Audit Report: Analytical Procedures and Risk Factors Analysis

This report provides an in-depth analysis of the financial accounting and reporting system of Double Ink Printers Limited, focusing on the perspective of auditors. It begins with an executive summary and an introduction that outlines the objectives of the report, which include analyzing financial statements and identifying associated risk factors. The report then delves into analytical procedures, examining key financial ratios such as current ratio, quick ratio, inventory turnover, return on assets, and debt/equity ratio, along with their audit implications. The analysis highlights significant changes in these ratios and their potential impact on the audit plan. The report further explores inherent risk factors, particularly focusing on inventory valuation methods and their influence on financial statement accuracy. Finally, the report addresses fraudulent risk factors, offering recommendations based on the overall findings. This comprehensive analysis aims to provide a thorough understanding of the audit process and the importance of risk assessment in financial reporting.

ANALYTICAL PROCEDURES AND THE RISK FACTORS
Student Name
Student ID
8/25/2017

EXECUTIVE SUMMARY
From the past so many decades, the financial accounting and reporting has been playing a very
important role in the industry. Every companies operating in the different industries are
mandatorily required to account for each and every transaction entered into by the company and
accordingly disclose the financial results for the particular period. Similarly Double Ink Printers
Limited, being a printing company, has a sound financial reporting system and the same have
been analysed in the report. The main objective of the report is to analyze the financial
accounting and reporting system of the company from point of view of the auditors of the
company. The analysis includes not only the financial statements but also the risk factors that
come during the audit. The role of the auditor in planning his audit considering the various risk
factors has been detailed in the report. With these objectives and the frames in mind the report
has been prepared.
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Table of Contents
Executive Summary 2
Introduction 4
Question1 – Analytical Procedures 5
Question 2 – Inherent Risk Factors 8
Question 3 – Fraudulent Risk Factors 9
Conclusion and Recommendation 10
References 11
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INTRODUCTION
The details of every company can be checked and verified from the basic document of the
company which is known as Annual Report. Annual report provides all the information which is
very useful for all the stakeholders of the company whether it is the employees or it is the
shareholders of the company. Each stakeholder wants to have more and more information about
the company so as to take the decision in relation to the company. Like, shareholder of the
company like to know whether he should invest in the company or not. For taking such decision
he should be available with the information pertaining to the financial position and the financial
performance of the company. This information are reflected and detailed with the note of the
directors of the company in the Financial Statements of the company forming part of the Annual
Report.
The report has been started with the executive summary detailing the main aims of the report.
Then it has detailed the answer to the question number one which is related to analytical
procedures adopted by the auditor before starting of the audit. The information of Double Ink
Printers Limited has been considered. The company is in the business of printing books and
magazines. In this it has been explained as to how the results of the procedures so performed
have affected the audit plan of the auditors. Then the answer to the second question has been
detailed which is related to the inherent risk factors. These risks are notified by the auditor while
reading the background information and the financial information and the internal control
procedures of the company. Similarly in the last question the risk factors which have led to
fraudulent reporting of the financial information have been detailed. At the last conclusion and
recommendation has been given for the whole study.
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QUESTION1 – ANALYTICAL PROCEDURES
S. No. Ratio 2013 2014 2015
1 Current Ratio 1.42 1.47 1.50
2 Quick Ratio 0.83 0.94 0.85
3 Inventory Turnover 15.16 14.11 10.40
4 Return On Assets 1.82 0.27 0.14
5 Debt / Equity 0.41 0.47 1.13
6 Gross Profit 17.55 16.13 15.20
7 Net Profit 6.90 6.08 6.84
S. No. Ratio Explanation Audit Impact
1 Current Ratio Current Ratio helps in
determining the company’s
ability to clear the short term
liabilities from the cash received
from the short term assets. These
short term assets and the short
term liabilities are termed as the
current assets and the current
liabilities respectively. It is
because it can be readily
converted into cash and cash
equivalents. This is regarded as
an important measure of the
liquidity. It is because the short
term liabilities are generally due
within the period of one year.
