13.3 Flashcards
Some subsequent events provide evidence of conditions not in existence at the balance sheet date. Under U.S. GAAP, some of these events are of such a nature that disclosure is required to keep the financial statements from being misleading. Adequate disclosure of these events may include
Pro forma financial statement presentation.
Under U.S. GAAP, subsequent events related to conditions that did not exist at the date of the balance sheet should not result in adjustments of (recognition in) the financial statements. These events are disclosed, if necessary, to keep the financial statements from being misleading. Occasionally, such an event may be so significant that disclosure can best be made by means of pro forma financial data. Such data make the event seem as if it had occurred on the date of the balance sheet. In some cases, U.S. GAAP suggest presentation of pro forma statements, usually a balance sheet only, in columnar form on the face of the historical statements. But firms usually incorporate the pro forma balance sheets in notes.
The date of the management representation letter should be at the date of the
Auditor’s report.
The date of management’s written representations should be as of the date of the auditor’s report.
To which of the following matters would an auditor not apply materiality limits when obtaining specific written management representations?
Fraud involving employees with significant roles in internal control.
Management’s representations may be limited to matters that are considered individually or collectively material if management and the auditor have reached an understanding about materiality for this purpose. Materiality considerations do not apply to certain representations not directly related to amounts in the financial statements, for example, representations about the premise of the audit (i.e., acknowledgment of responsibility for fair presentation, internal control, and auditor access to information and people). Materiality also does not apply to knowledge of fraud or suspected fraud affecting the entity involving (1) management, (2) employees with significant roles in internal control, or (3) others if the fraud could materially affect the statements (AU-C 580).
A CPA firm is completing the field work for an audit of Swenson Co. for the current year ended December 31. The manager in charge of the audit is performing the final steps in the evidence accumulation phase of the audit and notes that there have been several changes in Swenson during the year under audit. Which of the following items would indicate there could be substantial doubt about Swenson’s ability to continue as a going concern for a reasonable period of time?
Recurring working capital shortages.
AU-C 570 requires auditors to evaluate whether substantial doubt exists about an entity’s ability to continue as a going concern, based on procedures planned and performed to obtain evidence about management assertions in the financial statements. An auditor should examine (1) negative trends, (2) indications of financial difficulties, (3) internal problems, and (4) external problems. Recurring working capital shortages indicate financial difficulty.
Key Co. plans to present comparative financial statements for the years ended December 31, Year 1 and Year 2, respectively. Smith, CPA, audited Key’s financial statements for both years and plans to report on the comparative financial statements on May 1, Year 3. Key’s current management team was not present until January 1, Year 2. What period of time should be covered by Key’s management representation letter?
January 1, Year 1, through May 1, Year 3.
The auditor is concerned with events occurring through the date of his or her report that may require adjustment of, or disclosure in, the financial statements. Thus, the representations should be made (1) as of a date no earlier than the date of the auditor’s report and (2) for all periods referred to in the report. Moreover, if current management was not present during all periods covered by the auditor’s report, the auditor should nevertheless obtain written representations from current management for all such periods (AU-C 580).
Which of the following audit procedures most likely would assist an auditor in identifying conditions and events that may indicate substantial doubt about an entity’s ability to continue as a going concern?
Reading the minutes of meetings of the shareholders and the board of directors.
Auditors should evaluate whether substantial doubt exists about an entity’s ability to continue as a going concern for a reasonable period of time. For U.S. GAAP, the reasonable period is 1 year after the date that the financial statements are issued or are available to be issued. The evaluation is based on the auditor’s knowledge of relevant conditions and events. Such knowledge is obtained from performing procedures to achieve audit objectives related to financial statement assertions. Thus, an auditor is not required to design specific procedures. An example is reading the minutes of meetings of the shareholders, the board of directors, and its committees (AU-C 570).
Which of the following events occurring after the issuance of an auditor’s report most likely would cause the auditor to make further inquiries about the previously issued financial statements?
