Required: Summarize why revenue is such a critical account in most companies and the auditor's challenge in auditing this area. Then address the following questions regarding the Miniscribe audit which is described below. a) Summarize the business and financial reporting risks that increased the risk of material misstatement at Miniscribe. b) Summarize the techniques used by Miniscribe to inflate their financial statements. For each technique, describe the audit procedure(s) the auditors should/could have used to detect these misstatements? c) Identify any red flags that the auditors should have noticed during the audit. MiniScribe Corporation Read the summary below of the MiniScribe Corporation and answer the questions that follow. "In October 1988, MiniScribe, a computer disk drive manufacturer, announced its thirteenth consecutive record-breaking quarter, while its competitors were laying off hundreds of employees. MiniScribe's receivables had increased significantly, and inventories had increased to a dangerous level because disk drives can become obsolete from one quarter to the next. The company's stock price had quintupled in just two years. It had apparently risen from the dead under the leadership of Q.T. Wiles, who had resurrected other companies and was known as "Dr. Fix-It." It looked as if he had done it again. Seven months later, it was announced that MiniScribe's sales gains had been fabricated. What was supposed to be the crowning achievement of Wiles' career became an epitaph; he resigned and is living in near seclusion. An internal investigation concluded that senior management apparently perpetrated a massive fraud on the company, its directors, its outside auditors, and the investing public. Most of MiniScribe's top management was dismissed, and layoffs shrank its employment by more than 30% in one year. MiniScribe might have to write off as much as $200 million in bad inventory and uncollectable receivables. Wiles' unrealistic sales targets and abusive management style created a pressure cooker that drove managers to cook the books or perish. And cook they did - booking sales prematurely, manipulating reserves, and simply fabricating figures - to maintain the illusion of unbounded growth even after the industry was hit by a severe slump. When Wiles arrived at MiniScribe in mid-1985, it had just lost its biggest customer, IBM, which decided to make its own drives. With the personal computer industry then slumping, MiniScribe was drowning in red ink. Dr. Fix-It's prescription was to cut 20% of the workforce and overhaul the company from top to bottom. As part of the overhaul, several semi-autonomous divisions were created. Each division manager set the division's own budget, sales quotas, incentives, and work rules. The company became a chaotic Babel of at least 20 mini-companies that were constantly being changed and reorganized. One employee held 20 different positions in less than seven years. Wiles turned up the heat under his lieutenants. Four times a year, he would summon as many as 100 employees for several days of intense meetings, at which they were force-fed his idiosyncratic management philosophy. At one of the first such meetings he held, Wiles demanded that two controllers stand, and he fired them on the spot, saying, "That's just to show everyone I'm in control of the company." At each of these meetings, division managers had to present and defend their business plan. Invariably, Wiles would find such plans deficient and would berate their authors in front of their peers. A former controller says Wiles would throw, kick, and rip the plan books that displeased him, showering his intimidated audience with paper while yelling, "Why don't you understand this? Why can't you understand how to do this?" Then something changed. Wiles started saying, "I no longer want to be remembered as a turnaround artist. I want to be remembered as the man who made MiniScribe a billion-dollar company." Sales objectives became the company's driving force, and financial results became the sole determinant of whether bonuses were awarded. Wiles said, "This is the number we want to hit first quarter, second quarter, third quarter, and so on," and it was amazing to see how close they could get to the number they wanted to hit. Hitting the number became a company-wide obsession. Although many high-tech manufacturers accelerate shipments at the end of quarter to boost sales - a practice known as "stuffing the channel" - MiniScribe went several steps beyond that. On one occasion, an analyst relates, the company shipped more than twice as many disk drives to a computer