The current ratio has been
increased from 1.42 in the
year 2013 to 1.47 in the year
2014 and to 1.50 in the year
2015. The sudden increase is
noticeable. Current ratio of
1.50 is considered by the
banking industry as the best
value for the current ratio. As
per the background
information of the company,
the company is bound to
maintain current ratio of 1.50
so as to keep availing the
facility given by the BDO
Finance. The company BDO
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Therefore, the company usually
has the limited period to set off
its liability and therefore the
current assets which include the
cash and cash equivalents shall
be high so as to pay off the
current liabilities without
obtaining funds through long
term assets or long term sources
of finance.
Finance Limited has
stipulated that in case the
company fails to maintain
the current ratio of 1.50 then
it has the right to take back
the facility from the
company of the loan given
amounting to 7.5 million
Loan.
This factor will affect the
audit plan of the auditors as
they will be required to
check in detail as to how the
company has immediately
met the requirements of the
BDO Finance Limited.
Either the receivables have
been increased or the
inventory has been
overvalued.
As also from the discussion
of the board it was held that
the company has decided to
follow the FIFO method for
valuation of Inventory
instead of Weighted Average
which of course will increase
the value of inventory.
Therefore, these kinds of
manipulations are required to
be checked by the auditors in
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detail and hence their audit
plan needs to be modified.
2 Quick Ratio Quick ratio tells about the
company’s ability to pay off the
current liabilities from the
current assets which can be
easily converted into cash with
in the period of 90 days or less.
It informs the users as to how
fast the company is able to meet
its current liabilities with the
liquid assets. It includes cash and
cash equivalents but does not
include the inventory and the
expense which are in the nature
of prepaid.
The company’s quick ratio
has been fluctuating from
0.83, 0.94 and 0.85 in the
years of 2013, 2014 and
2015 respectively. The audit
plan will not be affected
majorly as the same will be
considered while performing
the audit of the current ratio
part.
3 Inventory Turnover The inventory turnover ratio
shows how many times the
company sale its goods over the
period of one year. It shows how
effectively the company is
managing its purchases and sales
over the period. Inventory is
considered as the major part for
the investors of the company to
consider. It is because the
inventory only informs about the
company ability to convert its
inventory into sales. Inventory is
normally offered as collateral to
the banks for availing of the
The inventory turnover ratio
has been considerably
decreased from 15.16 to
14.11 and to 10.40 in the
year 2013, 2014 and 2015
respectively. As the ratio has
been decreasing, it might be
possible that the inventory of
the company has been piling
up and the company was not
able to sell the inventory in
the market properly. Also the
inventory calculation is
required to check in
accordance with terms of
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loans and investors are readily
interested in knowing whether
the c company is incurring high
storage and handling costs for
maintaining the inventory.
BDO Finance Limited. Thus,
the audit plan is required to
be modified and auditors
have to act accordingly.
4 Return On Assets It denotes how effectively the
company has been able to
manage its total assets so as to
generate profits out of it. Higher
the ratio more will be the faith of
investors in the company.
Return on assets ratio has
been decreased considerable
from the year 2013 to the
year 2015 to the value of
0.14. It denotes that the
company is not able to
manage its assets effectively
and efficiently. The risk
factor is required to be
considered by the auditor as
to why the company is not
able to generate the profits.
This will have the higher
effect in the audit.
5 Debt / Equity The debt equity ratio denotes by
how many times the company
has the liabilities in relation to
the amount invested by the
shareholders of the company.
Each industry has different
benchmarks. Some have 0.5 and
some have 2.
The debt equity ratio has
been considerable increased
by from 0.47 in the year
2015 to 1.13 in the year of
2016. It is basically because
of the finance obtained from
the BDO Finance Limited.
