What are the 3 methods for obtaining sufficient appropriate evidence regarding the opening balance of an account?
(1) Read the most recent FS and the predecessor auditor’s report
(2) Request that mgmt authorize the predecessor auditor to allow review of their documentation
(3) Use current info to reconcile to the opening balance
** A/R: trace cash collections
** A/P: trace cash payments
** observe current physical inventory counts, plus purchases made
** confirm with third parties regarding investments and debt
Who is ultimately responsible for the audit work and conclusions reached during the current audit, including validation of opening balances.
The current auditor
True / False: The current auditor should make reference to the report or work of the predecessor auditor as the basis for the auditor’s opinion on an opening balance.
What is the effect on the auditor’s opinion if the auditor is unable to obtain sufficient appropriate audit evidence regarding an opening balance
A qualified or disclaimer of opinion due to scope limitation
What are the conditions regarding an opening balance that would lead the auditor to make either a qualified (modified) or adverse opinion?
The opening balance contains a material misstatement, and the effect of the misstatement is neither appropriately accounted for or adequately disclosed.
The current period’s accting policies are not consistently applied regarding opening balances.
A change in accting policy occurred, but is not properly accounted for or adequately presented.
The current auditor discovers that the opening balance is, in fact, materially misstated. What considerations must the auditor take into account?
Does the opening balance impact the current FS?
Does the predecessor FS require revision?
What types of evidence are needed regarding litigation, claims, and assessments?
The period in which the underlying cause for legal action occurred
The probability of an unfavorable outcome
The specific or range of potential loss, including court costs
Who is responsible to identify and account for contingent liabilities?
What is the auditor's role in assessing contingent liabilities?
Our job is to assess whether management properly identified and accounted for contingent liabilities. Did they do it right?
What are 2 pieces of evidence that the auditor can use regarding contingent liabilities?
Management representation letter
Letter of inquiry to the client’s attorneys
Who prepares and mails the letter of inquiry to the client’s attorneys
The auditor mails
If an attorney, who has devoted substantial attention to litigation matters, refuses to respond to a letter of inquiry, does this affect the auditor’s opinion and if so, how?
This is a limitation of scope and could lead to a qualified or disclaimer of opinion. In many cases this may be grounds to withdraw from the engagement.
If an attorney, who has devoted substantial attention to litigation matters, is unable to provide a reasonable conclusion regarding pending litigation due to inherent uncertainties, does this affect the auditor’s opinion and if so, how?
No modification to the opinion would be required
What are the 4 sources of information regarding contingencies, and which is of primary importance?
Management must provide this info
Information provided by the client’s attorney is corroborating information
Review IRS reports and tax returns
Review minutes of BoD and stockholder meetings
When the entity’s ability to continue as a going concern is in doubt, where are two place that this information should be communicated?
In the disclosures section to the FS
As an emphasis-of-matter or explanatory paragraph in the auditor’s report
What audit procedures are used to gather information regarding an entity’s ability to continue as a going concern?
The entity A-D-M-I-T-S things aren't F-I-N-E
Minutes of meetings
Inquiry of client’s legal counsel
Third party confirmations
Subsequent events review
What factors may indicate substantial doubt that the entity will continue as a going concern?
The entity A-D-M-I-T-S things aren't F-I-N-E
Financial difficulties such as loan defaults, dividends in arrears, being denied usual trade credit, need for debt restructuring, etc
Internal matters such as work stoppages (a strike), dependence on a particular project, uneconomic long-term commitments
Negative trends such as recurrent losses, working capital deficiencies, negative cash flow, adverse financial ratios
External matters such as legal proceedings; negative impact of new legislation or regulation; loss of a key customer, license, patent; natural disasters
True / False: If management has an adequate plan to alleviate the going concern issues, the auditor may issue an unqualified (unmodified) report without additional disclosures.
When reviewing management’s plan to alleviate the entity’s issues that risk its ability to continue as a going concern, the auditor should consider both the entity’s ______ and _______ to carry out the planned procedures.
What words are required to be included in the auditor’s emphasis-of-matter or explanatory paragraph when there is doubt about the ability of the entity to continue? What words should NOT be included?
“substantial doubt” AND
DO NOT INCLUDE "for one year" or any other reference to time
True / False: Because there is substantial doubt about the entity's ability to continue as a going concern, this implies that the FS are also materially misstated
The FS can be completely accurate, and would accurately show that the company is having trouble
With whom should the auditor communicate going concern issues?
Those charged with governance or the audit committee
The auditor has substantial doubt about an entity continuing as a going concern, and mgmt doesn’t have a plan to alleviate. If the client provides adequate disclosure, what is the impact on the auditor’s opinion?
May issue an unmodified opinion with an emphasis-of-matter paragraph
The auditor has substantial doubt about an entity continuing as a going concern, and mgmt doesn’t have a plan to alleviate. If the client does NOT provide adequate disclosure, what is the impact on the auditor’s opinion?
This is a departure from GAAP
Issue a modified or adverse opinion
The auditor has substantial doubt about an entity continuing as a going concern, and mgmt doesn’t have a plan to alleviate. If the auditor is NOT able to obtain sufficient evidence to alleviate the concern, what is the impact on the auditor’s opinion?
This is a scope limitation
Issue a disclaimer of opinion
What are some examples of estimates that must be determined by management?
Net realizable values of inventory and A/R
Compensation in stock option plans
Future pension expenses
Future warranty expenses
Probability of loss and related amounts due to contingencies
Fair value amounts
Define estimation uncertainty
Susceptibility of an accting estimate to an inherent lack of precision in its measurement.
If the estimate is based on easy-to-verify amounts (e.g., marketable securities) the uncertainty is low. If the estimate is based on Level 3 evidence, the uncertainty is pretty high.
What types of assumptions does the auditor consider when determining if the accting estimates are reasonable. Assumptions that are…
Significant to the estimate
Sensitive to variations
Deviations from historical patterns
Subjective and susceptible to misstatement or mgmt bias
What audit procedures should be performed with regard to management estimates.
Review and test the procedures used by mgmt to develop the estimate, or
Develop an independent estimate of the item for comparative purposes, or
Review subsequent events and transactions to bolster or refute the estimate.
True / False: The auditor should treat as a misstatement the difference between the recorded estimate and the best estimate supported by the audit evidence.
There is a difference between the reported estimate and the evidence-supported estimate. What issue in-particular must the auditor be wary has happened?
That management has biased the reported estimate to favor a particular issue.