manufacturer as had been ordered; a former sales manager says the excess shipment was worth about $9 million. MiniScribe later said it had shipped the excess drives by mistake. The extras were returned - but by then MiniScribe had posted the sale at the higher number. Wiles denied this practice. Other accounting maneuvers involved shipments of disk drives from MiniScribe's factory in Singapore. Most shipments went by airfreight, but a squeeze on air cargo space toward the end of each quarter would force some shipments onto cargo ships, which required up to two weeks for transit. On several occasions, said a former division manager, MiniScribe executives looking to raise sales, changed purchase orders to show that a customer took title to a shipment in Singapore when, in fact, title would not change until the drives were delivered in the United States. Specifically, MiniScribe executives were adamant that the 1986 year-end results should include as sales the cargo on a freighter that they contended had set sail in late December. Eventually, the cargo and the freighter, (which did not exist), were simply forgotten. MiniScribe executives also found other ways to inflate sales figures. One was to manipulate reserves for returns of defective merchandise and bad debts. The problem of inadequate reserves grew so great that private analysts began noticing it. MiniScribe was booking less than 1% reserves; the rest of the industry had reserves ranging from 4% to 10%. To avoid booking losses on returns in excess of its skimpy reserves, defective drives would be tossed onto a "dog pile" and booked as inventory. Eventually, the dog-pile drives would be shipped out again to new customers, continuing the cycle. Returns of defective merchandise ran as high as 15%. At a time of strong market demand, such ploys enabled MiniScribe to seem to grow almost exponentially, posting sales of $185 million in 1986 and $362 million in 1987. In early 1988, Wiles was confidently forecasting a $660 million year, and he held fast to his rosy forecast even as disk drive sales started slipping industrywide in late spring and nosedived in autumn. Meanwhile, Whiles increased the pressure on his managers. Division reports would be doctored as they rose from one bureaucratic level to the next. Before long, the accounting gimmickry became increasingly brazen. Division managers were told to "force the numbers." Workers whispered that bricks were being shipped just so a division could claim to have met its quota. Others joked that unwanted disk drives were being shipped and returned so often that they had to be repackaged because the boxes wore out. Employees also joked about shipments to "account BW," an acronym for "big warehouse." But that wasn't just a joke. MiniScribe established several warehouses around the country and in Canada as "just-in-time" suppliers for distributors. Customers weren't invoiced until they received shipments from the warehouses. MiniScribe, however, was booking shipments to the warehouses as sales. The number of disk drives shipped to the warehouses was at MiniScribe's discretion. It is estimated that between $80 million and $100 million worth of unordered disk drives went to the warehouses. Wall Street began to smell trouble. Analysts could find no significant customers other than Compaq to support MiniScribe's bullish forecasts. Several major anticipated orders from Apple Computer and Digital Equipment Corp. fell through. MiniScribe reported a fourth-quarter loss and a drop in net income for 1988 despite a 66% increase in sales - on paper, that is. A week later, Wiles abruptly resigned. The stock price tumbled from a high of $15 to less than $3 per share, a decline that upset many stockholders. An investigative committee of MiniScribe's outside directors reported that senior company officials: " Apparently broke into locked trunks containing the auditors' working papers during the year-end 1986 audit and changed inventory figures, inflating inventory values by approximately $1 million. " Packaged bricks and shipped them to distributors as disk drives in 1987, recording $4.3 million in sales; when the shipments were returned, MiniScribe inflated its inventory by the purported cost of the bricks. " Packed approximately 6,300 disk drives that had been contaminated to inflate inventory during the fourth quarter of 1988. Several lawsuits have been filed charging MiniScribe with engineering phony sales artificially to inflate its stock to benefit insiders. The suits also charge that its auditors participated in the conspiracy by falsely certifying the company's financial statements. "

