You are undertaking the audit of a medium sized company which has been operating since 1997 and specialises in the sale of jewellery from local designers. The balance date for the company is 30^th June 2020. Around half of the jewellery is sold on consignment on behalf of the local designers with the remainder of the jewellery being sold by the company. There is no standard commission charged by the company for sales on consignment. The commission rates on consignment sales are negotiated directly between the company and the individual designer. The company also sells various products made by designers including hand-made clothing and assorted souvenirs of the local area also made by local designers. This is the second year that you are auditing this company. The company employs 2 experienced accountants who prepare the reports, both of whom are retired and are good friends with the CEO of the company. The accountants have solid but limited experience with the computerised accounting system used by the company.                             

 

A manual accounting system has been used up until this year when a computerised accounting package was installed due to the increase in sales in the last 2 years resulting in record profits for the last 2 years (and significant increases in the volume of transactions). The increase in cash flow has allowed the company to purchase new premises which they purchased using a bank loan with a fixed interest rate of 2%. The old premises (which are also owned by the company) have been sold to a third party for a profit of $600,000. The sale has been agreed to by both parties but the premises will not transfer to the purchaser until the 17^th of September 2020 when the final payment is made and the sale is settled.

 

The CEO of the company is currently in negotiations with a major national sporting association to supply training clothes designed by the local designers. The sporting association is also in discussions with a number of other companies and will decide on the supplier for the training clothes in early July 2020. The CEO is very confident in winning the contract for the supply of the training clothes and has verbal agreement that the sporting association will choose his company.

 

Required:

Identify FOUR (4) inherent risks that the auditor should consider before finalizing the planning of the audit and determining the evidence mix. You are only required to provide a brief discussion of each inherent risk.

Briefly state why these risks increase the overall audit risk or the potential for misstatements in the financial statements. (Hint: You should identify a specific potential misstatement that could occur as a result of this inherent risk).