Topic list

  1. Stakeholders to the statutory audit
  2. Nature of standard audit reports on historical financial statements
  3. Modifications and their bases
  4. Management Report


Learning outcomes


  • Identify other immediate stakeholders to the report and the auditors’ responsibility towards them.
  • Identify key parts and appropriate wording in the audit report.
  • Explain all forms of modification to the reports and circumstances under which such modifications are appropriate.
  • State the purpose and contents of the management (weaknesses) letter issued to those charged with governance of an entity in addition to the main report.



Once the audit process is completed the auditor should compile a report, as the product of assurance service designed to enhance the reliability of financial statements, which are prepared by the company’s management to users in this tripartite relationship, by expressing an opinion on them. The opinion is expressed in form of an audit report. This audit report is usually addressed to shareholders, but it can also be addressed to other persons charged with governance of the organization.


This chapter will firstly examine the standard audit report and its pertinent components. This will be followed by a consideration of some specific variations, especially arising from modifications where the auditor expresses some reservations on his findings. It will finally look at the management report which the auditor produces as a by-product of the main report.


  • Stakeholders to a statutory audit


The audit has a clearly identified (and statutory) purpose which is to provide an independent opinion to the shareholders on the truth and fairness of the financial statements that are prepared by the board of directors.


Audit affects a wide variety of people (we refer to them as ‘stakeholders’) who have different expectations. For example, we know that shareholders (as the main stakeholders) want the audit to serve and protect their interests in the organizations they own but:


  • Directors may want auditors to support them in discharging their responsibilities;


  • Managers may want auditors to understand their organizations and add value by providing business advice and helping them to access finance at reduced cost;


  • Audit regulators may want auditors to be accountable for meeting clear standards of performance and maintaining audit quality;


  • Regulators of organizations may see the audit as providing comfort that organizations are complying with their rules and regulations;
  • creditors and lenders may see the audit as providing comfort that organizations will continue to be able to pay for goods and services or finance;


  • Audit firms may want auditing to provide challenging and rewarding work for auditors so that they can attract the brightest and best; and


  • Employees may want the audit to provide some comfort about job security and the future direction of the organization. The audit might be seen as one way of seeking some comfort over this.


The above stake holders can be depicted in a diagram as follows:

It should be recognized that within each broad category of stakeholder group (including shareholders) there are likely to be a number of different and potentially conflicting expectations to be met.

  • Nature of Standard Audit Reports on Historical Financial Statements.

The auditor has duty under the Companies Act to examine financial statements and other relevant information and form an overall opinion on them and present a report to the shareholders.

This report, whose structure and contents are laid out according to the audit standards such as International Standards on Audit, unless otherwise stated, implies fulfillment of the conditions outlined in Act as follows:

  • Proper accounting records have been kept as a basis for the preparation of financial statements.
  • Proper returns from the branches not visited have been received
  • Reports are in agreement with books of accounts
  • Auditors have received all necessary information from directors
  • Directors report is consistent with the reports

ISA700 – Auditors’ report on financial statements contains a clean expression of opinion based on reviews and assessments of the conclusions drawn from evidence obtained in the course of the audit.

The standard auditors report has the following elements:

  • Title
  • Addressee (addressed to those charged with corporate governance)
  • An introductory paragraph identifying financial statements audited
  • Respective responsibilities of directors and auditors
  • Description of audit scope, findings and the basis of the audit opinion.
  • Auditors’ opinion on financial statements
  • Auditors’ signatures  Date of the report.

Unmodified (or Unqualified) Reports

This is a clean report in which the auditor states in his opinion that financial statements give a true and fair view of the financial position of the company as on the reporting date, and of its financial performance and cash flows for the year then ended in accordance with International Financial Reporting Standards and in accordance with provisions of the Companies Act 1984, so far as concerns the members of the company.

Implied information

Unmodified (or unqualified) audit reports may not appear to give a great deal of information. The report says much, however, by implication. Remember that the auditor’s report by exception, so an unmodified report tells the user that, for example:

  • Adequate accounting records have been kept.
  • The accounts agree with the records.
  • The auditors have received all necessary information.
  • All directors’ transactions have been disclosed.
  • The directors’ report is consistent with the accounts.

The real problem here is that, unfortunately, most users do not know that this is what an unmodified audit report tells them. This issue is also confused by the fact that many users do not understand the responsibilities of either the auditors or the directors in relation to the financial statements.


According to ISA 700, an unqualified opinion may be expressed only when the auditor is able to conclude that financial statements give a true and fair view in accordance with the identified financial reporting framework.

Example of an Unmodified/Unqualified audit opinion taken from ISA 700 is given below:

Independent Auditor’s Report

To the Members (or shareholders) of XYZ Limited

We have audited the company and consolidated financial statements of XYZ Limited as set out on pages xx to xx, which comprise the statement of profit or loss and other comprehensive income for the year ended 31 March 20×6, the statement of financial position, statement of changes in equity and the statement of cash flows for the year then ended and summary of significant accounting policies and other explanatory notes.

Management’s Responsibility for the Financial Statements

Management is responsible for preparation and fair presentation of these financial statements in accordance with International Financial Reporting Standards and in a manner required by the Companies Act, 1984. And for such internal controls as the directors determine is necessary to enable the preparation of financial statements that are free from material misstatements, whether due to fraud or error.

