Ch 12 Flashcards
Public entities are required to file certain financial info with the SEC within what period of time?
60 days of their fiscal year end
How do auditors’ reports serve as an important tool to communicate to third party users?
1 conformity of entity’s financial statements with GAAP
2 other important matters affecting entity
Information which includes audited financial statements, footnotes and other required disclosures is filed under what form?
10-K
When are audited financial statements necessary for Nonpublic entities? 3
1 3rd party users demand audited financial statements as condition
for certain lending or investing activities
2 monitoring entity’s activities
3 SEC requires audits for governments and certain Nonpublic
entities
What is the auditors opinion on whether the entity’s financial statements and related disclosures are based in accordance with GAAP based on? 2
1 test of controls
2 substantive procedures performed during audit
What 2 additional types of reports does accounting standards 5, AS 5,
Mandate under SOX?
1 report prepared by entity’s management on effectiveness of
Entity’s internal control over financial reporting
2 report prepared by auditors on effectiveness of entity’s internal
Control over financial reporting
3 mandatory reports required for public entity, who they are prepared by?
1 effectiveness of internal control over financial reporting prepared
By management
2 effectiveness of internal control over financial reporting prepared
By auditor
3 fairness if financial statements and related disclosures prepared
By auditors
Mandatory report for Nonpublic entities and who would it be prepared by?
Fairness of financial statements and related disclosures based on
User demand prepared by auditor
What 3 items does the independent auditors report on financial statements express an opinion on?
1 entity’s financial position
2 results of operations
3 cash flows in accordance with GAAP
Who is the independent auditors’ report addressed to?
2) who could also be addressed in the independent auditors report? 3
The client
2) board of directors, shareholders, creditors (may also be addressed)
What does ASB stand for?
Auditing standards board
Auditing Standards Board report
Report of Nonpublic entities
4 sections contained in standard unmodified reports for Nonpublic entity
1 introduction
2 management’s responsibility for financial statements
3 auditor’s responsibility
4 opinion
Standard report Nonpublic entity Unmodified opinion: Introduction (paragraph)
Identifies financial statements and years examined by audit team
Standard report Nonpublic entity unmodified opinion: Management’s responsibility for financial statements (paragraph), indicates management’s responsibility for 2 things?
1 fairness of financial statements
2 design, implementation and maintenance of internal control
Under which financials are prepared
Standard report Nonpublic entity Unmodified opinion: Auditors Responsibility, what are the 3 paragraphs included?
1 identify audit team’s responsibility to conduct audit under GAAS
2 provide brief description of an audit
3 indicate that the audit evidence provides basis for audit team’s
Opinion
Standard report Nonpublic entity unmodified opinion: Opinion (paragraph) expresses audit team’s opinion on whether financial statements Present the…
2) what is the report in accordance with?
financial condition, results of operations, cashflows
2) in accordance with auditing standards generally accepted in of
United States of America
Following the opinion paragraph, what should be included in the auditor’s report? 2
1 signed using firm’s name
2 date of auditors’ report
Date of auditors report
Date when auditors have obtained sufficient appropriate
Evidence to support opinion on auditors’ report
difference between standard report for public entity (according to
AS 5) vs. Standard report for a Nonpublic entity
Financial statements are audited in accordance with?
public: audited in accordance with standards of “Public
Company Accounting Oversight Board (United States)”
Nonpublic: “auditing standards generally accepted in the United
States of America”
difference between standard report for public entity (according to
AS 5) vs. Standard report for a Nonpublic entity
What report exists in the standard report for public entities that doesn’t exist in the standard report for Nonpublic entities?
Audit teams report and opinion in entity’s internal control over
Financial reporting
Who is the standard report for public entities addressed to?
Board of directors and shareholders
In the standard report for a public entity, when separate reports on internal control are provided, their report will reference…
Their report and opinion on financial statements
Integrated report
Single report issued by auditors expressing their opinion on
Fairness of the financial statements
And effectiveness of internal control over financial reporting
What percentage of Fortune 500 companies use integrated reports?
