Reports on Audited Financial Statements Flashcards
When the auditor states whether the client’s financial statements are in accordance with GAAP, what else must he specify?
The country of origin for the GAAP
What are different sources of GAAP?
(1) Financial Accounting Standards Board (FASB)
(2) Governmental Accounting Standards Board (GASB)
(3) Federal Accounting Standards Advisory Board (FASAB)
(4) International Accounting Standards Board (IASB)
What are the two main levels of U.S. GAAP?
(1) Authoritative – in the Codification
(2) Nonauthoritative – everything else
What is the hierarchy of GAAP for state and local governments?
(1) GASB Statements and Interpretations
(2) GASB Technical Bulletins (also AICPA Industry Auditing and Accounting Guides, and AICPA Statements of Position)
(3) AICPA Practice Bulletins (and consensus positions of accountants organized by GASB)
(4) Implementation guides (Q&As) published by GASB (and widely recognized gov’t-accounting practices)
What is the hierarchy of GAAP for the federal government?
(1) FASAB Statements and Interpretations
(2) FASAB Technical Bulletins (also AICPA Industry Auditing and Accounting Guides, and AICPA Statements of Position)
(3) AICPA Practice Bulletins (and Technical Releases from the FASAB Accounting and Auditing Policy Committee)
(4) Implementation guides (Q&As) published by FASAB (and widely recognized gov’t-accounting practices)
When should the auditor report on the consistent application of accounting principles in the auditor’s report?
Only if principles are not applied consistently
If unmentioned, consistency of application is implied
If the client has had a change in accounting principles with a material effect on the financials, and correctly applied them, does the auditor need to mention it?
Yes, in the explanatory paragraph
Where does the explanatory paragraph go in the auditor’s report?
Either before or after the opinion paragraph, depending on what’s being explained
What accounting changes affect consistency?
(1) Changes in accounting principle
(2) Corrections of errors in accounting principle
What counts as a change in accounting principle?
(1) change from one GAAP principle to another
(2) if a principle is no longer GAAP
(3) if a GAAP principle is applied differently
What are specific instances of changes in accounting principles?
(1) Change in reporting entity – if NOT resulting from a transaction or event
(2) Changes in presentation of cash flows
(3) Change to account for investments by the equity method
What about investments under the equity method is relevant to changes in accounting principles?
The auditor should consider the effect of the investee’s change in accounting principle (supposing the client is the investor), since it could affect the investor’s statements materially
What counts as a correction of an error in accounting principle?
Changing from a non-GAAP principle to a GAAP one
What happens if a change in principle is inseparable from a change in estimate?
Though it is accounted for as a change in estimate, it is treated for consistency purposes as a change in principle and thus requires mentioning on the report
What accounting changes do not affect consistency?
(1) Changes in accounting estimates
(2) Error corrections (unless the error involves an accounting principle)
(3) Changes in classification
(4) Using different principles for substantially different events
(5) A current change which doesn’t affect current statements but is expected to affect future ones
These do not require mentioning in the auditor’s report
What is different about error corrections for public companies?
Auditors for public companies should treat all errors (not just errors concerning accounting principles) as matters of consistency to be mentioned in the auditor’s report
Should the auditor learn about the consistency of accounting principles if no comparative statements are presented?
Yes
If the auditor is reporting on comparative financial statements, how far back should he examine accounting consistency?
One year prior to the earliest year presented
What should the auditor do if the client’s disclosures are inadequate?
He must report this in the auditor’s report
What information about an inadequate disclosure should the auditor provide in his report?
He should provide the information if it is practicable (or if an auditing standard permits him not to)
He should not perform the function of a financial-statement-preparer for the client
What kind of information can the auditor disclose in his audit report?
Only what is required by GAAP – otherwise he needs management consent, due to confidentiality
When an auditor expresses an opinion, can he present different opinions for different parts of the financial statements?
Yes, if the circumstances warrant
What is an important purpose of writing an opinion?
That the auditor takes appropriate responsibility for the opinion
What kinds of opinions are forbidden?
Piecemeal opinions – opinions on specific parts of financial statements which overshadow or contradict the larger opinion
An auditor can express an opinion on some small part of the statements, but (i) he shouldn’t do this for a bunch of different parts in the statements, and (ii) he should present this in a separate report
What are the different types of opinions an auditor can offer?
(1) Unqualified opinion
(2) Modified unqualified opinion
(3) Qualified opinion
(4) Adverse opinion
(5) Disclaimer of opinion
What are the circumstances warranting an unqualified opinion?
(1) No departures from U.S. GAAP
(2) Adequate disclosures
(3) No unusual contingencies in the statements
(4) No scope limitations
(5) GAAP is consistently followed
(6) The auditor is independent
Audits ordinarily need to be conducted in accordance with GAAS, but what do auditors for public companies have to specify?
