Materiality In Audit Reports: Calculation And Importance For Companies | ARB Corporation Essay.

There are three sections to this assignment. Each section is worth 10 marks. Each section includes a component for communication skills. Communication with clients is an imperative necessity for auditors and excellent writing skills are expected from professional accountants, therefore please write your answers carefully and clearly. 

Determine the level of materiality to be used for the audit of the group accounts for the year ending in 2017. Your answer should include a discussion of the nature of materiality, and a description of what materiality represents in terms of the audit of a set of financial statements, and should discuss the different bases and considerations employed in arriving at materiality. Explain the rationale behind your choice of a certain level of materiality. Provide a
quantitative estimate of materiality for your company.

Review the various draft notes and disclosures accompanying the draft annual report. Highlight those that may have significance to the audit, eg. Contingencies, and outline the audit procedures that you will need to perform.

The partner has requested you to prepare a preliminary analytical review on the information provided by your company. The partner suggests that as a minimum you address key balance sheet and profit and loss ratios over the period 2014 to 2017.

Based on these results and the nature of your company’s business and its markets, outline the apparent trends and changes in these ratios, the key risk areas for the audit and the matters that will have to be addressed in the audit plan. Give examples of relevant assertions and at least one audit procedure for each assertion.

Review the statement of cash flows. Which category of cash flows provided the majority of cash inflows? Which category had the greatest outflows?
Identify the primary cash receipts and cash payments during the year.

What were the main non-cash financial and investing activities?

Using the results of questions 2 and 4, evaluate the going concern risk of this company.

What audit procedures would you recommend to address this risk.

Review the audit report of the 2017 financial report. What type of opinion was expressed? Are there any additional sections or paragraphs indicating any audit issues? If any, describe the nature of these issues in detail.

Materiality: Definition and Calculation

Materiality is one of the most important element of the audit report of any company. It is covered by ASA 320, which states that materiality is very important for the overall audit planning by the auditor. Any kind of misstatements, omissions and errors are material in nature if they have any effect on the financials of the company and might end up affecting the overall decisions of the user of financial statement of the company. It varies from company to company and every company might have some different level of materiality concern. Companies might be concerned with $5000 materiality level and some might not be affected by $500,000 also. It all depends on the overall organizational structure of the company (Alexander, 2016). It is both qualitative and quantitative in nature. As per the relevant accounting standards there are certain materiality levels that have been prescribed which are 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 (Arnott, Lizama, & Song, 2017).

The company that has been selected is ARB Corporation. It is one of the largest manufacturer and distributor of 4*4 accessories that includes bull bars, canopies, tow bars and winches. The company has expanded a lot in the recent years and the company has its headquarters in USA and export network that is present in more than 100 countries (Belton, 2017). The company was founded in 1975. In this assignment we are studying the overall materiality element of the company that has been calculated based on the annual report of the company and the data present in the financial statements of the company. Based on the parameters that are mentioned above, the materiality levels of the company have been calculated. Given the data above, it can be taken as $350,000 as the materiality level for the company. An extract from the annual report of the company has been attached below:

The table shows every element that might be material to the company and the specific ranges between which the company should raise any question about any given misstatement. The ranges have been declared by the specific accounting standards and nothing above that should be considered material. In case of the given company we see that everything falls within the specific range hence that could be considered as low chance of any material misstatement to occur. As per the auditor of the company, the few elemnets that the company should focus on more should be the overall gross revenue and inventory and that might be considered as the overall nature of materiality

Overview of ARB Corporation

The draft and notes to the account of the company include major declaration regarding key matters like valuation of the inventory and the assumption regarding the going concern ability of the company. It also includes disclosures regarding the key accounting policies and accounting standards followed by the company in preparation of the financial statements of the company.

The following contingencies have been mentioned in the draft reports - operating lease commitments and capital expenditure commitments. The company has provided relevant disclosure with respect to the same and have also mentioned how they are calculating it. In order to check the contingencies, the auditors can check the age of the lease payments, the time period during which they are due and whether the terms at which they have been given off is favourable. The capital expenditures have also been checked in the smiliar way.

