QUESTION 5: RISK, ASSERTIONS, MATERIALITY & AUDIT STRATEGY Carol Louise Ltd has operated its Auckland operation for the past four years. Its main product is designer dresses. It sources fabric from several overseas suppliers and then outsources the manufacturing of the dresses to sewing experts and/or cut, make and trim experts. Inventory of fabric (raw material) and designer dresses (finished goods) are the company's most material account balances. Profitability and growth of the company have fluctuated significantly over the four years of its operational existence. Morale of staff tends to fluctuate with the company's performance as management and staff celebrate the good times, but when results are poor, pressures on management are communicated to staff through loss of bonuses, staff cuts and other cost saving measures. The young management team are gradually beginning to realise the importance of internal controls but so far have taken little action in this regard. Carol and Allie who are the major shareholders tend to dominate management decisions. They are temperamental 'fashionistas' who have little concern for anything other than the quality of fabrics and the originality of the company's dress designs, so in all other areas of the business, internal controls and governance remain weak. Required: a) Explain briefly what the term "Audit Risk means. (1 mark) b) Identify the three components of audit risk and briefly explain each. (6 marks) c) Using the information supplied above for Carol Louise Ltd: i. State and explain briefly what your assessment of risk is for each of the three components of audit risk. Use only "High", "Medium" or "Low" to indicate your assessments. (6 marks) ii. Describe the most appropriate audit strategy for the company, including: Implications for nature, timing and extent of substantive procedures; Why the audit should focus on inventory, especially with regard to the valuation assertion (5 marks) [TOTAL: 18 MARKS]