Assignment 3: Audit Risk and Sampling Due Week 6 and worth 100 points In this assignment, you will prepare a two to three (2-3) page report that addresses the requirements specified in the case. Fully

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Assignment 3: Audit Risk and Sampling

Due Week 6 and worth 100 points

In this assignment, you will prepare a two to three (2-3) page report that addresses the requirements specified in the case. Fully address each requirement and include at least two (2) current references to scholarly and/or authoritative sources.

Specifically you will be required to:

1.     Explain the effects on the account of the opening of the first retail store.

2.     Describe how the business change will affect audit risk components.

3.     Determine expected changes to inventory transactions and balances and specify which will be most affected by the business structure change.

4.     Describe the population(s) and recommend a sampling approach for substantive inventory testing.

5.     Use at least two (2) current, quality academic or authoritative sources in this assignment.

Assignment 3: Audit Risk and Sampling Due Week 6 and worth 100 points In this assignment, you will prepare a two to three (2-3) page report that addresses the requirements specified in the case. Fully
CLOUD 9 Ian Harper (first-year audit staff) asks Suzie Pickering (experienced audit staff) to coffee. He wants her to explain how to plan audit tests and write a detailed audit program, including instructions on when to use audit data analytics versus audit sampling, how to select a sample for a substantive test, and when the results of one audit test will influence the work on other audit tests. It all seems a bit circular to him and he is finding it difficult to grasp. Suzie meets Ian that afternoon in the staff room. “The types of tests we do, tests of controls and substantive tests, and when and how we do them, depends on the quality of the client’s system of internal control and accounting records. However, before we talk about that, we probably should talk about when we use audit data analytics versus audit sampling, and how we take samples. Do you have a feel for when we use audit data analytics versus audit sampling?” Ian is not sure. Suzie and Ian are discussing the use of ADA versus audit sampling. ­Suzie illustrates with a discussion of their audit of inventory. “Let me illustrate with a discussion of how we might audit two different assertions for inventory. When testing the existence assertion, professional standards require that we physically inspect inventory. We will focus on Cloud 9’s distribution centers, and we will select a sample of inventory at each distribution center. Electronic data is not available that proves the existence of inventory. In this case sampling is both appropriate and an effective audit technique to draw a conclusion about the existence of inventory. On the other hand, we are thinking about using ADA to audit inventory obsolescence. Cloud 9 has a large amount of inventory. Most of it turns over pretty fast, but we need to be alert to slow-moving inventory. Cloud 9 has good data on inventory quantities sold and on hand for each location. ADA may be a way to investigate a large amount of inventory, to look at how much inventory is on hand for each item in inventory, and to see how fast each inventory item is being sold. This can be an effective way to identify slow-moving inventory or inventory with lower-of-cost-or-net-realizable-value problems.” Ian and Suzie are talking about sampling risk. Ian is a bit disappointed. “I thought that if you took a random sample and did not find any misstatements, you could conclude that there was definitely no misstatement in the overall population. But you are saying that there is still a risk that the population is misstated.” “That’s right,” says Suzie. “Unless you test every item in the population, you will still have a statistical chance of making the wrong conclusion simply because you took a sample. Also, if you take a sample in a way that is biased, it is difficult to conclude that the sample results say anything at all about the population. That’s why it is so important junior staff don’t just take the nearest, or most convenient, sample of items in inventory to test. Another big trap is that conditions may change during the accounting period when transactions are being tested. Perhaps a key member of the client’s staff is on leave. The auditor should select a sample from both times when that key member is present and when that key member is on leave. We know that Cloud 9 opened a new San Francisco store on the first of June. Obviously, inventory levels will be different around this time, so we have to plan to handle these different conditions with our sampling.” “We are going to use random selection for sales invoices and cash receipts at Cloud 9,” Suzie tells Ian. “We will select our sample from the entire year because we do not expect different conditions in sales made to department stores during different times of the year. Obviously, part of the sampling process includes processes to protect against any potential bias in the sample selection.” Suzie and Ian are discussing how sample size might change from the prior year when performing substantive tests of transactions related to total