Accounting management help on: Stanley Limited

Accounting management help on: Stanley Limited

Stanley Limited Part AStanley Limited was created eleven years ago. It initiated trading as a family owned and managed business manufacturing small electrical components for the motor industry. For the necessary risk assessments, it is important for the management of the Stanley to evaluate 3 high audit risks in the financial notes and statements of the Company (Holmes, 2010). Three high audit risks have been found in the company’s background notes and financial statements such as first risk is related to Turnover & Receivables, second risk is related to Cost of Sales and third risk is related to Inventory. It is examined that there are various risks attached with turnover & receivables such as considerable increase above growth in the market, greater risk of the default, adequacy of the bad debt provision and reduction in the Gross Profit Margin. On the other side, several risks are attached with the Cost of Sales such as significant increase above growth in the market, closing problems of the inventory and reduction in the Gross Profit Margin. Several risks attached with inventory also such as unbelievable inventory days, new system and Gross profit margin (Rosemary, 2010).  Inventory is a part of the current assets which comes in the Balance sheet of the Company whereas Cost of Sales comes in Income Statement of the Company. These three risk areas can be calculated with the help of various ratios such as Accounts Receivables Turnover, Gross margin and ratio which shows how many number of times, the inventory of the Company is replaced and sold throughout a period of time (Holmes, 2010). There are various criteria’s which covers in audit strategy of the Company such as analytical procedures, Materiality, high areas of risk, scope of audit, timing, direction of audit, specific procedures of audit and cost and time budgets.Cost of sales: Cost of Sales is considered as the direct cost related to the production of goods sold by the Company. This amount comprises the materials cost utilized making the products along with costs of direct labour utilized to make the good. It does not contain indirect expenses like sale force cost and distribution cost (Rosemary, 2010).  COGS appear on the P&L account and could be deducted from the Sales in order to calculate the gross margin of the Company. Risks related .with Cost of Sales is as follows

• Closing problems of Inventory
• Reduction in Gross profit Margin

Gross Margin = Net Sales – COGS/ Net Sales

In case of Stanley turnover is assumed as Net Sales

In year 2011 Net sales = 11220

                   Cost of sales = 8415     = (11220-8415)/11220 = 25%

In year 2010 Net Sales= 9 750

                   Cost of Sales = 8576 = (9750-8576)/9750 = 12.04%

After done evaluation of last two years, it has been observed that Gross Profit Margin of the Company in year 2011 had increased from 12.04% to 25% which is a good sign for the Company. In order to maintain the same ratio in the coming years, the Company should maintain the risks attached with the COGS and Sales.Another Ratio is %of cost of sales related to average inventory (Rosemary, 2010). It is very clear that decreasing number reveals greater efficiency in usage of resources whereas increasing number recommends potential problems of cash flow because of the higher sums blocked up in the process of Inventory.  = (Average Inventory throughout a period/ cost of sales throughout that period)*100

Average Inventory for 2011= (2476+ 2438)/2 = 2457

Cost of Sales = 8415

= (2457)/8415*100 = 29.19

Average Inventory for 2010 is (2476+2512)/2 = 2494

Cost of Sales= 8576

= (2494)/8576*100 = 29.08

It has been examined that this Inventory Ratio has been increased in year 2011 from 29.08 to 29.19 which shows that increasing number may possess potentail problems of cash flow because of the higher sums blocked in the Inventory process. The management of the Stanley should reduce this ratio because of the amount blocked in process of the Inventory.

Turnover and ReceivablesTurnover reveals the sales and revenue of the Company. Turnover has been taken from the Income Statement of the Company whereas Receivables have been taken from the Balance Sheet of the Company. Turnover is considered as Sales of the Company. Turnover helps in knowing profitability and financial position of the Company.  It is important for the management of the Stanley that they should maintain the turnover of the Company because turnover depicts the profitability and financial position of the Company. One of the high risk areas is Turnover and Receivables because it contains greater risk of the default and adequacy of the provision of the bad debt. There are various profitability ratios which can be calculated with the help of Turnover such as Gross Profit Margin, Net profit Margin and Assets Turnover (Rosemary, 2010).  It is important for any management of the Company to maintain the Turnover of the Company in order to maintain the profitability ratios. Receivables come in current assets of the Company. By maintaining A/R companies are indirectly giving interest –free loans to their users and clients. The high ratio signifies that the Company works on the cash basis or extension of the credit and collection of the A/R is effective. The low ratio signifies that the Company must re-evaluate its policies of the credit to make sure the timely collection of the imparted credit which is not earning any interest for the firm. A low ratio of A/R reveals that the Company must re-evaluate its policies of the credit to make sure the timely collection of the A/R.

