Ch. 12 HW Solutions - Edward Lynch PDF

Preview

Summary

CHAPTER 12Reports on Audited Financial StatementsLEARNING OBJECTIVESReview CheckpointsMultiple ChoiceExercises and Problems Understand the types of reports that accompany an entity’s financial statements and the content of the auditors’ standard (unmodified) report. 1, 2, 3, 4, 5, 6,7, 830, 33, 39, ...

Description

CHAPTER 12 Reports on Audited Financial Statements LEARNING OBJECTIVES

Review

Multiple

Checkpoints

Choice

Exercises and Problems

1.

Understand the types of reports that accompany an entity’s financial statements and the content of the auditors’ standard (unmodified) report.

1, 2, 3, 4, 5, 6, 7, 8

30, 33, 39, 40, 41, 42

60

2.

Identify situations in which language in the standard (unmodified) report is modified and the type of opinions issued in those situations.

9, 10, 11, 12, 13, 14, 15, 16, 17, 18

31, 36, 38

45, 46, 47, 48, 49, 50, 51, 52, 53, 54, 55, 57, 63, 64, 66, 67

3.

Identify situations in which auditors add explanatory language to an unmodified opinion.

19, 20, 21, 22, 23

32, 34, 37

59, 61, 65, 67

4.

Identify other circumstances affecting auditors’ reporting responsibilities and explain how they affect auditors’ reports on an entity’s financial statements.

24, 25, 26, 27, 28, 29

35, 43, 44

56, 58, 59, 62

© 2018 by McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. Auditing and Assurance Services, Louwers et al., 7/e

12-1

SOLUTIONS FOR REVIEW CHECKPOINTS 12.1

The reports that accompany a public entity’s financial statements are mandatory reports on (1) internal control over financial reporting (prepared by management), (2) internal control over financial reporting (prepared by auditors), and (3) financial statements and related disclosures (prepared by auditors). A report on the fairness of financial statements and related disclosures may accompany a nonpublic entity’s financial statements. These reports are not mandatory and are based on user demand.

12.2

There are no mandated audit requirements for the financial statements of nonpublic entities. Audits for these entities may result from (1) requirements of regulatory bodies other than the SEC or (2) demand from third-party users of financial statements (lenders and investors). Public entities are required to file audited financial statements with the SEC within 60 to 90 days (depending upon their size) of their fiscal year-end. Thus, public entities are required to have an audit examination on an annual basis.

12.3

The auditors’ report is addressed to the person(s) who retain the auditor and pay the fee. For public entities, this party would be the board of directors and shareholders. For nonpublic entities, potential addressees include the board of directors and shareholders or the party who requested the audit (prospective or current lenders, prospective or current creditors, and prospective or current investors).

12.4

The four major sections of the standard (unmodified) auditors’ report are: 1.

Introductory paragraph: Identifies the financial statements and years examined by the audit team.

2.

Management’s Responsibility for the Financial Statements: Indicates that the entity’s management is responsible for the fairness of the financial statements and the design, implementation, and maintenance of internal control over financial reporting.

3.

Auditor’s Responsibility: Identifies the audit team’s responsibility to conduct an audit under GAAS, provides a brief description of an audit, and indicates that the audit evidence provides a basis for the audit team’s opinion.

4.

Opinion: Expresses the audit team’s opinion on whether the financial statements present the financial condition, results of operations, and cash flows in accordance with GAAP.

12.5

The auditors’ report is dated using the date when auditors have obtained sufficient appropriate evidence to support the opinion (this is known as the date of the auditors’ report).

12.6

Major differences in the auditors’ report for nonpublic and public entities include: 

In describing the standards under which the audit is conducted, the report for public entities references "standards of the Public Company Accounting Oversight Board (United States)" rather than "auditing standards generally accepted In the United States of America."



The report for public entities has a paragraph that references the audit team's report and opinion on the entity's internal control over financial reporting.



The report for public entities uses a number of different subject headings to identify different sections of the report.

© 2018 by McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 12-2 Solutions Manual

12.7

When reporting on the financial statements and internal control over financial reporting in the audit of public entities, auditors may either prepare two separate reports or a single, combined report (known as an integrated report). If separate reports are prepared, each report must contain a reference to the other report.

12.8

Unmodified (or unqualified) opinions indicate that the financial statements present the financial condition, results of operations, and cash flows in accordance with GAAP. Qualified opinions indicate that, with the exception of one or more issues, the financial statements present the financial condition, results of operations, and cash flows in accordance with GAAP. Adverse opinions indicate that the financial statements do not present the financial condition, results of operations, and cash flows in accordance with GAAP. Disclaimers of opinion do not express an opinion on the fairness of the entity’s financial statements.

