PCAOB on Evaluating Consistency of Financial Statements

Question 1

When there is a change in accounting principle, the auditor should evaluate whether all of the following criteria have been met, except for whether
The change has been authorized by those charged with governance.
The method of accounting for the effect of the change conforms to GAAP.
The disclosures related to the change are adequate.
Management has justified that the alternative accounting principle selected is preferable to the previously used accounting principle.

Answer 1

The change has been authorized by those charged with governance.

When there is a change in accounting principle, the auditor is required to evaluate four matters: (1) whether the newly adopted principle is GAAP; (2) whether the method of accounting for the effect of the change conforms to GAAP; (3) whether the disclosures related to the change are adequate; and (4) whether the company has justified that the alternative accounting principle is GAAP. Hence, it is not true to suggest that the change must be authorized by those charged with governance.

Question 2

An auditor should ordinarily add an explanatory paragraph to the auditor’s report to identify a material matter related to
A change in reporting entity resulting from a specific transaction or event.
A change in accounting principle caused by the issuance of a new authoritative accounting standard that rendered the principle previously used no longer generally accepted.
A change in classification in previously issued financial statements.
All of the above.

Answer 2

A change in accounting principle caused by the issuance of a new authoritative accounting standard that rendered the principle previously used no longer generally accepted.

PCAOB auditing standards (specifically, AS Section 2820) identify two specific matters that affect the auditor’s evaluation of consistency of financial statements: (1) a change in accounting principle; and (2) an adjustment to correct a misstatement in previously issued financial statements (i.e., a “restatement”). A change in accounting principle may be at management’s discretion or it may be mandated by a change in accounting standards that eliminates an accounting alternative that was previously accepted but no longer is.

Question 3

If management has not justified that the alternative accounting principle is preferable to an accounting principle previously used and the effect of the change in accounting principle is material to a company’s financial statements, the auditor should
Decide between a qualified opinion and an adverse opinion.
Decide between a qualified opinion and a disclaimer of opinion.
Issue an unqualified opinion with an explanatory paragraph.
Decide between a disclaimer of opinion and an adverse opinion.

Answer 3

Decide between a qualified opinion and an adverse opinion.

When there is a change in accounting principle, the auditor should evaluate whether: (1) the newly adopted principle is GAAP; (2) the method of accounting for the effect of the change conforms to GAAP; (3) the disclosures related to the change are adequate; and (4) the company has justified that the alternative accounting principle is preferable. If one (or more) of the above criteria is (are) not met, the auditor should treat the matter, if material, as a GAAP departure, which involves a choice between a qualified opinion and an adverse opinion.