Separate reports?
40 percent used integrated reports
60% used 2 separate reports
What 4 paragraphs are included in an integrated Standard report for public entities?
1 introductory paragraph
2 scope paragraph
3 opinion paragraph
4 internal control paragraph
4 types of opinions auditors may issue?
1 unmodified opinion
2 qualified opinion
3 adverse opinion
4 disclaimer of opinion
Unmodified opinion AKA Unqualified opinion
financial statements present financial condition, Results of
operations and cashflows in accordance with GAAP
Qualified opinion, what does it conclude?
With the exception of one or more issues,
Financial statements present financial condition, results of
operations and cashflow in accordance with GAAP
Adverse opinion
Financial statements do not present the financial condition,
Results of operations and cash flows in accordance with GAAP
Disclaimer of opinion
Auditors do not express an opinion on fairness of entity’s
Financial statements
AU 705 refers to qualified opinions, adverse opinions and disclaimers of opinion as…
Modified opinions
Departures from GAAP
Situations in which entity does not follow GAAP in preparing
Financial statements
If a departure from GAAP is immaterial, auditors would treat the departure…
As if it didn’t exist
If the departure from GAAP is sufficiently material to affect users’ decisions based on financial statements, but can be compartmentalized, the auditors must…
Qualify the opinion
Compartmentalized (departure would not be considered pervasive)
Departure (from GAAP) can be isolated to particular account
Group or transactions
Without affecting other accounts to material extent
If the departure from GAAP is material and pervasive, what kind of opinion is warranted?
An adverse opinion
If a qualified or adverse opinion is given due to a material departure from GAAP, what must be provided?
Nature of GAAP departure must be described in separate
paragraph of the report
Th modified note on the standard report with a qualified opinion includes what 2 words?
“Except for”
What would the SEC classify a filing as if it contained a material departure from GAAP?
“Deficient” filing
Scope limitations
When auditors are unable to obtain sufficient appropriate evidence
2 kinds of scope limitations
1 client imposed scope limitation
2 circumstance imposed scope limitation
Client imposed scope limitation
Management’s deliberate refusal to provide auditors access
To evidence
Or to limit the auditors’ application of auditing procedures
Circumstance imposed scope limitation, define
Circumstances beyond auditors’ and client’s control
The auditors’ reporting options depend on what 2 aspects of a scope limitation?
Nature and materiality
If the scope limitation is not material or the auditors perform alternative procedures, what report can be issued?
2) does the report need to reference the inability to perform certain procedures or alternative procedures performed?
Standard unmodified report
2) no
If the scope limitation is material, auditors which opinions may an auditor issue?
2) what do these opinions depend on?
Issue qualified or disclaimer of opinion
2) depending on materiality and pervasiveness of scope limitation
The failure to take physical counts of inventory could have been based on request of client’s management, what kind of limitation is this?
Client imposed scope limitation
Late appointment of auditors that lead to auditors’ inability
To perform certain auditing procedures, what kind of limitation is this?
Circumstance imposed scope limitation
If there is a material scope limitation and no alternative procedures are available, 1) what opinion is given if limitation is pervasive?
2) is not pervasive?
1 disclaimer of opinion
2 qualified opinion
How does an introductory paragraph in a modified report that expresses a disclaimer of opinion, differ from the introductory paragraph of a modified report?
Modified report: “we were engaged to audit”
Vs.
Unmodified report: “we have audited”
Why should auditors carefully consider the implications of client imposed scope limitations?
Such restrictions on audit may cast doubt on management’s
Integrity
Who would a client imposed scope limitation be communicated to?
