ASSIGNMENT TRIMESTER 2, 2013 AUDITING AND ASSURANCE

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ASSIGNMENT

TRIMESTER 2, 2013

AUDITING AND
ASSURANCE – ACC300

BACKGROUND

You are an Audit
Senior of Kamal Chartered Accountants (KCA) a boutique 3 partner firm with 20
staff. It is 16 July 2013 and your firm has engaged in the tender to become the
external auditor of 4X Heavy Ltd for the 30 June 2013 audit. 4X Heavy Ltd is a
company that runs multiple Fitness Centres throughout NSW, Australia and has
been in operation since 1991.

Pammy Ngo, one of KCA’s Audit Managers was
formerly a Fitness Instructor at 4X Heavy Ltd and coincidently joined KCA on 16
February 2013 prior to tender.

4X Heavy Ltd are initiating an aggressive
expansion in 2013, with management having plans to list the company on the ASX
within the next 5 years.

The 2013 financial year saw 4X Heavy Ltd
encounter strong competition from new fitness gyms entering the market as with
facing the new popular fitness regime “Ya Ya Yoga”, which is a regime exclusive
to Ya Ya Fitness Gyms. Other Notable operational challenges for 4X Heavy Ltd
faced in 2012/2013 were but not limited to:

–
4X Heavy
Ltd borrowed substantially from KNVB Bank in order to purchase the equipment
required for its gyms. The finance involved a mixture of both leases over the
equipment where KNVB continued to hold legal title as well as some equipment on
chattel mortgages where 4X Heavy holds legal title. Overriding these finance
arrangements is a covenant from KNVB requiring 4X Heavy Ltd to maintain a debt
to equity ratio of no more than 2.5:1 at each reporting date.

–
In order to
rapidly grow its membership base and revenue stream, 4X Heavy has built a
substantial network of fitness instructors to recruit new members to the gym.
These fitness instructors are remunerated on a commission basis at 15% of the
value of the membership subscription signed up from each new customer. Each
month the fitness instructors are required to provide the finance department of
4X Heavy with a claim sheet showing details of each new member to support the
commission claimed. The finance department checks this against membership
contracts previously provided by the fitness instructor when the new customer
signed up prior to payment.

–
Management
of 4X Heavy perceived that the number of finance staff at 4X Heavy was an
excess to the requirements of the business. As a consequence an accounts
payable clerk and financial accountant were made redundant from the business
during the year. This resulted in the business only having one accounts payable
clerk to maintain purchases and monitor payables whilst all review of monthly
reconciliations were left to the financial controller. A number of 4X Heavy
suppliers have complained about the slowness at which 4X Heavy has been paying
its invoices.

–
An internal
audit review of operations during the year found that the volume of people
entering and working out at the gym has increased but appears to be
inconsistent with membership numbers and revenues generated. A further analysis
has shown that repairs and maintenance expense as a percentage of sales has
increased in 2012/13 compared with the previous financial year.

–
Management
of 4X Heavy have started to notice that an increasing trend of customers have
been leaving the gym and joining competitors who have been offering the latest
state of the art gym equipment as shown on late night infomercials featuring
Chucky Norris. 4X Heavy is finding it difficult to rearrange its finance with
KNVB in order to upgrade their existing equipment to react to this trend.

Your recent review of management financial data for 2012/13 has shown
the following key statistics:

FINANCIAL DATA

2013

2012

Members

1,324

1,128

New Members

212

54

Members exiting

100

38

Membership fee per year

$960

$940

Membership Revenue

984,880

1,053,986

Sales commissions expense

44,980

34,670

Balance
Sheet

30/06/2013

30/06/2012

$’000

$’000

Current
Assets

Cash Assets

600

590

Inventory

50

40

Other current
assets

10

10

Total
Current Assets

660

640

Non-Current
Assets

Property, plant
and equipment

3,480

2,800

Total
Non-Current Assets

3,480

2,800

Total
Assets

4,140

3,440

Current Liabilities

Accounts Payable

430

350

Unearned revenue

120

90

Lease liability

350

310

Total
current liabilities

900

750

Non-current Liabilities

Lease Liability

500

460

Secured bank loan

1,560

1,000

Total
non-current liabilities

2,060

1,460

Total
Liabilities

2,960

2,210

Net
Assets

1,180

1,230

Equity

Share Capital

500

500

Retained earnings

680

730

Total equity

1,180

810

QUESTIONS

PART A (12 marks)

Since 4X Heavy Ltd
is a new client of KCA outline the steps that you would initially undertake as
part of taking on this client

PART B (8 Marks)

Based on the facts specific to 4X Heavy Ltd:

(a) Identify the audit inherent risk and rate the
risk as low, medium or high.

(b) Identify the audits control risk

(c) Evaluate control and inherent risk

(d) Determine overall audit strategy

PART C (16 Marks)

a) Identify 2 key account balances that are at
highest risk of misstatement

b) Explain why these are the highest risk

c) Design 4 substantive audit tests to carry out the
work performed on each of the identified 2 key account balances.

d) For each of the 4 substantive audit test designed
identify the key assertion it addresses.

PART D (4 Marks)

(a) Based on the above make 4 recommendations to management on
completion of audit.

This assignment has a weighting of 20% of your
final assessment. As a guideline you assignment answers should be between 3,000
words at the most.

The assignment is due 11.59pm (AEDT) on3 October 2013.
Students will incur a penalty of a 10% reduction in their mark for the
assignment per day past the due date.