Chapter 5 Flashcards
In an audit report of an issuer, which paragraph of the auditor’s report should the auditor reference Generally Accepted Accounting Principles?
Opinion paragraph is correct. Generally Accepted Accounting Principles (GAAP) should be referenced in the opinion paragraph. The visual below illustrates the topics that should be included in the opinion for an issuer. Reference to GAAP is bullet #3.
When there has been an immaterial change in accounting principles, the auditor should:
Ignore the change in consistency and not make reference at all is correct. The keyword to pick up on is “immaterial”. Companies make changes all of the time, but the audit team should only focus on changes or items that are material to the financial statements as they cannot audit everything. Therefore, if the change is “immaterial”, then the audit team can ignore the change in consistency and not make reference at all. Now in reality, it can be a bit subjective of whether it is material or not, but the question states the change is immaterial, so the correct answer is based on that terminology.
Where should an auditor report an accounting change that does not have a material effect in the current year financial statements, but is expected to have a material effect in later years?
The auditor should report this change in the notes to the current year financial statements is correct. If an accounting change does not contain a material effect on the financial statement of the current year, it will be disclosed in the financial statement notes of the current year. It is not required that the auditor issues a qualified opinion, or any modification for that matter in the current year.
Gisele’s client is a public company that files their financial statements with the SEC. Where in the auditor’s report should an explanatory paragraph be placed?
Following the critical matters paragraph is correct. An auditor issuing a “clean” opinion for a public company (issuer) filing its financial statements with the SEC will receive an unqualified opinion. If certain circumstances arise that are meant to draw the user’s attention, while not affecting the auditor’s unqualified opinion, should be mentioned in an explanatory paragraph. If included, the Explanatory paragraphs will be included after the Opinion, Basis for Opinion, and Critical Matters paragraph.
When there has been a change in accounting principles, but the effect of the change on the comparability of the financial statements is not material, the auditor should
Not refer to the change in the auditor’s report is correct. The question says the change is “NOT MATERIAL”. That means move on and don’t worry about it. You should keep it on your radar because it could become material, but for the current year financials, there is no reason to edit the financial statements to explain the change.
Simone, the audit partner, is preparing the auditor’s report. Where should Simone make reference to Generally Accepted Auditing Standards for a report on a non-issuer?
Basis for Opinion Paragraph is correct. Complying with or following Generally Accepted Auditing Standards will always be the responsibility of the auditor, this will be acknowledged in the Basis for Opinion paragraph.
Which of the following is least appropriately considered a condition or event that indicates that there could be substantial doubt about an entity’s ability to continue as a going concern?
Issuance of bonds at the prevailing interest rate is correct. The phrase “prevailing interest rate” means that the bonds are just offered at the normal or current interest rate (no special rates). This would not indicate any major issues within the company, so that is why it is least likely to raise substantial doubt about the entity’s ability to continue as a going concern (will they operate in a few years???).
Which of the following most likely would be considered a mitigating condition concerning an entity’s ability to continue as a going concern?
Plans to increase ownership equity is correct. We’re looking for an option that indicates the risk of going out of business is reduced (mitigating condition). If the company is planning to increase ownership equity, that means more cash will be invested into the business without the company taking on more debt. This would reduce the risk that the company goes out of business.
An entity prepares its financial statements on its income tax basis. The accompanying notes include a summary of significant accounting policies that discusses the basis of presentation and describes how that basis differs from GAAP. The dollar amount of the effects of the difference between the income tax basis and GAAP:
Need not be quantified and included in either the notes to the financial statements or the auditor’s report is correct. While the financial statements and audit report must indicate that the income tax basis was used, the financials and audit report do NOT need to disclose what the dollar difference would be when comparing the financial results under each basis of presentation.
Which of the following options is correct regarding what type of opinion would be issued for issuers and non-issuers if the audit team believes the financial statements are fairly presented and internal controls are operating effectively?
Issuer = Unqualified opinion and Non-issuer = Unmodified opinion is correct. This is the only correct statement. The audit team will issue an unqualified opinion for issuers (i.e. public companies following PCAOB standards) and non-issuers will receive unmodified opinions.
For which of the following responses in a legal letter would an auditor most likely qualify the audit opinion for a scope limitation?
The response specifically excludes information on a pending legal matter because of publicity concerns is correct. A scope limitation is when the audit team is unable to gather sufficient evidence to form the opinion on the financial statements. If the client stated, “publicity concerns”, then that would likely be a valid to issue a qualified opinion because of a scope limitation.
An audit firm is performing an audit for a public company in the United States. Which of the following would the issuance of a disclaimer of opinion be inappropriate?
Management fails to disclose a significant subsequent event is correct. Under US GAAP, all significant subsequent events must be disclosed in the financial statements. Therefore, not reporting all required subsequent events results in a departure from US GAAP, which means the auditor could issue an adverse or qualified opinion, but not a disclaimer of opinion. Disclaimer of opinions relate to the auditor’s inability to comply with GAAS (i.e. auditing standards). All of the other options represent situations where the audit team could issue a “disclaimer of opinion”.
Which of the following phrases would an auditor of a non-issuer most likely include in the auditor’s report should they decide to express a qualified opinion due to a financial statement departure?
Except for the omission of the information described in the basis for qualified opinion paragraph…” is correct. The key phrase in the question is “Except for”. The audit team would use this phrase when they believe the financial statements are fairly stated “except for” one issue, which in this case was a departure from US GAAP. Just remember, a qualified opinion is sometimes referred to as the “except for” opinion.
Assuming both of a company’s below listed departures are material but not pervasive, which of the following reasons would result in the auditor issuing a disclaimer of opinion?
Neither I nor II is correct. This can be quite tricky, but the reason we included this multiple-choice question is so that you focus on understanding if the issue is material AND pervasive. Since the issue is material, but not pervasive, it automatically results in a qualified opinion. Now the reasoning might be different, but unless the issue is material AND pervasive, we can automatically eliminate “disclaimer of opinion” and “adverse opinion”. On the exam, the question will specifically state or include an explanation to help you understand if the issue is material and pervasive.
When auditing ABC Company, the auditor determines that the financial statements presented by management are not in conformity with United States Generally Accepted Accounting Principles (GAAP). Which of the following opinions would least likely be issued in the audit report of the nonissuer client?
A disclaimer of opinion is correct. A disclaimer of opinion would only be issued if the modified opinion was due to departures from Generally Accepted Auditing Standards (GAAS), not GAAP.
