BACKGROUND RxBar Ltd. is a niche protein bar maker. The company was founded in 2017 in a basement by two childhood friends, Peter Ever and Ralph Franklin, who had an idea to create protein bars that were made of simple ingredients without sugar or additives. Their protein bars were unique in that they only contained three different ingredientseggs, dates, and nuts.

In 2019, the company relocated to a 20 000-square-foot unit in Mississauga. At that time the bars were hand-made and extremely labour-intensive. The company secured funding from investors to finance the automation of the manufacturing process and to hire employees. The loan had a conversion feature that could be triggered by the investors if the current ratio fell below 1.2. If the conversion feature is triggered, every $100 of the loans principal value is converted to 10 common shares. As a result of the new financing, the company was able to produce 1.5 million bars and employ 40 people in 2019. A turning point came in early 2020, when the company redesigned its labels. The new labels focused on the short, real food ingredient list and as the two owners put it had a no B.S. mantra. The redesign of the label really changed the business, and for the year ended September 30, 2021, the company sold 12 million bars, creating $ 100 million in revenue.

RxBar initially sold the bars to exercise gyms in the Greater Toronto Area, and it also established an online presence where customers could purchase bars online with Canada Post delivery. In 2019, the company began to sell nationally at the major grocery store chains (Loblaws, Sobeys, etc.) and also penetrated the U.S. market with sales to major grocery retailers (Whole Foods and Target). Peter and Ralph were recently approached by the multinational cereal company Culwens, who expressed interest in purchasing RxBar. The most striking element for Culwens was RxBars outstanding revenue growth. Culwens has asked for audited financial statements to be provided to them by October 31 to assist them in the valuation of RxBar. Peter and Ralph see this opportunity to cash in on a major windfall, they are very excitedthe proposed sales price by Culwens is $600 million. The proposed price was based on RxBars revenue growth. Shelly Park, the audit senior, has completed some preliminary work regarding evaluation of internal control and you, an audit manager at Fox LLP, are reviewing her working papers. You begin with her documentation of the internal control environment and monitoring controls at the organization.

RxBar Ltd. Extracts from statement of profit and loss stated in 000s

For the year ended September 30. 2020 2019 (unaudited) (unaudited) Sales $100,011 $50,006 Cost of sales 60,007 30,003 Gross margin 40,004 20,003 Operating expenses 28,483 14,682 Operating income 11,521 5,321 Other expenses (income) Interest expenses 650 650 Net Income before income taxes 10,871 4,671 Income taxes 1,631 701 Net Income after taxes $ 9,240 $ 3,970

EVALUATION OF REVENUE CONTROLS Given the importance of revenue growth, Susan maintains tight control over credit policy. For all new customers, Susan performs an extensive credit check. She requires that the new customers provide three references including their bank. Each reference is emailed and the prospective new clients credit history is evaluated. For public companies, she also reviews the financial statements and evaluates the companys liquidity. For international clients outside of Canada and United States, Susan obtains credit risk insurance from Export Development Canada (EDC). The insurance covers up to 90 percent of the losses related to the sale. Susan prepares a monthly summary of new customers and an analysis of aging of accounts receivable. Peter and Ralph have complete trust in Susan and do not see the need to review any of the credit reports or the accounts receivable aging. Based upon my review of the new customer reports, I noted that all had the appropriate documentation with the exception of 10 of the international customers, who did not have EDC insurance. Susan explained that she had been away for three weeks and because she is the only one with authority to obtain the insurance, it was missed. It was noted that all customers were in good standing and therefore the control was effective.

PRELIMINARY ANALYTICAL REVIEW Inventory has gone up by 113 percent The main reasons for the increase are 1) increased sales levels and 2) one of the purchasing agents had ordered dates way in excess of the production needs. The dates have a three-month shelf life and RxBar is unable to return the product. Accounts receivable have increased 300 percent. The main reasons for the increases are 1) increased sales levels and 2) a change in credit terms from 30 days to 45 days for international customers. Susan explained that this increase was necessary to entice international customers to try their product. Because RxBar has EDC insurance for international customers, there was no need to increase the allowance for doubtful accounts.

Questions a. In Shellys risk assessment of control activities in the revenue cycle, she concluded that the controls over credit policy were effective, do you agree with this conclusion? Why or why not? Do you think she had sufficient and appropriate evidence to make this conclusion? Why or why not? b. Refer to the analytical review performed in the audit strategy memo. For the analytical review procedures identify the relevant assertion(s), and based on the case facts, indicate whether the misstatement would be an overstatement or understatement and explain the impact on the audit and what additional testing should be done.