Lupane State University Butding Commies rough Koalaye FACULTY OF COMMERCE DEPARTMENT OF ACCOUNTING AND FINANCE. BACHELOR OF COMMERCE HONOURS DEGREE IN ACCOUNTING AND FINANCE PART IV SEMESTER | EXAMINATION ADVANCED AUDITING [COAF 4104) DECEMEBR 2022 DURATION: 3 HOURS 15 MINUTES INSTRUCTIONS 1. Answer ALL QUESTIONS 2. Begin each question on a new page. 3. Please indicate the study format (Conventional/Block/Parallel) on the cover of your answer script. INFORMATION 1. Marks per question are as indicated. 2. Questions may be attempted in any order. This paper consists of 9 printed pages including the cover pageQuestion 1 (40 Marks} You are an audit manager in Mpumalanga & Co, Certified Public Accountants and Registered Auditors. The audit engagement partner, Josh Moyo, has called you into his office to discuss a leche /Bemauslt client, You have been assigned as the aucit manager of West Hotel Group Ltd {West ergagaven + TOU) for the year ended 31 December 2020. The Group operates a chain of luxury hatels across FF rimbabwe. However, as part of a continuing growth strategy, it has acquired a new hotel in Malau. You are very excited about auditing this luxury group of hotels, and are hoping that you Forecj “ may get to stay in one of the hotels dpring the audit Isely anc lasealeres: obeclerey Its now January 2021, and you have recently had a planning meeting with Josh Moyo, Peter Dube, the managing director of West Group, and Pretty Moyo, the finance director of West Group. From detailed discussions with them, you note the following information: Ba 7 Beegniateodnes, West Group owns five hotels in South Africa (Cape Town, Durban, East London, Pretoria and Mthatha) and one hotel in Malawi, which was acquired in October 2020. Each hotel operates through a separate legal entity, and West Group owns 100% of each entity. The Group prepares consolidated financial statements on an annual basis. The Head Office is located in Cape Town. {mn 2020, the West Group had total revenues of $180 million (2019: $160 million), and operating brofits of $17 000 000 (2019: $22 000 000). Pretty Moyo explained that all the hotels have been performing well over the last year, with the exception of the hotel in Mthatha (see Appendix 1) Information Technology (IT) Pretty Moyo highlighted that the West Group relies heavily on the use of information technology (7) and noted that approximately 96% of bookings are made online via its website. The Group invested significantlyin IT over the last six months, which resulted in an extensive upgrade of its ‘website and the development ofa user-friendly app. Peter Dube said, “we have spent a significant amount of money developing our IT systems and ensuring they are secure, as the rapid increase in cybercrime in South Africa is frightening.” Finance team Each hotel has a finance team, including a financial controller. At the end of every month, a reporting pack is prepared by the financial controller, including a copy of the management accounts, key completed reconciliations and detailed commentary on how the hotel has met key Performance indicators for that particular month. Each reporting pack is submitted to the head Office in Cape Town, and the group financial controller reviews them and performs additional reconciliations, The group financial controller also preparesthe year-end consolidated financial statements, Pretty has, however, informed you that the group financial controller resigned in December 2020 because he could not cope with the pressure of the job. She has not yet been Page 2 of 9able to find a suitable replacement, Pretty has asked if your firm would be able to help with the finalisation of the consolidated financial statements for the year ended 31 December 2020, as her team is currently struggling to find the time needed. sw acquisition The hotel in Malawi (Malawi Ltd.) was acquired in October 2020 for $8 500 000, and will be included in the consolidated financial statements at 31 December 2020. The purchase of the hotel was financed by a bank loan. Peter Dube explained this was a significant investment for the West Group and that a further $2.5 million has since been spent on capital expenditure to ensure it meets the exceptionally high standards of the Group. Peter Dube has invited the entire audit ‘team to travel to Malawi for the opening of the hotel in February 2021 as his guests. He has also assured the team will be treated very well while there. Valuation of the hotel properties The group policy is to value Land and Buildings at fair value, The calculation of fair value and the allocation of fair value to Land and Buildings requires significant judgement. Peter Dube confirmed professional valuation experts were appointed to value Land and Buildings at 31 December 2020. Land and Buildings at that date were valued at $220 million, representing a revaluation increase of $24 million. Loans and Borrowings During the financial year to 31 December 2020, the Group borrowed $21 000 000 in order to finance the purchase of the new hotel in Malawi, and to complete the renovation work required. The loan is repayable over 10 years and the Group must adhere to strict loan covenants, The bank requires the Group to provide management accounts on a quarterly basis: if a loan covenant is breached, the loan may be due for repayment immediately. Pretty Moyo has informed you that the group is also struggling to ensure management accounts for the quarter ended 31 December 2020 will be submitted within the allocated time frame, Appendix 1; Hotel in Mtatha * The hotel in Mthatha is one of the biggest in the Group, and contributes 25% of total revenue. * Although revenue has increased in 2020, profit has fallen significantly due to a number of “special offers” in both accommodation rates and the restaurant, Peter believes the main causes for thisfall are reduced gross margins (due to the successful uptake of the various special offer promotions during the year) and increasing costs (mainly driven by payroll). The number of special