sales. At an interim date when Suzie and Ian are planning the audit, Cloud 9 has increased its revenues by approximately 10%. Ian notes that he expects that the increase in revenue will cause an increase in sample size. However, Suzie observes that the increase in the total revenues also caused an increase in the auditor’s level of tolerable misstatement. As a result, these two changes may offset each other and have little effect on sample size. Ian also asserts that because top-line revenues are so important to many financial statement users, the auditor should want a high level of assurance that tolerable misstatement is not exceeded by expected misstatement. Suzie responds with a question. “Based on our planning work, how strong are internal controls? And how will our control risk assessment affect the assurance that we need from substantive tests of revenues?” As Ian attempts to answer this question, he suggests, “Inherent risk is probably maximum for sales revenues, but internal controls are expected to be strong, so overall risk of material misstatement is low. Because risk of material misstatement is low, we can allow ourselves to obtain a higher detection risk that the actual misstatements do not exceed tolerable misstatement, which allows for a smaller sample size for substantive tests of revenue transactions.” Suzie likes Ian’s reasoning. Now she asks, “Is there anything else we need to consider?” Ian thinks for a minute and then suggests that they also need to consider the expected amount of misstatement in the population: “If internal controls are good, then the expected amount of misstatement should be fairly low. I now see that good internal controls are really important to our audit strategy, and we will need to emphasize testing controls, and strong controls will allow us to minimize the sample sizes we need for substantive testing.” Finally, Suzie asks Ian if they should stratify their sample selection regarding sales. Ian suggests that before answering that question, he really needs to understand the variation in the size of sales made to various customers. Suzie likes the fact that this needs to be determined based on Cloud 9’s sales history. However, she notes that, based on prior experience, some large customers have many stores, but the average invoice for each store is relatively similar. Suzie suggests that stratification may be more important for testing accounts receivable than for testing sales. They agree to quickly investigate this more and then reach a final conclusion. Cloud 9 – Continuing Case Answer the following questions based on the information for Cloud 9 presented in the appendix to this text and the current and earlier chapters. You should also consider your answers to the case study questions in earlier chapters. Required a. Consider and explain the effects of the opening of Cloud 9’s first retail store on its accounts. b. Describe how this business change would affect the components of audit risk. c. What changes would you expect to see in inventory transactions and balances as Cloud 9 changes from a wholesale-only business to a retail and wholesale business? Be specific in your answer. d. Which inventory balance and transaction assertions would be most affected? Explain. e. Describe the population(s) and suggest a sampling approach for substantive testing for inventory.
Assignment 3: Audit Risk and Sampling Due Week 6 and worth 100 points In this assignment, you will prepare a two to three (2-3) page report that addresses the requirements specified in the case. Fully
Assignment two During an interview Josh and Sharon held with David Collier, CFO of Cloud 9, they learned a lot about the tone at the top at Cloud 9. Top-level management and the board of directors adopted a code of conduct that emphasizes the importance of management and other employees acting with integrity. Cloud 9’s board members and senior managers attend training and awareness sessions on the code at least annually. In addition, there has been a rigorous process of embedding the code’s main points throughout the company’s policies and procedures, most of which have been rewritten in the previous two years. Josh intentionally conducts interviews with employees at all levels within Cloud 9. He finds that all employees have attended training on the code of conduct. Several accounting personnel add that while the company has financial goals to achieve, the emphasis from the top has been getting the financial numbers right. Accurate financial reporting is a top priority. A copy of the company’s code of conduct and the policies and procedures are included in the audit working papers. Josh also writes a description of the company’s efforts to communicate its approach to management integrity in the report. He assesses the control environment at Cloud 9 as likely to be effective. Susan Larson, a senior manager, was having lunch with Linh Sun (an audit senior) and Peter Miller (a new audit staff). All three were working on an audit of a pharmaceutical client. Both Linh and Peter were focused on understanding the client’s system of internal control for a new audit client. Susan commented, “I want you to get a good feel for the control environment and the tone at the top about financial reporting by talking to employees at all levels of the organization, particularly in