Lube Industries Inc. (Lube) is a retailer and distributor of synthetic motor oil used in heavy-duty commercial applications. The company was incorporated in 1997, beginning with one retail facility along with a head office in Edmonton. Lube has expanded rapidly to include locations in Winnipeg, Regina and Tulsa, Oklahoma over the past four years. The Tulsa location filled the necessity of establishing a presence in the U.S.A. A growing portion of Lube's purchases are from U.S. wholesale suppliers. Sales to U.S. customers are increasing. The U.S. sales and purchase transactions are in U.S. dollars. Lube is owned equally by Dan Deagan and Luther Chen, both of whom are actively involved in the business. Dan is responsible for overseeing the sales, administrative, and finance areas. Luther is responsible for inventory management and marketing. Due to the fluctuation in oil prices, Luther is currently planning to sell his shares to Ales Li, an unrelated party. Dan has also expressed interest in selling some of his shares, should the "price be right". Business tends to be steady during the year, with reduced activity in December and January due to severe weather conditions. Given ongoing improvements in additives for the oil, typically oil has a five-year product shelf life in this industry. At all locations the oil is stored in large tanks as well as smaller containers for transportation. It has been a challenging year for Lube. Lube has been the subject of a six-month investigation by federal authorities in the U.S. for selling products to a customer who has been selling Lube's products to countries under embargo. Dan and Luther are unsure of the implications of this investigation and are planning to retain a lawyer to deal with it. Auto Globe Inc., a very successful multi-national corporation, entered the marketplace recently and through its excellent large distribution network, has rapidly garnered a large share of the North American market for synthetic oils. The shareholders and the management team are all very proud of Lube's ability to succeed in the face of such stiff competition. In response to the challenge, Lube saw the need to change its policies and reduce costs. Commissions paid to sales staff were increased by 3.5% of sales to now 6% of sales. Sales staffs were given greater flexibility in negotiating and signing contracts with customers. The credit manager function was eliminated and credit granting responsibilities were reassigned to the sales managers. Department managers now receive a bonus based on sales and are encouraged to "think outside the box" in order to maximize success. Recently, in order to increase sales, Lube reached an agreement with one of its suppliers, Quality State Inc., whereby Lube would also begin selling certain transmission fluids and brake fluids. As Lube does not have experience with these products and does not know the optimal product mix, Quality State agreed to provide $200,000 worth of transmission and brake fluid products on consignment to Lube. Lube started selling these consignment products. Consignment inventory was new to the company and the sales managers. Lube's loans with its bank are nearing renewal. Under its existing loan agreement with the bank, Lube must maintain a debt-to-equity ratio no greater than 1.3:1 and a minimum current ratio of 1.5:1. Accounts receivable and inventory account balances are used as collateral for the bank loan. The bank is especially concerned with the inventory balance at December 31, 2015 in light of the consignment inventory now being held at Lube. The bank has asked Dan and Luther to either provide personal guarantees or audited financial statements by March 15, 2016. Dan and Luther agreed that it would be preferable to provide audited financial statements to the bank instead of personal guarantees. Lube hired a new controller Adam Clarke in September 2014 after he completed a diploma in accounting at the local college. The previous controller had been with Lube since day one. There was also turnover of clerical staff in the accounting department. One of the accounts receivable and accounts payable clerks left in June 2015. The turnover in staff was due to the stress of being understaffed and unable to keep up with the daily work load. As a result, staff were falling behind with many important duties, such as following up on accounts receivable. Adam has not had a chance to implement all his plans - such as hiring additional accounting staff and performing a formal assessment of the quality of internal controls. As Dan and Luther are always travelling extensively, Dan assigned the cheque signing authority to Adam. Adam now solely authorizes online payments to vendors and issues cheques for salary, commission and bonus payments to all employees. The previous internal auditor resigned in September 2015 in order to enter the CPA program. His role has been taken over by the assistant controller, who now spends approximately 25% of his time on internal audit duties. It is now February 2016. Lube's former auditors have recently resigned. Dan and Luther have approached your firm to take over the audit engagement.

You reviewed a summary of key financial information of Lube as of December 31, 2015. Statement of Earnings Unaudited Audited Dec. 31,2015 Dec. 31,2014 Revenue Sales Revenue 3,462,728 3,353,021 Gain on Marketable Securities 5,000 0 3,467,728 3,353,021 Costs and expenses Cost of Goods Sold 1,900,890 1,896,551 Salaries & Wages 442,780 377,690 Commissions 452,455 227,790 Bad Debts 55,520 86,128 Administrative expense 414,731 530,810 3,266,376 3,118,969 Earnings before income taxes 201,352 234,052 Income taxes 60,405 70,215 Net earnings 140,947 163,837 Extracts - Statement of Financial Position Cash and Marketable Securities 652,000 639,891 Closing Inventory (net) 1,595,900 1,075,000 Accounts receivable 1,580,200 1,020,200 Accounts payable 1,048,573 818,524 Bank Loan (Operating line of credit) 1,900,000 1,300,000 Shareholders equity - common stock 1,950,000 1,950,000Required: (Note that answers to all parts of the question must be different.) A ) Identify five factors that your firm should have considered before agreeing to conduct the Lube audit. (5 marks) B) Assuming that your firm accepted the audit of Lube, assess and conclude on audit risk for the Lube audit. One mark for each detailed point. (5 marks) C) Assess five inherent risk factors as part of the financial statement audit of Lube. For each factor identified, indicate why the factor increases or decreases inherent risk. In addition, indicate if the inherent risk is impacted at the account or financial statement level. (10 marks) Organize your answer in a table as follows or label (1), (2), (3) for each risk factor: (1) Describe the inherent (2) State the direction of (3) State whether it is risk factor (1/2 mark) and change (decrease or financial statement level or describe what could go increase in inherent risk) account level. If it is wrong (1/2 mark) and WHY the inherent risk account level, NAME the changes in that direction account that is impacted. (1/2 mark) (1/2 mark) D) Calculate and decide on preliminary materiality and performance materiality for the Lube financial statement audit. Be sure to consider both quantitative and qualitative factors. One mark for each point