High School

You are a manager in the audit department of Dinpa & Co., a firm of Chartered Certified Accountants. You have just been assigned to the audit of High-Tec Limited, a new audit client of your firm, with a financial year ended 31st May 2015. High-Tec Limited has just been listed on the Ghana Stock Exchange (GSE). It is an e-commerce facilitator and has grown rapidly in the last few years. The company was formed ten years ago by Mr. Boss Tinkoli, a graduate in e-commerce from the University of Professional Studies, Accra.

High-Tec Limited designs and develops software for e-commerce with high-security features, which have won industry awards. In the last two years, the company invested GHS400m in creating new software to appeal to a large number of multinational companies. Sales are now made in over 10 countries. The software is developed locally, but the manufacture of the security features takes place overseas.

The software is largely sold through retail outlets, but approximately 30% of High-Tec Limited’s revenue is generated through sales made on the company’s website. In some countries, High-Tec Limited’s products are distributed under a franchise agreement, which gives the franchise holder the exclusive right to sell the products in that country. The cost of each franchise to the distributor depends on the estimated sales in the country to which it relates, and the franchise lasts for an average of five years.

The income which High-Tec Limited receives from the sale of a franchise is deferred over the period of the franchise. At 31st May 2015, the total amount of deferred income recognized in the company's statement of financial position is GHS72 million.

As part of a five-year strategic plan, High-Tec Limited obtained a GSE listing in December 2014. The listing and related share issue raised a significant amount of finance, and many shares are held by institutional investors. Mr. Boss Tinkoli retains a 20% equity shareholding, and a further 10% of the company’s shares are held by his family members. Despite being listed, the company does not have an internal audit department, and there is only one non-executive director on the board.

**Required:**

(a) Comment on the matters that you should consider specific to the initial audit engagement when developing the audit strategy for High-Tec Limited. (5 marks)

(b) Evaluate the audit risks to be considered in planning the audit of High-Tec Limited. (5 marks)

Answer :

When developing the audit strategy for High-Tec Limited, auditors should consider matters such as understanding the industry and the company's operations, assessing the client's business risks.

(a) When developing the audit strategy for High-Tec Limited, there are several matters that need to be considered. These include:
1. Understanding the industry and the company's operations: It is important to gain a comprehensive understanding of the e-commerce industry, including the specific risks and challenges faced by companies operating in this sector. Additionally, a thorough understanding of High-Tec Limited's operations, such as the design and development of software and the sales distribution channels, is crucial to assess the relevant risks.
2. Assessing the client's business risks: It is essential to identify and understand the key business risks faced by High-Tec Limited. These risks could include technological advancements, competition, cybersecurity threats, and changes in the regulatory environment. This assessment helps in determining the areas that require more audit attention.


(b) In planning the audit of High-Tec Limited, several audit risks need to be considered. These include:
1. Inherent risk: Inherent risk refers to the susceptibility of the financial statements to material misstatement before considering the effectiveness of internal controls. For High-Tec Limited, inherent risks could include the complexity of revenue recognition for franchise agreements, valuation of deferred income, and the risk of misstatement in relation to the overseas manufacture of security features.
2. Control risk: Control risk refers to the risk that the client's internal controls will not detect or prevent material misstatements. As High-Tec Limited does not have an internal audit department and has limited board oversight, the control environment may be weak. This increases the control risk and the need for substantive testing.
3. Detection risk: Detection risk refers to the risk that the auditor's procedures will fail to detect material misstatements in the financial statements. The auditor must design audit procedures to reduce detection risk to an acceptably low level. In the case of High-Tec Limited, the auditor needs to design appropriate procedures to address the specific risks associated with revenue recognition, deferred income, and the overseas manufacture of security features.
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