Comprehensive Budgeting Problem

To be completed using Excel.

The Highlander Corporation

Balance Sheet

December 31, 2019

Assets

Liabilities

Stockholders’ Equity

In preparation for developing the master budget for the first three months of 2020, the following has been extracted from the company’s accounting records

1. All sales are made on account at $25 per unit. Sixty Percent of the sales are collected in the month of sale, the remaining 40% are collected in the following month. Forecast sales for the first five months of 2020 are: January, 1,800 units; February, 2,000 units; March, 2,100 units; April, 2,000 units; May 2,200 units.
2. Management wants to maintain the finished goods inventory at 30% of the following month’s sales.
3. Watson uses four square inches of direct materials in each finished unit. The direct material prices

have been stable and are expected to remain so over the next six months. Management wants to maintain the ending direct materials inventory at 60% of the following month’s production needs.

4. 70% of all purchases are paid in the month of purchase; the remaining 30% are paid in the subsequent month.
5. Watson’s product requires 30 minutes of direct labor time. Each hour of direct labor costs $8. Additionally factory overhead is charged to products at a rate of $4 per labor hour.
6. Equipment depreciation for 2020(already included in the factory overhead) will be $6,000 ($500 per month).
7. No new equipment will be purchased and no new common stock will be issued during 2020.
8. Operating expenses, all paid in cash, are expected to be $2,500 in January and grow by 1% each month after that.
9. Beginning and ending Work-In-Process inventories are insignificant and can be ignored.

Prepare the following for January, February and March of 2020:

1. a budgeted income statement
2. a budgeted balance sheet

        Each schedule should show budgets for January, February, and March (e.g. don’t put each month on a separate sheet, but each schedule, A to I, should be on a separate worksheet). You may omit a Quarter Total column or sheet. To the degree possible, each sheet should be linked to all related sheets. For example, the sales figures on your production budget should come from (be linked to) your sales budget. You may create any additional worksheets (to be linked as well) if you need.

Prenatal Development:

True or False

Fertilization usually takes place in the fallopian tube.

As many as 50 percent of zygotes do not survive in the first 2 weeks.

During the period of the fetus, the most rapid prenatal changes take place.

At first, the nervous system develops the fastest.

In the second month of pregnancy, the eyes, ears, nose, jaw, and neck form.

The period of the fetus is the longest prenatal period.

Brain weight doubles form the 20^th week until birth.

The age of viability occurs sometime between 22 and 26 weeks.

By 28 weeks, fetuses are awake about 30 percent of the time.

Higher fetal activity in the last weeks of pregnancy predicts a more passive infant in the first month of life.

Following are the transactions and adjustments that occurred during the first year of operations at Kissick Co.

1. Issued 192,000 shares of $4-par-value common stock for $768,000 in cash.
2. Borrowed $530,000 from Oglesby National Bank and signed a 11% note due in three years.
3. Incurred and paid $380,000 in salaries for the year.
4. Purchased $640,000 of merchandise inventory on account during the year.
5. Sold inventory costing $590,000 for a total of $920,000, all on credit.
6. Paid rent of $110,000 on the sales facilities during the first 11 months of the year.
7. Purchased $180,000 of store equipment, paying $51,000 in cash and agreeing to pay the difference within 90 days.
8. Paid the entire $129,000 owed for store equipment and $600,000 of the amount due to suppliers for credit purchases previously recorded.
9. Incurred and paid utilities expense of $34,000 during the year.
10. Collected $855,000 in cash from customers during the year for credit sales previously recorded.
11. At year-end, accrued $58,300 of interest on the note due to Oglesby National Bank.
12. At year-end, accrued $10,000 of past-due December rent on the sales facilities.

Required:
a. Prepare an income statement (ignoring income taxes) for Kissick Co.'s first year of operations and a balance sheet as of the end of the year. (Hint: You may find it helpful to prepare a T-account for the Cash account since it is affected by most of the transactions.)

Questopn: Earlier this week, Elon Musk proposed that Tesla may go private. What would this mean for the company's cash flows?

Article:

Tesla Doubles Loss, but Burns Less Cash Than Expected

Electric-car maker finished the second quarter with $2.2 billion in cash

By Tim Higgins

___________________________________________________________

Tesla Inc. TSLA -4.83%▲ reassured investors it would achieve a profit later this year, as a rush of Model 3 sales in the second quarter helped the electric-car maker burn less cash than expected.

The results, which sent Tesla’s shares soaring in after-hours trading Wednesday, should give Chief Executive Elon Musk some wiggle room to prove that a continued production rate of more than 5,000 Model 3s a week during the third quarter can make the auto maker cash-flow positive and profitable. He made that promise earlier this year and reiterated it Wednesday in a letter to shareholders, though many analysts doubt it can be kept.

Tesla more than doubled its loss from last year’s second quarter to $717.5 million, its seventh consecutive quarterly loss during an period intensely focused on ramping up production of the Model 3. Tesla reached the long-delayed goal of making 5,000 Model 3 sedans in a single week during the final days of June. Now the test is whether it can sustain that production to generate necessary cash and eventually prove it is no longer a niche luxury brand but one capable of building millions of cars a year.

