ACC331 201860 Amended Assessment 3 You are a senior auditor with Mason and Associates Pty Ltd. Your audit partner, Amanda, has approached you to undertake an independent review of the preliminary risk assessment for one of the company’s clients, My Essential Care Limited. My Essential Care Limited Group, which includes four entities, has been operating for ten years. The group produces organic personal care products, including a skincare range and personal grooming products for both men and women, using primarily an Australian sourced essential oils. However, they also import oils from several overseas sources. The group has also expanded through the acquisition of several smaller manufacturers over the past five years, and now supply over 1,000 health food stores and hairdressing salons through-out Australia and New Zealand. The group also sells their products to major department stores, as well as maintaining an online presence. In 2010 the group entered into five-year contracts with major department stores in Australia, the US and Europe. These stores include David Jones and Myer in Australia, Bloomingdale's and Saks in the US, and Selfridges and Fortnum & Mason in the UK. After successful in-store and online sales in the US and Europe, the group began a strategic expansion program, via a new subsidiary My Essential Care International, and established high-end boutique retail stores in New York, London, Paris, Milan and Moscow. Initially, these ventures were highly successful. However, over the last couple of years results from some of these stores have been disappointing. In 2016 following the non-renewal of some department store contracts and disappointing sales in the boutique stores, My Essential Care Limited, diversified into animal care products and acquired a 100% control of MyPet Limited. In 2017, on the back of rising demand for healthy alternatives, they acquired a company that produces vitamin supplements and essential oils. These products are sold online and stocked in the retail stores. This year, they also decided to sell a subsidiary that was involved in the transport industry, retaining a 49% stake in the company. Below are the financial figures, excluding cash flow statements and changes in equity statements, for the last three years. My Essential Care Limited Income statement For the year ended 30 June 2017 $’000 779,230 (364,149) 2,553 (282,331) (72,385) (18,576) 2016 $’000 743,764 (337,767) 3,531 (234,894) (60,536) (12,582) (261,333) 19,991 (241,342) 44,342 1,925 46,267 101,516 (28,933) 72,583 103,002 12,756 (138,341) 59,023 72,583 516 547 411 (137,825) 59,570 72,994 2018 $’000 Revenue from continuing operations Cost of goods sold Other income Selling, general and administrative expenses Other expenses Finance costs Share of net profit after-tax of associate accounted for using the equity method (Loss)/profit before income tax Income tax benefit (Loss)/profit from continuing operations Profit from discontinued operation after income tax (Loss)/profit for the year Loss attributable to non-controlling interests (Loss)/profit for the year attributable to the members of My Essential Care Limited 722,040 (382,657) 13,931 (322,498) (271,809) (20,487) 147 My Essential Care Limited Consolidated balance sheet As at 30 June 2018 2017 2016 $’000 $’000 $'000 Cash and cash equivalents 158,632 72,429 Trade and other receivables 122,518 Inventories 146,601 ASSETS Current assets Current tax receivables Other Total current assets 9,311 12,400 449,462 187,18 8 174,36 9 7,929 12,513 454,42 8 104,37 1 199,18 9 120,20 0 1,792 13,791 439,34 3 7,053 8,586 92,426 634,23 1 17,982 3,865 755,55 7 1,209,9 85 85,239 559,15 4 11,328 1,511 665,81 8 1,105,1 61 172,01 7 7,631 920 14,037 194,60 5 157,77 2 10,263 4,410 4,945 177,39 0 298951 23454 12502 82053 416960 202,46 7 11,136 27,408 77,971 318,98 Non-current assets Receivables Investment accounted for using the equity method Property, plant and equipment Intangible assets Deferred tax assets Other 5,781 67,290 80,077 397,950 35,549 3,829 Total non-current assets 590,476 Total assets 1,039,9 38 LIABILITIES Current liabilities Trade and other payables 160,113 Borrowings Current tax liabilities Provisions 114,544 1,477 29,589 Total current liabilities 305,723 Non-current liabilities Borrowings 124,535 Provisions and other payables Deferred tax liabilities Deferred payments Total non-current liabilities 22,091 40,173 33,783 220,582 Total liabilities 526,305 Net assets 513,633 611,56 5 598,42 0 1 496,37 1 608,79 0 EQUITY Contributed equity 421,634 Other reserves -81,993 Retained profits 174,645 Capital and reserves attributable to members of My Essential Care Limited Non-controlling