Question

Marilyn Terrill is the senior auditor for the audit of Uden Supply Company for the year ended December 31, 20X4. In planning the audit, Marilyn is attempting to develop expectations for planning analytical procedures based on the financial information for prior years and her knowledge of the business and the industry, including these:

1. Based on economic conditions, she believes that the increase in sales for the current year should approximate the historical trend.
2. Based on her knowledge of industry trends, she believes that the gross profit percentage for 20X4 should be about 2 percent less than the percentage for 20X3.
3. Based on her knowledge of regulations, she is aware that the effective tax rate for the company for 20X4 has been reduced by 5 percent from that in 20X3.
4. Based on a review of the general ledger, she determined that average depreciable assets have increased by 10 percent. Purchases of equipment occurred relatively evenly throughout the year.
5. Based on her knowledge of economic conditions, she is aware that the effective interest rate on the company’s line of credit for 20X4 was approximately 12 percent. The average outstanding balance of the line of credit is $3,900,000. This line of credit is the company’s only interest-bearing debt.
6. Based on her discussions with management the advertising and sales commission percentages are expected to stay the same. Based on her knowledge of the industry, she believes that the amount of other expenses should be consistent with the trends from prior years.

Comparative income statement information for Uden Supply Company is presented in the below table.

UDEN SUPPLY COMPANY
Comparative Income Statements
Years Ended December 20X1, 20X2, and 20X3
(Thousands)
	20X1 Audited	20X2 Audited	20X3 Audited	20X4 Expected
Sales	13,500	14,700	15,900
Cost of goods sold	9,320	10,150	11,000
Gross profit	4,180	4,550	4,900
Sales commissions	950	1,030	1,110
Advertising	270	290	320
Salaries	1,141	1,178	1,215
Payroll taxes	200	209	218
Employee benefits	183	192	201
Rent	76	78	80
Depreciation	76	78	80
Supplies	42	44	46
Utilities	37	39	41
Legal and accounting	50	52	54
Miscellaneous	28	30	32
Interest expense	402	420	432
Net income before taxes	725	910	1,071
Income taxes	163	205	241
Net income	562	705	830

Required:

b. Determine the expected amounts for 20X4 for each of the income statement items. (Round gross profit ratio and income taxes ratio to nearest four decimal places. Round other ratios to nearest two decimal places. Round all other intermediate computations to the nearest whole value. Enter your answers in thousands.)

c. Uden’s unaudited financial statements for the current year show a 30.82 percent gross profit rate. Assuming that this represents a misstatement from the amount that you developed as an expectation, calculate the estimated effect of this misstatement on net income before taxes for 20X4. (Enter your answers in thousands.)

Next

Answer 1

UDEN SUPPLY COMPANY
Comparative Income Statements
Years Ended December 20X1, 20X2, and 20X3
(Thousands)	A	B	C
	Audited	Audited	Audited		Expected
	20X1	20X2	20X3	Trends	20X4
Sales (Increase in sales($15900 - $14700)= $1200	$13,500	$14,700	$15,900	$1,200	$17,100
Cost of goods sold = % of sales = 11000/15900	$9,320	$10,150	$11,000	69.18%	$12,172	sales-gross profit
Gross profit	$4,180	$4,550	$4,900	30.82%	$4,928	($17100 x (30.82%-2%)
Sales commissions	$950	$1,030	$1,110	7.00%	$1,197	($17100x1110/15900)
Advertising	$270	$290	$320	2.00%	$342	($17100x320/15900)
Salaries	$1,141	$1,178	$1,215	$37	$1,252
Payroll taxes	$200	$209	$218	$9	$227
Employee benefits	$183	$192	$201	$9	$210
Rent	$76	$78	$80	$2	$82
Depreciation	$76	$78	$80	$2	$82
Supplies	$42	$44	$46	$2	$48
Utilities	$37	$39	$41	$2	$43
Legal and accounting	$50	$52	$54	$2	$56
Miscellaneous	$28	$30	$32	$2	$34
Interest expense	$402	$420	$432	$12	$468	but it is 3900*12%
Net income before taxes	$725	$910	$1,071		$887
Income taxes	$163	$205	$241	22.50%	$155	(22.05-5)%
Net income	$562	$705	$830		$732
b. Determine the expected amounts for 20X4 for each of the income statement items.	Expected
	20X4
Sales	$17,100
Cost of goods sold =	$12,172
Gross profit	$4,928
Sales commissions	$1,197
Advertising	$342
Salaries	$1,252
Payroll taxes	$227
Employee benefits	$210
Rent	$82
Depreciation	$82
Supplies	$48
Utilities	$43
Legal and accounting	$56
Miscellaneous	$34
Interest expense($3900*12%)	$468
Total Expenses	$4,041
Net income before taxes	$887
Income taxes	$155.00
Net income	$732.00
c)
Gross profit 34% of Sales	$5,814
less: Expected Gross profit	$4,928
expected misstatement	$886