About Auditing and Assurance , how to justifying the materiality ?

Prepare a report for the audit manager Sharon Gallagher of W&S Partners with the following requirements:

• Using the 30 September 2014 trial balance (in the appendix of the text p. 471), calculate the planning materiality using total revenues as the basis and provide two reasons justifying the use of total revenues as the basis for your calculation.

• As a part of the risk assessment phase of the audit of Cloud 9 the audit team has gained an understanding of Cloud 9’s structure and business environment. From researching the retail and wholesale footwear industry a number of inherent risks have been documented and recorded in the additional information provided with the assignment. In your report include the documented risks and description with an additional heading “Risk Assessment”. Under this heading for each of the inherent risks documented consider Cloud 9’s operations with reference to the information provided in the case study and identify the associated financial accounts that would be affected. For each of the financial accounts identified provide an assessment of ‘high’, ‘medium’, or ‘low’ in relation to the likelihood and materiality of the risk occurring in respect of Cloud 9 with reasons for your assessment and identify the relevant ‘assertion/s’ which could be affected.

• In undertaking the risk assessment of Cloud 9 the analytical procedure of ratio analysis has been completed and documented in the additional information provided with the assignment. Discuss the results of the analytical procedures outlining potential problem areas (that is, where possible material misstatements in the financial reports exist) and any other special concerns (for example, going concern). Specify the account balances and related assertions that would require particular attention in the audit.

• Include a final conclusion recommending the areas of audit focus based on the risk assessment processes undertaken in the previous sections.

Additional Information

The following inherent risks have been identified in respect of Cloud 9:

Growth of revenues given industry outlook and management incentive

Risk Description

Consumer discretionary spending is low and expected to grow by only 2% for the year. Management receive bonuses based on revenue targets, which was set at 3%. General economic conditions will also impact retail businesses with their recoverability of debt and the valuation of assets.

Risk Assessment

……..

Use of IT for inventory management system

Risk Description

Retail businesses are reliant on a smooth supply chain process. Where a business uses products with a long lead time, there is significant pressure to ensure that the correct type and quantity of stock is ordered to meet the requirements of customers.

Level of competition

Risk Description

Most sectors of retailing are relatively mature and continue to compete on the traditional basis of price, brand strength and level of market power. Price remains important in most high volume areas of retailing.

Merchandise cycle and fashion trends

Risk Description

Rapidly changing fashion trends can result in obsolete stock.

Misappropriation of stock and cash

Risk Description

Retail business selling highly desirable and moveable products will be exposed to a risk of theft. In addition, employees handling cash at store locations increase the risk of theft of cash.

Rebates/Discounts to retailers

Risk Description

For the wholesale business, there is significant pressure from retailers to receive generous rebates or volume discounts. Retailers are heavily influenced by landlords and consumers; therefore they control their profits through the supply chain, thus impacting the wholesaler.

Ratio Analysis

(treating all provisions as CL and all interest bearing liabilities as NCL)
(annualising all P&L items)
(averages used for current year only - not available for previous year)
Liquidity ratios						2015	2014
Current ratio	CA/CL					2.05	2.64
Quick ratio	Liquid assets/CL				0.99	1.40
Inventory turnover	COS/Ave Inventory				2.81	2.62
Accounts receivable	Credit sales/Ave Receivables			3.50	5.43
Solvency ratios
Debt to equity	Liabilities/equity				5.03	3.25
Times interest earned	Op profit bf interest and tax/interest expense	-0.91	2.91
Profitability ratios
Gross profit ratio	Gross profit/sales				0.54	0.52
Net profit ratio	Net profit/sales				-0.06	0.03
ROA		Net profit/ave total assets			-0.10	0.04
Return on Shareholder funds	Net profit/ave common shareholders equity	-0.49	0.18