offers were approved by Page 3 of 9Required: management in a bid to counter the tough economic environment within which the hotel operates and thereby increase revenue. During the year, @ new bonus scheme was introduced for both managers and directors in order to increase revenue. The bonus is directly linked to revenue. The hotel has four main revenue streams, as outlined below. Accommodation income: The hotel has 350 rooms, with average room rates of $450, Peter Dube informed you that occupancy rates average 75% throughout the year, with almost 100% ‘occupancy during the summer months, Inthe latter six months of 2020, it was difficult to achieve occupancy targets, as three new hotels were opened in the city centre in June 2020. A further two hotels are expected to open next month. Restaurant income: The hotel has one restaurant which is open daily for breakfast, lunch and dinner. Paul Wilson explained the restaurant incurred significant losses during 2020, due to increased competitor offerings. Bar income: There are two bars in the hotel and a wide range of drinks is available to both residents and non- residents. In April 2020, the hotel opened a wine bar, which has proven to be very profitable. Function room income: The hotel has a large function room which is ideal for weddings, small conferences and business meetings. The function room was renovated in April 2020, and the hotel hosted a wedding fair in May 2018, Due to the success of the wedding fair, supplemented with advertising in various media outlets, almost all Fridays and Saturdays in 2021 and 2022 have been booked. The average cost ofa wedding in the hotel is $31 000 and a deposit of $4 000 is required for each booking. {a) Draft a memo to the audit partner that outlines FIVE key audit risks in respect of West Group, and recommend an appropriate approach to test each highlighted risk. Page 4 of 9fou may ignore cybercrime and the revenue streams pertinent to the hotel in ‘Mthatha as these are examined separately in parts (b) and (d) below [20 Marks] (2) In accordance with ISA 315 - Identifying and Assessing the Risks of Material Misstatement throughUnderstanding the Entity and its Environment, discuss the key procedures which Should be performed to assess the risk of cybercrime to the West Group. [4 Marks] (¢) Describe the additional audit procedures required in relation to engaging the services of @ property expert to value Land and Buildings [4 Marks) (d) In relation to the hotel in Mthatha (Appendix 1), propose the substantive tests that should be performed to gain comfort over each of the four revenue stream. [12 Mark] Question 2 [20 Marks] (2) ISA 260 Communication with Those Charged with Governance provides guidance to auditors in relation to communicating with those charged with governance on matters arising from the audit of an entity's financial statements. Required: (i) Explain why it is important for auditors to communicate throughout the audit with those charged with governance; and [2 Marks] (ii) Identify TWO examples of matters which the auditor may communicate to those charged with governance. [2 Marks] {b) Hadebe Co operates six restaurant and bar venues which are open seven days a week. The company’s year end is 31 July 2020. You are the audit supervisor reviewing the internal controls documentation in relation to the cash receipts and payments system in Preparation for the interim audit, which will involve visiting a number of the venues as well as the head office. The company has a small internal audit department based at head office in Plumtree The purchasing department based at the company’s head office is responsible for ordering food and beverages for all six venues. In addition, each venue has a petty cash float of $5 000, held in the safe, which is used for the purchase of sundry items. When making purchases of sundries, employees are required to obtain the funds from the restaurant manager, purchase the sundries and return any excess money and the receipt to the manager. At any time, the petty cash sum held and receipts should equal the float ‘of $5 000 but it has been noted by the company's Internal Audit department that on some occasions this has not been the case. Page 5 of 9Each venue has five cash till (cash registers) to take payments from customers. Three are located in the bar area and two in the restaurant area, Customers can pay using either cash of @ credit card and for any transaction either the credit card vouchers or cash are Placed in the til by the employee operating the till. To speed up the payment process, each venue has a specific log on code which can be used to access all five tile and ic changed every two weeks. Ai €ach venue at the end of the day, the tills ae closed down by the restaurant manager who counts the total cash in all five tlls and the sum of the credit card vouchers and these ‘otals are reconciled with the aggregated daily readings of sales taken from each til. Any ciscrepancies are noted on the daily sales sheet. The daily sales sheet records the sale per the tll the cash counted and the total credit card vouchers as well as any iscrepancies. These sheets are scanned and emailed to the cashier at head office at the end of each week. Approximately 30% of Hadebe Co's customers pay in cash for their restaurant or bar bills. Cash is stored in the safe at each venue on a daily basis after the sales reconciliation has been undertaken, Each safe is accessed via a key which the restaurant manager has responsibility for. Each key is stored in a drawer of the manager's desk when not being used. Cash is transferred to the bank via daily collection by a security company. The security company provides a receipt for the sums collected, and these receipts are immediately forwarded to head office. The credit card company remits the amounts due directly into Hadebe Co’s bank account within two days of the transaction. At head office, on receipt of the daily sales sheets and security company receipts, the cashier agrees the cash