Reject Shop -- Recent Events (January 1st,

Reject Shop -- Recent Events (January 1st, 2010 -- March 31st, 2011) EVENT 1: Publication Date: February 16th 2011 -- Impact of floods on sales The Reject Shop issued a statement declaring uncertainty regarding the aggregate cost of the floods and whether 100% of costs are reimbursable by insurance coverage and indemnity. The company's operations in Victoria and in Queensland Australia have been adversely effected. With working capital at a premium, according to the Reject Shop, the impact of the floods on sales will increase pressure on the available working capital.

(Asia Post, 2011) Impact on the Audit The auditing staff will be assessing whether the Reject Shop can improve performance in response to the flooding catastrophe, determine whether company is accurately representing their financial performance as a function of the affected region, and whether they are following the IFRS reporting standards. The auditors will need to focus on the impact of the floods on the financial performance of the company.

Assessment of damages relating from the storm requires a field visit to identify the structural damages from the flooding event and the physical inventory at the affected locations. Auditors can determine the physical inventory level and estimate the variance in sales from the flood, and forecast the affect the flood will have on future sales, within a given variance.

The auditors must also investigate whether the Reject Shop (ASX:TRS) indeed were able to hedge against potential weather disasters against profits such as rises in interest rates, or unseasonably cool weather hampering summer clothing sales. (Asia Pulse, 2010) By investigating the financial management of the company's activities, the auditors can determine whether the Reject Shop is managing the company's operations in the best interest of the stakeholder. References "The Reject Shop Uncertain about Effects of Queensland Floods," 2011, Asia Pulse,, pp. n/a.

"Aust Retailer Reject Shop Cuts Full Year Profit Guidance," 2010, Asia Pulse,, pp. n/a. EVENT 2: Publishing Date: December 9th, 2010 -- Interest Rate Hike Affects the Reject Shop Discussion The raising of interest is a significant event for the Reject Shop due to the company's inability to prepare for the ramifications of an expected increase of interest rates. The result of the increase in the Australian interest rate, was a decrease in total profit.

Company net profit forecasts were lowered by approximately $5 to $6 million due to the inability to hedge against rising rates. (The West Australian, 2010) Impact on the Audit The emphasis on the auditor analysis in this case will focus on the financial management controls of the director and the relationship the finance department has with the accounting department. The internal control specific to the controller responsibility is the internal management system concerning diligence regarding the decisions rendered by the investment manager.

The level of risk exposure the financial management of the Reject Shop created an agency/principle problem and ostensibly will go undetected unless the auditor specifically investigates this issue. A recommendation for an internal control system should be rendered with emphasis on supervision and monitoring, computerized management system controls, and internal communication management system. (Understanding Internal Controls) The auditor must identify the constraints within the internal control system specific to the risk management and the investment management areas.

The inability to manage against macroeconomic risk is clearly a problem affecting the stakeholder and reducing the value of the company at therefore reducing the value of each sale. References The Reject Shop hit by interest rate hikes. AAP. (2010) The West Australian. http://au.news.yahoo.com/thewest/business/a/-/national/8478821/the-reject-shop-hit-by-interest-rate-hikes/ Understanding Internal Controls. A Reference Guide for Managing University Business Practices. http://www.ucop.edu/ctlacct/under-ic.pdf Event 3: August 24th 2010 -- Reject Shop worker has throat sliced by Perth thief in Rockingham.

Security issues as it affects productivity, worker output, and the internal security of financial information and personal data. Discussion Reject's attempted apprehension of a supposed shoplifter has caused an internal investigation regarding the security of its employees and the inventory management and internal controls to track goods within the store. The shoplifter who pulled a knife and slashed the throat of the 55-year-old employee walked into the store with the weapon, unchecked. A robbery could easily have taken place, adversely affecting profits.

