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Apollo Shoes – Comparative TB

You will prepare the Comparative Trial Balance (TB) and horizontal analysis for your simulated client, Apollo Shoes, in an Excel spreadsheet in a format appropriate for the audit procedures.

The TB is a summary of all the account balances within the company. When two or more years of TB data are presented side-by-side, the result is a Comparative TB which provides auditors with a succinct, efficient, and elegant comparison of the financial information not only for trend analysis but also for the analytical procedures required in the planning portion of an audit.

Apollo Shoes Client Information

  1. Review the Planning and Internal Controls sections of the Apollo Shoes Case Study (Client File). Note any policies and procedures, BOD activity, and other information relevant to the planning section of the audit.
  2. Since we are in the planning portion of the audit, you are limited to only the information available in the Planning and Internal Controls sections of the audit. You do not have access to any of the fieldwork areas in the Client file.

Required

Prepare the Comparative Trial Balance (TB) and horizontal analysis for Apollo Shoes using the Excel file (.xlsx) template provided.

Name:
Semester:
Year:
Course Number:
Section Letter:
Professor:
Certification:
ACC470
Include your full first and last name as shown in Blackboard
Include the 2-letter semester of this course (Sp, Su, Fa)
Include the 4-digit year of this course
Include the course number assigned by the university
Include the section letter assigned by the university (A, B, etc.)
Include the name of the professor teaching this course
By typing my name above and submitting this file, I, the student named above, certify that I completed this
assignment through my own work and efforts. I certify that this course deliverable I submitted is my own work
and is in compliance with all course and University standards for Academic Integrity as indicated in the Syllabus
and the Student Handbook.
Apollo Shoes, Inc
Trial Balance (Audited)
12/31/20×6
Account ID
10100
10200
10300
10400
11000
11500
12000
12300
14100
14200
14300
14400
14700
15000
15100
15200
17000
19000
19900
20000
23100
23200
23300
23350
23400
23500
23600
23700
23800
23900
24100
24200
24700
27000
39003
39004
39005
40000
41000
42000
45000
46000
47000
50010
57500
Account Description
Cash on Hand
Regular Checking Account
Payroll Checking Account
Savings Account
Accounts Receivable
Allowance for Doubtful Accounts
Inventory – Spotlight
Reserve for Inventory Obsolescence
Prepaid Insurance
Prepaid Rent
Office Supplies
Notes Receivable-Current
Other Current Assets
Land
Buildings and Land Improvements
Machinery, Equipment, Office Furniture
Accum. Depreciation
Investments
Other Noncurrent Assets
Accounts Payable
Sales Tax Payable
Wages Payable
FICA Employee Withholding
Medicare Withholding
Federal Payroll Taxes Payable
FUTA Tax Payable
State Payroll Taxes Payable
SUTA Tax Payable
FICA Employer Withholding
Medicare Employer Withholding
Line of Credit
Current Portion Long-Term Debt
Other Current Liabilities
Notes Payable-Noncurrent
Common Stock
Paid-in Capital
Retained Earnings
Sales
Sales Returns
Warranty Expense
Income from Investments
Interest Income
Miscellaneous Income
Cost of Goods Sold
Freight
PBC
A-1
Debit
1,987.28
198,116.52
3,044,958.13
16,410,902.71
18,825,205.24
743,314.38
200,000.00
7,406.82
117,000.00
623,905.92
433,217.10
572,691.08
53,840.59
4,497,583.20
1,100,281.48
141,569,221.61
4,302,951.46
Credit
1,262,819.88
3,012,000.00
164,000.00
4,633,118.09
29,470.32
1,318.69
583.99
6,033.01
2,815.47
1,318.69
583.99
10,000,000.00
8,105,000.00
7,423,000.00
2,219,120.65
246,172,918.44
204,302.81

Debit (Credit)
X-Ref
Apollo Shoes, Inc
Trial Balance (Audited)
12/31/20×6
Account ID
60000
61000
62000
64000
64500
65000
66000
67000
68000
70000
70100
70110
70120
71000
72000
73000
74000
77500
78000
78500
78510
80000
Account Description
Advertising Expense
Auto Expenses
Research and Development
Depreciation Expense
Warehouse Salaries
Property Tax Expense
Legal and Professional Expense
Bad Debt Expense
Insurance Expense
Maintenance Expense
Utilities
Phone
Postal
Miscellaneous Office Expense
Payroll Tax Exp
Pension/Profit-Sharing Plan Ex
Rent or Lease Expense
Administrative Wages Expense
Interest Expense
Income Tax Expense – Federal
Income Tax Expense – State
Loss on Legal Settlement
Total
PBC
A-1
Debit
897,140.01
208,974.39
31,212,334.17
133,000.00
4,633,383.82
80,495.32
3,605,133.96
1,622,425.99
853,942.65
61,136.04
135,642.99
76,373.78
128,033.21
17,023.27
1,550,989.06
3,000,000.00
2,603,485.87
16,875,305.98
875,000.00
2,365,000.00
429,000.00
19,172,000.00
283,238,404.03
Credit
283,238,404.03
Debit (Credit)
X-Ref
Apollo Shoes, Inc
Preclosing Trial Balance
12/31/20×7
Account ID
10100
10200
10300
10400
11000
11400
11500
12000
12300
14100
14200
14300
14400
14700
15000
15100
15200
17000
19000
19900
20000
23100
23200
23300
23350
23400
23500
23600
23700
23800
23900
24100
24200
24700
27000
39003
39004
39005
40000
41000
42000
45000
46000
47000
50010
57500
Account Description
Cash on Hand
Regular Checking Account
Payroll Checking Account
Savings Account
Accounts Receivable
Other Receivables
Allowance for Doubtful Accounts
Inventory
Reserve for Inventory Obsolescence
Prepaid Insurance
Prepaid Rent
Office Supplies
Notes Receivable-Current
Other Current Assets
Land
Buildings and Land Improvements
Machinery, Equipment, Office Furniture
Accum. Depreciation
Investments
Other Noncurrent Assets
Accounts Payable
Sales Tax Payable
Wages Payable
FICA Employee Withholding
Medicare Withholding
Federal Payroll Taxes Payable
FUTA Tax Payable
State Payroll Taxes Payable
SUTA Tax Payable
FICA Employer Withholding
Medicare Employer Withholding
Line of Credit
Current Portion Long-Term Debt
Other Current Liabilities
Notes Payable-Noncurrent
Common Stock
Paid-in Capital
Retained Earnings
Sales
Sales Returns
Warranty Expense
Income from Investments
Interest Income
Miscellaneous Income
Cost of Goods Sold
Freight
PBC
A-2
Debit
2,275.23
557,125.92
3,645,599.15
51,515,259.98
1,250,000.00
67,724,527.50
3,424,213.78
8,540.00
117,000.00
674,313.92
2,929,097.13
1,998,780.39
53,840.59
11,100,220.89
1,158,128.47
130,196,645.26
4,240,263.09
Credit
1,239,009.75
846,000.00
610,000.00
1,922,095.91
8,439.65
11,414.99
118,086.12
55,106.86
8,439.65
11,414.99
44,403,000.00
12,000,000.00
8,105,000.00
7,423,000.00
6,590,483.64
242,713,452.88
1,426,089.31
131,881.46
2,166,000.00

Debit (Credit)
X-Ref
Apollo Shoes, Inc
Preclosing Trial Balance
12/31/20×7
Account ID
60000
61000
62000
64000
64500
65000
66000
67000
68000
70000
70100
70110
70120
71000
72000
73000
74000
77500
78000
78500
78510
78600
Account Description
Advertising Expense
Auto Expenses
Research and Development
Depreciation Expense
Warehouse Salaries
Property Tax Expense
Legal and Professional Expense
Bad Debt Expense
Insurance Expense
Maintenance Expense
Utilities
Phone
Postal
Miscellaneous Office Expense
Payroll Tax Exp
Pension/Profit-Sharing Plan Ex
Rent or Lease Expense
Administrative Wages Expense
Interest Expense
Income Tax Expense – Federal
Income Tax Expense – State
Controllers’ Clearing Account
Total
PBC
A-2
Debit
1,036,854.01
210,502.80
528,870.44
446,000.00
4,720,715.56
99,332.45
4,913,224.45
36,106.92
35,502.87
137,332.18
52,599.02
77,803.61
24,891.82
1,577,811.85
3,630,375.80
1,206,574.00
16,197,225.43
2,591,736.50
8,900,000.00
3,100,000.00
330,119,291.01
Credit
330,375.80
330,119,291.01
Debit (Credit)
X-Ref
NOTE: Below is an example of the materiality template a firm might use to calculate the materiality
thresholds for a client.
For the purposes of this assignment, use the following materiality threshold:
Raw Change: ≥ ± $50,000 *AND*
Percent Change: ≥ ± 10%
Apollo Shoes
ENGAGEMENT MATERIALITY
(Required for all engagements)
CLIENT:
PERIOD ENDED:
A-5
Prepared by
Reviewed by
Apollo Shoes
12/31/20×7
This completed form must be provided to the engagement quality control reviewer in the planning stage of every
audit.
PLANNING MATERIALITY CALCULATION
Only if the current year net income (loss) (or other measure) is significantly different from
the entity’s historical results would 2-year averaging to obtain normalized net income (loss)
(or other measure) be appropriate.
PROFIT ORIENTED ENTITIES
Net income (loss)
Plus (minus) unusual, non-recurring
revenues and expenses, and extraordinary
items.
