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Planning Materiality

The present company cloud 9 lays emphasis on revenue in determining the planning materiality. This approach has been considered the best approach for an auditor while panning audit of a particular entity. The overall process of audit can be planned on the basis of revenue of the company. The reason why this approach has been appreciated from other approaches is following:

  • It is possible that the company could not generate appropriate profit in any particular year due to some circumstances but revenue has increased substantially. Same case happens with the company cloud 9 as the company has incurred loss as represented through financial statements of year ended 31st December 2011. Company has increased its revenue from previous year therefore it can be the basis for planning materiality by the auditor.
  • While evaluating materiality of the company the data required for taking decision will be the revenue for the complete year. Therefore complete data should be provided for the complete year revenue (Zuber, et. al., 1983).
  • The overall approach should be followed which will include revenue from different areas such as wholesale, retail and other incentives from the financial statements for the year ended 31st December 2011. While planning materiality it is very important to lay emphasis on past year’s data of the company.
  • As the company needs to show the overall performance to its stakeholders for the year ended in its annual meeting it is very important that the auditor should laid emphasis on the overall approach while planning materiality during audit. This will provide the information to the stakeholders on the overall performance of the company.
  • It is better in planning materiality on the basis of revenue as it will provide the overall performance of the company from the financial statement for the year ended 31st December 2011. This will form the appropriate basis in judging the materiality concept for the auditor as well as the stakeholders of the company.

In the present case company cloud 9 is the manufacturer as well as retailer dealing in customized basketball shoes. The company is listed on the stock exchange and is fulfilling all the obligations which are required for any listed company. Company cloud 9 has set the goal to increase the revenue by 3 percent and it has successfully achieved its goal through increasing its share in Australian footwear market. Due to opening of new stores in order to generate more revenue has lead to incur loss for the financial year otherwise company must have generated appropriate profit.  Due to increase in loan $2 million in the financial year profit has been decreased due to regular repayment of loan over five financial years. It is necessary for the company to manage revenue appropriately to repay the loan properly. The vulnerability of high risk can be set by the management to an overall rate at 4%. The expected risk should be evaluated and should be segregated as per the degree of vulnerability and degree of occurrence to the organization (Emil, et. al., 2010).

The management of cloud 9 company group while observing the financial analysis statements is presently comparing the present financial performance with the past year financial data. This is to discover the financial and solvency soundness of the business organsiation (Raju, 2012). The cloud 9 has further option to compare the financial information with other groups trading in the similar industry. The below mentioned table showcase the financial efficiency of the business organsiation while measuring the business organsiation long term solvency and the profitability of the business organsiation.

Current Ratio

30 September 2011

31 December 2010

Current Assets

 $              22,303,997

 $             23,459,330

Current liabilities

 $              10,483,051

 $             17,050,817

Current Ratio

 $                          2.13

 $                          1.38

Quick Ratio

30 September 2011

31 December 2010

Current Assets

 $              22,303,997

 $             23,459,330

Less: Inventory

 $              (5,924,136)

 $             (6,263,242)

Less: Prepayments

 $              (1,112,028)

 $                (666,054)

Quick Assets

 $              15,267,833

 $             16,530,034

Current liabilities

 $              10,483,051

 $             17,050,817

Quick Ratio

1.46

0.97

Debt - Equity ratio = Total Debt / Total equity

2.41 : 1

0.30 : 1

While making the above analysis it has been observed that these proportionary analyses showcase the overall potential of the business firm. As observing the above financial proportionary analysis it has been observed that the condition of the business group has been improved over the period of time (Joldo?, et.al., 2010) . There has been substantial improvement witnessed in terms of solvency position of the Cloud 9 group. It shows that the capacity of the business group to meet out its current obligations has been improved. In the general scenario if the current assets can pay out the current liability on timely basis then the overall liquidity position is seemed satisfactory. The risk of the business can be reduced and the business firm is confident enough to raise funds as and when required. This is due to fact external parties like bankers, credits check for the liquidity position while making risk assessment analysis of the group before advancing of the credit. This group will extend the credit only if they are sure about the fact that the current asset or quick assets are sufficient enough to meet out the current liabilities. The solvency ratio in the present scenario while comparing the last year figures has shown the fact that not only these ratios are displaying the favorable position but also fulfilling the requirement of the relevant industry in which the firm is trading out (Tugas, 2012).

