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Chapter 14 Audit Reports Audit Reports MULTIPLE CHOICE: 1.An auditor would issue an adverse opinion if a. The audit was begun by other independent auditors who withdrew from the engagement. b. A qualified opinion cannot be given because the auditor lacks independence. c. The restriction on the scope of the audit was significant. d. The statements taken as a whole do not fairly present the financial condition and results of operations of the company. ANSWER: D 2.An audit report contains the following paragraph: "Because of the inadequacies in the company's accounting records during the year ended June 30, 2003, it was not practicable to extend our auditing procedures to the extent necessary to enable us to obtain certain evidential matter as it relates to classification of certain items in the consolidated statements of operations." This paragraph most likely describes a.A material departure from GAAP requiring a qualified audit opinion. b.An uncertainty that should not lead to a qualified opinion. c.A matter that the auditor wishes to emphasize and that does not lead to a qualified audit opinion. d.A material scope restriction requiring a qualification of the audit opinion. ANSWER: D 3.A limitation on the scope of the auditor's examination sufficient to preclude an unqualified opinion will always result when management a. Asks the auditor to report on the balance sheet and not on the other basic financial statements. b. Refuses to permit its lawyer to respond to the letter of audit inquiry. c. Discloses material related party transactions in the footnotes to the financial statements. d. Knows that confirmation of accounts receivable is not feasible. 231 The five different opinions in an independent auditor's report What are the Types of Audit Opinions?In the independent auditor’s report, an auditor can issue one of five different opinions:
A clean (unqualified) opinion refers to financial statements that are “presented fairly, in all material respects…”. Deviations from a clean opinion (where the financial statements are not presented fairly) result in a reservation (modification) in the independent auditor’s report. Summary
Understanding Reservations in an Independent Auditor’s ReportThere are two types of reservations: 1. GAAP departureSituations where the financial statements deviate from the established accounting criteria. For example, a company that uses an incorrect accounting method faces a GAAP departure. 2. Scope limitationSituations where the auditor is unable to obtain sufficient appropriate audit evidence to base the audit on. This presents a scope limitation. In addition, the type of opinion, based on the reservation made, depends on two factors: 1. MaterialityMisstatements to the financial statements are considered material if the misstatements (individually or in aggregate), are expected to influence the decisions made by users who rely on the financial statements. 2. PervasivenessMisstatements to the financial statements are considered pervasive if the misstatements affect a substantial portion of the financial statements. What is a Qualified Opinion?A qualified opinion can be issued due to a GAAP departure or a scope limitation. In both cases, the misstatements are material but not pervasive. In other words, there is a material impact on the financial statements, but the misstatements are not widespread (do not affect a large number of accounts). Example 1: Qualified opinion due to a GAAP departureThe auditor noticed that the inventory of ABC Company faces a write-down due to obsolescence. However, the company refuses to write down the inventory. In such a scenario, a GAAP departure reservation is made. Since only the inventory and cost of goods sold accounts are wrong, a qualified opinion due to a GAAP departure would be issued. Example 2: Qualified opinion due to a scope limitationThe auditor wants to send out confirmation letters to customers for the accounts receivable balance as audit evidence. However, ABC Company does not want the auditor to do so. In such a scenario, a scope limitation reservation is made. Since the auditor has been unable to verify the accounts receivable, a qualified opinion due to a scope limitation would be issued. What is an Adverse Opinion?An adverse opinion can only be issued due to a GAAP departure. In such a case, the misstatements are both material and pervasive. In other words, there is a material impact on the financial statements, and the misstatements affect a large number of accounts. Example: Adverse opinion due to a GAAP departureThe auditor believes ABC Company faces a going concern issue and is unable to survive another year. The company disagrees and prepares its financial statements on a historical cost basis instead of on a liquidation basis. In such a scenario, a GAAP departure reservation is made. Since ABC Company prepared its financial statements on a historical cost basis, the majority of the company’s accounts are incorrect. An adverse opinion due to a GAAP departure would be issued. What is a Disclaimer of Opinion?A disclaimer of opinion can only be issued due to a scope limitation. In this case, the misstatements are material and pervasive. In other words, the auditor is unable to collect sufficient appropriate audit evidence to base its audit on and, as a result, a large number of accounts are not verifiable. Example: Disclaimer of opinion due to a scope limitationThe auditor is looking to review the company’s minutes book, which contains important information regarding the board of directors meeting and the audit committee. ABC Company does not permit the auditor to review the minutes book. In such a scenario, a disclaimer of opinion reservation is made. Since the auditor is unable to access the minutes book, a majority of the company’s accounts cannot be verified. A disclaimer of opinion due to a scope limitation would be issued. Related ReadingsThank you for reading CFI’s guide to Auditor Opinions. To keep learning and advancing your career, the following CFI resources will be helpful:
When financial statements contain a departure from GAAP the auditors should explain?d. When financial statements contain a departure from GAAP because, due to unusual circumstances, the statements would otherwise be misleading, the auditors should explain the unusual circumstances in a separate paragraph and express an opinion that is...
When can financial statements be presented with a departure from GAAP?Under the AICPA's Code of Professional Ethics under Rule 203 – Accounting Principles, a member must depart from GAAP if following it would lead to a material misstatement on the financial statements, or otherwise be misleading.
How does the materiality of a condition that might lead to a departure affect the auditor's choice of auditors reports?If the condition (e.g., scope limitation or not GAAP) that might lead to the departure is judged by the auditor to be immaterial, then a standard unqualified audit report can be issued. As the materiality of the condition increases, the auditor must judge the effect of the item on the overall financial statements.
When an auditor concludes that the financial statements are prepared in all material respects in accordance with the applicable financial reporting framework he she issues?16. The auditor shall express an unmodified opinion when the auditor concludes that the financial statements are prepared, in all material respects, in accordance with the applicable financial reporting framework.
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