Auditor’s Responsibility

Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with International Standards on Auditing. The standards require that we comply with ethical requirements and plan and perform the audit to obtain reasonable assurance whether financial statements are free from material misstatements.

An audit involves performing audit procedures to obtain audit evidence about the amounts and disclosures in financial statements. The procedures selected depend on the auditor’s judgment, including the risk of material misstatement of financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal controls relevant to the entity’s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal controls. An audit also includes evaluating appropriateness of accounting policies used and the reasonableness of accounting estimates made by the directors, as well as evaluating the overall presentation of the financial statements.

We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.


In our opinion, the financial statements give a true and fair view of the financial position of the group as at 31 March 20×6, and of its financial performance and cash flows for the year then ended in accordance with International Financial Reporting Standards and in accordance with provisions of the Companies Act 1984.

Signature of audit firm


Chartered Accountants

Blantyre, Malawi

26 May 20×6

3   Modified (Qualified) Reports

These are issued out where the auditor expresses some reservations on the financial statements. The circumstances and types of reports that can be issued are summarized in a modification (qualification) matrix below:

According to ISA 705, modified reports arise when auditors do not believe that they can state without reservation that financial statements give a true and fair view, to issue unmodified report. There are two general types of modified reports:

  1. Matters that do not affect the auditor’s opinion: emphasis of matter
  2. Matters that do affect the auditor’s opinion:

# Qualified opinion (Same as Except for opinion)

# Adverse opinion

# Disclaimer of opinion

Table 2.1         Modification (or Qualification) Matrix

Nature of Circumstances Material but not fundamental or pervasive Fundamental or pervasive
2a Disagreements Except for………       opinion Adverse
2b Uncertainties or limitation of scope Except for………… opinion Disclaimer      of opinion

For each of the above circumstances the standard audit report wording is similar to the unmodified report above. However the reservations or misgivings are expressed in the findings and opinion paragraphs. We in turn consider the circumstances and appropriate wording in each of the four situations above.

An example for ‘except for’ opinion taken from ISA 701 relating to disagreement is shown below

Independent Auditor’s Report

To the Members (or shareholders) of XYZ Limited

The first three paragraphs are the same as in an unqualified audit opinion above

Basis of Qualified opinion (arising from disagreements about accounting treatment): Included on the balance sheet is an amount of KY due from a company which has ceased trading. Horace Ltd has no security for this debt. In our opinion the company is unlikely

to receive any payments and a full provision of KY should have been made, reducing profit before tax and net asset by that amount.


In our opinion, except for the absence of this provision, financial statement give a true and fair view of the company’s state of affairs as at the reporting date and of its financial performance and cash flows for the year then ended in accordance with International Financial Reporting Standards and in accordance with provisions of the Companies Act 1984.

Signature of audit firm


Chartered Accountants

Blantyre, Malawi

26 May 20×6

An example of an ‘adverse’ opinion

Independent Auditor’s Report

To the Members (or shareholders) of XYZ Limited

The first three paragraphs are the same as in an unqualified audit opinion above

Basis of adverse opinion

As fully explained in the note, no provision has been made for losses expected to arise on certain long term contracts currently in progress, as the directors consider that such losses should be offset against amounts recoverable on other long term contracts. In our opinion provisions should be made for foreseeable losses on individual contracts as required by the IAS 11 Construction Contracts. If losses had been recognized the effect would have been to reduce the profit before and after tax for the year and the contract work in progress as at the year end.


In view of the effects of the failure to provide for the losses referred to above, financial statement do not give a true and fair view of the company’s state of affairs as at the reporting date and of its financial performance and cash flows for the year then ended in accordance with International Financial Reporting Standards and in accordance with provisions of the Companies Act 1984.

Signature of audit firm


Chartered Accountants

Blantyre, Malawi

26 May 20×6

Disclaimer of opinion

Take note that in a disclaimer of opinion, the first three paragraphs as in an unqualified opinion are excluded. The full wording of a disclaimer is shown below:

An example of a disclaimer of opinion

Independent Auditor’s Report

To the Members (or shareholders) of XYZ Limited

We planned our audit so as to obtain all the information and explanations which we considered necessary in order to provide us with sufficient evidence to give a reasonable assurance that financial statements are free from material misstatements, whether caused by errors or other irregularities. However the evidence available to us was limited because management did not supply us with all the information we needed in the audit of existence, rights and obligations and valuation of non-current assets; inventory receivables and payables appearing in the in the balance sheet at a total of K….. In forming our opinion, we also evaluated the overall adequacy of the presentation of information in the financial statements.

Because of the effects of the limitation above, we are unable to form an opinion as to whether financial statement give a true and fair view of the company’s state of affairs as at the reporting date and of its financial performance and cash flows for the year then ended in accordance with International Financial Reporting Standards and in accordance with provisions of the Companies Act 1984.

Signature of audit firm


Chartered Accountants

Blantyre, Malawi

26 May 20×6

Emphasis of matter

Take note that an emphasis of matter is not a qualification of opinion. The auditor just wishes to bring to the readers of the opinion an important item. Because it is not a qualification to the opinion. The emphasis of matter paragraph will come after the opinion. The opinion is exactly that of an unqualified/unmodified audit opinion, but with the last paragraph being that of emphasis of matter.

