The auditor for Kannex Manufacturing has just begun to perform preliminary analytical

procedures as part of planning the audit for the coming year. The following information shows

the past two periods of results for a company and a comparison with industry data for the same

period. He has identified the following potential risk areas:

-There is a substantial increase in inventory, both in dollar terms and as a percentage of

sales.

-Cost of goods sold (COGS) has decreased to 55% of sales at the same time inventory has

increased.

-Accounts payable increase.

-Inventory turnover has decreased by 33%.

- Average number of days to collect has increased by 23% over the previous year and is 33%

above the industry average.

-Employee turnover increased 60% over previous years to a rate that is double that of the

industry.

- Return on investments of the company exceeds the industry average.

-Debt/Equity ratio has increased substantially and is double the industry average.

Required:

a) Select any FIVE (5) risk areas and explain why they represent potential risk. Briefly

indicate how the risk analysis should affect the planning of the audit engagement.

Present your answer in the following structure:

Potential Risk Areas Reasons of Potential Risk & Effect on Audit Planning

(i)

(ii)

(iii)

(iv)

(v)

b) Identify and explain any of the above highlighted risk that should cause the auditor to

increase the level of professional skepticism.