Assessment 2: Submission
BAO3306 – Auditing
And
In collaboration with
Harjit Mahindroo (Harry) – s4586421
Abulaziz Haji Ali – s4549737
Dax Gifano Oenardi – s4579613
Eden Kloester – s4507037
Sam Kanjo (Ossama) – s4586916
Assessment 2: Case Study
Due: Session 10
Teacher: Mr Victor Dang
Seminar Time: City Flinders Campus,
(Mon, Tues & Thurs, via Online)
Table of Contents
Introduction 2
Summary of client operations 3
Five accounts that are highly at risk in being materially mis-stated 6
Assess Audit Risk of each of the Selected 5 Accounts 7
1. Revenue from contractors with customers: 7
Inherent Risk Level is high: 7
Control Risk is high: 7
Detection Risk is low: 7
Audit Risk is low: 7
2. Provisions: 7
Inherent Risk is high: 7
Control Risk is high: 7
Detection Risk is low: 7
Audit Risk is low: 8
3. Warranty provision reversal/expense. 8
Inherent Risk is high: 8
Control Risk is high: 8
Detection Risk is low: 8
Audit Risk is low: 8
4. Cash and cash equivalents 8
Inherent Risk is High: 8
Control Risk is high: 8
Detection Risk is low: 9
Audit Risk is low: 9
5. Contractors 9
Inherent Risk is high: 9
Control Risk is high: 9
Detection Risk is low: 9
Audit Risk is low: 9
Conclusion 10
Appendix 11
References 12
Introduction
The purpose of this audit is to be able to develop and provide an independent audit opinion and determine if the financial report of Lycopodium Ltd falls within the parameters of Australian Accounting Standards, Auditing Standard ASA300 and Corporations Act 2001. By completing this independent audit, we will be able to determine whether Lycopodium Ltd is free from material misstatement, meaning it gives a true and fair view of the financial performance for the financial year of 2019. The way this has been achieved is by ensuring the auditors main objective is to obtain sufficient evidence to provide reasonable assurance when forming the audit opinion.
This report details the operations of Lycopodium Ltd enabling us to gain an understanding of our client. Identification of five accounts in the financial statements that are considered to be materially misstated and an explanation of the movement between last financial year and this financial year. Lastly, the inherent risk and control risk is evaluated during the audit risk phase allowing us to determine the level of detection risk we are willing to accept for each account balance.
Summary of client operations
The Lycopodium was established in Western Australia in 1992. It has expanded significantly over the years with multiple offices across the globe such as in Newcastle, Canada, Africa and the Philippines (Lycopodium Limited – Australian Export Awards, 2020). Lycopodium Limited was also listed on the ASX200 since 2004 and have provided over 421 projects globally.
Lycopodium generated over $154 million revenue at the end of financial year 2019 with a profit before income tax of 23 million, 15%. Although the revenue dropped by 20% from 2018, they are able to maintain relatively higher profit margins thus conclude their efficiency in managing expense. The total asset amounted over $119 million with a net asset of 79 million and a low debt to asset ratio of 34% (Lycopodium Limited – annual report, 2019). The report was audited and adjusted based on AASB 9 which records the measurement of financial assets and liabilities.
In addition, the audit opinion suggest that the report is competitive and reasonable, align with the company’s strategic objective, transparent and fair. The executive management personnel also follow the procedures for accounting standards (Lycopodium Limited – annual report, 2019)
As this company operate worldwide and most of the clients are overseas, general economy risks that might affect Lycopodium are the country GDP growth rate, interest rates fluctuation affects the degree of loan and investing, unemployment rate could affect the business negatively, currency risk due to payment dealt in overseas (Perryer, 2019). These factors could have effects on certain level of agriculture revolution, mining, manufacturing and other industrial industry which specifically will put a damage on Lycopodium. In addition, depending on Lycopodium client’s financial stability and company’s operation, external factor such as Covid-19 could affect the payments of Lycopodium.
Appendix A: Consolidated statement of profit or loss and other comprehensive income for the year ended 30th June 2019
Appendix B: Consolidated balance sheet for the year ended 30 June 2019
Five accounts that are highly at risk in being materially mis-stated
According to the financial information provided by Lycopodium for the years 2018 and 2019, we have analysed and found few accounts with a material amount of movement. The top 5 account that us as auditor should be aware of are:
Revenue from contractors with customers: negative movement of $40,875,300, a huge movement for a sales revenue account. Since the movement was negative, we can assume it’s not for fraud reasons, but it might be an understatement for revenue.
