Triple Steel Corporation - Essay Example

 Triple Steel Corporation Being involved in the audit of the steel company, a preliminary analytics of the key ratios and balances along with the assessment of the key risk areas of the company are conducted. Internal control limitations are also analyzed with respect of recording and valuation of inventory along with the dividend payment assessment. Preliminary Analytics The preliminary analytics of the company are carried out below which includes the calculations of the ratios and comparison of the balances of the company with last year balances to identify any discrepancies that may come to our attention for the current year’s audit. Current Assets: In the initial assessment of the company, the current assets of the company have declined as the total worth of the company has also deteriorated comparing from the last year results. Since the revenue of the company has reduced by 2.37 Million as compared to last year, the assets of the company have also decreased but not in the same proportion. The cash and cash equivalents have decreased by 1% while the trade receivables have reduced by almost 60% which does not correspond with the loss decline in the revenue for the current year which was only 11%. The inconsistency between the two corresponding figures requires some additional concern over revenue and receivables. On the other hand, the inventory of Triple Steel has not decreased by the same proportion as the closing stock of the company stood at 3.55 Million which was down by 14% while the cost of goods sold was up by 1%. It has also been identified that the company has used two different methods of valuation of inventory at the year end as the method of valuation of inventory must remain constant throughout the year. In addition, the IAS doesn’t allow the use of Last-in-first-out method of valuation of inventory. The prepaid tax and insurance figures saw a decline by 23.53% as the revenue has also declined for the company and the company also incurred a loss of 49,000 this year compared to the profit of 1.795 Million last year. Other Assets: The other assets of the company have increased by 23% which include the life insurance policy that has increased by 6%. Property, plant and Equipment: The property, plant and equipment of the company have increased by 3.7% which includes the purchase of land, building, equipment and machinery during the year. This has also given rise to the depreciation expense of the year which was nearly 8.8%. This may be because of the depreciation method used by the company such as the reducing balance. Current Liabilities: The current liabilities of the company have increased by 16.15% which include major increase in the amount of accounts payable which has increased by nearly 14%. Other increases have been related to the current portion of the long-term loan which has nearly doubled itself. The figure of income tax payable has reduced as the income tax expense has also declined while the remaining portion of income tax payable has been shown in the deferred tax liability under the long-term liabilities which has been deferred due to the taxable differences. Long term debt and Equity: The long-term debt of the company has reduced by 400,000 which is due to the current portion of long-term loan payable. The deferred income tax is also a part of the long term debt. The company has also issued shares worth of 7,000 during the year which has increased their share capital a bit. The retained earnings have reduced as the company sustained a loss of 49,000. Revenue: The sales of the company reduced as compared to the year by 2.376 Million which was made around 11% decreases in the revenue. Company’s other income was also down by 53,000 for the year. Cost of goods sold and other expenses: The cost of goods sold increased for the year which directly affected the gross profit ratio of the company. The gross profit ratio for the year was 14.5% while for the year 2009 it was 23.7% which has caused the company to lose around 10% of their gross profit. Operating expenses: The depreciation expense for the year has increased for the year as the company has purchased new fixed assets. The selling, admin and general expenses have increased by 2% which is odd because the revenue of the company has declined by 11% approximately. The interest expense has reduced due to the reduction of loan through payment of principal while the amount if tax expense was reduced as the company sustained a loss during the current year. The company has sustained a loss in the current compared to the income of 1.795 Million of last year. This shows that for the decline of revenue has resulted in a greater decline of net profit margin as the revenue has declined by 11% while the net loss margin was less than 1% this year compared to the net profit margin of 7.5% last year. Retained Earnings: The company has sustained a loss this year which has caused the retained earnings to decline and the company has also declared a dividend for the current year consistent to last year i.e. 500,000 in spite of the loss. Debt to Equity ratio: The debt to equity ratio of the company was 0.22 as the company was mostly financed through equity rather than the debt. (Investopedia) The company has an outstanding debt of 4 Million while the shareholder’s equity, shares of 3.692 Million and retained earnings of 11 Million, of 14.7 Million which shows that the company has more reliance on the equity financing rather than debt. A clause with respect to the loan availed by the company was identified which requires the company to maintain a ratio of 2:1 of debt-to-equity which is not maintained by the company. This should be taken into account by the company as the loan is reviewed after each year end. Liquidity Ratio: The current ratio of the company is 2.95 as the company has maintained current assets of 8.83 Million against the current liabilities of 2.99 Million which indicate that the company doesn’t face the liquidity concerns and has enough to meet the current obligations. Profitability ratios: The major profitability