Transcript
Review Questions Solutions
Chapter 11, Completing the Integrated Audit and Reporting
Page 566
A1 What types of transactions and entries are considered unusual year-end entries? Why does the auditor pay particular attention to them?
Unusual year end transactions are large or non-routine transactions that are posted just before or after the fiscal year, and any journal entries made outside the routine general ledger posting or closing process (consolidating entries and entries made after closing and during the financial statement preparation process.) The auditor addresses them because of the risks that they may not represent real business activities and are posted just because management is trying to control the financial results presented or cover up wrongdoing such as illegal acts or fraud. Also, journal entries that are outside the routine for transaction processes are not subject to the typical controls that the auditor has examine. This lack of normal control creates possibilities for error and other misstatement.
A2 What is a contingent liability? A commitment? A claim? An unasserted claim? What is the auditor’s primary concern regarding commitments and contingencies?
Contingent liability: a payment or future use of assets for which a company may be come obligated as a result of conditions existing at the current time.
Commitment: an agreement that has been made to do something in the future, such as to purchase inventory or execute a lease; not booked yet because the activity has not occurred, but usually needs to be disclosed
Claim: exists when a party believes and has communicated that it is owed something
Unasserted claim: a claim, but the injured party has not yet asserted its belief that it is owed something
The auditor’s primary concern regarding commitments and contingencies is that all that exists are known by the audit team, and that they have been properly accounted for and disclosed in the financial statements.
A3 Why does the auditor want a response from the client’s attorney as part of audit evidence?
The response from the client’s attorney provides evidence on litigation, commitments, and claims; it corroborates information gathered from the client and helps support the assertion of completeness.
Page 577
B1 What happens when management does not provide a representations letter? How does it affect the audit?
If management does not provide a rep letter it is a scope limitation. The auditor will disclaim an opinion or withdraw from the engagement. In certain situations in an nonpublic company audit, the auditor may issue an unqualified opinion.
B2 In general, what types of information are included in management’s written representations?
Exhibits 11-4 and 11-5 provide a list of specific information. In general, the rep letter states that management acknowledges its responsibilities, has told the auditor everything and provide all the information, and has been honest.
B3 What is the purpose of obtaining management’s representations? What impact does the management representations letter have on other audit steps that need to be performed?
It highlights the importance of management’s honesty with the auditor and that the auditor is relying on management’s communications. Obtaining a management rep letter is required, but it does not replace any other audit steps or substitute for any other audit evidence.
B4 What are the two types of subsequent events that affect a financial statement audit? What subsequent events affect an ICFR audit? How does each of these impact the audit findings?
Financial Statement Audit: Recognized (Type 1) and Nonrecognized (Type 2)
Recognized is when new information is obtained about circumstances that exited at fiscal year end, and are booked and reflected in the financial statements
Nonrecognized is when new events occurred after fiscal year end that may need to be disclosed
ICFR Audit: The auditor gets new information after fiscal year end indicating that ICFR has deteriorated. If the situation existed at management’s report date the auditor adjusts the opinion. If the situation deteriorated after, the auditor discloses it in the audit report but it does not change the ICFR opinion.
B5 What is substantial doubt about going concern? How is the audit report modified when the auditor concludes there is substantial doubt about an entity’s ability to continue as a going concern? When there is substantial doubt about going concern and financial statement disclosure is not adequate?
This exists when there is concern that the company cannot continue to do business in its current form for one year past the balance sheet date without making major changes such as selling off productive assets.
This conclusion causes an explanatory paragraph and reference to the disclosure.
If disclosure is not adequate, in addition to an explanation about the doubt about going concern, the auditor issues a report that is modified because of the GAAP violation.
Page 582
C1 What audit procedures does the auditor perform when the audited financial statements and audit report are included in a document that contains other information? What is the auditor looking for?
The auditor is looking for any conflicting information or inconsistencies or other inconsistencies between the audited financial statements and the other information. Steps are:
1. Read the document containing the audited financial statements and audit report for inconsistencies.
2. If any are identified, evaluate whether the audited financial statements or other information is the problem.
3. Have management correct the financial statements if appropriate (or change the audit report), or ask management to fix the other information.
If management refuses to change the other information the auditor must consider what additional steps are needed. The auditor may also have to address other information that seems to just be wrong, even if it is not inconsistent with the audited financial statements.
C2 What is the auditor’s responsibility related to the client’s SOX Section 302 certifications?
If the auditor concludes that management’s 302 certification is not appropriate the auditor reports this to management and the Board of Directors. If these parties do not take appropriate action, the auditor may need to modify the audit report.
C3 What steps are appropriate to audit other financial statements and financial statement disclosures?
