ACG31 (SP 1, 2013)

AUDITING THEORY AND PRACTICE

CASE STUDY ASSIGNMENT ASSIGNMENT 2

Due 22 April 2013

Word limit 2,500 words **

(Penalties will be applied if the assignment exceeds 2,750 words)**

**(WORD COUNT EXCLUDES TITLE PAGE, REFERENCE LIST AND APPENDICES)

IMPORTANT: Please ensure your work is referenced using the Harvard referencing system

Correct In-text referencing/properly formatted reference list/appropriate citations etc

SANTOS – ASSIGNMENT

BACKGROUND INFORMATION

Santos is one of the largest publicly listed companies in Australia. The company has been in the
media spotlight recently due to their focus on the production of gas, highlighting the importance of
ensuring financial information is presented in a true and fair manner. Santos provides an excellent
case study for illustrating the importance of planning an audit and in particular, assessing inherent
risks in the planning stage. (Further information relating to Santos is available from their website:

http://www.santos.com/company-profile.aspx ).

Additional Information

Details relating to the requirements of the major assignment can be found over the page. You will
be required to assess and analyse Santos from an auditing perspective, in the period leading up to
reporting periods ending on or after 30th June 2013.

The Internet is a valuable source of information for obtaining background information on a client.
You are encouraged strongly to use the Internet and other media to assist you in collecting further
information relating to Santos. To do well in the assignment, it is reasonably expected that you will
undertake research on the entity beyond merely the Santos homepage and their annual reports.

ASSIGNMENT 2 REQUIREMENTS/QUESTIONS

Required

1. Identify what you consider to be the ‘key’ inherent risk factors that could have an impact on the
audit of Santos for the year ended 30th June 2013 and/or future audits.

For each of the inherent risk factors identified, state how and why you consider the issue may create
the risk of potential material misstatement in the financial statements of Santos for the year ended
30th June 2013 and beyond.

[HINT: To score well in this assignment you will be required to research Santos’

financial results, the financial press, and other business media to obtain a better

understanding of the inherent risks.

You are expected to identify five (5) critical inherent risks.

2. Using the information you have collected to assist you in answering question 1 (above), explain
and justify your overall assessment of inherent risk for Santos. Using the audit risk model and
refer to the risk factors you raised above, discuss briefly how your assessment of inherent risk will
impact on the evidence mix for the planning of the audit of Santos in the areas of risk you
identified .

(HINT: With regard to the evidence mix component of this question you must apply your
understanding of the elements of the audit risk model and use your best judgement and initiative to
discuss the impact on the evidence mix in the areas of risk you identified)

.
ASSIGNMENT 2 BROAD GUIDANCE NOTES

Question 1

Identify what you consider are the inherent risk factors which would impact on the audit of
Santos. You are encouraged to use financial information relating to Santos and the industry in which
it operates for the period in question. Once again, simply discussing the announcement of profits,
budgets or dividends or revised financial forecasts, of themselves, is not considered a major event or
an inherent risk. Financial information can be a goldmine of information which can assist you in
identifying potential inherent risks by giving you clues as to what to research.

Be careful to answer the question – that is, it asks what are the “inherent risk factors”. You should be
clear about what “inherent risk factors” mean.

Another term often used is “areas of concern”. Overall these terms mean what areas of the financial
statements are there likely to be risks of material misstatements (which might ultimately impact on
the auditor’s opinion and report). Specifically, the information may lead you to think that some areas
may have an error (mistake) or fraud in them as a direct result of certain events or issues that the
company has experienced or may experience.

Your task is to identify that information and how and why it may present a possible risk of material
misstatement in the financial reports.

Further, you will need to clearly explain why and how you have arrived at each risk factor. Simply
stating information without applying it to a risk factor will not attract any marks.

How you set out the answer to question 1 is up to you, but you must clearly address all three
aspects of the question:

1. What is the inherent risk? (A simple explanation will suffice for this part of the question).

2. Why is it an inherent risk? (To do this, you need to explain and give an example of a specific
misstatement that could occur if this risk is present in Santos). Do not simply state “this will cause
potential misstatement” or ‘this may result in fraud’ or ‘the directors will misstate the financial
statements’. You must provide a specific example of a potential misstatement that could occur. This
is not as easy as it sounds. The potential misstatement must be specifically related to Santos and be
both reasonable and plausible.
There has been ample discussion of Santos (and the events impacting on Santos) in the financial
press in the last 12 months. This should provide you with a wealth of information to use to answer
the questions in the assignment. Identify what you consider to be relevant (and specific) inherent
risk factors that will impact on the planning of the audit for the reporting periods ending on or after
30th June 2013. You may find that some of the information could be relevant for more than one
reporting period.

