HA3032 Development of an Audit Program for PWR Holding Limited Assessment Answer
Answer
AUDITING
Development of an audit program
Introduction
The word “auditing” has been derived from the word “audire" which has a meaning "to hear". Traditionally auditing is to examine accounting records for establishing a view that accounts reported all transactions correct in books of accounts for the desired purpose but now in addition to this auditor also required to express an opinion on the financial statements that weather the accounts pottery a true and fair view or not. Financial statements are a set of documents that show the result of any business operation for a particular period and correct value of assets and liabilities as on date. So with the view of the above thing, one must clear that books of accounts should be true & fair. However, the statement of accounts is assessed by various stakeholders such as creditors, investors, bankers, owners' government tax authorities, etc all of them have different angels different interests regarding financial statements. So a statement primarily made for the interest of owners can change the decision of various stakeholders in favor of owners. So for protecting the interest of various stakeholders an independent examination system should be there to check the authenticity of the financial statements, such examination is conducted by the auditor and such examination is called an audit (PWR holding limited, 2020).
To perform audits an auditor needs to conduct some audit procedures to know the authenticity of the financial statements. Audit procedures are the scientific methods used by the auditor for simplifying conducting the audit.some of the audit procedures are sampling, assess the risk of material misstatement, third party verifications (PWR holding limited, 2020).
In the current assignment, we get to know all information an auditor requires and use for conducting an audit that how he makes an audit plan in which he assesses the risk of material misstatement, how to audit procedures are selected and applied to various accounts. In the current report, we take "PWR holdings limited" as a corporate entity on which we read the concepts of auditing "PWR holding limited is a leading company that provides world-class cooling solutions by manufacturing refrigerators (PWR holding limited, 2020).
Company and Industry analysis
PWR holding limited is involved in manufacturing, design, engineering testing, and sale of cooling products to the motorsports automotive equipment manufacturing and aftermarkets in domestic as well as international markets. The company has its registered office at 103 Lahr's Road, Ormeau, Queensland 4208 (PWR holding limited, 2020). This company has its business operations in Australia, the UK, the USA, Italy, and several other countries. Most of the business of PWR holding limited is comes from the countries in the UK and the USA (PWR holding limited, 2020). PWR holding limited work in the refrigeration industry, which design radiators, inter-coolers for the global motorsports industry. Motorsports industry is a huge industry now a day’s motorsports activities required high power engines which getting hot very easily so for cooling down them they require coolant and refrigerators for those engines. PWR holdings limited is a market leader in this regard it has a consolidated turnover of $36955000 for the financial year ended on 30 June 2019. The main specialization of PWR holdings limited is in providing a customized cooling solution (PWR holding limited, 2020).
Risk of material misstatements
It is the auditor’s responsibility to assess and identify the risk of material misstatement in the financial statements through understanding the organization and the environment in which such organization works and internal control of the organization. The risk of material misstatements means assessing that part of financial statements in which any misstatement made a material effect on the authenticity of the financial statements. Mainly such areas are cash, Inventories, provisions (Lu, Simnett, & Zhou, 2019).
Audit Risk Model a detailed analysis
According to the audit risk model:
AR = IR*CR*DR
Where AR = Audit risk
IR = Inherent risk
CR = Control risk
DR = detection risk
- Inherent risk – It is the risk of misstatement at the level of account balance or class of transaction, assuming that there were no related internal controls are there in the organizations (Lu, Simnett, & Zhou, 2019).Any external circumstances giving rise to business risk also increase inherent risk. In PWR holding limited inherent risk is high because of changing technology there are high chances that any star product can be obsolete shortly.
- Control risk – It is the risk of a misstatement that occurs when about a class of transaction and account balances, will not be detected, corrected, controlled or prevented, by the internal controls of the organization. PWR holding has high internal controls so there is moderate control risk there for any material statements in the financial statement of PWR holding limited (Lu, Simnett, & Zhou, 2019).
