CFAP 6 – Advance Audit, Assurance & Related Services

Final Mock

Total Marks: 100

Allocated Time:- 3 Hours

Additional Reading Time:- 15 Minutes

Question No. 1

You are the audit manager in Mustafa & Co. Chartered Accountants. Your firm has been appointed for the first time as
an auditor of Yawar Limited (YL), a listed entity, for the year ended 31st December, 2022. Currently your firm is in the
process of completing limited scope review of interim financial statements of YL for the 3rd quarter ended September 30,
2022. The audit team highlighted the issues.

• YL has made an investment in Subhan Ltd (an associate). There is issue with the recoverability of investment. YL
has filed an arbitration related to its investments in Subhan Limited.
• The financial statements also show a loan provided to Subhan Ltd and the recoverability is also dependent on
the outcome of arbitration.
• Both the amounts including investment in and loan to Subhan Ltd are material with respect to assets and revenue
of YL.

Required:
You are required to assess the above situation and based on your assessment draft relevant modification paragraphs, if
required, to include in the limited scope review report on the condensed interim financial statements of YL for the 3 rd
quarter ended 3oth September, 2022. (8 Marks)

Question No. 2

You are an audit manager in Jay and Co. Chartered Accountants. Fashions Limited (FL) is an audit client of your firm
having year ended 31 December 2022. Ms Komal owns 60% of the ordinary shares in FL and her husband, Jamal, owns 20%
shares.
FL designs, manufactures and sells designer clothing in Pakistan and the UAE. The company sells its clothing online and
through its own store, which opened in June 2022. In addition, FL has a three-year contract to sell its designer clothing to
Momin Department Store Ltd (MDS), a major retailer in Karachi.
FL’s website enables customers to order clothing online from the comfort of their own home, as well as join the company’s
VIP membership club. The VIP membership club members pay an annual subscription, for which they receive exclusive
offers and discounts throughout the year.

Revenue
The contract provides MDS with exclusivity, which prohibits FL from supplying the designer clothing ranges to any other
retailer. The income generated from the contract accounts for approximately 20% of FL’s total revenue, and FL achieves
a 25% gross profit margin on these sales. The contract is due for renewal on 30 June 2023. MDS has written to FL stating that
it believes the opening of FL’s new store is in breach of the exclusivity agreement.

New Premises
The purchase of the premises and fixtures for the new store was financed by a five-year loan from the company’s bank
which requires FL to meet loan covenants set out in the loan agreement. Any breach of the loan covenants would result
in the loan becoming repayable immediately.

Government Grant
FL received Rs. 3,500,000 in grant aid from a government agency in June 2022 towards new equipment purchased during
the year (with an expected useful life of 10 years). This grant was contingent on 10 new positions being created in FL by 31
December 2022. At 31 December 2022, FL was able to employ only 5 new staff members. FL has had no correspondence
with the government agency since the grant was received in June 2022.

Extracts from the planning meeting with Ms Komal and Jamal and audit engagement partner and audit manager are as
follows:

On 10 February 2023, as part of audit planning Ms Komal and Mr. Jamal highlighted the following:

1) FL is being sued by a competitor who claims that one of FL’s new clothing ranges, ‘FOXY, has infringed
the trademark owned by the competitor for that brand name. The outcome of the claim will not be
known until after the audit report is signed.
2) FL sources its luxury materials internationally; however, its main supplier, FTL, is located in New York. All
purchases from FTL are invoiced and payable in US Dollars. Due to fluctuations in the foreign exchange

From the desk of Hasnain R. Badami, FCA

CFAP 6 – Advance Audit, Assurance & Related Services

rate, cost of the materials from New York has significantly increased. Ms Komal is therefore trying to
source the materials in Pakistan; however, she is concerned about the quality of the materials and
believes that it may be compromised.
3) During November 2022, FL was the subject of adverse publicity regarding the quality of the latest
clothing range, ‘LUNAR’. As a result, FL has decided to sell this particular clothing range at a discount
of 50% in the January sale.
4) The management prepared the financial statements for the full year ending 31 December 2022 and
has provided the summary below. Ms Komal explained that the difference between actual and
budgeted performance was due to higher than expected interest costs on the bank loan and
unbudgeted administrative costs associated with operating the new store.
Actual Original Budget Actual
31 December 2022 31 December 2022 31 December 2021
…………………………Rs. in 000………………………………
Revenue 96,000 117,000 108,000
Profit 3,450 7,020 12,000

5) Dividends of Rs. 1,800,000 were declared in January 2022 and dividends of R. 2,200,000 were declared in January 2023
relating to the 2021 and 2022 financial reporting years, respectively. These have been accounted for in retained earnings
for the respective years.

