2. Targeted Risk Assessment.

Consider the following scenario.

Leonard, LLCs operates in the US northeast and is headquartered in Pittsburgh, PA. The companys main competitor is Malcolm, LLC. The overall economy is exiting a mild recession, and the industry is considered by the financial press and analysts to be reasonably healthy.

Related to Leonard, LLC, stock market participants have projected that Leonard will outperform the industry and key competitors during the upcoming fiscal year. At the same time, industry trade journals and the financial press have hinted at operational issues and Leonard, LLC has met analysts expectations for the past 1.5 years.

The company has three operational processes that interface manually with the accounting records: Revenue and accounts receivable, operating expenses and accounts payable, personnel and payroll. In addition, in the latest fiscal year, Leonard opened foreign operations in China, created five subsidiaries and located two divisions in Alaska and Hawaii.

The CEO is heavily involved in revenue activities, revenue accounting and financial reporting. The accounts receivable clerk is shy, has one year of experience, and is responsible for collections and financial reporting of revenues and A/R. During past three audits, based on elevated risk concerns, the auditor has completed extra uncompensated work. Preliminary engagement brainstorming identified concerns regarding:

• Potential fictitious credit applications with fabricated information.
• Sales to nonexistent customers based on vertical, horizontal, ratio, cash flow, and NFM analyses.
• Two top 10 customers are defined as related parties.
• All revenues are accounts receivable-based, and revenue is the single largest line item in the financial statements. Accounting reconciliations are manually completed at year-end in preparation for the audit and release of the audited financial statements. In the past, auditors have been troubled by missing records, lack of support for transactions, and the CEOs involvement with final adjustments to the financial statements.

Assignment:

1. Use the data described above for Leonard LLC and a description of chief competitor Malcolm LLCs corresponding risk to complete a targeted fraud risk assessment for fictitious revenue using the matrix provided. 2. In the final box, similar to Malcolm, LLC, draw a conclusion about the risk of fictitious revenue.