They should specify that the audit was conducted in accord with PCAOB standards, instead of GAAS
Also must include city, state, and country (if non-U.S.) where the audit report is issued
What is a modified unqualified opinion?
An unqualified opinion with an explanatory paragraph added on – AFTER the opinion paragraph
What are some circumstances warranting a modified unqualified opinion?
(a) If other auditors help in the audit
(b) If there is a justifiable departure from GAAP
(c) If there is a material lack of consistency
(d) If the auditor doubts the company’s ability as a going concern
(e) To emphasize some matter
What is a qualified opinion?
An opinion approving the financial statements “except for” some problem
What are some circumstances warranting a qualified opinion?
(a) Scope limitation
(b) Material departure from GAAP
These two don’t necessitate a qualified opinion (e.g. a material departure from GAAP could be bad enough for an adverse opinion)
What is an adverse opinion?
An opinion that the statements do NOT fairly present financial information about the company
What is a disclaimer of opinion?
A refusal of the auditor to state an opinion
Under what circumstances would an auditor give a disclaimer of opinion?
Usually for scope limitations – but never for material departures from GAAP
What are the general components of a standard auditor’s report?
(1) Title
(2) Address
(3) Introductory paragraph
(4) Scope paragraph
(5) Opinion paragraph
(6) Signature
(7) Date
What should be included in the title of the auditor’s report?
The word “independent”
To whom should the auditor’s report be addressed?
Either the company, the board of directors, or stockholders, but NOT to management
Or, if the client is not the company under audit, then it should be addressed to the client
What should be included in the introductory paragraph of the auditor’s report?
(1) That the financial statements were audited
(2) That management is responsible for the financials, and that the auditor’s responsibility is to express an opinion on the financials
What should be included in the scope paragraph of the auditor’s report?
(1) That the audit was done in accordance with U.S. GAAS
(2) That GAAS requires the auditor to obtain reasonable assurance on whether the financials have material misstatement
(3) That an audit includes examining evidence, assessing principles and estimates, and evaluating the statements’ presentation
(4) That the auditor believes the audit provides a reasonable basis for his opinion
What should be included in the opinion paragraph?
The opinion
What should be the date on the auditor’s report?
No earlier than the date when the auditor obtained sufficient and appropriate evidence for his opinion
In a modified unqualified opinion, when should the auditor decide to make reference to an auditor who helped with the audit?
The main point is whether the main auditor will take responsibility for the other’s work or divide up the responsibility
If the auditor’s name is mentioned, it must be with his consent
If the auditor mentions other auditors’ work in the auditor’s report, where should it be mentioned?
Introductory paragraph – there should NOT be an extra explanatory paragraph for this
If the auditor has a modified unqualified opinion due to reasons other than another auditor’s help, where should it be mentioned?
In the explanatory paragraph AFTER the opinion paragraph
If the auditor has a modified unqualified opinion due to doubt about the company as a going concern, how should it be reported?
In the explanatory paragraph, the words “substantial doubt” and “going concern” need to be used
May not state that substantial doubt exists IF some condition occurs – no conditional language allowed
If the auditor’s report gives a qualified opinion, where should the qualification be mentioned?
In the explanatory paragraph(s) before the opinion paragraph
What words need to be included in the explanatory paragraph for a qualified opinion?
“Except” or “exception” (e.g. “except for…”) – need to get the point across that the statements are fairly presented “except for” some qualification(s)
Other words are not powerful enough
How does a qualified opinion affect paragraphs besides the explanatory paragraph?
The opinion paragraph should still make reference to the qualification
What are examples of scope limitations?
- Management refuses to permit the auditor to audit accounts receivable
- The audit is unable to physically observe inventory, though mgmt is willing
What should the auditor do if management declines to have a specific financial statement be audited?
Probably just a qualified opinion
As usual, there should be an explanation in the explanatory paragraph, with other paragraphs referencing the omission
What do adverse opinions state?
That the audited financial statements do not fairly present the company’s financial information in conformity with GAAP
If the auditor’s report gives an adverse opinion, where should the reason be mentioned?
In the explanatory paragraph(s) before the opinion paragraph
This is the same as for a qualified opinion
How does an adverse opinion affect paragraphs besides the explanatory paragraph?
The opinion paragraph needs to directly refer to the explanatory paragraph(s) explaining the reason for the adverse opinion
What do disclaimers of opinion state?
That the auditor does not express any opinion on the financials, due to a lack of scope
What paragraphs will be omitted from the auditor’s report if there is a disclaimer of opinion?
