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You are planning the 31 December 2016 audit of Household Gear Pty Limited (HHG), a company that runs a chain of home wares retail stores in the...
You are planning the 31 December 2016 audit of Household Gear Pty Limited (HHG), a company that runs a chain of home wares retail stores in the eastern states. ASIC require this company to provide audited General Purpose Financial Statement.
Using the company's financials as well as your understanding of HHG under ASA315, you have compiled the following preliminary information:
Ratio 2016 2015 2014 2013 2012
Current ratio 2.80 2.26 2.51 2.43 2.50
Quick ratio 0.97 1.34 1.82 1.76 1.64
Times interest earned 2.50 3.20 4.10 5.30 7.10
Accounts receivable turnover 4.20 5.50 4.10 5.40 5.60
Days in receivables 86.90 66.36 89.02 67.59 65.18
Inventory turnover 1.80 1.84 2.68 3.34 3.36
Days in inventory 202.77 198.37 139.19 109.28 108.63
Net sales divided by tangible assets 0.60 0.64 0.73 0.69 0.67
Profit margin 0.10 0.13 0.16 0.15 0.14
Return on assets 0.08 0.09 0.12 0.10 0.09
Return on equity 0.04 0.06 0.10 0.10 0.11
The business environment
HHG import all their products, primarily from India, the Middle East and South America. Some items are sourced from Africa and China. The company operates in a low gross margin environment, which typically means that large sale volumes are required to cover overhead costs and generate profits. It also means that overheads need to be kept under control to ensure that a net profit results from its operations.
The company did not reach industry benchmarks with regard to profitability in the previous year. To do better in the current year, they planned to keep its costs down in relation to sales while allowing its gross margin to drop, evidently planning to generate a larger volume of sales.
The company also planned to improve its working capital management by reducing levels of inventory and accounts receivable. It budgeted for a drop in debt levels, indicating that it expected to produce a healthy cash flow to enable it to do so.
Required
(a) From the above information what conclusions could you tentatively draw about the company's future.
(b) Based on ratios and the background material provided, identify three (3) key account balances that could be at risk of material misstatement, and would require special attention during the audit. Justify your choice and indicate if the accounts identified are likely to be over or understated.
(c) For each of the three account balances at risk identified in (b) above, identify and justify the two key assertions at risk.
(d) To help in your assessment of the company's financial condition, what additional information would be useful? Please explain your choice.
