Chapter 19 - Audit Reports on Financial Statements

Question 1

What are the 2 responsibilities of the auditor when performing the financial statement audit?

Answer 1

(1) form an opinion on the financial statements, and

(2) issue the opinion in a written report that describes the basis of the conclusion.

Question 2

Why is an unmodified audit opinion, or a “clean opinion”, the most common type of audit report?

Answer 2

• Companies will typically make the required adjustments to the financial statements and disclosures rather than receive a qualified opinion.
• In the case of public companies, securities legislation requires an unmodified audit opinion.

Question 3

What are the 5 conditions that must be met for the auditor to issue an unmodified opinion?

Answer 3

1. An audit engagement has been undertaken to express an opinion on financial statements.
2. The auditor followed generally accepted auditing standards (GAAS).
3. The auditor was able to perform all necessary procedures.
4. The auditor was able to obtain sufficient appropriate evidence to conclude that the financial statements as a whole are free from material misstatement.
5. The financial statements are fairly presented in accordance with an appropriate applicable financial reporting framework.

Question 4

What are the requirements for reporting material uncertainty for going concern?

Answer 4

If adequate disclosure is made in the financial statements about material events or uncertainties that would cause doubt about the entity’s ability to continue as a going concern, then the auditor shall issue an unmodified audit opinion and include a section in the audit report titled “Material Uncertainty Related to Going Concern.”

This section should (1) draw the users’ attention to the note in the financial statements, and (2) state the events or conditions that indicate a material uncertainty.

If management does not have adequate disclosure about the material uncertainty, then the auditor will either express a qualified or adverse audit opinion.

Question 5

What are key audit matters?

Answer 5

Key audit matters are essentially those areas that the auditor considered to be of most significance in the current audit. Significant matters are those that often involve difficult and complex auditor judgments.

Question 6

What are the 3 types of key audit matters?

Answer 6

1. areas of higher assessed risk of material misstatement and items that require significant judgment (such as estimates)
2. items for which the auditor encountered significant difficulty (such as in obtaining sufficient evidence)
3. modifications to the planned approach due to control deficiencies.

Question 7

Circumstances in which an emphasis of matter paragraph may be necessary are:

Answer 7

• Significant uncertainty regarding the future outcome of exceptional litigation or regulatory action.
• Early application of a new accounting standard that has a pervasive effect on the financial statements.
• A major catastrophe that has had or continues to have an impact on the entity.
• Significant transactions with related parties.

Question 8

Circumstances in which the auditor may consider other matter(s) paragraph(s) necessary are:

Answer 8

• Law, regulations, or a common practice requires or permits the auditor to elaborate on certain matters.
• The auditor has other reporting responsibilities that are in addition to the financial statements.
• The entity has prepared more than one set of financial statements.
• The financial statements were prepared for a special purpose.

Question 9

When MUST a modified audit opinion be issued?

Answer 9

Whenever the auditor faces either a GAAP departure or a scope limitation, and it is material, a report other than an unmodified audit opinion must be issued.

Question 10

What is the purpose of modifying the audit opinion?

Answer 10

By modifying the opinion, the auditor brings to the readers’ attention any concerns auditors have about the quality of the financial statements.

Question 11

What are the 4 main types of modified auditor’s reports?

Answer 11

1. qualified opinion—GAAP departure
2. qualified opinion—scope limitation
3. adverse opinion
4. disclaimer of opinion

Question 12

What are the implications for the auditor when issuing a qualified audit opinion?

Answer 12

Whenever an auditor issues a qualified opinion, he or she must use the term “except for” or, less frequently, “except that” or “except as” in the opinion paragraph.

Details of the exception are provided in a separate paragraph, “Basis for Qualified Opinion,” which follows the Qualified Opinion paragraph.

Question 13

When is an adverse audit opinion issued?

Answer 13

An adverse opinion is used only when the auditor concludes that the financial statements contain material and pervasive misstatement(s); this also includes lack of important disclosures that are pervasive.

