Marilyn Terrill is the senior auditor for the audit of Uden Supply Company for the year ended December 31, 20X4. In planning the audit, Marilyn is attempting to develop expectations for planning analytical procedures based on the financial information for prior years and her knowledge of the business and the industry, including these: Based on economic conditions, she believes that the increase in sales for the current year should approximate the historical trend. Based on her knowledge of industry trends, she believes that the gross profit percentage for 20X4 should be about 2 percent less than the percentage for 20X3. Based on her knowledge of regulations, she is aware that the effective tax rate for the company for 20X4 has been reduced by 5 percent from that in 20X3. Based on a review of the general ledger, she determined that average depreciable assets have increased by 10 percent. Purchases of equipment occurred relatively evenly throughout the year. Based on her knowledge of economic conditions, she is aware that the effective interest rate on the company’s line of credit for 20X4 was approximately 12 percent. The average outstanding balance of the line of credit is $3,000,000. This line of credit is the company’s only interest-bearing debt. Based on her discussions with management the advertising and sales commission percentages are expected to stay the same. Based on her knowledge of the industry, she believes that the amount of other expenses should be consistent with the trends from prior years. Comparative income statement information for Uden Supply Company is presented in the below table. *(NEED 20X4)* UDEN SUPPLY COMPANY Comparative Income Statements Years Ended December 20X1, 20X2, and 20X3 (Thousands) 20X1 Audited 20X2 Audited 20X3 Audited 20X4 Expected Sales 10,800 12,200 13,600 Cost of goods sold 7,450 8,430 9,410 Gross profit 3,350 3,770 4,190 Sales commissions 760 850 950 Advertising 216 240 270 Salaries 1,096 1,124 1,152 Payroll taxes 191 202 213 Employee benefits 174 184 194 Rent 67 70 73 Depreciation 67 70 73 Supplies 33 36 39 Utilities 28 31 34 Legal and accounting 41 44 47 Miscellaneous 19 22 25 Interest expense 294 312 324 Net income before taxes 364 585 796 Income taxes 82 132 179 Net income 282 453 617 Required: b. Determine the expected amounts for 20X4 for each of the income statement items. (Round gross profit ratio and income taxes ratio to nearest four decimal places. Round other ratios to nearest two decimal places. Round all other intermediate computations to the nearest whole value. Enter your answers in thousands.) c. Uden’s unaudited financial statements for the current year show a 30.81 percent gross profit rate. Assuming that this represents a misstatement from the amount that you developed as an expectation, calculate the estimated effect of this misstatement on net income before taxes for 20X4. (Enter your answers in thousands.)
Cost-Volume-Profit Analysis
Cost Volume Profit (CVP) analysis is a cost accounting method that analyses the effect of fluctuating cost and volume on the operating profit. Also known as break-even analysis, CVP determines the break-even point for varying volumes of sales and cost structures. This information helps the managers make economic decisions on a short-term basis. CVP analysis is based on many assumptions. Sales price, variable costs, and fixed costs per unit are assumed to be constant. The analysis also assumes that all units produced are sold and costs get impacted due to changes in activities. All costs incurred by the company like administrative, manufacturing, and selling costs are identified as either fixed or variable.
Marginal Costing
Marginal cost is defined as the change in the total cost which takes place when one additional unit of a product is manufactured. The marginal cost is influenced only by the variations which generally occur in the variable costs because the fixed costs remain the same irrespective of the output produced. The concept of marginal cost is used for product pricing when the customers want the lowest possible price for a certain number of orders. There is no accounting entry for marginal cost and it is only used by the management for taking effective decisions.
Marilyn Terrill is the senior auditor for the audit of Uden Supply Company for the year ended December 31, 20X4. In planning the audit, Marilyn is attempting to develop expectations for planning analytical procedures based on the financial information for prior years and her knowledge of the business and the industry, including these:
- Based on economic conditions, she believes that the increase in sales for the current year should approximate the historical trend.
- Based on her knowledge of industry trends, she believes that the gross profit percentage for 20X4 should be about 2 percent less than the percentage for 20X3.
- Based on her knowledge of regulations, she is aware that the effective tax rate for the company for 20X4 has been reduced by 5 percent from that in 20X3.
- Based on a review of the general ledger, she determined that average
depreciable assets have increased by 10 percent. Purchases of equipment occurred relatively evenly throughout the year. - Based on her knowledge of economic conditions, she is aware that the effective interest rate on the company’s line of credit for 20X4 was approximately 12 percent. The average outstanding balance of the line of credit is $3,000,000. This line of credit is the company’s only interest-bearing debt.
- Based on her discussions with management the advertising and sales commission percentages are expected to stay the same. Based on her knowledge of the industry, she believes that the amount of other expenses should be consistent with the trends from prior years.
Comparative income statement information for Uden Supply Company is presented in the below table.
*(NEED 20X4)*
| UDEN SUPPLY COMPANY | ||||
| Comparative Income Statements | ||||
| Years Ended December 20X1, 20X2, and 20X3 | ||||
| (Thousands) | ||||
| 20X1 Audited | 20X2 Audited | 20X3 Audited | 20X4 Expected | |
| Sales | 10,800 | 12,200 | 13,600 | |
| Cost of goods sold | 7,450 | 8,430 | 9,410 | |
| Gross profit | 3,350 | 3,770 | 4,190 | |
| Sales commissions | 760 | 850 | 950 | |
| Advertising | 216 | 240 | 270 | |
| Salaries | 1,096 | 1,124 | 1,152 | |
| Payroll taxes | 191 | 202 | 213 | |
| Employee benefits | 174 | 184 | 194 | |
| Rent | 67 | 70 | 73 | |
| Depreciation | 67 | 70 | 73 | |
| Supplies | 33 | 36 | 39 | |
| Utilities | 28 | 31 | 34 | |
| Legal and accounting | 41 | 44 | 47 | |
| Miscellaneous | 19 | 22 | 25 | |
| Interest expense | 294 | 312 | 324 | |
| Net income before taxes | 364 | 585 | 796 | |
| Income taxes | 82 | 132 | 179 | |
| Net income | 282 | 453 | 617 | |
Required:
b. Determine the expected amounts for 20X4 for each of the income statement items. (Round gross profit ratio and income taxes ratio to nearest four decimal places. Round other ratios to nearest two decimal places. Round all other intermediate computations to the nearest whole value. Enter your answers in thousands.)
c. Uden’s unaudited financial statements for the current year show a 30.81 percent gross profit rate. Assuming that this represents a misstatement from the amount that you developed as an expectation, calculate the estimated effect of this misstatement on net income before taxes for 20X4. (Enter your answers in thousands.)
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