Emphasis of matter paragraphs are used to draw readers’ attention to a matter already disclosed in the financial statements that the auditor feels is fundamental to their understanding, provided that the auditor has obtained sufficient appropriate audit evidence that the matter is not materially misstated.

When an emphasis of matter paragraph is included in the auditor’s report, it comes immediately after the opinion paragraph and is entitled ‘Emphasis of matter’. The paragraph must contain a clear reference to the matter being emphasised and to where relevant disclosures that fully describe it can be found in the financial statements. The paragraph must state that the auditor’s opinion is not qualified/modified in respect of the matter emphasised.

The following are examples of situations in which the auditor might include an emphasis of matter paragraph in the auditor’s report:

  • An uncertainty relating to the future outcome of exceptional litigation or regulatory action
  • Early application of a new accounting standard that has a pervasive effect on the financial statements

Example of unqualified report with emphasis of matter paragraph

Independent Auditor’s Report

To the Members (or shareholders) of XYZ Limited

The first four paragraphs (all paragraphs) are the same as in an unqualified/unmodified audit opinion above. The ‘Emphasis of matter paragraph’ comes after the ‘Opinion’ paragraph.

Emphasis of matter

Without qualifying our opinion, we draw attention to note xx to the financial statements which indicates that as at year end, the company’s total current liabilities exceeded its total current assets by MKxx million (20×5: current liabilities exceeded current assets by

Knn million). This condition indicates the existence of a material uncertainty which may cast doubt on the company’s ability to continue as a going concern.

Signature of audit firm


Chartered Accountants

Blantyre, Malawi

26 May 20×6

  • Management Report

Also known as a letter of weaknesses or management letter is the communication from the auditor to management about matters or weaknesses that came to their attention during the audit course of work. It is a by-product of the audit work and is normally written at the end of audit work.

However, should the auditor come across matters which in his professional opinion requires him to communicate urgently to those charged with corporate governance or other regulatory bodies like Financial Intelligence Unit, then the auditor will not have to wait to communicate such matters at the end of the audit work. Instead, the auditor will communicate to relevant authorities such matters immediately.

It contains:

  • A list of weaknesses and inadequacies in accounting systems and control policies encountered during the course of the audit.
  • Explanations of their possible implications, risks and eventualities if uncorrected on a timely basis,
  • Offer recommendations, possible improvements to management on such weaknesses and inadequacies.
  • It may also point out areas where management could be effective or efficient on economic resources, but auditors should avoid carrying out client’s managerial or consultancy roles in that capacity.

An interim letter may be issued soon after evaluation of control depending on the nature or urgency of the matters discovered and their impacts if unattended to timely. An example of such letters has been covered under the test of controls.

End of Chapter Questions


Appendix one:

Suggested Answers to end of chapter questions

Chapter One Question one

  • An assurance engagement is one in which a practitioner expresses a conclusion designed to enhance the degree of confidence of the intended users other than the responsible party about the outcome of the evaluation or measurement of a subject matter against criteria.


  • An assurance engagement has the following elements:

It is a tripartite relationship involving a practitioner, a responsible party, and intended users.       1 Mark

It should have a subject matter which the practitioner reviews.     1 Mark

The subject matter should be measurable against a suitable criteria           1 Mark

The practitioner should be able to gather sufficient appropriate evidence on the subject


The practitioner should issue a written assurance report in appropriate form


  • Marks
  1. c) An absolute assurance cannot be issues in most engagements due to the inherent limitation in the process as a result of:
  • the lack of precision often associated with the subject matter 1 Mark
  •  the nature of the evidence available may also not permit.      1 Mark
  • Performance of the engagement is usually not instantaneous with occurrence of transactions of the subject matter.     1 Mark
  • Not all items may be checked, for example, in an audit assurance engagement involves sampling where appropriate because of the timescale involved. 1 Mark

4 Marks

  1. d) Some examples of assurance and non-assurance engagement include the following: Assurance engagements:
  • Statutory audits on historical financial information   1 Mark
  • Review of prospective financial information    1 Mark
  • Attestation services   1 Mark

Non-assurance engagements

  • To perform agreed-upon procedures regarding financial information 1 Mark
  • Liquidation and receivership work. 1 Mark
  • Compilation of tax returns, tax planning and advice to clients.    1 Mark

4 Marks

18 Marks

Chapter Two

Question One

  1. a) The UK Companies Act and the USA Securities and Exchange Commission Act introduced considerable matters to enhance the audit as it is today. They clearly provided

for the following;                                                                2 Marks

  • For auditors to be independent of the companies influence
  • Audit requirement for the profit and loss and the balance sheets
  • Set up a minimum legal enforceable disclosure requirement framework
  • Set up a requirement that an auditor should be suitably qualified professional accountant  Set up specific duties, powers and responsibilities of an auditor.
  • Required the auditor to report whether adequate books and records had been kept from which financial statements were prepared to give a true and fair view, shifting the primary audit objective from fraud detection.

