Reference no: EM133010199

Question - You are an audit manager in Smit Associates, responsible for the audit of Continental Ltd, a listed company operating in the pharmaceutical industry. You are planning the audit of the financial statements for the year ending 31 December 2020.

Continental Ltd is a pharmaceutical company, developing drugs to be licensed for use around the world. Products include medicines such as tablets and medical gels and creams. The market is very competitive, encouraging rapid product innovation. New products are continually in development and improvements are made to existing formulations. Drugs have to meet very stringent regulatory requirements prior to being licensed for production and sale.

Continental Ltd approached its bank during the year to extend its borrowing facilities. An extension of $10 million was sought to its existing loan to support the on-going development of new drugs. The long-term borrowings are subject to debt covenants in which the company has to maintain a current ratio of 3:1.

In addition, the company asked the bank to make cash of $3 million available in the event that an existing court case against the company is successful. The court case is being brought by an individual who suffered severe side effects when participating in a clinical trial in 2017.

In December 2020, the internal audit department of Continental Ltd performed a review of the operation of controls over the processing of overtime payments in the Payroll department. It was found that the company's specified internal control procedures in relation to the processing of overtime payments were not followed.

The accounting team at Continental Ltd is very small and it is therefore not possible to segregate all accounting duties.

Below are some results of the analytical review procedures performed by the Senior Auditor during the planning stage:

Revenue 12.5% increase since prior year

Net profit after tax 20% increase since prior year

Accounts payable 15% decrease since prior year

Cash at Bank 25% increase since prior year

Accounts receivable 18% increase since prior year

Required -

a) Identify three inherent risks to be considered in planning the audit of Continental Limited for the year ended 31 December 2020.

b) Identify two control risks to be considered in planning the audit of Continental Limited for the year ended 31 December 2020.

c) Based on the above information, name and explain the assertion most at risk of material misstatement with regards to the Accounts Payable account.

d) For the assertion at risk outlined above, describe one substantive test of detail that is specifically responsive to that the risk of material misstatement.

e) Assess inherent risk, control risk and detection risk for Continental Ltd.