- Detection risk – Detection risk is a risk that any misstatement which could be a material statement will not be detected by the audit procedures applied by the auditor. Detection risk is purely depending on the auditors of PWR holding limited but as it is a complex industry then detection risk is also moderate.
Any misstatement can be material either individually or aggregate with other misstatements. The audit risk model is used to understand various audit risks involved in the procedures applied by the auditor. Apart from this, audit risk model is used to identify audit risk and use audit procedures to establish a true and fair view of the financial statements.
Analytical Procedure of Financial position of the company:
The comparison of various financial and operational information of the company for analyzing financial and non-financial positions is referred to as an analytical procedure. The analytical procedure gives an understanding of organization business and the impact of the market trend on organization business. For doing analytical procedures multiple types of ratios are calculated for different fiscal years. The four key ratios that are calculated for doing analysis are as follows:
- Liquidity Ratios: These ratios provide an understanding of the liquidity of the company means how the company operates its current assets against current liabilities. Liquidity ratios are the current ratio, acid-test ratio, cash ratio, and operating cash flow ratio. However, 1.2 has been maintained which reveals higher cash blockages in its current assets.
- Profitability Ratios: These ratios provide an understanding of company profitability against investment in the company. By these ratios, the company's performance is analyzed under different market situations. Profitability ratios are gross profit margin, net profit margin, EBITDA ratio, return on capital employed, return on equity, and return on assets (Lu, Simnett, & Zhou, 2019).
- Efficiency Ratios: By these ratios, company ability is measured that how efficiently the company able to manage inventory against different account balances of financial statements. Efficiency ratios involve inventory turnover ratio, total assets turnover ratio, fixed assets turnover ratio, debtors turnover ratio (PWR holding limited, 2020).
- Solvency Ratios: By these ratios, the company's ability is measured in respect of repayment of debt obligation, and to analyze cash flow is sufficient to meet short and long term debt obligations. Solvency ratios are debt-equity ratio, total debt to total assets ratios, interest coverage ratios, and proprietary ratio.
Concept of materiality and account balances consider as material in PWR holding limited:
Materiality means information on financial statements that have an impact on the decision of investors if it is disclosed in front of investors. In the process of audit, an auditor can't perform audits on every aspect of financial statements due to various limitations such as limitation of time, limitation of manpower, limitation of cost, etc. Therefore for performing audits, auditors used the concept of materiality and set up a limit up to which transaction or account balances are not material, and above that, they are material that needs to be audited (Mock, et al. 2018).
There is always a materiality risk while performing audits due to the underestimation of inherent risk, control risk, and detection risk. The material level is not deciding on an estimation basis, it is calculated on a qualitative and quantitative basis after doing proper calculation and analysis of the organization business. An auditor can change the level of materiality at any time during the audit procedure (Schmidt, et al. 2016).
In the case of PWR holding limited materiality, the level is determined based on assets and liabilities, income and expenses against revenue. Under this report, the analyst took 3% of revenue as the material level of organization business transaction and account balance.