(News.com.au, 2010) Impact on the Audit Auditor must identify internal control system specific to tracking of outside inventory which refers to the items on display for sale. Additionally, internal control systems necessary to identify the difference between organized fraud and robbery/theft. The attack could be seen as an attempt to extort money or goods from the store and the internal control system must address this difference. (news.com.au, 2010) The cash cow performance of the Reject Shop makes it a target for armed robbery and shoplifting.

(Hidding, 2010) As a target for this activity, the repeating importance of increasing the internal control system is critical. Ideally, tag and invoicing of items is in need however, given the margins per item sold, the cost of internal control systems can be cost prohibitive. Auditor investigation into the current internal control system also will define the risk to the stakeholder. Inherent risk subject to the internal control measures to reduce accounting variance is necessary to ensure there is not an agency/principle problem.

Additionally, the lack of internal controls becomes a noticeable issue to armed robbers and a signal to continue crime sprees at these Reject Shop locations. References Hidding R., Weekend Courier - InMyCommunity. Stabbing at Rockingham shop. (2010) http://www.inmycommunity.com.au/news-and-views/local-news/Stabbing-at-Rockingham-shop-/7564307/ Perth 'thief' stabs Reject Shop worker in throat in Rockingham. News.com.au. (2010) AAP http://www.news.com.au/breaking-news/perth-thief-stabs-reject-shop-worker-in-throat-in-rockingham/story-e6frfku0-1225901005212 Event 4: April 27th, 2010. SAP disdained in Australia. Incorporation of CIBER.

Discussion Reject's plan to institute SAP as a replacement to QQQ CRMS system was a decision due to the need to address the company's very aggressive growth plans. The plans include a growth strategy intended to grow the number of stores at a rate of 20 per year. (Heath, 2010) The aggregate number of stores, expected to be around 400, an increase from its current level of 190.

(Heath, 2010) Impact on Audit Auditor is now exposed to the internal control system of the Reject Shop and can see that the decision to change systems is due to the aggressive projected growth of the new stores. The auditor now is positioned to determine the intention of management in administering systems to track operational goals. Growth and sales appears to be the overarching theme with the Reject Shop.

(Heath, 2010) The challenge for the auditor is to decrease the costs, improve on productivity, and increase the level of customer service by centralizing communication systems, provide more effective staff and inventory management and streamline the back office operations. (IBM, 2005) References Heath. SAP Rejected in Australia. IT Wire. (2010) http://www.itwire.com/business-it-news/technology/38600-sap-rejected-in-australia IBM Australia. New Web Portal Boosts Efficiency at The Reject Shop. Synergy (2005) http://www-07.ibm.com/businesscenter/au/industry/retailsolresource/pdf/Reject_Shop_Case_Study.pdf Event 5: Date of Publication March 26th, 2009.

Sour economic climate reduced profit and profit forecast. Description The Reject Shop, expected to experience the same retail performance as other retails in an ill-performing macro-economic environment. The recession has particularly hit Australia given its remote distance from other nations and its inability to facilitate easy trade with other nations. The Reject Shop must look into liquidating assets to pay for working capital assets needed to continue its short-term operations.

(Thomson, 2009) With low working capital assets available, a macro-economic slowdown creates downward pressure from management onto sales staff to increase the rate of sales transactions. With wealthy individuals cutting back on purchases and even liquidating their assets as well, management at the Reject Shop decided to go on a discounting spree and reduce the sales price of their goods. Impact on Audit The auditor must determine whether raising cash in this environment or buying distressed assets is the better option for the Reject Shop.

There are these two choices, which involve the selling of assets to pay for current liabilities that are coming due, or to buy distressed assets at a bargain value. The current ratio (acid-test) ratio (accountingformanagement, 2011) must be evaluated to determine whether the company can indeed afford to go on a bargain buying spree and whether such a decision is in the best interest of the stakeholder/shareholder.

