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BRIEFING NOTES
TO: Gill Sans, Audit Engagement Partner
FROM: Audit Manager
SUBJECT: Audit Planning of Calibri Co
DATE: 1st July 20x5
Introduction
These briefing notes have been prepared to assist in planning the audit of Calibri Co for the year ending 30th
September 20x5.
These notes evaluate the significant business risk , which is then followed by evaluation of significant &
prioritise risk of material misstatement which are to be considered in developing the audit strategy and plan.
The notes then justify why the inventories of parts and pre-used cars have been identified as significant risks
of material misstatement and also provides with principal audit procedures to be performed on the
valuationof the used car inventory.
Finally, the notes discuss ethical and professional issues arising from director request to provide system and
KPI for sustainibility reporting and also determines which of the service could be provided to Calibri Co.
Materiality
For the purpose of these briefing notes, the overall materiality level used to assess the significance of
identified risk is $968,000 based on the profit before tax of the company, as requested.
Justification
Using profit before tax , the suggested range is $968,000 ( 5%) - $1,935,000 (10%).
Due to purpose of obtaining a listing on the stock market and there might be risk of management bias, which
will increase the risk of misstatement.
Benchmark should be set at lower level of the range.
This is just a starting point to determine the materiality level and professional judgement will be required
throughout the audit of Calibri Co.
A) Evaluation of Business Risks
Withdrawal of Franchise
Franchise can be withdrawn without being refunded by Pepetua Cars, if franchise conditions are not met.
Customer sales and Sales KPI are set by PC, Calibri is reliant on single manufacturer who could set hard
target to force an end to the franchise.
If the franchise have been withdrawn, the profitability of the company will be significantly impacted by
writing of $800,000 franchise fees and $350,000 will also be paid for terminating the lease on the property.
Management Bias
Management and investors focus are on preparing the financial statement strong, to achieve stock listing.
It could lead to further deterioration of cash ( preparing document, marketing shares, paying underwriters).
The profitability of the company will be impacted by this decision and there will be a risk that management
has manipulated financial statement to show a strong financial statement for listing.
Internal Audit
Newly qualified auditor may lack the experience required in the internal audit. Their background in external
audit rather than internal audit makes their experience less relevant.
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The required controls may not be present in the company for internal audit, which will eventually lead
adversely to success of the stock listing.
Electric Cars
Electric cars are unavailable till 20x8. These are likely to be popular with environmentally conscious
customers.
They may go to other store, where there are electric cars available, it will cause new car sales to fall.
Calibri is highly reliant on sale of new cars. 70% of the revenue are directly from new cars, with used car
sales drive by part exchange against new car.
Revenue may fall as Calibri does not have electric cars to sell.
Obsolete Part
Some of the parts are 5 years old.
There is 20.8% increase in parts held, which means that more space is being taken by parts, reducing
operational efficiency.
Potential write down of parts that are obsolete would impact profitability.
B) Evaluation of Significant and Prioritise of Risk of Material Misstatement.
Franchise Intangible Asset
The amount of franchise intangible asset is $6.4 million ($800,000*8) in total , and after the loss of franchise
it remains with $5.6 million.
It is above the materiality threshold of $968,000, So it is material to the financial statements.
Under IAS 38 Intangible asset, the indefinite life of the asset is allowable if it is supported by evidence which
was the case here.
The useful life must be assessed each year, particularly when there are indicator of impairment/indefinite life
shortening ( withdrawal of an engagement and potential for sales target to be missed elsewhere ).
This does not appear to have taken place.
Management judgement in overstating useful life helps to boost profit.
Potential bias here to obtain a successful stock market listing.
It will lead to intangible asset being overstated and impairment expenses understated.
It will be prioritised as it is highly material by size and the potential for management bias increases the risk of
material misstatement.
Impairment
Withdrawal of franchise agreement is a clear indicator of impairment. Total asset of location are $1.2 million.
This is material in aggregate.
Seperate CGU should be written down to recoverable amount which is higher of value in use and fair value
less cost to sell where there are indicators of impairment.
Management assessment that asset will be used elsewhere could be biased.