ratios are calculated below that assess the profitability of the company. Return on Assets = Net Loss = 49,000 = 0.22% Average Total Assets 21,737,500 Return on Equity = Net Loss = 49,000 = 0.33% Shareholder’s Equity 14,713,500 Since the company has sustained a loss for the year, their efficient utilization of the assets and equity is not observed. While the operating efficiency can be observed through the following ratio: Fixed Asset turnover = Net Sales = 21,643,000 = 1.72 times Non Current Assets 12,571,000 The company has utilized the fixed assets efficiently to generate almost twice the output compared to the value of the assets which shows the operating efficiency of the company. Key risk areas for the audit There are certain key risk areas that require special attention during the course of the audit which are listed below. Valuation of the Inventory: The valuation procedures and the recording of the inventory require special attention during the course of the audit as the company is using a dual policy to value its inventory in the form of first in first out and last in first out. The company has valued certain inventory on last in first out valuation method while the rest through first in first out as the valuation method should be consistent throughout the year. It should be observed whether the company has used the dual valuation methods to overstate the amount of ending inventory by carrying out recalculation of the stock valued at last in first out on first in first out basis. Non current assets and depreciation expense: The company belongs to the industry which has a lot of involvement in the fixed assets as the production requires land and machinery for production. Some special concern is required with the valuation of the assets of the company along with the depreciation method used by the company. Furthermore, the company has also pledged some portion of their land and building for the acquisition of long term loan from the bank, which will require some additional attention t check the compliance with the loan facility and other regulations. Trade receivables and cash: The company’s trade receivables have reduced by 60% compared to last year which implies that the company has received greater amount of cash during the year from its debtors which is not reflected by the ending cash balance. This would require special attention to check the recording of receipt of debtors as well as cash and cash equivalents. Debt to equity: It has been identified that the company is required to keep a debt to equity ratio of 2:1 as per the conditions of the loan; this also signifies a key risk area for the company with respect to the equity as well as the long term debt. Inventory valuation and recording Some controls should be present during the recording and valuations of the inventory of Triple Steel Corporation are listed below, the presence of which will give an indication of the correct recording and valuation of their inventory. Physical count and inspection: One of the major internal controls is the physical count of the inventory of the company that should be carried out periodically in the presence of an expert who has the knowledge of the steel industry. This can also be done by an external valuation expert, which will provide extra comfort for the valuation of the closing stock of the company. Recording of transactions: Another important internal control is the recording of the receipts of the invoices in the period on which they are received and the payment that is made to the creditors is accurately recorded on the correct date. The receipts must be verified by two or more than two persons out of whom one will responsible for the input of the receipt and the other for securing the receipt. The person who receives the goods should not be the person making the order for them as this has chances of collusion which can be mitigated by segregation. Valuation of inventory: The inventory should be valued following the same methods of inventory valuation which should remain constant for the periods to come. The valuation of the inventory should be carried out keeping the directives of the accounting standards and using the appropriate method of valuation by keeping the market value and cost of the inventory duly accounted. The closing stock should be properly stated after the valuation has been carried out by an expert in the field. Payment of dividend by the company The company has paid a dividend amounting to 500,000 for the year ended June 30, 2010 even though the company has generated a loss of 49,000 during the year. There is a restriction on the payment of dividend as the company may make the dividend distributions out of the profits of the company generated in the normal course of business. (Company Registrations) The profits out of which the company can pay dividends may be the realized profits during the year, the retained earnings or the accumulated profits of the previous period which have not been distributed to the shareholders so far or have not been capitalised and have not been written off previously in order to reconstruct or restructure the company. A company may distribute the dividend where it has adequate profits to do so as well as the fact that their aggregate assets do not fall under the total reserves of the company that may be sued to write off the losses. Companies such as British Petroleum have paid dividend to its shareholders even after they sustained a loss of $4.9 Billion in the year 2010 after the oil spill that took place during the year. The dividend was paid out of their previous profits which were accumulated previously. Since the company has paid dividend and it had healthy accumulated profit for previous years, therefore payment of dividend for the current year doesn’t create an issue as they have enough profits to meet the loss as well as the dividend payments to the shareholders. References Company Registrations. (n.d.). Retrieved from http://www.companyregistrations.co.uk/dividends.asp Investopedia. (n.d.). Retrieved from http://www.investopedia.com/terms/d/debtequityratio.asp Read More