 Hello and welcome to the session. This is Professor Farhad and the session would look at preliminary analytical procedures with a topic that's covered an auditing and attestation course, whether graduate or undergraduate and the CPA auditing exam, CPA auditing exam. If you have not connected with me on LinkedIn, please do so. YouTube is where I house my 1,500 accounting, auditing, tax and finance lectures. And this is a list of all the courses that I cover. On my website, you can find additional resources such as notes, PowerPoint slides, multiple choice questions, true, false, 2,000 plus CPA questions and money and many quasi CPA simulations like the one we're gonna be working here today. If you are looking to study with someone else, studypal.co is an artificial intelligence driven study body platform that matches you with a CPA or a CFA candidate. They're available in 85 countries, 2,800 cities. So the example we're gonna be working about preliminary analytical procedures would deal with payroll. However, the techniques that we're gonna be using can be used in any other account other than payroll. So although this is specific for payroll and it's easy to understand payroll because it's easy to understand people are getting paid. You get paid all the time. So it's easy for you to relate to this. So let's take a look at this example. You are auditing the payroll for M Technologies for the year end October 31st, 2016. So here's what we are giving. We are giving the audited balances from the prior year. So those are already been audited, okay? And we're giving the information for sales, executive salaries, factory hourly payroll, factory supervisory salary, office salaries and sales commission. Then we are giving, this is the think of this, the unadjusted balances, the preliminary balances 1031, 2016. So this is what the company gave you, okay? This is what the company gave you and you have the prior year audited. So this is not audited. This is not audited, okay? And this is what you need to do. This is not audited. Now, we have obtained the following information to help you perform preliminary analytical procedure for the payroll account balance. Now, what are preliminary analytical procedures? Basically, you want to kind of think if this account makes sense, that's all you're doing. Does it make sense based on last year audited balance and based on the additional information that I know about the company? And you're just making kind of a guesstimate and it sends how close am I to what the number should be compared to what the company gave you? So let's see what we are told. We are told there has been a significant increase in the demand for the product. The increase in sales will do both to increase in the average selling price of 4%. Okay, so first thing, prices went up by 4%. If prices went up by 4%, I would expect my sales to go up, which it went up. That's fine. But 4% of this is due to prices. Because it's due to the price of the unit. And let me go back there. Sorry about that. And an increase in the unit sold resulting from an increase in demand and an increased marketing effort. So basically price accounted for 4% and 8% is accounted for actual increase in number of sales units. So sales did go up in total 12%. 4% due to price increases and 8% due to sales, sales volume. Even though sales volume increased, there was no addition of executives, factory supervisor or office personnel. That's good. If they did not increase it, then our comparison should be easy from year to year for those expenses. All employees, including executives, but executing commissioned people, received a 30% salary increase starting November 1st. So simply put, they received a 3% increase and there was no addition. So that should be an easy analytical procedure, easy analytical procedure. Commission sales people received their increased compensation through the increase in sales. So commission, we did not give them a 3% increase. Simply put, because sales went up, well, their commission should go up as well. We should see that. The increase in number of factory hourly employees was accomplished by recalling employees that had been laid off. They received the same wages as existing employees. So that's why we have the number of hourly employees, you know, I guess it went up to, okay, part of it is 3%. Commission people received a 5% commission on all sales. So this is how we pay them. Approximately 75% of sales earned sales commission. So of the total sales here, 75% was due to effort of sales people and remainder 25% were called in for which no commission is giving. The 25% were not gonna give them commission because they had nothing to do with the sales people, just people called in and that's fine, we like that, okay? Now, what I'm gonna do now, I'm gonna pull the Excel sheet. I'm gonna pull the Excel sheet that I have all the data and start to go over the preliminary analytical procedure based on the information that we are giving and compute projected value for each one of these accounts. So this is what I have here. What I have here is the account, the audited balance, audit balance, the preliminary balance, the expected value what it should be, the difference in dollar, the difference in percent and maybe I will discuss, you know, reasons to support the expected value, reason to support the expected value. Starting with sales, sales the last year was 51 million, 316. This year is 57 million. You really cannot find an expected value for sale, but I can find the difference in sale. The difference was in sales, let me take a look at this. The difference is, the difference in sales was, let me just copy the formula here, approximately 6,157,000, that's the difference in sales. Again, I can compute this using the percentage, the difference in percentage, it's 12%. And they already told us 12%, which is the change, the change divided by last year, 12%. Now bear in mind, just wanna keep reminding you that 4% was the increase in selling, so the net increase in sales was only 8%. So really just kind of give you an idea because sales would affect sales commission, so it's something you want to keep track of. Executive salary, this was the audited balance, this is the preliminary balance. What is the expected value? The expected value is taken last year, multiplied by 3%. So my expected value is 563,000. Why 563? Executive salaries received 3%. So my expected value is 563. The preliminary balance is 615. Well, I'm a little bit off. Little bit off, I'm gonna find the difference. I'm off by, let's see, the difference between those two. I'm off by 52,000. So simply put, it seems that the executive salaries is 52,622 more, which is percentage-wise. That's a substantial percentage. That's almost 9.3%, 9.34, almost 9.5%, okay? Now, old executives