The Benefits of Hiring Certified Accountants

Planning and strategizing has always been one of the most important aspects of business. You need to deal with legal, fiscal and financial matters effectively and efficiently. Of all the three, handling the finances is the most important.
You can never, manage your business effectively if you do not have an accurate record of your financial transaction. However, keeping a record of your business transactions will take too much time and energy. Doing them on a daily basis could be too tolling for you. Fortunately, there are many certified accountants where you can outsource this work.

The Services Provided by Accounting Firms
Accounting firms have certified accountants that can provide assistance when you are evaluating a business plan. They can provide you an accurate financial structure that will help you determine the course of action that you should undertake. Aside from that, the accounting reports that you will receive from them will enable you to check if you have met all regulatory requirements to keep your business operational.
There are many types of accounting services offered today, and you are free to choose which one will help you the most. Even if you do not have your own business yet and is still planning to establish one, accounting services can still be helpful to you. They can help you prepare the financial requirements for the business you are planning to establish. They can make suggestions on how you should prepare your business proposal, finance sources, and bank introductions.
Accounting experts can also advise you about the most suitable structure for the type of business you are venturing into. For example, they can tell you whether to go for partnership, sole proprietorship, or settle for a limited company.

The Importance of Accounting Services
When you already have your own business, accounting services are invaluable. Certified accountants can give you an accurate record of your cash flow, trading forecasts, budgets, as well as the financial layout of your business plans. In addition to that, some accountants also offer secretarial works, which will save you from hiring additional staff for secretarial positions.
With the help of accounting services, you will be able to determine the financial status of your company. This in turn will enable you to make wise decisions regarding the finances of your company. This will also help you maintain a steady cash flow, which in turn will help you in growing your business.

Small Businesses Are Benefiting From Tax Laws

The recent changes in the tax laws have definitely put small businesses in a tight spot. There is no denying this fact. But that in no way means that small businesses cannot work their way around it in order to mitigate the effects of such aggressive tax laws. For starters, aggressive year-end tax strategies is not what small business owners should be banking upon at this point of time. Your tax strategies should not be stringent. They should be flexible enough to accommodate benefits or losses incurred due to preplanned or unplanned policies.
A small business cannot always plan all its expenses in advance. It is common knowledge that there are times when a small business owner needs to pump more money into the venture than was planned in order to cover up some extra efforts that the company is probably making that could be related to marketing, increased production, etc. Alternately, there are times when a company is not able to spend as much as it set out to due to some reasons. This is why planning taxes in advance makes them bound to a plan and unable to make changes that would benefit them in the long run.
It is prudent that you try and maximize your deductions in order to minimize your taxes. When following this advice, keep a tab on the timing. In case you've had a particularly bad year financially, and you do not expect a change from this in the next year too, you would be placed in a lower tax bracket. So you do not need to take deductions right now, as your taxes would already be low. If things turn around however, you will be placed in the higher tax bracket, and this is when you should implement your deductions plan.
It is important that you as a business owner understand that when you spend $1, it is not $1 worth of tax paid, but $1 worth of money spent. So don't just go about spending money hastily for no reason in order to save tax.
The most commonly held false notion surrounding year-end tax planning is that it is wise to 'zero out your business bank account by 12/31'. While this is a good way to defer present year's taxes into the next year's it will not result in any complete tax deferral. Make sure you make your company's tax strategies keeping the above points in the hindsight.

Provision for restoration cost/ provision for reinstatement cost

When an audit client signed an rental / lease agreement to lease a space (i.e. office / warehouse), please make sure that we, as an auditor, we review the agreement thoroughly.

Generally, audit client has to reinstate/ restore the lease space to its original state. To illustrate, audit client may have renovated the building for its own purpose. The owner would request the audit client to reinstate the lease space to its original state when the lease expire and the audit client decided not to renew the lease agreement.

A provision for instatement cost / restoration cost need to be recorded, as it is an existing obligation of the audit client. This amount relates to the cost to be incurred to reinstate the lease space back to its original state. This amount can be estimated by obtaining quotation from the renovator / building contractor.

