2.23.19 Flashcards
When an audit firm includes a report on compliance with aspects of contractual agreements in the auditor’s report on the nonissuer’s financial statements, in which paragraph of the audit report should the report on compliance be included?
Other-matter paragraph.
When the report on compliance with aspects of contractual agreements is included in the auditor’s report, the report should include an other-matter paragraph. This paragraph refers to a matter not presented or disclosed in the statements that is relevant to understanding (1) the audit, (2) the auditor’s responsibilities, or (3) the auditor’s report.
In its annual report to shareholders, Lake Co. included an assertion about the effectiveness of its sales force. Lake’s auditor is expressing an unmodified opinion on Lake’s financial statements but has not been engaged to examine and report on this management assertion. What is the auditor’s responsibility concerning such information?
The auditor should read the assertion and consider whether it is a material misstatement of fact.
The auditor’s responsibility is to respond appropriately when the other information may undermine the credibility of the statements and the auditor’s report. However, unless otherwise required for a specific engagement, the opinion on the statements does not cover other information. Also, the auditor has no responsibility for determining whether it is properly stated. The auditor should read the other information to identify material inconsistencies with the audited statements. An inconsistency is a conflict with the audited information. It may create doubt regarding the audit conclusions. The auditor need not refer to the other information in the auditor’s report. But (s)he may disclaim an opinion on it in an other-matter paragraph.
Green, CPA, is auditing JKL Co., a nonissuer. Green concludes that there is substantial doubt about JKL Co.’s ability to continue as a going concern. If JKL’s financial statements adequately disclose its financial difficulties, Green’s auditor’s report should
Include a paragraph following the opinion paragraph:
Specific use of the words “going concern”:
Specific use of the words “substantial doubt”:
Yes
Yes
Yes
An evaluation should be made as to whether substantial doubt exists about the entity’s ability to continue as a going concern for a reasonable period of time (U.S. GAAP is 1 year from the date the statements are released or available to be released). If the auditor reaches this conclusion after identifying conditions and events that create such doubt and after evaluating management’s plans to reduce their effects, (s)he should consider the possible effects on the statements and the adequacy of disclosure. (S)he also should include an emphasis-of-matter paragraph (after the opinion paragraph) in the report. The auditor should use language in the emphasis-of-matter paragraph that includes the phrases “substantial doubt” and “going concern.” Also, the emphasis-of-matter paragraph should not use conditional language in expressing its conclusion about the existence of a substantial doubt. The substantial doubt is not a basis for a qualified or an adverse opinion, but a disclaimer is not precluded in the case of such a material uncertainty.
In an examination or review attestation engagement, an engaging party may not be the responsible party. For example, this party may be a potential acquirer of another entity. If a responsible party who is not the engaging party refuses to provide a written assertion, the practitioner should
Disclose the refusal in the report.
In an examination or review attestation engagement, when an engaging party is not the responsible party, and the responsible party refuses to provide a written assertion, the practitioner need not withdraw from the engagement. But the practitioner should (1) disclose the refusal in the report and (2) restrict use of the report to the engaging party.
After considering an entity’s negative trends and financial difficulties, an auditor has substantial doubt about the entity’s ability to continue as a going concern. The auditor’s considerations relating to management’s plans for dealing with the adverse effects of these conditions most likely would include management’s plans to
Increase ownership equity.
Once an auditor identifies conditions and events indicating that a substantial doubt exists about an entity’s ability to continue as a going concern, (s)he should consider management’s plans to mitigate their adverse effects. Increasing equity is likely to be a mitigating factor (AU-C 570). Thus, the auditor should consider the feasibility of such a plan, including arrangements to raise capital, and any arrangements to reduce dividends or to accelerate cash receipts from investors or affiliates.
After an auditor had been engaged to perform the first audit for a nonissuer, the client requested to change the engagement to a review. In which of the following situations would there be a reasonable basis to comply with the client’s request?
The client’s bank required an audit before committing to a loan, but the client subsequently acquired alternative financing.
An auditor engaged to perform an audit may be requested to change the engagement to a review. The request may result from (1) a change in circumstances affecting the need for an audit, (2) a misunderstanding as to the nature of one of the services, or (3) a scope restriction. Either (1) a change in circumstances or (2) a misunderstanding about a service ordinarily is a reasonable basis for a change. But, before agreeing to the change, the auditor should consider the reason for the request and the additional effort and cost to complete the audit. A scope restriction should be given special consideration. When the client has no need for an audit, the auditor should agree to the request because it has no negative implications, and the cost to complete the audit would be substantial. The subsequent report should not refer to the original engagement, any auditing procedures performed, or scope limitations that resulted in the changed engagement (AR-C 90).