only received an increased salary of three. Now you might be saying why the difference is more than 3%, why the difference is 9% and not only 3%, which it should be 563. What does that mean from an auditor's perspective? From an auditor's perspective, you wanna see why there are more expenses than it should be. So this is what preliminary procedure is. I would say this account will need to be looked at because the only account should be 3%, not more than 3%, okay? Factory hourly payroll, the audited balance, last year, 10,038,877 dollars. They're giving me a balance of 11,476. Now I'm gonna try to predict the expected value of the balance, what should be the expected value? Well, for one thing, I'm gonna take last year, I'm gonna take last year, last year balance, here's what I'm gonna do. I'm gonna take last year balance, which is 10 million. I'm gonna take last year balance, which is, let me, this one I need to write stuff down because it's not just straight formula. So I'm gonna take last year balance, which is 10,038,877, and that's gonna increase normally, it's gonna increase by 3% times 1.03. Now then remember, because sales go up and sales go up, the net sales, the net increase in sales is 8%. You would expect the factory hourly payroll because they are hourly. If we have more production, we have more hours. We expect this to increase by 1.08. So my expected value is 11,176,000. This is how I came up with this and the formula is in the Excel as well. So this is how I came up with this number. Well, the difference between my expected value and my preliminary value, let's see how much is the difference and if it's, let's find the dollar amount as well as the percentage. The difference is, let's see, it's D6 309,000 percentage-wise. The difference is 2.77. That's not too bad. That's not too bad overall difference. Once again, we have to account for two. We have to account for two things in this analytical procedure. We have to account for the 3% increase and the 8% increase in net sales. So 3% natural increase and 8% is the increase of sales. So we might have to look into this a little bit further because it's 309,000 more than we expect but it's not as bad as the executive salaries. Let's take a look at the expected factory supervisor that's pretty straightforward. We'll take last year, 785,823 multiplied by 1.03. It's 809, it's the expected, the preliminary 810, I would say this was pretty good. This account does not need a lot of, from the preliminary analytical procedure it doesn't need a lot of work. Percentage-wise the difference, yes, 1,188 dollars. Yes, it could, we could pay someone a little bit more. Maybe somebody use extra resources that we needed to account for. So the difference is 0.015%, not much. I would say this is pretty much reasonable. We don't spend a lot of time on this account, okay? Basically there was 3% increase and it's reflecting that. And we did not have any new employees, factory supervisors. Office salaries, again, we didn't have any new employees. The expected value is taken last year value times 1.03. The preliminary value, I would say very close. The difference is 5,097 dollars, percentage-wise 0.26. Not significant, I'll have to say, but we'll have to look into it. It's easy to look into it, but it's not significant. Once again, nothing really here to be worried about for these two accounts, because what I'm predicting and what they're giving me are very similar. Now we have to look at sales commission. Sales commission. Well, sales commission, we have to determine the expected value for the sales commission. They told us they got 2,367,962 dollars. Now what should I expect that number to be? Well, for one thing, sales went up. Sales went up by 6 million, let me just... Sales went up by 6 million, let me draw, okay. Sales went up by 6 million, 157,000. That's how much sales went up by. Now remember, of that amount, of that amount, only 75% of it, 75% of it is... So of the 6,157, 6 million, 157,000. 948, only 75% of that amount is due to... Is due to sales people effort. So let me first compute this number. How much they're basically the net increase in their sales, give me one second, please. Hold on, my computer is very slow right now. Okay, there we go. So if I take 6 million, 6,157,948, multiplied by 0.75, the sales commission that they... The commission, the sales that they earned commission was 4,618,461. Now on this amount, on this amount they would receive, they would receive, on this amount, they would receive 5%. Well, if they receive 5% on this amount, it means they're gonna have any increase under commission of 230,923. This should be the increase in commission. All I have to do is take this increase in commission and add it to the prior sales commission because that was the only increase. And this should give me my expected value. So simply put, let me show you my expected value for the sales commission. Let's see when I take the expected value. So this is the formula. The expected value is 2,249,000 and here's the formula. So I took the net increase in sales. I took sales, 6,157,000, which is E4 times 75% times 5% plus last year commission. Now the difference is 118,000. Well, that's not pocket change, but let's see percentage-wise the size of the change. I mean, there is a difference. There's some difference here. Maybe we overpaid some of them. Remember, it was approximately 25% calls in. So it's not 100% accurate. Maybe some salespeople, they said, they claim that they generated the sale. So percentage-wise the change is approximately, let's see, let's see. So we'll take one. Approximately the percentage is 5%. Approximately the change in percent is approximately 5%. Let me just copy this formula, paste here. The change is 5.29%, approximately 5%. Once again, for the sales, you have to use both. Now, again, this is a good exercise if you are looking to learn about preliminary analytical procedure. This is how it works. You have an audited number. You have a number from last year, okay? That's a good number. This is what the client gave you and you say what the number should be before I even start. And notice overall, we have to look into the executive salaries for sure. I don't know what happened. Maybe they got an increase and they did not tell us about. In sales commission, the other accounts, this one and this one are pretty, you're pretty, you know, you're gonna be pretty comfortable with them. Factory payroll, you may wanna look into it. 2.77, deviation is, you know, something you wanna look into. If you have any questions about this recording, please email me. If you have, if you want to excel, shade additional resources for auditing, if you're studying for the CPA exam, visit my website. I have those additional resources. Study hard and good luck.