The accounting entries are:
Dr. Fixed asset- reinstatement cost
Cr. Accrual

The amount capitalised above relates to the full cost to be incurred when the lease expire ( note: assume the inflationary adjustment to be not material. On an annual basis, the following entry need to be recorded:

Dr. Reinstatement cost- P&L
Cr. Accum Dep- Fixed asset- reinstatement cost
This amonut is computed based on the amount capitalised divided by remaining lease period.

The depreciation entry is to record the cost capitalised into P&L on a straight line basis.

Using the work of an expert

In audit, it is not uncommon for management to rely on the work's of expert to assist in preparing the financial statement of the Company. The common work of experts relied by management are as follows:

- engaging external valuer to perform valuation of property ( for impairment assessment of the property)
- engaging corporate finance expert to assist in Purchase Price Allocation review
- engaging actuary to estimate the defined benefit plan of the Company
- engaging corporate finance expert to assist in impairment assessment of goodwill / brand / etc

Generally, management relied on the subject matter expert to provide their opinion on certain aspects.What did we do as an auditor to address this matter?

International Standard of Auditing specifically mention that we need to review and/or evaluate the independence, competency and objectivity of these experts. It is important for us to carry a rigid assessment on the external valuer and its work to ensure that the results is not unreasonable. For instance, we need to check that the valuer is independent from management, such that the opinion provided by expert is independent and not under the influence of management.

When the work performed by subject matter expert become very technical, we may consider to consult our in-house expert (e.g. transaction service department/ valuation team). This is to check that the methodology / work performed by subject matter expert is not unreasonable. The opinion provided by subject matter expert could affect our audit opinion directly. Hence, we urge all auditors to ensure that all mandatory procedures are performed and all factors are consider to deal with this.

Can Accounting Systems be TOO Integrated?

Systems like SAP, Oracle Financials and PeopleSoft attempt to integrate all aspects of a business, regardless of the number of countries, industries, product lines they operate in.  They address all areas of the business, from accounting, to manufacturing, to planning, to human resources, to management.  There is no question that large corporations have benefited from this integration, but is it possible that we’ve gone too far?

The larger the computer system, the higher the cost of change.  For example, one of my clients was an international oil company which wanted to experiment with a new subsidiary.  The company found it cost effective to do a whole installation of Microsoft Dynamics (and throw it away when the experiment proved to be a success) than to integrate the new subsidiary into their main system right away.

But, more importantly, large systems become increasingly complex, reducing their ability to adapt to change.  I don’t have an inside track, but I have noticed that my telephone company’s billing system seems to be unable to keep up with changes in cellphone services and fees.  In any competitive industry, even large companies need to be nimble and respond to changes in the marketplace quickly.

Finally, there is the “best of breed” problem.  You may have the biggest, most integrated system, but there are other systems that handle specific functions better.  You then are faced with the choice of the one-vendor-solution versus assembling a system from the best of breeds by several vendors.  So, you get your basic General Ledger, Accounts Payable, Banking and Accounts Receivable from one vendor, your Point-of-Sale system from another and your document imaging from a third.

A good example of this type of thinking was a client who wanted to connect his ordering system to his web site.  Both systems claimed to be able to handle the sales tax, but in testing, the engine in the accounting system proved to be more robust than the web site.  The client decided to process the order in the web site, but have it pass the information to the accounting engine to calculate the taxes and send the result back to the web site.  The result was a better system with no tax discrepancies.

Transfer pricing: inter-company charges/ inter-company sales or purchases/ management fees/

Transfer pricing is a hot topic among accountant in almost every countries. Transfer pricing become a significant topic following the globalization foot-step, where cross-border transactions become more and more common. Your audit client may have a head office in Singapore, a packaging plant in Malaysia, while a main manufacturing plant in China. The supply chain of the audit client can span accross different countries.

Of course, when a inter-company / related company rendered service for other inter-companies / related companies, a price will be charged. The question is: how much to be charged? on what basis should the audit client determine the pricing / gross margin ( in circumstances of cost plus company) on inter-company transactions.

