Team assignment week 5 acc 546

[4] Examine the 10-year discounted cash flow analysis provided by the client in Appendix A and also available electronically at www.pearsonhighered.com/beasley and verify that the model is producing a mathematically sound fair value estimate based on the inputs used by Morris Mining. Assuming planning or performance materiality for Morris Mining is $10 million, answer the following questions:

[a] How sensitive is the fair value estimate to changes in the discount rate? How much would the discount rate estimate have to change for it to have a material impact on the financial statements?

It can be considered as achievement of the planning in a case where the net present value of a royalty income is close to $10 million according to the planning. However, in a situation where there exists a big difference, the difference of over 10 percent can be regarded as material. Therefore, it can be concluded that the fair value estimate is very sensitive to the changes in the discount rate. The fair value estimates are very sensitive because of the reducing rate of growth since the 5th year. As the patent revenue is falling over the years as from the 5th year and at the same time, the rate of growth is likewise decreasing constantly from 5 percent to 15 percent.  The discount rate estimates have to change by close to over 10 percent for it to have a material impact on the financial statements.

[b] How sensitive is the fair value estimate to changes in the estimated growth rates? How much would the estimated growth percentages have to change to have a material impact on the fair value estimate? Do rate changes in early years or later years have a larger impact? Why?

The fair value estimates are most sensitive to the changes in the estimated growth rates. In case there is a huge difference, the change will be regarded as material. For instance, a change of over 10 percent estimated growth percentages will have a material impact on the fair value estimate.  This is because the reducing rate of growth since the 5th year will result in more than $2,000,000 change in the fair value estimate.  From Appendix 1, it is clear that the rate changes in early years have a larger impact than in the later years. This is because in the earlier years the growth rate is increasing but in the later years it is decreasing. For instance, between years 1 and 2, the patent royalty changed by $5,170,000 while between year 6 and 7, the patent royalty changed by $2,367,710.

 

[5] Now, assuming planning or performance materiality at Morris Mining is $600,000, answer the following questions. (Note: as indicated earlier, you can obtain an electronic copy of the 10-year discounted cash flow analysis at www.pearsonhighered.com/beasley)

[a] How sensitive is the fair value estimate to changes in the discount rate? How much would the discount rate estimate have to change for it to have a material impact on the financial statements?

It can be considered as accomplishment of the arranging for a situation where the net present estimation of a sovereignty salary is near $10 million as indicated by the arranging. Notwithstanding, in a circumstance where there exists a major distinction, the distinction of more than 10 percent can be viewed as material. In this manner, it can be inferred that the reasonable esteem gauge is exceptionally delicate to the adjustments in the rebate rate. The reasonable esteem evaluations are exceptionally touchy in light of the diminishing rate of development since the fifth year. As the patent income is falling throughout the years as from the fifth year and in the meantime, the rate of development is in like manner diminishing always from 5 percent to 15 percent. The markdown rates gauges need to change by near more than 10 percent for it to materially affect the budgetary articulations. Accordingly the sovereignty’s available esteem can go from $540,000 to $660,000.

 

[b] How sensitive is the fair value estimate to changes in the estimated growth rates? How much would the estimated growth percentages have to change to have a material impact on the fair value estimate? Do rate changes in early years or later years have a larger impact? Why?

The fair value estimates are most sensitive to the adjustments in the estimated growth rates. On the off chance that there is a colossal distinction, the change will be viewed as material. For example, a change of more than 10 percent estimated growth percentages will materially affect the fair value estimates. This is on account of the diminishing rate of growth since the fifth year will bring about more than $300,000 change in the fair value estimates. From Appendix 1, obviously the rate changes in early years have a bigger effect than in the later years. This is on account of in the prior years the development rate is expanding however in the later years it is diminishing. For example, between years 1 and 2, the patent sovereignty changed by $517,000 while between year 6 and 7, the patent eminence changed by $236,771.

 

[6] What are the most significant audit risks associated with the fair value estimate of the patent? Assuming performance materiality of $600,000, what additional steps can the auditor take to improve the sufficiency and appropriateness of the evidence gathered to support the fair value estimate for the patent?

The following are the most significant audit risks associated with the fair value estimate of the patent. Firstly, there is the information availability or the fact that the evidence might be unreliable thereby misleading the auditors. Secondly, there is the sophistication of the most commonly used techniques of valuation as well as the models that create the audit risk. Finally, there is the need for the relevant disclosures in the company’s financial statements concerning the uncertainty which also create the audit risk.

There are many additional steps that the auditor can take to improve the sufficiency and appropriateness of the evidence gathered to support the fair value estimate for the patent namely: assessment of the risk at the level of the financial statement. Secondly, they need to consider the materiality of the item or the errors found. Thirdly, the auditor needs to expand the amount of the test of control in the audit area. Also, the auditors need to raise the problem with the directors to ensure that additional substantive procedures are performed. Finally, the auditors need to identify the source and reliability of the information to ensure that they are accurate, sufficient and appropriate evidence that support the fair value estimate for the patent.

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