You are aware that your nonpublic audit client is under pressure to meet financial covenants from its
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Question:
You are aware that your nonpublic audit client is under pressure to meet financial covenants from its lenders; specifically, the lenders review the company's interest coverage ratio and debtservice coverage ratio annually. In performing yearend audit procedures, you notice a formula error in the client's spreadsheet used to calculate its inventory costs, and it appears that general and administrative G&A expenses unrelated to production are being capitalized into the reported cost of the inventory. You compute the magnitude of these capitalized G&A costs and realize that these costs make the difference between the company meeting its lenderrequired covenants and failing those covenants.
Required:
Review the GAAP for inventory costing to confirm your understanding of whether the client's practice is consistent not consistent with GAAP.
Describe how the debtservice ratio and interest coverage ratio are calculated. What impact would an overstatement of inventory have on these ratios?
Related Book For
Auditing a business risk appraoch
ISBN: 978-0324375589
6th Edition
Authors: larry e. rittenberg, bradley j. schwieger, karla m. johnston
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