interests 514,286 -653 513,633 Total equity 339,47 335,88 5 1 -75,759 -42,646 333,01 315,14 6 5 596,73 608,38 2 0 1,688 410 598,42 608,79 0 0 At this stage, the following additional information has been provided by My Essential Care. Revenue Revenue consists of seventy percent credit sales, twenty percent online "cash" sales and ten percent in-store sales. Accounts receivable 2018 $’000 Trade receivables 124,757 Provision for impairment of (19,776) receivables 104,981 Other receivables 17,537 122,518 2011 $’000 180,6 07 (9,92 7) 170,6 80 16,50 8 187,1 88 2016 $’000 2052 75 (10,7 61) 194,5 14 4,675 199,1 89 In 2018, $51,350,000 trade receivables were outstanding more than 3 months ($44,266,000 in 2017 and $54,449,000 in 2016). Impairment for receivables was $16,105,000 in 2018 ($2,792,000 in 2017). Other receivables Include monies owed under a debt factoring arrangement Inventory 2018 $’000 2017 $’000 2016 $’000 1,921 2,970 2,451 3,867 5,688 4,485 - at cost 127,91 1 156,2 98 - at net realisable value 12,902 9,413 146,60 1 174,3 69 97,14 6 16,11 8 120,2 00 Raw materials and stores – at cost Work in progress – at cost Finished goods Intangibles During 2018 goodwill was impaired by $144,340,000 and finite intangibles were impaired by $184,714,000. Dividends For the 2018 financial year, the company paid a dividend $20,547,000. The dividend paid in 2017 was $41,699,000. Current liabilities (non-borrowing) The current liabilities include income tax payable of $1,476,500 and provisions of $29,588,500 (this includes an onerous lease/contract provision of $17,794,000). Current Borrowings Total unsecured borrowings include a revolving multi-currency facility of $108,279,000 (to be repaid from a rights issue in 2018-2019), lease liabilities of $1,571,000. Secured borrowings include bank loans of $3,894,000 and a bank overdraft of $800,000. Non-current Borrowings The unsecured non-current liabilities include the remaining balance of the multi-currency facility $108,310,000 and lease liabilities of $3,285,000. Secured non-current liabilities include a draw-down facility of $12,940,000. The Group’s lenders require the group to maintain a positive tangible ratio, and a quick ratio of 1:1. They are also expecting to see an improved profit/reduced loss in the 20182019 financial year. Required: Prepare a report for the audit partner that includes: 1. Analysis of the financials of My Essential Care Limited that covers: a simple comparison of the movement in the accounts between 2017 and 2018, a trend analysis, and the profitability, liquidity, solvency and efficiency ratios for the last three years (2018, 2017 and 2016). This analysis is to be attached as an appendix to your report. (11 marks) 2. A commentary on any perceived going concern issues for My Essential Care Limited, with reference to each of the ratio areas, the other analysis, and the background information provided in the question. (5 marks) 3. The identification, and justification, of four key account areas or balances that could potentially be materially misstated and would require additional audit resources. (12 marks) 4. The identification and justification of two primary assertions for each of the accounts/areas in (c). (12 marks) PLANNING, ANALYTICS AND RISK ASSESSMENT Planning, Analytics and Risk Assessment Name Student Number Subject Code Assessment Number 1 PLANNING, ANALYTICS AND RISK ASSESSMENT Contents Planning, Analytics and Risk Assessment ...................................................................................... 3 Expenses ......................................................................................................................................... 3 Trend Analysis ................................................................................................................................ 6 Ratio Analysis ................................................................................................................................. 8 Solvency ratios .............................................................................................................................. 10 Going Concern Issues for My Essential Care Limited ................................................................. 11 Key Account Areas that could be Potentially Misstated .............................................................. 11 Primary Assertions for Account Classes....................................................................................... 12 Weaknesses in the Internal Controls for the Inventory System .................................................... 13 Procedures for Raw Materials ................................................................................................... 