Those charged with entity’s governance
How does a scope limitation alter the auditor’s report for 1) qualified opinion, 2) disclaimer of opinion?:
Introductory paragraph
QO: no modification
DoC: modified to note auditor was “engaged” to audit the
Financial statements
How does a scope limitation alter the auditor’s report for 1) qualified opinion, 2) disclaimer of opinion?:
Management’s Responsibility for Financial Statement Section
QO: no modification
DoC: no modification
How does a scope limitation alter the auditor’s report for 1) qualified opinion, 2) disclaimer of opinion?:
Auditors Responsibility Section
QO: no modification
DoC: 1st paragraph modified noting auditor couldn’t obtain
Sufficient appropriate evidence
Paragraphs describing audit and indicating audit provides a
basis for opinion are deleted
How does a scope limitation alter the auditor’s report for 1) qualified opinion, 2) disclaimer of opinion?:
Opinion paragraph
QO: modified to note “except for” the effects of adjustments that
Might have been identified
DoC: modified to indicate an opinion can’t be expressed on
The financial statements
How does a scope limitation alter the auditor’s report for 1) qualified opinion, 2) disclaimer of opinion?:
Additional paragraph
QO: identifies scope limitation
DoC: identifies scope limitation
Group financial statements
Financial statements of more than one component (division,
subsidiary, or other segment)
Group auditors AKA Principal auditors AKA Group engagement team
Perform audit of material portion of consolidated entity’s assets,
Liabilities, revenues, expenses
Component auditors, define, 3 things they may be engaged in
Other independent auditors
may be engaged to audit divisions,Subsidiaries or components that
are included in group financial Statements
When do situations of group financial statements occur that involve group auditors and component auditors?
Not common for largest accounting firms that have worldwide
Offices
May occur is client’s have remote subsidiaries or if client’s have
An investment in another entity that is accounted for using equity
Method
Because the group engagement t partner’s signature appears in the report in the financial statements of a consolidated or parent entity, the group auditors must make decisions regarding the use of…
The work and reports of component auditors
Do group auditors take responsibility for work of component auditors, if yes? 2) if no?
Yes: Standard Report with unmodified opinion, group auditors
Take full responsibility for component auditors’ work
No: do group auditors refer to component auditors by name?
do group auditors refer to component auditors by name, If yes?
If no?
Yes, obtain permission and present auditor’s report
No, group auditors modify report to indicate division of
Responsibility (unmodified opinion)
Division of responsibility
Situation where the component auditors are involved with the
Examination of subsidiary, branch, component or investment
That is included in the financial statements audited by group
Auditors
When group auditors decide to refer to the work reports of component auditors, is this kind of reference a scope limitation?
How should this report be considered compared to a standard unmodified report that does not contain a reference?
No
Should not be considered inferior to a standard unmodified
Report that does not contain a reference
The explanation should disclose the extent of the component auditor’s work by indicating…
The percent or amount of assets, revenues and expenses
Related to their work
When group auditors refer to component auditors work, are the component auditors identified by name?
No
When can component auditors be named in the group auditors’ report?
Only by express permission and with publication of their report
Along with group auditors report
When is a Standard (Unmodified) Report given under :
1) a departure from GAAP, 2) Scope Limitation, 3) Audit of Group financial statements?
1 Departure from GAAP is not material
2 Scope limitation is not material
3 Audit of group financial statements, when group auditor assumes responsibility For work of component auditors
When is an unmodified opinion with changes to standard report given to Audit of group financial statements?
When group auditor does not assume responsibility for work of
Component auditors
When is a qualified opinion given for a departure from GAAP or from a scope limitation?
When it’s material but not pervasive
What opinion is given when a departure from GAAP is material and pervasive?
Adverse opinion
What opinion is given when a scope limitation is material and pervasive?
