Whirland Chemical Company
There are a number of factors with Whirland Chemical Company that raise concern and increase the audit risk of this company. We will go over the major concerns one by one, and then determine the level of audit risk we are willing to accept on this engagement.
* First of all, we are auditing Whirland for the first time.
Because this is the first time we are auditing Whirland, a lot of research has to be done on the operations of the company. We need to have discussions with their previous audit firm, look over the working papers of these audits, get familiar with the organisational culture, review any documentation Whirland has regarding their internal controls. A significant amount of work has to be done to become familiar with the organisation.
* Dispute with previous auditor concerning inventory valuation and timing of sales, which could raise some concern as to whether or not there will be issues with erroneous journal entries in the current year
A lot of communication should be done with management as well as other accounting personnel at Whirland to determine what the result of these transactions were, and if they were recorded properly in the end. We will also have to discuss these issues with the previous audit firm, as management may not be willing to cooperate, given their history.
* Somehow Whirland has managed to be highly successful in the past two decades, regardless of the fact that the rest of the industry was suffering hard times. Typically, if an industry overall is struggling, most companies will be travelling in the same direction. They could possibly be slowing down much slower than the other companies in the industry but they do not usually have such high success in these times.
This is where professional skepticism will have to be in play. More testing should be done to look deeper into transactions and accounts such as inventory and sales, which the company has a history of disputing. These could be items that contribute to higher profits and earnings management using fraudulent transactions.
* Insufficient accounting records. Because Randolph does not value historical information, there may be gaps in the records which could make tracing audit procedures difficult. The absence of accounting records can make audit testing very challenging, and may lead to inconclusive results for existence and completeness. This leads us to believe that there is a high control risk at Whirland.
Extreme care should be taken in finding supporting documents for all transactions that are being tested. If there is information missing regarding material transactions, or even immaterial transactions contained in our sample should be located. Knowing the lack of attention Mr. Randolph pays to these documents may cause some suspicions.
* Management being compensated with very low salaries and unusually high profit sharing plans. This can raise concern because these highly aggressive executives are being motivated strictly by profits in an industry that is in the middle of highly decreasing profit. These are key motivations for earnings management and fraudulent behaviour.
Balances such as revenue should be assessed at high inherent risk, and extensive testing should be done on sales related balances and transactions. All of these issues are interrelated, and right back to the beginning, when we saw that there were issues with sales being counted during the wrong time period. These issues are even further increasing risk when executives motivated by higher profits are behind these suspicious transactions.
* Sales forecasts being done by sales and production departments. Salesmen and the production should have a role in the forecasts, but should not be responsible for making those forecasts. Employees in these roles lack the expertise of creating accurate sales forecasts, and there...