12.9

If a departure from GAAP exists and the effect is immaterial, then an unmodified opinion may be issued. If the effect of the departure is material (but not pervasive) and isolated to a single event, then a qualified opinion would be issued. If the effect is both material and pervasive, the auditors should issue an adverse opinion.

12.10

Qualified opinions indicate that, “except for” the effects of an isolated departure from GAAP, the financial statements are presented in accordance with GAAP. Adverse opinions indicate that the financial statements are not presented in accordance with GAAP. Clearly, the wording used in the adverse opinions represents more material and pervasive departures from GAAP and more serious concerns on the part of the audit team.

12.11

The following modifications would be appropriate to reflect departures from GAAP:

12.12

1.

The opinion paragraph would be modified to express either a qualified opinion (“except for…, the financial statements present the financial condition, results of operations, and cash flows in accordance with GAAP”) or adverse opinion (“the financial statements do not present the financial condition, results of operations, and cash flows in accordance with GAAP.”) In addition, the opinion paragraph would be labeled either “Qualified Opinion” or “Adverse Opinion”.

2.

An additional paragraph (labeled either “Basis for Qualified Opinion” or “Basis for Adverse Opinion”) would be added prior to the opinion paragraph that described the nature of the departure from GAAP.

A client-imposed scope limitation results from management’s refusal to provide access to evidence or otherwise limit the auditors’ application of auditing procedures while a circumstance-imposed scope limitation occurs when circumstances beyond the auditors’ or client’s control result in the inability of auditors to perform certain procedures. Because of the deliberate and intentional nature of client-imposed scope limitations, these scope limitations are of more concern to auditors than circumstance-imposed scope limitations.

12.13

If auditors are able to perform alternative procedures, the standard (unmodified) report would not be modified.

12.14

Assuming that alternative procedures cannot be performed, the auditors’ reporting options are as follows: 1. 2. 3.

If the scope limitation is not material, an unmodified opinion (standard report) is issued. If the scope limitation is material, but not pervasive, a qualified opinion is issued. If the scope limitation is highly material and pervasive, a disclaimer of opinion is issued.

© 2018 by McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. Auditing and Assurance Services, Louwers et al., 7/e

12-3

12.15

a.

b.

12.16

A report qualified for a scope limitation would modify the standard (unmodified) report as follows: 

An additional paragraph would be included describing the scope limitation, the accounts or disclosures affected by the scope limitation, and the dollar amounts involved, if determinable.



An “except for” phrase would be included in the opinion paragraph that recognizes the scope limitation may have affected auditors’ ability to identify misstatements.

A report in which the opinion is disclaimed because of a scope limitation would modify the standard (unmodified) report as follows: 

The introductory paragraph would indicate “[w]were engaged to audit” instead of “[w]e have audited”.



The “Auditors Responsibility” section would be modified to (1) indicate that the auditor was not able to obtain sufficient appropriate evidence and (2) delete paragraphs describing an audit and indicating that the audit provides a basis for the opinion.



An additional paragraph (“Basis for Disclaimer of Opinion”) would be included to describe the scope limitation, the accounts or disclosures affected by the scope limitation, and the dollar amounts involved, if determinable.



The opinion paragraph would disclaim an opinion on the financial statements.

Group auditors perform the audit of a material portion of the consolidated entity’s financial statements; component auditors are engaged to audit divisions, subsidiaries, or segments that are included in the group financial statements. The issue introduced when component auditors are involved in the audit of group financial statements is that the group auditors’ opinion on the group financial statements is based, in part, on the work of the component auditors.

12.17

When component auditors are involved in the audit of group financial statements, group auditors can assume responsibility for the component auditors’ work; if so, no reference is made to the component auditors’ work in the group auditors’ report (the standard (unmodified) report can be issued). If group auditors decide to refer to the work and reports of component auditors, they would modify the Auditor’s Responsibility section and opinion paragraph of their report to indicate the involvement of component auditors.

12.18

The group auditors’ reference in their report to component auditors is not a scope limitation. The reference only shows the involvement of component auditors in the audit of group financial statements.

© 2018 by McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 12-4 Solutions Manual

12.19

12.20

Emphasis-of-matter paragraphs and other-matter paragraphs are paragraphs added to an otherwise unmodified opinion that provide additional information to users. 

Emphasis-of-matter paragraphs provide information fundamental to users’ understanding of the financial statements (such as consistency and going-concern uncertainties).



Other-matter paragraphs provide information relevant to users’ understanding of the audit, the auditors’ responsibility, or auditors’ report.

The following matters cause auditors to modify their reports to identify inconsistent applications of GAAP:    

Change in accounting principles (from GAAP to GAAP). Change in the form of reporting entity. Change from a principle not conforming to GAAP to one that is GAAP. Change in an accounting principle that is inseparable from a change in accounting estimate.