13 Procedures for Finished Goods Inventory................................................................................. 13 Master File Amendments .......................................................................................................... 13 Implications of weaknesses........................................................................................................... 14 Tests for the Inventory Management System ............................................................................... 14 Computer Assisted Audit Techniques (CAATs) for Valuation of Inventory ............................... 15 Tests to be Performed on Data Produced by CAATs ................................................................... 15 2 PLANNING, ANALYTICS AND RISK ASSESSMENT 3 Planning, Analytics and Risk Assessment Question 1 (1) My Care Essential group limited operates within diverse geographical regions and offers products and services within the personal care industry as well as animal care products. An analysis of the firm's financial statements indicates movements in the various line items for the two fiscal years under consideration. Expenses There was variation in the various classes of the firm's costs for the fiscal year 2017 and 2018 (Foster, 2004). The selling and administrative expenses increased by $40,167,000 while other costs also rose significantly by $239,591,000. The company's finance costs increased from (18576) to (20,487) an increase of $1,911,000. Given the movements in the revenues and expenses accounts of the firm, the profits were affected by results indicating the decrease in benefits by an enormous amount of $305,675,000. The earnings from discontinued operations in 2018 of $103,002,000 however from the amount of $12,756,000 in the fiscal year 2017 contributed to the reduction in the net loss by $197,364,000 from a net profit of 59,023,000 in 2017 to a net loss of $138,341,000. My Essential Care Limited Income statement For the year ended 30 June 2018 $’000 Revenue from continuing operations 2017 $’000 Movement 722,040 779,230 -57,190 Cost of goods sold Other income -382,657 13,931 -364,149 2,553 -18,508 11,378 Selling, general and administrative expenses -322,498 -282,331 -40,167 Other expenses Finance costs -271,809 -20,487 -72,385 -18,576 -199,424 -1,911 PLANNING, ANALYTICS AND RISK ASSESSMENT Share of net profit after-tax of associate accounted for using the equity method 4 147 0 147 (Loss)/profit before income tax Income tax benefit -261,333 19,991 44,342 1,925 -305,675 18,066 (Loss)/profit from continuing operations -241,342 46,267 -287,609 Profit from discontinued operation after income tax 103,002 12,756 90,246 (Loss)/profit for the year -138,341 59,023 -197,364 516 547 -31 -137,825 59,570 -197,395 Loss attributable to noncontrolling interests (Loss)/profit for the year attributable to the members of My Essential Care Limited Assets The firm’s current assets decreased by $4,966,000 from $454,427,000 in the fiscal year 2017 to $449,461,000 in 2018. The decrease resulted from the increase in cash and cash equivalents by $86,203,000, the decrease in the value of trade and other receivables by $64,670,000 as well as the reduction in the firm’s value of inventories by $94,438. Additionally, there was significant movement in the value of the current tax receivables as exhibited by an increase of $1,382,000 from 2017 to 2018 as well as the slight decrease of $113,000 in the value of other assets. My Essential Care Limited Consolidated balance sheet As at 30 June 2018 $’000 ASSETS Current assets Cash and cash equivalents Trade and other receivables 158,632 122,518 2017 $’000 Movement 72,429 187,188 86,203.00 (64,670.00) PLANNING, ANALYTICS AND RISK ASSESSMENT Inventories Current tax receivables Other Total current assets Non-current assets Receivables Investment accounted for using the equity method Property, plant and equipment Intangible assets Deferred tax assets Other Total non-current assets Total assets LIABILITIES Current liabilities Trade and other payables Borrowings Current tax liabilities Provisions Total current liabilities Non-current liabilities Borrowings Provisions and other payables Deferred tax liabilities Deferred payments Total non-current liabilities Total liabilities Net assets EQUITY Contributed equity Other reserves Retained profits Capital and reserves attributable to members of My Essential Care Limited Non-controlling interests 146,601 9,311 12,400 449,461 174,369 7,929 12,513 454,427 5,780 7,053 67,290 5 (27,768.00) 1,382.00 (113.00) (4,966.00) (1,273.00) 67,290.00 80,077 397,950 35,549 3,829 590,474 1,039,935 92,426 634,231 