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Section 7

(Lecture 7.09)
CLASS QUESTIONS:
1. Which
a. The disclosures provide reasonable assurance that the financial statements are free
of material misstatement.
b. The auditor tested the overall internal control.
c. An audit includes evaluating the reasonableness of significant estimates made by
management.
d. The financial statements are consistent with those of the prior period.
2.

of a nonissuer
should refer to auditing standards generally accepted in the U.S. and Principles generally
accepted in the U.S.?

a.
b.
c.
d.

Auditing standards generally

accepted in the U.S.
Intro (report on F/S)
Intro

Principles generally
accepted in the U.S.
Managements Responsibility
Responsibility
Opinion
Opinion

3. In which paragraph of a standard unmodified report is a disclaimer on internal control

mentioned?
a.
b.
c.
d.

Report on the Financial Statements (Intro)

ility for the Financial Statements
Opinion

4.
financial statements adequately disclose its financial difficulties,
Include an
Emphasis of a
Matter Paragraph Specifically
following the
use the
opinion
wor
paragraph
a.
b.
c.
d.

Yes
Yes
Yes
No

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Yes
Yes
No
Yes

Specifically
use the
words

Yes
No
Yes
Yes

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5. For which of the following events would an auditor issue a report that omits any reference to
consistency?
a. A change in the method of accounting for inventories.
b. A change from an accounting principle that is not generally accepted to one that is
generally accepted.
c. A change in the useful life used to calculate the provision for depreciation expense.
d.
6. Under which of the following circumstances would a disclaimer of opinion not be
appropriate?
a. The auditor is unable to determine the amounts associated with an employee fraud
scheme.
b. Management does not provide reasonable justification for a change in accounting
principles.
c. The client refuses to permit the auditor to confirm certain accounts receivable or
apply alternative procedures to verify their balances.
d. The chief executive officer is unwilling to sign the management representation letter.
7.
statements, has not been properly accounted for or disclosed. Depending on the materiality
of the effect on the financial statements, the auditor should express either a(n)
a. Adverse opinion or a disclaimer of opinion.
b. Qualified opinion or an adverse opinion.
c. Disclaimer of opinion or an unmodified opinion with a separate explanatory
paragraph.
d. Unmodified opinion with a separate explanatory paragraph or a qualified opinion.
8. When an auditor qualifies an opinion in an audit of an issuer under PCAOB because of
inadequate disclosure, the auditor should describe the nature of the omission in a separate
explanatory paragraph and modify the

a.
b.
c.
d.

Introductory
Paragraph
Yes
Yes
No
No

Scope
Paragraph
No
Yes
Yes
No

Opinion
Paragraph
No
No
Yes
Yes

9. Park, CPA, was engaged to audit the financial statements of Tech Co., a new client, for the
records, Par

a.
b
c.
d.

Page 7-36

Balance sheet
Disclaimer
Unmodified
Disclaimer
Unmodified

Income statement
Disclaimer
Disclaimer
Adverse
Adverse

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Section 7

10. When
are adjusted?
Auditor
Responsibility
Paragraph
a.
b.
c.
d.

No
Yes
No
Yes

Opinion
Paragraph
Yes
Yes
No
No

11. A scope limitation sufficient to preclude an unmodified opinion always will result when
management
a.
b.
c.
d.

Prevents the auditor from reviewing the working papers of the predecessor auditor.
Engages the auditor after the year-end physical inventory is completed.
Requests that certain material accounts receivable not be confirmed.
Refuses to acknowledge its responsibility for the fair presentation of the financial
statements in conformity with GAAP.

12. An auditor should disclose the reasons for exp

a.
b. Preceding the opinion paragraph.
c. Following the opinion paragraph.
d. Within the notes to the financial statements.

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(7.05)
CLASS Task-based Simulation 1

TheUniformCPAExamination
Audit Opinion
Cut

Copy

Unsp lit

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Split Vertical

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Authoritative Literature Help

Paste

Required:
Items 1 through 7 present various independent factual situations an auditor might encounter in
conducting an audit. List A represents the types of opinions the auditor ordinarily would issue and List B
represents the report modifications (if any) that would be necessary. For each situation, select one
response from List A and one from List B. Select as the best answer for each item, the action the auditor
normally would take. The types of opinions in List A and the report modifications in List B may be selected
once, more than once, or not at all.
Assume:
The auditor is independent.
The auditor previously expressed an unmodified
Only single-year (not comparative) statements are presented for the current year.
The conditions for an unmodified opinion exist unless contradicted in the factual situations.
The conditions stated in the factual situations are material.
No report modifications are to be made except in response to the factual situation.
Items to be answered:
1. In auditing the long-term investments account, an auditor is unable to obtain audited financial
statements for an investee located in a foreign country. The auditor concludes that sufficient appropriate
audit evidence regarding this investment cannot be obtained.
2. Due to recurring operating losses and working capital deficiencies, an auditor has substantial doubt
financial statement disclosures concerning these matters are adequate.
3. A principal auditor decides to take responsibility for the work of another CPA who audited a whollyowned subsidiary of the entity and issued an unmodified opinion. The total assets and revenues of the
subsidiary represent 17% and 18%, respectively, of the total assets and revenues of the entity being
audited.
4. An entity issues financial statements that present financial position and results of operations but omits
the related statement of cash flows. Management discloses in the notes to the financial statements that it
does not believe the statement of cash flows to be a useful financial statement.
5. An entity changes its inventory valuation method from FIFO to LIFO. The auditor concurs with the
ial statements.
6. An entity is a defendant in a lawsuit alleging infringement of certain patent rights. However, the ultimate
outcome of the litigation cannot be reasonably estimated by management. The auditor believes there is a
reasonable possibility of a significantly material loss, but the lawsuit is adequately disclosed in the notes
to the financial statements.
7. An entity discloses in the notes to the financial statements certain lease obligations. The auditor
believes that the failure to capitalize these leases is a departure from generally accepted accounting
principles.

