The auditor must be aware of loan and debt covenants that may affect the client. A regular part of each audit should include the examination of these covenants.

Required:

a. What information should the auditor normally obtain while reviewing loan covenant agreements? Where would the auditor obtain the agreements?

b. What action should an auditor take upon discovering that the client might be in violation of a loan agreement? Assume, for example, that the client is required to maintain a working-capital ratio of 2.0 to 1.0 or all the bank’s short-term and longterm loans are declared in default and currently payable.

c. Do significant Joan covenants have to be disclosed in a company’s financial statement?

Explain, including all circumstances in which you believe the covenants might need to be disclosed.