Going Concern Assumption and Audit Estimations

Question 1

What is the going concern assumption?

Answer 1

The entity is viewed as continuing in business for the foreseeable future (1 year)

Question 2

What is the auditors responsibility regarding the going concern assumption?

Answer 2

Obtain sufficient appropriate audit evidence about the appropriateness of managements use of the going concern assumption in the preparation of the financial statements and to conclude whether there is a material uncertainty about the entity’s ability to continue as a going concern.

Question 3

What is the auditors responsibility with the going concern risk assessments?

What other information should be taken into consideration?

Answer 3

When performing the risk assessment procedures, the auditor shall consider and must remain alert when determining whether there are events or conditions that may cast significant doubt on the entity’s ability to continue as a going concern. Basically just look for events.

Preliminary risk assessments that were done by the management

Question 4

What analytical procedure is used by audit firms to assess the risk of going concern?

What is the bankruptcy prediction model? How does it classify the firm?

What is an example of this model?

Answer 4

Bankruptcy prediction model. These models use the publicly available information to estimate the probability of bankruptcy, classifying the firm into a fail or non fail category. Altman Z-scores

Question 5

What does an auditor do if it is determined that there are events and conditions that cast doubt on the firms ability to be a going concern?

Answer 5

The auditor shall collect SAAE to determine whether or not a material uncertainty exists relating to the events or conditions that may prevent the firm from being an ongoing concern. Basically we now know that an event or condition exists, not we assess its materiality.

Question 6

What are examples of mitigating factors in the material uncertainty of the going concern basis?

Answer 6

1. LOC availability
2. Debt extensions
3. Reduction of the dividend payments

Question 7

What are 5 procedures that should be implemented by the auditor when assessing the going concern assumption of a company?

Answer 7

1. If the management has not performed an assessment of their own on their ability to be a going concern, auditors request that they make their own assessment as well.
2. Evaluate the managements plans for future actions in relation to their going concern assumption, and whether this outcome will improve the situation and the plan is feasible.
3. When the entity has prepared a cash flow forecast, and the analysis of the forecast is a significant factor in considering the future outcomes of events or conditions in the evaluation of managements future actions, this should be assessed.
4. Consider whether any additional factors or information have become available since the date on which management made its assessment.
5. Request the written representations from management and where appropriate, those charged with governance, regarding their plans for future actions and the feasibility of these plans.

Question 8

When is the use of GC basis of accounting inappropriate? What type of opinion do we provide if this occurs?

Answer 8

If the F/S have been prepared using the GC basis of accounting, but in the auditors judgement , managements use of the GC basis of accounting in the preparation of the financial statements are inappropriate the auditor shall express an adverse opinion.

Question 9

What does the auditor do if the GC basis of accounting appropriate but has material uncertainty and they have created a note to the financial statements?

What additional section must be added onto the report with regards to the GC assumption?

Answer 9

If adequate disclosure about the material uncertainty is made in the financial statements, the auditor shall express an unmodified opinion.

The auditors report shall include a separate section under the heading material uncertainty related to GC, and explain what is happening.

Question 10

Describe what the auditor should do in the situation where the going concern basis of accounting is appropriate, but a material uncertainty exists, and no disclosure is made.

What additional section must be added onto the report with regards to the GC assumption departure?

Answer 10

1. Express a qualified opinion or adverse opinion, as appropriate.
2. Basis for Qualified (Adverse) Opinion section of the auditors report, state that a material uncertainty exists that may cast significant doubt on the entity’s ability to continue as a GC and that the financial statements do not adequately disclose the matter.

Question 11

Why is there such a large difficulty in auditing the going concern assumption?

Answer 11

Managements assessment of the entity’s ability to continue as a going concern involves making a judgement at a particular point in time, about inherently uncertain future outcomes of events and conditions. Thus circumstances change and it can be difficult to assess.

Question 12

What are the three factors that are relevant to the going concern assumption judgement?

Answer 12

1. The degree of uncertainty associated with the outcome of an event or conditions increases significantly the further into the future an event, conditions, the outcome occurs
2. The size, complexity of the entity, the nature and condition of its business, and the degree to which it is affected by external factors affect the judgement regarding the outcome of events or conditions.
3. Any judgement about the future is based on information available at the time at which the judgement is made. Subsequent events may result in outcomes that are inconsistent with judgements that were reasonable at the time they were made.

Question 13

What does CAS 200 state regarding the going concern assumption and the future events?

Answer 13

Emphasizes the potential effects of inherent limitations on the auditors ability to detect material misstatements are greater for future events that may cause an entity to cease to continue as a going concern.

Question 14

What does the CAS 570 state in relation to CAS 200? - Caution to the users of the financial statements.

Answer 14

The absence of any reference to a material uncertainty about the entity’s ability to continue as a going concern in an auditors report cannot be viewed as a guarantee to the entity’s ability to continue as a going concern.

Question 15

What does CAS 540 state? Was this standard recently revised?

Answer 15

Auditing accounting estimates and related disclosure - It governs the auditing of accounting estimates. Yes the standard was recently revised, with amendments to the related standards.

Question 16

What is a descriptor of accounting estimates and when are they required to be made?

What are these values subjected too? What does it reflect?

What does the limitation give rise too?

Answer 16

It is wide in nature and are required to be made by management when the monetary amounts cannot be observed directly.