1 Mark each = 6 Marks                                                                                                                 8 Marks

  1. b) Four factors, amongst others, that led to the change of the audit focus from that of fraud detection to ascertainment of the truth and fairness of financial statements include:
  • The expansion of stakeholders to the companies from shareholders to others such as the financial institutions, stock markets etc
  • The shift in appreciation of financial statements as a measure of performance rather than their accuracy
  • The growth of business and volume of transactions such that it was no longer feasible for auditors t check everything, which lead to the development of the concept of sampling and materiality.
  • The enactment of the above laws above endorsed the shift from fraud detection to ascertainment of the truth and fairness of financial statements

2 Marks each = 8 Marks

  1. In current times, though the main focus of an audit has shifted to ascertainment of the truth and fairness of financial statements, fraud detection by the auditors is still relevant as far as it has material effect on financial statement. The primary responsibility to fraud is the management of the entity. Auditors are required to plan and perform their work with professional skepticism, suspecting that fraud may occur anywhere within their scope, otherwise they may be liable for negligence if they give misleading conclusions.

4 Marks

  1. True and fair view means information in financial statements is factual and conforms with reality, and is free from discrimination and bias and is in compliance with expected standards and rules. It further implies that it reflect the commercial substance of the business entity’s underlying transactions. 2 Marks

22 Marks

Chapter Three

Question One

  1. a) Corporate governance is about ensuring that companies are run well in the interests of their shareholders and other stakeholders. It encourages transparency, accountability and fairness of an entity, and is focused on a number of pillars. 2 Marks

The Board

This is elected or appointed members who jointly oversee the activities of XYZ Ltd. A

board’s activities are determined by the powers, duties, and responsibilities delegated to it or

conferred on it by shareholders of the company.                              2 Marks


implements policies and strategies of the organisation as set by the board. In the XYZ Ltd case management seem to have executed their responsibility successfully as turnover has not only increased by about 20% per annum for the last five years but net profits are also high              2 Marks

Internal audit

It helps an organisation accomplish its objectives by bringing a systematic, disciplined

approach to evaluate and improve the effectiveness of risk management, control, and governance processes.


External audit

It is the examination of financial statements in order to provide assurance that the statements have been fairly presented. It aims at enhancing accountability between the board, management and external stakeholders.   2 Marks

10 Marks

  1. b) Internal Audit is an independent, objective assurance and consulting activity designed to add value and improve an organisation’s operations. It is an appraisal function that aims at providing assurance on the adequacy of internal controls. It also aims at providing recommendations to management and board on how to improve systems of control and effectiveness of various processes in an organization. Scope of internal audit therefore is wide and does not confine to financial reporting matters.

Since internal audit reviews the organization as a whole, it therefore, follows that various assignments can be carried out by internal audit and such engagements can be operational, financial, compliance or otherwise. Examples of assignments conducted by internal audit include Value for money audits, Environmental audits, IT audits, Fraud investigations and many more. In this chapter, the first two have been explained.

Internal audit is therefore an important function as far as achievement of corporate

governance objectives are concerned.                                                       10 Marks

20 Marks

Chapter Four

Question One

  1. It is a requirements under the Companies Act for incorporated companies registered by the office of the Registrar of Companies to submit to the office an audited set of financial statements for every twelve months of operations. Other entities, such as those in the public interest may also be required to have financial statements audited.

To auditors of financial statements of these entities must be properly qualified and independent of them. This is to enhance the degree of confidence with which users of the financial statements can have on them.

The auditor are required to plan and perform their work to enable them give an opinion as to whether financial statements of these entities give a true and fair view or not of the state of the entities affairs during the period under review.


  1. This assurance will be obtained not just from knowing that each set of financial statements has been audited, but knowing that this has been done to common standards. There is a need for audits to be regulated so that auditors follow the same standards.

In addition to obligations are imposed by the law International Standards on Auditing (ISAs) are issued by the International Auditing and Assurance Standards Board (IAASB) to provide guidelines on the performance of the audit.

The authority of ISAs and so on are laid out in the Preface to the International Standards on Quality Control, Auditing, Review, Other assurance and related services, which states that the IAASB’s objective is the development of a set of international standards that are accepted worldwide.   5 Marks

10 Marks

Chapter Five

Question One: Dunde Plc

1 (a)     The need for an audit arises from the division, in many companies, between ownership of the company and the day to day running of the company. In many companies, particularly public companies, the shareholders who are owners of the company will not normally be involved in the actual running of the company. The company will then be run by the directors, who are elected by shareholders at the annual general meeting of the company.

At the end of each year the directors will produce financial statements to show the results of he company. The shareholders need confidence that these financial statements are correct i.e. that the directors have actually told the truth regarding the company’s results. To ensure that the financial statements are correct shareholders employ an auditor. The job of the auditor is to check the financial statements and then report back to shareholders whether these financial statements are correct or show a true and fair view.

By having these independent check, the shareholders will gain confidence that the accounts are correct and therefore that there investment, in terms of money, is being properly looked after.


(b)      The auditor of a public company is appointed in different ways , depending on the situation , as noted below.

Initial appointment, new company: in a company that has just commenced trading, the directors have the power to appoint auditors, who will hold office until the first annual general meeting (AGM). The appointment of auditors can be made at a general meeting by the shareholders, if they wish to do this. If the directors or the shareholders do not appoint auditors, then the Registrar of Companies (RoC) will do so.

On-going appointments: all companies, at their AGM, appoint auditors to serve from the end of that meeting until the next AGM. The appointment of auditors is a statutory requirement of an AGM. If the meeting does not appoint auditors then the RoC must be informed within seven days and he will then appoint auditors.

Appointment to fill a casual vacancy: at certain times the office of an auditor may fall vacant through death or the resignation of the current auditor. In this situation, the directors may appoint a new auditor whose term of office will cease at the next annual general meeting of the company.


