Ford and Toyota

a. Both Ford and Toyota management comment on the fact that internal control over financial reporting has “inherent limitations.” What are those inherent limitations? Inherent limitations of internal control over financial reporting include things like fraud, human error, overriding of controls. Internal controls, no matter how big or small the company, can only assure that they provide “reasonable assurance” that the objectives of the internal control system and being achieved.

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b. Locate the CEO certification toward the end of Ford’s 10K, Summarize the main components of the certification. Why should users of the financial statements be assured by the statements made in the certification? The certification is a document signed by the CEO, certifying that he has reviewed the Report and it does not contain any information that is untrue nor does it leave out any information which would cause statements made in the report to be untrue. It certifies that the financial information included in the report fairly represents the condition of the company during the period(s) being reported. The CEO also signs that he is responsible for the design and implementation of disclosure and internal controls over financial reporting, and that their effectiveness was evaluated by him and covered in the report.  Lastly it is made certain that the CEO, and other qualifying officers, have disclosed any material weaknesses or sufficient deficiencies found in internal control. It is important for the user to see the certification because it allows them to have faith that the parties in involved in creating, and reporting the information is willing to take personal responsibility for the company’s financial statements. Signing off on this certification would deter management from committing any type of fraud.

c. How does management obtain comfort that internal control does not contain any material weaknesses? Management is responsible for establishing and maintaining adequate internal control over financial reporting and assessments of the effectiveness are conducted based on criteria set. Also there are standards set by the PCAOB that require that audits are planned and performed to obtain reasonable assurance over whether or not effective internal control over financial reporting is present.

d. From a conceptual point of view, assume two companies are the same size, participate in the same industry, and have the same reported net income. However, one has a material weakness in internal control over financial reporting and the other does not have any material weaknesses. Should the stock price of the two be different? If yes, what is the rationale for the difference in the stock price? I think that a company with a material weakness in internal control should have a lower stock price than one that does not, as long as the material weakness remains unresolved. An unresolved material weakness would be reported to the users of the financial statements and would essentially make it less desirable because that weakness could mean material misstatements are present.

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