The terms and conditions of
the finance
6 Gross Profit Gross Profit tells about the
trading and manufacturing
results of the company and
The gross profit of the
company has been decreased
considerably despite of the
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shows how effectively the
company is managing its
operations.
fact that the inventory has
been overvalued and hence
the audit plan is affected and
will needs modification
accordingly.
7 Net Profit Net profit shows the net income
earned by the company after
deducting the expenses and other
overheads of the company.
The company has been
maintaining the net profit
ratio of 6% approximately
irrespective of the fact that
the company’s gross profit
ratio has been decreased and
also the company’s interest
cost has been increased with
the introduction of finance of
7.5 million from BDO
Finance and hence the scope
of the audit will be increased
as there are high chances of
manipulation.
QUESTION 2 - INHERENT RISK FACTORS
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Auditor is required to consider the various kinds of risks while performing for the audit function.
Although there are three kinds of risks namely – Control risk, Detection Risk and the Inherent
Risk but in this section we will consider only the inherent risk. The factors which have
contributed towards the inherent risk factors are mentioned below:
S.
No
.
Inherent Risk Reasons for being Inherent Risk Impact on Material
Misstatement
1 Inventory Valuation
–Inventory valuation
is very important for
every company
whether it is the
trading company or
the manufacturing
company or the
service company.
Inventory shall be
valued as per the
relevant accounting
standard and all the
provisions of that
standard shall be
followed.
The company has been following the
weighted average method of valuing
the inventory. By following the
weighted average method of inventory
valuation, the value of the inventory
generally comes with low figure. Due
to which the gross profit of the
company comes with low figure.
In the given case the company has
obtained loan from the BDO Finance
Limited amounting to $7.5 million
during the year. The BDO Finance
Limited has included the condition
that the company has to maintain the
current ratio of 1.5. In the board
meeting, it has been described by the
board that the inventory valuation be
changed to FIFO Method from the
weighted average method. This will
lead to increase in the value of
inventory as the last purchase price
will always be higher in comparison to
The inventory valuation
plays very important role in
adjusting the net profit and
the gross profit of the
company. Sometimes the
inventory adjustment leaves
the material effect on the
financial statements of the
company.
In the given case as the
inventory valuation has
been changed from
weighted average method to
the FIFO Method, the
chances of having the
financial statements
materially misstated
becomes high. It is because
the effect of change in the
method sometimes comes
high which can lead to even
different financial position
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the weighted average price. Therefore,
In order to maintain the current ratio,
the company might have indulged in
such practice.
As the company has been following
the weighted average method since its
inception and also from the above
factors, the inventory valuation has
been considered as the major factor
which has led to the inherent risk in
the business.
and the performance of the
company.
Also the condition that the
BDO Finance Limited has
given to the company to
maintain the current ratio of
1.50. It will lead the
company to indulge in the
manipulating practices so as
to maintain the current ratio
and will strive to keep
enjoying the banking
facilities from the company.
Thus, in this way, this factor
will lead to material
misstatement in the
financial statements of the
company.
2 Acquisition of
Nuclear Publishing
Limited –
Acquisition of any
business shall be
done after taking
due diligence and
various feasibility
reports from the
professionals and
the management of
the company. The
acquisition shall be
In the given case the company has
acquired the company – Nuclear
Publishing Limited during the year.
Along with that the company has
acquired the printing rights of the
company. After the acquisition, one
article has been published stating that
the new technology has come and will
make the earlier books and theories
non useful for the students and the
readers.
This article has created a wave in the
market as the company will be in
The acquisition will have
the greater impact on the
material misstatement of the
company. It is because the
company that has been
acquired will be loss
making deal for the
company as all the theories
will get expired and the
company’s major
investment will be
depreciated with higher
amount in the future years.
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done after
considering the
market conditions of
the target company
also.
failure if the same thing has happened.
In order to be safe and sound the
company will get themselves engaged
in the manipulating practices.