ADJUSTED NET INCOME (LOSS)
Current Year
Prior Year


0
0
Adjusted net income (loss) multiplied by:
Current Year
Prior Year
TOTAL ASSETS
Total assets multiplied by:
0
Current Year
TOTAL REVENUES
Plus (minus) unusual, non-recurring
revenues
ADJUSTED REVENUES
0
Prior Year


0
0
Total adjusted revenues multiplied by:
JUSTIFICATION OF PLANNING MATERIALITY
1. Financial data source (i.e. actual,
budget, projection):
2. Basis (i.e. normalized net income,
revenue, total assets, other):
Justification:
3. Percentage of financial data source
used:
4. Amount selected (planning materiality)
5. Prior year’s final materiality
6. Performance materiality/Tolerable
misstatement (75% of planning materiality)
0
7. Listing scope (amount threshold for
suggested adjustments) (using 5% to 10% of
planning materiality based on expected
level of adjustments is usually appropriate)
0
Engagement Partner
Engagement Quality Control Reviewer
Account ID
10100
10200
10300
10400
11000
11400
11500
12000
12300
14100
14200
14300
14400
14700
15000
15100
15200
17000
19000
19900
20000
23100
23200
23300
23350
23400
23500
23600
23700
23800
23900
24100
24200
24700
27000
39003
39004
39005
40000
41000
42000
45000
46000
47000
50010
57500
60000
61000
62000
64000
64500
65000
66000
67000
68000
Apollo Shoes, Inc
Comparative Trial Balance
Audited
20×6
(Audited)
Account Description
Cash on Hand
Regular Checking Account
Payroll Checking Account
Savings Account
Accounts Receivable
Other Receivables
Allowance for Doubtful Accounts
Inventory
Reserve for Inventory Obsolescence
Prepaid Insurance
Prepaid Rent
Office Supplies
Notes Receivable-Current
Other Current Assets
Land
Buildings and Land Improvements
Machinery, Equipment, Office Furniture
Accum. Depreciation
Investments
Other Noncurrent Assets
Accounts Payable
Sales Tax Payable
Wages Payable
FICA Employee Withholding
Medicare Withholding
Federal Payroll Taxes Payable
FUTA Tax Payable
State Payroll Taxes Payable
SUTA Tax Payable
FICA Employer Withholding
Medicare Employer Withholding
Line of Credit
Current Portion Long-Term Debt
Other Current Liabilities
Notes Payable-Noncurrent
Common Stock
Paid-in Capital
Retained Earnings
Sales
Sales Returns
Warranty Expense
Income from Investments
Interest Income
Miscellaneous Income
Cost of Goods Sold
Freight
Advertising Expense
Auto Expenses
Research and Development
Depreciation Expense
Warehouse Salaries
Property Tax Expense
Legal and Professional Expense
Bad Debt Expense
Insurance Expense
B-1
Prepared by
Reviewed by
Unaudited
20×7
(Unaudited)
Raw Change
(CY-PY)
Percent Change
(Raw Change/PY)
T/M
Account ID
70000
70100
70110
70120
71000
72000
73000
74000
77500
78000
78500
78510
78600
80000
Account Description
Maintenance Expense
Utilities
Phone
Postal
Miscellaneous Office Expense
Payroll Tax Exp
Pension/Profit-Sharing Plan Ex
Rent or Lease Expense
Administrative Wages Expense
Interest Expense
Income Tax Expense – Federal
Income Tax Expense – State
Controllers’ Clearing Account
Loss on Legal Settlement
Total
Apollo Shoes, Inc
Comparative Trial Balance
Audited
20×6
(Audited)
B-1
Prepared by
Reviewed by
Unaudited
20×7
(Unaudited)
Raw Change
(CY-PY)
Tickmark Legend:
f – Footed without exception
i – Amount is considered immaterial (< materiality threshold determined on A-5), no further work necessary. TB - Agrees to Trial Balance without exception PY - Agrees to prior year audited Trial Balance without exception Percent Change (Raw Change/PY) T/M APOLLO SHOES, INC. Client File An Audit Case to Accompany AUDITING AND ASSURANCE SERVICES Prepared by Timothy Louwers Brad Roof 7th Edition Page 1 Acknowledgements We would like to gratefully acknowledge the following individuals for their assistance in preparing and completing this case. Sincere appreciation is due to Cal Christian, Marcia Croteau, Loretta Manktelow, Reagan McDougall, Meghan Peters, Denise Patterson, Bob Ramsay, J. Kenneth Reynolds, Mike Shaub, and several classes of Louisiana State University and James Madison University students. Their suggestions greatly enhanced several portions of the case. However, we remain responsible for all errors of commission and omission. Page 2 Introduction APOLLO SHOES, INC. An Audit Case to Accompany AUDITING AND ASSURANCE SERVICES, 7th Edition PLEASE READ THROUGH THE NEXT TWO PAGES BEFORE BEGINNING YOUR WORK ON THE CASE Apollo Shoes, Inc. is an audit case designed to introduce you to the entire audit process, from engagement through drafting the appropriate audit report. In order to complete the case, you are asked to assume the role of an in-charge auditor that has worked for three “busy” seasons. This is your firm’s first time auditing Apollo Shoes and it is your first audit client as the primary “incharge” on the audit engagement team. While Apollo Shoes’ growth has been phenomenal (there has been a dramatic growth in revenue and net income during the past year), there are some concerns: the client doesn’t want your firm (Anderson, Olds, and Watershed (AOW)) to talk with the predecessor auditor, a labor strike is looming, and one of Apollo Shoes’ largest customers is suffering some financial difficulties. There is help, from an untrained intern. While the intern can do “fundamental work,” such as gathering audit evidence for you, he appears incapable of preparing audit documentation, making adjusting entries, or even getting acceptable responses from the client. Also, there is assistance on the audit in the form of an objective, competent internal audit staff. Communication between client personnel and other firm members usually takes the form of e-mail messages from the engagement partner (Arnold Anderson), the engagement manager (Darlene Wardlaw), the intern (Timothy Crumpler), and the director of Apollo’s internal audit department (Karina Ramirez). Author-suggested assignments and memos are in bold princluded throughout the case. Page indexing suggestions are given, but feel free to adjust page numbering as you see fit. While we tried to make the case as realistic as possible, limitations remain. Since you are unable to follow up directly with client personnel, you may need to rely on some evidence with which you may be uncomfortable. In an actual audit, you would be able to inquire, observe, and otherwise follow-up on any questions that you have until you feel comfortable relying on the evidence. To make sure that the case can be completed in a reasonable amount of time, we cut some corners with respect to audit sampling. Understand that audit sampling plays a large role in actual audit practice. The information is sequential in nature. In other words, pay close attention to information disclosed early in the audit (for example, in the Board of Director’s minutes) as it may play a role in subsequent audit work. Similarly, the bank cutoff statement in the audit documentation for cash and invoices used for valuing inventory may be useful later in the search for unrecorded liabilities and the bank confirmation contains information about long-term liabilities. Overall, we strongly believe that this case will help you learn by actually completing tasks that would be completed by an auditor. For example, among other skills, an auditor must learn to identify and gather appropriate evidence, create audit documentation and produce an audit trail. Apollo Shoes is the first step in learning these skills. Page 3 Finally, while it is difficult for us to believe that not everyone enjoys auditing as much as we do, we have tried to make the case both interesting and even enjoyable (at times). In fact, you can think of the project as a puzzle, in which you have to fill in all the pieces. Alternatively, you could look at the project as a murder mystery that needs a solution. In either case, have fun! Table of Contents Introduction ................................................................................................................................................ 3 Table of Contents ....................................................................................................................................... 4 Planning ..................................................................................................................................................... 5 Internal Control Evaluation ..................................................................................................................... 57 Page 4 Page 5 Date: 21 OCT 20x7 00:42:35 +0000 From: "Darlene Wardlaw" Subject: Upcoming Apollo Shoes Engagement Attachment: Well, first let me congratulate you on your recent promotion. Although we have not worked on an engagement together before, I have heard many good things about you. I look forward to working with you on the new Apollo Shoes engagement. I understand that this is your first engagement to work as an in-charge. Arnold Anderson (aka “Uncle Arnie”) will be the engagement partner; he is pretty sharp so you’ll have to stay on your toes. As engagement manager, I’ll try to help out as much as I can. Understand, however, that I am managing four other busy season engagements, so my interaction time with you will be limited. For now, I want you to familiarize yourself with Apollo Shoes and help me out by doing the following: SEC Filing: I have asked Larry Lancaster, President and chairman of the Apollo Shoes board of directors, to send you a copy of last year’s (20x6) 10-K filing with the SEC. Review the information when you receive it, as it is one of the most important sources of information about a company being audited. 2. Audit Committee Meeting: I have attached the minutes of an audit committee meeting that occurred last week. Please review the minutes of the meeting and draft an appropriate engagement letter (label it GA-1, for General and Administrative, page 1) addressed to Mr. Lancaster. (Since this is our first year on the engagement, you might want to check one of your old auditing textbooks for an example.) I’ll review the letter before getting Arnold to sign it. 3. Audit Team: Based upon the information that you glean from 1 and 2 above, do you see any need for special business knowledge in regard to the basic type of business and products Apollo manages? Do you see any need for special audit or accounting expertise for any of the work that we have agreed to perform? In other words, since you’ll be in the trenches, what kind of expertise do you want on your audit team? Just write a brief (one-page) audit staffing memo (GA-2) telling me what expertise (e.g., tax specialist, IT specialist, etc.) you need to complete the audit and I’ll see if I can get them assigned to the audit team. 4. Scheduling: We are going to have to work around your other engagements, but we have you tentatively scheduled for one week in October (next week) for bringing you up to speed on Apollo and its industry, and five straight weeks beginning the last week in December for engagement planning, internal control evaluation, and substantive testing. 