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List A

List B

Types of Opinions

Report Modifications

An "except for" qualified

opinion

An unmodified opinion

An adverse opinion

D
E

Section 7

Describe the circumstances in an explanatory

paragraph preceding the opinion paragraph
without modifying the opinion paragraph.

Describe the circumstances in an emphasis-ofmatter paragraph following the opinion paragraph

without modifying the other paragraphs.

A disclaimer of opinion

Describe the circumstances in an other-matter

paragraph following the opinion paragraph without
modifying the other paragraphs.

Either an "except for" qualified

opinion or an adverse opinion

Describe the circumstances in a basis-formodification paragraph preceding the opinion

paragraph and modify the opinion paragraph.

opinion

Either an adverse opinion or a

disclaimer of opinion

Describe the circumstances in an emphasis-ofmatter paragraph following the opinion paragraph

and modify the opinion paragraph.

Describe the circumstances in a basis-formodification paragraph preceding the opinion

paragraph and modify the introductory and opinion
paragraphs.

Describe the circumstances in an emphasis-ofmatter paragraph following the opinion paragraph

and modify the introductory and opinion
paragraphs.

Describe the circumstances within the introductory

paragraph without adding any additional
paragraphs.

Describe the circumstances within the opinion

paragraph without adding any additional
paragraphs.

Describe the circumstances within the introductory

and opinion paragraphs without adding any
additional paragraphs.

Either a disclaimer of opinion

R
modification.

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CLASS Task-Based Simulation 2

Research
Authoritative
Literature

Help

Arnold Co. changed its method of accounting for inventories from FIFO to the weighted average
method. Billups, CPA, concurs with the change and has noted that it has been properly
accounted for and is adequately disclosed in the financial statements. Billups is curious as to
whether or not the report on the audited financial statements should be modified.
1. Which title of Professional Standards addresses this issue & will be helpful in
circumstances?
2. Enter the exact section and paragraph with helpful information.

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Section 7

CLASS SOLUTIONS:
1. (c) In the Auditors responsibility paragraph, it mentions that and auditor evaluates the
appropriateness of accounting policies used and the reasonableness of significant accounting
estimates made by management. The requirement is to identify the statement that is included
states that an audit includes assessing significant estimates made by management; the other
replies provide information not directly mentioned in a standard report.
2. (c) The basic unmodified audit report for a nonissuer consists of 4 paragraphs. The
he opinion paragraph. Reference to the
auditing standards used is made in the Auditors responsibility paragraph and reference to
accordance with the principles is made in the opinion paragraph.
3. (c

ifically mentioned that the auditor

financial statements in order to design audit procedures that are appropriate in the
circumstances, but not for the purpose of expressing an opinion, and accordingly, we express
no such opinion.
4. (a) When an uncertainty exists relating to a going concern doubt, an emphasis of a matter
paragraph is added following the opinion paragraph. It refers to the Note in the financial
s
5. (c) Whenever there is a change in accounting principles, including a change in the method of
accounting for inventories, a change from an unacceptable principle to an acceptable one, or a
change that management cannot reasonably justify, the auditor's report will include some
reference to consistency. A change in the useful life of an asset is a change in accounting
estimate that does not affect consistency.
6. (b) The inability of an auditor to determine the amounts associated with employee fraud, the
client refusing to permit the auditor to confirm certain accounts receivable or apply alternative
procedures, and the unwillingness of the chief executive officer to sign a management
representation letter all represent scope limitations. Depending on the materiality, a disclaimer
of opinion may be issued. Management's not providing reasonable assurance for a change in
accounting principles represents a potential nonconformity with GAAP. The auditor may issue a
qualified or adverse opinion, but would not issue a disclaimer.
7. (b) If a client has not appropriately accounted for a material illegal act, the auditor's report
must reflect this departure from GAAP by issuing a qualified or adverse report. It would not be
appropriate to issue a disclaimer because the auditor issues disclaimer of opinions to reflect
very material departures from Generally accepted auditing standards, not GAAP. It would also
not be appropriate to issue an unmodified opinion because the nature of the illegal act is
material.
8. (d) Under a PCAOB audit for an issuer, in a qualified report due to inadequate disclosure
(disagreement), the auditor issues a standard introductory paragraph and would not modify the
scope because inadequate disclosure is a departure from GAAP, not GAAS. The auditor would
however modify the opinion paragraph to an "except for ", qualified opinion.

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9. (b) If Park is unable to obtain satisfaction as to the opening balances of inventory, the value
of cost of goods sold cannot be verified and would result in a qualified or disclaimer of opinion
on the income statement. Since Park was able to audit the ending balance in inventory, there is
no scope limitation and an unmodified opinion may be issued on the balance sheet.
10. (b) When an auditor is auditing Group financial statements (division of responsibility) and
the Group auditor decides to share responsibility with the component auditor, then the dollar
amount or percent audited by the other auditor is included in the auditors responsibility
audit and the report of
11. (d) Preventing the auditor from reviewing the working papers of the predecessor auditor,
engaging the auditor after completion of the year-end physical inventory, and requesting that
material accounts receivable not be confirmed are all scope limitations that could preclude an
unqualified opinion. The auditor, however, may be able to overcome these limitations by
presentation of the financial statements in conformity with GAAP is a limitation for which there
are no alternate procedures and would always preclude issuance of an unmodified opinion.
12. (b) Whenever a qualified, adverse or disclaimer of opinion report is issued, the reasons for
paragraph.

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Section 7

CLASS Task-Based Simulation 1 Solutions

Audit Opinion

Authoritative Literature

Help

1.