This means that the auditor has concluded that the financial statements, taken as a whole, are materially misstated or misleading.

Question 14

When is a disclaimer of opinion issued?

Answer 14

A disclaimer of opinion is issued whenever the auditor has been unable to satisfy himself or herself that the overall financial statements are fairly presented.

The necessity for denying (“disclaiming”) happens because of a severe limitation on the scope of the audit examination, which would prevent the auditor from expressing an opinion on the financial statements as a whole.

Question 15

Summarize the conditions and types of modified reports (table).

Answer 15

CONDITION 1: Financial statements are materially misstated (GAAP departure)

• Material but not pervasive: Qualified (except for) opinion
• Material and pervasive: Adverse opinion

CONDITION 2: Inability to obtain sufficient appropriate audit evidence (scope limitation)

• Material but not pervasive: Qualified (except for) opinion
• Material and pervasive: Disclaimer of opinion

Question 16

What criteria does the auditor use to assess the client’s financial statements?

Answer 16

The accounting principles that form part of an acceptable financial reporting framework.

Question 17

What are the auditor’s responsibilities that are included in the independent auditor’s report?

Answer 17

1. To express an opinion on the financial statements based on the audit.
2. To conduct the audit using GAAS.
3. To exercise professional judgment and skepticism throughout the audit.
4. To comply with ethical requirements.
5. To plan and perform the audit to obtain reasonable assurance as to whether the financial statements are free from material misstatement.
6. To report to those charged with governance the planned scope and timing of the audit and significant audit findings, including any deficiencies in internal control.

Question 18

What is the appropriate date for the auditor’s report, and what is its significance for financial statement users?

Answer 18

The audit report can be dated only when the board of directors (or in the case of smaller organizations the primary shareholder) has approved the financial statements.

This date is important to users because it indicates the last day that the auditor is responsible for the review of significant events that occurred after the date of the financial statements.

Question 19

Describe the difference between the corresponding figures and the comparative financial statements approach.

Answer 19

With corresponding figures, the auditor provides an opinion on only the current year’s financial information, while with the comparative financial statements approach, an opinion is provided on both years.

Question 20

Explain the difference between key audit matters and emphasis of matter and other matter paragraphs.

Answer 20

There may be a matter that is not determined to be a KAM (i.e. because it did not require significant auditor attention), but is fundamental to users’ understanding of the financial statements, the audit, the auditor’s responsibilities or the auditor’s report (for example a subsequent event). If it is considered necessary to draw users’ attention to such a matter, the matter is included in an Emphasis of Matter or Other Matter paragraph as appropriate.

Question 21

Explain the difference between an emphasis of matter paragraph and an other matter paragraph.

Answer 21

The Emphasis of Matter paragraph is used to highlight or emphasize material that is already in the client financial statements or notes whereas the Other Matter paragraph is used to provide information that is not in the client financial statements or notes and is related to auditor’s reporting responsibilities.

Question 22

What type of audit opinion is issued when the only errors found during the audit are immaterial? Why?

Answer 22

The unmodified audit opinion would be issued because the financial statements are found to present fairly the financial position of the entity.

Question 23

What is the difference between material, and material and pervasive?

Answer 23

A condition that is considered material but not pervasive has a limited and isolated effect on the financial statements.

In contrast, a material and pervasive condition is such that its effect(s) cannot be isolated to specific accounts or items, meaning it has an extensive effect on the financial statements and it impacts many assertions.

Question 24

Under what conditions does the auditor issue a qualified opinion?

Answer 24

If material misstatements are considered not pervasive, then a qualified audit report can be issued.

Question 25

Under what conditions does the auditor issue an adverse opinion?

Answer 25

If the misstatements are considered pervasive, then a qualified report cannot be issued—there must be an adverse or disclaimer of opinion instead.

Question 26

Why is a report that contains a disclaimer of opinion normally shorter than other reports?

Answer 26

With a disclaimer, the auditor has not conducted enough fieldwork to do an audit, so the explanation about the auditor’s responsibility is shortened, removing the descriptions about the nature of the audit process.