transferred by the security company has been banked for all venues. She agrees the cash per the daily sales sheets to bank deposit slips and to the bank statements. The cashier updates the cash book with the cash banked and details of the credit card vouchers from the daily sales sheets, On a monthly basis, the credit card company sends a statement of all credit card receipts from the six venues which is filed by the cashier, Every two months, the cashier reconciles the bank statements to the cash book, The reconciliations are reviewed by the financial controller who evidences her review by signature and these are filed in the accounts department. All purchases of food and beverages for the venues are paid by bank transfer. At the relevant payment dates, the finance director is given the total amount of the payments list which he authorises. Required: Identify and explain EIGHT DEFICIENCIES in Hadebe Co's cash receipts and payments system and provide a recommendation to address each of these deficiencies.[16 Marks] Question 3 [20 Marks} Page 6 of 9{a) Distinguish between the following pairs of terms as used in: ISA 700 The Independent Auditor's Report on Financial Statements; ISA 705 Modifications to the opinion in the Independent Auditor's Report; and ISA 706 Emphasis of Matter Paragraphs and Other Matter Paragraphs in the Independent Auditor's Report, and give one example of how each might be used in practice. (i) Disclaimer of Opinion versus Adverse Opinion [3 Marks) (ii) Emphasis of Matter paragraph versus Other Matter paragraph [3 Marks) (iif) Unmodified Report versus Unmodified Opinion, [3 Marks} (b) You are the audit manager in Bambanani Certified Public Accountants and Registered Auditors, The below situations below have arisen in three unrelated external audit clients of your firm. It is mow 1 March 2020 and the year end in each case fe 31 December 2019, Tech Supplies Ltd. (75): During the year, TS was engaged by a customer to test its resilience to a cyber-attack. The customer alleges that TS “brought its system down", resulting in three days of lost trade. The customer has initiated legal proceedings against TS for negligence. You have reviewed correspondence in relation to the clai and have discussed the incident with the solicitor engaged by TS. The solicitor has stated it Is very likely the customer will win the case, and has estimated the loss to be within the range of $3 000n 000 to $3 200 000. The directors of TS have not recorded a provision in the year-end financial statements, as they believe TS will win the case. TS has presented a profit before tax of $24 000 000 in the financial statements, and ‘materiality has been calculated at 10% of profit before tax. Nhlahla State Company Ltd. (NSC): NSCis reliant on the continuing support of its bank to fund operations. The current loan facility expires on 30 September 2020. However, the directors expect to be able to renew the facility on similar terms, although they have no binding agreement with the bank. The directors have prepared cash-flow forecasts for the year ended 31 December 2020, based on the assumption that the facility will be renewed. These forecasts indicate that the company will be able to ‘meet its liabilities as these fall due. The directors have agreed to include a note to the financial statements which fully discloses the situation. The audit report is due to be signed on 30 June 2020. Cebo Building Supplies Ltd. (CBS): CBS maintains continuous inventory records and, consequently, the company does not perform a physical count at the year end, On 5 February 2020, a fire in the office at the CBS warehouse destroyed the company's inventory and despatch records. The physical inventory was not damaged. There were no satisfactory alternative audit procedures which could be performed. The company has included an estimated closing inventory figure of $1 610 000 in the financial ‘statements. This estimate represents 5% of total assets and 20% of profit before tax. Page 7 of 9Required: Assess the THREE situations outlined above and state whether the audit report should be ‘modified. Justify your conclusions and outline the modifications, if any, to each audit report, [11 Marks] Question 4 [20 Marks] {a) You are the Audit Manager responsible for the audit of Meggs Chops Ltd, a company that runs a chain of fast food restaurants. You are aware that a Major risk of this sector is that poor food quality might result in damages claimed by customers, You had satisfied yourself at the interim audit that the company's control risk as regards Purehoses of food and its preparation inthe kitchen was low. However, during your final audit, it comes to your attention that one month before the year-end, a customer has sued the company for personal injury caused by food poisoning, claiming an amount of GH¢ 100,000 in compensation. This amount is material to the stated profit of the company, but management believes that it has good defences against the claim Required: Recommend TWO (2) controls that the company should have in place to reduce the associated with food purchases and their preparation in the kitchen, [2 Marks} State TWO (2) audit procedures you should carry out during controls testing to satisfy yourself that control risk in this area is low, [2 Marks] ii) Explain TWO (2) assertions relevant to accounts payable at the year-end date, [4 Marks] \v) In respect of the potential claim, state THREE (3) items of evidence you should obtain and explain how they might enable you to form a conclusion on the likelihood of the claim being successful. [6 Marks} (b) Following your audit, you have concluded that there isa possibility, but not a probability, that the claim will be successful. However, management has decided not to make 4 Provision or disclosure in the financial statements regarding this matter. Required: Describe how the matter should be reported in the financial statements and explain the effect on your audit report. [6 Marks] Page 8 of 9“END OF EXAMINATION PAPER* Page 9 of 9