accounting. Wells Fargo has been in the news recently because the tone at the top focused on hitting targets at any cost, and there were significant negative consequences for those who did not meet artificially high expectations. At one end of the spectrum, you have companies like Wells Fargo with a poor tone at the top. At the other end of the spectrum, I had a client that I approached with a misstatement that was significant, but probably had not met our materiality threshold. After the controller understood the underlying cause of the misstatement, and how their control system failed to detect the problem, the controller announced that the company would book the adjustment, even though it decreased unaudited earnings that had previously been announced. When I asked the controller about his reasoning, he stated, ‘We are more concerned about our credibility with investors than one earnings announcement.‛ These are the two ends of the spectrum, and our new audit client may be somewhere in between these two examples. I want you to determine where on this control environment spectrum this new client is.” In their interview, Josh and Sharon ask David Collier about Cloud 9’s risk assessment process. They want to know which risks management has identified so that they can consider whether those risks could cause a material misstatement in the accounts. They also want to know about the company’s methods of responding to the identified risks. David Collier tells them that Cloud 9’s management continually monitors its competitors’ activities. It also considers the risk of interruption to supplies because of shipping problems and labor disputes at production plants or transport companies. Other examples of risks that could have a major impact on the accounts are the use of forward exchange contracts to control the risks caused by purchasing in foreign currencies. Cloud 9 management is also very aware of risks associated with the just-in-time inventory system, which has had some problems lately, and has planned some changes to deal with those problems. Management is monitoring the risks of using a soccer player as a spokesperson for the brand, plus the broader risks arising from sponsorship of the soccer team, because there has been a lot of adverse publicity about soccer players’ behavior over the past year. Such adverse publicity could impact negatively on sales. Cloud 9’s management ensures that the soccer team’s management keeps the company’s management informed of players’ activities, where appropriate. Management has also assessed fraud risks, and it believes that between the company’s code of conduct, tone at the top about its code of conduct, and strong system of internal controls, the incentives for fraud and the opportunity to commit fraud are minimal. Josh concludes from the interview and from Suzie’s review of documents including company plans, board minutes, and significant contracts and agreements that Cloud 9 has a potentially effective system of risk assessment because it actively searches out and considers potential risks to the business, and it has developed action plans to deal with each risk depending on its likely occurrence. Josh has significant experience in understanding information systems and, based on the interview with David Collier, which covered the information systems at a high level, Josh can conclude that the entity-level controls in this area are likely to be effective. Josh will gather further information in an interview with Cloud 9’s financial controller, Carla Johnson. Based on this second interview and a review of the company’s documents, he and Suzie will write a description of their understanding of the processes used in each of the major transaction cycles. In the interview with David Collier, Sharon and Josh ask questions about both the control activities and the monitoring of those activities at Cloud 9. Sharon and Josh are particularly interested in the systems used at the company to make sure that information about management’s plans is transmitted throughout the organization and that there are policies and procedures to ensure that the appropriate actions are taken and reviewed. In addition to asking David Collier about these matters, Suzie reads the policy and procedures manuals. Josh and Suzie then take a tour of the offices and other facilities. For example, Cloud 9 has a tightly structured system of performance reviews. Managers at each level must report financial and operating performance against budgets at regular intervals. Higher-level managers are able to access information about activities within their area of responsibility for monitoring purposes through the information system. Although there have been some issues with theft of goods from the retail store, the losses have been contained following the installation of additional security, including cameras. Josh and Sharon have been particularly impressed with Cloud 9’s thorough approach to appropriate segregation of duties. Josh is able to conclude that, at an entity level, there is sufficient evidence that these controls are potentially effective. He asks Suzie to review the specific controls that affect transaction processes in more detail and document their understanding of these processes. Josh finds that he is spending a great deal of time with Will Burton, Cloud 9’s IT