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Question: RedPack Beer Company is a privately-held

RedPack Beer Company is a privately-held micro brewery located in Raleigh, North Carolina. Bank loan covenants require that RedPack submit audited financial statements annually to the bank. Specifically, the bank covenants contain revenue and liquidity measures that RedPack must satisfy to not be in technical default. The accounting firm of Thacker & Joyner, CPAs, has served as RedPack’s auditor for the past six years.
One of the major audit areas involves the testing of revenues and the related accounts receivable balances. Revenues reached approximately $3 million and accounts receivable reached approximately $172,000 in 2017. In 2018 the unaudited revenues are reported to be $3,299,698 with net income before tax of $463,529 and accounts receivable of $197,982.
You are a second year associate on the RedPack engagement. Mary Niles, an experienced senior, asked you to evaluate the adequacy of the allowance for bad debts account. Specifically, Mary wants you to evaluate the allowance for bad debts using RedPack’s methodology and assess whether management’s overall level of bad debt reserve is appropriate.
The following schedules are included for your review:
 Schedule A -- Revenue Cycle Lead Schedule
 Schedule B -- Analysis of Allowance for Bad Debts
 Schedule C -- Accounts Receivable Aged Trial Balance
 Schedule D -- Excerpts of RedPack’s Allowance for Bad Debts Procedures and Policies
Inherent risk has been set as high and control risk as moderate for the valuation of the allowance for bad debts based on the challenging but improving regional and national economic conditions and favorable control procedures associated with the allowance for bad debts. The audit plan establishes performance materiality of $2,500 as acceptable for the allowance for bad debts.
The case was prepared by Mark S. Beasley, Ph.D. and Frank A. Buckless, Ph.D. of North Carolina State University and Steven M. Glover, Ph.D. and Douglas F. Prawitt, Ph.D. of Brigham Young University, as a basis for class discussion. RedPack Beer Company is a fictitious company. All characters and names represented are fictitious; any similarity to existing companies or persons is purely coincidental.
You want to be thoroughly prepared for the meeting with the audit manager. Perform the following procedures to be certain you have all necessary information to discuss the accounting estimate.
[1] Research professional standards and list the requirements related to evaluating client accounting estimates.
[2] Following your analysis of the information in Schedules A-D, assume that you met with RedPack’s Credit Manager, Katie Henson, to ask her a number of questions related to specific customer accounts in the Accounts Receivable Aged Trial Balance. A transcript of your interview notes is provided as Schedule E. Use that information to address the following:
[a] Based on your reading of the transcript, do you agree with the specific reserves established by the credit manager for Distinct Beer Distributor, Eagle Beverage Group, and Golden Holdings? If yes why? If no what do you believe the specific reserves should be and why?
[b] Based on your reading of the transcript discussion, would you have any concerns with other aspects related to the reporting of revenues and accounts receivable? Explain your answer.
[c] Based on the information you have, develop an estimate of the account balance for the allowance for bad debts and compare your expectation to the client’s estimate summarized in Schedule B for the allowance for bad debts. Does the amount you estimated agree with the client’s estimate in Schedule B? If it does not agree, by how much does it differ and is that difference material?
[d] Determine the adjusting journal entry(ies) needed, if any, to adjust management’s estimate of the reserve to your audited estimate and post your entries in the Adjustments column in Schedule A.
[e] Based on your reading of the professional standards in requirement 1 above, what additional procedures would you need to perform to conclude on the adequacy of the allowance for bad debt?
It is recommended that you read the Professional Judgment Introduction found at the beginning of this book prior to responding to the following questions.
[3] Read the interview transcript and review the Professional Judgement Introduction. Based on your review of the transcript, to what extent do you observe any of the tendencies that might create bias in regards to your professional judgment about the reasonableness of the allowance for doubtful accounts?
[4] Read the interview transcript and review the Professional Judgement Introduction. Based on this review, how would you modify your questions to improve your interview of Katie if you could re-conduct the interview?


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