12.21

Going-concern uncertainties are situations in which questions are raised about the entity’s ability to continue operations and meet its obligations as they become due. During the audit, auditors are required to assess an entity’s ability to continue as a going concern for a period not to exceed one year beyond the date of the financial statements.

12.22

When going-concern uncertainties exist, auditors may either add an emphasis-of-matter paragraph to an unmodified opinion or disclaim an opinion on the entity’s financial statements. Disclaimers would typically be issued when the going-concern uncertainties are more serious and pervasive.

12.23

a.

Auditors only reference other information accompanying the financial statements in their reports when this information is inconsistent with the audited financial statements or contains material misstatements. Assuming that the financial statements are fairly stated (and, therefore, the issue is related to the other information), auditors will add an other-matter paragraph to their report which identifies the misstatement or inconsistencies in the other information.

b.

Auditors are required to report on required supplementary information when such information is provided with the financial statements and footnotes accompanying the financial statements. An other-matter paragraph is added to their report on the financial statements that identifies the supplementary information, describes any procedures performed with respect to this information, and identifies any issues related to this information.

12.24

Comparative financial statements are financial statements for more than one period presented in side-byside format. The issue introduced when financial statements are presented in comparative form is that users may assume auditors have examined all comparative years presented.

12.25

An updated report is a report on prior years’ financial statements that is based on both the prior years’ audits and on information that has come to light in the most recent audit. An updated report may be modified for events occurring subsequent to the date of the initial report. A reissued report is a copy of a previously issued report that auditors provide or grant entities permission to use in another document after its delivery date. This report is not modified to consider events occurring subsequent to the date of the initial report.

12.26

If auditors wish to express a different opinion on prior years’ financial statements in the current report than in a previously issued report, the current report would contain an other-matter paragraph that states:   

The type of opinion expressed in the previously issued report (and date of the report) The basis (reasons) for that opinion The present opinion is different from that expressed in the previous report

© 2018 by McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. Auditing and Assurance Services, Louwers et al., 7/e

12-5

12.27

12.28

12.29

If predecessor auditors examined prior years’ financial statements presented in comparative form, the current auditors can:  

Present the predecessor auditors’ report Add an other-matter paragraph to their report, indicating the date of the predecessor auditors’ report and opinion expressed by the predecessor auditor (in this case, the predecessor auditors are not identified by name)

a.

When engaged to report on summary financial statements, auditors should issue a separate report that indicates whether the information in the summary financial statements is fairly stated in all material respects in relation to the complete financial statements.

b.

When engaged to report on supplementary information, auditors can either issue a separate report on the supplementary information or add an other-matter paragraph to their report on the financial statements. In either case, auditors will indicate whether the supplementary information is fairly stated, in all material respects, to the financial statements as a whole.

When auditors are not independent with respect to the entity, they should issue a disclaimer of opinion that indicates they are not independent. However, the report should not mention any reasons for the lack of independence.

SOLUTIONS FOR MULTIPLE-CHOICE QUESTIONS 12.30

12.31

12.32

a.

Correct

b. c.

Incorrect Incorrect

d.

Incorrect

a.

Incorrect

b. c. d.

Incorrect Incorrect Correct

a.

Correct

b.

Incorrect

c.

Incorrect

d.

Incorrect

Auditors explicitly report on GAAP and express an opinion; auditors implicitly report on consistency and going-concern. Consistency is implicitly (and not explicitly) reported upon. Auditors explicitly report on GAAP and express an opinion; auditors implicitly report on consistency and going-concern. The implicit reporting on consistency is the only correct option in this choice. Neither unmodified opinions or disclaimers of opinion are appropriate for material departures from GAAP. The unmodified opinion is not appropriate for material departures from GAAP. The unmodified opinion is not appropriate for material departures from GAAP. Because this is a material departure from GAAP, the reporting options are to issue either a qualified or adverse opinion. The choice between an unmodified opinion with reference to going-concern matters or a disclaimer of opinion depends on the auditors’ perception of the magnitude of the uncertainty. The standard (unmodified) report without reference to the going-concern matter is not appropriate in this circumstance. Because the disclosures are adequate, a qualified opinion or adverse opinion for GAAP departure would be inappropriate. An unmodified opinion with reference to going-concern matters or a disclaimer of opinion would be appropriate reporting options; therefore, neither a standard (unmodified) report or adverse opinion would be appropriate.

© 2018 by McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 12-6 Solutions Manual

12.33

NOTE TO INSTRUCTOR: Since this question asks students to identify which statement is not true, the item labeled “correct” is not true and those labeled “incorrect” are appropriate differences. a.

Incorrect

b.

Incorrect

c.

Correct

d.

Incorrect

a.

Incorrect

b.

Incorrect

c.

Incorrect

d.

Correct

12.35

a. b. c. d.

Incorrect Correct Incorrect Incorrect

The prior audit must be described r...