Case 06-06 Elite Running, Inc. You are a second year staff accountant assigned to the Elite Running, Inc. (the "Company") engagement (an...

What’s the answers to missing tickmarks and document ({b}, {e}, and {k})?

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Case 06-06

Elite Running, Inc.

You are a second year staff accountant assigned to the Elite Running, Inc. (the

“Company”) engagement (an August 31 year end). As part of your assignment, you will

be responsible for assisting the senior accountant in various aspects of the engagement,

including planning, substantive audit procedures, audit wrap-up and financial statement

reporting. Initially, you and the senior accountant were scheduled to begin the audit on

Monday and complete the engagement within four weeks. However, your senior

accountant had another engagement that required her immediate attention. Therefore, you

will start the audit engagement without her. However, she is expected to rejoin the

engagement by Wednesday or Thursday.

Since you have not previously been on this engagement, the senior left you a detailed list

of instructions in order to expedite the audit. The first item on your list is to perform the

preliminary analytical procedures on the current year financial statements. These

procedures are required under generally accepted auditing standards to assist the auditor

in identifying significant changes to the Company, in addition to identifying potential

audit risks. The senior started these procedures, but she was unable to complete them

before the other engagement needed her assistance. The following is a detailed list of

your instructions.

Instructions

1) Obtain an understanding of the Company by reading the background information

contained in the workpapers.

2) Compare the current year financial information to the prior year financial

information. Identify the balance sheet and income statement variances in these

amounts that appear to be material. The current year engagement materiality is

$800,000.

3) Obtain sufficient explanations for the identified variances by talking to the accounts

receivable manager, treasury director, inventory manager, and the sales and

marketing manager. If your initial inquiries are not answered satisfactorily, please

make additional inquiries. You may discuss issues with the controller, if necessary,

but the controller should not be your primary contact.

Required:

• Based upon the procedures performed, discuss any significant changes in Elite’s

business or the industry overall that you identified. • Additionally, for any identified significant changes, discuss any related

or adding? Elite Running, Inc. Overview

Elite Running, Inc. (the “Company” or “Elite”) designs, manufactures and markets

superior, high-performance athletic footwear and apparel. The Company’s products

include:

• Running, walking and outdoor trail shoes sold under the Elite name • Athletic apparel sold under the Elite “Winning Feel” name. The Company sells its products to distributors located throughout the country. The

distributors ultimately sell the Company’s product to retail stores, not owned by

Company, where the ultimate end user can purchase the products.

Elite Products

Footwear

Elite has sold premium running, walking and trail shoes in the United States for over 35

years. A substantial portion of Elite’s sales comes from running shoes. Elite has a number

of men’s and women’s running shoes with different designs and features.

Elite’s market focus is on the “real athlete,” or those who are serious about their sport.

Very few customers choose Elite running shoes for casual wear. In fact, a large portion of

the athletes who purchase Elite products become loyal and recurring customers. Elite’s

management believes this is because they are recognized in the industry for their

technical innovation and performance. Furthermore, management believes Elite products

have a distinct “feel” unmatched by their competitors.

Most of Elite’s footwear products range in price from $65 a pair to the top-of-the-line

running shoe priced at $125 per pair. Elite’s prices are competitive, albeit slightly higher,

than most competitors. Management believes their customer base is willing to pay a

premium for the technical innovation and performance features in their shoes.

Athletic Apparel

Elite sells and manufactures a full line of performance apparel under the “Winning Feel”

brand name. This apparel is used in a variety of sports, namely running, bicycling and

aerobics. Elite believes their ultimate customers value the quality of their apparel and the

technology that immediately transfers moisture out of the apparel to enhance comfort.

Much like Elite’s footwear customer, Elite’s apparel customers are serious athletes rather

than casual consumers.

Product Design and Development

Elite’s strategy is centered on superior product design. Management’s goal is to

continually improve their design to satisfy athletes, their ultimate customer. Elite’s design

and development team consults with professionals, including podiatrists, orthopedists,

development professionals in a state-of-the-art design facility located at the Company’s

headquarters in Nashville, Tennessee. Elite’s Sales and Marketing

Sales

Elite sells its footwear and apparel through more than 5,000 retail outlets in the United

States. These outlets generally offer high-end, full-margin products and include Feet

Locker, Lady Feet Locker, Hippit Sporting Goods, and Road Running Sports.

Elite has 35 independent regional sales representatives to service the majority of the

retailers and five full-time staff to service their largest retailers – approximately 50. The

independent sales representatives are paid on a commission basis, and are prohibited by

contract from representing other brands of running shoes.

Sales of running shoes and related apparel are not considered a seasonal business. The

Company and its competitors traditionally experience consistent sales volume monthover-month.

Marketing

Consumer demand for running shoes is influenced by brand image. Elite’s marketing is

directed to the ultimate consumer, the athlete. The Company advertises through print

media, athlete endorsements and television. The Company runs magazine advertisements

in “Runner’s World,” “Men’s Health,” and “Shape.” Elite sponsors various well-known

runners, who wear Elite running shoes and Winning Feel apparel. Television

advertisements generally appear on an “ESPN” network.