17,982 3,865 755,556 1,209,983 (12,349.00) (236,281.00) 17,567.00 (36.00) (165,082.00) (170,048.00) (11,904.00) 106,913.00 557.00 15,552.00 111,118.00 (473,368.00) 160,113 114,544 1,477 29,589 305,722 172,017 7,631 920 14,037 194,604 124,535 597,903 22,091 40,173 33,783 220,581 526,302 513,633 46,909 25,003 164,103 833,918 1,028,522 181,461 421,634 -81,993 174,645 339,475 -75,759 333,016 (24,818.00) 15,170.00 (130,320.00) (613,337.00) (502,220.00) 332,172.00 82,159.00 (6,234.00) (158,371.00) 514,286 -653 596,732 1,688 (82,446.00) (2,341.00) PLANNING, ANALYTICS AND RISK ASSESSMENT Total equity 513,633 598,419 6 (84,786.00) Trend Analysis The tables below indicate the trends of the various line items for My Care Essentials Group limited financial statements. In the firm's income statement, the most increased line item is the income tax benefits and the profits from discontinued operations while the element that decreased the most includes the firm's various loss/profit line items as a result of the changes in the revenues and expense items (White, Sondh, & Fried, 2005). In the balance sheet, the trend analysis indicates variations in the various line items with the cash and cash equivalents, borrowings, provisions and net assets showing upward trends while the long-term borrowings, deferred payments and net liabilities showing a downward trend. My Essential Care Limited Income statement For the year ended 30 June 2018 $’000 Revenue from continuing operations 2017 $’000 Trend (%) 722,040 779,230 -7 Cost of goods sold Other income -382,657 13,931 -364,149 2,553 5 446 Selling, general and administrative expenses -322,498 -282,331 14 Other expenses Finance costs -271,809 -20,487 -72,385 -18,576 276 10 147 0 0 (Loss)/profit before income tax Income tax benefit -261,333 19,991 44,342 1,925 -689 938 (Loss)/profit from continuing operations -241,342 46,267 -622 Share of net profit after-tax of associate accounted for using the equity method PLANNING, ANALYTICS AND RISK ASSESSMENT 7 Profit from discontinued operation after income tax 103,002 12,756 707 (Loss)/profit for the year -138,341 59,023 -334 516 547 -6 -137,825 59,570 -331 Loss attributable to noncontrolling interests (Loss)/profit for the year attributable to the members of My Essential Care Limited My Essential Care Limited Consolidated balance sheet As at 30 June 2018 $’000 ASSETS Current assets Cash and cash equivalents Trade and other receivables Inventories Current tax receivables Other Total current assets Non-current assets Receivables Investment accounted for using the equity method Property, plant and equipment Intangible assets Deferred tax assets Other Total non-current assets Total assets LIABILITIES Current liabilities Trade and other payables 2017 $’000 Trend (%) 158,632 122,518 146,601 9,311 12,400 449,461 72,429 187,188 174,369 7,929 12,513 454,427 119 -35 -16 17 -1 -1 5,780 7,053 -18 80,077 397,950 35,549 3,829 590,474 1,039,935 92,426 634,231 17,982 3,865 755,556 1,209,983 -13 -37 98 -1 -22 -14 160,113 172,017 -7 67,290 PLANNING, ANALYTICS AND RISK ASSESSMENT Borrowings Current tax liabilities Provisions Total current liabilities Non-current liabilities Borrowings Provisions and other payables Deferred tax liabilities Deferred payments Total non-current liabilities Total liabilities Net assets EQUITY Contributed equity Other reserves Retained profits Capital and reserves attributable to members of My Essential Care Limited Non-controlling interests Total equity 8 114,544 1,477 29,589 305,722 7,631 920 14,037 194,604 1401 61 111 57 124,535 597,903 -79 22,091 40,173 33,783 220,581 526,302 513,633 46,909 25,003 164,103 833,918 1,028,522 181,461 -53 61 -79 -74 -49 183 421,634 -81,993 174,645 339,475 -75,759 333,016 24 8 -48 514,286 -653 513,633 596,732 1,688 598,419 -14 -139 -14 Ratio Analysis Profitability Ratios are financial measures that are used to evaluate the ability of a firm to generate earnings concerning the associated expenses (Saleem & Rehman, 2011). The profitability ratios for My Care Essentials Limited include: Gross Profit Margin=Gross profit /Total Revenue Revenue from continuing operations Cost of goods sold Gross Profit Gross Profit Margin (Percentage) 2018 $’000 2017 $’000 2016 $’000 722,040 779,230 743,764 -382,657 339,383 -364,149 415,081 -337,767 405,997 47.00 53.27 54.59 PLANNING, ANALYTICS AND RISK ASSESSMENT 9 Operating Profit Margin= Operating income/Net sales 2018 $’000 2017 $’000 2016 $’000 (Loss)/profit before income tax -261,333 44,342 101,516 Revenue from continuing operations Operating Profit Margin (%) 722,040 -36.19 779,230 5.69 743,764 13.65 2017 $’000 59,023 1,209,983 4.88 2016 $’000 72,583 1,105,160 6.57 Return on Assets (ROA) = Net Income/ Net Assets (Loss)/profit for the year Total assets Return on Assets(Percentage) 2018 $’000 -138,341 1,039,935 -13.30 Return on Equity = Net Income /shareholders’ Equity (Loss)/profit for the year Contributed equity Return on Equity ( Percentage) 2018 $’000 -138,341 421,634 2017 $’000 59,023 339,475 2016 $’000 72,583 335,881 -32.8 17.4 21.6 Liquidity Ratios analyze the firm's ability to pay off both its short-term and long-term liabilities as they fall due. Quick ratio = (Current Assets – Inventory) / Current liabilities Total current assets Inventories Current Assets-Inventory Total current liabilities Quick Ratio 2018 $’000 449,461 146,601 302,860 305,722 0.99 2017 $’000 454,427 174,369 280,058 194,604 1.43 2016 $’000 439,343 120,200 319,143 177,390 1.79 PLANNING, ANALYTICS AND RISK ASSESSMENT 10 Current Ratio= Current Assets/ Current Liabilities Total current assets Total current liabilities Quick Ratio 2018 $’000 449,461 305,722 1.47 2017 $’000 454,427 194,604 2.34 2016 $’000 439,343 177,390 2.48 Solvency ratios The ratios measure the ability of a company to sustain its operations through a comparison of the debt levels with the assets, equity, and earnings. The rates indicate the firm's ability to pay off its long-term obligations. Debt to Equity Ratio = Total Liabilities/ Total shareholders’ Equity Total liabilities Contributed equity Debt to Equity Ratio 2018 $’000 526,302 421,634 1.25 2017 $’000 1,028,522 339,475 3.03 2016 $’000 496,370 335,881 1.48 $’000 339,475 1,209,983 0.28 $’000 335,881 1,105,160 0.30 2017 $’000 1,028,522 1,209,983 0.85 2016 $’000 496,370 1,105,160 0.45 Equity Ratio = Total Equity/Total Assets Contributed equity Total assets Equity Ratio $’000 421,634 1,039,935 0.41 Debt Ratio = Total Liabilities/Total Assets Total liabilities Total assets Equity Ratio 2018 $’000 526,302 1,039,935 0.51 PLANNING, ANALYTICS AND RISK ASSESSMENT Question 1 (2) Going Concern Issues for My Essential Care Limited For the financial statements of My Essential Care Limited, it is expected that the firm will continue its operations into the future given that there is no distress in its operations currently. Although the profitability of the firm has declined over the period of analysis, the firm is still capable of paying its long and short-term obligations without having to sell its existing assets. Additionally, the goodwill and other intangible assets of the firm have been impaired significantly indicating the possibility that the firm may be facing financial distress in the future if the current trend continues (Venuti, 2004). The firm may only meet challenges as regards the going concern principle when it has recorded negative trends in the operating results, has defaulted on its loans, and cannot access trade credit from suppliers or faces legal proceedings as well as being faced with uneconomical long-term commitments. Question 1 (3) Key Account Areas that could be potentially misstated The classes of accounts that are likely to be misted in the firm’s financial statements are as follows; Accounts payable and provisions: In this class of reports, there is an inherent risk involving judgment in the decision regarding the provisions made as well as the possibility of the absence of occurrence of such transactions in overall. Expenses: This class of accounts is associated with an inherent risk right from occurrence to the recording of the transactions in the firm’s financial records. There is a risk that not all the expenses incurred in the course of the day to day operations of a firm may be omitted from the records or may be misstated in the financial statements to present an appealing image of the firm to the users of financial statements (Ruhnke & Schmidt, 2014). Related Party Transactions: The transactions and business deals between related parties such as subsidiaries and parent companies are likely to be misstated in the financial statements of a company. This is so because the transactions are within the business itself and may be recorded at discounted, or higher values altogether (Rezaee, 2005). Additionally, the operation may be manipulated to project a particular image of the financial position of a firm that is not representative of the true state of affairs. 