2) An over count of ending inventory would lead to a decrease in costs of goods sold which leads to an increase in net income. Anytime a company wants a higher net income there is the potential for over counting of inventory. This potential problem is especially significant in the audit of the Lakeside stores because manager’s of the each store get a bonus based on the store’s net income. They are also the same people who count the inventory.
It would be very tempting for the managers to over-count their inventory in order to increase their bonus. 3) An undercount of ending inventory would lead to an increase in cost of goods sold which leads to a decrease in net income. A company may undercount inventory to defer payment of income taxes. This problem is more likely to occur to a company struggling with their cash flow. This potential problem is not especially significant to the Lakeside stores unless they wanted to reduce their current taxes.
4) In the engagement letter given to a client it says that “the auditor is able to obtain reasonable, but not absolute, assurance that material misstatements are detected. 1” This means the auditor is not responsible for ensuring there is not mistakes or misstatement but they are responsible for reasonable assurance. The judgment of the auditor is “required to be the informed judgment of a qualified professional person2” In other words the auditors at Chapman are judged by what the average auditor exercising due care would do.
I. Introduction In this age, the effectivity and accessibility of a system is very crucial in businesses. This will greatly affect the success of the business.The used of manual processes in business has decline since the rise of computerized and automated systems. And in fact, nowadays, the use of computer-based business system has become prevalent all throughout the developed and developing ...
If they do this then they are providing reasonable assurance. Furthermore, Chapman must show all their work as proof that they did a thorough job auditing Lakeside and were not negligent during the audit. If the average auditor exercising due care would have detected the material misstatement then Chapman would be considered negligent in its audit of Lakeside, and Lakeside can receive payment from Chapman for any losses incurred because of Chapman’s negligence.
Depending on the law of the state the Chapman firm may face a law suit from a third party if the third party can prove that the firm has a duty to exercise due care to the third party, the auditor breached the duty, and a connection between the auditor’s negligence and the third party’s injury as well as economic loss because of negligence. 6) This is done because management can manipulate earning by recording sales in one year and delaying returns until the next period after the end of the fiscal year.
The auditor can ensure this manipulation is not occurring by doing a year-end adjustment to estimate ensuing returns. Along with this estimation the auditor should review sales returns at the beginning of the new fiscal year. 7) This testing procedure records the last tag number as a protective measure in case someone tried to create another tag after her observation to increase inventory. As stated in question 2 over counting of inventory is probably for Lakesides in order to decrease cost of goods sold thus increasing net income, which in turn would increase the manager’s bonuses at each store.