Audit Risk Analysis of the Coca-Cola Company Essay Example

Coca-Cola Company and its management.

Risk of Association

The Coca-Cola Company engaged in legitimate business activities that do not violate the laws of the jurisdiction where the company is headquartered or carries on its business.

After reviewing its financial statement, we believed that its financial position is stable and liquid. Technical Competence the auditors who will perform the auditing will be well trained due to the complexities of the modern business world. And also, the auditors must have the necessary technical competence to perform the required work or risk potential liability or damage to reputation. The Coca-Cola Company (Symbol: KO) was incorporated in September 1919 under the laws of the State of Delaware and succeeded to the business of a Georgia corporation with the same name that had been organized in 1892. The company is the manufacturer, distributor, and marketer of nonalcoholic beverage concentrates and syrups in the world. Finished beverage products bearing its trademarks, sold in the United States since 1886, are now sold in more than 200 countries.

Along with Coca-Cola, the company markets nonalcoholic sparkling brands, including Diet Coke, Fanta, and Sprite. It manufactures beverage concentrates and syrups, which the company sells to bottling and canning operations, fountain wholesalers, and some fountain retailers, as well as finished beverages, which the company sells to distributors. The company owns or licenses more than 450 brands, including diet and light beverages, waters, enhanced waters, juices, and juice drinks, teas, coffees, and energy and sports drinks. The company is one of the numerous competitors in the commercial beverages market. Of the approximately 53 billion beverage servings of all types consumed worldwide every day, beverages bearing trademarks owned by or licensed

to the Company account for approximately 1. 5 billion.

In order to expand its market share, The Coca-Cola Company cooperates with a major fast-food chain company. Today, the Coca-Cola Company has become a well-known globalized company.

Applying Audit Risk Model/Audit Procedures

There are several risk factors to include in this discussion. Industry and regulatory risk factors include obesity/health concerns. There is a growing concern among consumers and public health officials about the public health consequences of obesity. This includes a large movement towards health-conscious eating and drinking, specifically avoiding sugar-sweetened beverages. This could affect demand for some beverages and in turn affect profitability. Water availability is also a factor. Water is the main ingredient of all products. It is a limited resource and also facing unprecedented challenges from overexploitation, pollution, poor management, and climate change in many parts of the world. As water scarcity and demand both increase, the system may incur increased production costs or face capacity constraints, which could adversely affect profitability.

Governmental regulations and competition are also major risk factors. The Coca-Cola Company complies with applicable laws in numerous countries throughout the world. In the USA, this includes the Federal Food, Drug and Cosmetic Act; the Federal Trade Commission Act; the Lanham Act, etc. The company may face some pressure to perform above their many competitors, namely PepsiCo, Inc.; Nestle; Dr. Pepper Snapple Group, Inc.; Groupe Danone; Kraft Foods Inc. and Unilever. Competitive factors include pricing, advertising, sales promotion programs, product innovation, increased efficiency in production techniques, and the introduction of new packaging. None of these external risk factors produce a going concern for Coca-Cola Company at this point. They should be monitored and updated in

the coming years to reassess for the potential of going concerned.

The following areas are identified as internal high-risk factors for the Coca-Cola Company. Revenue is a high-risk account due to the fact that management will be pressured to overstate the account and look better to shareholders. Revenue recognition rules are complicated to understand and maybe overlooked by accounting clerks when entering revenue. To review the revenue account, especially all transactions occurring at the end of December (to be sure that revenue wasn’t entered in 2010 that shouldn’t be recognized until 2011). All revenue over a material cutoff amount should be confirmed through a letter to the customer. The current asset segment is high risk due to the substantial change in the amount from 2009 to 2010.

Specifically, these changes can be seen in the cash and cash equivalents account and short-term investments. Review the cash balances and account reconciliations and find a way to receive confirmation of the short-term investment. The accounts receivable account is high risk for a couple of reasons. First of all, because cash has not been received for the sales yet, there is no proof that they truly happened. And secondly, there has been a negative change in the Days sales in accounts receivable. Send out letters to all clients who have an account receivable over a certain material amount that requires a response confirming the outstanding amount owing.

