Audit Reports

Chapter 3

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 Parts of the Standard
Unqualified 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

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens/Elder/Beasley 3-2

 The AICPA Standard Auditors’
Report--Introductory Paragraph

We have audited the accompanying balance

sheet of XYZ Company as of December 31,
20XX, and the related statements of income,
retained earnings, and cash flows for the year
then ended. These financial statements are the
responsibility of the Company's management.
Our responsibility is to express an opinion on
these financial statements based on our audit.

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 The AICPA Standard Auditors’
Report--Scope Paragraph

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 of material misstatement. An
audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the
accounting principles used and significant estimates made
by management, as well as evaluating the overall financial
statement presentation. We believe that our audit provides
a reasonable basis for our opinion.

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 The AICPA Standard Auditors’
Report--Opinion Paragraph

In our opinion, the financial statements

referred to above present fairly, in all material
respects, the financial position of XYZ
Company as of December 31, 20XX, and the
results of its operations and its cash flows for
the year then ended in conformity with
accounting principles generally accepted in
the United States of America.
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 Conditions for Standard
Unqualified Audit Report
1. All financial statements are included.

2. The three general standards have been

followed in all respects on the engagement.

3. Sufficient evidence has been accumulated

to conclude that the three standards of
field work have been met.

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens/Elder/Beasley 3-6

 Conditions for Standard
Unqualified Audit Report
4. The financial statements are presented in
accordance with generally accepted
accounting principles.

5. There are no circumstances requiring the

addition of an explanatory paragraph or
modification of the wording of the report.

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens/Elder/Beasley 3-7

 Five Categories of Audit
Reports
1. Standard unqualified

2. Unqualified with explanatory paragraph

or modified wording

3. Qualified
4. Adverse

5. Disclaimer
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 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.

©2010 Prentice Hall Business Publishing, Auditing 13/e, Arens/Elder/Beasley 3-9

 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

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 Unqualified opinions with
Explanatory Language

Other auditors
Going concern uncertainty
GAAP not consistently applied
Emphasis of a matter
Justified departure from GAAP

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 Shared Responsibility Report

[Standard introductory paragraph language] We did not audit the

financial statements as and for the year ended December 31, 2005
of Glendo, Inc., which statements reflect total sales constituting
27 percent of total consolidated sales for 2005. Those statements
were audited by other auditors whose reports have been furnished
to us, and our opinion, insofar as it relates to data included for
Glendo, Inc. for 2005, is based solely on the report of the other
auditors.

[Standard scope paragraph language] We believe that our audits and

the reports of other auditors provide a reasonable basis for our
opinion.

In our opinion, based on our audits and the reports of other

auditors, …
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 Going Concern Problem

• Following the opinion paragraph

• Standard introductory paragraph
• Standard scope paragraph
• Standard opinion paragraph

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 Explanatory Paragraph--Going
Concern Problem
The accompanying financial statements have been prepared assuming that
America West Airlines, Inc. will continue as a going concern. As discussed in
note 1 to the financial statements, the Company filed a voluntary petition
seeking to reorganize under chapter 11 of the federal bankruptcy laws. This
event and circumstances relating to this event, including the Company’s
significant losses, accumulated deficit, and highly leveraged capital structure,
raise substantial doubt about its ability to continue as a going concern.
The accompanying financial statements do not include and adjustments that
might result from the outcome of these uncertainties.

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 Consistency Problem

• Following the opinion paragraph

• Standard introductory paragraph
• Standard scope paragraph
• Standard opinion paragraph

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 Explanatory Paragraphs--
Consistency

As discussed in Note 15, effective January 1,

2002, the Company changed its method of
accounting for goodwill and intangible assets
upon adoption of Statement of Financial
Accounting Standards (SFAS) No. 142, “Goodwill
and Other Intangible Assets.”

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 Emphasize a matter

• Following or preceding the opinion

paragraph
• Standard introductory paragraph
• Standard scope paragraph
• Standard opinion paragraph

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 Justified Departure from GAAP

• Following or preceding the opinion

paragraph
• Standard introductory paragraph
• Standard scope paragraph
• Standard opinion paragraph

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 17-19

Modifications of the Auditors’