11 PLANNING, ANALYTICS AND RISK ASSESSMENT Inventory: The risk associated with the material misstatement of the value of a firm's stock is high. The method adopted for inventory valuation of a firm's stock is associated with the inherent risk of the misstatement of the value of inventory in the firm's financial reports. Question 1 (4) Primary Assertions for Account Classes Accounts payable and Provisions Completeness: Allows for the checking of records to ensure that the firm records all the reports payable and adequately states the amounts owed accurately. The accounts payable ledger should be reconciled with the payables control account that presents a summary of the accounting. Cutoff: The assertion criterion analyzes the recording of the payable transactions that occur a few days before and after the balance sheet dates. The assertion technique ensures that transactions are recorded in the correct periods within which the deals took place. Expenses Occurrence: The assertion criteria indicate that the recorded costs were incurred during the current financial year for the transaction of the business unit. Completeness: The assertion indicates the complete recording of the transactions and events that occurred in the course of the day to day operations of the firm. Related party transactions: Occurrence: The assertion means that all the transactions with related parties have been disclosed in the notes to the financial statements and such operations have occurred during the period and relate to the entity being audited. Completeness: Indicates that all the related parties, the transactions between these parties and the balances are adequately disclosed in the notes of the financial statements of a firm. Inventory Existence: The assertion criterion indicates that the stock recognized and recorded in the financial statements of the firm actually exists at the period end. Rights and Obligations: Indicates that the audit entity controls or owns the inventory recognized in the firm's financial statements. The assertion also means that any inventory held by the firm on behalf of another entity has not been recorded as part of the stock of the audit firm (Messier, Glover, & Prawitt, 2008). 12 PLANNING, ANALYTICS AND RISK ASSESSMENT Question 2 (1) Weaknesses in the Internal Controls for the Inventory System Procedures for Raw Materials Weaknesses exist regarding the filing of the purchase orders for new inventory as per the dates. Follow-up of the records may not reveal the missing purchase orders. Instead, the purchase orders should be created serially and filed in adherence to the serial numbers to allow for ease in follow up of records. Tracking: The process for tracking raw material once received on the firm's premises is missing. A system should be put in place to monitor the movement of inventory from the company's premises to the manufacture and launch of the finished product to ensure accountability for the raw materials acquired by the firm (Zhang, Zhou, & Zhou, 2007). Procedures for Finished Goods Inventory Lack of audit of the finished goods inventory by an individual independent of the stores' personnel to determine any variances between the fished goods received and the physical list available in the stores. Additionally, the inventory system does not provide for the regular review of the minimum and maximum inventory levels to ensure the adequacy of the inventory. The internal control measures available do not adequately provide for proper authorization procedures for the acquisition of new inventory based on the existing levels in the firm’s warehouses. Master File Amendments A weakness exists in the procedure of amendment to the master file controlled only by the production controller. Provisions should be put in place to allow for supervision and control of another individual either within or outside the production unit. Additionally, there should be a segregation of duties between the amendment of the master files and the filing of the changes in the firm's records. 13 PLANNING, ANALYTICS AND RISK ASSESSMENT Master file changes are made by the production controller for both raw materials and finished goods inventory. A master file amendment form is completed by the production controller and filed as a record of the changes made. Question 2 (2) Implications of weaknesses • The use of an inadequate filing and documentation system with regards to the acquisition of raw materials leads to the lack of an audit trail as regards the raw materials available in the firm. Poor documentation makes it hard for ease in tracing of records associated with the contents. • Lack of proper authorization procedures may expose the firm to frauds when the same person handles all the processes related to the acquisition and accounting for raw materials. • The lack of independent audits by staff independent of the stores' personnel may lead to laxity and poor management of inventory in the firm hence reduced profitability. • Lack of proper authorization procedures in the management of finished goods in the firm's warehouses exposes the company to the risk of fraud