It is important for us to highlight to client to have a basis on determining the inter-company charges (including: sales transaction, purchase transaction). The inter-company transactions should be conducted on an arms length basis (i.e. the pricing should not differ materially from the market price). This is because local tax authority is concern on potential tax manipulation to record higher margin at lower tax rate country / region.

Hence, a proper documentation on transfer pricing is important to support all inter-company transaction. Management should always make reference to market price to assess if transfer pricing is conducted on an arms length basis.

In addition, it is common for holding company / other entities within the Group to charge managment fee to other inter-companies for certain centralised function  (e.g. shared service centre)/ corporate service. Likewise, a proper documentation and computation is required to support the basis of determining the management fee.

As auditor , we need to understand the basis of management in coming up the transfer pricing documentation and  to reivew for high level reasonableness.

Not JUST an Accounting System

Alice* shared one of her constant frustrations in a meeting about their accounting system.  She is an accounting supervisor in a medium sized company with offices across the country.  Her problem is the staff in other departments saying that the computer system belongs to the Finance department, so they don’t have to take responsibility for the quality of the information.  It’s not their responsibility if the information in the accounting system is wrong or out of date.

Accounting systems used to be confined to recording entries, producing invoices and making payments.  Current accounting systems integrate into other business software, so that the Sales, Purchasing, Manufacturing, Distribution and Human Resources systems are now part of the “Accounting System.”  More and more, other systems, such as Document Imaging and Customer Relationship Management, are integrating with the accounting system.

In a world where computer reporting is expected to be detailed and instantaneous, there is no room for error.  In short, EVERYONE owns the data.

By the same token, information needs to be shared.  There should be no arguments about who “owns” the data.  If it is needed in decision making, it needs to be made available to the decision makers, regardless of their department.

The more that operational data gets married to the financial data, the more focused the reports and the better the decision making.  The more integrated the systems, the easier it is to marry the data.  But can systems be too integrated?  Stay tuned for the next blog!  


* Not her real name.

IFRS 7: Financial Instruments- Disclosure: Receivables that are past due but not impaired

IFRS 7 set out certain disclosure requirements relating to financial instrument of the entity. One of the key requirements is: our audit client is require to disclose the analysis of the age of the financial assests that are past due but not impaired.

In general, this relates to trade receivables / other receiables from custoemrs or other third parties. This disclosure allowed financial statement users to have more information relating to the aging profile of the Company, especially those debts that are past due, but not impaired.

A general things to highlight to audit client is to emphasize that the aging table should be prepared based on the due date of the debts, instead of the age of the invoice. Auditor is required to perform testing ot the aging profile, as well as performing high level review on the aging profile prepared by client. This shall be cross checked against the debtors' turnover of the Company.

To illustrate, if our audit client has a debtors' turnover of 90 days, we will then expect the aging profile to have certain debts that are more than 90 / 120 days.

Please feel free to contact us at myauditing@gmail.com if you need more insight on this.

Internaitonal Standard on Auditing: Communication with those charged with governance

International Standard on Auditing ("ISA") 260 deals with the "Communication with those charged with governance".

For the purpsoe of ISA 260, the standard has defined the following:


10. For purposes of the ISAs, the following terms have the meanings attributed below:

(a) Those charged with governance – The person(s) or organization(s) (for

example, a corporate trustee) with responsibility for overseeing the

strategic direction of the entity and obligations related to the

accountability of the entity. This includes overseeing the financial

reporting process. For some entities in some jurisdictions, those charged

with governance may include management personnel, for example,

executive members of a governance board of a private or public sector

entity, or an owner-manager. For discussion of the diversity of

governance structures, see paragraphs A1-A8.

(b) Management – The person(s) with executive responsibility for the conduct

of the entity’s operations. For some entities in some jurisdictions,

management includes some or all of those charged with governance, for

example, executive members of a governance board, or an owner-manager.   ISA 260 has stated the matters required to be communicated to those charged with governance, as below: - Auditor's responsbilities in relation to the financial statement audit; - planned scope and timing of the audit; - significant findings from the audit; - Auditor independence   This is a very important auditing standard, whereby all the audit team members, especially audit executive need to master. This standard clearly defines on the audit matters to be communicated, to whom to be communicated, and the communication process. Hence, we suggest all audit executives to read through this ISA 260 to ensure that the audit team has complied with the standard.