FK

The inability to obtain sufficient appropriate audit evidence is a scope limitation. We know
that long-term investments is material. We do not, however, know if it is so material that a
material misstatement would also result in a material misstatement to the financial statements
taken as a whole. As a minimum, we will issue a qualified opinion since we cannot express
an opinion about an item that is material to the financial statements. If it is pervasive,
however, we would not be able to express an opinion on the financial statements taken as a
whole and would issue a disclaimer. Either of these represents a modification of the opinion
paragraph which would be preceded by a paragraph entitled either basis for qualification or
basis for disclaimer of opinion, as appropriate.

2.

BI

As long as an entity properly discloses a substantial doubt about its ability to continue as a
going concern, the auditor will issue a report with an unmodified opinion. Due to the
significance of a going concern doubt, however, the auditor is required to draw attention to it.
This will be done by including an emphasis-of-matter paragraph, which always immediately
follows the opinion paragraph.

3.

BR

When an auditor decides to take responsibility for the work of another auditor, there should
be no indication in the audit report that any portion of the financial statements was audited by
another auditor. Neither the opinion nor any of the other paragraphs are modified since the
auditor was able to obtain sufficient appropriate audit evidence and there were apparently no
material misstatements.

4.

AM

The omission of the statement of cash flows is a violation of GAAP and would result in a
to be materially misstated and, as a result, an adverse opinion would not be appropriate.
Since the introductory paragraph names that financial statements that are being audited, it
will have to be modified to omit mention of the statement of cash flows. A basis for
modification paragraph is required for any modified opinion, which would be before the
opinion paragraph. In addition, the opinion paragraph is modified to indicate the qualification
and to eliminate the reference to cash flows.

5.

BI

A user assumes financial statements were prepared in a manner consistent with the previous
year unless the auditor report indicates otherwise. Since the auditor concurs with the change
in accounting principles and since there is no indication that it was not accounted for and
disclosed properly, there is no basis for a modified opinion. The auditor will alert users to the
inconsistency with an emphasis-of-matter paragraph, which always immediately follows the
opinion paragraph.

6.

BI

When the entity has a loss contingency that is reasonably possible, it is required to be
disclosed but not accrued. If it is adequately disclosed, there is no basis for modifying the
auditor will likely wish to bring it to the attention of users of the financial statements, which will
be done by adding an emphasis-of-matter paragraph immediately following the opinion
paragraph.

7.

EK

If the auditor believes there is a violation of GAAP that the client refuses to correct, the
auditor will issue a qualified opinion if the matter is material to the financial statements but is
not so material as to cause the financial statements taken as a whole to be materially
misstated. If it is so material as to affect the fairness of the financial statements taken as a
whole, an adverse opinion would be required. In either case, the opinion paragraph would be
modified and a basis-for-modification paragraph will be added immediately before the opinion
paragraph.

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CLASS Task-Based Simulation 2 Solutions

Research
Authoritative
Literature
AU-C

Page 7-44

708

Help

.08

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Section 9

Other Services and Reports

(Lecture 9.02)
Special Reports
An accountant may be asked to prepare a special report in certain engagements, including:
Reporting on financial statements that are prepared in conformity with some special
purpose framework, often referred to as an other comprehensive basis of accounting
(OCBOA) other than GAAP.
Reporting on specified elements, accounts, or items on a financial statement.
Completing prescribed forms of a government agency on behalf of the client.
Reporting on the client's compliance with contracts or government requirements.

1. Audits of Financial Statements Prepared in Accordance With

Special Purpose Frameworks (AU-C 800)
OCBOA statements are often designed to conform to an income tax basis or a basis used by a
regulatory agency (restricted use), or may use the cash receipts and disbursements
method. There must be a definite set of criteria that would enable the auditor to determine
conformity with the approach. It is not considered a special report when an auditor examines
financial statements that are intended to conform to GAAP but which contain material
misstatements causing a qualified or adverse opinion.
Prescribed forms of government agencies often require special handling, because they may
include specific representations that the accountant is expected to make.
Third parties dealing with the client may request reports on compliance with agreements related
to the financial statements. For example, a creditor may wish the auditor to provide a report on
whether the client's working capital ratio has been maintained through the year at the level
required in connection with a loan agreement.
When an auditor accepts an engagement to examine financial statements that are intended to
conform to a comprehensive basis of accounting other than GAAP, the audit will still conform to
generally accepted auditing standards (GAAS), and the opinion may still be unqualified,
qualified, or adverse, depending on whether the statements conform to the OCBOA. An
explanatory paragraph must be added before the opinion, identifying the basis used, indicating it
is different from GAAP, and referring to a note in which the client discusses the basis. A sample
report following an audit of financial statements designed to conform to the cash receipts and
disbursements method follows:

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Special Purpose Framework Report (OCBOA)

Independent Auditor's Report (OCBOA)
To the Board of Directors of X Company:
Report on the Financial Statements (Introductory)
We have Audited the accompanying financial statements of X Co, which comprise the statement of
assets and liabilities arising from cash transactions as of December 31, 20X1, and the related
statement of revenue collected and expenses paid for the year then ended, and the related notes
to the financial statements.

Management is responsible for the preparation and fair presentation of these financial statements in
accordance with the cash basis of accounting described in Note X; this includes determining
that the cash basis of accounting is an acceptable basis for the preparation of the financial
statements in the circumstances. Management is also responsible for the design,
implementation, and maintenance of internal control relevant to the preparation and fair presentation
of financial statements that are free from material misstatement, whether due to fraud or error.