In this way, the same acquisition has
been considered as one of the factor
contributing towards the inherent risk
of the company.
In order to maintain the
position of the company, the
company may be engaged in
manipulating the revenue
figures so as to show higher
profits with high earnings
per share.
The same fact has been
supported by the fact that
the company has been able
to generate profit equal to
percentage of sales as
equivalent to the profits
shown in the previous two
years. In this way the
financial statements are
materially misstated and the
auditor are required to
increase their scope and
plan of the audit.
QUESTION 3- FRAUDULENT RISK FACTORS
S. No. Fraud Risk Identification of Fraud
Risk
Audit Impact
1 Development of New
Software – The company
has decided to implement
the new system in which all
functions of the company
The risk that has been
identified in this condition
is that chances of having
the expenditure reported
during the particular period
Audit will be greatly
affected by the introduction
of new system. It is because
the auditors will have to
apply the additional audit
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whether it is related to
purchase or it is related to
sales or it is related to stock
or any other function. The
new software will help in
integrating all the functions
and give the common path
for the achievement of
organizational goals. The
employees of the company
are resistant as they are not
efficient enough for getting
the new system developed.
may be reported in the
other period. This will
provide the incorrect
details to the management
of the company. The same
fact has been reported in
the case study.
Secondly, to track the
status of the transactions in
the old system and the new
system will be difficult for
the employees of the
company as they are not
well equipped with the new
system. Also the staff was
under great pressure due to
which the employees were
not found able to do the
reconciliation and other
work with the new system.
procedures to do the audit of
the books of accounts of the
company. The additional
procedures will not only
apply to the old system but
also the new system so as to
check whether the financial
statements so delivered by
the systems are correct and
are at par. It is because is
they differs then there may
be the possibility that the
company might have
entered into the transactions
which has been recorded in
the one system and not
recorded in other system.
Secondly, as already said,
there may be the chances of
overstatement of
understatement of income or
the expenditure due to
reporting in the different
reporting period. Thus, this
development will affect the
audit and will persuade the
auditors to perform the
additional audit procedures
and plan the audit
accordingly.
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2 Stipulation of BDO Finance
Limited – The BDO
Finance Limited has made
the stipulated that the
company is required to
maintain the current ratio of
1.50 so as to enjoy the
facility of $7.5 million in
the future years. If gets
deviated then the BDO
Finance will withdraw the
facility of loan.
The risk factor that has
been noticed is that the
change in the current assets
and the current liabilities.
The current asset consists
mainly of the debtors and
the inventory and the
current liabilities consist of
the sundry creditors and
the other expenses payable.
To maintain the current
ratio of 1.5, the company
may increase the value of
debtors by increasing the
sales or decrease the
creditors by making the
payments.
Secondly the other risk
factor is that the company
may increase the inventory
value in order to increase
the current ratio. The same
has been done by the
company by adopting the
FIFO method of valuation
of inventory instead of
Weighted Average method.
In this factor also, the audit
will be affected. It is
because the change in
method of inventory will
automatically increase the
scope of the audit. The
auditors will have to apply
substantive procedures in
order to confirm the
inventory value. Secondly,
the debtor figures will also
be required to check in
detail. It is because the
revenue figure will also be
increased to increase the
value of the debtor and audit
plan will require the
adequate modification.
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CONCLUSION AND RECOMMENDATION
DIPL Company has been engaged in the business of the printing and publishing. As per the
background information of the company, the company has the sound internal control system and
accounting process. Since inception of the company, the company has been facing various risks
that have lead to the material misstatements in the financial statements of the company.
Secondly, the company has been able to engage in the manipulating practices which again have
resulted in material misstatements in the financial statements of the company. The auditor’s role
in the said risk factors and the financial statements has been enhanced. To conclude, the auditor
plays very important role in the financial statements of the company.
It’s recommended that the company shall have the proper system in place so as to avoid the
material misstatements in the financial statements.
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