manager. Josh and Suzie have a number of questions for Will about what software programs are designed within the accounting system to process transactions; whether there have been any changes to those programs during the year; how changes are authorized, reviewed, and tested; who has access to programs and data files; and how access to programs and data is protected. Will walks the audit team through Cloud 9’s principal data center, showing them various physical controls, and printouts and reports that Will receives regarding changes to system access and changes to various programs. Suzie inspects documentation regarding program changes, their authorization, and testing. The team is focused on adequacy of segregation of duties; controls over program changes, maintenance and updates; access controls, and plans for hardware and software upgrades. At this point, Suzie and Josh are just trying to obtain an understanding of IT general controls at Cloud 9. They know that testing will come later. When they are finished, Josh is satisfied that Cloud 9 has addressed the control issues that he is most concerned about. Overall the system design appears to be operating as planned, based on their questions, observation of Cloud 9 personnel, and preliminary inspection of reports from Cloud 9’s IT system. If tests of controls show that IT general controls are effective, this will make testing applications more efficient, and increase the probability that the audit team can use a reliance on controls approach during the audit. Strong IT general controls are also critical to giving Cloud 9 an unqualified opinion on internal controls over financial reporting. Suzie will document their understanding of the various transaction processes. By performing a system walkthrough in each major accounting system, Suzie will document the flow of transactions and the documents that the client uses in the accounting system. Josh is particularly focused on transaction and account balance assertions, what can go wrong for each assertion, and the controls that the client has implemented to identify and correct potential misstatements. Suzie asks questions about what exception reports are generated by the system, and how items appearing on exception reports are cleared. She learns that some exceptions are noted only on computer terminals, and corrections must be made before transactions are processed further. Once the types of potential material misstatements and the controls that Cloud 9 has put in place to detect and correct any misstatements are understood, the audit team will consider the magnitude and likelihood of the misstatement in the financial statements. This will help narrow the risk assessment and determine what audit procedures should be performed. In addition, the audit team considers how errors in each financial statement assertion might occur. This analysis will guide the audit planning for additional substantive testing. Sharon and the audit partner can also decide if there are any material weaknesses that should be included in the management letter. Suzie knows that documenting her understanding of the processes is necessary for the team to identify control strengths that can be relied upon to justify reduced substantive testing. Substantive testing will be reduced if tests of those controls confirm that these design strengths are reflected in actual performance of the control system. Josh thinks he will need to discuss his assessment of control strengths and weaknesses with Sharon before finalizing the audit program. He needs her help to determine if some control weaknesses are compensated for by other strengths. They will also identify the most important controls to test. Some controls may actually be redundant; that is, another control exists that performs the same function. Suzie will prepare a flowchart or narrative to document her understanding of the different transaction processes. This will help her understand the stages at which errors can occur. She will include the entire process from the initiation of the transaction through to recording in the general ledger. Where appropriate, she will link several accounting processes together into one seamless flow of transactions. For example, as a first step she makes a simple diagram of the flow of transactions from initiation of a purchase order through to the cash payment to the supplier. The process comprises three smaller processes: initiating a purchase order through to receiving the goods as they arrive; receiving the purchase invoice from the supplier through to entering the invoice in the general ledger; and requesting cash payment through to recording the payment to the supplier. In the next step, the flow of transaction diagram will be supplemented with additional details of the IT tests and their disposition. Once Suzie has documented the audit team’s understanding of Cloud 9’s system of internal controls and her preliminary assessment of the system’s strengths and weaknesses, Josh presents the document to Jo Wadley, the engagement partner of the audit. The audit team will gather additional evidence about the system of internal controls during the audit, and at the completion of the audit the senior members of the audit team will make a final assessment of Cloud 9’s internal controls and write a management letter. Providing a management