Veloso, Eljodi Diane Lislie N.

Sec 2

Assignment No. 5

1.
(a) Based on the data provided, there are possible fraud symptoms that exist in the
entity that the auditors should be aware of especially in conducting the audit of the
financial statements. Since Aaron mc Lane is the one controlling the business,the
following are the fraud symptoms incurred in the data: (1)Sales and receivables are
exaggerated that make it obvious that there is manipulation of books and financial
statements; (2) increase in revenues but no corresponding increase in cash
collections; (3) no expansion in financing or loans regardless whether the sales have
impressively high.

(b) As an auditor, I can justify those red flags are not real fraud symptoms through
undertaking procedures that will validate those amounts shown in the financial
statements. Therefore, we need to perform ratio analysis and do verifications
particularly in the sales bills and receipts, purchases made during the year, inventory
register and have some physical check of inventories. Also, compare the changes on
a year to year basis to check unusual changes.

2.
(a) The financial analyst should used financial ratios that will provide possible fraud
indicators, some of these are: (1) the Gross Margin ratio, it should compare the ratio
on the current and the previous year, however, if it happened that the previous year’s
gross margin ratio was higher to the current year, there is possibly a manipulation in
the book of accounts; (2) days of sales receivable index, it should also compare the
ratio of current year and previous year, however, in case it increases it also lead to
an increase of blocked inventory of the business that could be an underlying factor
that there is manipulation of books in accounts; (3) sales growth index, it should also
compare the current sales and former sales whether it has unusual changes, in this
analysis there would probably a high chance of having manipulation of books if it
happened that there is an increase in high quantum and a decrease in the index. To
sum it up, all of these show an indication that there is possibly manipulating of books
happening in the firm. Through using this will help the analyst to prevent fraud from
happening.

(b) 1. Current ratio of 3.5:1.0 and acid-test ratio of 2:1; both increased from that of
previous years. In this scenario, there is no possibility of fraud occurring or it is not
classified as a fraud symptom. They showed an increase in current assets and quick
assets in which it is a good sign to the firm and can make firms run smoothly and
easily.

2. Finished goods inventory significantly increased as compared with previous years’

stocks. In this scenario, it shows an indication that there is manipulation of goods and
a possible fraud may be occurring. Having an unusual increase in finished goods
inventory in the current time may lead to blockage of cash through the unsold
inventory and with this, it can reduce the liquidity of the firm which may lead to bad
effect in the company.

3. Percentage of uncollectible accounts to total credit sales showed minimal increase

although sales registered a material increase. In this scenario, it is not a fraud
symptom and will not be considered as one. Having this is a better in the well being
of the firm and can increase the cash holdings of the entity which is a good sign for a
company.

4. Cost of rework on items sold, sales discounts and returns reduced significantly
although with increase in sales volumes. In this scenario, it is not considered as a
fraud symptom, In fact, having this will lead to an increase of the gross profit of a firm
in which it is a good sign.