Required:
You are required to outline the key audit risks associated with the audit of FL’s financial statements and audit procedures
in response to the audit risks. (20 Marks)

Question No. 3

You are a manager in the audit department of Mian and Co. Chartered Accountants. The following matters for different
clients are under review:

(a) Blue Ltd, an audit client of your firm, is an electrical manufacturer and retailer. The final audit for the year ended 30
June 2021 is nearing completion and you are reviewing the audit working papers. The draft financial statements recognize
total assets of Rs. 215 million (2020 – Rs. 208 million), revenue of Rs. 165 million (2020 –Rs. 148.4 million) and profit before tax
of Rs. 41 million (2020 – Rs. 56.4 million). Two issues from the audit working papers are summarized below:

Warranty provision
Each year, management makes a provision for electrical goods returned under warranty. It is based on an estimate of
return levels for each product type (washing machines, fridges, ovens, TVs etc) and is calculated on an annual basis by
the sales director. The breakdown for the current provision, as extracted from the notes to the financial statements, is as
follows:
Rs. (Million)
At 1 July 2020 9.5
Provisions charged during the year 1.5
Provisions utilized during the year (1.9)
Unutilized provisions reversed (1.1)
At 30 June 2021 8.0

Non-Current Assets
On review of the board minutes, in April 2021, the company decided to sell some of its retail units. They are currently on
the market for sale, and management is hoping for a quick sale. Non-Current Assets of Rs. 16,500,000 have been classified
as held for sale at the year-end. From discussions with the finance director, the fair value of the non-current assets less cost
to sell is Rs. 13,250,000.

Required:
Evaluate the above matters and describe the audit evidence expected while reviewing an audit file (10 Marks)

(b) Red Gas Co (RGC), a main supplier of gas to business and residential customers across the country. The draft financial
statements for the year ended 30 June 2021 recognize profit before tax of Rs. 1,300 million (2020 – Rs. 1,100 million), and
total assets of Rs. 19,000 million (2020 – Rs. 18,780 million). The below mentioned matter has been noted for your attention
by the audit senior:

A provision of Rs. 4,300 million (2020 – Rs. 4,880 million) is recognized as a long-term liability in respect of decommissioning
a number of gas production and storage facilities at the end of their useful lives. The estimate of the decommissioning
costs has been based on price levels and technology at the reporting date, and discounted to present value using an
interest rate of 8% (2020 – 6%). The timing of decommissioning payments is dependent on the estimated useful lives but is
expected to occur by 2050, with the majority of the provision being utilized between 2030 and 2045.

From the desk of Hasnain R. Badami, FCA

CFAP 6 – Advance Audit, Assurance & Related Services

The accounting policy note discusses the methodology being used by the management for determining the liability and
states that this is an area of critical accounting judgments and estimation uncertainty. Management decided to produce
their own estimate for the year ended 30 June 2021. Earlier management expert was engaged but that was expansive.

Required:
Explain the audit evidence you should expect to find during your file review in respect of the above matter. (7 Marks)

Question No. 4

Your firm has recently been appointed as for the audit of Alpha & Co. for the year ended 28 February 2021. The draft
financial statements recognize total assets of Rs. 58 million and profit before tax of Rs. 7.4 million. The detailed audit
fieldwork has started and the audit supervisor has brought the below mentioned matter to your attention in relation to the
testing of key accounting estimates.

On 1 March 2020, Alpha & Co granted 550,000 share appreciation rights to 55 executives and senior employees of the
company with each eligible member of staff receiving 10,000 of the rights. The fair value of the rights was estimated on 28
February 2021 by an external expert using an options pricing model at Rs. 4.50 each. Alpha & Co. prides itself on good
employee relations and the senior management team has estimated that all 55 staff will qualify for the rights when they
vest three years after the granting of the rights on 1 March 2020. The company has recognized a straight line expense in
this year’s draft accounts of Rs. 825,000 (55 x 10,000 x 4.5 x 1/3).

Required:
Evaluate the client’s accounting treatments and design the audit procedures which should be performed to gather
sufficient and appropriate audit evidence. (8 Marks)

Question No. 5

You are the manager responsible for the audit of Pure Life Ltd (PL) for the year ended 31 March 2020. PL is a diverse group
which is involved in many different activities. The draft financial statements for the year ended 31 March 2020 shows the
following:

Financial Statement Extracts:

2020 (draft) 2019 (audited)
……….. Rs. millions………………
Revenue 25.5 23.4
Profit before tax 2.6 2.5
Total net assets 24.8 22.7

You have just visited the client’s premises to review the audit team’s work to date. The audit senior has drafted the following
points for your attention.

(a) PL acquired property in April 2019 at a cost of Rs. 2.2 million. The property was used for administration purpose. In
January 2020, more suitable accommodation was found and staff was quickly relocated. A decision was taken
to sell the property. The following are the details in this regard:

1) It was decided not to provide any depreciation on the property in respect of the year under review.
2) Significant remedial work was needed before the sale could be completed. This was commenced in early
February 2020 and still in process at reporting date.
3) The cost of this work is being expensed as ‘Repairs and Maintenance’ as incurred.
4) The property has a reserve price of at least Rs. 3.5 million at a public auction scheduled for 30 June 2020.
5) The property is classified as ‘Held for Sale’ at the year-end under IFRS 5 at a value of Rs. 3.5 million and a gain of
Rs. 1.3 million has been recognized in the draft Consolidated Statement of Profit or Loss.

