Darjeeling Financial Analysis and Audit Risks examines the financial performance and audit considerations for Darjeeling Co. Key topics include gross profit margins, inventory holding periods, and receivables collection. The document also discusses audit risks related to intangible assets, revenue expenses, and liability treatments. It provides insights into financial compliance with accounting standards, making it essential for finance professionals and auditors. This analysis is particularly useful for those involved in corporate finance and auditing practices.

Key Points

  • Analyzes gross profit margins and financial ratios for Darjeeling Co.
  • Discusses audit risks related to intangible assets and revenue recognition
  • Examines inventory holding periods and their impact on financial statements
  • Reviews liability treatment for loans and financial compliance with accounting standards
Cookie Babu
3 pages
Language:English
Type:Notes
Accounting
Cookie Babu
3 pages
Language:English
Type:Notes
Accounting
327
/ 3
212 DARJEELING
(b)
Raos
Forecast
20X5
Actual
20X4
Gross profit
(7410/19850)*100=37.33%
(6190/16990)*100=36.43%
period
(1850/12440)*365
=55 days
(1330/10800)*365
=45days
Receivables
collecon period
(2750/19850)*
365=51days
(1780/16990)*365=39days
Payables payment
days
(1970/12440)*365
=58 days
(1190/10800)*365
=41days
( c )
Audit risk
Auditor’s response
Intangible asset
During the year Darjeeling Co has spent
$0.9m, which is included within intangible
assets, on the development of new product
lines, some of which are in the early stages
of their development cycle.
As per IAS 38 Intangible asets, research
costs must be treated as expense and
development costs that meets the criteria
must be capitalised. If the company fails to
treat this properly there is a risk of
understatement of expenses.
Review the breakdown of $0.9 m spent.
Confirm that the research and development
costs are treated as per accounng
standards.
Revenue expense capitalised
During the year it purchased and installed a
new manufacturing line. All costs, incurred
in the purchase and installaon of that
asset, have been included within property,
plant and equipment. These capitalised
costs include the purchase price of $2.2m,
installaon costs of $0.4m and a five-year
servicing and maintenance plan cosng
$0.5m.
Service and maintenance costs must be
treated as expenses as per accounng
standards. This has been included in PPE
which leads to overstatement of assets and
profits.
Discuss with the finance director raonale
for including service and maintenance cost
in asset. The correct treatment of the same
should be made in the financial statement,
verify that the costs are recorded as per
accounng standards.
Liability treatment
In order to finance the development
projects and the new manufacturing line,
the company borrowed $4m from the bank
which is to be repaid in instalments over
eight years .
The loan should be split into current and
non current liabilies to ensure correct
disclosure .If not this might lead to
overstatement of liabilies.
Review the loan documents to Confirm that
the loan is received .The split between
current and non current liabilies should be
reviewed to ensure compliance with
accounng standards.
Finance cost
The Company borrowed $4m from the bank
with an interest rate of 5%.
The finance cost must be treated as an
expense in statement of profit or loss as per
accounng standards. There is a risk of
understatement of expenses if finance costs
are not shown .
Recalculate the finance cost and verify the
loan documents for the confirmaon of
interest rates. Interest payments must be
verified with cash book and bank statement
balances to confirm the amount was paid
and not year end payable.
Price Promise
The company intends to include a refund
liability of $0.25m, which is based on the
monthly level of claims to date, in the dra
financial statements.
As per accounng standards,the refund
amount should not be recognised as
revenue whereas it must be treated as a
provision liability.If the company records it
as revenue ,profits would be overstated.
Review the documents too confirm that
revenue has been adjusted. Verify the
accuracy of the $0.25m with supporng
documents such as refund claims from
customers. Discuss the treatment with the
management and ensure that refund is
treated as per accounng standards.
Stock exchange lisng
The company intends to undertake a stock
exchange lisng in the next 12 months.
There is a risk of manipulaon of
profit,revenue and assets. There is
increased cut off risks. This might lead to
overstated revenues ,profits and assets,
Perform cut off tesng .Maintain
professional scepcism throughout the
audit .Judgemental decisions must be
reviewed and tested in detail. In addion
the audit firm should appoint the team with
sufficient experience.
Credit terms
The company started a number of iniaves
during the year in order to boost revenue. It
offered extended credit terms to its
customers on the condion that their sales
order quanes were increased.
The forecasted receivable collecon days is
12 days more than the actual receivables
days.This indicates a risk of bad debts .
Allowance for recievables must be
maintained properly.If Company failing to
Review whether Credit terms are be
provided by analysing the credit scores of
customers .Review the aged receivable
ledger and post year end receipts should be
checked. Discuss with the finance director
whether they have an intenon to create an
allowance for receivable. If not, check the
adequacy of the exisng allowance for
receivable.
amiantain this would lead to overstatement
of receivables.
Product recall
Sales have been stopped and a product
recall has been iniated for any of these
specific paint products sold since June.
Inventory holding days has been forecasted
as 55 days ,that is 10 more days from the
actual holding days.This might be due the
recall of the products.
When the product is recalled the inventory
should be recorded lower of cost or NRV
and the revenue should also be adjusted
correctly.
The risk in here is that if the company did
not account this correctly will lead to
overstatement of revenue and inventory
Review the product recall made and agree
that sales has been removed from revenue
and included in inventory ,also the cost or
NRV tesng should be done to confirm that
the inventory has been recorded correctly
/ 3
End of Document
327

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FAQs

What is the gross profit percentage for Darjeeling Co in 20X5?
The gross profit percentage for Darjeeling Co in 20X5 is calculated as (Gross Profit / Revenue) * 100. For 20X5, this is (7410 / 19850) * 100, resulting in a gross profit percentage of 37.33%.
How long is the inventory holding period for Darjeeling Co in 20X5?
The inventory holding period for Darjeeling Co in 20X5 is calculated as (Inventory / Cost of Goods Sold) * 365. For 20X5, this is (1850 / 12440) * 365, which equals 55 days.
What are the risks associated with intangible assets for Darjeeling Co?
The audit risk related to intangible assets for Darjeeling Co involves the $0.9 million spent on developing new product lines. According to IAS 38, research costs must be expensed, while development costs that meet specific criteria can be capitalized. If the company fails to classify these costs properly, there is a risk of understating expenses.
What finance costs must be treated as expenses for Darjeeling Co?
Darjeeling Co borrowed $4 million from the bank at an interest rate of 5%. The finance costs associated with this loan must be treated as an expense in the statement of profit or loss. Failure to show these finance costs could lead to an understatement of expenses.
How should the refund liability of $0.25 million be treated in the financial statements?
The refund liability of $0.25 million should be treated as a provision liability and not recognized as revenue, according to accounting standards. If recorded as revenue, it would lead to an overstatement of profits. The company must ensure that this liability is accurately reflected in the financial statements.
What is the risk associated with the company's stock exchange listing?
The risk associated with Darjeeling Co's planned stock exchange listing includes potential manipulation of profits, revenue, and assets. This can lead to overstated revenues, profits, and assets due to increased cut-off risks. The audit should include cut-off testing and maintain professional skepticism throughout.
What should be reviewed regarding the treatment of service and maintenance costs?
The service and maintenance costs of $0.5 million related to the new manufacturing line must not be capitalized as part of property, plant, and equipment. These costs should be treated as expenses according to accounting standards. The finance director should provide the rationale for their inclusion in the asset, and the correct treatment must be verified in the financial statements.

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