PROBLEM:
Subsequent to year-end, the auditors have determined that they believe that management has understated its warranty obligations. The auditors know that, according to AU 312.36, they should consider the difference between management's estimate and the closest reasonable estimate as "likely misstatement." The chief financial officer (CFO) has agreed that this amount is reasonable. Yet, in fact neither the auditors nor the CFO know which amount is right. The CFO is under no particular pressure to meet an earning forecast; he just thinks that the warranty obligations for many of the products will expire and will not be exercised. Still, the CFO can't convince the auditors. Likewise, the auditors can't convince the CFO of their position. The CFO finally agrees to a material adjustment to get the auditors' amount and "keep the peace."
REQUIRED:
What are the embedded issues within the case?
How might the strategies employed either ensure the success of the organization or establish parameters that can lead to exceptions in the accounting control system, creating undue risk?
State the highest level of deficiency that you believe these circumstances represent control deficiency, a significant deficiency, or a material weakness. Explain your decision.