Question

1. You are completing analytical procedures (ratios) for the audit of sales and accounts receivable. Identify 3 ratios and their trend (increased/decreased) which may indicate that net sales and/or net accounts receivable may be overstated. Explain.

Item	Ratio	Increased/decreased - Explain
1
2
3

2. What are the effects of overstating ending inventory on Cost of Sales, and Profit (understate/overstate)?  Explain.

Effect on Cost of Sales
Effect on Profit

Answer 1

Analaytical procedure of Ratio

Analaytical Procedures can be divided into three major categories. it includes financial ratios and common size financial statements. financial ratio provides information on the firm's activity, liquidity, profitability and leverage

key rations used in analytical procedures

- profitability return, Gross Margin, Net margin

- Liquidity Efficiency, Reccivable, Current Ratio,etc,

-Gearing, Financial Gearing, Operational gearing.

a)Inventory effect the cost of sales and Profit

inventory errors beginning of a reporting period affect only the income statement. Overstatements of beginning inventory result in overstated cost of goods sold and understated net income. conversely understated cost of sales and overstated net income.

Indicate the effects of invetory errors on the financial statements-

• faliure to count or price invetory correctly
• not properly recongnizing the transfer of legal title to goods in transit.
• errors affect both the income statement and balance sheet.

Meassures effect of inventory erros of financial statement

An error in inventory can lead to errors inother related accounts.

Because the ending inventory number is used in other computations, when ending inventory is incorrect, other numbers will also be correct such as

-cost of Goods sold

-Gross profit

-Net income

Inventory is overstated inventory is understanded. No effect since cost of goods sold are reported on the income statement.