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Test 2 2016

Auditing 3A (University of KwaZulu-Natal)

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University of KwaZulu-Natal
School of Accounting, Economics and Finance
Test 2: April 2016

Subject, Course and Codes: ACCT321 – Auditing 3A

Duration: 90 minutes Total marks: 60

Internal examiners: Staff of the School of Accounting, Economics and Finance

Instructions to candidates
 This paper consists of one question (set out on pages 2 to 4 – including the required page).
 You have been issued with ONE (1) answer book.
 Fill in all the following details, as required, on the front of each answer book:
 Student name (first name followed by surname, for example, Wendy Smith)
 Seat number
 Student number
 Date
 Question number
 Number of answer books handed in for each question (for example, Question 1: two books)
 Total number of answer books handed in for this session (for example, this examination:
Two books).
 Use only blue or black ink. Do not write in pencil; pencil-written work will not be marked.
 On completion, insert all answer books in numerical order under the cover of the answer
book for Question 1.
 If you submit a blank (or empty) answer book, you are required to write on its cover: Blank
book.
 Allocated marks and time:

Question Marks Minutes

1 60 90
Total 60 90

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Auditing 3A – Test 2 2016

You have recently been appointed as the internal auditor of The Last Ship (Pty) Limited, a large company
specialising in manufacturing state of the art warships. The company only supplies the South African Navy
and five other foreign entities. You qualified as a Chartered Accountant 5 years ago and have also passed
the Internal Auditors exams. The CEO is Commander Thomas Chandler who is a qualified weapons expert
and who also obtained his chemistry and physics degree many years ago. He is currently attending a
weapons expo in the UK and generally has no interest in the financial and operational decision making as
he believes he can delegate all responsibility to his team.
The company is highly computerised. As a result of Commander Chandler’s attitude, day-to-day
operations are managed by the recently appointed Mr Mike Slattery, who is a qualified chartered
accountant; he has also been appointed as the director of the IT department. Mike Slattery was appointed
during the current financial year by the ex IT director, Mr Charles Parnell. Charles Parnell suddenly
decided to resign from the company as he was immigrating to Australia. Charles Parnell did not conduct
an interview and hired Mike Slattery as he heard good things about him from an old friend. Unbeknown
to Charles Parnell, Mike Slattery has recently gone through a very messy divorce and is required to large
alimony and maintenance payments. Mike Slattery resigned from his previous employment as a result of
allegations of fraud. He was stripped of his title of IT director and he asked to resign rather than be
dismissed. Mike was also asked to manage the finance department at The Last Ship (Pty) Ltd. His
responsibilities in managing the finance department require him to take full responsibility of the
preparation of the financial statements, manage the finance team who are responsible for the monthly
processing of the accounting records, preparation of management accounts and to follow up with debtors
and creditors.
Thomas Chandler is heavily involved in the research and development activities, and has no time to
oversee the day-to-day operations and thus relies on Mike Slattery. As a result thereof, Mike Slattery
does not report to the CEO on any matters relating to the IT department. The company’s IT department
is situated in an open plan office, together with other departments running on the same floor. You took
it upon yourself to take a tour around the workplace to observe the general control systems implemented
within the company. The other staff was unaware of your appointment and you had not acquired a
visitor’s pass. To your surprise you walked straight through the front entrance of the building and made
your way to the 4th floor in which the IT department was situated. On your walk through the floor you
noticed that the staffs in the IT department was assisting the employees from the revenue department
with capturing of the monthly debtors’ transactions. As you walked further on you notice that the
company’s mainframe servers were located together with the printers and other utilities in a general
access room.
Feeling rather confident you took it upon yourself to sit on an employee’s desk to access the company
network. You did not have trouble accessing the computer as you found a note stuck on one of the
drawers which read as follows “Password: TheLastShip”; WIFI Password: TheLastShipWIFI” and to your
surprise it gave you access to the computer. It became quite apparent to you that the desk belonged to
the administrator of the floor. You noticed that her computer had access to all modules and also came
across restricted information which was addressed specifically to Commander Chandler. This actually
made you feel unsettled and you quickly ran to the visitors lounge to compose yourself. The visitors lounge
is a general area, where customers and clients can sit to pass time. It is a very luxurious room which
includes a laptop which is available for use by visitors. You picked up the laptop from the table and sat
down to examine. You soon discovered that the password TheLastShip as well as the WIFI password gave
you access to all the information in the same way the administrator’s computer could. As you were trying
to assess the level of access controls you attempted to open a folder called “Commander Chandler –
Restricted”. You hoped that the documents within the folder would be encrypted or password protected.

