Bengston, CPA, is conducting the audit of Pollution Control Devices, Inc. In addition, a supplemental negative assurance report is required to a major mortgage holder. The supplemental report concerns indenture agreements to keep the client from defaulting on the mortgage. Total assets are $14 million and the mortgage is for $4 million. The major provisions of the indentures are as follows:
1. The current ratio must be maintained above 2.3 to 1.
2. The debt/equity ratio must be maintained below 3.0.
3. Net earnings after taxes must exceed dividends paid by at least $1 million.
Required
a. Write the appropriate supplemental report if all three indenture agreement provisions have been satisfied.
b. How would the supplemental report change if net earnings after taxes were $1,010,000 and dividends paid were $60,000?
c. Assume the same situation as in part b and also assume that the client refuses to modify the financial statements or disclose the violation of the indenture agreement provisions on the grounds that the amount is immaterial. What is the nature of the appropriate auditor's report?
d. What is the nature of the appropriate supplemental report if all the indenture agreement provisions have been satisfied but there is a lawsuit against the company that has resulted in disclosure of the lawsuit in a footnote to the financial statements?