The recoverable amount may be below cost. Fixtures and fittings unlikely to move easily and would have low
resale value.
Parts may be obsolete.
There is a risk that Intangible and tangible assets are overstated and impairment expense understated.
Risk is prioritised as this is a known error.
No adjustment have been made to the financial statement.
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Governance Structure
Newly established audit committee doesnt comply with corporate governance best practice.
It only has 2 members and minimum should be 3 and all lack financial expertise.
The audit committee are unable to challenge executive director effectively due to the lack of financial
expertise.
It is not possible for them to hold executive director to account on financial matters.
Significant improvement in performance are projected to increase like revenue and assets.
These figures may be overstated due to potential in management bias to obtain stock listing, and as the audit
committee are unable to robustly challenge management here, there is an increased risk of overstatement.
C)
i. Inventory Justification as a ROMM
Inventory is amount to $1,988,000 and is above the materiality threshold of $968,000.
Used cars are individually material at $1,408k. Although parts are immaterial, there were signficant increase
to parts and used cars.
There is a potential for material overstatement.
Inventory count was performed 6 months before year end, with a roll forward of 6 months worth of
transactions.
As there would be high volume of transaction over this period, there is a potential for error or fraud.
Increased risk of misstatement as the inventory count is out of date.
Used car value is highly judgemental.
Sales staff may accept sub-standard cars in part exchange, to drive new car sales.
There is potential for management bias to overvalue cars on part exchange, to achieve the franchise new sales
KPI and retain franchises.
Calibri may struggle to sell the used cars, leading to increased inventory levels.
According to IAS 2 Inventories, inventory should be valued at lower of cost and net realisable value.
Cost is the part of exchange value.
Resale value may be lower.
Planned listing creates a management incentive not to write down cars, to maintain profit, and boost the
chances of a succesful flotation.
Count procedures are inappropriate. Parts can become obsolete and cars can be damaged.
Not assessing valuation during the count increases the risk that inventory could be overstated.
ii. Audit Procedures in relation to valuation of used cars
Agree to part exchange agreement ideally signed by the customer. Ensure that cost has been recorded
accurately.
Agree to invoices and bank statement.
Assess if the NRV is greater than cost. If not, inventory would be overvalued at year end.
Costs incurred to sell the cars. Ensure these are included in NRV assessment, this would reduce the
NRV, potentially bringing it below cost, requiring a write down.
NRV of cars remaining unsold. Compare to similiar cars advertised online.
Assess if NRV is greater than cost, or if a write down is required.NRV is highly judgemental.
Obtain roll forward. Agree starting position to march inventory count.
Ensure that damaged car write down has been recorded.
C) Ethical and Professional Issues
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Determining KPI to report is judgemental, the metrics are not prescribed by standards. Making judgement
and decision is the role of management.
It will lead to management threat.
It is prohibited under the Ethical Standards for the auditor to make decision on behalf of the management.
It will lead to self-review threat, as certain KPI may also feature in financial statement, there could be overlap
as audit team may accept such KPI as correct without robust challenge.
They may over rely on colleague work on the assurance report.
Self-review threat may also arise, advising on the choice of system, testing the output of the system may lead
to system being overlooked. The assurance team may not wish to highlight problem that reflect poorly on
original advice.
The assurance team may not be competent and capable enough to measure sustainibility KPI as they may be
technical.
Audit staff may lack the engineering skills to robust challenge management on any judgement made in the
preparing the KPI.
There may not be enough resources to perform the assurance work and there is a tight deadline which might
have a negative impact on the audit quality.
Services to provide
In determining the KPI, the auditor cannot perform this work, as there are no safeguards which will reduce
the management threat to an acceptable level.
With regarding to System advice, it is permitted as Calibri Co is an unlisted company.
The auditor cannot make the decisions, must ensure that management makes all the relevant decision.
Assurance report will be permitted as Calibri Co is an unlisted company.
However, if the system advice works is also performed, self-review threat would be huge.
Only provide assurance if the system work is rejected and do not perform both the engagements.
Conclusions
Too easy to write
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