8-40 (Objectives 8-3, 8-4, 8-5)
This case study is presented in seven parts. Each part deals largely with the material in the chapter to which that part relates. However, the parts are connected in such a way that in completing all seven, you will gain a better understanding of how the parts of the audit are interrelated and integrated by the audit process. The parts of this case appear in the following textbook chapters:
• Part I—Perform analytical procedures for different phases of the audit, Chapter 8.
• Part II—Understand factors influencing risks and the relationship of risks to audit evidence, Chapter 9.
• Part III—Understand internal control and assess control risk for the acquisition and payment cycle, Chapter 10.
• Part IV—Conduct fraud brainstorming and assess fraud risks, Chapter 11.
• Part V—Design tests of controls and substantive tests of transactions, Chapter 14.
• Part VI—Determine sample sizes using audit sampling and evaluate results, Chapter 15.
• Part VII—Design, perform, and evaluate results for tests of details of balances, Chapter 16.
Your audit firm has recently been engaged as the new auditor for Pinnacle Manufacturing effective for the audit of the financial statements for the year ended December 31, 2011. Pinnacle is a medium-sized corporation, with its headquarters located in Detroit, 245246Michigan. The company is made up of three divisions. The first division, Welburn, has been in existence for 35 years and creates powerful diesel engines for boats, trucks, and commercial farming equipment. The second division, Solar-Electro, was recently acquired from a high-tech manufacturing firm based out of Dallas, Texas. Solar-Electro produces state-of-the-art, solar-powered engines. The solar-powered engine market is relatively new, and Pinnacle’s top management believes that the Solar-Electro division will be extremely profitable in the future as the focus on global climate change continues and when highly anticipated EPA regulations make solar-powered engines mandatory for certain public transportation vehicles. Finally, the third division, Machine-Tech, engages in a wide variety of machine service and repair operations. This division, also new to Pinnacle, is currently in its second year of operations. Pinnacle’s board of directors has recently considered selling the Machine-Tech division in order to focus more on core operations—engine manufacturing. However, before any sale will be made, the board has agreed to evaluate this year’s operating results. Excellent operating results may have the effect of keeping the division a part of Pinnacle for the next few years. The vice president for Machine-Tech is committed to making it profitable.
The purpose of Part I is to perform preliminary analytical procedures as part of the audit planning process. You have been asked to focus your attention on two purposes of analytical procedures: obtain an understanding about the client’s business and indicate where there is an increased likelihood of misstatements.
a. Refer to the financial statement data in Figure 8-9 for the current year and prior two years. Analyze the year-to-year change in account balance for at least five financial statement line items. Document the trend analysis in a format similar to the following:
% Change 2012 –2013
% Change 2011–2012
Pinnacle Manufacturing Company
For the Year ended December 31
2013 2012 2011
Net Sales $150,737,628 $148,586,037 $144,686,413
Cost of goods sold 109,284,780 106,255,499 101,988,165
Gross Profit 41,452,848 42,330,528 42,698,248
Operating expenses 37,177,738 38,133,969 37,241,108
Income from operations 4,275,110 4,196,569 5,457,140
Other revenues and gains – – –
Other expenses and losses 2,181,948 2,299,217 2,397,953
Income before income tax 2,093,162 1,897,352 3,059,187
Income tax 883,437 858,941 1,341,536
Net income for the year 1,209,725 1,038,411 1,717,651
Earnings per share 1.21 1.04 1.72
Pinnacle Manufacturing Company
As of December 31
Assets 2013 2012 2011
Cash and Cash Equivalents $7,721,279 $7,324,846 $8,066,545
Net Receivables 13,042,165 8,619,857 7,936,409
Inventory 32,236,021 25,537,198 25,271,503
Other Current Assets 172,278 143,206 131,742
Total Current Assets 53,171,743 41,625,107 41,406,199
Property, Plant and Equp. 62,263,047 61,635,530 58,268,732
Total Assets $115,434,790 $103,260,637 $99,674,931
Accounts Payable $12,969,686 $9,460,776 $7,586,374
Short/Cur. Long Term Debt 15,375,819 10,298,668 9,672,670
Other Current Liabilities 2,067,643 1,767,360 1,682,551
Total Current Liabilities 30,413,148 21,526,804 18,941,595
Long Term Debt 24,420,090 22,342,006 22,379,920
Total Liabilities 54,833,238 43,868,810 41,321,515
Common Stock 1,000,000 1,000,000 1,000,000
Additional paid-in capital 15,717,645 15,717,645 15,717,645
Retained Earnings 43,883,907 42,674,182 41,635,771
Total Stockholders’ Equity 60,601,552 59,391,827 58,353,416
Total Lia. & Stock Equity $115,434,790 $103,260,637 $99,674,931
b. Calculate at least five common ratios shown on pages 230-232 and document them in a format similar to the following:
c. Based on the analytical procedures calculated in parts a. and b., summarize your observations about Pinnacle’s business, including your assessment of the client’s business risk.
d. Go to the Pinnacle link on the textbook Web site (www.prenhall.com/arens) and open the Pinnacle income statement, which is located in the Pinnacle Income Statement worksheet of the Pinnacle_Financials Excel file. Use the income statement information to prepare a common-size income statement for all three years. See Figure 8-7 (p. 227) for an example. Use the information to identify accounts for which you believe there is a concern about material misstatements. Use a format similar to the following:
Estimate of $ Amount of Potential Misstatement
e. Use the three divisional income statements in the Pinnacle_Financials Excel file on the Web site to prepare a common-size income statement for each of the three divisions for all three years. Each division’s income statement is in a separate worksheet in the Excel file. Use the information to identify accounts for which you believe there is a concern about material misstatements. Use a format similar to the one in requirement d.
f. Explain whether you believe the information in requirement d or e provides the most useful data for evaluating the potential for misstatements. Explain why.
g. Analyze the account balances for accounts receivable, inventory, and short/current long-term debt. Describe any observations about those accounts and discuss additional information you want to consider during the current year audit.
h. Based on your calculations, assess the likelihood (high, medium, or low) that Pinnacle is likely to fail financially in the next 12 months.
Delivering a high-quality product at a reasonable price is not enough anymore.
That’s why we have developed 5 beneficial guarantees that will make your experience with our service enjoyable, easy, and safe.
You have to be 100% sure of the quality of your product to give a money-back guarantee. This describes us perfectly. Make sure that this guarantee is totally transparent.Read more
Each paper is composed from scratch, according to your instructions. It is then checked by our plagiarism-detection software. There is no gap where plagiarism could squeeze in.Read more
Thanks to our free revisions, there is no way for you to be unsatisfied. We will work on your paper until you are completely happy with the result.Read more
Your email is safe, as we store it according to international data protection rules. Your bank details are secure, as we use only reliable payment systems.Read more
By sending us your money, you buy the service we provide. Check out our terms and conditions if you prefer business talks to be laid out in official language.Read more