Report--Unqualified Opinions
Type of Report Introductory or Explanatory Opinion
Scope Paragraph Paragraph Paragraph
Shared Describe work of None “...based on our
responsibility other auditors audit and the
report of other
auditors...”
Going concern None Describe None
uncertainty uncertainty
GAAP not None Describe change None
consistent in principle
Emphasis of None Describe matter None
matter
Justified None Describe None
departure from departure
official GAAP
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 Qualified reports due to Departure
from GAAP
• Introductory and scope paragraphs are
standard
• Add paragraph preceding the opinion
paragraph
• Modify opinion paragraph: “except for”
Reasons:
• No GAAP
• Disclosure problems
• Unjustified changes in GAAP
• Unreasonable estimates
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17-20
 Example of a Qualified Report--
Departure from GAAP

(Introductory and Scope Paragraphs are Standard)

The Company has excluded from property and debt in the accompanying
balance sheet certain lease obligations that, in our opinion, should be
capitalized in order to conform with generally accepted accounting
principles. If these lease obligations were capitalized, property would be
increased by $__________, long-term debt by $___________, and
retained earnings by $__________ as of December 31, 20X5, and net
income and earnings per share would be increased (decreased) by
$___________ and $_____, respectively, for the year then ended.

In our opinion, except for the effects of not capitalizing lease

obligations, as discussed in the preceding paragraph, the financial
statements referred to above present fairly, in all material respects, the
financial position of XYZ Company as of December 31, 20X5, and the
results of its operations and cash flows for the year then ended in
conformity with accounting principles generally accepted in the United
States of America.
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 Qualified reports due to Scope
Limitation
• Introductory paragraph – standard
• Modify scope paragraph
• Modify opinion paragraph: “except for”

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 Example of a Qualified Report--
Scope Limitation

Standard Introductory Paragraph

Except as discussed in the following paragraph, we conducted our

audit...

We were unable to obtain audited financial statements supporting the

Company’s investment in a foreign affiliate stated at $_______, or its
equity in earnings of that affiliate of $_______, which is included in net
income, as described in Note 8 to the financial statements; nor were we
able to satisfy ourselves as to the carrying value of the investment in the
foreign affiliate or the equity in earnings by other auditing procedures.

In our opinion, except for the effects of such adjustments, if any, as

might have been determined to be necessary had we been able to
examine evidence regarding the foreign affiliate investment and
earnings, the financial statements referred to above present fairly,...
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 17-24

Modifications of Auditors’ Report—

Qualified Opinions
Type of Introductory or Explanatory Opinion
Report Scope Paragraph Paragraph
Paragraph
Describe “except for the
Qualified— None departure and effects of the
GAAP effects departure the
Departure financial
statements…”

“Except as Describe “except for the

Qualified— explained in the scope effects of such
Scope following limitation adjustments, if any,
Limitation paragraph…” as might have been
determined to be
necessary had we
been able to…”
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 Adverse Opinions
• Introductory paragraph – standard
• Scope paragraph - standard
• Add explanatory paragraphs preceding the
opinion paragraph
• Modify opinion paragraph

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 Adverse Opinion

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, in conformity
with accounting principles generally accepted in
the United States of America, the financial
position of XYZ Company as of December 31,
20X5, or the results of its operations or its cash
flows for the year then ended.

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 Disclaimer of Opinion
• Introductory paragraph – “we were engaged
to”
• Scope paragraph - omitted
• Add explanatory paragraphs preceding the
disclaimer paragraph
• Modify opinion paragraph

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 17-28

Disclaimer of Opinion
We were engaged...

The Company did not make a count of its physical

inventory, stated in the accompanying financial
statements at $_____ as of December 31, 20X2.
Further, evidence supporting the cost of property and
equipment acquired prior to December 31, 20X1, is no
longer available. The Company’s records do not permit
the application of other auditing procedures to
inventories or property and equipment.

Since the Company did not take physical inventories

and we were not able to apply other auditing
procedures to satisfy ourselves as to inventory
quantities and the cost of property and equipment, the
scope of our work was not sufficient to enable us to
express, and we do not express, an opinion on these
financial statements.

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 17-29

Modifications of the Auditors’ Report-

-Adverse & Disclaimer
Type of Report Introductory or Explanatory Opinion
Scope Paragraph Paragraph
Paragraph

Adverse None Describe reason for “the financial

opinion statements do not
present fairly”

Disclaimer of “We were engaged” Describe scope “we do not express

Opinion-- Omit “Our restriction and any an opinion on the
Scope responsibility...” reservations financial
statements”
Limitation Omit scope
paragraph

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 Placement of Explanatory Paragraphs

Before opinion paragraph

Qualified opinions
Disclaimers
Adverse opinions
Following opinion paragraph
Consistency
Going concern
No additional paragraph
Other auditors
Before or after
Emphasize a matter
Justified departure from GAAP
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 Other issues

Comparative financial statements

Different opinions

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 Questions?

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