New information is discovered concerning undisclosed related-party transactions of the prior year.
Subsequently discovered facts become known to the auditor after the date of the auditor’s report. Had they been known to the auditor at that date, they might have caused the auditor to revise the auditor’s report. If a subsequently discovered fact becomes known to the auditor after the report release date, the auditor should (1) discuss the matter with management and, if appropriate, those charged with governance and (2) determine whether the financial statements need revision and, if so, inquire how management intends to respond. Undisclosed related party transactions, if material, could cause the auditor to revise the auditor’s report if the statements are not revised.
The appropriate date for the client to specify as the effective date in the audit inquiry to legal counsel is
As close to the date of the auditor’s report as possible.
The date of legal counsel’s response should be as close to the date of the auditor’s report as practicable. The auditor is concerned with events occurring through the date of the report that may require adjustment to, or disclosure in, the financial statements. The date of the report is the date on which the auditor obtained sufficient appropriate audit evidence on which to base the opinion. Moreover, the auditor should specify the earliest acceptable effective date of the response and the latest date by which it is to be sent to the auditor. A 2-week period between these dates generally suffices.
Legal counsel’s response to an auditor’s request for information regarding litigation, claims, and assessments will ordinarily contain which of the following?
An explanation regarding limitations on the scope of the response.
AU-C 501 indicates that a statement regarding the nature and reasons for any limitation on legal counsel’s response should be requested in the letter of inquiry. The letter is sent to legal counsel requesting confirmation of the information presented.
An auditor has substantial doubt about the entity’s ability to continue as a going concern for a reasonable period of time because of negative cash flows and working capital deficiencies. Under these circumstances, the auditor would be most concerned about the
Possible effects on the entity’s financial statements.
If an auditor has substantial doubt about the entity’s ability to continue as a going concern for a reasonable period of time, (s)he should assess the possible effects on the entity’s financial statements, including the adequacy of disclosure of uncertainties related to the going-concern issue. The auditor also should include in the auditor’s report an additional paragraph.
Which of the following statements is correct regarding a management representation letter?
The date of the representation letter should typically be the same as the audit report.
The written representations should be (1) addressed to the auditor, (2) dated as of the date of the auditor’s report, and (3) signed by responsible and knowledgeable members of management. The CEO and the CFO usually should sign the representations.
Which of the following statements ordinarily is included among the written management representations obtained by the auditor in an audit of a nonissuer?
All transactions have been recorded in the accounting records.
AU-C 580 lists the concerns ordinarily addressed in management representation letters, if applicable. The list includes disclosures about the recording of all transactions.
Advertiser Co.’s directors voted immediately after year end to double the advertising budget for the coming year and authorized a change in advertising agencies. What is the effect of this event on the year-end statements?
No financial statement adjustment needed.
Changing of budgets and other managerial decisions made by the directors or management are not significant subsequent events. Hence, no financial statement revision (disclosure or adjustment) is necessary.
The scope of an audit is not restricted when legal counsel’s response to an auditor as a result of a client’s letter of inquiry limits the response to
Matters to which the legal counsel has given substantive attention in the form of legal representation.
Two limitations on an entity’s external legal counsel’s response are not scope limitations. The response may be limited to matters to which the legal counsel has given substantive attention in the form of legal consultation or representation. Also, the response may be limited to matters that are individually or collectively material, such as when the entity and the auditor have agreed on materiality limits, and management has stated the limits in the letter of inquiry.
After releasing the auditor’s report, the auditor has no obligation to make any further inquiries with respect to audited financial statements covered by that report unless
New information is discovered concerning undisclosed related party transactions of the previously audited period.
After the date of the auditor’s report, the auditor is not required to perform any further audit procedures with respect to the audited financial statements. However, facts may be discovered by the auditor after the date of the report that, if known at that date, might have caused the auditor to revise the report. In this case, the auditor should (1) discuss the matter with management and (2) determine whether the statements should be revised and, if so, how management intends to address the matter in the statements (AU-C 560).