Provisions: movement of $(13,361,009) this negative movement is very high compared to the value of provisions left aside, usually provisions are funds left aside in order to meet future obligations, this kind of decrease in the account is very risk and might question the corporate going concern.
Warranty provision reversal/expense. We have noticed a movement of $25,441,222, remarkable amount which flags a high-risk indicator specially if associated with the high movement in the provisions account mentioned above.
Cash and cash equivalents this asset accounts had a negative movement of $13,836,740 approximately around 23 percent of the total amount, it’s a significant decrease in assets, indicating a high risk in fraud or business being affected by a serious matter. These accounts need to be checked thoroughly as it might be affected by external factor beyond the control of the corporate.
Contractors these expense accounts have moved by approx. 30 percent $9,625,050. The expense account is expected to move negatively with proportion to the revenue accounts, but 30 percent is a material amount in relation to contractors and triggers the signs of a misstatement in the accounts or intentional misrepresentation to lower the expenses.
Assess Audit Risk of each of the Selected 5 Accounts
1. Revenue from contractors with customers:
Inherent Risk Level is high:
Lycopodium’s large-scale operations spanning several continents and many different countries, creates a complex revenue system which has a high inherent risk of misstatement. As different countries have different currencies the constant requirement to accurately record revenue from different countries and convert them accurately with fluctuating foreign exchange rates has a high level of causing misstatement.
Control Risk is high:
The control risk would be high as management may have misstated revenue to increase the profit margin. As the company saw significant reduction in construction services provided. Management may feel pressured to present a well performing year profit wise, the decline is believed to be a consequence of increased competition (Lycopodium 2019).
Detection Risk is low:
The audit risk assessment model states that for audit risk to be assessed as low, detection risk has an inverse relationship to inherent and control risk (Moroney 2014). As both inherent and control risk have been assessed as high risk, auditors must increase substantive testing to decrease detection as low. For this account an auditor must increase the sample size of customer invoices and receipts, requiring more time spent auditing this account.
Audit Risk is low:
The audit risk assessment model states for an audit risk to be assessed as low risk when inherent risk and control is risk has been assessed as high, an auditor must increase substantive testing to reduce detection risk to low. For this account the risk of an auditor proclaiming an erroneous audit opinion is credibly low. As such auditors can express reasonable assurance on the financial statement.
2. Provisions:
Movement of $(13,361,009) this negative movement is very high compared to the value of provisions left aside.
Inherent Risk is high:
The inherent risk of this account is high as such a significant reduction in the amount stored in provisions is seen as a threat against the company’s going concern. The inherent risk of future obligations and liabilities not being met due to future factors outside the company’s control affecting cash flow and liquidity are high.
Control Risk is high:
The control risk of this account is high, as accurate calculations in the provisions account are of vital importance, the provisions must be properly recorded and fully disclosed in Lycopodium’s financial report. The company must properly estimate and budget the amount needed to fulfil obligations and reparations. Company management has discretion over the provisions accounts transactions and balances. Consequently, human error in calculations garner high control risk.
Detection Risk is low:
As both inherent and control risk assessed as high risk, auditors must increase substantive testing of provisions to decrease detection risk to low. For this account an auditor must evaluate changes in assumptions and calculations cost estimate based on differing circumstances, as well as to check the credibility of the models used to forecast provisions cost assumptions.
Audit Risk is low:
The audit risk assessment model states for audit risk to be low when inherent risk and control is risk is high, auditors must increase substantive testing to reduce detection to low risk. For this account the risk of an auditor proclaiming an erroneous audit opinion is credibly low. As such auditors can express reasonable assurance on the financial statement.
3. Warranty provision reversal/expense.
We have noticed a movement of $25,441,222, remarkable amount which flags a high-risk indicator specially if associated with the high movement in the provisions account mentioned above.
Inherent Risk is high:
The inherent risk of this account is high as management forecasts warranty expense accounts. The number is based off historical data and journal records, as such the account is vulnerable to previous year erroneous judgment and inaccurate journal entry.
Control Risk is high:
For this account control risk is high due to, warranty provision services and expenses are provided at the time of the sale. Revenue generated should be the same amount as warranty expense. Company’s internal controls are unlikely to make the correct provisions when, warranty expenses are not recorded at the right time.
Detection Risk is low:
As both inherent and control risk assessed as high risk, auditors must increase substantive testing of warranty provisions expense to decrease detection risk to low. For this account an auditor must evaluate the models used to estimate warranty expense forecasts, as well as check the date of warranties recorded to match with revenue generated.
Audit Risk is low:
The audit risk assessment model states for audit risk to be low when inherent risk and control is risk is high, auditors must increase substantive testing to reduce detection to low risk. For this account the risk of an auditor proclaiming an erroneous audit opinion is credibly low. As such auditors can express reasonable assurance on the financial statement.