Both the opinion paragraph and the scope paragraph
Technically, the opinion paragraph is replaced by the paragraph disclaiming an opinion, which might not be considered an omission
If the auditor’s report gives a disclaimer of opinion, where should the reason be mentioned?
In some extra paragraph
There will be no scope paragraph or opinion paragraph, so the explanatory paragraph will not technically precede either
If the auditor is disclaiming an opinion, should he mention anything about whether financial statements conform to GAAP?
Yes, it is still appropriate to mention any reservations he has regarding fair presentation
Does a continuing auditor who is auditing comparative statements need to update his reports on prior-year statements?
Yes, and the reports may vary if circumstances change
Can an auditor of comparative statements have different opinions for different financial statements?
Yes
If an auditor of comparative statements has different opinions for different financial statements, how should this be mentioned in the auditor’s report?
Reasons for any change in opinion should be mentioned in an explanatory paragraph, which the opinion paragraph should reference
There don’t have to be separate paragraphs for separate statements
What should the auditor report if a prior-period financial statement had a qualified opinion in the past but currently has no need for qualification?
The updated report should specify that the statements are restated and that they now have the auditor’s unqualified opinion
What should the auditor report if a prior-period financial statement currently has a different opinion than in the past?
The report should have a separate explanatory paragraph before the opinion paragraph noting the reasons for the opinion
If an auditor reports a change in opinion when auditing comparative financial statements, what should he include in the explanatory paragraph?
(1) Date for the previous audit report
(2) Opinion previously expressed
(3) Change in circumstances leading to change in opinion
(4) That there is a change in opinion
What should be reported for comparative statements if different auditors were involved?
If the audit report is reissued, the predecessor may need to consider whether his opinion was proper
If older statements are presented but the older report is not, then the successor will need to mention that the predecessor audited the older statements
For comparative statements, what should the predecessor auditor do if he reissues his older report?
He should use the same date as his previous one, so no one thinks modifications were made
If it is revised, however, he should dual-date it
He should not mention the successor auditor
For reports on comparative statements, what should the successor auditor mention if the predecessor’s report is not presented, though the older statements are?
(1) That a different auditor audited the older statements
(2) The date of the predecessor’s report
(3) The type of report the predecessor issued
(4) Whether the report was standard (unqualified) or not, and if not, why not
When should the audit report generally be dated?
No earlier than when the auditor has obtained sufficient and appropriate evidence to support his opinion
Usually the report date and the report release date are close
What responsibilities does the auditor have to run audit procedures following the report date?
None, except for filings required by the Securities Act of 1933
What are Type I and Type II subsequent events?
Type I - subsequent events requiring adjustments to the statements
Type II - subsequent events requiring disclosures
How can a Type I subsequent event affect an audit report?
Depends whether (a) the adjustment is actually made and (b) the adjustment requires disclosure
- If (a) but not (b), auditor uses original report date
- If (a) and (b), the report may be dual-dated
- If not (a), the report should be qualified and may be dual-dated
How can a Type II subsequent event affect an audit report?
If not disclosed, it would lead to a qualified opinion
If disclosed, the report can be dual-dated (or later date can be used for whole report)
What does it mean for an auditor to dual-date audit reports due to subsequent events?
The audit report specifies an additional date with reference to the subsequent event, so that the auditor is not generally responsible for ALL occurrences up to that point – only the subsequent event
There are then two dates on the report, one with general reference to the audit as a whole and one with specific reference to the subsequent event
What should be the date on an audit report if it is reissued?
If the report is the same, then the date should be the same as the original, to avoid any implication of change in the report
If subsequent events occur that merely require disclosure in the notes to the financials, the original report date can still be used
How does one distinguish between Type I and Type II subsequent events?
Since Type I subsequent events require adjustment of the statements (not mere disclosure), Type I subsequent events are events that provide info on conditions before the balance sheet date
Events that provide info on POST-balance-sheet-date conditions are merely disclosed, hence Type II
Do events between a financial statement’s original issuance and its reissuance count as subsequent events?
No, so they should not result in adjustments (unless they are error corrections)
What is the subsequent period?
The period between the balance-sheet date and the report date
Do audit procedures need to be done in the subsequent period?
Yes, e.g. to ensure proper cutoffs and determine subsequent events
What kinds of auditing procedures are typically done in the subsequent period?
(1) Comparing the interim financial statements in the subsequent period to the statements being audited
(2) Discussing contingencies with mgmt
(3) Inquiries of the client’s lawyer
(4) Letter of representations from mgmt
Is the auditor obliged to perform auditing procedures after the report date?
No, although he has to investigate any info he encounters that might bear on the audited statements, as soon as it is practicable
What is the auditor’s goal if he discovers material facts after the report date?
