Question

Background
You are a manager in the audit division at Miller Yates Howarth (MYH), an accounting firm with offices throughout the major regional centres of NSW and Queensland. Although a medium sized firm by national standards, MYH is the second largest regional accounting firm in Australia. Most of MYH’s audit clients are in the agriculture, mining, manufacturing and property industries. All those industries are currently under pressure, either from a downturn in commodity prices or fierce competition from overseas competitors. Ratios extracted from an unaudited set of financial reports at 30 June 2018 together with audited comparatives for the year ended 30 June 2017 and 2016 are set out below for your review.

You are gathering information to prepare the audit plan of Trunkey Creek Wines Limited for the year ended 30 June 2018. Trunkey Creek Wines (TCW) is one of MYH’s most significant and longstanding clients. The following information has been gathered to date.

Principal activities of TCW
• growing grapes for wine production;
• production and distribution of red, white and sparkling wines;
• beef cattle production on land surplus to grape production; and
• investment of surplus funds.

TCW was originally a family company incorporated in 1968 and has operated successfully and profitably since that date. In the 1990’s shares were sold to a small number of investors to increase funds for the development and upgrading of the winery and the purchase of additional land for the vineyards. Insufficient rainfall had meant that some land was no longer suitable for wine grape production, as a result, TWC moved into Wagyu beef cattle production on this surplus land. The Wagyu operation is now starting to return a profit.

TWC now find that the 2 degrees increase in temperature at some vineyards is affecting the production of sparkling wine and are now looking at purchasing land in cooler climates. TWC has built up a strong following for their sparkling wine which earns significant profits in both domestic and overseas markets. TWC are currently negotiating the land purchase and part funding in part from medium term bank loans. The remaining purchase price will be sourced from surplus funds.

The Wagyu beef is sold through the Wagyu Selling Group (WSG) in which TWC has shares. These shares form a material part of TWC’s investment portfolio. WSG buys, butchers and sells the Wagyu beef to high end domestic restaurants and regularly sends frozen shipments to Japan and China. TWC are heavily marketing their pinot, both domestically and overseas, as a perfect accompaniment to the Wagyu beef.

The directors of TCW are:

Mrs Claire Harewood, Chairman. Mrs Harewood has significant experience in the industry and replaced her husband as chair when he died 10 years ago.
Mr Phillip Strange, Chief Executive Officer
Mr. Joe Quade
Mr Steven Harewood, son of Claire Harewood and has oversight of the Wagyu beef operation
Dr Mary Owens
Ms Hilary Jones
Mr Geoffrey Owens

Your audit partner, John Richards, has approached you and advised that there are several areas he is concerned about and he wants to you to report back to him about these areas before you complete your audit program. These areas and accounts are:
• Accounts receivable
• Investments
• Property assets
• Marketing expense

Ratio

2018 (Unaudited)

2017 (Audited)

2016 (Audited)

Return on equity %

10.80

17.5

15.2

Return on beef production assets %

1.67

-0.82

-3.45

Return on grape and wine production assets %

12.2

14.5

16.2

Gross margin %

24.5

30.00

31.76

Net profit margin %

14.38

20.27

17.85

Marketing expense % of total S & A expenses

23.67

17.89

15.2

Times interest earned

6.67

7.51

8.10

Days in inventory - wine

367

423

460

Days in accounts receivable - wine

50.2

60.65

53.24

Days in accounts receivable - beef

57

36

24

Current ratio:1

2.80

2.54

2.66

Quick asset ratio:1

1.18

1.15

1.20

Debt to equity ratio:1

0.54

0.63

0.67

Internal control

The financial controller at TCW has been refining the system of internal controls and informs you, at the planning stage of the current year's audit, that he has put together an internal control manual for the company. He has stated that this manual will create greater awareness of controls in the company, particularly with management which, in the past, has not been overly conscious of the need to implement and enforce effective internal controls.

Management staff receive bonuses based on certain agreed-upon target ratios which include measures such as targeted monthly sales volumes, variance of actual to budget departmental overheads and profit before interest and tax. The Board takes an active interest in the performance of the company and is quick to request explanations on variances from the agreed-upon monthly budgets.

