220058

ANNE AYLOR, INC. Determination of Planning Materiality and Performance Materiality

Anne Aylor, Inc. is a well-known retailer specializing in women's clothing, shoes, and
accessories under its brand name. They offer to professional women who appreciate quality and
fashion by specializing in offering traditional styles with a modern twist. Their product is primarily
developed in-house and obtained from various producers worldwide. They have approximately 584
outlets spread across 46 states. The business follows a traditional fiscal year, and its 2014 financial
results show $1.2 billion in revenue and $50.8 million in net income. In order to guarantee financial
transparency and compliance, they are audited and their stock is traded on The New York Stock
Exchange.
As Smith and Jones, PA. organizes Anne Aylor, Inc.'s fiscal 2015 audit, the audit manager is
in charge of figuring out which important financial statement accounts are planning and performance
material. After evaluating the business's performance, Donna Fontain, the audit partner, concluded
that there was little chance of management fraud.

1. Review Exhibits 1 and 2; audit memos G-3 and G-4; and audit schedules G-5, G-6 and
G-7. Based on your review, answer each of the following questions:
a. Why are different materiality bases considered when determining planning
materiality?
Financial information is designed to meet the needs of diverse users who
have different information needs. Thus, not everyone finds the same importance in
each part of financial reporting. What is significant to one individual may not be to
another. When speaking with shareholders, for example, you will find that they are
very interested in the company's long-term profitability and growth. But if you're
talking to people who lend money to the company (creditors), they're more interested
in whether the company can pay back what it owes, rather than how much profit it's
making. Thus, what matters depends on the audience.

b. Why are different materiality thresholds relevant for different audit

engagements?
Materiality is a relative rather than an absolute concept. Depending on the
environment in which the business works, different materiality standards will have
different effects on users of the financial statements. For instance, based on how the
organization is doing in comparison to its industry, different misstatements will have
different effects on the users of financial statements. Smaller-scale misstatements will
have a greater impact on an organization that is merely meeting the industry average
than on one that is considerably exceeding or falling short of the average.

c. Why is the materiality base that results in the smallest threshold generally used
for planning purposes?
The dual entry nature of accounting results in misstatements affecting at least
two accounts. Most errors impact an account on the income statement as well as the
balance sheet. As a result, auditors must plan their audit to uncover every tiny
inaccuracy that could have an impact on financial statement users. a reasonable level
of assurance regarding the absence of It is not possible to give major misstatements
unless the audit is set up to find the smallest possible error that could have an impact
on consumers. Materiality is a relative term rather than an absolute one. Depending
on the environment in which the business works, different materiality thresholds will
have different effects on users of the financial statements.

d. Why is the risk of management fraud considered when determining

performance materiality?
 Errors in individual accounts are more likely to have the same effect on the
overall net income when there is a significant possibility of managerial fraud in
accounting. For instance, assets may appear to be greater than they actually are,
while liabilities may appear to be lower. On the other hand, errors in individual
accounts may cancel each other out in terms of net income when there is little chance
of fraud. While some accounts may indicate less revenue than they should, others
may indicate larger income. Therefore, whether or not account errors pile up to
impact net revenue in a single direction or cancel each other out depends on the
probability of fraud.

e. Why might an auditor not use the same performance materiality amount or
percentage of account balance for all financial statement accounts?
The main goal of an audit is to give reasonable confidence that a company's
financial statements are accurate, but this needs to be done at a reasonable cost. To
adequately verify each of the financial statements' accounts, varying degrees of proof
are needed, and the cost of this evidence can also vary. Therefore, in accounts when
there is little or expensive proof, auditors may set a greater limit for allowable
mistakes in order to control expenditures. Less proof is required if an account can
withstand more errors. Conversely, further evidence is required for accounts that
have a lower tolerance for errors. However, the size and significance of the account
determines the maximum amount of error that can occur.

f. Why does the combined total of individual account performance materiality

commonly exceed the estimate of planning materiality?
It is unrealistic to expect every account in an audit to be off by precisely the
amount permitted by the acceptable error limit. Rather, it is more typical to discover
that the majority of accounts have errors that are less than the permitted limit, with a
tiny percentage having errors that are greater. Furthermore, not every accounting
error will have the same impact on net income. Errors can cause net income to
appear lower than it should be, or larger than it should be. These errors can therefore
counteract one another, thereby lessening the total impact on net income than if they
all went in the same direction.

g. Why might certain trial balance amounts be projected when considering

planning materiality?
An audit's planning usually begins well in advance of the audited financial
year's conclusion. Early preparation enables auditors to carry out the audit effectively
and ensures that they get sufficient high-quality evidence. Auditors must prepare an
audit program, which is a written plan for the audit, as part of this preparatory
process. Every action the auditor will do during the audit is outlined in this plan. The
auditor must consider the possibility of significant errors in the financial statements
when developing this plan. The magnitude of the sums in the financial statements
determines the materiality of an error, or how significant it is.

2. Based on your review of the Exhibits (1 and 2), audit memos (G 3, and G 4), and audit
schedules (G 5, G 6-1, and G 6-2), complete audit schedules G 5, G 6-1, and G 6-2.