letter, including recommendations for future changes to the system of internal controls, is an important part of the auditor’s role. The management letter not only discharges the audit team’s responsibilities to the client, but helps the client improve its systems. In turn, this will likely increase the quality of its financial reporting in the future and improve the efficiency and effectiveness of future financial statement audits. Once Suzie has documented the audit team’s understanding of Cloud 9’s system of internal controls and her preliminary assessment of the system’s strengths and weaknesses, Josh presents the document to Jo Wadley, the engagement partner of the audit. The audit team will gather additional evidence about the system of internal controls during the audit, and at the completion of the audit the senior members of the audit team will make a final assessment of Cloud 9’s internal controls and write a management letter. Providing a management letter, including recommendations for future changes to the system of internal controls, is an important part of the auditor’s role. The management letter not only discharges the audit team’s responsibilities to the client, but helps the client improve its systems. In turn, this will likely increase the quality of its financial reporting in the future and improve the efficiency and effectiveness of future financial statement audits.
Assignment 3: Audit Risk and Sampling Due Week 6 and worth 100 points In this assignment, you will prepare a two to three (2-3) page report that addresses the requirements specified in the case. Fully
Running head: BUSINESS ANALYSIS. 1 BUSINESS ANALYSIS Teisha Robinson Professor Bunney Schmidt Acc 562 Advanced Auditing Strayer University April 17, 2020 Business Analysis Retail and wholesale industries are called the distribution industries. These industries are involved within the procedures of products distribution between the producer and therefore the consumer. The wholesale industries distribute the products to retailers, merchants, institutions, or other sectors (Huy, 2018). They neither produce nor consume but rather act as intermediaries within the market. On the other hand, retail industries sell merchandise in smaller proportions to consumers for household or personal consumption to other businesses or institutions (Huy, 2018). Various areas impact financial reporting. These include financial crisis, Management’s discussion, and analysis reverse mergers, backdoor registrations, valuation of equity transactions, and smaller reporting company status. Cloud9 is a company of e-sports based in Los Angeles, California, formed in 2013. The company runs its activities across the states and internationally (Scholz, 2019). Financial ratios are essential in evaluating Cloud9 financial position and wellbeing. Economical rates that are used in measuring financial areas include liquidity ratio, leverage financial ratio, and profitability ratio (Liang, 2016). Liquidity ratio defines the potential effect of how Cloud9 repays its future long term and current short-term debts. It is calculated through the present ratio, which is assets divided by present liabilities. Current liabilities are current assets minus current equity which is 0.5-1.0= -0.5. Negative means prepaid expenses (Liang, 2016). Current ratio= 0.5/0.5=1. The current ratio is 1 meaning Cloud9 can meet its short-term repayments. The leverage financial ratio is calculated through the equity ratio. Equity ratio will measure how sustainable Cloud9’s business is. The equity ratio is calculated by dividing total equity by total assets. The equity ratio is 1.0/0.5=2. This means that Cloud9 Inc. has a higher solvency level and is thus able to meet its long-term obligations. The Profitability ratio measures the ability of Cloud9 to generate income (Liang, 2016). They include EBITDA margin and Return on Investment. EBITDA is determined by dividing income before tax by revenue. EBITDA is 5.0/0.5=100. This is a higher EBITDA, and it means Cloud9 generates a lot of cash per year. Return on sales is decided by the division of gross profits by total revenue. Return on sales is 2.0/0.5*100%= 40%. Cloud9 Inc. generates 40 dollars of profits out of 100-dollar sales. This is often an honest to God profit. Thus, all the above financial ratios show that Cloud9 has good financial health and thus can outlive its competitors. The major risks facing Cloud9 are untimely supply of products from suppliers, competition from major competitors, Unfavorable changes in technology, seasonal demand of products by customers and financial crises (Scholz, 2019). References Huy, D. T. N. (2018). Selecting Various Industrial Competitors Affect the Risk Level of Viet Nam Wholesale and Retail Industry During and After the Global Crisis 2007-2011. International Academic Journal of Innovative Research, 5(1), 60-68. Liang, D., Lu, C. C., Tsai, C. F., & Shih, G. A. (2016). Financial ratios and corporate governance indicators in bankruptcy prediction: A comprehensive study. European Journal of Operational Research, 252(2), 561-572. Reid, L. C., Carcello, J. V., Li, C., Neal, T. L., & Francis, J. R. (2019). Impact of auditor report changes on financial reporting quality and audit costs: Evidence from the United Kingdom. Contemporary Accounting Research, 36(3), 1501-1539. Scholz, T. M. (2019). Conclusion: The Future of eSports. In eSports is Business (pp. 135-147). Palgrave Pivot, Cham.