Relevant assertions in relation to Turnover and Receivables Check debtors listing to control account

1. Cast debtors listing
2. Review for obvious omissions/unusual items
3. For a sample:

• Circularisation
• Alternative procedures
  • Cut-off
  • Post year-end receipts

5. Valuation:

• Aged debtors listing
• Inspection of records
• Enquiry
  • Debtors payment period

6. Analytical procedures:

7. CAATs

• Income statement entries

Inventory: It can be said that raw materials, work-in process goods and finished goods are referred to be as the portion of the assets of the business which are ready or shall be ready for the sales. Inventory is considered as one of the significant assets that most of the business possesses because, turnover of the inventory indicates as one of the major sources of the revenue generation and earnings for the shareholders of the Company. It can be said that high risk is attached with Inventory such as unbelievable days of inventory, new system and GP margin. It is significant for the Company to maintain the inventory in order to avoid the risks attached with the Inventory (Dechow, Patricia & Meulbroek, 2001).  Inventory position of the Stanley can be examined with the help of various ratios such as COGS/Inventory and Sales/Inventory. There are two ratios which show, how many numbers of times inventory of the Company is replaced and sold throughout a period.Average Inventory for the year 2011 is 2457 which is calculated (2476+ 2438)/2

Sales = 2438

Sales/Inventory in 2011  = 11220/2438 = 4.60

Cost of Goods Sold/ Average Inventory in 2011  = 8415/2457 = 3.42

Average Inventory for the year 2010 is (2476+2512)/2 = 2494

Sales/ Inventory in 2010 = 9750/2476 = 3.93

Cost of Goods Sold/Average Inventory = 8576/2494 = 3.43

It is advisable to use Average Inventory instead of Ending Inventory in order to reduce seasonal factors. This kind of ratio must be evaluated against averages of the Industry. A low rate of turnover signifies poor sales and excess inventory (Flyer, 1996). A high ratio of turnover signifies strong sales and ineffective buying. After done calculation of last two years, it has been observed that Sales/ Inventory in year 2011 had increased which revealed ineffective buying and good sales.

Audit Procedures in Respect to Inventory

It could be stated that risks of Inventory control impacts all companies irrespective of how much stock and Inventory the company carries. The two ratios have been calculated in respect to Inventory such as Sales/ Inventory and COGS/ Average Inventory (Barth, 2006). The small business man should make every effort to minimize the risks related with the carrying Inventory.  In general, there are so many risks attached with the Inventory such as Lost Inventory, Damage and Theft (Dechow, Patricia & Meulbroek, 2001). Theft is considered as one of the higher risks related with the controlling inventory particularly, high –value inventory. Companies spend money to make policies of Inventory control and safeguards to prevent any kind of theft. Tight policies of the inventory control mixed with well train personnel in order to prevent losses (Bromwich, 2004). Industries which face problems of damaged goods put policies of Inventory control in place to reduce the damage. It has been observed from the case study that, management of the Stanley Company is at advanced stage of discussions with some existing customers to buy more from them and to commit to long-term contracts (Barth, 2006). The Company has some large potential new clients in the pipeline. To make delivery on time, to the potential clients the management of the Company should secure the stock and Inventories from any kind of danger and theft.

While making the procedures of Inventory, it is important to consider these steps:

• Why is the audit of the Inventory referred to be as significant area?
• What kinds of assertions associate with the audit of the Inventory?
•  What procedures shall the auditor carry out?
• What are year end matters in relation to inventory such as stock held by the third parties, stock of the third party held by us, damaged, obsolete, slow moving stock, cut off and response to the discrepancies?

 Step 1

Implement procedures to restrict the number of individuals with access to the inventory and maintain the record of those who has access to safe areas at particular times throughout the day. As per the effective inventory.com, managers underestimate the impact of the theft on their costs of the Inventory (Bromwich, 2004).

Step 2

It is advisable to the Stanley Company in order to minimize the loss attached to the Inventory they should have fool-proof systems for the Inventory storage and receipt (Barth, 2006).  It is important for the Company to make user- friendly verification and checklists procedures for workers making or receiving shipments for the Inventory.

Step 3

Make a plan to take benefit of the cooperative techniques of purchasing and central warehousing. Make a formal procedure to replenish inventories at one place with excess inventories from other locations, whenever possible and to mix purchases for various locations in the single purchase order (Dechow, Patricia & Meulbroek, 2001).

Step4

Observe the condition and quality of the inventories considering the obsolescence. It is important for the management of the Stanley to determine whether counting methods of the clients are effective or not. Consider the impact of purchase and sales and cut off test on the inventories.

Step 5

It is significant to estimate the demand of each stock annually. Create schedules of demand covering each month or quarter in the upcoming year (Bromwich, 2004). Take seasonal fluctuations of demand and decide to stock up the seasonal items of inventory early.

 Step 6

Perform procedures to test reasonableness of the Inventory. It is important to test the application of the client in respect to its valuation method of the Inventory such as LIFO and FIFO.  It is advisable to the management of the Company to utilize Average Inventory instead of Ending Inventory in order to minimize the seasonal factors.

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