(c )        The right of an auditor under the Companies Act 1984 are as follows.

  1. To receive information and explanations from directors and officers of the company. ii. Access the company’s books and records at all times.
  • To receive notice of all general meetings of the company as if he were a member of the company.
  1. To attend and to be heard at general meetings of the company concerning matters affecting him as auditor or former auditor.
  2. Where the company is attempting to remove the auditor, to make written representations to the members, and to attend and speak at the meeting where he is being removed and the meeting where his term of office would otherwise have expired if he was previously removed..
  3. Where the auditor resigns, to make written representations to members of the company, and to require the directors to convene an extra-ordinary general meeting to consider the circumstances of his resignation.


(d)        The responsibilities of directors with regard to the preparation of financial statements are as follows:

  1. To ensure that the company keeps proper accounting records which will form the basis for the financial statements.
  2. To safeguard the company’s assets and prevent fraud and errors in the company.
  • To prepare annual financial statements to show the results of the company for the year and the state of affairs of the company at the balance sheet date.
  1. To deliver to the RoC a copy of the company’s financial statements.            5 Marks

Total               20 Marks

Chapter Six

Question One

  • Loan to Audit Client of K1 million

Any loan of any amount to a client is most irregular. A loan of this magnitude to a client can only destroy, in the eyes of third parties, the appearance of independence and objectivity of the auditor. It would be very difficult for the auditor to maintain his stance of disinterestedness when such a relationship exists. Such a client relationship could lead to censure by the disciplinary committee of the regulatory body.

  • Matrimonial relationship with audit client

Statement GI on independence points out that the accountant in public practice should avoid any engagement where he cannot act or perceived to act with total freedom. Independence, like justice, must not only exists but must also be seen to exist. As the client is a public limited company, the social responsibility of the auditor is much greater. It must be wise therefore, for the firm to resign as auditors rather than be vulnerable to adverse comments by remaining in office.

( c) significant fee income

It is recommended that no one audit client should contribute more than 15% of gross recurring fees. It would obviously be a significant loss of income if the firm resigned from their appointment (ignoring the question of personal relationship in b). this guideline is very difficult to follow. Many audit firms in the present economic climate may prefer to keep the client but introduce improved reviewing procedures to ensure true independence.

(d) Acting for a direct competitor

This may well produce a conflict of interests if an auditor learns something from one party or client which would be to the benefit of the other client. The auditor must ensure that his clients’ confidences must be preserved. An auditor faced with this situation may well chose to resign from one or the other of the appointments.

5 Marks each = 20 Marks

Chapter Seven

Question One

  1. It is important for the auditor to obtain an understanding of the entity and its environment so as to:
  • To identify and assess the risk of material misstatements in the financial statements arising from its characteristics   2 Marks
  • To enable the auditor to design and perform further audit procedures so as to arrive at reasonable conclusions on the entity   2 Marks
  • To provide a frame of reference for exercising audit judgment, for example , when setting audit materiality, and when carrying subsequent reviews of the audit work


6 Marks

  1. The following are some of the matters the auditor may consider when understanding the client’s business:

Business operations of the entity:

This information may be gathered through briefing meeting and discussion with management


Objectives and strategies and relating business risk:

This information can also be gathered through briefing meeting and discussion with management as well as through the client’s documentation          2 Marks

Industry, regulatory and other external factors:

This information can be gathered from industrial regulatory and other authoritative documentation, stock markets and financial literature. 2 Marks

Geographic dispersion and industry segmentation:

This information may be gathered through briefing meeting and discussion with management and analysis or visitation of some of the segments 2 Marks

A general overview of the client’s systems Internal controls:

This information may be obtained through analysis of the client’s documentation and  enquiries from management.


Chapter Eight

Question One

  • The following are some of the benefits derived from planning an audit, audit plnning:  Help the auditor devote appropriate attention to important areas of the audit.
    • Help the auditor identify and resolve potential problems on a timely basis.
    • Help the auditor properly organise and manage the audit so it is performed in an effective manner.
    • Assist in the selection of appropriate team members and assignment of work to them.  Facilitate the direction, supervision and review of work.
  • Audit planning involves the following steps:
    • Auditors must ensure that ethical requirements are met, including independence.
    • Auditors must ensure the terms of the engagement are understood.
    • Auditors must establish the overall audit strategy that sets the scope, timing and direction of the audit and guides the development of the audit plan
    • Finally auditors develop audit plan that includes the nature, timing and extent of planned risk assessment procedures and further audit procedures.


  • Materiality is the relative significance of a matter in financial statements. The significance can be due to its nature, size or impact.   1 Mark


  • The following are some of the sampling selection methods:

Simple random

All items in the population are given or have a number. Numbers are selected by making use of random number tables.

Stratified method

This means dividing the population into sub populations and is useful when parts of the population have higher than normal risk e.g.; high value items like overseas debtors, some items may be 100% checked and the remainder are sampled.

Cluster sampling

This method involves selection of a group or bunches randomly and then examines all the items in the group chosen, e.g.; sales invoices for the month of June.

