12 May EXPLAIN THE IMPORTANCE OF THE ROLE OF AN ‘AUDIT RISK ALERT’ LETTER TO A FIRM OF AUDITORS.
Revenue recognition and other mattersThe senior partner of JLPN, a firm of auditors, has issued an ‘Audit Risk Alert’ letter to all partners dealing with key areas of concern which should be given due consideration by his firm when auditing public companies. The letter outlines certain trends in audit reporting that, if not scrutinised by the auditors, could lead to a loss of reliability and transparency in the financial statements. The following three key concerns were outlined in the letter.(a) Audit committees play a very important role together with the financial director and auditor inachieving high quality financial control and auditing. Recently the efforts of certain auditcommittees have been questioned in the press(b) The Stock Exchange had reported cases of inappropriate revenue recognition practises including:(i) Accelerating revenue prior to the delivery of the product to the customer’s site, or prior tothe completion of the terms of the sales arrangement(ii) Recognition of revenue when customers have unilateral cancellation or terminationprovisions, other than the normal customary product return provisions(c) It has been reported that the management of companies had intentionally violated IFRS. The reason for this has been the sensitivity of reported earnings per share in a market place where missing the market’s expectation of earnings per share by a small amount could have significantconsequences.Required(a) Explain the importance of the role of an ‘Audit Risk Alert’ letter to a firm of auditors.(b) Discuss the way in which the auditor should deal with each of the key concerns outlined in theletter in order to ensure that audit risk is kept to an acceptable level.Revenue recognition and other mattersThe senior partner of JLPN, a firm of auditors, has issued an ‘Audit Risk Alert’ letter to all partners dealing with key areas of concern which should be given due consideration by his firm when auditing public companies. The letter outlines certain trends in audit reporting that, if not scrutinised by the auditors, could lead to a loss of reliability and transparency in the financial statements. The following three key concerns were outlined in the letter.(a) Audit committees play a very important role together with the financial director and auditor inachieving high quality financial control and auditing. Recently the efforts of certain auditcommittees have been questioned in the press(b) The Stock Exchange had reported cases of inappropriate revenue recognition practises including:(i) Accelerating revenue prior to the delivery of the product to the customer’s site, or prior tothe completion of the terms of the sales arrangement(ii) Recognition of revenue when customers have unilateral cancellation or terminationprovisions, other than the normal customary product return provisions(c) It has been reported that the management of companies had intentionally violated IFRS. The reason for this has been the sensitivity of reported earnings per share in a market place where missing the market’s expectation of earnings per share by a small amount could have significantconsequences.Required(a) Explain the importance of the role of an ‘Audit Risk Alert’ letter to a firm of auditors.(b) Discuss the way in which the auditor should deal with each of the key concerns outlined in theletter in order to ensure that audit risk is kept to an acceptable level.
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