Our responsibility is to express an opinion on these financial statements base on our audit. We
conducted our audit in accordance with auditing standards generally accepted in the United States
of America. Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free from material misstatement.
An audit involves performing procedures to obtain evidence about the amounts and disclosures in
assessment of the risks of material misstatement of the financial statements, whether due to fraud or
error. In making those risk assessments, the auditor considers internal control relevant to the
procedures that are appropriate in the circumstances, but not for the purpose of expressing an
opinion. An audit also includes evaluating the appropriateness of accounting policies used and the
reasonableness of significant accounting estimates made by management, as well as evaluating the
overall presentation of the financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis
for our audit opinion.
Opinion
In our opinion, the financial statements referred to above present fairly, in all material respects, the
assets and liabilities arising from cash transactions of X Company as of December 31, 20X1,
and the revenue collected and expenses paid for the year then ended, in accordance with the
cash basis of accounting described in Note X.
Basis of Accounting
We draw attention to Note X of the financial statements, which describes the basis of
accounting. The financial statements are prepared on the cash basis of accounting, which is
a basis of accounting other than accounting principles generally accepted in the United
States of America. Our opinion is not modified with respect to this matter.
L.F. Rosenthal, CPA
Auditors city & state
March 1, 20X2

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Section 9

Notice that the statements must be suitably titled to distinguish the basis used from GAAP. If
the client fails to do so, this is considered inadequate disclosure and will require the auditor to
express a qualified opinion.
An accountant may be asked to compile or review OCBOA statements of a non-public
entity. The accountant will apply to SSARS to such an engagement, as discussed earlier. A
failure of the client to suitably title these statements will require the accountant to modify the
report in order to identify the basis used.

2. Specified Elements, Accounts or Items of a Financial Statement

(AU-C 805)
An auditor may accept an engagement to examine or compile specified elements, accounts, or
items of a financial statement as long as the client imposes no restriction on the scope of the
auditor's procedures. This may be either a separate engagement or one performed in
conjunction with an audit of the financial statements of the client.
Audits of specified elements, accounts, or items are sometimes needed to satisfy a creditor,
landlord, or employee about the calculations related to certain agreements. A landlord might
want an opinion on the calculation of rent expense under a percentage agreement, or an officer
might want verification of a profit-sharing calculation related to net income. Also, a CPA is
sometimes asked for an opinion on the application of GAAP to a specific transaction when the
client of another CPA firm disagrees with that firm about the appropriate treatment.
The opinion on the specified element may be expressed in a report that also issues an opinion
on the financial statements, as long as the opinion is either unmodified or qualified. If,
however, the auditor has either issued an adverse opinion or a disclaimer of opinion on the
financial statements, the report on the specified element must be presented in a separate
report, since the combination of an opinion on the element and disclaimer or adverse opinion
on the statements that contain the element would be confusing to the reader of the report (the
prohibited approach is sometimes called a "piecemeal" opinion).
If an accountant is asked to give an opinion on the application of GAAP to a specific transaction
by a client of another CPA firm, the accountant must consult with the other CPA firm on the
transaction in question. If the accountant is being asked for this opinion as part of a proposal to
become the new auditor of the client, the report must specifically indicate that the conclusion
might change if there is a change in facts, circumstances, or assumptions behind the
report. This is needed to prevent a client from being able to "shop around" for accounting
principles.
SSARS expanded the SSARSs to apply when the CPA is engaged to compile, or issues a
compilation report on financial statement elements, accounts, or items.

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Written By:

Roger Philipp, CPA

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2261 Market St. #333
San Francisco, California 94114
www.RogerCPAreview.com
(877) ROG-4CPA
(415) 346-4272

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Section 7

STUDY QUESTIONS:
1. A group auditor decides not to refer to the audit of another CPA who audited a
professional reputation and independence, the group auditor most likely would
a. Document in the engagement letter that the principal auditor assumes
no
b. Obtain written permission from the other CPA to omit the reference in the
c. Contact the other CPA and review the audit programs and working papers
pertaining to the subsidiary.
d.
not material to the consolidated financial
statements.
2. In which of the following paragraphs of an auditor's report does an auditor communicate
the nature of the engagement and the specific financial statements covered by the
audit?
a.
b. Opinion paragraph.
c. Introductory paragraph.
d. Emphasis of matter paragraph.
3. In which of the following should an auditor's report refer to the lack of consistency when
there is a change in accounting principle that was properly accounted for and disclosed
that is significant?
a.
b.
c.
d.

The
The opinion paragraph.
An additional paragraph following the opinion paragraph.
An additional paragraph before the opinion paragraph.

4. A client has capitalizable leases but refuses to capitalize them in the financial
statements. Which of the following reporting options does an auditor have if the amounts
pervasively distort the financial statements?
a.
b.
c.
d.

Qualified opinion.
Unmodified opinion.
Disclaimer opinion.
Adverse opinion.

5. Zag Co. issues financial statements that present financial position and results of
operations but Zag omits the related statement of cash flows. Zag would like to engage
Brown, CPA, to audit its financial statements without the statement of cash flows
although Brown's access to all of the information underlying the basic financial
statements will not be limited. Under these circumstances, Brown most likely would
a. Add an explanatory paragraph to the standard auditor's report that justifies the
reason for the omission.
b. Refuse to accept the engagement as proposed because of the client-imposed
scope limitation.
c. Explain to Zag that the omission requires a qualification of the auditor's opinion.
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d. Prepare the statement of cash flows as an accommodation to Zag and express
an unmodified opinion.

6. An auditor who is unable to form an opinion on a new client's opening inventory

balances may issue an unmodified opinion on the current year's
a.
b.
c.
d.

Income statement only.

Statement of cash flows only.
Balance sheet only.
Statement of shareholders' equity only.

7. After an audit report is issued, an auditor discovers that an important audit procedure
was not performed. Which of the following procedures is acceptable in this situation?
a.
b.
c.
d.

No further action is necessary if the audit report can still be supported.

Let the current report stand and correct material errors on the next audit report.
Immediately notify known users of the omitted audit procedure.
Require that the client notify financial statements users of the omitted
procedures.

