Audit Reports Chapter 3
Describe the parts of the standard unqualified audit report. Learning Objective 1
Parts of the StandardUnqualified Audit Report 1. Report title 2. Audit report address 3. Introductory paragraph 4. Scope paragraph 5. Opinion paragraph 6. Name of CPA firm 7. Audit report date
Specify the conditions required to issue the standard unqualified audit report. Learning Objective 2
Conditions for StandardUnqualified Audit Report 1. Includes all financial statements 2. Three general standards are met 3. Complies with the three standards of field work
Conditions for StandardUnqualified Audit Report 4. Financial statements comply with GAAP 5. No circumstances require an explanatory paragraph or report modification
Understand reporting on financial statements and internal control over financial reporting under Section 404 of the Sarbanes-Oxley Act. Learning Objective 3
Reporting on Internal Control over Financial Reporting Auditors of public companies subject to Section 404 of the Sarbanes-Oxley Act must report on the effectiveness of internal control over financial reporting. PCAOB Auditing Standard 5 requires the audit of internal control to be integrated with the audit of the financial statements.
Reporting on Internal Control over Financial Reporting Sarbanes- Oxley Sec.404 ICFR Effectiveness Audits Accelerated Filer 2010 Legislation Permanent Exemption Non-accelerated Filer
Sarbanes-Oxley Act Separate Report on Financial Statements and Internal Control Over Financial Reporting 1. Introductory paragraph 2. Scope paragraph 3. Definition paragraph 4. Inherent limitations paragraph 5. Opinion paragraph 6. Cross-Reference Paragraph
Describe the five circumstances when an unqualified report with an explanatory paragraph or modified wording is appropriate. Learning Objective 4
Unqualified Report with Explanatory Paragraph 1. Lack of consistent application of generally accepted accounting principles 2. Substantial doubt about going concern 3. Auditor agrees with a departure from promulgated accounting principles 4. Emphasis of a matter 5. Reports involving other auditors
Lack of Consistent Application of GAAP Auditors must note circumstances in which accounting principles are not consistently applied Auditor should modify the report when a material change occurs by adding an explanatory paragraph in the report
Substantial Doubt AboutGoing Concern • Significant recurring operating • losses or working capital deficiencies. • Inability of the company to pay its • obligations as they come due. • Loss of major customers, the • occurrence of uninsured catastrophes. • Legal proceedings, legislation that • might jeopardize the entity’s ability to operate.
Auditor Agrees with a Departurefrom a Promulgated Principle Departure may not require a qualified or adverse opinion The auditor must separately explain in the audit report that adhering to the principle would have produced a misleading result. Circumstances are most unusual
Emphasis of a Matter Under certain circumstances, the CPA may want to emphasize specific matters regarding the financial statements, even though the CPA intends to express an unqualified opinion. Subsequent Events Related Party Transactions Material Uncertainties Financial Statement Comparability
Reports Involving Other Auditors • Make no reference in the audit report • 2. Make reference in the report • (modified wording report) • 3. Qualify the opinion
Identify the types of audit reports that can be issued when an unqualified opinion is not justified. Learning Objective 5
Departures from anUnqualified Opinion 1. Scope limitation 2. GAAP departure 3. Auditor not independent
Qualified Opinion A qualified opinion report can result from a limitation on the scope of the audit or failure to follow generally accepted accounting principles.
Adverse Opinion Auditor believes the financial statements are not presented fairly in conformity with GAAP.
Disclaimer of Opinion It is issued when the auditor is unable to be satisfied that the overall financial statements are fairly presented. It can arise only from a lack of knowledge by the auditor.
Explain how materiality affects audit reporting decisions. Learning Objective 6
Materiality A misstatement in the financial statements can be considered material if knowledge of the misstatement would affect a decision of a reasonable user of the statements.
Levels of Materiality Amounts are immaterial. Amounts are material but do not overshadow the financial statements as a whole. Amounts are so material or so pervasive that overall fairness of the statements is in question.
Materiality Decisions Failure to follow GAAP Audit report Unqualified Qualified opinion only Adverse
Relationship of Materiality toType of Opinion Materiality Level Significance in Terms of Reasonable Users’ Decisions Type of Opinion Immaterial Users’ decisions are unlikely to be affected. Unqualified Material Users’ decisions are likely to be affected. Qualified Highly material Users’ decisions are likely to be significantly affected. Disclaimer or adverse
Materiality Decisions • Dollar amount compared with a base • Measurability • Nature of the item
Materiality Decisions Scope limitation Audit report Unqualified Qualified scope and opinion Disclaimer
Draft appropriately modified audit reports under a variety of circumstances. Learning Objective 7
Discussion of ConditionsRequiring Departure • Auditor’s scope has been restricted • Statements are not in conformity with GAAP • Auditor is not independent
Determine the appropriate audit report for a given audit situation. Learning Objective 8
Auditor’s Decision Process Determine whether any condition exists requiring a departure from a standard unqualified report. Decide Materiality Write Audit Report Decide appropriate type of report
More Than One Condition Requiringa Departure or Modification The auditor is not independent. There is a scope limitation. Going concern uncertainty exists. Statements are not prepared in accordance with GAAP.
Number of Paragraphsin the Report Type of Report
Understand proposed use of international accounting and auditing standards by U.S. companies. Learning Objective 9
Proposed Use of International Accounting and Auditing Standards by U.S. companies Globalization of world’s capital markets are leading to calls for a single set of accounting standards to be used around the world. SEC Developing Workplan 2015 Implementation of IFRS into U.S. If plan is approved?