As the Australian market has fallen in 40% in the past 12 months (Thomson, 2009), the question of whether there will be enough sales going forward to meet the working capital requirements. The auditor needs to establish the underlying financial performance of the company given inflation and rising rates and determine whether the company is acting in the best interest of the stakeholder. Additionally, the auditor should uncover why there is a working capital issue considering the rising sales and strong growth forecast of the company.

For instance, if there is a working capital issue, there stands to reason there is a lack of retained earnings and revenue growth necessary to create a fund to ensure payment of working capital expenses. The auditor should determine why the company's profits are not strong enough to facilitate a higher working capital ratio. References Accountingformanagement. Current Ratio. (2011). http://www.accountingformanagement.com/current_ratio.htm Thomson. 10 downturn strategies for the stinking rich.

(20111) http://www.smartcompany.com.au/wealth/10-downturn-strategies-of-the-stinking-rich.html The inherent risk to the internal financial viability for the period ending June 30, 2011 are somewhat numerous given the exposure to the economic climate that retail businesses have. Therefore, macro-economic issues are of the main concern currently, to the Reject Shop. The increase in Australian interest rates at the end of 2010 facilitated a higher interest rate environment going forward for 2011.

Risk One: Australian Central Bank raises interest rate Higher rates in the next fiscal year dampens profit forecasts and creates additional burden on the financial management of the Reject Shop. For 2011, the inherent risk arising from higher interest rates is the reduction in profitable operations and the continuation of servicing debt at a higher rate. The risk inherent to the current state of working capital is expected to yield additional stresses onto the availability of working capital.

The importance of tracking the cash flow from operations and the current ratio is critical when speaking to the investments of The Reject Shop. Opening such a large number of new stores offers exponential risk to the company as the exposure to a down market or natural disasters now increases proportionately.

Rising rates forces operating investments to ensure the maximum return on investment as if the return on a new store is 3% and the interest rate is 5%, the operating cash flow may be higher but the investment is returning less than the risk free rate. The Net Present Value or NPV of the new storefronts require the investment to be above the risk free rate, and is a measure used to stratify the pool of investment options and gauge the potential of success at each planned location.

The increase in interest rates makes each investment more risky and increases the risk of all outstanding investments. According to Capozz &, Li (1996), "Irreversibility causes projects to be optimally delayed until the net present value (NPV) and the internal rate of return (IRR) exceed critical values far larger than their traditional break-even levels. Once consequence of this delay is that the results of neoclassical investment analysis may no longer obtain.

For example, our usual intuition is that an increase in the interest rate will reduce investment spending because some projects whose IRR earlier exceeded the cost of capital will now have IRRs below the necessary hurdle rate and not be undertaken.

This reasoning may not work when projects are optimally delayed because at optimal exercise, the NPV is positive and the hurdle rate exceeds the cost of capital." (Capozza, Li, 1996) According to Barney & White (2003), "Increases in interest rates occurring after a project has been accepted will impact on a project's NPV, and thus shareholder wealth, as a consequence of changing the required rate of return.

Using the equity residual method the effect of a rise in rates is seen to be twofold: Rate increases will detrimentally impact NPV by reducing the present value of the project's after-tax operating cash flows; and secondly it will decrease the present value of the cash outflows associated with the project's debt, which will work to mitigate the first effect." (Barney & White, 2003) Risk Two: Floods, Tornados The weather related risk is certainly not anything to scoff at when considering the localized Australian market and the dependency of store sales on the profitability of the company.

Secondly, storms bring about damages to the infrastructure, which repairs to infrastructure will either be paid out of pocket or by the insurance. Repairs covered by the insurance company will cause premiums to continue coverage for at-risk locations to increase. Premiums for all stores can also increase, which is indicative of undertaking greater risk exposure. Weather related disasters can also effect the trading of the Reject Shop shares on the Australian Market Exchange. Often, auditors underestimate the importance of weather related disasters on the operations of the affected area.

