Chapter 1
1-17(objective 1-3)
a, According to the Chapter 1. The bank makes the loan, the rate of interest determined by the factor of information risk. A likely cause of the information risk is the possibility of inaccurate financial statement. Auditing could reduce information risk that bank face. A Review report, same as function of audit, is a low level of assurance for reviews of financial statements provided by CPA. It can reduce the bank’s risk. Thus, overall interest rate to the borrower is reduced too. However, if company doesn’t provide a review report, The bank will demand higher interest rates to compensate for perceived high risk. So the interest rate for the loan that requires a view report is lower than that for the loan that did not require a review.
The difference between a review report and audit report is amount evidence required. Auditor needs volume of evidence to evaluate and conduct an audit report. But a review report needs less evidence. So an audit report is more reliable and relevant and it could greatly reduce bank’s risk than a review report. All in all, that’s why the interest rate for the loan that requires an audit report is lower than the interest rate for the other two loans.
b,
Lender
Interest rate
Annual interest cost
CPA service cost
Annual loan cost
Existing loan (None)
6.0%
$360,000
0
$360,000
United National Bank (review)
5.0%
$300,000
$35,000
$335,000
First City Bank (audit)
4.0%
$240,000
$60,000
$300,000
According the total annual cost in the table above, Busch Corporation should accept the lowest cost offer from First City Bank.
c,
Lender
Interest rate
Annual interest cost
CPA service cost
Annual loan cost
Existing loan (None)
6.0%
$360,000
0
$360,000
United National Bank (review)
4.5%
$270,000
$35,000
$305,000
First City Bank (audit)
4.0%
$240,000
$80,000
$320,000
According the total annual cost in the table above, Busch Corporation should accept the lowest...