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Auditing 3A – Test 2 2016

However, this was not the case. Upon opening the folder you noticed that there were a number of email
correspondence between Mike Slattery and a company called Arms For You Incorporated. As the folder
had Commander Chandler’s name on it you were surprised that the correspondence did not include him
at all. Intrigued by this, you made a copy of the folder onto your personal USB to review later.
On your last round of inspections you went to the IT administrator to find out about controls over logical
and physical access and he was quite relaxed in informing you that the company does not maintain any
logs for example unsuccessful login attempts and the company does not find the need to add on time-
outs and automatic lockouts to their controls. During your review of the company HR policies you noted
that all employees’ employment contracts include a clause which prohibits them from maintaining contact
with other arms dealing organisations. This clause is aimed at protecting the company’s trade secrets. The
HR policies also reflect that the company has a Code of Conduct and this code is clearly displayed on every
floor as well as the employees’ canteen. During discussions with the IT administrator and other staff, you
identified that the employees view Mike Slattery as a very controlling and aggressive person.
That afternoon, you decided to go through the files that you had copied. You also googled the company
Arms for You Incorporated and found out that the company is an American arms manufacturer. Included
in a thread to one of the emails was a blue print for a specific warhead of The Last Ship (Pty) Ltd. This
warhead is their largest revenue contributor as it is a unique design and no other arms supplier in the
world has a similar war head. You identified that Mike Slattery had used his super user access rights to
access the designs folder which were saved in an encrypted file on Commander Chandler’s computer. In
return for the blue-print Mike Slattery was paid a large lump sum in dollars into a Cayman Island Bank
account, the proof of the successful payment transfers were included in the folder.
During your time within the IT department, you came across the disaster recovery plan which was
prominently displayed. The IT administrator explained to you that the company had done a number of
drills to ensure that all employees were aware of what they needed to do in the event of a disaster. You
have summarised the events of the day and have scheduled a meeting with Commander Chandler to
discuss your first day at the Last Ship.

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Auditing 3A – Test 2 2016

Question 1
Required:
a) Draft a memorandum to the board in which you identify and explain all deficiencies in the company’s
general control systems. (22 Marks)

Your answer should be tabulated as follows:

Weakness Explanation

b) Discuss the fraud risk factors relating to the misappropriation of assets evident at The Last Ship
(Pty) Ltd. (11 Marks)
c) Discuss any concerns that you may have with the information obtained from the folder “Commander
Chandler – Restricted” had you been the external auditor. (6 Marks)
d) Bearing in mind that you are the internal auditor at The Last Ship (Pty) Ltd, how would you deal with
the information obtained from the folder “Commander Chandler – Restricted”. (4 Marks)
NB: Limit your answer to IRBA and SAICA Code of Professional Conduct
e) Discuss how the transaction between Mike Slattery and Arms for You Incorporated would impact the
nature of the external auditor’s audit plan. (8 Marks)
f) With the exception of the Companies Act (2008) identify any other legal and regulatory frameworks
that the external auditor would have to consider when gaining an understanding of The Last Ship (Pty)
Ltd and explain why an understanding would be required by the external auditors. (9 Marks)

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