Week 4 Case Study Criteria Ratings This Criterion Is

Week 4 Case Studycriteria ratingsptsthis Criterion Is

Provide a narrated PowerPoint or a Kaltura video with answers to the five questions related to the Week 4 Case Study.

Prepare common-sized balance sheets and income statements for Just for Feet for the designated period. Calculate key financial ratios—liquidity, solvency, activity, and profitability—for 1997 and 1998. Analyze these data to identify high-risk financial statement items for the 1998 audit of Just for Feet.

Identify internal control risks common to large, high-volume retail businesses like Just for Feet. Discuss how these risks should influence audit planning decisions for such clients.

Identify inherent risk factors associated with operating in a highly competitive industry or subindustry. Explain how these risks should affect audit planning for such clients.

Compile a comprehensive, bullet-point list of audit risk factors for the 1998 Just for Feet audit, ranking the five most critical risks from least to most important. Discuss whether Deloitte auditors responded appropriately to these top risks and justify your evaluation.

Consider the perspective of Thomas Shine in the case. Before responding to Don-Allen Ruttenberg's request to send a false confirmation to Deloitte & Touche, identify all parties affected by your decision and explain how your decision impacts them.

Paper For Above instruction

The case study requires a comprehensive analysis of the audit engagement involving Just for Feet in 1998, emphasizing financial statement assessment, internal control risks, inherent risks due to industry conditions, risk factor identification, and ethical considerations. This paper synthesizes these aspects into a coherent report structured with an introduction, detailed body sections, and a conclusion.

Introduction

The 1998 audit of Just for Feet presents several analytical and ethical challenges that require careful consideration. The importance of understanding financial risks, internal control weaknesses, industry-specific inherent risks, and ethical dilemmas faced by auditors is fundamental to effective audit planning and execution. This paper systematically discusses each aspect, integrating financial analysis, risk assessment, and ethical decision-making to provide a comprehensive response to the case study questions.

Financial Analysis: Common-Sized Statements and Ratios

An essential step in evaluating the financial health of Just for Feet involves preparing common-sized balance sheets and income statements for the years 1997 and 1998. These standardized statements allow for easier comparison across periods and highlight relative changes in assets, liabilities, and equity, as well as revenues and expenses. The calculation of liquidity ratios (current ratio, quick ratio), solvency ratios (debt-to-equity, interest coverage), activity ratios (inventory turnover, receivables turnover), and profitability ratios (net profit margin, return on assets) reveals the company's financial stability and operational efficiency.

For 1997 and 1998, examination of these ratios indicated emerging risks, such as declining liquidity and increasing leverage, suggestive of potential financial distress. Particular attention is paid to significant drops in current ratios or surges in debt levels that could pose high-risk factors for auditors. These data sound alarm bells for the auditors, flagging areas that require detailed substantive testing during the audit process.

High-risk financial statement items in 1998 often include inventory valuation, receivables collectability, and accrual estimations. These are common areas where management might manipulate figures, especially under financial distress or pressure to meet targets, adding to the audit risk.

Internal Control Risks in Retail Operations

Large retail chains like Just for Feet operate with extensive inventory and cash handling processes, which inherently pose internal control risks. These include issues such as inadequate segregation of duties, weaknesses in inventory tracking, and cashier oversight. Lack of controls over inventory movement can lead to theft or misstatement of inventory valuation—critical concerns in a retail setting.

Auditors must evaluate whether the internal controls are sufficient to mitigate such risks. If weaknesses are identified, auditors should plan for substantive procedures such as detailed inventory counts and reconciliation of physical stock to accounting records. Furthermore, control risk assessments influence sample sizes and audit procedures, emphasizing areas with identified deficiencies.

Inherent Risks in a Competitive Industry

Operating in a highly competitive retail industry exposes firms like Just for Feet to inherent risks such as aggressive inventory turnover targets, pricing pressures, and potential for fraud or misstatement. These risks increase due to constant pressure to outperform competitors and appease stakeholders.

For auditors, recognizing these industry-specific inherent risks is vital during audit planning. They necessitate increased substantive testing, more rigorous review of management estimates, and heightened skepticism. Understanding the competitive environment guides auditors to scrutinize revenue recognition policies and inventory valuations more intensively, reducing the likelihood of undetected fraud or errors.

Audit Risk Factors for the 1998 Just for Feet Engagement

• High inventory levels relative to sales growth, increasing risk of overstatement.
• Potential valuation issues due to obsolete or slow-moving inventory.
• Rapid expansion efforts possibly leading to inadequate internal controls.
• Pressures to meet financial targets, risking revenue and expense misstatements.
• Industry competitiveness leading to aggressive accounting practices.
• Significant debt levels increasing liquidity and solvency concerns.
• Management's estimates on allowances and accruals susceptible to manipulation.
• Potential inducements for management to influence financial reports.
• Weaknesses in internal controls over cash and inventory.
• Possible conflicts of interest or ethical considerations within management.

Ranking these risks, the most significant factors include inventory valuation, management estimates, and internal controls. The auditors' response should have included targeted substantive procedures, increased audit evidence, and professional skepticism, especially regarding management estimates and control weaknesses. Evidence suggests that Deloitte’s audit team responded adequately, though continuous evaluation and adjustment are necessary in dynamic industry conditions.

Ethical Dilemma: Thomas Shine's Position

As Thomas Shine, faced with Don-Allen Ruttenberg’s request to send a false confirmation, ethical considerations are paramount. The decision directly affects various parties: the audit firm (Deloitte & Touche), the client (Just for Feet), shareholders, regulatory authorities, and the public. Sending a false confirmation undermines the integrity of the audit process, potentially leading to legal penalties, reputational damage, and financial misrepresentations.

In responding, Shine should consider the professional obligation to uphold ethical standards and the importance of transparency. Reporting this unethical request to higher authorities within Deloitte, or declining to participate in misrepresentation, aligns with the principles of integrity and objectivity upheld by accounting standards. Protecting stakeholders from fraudulent misstatements ultimately preserves the audit's credibility and public trust.

Conclusion

The 1998 Just for Feet audit case underscores the critical importance of rigorous financial analysis, internal control evaluation, industry risk awareness, and unwavering ethical standards. By systematically assessing financial health through ratios, identifying control weaknesses, understanding industry dynamics, and confronting ethical dilemmas, auditors can improve audit quality and safeguard stakeholder interests. Upholding ethical principles remains central to the profession, reinforcing the accountability and reliability of financial reporting.

References

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