5 marks)