Auditors in public and private sectors do not always appraise the appropriate level of risk associated with operating within a given geographic boundary at a given time range. As the probability of a weather related event increases the risk to a decrease in sales and an increase in damages are each a contributor to a decrease in profitability. According to Rhodes (2011), "The Reject Shop says its operations will be adversely affected due to the floods, particularly at the distribution centre which services 90 of the company's 211 stores.

The retailer says the 48-hour trading halt will give the business time to assess the impact on its business." (Rhodes, 2011) The cessation of equity trading of Reject Shop shares is indicative of the aforementioned exposure to the natural disaster events that commonly threaten mainland Australia. Natural disasters threaten costal and interior landscapes all across the world and all but local markets are able to somewhat diversify from these risks and prevent a major loss should a storm disrupt operations at a target location.

The potential issue with misstatement in the financial statement is structured around the misrepresentation of damages or estimates associated with inventory lost or damages associated to infrastructure. Auditors must check and ensure that what is claimed on forms or that what is entered as income/loss on financial statements are indeed the truth. Often times companies will mistake losses or exaggerate claims in case damage estimates are off or if they feel the insurance is able to compensate them for loss sales by overstating infrastructural damages.

These types of accounting scams are scrutinized under IFRS accounting rules but may be allowed depending on the accounting structure of the firm under GAAP. Shareholders whom invest into shares of the Reject Shop should understand the risk of the company's profit to damages from weather related circumstances. The evidence gathered during the audit will include evidence that documents the physical damages during the event that is said to be responsible for said damages.

Forms and documentation that describes the level of damages and the estimated cost to repair based on the parts or the infrastructure that will have to be replaced. These documents and the evidence can be faked however, and so the alert auditor must ascertain if the evidence is a clear and true indication of what actually happened. Risk Three: Faulty Manufacturing According to FED (2010), "NSW Fair Trading deputy commissioner Steve Griffin alerted consumers to the recall of the Homeplex Fan Heater 2000W.

"The fan heaters have a mechanical fault that may lead to overheating, resulting in potential fire or hazardous melting of internal product components," said Steve Griffin. He says, consumers should cease using the heater immediately and return it to the nearest the Reject Shop for a full refund." (FED, 2010) The risk of potential misrepresentation on the financial statements regarding the impact of the recall is a key area for the auditors to investigate.

The repercussions of a recall may be distorted in the financial reporting during Q1 of 2011, negatively impacting the year end June, 2011 report. Additionally, the ramifications resulting from the recall can be obfuscated by the financial reporting as well. The auditors must look at the sales and the returns as a function of the number of units of defective product sold.

Risk 4: Internal Controls The recent attack at The Reject Shop should spark the auditor's nerve to the potential for corporate embezzlement, theft of funds, or other forms of accounting fraud, common when there is a lack of internal controls. The research points to potential holes in the security of the company and suggests that cash and inventory at store locations may not be the safest or most secure.

Access to the finances should be in accordance to a checks and balances system, which refers to a system of internal controls where there is shared accountability for the losses or misrepresentation of goods sold, inventory, and revenue. Goods sold reflect cost of goods sold which is a function of inventory and produces the requisite revenue. A good and juxtaposition example is provided by Pickett (1998), "Using the backdrop of an (apparently extended visit to the West Indies, analogies with key concerns of internal audit are drawn.

An unusual and refreshing way of exploring the main themes -- a discussion between Bill and Jack on tour in the islands forms the debate. Explores the concepts of control, necessary procedures, fraud and corruption, supporting systems, creativity and chaos, and building a corporate control facility." (Pickett, 1998) The importance and relevance of Pickett is to indicate how important internal controls are to ensuring the bookkeeping, cash accrual accounting practices, and journal entries or inventory count is accurate and not conducted surreptitiously as to obfuscate the numbers due to theft.

The auditor must continuously monitor for clues of this activity, by looking at any sign of missing revenue according to missing inventory, or other signs of obfuscation. These results will be reflected onto the financial statements if not caught early on. Risk 5: Management Issues According to Asia Pulse, (2010), "The Reject Shop managing.