An auditor’s purpose in reviewing credit ratings of customers with delinquent accounts receivable most likely is to obtain evidence concerning relevant assertions about
valuation and allocation
Assertions about valuation and allocation address whether (1) assets, liabilities, and equity interests are included in the financial statements at appropriate amounts and (2) resulting adjustments are properly recorded. Determining the net realizable value of accounts receivable includes assessing whether the client’s allowance for uncollectibility is reasonable. Reviewing the credit ratings of delinquent customers provides evidence for that purpose.
The following additional paragraph was included in an auditor’s report of a nonissuer to indicate a lack of consistency:
“As discussed in note T to the financial statements, the company changed its method of computing depreciation in Year 1.”
How should the auditor report on this matter if the auditor concurred with the change?
Type of opinion:
Location of additional paragraph:
Unmodified
after the opinion paragraph
A change in accounting principle meeting certain criteria and having a material effect on the financial statements of a nonissuer requires the auditor to refer to the change in an emphasis-of-matter paragraph of the report. This paragraph should follow the opinion paragraph, describe the change, and refer to the entity’s disclosure. If the report is for an issuer, the wording of the paragraph is unchanged. But it is included in explanatory language (or an explanatory paragraph). It is not included in an emphasis paragraph.
Processing data through the use of simulated files provides an auditor with information about the operating effectiveness of controls. One of the techniques involved in this approach makes use of
An integrated test facility.
The ITF or minicompany technique is a development of the test data method. It permits dummy transactions to be processed at the same time as live transactions but requires additional programming to ensure that programs will recognize the specially coded test data. Also, dummy files must be established (the test facility or dummy entity). Nevertheless, output (for example, control totals) is affected by the existence of the ITF transactions.
Which of the following procedures would be generally performed when evaluating the accounts receivable balance in an engagement to review financial statements in accordance with Statements on Standards for Accounting and Review Services?
Perform a reasonableness test of the balance by computing days’ sales in receivables.
Reviews have a considerably smaller scope than audits. The objective of a review is to express limited assurance that no material modifications should be made to the financial statements. Inquiries and analytical procedures should be designed to accumulate review evidence that will provide a reasonable basis for obtaining limited assurance.
An accountant performed a review engagement of the financial statements of a nonissuer oil and gas refinery. Which of the following would be included in the accountant’s documentation?
A memo on a discussion with the CFO regarding a suspected kiting scheme.
A memo of a discussion with the CFO about a potentially significant fraud revealed during review procedures should be included in the documentation.
If the auditor discovers that the net carrying amount of a client’s trading debt securities is overstated because of a loss in fair value, the auditor should insist that the
Loss in fair value be recognized in the financial statements of the client.
Under U.S. GAAP, trading debt securities are accounted for at fair value. The unrealized holding loss should be recognized in earnings (a debit), and the net carrying amount of the securities should be reduced (a credit).
Which of the following is a true statement concerning an engagement to examine the effectiveness of an entity’s internal control over financial reporting?
The management evaluates the effectiveness of internal control.
As part of engagement performance for both AU-C 940 and AS 2201, the auditor should obtain from management a written assessment about internal control effectiveness.
Proper segregation of duties reduces the opportunities to allow persons to be in positions both to
Perpetrate both fraud and error.
Segregation of duties is a category of the control activities component of internal control. Segregating responsibilities for authorization, recording, and asset custody reduces an employee’s opportunity to perpetrate fraud or error and subsequently conceal it in the normal course of his or her duties.
The controller of Excello Manufacturing, Inc. wants to use ratio analysis to identify the possible existence of idle equipment or the possibility that equipment has been disposed of without having been written off. Which of the following ratios would best accomplish this objective?
Gross manufacturing equipment cost to units produced.
The ratio of gross manufacturing equipment cost to units produced increases if equipment is taken out of production but is not written off. As replacement equipment is installed, the amount of units produced remains constant, and the gross equipment cost increases. If equipment is taken out of service without being replaced, gross equipment cost remains constant, units produced decline, and the ratio again increases.