There are two types of audit procedures that the auditors can apply for the audit of the key element of the company. These are substantive test and the analytical review procedures. Two types of substantive tests are vouching and verification. Vouching includes, check the income and expenses of the company based on the supporting documents and verification includes checking key areas, key elements of the company. Verification will check completeness, appropriateness and any change in the overall value of the assets and liabilities of the company (Erik & Jan, 2017). When the auditor is not able to make an opinion based on the substantive measures, they can apply analytical procedures for the company. The analytical procedures would include trend analysis, analysis of the variances and the auditors should put in efforts for audit planning and assessing the key areas that might include any kind of risk element in the entity. It is very important that any kind of material misstatement should be properly stated as the users of the financial statements depends on the audit reports to take important decisions with regards to the company.  In this assignment the ratio analysis has been taken as a measure to conduct analytical review of the company and the trend is shown for the following years given below:

From the overall analysis based on the above ratios it can be said that the revenue of the company has increased a lot since the prior years. From 2014 to 2017, the sales have increased a lot. The overall gross profit has also increased and this shows that the company is doing good both on the top line and the bottom line approach (Trieu, 2017). The return on capital shows how much the company is getting in return with respect to the capital invested. So we see that over the years the return on capital invested has increased from 17.5 to 18. The dividend yield ratio shows how much dividend the shareholders are earning in return to their overall investment. Here we see that the dividend yield has increased from 1.5 to 2.2 , which means that the shareholders can invest in the company and get great returns. The return on equity also shows how much the company is earning in respect to the shareholders investment from 16 to 18.1, this shows that the company is performing well and the overall capital structure of the company has also improved. (Erik & Jan, 2017).

Analytical Review of ARB Corporation's Financial Statements

Now, when we compare the ratio of the company with the industry, we see that the quick ratio for the company is 1.14 and the industry is 1.35, which means that company is not able to pay off its current liabilities fast in comparison to that of the industry. Also, we see that the total debt to equity ratio of the company is very less 1.32% in comparison to the industry in which the company is functioning (Werner, 2017). The company has no long-term debt and thus the overall ratio is 0 in comparison to the industry. Overall it can be said that the company has done well since prior year but in comparison to the industry the company needs to perform better (Kim, Schmidgall, & Damitio, 2017). The company needs to invest more in other capital elements that would include debts, debentures etc. as that would help in improving the overall liquidity position of the company and taking more risks would also ensure that the management is generating enough return to support the investors who are putting their money.

The second part deals with Audit assertions are the implications and claims that the management of the company does to make sure that the financials of the company are appropriate and there are no false claims in that. In case of audit risks the auditors might not be able to judge certain areas that might include risks to the materiality of the company (Grenier, 2017). There are three types of audit risks which includes control risk, inherent risk and detection risk. Detection of the risks is very important with respect to the company. With respect to the company, the overall financial statements of the company has been studied and key points have been developed-

From the given cash flow, most of the cash flow of the company is from the sales made to the customer $404,494 and the major payment have been made to the supplier and the employees of the company $32,448. Thus, major cash flow of the company is from operating activities and that includes the major transactions made (Das, 2017). It can also be seen that the company has made a lot of investment this year and that is evident from the investing activities where the company has made investment in property plant and equipment, development cost and has also earned from sale of property. These were the major investing activities done by the company and the major financing activities would include payment of dividend that is also a major portion from the cash $26,129. It can thus be seen that the overall cash element that the cash has is very less and the company is mostly dealing in credit.

Audit Assertions: Ensuring Accuracy of Financial Statements

Based on the overall analysis it can be said that the company has done extremely well and the company is operating on a going concern basis, where the company is investing a lot for growth and expansion. The company has focused considerably on inventory valuation and the management has taken appropriate steps to determine the inventory valuation. The overall consolidated financial statements of the company as a group has also been studied and the auditor of the company have framed their relevant opinion on the same (Goldmann, 2016). The auditors have mentioned in their audit report that the company has aligned their operations with respect to the relevant accounting and auditing standards. In case there would have been any material misstatement the auditor would have stated the same (Farmer, 2018). The directors of the company have mentioned that the financial statements of the company have been prepared as per the Australian Accounting Standards and the Corporations Act 2001, and they have exercised effective due diligence in making sure that all the internal controls of the company are in place. The auditors have also highlighted few areas in which the management needs to work and put more efforts and areas in which the chances of risk are more have been presented separately. An extract from the audit report of the company is given below:

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