You are a partner in the firm of MMP LLP, CGAs, and you are the engagement

Assignment 4 — Session 3 (Spring)Question 8 (15 marks)You are a partner in the firm of MMP LLP, CGAs, and you are the engagement quality controlreviewer responsible for conducting the final, independent review of audit engagementscompleted by the firm as part of its quality-control program.You are currently reviewing the audit working papers and a draft of the audited financialstatements of Leisure Craft Industries Ltd. for the fiscal year ended September 30, 2014, alongwith the suggested auditor’s report (an unmodified opinion dated November 10, 2014).The company designs and builds recreational vehicles, campers, and mobile homes and sellsthem through sales outlets located in major Canadian cities. The sales outlets are independentlyowned and operated and have distribution agreements with Leisure Craft that give them theexclusive right to sell the company’s products in a certain geographic area, while restricting thesales outlets’ ability to market the products of Leisure Craft’s competitors.The fiscal year ended September 30, 2014 was the first year that MMP audited the company’sfinancial statements.During their discussions concerning the client’s internal control environment, the client’s CFOpointed out to the senior auditor that the company employs two full-time internal auditors. Thesenior auditor then phoned the engagement partner and told him that the study and evaluation ofthe client’s systems and controls was going slowly, and that she would like to save audit time byrelying on the systems evaluation and tests that the internal auditors had already done during theyear. The engagement partner agreed and said: “Don’t waste time duplicating their work. Findout the details of what they have already done and get a copy of their working papers and putthem in our files. Then just work around this to fill in the gaps so that we have studied andevaluated the internal controls over all the company’s transactions streams.” The senior auditorwrote a detailed memo describing this approach and concluded that reliance on the internalauditors had saved MMP approximately 50 hours of audit staff time.Because MMP was engaged after the beginning of the client’s fiscal year, the partner relied on anunmodified opinion of the predecessor audit firm with respect to the opening balance sheet.Unfortunately, the predecessor firm never responded to any inquiries made by MMP nor showedany willingness to cooperate with MMP .The company uses a computerized perpetual inventory system to control parts used inproduction, and the audit staff developed a set of test data to verify that the system operated asdesigned. The test data consisted of 10 purchase transactions randomly selected from theSeptember 2014 purchases and 10 part usage transactions also randomly selected fromtransactions recorded by the client during September 2014. The audit staff performed varioussubstantive tests to verify the details of these transactions and then ran the 20 transactionsthrough an off-line version of the client’s inventory system, noting how each transaction wasprocessed. They found no exceptions and concluded that the system operated as designed. Theytherefore assessed control risk over inventory transactions as low and concluded that year-endsubstantive testing of the client’s parts inventory could be restricted.On November 15, 2014, the company founder received a loan of $2,000,000 from the company,which is material to the company. This loan was authorized by the company’s board of directors,is due and payable in one year, and bears interest at the prevailing prime rate. The audit stafflearned about the loan when they examined the minutes of the board of directors’ meetings andmade a note of it in the working papers. After reviewing this working paper, the engagementpartner wrote: “This is not a concern at this time but we should evaluate collectability of the loannext year.”RequiredWrite the memo that you will send to the engagement partner identifying any issues (with a copyto the firm’s managing partner). Be sure to propose recommendations to correct the issues. 3marks are awarded for clarity, logic and persuasiveness of the discussion including openingcomments that should be addressed in a proper memo format.100