analytical procedures and substantive


Analytical procedures and Substantive Testing 

Below are the financial statements and additional information for Tehran Ltd.

Balance Sheet

 

 

30/06/2012

30/06/2011

 

 

                $'000

                $'000

 

 

 

 

Current Assets

 

 

 

Cash

 

58

73

Receivables

 

4579

3928

Inventories

 

3624

2047

Total Current Assets

8261

6048

Non Current Assets

 

 

Property Plant & Equipment

28763

29417

Receivables

 

2000

2000

Total Non Current Assets

30763

31417

Total Assets

 

39024

37465

 

 

 

 

Current Liabilities

 

 

 

Bank Loan - Secured

5000

7500

Accounts Payable

 

2500

2473

Provisions

 

643

610

Total Current Liabilities

8143

10583

Non Current Liabilities

 

 

Bank Loan - Secured

22000

20000

Provisions

 

547

510

Total Non Current Liabilities

22547

20510

Total Liabilities

 

30690

31093

 

 

 

 

Net Assets

 

8334

6372

 

 

 

 

Shareholders Equity

 

 

Share Capital

 

5000

5000

Retained Profits

 

3334

1372

Total Shareholders Equity

8334

6372

 

 

 

 

 

 

 

 

Income Statement

 

 

 

 

30/06/2012

30/06/2011

 

 

$'000

$'000

 

 

 

 

Revenue

 

20007

19943

COGS

 

13305

15428

Gross Profit

 

6702

4515

Operating Expenses

3486

3047

Net Profit Before Tax

3216

1468

Tax

 

1254

572

Net Profit After Tax

1962

896

Retained Profits: Beginning

1372

476

Retained Profits: End

3334

1372

Tehran Ltd manufactures carpets. Approximately 80% of the company's sales arise as a result of exports. When Tehran sells abroad the customers are billed in the currency of that country.

The main raw material used by Tehran is wool, which is purchased locally in Australia. You have been informed that the company's profitability has improved due to a recent slump in wool prices.

With the exception of the managing director, Hank Largow, all of the management of Tehran are from Australia. Hank is on a five year contract which was put in place by Tehrans' US parent company. Hank has a reputation for delivering results from subsidiaries which have not performed well in the past. Hank does not much like Australia and has every intention of returning to the US when his contract is finished. The US parent company was dissatisfied with the company's 2011 performance and has paid close attention to the company's performance in 2012.

The company operates a standard costing system and the finished goods inventory is valued at standard cost. Raw materials are valued at actual invoiced cost. No work in progress exists at year end. During 2012, production has been increased by 10% compared to 2011 levels. His has resulted in favourable absorption variances which have contributed to the improved profitability during 2012.

Tests on the compnay's inventory and debtors controls in prior years have shown the systems to be reliable. The systems are capable of producing reports on the ageing of inventory and debtors and the sales history of individual profit lines.

Approximately 80% of the company's receivables are overseas customers and the debt is denominated in foreign currency. Most of these customers are on 60 day credit terms.

Midway through the year a new financial controller, Mr Pink, was appointed after the previous financial controller resigned. Mr Pink has informed you that a number of customers have complained about the quality of Tehran's products.

The property plant and equipment account is broken down as follows:

Property - factory building                                        27,000,000

Plant & Equipment (including vehicles)                        1,763,000

                                                                              28,763,000

Additions and disposals of fixed assets have not been substantial during 2012. The factory itself was acquired 6 years ago and since that time no independent valuation has been carried out. Hank has assured you that the current market value of the company is not less than $27,000,000.

The bank loans are secured by a fixed charge over the company's buildings. A loan repayment of $5 million due on 30th November 2012 was reduced to $500,000. Hank has stated that this was done with the agreement of the bank and that the bank is comfortable with the company's performance. Hank also pointed out that the company has made all of its interest payments on time.

The non-current receivable is an export market development grant from the federal government.

In prior years no serious differences between the auditors and the management have arisen. The audit has always been completed on time with an unqualified opinion issued.

Required:

a) Calculate the following ratios: Gross Margin, Net Profit Ratio, Return on total assets, Current Ratio, Quick Ratio, Inventory Turnover, Accounts Receivable turnover, Debt to Equity Ratio (NB, for inventory turnover and accounts receivable turnover, assume the balances for 2010 are the same as 2011).

b) Making reference to the ratios you calculated in part a) and the additional information provided, describe what you consider to be the risk factors that will impact on the audit of receivables and inventory.

c) What other risk factors (aside from those related to receivables and inventory) do you think will impact on the audit?

d) In respect to the accounts of Inventory, Accounts Receivable and Land and Buildings, outline the substantive procedures you would perform. (In your answer you will need to identify the audit assertion(s) most at risk for each of these accounts).

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