Disclaimer of opinion
Emphasis-of-matter paragraphs
Paragraphs that provide information fundamental to users’
Understanding of entity’s financial statements
Other-matter paragraphs
Paragraphs that provide information relating to users’ understanding
Of the audit, auditors’ responsibility or auditors’ report
Emphasis of matter and other matter paragraphs may be collectively referred to as…
Explanatory paragraphs
Consistency (AS 6, AU 708): GAAS require that auditors’ report be modified to disclose… 2 things
1 changes in accounting principles in any of the year(s) presented
2 adjustments to correct misstatements in previously issued
Financial statements
How can comparability of financial statements be affected by change in accounting principles? 2 common ways
1 change in depreciation methods
2 change in inventory cost flow assumptions
Accounting Standards Codification 250 (ASC 250), “accounting changes and error corrections”, requirements regarding changes in… 4
(Also required by auditing standards)
1 principles
2 estimates
3 the accounting entity
4 correction of errors
What requirements do auditing standards parallel in regards to accounting changes and error corrections?
Accounting Standards Codification 250 (ASC 250)
Auditing standards require an emphasis of matter paragraph following the opinion paragraph for:
Change in accounting principles (give example)
Change from one GAAP method to another GAAP method
Auditing standards require an emphasis of matter paragraph following the opinion paragraph for:
Changes in form of reporting entity, what does not apply?
Other than that resulting from a transaction it event
Auditing standards require an emphasis of matter paragraph following the opinion paragraph for:
Change from an accounting principle that is not a generally accepted accounting principle to one that is a generally accepted accounting principle. What is this considered?
Considered an adjustment to correct a misstatement in previously
Issued financial statements
Auditing standards require an emphasis of matter paragraph following the opinion paragraph for:
Changes in accounting principles inseparable from…
Changes in estimates
When evaluating a change in accounting principle, what 4 things should auditors be satisfied about what 4 items?
1 newly adopted accounting principle is a GAAP
2 method of accounting for change is appropriate
3 disclosures relating to change are appropriate
4 newly adopted principle is preferable to previously used principle
If auditors are not satisfied when evaluating change in accounting principle, how should they treat the change?
They should treat the change as a departure from GAAP
and Modify the report accordingly
Going concern uncertainties
Questions raised about the entity’s ability to continue in operation
And meet its obligations as they become due
The most common report issued when going concern uncertainties exist is…
An unmodified opinion with an emphasis of matter paragraph
Following the opinion paragraph
That directs users to management’s disclosures about going
Concern uncertainties
What wording does the emphasis of matter paragraph with management’s disclosure of going concern uncertainties, following the unmodified opinion paragraph, use?
“Substantial doubt”, “going concern”
For severe going concern uncertainties, professional standards indicate that auditors may…
Issue a disclaimer of opinion with auditor’s report
Providing all substantive reasons for disclaimer
What would auditors do if entity has not properly disclosed matter related to going concern uncertainty?
Issue a qualified or adverse opinion on entities financial statements
Where can you look up companies that received going concern reports?
Using the Audit Analytics database
What 2 sections in annual reports to shareholders are not covered by the auditor’s opinion?
1 president’s letter
2 management’s discussion and analysis (MD&A)
Exception based reporting
Auditors’ reports mention other information if inconsistencies or
Misstatements exist
If misstatements or inconsistencies exist with respect to other information, the auditors should… 3
1 notify client in writing of their views
2 consult with legal counsel about appropriate action to take
3 consider whether inconsistency affects financial statement opinion
What should auditors do if misstatement/inconsistency affects the opinion on financial statements?
2) doesn’t affect the opinion
1 change opinion if affects opinion
2 doesn’t, then expand report to add an other matter paragraph
Identifying misstatement or inconsistency
When companies present required supplementary info, auditors are required to expand their report on financial statements to include…
An other-matter paragraph
Other-matter paragraph, 4
1 Identifies supplementary information
2 describes procedures performed on information
3 identifies any issues related to info
4 paragraph disclaims an opinion or any form of assurance on
Supplementary info
What 3 limited procedures are auditors required to perform with respect to supplementary info?