Purchase Price Allocation Review- Intangible Assets- A Cross Check

Meger & acquisition activities never disappear, even when the economy appears to be slowed down. Entity with strong balance sheet and with huge cash on hand will acquire certain companies when the valuation is relatively cheaper.

When your audit client acquire a company. They are required to perform Purchase Price Allocation review, which allocates the consideration to the relative fair value of the tangible and intangible assets / liabilities acquired, with the remaining amounts recorded as goodwill/ bargain purchase.

Usually, an audit client will engage an external valuer to value the tangible assets / liabilities and intangible assets acquired. In general, intangible assets (such as: brand name/ customer list) is not recorded on acquiree' balance sheet.

We will talk more about the details of purchase price allocation review in our future posts. A very way to understand the business rationale of acquiring the target is to compare the net asset of the target company to total consideration paid by your audit client.

To illustrate, audit client has paid US$10mil to acquire a target company with a net asset value of US$1mil. It appears to you that the Company has paid US$9mil to acquire certain intangible assets or certain items not recorded at fair value on target's balance. There is a number of possible reason:

- target company has strong brand name;
- target company has comprehensive list of customer relationship;
- land & building was recorded at cost and not at fair value (note: this is allowed under accounting standard);
- a goodwill the Company is willing to pay for; etc etc

By comparing the total consideration against the net asset of the target company, you will be able to find out the business rationale of acquiring the target company and assess if the acquisition fits into the client's long term business objective. Please, never fail to understand the business rationale while you perform the auditing.

Value of engaging Big 4 accounting firms

In previous post, we invited opinions/ comments from our reader to discuss the value of engaging Big 4 accounting firms. After considering the opinions/ comments received from Accounting & Auditing blog's reader, we would like to share with you our thought:

- established reputation / recognition by the financial markets ( majority of the Blue Chip companies appointed Big 4 as their auditor);
- established audit methodology developed by respective firms (i.e. existence of technical department, etc);
- stronger support from administrative department;
- integrated support from member firms globally to ensure that audit of foreign subsidiaries are carried out smoothly;
- internal quality review policy carried out to review that quality of the audit meet the firm standard

Of course, while there is a value of engaging Big 4, there is a premium need to be paid for. Fee charged by Big 4 accounting firms is, on average, higher than those medium tier audit firm (e.g. BDO, Horwath, etc). Please feel free to drop us an email at myauditing@gmail.com if you woud like to find out more from us.

Urgent vs. Important

Accounting is all about deadlines.  From the weekly cheque run to the monthly management reports, the quarterly shareholder reporting and the annual tax return, there is always something that has to be done NOW!

At the same time, there are those important initiatives that have no specific deadline but that will significantly impact the running of the department, like systems upgrades, staff development and departmental strategic planning.

Two things are clear:  you can’t manage what you can’t measure and it won’t happen unless you make time for it.

Measuring Success

When implementing accounting systems, I ask for an idea of transaction volumes:  how many accounts payable invoices are processed in a month, how many journal entries, etc.  Often it takes some digging to get the answers to those questions.  Controllers often don’t know how many transactions are being put into the system or, more importantly, how many entries one person can be expected to be able to do in a day.  Accounting managers often have a sense that some staff members are busier than others, but no hard statistics to back up their impressions.  Yet, this information can often be easily obtained.

Accounting systems usually tag each entry with some code for the person who created the transaction, as well as the date the entry was made, so you can create a report that summarizes the number of transactions entered by each person.  When I did this exercise for one company, some useful information resulted.  The report confirmed what the Controller already knew about how slow the summers were, but it also gave him some reasons to investigate the performance of the Purchasing staff.

When he found out the reason it took so long to create purchase orders was the amount of time they had to put in chasing department managers for their signatures, he decided to go ahead with the workflow software he had been considering.

