Audit Assignment: Materiality, Ratio Analysis and Cash Flow Review

This audit assignment analyzes the annual report of JB Hi-Fi Limited to make relevant assertions on the financial position of the company. It includes materiality analysis, ratio analysis, and cash flow review. The report also discusses audit assertions and risks faced by auditors.

A dit A i nmentu ss g

1
By student name
Professor
University
Date: 2nd Sep 2018.
Executive Summary
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In this assignment the annual report of the company has been studied to make relevant assertion
on the financial position of the company. The company that has been selected is JB Hi-Fi
Limited which is listed on the Australian Stock Exchange. The annual report of the company has
been downloaded and important matters with relation to the financials of the company have been
studied. The concept of materiality is important from the audit of the financial statements
perspective. The various draft notes and the disclosure in the annual report has been analyzed
and relevant conclusion has been stated. The assignment has been divided into three sections.
The first section is Materiality analysis of the company, the second is the ratio analysis that deals
with analytical review procedure of auditing and the third one includes analysis of the cash flow
of the company.
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Contents
ection Materialit concern o t e entitS 1: y f h y................................................................................................3
ection Preliminar anal tical re ie o t e companS 2: y y v w f h y............................................................................5
ection e ie o t e ca lo tatement o t e companS 3: R v w f h sh f w s f h y...................................................................7
e erenceR f s.................................................................................................................................................10
Section 1: Materiality concern of the entity
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As per ASA 320, materiality is one of the most crucial part of auditing and the main role
of the auditor is to analyze the key elements of the financial statements of the company and make
relevant assertion on any given materiality level for the company. Any kind of misstatement,
error or omission can lead to material risk for the company as that might affect the financial
statement of the company and have negative impact on its financial position. It is very subjective
in nature and differs from company to company from individual to individual. Some areas might
be more material to some company in comparison to others (Choy, 2018). Thus, proper
professional judgement on part of the company and the professionals who are conducting the
audit is important. Materiality can be both quantitative and qualitative in nature. There are
certain levels of materiality that has been stated by the ASA 320 and IASB which ranges from
0.5% to 1% of sales revenue, 2-5% of the shareholders equity, 5-10% of net profit of the
company, 1-2% of the total assets of the company or the gross profit being made by the
company. The overall materiality element of the company has been analyzed calculated and
analyzed below. The annual report of the company has been downloaded and key data from the
same has been taken for the relevant analysis.
Quantitative estimate of materiality
Criterion Base
Amoun
t
Materiality
level/range
0.5% to 1% of gross revenue
Gross
Revenue
5,628.0
0 28.14 to 56.28
1% to 2% of the total assets Total Assets
2,452.0
0 12.26 to 24.52
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1% to 2% of the gross profit Gross Profit
1,230.0
0 6.15 to 12.3
2% - 5% of the shareholders’ equity Equity 853.00 4.27 to 8.53
5% to 10% of the net profit Net profit 172.00 0.86 to 1.72
The company that has been selected over here for relevant analysis is JB Hi-Fi. The
company is listed on the Australian Stock Exchange. The company is an Australian retail
company that deals in electronic consumer goods that includes video games, Ultra HD Blu-rays,
DVDs, CDs etc. The company was established in 1974 and from the above calculation the
materiality levels of the company are studied and analyzed (Arnott, Lizama, & Song, 2017). The
overall quantitative materiality level of the company has been derived from the above
parameters. The auditors have stated that the financial statements of the company are free from
any kind of material misstatement, however there are certain areas in which they have exercised
their assertion which includes calculation of the carrying value of the forward contracts. The
overall financial risk management and liquidity analysis has also been done. Material risk has
been stated well in the report of the auditor and they have provided their relevant conclusion on
the same in their audit report (Alexander, 2016).
The notes to the financial statements includes disclosures with respect to any changes that
the management of the company has made with respect to accounting standards and policies, key
matters that the auditors feels important has been highlighted, also the going concern assumption
of the company has been stated in brief.
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Section 2: Preliminary analytical review of the company
The second part of the assignment will include application of relevant audit procedures to
analyze the overall growth of the company with in comparison to the prior years and also with
comparison to the industry in which the company is functioning. The audit procedures will
include two types of procedures which are substantive test and analytical procedure. Substantive
test will include vouching and verification that deals with analyzing the key elements in the
financial statements like the income and expenses and then comparing the same with the overall
supporting documents (Erik & Jan, 2017). Verification helps in checking the appropriateness,
valuation, completeness of the various assets and liabilities. In case the auditor does not perform
substantive process, it can aim for analytical procedures which includes trend analysis, ratio