(b) In January 2020, PL acquired 53% of the equity shares of GH Ltd for Rs. 1.7 million. The company has been
accounted for as an associate company (equity method) and the results have not been consolidated. The group
finance director has given two reasons for this treatment.

1. Firstly, the activities of GH Ltd are very different to those of the rest of the group; and
2. Secondly there is as yet no integration of GH’s financial systems with those of the remainder of the group.

Required:
In respect of each of the above issues, discuss the possible implications on audit report of PL. (11 Marks)

From the desk of Hasnain R. Badami, FCA

CFAP 6 – Advance Audit, Assurance & Related Services

Question No. 6

Your audit client Johnson Limited has outsourced its payroll function to a payroll processing firm Accurate Payroll Ltd (APL).
APL shares type 1 report with all of its clients on an annual basis.

Required:
Discuss how would you test the operating effectiveness of controls over payroll applied by APL if it is not possible to visit
APL? (4 Marks)

Question No. 7
You are the quality assurance manager in Asghar & Company, Chartered Accountants. Following matter has been
brought to your attention:

Your firm has deputed two staff members to perform the following tasks in Badger (Private) Limited (BPL):
• Raising purchase orders.
• Raising customer orders.
• Calculating depreciation on fixed assets.
• Posting transactions coded by the client to the general ledger.

On 15 November 2021, BPL has appointed your firm as external auditor for the year ending 30 June 2022. Your firm informed
BPL that they will not be able to continue the above mentioned services from the date of appointment as it would affect
firm’s independence and objectivity. BPL accepted your firm’s point of view. However, BPL’s management has requested
your firm to assist them in shortlisting the candidates for the roles which your firm’s personnel were performing.

Required:
Discuss the categories of threats involved in the above situation and advise the possible course of action that may be
followed. (13 Marks)

Question No. 8

You are planning the audit of Jackal Power Limited (JPL) for the year ending 31 December 2021. JPL owns and operates
an electricity generation power plant of 1500 MW. JPL sells all the electricity produced to a government entity National
Power Distribution Limited (NPDL). There have been continuous delays in clearing the invoices raised to NPDL. This has
resulted in significant increase in trade receivables.

JPL’s management has informed you that on 21 August 2021, all the electricity producers have signed a Memorandum of
Understanding (MoU) with the Government of Pakistan (GoP) under which:

• the GoP has provided its guarantee for all invoices pertaining to year 2013 and onwards; and
• a payment of 30% will be made on 31 December 2021 and the remaining 70% payment would be made over a
period of 3 years;
• late payment surcharge will be charged on KIBOR basis which was earlier charged at an annual rate of 15%.
Required:-
Discuss the audit procedures which need to be performed by the audit firm in order to obtain sufficient and appropriate
audit evidence for receivables from NPDL. (5 Marks)

Question No. 9
You are the manager in Saira Saeed & Company, Chartered Accountants (the firm). Saira has forwarded you the following
email received from Fashion Limited (FL), in which they have asked the firm to submit their proposal for the proposed
engagement:

To: Saira
From: Junaid Sheikh
Subject: Audit of Prospective Financial Information
Date: 9 June 2022
Hi Saira,
Our company has witnessed a substantial growth in export sales of our textile products. Owing to this, we have been
planning to increase our production capacity by 30% as there are many export orders which we have to turn down.
Considering this, we are planning to install an additional manufacturing plant within the existing factory premises. The
only major expenditure in this respect is to procure and install the manufacturing plant. Procurement of

From the desk of Hasnain R. Badami, FCA

CFAP 6 – Advance Audit, Assurance & Related Services

manufacturing facility is expected to start immediately after sanctioning of loan and the plant would be operational
in twelve months’ time.
In addition to the above, we are also in a very advanced stage of introducing smart clothing in partnership with a US
company. The smart clothing contains modern technology. For example, it will contain the features like meshed wiring
woven into fabric which connects via Bluetooth to an iOS or Android smartphone.
The US company has more than 5 years of experience of manufacturing smart clothing. 30% of the capital would be
provided by that company whereas the rest would be raised through bank loans. We are expecting that this would
be an instant success in the market as no such products are available in the Pakistani market. We are expecting that
we would recoup our investment within a five-year period.
For the capacity expansion and the new product, we are preparing Prospective Financial Information (PFI) which
needs to be audited, for submission to US company and the banks with whom we are in negotiations.
PFI includes cash flow statement, profit or loss statement and details of assumptions taken. PFI for the capacity
expansion is required for a three-year period and for the new product is required for the time until investment is
recouped. Since the amount of loan required is substantial, it is highly dependent on good projections.
I would like your firm's services for auditing PFI prepared by our management. It would be great if you could provide
us with your quote.
Regards,
Junaid Sheikh
CFO
Fashion Limited

Required:-
Write an email to Saira in which you identify and evaluate the matters that should be considered before accepting the
engagement to report on Prospective Financial Information. (14 Marks)

From the desk of Hasnain R. Badami, FCA