Question

An electronics company that produced circuit boards for personal computers was formed in a small southern town. The three founders had previously worked together for another electronics 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 a total of 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. Their new company was well received by the townspeople, who were 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. Two years later, the company began committing financial statement fraud, which went on for about three years. The three founders were the fraud perpetrators. Their fraud involved overstating inventory, understating the cost of goods sold, overstating the gross margin, and overstating net income. Identify the fraud exposures present in this case.

Answer 1