1. Finally, since most of our interaction will be by e-mail, please forgive me if I give you too much detail. Since we haven’t worked together before, I’d rather give you too much than too little until we get used to working together. DW Page 6 Minutes of the Audit Committee, Apollo Shoes October 17, 20x7 Present at Meeting: Arnold Anderson, CPA (partner in charge of the audit); Darlene Wardlaw, CPA (engagement manager); Eric Unum (Apollo’s vice president of finance); Mary Costain (Apollo’s treasurer); Samuel Carboy (Apollo’s controller); and Karina Ramirez (Apollo’s director of internal audit). The three members of the audit committee of the board and the corporate secretary also were present, but they did not enter into the conversation. Mr. Unum (VP finance): Well, I want to welcome the auditing firm of Anderson, Olds, and Watershed, CPAs to what we call the “Apollo Shoes Experience.” After our old auditors, Smith & Smith, CPAs, unexpectedly withdrew from the engagement, we were very happy to have a firm of your quality to come aboard. Mr. Anderson (partner on the audit): Well, we are always looking for high quality clients. By the way, why did your previous auditors resign? Mr. Unum (VP finance): I’d rather not talk about it. Arnold, will Darlene be in charge? Mr. Anderson (partner on the audit): Yes, and she will be assisted by several of our best staff, including an income tax specialist and an information technology auditor. We need to keep up to date on your computer information systems. Back to your previous auditors, with your permission, we would like to contact them. Mr. Unum (VP finance): Well, we’d rather you didn’t. There may be some litigation since they withdrew from the engagement with so little notice. Is it necessary for you to speak with them to accept the engagement? Mr. Anderson (partner on the audit): No, not really, but it does raise some concerns for our firm. Ms. Costain (treasurer): In the past, we have never had any unpleasant discoveries of embezzlement or theft, but we always want to be vigilant. Will you plan enough in-depth auditing to give us assurances about errors and frauds in the accounts? Ms. Wardlaw (manager on the audit): We will follow audit standards and base our audit work on samples of transactions. We plan the work to look for major errors and frauds in the accounts, but cleverly hidden schemes might not be discovered. Ms. Ramirez (internal auditor): Darlene, I agree, it’s hard to uncover clever schemes. While I am new to Apollo, none of the projects that I have undertaken this year shows anything amiss, other than normal human error types of mistakes. Ms. Costain (treasurer): This year, we want to add some work to the audit. I am short on staff time and need to have you prepare the state franchise tax return as well as the federal tax returns. Ms. Wardlaw (manager on the audit): Our tax staff person can do the state and federal returns, and I will have them reviewed by Maria Olds, our tax partner. In order to perform the tax work, Sarbanes-Oxley requires that we get prior approval from the audit committee to perform both the tax work as well as the audit. Mr. Anderson (partner on the audit): I assume you also want us to review the 10-K filing material? Mr. Unum (VP finance): Yes. Will you need any staff help from us? Ms. Ramirez (internal auditor): Last year, Apollo was able to save on audit fees when my staff prepared a stack of schedules and analyses that our previous auditors needed. Ms. Wardlaw (manager on the audit): Yes, Karina, I will give you a list of schedules for various accounts. I will appreciate your having them ready when we start fieldwork near the beginning of January. Mr. Carboy (controller): Speaking of being ready, we will be able to give you a trial balance the day after December 31, on New Year’s Day!. Mr. Unum (VP finance): How much is this going to cost us? Mr. Anderson (partner on the audit): It is difficult to give you a fixed fee deal, but my estimate, considering the additional work, is $750,000. Darlene will let you know immediately if problems arise to cause the work to be more extensive. Mr. Unum (VP finance): Thank you. This has been a productive meeting of the minds. We look forward to your getting started next month. Meeting ended 5:30 P.M. Secretary Page 7 /s/ Jeff Chesnut, Date: 22 OCT 20x7 4:43:17 +0000 From: "Larry Lancaster" Subject: Attached 10-K Filing Attachments: , , I am sorry that you were unable to attend the audit meeting last week, but Darlene Wardlaw said that you were busy with another client. She asked that I forward a copy of our 10-K directly to you. I’ve attached one that we sent out to all shareholders with the Letter to Shareholders attached. I’ve attached a copy of Apollo’s organizational table. Please let me know what my staff or I can do to help the audit go smoothly for you. I will have Karina Ramirez, our Director of Internal Audit, contact you to provide you with any other information that you need. Larry P.S. Do you play golf? This Apollo message (including any attachments) contains confidential information intended for a specific individual and purpose, and is protected by law. If you are not the intended recipient, you should delete this message and are hereby notified that any disclosure, copying, or distribution of this message, or the taking of any action based on it, is strictly prohibited. Page 8 Letter to Fellow Shareholders Dear Fellow Shareholders, You may have noticed our competitor's focus on earth-bound activities and athletes. Our focus is in exactly the opposite direction. In actuality, the technological superiority of our products is at the point where our sales are limited only by the technological inferiority of other scientific fields (specifically, current transportation means). As space exploration continues, we intend to be among the first to market our products in new worlds. It is there that our technological advances in light and sound can combine with our rugged footwear to propel all galactic sports participants to their fullest potential. Back here on earth, the past year has been one of the most dynamic and exciting years since I began my tenure at Apollo Shoes. From the beginning, Apollo Shoes, Inc. has adapted itself to meet the needs of all its galactic customers and to take advantage of all opportunities supplied by exploration of new frontiers. After a record year when most companies may have wanted to relax and play it safe, we have decided to use this excitement to reach out further in our continuing mission: to make a difference in this galaxy. Our product lines, led by the flagship products SPOTLIGHT (for athletes who like to compete at night) and SIREN (designed specifically for police officers working the overnight shifts in our nation's most dangerous cities) have met widespread acceptance. We have signed with some of this world's premier athletes as spokespersons for our products, including a recent winner of the grueling Alaska Iditarod who used his SPOTLIGHTs to guide his dogs to a late night finish line. We are currently negotiating with a soccer league to exclusively use our SIRENs; the shoe's flashing lights are designed to go off after every team goal! Our strategic management plans have allowed us to maintain a positive trend in income over the past several years, and this was no easy task, given the state of the galactic economy. Our net income for the year has been the best since we began operations four years ago. Next year is already on track to be even better! The strength of our results for the past year should not be confused with the truth of the times. This was a uniformly difficult year for all businesses. Due to the conflicts in foreign countries, and uncertainty with the Federal Reserve's adjustments of interest rates, consumer confidence specifically and the overall economy more generally, has been negatively affected; therefore, fewer Earth consumers are buying our state-of-the-art athletic equipment. All of our operating divisions were severely tested. I am proud of their responses. Although sales were not as strong as we had anticipated, our marketing plans will allow us to bounce back next year. Indeed, with the advent of significant new breakthrough technology by Apollo Shoes, Inc.'s research and development team, Apollo Shoes, Inc. now has the possibility to take a leadership role in the galactic athletic footwear market. Apollo Shoes, Inc. has always been known for its leadership position in electronic shoe technology, but we are now committed to expanding our marketing focus. With new applied technologies, Apollo Shoes, Inc. can maintain its tradition of high tech electronic performance and style. We continue to work on and improve the SPEAKERSHOE, an athletic shoe with an amplified Page 9 loudspeaker, originally designed for the international recording group "Mythic Meathook." We are hard at work on new ideas, such as the PHONESHOE, the sneaker with a cellular phone for those executives who like to simultaneously combine exercise with work. We anticipate that the PHONESHOE will capture a significant piece of this quickly expanding market. At Apollo Shoes, Inc., we like to briefly acknowledge prior achievements and then proceed to new challenges. This year was great only because it provided us with the resources to expand our operations and help enable our further technological progress. As we move forward to 20x7 and beyond, we recognize that we need to provide "more, faster, and better" to our markets. It is critical to continue this tradition because production, speed, and quality are critical elements for future success. We look forward to the challenge. Larry Lancaster Chairman, President and CEO Page 10 -------------------------------SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 -----------------------FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 20x6 COMMISSION FILE NUMBER 1-9Z40 APOLLO SHOES INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) MAINE X8-061325 (State or other jurisdiction of incorporation or organization) (IRS Employer Identification No.) SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: TITLE OF EACH CLASS ------------ NAME OF EACH EXCHANGE ON WHICH REGISTERED ------------ Common Stock, Par Value, $1.00 per share STUDS SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: NONE Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] As of March 7, 20x7, the aggregate market value of the registrant's voting stock held by non-affiliates of the registrant was approximately $24,315,000. As of March 7, 20x7, 8,105,000 shares of the registrant's Common Stock were issued and outstanding. DOCUMENTS INCORPORATED BY REFERENCE Definitive Proxy Statement dated December 12, 20x6 for the Annual Meeting of Shareholders to be held on Tuesday, February 4, 20x7 at the End of the Universe Restaurant in downtown Shoetown. Page 11 APOLLO SHOES INC. ANNUAL REPORT ON FORM 10-K TABLE OF CONTENTS Item 1. Business ................................................................................................................ i Item 2. Properties ............................................................................................................. ii Item 3. Legal Proceedings............................................................................................... iii Item 4. Submission of Matters to a Vote of Security Holders. ....................................... iii Item 5. Market for Registrant's Common Equity and Related Stockholder Matters. ..... iii Item 6. Selected Financial Data ...................................................................................... iv Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations ............................................................................v Item 8. Financial Statements and Supplementary Data .................................................. vi Item 9. Changes in and Disagreements with Accountants ........................................... xix Item 10. Directors and Executive Officers of the Registrant ........................................ xix Item 11. Executive Compensation ................................................................................ xix Item 12. Security Ownership of Certain Beneficial Owners and Management. xix Item 13. Certain Relationships and Related Transactions. xix Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K................xx Page 12 This Annual Report on Form 10-K contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including statements with regard to the Company's revenues, earnings, spending, margins, cash flow, orders, inventory, products, actions, plans, strategies and objectives. Forward-looking statements include, without limitation, any statement that may predict, forecast, indicate or imply future results, performance or achievements, and may contain the words "believe," "anticipate," "expect," "estimate," "intend," "plan," "project," "will be," "will continue," "will result," "could," "may," "might," or any variations of such words or other words with similar meanings. Any such statements are subject to risks and uncertainties that could cause the Company's actual results to differ materially from those discussed in such forward-looking statements. Prospective information is based on management's then current expectations or forecasts. Such information is subject to the risk that such expectations or forecasts, or the assumptions underlying such expectations or forecasts, become inaccurate. ITEM 1. BUSINESS. Apollo Shoes, Inc. (the “Company”) is a planetary distributor specializing in technologically superior athletic podiatric products. The Company’s brands-- SIREN, SPOTLIGHT, and SPEAKERSHOE-- are used extensively in many athletic competitions, such as the Switzerland Watersports Games in Zurich. The Company is excited about this annual event that exhibits to the entire world the skills and spirit of outstanding Swiss aquatic athletes. The Company’s products are shipped to large and small retail outlets in a six-state area. The Company stocks a wide range of shoe products and has a large base of retail store customers. Apollo operates from a large office, operations, and warehouse facility in the Shoetown, Maine area. Apollo Shoes, incorporated in the state of Delaware, is a public corporation. Its stock is traded in the over-the-counter market. No one presently owns more than 4 percent of the outstanding common stock. The company is subject to the reporting requirements of the Securities and Exchange Act of 1934. Organization and Personnel Apollo Shoes is a medium-sized corporation. It has over 100 employees organized in five departments headed by vice presidents. Marketing The marketing department handles advertising and direct contact with customers. The marketing department vice president supervises the sales staff, the advertising staff, and the customer relations staff. i Page 13 Finance The finance department has two subordinate offices—the treasurer and the controller. The treasurer supervises the cashiers and the cash management professionals. The controller’s office has the following departments and personnel: billing department, accounts receivable/cash receipts department, accounts payable/cash disbursements department, inventory records department, payroll department, general ledger department, and financial statement department. Information Systems A significant reorganization and enhancement of the information systems department was implemented this past year. At present, the staff consists of a Director of IS (information systems), a systems development project manager and two programmer/analysts, an operations manager (who also serves as the librarian and control clerk), and two machine operators. When the reorganized information systems department went into effect, the director was promoted to vice president. Apollo obtained a new wireless local area network (LAN) multiserver soon after and began testing the hardware and software. Since the new computer system was designed and customized to Apollo’s needs, every effort was made to keep as many as possible of the procedures and business documents used in the old system. This made the transition to the new system easy on the employees, thus reducing training and employee objections to the changes. Operations The operations department contains production planning specialists and some production control professionals, who assist the marketing department in technical matters and assist customers with product specifications. Operations supervisors supervise hourly workers who move products from receiving, inventory, and shipping to serve customer demand. The department also supervises the timekeepers, who maintain the workers’ time clocks and collect payroll time cards. The operations department contains the critical functions of purchasing, receiving, and shipping. Inventory storekeeping responsibility is also in this department, with some inventory managers. For reasons lost to history, the department also has the mailroom and the personnel department. ITEM 2. PROPERTIES. Until February of 20x6, the Company leased most of the properties that were used in its business. Its corporate headquarters relocated at that time to office facilities in Shoetown, Maine. At its corporate headquarters, the Company occupies approximately 10,000 square feet of space. A lease on an operations facility expires on June 30, 20x7. This warehouse and distribution center is located approximately one mile from the Company headquarters and contains approximately 450,000 total square feet of usable space. ii Page 14 ITEM 3. LEGAL PROCEEDINGS. On September 12, 20x6, the Company agreed to settlement of a suit brought against the Company by a competitor for patent infringement for the Company's use of the Siren. While the Company denies any wrongdoing, the Company felt that the settlement would be preferable to a long litigation process. The final settlement totaled $11,695,000 ($19,172,000, net of a tax benefit of $7,477,000). ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. No matter was submitted during 20x6 to a vote of security holders, through the solicitation of proxies or otherwise. ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. The Company's common stock is quoted on the Security Traders, Underwriters, and Dealers System (STUDS) under the symbol APLS. The following table, derived from data supplied by STUDS, sets forth the quarterly high and low sale prices during 20x6 and 20x5. 20x6 First Second Third Fourth High $14.625 $11.00 $8.25 $5.625 20x5 Low $3.375 $2.625 $3.25 $3.125 High $4.00 $4.625 $8.125 $11.50 The stock price at closing on December 31, 20x6, was $3.25 per share. As of December 31, 20x6, there were approximately 15,342 holders of record of the Company's Common Stock including those shares held in "street name." The Company believes that it has in excess of 16,000 shareholders. The Company has never paid cash dividends on its Common Stock and the Board of Directors intends to retain all of its earnings to finance the development and expansion of its business. However, there can be no assurance that the Company can successfully expand its operations, or that such expansion will prove profitable. Future dividend policy will depend upon the Company's earnings, capital requirements, financial condition, and other factors considered relevant by the Company's Board of Directors. iii Page 15 Low $3.50 $4.25 $4.00 $5.00 ITEM 6. SELECTED FINANCIAL DATA. APOLLO SHOES, INC. in thousands (except per share data) Income Statement Data Year Ended December 31 20x6 20x5 20x4 20x3 Net Sales $240,575 $236,299 $182,209 $138,920 Income Before Taxes $26,337 $54,680 $2,226 $1,757 Income Taxes $10,271 $21,634 $636 $502 Net Income $4,371 $1,745 $1,590 $1,255 Earnings Per Share $0.54 $0.22 $0.55 $0.44 Balance Sheet Data As of December 31, 20x6 20x5 20x4 20x3 Working Capital $20,482 $16,866 ($1,951) ($2,356) Total Assets $36,794 $21,304 $6,754 $6,062 $0 $0 $0 $0 $22,119 $17,748 $5,470 $3,880 Long-Term Debt Shareholders' Equity iv Page 16 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 20x6 Financial Results Net sales for the year ended December 31, 20x6 increased 2% to $240,575,000, when compared to the same period in 20x5. The sales growth was primarily due to new products introduced during the 20x6 fiscal year. The average selling price per product in the year ended December 31, 20x6 increased approximately 2% from the year ended December 31, 20x5. Gross profit for the year ended December 31, 20x6 was 41% of sales compared with 49% for the year ended December 31, 20x5. The decrease was primarily due to higher prices charged by our suppliers for raw materials. Selling, general and administrative expense for the year ended December 31, 20x6 was 30% of net sales as compared to 26% for the year ended December 31, 20x5. The increase of 16% to $71,998,000 was primarily the result of increases in staffing and increased professional expenses. The increased professional fees were primarily related to the settlement of litigation brought against us by a competitor. Rather than face a costly, lengthy litigation process, the Company decided to settle out of court. The Company vehemently denies any wrongdoing in the matter. Liquidity and Capital Resources The Company's principal source of operating funds has been from proceeds from short-term borrowing against a $50,000,000 line of credit. While the credit facility must be renewed each year, the Company foresees no problems with renewal for the foreseeable future. The Company intends to use its capital resources to expand its operations facilities and to increase research and development in order to maintain its competitive advantage in podiatric technology. There are no other significant capital requirements identified at this time. Management believes that the effect of inflation on the business of the Company for the past three years has been minimal. The Company believes that its current working capital of $20,482,000 and anticipated working capital to be generated by future operations will be sufficient to support the Company's working capital requirements for the foreseeable future. v Page 17 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA CONSOLIDATED STATEMENTS OF INCOME APOLLO SHOES, INC. in thousands (except per share data) For the year ended, December 31, 20x6 20x5 Net Sales (Note 2) Cost of Sales Gross Profit $240,575 $141,569 $99,006 $236,299 $120,880 $115,419 Selling, General and Administrative Expenses Interest Expense (Note 7) Litigation Expense (Note 10) Other Expense (Income) Earnings from Continuing Operations Before Taxes Income Tax Expense (Note 9) Earnings from Continuing Operations Discontinued Operations, Net of tax benefit Net Income $71,998 $875 ($19,172) ($204) $61,949 0 0 ($1,210) $7,165 $2,794 $4,371 $4,371 $54,680 $21,634 $33,046 ($31,301) $1,745 Earnings Per Common Share From Continuing Operations Other Net Income $0.54 ($0.00) $0.54 $4.08 ($3.86) $0.22 Weighted shares of common stock outstanding 8,105 8,105 The accompanying notes are an integral part of the consolidated financial statements. vi Page 18 CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION APOLLO SHOES, INC. in thousands As of December 31 20x6 20x5 Cash $3,245 $3,509 Accounts Receivable (Net of Allowances of $1,263 and 210, respectively) (Note 3) 15,148 2,738 Inventory (Note 4) 15,813 13,823 Prepaid Expenses 951 352 Current Assets $35,157 $20,422 Property, Plant, and Equipment (Note 5) 1,174 300 Less Accumulated Depreciation (164) (31) $1,010 $269 Investments (Note 6) 573 613 Other Assets (Note 6) 54 0 $36,794 $21,304 Accounts Payable and Accrued Expenses $4,675 $3,556 Short-Term Liabilities (Note 7) 10,000 0 $14,675 3,556 0 0 $14,675 3,556 Common Stock 8,105 8,105 Additional Paid-in Capital 7,423 7,743 Retained Earnings 6,591 1,900 $22,119 $17,748 $36,794 $21,304 Assets Total Assets Liabilities and Shareholders’ Equity Current Liabilities Long-Term Debt (Note 7) Total Liabilities Total Shareholders' Equity Total Liabilities and Shareholders' Equity The accompanying notes are an integral part of the consolidated financial statements. vii Page 19 CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY APOLLO SHOES, INC. in thousands Balance, December 31, 20x4 Shares Par Value ($1 per share) Additional Paidin Capital Retained Earnings Other Total 2,873 $2,873 $2,122 $475 $0 $5,470 Net Income Exercise of Stock Options $1,745 $1,745 232 $232 $301 $533 Other 5,000 $5,000 $5,000 $10,000 Balance, December 31, 20x5 8,105 $8,105 $7,423 Net Income Exercise of Stock Options $2,220 $0 $4,371 0 $4,371 $0 $0 Other Balance, December 31, 20x6 $0 8,105 $8,105 $7,423 $6,591 $0 The accompanying notes are an integral part of the consolidated financial statements. viii Page 20 $17,748 $22,119 CONSOLIDATED STATEMENTS OF CASH FLOWS APOLLO SHOES, INC. in thousands For the year ended December 31, 20x6 20x5 Cash Flows from Operating Activities Net Income $4,371 $1,745 $133 $26 Accounts Receivable ($12,410) ($2,073) Inventory ($1,990) ($11,861) ($599) ($123) $1,119 $5,504 Total Adjustments ($13,747) ($8,527) Net Cash Provided by Operating Activities ($9,376) ($6,782) ($834) ($255) Adjustments to Reconcile Net Income to Net Cash Provided Depreciation and Amortization Changes in Operating Assets and Liabilities Decrease (Increase) in Current Assets Prepaid Expenses Increase (Decrease) in Current Liabilities Accounts