Two years ago, the company devoted significant time and resources to the development and implementation of a new IT system. All teething problems associated with the implementation phase have now been resolved, and the financial controller is satisfied that the automated controls in place are assisting in producing accurate and complete accounting records. The management accountant also looks after the IT function as the position is not regarded by management as being a full-time job. Once application programs have been tested, strict password control exists over access to the programs. Passwords are not required for access to databases.

To assist in the planning for the current year's audit engagement, you extracted the following information from a review of the systems notes in the permanent file and a perusal of the new internal control manual:

There are three section managers, one each for grape production, wine production and beef production. Each can order supplies for their respective operations up to a limit of $10,000 for each order. Orders between $10,000 and $30,000 must be approved by the management accountant. Orders over $30,000 must be approved by the CEO. Orders over $50,000 must be approved by the Board.
Orders must be made through the computer ordering system which has direct links to the approved suppliers.
Supplier information is contained in a supplier master file. Each supplier has a unique supplier code. If a section manager orders from an unapproved supplier, the order is rejected and sent to the management accountant for approval.
The supplier information file is maintained by the accounts clerk. Changes to the file are approved manually by the management accountant.
When supplies are received at the winery, the storeman checks the supplies received to the online copy of the order and the delivery docket provided by the supplier. Any discrepancies are noted on the online copy of the order.
The delivery docket is filed by the storeman in a folder that is kept at the winery.
The invoice is received electronically from the supplier and matched to the order by the accounts clerk. If the order and the invoice match the invoice is included in a payments file.
The payments file is approved online by the management accountant once a week and used to generate an ABA file which is then uploaded to the bank by the management accountant.
When the payments file is approved by the management accountant, the invoice is automatically recorded as being paid in the accounting system.
When services such as repairs are ordered for the winery by the wine production manager, a service order is generated within the computer system and automatically sent to the service provider.
When the service has been delivered, the wine production manager or the storeman signs the service delivery docket on the service man’s tablet.
The invoice from the service company, with a copy of the signed service delivery docket, is received online by the accounts clerk.
The accounts clerk checks the signed service delivery docket to the invoice and the order and adds the invoice to the payments file for final approval by the management accountant.
In the case of discrepancies, the accounts clerk contacts the supplier and the wine production manager to resolve the issue. Payments are not made until the issue has been resolved.

Required

Write a report, including a brief executive summary, to your managing partner that addresses the questions below. Where indicated, use the required format to answer that question.

Question 1A 8%
Analyse the ratios and additional information associated with the four accounts listed by your audit partner, John Richards. Identify the potential audit risks and any audit steps that need to be undertaken to reduce audit risk.
Answer this question using the following table:

Account

Analysis

Audit Risk

Audit Steps to reduce risk

Question 1B 2%
Analyse the ratios and additional information to outline business risks that TWC faces.

Question 2A 7%
Identify the internal controls in the system that are potentially effective, the risk that the control could alleviate and one test of control for each of the identified potentially effective controls.
Answer this question using the following headings:

Effective control

Risk alleviated

Test of control

Question 2B 2%
List and justify the weaknesses in internal control for purchases and accounts payable.

Weakness

Justification

Rationale

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This assessment task will assess the following learning outcome/s:

be able to demonstrate risk management methodologies and the role of internal controls in an audit context.
be able to design an audit plan and select and apply appropriate audit procedures for a financial statement audit.
be able to exercise critical and reflective judgement and appreciate the value of ethical practice.

Answer 1

A) Accounts

The audit partner is essentially involved regarding four totally different accounts head i.e. i) accounts receivable, ii) Investments, iii) Property Assets, iv) selling Expenses.

B) Analysis

The varied ratio given indicates the position of assets over the amount of your time. the times in inventory wine ratio indicates the turnover of inventory that is consumed by wine. this means the typical range of days within which the entity sold-out the inventory once procural. the times in inventory ratio is decreasing from 2016 forward. In year 2016, the corporate is marketing the inventory on a mean at intervals 460 days and also the same decrease to 423 days in 2017 so to 367 days. this means that the sales of the corporate is step by step decreasing and there square measure less obsolete stocks lying in inventory. Days in assets ratio indicates the typical days at intervals that the entity recovers the quantity from the debtors. In year 2016, the entity recover the quantity due from debtors with wine at intervals fifty three.24 days and beef with twenty four , but a similar will increase to sixty.65 in 2017 and fifty.2 in 2018 .However there's a amendment within the beef part that increased to 36 and fifty seven in 2017 and 2018 . this means that the corporate isn't implementing the adequate follow-up mechanism for recovery of due from debtors and also the probabilities of bad-debt is increasing year by year