You may use ‘bullet points’ or a table format in answering this question, but please do not
abbreviate too much.

Students are not expected to explain the theory applicable for this assignment. For example, the
definition of inherent risk does not need to be explained. Likewise, a discussion of why it is
important to identify major events in the planning of an audit is not required.

Students should focus on applying the theory to a practical environment.

The best way of approaching this question is to research Santos and identify articles discussing
events that have impacted on the company. This will allow you to identify inherent risks from the
information in the articles.

As a simplified example, you might find an article which says that 1000 staff had their jobs
terminated due to a restructure of the entity. This may be an inherent risk because terminations
normally involve the calculation of employee entitlements which are complex in nature and the need
to create provisions for employee redundancy. Hence, there is a greater chance that there will be
calculation errors due to things such as eligible termination payments, and leave entitlements.

You must provide specific examples of potential misstatements that could occur in the financial
reports.

Please note that this question will take you a bit of time to complete.

IMPORTANT: The announcement (or subsequent payment) of profits/losses and forecasts or

dividends and information about profit forecasts by Santos (irrespective of magnitude) does not
constitute an inherent risk of significance and will not accrue any marks. We require you to
research the company and identify specific Santos inherent risks which will assist in the planning
of the audit. We expect you to research the entity by going beyond the annual report for Santos
and the homepage for Santos.
Question 2

This question has two distinct parts. An auditor is required to form an opinion as to the overall
inherent risk applicable to the company chosen. You are first required by the question to make a
judgment about the overall inherent risk in the Santos audit. Second you must apply the audit risk
model to identify the evidence mix when planning the audit of the entity in the areas where

you have identified the risk. Have a look at the material covering the audit risk model and the
steps involved in determining the evidence mix and apply this to the areas of Santos which you
identified in question 1. Be as specific as you can. Remember, the inherent and control risk is
assessed to determine the acceptable audit risk which then allows the auditor to determine the
planned detection risk.

IMPORTANT: While independent research is required you will still need to reference any
information you have used from the Santos annual reports. Specifically, you will need to reference
the information back to the relevant pages in those annual reports. Failure to do so could result in
problems with plagiarism and charges of academic misconduct.

Do not discount the importance of non-financial information in assessing inherent risk. You may find
information identified in question 1 may be relevant to this question. As a very simple example, you
may have identified in question 1 that Santos has just been sued for breach of contract in the
provision of gas for a large client in Asia (this has been made up and is used for illustrative purposes
only) and the case is proceeding through the Courts but will not be settled for some time. The
potential for material misstatement is reflected in the following issues related to the contingent
liability as indicated in the financial press: ……………………………………………….

This may be relevant to assessment of inherent risk because it indicates a contingent liability exists
for ……………………………………… The financial press has warned that management may seek the
following strategies to placate investors as a result of the loss of the major contract……………………….

This example is very general and is used only as a broad indicator of strategy in answering the
question.

You will need to discuss all aspects of the evidence mix relevant to each main area of risk. Think
about the different types of evidence available – tests of transactions (control/substantive), tests of
details of balances etc
You are expected to assess control risk when assessing the evidence mix and the approach to the
audit. Although you do not have access to internal documents to assess the internal control
structure, try to find articles which may indicate that there were problems with the accounting
system of the company. For example, you might find an article that shows that the company had
problems with customers stealing inventory during the year. This indicates the controls are not
working properly and hence control risk will increase.

ASSIGNMENT GENERAL HINTS

There are distinct questions being asked in the assignments. We therefore require you to answer
each question SEPARATELY.

Further, you do not need to have an executive summary, an introduction or conclusion.

This means you do not need to present the assignment as a report or in an essay format.

Auditing Theory and Practice Assignment 2 Marking Guide

1. Identifying of inherent risks

.1 Use of an auditing perspective: (60 Marks)

- Inherent risks are specific to Santos?

- Detailed explanation of the potential misstatement? (broad issues will not accrue any marks)

- Reference to applicable ASA’s/IAS’s?

- Has independent research been used effectively?

- Specific inherent risk factors applicable to Santos?

- Five inherent risk factors covered?

2. Assessment of inherent risk and impact on the evidence mix (20 Marks)

- Overall assessment of inherent risk based on information collected

- Assessment focuses on areas of particular risk revealed by previous research from question 1 so

as to deal with forming an opinion in regards to inherent risk

- Evidence mix discussed in main areas of risk?

- Audit risk model used effectively?

- Conclusions consistent with matters discussed / identified in Question 1.

3. Presentation (10 Marks)