8. Which of the following procedures would an auditor most likely perform to obtain
evidence about the occurrence of subsequent events?
a. Determine whether inventory ordered before the year end was included in the
physical count.
b. Inquire about payroll checks that were recorded before year end but cashed after
year end.
c. Investigate changes in capital stock recorded after year end.
d. Review tax returns prepared by management after year end.
9. How does an auditor make the following representations when issuing the standard
auditor's report on comparative financial statements?
Consistent
application of
accounting principles
a.
b.
c.
d.

Implicitly
Explicitly
Implicitly
Explicitly

Evaluate the
overall presentation
of the financial statements
Explicitly
Implicitly
Implicitly
Explicitly

10. After issuing an auditor's report, an auditor becomes aware of facts that existed at the
report date that would have affected the report had the auditor known of the facts at the
time. What is the first thing the auditor should do?

Page 7-2

a. Notify each member of the board of directors that the auditor's report may not
be associated with the financial statements from this point forward.
b. Issue revised financial statements and auditor's report describing the reason for
the revision in a note to the financial statements.
c. Determine whether there are persons currently relying on, or likely to rely on, the
financial statements and whether those persons would attach importance to the
information.
d. Notify regulatory agencies having jurisdiction over the client that the auditor's
report should not be relied upon from this point forward.
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Section 7

11. An auditor concludes that there is substantial doubt about an entity's ability to continue
as a going concern for a reasonable period of time. The entity's financial statements
adequately disclose its financial difficulties. Under these circumstances, the auditor's
report is required to include an emphasis of matter paragraph that specifically uses the
phrase(s)
of t
a.
b.
c.
d.

Yes
Yes
No
No

Yes
No
Yes
No

12. An entity's comparative financial statements include the financial statements of the prior
year that were audited by a predecessor auditor whose report is not presented. If the
predecessor's report was qualified, the successor should
a. Issue an updated comparative audit report indicating the division of
responsibility.
b. Explain to the client that comparative financial statements may not be
presented under these circumstances.
c. Express an opinion only on the current year's financial statements and make
no reference to the prior year's statements.
d. Indicate the substantive reasons for the qualification in the predecessor
auditor's opinion.
13. An auditor may report on summary financial statements that are derived from a complete
set of audited financial statements only if the auditor
a. Has not expressed an adverse opinion or issued a disclaimer of opinion on the
audited financial statements from which the condensed financial statements
are derived.
b. Indicates whether the information is fairly stated in all material respects in
relation to the complete financial statements.
c. Determines that the summary financial statements include all the disclosures
necessary for the complete set of financial statements.
d. Presents the summary financial statements in comparative form with the prioryear's summary financial statements.
14. An auditor should be aware of subsequent events that provide evidence concerning
conditions that did not exist at year end but arose after year end. These events may be
important to the auditor because they may
a.
b.
c.
d.

Require adjustments to the financial statements as of the year end.

Have been recorded based on preliminary accounting estimates.
Require disclosure to keep the financial statements from being misleading.
Have been recorded based on year-end tests for asset obsolescence.

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15. During the audit of a new client, the auditor determined that management had given
illegal bribes to municipal officials during the year under audit and for several prior years.
The auditor notified the client's board of directors, but the board decided to take no
action because the amounts involved were immaterial to the financial statements. Under
these circumstances, the auditor should
a. Add an explanatory paragraph emphasizing that certain matters, while not
affecting the unmodified opinion, require disclosure.
b. Report the illegal bribes to the municipal official at least one level above those
persons who received the bribes.
c. Consider withdrawing from the audit engagement and disassociating from
future relationships with the client.
qualified opinion or an adverse opinion with a separate
d.
paragraph that explains the circumstances.
16. When qualifying an opinion because of an insufficiency of audit evidence, an auditor
should refer to the situation in the
responsibility
paragraph
a.
b.
c.
d.

Yes
Yes
No
No

Notes to the
financial statements
Yes
No
Yes
No

17. After issuing an auditor's report, an auditor has no obligation to make continuing
inquiries concerning audited financial statements unless
a. Information about a material transaction that occurred just after the auditor's
report was issued is deemed to be reliable.
b. A final resolution is made of a contingent liability that had been disclosed in the
financial statements.
c. Information that existed at the report date and may affect the report comes to
the auditor's attention.
d. An event occurs just after the auditor's report was issued that affects the
entity's ability to continue as a going concern.
18. An auditor who uses the work of a specialist may refer to the specialist in the auditor's
report if the
a. Auditor believes that the specialist's findings are reasonable in the
circumstances.
b. Specialist's findings support the related assertions in the financial statements.
c. Auditor modifies the report because of the difference between the client's and
the specialist's valuations of an asset.
d. Specialist's findings provide the auditor with greater assurance of reliability
about management's representations.

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19. Under which of the following circumstances would the expression of a disclaimer of
opinion be inappropriate?
a. The auditor is unable to obtain the audited financial statements of a
consolidated investee.
b. Management does not provide reasonable justification for a change in
accounting principles.
c. The company failed to make a count of its physical inventory during the year
and the auditor was unable to apply alternative procedures to verify inventory
quantities.
d. Management refuses to allow th
canceled checks and bank statements.
20. On March 1, Green, CPA, expressed an unmodified opinion on the financial statements
of Ajax Co. On July 1, Green's internal inspection program discovered that engagement
personnel failed to observe Ajax's physical inventory. Green believes that this omission
impairs Green's ability to support the unmodified opinion. If Ajax's creditors are currently
relying on Green's opinion, Green should first
a. Request Ajax's management to communicate to its creditors that Green's
opinion should not be relied on.
b. Reissue Green's auditor's report with an explanatory paragraph describing the
departure from GAAS.
c. Undertake to apply the alternative procedures that would provide a satisfactory
basis for Green's opinion.
d. Advise Ajax's board of directors to disclose this development in its next interim
report.
21. Which of the following procedures would an auditor most likely perform in obtaining
evidence about subsequent events?
a. Examine changes in the quoted market prices of investments purchased since
the year end.
b. Compare the latest available interim financial information with the financial
statements being reported upon.
c. Apply analytical procedures to the details of the balance sheet accounts that
were tested at interim dates.
d. Inquire about payroll checks that were recorded before the year end but
cashed after the year end.
22. Which of the following items would most likely require an adjustment to the financial
statements for the year ended December 31, year 1?
a. Uninsured loss of inventories purchased in year 1 as a result of a flood in year
2.
b. Settlement of litigation in year 2 over an event that occurred in year 2.
c. Loss on an uncollectible trade receivable recorded in year 1 from a customer
that declared bankruptcy in year 2.
d. Proceeds from a capital stock issuance in year 2 which was being approved by
the board of directors in year 1.