Making Time

A hint about making time for important initiatives:  delegate!  Make it part of everyone’s job description that in addition to the regular routine, each member has a special project they are responsible for.  Emphasize how taking on this responsibility will enhance their career and that you will work with them to help them find ways to make time for the new project.  For example at one company, I knew that we were wasting time photocopying each cheque we received and that our payment encoding scanner was on its last legs, so I asked for a volunteer to research the latest technology.  An accounts payable clerk who loved technology offered to do it.  He did a more thorough job than I would have had time for and he enjoyed the challenge.

How do you make time for important initiatives in the middle of all of your urgent deadlines?

Nortel Accounting Fraud?

Take a darling of the stock market, add a spectacular fall, throw in a possible recovery and then sprinkle the whiff of scandal in the Executive Suite.  The newest Hollywood business blockbuster?  No, the Nortel fraud case.

In a nutshell, senior executives, including the Chief Financial Officer, have been charged with manipulating the company's earnings in order to earn themselves a bonus.

I don't know the facts of the case, as all I have read are the newspaper accounts.  The reality is that accounting involves estimating of the impact on future events on current operations.  For example, if you guarantee your products, you know that you will have to refund some amounts to customers in the future.  How much?  Only experience can tell, and even then, it's often wrong.  So, you estimate.  A technical person will give you some rule, like 1.25% of the products will fail, so you calculate how many you have sold and set aside 1.25% (or more if you will incur additional service costs).

As an accountant, my goal is that the financial statements of a company reflect the economic activity of that company over time, but please don't hold me to one specific number, particularly the Net Income.  That just isn't realistic.

What I want to know is:  who created a significant bonus scheme based solely on accounting income?  What were they thinking?

Whose System is it, Anyway?

There are many stages a computer system goes through during an implementation.  At first, it is just an idea perhaps starting with frustration with the current system or a sudden new requirement that the current computer (if there is one) can’t handle.  At this point, all you know is that you need a new system.

The Hunt

Then you start looking.  Maybe you ask colleagues.  Maybe you initiate a Request For Proposals (RFP), asking a number of vendors a series of questions about what their system can do, and inviting them to bid on your business.  Maybe the system has already been chosen for you by a parent company.

Then come the demonstrations and the system becomes more real.  You compare different products.  You talk to consultants and the customers they offer as reference sites.  You do your homework and you make your decision about which system to buy, but it’s not your system yet.  Even though you may have signed a contract, taken delivery of the software and paid for it, your staff has not taken ownership of the system.

The Implementation

Next comes the detailed planning, the configuration, the set-up, the training and the conversion of the data from the previous system.  What can the new system really do?  What fits and what doesn’t?  You add additional software.  Maybe the new system doesn’t have Electronic Data Exchange (EDI) for orders and payments to large retail companies, so you add an EDI package.  Maybe you need workflow to handle your online orders or document imaging to get rid of the tedious searches through filing cabinets, so you turn to iDatix.

At this point, you examine your internal processes.  You look for formerly manual steps that the system can now do.  With the workflow system now reminding people to submit their expense forms, move the person who used to phone all the salespeople to a higher value task, such as following up on customer payments.

By this time, your staff should start to feel like they own the system, that it is their responsibility to make it their own and work with its strengths and weaknesses.  Unfortunately, after many years of implementations, my experience has been that they often don’t.  All of a sudden, the old system looks better.  The new one seems clunky.  There’s always something that worked better before.  The staff doesn’t remember the issues they had when the old system was new.  They don’t remember the workarounds they had to come up with.  They don’t have enough time or patience for the new system.

Naming the Beast

Accounting systems are complex.  In a medium sized implementation, there may be over 500 data files.  In a large one, there are literally thousands.  When you layer on tax requirements, Generally Accepted Accounting Principles, industry standards, vendor/customer complexities, etc. etc. even the best planned systems require extensive work to fit.  One simple thing you can do to help your staff take ownership and really commit to the new system is to name it.  It sounds like a small step, but it underlines the fact that it has been customized for your company.  The system is no longer SAP, Oracle, Microsoft, Sage or even Quickbooks, it is yours.  So, if you were the Leamington Manufacturing Corporation for example, you might call your system Lexie (Leamington’s EXtended Information Environment) and have one of the more artistic members of staff find a suitable image.  Give the system a good start by throwing a party, and when people complain, make sure to take their complaints seriously, but also ask them to have patience with Lexie.  After all, she is the newest member of the team.

