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You are the newly appointed auditors of Pinnacle Berhad (Pinnacle). Pinnacle is in the telecommunication industry, has been in existence for ten...

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You are the newly appointed auditors of Pinnacle Berhad (Pinnacle). Pinnacle is in the telecommunication industry, has been in existence for ten years, and has had unmodified opinion throughout that time. The company has been successful in maintaining a competitive advantage in the industry but there is always intense competition and maintaining that advantage continues to be a significant challenge. The management of Pinnacle furnished you with the unaudited financial statements for the financial year ended December 31, 2011. You also received a copy of the audited financial statements of Pinnacle for the financial year ended December 31, 2010 and December 31, 2009. As a newly appointed auditor, you have projected the financial statements for December 31, 2011, which represents their expectations based on industry trends and information that they know about this company’s likely financial performance. In addition, financial ratios are presented that summarise the relationships among various financial statement line items reported in the Statement of Financial Position and Statement of Income. Statement of Financial Position Projected 31/12/2011 RM’000 Unaudited 31/12/2011 RM’000 31/12/2010 RM’000 31/12/2009 RM’000 ASSETS Cash 1,040 1,146 1,956 1,339 Receivables 4,200 4,147 3,053 2,154 Less: Allowance 241 240 213 211 Net Receivables 3,959 3,907 2,840 1,943 Inventories 2,787 3,065 2,592 2,657 Other Current Assets 656 635 826 801 Total Current Assets 8,448 8,753 8,214 6,740 Property & Plant 27,116 26,869 25,877 23,850 Other Assets 2,400 2,413 2,690 2,556 Total Assets 37,964 38,035 36,781 33,146 LIABILITIES & EQUITY Accounts Payable 3,710 3,750 4,093 2,882 Short Term Debt 1,637 1,624 1,534 1,355 Income Tax 277 383 296 300 Current Liabilities 5,624 5,757 5,923 4,537 Long Term Debt 17,773 17,773 16,817 15,080 Total Liabilities 23,397 23,530 22,740 19,617 Share Capital 1,624 1,624 1,624 1,624 Retained Earnings 12,943 12,881 12,417 11,905 Total Liabilities & Equity 37,964 38,035 36,781 33,146
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Statement of Income Projected 31/12/2011 RM’000 Unaudited 31/12/2011 RM’000 31/12/2010 RM’000 31/12/2009 RM’000 Net Sales 9,643 9,644 9,630 9,649 Cost of Sales 6,875 6,963 6,828 6,851 Gross Profit 2,768 2,681 2,802 2,798 R & D Expenditure 212 163 150 128 Selling & Admin 904 624 882 862 Profit from Operations 1,652 1,894 1,770 1,808 Other Income 6 6 5 5 Interest Expense 925 925 916 913 Other Expenses 9 9 11 8 Income before Tax 724 966 848 892 Income Tax 289 386 382 384 Income after Tax 435 580 466 508 Selected Financial Ratios Projected 31/12/2011 Unaudited 31/12/2011 31/12/2010 31/12/2009 Current Ratio 1.50 1.52 1.39 1.48 Quick Ratio 1.01 0.99 0.95 0.90 Gross Margin % 28.7 27.8 29.1 29.0 Income before Tax as a % of Sales 7.50 10.0 8.80 9.20 Income after Tax as a % of Sales 4.50 6.00 4.80 5.20 Inventory Turnover 2.47 2.27 2.63 2.58 Receivable Turnover 2.44 2.47 3.39 4.96 REQUIRED 1. Review the financial statements and document the financial trends that seem most important for Pinnacle. 2. Describe the patterns in the data that concerns you, and explain why those particular patterns cause your concern. 3. Consider possible errors in the financial data that might be consistent with the patterns you identified in Question 2. 4. Considering the results in Question 3, discuss the specific financial statement line items that should receive heightened scrutiny during your audit of Pinnacle. 5. Why would it be helpful for auditors to make projections of unaudited data based on industry trends and analysis? How would an auditor actually make such a projection? What would be the downside risk in making such projections?
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