Reference no: EM13695260

2) You are a newly hired Director of Internal Auditor for a bicycle manufacturer. This is a new position that reports to the CEO of the firm. You have decided that one of your tasks should be to review the corporate structure and history to identify possible exposures to financial statement fraud. So far, you have been able to gather some basic background information on the firm to include:

• The three founders had previously worked together for another bicycle manufacturing company and decided to start this new company. They ended up as senior officers and members of the board of directors in the newly formed company. One became the chairman and CEO, the second became the company's president and COO, and the third became the controller and treasurer. Two of the three founders together owned approximately 10.7 percent of the company's common stock.
• The board of directors had seven members and they met about four times a year, receiving an annual retainer of $4,500 plus a fee of $800 for each meeting attended. The outside board members receive no other compensation for their services on the board from the firm.
• Their new company was well received by the local community where it was located and the community was excited about attracting the new start-up company. The city showed its enthusiasm by providing the new company with an empty building, and the local bank provided a very attractive credit arrangement for the company.

• In return, the company appointed the bank's president to serve as a member of its board of directors.

• Because it is new and closely held, the firm has never been audited before. Management is focused on rapidly growing the firm and has not placed much emphasis on establishing formal reporting and control structures. Your hiring was the first move in that direction. Management wants to begin developing systems that will allow it to go public in a few years.
• Bicycle manufacturing is a highly competitive business, particularly for US firms since there is a lot of foreign competition from Asia and Europe. However, European firms face higher labor costs than US firms and Asian firms are not noted for high quality. Top management believes the new firm can establish a niche market because of some unique design features, but it will be a real challenge.

Assignment - Review the case material and identify the areas that you believe might create significant risks of financial statement fraud. Discuss why you believe each area represents a fraud threat. In addition, if you find features of the case that would reduce fraud risk, discuss them as well and explain why that feature would reduce fraud risk. Please separate each threat into a separate paragraph to be clear and make grading easier.