“It took 15 years to execute on our initial goal to produce an affordable, long-range electric vehicle that can also be highly profitable,” Mr. Musk wrote in Wednesday’s shareholder letter. “In the second half of 2018, we expect, for the first time in our history, to become both sustainably profitable and cash flow positive.”

Later on a call with analysts, Mr. Musk said he expects Tesla will record a profit in all subsequent quarters—except perhaps if the economy collapses or the company pays back a big loan, he said.

If Mr. Musk begins to fulfill that promise, he could calm investors and analysts concerned by Tesla’s dwindling cash pile. Mr. Musk has bristled at the idea of raising more cash, and on Wednesday told analysts he doesn’t plan to issue new equity.

Instead, Mr. Musk said he plans to focus on paying down the company’s debt—not refinancing it. He expects a new factory proposed for Shanghai will cost $2 billion and will be financed with debt in China.

“Are we running low on money? The answer is no,” Mr. Musk said on the call. His tone of the call differed greatly from the prior quarter when he sparred with analysts, sending shares plummeting. Mr. Musk apologized to those analysts on the call Wednesday and generally sounded upbeat—if tired.

Tesla finished the second quarter with $2.2 billion of cash. Its negative free cash flow of about $740 million was lower than what a consensus of analysts expected. The company previously said it needed to keep a minimum cash balance of $1 billion, and several analysts had said Tesla would need to raise more money.

The quarterly report, and Mr. Musk’s subsequent comments, sent Tesla’s shares up nearly 9% to $327.70 in after-hours trading on Wednesday. The shares were down more than 3% this year ahead of Tesla’s quarterly report.

“I was expecting more cash burn, possibly even a severe one because there were a lot of production costs at the end of the quarter to meet the 5,000/week target but many of those vehicles likely were not delivered until Q3,” David Whiston, an analyst for Morningstar Research Services, wrote.

Mr. Musk remains optimistic that Tesla can make 1 million vehicles in 2020, though he expressed new caution saying it “seems pretty likely” the company will make 700,000 to 800,000 that year. He said Tesla’s Fremont, Calif., assembly plant and Nevada battery factory should be able to produce about 600,000 a year plus 100,000 to 200,000 at the new Shanghai facility, which is supposed to begin production that year.

The company had previously said it would begin China production in 2020 while in Tesla’s shareholder letter the company said the first cars would roll off the line in about three years, which would put it at 2021.

Tesla reiterated it expects to produce 6,000 Model 3s sedans in a week by late August. The company said it plans to build 50,000 to 55,000 of the sedans during the third quarter and that it remains on target to make a total of 100,000 Model S sedans and Model X sport-utility vehicles for the year.

Mr. Musk has sought to cut costs in the pursuit of profitability. The company slashed 9% of its workforce in June, and Mr. Musk promised a management reorganization after his engineering chief stepped aside.

The company on Wednesday cut back further on planned capital expenditures as part of a strategy to focus building out its existing infrastructure for making the Model 3. It now plans to spend less than $2.5 billion this year, lower than a $3 billion projection in May, which itself was down from the $3.4 billion previously announced and spent last year.

Revenue during the second quarter rose 44% to $4 billion. Tesla said last month that total vehicle deliveries reached 40,740, a dramatic increase from more than 22,000 vehicles a year earlier thanks to increased production of the Model 3 sedan. Tesla sold about 18,440 Model 3s during the period.

Earlier in the day, Mr. Musk had a little fun with a prominent short seller. David Einhorn, the president of hedge fund Greenlight Capital, criticized Tesla and its CEO in a letter to investors Tuesday and wrote that he “is happy that his Model S lease ended” and was “happy to switch to an electric Jaguar.”

Mr. Musk wrote on Twitter: “Tragic. Will send Einhorn a box of short shorts to comfort him through this difficult time.”