To prevent future reliance on the audit report
If trying to prevent future reliance on the audit report, what should the auditor do if the client does not cooperate?
Inform the board of directors that:
(1) the auditor’s report can’t be associated with the statement
(2) regulatory agencies will be told the auditor’s report shouldn’t be relied on
(3) each person known to be relying on the report will be directed not to do so
If trying to prevent future reliance on the audit report, what should the auditor do if the client does cooperate?
Different options:
(1) Revise the report and reissue it – if this can be done quickly
(2) Change the subsequent period’s statements – if the subsequent statements are about to be issued
(3) Notify people relying on the report – if the change cannot be done quickly
If the auditor must make a disclosure concerning an event subsequent to the report date, what should it include?
Details on the nature of the information and its effect on the statements and the report
Should not include any statement about anyone’s conduct or motives
What happens if, after the report date, the auditor determines that he omitted certain important audit procedures during the audit?
He should determine whether it would affect the opinion and who might be relying on the report
Then, he should apply the procedures if he can
What should the auditor do if audit procedures that he omitted in the audit cannot be applied?
He should find legal advice for his responsibilities to the client, regulatory authorities, and anyone relying on the report
Under what circumstances is a CPA “associated” with an entity’s financial statements?
(1) If he agrees to use his name in any report or document containing the statements
(2) If he submits financial statements that he prepared to the client or others (even without his name)
What are some circumstances under which a CPA is not associated with an entity’s financial statements?
If he helps prepare or submit data to taxing authorities (e.g. tax returns)
What should a CPA do if he is associated with a public entity’s statements which he hasn’t audited or reviewed?
Issue a disclaimer of opinion (different from the disclaimer which an external auditor might issue)
Note that this applies to PUBLIC entities, and only if he has neither audited NOR reviewed them
For CPAs associated with a public entity’s statements they didn’t review or audit, how should the disclaimer be displayed?
(1) Disclaimer can either accompany or be placed on the unaudited statements
(2) Each page should be marked “unaudited”
(3) CPA should not describe any procedures that may have been applied
For CPAs associated with a public entity’s statements they didn’t review or audit, what is their responsibility?
Only to read over the statements for obvious misstatements
For CPAs associated with a public entity’s statements which they didn’t review or audit, what else might be included in the disclaimer?
(1) A lack of independence (if applicable), though the reasons should NOT be stated
(2) Departure from GAAP in the statements
What should an auditor do if his audited statements are presented alongside unaudited comparative statements, and they are filed with the SEC?
(1) They should be marked “unaudited”
(2) The report should not refer to the unaudited statements
What should an auditor do if his audited statements are presented alongside unaudited comparative statements, but they are not filed with the SEC?
(1) They should be marked “unaudited”
(2) Either prior-period report should be reissued, or current report should have paragraph stating the auditor’s responsibility for the prior-period statements
For how long in the future is an auditor supposed to assess whether an entity can be a going concern?
A “reasonable period of time,” which is no more than one year
If an auditor sees no substantial doubt for an entity’s ability to be a going concern within a year, and then the entity ceases to exist in the year, is the auditor responsible?
Not necessarily, only if the auditor could have predicted it – only if there was substantial doubt initially
Does an auditor need to design audit procedures for assessing whether an entity can be a going concern?
No, for other audit procedures should be sufficient
If the auditor determines that there could be substantial doubt that the entity has the ability to be a going concern, what should the auditor do?
(1) Determine any mitigating factors to the risk
(2) Determine management plans to continue as a going concern
(3) Disclose reasons for doubt
(3) should be disclosed even if the auditor later concludes that there is no substantial doubt
What are some examples of management plans to mitigate the risk of ceasing to be a going concern?
(1) Asset disposal
(2) Debt restructuring
(3) Expense reduction
(4) Increase equity financing
Is the auditor responsible for other info in a document with the audited financial statements?
No, although he should still read through it
This is not for Required Supplementary Information, but for voluntarily included info
What is the goal of checking other information that is presented with audited financial statements?
To find inconsistencies or falsities which might undermine the statements and the audit report
If there is other info presented with the audited financial statements, how might it affect the audit report?
It does not need to be referenced in the report, though the auditor can include discussion on it in an explanatory paragraph disclaiming an opinion on it
What is the auditor’s responsibility for required supplementary information (RSI)?
(1) To assess how complete it is
(2) To assess whether it fulfills standards
Should the auditor express an opinion on RSI?
No, he simply comments on it in an explanatory paragraph after the opinion paragraph on the audit report
What should the auditor acquire from management concerning RSI?
Written representations for:
(1) Their responsibility
(2) whether RSI is presented in accordance with standards
(3) Any change in methods of measurement or presentation, and why
(4) RSI assumptions
