Analyticals

Question 1

AR Turnover

Answer 1

Low ratio indicates risk of uncollectible receivables

P - Subsequent receipt testing, AR confirms

Question 2

Inventory Turnover

Answer 2

Low ratio indicates risk of impaired or obsolete inventory
P- look for obsolete, agree items from inventory subledger to count sheets, Check lower of cost and NRV (prior sales & invoice)

Question 3

Current ratio

Answer 3

Current assets/ current liab

Lower ratio indicates a sign of going conern issue. Not enough cash to meet current obligations.

P- Analyze and discuss cash flow with management, recalc cash flow and agree to supporting documents

2:1 = every $1 of liability the company has $2 to pay it off

If ratio is too low company should contact bank to discuss options, improve working capital, improve debt management, sell redundant assets & pay off AP

Question 4

Debt to equity ratio

Answer 4

Total Liab / equity

Increasing ratio indicated going concern issue.
Decreasing ratio indicates risk debt is understated

P - P- Analyze and discuss cash flow with management, confirm with bank regarding debt

If debt to equity is too high mgmt should implement a plan to improve working capital & debt management so bank doesn’t call the loan (if covenant)

Question 5

Gross profit margin

Answer 5

sales - cogs/ sales

Increasing indicates cut off errors, overstated revenue & understated cogs
Need to test for occurrence of revenue and completeness of cogs

P - Sample from sales journal and trace back to supporting doc, trace costs of inventory to cogs entry

Question 6

Re calculating debt to equity

Answer 6

Debt
+- any adjustments to liabilities

Equity
+- any adjustments to NI (minus for costs, plus for increases in revenues)