Assume that Atlas Sporting Goods Inc. has $1,000,000 in assets. If it goes with a low-liquidity plan for the assets, it can earn a return of 17 percent, but with a high-liquidity plan the return will be 14 percent. If the firm goes with a short-term financing plan, the financing costs on the $1,000,000 will be 11 percent, and with a long-term financing plan the financing costs on the $1,000,000 will be 13 percent.

a. Compute the anticipated return after financing costs with the most aggressive asset-financing mix
b. Compute the anticipated return after financing costs with the most conservative asset-financing mix
c. Compute the anticipated return after financing costs with the two moderate approaches to the asset-financing mix.
d. If the firm used the most aggressive asset-financing mix described in part a and had the anticipated return you computed for part a, what would earnings per share be if the tax rate on the anticipated return was 30 percent and there were 20,000 shares outstanding? (Round your answer to 2 decimal places.)

e-1. Now assume the most conservative asset-financing mix described in part b will be utilized. The tax rate will be 30 percent. Also assume there will only be 5,000 shares outstanding. What will earnings per share be? (Round your answer to 2 decimal places.)

e-2. Would the conservative mix have higher or lower earnings per share than the aggressive mix?

• Lower

• Higher

Assume that Atlas Sporting Goods Inc. has $850,000 in assets. If it goes with a low-liquidity plan for the assets, it can earn a return of 16 percent, but with a high-liquidity plan the return will be 13 percent. If the firm goes with a short-term financing plan, the financing costs on the $850,000 will be 10 percent, and with a long-term financing plan the financing costs on the $850,000 will be 12 percent. a. Compute the anticipated return after financing costs with the most aggressive asset-financing mix.

b. Compute the anticipated return after financing costs with the most conservative asset-financing mix.

c. Compute the anticipated return after financing costs with the two moderate approaches to the asset-financing mix.

d. If the firm used the most aggressive asset-financing mix described in part a and had the anticipated return you computed for part a, what would earnings per share be if the tax rate on the anticipated return was 30 percent and there were 20,000 shares outstanding? (Round your answer to 2 decimal places.)

e-1. Now assume the most conservative asset-financing mix described in part b will be utilized. The tax rate will be 30 percent. Also assume there will only be 5,000 shares outstanding. What will earnings per share be? (Round your answer to 2 decimal places.)

e-2. Would the conservative mix have higher or lower earnings per share than the aggressive mix? Lower Higher

Assume that Atlas Sporting Goods Inc. has $820,000 in assets. If it goes with a low-liquidity plan for the assets, it can earn a return of 13 percent, but with a high-liquidity plan the return will be 10 percent. If the firm goes with a short-term financing plan, the financing costs on the $820,000 will be 7 percent, and with a long-term financing plan, the financing costs on the $820,000 will be 8 percent.

a. Compute the anticipated return after financing costs with the most aggressive asset-financing mix.
  

b. Compute the anticipated return after financing costs with the most conservative asset-financing mix.
  

c. Compute the anticipated return after financing costs with the two moderate approaches to the asset-financing mix.
  

d. If the firm used the most aggressive asset-financing mix described in part a and had the anticipated return you computed for part a, what would earnings per share be if the tax rate on the anticipated return was 30 percent and there were 20,000 shares outstanding? (Round your answer to 2 decimal places.)
  

e-1. Now assume the most conservative asset-financing mix described in part b will be utilized. The tax rate will be 30 percent. Also assume there will only be 5,000 shares outstanding. What will earnings per share be? (Round your answer to 2 decimal places.)
  

e-2. Would the conservative mix have higher or lower earnings per share than the aggressive mix?
  

Assume that Atlas Sporting Goods Inc. has $850,000 in assets. If it goes with a low-liquidity plan for the assets, it can earn a return of 16 percent, but with a high-liquidity plan the return will be 13 percent. If the firm goes with a short-term financing plan, the financing costs on the $850,000 will be 10 percent, and with a long-term financing plan, the financing costs on the $850,000 will be 12 percent.

a. Compute the anticipated return after financing costs with the most aggressive asset-financing mix.

b. Compute the anticipated return after financing costs with the most conservative asset-financing mix.

c. Compute the anticipated return after financing costs with the two moderate approaches to the asset-financing mix.

d. If the firm used the most aggressive asset-financing mix described in part a and had the anticipated return you computed for part a, what would earnings per share be if the tax rate on the anticipated return was 30 percent and there were 20,000 shares outstanding? (Round your answer to 2 decimal places.)

e-1. Now assume the most conservative asset-financing mix described in part b will be utilized. The tax rate will be 30 percent. Also assume there will only be 5,000 shares outstanding. What will earnings per share be? (Round your answer to 2 decimal places.)

e-2. Would the conservative mix have higher or lower earnings per share than the aggressive mix? Lower Higher