Year Effect on Effect Effect Effect Net Income on Assets on Liabilities on Equity ($13,200) ($20,000) 12,000 ($6,800) 7,000 2012 ($13,200) 2013 5,000 5,000 2014 (9,250) (2,000) (11,000) (5,500) (1,750) (3,500) (9,250) (2,000) 2015 2016 1,000 1,000 1,000
Uncorrected Misstatements and Performance Materiality. Aaron Rivers, CPA, is auditing the financial statements of Charger Company, a client for the past five years. During past audits of Charger, Rivers identified some immaterial misstatements (most of which relate to isolated matters and do not have common characteristics). A summary of these misstatements follows. (To illustrate, in 2012, the misstatements would have reduced net income by $13,200 if corrected:)
Check the below image for misstatements -
During the most recent audit, Rivers concluded that sales totaling $11,000 were recognized as of December 31, 2017, that did not meet the criteria for recognition until 2018. When Rivers discussed these sales with Chris Turner, Charger Company’s chief financial officer, Turner asked Rivers about the performance materiality level used in the audit, which was $25,000. Upon learning of this, Turner remarked, “Then there’s no need to
worry . . . it’s not a material amount. Why should we bother with this item?”
Required:
a. How does the misstatement identified in 2017 affect net income, assets, liabilities, and equity in 2017? (Assume a 35 percent tax rate for Charger.)
b. Comment upon Turner’s remark to Rivers. Is Turner’s reasoning correct?
c. Upon doing some research, Rivers learned of the rollover method and iron curtain method for evaluating the performance materiality of misstatements. Briefly define each of these methods.
d. How would Rivers evaluate the performance materiality of the $11,000 sales cutoff error in 2017 under the rollover method and iron curtain method?
e. Based on your response to part (d), what adjustments (if any) would Rivers propose to Charger Company’s financial statements under the rollover method and iron curtain method?
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