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23. In using the work of a specialist, an auditor may refer to the specialist in the auditor's
report if, as a result of the specialist's findings, the auditor
a. Desires to disclose the specialist's findings, which imply that a more thorough
audit was performed.
b. Makes suggestions to management that are likely to improve the entity's
internal control.
c. Corroborates another specialist's findings that were consistent with
management's assertions.
d. Adds an emphasis-of-matter paragraph to the auditor's report to emphasize an
unusually important subsequent event.
24. A client decides not to make an auditor's proposed adjustments that collectively are not
material and wants the auditor to issue the report based on the unadjusted numbers.
Which of the following statements is correct regarding the financial statement
presentation?
a. The financial statements are free from material misstatement, and
no disclosure is required in the notes to the financial statements.
b. The financial statements do not conform with generally accepted accounting
principles (GAAP).
c. The financial statements contain unadjusted misstatements that should result
in a qualified opinion.
d. The financial statements are free from material misstatement, but disclosure of
the proposed adjustments is required in the notes to the financial statements.
25. A CPA concludes that the unaudited financial statements on which the CPA is
disclaiming an opinion are not in conformity with generally accepted accounting
principles (GAAP) because management has failed to capitalize leases. The CPA
suggests appropriate revisions to the financial statements, but management refuses to
accept the CPA's suggestions. Under these circumstances, the CPA ordinarily would
a. Express limited assurance that no other material modifications should be made
to the financial statements.
b. Restrict the distribution of the CPA's report to management and the entity's
board of directors.
c. Issue a qualified opinion or adverse opinion depending on the materiality of the
departure from GAAP.
d. Describe the nature of the departure from GAAP in the CPA's report and state
the effects on the financial statements, if practicable.
26. Under which of the following circumstances would an auditor's expression of an
unmodified opinion be inappropriate?
a. The auditor is unable to obtain the audited financial statements of a significant
subsidiary.
b. The financial statements are prepared on the entity's income tax basis.
c. There are significant deficiencies in the design and operation of the entity's
internal control.
d. Analytical procedures indicate that many year-end account balances are
not comparable with the prior year's balances.

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27. A CPA's standard report on audited financial statements would be inappropriate if it

referred to
a. Management's responsibility for the financial statements.
b. An assessment of the entity's accounting principles.
c. Significant estimates made by management.
d. The CPA's assessment of sampling risk factors.
28. When an auditor has substantial doubt about an entity's ability to continue as a going
concern because of the probable discontinuance of operations, the auditor most likely
would express a qualified opinion if
a. The effects of the adverse financial conditions likely will cause a bankruptcy
filing.
b. Information about the entity's ability to continue as a going concern is not
disclosed.
c. Management has no plans to reduce or delay future expenditures.
d. Negative trends and recurring operating losses appear to be irreversible.
29. On February 9, Brown, CPA, expressed an unmodified opinion on the financial
statements of Web Co. On October 9, during a peer review of Brown's practice, the
reviewer informed Brown that engagement personnel failed to perform a search for
subsequent events for the Web engagement. Brown should first
a. Request Web's permission to perform substantive procedures that would
provide a satisfactory basis for the opinion.
b. Inquire of Web whether there are persons currently relying, or likely to rely, on
the financial statements.
c. Take no additional action because subsequent events have no effect on the
financial statements that were reported on.
d. Assess the importance of the omitted procedures to Brown's present ability to
support the opinion.
30. Which of the following events occurring after the issuance of an auditor's report most
likely would cause the auditor to make further inquiries about the previously issued
financial statements?
a. A lawsuit is resolved that is explained in a separate paragraph of the prioryear's auditor's report.
b. New information is discovered concerning undisclosed related party
transactions of the prior year.
c. A technological development occurs that affects the entity's ability to continue
as a going concern.
d. The entity sells a subsidiary that accounts for 35% of the entity's consolidated
sales.

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STUDY QUESTION SOLUTIONS:

1.(c) An auditor of an entity that has subsidiaries or other components that will be audited
by component auditors will make a decision as to whether or not to take responsibility for
the work of component auditors after contacting them and evaluating their work (c). The
decision is made after an understanding is established with the client and would not be
included in the engagement letter (a). Permission would be required to make reference
are not material would only be appropriate if that were true, not because they were
audited by a component auditor (d).
2.(c) The introductory paragraph of the audit report identifies the financial statements that
paragraph indicates that the auditor is required to comply with GAAS and indicates what
to the financial statements (b). An emphasis of matter paragraph is used to draw
attention to something properly accounted for and disclosed in the financial statements
(d).
3.(c) When financial statements have not been prepared consistently due to a change in
accounting principles that has been properly accounted for and disclosed does not
require a modified opinion. The introductory paragraph, management responsibility
standard paragraphs. The auditor will, however, add an emphasis of matter paragraph
following the opinion paragraph. If the change had not been properly accounted for or
disclosed, the auditor would modify the report, affecting the opinion paragraph (b), and
would add a paragraph with the basis for the qualification before the opinion paragraph
(d). The aud
4.(d) When a departure from the applicable financial reporting framework is significant
enough to affect the financial statements taken as a whole, the auditor would conclude
that the financial statements are not fairly presented and would issue an adverse
opinion. A qualified opinion (a) would be appropriate if the departure was material but
not pervasive such that it resulted in a material misstatement, but did not affect the
fairness of the financial statements taken as a whole. An unmodified opinion (b) would
only be appropriate if there were no departure or if it was not material, and a disclaimer
of opinion (c) would only be appropriate if the auditor was not able to obtain sufficient
appropriate audit evidence to formulate an opinion.
5.(c) An omission of the statement of cash flows is a departure from GAAP and would
require the auditor to issue a qualified opinion, it is not a scope limitation (b). An
explanatory paragraph, providing the basis for the qualification, would be added before
the opinion paragraph, but it would explain the departure, not justify it (a). The auditor
may be asked by the client to prepare the statement of cash flows, but would not do so
unless engaged by the client to do so (d).
6.(c) The inability of an auditor to form an opinion on beginning inventory does not affect the
ability to form one on ending inventory, enabling the auditor to express an opinion on the
ending balance sheet. Since beginning inventory is a component of cost of sales, the
auditor would not be able to form an opinion on the income statement (a) or the
in inventory is taken into account in calculating cash flows from operating activities and
the inability to form an opinion on beginning inventory would prevent forming one on
cash flows (b).
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7.(a) When an auditor determines after the issuance of the audit report that a necessary
procedure had not been performed, the auditor will first determine if the performance of
that procedure would have resulted in a change to the report issued. If not, the auditor
will conclude that the report issued can still be relied upon and will take no further action.
If it would have affected the report, the auditor will evaluate the next course of action,
which may involve requesting the client to correct the previously issued financial
statements, notifying known users to no longer rely on the report, although they would
not be notified of the omitted procedures by either the auditor (c) or the client (d). It
statements are issued (b).
8.(c) Subsequent events are transactions that occur after the end of the period, which are
analyzed by the auditor to determine if they require adjustment of the financial
statements being issued. Inventory ordered before the year-end is not a subsequent
event but a historical one (a) as would be the case with payroll checks written before
year-end (b). Although tax returns are prepared after year-end, they reflect transactions
that occurred during the period, not subsequent to it (d).
9.(a)
sponsibility paragraph
that an audit includes evaluating the overall presentation of the financial statements.
Consistency, on the other hand, is only mentioned when there is an exception. When
there is no material inconsistency, consistency is implied by the fact that it is not
mentioned in the standard report.
10.(c) When, after issuance of the audit report, the auditor becomes aware of facts that
would have affected the report if they had been known at the time, the auditor will first try
to determine if the financial statements are still being relied upon and if users would be
affected by the information. If not, no further action need be taken. The auditor will
discuss the matter with management and, if appropriate, governance, but not
necessarily with each member of the board of directors (a). They will determine if
management, not the auditor, should revise the financial statements (b). The auditor
may encourage the client to notify regulatory agencies not to rely on the financial
statements but would not consider taking such action unless the client refuses to do so
(d).
11.(d) When the auditor concludes that there is substantial doubt that an entity will be able
to continue as a going concern, the auditor will make certain that it is properly accounted
for and disclosed in the financial statements. If it is, the auditor will provide an
unmodified report with an emphasis of matter paragraph, following the opinion
paragraph, drawing attention to the disclosure of the going concern issue. The auditor
w
12.(d
with prior period financial statements audited by another auditor, the audit report will
include an opinion on the current period financial statements and indicate that the prior
-matter
paragraph following the opinion. The report will indicate the nature of the predecessor
division of responsibility (a) as would be the case if it were a group audit. Comparative
statements may be presented in these circumstances (b), but it would not be appropriate

