11/27/23, 5:27 AM TestReach

To: Ted Hastings, audit engagement partner

From: Audit manager

Subject: Audit planning – Mercurio Co

introduction: In this briefing, the audit manager has evaluated the significant business
risks, risk of material misstatement, impact on the outsourcing on the credit control
function on the audit and audit procedures in respect of the holiday pay obligation

(a)Evaluate the significant business risks faced by Mercurio Co

require compliance

as some stores of Mercurio co sell unusual pets such as spiders snakes and other reptiles for
which in the stores they have hired a well-trained staff but these also require compliance with
specific import restrictions and welfare standards and this compliance should be met frequently and
there is a risk if due to any human error noncompliance happened they co may face reputational
damage problems as it is a large listed co. Furthermore, if any import restrictions are applied it may
be possible that the customer did not get the required pet on time and in a result, we lose the
customer's

price sensitivity

as the costs associated with vaccinations and health checks have risen over recent years Mercurio
Co.'s not able to increase the price is a risk as it may be possible that due to more increase in the
cost Mercurio Co may not be able to meet the expense of these vaccinations as the cash has also
reduced about 55% from last year. the management will unlikely lower the quality of vaccinations
and health checks which will damage the reputation of the Mercurio co

receivables

the receivable has increased by about 47% from the last year which is quite alarming as the co-
cash and cash equivalent has decreased by 55% if these credit sales are made there is a
possibility that the co may face difficulties in meeting their day-to-day expenses due to not having
any cash. Furthermore, the employee no has also been increased by 12% and at the end of the
month co will have to pay their salaries and due to this situation it may be difficult for Mercurio to
pay their salaries

Mercurio Range

all the products of the Mercurio range are manufactured in another country and imported there is a
risk that due to any foreign legal rules and regulations if any delay is faced by the Mercurio range in
terms of products it will have a very negative effect on the customers of Merurio range as Mercurio
range is spending a lot of amount on the advertisements and is in a struggling phase

(b)Evaluate and prioritize the significant risks of material misstatement which need to be
considered in our audit planning

materiality: as materiality is to be based on profit before tax the level of materiality will be from
3000(5%) to 6000 (10%) as Mercurio is the recurring client of the firm but also a large listed co and
also in a competitive environment with a major decrease in cash and new purchases the materiality
will be set at 7% that is 4200

revenue

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revenue coming from pet health care plans if considered as 10% of the total revenue then it will be
80300 which is material to the financial statement as the co. accounting policy is to recognize the
revenue from the sale of a healthcare plan on the date when the healthcare plan commences is
wrong as the revenue is charged in advance and the healthcare plan is given over the period of
duration the revenue should be recognized according to the services provided on the breakup
basis by doing so the revenue is overstated and deferred income is understated the 7% increase in
revenue may be due to this wrong recognition of revenue.

stores purchased

the purchases of stores in the amount of 171000 are material according to the above materiality as
Mercrio will use a certain amount of stores in the business and the remaining will be sold as there
is a risk that the stores which are to be sold is written down the financial statement as a noncurrent
asset as they should be written down in the current asset as an asset held for sell due to this the
noncurrent asset are overstated and current asset are understated

receivable

as the forecasted trade rec is 42000 which is material to the financial statement there is a risk that
Fairbank has set the terms on the fees and the recovery is totally of Mercurio Co. and Mercurio Co
has wrongly derecognized the receivable an recognized cash instead as like it has sold the
receivables to Fairbank. which will result in an overstatement of cash and an understatement of
receivable

capitalization

as the stores need to be refitted at an estimated cost of 9000 which is materially according to the
above materiality there is a risk that the management wrongly capitalized all the 9000 while
according to the standard, only the cost allocated on the stores which are too be used for the
business should be capitalized it may be that the capitalization cost is overstated and expense is
understated.

Mercurio brand

as the purchases of Mercurio brand goods from foreign suppliers are predicted to be $7 million for
the year which is material according to the materiality a risk exists that the management has not
done any kind of hedge accounting and as receivable and payables at each year end are revalued
using the closing rate as usually in these large co suppliers are paid in arrears at the end of the
year and if the year-end closing rate is higher as compared to spot rate may be that management
does not translate the amount of 7 m from the spot rate to closing rate to shows better liquidation of
the co as already co is low at cash. doing so will misstate the financial statement

conclusion: the risks are prioritized according to the revenue first as this is the main component of
the business and the rest are according to the quantitative materiality

(c)Discuss and conclude on the impact which outsourcing the credit control function will
have on our audit planning.

a discussion should be done with Fairbank to find out how much successful the credit control
function they have done further what are their methods of approaching the client

it should find out whether Fair Bank is working on a fee or has simply purchased the receivables
from Mercurio co

there is a risk that customers may get offended by the fair bank and should not do business with
the Mercurio co in the future if the fair bank is working on the fee then maybe Mercurio co should
discuss with the fair bank and ask Fairbank to approach the customers politely so that Mercurio

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business is not affected in future. but if Fairbank has purchased the receivables then Fairbank may
not listen to Mercurio co as Fairbank will make sure to take the outstanding amount in any way
possible that will have a negative impact on Mercurio

The drastic increase in the number of receivable shows that the industry is moving towards credit
payment and due to the competitive industry if Mercurio reject credit sales customers may switch to
other competitors

conclusion Mercurio co for now should assign Fairbank on a fee and instruct Fairbank to
approach the customers politely and in future mercurio co should only allow credit sales to specific
customer who do not default and pays on time further Mercurio co should incorporate new
business ideas so that Mercurio should stand alone as compare to his competitors so that Mercurio
can not be affected on the market trends that much

(d)Design the principal audit procedures to be performed in respect of the holiday pay
obligation.

assess the internal audit department integrity to verify that they have performed their work
according to the code of ethics
verify the qualification of the internal audit team so that reliance can be done on the work
performed by them
review board minutes to verify that the decision of merge of full-time and part-time employees
is allowed and what was the rationale of this merger
discussion with the management should be done about not using the system's capability of
recording holidays taken by staff
ask the management about the need for a manual record when they have the system to
record holidays taken
review the holiday pay obligation file to verify what are the conditions taken for this
forecasting
recalculate the holiday pay obligation forecast to verify the amount calculated is correct
discuss with the management the reason of estimates on which they are estimating the
holiday pay obligation
discuss with TCWG about the unethical behavior of the management and if they were aware
of these misconducts from the management side

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