You are the audit manager of Biotech Ltd (Biotech), a listed company on ASX (Australian Securities Exchange). As part of its business strategies, Biotech intends to use its patented DNA analysis technologies to exploit the molecular diagnostics market. Biotech is currently developing various molecular diagnostics testing products.
There has been a gradual increase in demand for the entity’s product in the market. Sales have increased from $615,000 in 2020 to $800,000 in 2021, and it is expected that the sales will keep growing in 2022. Biotech currently has only one key customer, Nova Diagnostics Ltd.
In 2021, the Australian government approved that Biotech’s DNA testing products can be used in laboratories across the country. Biotech therefore increased its marketing expenditure and received positive publicity. Biotech predicts that the demand for its products will increase soon. Also, Biotech wishes to increase its market shares in molecular diagnostic products. However, the increase in sales is only expected to increase gradually. The molecular diagnostic market is highly competitive and constantly changing. This is because similar new products are developed by many competitor companies. Because of this competition, Biotech’s business struggled in the past few years to obtain more market share.
Biotech has an overdraft from Bank West to maintain its day-to-day operations. To fund its future expansion, Biotech increased its bank overdraft in 2021. Biotech is also planning to raise additional fund from existing shareholders in the form of a long-term loan in 2022. Biotech expected that it can obtain approximately $12 million long-term loan from the existing shareholders. You have had a discussion with the CEO Bill Musk, who has stated that the likelihood of the capital raising eventuating is high. However, during the audit, there was not sufficient evidence to support this claim from the CEO. You are aware that the entity had difficulty in raising funds in the past. According to audit documentation and evidence collected in the previous financial year, the CEO had positively claimed that a cash injection was due to take place during the 2021 financial year, which didn’t materialize. Further, the board of directors has proposed a capital injection by issuing 250,000 shares to the public in 2022 financial year.
Biotech’s share price of has seen a sharp decline from $2.00 in 2015 to $0.20 in 2021. Even though there has been a sharp decline in the share price, Biotech still holds on to investor confidence and has a current market capitalization of $20 million by the end of the 2021 financial year. Total number of shares on issue have remained constant at 100,000,000 shares in the 2020 and 2021 financial years.
You are provided the historical financial statements of 2020, 2021 and forecasted financial statements of 2022 in notes 1-3 below.
1. ASA 315 requires auditors to understand the client for the purpose of assessing the risk of material misstatements in financial reports. Based on the provided information in this case, please write down three major inherent risks, and explain why you believe they are inherent risks.
2. Perform and document an analytical review comparing the Biotech financial statements for 2022 and 2021, using the financial information, context information and notes provided above.
3. Based on the results of your analytical review above and with reference to the case study context and additional information:
a. identify the key financial ratios that audit team should pay greater attention to. Explain why.
b. identify two accounts (one from the balance sheet and the other one from the income statement) that has a high risk of material misstatement. For the chosen accounts, identify the key assertion(s) that would be at risk.
c. Based on the risky accounts you identified, write down internal controls that you would expect management to implement.
d. Discuss what would be appropriate audit strategies for these risky accounts.
4. Based on the results of the analytical review, perform an assessment of the ability of the company to continue as a going concern in the future. Justify your answer. If there are indicators of going concern issue, identify any mitigating factors.
Use ratio analysis technique and horizontal analysis to perform analytical review, including, but not limited to ratios given below.
Assume all sales and purchases are on credit.
When calculating averages where previous year’s figure is not given, use the current year’s figure.
Feel free to consider audit observations and make necessary adjustments to forecasted financial information when performing the analytical review.
Word Count Requirement: 800 -1000 words without references or appendices, if any
Marking criteria: Your work will be assessed based on the following marking rubric:
– Evaluation of Information:
o Demonstrates in-depth understanding of the issues, based on the information provided.
o Assumptions made were logical and justified.
– Use of existing knowledge:
o Successfully interpreted all issues identified in the case.
o Demonstrated a broad range of theoretical knowledge in auditing.
o Successfully applied the audit theory in practice realistically and logically.
o Critically analysed and conceptualised the information provided in the case.
o Conclusions were well justified and supported with authoritative evidence.
o Demonstrated professional and judgemental decision making in auditing.