1 inquiry with management
2 comparing info for consistency with financial statements
3 obtaining written representations from management
4 problems that arise with supplementary info?
1 required info is omitted
2 info departs materially from presentation guidelines
3 info contains material departures from GAAP
4 auditors can’t perform necessary procedures to evaluate info
Beyond the wording in the standard (unmodified) report, auditors can enrich the information content in their reports by…
Adding 1 or more paragraphs to emphasize something they
Believe readers should consider important or useful
Ex. Warning bankruptcy filing may be imminent, description of audited as subsidiary of larger entity, effects of business events on comparability of financial statements, interaction of audited with related parties
Comparative financial statements, how many years is each financial statement presented comparatively?
Balance sheets = 2 years
Income, changes in shareholders equity and cashflows = 3 years
Comparative reporting Nonpublic companies
Nonpublic companies are not required comparative requirements
Of public companies
users may request they use multi year financial statements in
Comparative form
Aside from consolidated financial statements for public companies, what also must auditors check over to make sure they are presented in comparative form?
Footnotes
Updated report
Auditors’ report on prior year financial statements that is based
On both the prior year audit
And information that has come to attention in most recent audit
When auditors issue a report on the current year financial statements, they are required to update their report on the prior years financial statements by considering whether…
The opinions on prior years financial statements’ are still appropriate
Reissued report
Copy if previously issued report that auditors provide or grant
Entities permission to use in another document after its original date
Report is not modified to consider events occurring subsequent
To the date of the original report
Can auditors express different opinions on comparative years in the same report?
Yes
If auditors change their opinions on financial statements that have been restated to correct for departures from GAAP, what must auditors do?
Write an explanatory other-matter paragraph following the opinion
Paragraph
explaining their change in opinion
Different auditors in comparative years’ reports, how is this communicated?
In an other-matter paragraph following the introductory paragraph
Summarizes predecessor auditors’ responsibility and report
Or present predecessor auditors’ report
When reporting on comparative financial statements it is important that auditors indicate, what 2 things?
1 the nature of their engagement
2 the year(s) they are assuming responsibility
Reporting option(s): same auditors, same opinions for comparative years
Issue a plural form of report for all years presented
Reporting option(s): same auditors, different opinions for comparative years
Modify the report to express different opinions on different years
Presented
Reporting option(s): same auditors with modification of previously issued opinion
Add an other matter paragraph to current report to identify
The previously issued opinion
And indicate current opinion differs from previously issued opinion
Reporting option(s): different auditors in comparative years
Present predecessor auditors’ report
Or refer to predecessor auditors in other matter paragraph
What do summary financial statements not do?
Not fair presentations of financial position, results of operations,
And cashflow in accordance with GAAP
Auditors can look over summary financial statements only if…
They have audited the full financial statements
Auditors conclusion on summary financial statements
Will not express an opinion on summary financial statements
But will indicate if they are fairly stated in all material respects
In relation to complete financial statements
How may auditor’s report on supplementary info (AU 725)? 2
1 adding other matter paragraph to their report on financial
statements
2 or prepare separate report on supplementary info
Associated (association) with financial statements
Situations where auditors consent to use their name in some
Form of communication containing entity’s financials
Or submit to client or 3rd party users financial statements they
Have prepared or assisted preparing
What should auditors do when they are associated with but do not audit financial statements?
Issue a one paragraph disclaimer saying so
Single paragraph disclaimer report for association with financial statements. What does it not include? 2
1 not addressed to specific users
2 doesn’t reference procedures performed on financial statements
The auditors’ report is the single most important…
Communication that emerges from the audit examination
What should investors look for if the audit firm is not a Big 4 firm?
The reputation of the audit firm
PCAOB-based audits vs. ASB-based audits
PCAOB-based audits are superior and more thorough compared
to ASB based audits
2 situations when auditors would issue a single paragraph disclaimer of opinion?
1 lack of independence
2 association with unaudited financial statements
