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Tackall Company was incorporated six years ago and is a wholesale and close -out distributor of kitchen appliances & cookware products. The president, Mary Tackall, has been in sales over 20 years. Tackall is a growing company which is publicly traded. Recently, Sales have accelerated at a rapid pace due to the implementation of internet sales and an extensive advertising campaign. Selected financial statement information for 20x1 and 20x2 are attached.

Enter & Mullen, CPAs (EM) is the auditors for Tackall, EM has audited Tackall since January, 20x1. Internal controls were reviewed in early 20x1 and EM determined that lack of segregation of duties existed in many areas of the company. EM decided reliance on internal controls would be impossible and decided to do a substantive audit. In 20x2, the segregation of duties difficulty continued &, in addition, Tackall made changes in its computer system during the year, Again, the auditors' decided it would be more efficient to perform a substantive audit than to rely on controls.

Accounts Receivable

EM Auditors set materiality levels in the planning process and documented these levels in their planning memoranda. In 20x1, materiality was set AT $35,000 in the sales/accounts receivable area. In 20x2,due to growth in the company , materiality was set at $50,000.

EM reviewed the adequacy of the allowance for doubtful accounts and inquired about selected balances which were over 90 days old. EM sent out positive confirmations on approximately 55 %-60% of the accounts receivable balances in 20x1 and 20x2:

 

20x1

20x2

Total trade accounts receivable

$4,146,594

$26,952,431

Confirmations mailed - total dollar balances

$2,436,400

$15,320,109

% Confirmations received - number mailed

71%

80%

% Confirmations received - number mailed

$1,900,036

$14,786,239

EM applied alternative procedures to accounts when confirmations requested were not received. Some of these alternative procedures are discussed in the next section.

Sales Transactions

EM performed tests of sales transactions in both 20x1 and 20x2 in order to document the audirors' understanding of the flow of sales transactions through the accounting system. The sales transactions tested are summarized below:

 

20x1

20x2

Total sales

$21,341,721

$87,831,141

Total number of invoices

27,514

116,420

Number of invoices tested

70

16

Dollar value tested

$85,408

$42,806

 In the tests of sales transactions in 20x1, the largest sale in the sample was $11,436. There were several unusually large sales that were made near year end:

Southwestern Inc:

6 invoices dated 12/30/x1 which totaled $370,440

Balco:

1 invoices date 12/28/x1 for $1,244,685

The following audit work was noted in EM's working papers relative to these two accounts:

Southwestern, Inc:

The auditors sent southwestern a positive accounts receivable confirmation at year end. The Tackall records reflected a total receivable of $418,323, which included the 6 invoices dated 12/20/x1 which totaled $370,440. Southwestern confirmed a balance of $19,426 and included a detail listing of the open invoices which made up this balance. The working papers indicated a second confirmation request was sent but the working papers did not include any indication that the second confirmation was received. EM auditors performed alternative procedures on the balance which was not covered in the confirmation from southwestern. These procedures included tracing the amounts to invoices and shipping documents to verify the validity of the accounts receivable booked by Tackall. The shipping document EM reviewed was Tackall's vendor invoices that indicated that the products had been shipped to southwestern on 12/21/x1. In addition the following note appeared in EM's working papers relating to the six invoices totaling $370,440:

"The invoices were sales recorded in late December and not received by the customer as of year end and therefore not recorded in the customer's accounts payable. We reviewed the invoices and shipping documents. Appears reasonable, pass further work".(This note was prepared by the audit assistant and the audit senior reviewed and initialed the audit working paper.)

Balco:

EM sent a positive confirmation to Balco and Balco confirmed the balance. The confirmation was included in the working papers. EM's working papers included a note that indicated the inventory included in this sale had been purchased from a Balco subsidiary in October. 20x1 and was resold to a Balco at year end with a small mark up.

In 20x2, there were several large sales made at or near year end involving four customers.

Hall mart

$1,254,000

Racines

3,174,050

Draycon

3,620,600

Balco

5,442,503

 Hall mart, Racines, and Draycon are retail stores. The sales were made late in December 20x2 and were made with payment terms of 90 to 120 days. The Balco sales was similar to the sale which occurred at the end of 20x1 and involved the resale of merchandise previously purchased from a Balco subsidiary.

EM  accounts receivable confirmation work included the above accounts and these accounts were positively confirmed. The EM working papers indicated that the payment terms were discussed with Mary Tackall and she stated that they were very good customers so 90 to 120 day terms had been extended based on their past payment history.