and losses related to the collusion between employees to defraud the firm through improper management of stocks (Doyle, Ge, & McVay, 2007). • The responsibility of master files amendment falling on the production controller in its entirety may expose the firm to risks in the case that the controller is not diligent in the performance of his/her duties. Additionally, lack of segregation of duties exposes the company to the risk of frauds by the production controller in cooperation with other employees within the department. Question 2 (3) Tests for the Inventory Management System The auditor may carry out the following tests regarding the current inventory control system for MyPet Limited: • Observation and inquiries with regards to the performance of the various functions in the production department to assess the levels of segregation of duties. 14 PLANNING, ANALYTICS AND RISK ASSESSMENT • Observation and inquiries in the use of pre-numbered documents as well as an inspection of evidence of accounting for the sequence established in the filing of the firm's records. • The auditor can also make inquiries as well as observe the purchase procedures of the raw materials and finished goods as well as carrying out a test on a sample of transactions through the inspection of evidence of reconciliations and authorizations. The auditor can compare their samples to the purchase orders as well as the receiving reports. He/she may also recompute the invoice amounts to determine the effectiveness of the existing internal control of the inventory management system. Question 2 (4) Computer Assisted Audit Techniques (CAATs) for Valuation of Inventory The Computer Assisted Audit Techniques that may be applied in the valuation of MyPet's inventory includes: • The calculation of the inventory days for the year-to-date for use in comparison against the stock held by the firm in the previous year to assess the rates of inventory turnover and the related value attached to the firm's inventory (Braun & Davis, 2003). • CAATs can also be used in the production of an aged analysis of the existing inventory to identify the movement of goods and also assist in the determination of the current value of the existing stock. • The CAATs procedures are also helpful in the identification of cut-offs by an assessment of the GRNs and the GDNs related to the end of year adjustments. The process allows for the recognition and valuation of inventory in the correct period for the firm's financial statements. Question 2 (5) Tests to be Performed on Data Produced by CAATs • Mathematical computation of the dollar value of every inventory item in the company arrived at by multiplying the cost per unit of the item by the quantity of the particular item of inventory (Braun & Davis, 2003). The value of the stock is achieved by adding the cost obtained to the extended dollar values of each of the product counted. 15 PLANNING, ANALYTICS AND RISK ASSESSMENT • Another test is the comparison of the total extended values of the inventory items counted or sampled for assessment as well as the extended amounts of the numbered items to the records of inventory in the system. 16 PLANNING, ANALYTICS AND RISK ASSESSMENT References Braun, R. L., & Davis, H. E. (2003). Computer-assisted audit tools and techniques: analysis and perspectives. Managerial Auditing Journal, 18(9), 725-731. Doyle, J., Ge, W., & McVay, S. (2007). Determinants of weaknesses in internal control over financial reporting. Journal of accounting and Economics, 44(1-2), 193-223. Foster, G. (2004). Financial Statement Analysis, 2/e. Pearson Education India. Messier, W. F., Glover, S. M., & Prawitt, D. F. (2008). Auditing & assurance services: A systematic approach. Boston, MA: McGraw-Hill Irwin. Rezaee, Z. (2005). Causes, consequences, and deterence of financial statement fraud. Critical Perspectives on Accounting, 16(3), 277-298. Ruhnke, K., & Schmidt, M. (2014). Misstatements in financial statements: The relationship between inherent and control risk factors and audit adjustments. Auditing: A Journal of Practice & Theory, 33(4), 247-269. Saleem, Q., & Rehman, R. U. (2011). Impacts of liquidity ratios on profitability. Interdisciplinary Journal of Research in Business, 1(7), 95-98. Venuti, E. K. (2004). The going-concern assumption revisited: Assessing a company's future viability. The CPA journal, 74(5), 40. White, G. L., Sondh, A. C., & Fried, D. (2005). Analysis of Financial Statement. Analysis. Zhang, Y., Zhou, J., & Zhou, N. (2007). Audit committee quality, auditor independence, and internal control weaknesses. Journal of accounting and public policy, 26(3), 300-327. 17
Purchase answer to see full attachment