Assignment 3: Audit Risk and Sampling Due Week 6 and worth 100 points In this assignment, you will prepare a two to three (2-3) page report that addresses the requirements specified in the case. Fully
Running head: REVENUE CYCLE 0 Flow of Revenue Teisha Robinson Professor Bunney Schmidt Acc 562 Advanced Auditing Strayer University April 20, 2020 In modern days, various firms sell various kinds of commodities and services. Due to these business activities, raising revenue has become more convenient. Revenue is defined as the value income derived from sales of commodities and services. Revenues from the starting of a firm`s income statement. Some processes form a revenue cycle. A revenue cycle is a recurring set of sales activities and other information related to offering products and services to consumers and cash collection in compensation for sales. It starts in marketing and customer location to the allocation of commodities and services and ends in customer`s settlements. Besides, revenue management and control policies are required to enhance proper run overall activities, including receipts and receivables. It is also important for ensuring good financial administration activities (Sandler., 2015). Therefore, the government should embrace control over revenues. There are five primary practices in the sales cycle. They include order sales, selling of products and services, shipping/delivery of goods and services, billing, and collection of revenues. Sales Order A sales order is a form created by a seller over receiving a buy order from a client specifying details on the commodities or services. The documents also determine the cost, nature, details of the customer, for instance, his or her location, billing address, means of settlement, and even terms and conditions (Zhao., 2017). At first, a customer sends a buy order to the seller describing the commodity or service, including delivery, mode of payment, delivery address, and terms and conditions. The sales order is essential because; it provides information on the catalog. It indicates the location and quality of commodities, and it is consulted by the billing department to verify details. It is also used by firms when reviewing income statements and considering loan qualifications. The sales order reduces work time, promotes client service, processes information anywhere, and enables in scaling up. Customer Service After a purchase order has been sent, the seller prepares a sales order. A seller identifies potential clients, approaches them, and gathers the information about these potential buyers. This step is crucial when running business activities; it includes events like a description of the products to the customers, demonstrations of the use, negotiating the price, and biding (Zeidan et al., 2017). It also includes the signing of the deal and contract and shipping of the commodity or service being bought to the shipping address given by the customer. Shipping /Delivery After purchasing and selling activities are done, the next step is the shipping process. The seller delivers goods and services to the buyers in the shipping address. Any delay in delivery affects the verification of contact (Sandler., 2015). The distribution of an order is vital to avoid costly blunders. In case a customer calls for a change in the delivery processes, a new deal may be signed to reflect the adjustment. Billing The billing step can be long or short, relying on how a firm function. Some firms receive settlements during the time of sales or after completion of a service or delivery of a commodity. Other firms function on credit and do not get payments until commodities and services have been shipped and received by the buyer, and after he accepts them (Zhao., 2017). A firm may be required to send a bill to a customer to acquire a settlement. The firm may need to bill the client`s credit card or bank account in this step if he or she has authorized so. In this stage, a company tries to collect all pending invoices. If a customer does not complete the settlement in a period of 30days after acquiring a bill, the firm`s accounts receivable arranges a report outlining where the un-gathered revenue is. Some firms allow unsettled debts to be charged off (Zhao., 2017). Other firms pursue other gathering activities. By analyzing the revenue cycle in this stage, a firm can change other steps of the revenue cycle to collect cash more effectively. In conclusion, the revenue cycle is a crucial component and is used in accounting and business activities. It describes the journey of commodities and services from the starting of sales. Revenues flow starts when firms and investments ship their commodities and services and end when a client makes full settlement. References Sandler, M. (2015). Revenue-cycle firms tackle value-based payment and ICD-10. Mod Healthc, 45(36), 35. Zeidan, R., & Shapir, O. M. (2017). Cash conversion cycle and value-enhancing operations: Theory and evidence for a free lunch. Journal of Corporate Finance, 45, 203-219. Zhao, R. (2017). Revenue benchmark beating and the sector-level investor pricing of revenue and earnings. Accounting Horizons, 31(2), 45-67.

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