Audit Adjustments

In performing cutoff procedures on sales and inventory. EM discovered that a Sale of $48,310 had been booked in January 20x3. Upon further investigation. EM noted that the shipment had been made on December 15,20x2. EM's Working papers indicated they proposed an adjustment and the adjustment was made.

In reviewing the collectability of accounts receivable in 20x2, EM auditors concluded that there was an additional shortage in the allowance for doubtful accounts of $115,401. The working papers contained a note which indicated this was immaterial when compared to the trade receivable balances at year end and an adjustment was passed in the working papers.

Management Representations:

Tackall's Chief financial officer resigned in February 20x2. Due to tight job market, Tackall encountered difficulty in finding a replacement. A new chief financial officer was hired in November 20x2. Once he came on board, he was quite helpful answering auditor problems and inquires, since the financial officer had not been in place for the entire year, EM did not request that the chief financial officer sign the management representation letter for 20x2.

Selected Financial statement Information

Tackall Company Consolidated Balance Sheets

 

December 31

Assets

20x1

20x2

Current Assets

Cash

$547,356

$373,906

Short Term Investments

707,857

12,313,007

Receivable

 

 

Trade, less allowance for doubtful of $555,823 and $427,570 in December 20x1 and 20x2, respectively

4,146,594

26,952,431

Notes receivable

219,368

0

Related parties

6,535

5,706

Inventories

7,568,334

43,281,775

Prepaid expenses and deposits

459,500

1,932,989

Total Current Assets

$13,655,544

$84,859,814

Property and equipment, at cost:

Furniture, fixtures and equipment

4,039

1,523,893

Automobiles and trucks

106,074

124,321

Leasehold improvements

15,452

123,978

Less: Accumulated depreciation and amortization

(71,144)

(125,065)

 

54,421

1,647,127

Other Assets

717,175

1,385,693

Total Assets

$14,427,140

$87,892,634

Selected Financial statement Information

Tackall Company Consolidated Balance Sheets

 

December 31

Liabilities and shareholder's Equity

20x1

20x2

Current Liabilities: 

Short term debt

$233,004

$70,670

Current maturities of long term debt

116,320

63,552

Accounts Payable

6,448,693

20,361,300

Accrued expenses

80,657

1,058,677

Income taxes payable

463,000

829,723

Customer deposits

0

166,174

Total current Liabilities

7,341,674

22,550,096

Long-Term debt, less current maturities

3,400,012

283,154

Convertible subordinated debentures

0

30,000,000

Commitments and Contingencies

Share Holders' equity:

Cumulative preferred stock, 41,00 par value, 2,500,000 shares authorized, none issued

0

0

Non-cumulative preferred stock, 41,00 par value, 2,500,000 shares authorized, none issued

0

0

Common Stock, $.01 par value,100,000,000 authorized: 4,150,000 and 11,556,700 shares issued and outstanding at December 31,20x1 and 20x2, respectively

41,500

115,567

Additional Capital

2,807,709

30,871,291

Retained earnings

836,245

4,072,526

 

3,685,454

35,059,384

Total Liabilities and share holders' equity

$14,427,140

$87,892,634

 

Tackall Company Consolidated statements of Income

 

Year Ended December 31

 

20x0

20x1

20x2

Net Sales

$7,969,889

$21,341,721

$87,831,141

Cost of goods sold

(6,851,063)

(18,403,491)

(75,760,473)

Gross Profit

1,118,826

2,938,230

12,070,668

Selling, general and administrative expenses

(835,294)

(1,394,621)

(5,705,376)

Income from operations

283,532

1,543,609

6,365,292

Other(income) expense:

Interest expense

92,188

275,039

1,234,436

Investment income and other

(4,552)

(74,917)

(772,345)

 

87,636

200,122

462,091

Income before income taxes

195,896

1,343,487

5,903,201

Provisions for income taxes

96,000

596,000

2,666,201

Net income

$99,896

$747,487

$3,236,281

Net income  per Share

0.02

$0.11

$0.30

Weighted average common and common equivalent shares

5,000,000

7,066,540

10,675,840

 [A] What do you think the auditors meant by the term "Substantive Audit"? Was the substantive approach appropriately applied in EM's audit of Tackall?

 [B] Identify and discuss specific audit process/procedures that the auditor(s) performed that were in accordance with Generally Accepted Auditing Standards.

Basic Finance, Finance

  • Category:- Basic Finance
  • Reference No.:- M918696

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