Question

Common-size financial statements are often used by auditors in a process called “analytical procedures” or “analytical review.” Unusual relationships or patterns can be identified because of the percentages—these would be harder to see if the amounts were just kept as dollars. You will be looking for percentages that seem very unstable over the times periods (the percentages jump around too much).

What are some of the unusual relationships you see? Please identify and discuss at least two unusual relationships. Please attach your common-income statement.

Net Sales Revenue COGS Expense Gross Margin 1985 Dollar Amount 1,240,524 576,694 663,830 Percent 100% 46% 54% 1986 Dollar Amount 4,845,347 2,050,779 2,794,568 Percent 100% 42% 58% 7/31/86 (3 Months) Dollar Amount Percent 5,395,754 100% 2,976,205 55% 2,419,549 45% General Expenses Joint Venture Income Operating Income 306,016 0 357,814 25% 0% 29% 1,125,541 186,679 1,855,706 23% 4% 38% 622,811 102,066 1,898,804 12% 2% 35% 0% 56,053 Interest Expense Income Taxes - Current Income Taxes - Deferred NET INCOME 5% 0% 26% 43,020 48,027 819,014 945,645 1% 1% 17% 20% 64,097 121,133 817,621 895,953 1% 2% 15% 17% 321,761 EARNINGS PER SHARE 0.04 0.12 0.11

Answer 1

	1985	1986	7/31/86 3 months
Net sales revenue	12,40,524	48,45,347	53,95,754
COGS expense	5,76,694	20,50,779	29,76,205
Gross margin	6,63,830	27,94,568	24,19,549
General expense	3,06,016	11,25,541	6,22,811
Joint venture income	0	1,86,679	1,02,066
Operating income	3,57,814	18,55,706	18,98,804
Interest expense	0	43,020	64,097
Income taxes - current	56,053	48,027	1,21,133
Income taxes - deferred	0	8,19,014	8,17,621
Net income	3,01,761	9,45,645	8,95,953
Earning per share	0.04	0.12	0.11
Common size income statement	1985	1986	7/31/86 3 months
Net sales revenue	100%	100%	100%
COGS expense	46%	42%	55%
Gross margin	54%	58%	45%
General expense	25%	23%	12%
Joint venture income	0%	4%	2%
Operating income	29%	38%	35%
Interest expense	0%	1%	1%
Income taxes - current	5%	1%	2%
Income taxes - deferred	0%	17%	15%
Net income	24%	20%	17%

А B 267 Net sales revenue |1240524 4845347 5395754 268 COGS expense 576694 2050779 2976205 269 Gross margin =B267-B268 =C267-C268 =D267-D268 270 271 General expense 306016 1125541 622811 272 Joint venture income 186679 102066 273 Operating income =B269-B271+B272 =C269-C271+C272 =D269-D271+D272 274 275 Interest expense 43020 64097 276 Income taxes - current 56053 48027 121133 277 Income taxes - deferred 819014 817621 278 Net income =B273-B275-B276-B277 =C273-C275-C276-C277 =D273-D275-D276-D277 279 280 Earning per share 0.04 0.12 0.11 281 282 283 Common size income statement 1985 1986 7/31/86 3 months 284 Net sales revenue =B267/B$267 =C267/C$267 =D267/D$267 285 COGS expense =B268/B$267 =C268/C$267 =D268/D$267 286 Gross margin =B269/B$267 =C269/C$267 =D269/D$267 287 288 General expense =B271/B$267 =C271/C$267 =D271/D$267 289 Joint venture income =B272/B$267 =C272/C$267 =D272/D$267 290 Operating income =B273/B$267 =C273/C$267 =D273/D$267 291 292 Interest expense =B275/B$267 =C275/C$267 =D275/D$267 293 Income taxes - current =B276/B$267 =C276/C$267 =D276/D$267 294 Income taxes - deferred =B277/B$267 =C277/C$267 =D277/D$267 295 Net income =B278/B$267 =C278/C$267 =D278/D$267 DOC ► Sheet1 Sheet2 Sheet3 Sheet4

1) COGS expenses are of 55% of total sales in quarter ended July 86 where as COGS expenses in 1985 and 1986 period is much lesser. Resulting in gross margin variations.

2) General expense in 7/31/1986 3 months period is 12% which is lesser than other two period i.e. 1986 and 1985