Re-posted with the kind permission of iDatix:  http://www.idatix.com/insider-perspective-whose-system-is-it-anyway/

Discussion: Value of engaging Big 4 audit firm as auditor

It is known in the commercial world that the auditing industry for the world is dominated by Big 4 audit firms, namely: Deloitte, Ernst & Young, KPMG and Pricewaterhouse Coopers (PWC). The number of listed companies (including most of the blue chip corporates) are audited by Big 4. The audit fees charged by Big 4 are usually higher than other non-big 4 audit firms (i.e. there is a premium on Big 4's audit fee).

What are the reasons for Big 4 to command a premium on its audit fees? Have you thought about it? We encourage our readers to submit their answers to us, such that we can discuss the value of engaging a Big 4 as audit firm together.

You may leave a comment to the blog post or send the email to our account: myauditing@gmail.com

Dividend income from subsidiary, and its withholding tax

We receive questions from a reader, who just started to learn the principle of consolidation.

"The question was will dividend income from subsidiary remain in the Group consolidation account"

The basis principle of consolidation is to prepare a consolidated account that captures the transactions of a Group with extrenal party. Any transaction within the Group will not be captured in the consolidation account.

To answer his/ her question: the dividend income received from a subsidiary by the holding company relates to a transaction within the Group. As such, this transaction will be eliminated during the consolidation process. Hence, the dividend income from a subsidiary will not be captured in consolidated account. However, we would like to highlight that, the holding company often suffer witholding tax while the subsidiary remit dividend to holding company, who might be at different country.

The with holding tax sufferred is not eliminated, as it represents the amonut payable to local tax authority of the subsidiary.

The Cost of Data Entry

 Ah, I remember those days well.  As a young auditor, looking a little uncomfortable wearing a suit every day, I was asked to audit the Accounts Payable department of a national retail chain.  The office was in a low rise building in the suburbs and the Accounts Payable department took up a whole floor.  That’s right, row after row of middle-aged women with comptometers, which were large, manual calculators.

Their job was to check all of the calculations on the invoices received from vendors and then batch the invoices for data entry.  The women (and they were all women in those days) down in data entry were not supposed to even think while they entered the invoices.  They were supposed to be like human computers and just key in the data, only looking at it if it didn’t agree to the comptometer total that came with the batch.

Funny story:  one of the older women in Accounts Payable liked me because I was careful about putting all of the invoices I selected for audit testing back into the right files.  She invited me out to lunch one Friday with “some friends from other departments.”  At the restaurant, she introduced me to the new credit manager, a woman about my age.  Then she looked at her watch and said that she had forgotten to do something important, and that we should go on without her.  Lunch turned out to be just the two of us.  The credit manager was deeply embarrassed and told me how the ladies in Accounts Payable thought she was much too pretty to be single, so they kept setting her up with eligible young men.  I’d love to be able to say that we were married the following year, but such was not to be.  The lunch ended quickly and we went our separate ways.

Data entry has changed a lot since those days too.  We expect the people who enter information to understand and correct the transactions, as well as flagging any that need further follow up.  Data entry is a more responsible position than it used to be.  Personally, I think that’s a good thing.  It’s a more rewarding experience to be involved in the business than to just sit there doing mindlessly repetitive tasks.
Data entry is also disappearing.  When we receive cheques, for example, they are entered via a scanner, which reads the bank’s magnetic encoding, as well as attempting to read the sender’s address information.  The data entry clerk reviews and corrects the information before posting the cash receipts, a much faster process.  Other companies, more advanced than ours, get rid of paper altogether by using Electronic Data Interchange (EDI) where all of the payment information is received from the vendor and the payment is wired into the bank account, freeing up staff to do more value added work, such as following up on outstanding payments.  So, instead of having a room full of data entry clerks, you have none.

