a. Identif specific considerations from part I and II of the cas that affect your assessments of engagement risk and acceptable audit risk. use each of the three factors in the text to categorize your conclusions:
External users' reliance on financial statements
likelihood of financial difficulties
Management integrity
Acceptable Audit Risk and Engagement Risk Issues:
External users’ reliance on financial statements:
1. The company is privately held, but there is a large amount of debt, therefore the financial statements will be used fairly extensively. Also, management is considering selling the Machine-Tech division, which has the potential to result in extensive use of the statements by the buyers.
2. Item 4 in the planning phase indicates plans for additional debt financing.
Likelihood of financial difficulties:
1. The solar power engine business revolves around constantly changing technology, thus making it inherently more risky than other businesses, with a better chance of subsequent bankruptcy. Item 1 in the planning issues raises a concern about the viability of the Solar-Electro division, but not necessarily the entire company.
2. The conclusion in Part I of the case was that the likelihood of financial failure is low, even considering the issue with Solar-Electro.
3. Item 7 in the planning phase indicates there is a debt covenant requiring a current ratio above 2.0 and a debt-to-equity ratio below 1.0. The current ratio has fallen below 2.0. This could result in the loan being called unless a waiver of the loan covenant is granted.
Management integrity: No major issue exists that would cause the auditor to question management integrity, but the auditor should have done extensive client acceptance procedures bef ...