AUDITING CASE

CASE STUDY-AUDITING

Jack Tribbiani, CPA, has been the partner in charge of the audit of D&G Manufacturing Company, a nonpublic company, for 13 years. D&G has had excellent growth and profits in the past decade, primarily as a result of the excellent leadership. Tribbiani has always enjoyed a close relationship with the company and prides himself on having made several constructive comments over the years that have aided in the success of the firm. Several times in the past few years, Tribbianis CPA firm has considered rotating a different audit team on the engagement, but this has been strongly resisted by both Tribbiani and D&G. For the first few years of the audit, internal controls were inadequate and the accounting personnel had inadequate qualifications for their responsibilities. Extensive audit evidence was required during the audit, and numerous adjusting entries were necessary. However, because of Tribbianis constant prodding, internal controls improved gradually and competent personnel were hired. In recent years, few audit adjustments were required, and the extent of the evidence accumulation was gradually reduced. During the past three years, Tribbiani was able to devote less time to the audit because of the relative ease of conducting the audit and the cooperation obtained throughout the engagement. In the current years audit, Tribbiani decided that the total time budget for the engagement should be kept approximately the same as in recent years. The senior in charge of the audit, Phil Black, was new on the job and highly competent, and he had the reputation of being able to cut time off the budget. The fact that D&G had recently acquired a new division through merger would probably add to the time, but Blacks efficiency would probably compensate for it. The interim tests of controls took longer than expected because of the use of several new assistants, a change in the accounting system programs for inventory and other accounting records, a change in accounting personnel, and the existence of a few more errors in the tests of the system. Neither Tribbiani nor Black was concerned about the budget deficit, however, because they could make up the difference at year end.

At year end, Black assigned the responsibility for inventory to an assistant who also had not been on the audit before but was competent and extremely fast at his work. Even though the total value of inventory had increased, he reduced the size of the sample from that of other years because there had been few errors in the preceding year. He found several items in the sample that were overstated as a result of errors in pricing and obsolescence, but the combination of all of the errors in the sample was immaterial. He completed the tests in 25% less time than the preceding year. The entire audit was completed on schedule and in slightly less time than the preceding year. There were only a few adjusting entries for the year, and only two of them were material. Tribbiani was extremely pleased with the results and sent an email message to Black and the inventory assistant complimenting them on the audit. Six months later, Tribbiani received a telephone call from D&G and was informed that the company was in serious financial trouble. Subsequent investigation revealed that the inventory had been significantly overstated. The major cause of the misstatement was the inclusion of obsolete items in inventory (especially in the new division), errors in pricing as a result of the new computer system, and the inclusion of nonexistent inventory in the final inventory listing. The new controller had intentionally overstated the inventory to compensate for the reduction in sales volume from the preceding year.

Based on the case above:

a. List the major deficiencies in the audit and state why they took place.

b. What things should have been apparent to Tribbiani in the conduct of the audit?