Financial Statement Analysis

Debt equity as a part of solvency ratio of the group it has been analyzed that the long term solvency position of the group has been improved. From 2.41:1 the ratio has been improved to 0.30: 1. But too much of including the content of equity in the overall capital structure portfolio of Cloud 9 group enhances its overall cost of capital. Company has paid up major position of its long term debt out of its current year profitability. This also ensures margin of safety for long term creditors.

Common size statement and audit implication of auditor

 

Balance Sheet

 

30 September 2011

% of Total Assets

31 December 2010

% of Total Assets

Current Assets

Cash

 $                    245,965

1%

 $               1,753,765

7%

Trade Receivables

 $              10,499,174

44%

 $             10,701,064

44%

Inventories

 $                 5,924,136

25%

 $               6,263,242

25%

Financial Assets

 $                 3,987,453

17%

 $               4,075,205

17%

Prepayments

 $                 1,112,028

5%

 $                   666,054

3%

other assets

 $                    535,241

2%

Total Current Assets

 $              22,303,997

93%

 $             23,459,330

95%

Non-current assets

Property, plant and equipment

 $                 1,449,330

6%

 $                   852,965

3%

Deferred Assets

 $                    346,949

1%

 $                   277,559

1%

Total Non-current assets

 $                 1,796,279

7%

 $               1,130,524

5%

Total assets

 $              24,100,276

100%

 $             24,589,854

100%

Current liabilities

Payables

 $              10,023,185

42%

 $               8,413,818

34%

Interest bearing liabilities

 $               8,240,091

34%

Current tax liabilities

 $                    159,866

1%

 $                   207,893

1%

Provisions

 $                    300,000

1%

 $                   189,015

1%

Total current liabilities

 $              10,483,051

43%

 $             17,050,817

69%

Non-current liabilities

Deferred tax liabilities

 $                    198,647

1%

 $                   170,284

1%

Loan

 $                 9,021,836

37%

Interest bearing liabilities

 $               1,500,000

6%

Provisions

 $                    401,658

2%

 $                     79,567

0%

Total non-current liabilities

 $                 9,622,141

40%

 $               1,749,851

7%

Total liabilities

 $              20,105,192

83%

 $             18,800,668

76%

Net Assets

 $                 3,995,084

17%

 $               5,789,186

24%

Stockholders' equity

Issued Capital

 $                 5,448,026

23%

 $               5,448,026

22%

Reserves

 $                  (247,638)

-1%

 $                (259,498)

-1%

Accumulated Losses

 $              (1,205,304)

-5%

 $                   600,658

2%

Total stockholders' equity

 $                 3,995,084

17%

 $               5,789,186

24%

On reviewing the above comparative financial statement auditor of Cloud 9 groups commented on too much of infuse of money towards the working capital of the organisation through short term asset route. Company has financed this by the last year profitability and decreasing the share of long term asset out of total asset share (Masoud & Badugu, 2015). Auditor is worried about this act of the company as it is difficult to assess the accuracy of current asset as compared to the fixed asset proportion. Infusing too much of wealth in working capital while selling of the fixed asset is a risk venture. As per the discretion of the stakeholders of Cloud 9 group auditors apart from the normal seeking of accuracy of financial statements they must be cautious in the following areas –

  • Although external auditor is appointed by the management they should be still not biased with the organsiation and give any favor to the internal management.
  • Follow up all the relevant guidelines as per the compliance requirement of particular law of the land.
  • The auditor must not omit any material requirement which is needed to be addressed along with the auditor’s report.
  • All the unusual and exceptional events which might impact the going concern of the business group must be reported separately with full disclosures.
  • It is the duty of the auditor to consider materiality as the basic concept in the overall process of the auditing. All the items are needed to be disclosed which might influence the decision of the stakeholders associated with the group (McKee & Eilifsen, 2000).