Anne Aylor Inc. Reference: G-5_______

Planning Materiality Assessment Prepared by: APNB
Year Ended: January 31, 2015 Date: April 05, 2024
Reviewed by: _ _______
Primary Users of Financial Statements (list):

1. Anne Aylor, INC.

2. Shareholders
3. Creditors
4. Investors
5. Employees
6. Customers

Likelihood of Management Fraud

____ Low Likelihood of Management Fraud

____ Reasonably Low Likelihood of Management Fraud

____ Moderate Likelihood of Management Fraud

Materiality Bases (in thousands):

Base Fiscal Fiscal Planning Materiality Levels

2014 2015
Actual Projected Lower Limit Upper Limit
Financial Financial
Statement Statement Percent Dollar Percent Dollar
Accounts Accounts amount amount

Income $ 97,235 $ 110,000 2 $ 2,200 7 $ 7,700

before
taxes

Net 2,396,510 2,465,000 0.5 12,325 2 49,300

revenues

Current 312,876 327,000 2 6,540 7 22,890

liabilities

Current 507,891 522,000 2 10,440 7 36,540

assets

Total 1,393,755 1,400,000 0.5 7,000 2 28,000

assets

Planning Materiality (in thousands): $ 7,273

Explanation:
Anne Aylor's stock is traded on the New York Stock Exchange, with about 29 million shares of
common stock available, and its total market value is roughly $1.18 billion as of March 1, 2006. For
the business to maintain increasing its market value, growth in revenue and profits is essential. For
the fiscal year 2005, Anne Aylor would have had a huge gain of at least 136% in earnings and 6%
in revenues, even if its earnings and revenues dropped by $5.6 million. Compared to its primary
competitors, this predicted growth rate is higher. For this reason, users of the company's financial
 statements are unlikely to be significantly impacted by an error of $5.6 million or less.

Cumulative materiality amount to be allocated to accounts (in thousands:

Planning materiality: $ 7,700
Multiplication factor (3 if low likelihood of management fraud, 2 if reasonably low 2
likelihood of management fraud, and 1 if high likelihood of management fraud)
$ 15,400

Anne Aylor, Inc. Reference: G 6-1

Tolerable Misstatement for balance sheet accounts Prepared by: APNB
Year ended: January 31, 2009 (all amounts are in thousands) Date: April 05, 2024
Reviewed by:
Account Actual Projected Tolerabl Explanation
2/2/08 1/31/09 e
Balance Balances Misstate
s ment
Cash and cash $ $ 142,000 $ 100 A low Tolerable Misstatement is assigned
equivalents 143,135 relative to the account balance since low
cost competent evidence is available to
test account items.
Accounts 16,944 18,000 125 A high TM (Tolerable Misstatement) is
receivable, net tasked to the account balance because
high competence evidence is not
available to test valuation of account
items.
Merchandise 250,697 261,000 2,000 A high TM is tasked to the account
inventory balance to decrease the cost of testing
for the existence of account items and
only low competent evidence is available
to test the valuation of account items.
Deferred income 29,161 30,000 200 A high TM is tasked to the account
taxes, current balance to decrease the cost of evidence
necessary to test account items.
Prepared and 67,954 71,000 500 A high TM is tasked to the account
other current balance since the account has low
assets relevance to users and this enables
primary reliance on low cost analytical
test.
Property and 561,270 544,000 4,100 A high TM is tasked to the account
equipment, net balance to reduce the cost of evidence
necessary to test account items.
Goodwill 286,579 286,579 2,100 A high TM is tasked to the account
balance to reduce the cost of evidence to
test the valuation of this account
Deferred income 23,314 27,000 200 A high TM is tasked to the account
taxes, non- balance to reduce cost of evidence
current necessary to test account items.
Other noncurrent 14,701 20,421 200 A high TM is tasked to account balance
assets since this account has low relevance to
users and this will allow primary reliance
on low cost analytical tests.
Accounts payable 125,388 130,000 1,000 A high TM is tasked to the account
balance since only moderately competent
evidence is available to establish the
completeness of account items.
Total 10,525
Anne Aylor, Inc. Reference: G 6-1
Tolerable Misstatement for balance sheet accounts Prepared by: APNB
Year ended: January 31, 2009 (all amounts are in thousands) Date: April 05, 2024
Reviewed by:
Account Actual Projected Tolerabl Explanation
2/2/08 1/31/09 e
Balances Balances Misstate
ment
Accrued tenancy 44,945 48,000 225 A high TM is tasked to the account
balance to reduce the cost of testing for
the completeness and valuation of this
account items
Gift certificates 54,564 57,000 400 A high TM is used because only
and merchandise moderately competent evidence is
credits available to establish the completeness of
redeemable account items.
Accrued salaries 87,979 92,000 700 A high TM is tasked to the account
and bonus and balance to reduce the cost of testing for
other expenses the completeness and valuation of this
account items
Deferred lease 230,052 239,000 1,800 A high TM is tasked to the account
cost balance to reduce the cost of testing for
the completeness and valuation of this
account items
Deferred income 1,960 2,000 10 A high TM is tasked to the account
taxes balance to reduce the cost of evidence
necessary to test account items.
Other liabilities 9,383 10,000 100 A high TM is tasked to the account
balance to reduce the cost of testing for
the completeness and valuation of this
account items
Common stock 781,608 810,560 800 A low TM is tasked to the account
capital accounts balance since low cost competent
evidence is available to test account
items.
Retained 766,408 780,307 0 No Tm is needed since this residual
earnings account contains net of misstatement
included in all other accounts.
Accumulated (3,460) (3,867) 40 A low TM is tasked to the account
other balance to reduce the cost of testing for
comprehensive the valuation of this account items
loss
Treasury stock (705,072) (765,000) 800 A low TM is tasked to the account
balance since low cost competent
evidence is available to test account
items.
Total 4,875
Total 15,400