SCS 2331-You are the audit senior for the 2015 year-end audit

Question 4 ( 13 marks)You are the audit senior for the 2015 year-end audit of Clearly Contacts (CC), a publiclytraded Canadian company, that is one of the largest and fastest on-line vision careproviders in the world. Because of the efficiencies of the Internet to bypass middlemen,CC has a significant competitive advantage in its market.You are responsible for auditing the revenue cycle. Performance materiality for the CCaudit is $100,000. CC’s year-end is October 31, 2015.Below is a summary of key information regarding the revenue cycle:Revenue Recognition Policy – Revenue from product sales is recognized when theproduct has been shipped to the customer. At that point, the amount of sales revenue isdeterminable, no significant vendor obligations remain and the collection of the revenueis reasonably assured. A provision is made for product returns. Revenue collected inadvance of the product being shipped is deferred.Audit Strategy for Revenue – The audit strategy relies upon tests of controls, (includingsubstantive tests of transactions), and substantive analytical procedures. There are noaccounts receivable confirmations sent out. Your audit team has tested controls related torevenue transactions and concluded that controls are effective and support the control riskassessment of low for the revenue transaction-related assertions.Change in Credit Policy – When reviewing the accounts, you noted that a new account,allowance for doubtful accounts, has been set up. Upon investigation, you find that inFebruary 2015, CC implemented a program where the majority of customers weregranted credit. CC developed this program to attract new customers who might be waryof ordering contact lenses from an on-line retailer and having to pay for them prior toreceiving them. The company’s program, named “Invoice Me Later, or IML, allowscustomers to order from CC and pay after receiving the product. Management estimatespayment should be generally received in less than 15 days.Estimate for Allowance for Doubtful Accounts – The majority of the balancesoutstanding are less than $150 and there are a large number of records. Managementestimates an allowance based upon the aging of the receivable portfolio. Below is asummary of the aging and management’s estimate for the allowance for doubtfulaccounts. 1 Aging of Accounts ReceivableCurrentAged between 60 -120 daysAged greater than 120 daysTotal ReceivablesAllowance for Doubtful AccountsNet Receivables 2015$ 7,714,00088,00066,000$7,868,000135,0007,733,000 2014$ 6,695,000nilnil6,695,000nil6,695,000 Requireda) Explain the impact of the IML program on your audit strategy for the revenue cycle ofCC. (Use the audit risk model and assertions to support your analysis). (5 marks)b) Do you agree with the auditors’ decision to not send out accounts receivableconfirmations? Why or why not? (4 marks)c) If the auditors planned to send out accounts receivable confirmations, what type ofconfirmations would you recommend? Explain why. (4 marks) Question 3 (15 marks)You are the in charge auditor for Johnny Gold Jewellers (JGJ) which has seven stores inthe Toronto area. The fiscal year end of the company is December 31. The companydeals in precious and semi-precious stones and high quality costume jewellery. Diamondengagement rings make up over 50% of sales and 10, 14, and 18 carat gold chains makeup another 20%. During peak demand periods, for example just before Christmas andValentines Day, Mr. Gold acquires on consignment jewellery from another manufacturer.The president, Johnny Gold, is an accredited geologist. Mr. Gold attends auctions in NewYork and London several times a year. The rough cut gems are ground and polished inJGJ’s lab in the flagship store and distributed among the seven stores. Mr. Gold needs toanticipate well in advance what he believes the latest trends in costume jewellery will be.Mr. Gold’s track record is excellent but occasionally he misses the mark and has to sellsome of the jewellery at a substantial discount. The company plans to do its inventorycount on December 31, 2015.Perpetual inventory records are kept in each store, which should balance to a controlaccount kept in the main branch. Documentation for all purchases is kept in the mainbranch. Mark-ups average 150% on cost. 2 All inventories are insured with a 50% co-insurance clause, and employees are bonded.All employees receive a bonus based on sales for the last 2 weeks in December. Thebonus is based on the numbers of years working at JGJ as well as a percentage of sales.It is now December 10, 2015 and you are preparing for the physical inventory count onDecember 31, 2015.RequiredExplain briefly five specific risk factors related to the counting and valuation of JGJ’sinventory at December 31, 2015. For each risk identify the management assertion andone audit procedure to address the assertion (15 marks).Arrange your answer using the table on the following page. Explanation of Risk(1 mark) Audit procedure to address managementassertion ( 1 mark) and note the assertion (1mark) 3 4