1. Review the client’s financial statement disclosures to determine whether they are adequate
2. Determine whether all the requirements of GAAP have been met and document performance of the review
3. Establish that the financial statement disclosures are consistent with the audit evidence included in the work papers by tracing to the work paper documentation resulting from earlier audit work
4. Consider and perform any recalculations necessary related to the consolidation process and trace any information needed into the work papers
Agree the Statement of Cash Flows, and Statement of Changes in Shareholders’ Equity to other financial statements and to the work papers
5. Determine whether the other financial statements have been prepared in accordance with GAAP
Page 588
D1 To what individuals does an auditor make communications? For an ICFR audit, briefly explain how the communications required to go to the various individuals differ.
The auditor communicates to the Board of Directors if the audit committee is providing ineffective oversight of the company’s external financial reporting and ICFR. The auditor communicates to the audit committee about:
All material weaknesses and significant deficiencies in ICFR
Communications to management
Problems with management’s 302 certifications
Scope limitations on the ICFR audit
The auditor communicates to management about all deficiencies.
D2 What authoritative bodies and sources require that the auditor make communications?
SOX, PCAOB, AICPA
D3 What is a management letter?
A management letter is a letter from the auditor to management indicating things observed or identified during the audit that can help management increase the efficiency and effectiveness of the company. When an ICFR audit is conducted, a management letter may not be necessary if all the issues have already been communicated to management as a part of communicating deficiencies.
D4 What is an audit completion document? How is it useful?
An audit completion document includes all the information needed for a reviewer to understand the significant findings of the audit, or is cross referenced to the work papers that display that information. It is useful because it facilitates a focused and compact review of the major issues surrounding the audit and how they were addressed.
D5 Why does an auditor review audit documentation?
To be sure that the audit evidence is sufficient and appropriate to support the audit opinions.
D6 What is an engagement quality review of an audit, and why is it performed?
This is performed by an engagement quality reviewer, usually someone at the partner level, and a person who is independent of the decisions of the audit. An independent review has been a part of best practices for a long time, and provides the ability for someone who has not been involved with the engagement to see if they agree that the audit was performed appropriately, documented appropriately and arrived at the proper opinion. An engagement quality review is required by SOX and the PCAOB.
Page 604
E1 What different forms of audit reports may be used as the result of a financial statement audit?
1. Unqualified opinion
2. Unqualified opinion with explanatory language
3. Qualified opinion
4. Adverse opinion
5. Disclaimer of opinion
E2 When are the different forms appropriate?
1. Unqualified: when it is the auditor’s opinion that the financial statements are fair
2. Unqualified with explanatory language: even though the financial statements are fair (not materially misstated), additional information is needed
3. Qualified opinion: when the financial statements are fair but a matter of limited impact is not properly presented
4. Adverse opinion: the financial statements, as a whole, are not fair
5. Disclaimer of opinion: when the auditor is associated with the financial statements but decides not to issue an opinion because of a lack of independence or not having enough evidence (scope limitation)
E3 What specific words are characteristics of the different types of audit reports?
1. Unqualified: the financial statements present fairly, in all material respects
2. Explanatory language:
Based on our audits and the report of other auditors
…the financial statements do not include any adjustments that might result from the outcome of this uncertainty
adoption of a new or preferred accounting principle
[Note, the following examples were added to the PCAOB Codification after the book was prepared: 508.17B, C]
As discussed in Note X to the financial statements, the company has changed its method of accounting for [describe accounting method change] in [year(s) of financial statements that reflect the accounting method change] due to the adoption of [name of accounting pronouncement].
As discussed in Note X to the financial statements, the company has elected to change its method of accounting for [describe accounting method change] in [year(s) of financial statements that reflect the accounting method change].
As discussed in Note X to the financial statements, the 20X2 financial statements have been restated to correct a misstatement.
Emphasis of a matter
3. Qualified opinion:
except for the effects of the matter…the financial statements present fairly
4. Adverse: In our opinion, because of the effects of the matters discussed in the preceding paragraph, the financial statements referred to above do not present fairly…
5. Disclaimer: do not express an opinion on these financial statements
E4 When is the audit report dated?
The report date is the same for both the ICFR and financial statement opinions, even if they are presented in different reports; no earlier than the date on which the auditor has obtained sufficient appropriate evidence to support the auditor’s opinion
Page 612
F1 In what ways are the elements of an ICFR audit report different from the elements of a financial statement audit report?
Elements of a public company financial statement audit report are shown on pp. 594-595.
Elements of an ICFR audit report are shown in 11-15
F2 Why is an adverse opinion issued for ICFR?
Because one or more material weaknesses in ICFR exist at management’s report date
F3 What type of ICFR audit opinion is appropriate when a scope limitation exists?
The auditor disclaims an opinion or withdraws from the engagement.
