Lancaster Electronics produces electronic components for sale to manufacturers of radios, television sets and phonographic systems. In connection with his examination of Lancaster's financial statements for the year ended December 31, 19X1, Don Olds, CPA, completed field work two weeks ago. Olds now is evaluating the significance of the following items prior to preparing his auditor's report. Except as noted none of these items have been disclosed in the financial statements or footnotes.

Recently Lancaster interrupted its policy of paying cash dividends quarterly to its stockholders. Dividends were paid regularly through 19X0, discontinued for all of \(19 X 1\) in order to finance equipment for the company's new plant and resumed in the first quarter of \(19 \times 2\). In the annual report dividend policy is to be discussed in the president's letter.

{Item 2}
A ten-year loan agreement, which the company entered into three years ago, provides that dividend payments may not exceed net income earned after taxes subsequent to the date of the agreement. The balance of retained earnings at the date of the loan agreement was \(\$ 298,000\). From that date through December 31, 19X1 net income after taxes has totaled \(\$ 360,000\) and cash dividends have totaled \(\$ 130,000\). Based upon these data the staff auditor assigned to this review concluded that there was no retained earnings restriction at December 31, \(19 X 1\).
{Item 3}
The company's new manufacturing plant building, which cost \(\$ 600,000\) and has an estimated life of 25 years, is leased from the Sixth National Bank at an annual rental of \(\$ 100,000\). The company is obligated to pay property taxes, insurance and maintenance. At the conclusion of its tenyear noncancelable lease, the company has the option of purchasing the property for \(\$ 1\). In Lancaster's income statement the rental payment is reported on a separate line.
{Item 4}
A major electronics firm has introduced a line of products that will compete directly with Lancaster's primary line, now being produced in the specially designed new plant. Because of manufacturing innovations, the competitor's line will be of comparable quality but priced 50 percent below Lancaster's line. The competitor announced its new line during the week following completion of field work. Olds read the announcement in the newspaper and discussed the situation by telephone with Lancaster executives. Lancaster will meet the lower prices which are high enough to cover variable manufacturing and selling expenses but will permit recovery of only a portion of fixed costs.
Required:
For each item 1 to 4 above, discuss the following:

a. Any additional disclosure in the financial statements and foot notes that the CPA should recommend to his client.

b. The effect of this situation on the CPA's report upon Lancaster's financial statements. For this requirement assume that the client did not make the additional disclosure recommended in a above.
Complete your discussion of each item (both a and \(\mathrm{b}\) above) before beginning discussion of the next item. The effects of each item on the financial statements and the CPA's report should be evaluated independently of the other items. The cumulative effects of the four items should not be considered.