4. Cash and cash equivalents
This asset accounts had a negative movement of $13,836,740 approximately around 23 percent of the total amount.
Inherent Risk is High:
The inherent risk would be high as Lycopodium operated both domestic and foreign markets. Operating such a large complex transnational business involves a significantly large number of transactions in many different currencies, such as AUD, USD, Euro, IDR and many more from countries around Asia, Africa and the Americas. The risk of misstatement can be caused by the ever-fluctuating foreign exchange rates, this risk factor is not within the Lycopodium control.
Control Risk is high:
This account has a high chance of being mismanaged resulting in a high risk of material misstatement, as such this account is high control risk. The risk of committing fraud is much easier with cash and cash equivalents with transactions to third parties. Another reason is transactions may have been omitted and hidden or bank reconciliation having inaccuracies or not being completed at specified date.
Detection Risk is low:
As both inherent and control risk have been assessed as high risk, auditors must increase substantive testing to decrease detection as low. For this account an auditor should increase the sample size of testing cash transactions to lower detection risk, requiring more time spent auditing this account.
Audit Risk is low:
The audit risk assessment model states for an audit risk to be assessed as low risk when inherent risk and control is risk has been assessed as high, an auditor must increase substantive testing to reduce detection risk to low. For this account the risk of an auditor proclaiming an erroneous audit opinion is credibly low. As such auditors can express reasonable assurance on the financial statement
5. Contractors
These expense accounts have moved by approx. 30 percent $9,625,050.
Inherent Risk is high:
The inherent risk of this account is high, as the company’s cash has dropped significantly. The increased pressures and incentives of management to decrease Lycopodium’s balance on the balance sheet to increase income, improve cash flow and share capital.
Control Risk is high:
Control risk of this account is set high as despite accounting and financial conceptual frameworks, if the pressures and incentives faced by management are high enough, the management may deliberately manipulate figures of the account and obscure the detection of internal errors.
Detection Risk is low:
As both inherent and control risk have been assessed as high risk, auditors must increase substantive testing to decrease detection as low. For this account the auditor should increase the sample size of testing contractor invoices and contractor accounts payable accounts to lower detection risk, requiring more time spent auditing this account.
Audit Risk is low:
The audit risk assessment model states for an audit risk to be assessed as low risk when inherent risk and control is risk has been assessed as high, an auditor must increase substantive testing to reduce detection risk to low. For this account the risk of an auditor proclaiming an erroneous audit opinion is credibly low. As such auditors can express reasonable assurance on the financial statement.
Conclusion
Upon examination of Lycopodium Ltd annual reports and further analysis of any relevant data to complete a complete and thorough risk assessment audit analysis. To ensure we as the auditors do not present an inappropriate audit assessment, we must analyse the audit risk. We were able to identify the following 5 accounts most at risk of being materially misstated; ‘Revenue from contractors with customers’; ‘Provisions’; ‘Warranty provisions reversal/expense’; ‘Cash or cash equivalent’; ‘Contractors’.
Upon review all five of the accounts we did an audit risk assessment on have high inherent risk of material misstated. The five accounts also have a high control risk of being materially misstated. To ensure the detection risk of material misstatement we use the audit risk assessment models’ inverse relationship detection risk has towards inherent and control risk. To ensure we assess detection risk as low we must increase the substantive testing on each of the five accounts identified. As long as we the auditors can ascertain that we have a low chance of not detecting material misstatement, then we have utilised the substantive testing to obtain sufficient audit evidence that the likelihood of we the auditors presenting a materially erroneous audit opinion based off the risk assessment phase of the audit as low.
Appendix
Appendix A: Consolidated statement of profit or loss and other comprehensive income for the year ended 30th June 2019
Appendix B: Consolidated balance sheet for the year ended 30 June 2019
References
Exportawards.gov.au 2020, Lycopodium Limited – Australian Export Awards. Available at: https://www.exportawards.gov.au/Finalists/2019/WA/lycopodium-limited (Accessed: 14 April 2020).
Lycopodium.com 2020, Lycopodium Limited. Available at: https://www.lycopodium.com/what-we-do/ (Accessed: 14 April 2020).
Lycopodium Limited 2019, Annual report 2019. Available at: https://www.asx.com.au/asx/share-price-research/company/LYL (Accessed: 15 April 2020).
Perryer, S 2019, Top 5 Economic Risk Factors, World Finance. Available at: https://www.worldfinance.com.market/top-economic-risk-factors (Accessed 15 April 2020)
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