such differences could be troublesome for auditors of transatlantic entities containing parents or subsidiaries in each continent, where legal resource and allowable liability limits differ. the purpose of this article are to discuss the abandoing of interpretation 101-16/ describe some effects of interpretation 507-8 and compare and contrast global approaches to limiting accountants' liability throug the use of engagement letter. rule 101 interpret thta indemnification agreements remove a major stimulus to objective and unbiased consideration of problem encountered in an egagement. regulator wants to retain the right to pursue recovery of losses against auditors of failed institutions' safety and soundness. AICPA members providing audit or other attestation services for banking, insurance, and other regulated industries would be discrediting the profession if they used restricted clauses in engagement letters. Crazy Eddie
1. Compute key ratios and other financial measures for Crazy Eddie during the period 1984-1987. Identify and briefly explain the red flags in Crazy Eddie's financial statements that suggested the firm posted a higher-than-normal level of audit risk.
Current Ratio (1987-84): 2.41, 1.40, 1.56, 0.93
Quick Ratio (1987-84): 1.40
, 0.60, 0.77, 0.15
Inventory Turnover (1987-84): 3.23, 4.38, 5.13, 5.88
Inventory Turnover ratio shows how often goods are bought and sold per year. Higher numbers indicate that the funds tied up in inventory are being used more efficiently. Examining Crazy Eddie's Inventory Turnover ratio it is obvious that the ratio is decreasing. This means that the inventory is sitting on the shelve longer. In the period of the explosive growth of the industry and accelerating sales numbers decreasing inventory turnover is unexpected and should have raised a red flag during the audit process.
2. Identify specific audit procedures that might have led to the detection of the following accounting irregularities perpetrated by Crazy Eddie personnel: (a) the falsification of inventory count sheets, (b) the bogus debit memos for accounts payable, (c) the recording of transshipping transactions as retail sales, and (d) the inclusion of consigned merchandise in year-end inventory.
The key to identifying fraudulent behavior is to set aside past relationships and not assume that all clients are honest. The new standard provides suggestions on how auditors can learn how to adopt a more critical, skeptical mind-set on their engagements, particularly during audit planning and the evaluation of audit evidence. (a) The falsification of inventory count sheets could have been avoided if the auditors performed random inventory checks at locations not known to the management in advance. This would have prevented the management from successfully covering up large discrepancies in the inventory counts. Additionally, the fact that Crazy Eddie's management dismantled the new computerized inventory system in favor of old paper based system should have raised some concerns as well. Only people who have something to hide will not want a modern real-time inventory system. (b) The bogus debit memos for accounts payable were generated by Crazy Eddie's employees and were used to reduce the balance of the accounts payable. In order to detect irregularities auditors should have done a better job at spot-checking the underlying transactions. Normally credit memos issued when a company overpays a vendor. Paper trail had to be followed and verified with the vendors. Large transactions close to the end of the period are always a suspect. (c) The recording of transshipping transactions as retail sales can be detected by verifying sales receipts. It's impossible to check all receipts, but inspecting larger transactions could have helped uncover the fraudulent practices perpetrated by the management. (d) the inclusion of consigned merchandise in year-end inventory could be detected by specifically inspecting...
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