Accounts Receivable and Debt-to-equity Ratio
To: Audit partner
From: Sajan Shrestha (manager)
Date: 4/20/14
Subject: Identification of factors influencing risks and the relationship of risks to audit evidence
After performing preliminary analytical procedures and planning activities for Pinnacle Manufacturing, I have found several factors influencing inherent risks and acceptable audit risk. I have categorized the determinants of acceptable audit risk into three different factors: external users’ reliance on financial statements, likelihood of financial difficulties, and management integrity. All the calculations in detail are listed at the end of this report.
External users’ reliance on financial statements
Pinnacle is a medium-sized corporation, with total assets of $115,434,790, which suggests a fairly large number of external users rely on the financial statements.
The Board of Directors has considered selling the Machine-Tech division. This sparks up interest to the users as to find out the reason behind it.
It currently has a debt-to-equity ratio of 0.66. But, the Board of Directors has decided to raise a significant amount of debt to finance the construction of a new manufacturing plant for the Solar-Electro division. This would increase the debt-to-equity ratio, which could generate concerns to investors.
It is sensible to assess a low acceptable audit risk when the external users rely greatly on the financial statements, which is the case in this audit.
Likelihood of financial difficulties
Its 2012 current ratio and quick ratio are 1.93 and 0.75 respectively. Its 2013 current ratio and quick ratio are 1.75 and 0.69 respectively. This suggests the company is still healthy in terms of carrying cash and cash equivalents, even though its current liabilities have increased in 2013.
Its Income before Income Tax for 2013, 2012, and 2011 are $2,093,162, $1,897,352, and $3,059,187 respectively. There is no significant trend of lowering income.
Large amount of debt can bring solvency
From: Sajan Shrestha (manager)
Date: 4/20/14
Subject: Identification of factors influencing risks and the relationship of risks to audit evidence
After performing preliminary analytical procedures and planning activities for Pinnacle Manufacturing, I have found several factors influencing inherent risks and acceptable audit risk. I have categorized the determinants of acceptable audit risk into three different factors: external users’ reliance on financial statements, likelihood of financial difficulties, and management integrity. All the calculations in detail are listed at the end of this report.
External users’ reliance on financial statements
Pinnacle is a medium-sized corporation, with total assets of $115,434,790, which suggests a fairly large number of external users rely on the financial statements.
The Board of Directors has considered selling the Machine-Tech division. This sparks up interest to the users as to find out the reason behind it.
It currently has a debt-to-equity ratio of 0.66. But, the Board of Directors has decided to raise a significant amount of debt to finance the construction of a new manufacturing plant for the Solar-Electro division. This would increase the debt-to-equity ratio, which could generate concerns to investors.
It is sensible to assess a low acceptable audit risk when the external users rely greatly on the financial statements, which is the case in this audit.
Likelihood of financial difficulties
Its 2012 current ratio and quick ratio are 1.93 and 0.75 respectively. Its 2013 current ratio and quick ratio are 1.75 and 0.69 respectively. This suggests the company is still healthy in terms of carrying cash and cash equivalents, even though its current liabilities have increased in 2013.
Its Income before Income Tax for 2013, 2012, and 2011 are $2,093,162, $1,897,352, and $3,059,187 respectively. There is no significant trend of lowering income.
Large amount of debt can bring solvency