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13.(a) If engaged to report on summary financial statements, the auditor should withdraw
from the engagement if the report on the audited financial statements contain an
adverse opinion or a disclaimer of opinion. The report on summary information will
indicate that it is consistent with the audited financial statements, not that it is fairly
stated (b). Summary financial statements will either be in a document that contains the
audited financial statements or will indicate their ability. As a result, they are not
required or expected to have all of the disclosures required for a complete set of
financial statements (c). Summary financial statements may be presented individually or
in comparative form (d).
14.(c) If, as a result of an event occurring after the date of the financial statements, assets
on the balance sheet were subjected to a dramatic decline in value, GAAP requires that
this be disclosed so that the users of the financial statements are not mislead by the
amount at which the asset is properly reported as of the balance sheet date. Only
subsequent events providing evidence of conditions that did exist at the financial
statement date will result in adjustment (a), and contingencies, not subsequent events,
may be recorded on the basis of preliminary accounting estimates (b). Year-end tests
for asset obsolescence (d) relate to conditions that existed at the financial statement
date, not subsequent to it.
15.(c) If amounts involved are immaterial, the illegal bribes do not affect the reliability of the
financial statements and would not require an explanatory paragraph (a), or a qualified
opinion (d). The auditor would not report the bribe to officials, although the auditor may
consult an attorney as to the best course of action (b). The fact that the board of
directors decided to take no action, however, raises a question as to the integrity of
management and governance and should cause the auditor to consider withdrawal from
the engagement.
16.(d) When an auditor qualifies an opinion due to a scope limitation, indicating that the
auditor was not able to obtain sufficient appropriate audit evidence as to something that
was material to the financial statements, the audit report will include the standard
s responsibilities, and
the qualification would be added, preceding the opinion paragraph, and the opinion
paragraph would be modified to indicate the qualification and refer to the preceding
paragraph. The notes are the responsibility of management and are not modified by the
auditor.
17.c) Historical financial statements are designed to provide the most reliable information
possible on the basis of information available up through the report date, the date
through which subsequent events are considered. The auditor has no obligation to
notify users of events occurring after that date, even a material transaction (a), the
settlement of a contingency (b), or a matter aff
going concern (d). The auditor is required to notify users of information that did exist at
the report date if it would have affected the report.
18.(c) When an auditor issues a modified report, the auditor will provide an explanatory
paragraph to indicate the basis for the modification, which may be a conflict between the
findings of a specialist and the client. If the report is not modified, as would be the case
if the findings are reasonable (a), they support the assertions (b), and they provide
greater reliance on the financial statements (d), no reference would be made.
19.(b) A disclaimer of opinion is appropriate when the auditor is unable to obtain sufficient
appropriate audit evidence to be able to form an opinion on the financial statements.
This would be the case if the auditor was unable to obtain audited financial statements
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for a material consolidated subsidiary (a); the auditor was unable to obtain satisfaction
as to the quantity or value of inventory, if material (c); or if management imposed a
scope limitation, such as not allowing the auditor to review canceled checks (d).
indicates a departure from GAAP, which would require a qualified opinion, not a
disclaimer.
20.(c) Upon learning that a necessary audit procedure was not performed, the auditor will
upon. This will be accomplished by performing alternate procedures to the extent
possible. If the auditor determines that the report can be relied upon, no further action is
required. If, however, the auditor determines that the report should not be relied upon,
the next course of action, which may involve having the entity communicate to users that
the report should not be relied upon (a), advising the client to disclose it in a subsequent
report that may be imminent (d), or having the entity revise the financial statements. The
auditor would not reissue the report with a paragraph explaining the departure (b).
21.(b) By comparing interim financial statements with those reported on, the auditor can
identify any significant changes in financial position that would not be explained by
normal operations, indicating the possibility of subsequent events that should evaluated.
The auditor would not be concerned about securities purchased after year end (a) as
their value would not affect the audited financial statements. Testing balance sheet
accounts (c) would not provide information about subsequent events, nor would inquiries
about paychecks recorded before year end (d) as neither relates to events occurring
after year-end.
22.(c) When a customer declares bankruptcy, it may be an indication that it was insolvent as
of the end of the period, in which case the receivable should have been written off. If
bankruptcy is declared before the financial statements are issued, a determination will
be made as to whether the receivable was collectible at year-end and, if not, an
adjustment will be proposed to write it off. A flood occurring after year-end (a) is an
event that is likely to require disclosure but it does not affect amounts as of the balance
sheet date and would not require an adjustment. Settlement of litigation that had
occurred in year 1 might require the adjustment of a contingent liability, but if the
litigation did not occur until year 2 (b), it does not represent a contingent liability in year
1. The approval of a stock issuance may be disclosed in year 1, but it would not require
adjustment until shares were actually issued (d).
23.(d) Regardless of whether an auditor uses the work of a specialist, the auditor is
responsible for the audit and mentioning a specialist to imply a more thorough audit (a)
would not be appropriate. If the work of a specialist provides information helpful in
making suggestions about internal control to management (b) or corroborates another
speci
documentation, not the report. The auditor may, however, use an emphasis-of-matter
paragraph to bring unusual circumstances to the attention of users of the financial
statement
understandings.
24.(a) The auditor expresses the opinion that the financial statements are not materially
misstated and, as a result, if adjustments that are not material are not made by the
client, the auditor will still issue an unmodified report. Since the adjustments are not
material, the auditor would not indicate that the financial statements do not comply with
GAAP (b). The adjustments should only result in a qualified opinion if they are material
and, since they are not, so indicating would not be appropriate (c). Footnotes only
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provide information that is material to users, which would not include the immaterial
adjustments that were not made by the entity (d).
25.(d) Although the auditor is issuing a disclaimer of opinion, when the auditor is aware of a
departure from GAAP, it should be appropriately disclosed in an other matter paragraph
the
auditor was unable to obtain sufficient appropriate audit evidence to formulate an
opinion, neither limited assurance (a), nor an adverse or qualified opinion (c) would be
appropriate. A departure from GAAP is not an appropriate reason to restrict the
distribution of a report (b).
26.(a) If the auditor is unable to obtain audited financial statements of a significant
subsidiary, it is not likely that the auditor will be able to obtain sufficient appropriate audit
ces. Depending on materiality, a qualified or
disclaimer of opinion would be appropriate. The auditor may issue an unmodified
opinion on financial statements prepared using the tax basis of accounting (b), as long
as the basis of accounting is adequately disclosed in the notes to the financial
statements. Deficiencies in internal control (c) and circumstances where results of
timing, and extent of additional audit procedures but will not affect the opinion.
27.(d
preparation and fair presentation of the financial statements (a) in the paragraph
responsibilities, there is an indication that the auditor evaluates the accounting principles
sional judgment and would be documented in the
28.(b) The auditor is not required to issue a modified report when there are signs that an
entity will not be able to continue as a going concern as long as the circumstances are
appropriately accounted for and disclosed. Those indications may include an imminent
negative trends and recurring losses (d). A modified report would be required, however,
if the circumstances are not adequately disclosed, which would be a departure from
GAAP.
29.(d
necessary audit procedure, the first step the auditor will take will be to determine if the
report can be supported by the amount of appropriate audit evidence obtained. If so, no
further action is required. If not, the auditor may inquire as to whether there are parties
relying on the financial statements (b) as the performance of the procedure may not be
necessary. If there are, the auditor may perform the procedure (a) if practicable. The
omission of a necessary procedure is not a subsequent event and taking no additional
action would be inappropriate (d).
30.(b) Undisclosed related party transactions in the prior year represent a GAAP departure,
which, depending on the materiality, might have resulted in a modified report. Upon
learning of them, the auditor would investigate to determine if the report should be relied
estimate in the period of settlement and would not cause the auditor to make inquiries.
going concern (c)
would require consideration in the period in which it occurs, but would not require the
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end (d) would be disclosed if it occurred prior to the issuance of the financial statements
but would not cause the auditor to make inquiries regarding the prior year if it occurred
after issuance.

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