You, a senior auditor, have recently joined Palmer & Associates LLP, a mid-size firm based in Ontario serving mostly manufacturing companies. Today is December 1, 2020. Your audit manager, Mina Fong called you into her office to discuss the work that needs to be performed on a repeating audit client, Fit-for-Life Inc. (FFI). The firm has been FFL's auditors since 2017. The company has a December 31, 2020 year-end.

Required:

Prepare for me a planning memo. The memo should include a preliminary assessment of RMM at the overall financial statement level and suggest a basis for determining overall materiality. The actual materiality calculation can wait until we receive the preliminary draft financial statements. The memo should also include a risk assessment for the sales and accounts receivable cycle as well as the inventory cycle. Last year, we used a combined approach, and most likely we will follow the same approach this year. If we are to rely on controls, please identify the controls that need to be tested for the sales and accounts receivable cycle based on the provided information. . Please also draw up some preliminary ideas on sampling for accounts receivable confirmations and audit procedures for the upcoming inventory count. You should refer to the notes below collected when Mina Fong met with the client yesterday (Exhibit 1). The notes below describe changes that happened in 2020"

Exhibit 1

Notes written up by Mina from the meeting with the client

Below is a summary of information collected during my meeting with Angela:

• Cotton is the main raw material used in the manufacturing. FFL mitigates fluctuations in cotton prices by purchasing cotton futures (sold in U.S. dollars). While cotton futures prices have been quite stable in 2019 and most of 2020, in November 2020 the costs of cotton futures declined and Elizabeth and Angela decided to reduce selling prices in order to pass on the cost reductions to its distributors. Due to a miscommunication between Angela and Elizabeth, Elizabeth reduced the selling prices when negotiating a new sales agreement with the wholesale distributors for 2021 before the reduction in cotton prices was realized.

When Elizabeth reduced the selling prices many customers complained that they had recently purchased large quantities of product at the historical price. Many customers threatened to find a new supplier and since FFL offers a right to return up to 30 days, they threatened to return the merchandise. Elizabeth provided relief to these customers by offering all distributors a price concession for orders they placed and delivered up to 3 months prior to the price change coming into effect. All customers were issued credit notes for the difference between the new selling price and the price they had paid for the merchandise.

Elizabeth made this decision unilaterally without consulting Angela. This is one of the main reasons why Angela feels she can no longer work with Elizabeth. Elizabeth has a tendency to make unilateral decisions without consulting Angela.

It was this decision that caused the current ratio of the company to decline to 1.29.

This error has caused a significant disagreement between Elizabeth and Angela and, as a result, Angela doesn't feel that she can continue to work collaboratively with Elizabeth anymore. She is considering triggering a buy-out clause in the shareholder's agreement. The clause allows her to purchase Elizabeth's shares for 5 times net income. Once Angela places this offer, Elizabeth must either accept the offer or counter the offer with a 30% premium.

• Angela confirmed that the credit approval process has not changed from last year and gave us the aging report for the period ending November 30^th 2020 to facilitate planning. The sales and payment pattern will be more or less the same in December.

I also talked to the warehouse manager with regard to the inventory count procedures:

• Inventory consists mainly of raw materials and finished goods. FFL continues to use average cost as the costing method to value inventory. Inventory counts will take place on December 31st as in prior years. The client will provide an inventory report listing all inventory items by product number for the period ended December 31, 2020. For each product number the following information is provided: the average cost, the quantity on hand, the total cost (quantity x average cost), the most recent selling price, the total number of units sold in the past fiscal year, the date the item was last produced.

• The warehouse will be closed on December 31st and all items will be tagged in numerical sequence. Counters work in pairs and recount the other's work. Angela will prepare detailed count instructions and will supervise the count. At the end of the count Angela will ensure all tags are accounted for. The results will then be entered into the system and an exception report will be used to identify all products which have discrepancies between the count quantity and the quantity recorded in the perpetual records. All discrepancies of greater $20,000 will be recounted.

• One area of the warehouse is maintained to hold slow moving items. When trends change and styles are discontinued Angela ensures that the items are protected from getting damaged and stores them in the slow-moving section. She saves the items in anticipation of the trend for that particular item or colour will comeback in fashion.

• Inventory in another area of the warehouse will be marked "Hold - Do not count". Elizabeth has recently received a large order from a corporate customer for customized t-shirts. The t-shirts will be finished printing by December 23^rd but the customer has requested the client to hold the inventory until January 8^th for shipping because their office will be closed for holidays.

Exhibit 2

The accounts receivable aging for the period ended November 30^th, 2020 is as follow

Range of balance	number of customers	number of customers in this category	total balance	current	30-60 days	60-90 days	over 90 days
less than 0	7		(750,000)	(750,000)
0-50,000	157	16	4,335,524	2,341,183	1,885,953	65,033	43,355
50,001 to 100,00	200	20	4,231,475	2,284,997	1,840,692	63,472	42,315
100,001 to 150,000	303	61	5,990,625	3,294,859	1,198,130	599,065	898,598
greater than 150,00	10		21,814,114	8,071,222	13,742,892	-
	677		35,621,765	15,242,260	18,667,667	727,570	984,268

Answer rating: 100% (QA)

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