PCAOB in tentative deal to observe China official auditor' inspections

Chicago Tribune reported that the a tentative agreement has been reached by PCAOB of U.S. to observe official auditor inspection in China.


(http://articles.chicagotribune.com/2012-09-21/business/sns-rt-us-usa-audit-watchdogbre88k1bi-20120921_1_audit-firms-pcaob-scandals-at-chinese-companies),

After the infamous Sino Tech Engergy Ltd incident, US investors are cautious in dealing with the trading of China-based companies listed on U.S. Exchanges. PCAOB announced that “We are working toward and have tentatively agreed on observational visits".

This is a move for PCAOB to observe the audit firms’ quality control over the auditing industry within China.



We, Accounting & Auditing blog, view this move positively. As the observation will allow PCAOB to develop understanding of the audit firms’ quality, high level understanding of audit procedures’, controls exercised by China relevant regulatory authority. Any difference in expectation may be communicated by PCAOB to China authority, in order to allow the China authority to close any gap.



In the long term, we expect close border listing to become more common and frequent, an overview by the authority from U.S. stock exchange may assist in clearing the obstacles / anxiousness the market may have towards the China-based company. We hope to hear more good progress in the future.

Critical review of Gross Margin Analysis

Dealing with gross margin analysis, academic often provide the following guidances for analyst / auditor in the approach on how to analyse:
- compare gross margin of a subject company to competitors within the industry
- compare gross margin of a subject company to prior period
- compare gross margin of a subject company to our expectations (i.e. increase in fuel costs would likely result in the decrease in the subject company's gross margin)

The above analysis is fundamental and provide insight for analyst / auditor of the subject Company. We, Accounting & Auditing blog, propose the auditor to critically review the component of gross margin and the movement within each key compoent, to reflect the gross margin of the Company factually and within reasonable expectation of a financial statement user.

Gross margin represents the difference between sales revenue and cost of goods sold. Sales revenue represents the revenue the Company generated after transferring the significant risk and rewards/ title of the goods. Cost of goods sold include all costs of purchase, costs of conversion and other costs incurred in bringing the inventories to their present location and condition. Costs of goods made by the business include material, labor, and allocated overhead.

Management may have incentive to change the classification of its cost component, such that the gross margin appears to be favorable. For instance, management of a manufacturing may decide to include freight inward as selling and distribution costs, while in fact, freight inwards is the cost incurred in bringing in raw materials for its production purpose. By excluding freight inward from being a component of cost of goods sold, the gross margin will appear to be higher.

As the auditor, it is recommended to review through the cost of goods sold component of our audit client, to critically review the reasonableness of the cost of goods solds. The analysis need to be supplemented by our understanding of the business and discussion with management. Engaging different client personnel from different departments/ operations assist in developing our understanding of the business better.

Gross margin analysis should not be limited to comparing to prior period, comparing to industry norm, as this is not sufficient to understand a business better. We, as the auditor, has the responsibility to re-assess what we have done in the past and critically review the existing account against the changing business environment to make sure that the financial statment reflect the financial affair of the audit client reasonably within the current business context.

It's Nice to be Recognized

Today's email contained a nice surprise:  a message from Bisk Education, a CPA preparation school in Florida.  Grant Webb, one of Bisk's learning facilitators, had this to say:

Our accounting students as well as myself have been following your Energized Accounting blog and have used your content in our classroom discussions. Most recently, we discussed your post on “Habits of Successful Accountants”. This post was highly relevant to our topic of the day.  Thank you.

As we train our accounting students to become CPAs, we often search for scenarios online to supplement our classroom discussion. Your post was exactly the type of information our CPAs in training use to build a more well-rounded knowledge base and understanding as well as preparing to be successful as an accountant CPA.

 I don't get much fan mail, nor do I get a lot of commentary on my posts (a subtle hint to Bisk students!), so it was nice to get this recognition.

 Thank you, Bisk Education!