Planning The Audit
Marilyn Terrill is the senior auditor for the audit of Uden Supply Company for the year ended December 31, 20X4. In planning the audit, Marilyn is attempting to develop expectations for planning analytical procedures based on the financial information for prior years and her knowledge of the business and the industry, including:
1. Based on economic conditions, she believes that the increase in sales for the current year should approximate the historical trend.
2. Based on her knowledge of industry trends, she believes that the gross pro?t for 20X4 should be about 2 percent less than the percentage for 20X3.
3. Based on her knowledge of regulations, she is aware that the effective tax rate for the company for 20X4 has been reduced by 5 percent from that in 20X3.
4. Based on a review of the general ledger, she determined that average depreciable assets have increased by 10 percent.
5. Based on her knowledge of economic conditions, she is aware that the effective interest rate on the company's line of credit for 20X4 was approximately 12 percent. The average outstanding balance of the line of credit is $2,300,000. This line of credit is the company's only interest-bearing debt.
6. Based on her discussions with management and her knowledge of the industry, she believes that the amount of other expenses should be consistent with the trends from prior years.
Comparative income statement information for Uden Supply Company is presented in the table in Case Study 5-53 in the textbook.
Required:
a. Describe the purpose of analytical procedures performed in the planning stage of the audit.
b. Develop the expected amounts for 20X4 for each of the income statement items.
c. Uden's unaudited financial statements for the current year show a 31 percent gross profit rate. Assuming that this represents a misstatement from the amount that you developed as an expectation, calculate the estimated effect of this misstatement on net income before taxes for 20X4.
d. Indicate whether you believe that the difference calculated in part (c) is material. Explain your answer.