Old World Baked Goods: An Applied Exercise to Demonstrate Attribute Sampling

By Perreault, Stephen | Journal of the International Academy for Case Studies, July 2015 | Go to article overview

Old World Baked Goods: An Applied Exercise to Demonstrate Attribute Sampling


Perreault, Stephen, Journal of the International Academy for Case Studies


CASE BODY

Introduction

Old World Baked Goods specializes in the production, sale, and distribution of traditional European baked goods and pastries. The company maintains a 60,000 square foot baking and distribution facility located in Smithfield, Rhode Island. It primarily sells its products to supermarkets and specialty food stores located in the Northeast and Mid-Atlantic regions of the United States. Selected financial statements for the current year under audit as well as the prior year's audited financial statements are provided in Figure 1.

The industry the company operates in is highly competitive. Most major grocery chains, which have historically made up the majority of the company's customers, now have "in-house" bakery departments which produce baked goods on-site. These bakery departments are increasingly offering high-end pastry items, which not only compete directly with the products offered by the company, but also take up valuable shelf space which was previously available for items produced by Old World Baked Goods. In addition, the increasing popularity of "gluten free" living has led many consumers to reduce their consumption of wheat-based bakery items. As a result, many major grocery store chains are reducing their purchases from traditional bakeries, such as Old World, and increasing their purchases from alternative bakeries which produce "gluten free" and allergen-tolerant baked goods.

As a means of reducing the company's reliance on chain grocery store sales, Old World is increasingly targeting specialty independent grocers, as well as small restaurants and cafes, as a means of growing its sales. While these establishments are new customers for the company and are generally less reliable sources of revenue, Old World is hopeful that increased sales to these customer segments will allow the company to maintain its profitability, even as demand from chain grocery stores continues to decline. Figure 2 shows the percentage of sales derived from each major customer segment over the past two years.

While Old World Baked Goods is privately held, it has a five million dollar outstanding line of credit with a local bank that requires the company to maintain a debt-to-asset ratio of .35 or lower. As such, the lender requires that the company produce audited financial statements on an annual basis. Your audit firm has audited Old World Baked Goods for the past four years and has provided an unqualified audit opinion for each of these years.

The firm feels that management of Old World Baked Goods is generally competent and credible. Both the Chief Executive Officer and Chief Financial Officer are certified public accountants and have substantial experience in financial accounting as well as the design and implementation of effective internal control systems. The company's Board of Directors consists primarily of outside members and meets regularly to discuss accounting related matters, as well as to discuss operational and strategic issues. Your firm has found the Board to be respectful of its role as auditor, and feels that the Board understands the important need for accurate financial reporting.

Instructions

In this exercise, you will assume the role of a staff auditor assigned to the audit engagement of Old World Baked Goods. You will be required to execute an attribute sampling plan to test a control related to the valuation assertion of the company's allowance for doubtful accounts.

The control that you will be testing, #AR001, is relevant to the process of calculating and recording the allowance for doubtful accounts. As a result of performing a walkthrough and reviewing management documentation related to this control, you have determined that it appears to be designed effectively. Your manager would like you to design your attribute sampling plan to determine whether the assessed level of control risk for this control (MODERATE) is appropriate. …

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