Activa Leisure Co. (ALC), a retailer of high-quality activewear, has been considering a number of different expansion opportunities in recent years. One option is to purchase Quantum Athletics (Quantum), a manufacturer and distributor of sporting good equipment. The company's sole shareholder is Mike. Quantum's manufacturing facility is in Winnipeg, and it has sales and distribution branches in Mississauga, Ontario, and in Montreal.

ALC is considering the acquisition to expand into this market. However, before moving any further with this idea, ALC has requested an audit of Quantum. Clarke and Lunn Chartered Professional Accountants (CL) have been engaged to perform the year-end audit. You, CPA, are the audit manager on the Quantum year-end audit and are meeting with Mike to discuss the results for the year. Mike has brought the company's draft financial statements to your office (see Exhibit I).

Mike: It has been a challenging year. Most of our customers are in Ontario and Quebec. This year, we began selling into the United States (U.S.) and Brazil. We attended major trade shows in the U.S. and Brazil early in the year to promote our company and products. It was the first time we had attended these types of events, and the related travel and advertising costs were over $40,000.

We received a number of orders, and in anticipation of the increased demand, we purchased raw materials. Things were looking great and then there was a financial crisis. Demand for sporting equipment fell dramatically. In order to remain competitive, we had to reduce our selling prices; even so, a number of our customers have gone bankrupt or are having significant difficulty. I have been really busy and have not spent much time following up with customers and reviewing their outstanding balances.

At the same time, the bank imposed a new covenant requiring that the debt-to-equity ratio remain below 1.0. To avoid any staff reductions, the administrative staff agreed to take a week off without pay and forgo raises for the year. In addition, although I received a $75,000 bonus last year, I didn't take a bonus this year. Unfortunately, one of our main pieces of manufacturing equipment unexpectedly broke down during the year, and we incurred close to $30,000 in costs to repair it.

Exhibit I
Quantum Athletics Balance sheets As at December 31 (Prepared in accordance with ASPE)
	Current year (draft prepared by management)	Prior year (audited)
Assets
Current assets:
Cash	$1,140	$16,635
Accounts receivable	377,602	252,477
Inventory	283,906	195,632
Prepaid expenses	26,744	30,611
	689,392	495,355
Property, plant, and equipment (net)	1,840,415	1,788,420
	$2,529,807	$2,283,775
Liabilities and shareholders' equity
Current liabilities:
Demand bank loan	$61,600	$65,100
Accounts payable and accruals	319,720	295,793
Income taxes payable	402	638
Current portion of term bank loan	28,000	28,000
	409,722	389,531
Term bank loan	658,000	686,000
	1,067,722	1,075,531
Share capital	1,000	1,000
Retained earnings	1,461,085	1,207,244
	$2,529,807	$2,283,775

Quantum Athletics Statements of income and retained earnings For the years ended December 31 (Prepared in accordance with ASPE)
	Current year (draft prepared by management)	Prior year (audited)
Sales	$2,791,275	$2,705,030
Cost of sales	1,396,238	1,379,658
Gross profit	1,395,037	1,325,372
Expenses:
Amortization	214,105	249,866
Bad debts	11,060	14,004
Interest and bank charges	83,748	93,488
Professional fees	34,221	5,060
Repairs and maintenance	70,530	20,535
Salaries and wages	527,063	553,040
Selling, general, and administrative	142,242	189,273
Income before taxes	312,068	200,106
Income taxes	58,227	34,088
Net income	253,841	166,018
Retained earnings, opening	1,207,244	1,041,226
Retained earnings, closing	$1,461,085	$1,207,244

Required

You are beginning the risk assessment for the upcoming audit of Quantum. Perform a year-over-year comparison of key ratios including accounts receivable turnover, inventory turnover, current ratio, gross profit margin, and debt to equity, and identify accounts that are at a risk of material misstatement and would warrant further investigation during the audit, given the changes in ratios and considering the provided case facts. In addition, include a procedure to address the identified risks.

A FULL RESONSE MUST ADDRESS ALL OF THESE ELEMENTS. YOUR AUDIT PARTNER IS LAZY, AND WILL NOT READY ANYTHING PAST 5 PAGES IN LENGTH.