Judgemental sampling

Judgemental sampling is the selection of a sample of appropriate size on the basis of the

auditor’s judgement of what is desirable. It is also called non-statistical sampling


Chapter Nine

Question One

  • Internal control is a process, system or procedure designed and implemented by board, management or other personnel with the aim of directing the organization towards achieving its objectives in the following categories: 3 Marks
  • A system of internal controls is composed of the following interrelated components:  Control environment, such as the organizational culture and structure.
    • Risk assessment, which includes organizational risk appraisal and risk management processes
    • Control activities, these are actual control procedure such as authorization of transactions, segregation of duties etc
    • Information and communication including the IT systems
    • Monitoring, this ensures the integrity and effectiveness of the controls such as the internal audit function.     5 Marks

The following are some of the limitations of internal controls:

  • Cost v benefit. The cost of establishing a system of internal control may be greater than the benefits.
  • Human error. For example, one person makes out an invoice using the wrong selling price and another one checks it and doesn’t see the error, this is always a possibility even in the best regulated circumstances.
  • Where two or more cooperate to get around the internal control system, the collusion might be to carry out a fraud or it might be to cover up some error that was made.
  • Non-routine transactions. These are transactions that are so rare that no system of internal control has been devised. 4 Marks


12 Marks

Chapter Ten

Question One

(a)        Some of the control objectives, the control procedures expected in Lifuwu Manufacturers Ltd sales and receivables system, and the auditor’s tests to evaluate their effectiveness can be summarized in the table below:

Control Objective Control Procedures Audit Tests of controls
Acceptance of orders To ensure;

Orders are recorded correctly.

Customer orders are promptly authorized.

Goods are supplied to customers with good credit ratings.

Orders are fulfilled

Any two = 1 Mark

Segregation of duties between ordering, credit control and invoicing.

Authorization of credit terms and changes to customer data.

Sequentially numbering of order documents.

Matching orders with dispatch notes.

Any two = 1 Mark

Check that references are obtained for all new customers.

Check authorization of new accounts and their credit limits.

Check that customer orders are being matched with dispatch notes.

Test-check their number sequence and enquire into missing numbers.

Any two = 2 Marks

Dispatch and invoicing To ensure that;

All dispatches of goods are recorded.

All goods/services sold are correctly invoiced.

Invoices raised relate to goods really supplied.

Any two = 1 Mark

Authorization of dispatch of goods.

Examination and recording of goods outward.

Agreement of orders, invoices and dispatch notes.

Sequentially pre-numbering of dispatch notes and delivery notes.

Issuance of credit notes for good returned.

Any two = 1 Mark

Verify sales with invoices, checking quantities, prices, discounts and entries into the sales day book.

Check stock records updates with dispatches.

Verify credit notes for correspondence, approval and entries into returns inwards day book.

Test-check numerical sequence of the documents such as invoices and enquire into any missing numbers

Any two = 2 Mark

Maintenance of accounting records To ensure that: All sales have been invoiced and properly recorded.

All credit notes issued are recorded.

Cut-off procedures are applied correctly to the sales ledger

Any two = 1 Mark

Segregation of duties between dispatch and maintenance of customer record.

Recording on invoices sequence and control over blank and spoilt copies.

Matching of cash/cheques receipts with invoices.

Recording of returns, discounts and price adjustments.

Regular preparation of debtors

statements and reminders

Review and follow up on overdue accounts. Authorisation of writeoff of   bad debts.

Maintenance and reconciliation of sales ledger and control accounts.

Any two = 1 Mark

Check entries of invoice details into sales day books, casting and posting to the sales ledger.

Check entries into the ledger, additions and balances.

Note and enquire into any contra-entries with purchase ledger.

Check whether control accounts are maintained and regularly reconciled with the ledger.

Check whether credit limits have not been exceeded.

Check that debtors reviews, statements and reminders are sent out regularly and overdue accounts are followed up

Check authorization of bad debts written off and treatment of subsequently recovered bad debts previously written off

Any two = 2 Mark

(b)        the following are some of the audit procedures that can be carried by auditors to assess the validity and accuracy of year-end sales and receivable balance:

  1. Compile or obtain a list of debtors outstanding at the year end to support the total debtors figure in the balance sheet.                                                        1 Mark ii.          Confirm the totals in the individual debtors ledgers with control accounts balances.

1 Mark

iii.      Follow up with management with any unusual items, for example; contra entries against the purchases ledger, irregular accounts etc.                                       1 Mark iv.      Carry out a debtors age analysis and enquire into any long outstanding balances.

1 Mark

  1. Check bad debts written off during the year for reasons, correspondence and authorization for write-off of debts considered irrecoverable.            1 Mark
  2. Check adequacy of provisions for doubtful debts in light of subsequent bad debts for previous estimates or provisions.                                             1 Mark

Any four          = 4 Marks

(c)      the increase in demand has put pressure on Lifuwu Manufacturers Ltd. This increases the risk of material misstatements because of the increase in volume. There is also a chance of certain employees taking an advantage to involve themselves in fraudulent sales.

1 Mark

We are also told in the scenario that the company experienced stock-outs and lost out on sales. It has also transpired that certain goods were dispatched directly from the manufacturing plant without proper records or being sent through the warehouse. This means that some sales will not be properly accounted for and will be misstated.

