You Have Been Requested By The Management Of J L

You have been requested by the management of J. L. Lockwood Co. to issue a debt compliance letter as a part of the audit of Taylor Fruit Farms, Inc. J. L.
Lockwood Co. is a supplier of irrigation equipment. Much of the equipment, including that supplied to Taylor, is sold on a secured contract basis. Taylor Fruit Farms is an audit client of yours, but Lockwood is not. In addition to the present equipment, Lockwood informs you they are evaluating whether they should sell another $500,000 of equipment to Taylor Fruit Farms.
You have been requested to send Lockwood a debt compliance letter concerning the following matters:
1. The current ratio has exceeded 2.0 in each quarter of the unaudited statements prepared by management and in the annual audited statements.
2. Total owners’ equity is more than $800,000.
3. The company has not violated any of the legal requirements of California fruit-growing regulations.
4. Management is competent and has made reasonable business decisions in the past 3 years.
5. Management owns an option to buy additional fruit land adjacent to the company’s present property.

Required
a. Define the purpose of a debt compliance letter.
b. Why is it necessary to conduct an audit of a company before it is acceptable to issue a debt compliance letter?
c. For which of the five requested items is it acceptable for a CPA firm to issue a debt compliance letter? Give reasons for your answer.

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