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Financial Reports

Question

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You are the auditor of Globe Ltd, a manufacturer of colour printers. You have closely scrutinised the financial reports of the company and are concerned about its 'going concern status'. You have calculated various ratios which are provided below.

 

 

2009

2010

2011

2012

Net Profit Ratio

-0.76%

 -8.2%

-7.1%

-12%

Gross Profit Ratio

11.5%

10.7%

13.1%

12.1%

Current Ratio

0.84:1

0.7:1

0.71:1

0.71:1

Quick Asset ratio

0.39:1

0.33:1

0.35:1

0.38:1

Debt to total assets ratio

66%

92%

96%

98%

Inventory Turnover

4.47

4.50

4.44

4.16

Receivables turnover

5.50

5.54

5.32

4.14

 

 


In an attempt to expand into overseas markets, Globe automated a lot of its operations in 2010 with the purchase of some highly sophisticated plant and machinery. The new plant and machinery was largely financed with a secured variable loan of $50,000 and a bank overdraft facility.

 

The company purchases the component parts that make up the printers from a variety of local and overseas suppliers. The company has plans to broaden its sales base to both local and overseas markets (currently 85% of its sales are to one discount chain store). This broadening of the company's sales base revolves around the development and production of a state of the art printer that will be tailored to meet the needs of the top end of the market. The new printer however will require a significant amount of money that the directors hope will come via a new public issue of shares and promises of loans and other forms of assistance from business acquaintances of the CEO, Mr. Beam Laser.

 

Required:

a) Explain why analytical procedures are performed at the planning stage of an audit.  

b) With reference to the ratios and the other information provided explain what the results of your calculations indicate for Globe Ltd’s going concern.

c) Making reference to relevant audit standards, what other audit techniques could the auditor use to indicate whether Globe Ltd has a going concern problem?

 

 

Question 2

20 marks

 

Swiss Industries manufactures and sells small tools, including screwdrivers, hammers and spanners, with the sales made to retailers. Swiss has a diverse collection of regular customers and most sales are conducted via telephone to these customers. Additional sales are also made through on-line orders made by sales representatives who sign up new customers within the sales area. Traditionally, Swiss Industries has had problems collecting payments from credit sales on time. While the sales representatives have been told not to make sales until creditworthiness has been verified, sales continue to be made to new customers before their limits have been set and to existing sales beyond their credit limit. Also, the recent economic downturn has begun to impact on customers and Swiss’ management is concerned about the possibility of increasing bad debts.

 

Required:

a) What account area is most at risk given the information provided? What assertion is most at risk? Justify your answer.

b) What sort of preventative control could be used to deal with the problems faced by Swiss Industries? Explain how this control could work.

c) Assume your preventative control is implemented. During this year there have been no sales to customers that have taken any customers beyond their credit limit. What are two possible explanations for this that the auditor must consider?

d) If an auditor finds that two sales transactions during the year that are in excess of a customer’s credit limit at the time of the sale, what conclusion would the auditor draw from this evidence? What other evidence could the auditor consider before concluding that the preventative control has failed?

 

Question 3

20 marks

 

You are the responsible for the audit of Johnny Limited, a software retailer. While assessing the risk of material misstatement and determining the appropriate response with regard to the inventory of Johnny Limited for the June 30 2014 audit, you become aware of the following circumstances:

1. The best-selling computer presentation package has been experiencing a high level of returns owing to suspected software problems.

2. Based on closing inventory, inventory turned over an average of 5.43 times in 2013 and 4.27 in 2014.

3. Johnny Computing moved its inventory from a central warehouse to five new regional warehouses in March 2013.

4. Inventory represented 21% of sales in 2014 and 20% of sales in 2013.

5. Johnny Computing has recently won a tender to supply a large government department with various products. In order to win the tender and prevent competitors from gaining a foothold in the public sector market, Johnny Computing agreed to supply the items at 10% below cost price. The products are expected to be delivered to Johnny Computing prior to year end, with the first shipment due to be delivered to the government department in the middle of July 2014.

 

Required:

a) Considering the information provided, determine two main assertions at risk in the relation to inventory. Justify your answer

b) Recommend two substantive audit procedures you could perform in response to each risk identified above.

 

 

Question 4

25 marks

 

Hyrdomont Pty Ltd is a resort company based on the Great Barrier Reef. Its operations include boating, surfing and other leisure activities, a backpacker hostel, a family hotel and a five star resort. Jimmy and Diana Windsor own a majority of the shares in the Windsor Group, which controls Hydromont. Jimmy is the chairman of the board of directors of both Hydromont and Windsor Group, and Diana is a director of both companies as well as the CFO of Hydromont.

 

In February 2015, Jimmy Windor approached your audit firm to carry out the Hydromont audit for the year ended 30 June 2015. Hydromont has not been audited before but this year the audit has been requested by the company’s bank.

 

Hydomont employs 32 full time staff. These workers are employed in administration, accounting, catering, cleaning and hotel/restaurant duties. During peak periods, Hydromont also uses part-time and casual employees. These employees tend to be travellers visiting the area who are looking for short-term work to help pay for their travelling costs.

 

Jimmy and Diana have a fairly laid back management style. They trust their employees to work hard for the company and reward them well. The accounts staff, in particular, are very loyal to the company. Jimmy tells you that some accounts staff enjoy their jobs so much they have never taken any annual leave, and hardly any workers ever take sick leave.

 

There are three people currently employed as accounts staff, the most senior of which is Paul Needle. Paul heads the accounts department and reports directly to Diana. He is in his fifties and plans to retire in three or four years. Paul prides himself on his ability to delegate most of is work to his two accounts staff, Kathy and Jenny. Paul claims he has to do this because he very busy developing a policy and procedures manual for the accounting department. The delegated work includes opening mail, processing payments and receipts, banking funds received, performing reconciliations, posting to journals and performing the payroll function. Jenny is a recent CPA graduate. Kathy works part-time, coming into the office on Mondays, Thursdays and Fridays. Kathy is responsible for posting all journal entries into the accounting system and the payroll function. Jenny does the balance of the work but they often help each other during busy periods.

 

The effects of climate change and mining on the Great Barrier Reef have been investigated by a Royal Commission. The Royal Commission’s report reveals that various environmental impacts are likely to cause increasing damage to the coral reefs over the next 10 years.

 

Required

a) What factors in the background information would you consider when determining overall audit risk for the 2015 audit of Hydromont. In your answer you should identify factors as either being an inherent or control risk.

b) How would the effect of the factors identified in part a) impact on your overall audit strategy? (hint: In your answer you will need to make reference to the broad types of audit procedures you would employ).

 

 

Financial Reports

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