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Integrated Case Application: Part II Required (a):

Integrated Case Application: Part II Required (a):

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Published by T1sha

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Published by: T1sha on Jan 28, 2010
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INTEGRATED CASE APPLICATION:PART IIREQUIRED (a):External User’s reliance on financial statementsPinnacle Manufacturing is a privately held company, incurring a large amountof debt. Since it has a high amount of debt, its financial statements would berelied upon and used by potential users.One of Pinnacle’s Division, Machine Tech, which engages in a variety ofmachine service and repair operations, is been decided to be sold in order tofocus more on its core operations. In order to sell Machine tech, financialstatements would be extensively relied upon by potential buyers.Moreover, in Item 4, the board of directors has decided to raise significantamount of debt to finance the construction of the new manufacturing plant. Thiswould create more attention towards the financial statements.Likelihood of financial difficultiesPinnacle’s second division Solar Electro incurs changing technology, thus amore risky business then others with a chance of bankruptcy. Item 1 in theplanning activities, state about the articles concerning about the existence ofPinnacle’s Solar Electro division.As indicated in Item 7 in the planning activities, several restrictivecovenants were identified. Two requirements of the covenants were to keep thecurrent ratio above 2.0 and debt- to –equity below 1.0 at all the times. Ascalculated in Part 1, the current ratio has fallen from 2.06 to 1.72. This couldresult the loan to be called.Management integrityClient evaluation is an important element of quality control ASA 220 QualityControl for Audits of Historical Financial Information. When management lacksintegrity, there is a greater likelihood that material errors and irregularitiesmay occur in the accounting process from which the financial statements areprepared.Item 6 in the planning phase, indicates that there is a high turnoverespecially at the higher-level position in the internal audit departments. Thisturnover may be intentional and increases the risk of fraudulent financialreporting. For example, the internal auditors who were at a higher position werefired because the auditor found out about the managements financial interest inthe entity.REQUIRED (b):Item 4: Since Pinnacle Manufacturing is a risky client; the auditors have toperform more checking of the documents, account, etc. Therefore, the audit riskfor the project will be low. As the auditors would like to be sure that all theaccounts are properly checked and verified.Item 1: the auditors would be required to obtain sufficient appropriate evidencein order to determine if the article is material. Therefore, the acceptable auditrisk for this project will be medium.

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