1 Mark

If the company has spare capacity, it should temporally increase production of its goods, while also maintaining effective controls over acceptance of orders, dispatch of goods

and invoicing them.                                                                         2 Marks                                                                                                                4 Marks

(TOTAL :      20 MARKS)

Chapter Eleven

Question One

  • Documentation of audit evidence in working papers is important in that:
  • It provides evidence of the auditor’s basis for a conclusion about the achievement of the overall objective.
  • It provides evidence that the audit was planned and performed in accordance with ISAs and other legal and regulatory requirements.
  • It assists the engagement team to plan and perform the audit.
  • It assists team members responsible for supervision to direct, supervise and review audit work                                                                                     8 Marks
  • The following are some of the information that should be retained in the audit permanent file:

  • New client questionnaire, this contains basic and crucial information about the client to which reference can be made from time to time.
  • The memorandum of association and Articles of association, which contain regulations governing the running of the company and its interaction with outsiders
  • Other legal documents such as prospectuses, leases, sales agreement, because these will help the auditor understand the terms of such agreements
  • Details of the history of the client’s business, helps in the analysis of shifts and trends in

the performance and financial position of the entity. 8 Marks

  • c) Using standardized working papers pause the following challenges:
  • It may be inappropriate to follow set procedures for a particular client. 1 Mark
  • Adopting a standard approach may stifle initiative and discourage the exercise of professional judgement 1 Mark
  • If audit staff adopt a ‘mechanical’ approach to completing the working papers and the audit tests this may lead to a lack of appreciation of test objectives and may lead to staff failing to appreciate the implications of errors and deviations found.

2 Marks

4 Marks

20 Marks

Chapter Twelve

Question One

  • A receivables’ circularization is a direct confirmation of balances from account holders themselves. It is an important source of evidence because it provides a direct external evidence about debtors existence. It also confirms the right of the client to receive payment and the debtors’ obligation to make such transfers at some point in the future. Using the results of the circularization the auditor can also confirm the effectiveness of the internal controls by counter-checking internal records against third parties. It would also reveal evidence of items in dispute.                                     4 Marks
  • A circularization may be positive, where the auditor requires the debtors to respond whether they agree with the balances or not, or negative where the auditors requires debtors to respond only where they don’t agree with the balance indicated. In a positive circularization an auditor obtains reliable evidence from the responses of all balances circularized. Follow ups can be made for any non-response. A negative circularization is more suitable where the auditor has assessed the clients controls as reliable, and where there are a large number of small account balances.

In some circumstances such as where there is a small number of large balances and a large number of small account balances, a combination of both can be used in the same audit.         4 Marks

  • The auditor has the right to obtain information on the client he deems necessary to form his conclusions. Management refusal to allow the auditor to obtain direct confirmation from debtors on their balances constitutes a limitation of scope on audit work. The auditor should discuss with management and explain to them the importance of a direct


confirmation to his work. If they insist the auditor should consider the materiality of the receivables and their risk of misstatement and the reliability of other evidence obtained using alternative procedures. If doubtful the auditor should qualify his report to the extent

of their materiality.                                                                          4 Marks

  • Possible causes of disputes or disagreement with the account balances could be due to the following reasons:

Some items could be in transit such as posted cheque payments that have not yet received by the Takondwa Traders.

1 Mark

The disputes may also be due to disagreements on certain invoice values, may be arising from unsuitable or damaged goods invoiced at normal price.                    1 Mark There could be errors in Takondwa Traders books or their debtors accounts.

  • Mark

There could be contra entries for debtors who also happen to be creditors by one party   which reciprocated by the other.

1 Mark

4 Marks

  • When selecting which account balances to circularize, particular attention should be paid to the following:

Consider all long outstanding accounts such as those that are more than two months which are amounting to K1,328,800. A substantial number of these them might be facing difficulties to pay and may end up as irrecoverable.                                1 Mark

Accounts written off during the period under review should also not be overlooked to confirm reasons and whether they indeed could not manage to pay up.     1 Mark The accounts selected should also include all the three accounts with credit balances, or those with zero balances because they are unusual and the auditor would want to confirm reasons why they are such as contra entries. It may also be indicative of window dressing.

  • Mark

Accounts whose balances are large or individually material such all the ten debtors above K50,000 each because if any or a number of such accounts did not exist then it would represents a significant misstatement.

1 Mark

Accounts settled by round sum payments should also be considered because they may be indicative of the debtors liquidity problems.

1 Mark

Any four =      4 Marks


Chapter Thirteen

Question One

(a)(i)     The following are some of the effects of computerizing an accounting system of the client:

  • Computers are able to process large volumes of work at much faster speed than manual systems.       1 Mark
  • They are also likely to have less processing errors or more accurate, except errors that occur in input data.                                                        1 Mark
  • Large volumes of information are stored in the computer memory, greatly reducing office paperwork, except where printouts are necessary.            1 Mark
  • Off-the-shelf or tailor made specialized packages or programs can also be used to perform specific tasks in addition to the general packages.            1 Mark

4 Marks

(ii) Computerising the accounting systems of the clients can also have the following effects on the auditor’s work:

  • The reduction in paperwork leads to easy loss of audit trail because of integration of several processes and that information storage is done in invisible media unless printouts are made.                                                                              1 Mark
  • Consideration as to whether to audit around the computer or audit through the computer such as through use of computer assisted audit techniques (CAATs) depending on the complexity of the computerisation.                                  1 Mark
  • Automated working papers can be developed to make the documentation of audit work easier.         1 Mark
  • Auditors can use software packages to perform audit functions such as analytical procedures, or drawing statistical samples on which to perform their audit tests.

