Cal Temp Services, Inc. Group 2A Elayne Concepcion Tania Garces Sarahy Pagan.

Cal Temp Cal Temp Services, Inc.Services, Inc.

Group 2AGroup 2AElayne Concepcion

Tania GarcesSarahy Pagan

Accounting Accounting IssuesIssues

GAAP - revenue and accounts receivable recognition

CTS revenue recognition policies Overstatement of accounts receivable Other balance sheet accounts Impact of adjustments

GAAP - Revenue GAAP - Revenue RecognitionRecognition

Revenues – Inflows of assets resulting from providing a product or service to a customer

REALIZATION PRINCIPLE The earnings process is judged to be

complete of virtually complete There is reasonable certainty as to the

collectibility of the asset to be received

GAAP - Accounts GAAP - Accounts ReceivableReceivable

VALUED at the original exchange price between the firm

and the outside party

REPORTED Net of cash discounts, sales returns, and

allowances and uncollectible accounts The amount of cash expected to be collected

CTS – Revenue CTS – Revenue Recognition Recognition

PoliciesPolicies

Revenues for engineering services are recognized upon completion (realization) of projects, which are less than a year

In accordance with GAAP

Did they comply? …Did they comply? …NO!!!!NO!!!!

Example – Vortext, Inc. Recognized revenue on December

31, 2000 based on a REQUEST FOR A QUOTE.

Did not even obtain a PO

Overstatement of Overstatement of accounts receivableaccounts receivable

As of December 31, 1999 Overstated by $253,427

As of December 31, 2000 Overstated by $666,242

Other balance sheet Other balance sheet accountsaccounts

As of December 31, 1999 No other changes required for 1999

As of December 31, 2000 Line of credit should be credited for $196,000 for the

draws posted as payments on a receivable that was reversed upon our analysis

Accounts Payable for $30,000 should be reinstated as it was closed against a false receivable as a credit memo.

Impact of AdjustmentsImpact of Adjustments As of December 31, 1999

Pre-tax income was reduced from $43,436 to a loss of $209,991

As of December 31, 2000 Pre-tax income was reduced from $149,098 to a

loss of $517,144

Litigation Litigation Consulting Consulting

Engagement IssuesEngagement Issues Evidence of collateral reporting fraud Apparent motives of management Damage to Second Union

Evidence of collateral Evidence of collateral reporting fraudreporting fraud

Pledged AR on a first line of credit with a local bank and later used the same asset as collateral with the line of credit with the Second Union Bank

Objection to the bank contacting major customers is a red flag indicator

Additional EvidenceAdditional Evidence Roberts admission upon bank pressure of providing the

bank with information on accounts receivable that would not prove to be collectible

Signature on certification reports

Apparent motives of Apparent motives of managementmanagement

Survive the defense industry downsizing in the late 1990’s

Keep CTS afloat Increase sales of large engineering projects and

expand into other value-added services to achieve growth

Needed to establish a good banking relationship that would help them through this expansion

Meet loan covenants

Damage to Second UnionDamage to Second Union As of December 31, 1999

Savings on additional drafts made by CTS $786,200

As of December 31, 2000 Savings on additional drafts made by CTS

$196,000

Auditing Auditing IssuesIssues

Distinction between error & fraudEvaluation of management’s actionAuditor’s responsibilityRisk factors (red flags)M&S reliance on management Information availability

Error vs FraudError vs Fraud Error are unintentional misstatements

or omission in financial statements Fraud, in contrast, arises form

deceitful financial reporting and from misappropriation of assets

IntentIntent is the primary difference between an error and a fraud

Evaluation of Evaluation of management’s actionmanagement’s action

CTS committed fraud Management’s intention was to deceive

financial statement users, specifically Second Union

Altered records and documents Misrepresenting transactions

Auditor’s responsibilityAuditor’s responsibility

An audit is designed to obtain reasonable assurance about material misstatements

Does not impose a legal obligation to detect cleverly concealed fraud

Auditors are responsible to assess the likelihood of fraud in every audit

Design tests that would provide reasonable assurance of detection

Risk factorsRisk factors Aging of accounts receivable Continual increase in accounts receivable Frequent overdrafts on the CTS checking

account Repeatedly issued credit memos for older

invoices Conflicting or missing evidence

M&S reliance on managementM&S reliance on management Professionally skeptical of management, rather

than assume unilaterally that management has integrity

Subsequent collections is not an adequate confirmation by itself

Traced deposits to copy of customers checks kept on files

Attention should also being paid for credits given on accounts receivable

Information availabilityInformation availability

Collection problem or a softening of the credit requirements

Problems with cash flows Riskier line of credit

The End