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Question 1

The financial statements of Crazy Eddie from 1984 to 1987 showed several red flags that suggested higher audit risk, including a significant increase in inventory from $23 million to $109 million while accounts payable decreased, and inventory turnover decreased while age of inventory increased from 62 to 114 days, indicating increasing risk of obsolescence. These unusual changes in inventory and related ratios would require careful examination by auditors.

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Doris Wu
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Question 1

The financial statements of Crazy Eddie from 1984 to 1987 showed several red flags that suggested higher audit risk, including a significant increase in inventory from $23 million to $109 million while accounts payable decreased, and inventory turnover decreased while age of inventory increased from 62 to 114 days, indicating increasing risk of obsolescence. These unusual changes in inventory and related ratios would require careful examination by auditors.

Uploaded by

Doris Wu
Copyright
© Attribution Non-Commercial (BY-NC)
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOC, PDF, TXT or read online on Scribd
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1.

Compute key ratios and other financial measures for Crazy Eddie
during the period 1984-1987. Identify and briefly explain the red flags in
Crazy Eddie’s financial statements that suggested the firm posed a higher-
than-normal level of audit risk.

From the balance sheet provided by

Crazy Eddie, it showed that the inventory have significant increase from 1984 ($
23million) to 1987($109 million).

It also showed that the account

payable seems decreasing from 1986($51 million) to 1987($50 million). However,


the change seems unusual because the inventory and the account payable will be
correlated. More inventory the company purchase means higher its year -end
account payable.
1987 1986 1985 1984
Inventory 3.2 4.4 5.13 5.88
turnover( sale/inventory)
age of
inventory(days/inventory 114 days 83 days 71days 62days
turnover)

In addition, the inventory turnover and the age of inventory are another red flags
that auditor should be more careful. The ratio showed that the age of inventories
increase from 62 days in year 1984 to 114 days in 1987. It indicated that the risk
of obsolescence is increasing. Thus, auditor must be considered with these
problems.
In conclusion, Crazy Eddie ‘s 1984 to 1987 financial statement showed several
red flags that auditors should pay more attention for them. Those red flags
indicated the auditors face higher level of audit risk when they perform audit.

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