Payable and Accrued Expenses Cash Flows from Investing Activities Capital Expenditures Purchase of Other Assets ($54) Net Cash Provided by Investing Activities ($888) ($255) Cash Flows from Financing Activities Proceeds from the Issuance of Debt $10,000 Proceeds from the Issuance of Common Stock $10,533 Net Cash Provided by Financing Activities $10,000 $10,533 Net Increase (Decrease) in Cash ($264) $3,496 Cash at Beginning of Year $3,509 $13 Cash at End of Year $3,245 $3,509 The accompanying notes are an integral part of the consolidated financial statements. ix Page 21 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS APOLLO SHOES, INC. (all amounts are thousands, except per share) 1. Summary of Significant Accounting Policies Business activity The Company develops and markets technologically superior podiatric athletic products under various trademarks, including SIREN, SPOTLIGHT, and SPEAKERSHOE. Marketable Securities Investments are valued using the market value method for investments of less than 20%, and by the equity method for investments greater than 20% but less than 50%. Cash equivalents Cash equivalents are defined as highly liquid investments with original maturities of three months or less at date of purchase. Inventory valuation Inventories are stated at the lower of First-in, First-out (FIFO) or market. Property and equipment and depreciation Property and equipment are stated at cost. The Company uses the straight-line method of depreciation for all additions to property, plant and equipment. Intangibles Intangibles are amortized on the straight-line method over periods benefited. Net Sales Sales for 20x6 and 20x5 are presented net of sales returns and allowances of $4,500 and $900, respectively, and net of warranty expenses of $1,100 and $900, respectively. Income taxes Deferred income taxes are provided for the tax effects of timing differences in reporting the results of operations for financial statements and income tax purposes, and relate principally to valuation reserves for accounts receivable and inventory, accelerated depreciation and unearned compensation. Net income per common share Net income per common share is computed based on the weighted average number of common and common equivalent shares outstanding for the period. Reclassification Certain prior year amounts have been reclassified to conform to the 20x6 presentation. 2. Significant Customers Approximately 15%, and 11% of sales are to one customer for years ended December 31, 20x6 and 20x5, respectively. x Page 22 3. Accounts Receivable Accounts Receivable consists of the following at December 31: in thousands 20x6 Trade Receivables Employee and Officer Receivables $16,411 0 Less Allowance for Doubtful Accounts 16,411 (1,263) Net Accounts Receivable $ 15,148 Amount charged to bad debt expense for the year ended December 31, 20x6 was $1,622. Write-offs for the year were approximately the same. 4. Inventories Inventories consist of the following at December 31: in thousands 20x6 Siren Speaker Spotlight $3,098 9,571 6,156 Less Reserve for Inventory Obsolescence 18,825 (3,012) Ending Inventory $15,813 5. Property and equipment Property is stated at cost net of accumulated depreciation. Property and Equipment at December 31 was as follows: in thousands 20x6 Land Buildings and Land Improvements Machinery, Equipment and Office Furniture $117 624 433 Total Land, plant and equipment Less Accumulated depreciation 1,174 (164) Net Land, Plant and Equipment $1,010 xi Page 23 6. Investments and Other Assets In order to receive a higher rate of return on its excess liquid assets, the Company invested approximately $600 to purchase a 35% share (Class A Common Stock) in the SHOCK-PROOF SOCKS Company in 20x5. This investment is valued in the financial statements using the Equity method. SHOCK-PROOF SOCKS did not report net income and did not pay any dividends in 20x5 and 20x6. In addition, on December 31, 20x6, the Company incurred approximately $54 in legal fees to register the patent for the PHONESHOE. 7. Debt At December 31, 20x6, the Company had $10,000 outstanding in short-term borrowings under a $50,000 secured revolving credit line with a local financial institution. The line of credit is secured by the Company’s inventory. The interest rate charged on this agreement is the Prime Rate plus 3%. This credit line is evaluated annually on June 30 by the lending institution. Annual maturities of debt obligations are as follows: 20x7 $10,000 8. Commitments Annual obligations under non-cancelable operating leases are as follows: 20x7 Thereafter $1,200 0 Rent expense charged to operations for the years ended December 31, 20x6 and 20x5 was $2,600 and $3,700 million, respectively. xii Page 24 9. Income taxes The provision (benefit) for income taxes consists of the following for the years ended December 31: Current: Federal State Deferred: Federal State 20x6 20x5 $ 2,025 365 $ 2,390 $ 873 154 $ 1,027 $ 340 64 $ 404 $ (42) (7) $ (49) $ 2,794 $ 978 Deferred income taxes are provided for the tax effects of timing differences in reporting the results of operations for financial statements and income tax purposes, and relate principally to valuation reserves for accounts receivable and inventory, accelerated depreciation and unearned compensation. A reconciliation of the statutory federal income tax provision to the actual provision follows for the years ended December 31: Federal Statutory Rate State taxes, less federal benefit Research and experimentation credit Other Effective Tax Rate 20x6 20x5 34.0% 6.0% (2.0%) 1.0% 39.0% 34.0% 6.0% (1.4%) 1.0% 39.6% 10. Litigation On September 12, 20x6, the Company agreed to settlement of a suit brought against the Company by a competitor for patent infringement for the Company's use of the Siren. While the Company denies any wrongdoing, the Company felt that the settlement would be preferable to a long litigation process. The final settlement totaled $11,695 ($19,172 net of a tax benefit of $7,477). 11. Related-party transactions On February 1, 20x6, the Company purchased its operating facility and equipment from a company controlled by two previous directors and shareholders of the Company for $624. Currently, the Company leases a second facility and equipment from the same company for approximately $200 per month. The Company’s lease ends in June 20x7 at which time all operations will be moved to the central headquarters building. xiii Page 25 12. Employee benefit plans The Company sponsors a defined-contribution retirement plan covering substantially all of its earth employees. Contributions are determined at the discretion of the Board of Directors. Aggregate contributions made by the Company to the plans and charged to operations in 20x6 and 20x5 were $3,000 and $3,000, respectively. 13. Concentrations of credit risk Financial instruments which potentially subject the Company to credit risk consist principally of trade receivables and interest-bearing investments. The Company sells a significant amount of its product to one retail distributor with sales operations located throughout North America, Europe and Asia Pacific. The Company is currently negotiating to increase its sales to that company, as well as enter into long-term relationships with two other large retail distributors. The Company performs on-going credit evaluations of all of its customers and generally does not require collateral. The Company maintains adequate reserves for potential losses and such losses, which have been minimal, have been included in management's estimates. The Company places substantially all its interest-bearing investments with several major financial institutions. Corporate policy limits the amount of credit exposure to any one financial institution. xiv Page 26 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Board of Directors and Shareholders of APOLLO SHOES, INC. We have audited the accompanying consolidated statements of financial condition of APOLLO SHOES, INC. as of December 31, 20x6 and 20x5 and the related consolidated statements of income, shareholders’ equity, and cash flows for each of the two years in the period ended December 31, 20x6. We have also audited management’s assessment, included in the accompanying Management’s Report on Internal Control Over Financial Reporting, that APOLLO SHOES, INC. maintained effective internal control over financial reporting as of December 31, 20x6, based on criteria established in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO criteria). APOLLO SHOES’ management is responsible for these financial statements, for maintaining effective internal control over financial reporting, and for its assessment of internal control over financial reporting. Our responsibility is to express an opinion on these financial statements, an opinion on management’s assessment, and an opinion on the effectiveness of the company’s internal control over financial reporting based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audit of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions. A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. xv Page 27 In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of APOLLO SHOES, INC. as of December 31, 20x6 and 20x5 and the results of its operations and cash flows for each of the two years in the period ended December 31, 20x6 in conformity with U.S. generally accepted accounting principles. Also in our opinion, APOLLO SHOES, INC. maintained, in all material respects, effective internal control over financial reporting as of December 31, 20x6, based on the COSO criteria. Smith & Smith, CPA's Shoetown, Maine January 24, 20x7 xvi Page 28 CORPORATE INFORMATION Auditors Smith & Smith, CPA's 31st Financial Avenue Shoetown, ME 00002 Transfer Agent and Registrar The Twenty-First National Bank of Maine is the Transfer Agent and Registrar for the Company's common stock and maintains shareholder accounting records. The Transfer Agent should be contacted on questions of changes in address, name or ownership; lost certificates and consolidation of accounts. The Twenty-First National Bank of Maine Shareholder Correspondence Post Office Box 1 Shoetown, ME 00002 Form 10-K For a copy of the Form 10-K Annual Report, filed with the Securities and Exchange Commission write to: Office of Investor Relations Apollo Shoes Inc. 100 Shoe Plaza Shoetown, ME 00001 Annual Meeting The Annual Meeting of Shareholders was held at 10:00 a.m., local time, on Tuesday, February 19, 20x6 at the End of the Universe Restaurant in downtown Shoetown. Shareholders of record on February 5, 20x6 were entitled to vote at the meeting. The PHONESHOE, SIREN, SPEAKERSHOE, and the SPOTLIGHT Designs are registered trademarks of Apollo Shoes, Inc. xvi Page 29 BOARD OF DIRECTORS Larry Lancaster Chairman, President and CEO APOLLO SHOES, INC. Eric. P. Unum Vice-President - Finance *Fritz Brenner (Audit Committee) President The Widget Corporation *Ivan Gorr President Far More Drugs, Inc. *Harry Baker Executive Vice President and Treasurer Iguana Growers of America Inc. *Theodore Horstmann (Audit Committee) Minister of Commerce Anglonesia *Dr. Josephine Mandeville, CPA (Audit Committee Chair) Professor of Accountancy and Typing Graduate School of Business and Clerical Skills * External Directors xvii Page 30 CORPORATE OFFICERS Larry Lancaster Chairman, President and CEO Joe Bootwell Executive Senior Vice President and CFO Fred Durkin Vice-President - Marketing Daisy Gardner Vice-President - Operations Eric. P. Unum Vice-President - Finance Sue D. Fultz Vice-President - Legal Affairs Mary Costain Treasurer Jeff Chesnut Secretary xviii Page 31 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS Smith and Smith, CPAs, withdrew as the Company’s auditors after completing the 20x6 audit. The auditors expressed concerns about “mutually incongruent goals.” The Company is considering legal action against the firm. ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The president, Larry Lancaster, is both chairman of the board of directors and President and chief executive officer (CEO). Eric Unum (Vice-President – Finance) is also a member of the board, along with five outside (independent) directors who never worked for the Apollo organization. Three outside board members constitute the audit committee of the board. ITEM 11. EXECUTIVE COMPENSATION (Approximate amounts expressed in thousands) Larry Lancaster, Chairman, President and CEO Sue D. Fultz, Vice-President - Legal Affairs Joe Bootwell, Executive Senior Vice President and CFO Fred Durkin, Vice-President – Marketing Eric. P. Unum, Vice-President – Finance Daisy Gardner, Vice-President – Operations $2,500 1,500 1,200 1,000 590 410 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. Currently, no management personnel hold stock ownership in the Company. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. On February 1, 20x6, the Company purchased its operating facility and equipment from a company controlled by two previous directors and shareholders of the Company for $623. Currently, the Company leases a second facility and equipment from the same company for approximately $200 per month. The Company’s lease ends in June 20x7 at which time all operations will be moved to the central headquarters building. The two previous directors are no longer associated with Apollo Shoes. xvix Page 32 ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K QUARTERLY RESULTS OF OPERATIONS (Unaudited) 20x6 March 31 June 30 September 30 December 31 Total Net Sales $58,236 $59,759 $60,239 $62,341 $240,575 Gross Profit $24,372 $24,996 $24,356 $25,282 $99,006 S,G, & A Expenses $16,478 $17,695 $17,347 $20,478 $71,998 Net Income $4,815 $4,454 ($7,785) $2,887 $4,371 Earnings Per Share $0.59 $0.55 ($0.96) $0.36 $0.54 The Company filed one 8-K dealing with the withdrawal of its auditor on January 30, 20x7. It is incorporated in this document by reference. xx Page 33 CERTIFICATIONS We, Larry Lancaster and Joe Bootwell, certify that: 1. We have reviewed this annual report on Form 10-K of Apollo Shoes, Inc.; 2. Based on our knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on our knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. We are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and c) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and 5. We have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting. Date: February 1, 20x7 Larry Lancaster Joe Bootwell Larry Lancaster Chairman of the Board of Directors, President and CEO Joe Bootwell Executive Senior Vice-President and CFO xxi Page 34 Apollo Shoes Inc. Organizational Chart As of 9/30/20x7 Audit Committee Board of Directors Larry Lancaster Chairman, President, & CEO Karina Ramirez Internal Audit Joe Bootwell Executive Sr. VP & CFO Sue Fultz Legal Affairs Daisy Gardner VPOperations Mary Costain Treasurer Page 35 Ernst Hathaway VP – IT Systems Fred Durkin VPMarketing Samuel Carboy Controller Susan Richards Credit Manager Eric Unum VP- Finance Date:24 OCT 20x7 07:14:35 +0000 From: "Karina Ramirez" Subject: Upcoming Apollo Shoes Engagement Attachment: Per your request, I have attached a copy of our accounting and procedures manual. We look forward to your upcoming fieldwork. Please let us know if there is anything else we can provide you to make your job easier. Karina Karina Ramirez Director, Internal Audit Apollo Shoes, Inc. This Apollo message (including any attachments) contains confidential information intended for a specific individual and purpose, and is protected by law. If you are not the intended recipient, you should delete this message and are hereby notified that any disclosure, copying, or distribution of this message, or the taking of any action based on it, is strictly prohibited. Page 36 Apollo Shoes Accounting and Control Procedure Manual Sales and Accounts Receivable Daily batches of sales invoices shall be analyzed by sales totals in the athletic shoes product lines. Sales credits are coded to three product line sales revenue accounts. Charges to customer accounts should be dated the date of shipment. When sales invoices are recorded, the numerical sequence shall be verified by an accounts receivable clerk, and missing invoices must be located and explained. The items shipped shall be compared to the items billed for proper quantity, price, and other sales order terms. The general ledger supervisor shall compare the copy 2 daily batch total with the copy 4 individual accounts posting total sent from the accounts receivable department. Discrepancies shall be investigated to ensure that the customer subsidiary accounts are posted for the same total amount posted to the control account. At the end of each month, the total of the trial balance of customer account balances (prepared by the accounts receivable department) shall be reconciled to the general ledger control account by the general ledger supervisor. Sales invoice batches shall be dated with the date of shipment, and totals of batches (including product line sales for athletic shoes) shall be accumulated each month and recorded in the accounts receivable control and sales revenue accounts. The general ledger supervisor shall approve all monthly summary entries before they are posted to the general ledger. The treasurer shall approve all cash refunds and allowance credit memos for sales returns, after initiation by customer relations personnel. The marketing vice president shall periodically analyze sales activity by product lines in comparison to budgets and forecasts and prior years’ activity. Cash Management The monthly bank statements shall be mailed to the cash management department in the treasurer’s office. Personnel use the duplicate deposit slips retained when bank deposits were made, the cash receipts journal listing, and the cash disbursements listing to reconcile the general bank accounts. The payroll bank account is also reconciled, utilizing the payroll register retained by the treasurer’s office. Cash management personnel shall compare cash receipts journal daily deposit records with the bank deposits and duplicate deposit slips when the general bank account reconciliation is performed. At the discretion of the director of internal audit, internal auditors will occasionally make unannounced reviews of the bank account reconciliations. They may also prepare reconciliations without prior notice given to cash management personnel. Cash Receipts and Accounts Receivable Processing All cash receipts from customers related to sales shall be credited to accounts receivable individual and control accounts. The accounts receivable department shall post credits to individual customer accounts, dating the entries with the date of the remittance list. Statements of accounts receivable balances shall be mailed to customers each month by the accounts receivable accounting department. Customers’ reports of disputes or differences shall be reconciled by customer relations personnel in the marketing department. Cash Disbursements All disbursements shall be made by check, signed by the treasurer, including reimbursements of the petty cash funds. Checks shall be made payable to a named payee and not to “cash.” Blank check stock shall be kept under lock and key in the accounts payable accounting department. Under no circumstances may blank checks be signed by the treasurer. Voided and spoiled checks shall be transmitted to the treasurer for inspection and later filed in numerical order with paid checks. Page 37 Cash disbursement journal entries shall be dated with the date of the check. The related monthly general ledger summary entries shall carry the date of the month summarized. Inventory Perpetual Records Inventory additions shall be dated with the date of the receiving report. Inventory issues shall be dated with the date of shipment. Fixed Asset Records and Transactions When acquisition costs exceed the capital budget authorization by 10 percent or more, the additional expenditure shall be approved by the treasurer and board of directors, in advance if possible. Zero salvage values shall be used in all depreciation calculations. Useful life and depreciation method assignments for financial statement calculations shall follow these general guidelines: Buildings Equipment Straight-line Straight-line 15 years 3-6 years All repair, maintenance, and capital additions less than $5,000 shall be expensed. Amounts over $5,000 should always be capitalized unless unusual conditions point to proper expensing. Page 38 Note from the authors: Use the following calendar when performing audit procedures that require exact knowledge of when during the week the fiscal year-ends. Having December 31 as a business day adds clarity to information in the case and enriches opportunities to develop auditing skills. Calendar December 20x7 January 20x8 Sun Mon Tues Weds Thu Fri Sat 7 14 21 28 1 8 15 22 29 2 9 16 23 30 3 10 17 24 31 4 11 18 25 5 12 19 26 6 13 20 27 Page 39 Sun Mon Tues Weds Thu Fri Sat 4 11 18 25 5 12 19 26 6 13 20 27 7 14 21 28 1 8 15 22 29 2 9 16 23 30 3 10 17 24 31 Date: 24 OCT 20x7 06:42:35 +0000 From: "Darlene Wardlaw" Subject: Upcoming Apollo Shoes Engagement Apollo denied our request to speak with the predecessor auditors because of “litigation concerns.” I’ve looked at the 8-K filed by Apollo and the auditors referenced in the 10-K. I didn’t attach a copy because it didn’t say much, just something about “incongruent goals,” blah, blah, blah. Against my advice, Arnold decided to accept the engagement anyway. My advice to you for this engagement is to keep your eyes open! The good news is that the predecessor auditors, Smith and Smith, CPAs, have a good reputation, so you can use last year’s audited numbers from the 10-K. The bad news is that we don’t have access to prior year audit documentation. You’ll need to come up with programs for the substantive audit procedures for each of the functional balance sheet areas (indicated with an asterisk (*) below). You can perhaps get them from an old auditing textbook. My preference is to place the audit programs at the beginning of each section. Label the sections as follows: GA series (GA-1, GA-2, etc.) ICC series ICD series ICP series A series B series* C series* D series* E series* F series* I series* L series* N series* Q series* R series* X series* General and Administrative (Planning) Revenue/Collection Cycle Internal Control Evaluation Purchasing/Disbursements Internal Control Evaluation Payroll Internal Control Evaluation Trial Balance/Financial Statements/Adjustments/Footnotes Cash Substantive Audit Documentation Accounts Receivable Substantive Audit Documentation Inventory Substantive Audit Documentation Prepaids Substantive Audit Documentation Property, Plant and Equipment Substantive Audit Documentation Other Assets Substantive Audit Documentation Current Liabilities Substantive Audit Documentation Notes Payable Substantive Audit Documentation Stockholders’ Equity Substantive Audit Documentation Revenue Substantive Audit Documentation Expenses Substantive Audit Documentation Because we are so understaffed during busy season, you are going to have to perform the bulk of the audit yourself. I was only able to get you a spring intern (Timothy Crumpler) from Caledonia State University (heck, I didn’t even know they had an accounting program!). He is the only unassigned person in the office right now. Because I am unsure of his training, I suggest that you only use him for “grunt work.” Also, I checked into the background and experience of Karina Ramirez, Apollo’s Internal Auditor. Apparently, she was an auditor with a Big 4 firm for 8 years before coming to Apollo and has served on the state CPA society’s ethics committee. I also went through her audit documentation; they appear to be top-notch. Lastly, she reports directly to the Audit Committee, so we can rely on her to be objective. I think we can rely on her work during our engagement. DW P.S. Thanks for drafting the engagement letter. I only had to make a couple of changes before Arnold signed it. Page 40 Date: 13 JAN 20x8 12:45:39 +0000 From: "Darlene Wardlaw" Subject: Apollo Shoes minutes Hope the inventory observation went well. I saw Timothy in the office working on some inventory stuff. He said that he would e-mail it to you when