(b) Explain the matters you should consider before accepting an engagement to conduct a due diligence review

of MCM. (10 marks)

6 An important part of managing people in a professional organisation is to be able to distinguish between aggressiveness and assertiveness in an employee.

Required:

(a) Explain and give examples of aggressive behaviour. (8 marks)

(b) Describe the principal audit work to be performed in respect of the useful lives of Shire Oil Co’s rig platforms.

(6 marks)

(b) Using sensitivity analysis, estimate by what percentage each of the under-mentioned items, taken separately,

would need to change before the recommendation in (a) above is varied:

(i) Initial outlay;

(ii) Annual contribution. (4 marks)

4 (a) For this part, assume today’s date is 1 March 2006.

Bill and Ben each own 50% of the ordinary share capital in Flower Limited, an unquoted UK trading company

that makes electronic toys. Flower Limited was incorporated on 1 August 2005 with 1,000 ￡1 ordinary shares,

and commenced trading on the same day. The business has been successful, and the company has accumulated

a large cash balance of ￡180,000, which is to be used to purchase a new factory. However, Bill and Ben have

received an offer from a rival company, which they are considering. The offer provides Bill and Ben with two

alternative methods of payment for the purchase of their shares:

(i) ￡480,000 for the company, inclusive of the ￡180,000 cash balance.

(ii) ￡300,000 for the company assuming the cash available for the factory purchase is extracted prior to sale.

Bill and Ben each currently receive a gross salary of ￡3,750 per month from Flower Limited. Part of the offer

terms is that Bill and Ben would be retained as employees of the company on the same salary.

Neither Bill nor Ben has used any of their capital gains tax annual exemption for the tax year 2005/06.

Required:

(i) Calculate which of the following means of extracting the ￡180,000 from Flower Limited on 31 March

2006 will result in the highest after tax cash amount for Bill and Ben:

(1) payment of a dividend, or

(2) payment of a salary bonus.

You are not required to consider the corporation tax (CT) implications for Flower Limited in your

answer. (5 marks)

(c) Assess Mr Hogg’s belief that employing child labour is ‘always ethically wrong’ from deontological and

teleological (consequentialist) ethical perspectives. (9 marks)

(c) Discuss the quality control issues raised by the audit senior’s comments. (3 marks)

Background information

B-Star is a theme park based on a popular series of children’s books. Customers pay a fixed fee to enter the park,where they can participate in a variety of activities such as riding roller-coasters, playing on slides and purchasing themed souvenirs from gift shops.

The park is open all year and has been in operation for the last seven years. It is located in a country which has very little rainfall – the park is open-air so poor weather such as rain results in a significant fall in the number of customers for that day (normally by 50%). During the last seven years there have been on average 30 days each year with rain.

B-Star is now very successful; customer numbers are increasing at approximately 15% each year.

Ticket sales

Customers purchase tickets to enter the theme park from ticket offices located outside the park. Tickets are only valid on the day of purchase. Adults and children are charged the same price for admission to the park. Tickets are preprinted and stored in each ticket office.

Tickets are purchased using either cash or credit cards.

Each ticket has a number comprising of two elements – two digits relating to the ticket office followed by six digits to identify the ticket. The last six digits are in ascending sequential order.

Cash sales

1. All ticket sales are recorded on a computer showing the amount of each sale and the number of tickets issued.

This information is transferred electronically to the accounts office.

2. Cash is collected regularly from each ticket office by two security guards. The cash is then counted by two

accounts clerks and banked on a daily basis.

3. The total cash from each ticket office is agreed to the sales information that has been transferred from each office.

4. Total cash received is then recorded in the cash book, and then the general ledger.

Credit card sales

1. Payments by credit cards are authorised online as the customers purchase their tickets.

2. Computers in each ticket office record the sales information which is transferred electronically to the accounts office.

3. Credit card sales are recorded for each credit card company in a receivables ledger.

4. When payment is received from the credit card companies, the accounts clerks agree the total sales values to the amounts received from the credit card companies, less the commission payable to those companies. The receivables ledger is updated with the payments received.

You are now commencing the planning of the annual audit of B-Star. The date is 3 June 2009 and B-Star’s year end is 30 June 2009.

Required:

(a) List and explain the purpose of the main sections of an audit strategy document and for each section, provide an example relevant to B-Star. (8 marks)

(b) (i) For the cash sales system of B-Star, identify the risks that could affect the assertion of completeness of sales and cash receipts; (4 marks)

(ii) Discuss the extent to which tests of controls and substantive procedures could be used to confirm the

assertion of completeness of income in B-Star. (6 marks)

(c) (i) List the substantive analytical procedures that may be used to give assurance on the total income from

ticket sales for one day in B-Star;

(ii) List the substantive analytical procedures that may be used to give assurance on the total income from

ticket sales in B-Star for the year. (8 marks)

(d) List the audit procedures you should perform. on the credit card receivables balance. (4 marks)

Required:

(iii) A firm of consultants has offered to undertake a study on behalf of Envico Ltd which will provide perfect

information regarding seminar attendance during the forthcoming year.

Advise the management of Envico Ltd with regard to the maximum amount that they should pay to

consultants for perfect information regarding seminar attendance and comment briefly on the use of

perfect information in such decisions. (5 marks)

3 Seejoy is a famous football club but has significant cash flow problems. The directors and shareholders wish to take

steps to improve the club’s financial position. The following proposals had been drafted in an attempt to improve the

cash flow of the club. However, the directors need advice upon their implications.

(a) Sale and leaseback of football stadium (excluding the land element)

The football stadium is currently accounted for using the cost model in IAS16, ‘Property, Plant, and Equipment’.

The carrying value of the stadium will be $12 million at 31 December 2006. The stadium will have a remaining

life of 20 years at 31 December 2006, and the club uses straight line depreciation. It is proposed to sell the

stadium to a third party institution on 1 January 2007 and lease it back under a 20 year finance lease. The sale

price and fair value are $15 million which is the present value of the minimum lease payments. The agreement

transfers the title of the stadium back to the football club at the end of the lease at nil cost. The rental is

$1·2 million per annum in advance commencing on 1 January 2007. The directors do not wish to treat this

transaction as the raising of a secured loan. The implicit interest rate on the finance in the lease is 5·6%.

(9 marks)

Required:

Discuss how the above proposals would be dealt with in the financial statements of Seejoy for the year ending

31 December 2007, setting out their accounting treatment and appropriateness in helping the football club’s

cash flow problems.

(Candidates do not need knowledge of the football finance sector to answer this question.)

(c) In April 2006, Keffler was banned by the local government from emptying waste water into a river because the

water did not meet minimum standards of cleanliness. Keffler has made a provision of $0·9 million for the

technological upgrading of its water purifying process and included $45,000 for the penalties imposed in ‘other

provisions’. (5 marks)

Required:

For each of the above issues:

(i) comment on the matters that you should consider; and

(ii) state the audit evidence that you should expect to find,

in undertaking your review of the audit working papers and financial statements of Keffler Co for the year ended

31 March 2006.

NOTE: The mark allocation is shown against each of the three issues.