TheImex Computer Company hascompleted its fiscal year on December 31. 2010. The auditor SandraBlake, has approached the CFO, Travis Williams, regarding theyear-end receivables and inventory levels of Imex.
The following conversation takesplace:
Sandra: We are beginning our audit of Imexand have prepared ratio analysis to determine if there have beensignificant changes in financial position. This helps us guide theaudit process. This analysis indicates that the inventory turnoverhas decreased from 5 to 2.8, while the accounts receivable turnoverhas decreased from 12 to 8. I was wondering if you could explainthis change in operations.
Travis: There is little need for concern.The inventory represents computers that were unable to sell duringthe holiday buying season. We are confident, however, that we willbe able to sell these computers as we move into the next fiscalyear.
Sandra: What gives you thisconfidence?
Travis: We will increase our advertisingand provide some very attractive price concessions to move thesemachines. We have no choice. Newer technology is already out there,and we have to unload this inventory.
Sandra: and the receivables?
Travis: As you may be aware, the companyis under tremendous pressure to expand sales and profits. As aresult, we lowered our credit standards to our commercial customersso that we would be able to sell products to a broader customerbase. As a result of this policy change, we have been able toexpand sales by 35%.
Sandra: Your responses have not beenreassuring to me.
Travis: I'm a little confused. Assets aregood, right? Why don't you look at our current ratio? It hasimproved, hasn't it? I would think that you would view that veryfavorably.
Why is Sandra concernedabout the inventory and accounts receivable turnover ratios andTravis' responses to them? What action may Sandra need to take? Howwould you respond to Travis' last comment?
TheImex Computer Company hascompleted its fiscal year on December 31. 2010. The auditor SandraBlake, has approached the CFO, Travis Williams, regarding theyear-end receivables and inventory levels of Imex.
The following conversation takesplace:
Sandra: We are beginning our audit of Imexand have prepared ratio analysis to determine if there have beensignificant changes in financial position. This helps us guide theaudit process. This analysis indicates that the inventory turnoverhas decreased from 5 to 2.8, while the accounts receivable turnoverhas decreased from 12 to 8. I was wondering if you could explainthis change in operations.
Travis: There is little need for concern.The inventory represents computers that were unable to sell duringthe holiday buying season. We are confident, however, that we willbe able to sell these computers as we move into the next fiscalyear.
Sandra: What gives you thisconfidence?
Travis: We will increase our advertisingand provide some very attractive price concessions to move thesemachines. We have no choice. Newer technology is already out there,and we have to unload this inventory.
Sandra: and the receivables?
Travis: As you may be aware, the companyis under tremendous pressure to expand sales and profits. As aresult, we lowered our credit standards to our commercial customersso that we would be able to sell products to a broader customerbase. As a result of this policy change, we have been able toexpand sales by 35%.
Sandra: Your responses have not beenreassuring to me.
Travis: I'm a little confused. Assets aregood, right? Why don't you look at our current ratio? It hasimproved, hasn't it? I would think that you would view that veryfavorably.
Why is Sandra concernedabout the inventory and accounts receivable turnover ratios andTravis' responses to them? What action may Sandra need to take? Howwould you respond to Travis' last comment?