it was completed. Sorry I haven’t made it out to Apollo yet. I did meet with Jeff Chestnut (Apollo’s corporate secretary) who allowed me to copy the minutes of the Board of Directors. The board of directors met twice during the period under audit, January 1 through December 31, and once more last week. I have attached copies. Study these minutes – they provide a history of every important event and transaction that Apollo has undergone during the past year. Make notes in the form below for the audit documentation of matters relevant for the audit of the 20x7 financial statements. Prepare audit documentation (GA-3) for my review with proper headings and these two columns: Information Relevant to 20x7 Audit Audit Action Recommended You may want to stick a copy of the minutes in the audit documentation (GA-3-1, GA-3-2, etc.) behind your memo when you are done with them. DW Page 41 MEETING HELD JANUARY 6, 20X7 Larry Lancaster, chairman of the board, presided over the first meeting of the year, beginning at 3 P.M. The meeting was conducted in the boardroom of Apollo’s new global headquarters. All members were present: Larry Lancaster Josephine Mandeville** Ivan Gorr* Harry Baker* Fritz Brenner** Theodore Horstmann** Eric Unum * Outside director ** Outside director and member of the audit committee. The minutes of the December 16, 20x6 meeting were reviewed and approved. Reporting on the annual meeting of shareholders, Mr. Lancaster welcomed the new or reelected board members: Josephine C. Mandeville, Professor of Accountancy and Typing at the Graduate School of Business and Clerical Skills; Ivan W. Gorr, President and CEO of Far More Drugs; Harry R. Baker, Executive Vice President and Treasurer of the Iguana Growers of America Inc., Theodore Horstmann, Minister of Commerce of Anglonesia; and Fritz Brenner, President of The Widget Corporation Mr. Unum presented the forecast for the year, attached. Sales are expected to increase 10 percent, with costs of goods sold and general expenses bearing about the same relationships as experienced last year. Mr. Lancaster stated, “Well, they better increase by that much, or heads will roll!” Mr. Lancaster’s plan to move production to within the company was discussed. Over Mr. Horstmann’s vehement disagreement, the board authorized purchase of equipment totaling $1.3 million to facilitate internal production of Apollo products by a vote of 6-1. Mr. Unum reported that the Company’s short-term line of credit was refinanced as of February 2, 20x7 and rolled into a note payable with the Twenty-First National Bank of Maine, due January 1, 20x8. Mr. Brenner moved a declaration of dividends for the year ended the previous December 31. The motion died for lack of a second. Mr. Unum moved, and Mr. Lancaster seconded, officers’ salary increases of 10 percent for 20x7 as well as stipends for outside Board Members of $90,000 each. The board approved these salaries and stipends by a 61 vote: 20x7 Salary President and CEO, Larry Lancaster $2,750,000 Exec Sr. VP and CFO, Joe Bootwell 1,320,000 VP Marketing, Fred Durkin VP Finance, Eric Unum 1,100,000 649,000 VP Legal Affairs, Sue Fultz VP Operations, Daisy Gardner 1,650,000 451,000 Internal Audit Director, Karina Ramirez Treasurer, Mary Costain 235,000 222,000 Controller, Samuel Carboy 214,000 Mr. Lancaster encouraged everyone to watch the 20x7 Super Bowl to watch for Apollo’s 15- second commercial. He noted that the cost of the commercial time rose approximately 10% from last year. The cost of production and airing the ad is now approaching $1,000,000. Meeting ended 5:30 P.M. Page 42 /s/ Jeff Chesnut, Secretary MEETING HELD JUNE 30, 20x7 Larry Lancaster, chairman of the board, presided over the second meeting of the year, beginning at 3 P.M. All members were present: Larry Lancaster Josephine Mandeville** Ivan Gorr* Harry Baker* Fritz Brenner** Theodore Horstmann** Eric Unum * Outside director ** Outside director and member of the audit committee. The minutes of the January 6 meeting were reviewed and approved. Mr. Lancaster reported on damage caused by a “Nor’easter” storm that hit Shoetown in April. Damages amounted to approximately $50,000, just under the insurance deductible. Mr. Unum reported that sales revenues are not meeting expectations, primarily because of parents’ growing disenchantment with spoiling their children; parents were no longer willing to buy $300 premium shoes for their kids as they did in previous years. Mr. Gorr concurred and mentioned something about “not sparing the rod.” In order to compensate for decreased sales, the Company has raised prices by about 10% with respect to product costs. Mr. Lancaster lamented that the quality of Apollo products was too high—the shoes were just not wearing out fast enough. Mr. Lancaster also stated that because of the strength of current product lines and as a costcutting measure, he decided to stop research and development efforts on the Phoneshoe, thereby eliminating Research and Development expense for the current year. The development lab will be modified in 20x8 to house a personal gym for corporate executives. Scientists working in the lab have been reassigned to maintenance duties elsewhere in the company. The Company has also saved postage and telephone expense through increased use of e-mail. In other business, the board authorized the write-off of one account receivable for $23,810.13 for an account that had been outstanding for over a year. Mr. Lancaster noted that he did not anticipate any other write-offs during the year, or that “heads would roll!” Mr. Unum moved that Apollo advance $1,250,000 to Mr. Lancaster’s personal secretary as a personal loan to cover personal legal expenses related to her previous employer. Mr. Unum further suggested that the promissory note plus accrued interest of 1% per year be due on June 30, in 50 years. Mr. Lancaster suggested that it be recorded in “other receivables,” rather than “employee advances” so as to not trouble shareholders with needless details. After general agreement among the board that similar options be made available to other board members in the future on an as needed basis, the advance was approved unanimously. Mr. Lancaster asked Mr. Unum to have the check drawn to him immediately at the conclusion of the board meeting; he would cash it and give it to his secretary. The board unanimously supported Ernst Hathaway’s promotion from Director of MIS to VP-Information Systems. He reported on the plans for the purchase and installation of a new information system. The board authorized up to $1.2 million for the purchase of the new computer system. Ms. Mandeville offered to consult on the purchase and installation. To fund the purchase and pay other expenses, Mr. Unum requested that the board authorize a draw of $44,403,000 on the Company’s line of credit on July 1. This proposal was unanimously approved. Meeting ended 7:30 P.M. AudComMins—0630x7.doc Page 43 /s/ Jeff Chesnut, Secretary MEETING HELD JANUARY 6, 20X8 Larry Lancaster, chairman of the board, presided over the regular meeting, beginning at 2 P.M. All members were present: Larry Lancaster Josephine Mandeville** Ivan Gorr* Harry Baker* Fritz Brenner** Theodore Horstmann** EricUnum * Outside director ** Outside director and member of the audit committee. The minutes of the June 30 meeting were reviewed and approved. The selection by the audit committee of Anderson, Olds & Watershed as auditors was ratified. The $750,000 fee was approved for the 20x7 audit. Ms. Mandeville moved, and Mr. Gorr seconded, a proposal to declare retroactively a cash dividend of $860,000 payable March 1, 20x8, to stockholders of record on December 31, 20x7. Approved by a vote of 5– 2. Ms. Fultz, VP-Legal affairs, stated that on January 5, 20x8 (yesterday), a class action suit alleging gross negligence and violation of warranty of merchantability was brought against Apollo for $12,000,000. The action stems from the use of one of the Company's products in an aquatic environment, which may have caused severe electrical shock to the wearer(s). She is working closely with Apollo’s legal counsel, Perley Stebbins, to vigorously defend Apollo’s good name. Ms.Fultz stated that the company’s current insurance does not cover these types of actions. Mr. Baker inquired as to the status of the machinery purchased in early 20x7. Mr. Lancaster replied that the machinery would be set up “soon.” Mr. Lancaster moved and Mr. Unum seconded the approval of officers’ bonuses for the year just ended December 31, 20x7. Approved by a 4–3 vote. President, Larry Lancaster VP Marketing, Fred Durkin $200,000 50,000 VP Finance, Eric Unum VP Information Systems, Ernst Hathaway 50,000 50,000 VP Legal Affairs, Sue Fultz VP Operations, Daisy Gardner 50,000 50,000 The Board approved the Company’s contribution to the Employee Benefits program. Mr. Unum stated that the contribution was increased by $300,000 for 20x7, up 10% over the past several years to appease growing employee dissatisfaction. Given the company’s plans to automate the distribution process, Mr. Unum stated that employee benefits will decrease significantly in future years. Mr. Unum noted also that the company decided not to air a Super Bowl ad this year. Meeting ended 8:30 P.M. Page 44 /s/ Jeff Chesnut, Secretary Date: 14 JAN 20x8 08:49:35 +0000 From: "Darlene Wardlaw" Subject: Apollo Shoes Trial Balances Attachments: , I got a copy of Apollo’s 20x7 year-end trial balance (attached) from Sam Carboy, Apollo’s Controller. I also got a copy of last year’s 20x6 audited pre-closing trial balance from Karina. I’ve attached copies of both to this e-mail and also posted them to the AOW intranet where you can also download them. I received it a week after he promised it to me, so apparently it wasn’t as clean a year-end close as he expected. I want you to put the numbers into three spreadsheets (one for the comparative (i.e., two-year) balance sheet (A-1), one for the comparative income statement (A-2), and one for the comparative statement of cash flows (A-3)). I know that everyone has a particular style of audit documentation formatting, but my preference is for the following columns for the income statement and balance sheet: Acct # DW Page 45 Acct Title W/P Ref Last year’s (Audited) Current Year (unaudited) Adjustments Dr. Cr. Current Year (Audited) Apollo Shoes, Inc Preclosing Trial Balance 31-Dec-x7 Account ID Account Description Debit Amt Credit Amt $2,275.23 10100 Cash on Hand 10200 Regular Checking Account 10300 Payroll Checking Account 10400 Savings Account $3,645,599.15 11000 Accounts Receivable $51,515,259.98 11400 Other Receivables $1,250,000.00 11500 Allowance for Doubtful Accounts 12000 Inventory 12300 Reserve for Inventory Obsolescence 14100 Prepaid Insurance 14200 Prepaid Rent 14300 Office Supplies 14400 Notes Receivable-Current 14700 Other Current Assets 15000 Land 15100 Buildings and Land Improvements 15200 Machinery, Equipment, Office Furniture 17000 Accum. Depreciation 19000 Investments 19900 Other Noncurrent Assets 20000 Accounts Payable 23100 Sales Tax Payable 23200 Wages Payable 23300 FICA Employee Withholding $8,439.65 23350 Medicare Withholding $11,414.99 23400 Federal Payroll Taxes Payable $118,086.12 23500 FUTA Tax Payable 23600 State Payroll Taxes Payable 23700 SUTA Tax Payable 23800 FICA Employer Withholding 23900 Medicare Employer Withholding 24100 Line of Credit 24200 Current Portion Long-Term Debt 24700 Other Current Liabilities 27000 Notes Payable-Noncurrent $12,000,000.00 39003 Common Stock $8,105,000.00 39004 Paid-in Capital $7,423,000.00 39005 Retained Earnings $6,590,483.64 40000 Sales - Spotlight 41000 Sales Returns $11,100,220.89 42000 Warranty Expense $1,158,128.47 45000 Income from Investments 46000 Interest Income 47000 Miscellaneous Income 50010 Cost of Goods Sold Page 46 $557,125.92 $1,239,009.75 $67,724,527.50 $846,000.00 $3,424,213.78 $8,540.00 $117,000.00 $674,313.92 $2,929,097.13 $610,000.00 $1,998,780.39 $53,840.59 $1,922,095.91 $55,106.86 $8,439.65 $11,414.99 $44,403,000.00 $242,713,452.88 $1,426,089.31 $131,881.46 $2,166,000.00 $130,196,645.26 Account ID Account Description Debit