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Evaluating Estimates and Materiality


Review the form 10-K or annual reports for Ford Motor Company and Toyota Motor Corporation, then answer the following questions by referring to the item number in the forms:

1a. Some common numerical thresholds and benchmarks for overall materiality judgments are 5% of net income and 1% of assets. The materiality level at which items are considered clearly trivial—materiality level where the auditor believes errors below that level would not, even when aggregated with all other misstatements, be material to financial statements—is generally 5% to 10% of overall materiality. Calculate these numerical thresholds for Ford and Toyota, assuming 5% for misstatements considered clearly trivial.

1b. Assume that you discover a $10,000,000 error in inventory. What difficulties would you encounter in deciding whether or not that amount is material?

1c. The numerical thresholds differ across the two companies. Why does that present a problem for the auditor? For third-party users?

1d. What is the SEC’s position on the use of numerical thresholds?

1e. What other characteristics of potential misstatements should auditors consider when evaluating their materiality?

2a. What does the term netting mean in the context of misstatement judgments?

2b. What is the SEC’s guidance concerning netting?

2c. Why is it helpful to financial statement users to have companies avoid netting?

3. One of Ford’s most significant liabilities concerns pensions and postretirement benefits.  What is the nature of the estimates required to value these liabilities? What risks do these estimates pose for the audit firm?

4. Read Ford’s MD&A disclosure concerning goodwill and impairments. Describe the nature of estimates that management needs to make in order to estimate the impairments. What audit evidence would you want to gather to be assured that management’s estimates are reasonable?

5a. See the notes in Toyota’s and Ford’s financial statements dealing with warranties. What are the amounts for accrued warranty liabilities and annual warranty expense for each company?

5b. What is the nature of estimates required for warranty liabilities?

5c. What planning analytical procedures can you develop to help you understand the relative size of warranty accounts for both companies. What inferences do you draw from the comparison of these analytics?

Your paper should meet the following requirements:

  • 4 pages in length
  • Formatted according to CSU-Global Guide to Writing and APA Requirements

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