An Industry Overview

The athletic footwear industry is highly competitive. In the US, the largest marketers of

footwear are Nike and Adidas. Both of these companies have substantially greater

financial, distribution and marketing resources, as well as greater brand awareness, than

Elite. Elite competes against Nike and Adidas, as well as other companies, serving a

similar niche in the running industry as New Balance and Asics.

Due to the recognition of fitness as a key to maintaining long-term health, Elite believes

that the market as a whole is growing. At the conclusion of the prior year audit, Elite was

maintaining its market share.

Technology

Product innovation is a key competitive factor in the running shoe industry. The major

industry players position themselves as technology and performance leaders and heavily

advertise this aspect of their products. There is a risk that Elite could lose market share

rapidly, if a major innovation were to be developed by a competitor. The risk is mitigated

time that it is unlikely that one system will become predominant over all the others.

Differences in feel and performance are likely to come down to an athlete’s personal

preference at the top end of the market. In addition, Elite has invested heavily in its own

31, 2003 31, 2002

(000s)

(000s) Difference

% Difference

603 {a}

(6,998) {b} Cash

Accounts Receivable (net) 809

60,478 206

67,476 292.7%

-10.4% QUICK ASSETS 61,287 67,682 -9.4% Inventory

Other Current Assets 63,526

12,437 45,713

14,673 39.0%

-15.2% TOTAL CURRENT ASSETS 137,250 128,068 7.2% Property, Plant & Equipment (net) 135,899 123,954 9.6% 11,945 {d} TOTAL ASSETS 273,149 252,022 8.4% 21,127 14,589

61,553

51,291 4,153

67,894

11,000

9,940 251.3%

-9.3%

-100.0%

416.0% TOTAL LIABILITIES 127,433 92,987 37.0% Share capital

Share premium

Retained Earnings 7,899

32,436

105,381 7,899

32,436

118,700 -11.2% TOTAL EQUITY 145,716 159,035 -8.4% (13,319) TOTAL LIABILITIES & EQUITY 273,149 252,022 8.4% 21,127 Current

Year

2003 Prior

Year

2002 350,222

296,989 460,644

345,483 Bank indebtedness

Payables

Income taxes payable

Long-Term Debt INCOME STATEMENT

Net Revenue

Cost of Sales Difference

% (6,395)

17,813 {e}

(2,236) {c}

9,182 10,436

(6,341)

(11,000)

41,351 {f}

{h}

{g}

{m} 34,446

– {i}

(13,319) {j} Difference

$ -24.0%

-14.0% (110,422) {k}

(48,494) {k} -53.8% (61,928) {k}

{k}

(1,696) {o}

(314) {a}

889 {n} GROSS PROFIT

GROSS PROFIT % 53,233 115,161

15%

25% Administration

Selling

Finance 27,688

35,595

2,715 29,384

35,909

1,826 -5.8%

-0.9%

48.7% OPERATING (LOSS)/INCOME (12,765) 48,042 -126.6% (60,807) (LOSS)/INCOME BEFORE TAXES (12,765) 48,042 -126.6% (60,807) (4,446)

(8,319) 17,775

30,267 -125.0%

-127.5% (22,221) {g}

(38,586) 5,000 15,000 -66.7% (10,000) {l} Income Taxes (Benefit)/Expense

NET (LOSS)/INCOME

{a} The fluctuation falls below the established thresholds and no further

investigation is needed. {b}

{c} Decrease represents lower prepayment of rent expense of $6 million in the

current year as a result of management attempting to better manage its cash

flow. This decrease was partially offset by an increase in deferred tax assets

as a result of the current year loss. {d} Increase is net property, plant and equipment is the result of spending on

Swampland expansion ($20 million) and depreciation expense of approximately

$8 million. Change appears reasonable. {e}

{f} Elite uses a short-term credit for which they pay 12% interest. The audit team

also inquired about the increase of the bank indebtedness–the finance

manager indicated that Elite pays cash for the purchase of raw material made

at the end of the year to realize a cash discount of 5%. {g} The decrease in the income taxes payable is consistent with the fact that the

Company incurred a loss in the current year and is not subjected to income tax

payments. See the increase in income tax receivable under other current

assets. {h} Trade payables decreased $6,341,000 or 9.3%, moving from $67,894,000 in

the prior year to $61,553,000 in the current year. Per the accounts payable

accountant, the movement in trade payables is the result of Elite emphasizing

containment of expenditures as a proper reaction to the downturn in business.

Therefore, purchases in the last month of the year (excluding the $10 million

inventory receipt and payment) were much lower than in prior years, resulting in

a fall in trade payables. {i} No change from prior year which is reasonable as no share transactions

occurred during 2002 to date {j} The change in retained earnings is a result of the current year net loss and

payment of dividends. {k}

{l} W e noted dividends declared and paid in the current year were less as a result

poor operating performance. {m} Elite increased their long term debt during the current fiscal year to fund the

Swampland expansion. The remaining increase was used to fund operations

as a result of poor operating cash flow in the current year. {n} The increase in financing expense is a result of higher weighted-average debt

balances during the current year as compared to the prior year. {o} Administration expense decreased because sales decreased, and as a result,

an emphasis was put on cost containment.

Case 06-06 Elite Running, Inc. You are a second year staff accountant assigned to the Elite Running, Inc. (the "Company") engagement (an…

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