4. We chose four special interest situations for Pinnacle Manufacturing that pose a problem
with inherent risk. Such situations are explained below.
During our preliminary research of Pinnacle’s financial statements, we found a material
problem in the footnotes. The concern is that the customer, Auto Electro, currently holds
15% of the Accounts Receivable balance at the 2011 year end. In addition, the balance has
been outstanding for several months. This problem consists of all three types of fraud:
incentive, opportunity and attitude. Since Auto Electro’s balance has not decreased, we can
assume that there may be the potential for imitation sales and unreasonable accounting
estimates for the financial statements. Upon further review, the allowance for doubtful
accounts has remained constant from 2010 to 2011. Our observation proves that there may
be unfavorable motives. Since Auto Electro’s account is material in respect to accounts
receivable, by not collecting the balance due, Pinnacle is jeopardizing their ability to cover
current liabilities with the available current funds. If the account is in fact fraudulent,
Pinnacle may be in violation of the debt covenant.
The second special interest situation was discovered when RJMTP employees visited the
Welbourne division. We had learned about an inter-company loan between Welbourne and
Solar Electro. Based on the fraud triangle, this situation is classified as an opportunity.
Since Welbourne and Solar Electro are both subsidiaries of Pinnacle, the loan is a
related-party transaction. The transaction should have been in arms length. Documentation
must be proven from both companies to be an authorized loan. Signatures from upper