Amt 57500 Freight $4,240,263.09 60000 Advertising Expense $1,036,854.01 61000 Auto Expenses $210,502.80 62000 Research and Development $528,870.44 64000 Depreciation Expense $446,000.00 64500 Warehouse Salaries $4,720,715.56 65000 Property Tax Expense 66000 Legal and Professional Expense 67000 Bad Debt Expense 68000 Insurance Expense 70000 Maintenance Expense $35,502.87 70100 Utilities $137,332.18 70110 Phone $52,599.02 70120 Postal $77,803.61 71000 Miscellaneous Office Expense 72000 Payroll Tax Exp $1,577,811.85 73000 Pension/Profit-Sharing Plan Ex $3,630,375.80 74000 Rent or Lease Expense $1,206,574.00 77500 Administrative Wages Expense $16,197,225.43 78000 Interest Expense $2,591,736.50 78500 Income Tax Expense - Federal $8,900,000.00 78510 Income Tax Expense - State $3,100,000.00 78600 Controller’s Clearing Account $99,332.45 $4,913,224.45 $36,106.92 $24,891.82 $330,375.80 $330,119,291.01 Page 47 Credit Amt $330,119,291.01 Apollo Shoes, Inc Preclosing Trial Balance (Audited) 31-Dec-x6 Account ID Account Description Debit Credit $1,987.28 10100 Cash on Hand 10200 Regular Checking Account $198,116.52 10300 Payroll Checking Account $0.00 10400 Savings Account $3,044,958.13 11000 Accounts Receivable $16,410,902.71 11500 Allowance for Doubtful Accounts 12000 Inventory - Spotlight 12300 Reserve for Inventory Obsolescence 14100 Prepaid Insurance $743,314.38 14200 Prepaid Rent $200,000.00 14300 Office Supplies $7,406.82 14400 Notes Receivable-Current 14700 Other Current Assets 15000 Land $117,000.00 15100 Buildings and Land Improvements $623,905.92 15200 Machinery, Equipment, Office Furniture $433,217.10 17000 Accum. Depreciation 19000 Investments $572,691.08 19900 Other Noncurrent Assets $53,840.59 20000 Accounts Payable $4,633,118.09 23100 Sales Tax Payable $0.00 23200 Wages Payable $29,470.32 23300 FICA Employee Withholding $1,318.69 23350 Medicare Withholding 23400 Federal Payroll Taxes Payable 23500 FUTA Tax Payable 23600 State Payroll Taxes Payable 23700 SUTA Tax Payable 23800 FICA Employer Withholding 23900 Medicare Employer Withholding 24100 Line of Credit 24200 Current Portion Long-Term Debt 24700 Other Current Liabilities 27000 Notes Payable-Noncurrent 39003 Common Stock $8,105,000.00 39004 Paid-in Capital $7,423,000.00 39005 Retained Earnings $2,219,120.65 40000 Sales 41000 Sales Returns $4,497,583.20 42000 Warranty Expense $1,100,281.48 Page 48 $1,262,819.88 $18,825,205.24 $3,012,000.00 $164,000.00 $583.99 $6,033.01 $2,815.47 $1,318.69 $583.99 $10,000,000.00 $246,172,918.44 $0.00 45000 Income from Investments 46000 Interest Income 50010 Cost of Goods Sold 57500 Freight 60000 Advertising Expense $897,140.01 61000 Auto Expenses $208,974.39 62000 Research and Development 64000 Depreciation Expense $133,000.00 64500 Warehouse Salaries $4,633,383.82 65000 Property Tax Expense 66000 Legal and Professional Expense $3,605,133.96 67000 Bad Debt Expense $1,622,425.99 68000 Insurance Expense $853,942.65 70000 Maintenance Expense $61,136.04 70100 Utilities $135,642.99 70110 Phone $76,373.78 70120 Postal $128,033.21 71000 Miscellaneous Office Expense $17,023.27 72000 Payroll Tax Exp $1,550,989.06 73000 Pension/Profit-Sharing Plan Ex $3,000,000.00 74000 Rent or Lease Expense $2,603,485.87 77500 Administrative Wages Expense $16,875,305.98 78000 Interest Expense 78500 Income Tax Expense - Federal $2,365,000.00 78510 Income Tax Expense - State $429,000.00 80000 Loss on Legal Settlement $204,302.81 $141,569,221.61 $4,302,951.46 $31,212,334.17 $80,495.32 $875,000.00 $19,172,000.00 $283,238,404.03 Page 49 $283,238,404.03 Date: 6 JAN 20x8 10:44:22 +0000 From: "Darlene Wardlaw" Subject: Analytic Procedures 1. I need you to perform preliminary analytical procedures on the financial statements. a. Calculate common-size financial statements and dollar amount and percent changes. I suggest you simply make a copy of your spreadsheet from your pro-forma financial statements that I asked you to prepare yesterday and remove the adjustment columns. Have there been any significant changes that we need to examine closer? b. Calculate financial ratios. Assume the market value of the common stock is $24 million in both the current and prior years. Does anything jump out at you? c. If you have time, compare Apollo’s numbers with those of its closest competitors, Nike and Reebok. You can get those companies’ numbers from EDGAR (www.sec.gov). I am not sure if industry averages are available, but that too would be helpful. 2. Write a brief memo (GA-4) highlighting what you believe are potential problem areas. Include printouts of your calculations as support (GA-4-1, GA-4-2, etc.) DW Page 50 Date: 15 JAN 20x8 12:15:49 +0000 From: "Darlene Wardlaw" Subject: Materiality for Apollo Shoes Engagement You now need to prepare a memo (GA-5) addressing materiality for Apollo Shoes. Remember that the audit documentation must follow Generally Accepted Auditing Standards. In the memo, 1. Briefly describe independent auditors’ concept of materiality. 2. Describe some common relationships and other considerations used by auditors when assessing the dollar amount considered material. In other words, what are some common measures of materiality with respect to income, sales, and total assets? 3. Based upon your professional judgment and your discussion of items 1 and 2 above, determine an amount you consider to be a minimum material misstatement for Apollo Shoes and justify your recommendation in your memo. DW Page 51 Date: 16 JAN 20x8 1:15:49 +0000 From: "Darlene Wardlaw" Subject: Memo on Consideration of Potential Fraud We need a memo (GA-6) addressing the potential for fraud (both misappropriation of assets and fraudulent financial reporting) for Apollo Shoes. This audit documentation is necessary to document that we are following the professional literature concerning fraud consideration. Some things you might want to include in your memo: • • • • Have you noticed any “red flags” in either the minutes or your analytic procedures so far? Address fraud risk in general terms: types of risk (Remember that improper revenue recognition is always a “red flag.”), significance of risk, likelihood of risk (what is the probability of fraud?), pervasiveness of risk (is fraud risk centralized to one function or individual or is it throughout the organization?) How might a fraud be perpetrated and concealed in the entity Suggest ways that we might alter our audit approach to address the potential for fraud, such as assignment of personnel, predictability of auditing procedures, and examination of journal entries and other adjustments We will need to get together with the entire audit team (you, me, and Timothy) for a “brainstorming” session next week. DW Page 52 Date: 16 JAN 20x8 07:42:35 +0000 From: "Arnold Anderson" Subject: Apollo Shoes and Computers Darlene mentioned your inquiry earlier this week, and yes, Anderson, Olds, and Watershed (AOW) was aware of Apollo’s mid-year information systems department reorganization. In fact, the planned conversion was discussed and AOW was advised of the conversion process by the director of internal audit. I haven’t thought about it much, so I appreciate you bringing it to my attention. The more I think about it, the more I am concerned about how the changed IT processing of the last two quarters’ transactions will affect our audit this year. Prepare a memo in the General and Administrative section of the current year audit documentation (GA series) to document how planning might be affected by the change in IT systems at Apollo. I am unsure of the extent to which the company followed the recommended procedures in the Systems Development Life Cycle. I suggest you consider which areas of the audit may be affected most by this change, and discuss the data considerations that we will need to make. I would recommend addressing such things as the extent of IT processing in various accounting cycles, the complexity of the IT processing, the organization structure of the IT department, availability of data, computer-assisted audit techniques including the use of software such as IDEA or Tableau, and the need for specialized skills. You may want to reference an Auditing and Information Technology module in your old auditing textbook. “Uncle” Arnie Page 53 Date: 16 JAN 20x8 10:07:15 +0000 From: "Karina Ramirez" Subject: Upcoming Apollo Shoes Engagement Attachment: I’m sorry I missed you when you stopped by earlier today. Per your request, I have tried to summarize the new information technology system: The new IT system is a combination of a simple batch computer system and an advanced computer system. Accounting clerks directly enter accounting transactions from their terminals located in the various accounting departments; thus, entry is online. However, the transactions are not validated at entry to check for input errors. To prevent errors from entering the financial records, the transactions are not immediately posted to the various subsidiary ledgers maintained in the database. Validation occurs after the transactions are balanced by batch. The transactions are then posted to the ledgers by batches every night; therefore, the various databases, such as inventory, are only up-to-date as of the prior working day’s transactions. (I insisted that Apollo start the accounting processing in this mode to establish control. As employees become more familiar with the terminal entry and control over transaction entry proves adequate, I will consider moving to online data entry and online input validation.) In addition, Apollo Shoes is using a wireless local area network multiserver with a small information systems staff. This small staff cannot support all of the ideal division of duties that would provide the proper separation auditors desire among IT personnel. I’ve attached an excerpt from our documentation that describes the system in more detail. I hope this summary satisfies your needs. Please let us know if there is any additional information that you require. Karina Karina Ramirez Director, Internal Audit Apollo Shoes, Inc. This Apollo message (including any attachments) contains confidential information intended for a specific individual and purpose, and is protected by law. If you are not the intended recipient, you should delete this message and are hereby notified that any disclosure, copying, or distribution of this message, or the taking of any action based on it, is strictly prohibited. Page 54 Information System The reorganized IT department became active in June. At that time the director, Ernst Hathaway, was promoted to vice president. Apollo obtained a wireless local area network (LAN) multiserver soon after and began testing the hardware and software. The testing of the new computer system progressed throughout the early fall with the accounting processing run on both the old IT system and the new system for the month of September. On October 1, Apollo converted to the wireless multiserver system. As the new IT system was designed and customized to Apollo’s needs, every effort was made to keep as many as possible of the procedures and business documents used in the old system. This made the transition to the new system easy on the employees, thus reducing training and employee objections to the new IT system. Further, most of the controls and separation of duties previously described were retained. Hardware Description Apollo installed a wireless Local Area Network (LAN), featuring 10 TB (terabytes, or 10 trillion bytes) of storage capacity. This system can support 400 client machines, but Apollo currently uses about 20. This system utilizes a Storage Area Network (SAN) for database storage, file management system and redundancy. Network printers are located in each department. Accounting Software The financial accounting software is an integrated application combining a comprehensive set of general ledger, accounts receivable, and accounts payable functions. The financial accounting system allows online entry with online data validation and online posting. However, to provide better control, Apollo has elected to utilize ...

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