Materiality level of PWR holding limited is:$51889 * 3%=$1556
Therefore in the case of PWR holding limited material level for performing audits will be $1500. According to the material level, following assets and liabilities need to audit of financial statement of PWR holding limited:
- Assets:
- Cash and cash equivalents:$12110
- Trade and other receivables:$4054
- Inventories:$6785
- Property, plant, and equipment:$11573
- Intangible assets:$14102
- Liabilities
- Trade and other payable:$3397
- Employees benefits:$1624
Material account balances selected, their audit assertion, steps of audit work performed, and audit documentation:
| Account balances | Amount | Assertions of audit | Step of audit work | Audit documentation |
| Cash and cash equivalents | $12110 | Physical cash and cash equivalent balance should be matched with the balance shown in the financial statement. The total of cash in hand, cash at bank, and other cash equivalents should be equal to the balance amount reflected in the balance sheet. | The cash balance as shown in financial statement cross-checks with cash in hand, cash at bank, and other accounts of the organization (Schmidt,et al.. (2017). Cash receipt vouchers and cash payment vouchers cross-check with cash and bank ledgers. Bank reconciliation statement cross-checks with bank passbook and transaction book to check the year ended unclear payment and receipt. Check the frequency of transactions done in cash and management of cash transactions in organizations such as cashbook updating. | Copy of Cash and Bank ledgers Copy of Passbook Bank reconciliation statement. Balance confirmation letter from management and bank organization in which the company has accounts. Records of cash equivalents Cash receipt and payment vouchers |
| Trade and other receivables | $4054 | The organization must have the legal right on the amount shown of trade receivable in financial statements. That organization has the right to sue debtors for the outstanding balance. Amount confirmed from debtors should be matched with the amount shown in financial statements (O'Donnell, et al. 2010). | Auditors should check the balance of debtors with a management confirmation letter and debtors balance confirmation letter. Audit of the sales invoice and bank transaction is done to check transactions reflects in books of debtors. A proper understanding of credit policy of the organization that how much credit period is allowed to debtors, frequency of amount received from debtors, interest from debtors in case of the overdue balance (PWR holding limited, 2020). Treatment and creation of provision in case of debtors' not making payment for a long time and there is a chance of non-recovery of the amount. Treatment of bad debts in case of confirming non-recovery. The audit is conducted of credit sale vouchers, credit note, a record of bill receivables, detail of overdue bill receivables (Knechel, & Salterio, 2016). | List of outstanding debtors along with balances from management External confirmation letter from debtors Credit policy of the organization Rate of interest in case of overdue Credit sales invoices and sales register |
| Inventories | $6785 | The organization must have a physical right on inventories that have balance in financial statements. A proper Physical Verification of inventories with inventory register. The method of valuation used by the organization for valuing inventories and market valuation of inventories. | An audit is conducted of inventories by physical verification of inventories with inventory register. The inquiry should be done from the accountant and inventory manager about the frequency of inventory movement. Inventory register and inward, outward register cross-check with purchase invoice and sales invoices. The audit is done of valuation of inventories, that the method applied for valuation reflect the correct value of inventories. Inventories should not be overvalued or undervalued. Auditors should check the control and management of inventories by the organization as inventory is the main key to the business of the organization. Auditors should check whether there is any lien on inventories of the organization due to some working capital requirements and also check documents of such types of contracts and agreements. | Copy of inventory register Copy of purchase register Purchase invoices. Inward and outward supply register. Record of slow and non-moving inventories Record of inventories that are disposed-off due to certain reasons. Record of damaged inventories. |
| Property, Plant, and Equipment | $11573 | The organization must have physical assets and properly marked, the value of which is reflected in financial statements. The organization should be done a proper valuation of property and plant & equipment that reflect the correct worth of it. The organization has legal rights on property, plant & equipment to sell or pledge at any time (Murphy, & Brown, 2012). | The auditors check the agreement of purchase and contract of lease in respect of property, plant & equipment. The auditor should physically verify the property of the organization that is reflected in the financial statement (PWR holding limited, 2020). The audit of the valuation of property should be done to check the correct value of the property is reflected in the financial statement. The valuation should not be undervalued or overvalued. The auditor should take the advice of external valuation experts to check the correct value of property, plant & equipment (PWR holding limited, 2020). The audit of contract or agreement if the property is a pledge by the organization for a financial loan and its policy. The audit of the contract of the lease if the property was taken on lease (Bedard, Graham, & Jackson, 2015). | Agreement of purchase of property, plant & equipment Copy of pledge if any made on such property List of property and plant & equipment hold by organization Calculation sheet of valuation of the property Copy of lease agreement if the property was taken on lease. Report of a valuation expert (Stoel, Havelk., & Merhout, 2012). |