Also, speak with management regarding the change in Days sales in accounts receivable to see if there is any reason that customers have been taking longer to pay and recommend managers to look into a solution to this. The contingent liability account is high

risk because it has not been included in the statements, it was simply disclosed in the notes. It was not accrued because management believes that any liability that may arise from the legal proceedings will not have a material adverse effect on Coca-Cola’s financial position. Research and consult with the legal department on the likelihood of Coca-Cola being held liable and the estimated amount of the liability (if it can be determined). If it is likely and the amount can be determined, then it should be reported in the financial statements as a contingent liability. The inventory account is at risk of a material misstatement because management may feel pressured to overstate the account.

Shareholders may be nervous about the water limitation risk and want to know that the company has enough in stock that revenue would not suffer considerably should there be an impending water shortage. The auditors should perform a physical inventory check to ensure that everything is there.

Measurement of Financial Performance

The risk areas determined in the ratio analysis are the ratios with the highest percentage change comparing 2008, 2009, and 2010. These are the Current ratio, Days sales in receivables, and the Debt/Equity Ratio. The high change in the Current Ratio could conclude that current assets increased over the year in comparison to last year, or that current liabilities decreased in comparison to last year. When looking at the balance sheet, liabilities have not seen a major change from 2008 to 2009; but current assets have changed drastically (from 12,176,000,000 in 2008 to 17,551,000,000 in 2009; a five billion dollar change).

This ratio brings attention to the current asset accounts as high risk and

ones that will need attention in the audit. The change in Days sales in receivables is also quite significant, as it means that customers who pay on account will take longer to pay in cash. The normal terms of credit sales are net 30 days, so our customers are taking longer than normal to pay. This brings attention and concern to our terms of sale and invoicing, and also the allowance for doubtful accounts.

The Debt to Equity Ratio has increased from 2008 to 2009. This means that either debt has increased or equity has decreased. In looking at the balance sheet, it appears that equity has increased and debt has also increased from 2008 to 2009. Debt has increased by a larger proportion than equity, which explains the change in ratio. In general, shareholders want to see a low debt/equity amount. The risk of material misstatements depends on the accuracy and attention to detail of accounting clerks entering the day-to-day transactions.

Since we do not know the actual business processes, it is hard to determine this. Since Coca-Cola is a large corporation that values its’ employees, we will assume that the accountants/clerks are well-trained with accounting standards and revenue recognition. The factor that increases this risk is the fact that Coca-Cola has sales globally and therefore the accounting is more complex. Taking into consideration that even well-trained employees are not perfect and the complexity of the locations, this would put inherent risk around 0. The control risk depends on the internal controls in place to detect and correct errors that are material in amount.

Since Coca-Cola has been around for so long, we will assume that over

the years they have improved their accounting systems to detect material errors. On the other hand, there are quite a few numbers in the ratio analysis that bring risky accounts to attention. These could imply management being involved in fraud. Therefore the control risk is around the middle, approximately 0. 4. Detection Risk: the audit procedures are important in detecting errors that have slipped through the first two groups.

Assuming that the auditors review all five risky accounts and perform the proposed procedures, the detection risk is fairly low, maybe around 0. 3 since you can never check everything in the statements. Using these three numbers, the audit risk can be found as Audit Risk (AR) = Inherent Risk (IR) x Control Risk (CR) x Detection Risk (DR) AR

Conclusion

Coca-Cola Company is an extremely large and long-established corporation with operations in countries all over the world. This is both good and bad for any audit team. It is good because the company has been around long enough to develop its business processes and compliance. It is bad because the financial information is very complex. The Company has some risky areas in its’ financial statements.

Namely, these are revenue, current assets, accounts receivable, contingent liabilities, and inventory. The previous areas listed are found to be risky either due to possible motivations of management to misstate or due to material changes from 2009 to 2010. Through an audit risk model of the company, it was found to be within our limitations of acceptable risk, therefore we should accept the company for audit.

Reference

1. “The company description,” Market watch, Retrieved from http://www. marketwatch. com/tools/quotes/profile. asp? symb=ko
2. Deppe, Larry A., “Client acceptance: what
   

to look for and why. (Tips for accountants on deciding which new clients to accept) (Cover Story)”.