analysis. It also deals with proper audit planning to understand the overall nature and timing of
the audit procedures of the company (Farmer, 2018). In the case of the given company, the
preliminary testing would be done based on basic ratios of that would be calculated from the
balance sheet and PL of the company. The ratios have been calculated below:
Ratio Analysis
Particulars 2014 2015 2016 2017
Current Ratio 164% 162% 157% 132%
Quick Ratio 183% 181% 175% 35%
Debt Equity Ratio 60% 24% 26% 50%
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The given ratios show the overall growth of the company from 2014-2017. Since 2014, the
overall current ratio of the company has reduced considerably and that shows that the overall
liquidity position of the company is not stable as the company is not having optimum resources
to pay off its liabilities. The debt equity ratio shows the overall debt that the company is having
in comparison to its liabilities and previously the proportion of borrowing was less and equity
was more, but since 2016 to 2017, this balance has changed a lot and the company is having less
of equity and more of borrowings and that might affect its financial position and the overall
returns that the company would be paying of to its shareholders would also decrease due to this
arrangement (Goldmann, 2016). Ratios are a great way to analyze how the company is
performing and what are the areas in which the company needs to put more efforts to make sure
that the discrepancies are removed. The below table shows the comparison of the company with
the industry in which it is operating.
atioR s ompanC y nd trI us y
ic atioQu k R 0.35 0.4
rrent atioCu R 1.32 1.17
T e t to itL D b Equ y 49.54% 7.81%
Total e t to itD b Equ y 49.54% 13.40%
On comparing the industry with the company, the quick ratio is same as per the standards of the
industry and thus it reflects that the company’s liquidity position is stable. The current ratio is
more in comparison to the industry which means that the company has enough current assets to
pay off its liabilities in comparison to the industry it operates in. There is a huge difference
between the long-term debt to equity ratio between the company and the industry (Grenier,
2017). It shows that the company is having more equity and less borrowings in comparison to the
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borrowings and this might make the overall capital structure of the company less stable and also
given the fact that the company is having chances to take more investment from the market in the
form of long term and short term borrowings and expand more. Overall on the basis of the ratio
analysis it can be said that the company is playing safe and there are very few areas in which the
company needs to make changes (Jefferson, 2017).
Audit assertions are very important from the view point of auditing and taking appropriate
decisions with regards to audit planning and procedures. Assertions helps in making claims
regarding certain elements of the financial statements of the company to decide whether they are
showing true and fair view of the companies position (Kim, Schmidgall, & Damitio, 2017).
There can be certain risks also that the auditors might face while conducting audit and that
includes – Inherent risk, detection risk and control risk. With respect to the given company
certain key areas have been analysed and highlighted below:
Sl
No.
Key risk areas Relevant assertion Audit procedure
1 The key area includes
acquisition of 100% stakes
of a company based in New
Zealand. It was a big
accqusition and the
company has invested a lot
funds in that (Das, 2017).
The aim of the company
and the auditor is to check
that the accqusition has
taken place on fair grounds
and proper judgement was
involved in accounting for
the transaction of the
company. There are high
chances that the
mamagement can default in
The key audit procedures
would include:
Reviewing the sale
agreement, performing
test on the fair value of
the assets and liabilities,
check whether relevant
disclosures are relevant
or not. Undertaking third
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this area. party valuation would
also be an important step.
2 The other key area would
include analysing the
carrying value of the cash
generating units that are
established in New Zealand
by the company (Sithole,
Chandler, Abeysekera, &
Paas, 2017).
The main area of assertion
would be to analyse the
overall financial
performance of the
company and also check
the relevant cash flows and
other key assumptions
made by the company
(Werner, 2017).
The key audit procedures
would include :
Understanding the
management decision on
using the value-in-use
model.
Taking help from
valuation specialist to
check the several aspect
that are related to such
cash generating units
(Trieu, 2017).
Section 3: Review of the cash flow statement of the company
The third part will include analysis of the cash flow statement of the company that helps in
tracking the movement of the cash between the opening and the closing balance of cash for the
company. The cash flow statement has been extracted from the annual report of the company and
has been presented below:
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From the given cash flow statement it can be seen that the major source of cash inflow is receipts
from customers of $6205, and the major payments is done to the supplier $5908. The company
does not invest too much in financing and investing activities, and this is clear from the above
statement. In the given year the company has paid for business combination and also for plant
and equipment (Jefferson, 2017). This shows that the company is trying to expand its operations.
It can also be seen that the company has issued some shares and also repayed some borrowings
which means that the overall capital structure of the company is becoming more big , with more
investment and better result (Belton, 2017).
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Overall on the basis of the analysis above it can be said that the company is functioning very
well and there are very few areas in which the company needs to make changes given the
industry standards.
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