1 Mark

  • Computers can also be used by auditors as a decision support system, for example, through automation of checklists, materiality estimations etc.            1 Mark

Any four          =         4 Marks

(b)(i) Audit software is the software administered on the client systems to perform checks to client data similar to what would have been done manually. These include; interrogation software, used for carrying out analytical reviews, age analysis of debtors and other accounts, checking calculations, confirming completeness and other procedures auditors would have been doing by hand in a manual system, embedded audit facility embedded in the client’s computerized systems over the entire accounting period to allow continuous review of the data recorded and the manner in which it is treated by the systems.

3 Marks

(ii)    Test data is dummy data used by the auditor to test whether the client’s system processes data as it should. The auditor uses both valid data to check that the system produces required documentation and automatically updates the accounting records, and invalid data to check on controls that prevent processing of data that is wrong (for example, giving it information that breaches the credit limits to any customer, or negative sales figures etc, to see whether it rejects them). By comparing outputs after processing of the test data with predetermined expected results, the auditor can assess the extent to which the necessary controls exist.                                                         3 Marks

(c)      Two manual controls over a computerized system include:

  1. Protection of equipment from physical damage arising from different disasters.

1 Mark

  1. Restriction of physical access to computers to only authorized users by placing them in a secure site or under locked room when not in use.                       1 Mark

Two automated controls over a computerized system include:

  1. Use of passwords and systems log protection for authorized users only. 1 Mark ii. Record maintenance of program changes                                           1 Mark

4 Marks

(d)      Data base is a single collection of structured data stored to ensure minimum duplication and provide a consistent and controlled pool of data. A data base management system is a software system which constructs and maintain the data base by amongst other things; adding new records or deleting dead records and providing interface with different users or user programs while maintaining the data integrity.                                   2 Marks

(TOTAL :      20 MARKS)

Chapter Fourteen

Question One

  1. i) A Contingent Liability, according IAS 37, is a possible obligation arising from past events whose existence would be confirmed only by occurrence or non-occurrence of an uncertain future event not wholly within the entity’s control.            3 Marks

(ii) The auditor would carry out the following audit procedures to confirm the adequacy of disclosure of contingent liabilities and their related provisions in the financial statements of an entity;

  • Make appropriate enquiries and obtain confirmations from management.   1 Mark
  • Obtain any other information regarding the entity’s business that may lead to contingencies or provisions including obtaining experts’ opinion such as legal opinions on lawsuits.                                                                              1 Mark
  • Check whether appropriate disclosures and descriptions and recognition have been carried out by management.                                                        1 Mark
  • For directly indentified litigation or where the auditor reasonably believes they exist, he should seek direct confirmation from lawyers                                  1 Mark
  • Assess for each whether there is a present obligation as a result of past events and review correspondences to that effect and discuss with management.            1 Mark

5 Marks

   (iii)     ISA510 requires auditors to obtain sufficient appropriate evidence that;

  • Opening balances do not contain misstatements that may materially affect current period financial statements.
  • The prior period’s closing balances have been duly brought forward as current periods opening balances.
  • Appropriate accounting policies have been consistently applied, and that any changes to policies were reasonable and have been properly accounted for and adequately disclosed.

3 Marks

ISA560 places the responsibility on auditors is to design and perform audit procedures to obtain sufficient appropriate audit evidence that all events up to the auditors’ report that may require adjustments or disclosures in the financial statements have been identified and appropriate adjustments made by management.

If such events occur and management does not make appropriate adjustments where the auditor believes they need to, the auditor should consider the impact on financial statements and report to the extent of their materiality.   3 Marks


Chapter Fifteen

Question One

  1. a) According to ISA 705, modified reports arise when auditors do not believe that they can state without reservation that financial statements give a true and fair view, to issue unmodified report.

There are two general types of modified reports:

  1. Matters that do not affect the auditor’s opinion: emphasis of matter
  2. Matters that do affect the auditor’s opinion:

o Qualified opinion (Same as Except for opinion) o Adverse opinion o Disclaimer of opinion

5    Marks

b(i)       Firstly, the auditor does not give an entity’s financial statements a true and fair view as implied by the candidate. Rather, the auditor assess and states whether financial statements of an entity give (or reflect) a true and fair view of the entity’s state of affairs.

Secondly, a qualified audit report, according to ISA 701 Modifications to the Independent Auditors’ Reports, is a report where the audit expresses some misgivings on material but not pervasive matters relating to either disagreements with the they have been presented or uncertainty due to limitation of auditor’s scope over those matters. For example, in his opinion paragraph the auditor might state: except for the overstatement of closing inventory….. financial statements give a true and fair view…… or, except for any misstatement that might occur in closing inventory…. financial statements give a true and fair view……….                                                                   3 Marks

(ii) A disclaimer of opinion, according to ISA 701, is a type of a modification where the auditor’s uncertainty due to limitation of scope is on matters so pervasive or fundamental to the audit work that the auditor believes cannot reach any reasonable conclusion on financial statement, while an emphasis of matter is a type of modification where the auditor believes he ought to bring certain matters of uncertainty to the attention of users, but such matters do not affect the auditors opinion on current financial statements. Such matters are highlighted in a separate paragraph after the opinion paragraph.   4 Marks                                                                                                   (TOTAL: 12 MARKS)

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