ACCA AAA — Advanced Audit and Assurance Practice Exam 6

SECTION A: STRATEGIC CASE STUDY

It is 1 July 20X6. You are an audit manager at the firm of K&P Associates. You are responsible for the audit of the AeroVolt Group (AeroVolt), a listed multinational developer of renewable energy infrastructure, specializing in wind and solar farms. The group's financial year-end is 30 September 20X6.

You have received the following email from the group audit engagement partner, Sarah Jenkins:

To: Audit Manager
From: Sarah Jenkins, Audit Partner
Date: 1 July 20X6
Subject: AeroVolt Group - Audit Planning

Hello,

I have just returned from a planning meeting with AeroVolt's Chief Financial Officer (CFO). The group has experienced rapid expansion this year, heavily driven by their entry into emerging markets. I have attached some financial highlights and notes from my meeting (Exhibit 1).

Of particular note is AeroVolt's recent acquisition of a 100% subsidiary, Zephyr Energy, located in the politically volatile country of Zandia. Zephyr Energy is audited by a local firm, Zandia Partners, who are not part of the K&P global network. I have provided details regarding this component auditor in Exhibit 2.

I require you to prepare briefing notes for my attention which address the following requirements:

(a) Evaluate the principal business risks facing the AeroVolt Group. (10 marks)
(b) Evaluate the significant audit risks to be considered in planning the group audit. (20 marks)
(c) Discuss the quality management and ethical issues regarding our reliance on Zandia Partners as a component auditor, and recommend the actions K&P should take to comply with ISA 600 (Revised). (10 marks)
(d) Design the principal audit procedures to be performed in respect of the government grants received by AeroVolt. (6 marks)

Note: 4 professional marks are available for the structure, presentation, logical flow, and clarity of your briefing notes.

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EXHIBIT 1: Meeting Notes and Financial Highlights

AeroVolt's draft consolidated revenue has increased by 45% to $850m (20X5: $586m), while profit before tax has decreased by 12% to $42m (20X5: $48m). Total assets have doubled to $1.2bn.

Key developments:

1. Long-term Contracts: AeroVolt has entered into several 5-year contracts to build offshore wind farms. Management has recognized 40% of the total contract revenue upfront this year, arguing that the initial design and procurement phases represent the most significant value transfer to the customer.
2. Government Grants: To incentivize green energy, the government of Zandia awarded AeroVolt a $30m grant to build a solar facility. The grant requires the facility to remain operational for 10 years. AeroVolt has recognized the full $30m in the statement of profit or loss this year to offset the heavy initial capital expenditure.
3. Zandia Acquisition: AeroVolt acquired Zephyr Energy for $150m, generating $60m in goodwill. Zandia has recently experienced severe political unrest, leading to a 30% devaluation of its local currency and threats of nationalization of foreign-owned infrastructure.

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EXHIBIT 2: Component Auditor Details (Zandia Partners)

Zandia Partners is a mid-tier firm in Zandia. They audit according to local Zandian Auditing Standards, which have not been fully converged with ISAs. The audit working papers are maintained in the local language, Zandian. The CFO of AeroVolt mentioned that the lead partner at Zandia Partners is the brother-in-law of Zephyr Energy's local Managing Director. The CFO dismissed this as a non-issue, stating, "In Zandia, business is always done among family."

SECTION B: ADVISORY REPORT

It is 15 August 20X6. You are an audit manager at D&T LLP. You are currently reviewing the audit completion working papers for Ceres AgriTech Co (Ceres), a listed agriculture and biotechnology firm. The financial year ended on 31 May 20X6. The draft financial statements recognize profit before tax of $15m and total assets of $120m.

During your review, the audit senior has brought the following two unresolved matters to your attention:

Matter 1: Biological Assets Valuation
Ceres owns large tracts of land where it cultivates genetically modified (GM) crops, classified as biological assets under IAS 41. In April 20X6, a severe, unseasonal drought affected the region. Management has written down the fair value of the biological assets by $1m (approximately 5% of total crop value), arguing that their proprietary GM crops are highly drought-resistant. However, the audit team obtained a report from an independent agronomist, commissioned by the local government, which estimates that crop yields in the region will fall by at least 30% due to the drought. If the agronomist's estimate is applied, the biological assets would need to be written down by a further $5m.

Matter 2: Going Concern and Loan Covenant
Ceres has a $40m long-term loan with AgriBank. A key covenant of this loan requires Ceres to maintain an interest cover ratio of 4:1. Due to the drought and subsequent drop in projected revenue, Ceres breached this covenant on 31 May 20X6. According to the loan agreement, a breach makes the loan immediately repayable on demand. Management has left the loan classified as a non-current liability, stating they have a "strong, long-term partnership" with AgriBank and are confident the bank will issue a waiver. As of today, no formal waiver has been received. Management has refused to make any disclosures regarding the breach or any going concern uncertainties.

Requirements:

(a) Evaluate the matters to be considered and the audit evidence you would expect to find in the working papers regarding the valuation of the biological assets. (10 marks)
(b) Assess the implications of the loan covenant breach on the going concern status of Ceres, and recommend the further audit procedures required. (8 marks)
(c) Assuming management refuses to adjust the financial statements or provide additional disclosures for BOTH matters, discuss the implications for the auditor's report. (7 marks)

SECTION B: ADVISORY REPORT

It is 10 November 20X6. You are a manager in the advisory department of K&P Associates. Your firm has been the external auditor for AquaStream Utilities Co (AquaStream), a listed public water treatment company, for the past five years.

AquaStream is looking to expand its capabilities and is currently in negotiations to acquire 100% of the share capital of DesalInnovate, a private technology startup. DesalInnovate has developed a patented, highly efficient water desalination process. However, the startup has only been trading for two years and is currently loss-making.

The Board of Directors of AquaStream has approached K&P Associates to perform a financial due diligence review on DesalInnovate prior to finalizing the acquisition. Specifically, AquaStream wants your team to:

1. Assess the overall financial health and unrecorded liabilities of the target.
2. Review and provide assurance on DesalInnovate's 5-year prospective financial information (PFI), which forecasts a return to profitability by Year 3 based on aggressive licensing of their patent.

Requirements:

(a) Evaluate the ethical and professional issues K&P Associates should consider before accepting the engagement to perform the financial due diligence and PFI review for AquaStream. (8 marks)
(b) Recommend the key areas of focus for the financial due diligence review of DesalInnovate, explaining why each area is critical to AquaStream's acquisition decision. (10 marks)
(c) Describe the specific examination procedures you would perform to review DesalInnovate's 5-year prospective financial information (PFI). (7 marks)