You are the audit senior on the audit of Resilient Furniture Manufacturers Pty Ltd (Resilient). Your firm has recently been appointed as the first auditors of the company.

You interview the managing director of the company to obtain background information on Resilient and to understand its business operations, its environment and system of internal control. You noted and documented the following:

• Resilientwas founded 30 years ago and makes 'grandfather' clocks (freestanding, weightdriven, pendulum clocks).
• The clocks are made in one factory (situated in the Alice Springs) and are distributed through boutique homeware and antique furniture stores.
• The clocks are advertised mainly in local newspapers and through pamphlet drops.
• In order to promote longer production runs and minimise finished goods stocks, Resilient's retail

distributors are offered stock on a 'sale or return' basis.This means that the homeware and antique furniture stores are invoiced immediately, subject to a 90-day term of payment, but are allowed to return the stock up to 30 days before payment is due. Only the marketing manager has been given the authority to make these offers.

• All of Resilient's timber is obtained from offshore sources. Timber prices, which are denominated in USdollars, have risen substantially over the past two years and the recent drop in the value of the Australian dollar has caused them to rise even further.
• Timber purchases are secured by providing Resilient's suppliers with letters of credit which become duewhen the container shipment of timber arrives in Australia.
• Labour costs are high due to the craftsmanship and quality required for the production of the grandfather clocks. Skilled labour is not easy to obtain and wage rates have recently risen.
• Resilient has found it difficult to pass on these timber and labour price increases to customers.

An analysis of costs indicates that there have been material negative purchase price variances in purchases of timber over the course of the year. You have compiled the following information from Resilient's financials:

• the current ratio as at 30 June 2019 is 1.24
• the shareholders' funds to total assets ratio is 30%
• gross profit margins and net profit margins for the year ended 30 June 2019 have dropped to the level

where losses are being incurred

NB: An excerpt of Resilient's Financial Reportsis attached.

Resilient Furniture Manufacturers Pty Ltd (Resilient) Balance Sheet 2019 2016 2017 Current assets Debtors 743,681 774,469 665,939 Sale or return debtors 463,020 499,657 429,636 Inventory 300,035 305,013 256,376 1,531,737 1,579,140 1,351,953 Non-current assets Property, plant and machinery 1,967,404 1,993,056 1,667,593 Total assets 3,499,141 3,572,198 3,219,546 Current liabilities Trade and other creditors 395,019 F 343,545 269,049 Bills payable 509,494 517,947 435,355 Bank overdraft 135,576 13,337 55,672 Current porljon of bank loans 200,000 200,000 200,000 1,240,090 1 ,074, 630 930.076 Non-current liabilities Bank loans 1,200,000 1,400,000 1,600,000 Equity Share capital 500,000 500,000 500,000 Retained earnings 559,051 597,363 139,470 Equity Share capital 500,000 500,000 500,000 Retained earnings 559,051 597,368 139,470 1,059,051 1 ,097, 368 639,470 3,499,141 3,572,198 3,219,546 Prot and Loss Account Gross sales 6,077,296 6,233,124 5,350,321 Returns - 200,551 - 153,958 - 123,057 Net sales 5, 876,745 6,079,166 5,227,264 Cost of sales Materials 2,066,281 2,100,563 1,765,606 Labour 1,397,778 1 , 153,128 963,058 Other 516,570 506,130 438,726 3,980,629 3,759,820 3, 167,390 Standard Cost Variances Purchase price (121,546) (49,865) (16,051) Labour cost 182,319 62,331 26,136 303,865 112,196 42,187 Operating prot 1,592,252 2,207,149 2,017,686 Standard Cost Variances Purchase price (121,546) (49,865) (16,051) Labour cost (182,319 (62,331) (26, 136 (303,865) 112, 196 (42, 187) Operating profit 1,592,252 2,207, 149 2,017,686 Expenses Administration 791,918 754,208 600,841 Sales and marketing 663, 198 642,012 524,331 Financing 175,452 156,789 123,457 1,630,569 1,553,009 1,248,630 Net profit (loss) (38,317) 654, 140 769,057 Tax 0 196,242 230,717 Net profit after tax (loss) (38,317) 457,898 538,340