| Intangible assets | $14102 | The organization must have intangible assets shown in the financial statement. The organization must value assets correctly that reflect the actual value of assets. The organization apply the method of depreciation and amortization as per rules and regulation of accounting standards | The auditors should check the agreement of purchase and acquisition of intangible assets. Auditors should take an expert valuation report from external sources to identify the correct value of assets (PWR holding limited, 2020). Auditors should check the method of depreciation or amortization is applied as per rules and regulations (PWR holding limited, 2020). Auditors check calculation of depreciation on intangible assets and treatment of depreciation under profit and loss account. The auditor should check the treatment of capital and revenue expenditure in respect of intangible assets. Auditors should match the valuation of intangible assets with the balance shown in financial statements. | Agreement of Purchase and acquisition of intangible assets. Expert valuation report Management representation letter List of intangible assets held by the organization Calculation sheet of valuation of intangible assets Calculation sheet of depreciation and amortization of intangible assets Detail of rate of depreciation applied by the organization |
| Trade and other payables | $3397 | The organization should have a legal obligation to make payments to creditors. The amount as per the list of creditors and confirmation letters should match with the balance shown in the financial statement. | The auditor should check that amount as per confirmation letter matches with the balance shown in the financial statement. The auditors should check transactions with creditors from the purchase register and payment register. The period in which the organization has to make payment to creditors. Auditors should identify major creditors by check the frequency of transactions. Auditors should reconcile creditors' confirmation letters with a list of creditors provided by management. | List of creditors with the balance due from management Balance confirmation letter from creditors Credit purchase bills and purchase register Record of payment made to creditors |
| Employees Benefits | $1624 | The organization should have a legal obligation to make payment against employee benefits shown in the financial statement. The amount shown in the financial statement should be complete and as per the payroll policy of the organization (Axelsen, et al. 2011). | The auditors should check that liabilities of employee benefits are recognized as per rules and regulations adopted by the organization. The auditors should check actual liability as per contract and payroll policy match with the balances shown in the financial statement (Vilsanoiu, & Serban, 2010). | Payroll policy of the organization Calculation sheet of employee benefits Contract and agreement made with the employee (PWR holding limited, 2020). |
Plan of Sampling under audit procedure:
Sampling means an activity under audit procedure in which several transactions or accounts are selected for audits that are representing all business transactions of the organization. Under-sampling, a list of selected items is used to observe and analyze of whole organization's business and its nature. Sampling is done at the same time on a random basis and some time on a scientific basis. Before selecting a sample, auditors have conducted a proper understanding of the risk involved in the sample (PWR holding limited, 2020). For auditors, an audit of 100% business transaction is not possible therefore he performs sampling to reduce the time and cost of the audit (Chiang, 2010).
Scientific sampling means for selection of sample use some calculation and reasonable criterion from the financial statement. In case of audit procedure of PWR holding limited, materiality level is used for selection of sample (Chiang, 2010). There is always risk involved in audit due to various limitations and due to the sampling process, this risk increased for auditors. At the time of conducting an audit, if auditors analyzed that audit risk is increased due to the materiality level and selection of samples. Auditors can reduce the level of materiality, apply other methods also for the selection of samples, and increase the size of sampling for audit procedures.
For PWR holding limited, audit procedure is designed as a combination of materiality and sampling. Multiple accounts are selected for audit purpose that represents the overall financial position of organization business and how they operate in a market trend (Braganza, & Desouza, 2016).
Conclusion
After analysis of the above report, it is clear that high professionals are required to conduct an audit procedure of an organization so they can perform an audit efficiently and effectively. The audit is conducted by a combination of various processes and techniques such as sampling, materiality, analytical process, ratio analysis, audit documentation. An auditor needs to design and follow an audit program for performing an audit procedure. A proper record is also needed to maintain that is called audit documentation. The audit procedure applied for PWR holding limited provides reasonable assurance. However, the risk involved in the audit of PWR holding limited is high due to high inherent risk, control risk, and detection risk. By analysis of the financial statement, it can conclude that the growth of PWR holding is good and effective from previous years.
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