Comments on the common-size statement and as well as your preliminary estimate of materiality

To,

Suzie Pickering

Memorandum defining the problems that are needed to be disclosed while reporting on the overall financial statements of group company cloud 9

The financial statements and profitability statements of the company provided by the management depict true & and fair view. There are certain areas which need to be emphasized in reporting on the overall performance of the company. These issues are important and need to be taken care of while performing audit procedures. Some of the issues are reported below which are required to be considered by the management:

  • Company has considered revenue as the basis for measuring performance of the company as there has been subsequent expenditure during the financial year which has lead to incurring loss during the financial year. This aspect should be considered appropriately and the relevance should be checked on the basis of other relevant factors accordingly.
  • It has been seen that there is deficiency in compliance requirement as per the standards that are to be adhered compulsorily which are requiring urgent attention of the management as theses can lead to penal liability and other repercussions.
  • It can be seen that there is deficiency in proper presentation of the financial statement of the company. It can also be expected of management and employees indulging in fraud in presentation of financial statements.
  • While comparing the financial statement from the previous financial year it can be seen that the necessary expenses such rent, telephone expenses have been decreased in spite of increase in revenue in the current financial year. It can also be seen that there is decrease in the proportion of fixed assets by the company. There has been significant increase in current liability from the previous financial year. Appropriate reasons need to be ascertained from the management with appropriate evidence in support of the issue.

Overall we can say that the performance of the company has been improved from the previous financial year. Although profit could not be earned but there has been increase in revenue from the previous year which shows good performance by the company. Company is appropriately following the relevant accounting standards and policies. The ratios concluded from the financial statements are showing high performance and there are good sign for liquidity and solvency of the company. As all the assets are shown at their historic values therefore it can be seen that the company is duly fulfilling going concern assumption. Necessary steps have been taken to check the reason behind the changes in accounting policies followed by the company during the financial year. It is also very important that the company should adhere to every legal requirement applicable to the company during the financial year. This also includes adherence to the standards and procedures related to the financial statements and the internal control system of the organization.

Company has to work within the ethical and legal requirements and these requirements should be fulfilled while reporting on the overall performance of the company in the financial statements.

References

Emil, P.I., Ancuta, S.G. and Timea, F.M., 2010, “Qualitative factors of materiality-a review of empirical research”,Annales Universitatis Apulensis: Series Oeconomica. Available at - https://www.oeconomica.uab.ro/upload/lucrari/1220101/27.pdf
Joldo?, A.M., Stanciu, I.C. and Grejdan, G., 2010, “Pillars Of The Audit Activity: Materiality And Audit Risk”,OF THE UNIVERSITY OF PETRO?ANI~ ECONOMICS. Available at - https://upet.ro/annals/economics/pdf/2010/20100221.pdf
Tugas, F.C., 2012, “A Comparative Analysis of the Financial Ratios of Listed Firms Belonging to the Education Subsector in the Philippines for the Years 2009-2011”,International Journal of Business and Social Science. Available at -

https://ijbssnet.com/journals/Vol_3_No_21_November_2012/19.pdf
Masoud, U.M.A. and Badugu, D., 2015. Financial Statement Analysis of National Bank for Agriculture and Rural Development (NABARD). J. of Multidisciplinary and Current research. Available at - https://ijmcr.com/wp-content/uploads/2015/02/Paper11-55-60.pdf
Raju, S., 2012.Comparing and Analyzing Financial Statements to Make an Investment Decision. M(Doctoral dissertation, thesis). Available at - https://citeseerx.ist.psu.edu/viewdoc/download?doi=10.1.1.840.7999&rep=rep1&type=pdf
McKee, T.E. and Eilifsen, A., 2000. Current materiality guidance for auditors. Available at -

https://brage.bibsys.no/xmlui/bitstream/handle/11250/166032/A51_00.pdf?sequence=1
Zuber, G.R., Elliott, R.K., Kinney Jr, W.R. and Leisenring, J.J., 1983. Using materiality in audit planning. A practical way to relate the auditor's materiality estimate to the design of audit procedures.Journal of Accountancy. Available at -

https://raw.rutgers.edu/docs/Elliott/28usingmater.pdf

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