C) Audit Risk

The audit risk in numerous areas is explained below: -

i) accounts receivable - a) risk of over-statement of debtors thanks to recording of incorrect sale or non-recording of payment received

b) probabilities of bad-debt thanks to inadeuate follow-up procedure

ii) Current Investment - a) risk that current investment might not be properly valued

b) Investment might not be drained correct space and once correct analysis

iii) Property Assets - a) Incorrect valuation of mounted assets

b) Depreciation might not be properly computed and charged resulting in over-valuation of assets

c) The property might not belongs to the entity

iv) Intangible assets - a) Incorrect valuation

b) Impairment might not be properly computed and charged

c) possession of property might not belong to the entity

v) selling Expenses- two abundant stress on the selling expenses like advertising ,agency prices sponsorships etc.

D) Audit steps to cut back risks The auditor ought to verify the subsequent -

a) Debtors - i) Verify whether or not the sales square measure recorded at correct worth

ii) Check whether or not the come back of fabric square measure accounted for

ii) Check whether or not adequate follow-up mechanism is in situ

iv) Verify whether or not the corporate is making provision on the premise of adequate estimation

b) Investment - i) Verify the areas within which investment is finished by company

ii) Check the possession documents for investment

iii) Verify the rate and check the accounting for same

iv) Check whether or not investment is finished once scrutiny varied investment choices

c) Property Assets - i) Verify whether or not the sale and purchases of assets square measure properly accounted for

ii) Verify the possession document

ii) Verify the computation of depreciation, profit/loss on sale of assets

d) Intangible assets - i) Verify whether or not the valuation of assets is properly done

ii) Verify varied documents for possession of assets

e) selling expenses.

i) Check the loss opportunities leading to poor sales results and cut back profits

ii) Check whether or not the organisation is unable to deliver on service guarantees,damaging name and complete.

iii)Check that whether or not the promotion /offer is simply too pricey for organisation which can result in loss.

iv)Check that there's enough research and benchmarking done to stay competitive however that ought to be alinged to business.

Justification and Listing of Weakness just in case of Purchase and Accounts payable

Accounts payable :

Seperation of Duties :Verify whether or not that the payment of documents square measure processed properly by the various folks within the organisation which may result in the subsequent weakness like

Erroneous or fradulent invoices approved for payment

Unauthorized payments created to non existent vendors

Accountability ,authorization and approval:Accountability would make sure that the items square measure licensed reviewed and approval of invoices square measure created supported signed agreements,contract terms and buy orders.

#Following could the potential consequences if the answerableness doesn't exist

Check that the unauthorized inessential or fraudulent payments square measure created or not

Check that the unauthorized work that square measure performed by vendors.

Check whether or not there's loss of provides thanks to late payments

Check whether or not improper charges square measure created to incorrect accounts or funds

Check whether or not there's a conflict of interest once paying worker for unauthorised outside work

#Security of Assets Once the products square measure received there ought to be a secured loaction wherever it ought to be unbroken.So the inventory ought to be sporadically counted and will be compared with the amounts on management records.However the potential consequences if the assets haven't been secured square measure as below:

Check whether or not there's larceny of products

Check whether or not there's a listing shortage

Check whether or not there square measure any extra prices incurred for replacement.

#Review and Reconciliation:The reconciliation activities square measure meted out for the purchases being created and beaked correectly.Howvever there square measure potential consequences if the review and reconciliation isn't performed.

Check whether or not there square measure improper charges created to division budgets

Check whether or not there square measure disallowances ensuing from prices charged to incorrect accounts

Check whether or not there square measure payments created for things or services not provided.

# The steps which may be a weakness for the interior management for purchases square measure listed down below:

To Verify and check whether or not there's an inside management created for purcahsing by assignment the tasks guilty of somebody.

After it's allotted it's impertative to visualize whether or not the method for submitting and approving the acquisition request square measure done properly or not.

To Verify whether or not there's a trafficker list to enlist all the acquisition that square measure made of totally different vendors in terms of value,customer service and credit terms

To verify that there ought to a method that staff submit for purchase requests and also the approval kind ought to authorise the workers World Health Organization square measure noncommissioned for purchases.