The measurement of these amounts are subjected to estimation uncertainty, which reflects the inherent limitations in knowledge or data.

The limitations give rise to inherently subjectivity and variation in the measurement of outcomes.

Question 17

What does the process of making accounting estimates involve?

Answer 17

It involves selecting and applying a method using assumptions and data, which requires judgement by management and can give rise to complexity in measurement.

Question 18

What are three examples of the most complex accounting estimates?

Answer 18

1. Financial instruments
2. Pensions (Actuarial) Liabilities
3. Goodwill Impairment Charges

Question 19

What are the three assumptions and input parameters required to calculate an accounting estimate?

Answer 19

1. Business valuation variables (timing and amounts of future cash flows, growth rates, and discount rates)
2. Actuarial Parameter (Survival and attrition Rates)
3. Finance variables (Volatilities)

Question 20

What is the objective of the auditor in accounting estimates?

Answer 20

To obtain SAAE about whether accounting estimates and related disclosures in the financial statements are reasonable in the context of the applicable financial reporting framework, or if they are misstated.

Question 21

What is a reasonable estimate according to CAS?

Answer 21

It describes what a reasonable estimate means. It states that reasonable in the context of applicable financial reporting framework means that the relevant requirements of the applicable financial reporting framework have been applied appropriately.

Question 22

What are the three reasons that managements accounting estimates be unreasonable?

What are two items that management tends to increase?

Answer 22

1. Inherent difficulty in developing the estimate (high estimation uncertainty)
2. Lack of technical expertise by management to develop and use appropriate methods and models to determine the value of an accounting estimate
3. Deliberate management bias when developing accounting estimates

(Typically management does this to increase net income and net assets)

Question 23

What is an accounting estimate?

Answer 23

A monetary amount for which the measurement, in accordance with the requirements of the applicable financial reporting framework, is subject to estimation uncertainty.

Question 24

What is the auditors point estimate or auditors range?

Answer 24

It is an amount, or range of amounts, developed by the auditor to evaluate the managements point estimate

Question 25

What is estimation uncertainty?

Answer 25

Susceptibility to an inherent lack of precision in measurement

Question 26

What is management bias?

Answer 26

A lack of neutrality by management in the preparation of information

Question 27

What is managements point estimate?

Answer 27

The amount selected by management for recognition or disclosure in the financial statements as an accounting estimate

Question 28

What is an outcome of an accounting estimate?

Answer 28

The actual monetary amount that results from the resolution of the transaction, event, or conditions addressed by an accounting estimate.

Question 29

What are the 2 factors that we need to assess when performing risk assessment procedures that have been subjected to accounting estimates?

Answer 29

1. The degree to which the accounting estimate is subject to estimation uncertainty. 2. The degree to which the following are affected by subjectivity, complexity, or other inherent risk factors.

Question 30

What are the three auditors responses to the assessed RMM for the audit estimates? (OTD)

Answer 30

1. Obtain audit evidence from events occurring up to the date of the auditors report. 2. Testing how management made the accounting estimate 3. Developing an auditors point estimate or range

Question 31

What are two situations where the auditor will design and perform tests on the effectiveness of controls for accounting estimates?

Answer 31

1. The auditors assessment of RMM at the assertion level includes an expectation that the controls are operating effectively. 2. Substantive procedures alone cannot provide SAAE at the assertion level.

Question 32

In practice, do firms mostly use substantive or controls testing?

Answer 32

Mostly firms just use pure substantive testing.

Question 33

When accounting for estimates, who are the 3 specialists that typically gets involved?

Answer 33

1. Actuary for the pension liability 2. CBV for goodwill impairments 3. CFA for the financial instrument

Question 34

Is it always possible to audit the accounting estimates?

Answer 34

It is unclear, there is a large debate among the setters, auditors, and regulators because it may not be possible to narrow the estimate to stay within aa reasonable range for audit materiality, since the model is sensitive to change in inputs.

Question 35

Which CAS governs the EOM and OM? What do these pargraphs do?

Answer 35

CAS 706 They add additional information to the auditors report. EOM refers to information presented in the financial statements Other Matters (OM) Paragraphs can refer to other information included within the financial statements such as MD&A or comparative information from other periods.

Question 36

What is the Emphasis of a Matter Paragraph?

Answer 36

A paragraph included in the auditors report that refers to a matter appropriately presented or disclosed in the financial statements that, in the auditors judgement, is of such important that it is fundamental to uses understanding of the financial statements.

Question 37

What are 4 examples where an Emphasis of a Matter paragraph may be used?

Answer 37

1. An uncertainty relating to the future outcome of exceptional litigation or regulatory action. 2. A significant subsequent event that occurs between the date of the financial statement and the date of the auditors report. 3. Early application (where permitted) of a new accounting standard that has a material effect on the financial statements. 4. A major catastrophe that has had, or continues to have, a significant effect on the entity's financial position.

Question 38

What is the other matter (OM) paragraph?

Answer 38

A paragraph included in the auditors report that refers to a matter other than those presented or disclosed in the financial statement, that in the auditors judgement, is relevant to users understanding of the audit, the auditors responsibilities, or the auditors report.

Question 39

What are 4 examples of other matters paragraphs

Answer 39

1. Relevant to users understanding of the audit. 2. Relevant to users understanding of the auditors responsibilities or the audit report 3. Reporting on more than one set of financial statements 4. Restrictions on distribution or use of the auditors report.