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AAA Audit Reporting Part 2

1. For a company owed $1.5 million by a customer going out of business after year-end, the auditor should issue a qualified opinion due to a material misstatement, as this was an adjusting post-balance sheet event not accounted for. 2. For a company unable to continue for over 12 months, the auditor must issue an adverse opinion due to use of the wrong basis of preparation (going concern assumption). 3. For a company relying on a contract that may not be renewed, the auditor adds an emphasis of matter paragraph if the uncertainty is disclosed, or qualifies the opinion if not disclosed due to a material misstatement.

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51 views

AAA Audit Reporting Part 2

1. For a company owed $1.5 million by a customer going out of business after year-end, the auditor should issue a qualified opinion due to a material misstatement, as this was an adjusting post-balance sheet event not accounted for. 2. For a company unable to continue for over 12 months, the auditor must issue an adverse opinion due to use of the wrong basis of preparation (going concern assumption). 3. For a company relying on a contract that may not be renewed, the auditor adds an emphasis of matter paragraph if the uncertainty is disclosed, or qualifies the opinion if not disclosed due to a material misstatement.

Uploaded by

RAJKUMAREE UMMERSINGH
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PDF, TXT or read online on Scribd
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AAA – Reporting

Audit Reporting – Part 2

SUGGEST THE MOST LIKELY TYPE OF AUDIT REPORT FOR THE FOLLOWING
SITUATION:

1. Scenario 1:
R Ltd. has a profit before tax for the year of $20 million. One week after the year-end, R Ltd. received a letter
telling them that one of its major customers was going out of business and no money was expected to be paid
to any of the company suppliers. R Ltd. was owed $1.5 million at the year-end and this amount is still
outstanding. The year-end for R Ltd is 31st December 2015 and the directors of R Ltd. are not proposing to
adjust the financial statements for that year as they claim the write off should occur in the following year.

Solution:
The first thing we can say here is that the transaction is material to the profit of R Ltd. it represents 7.5% of the
profit. Our accounting standards knowledge should enable us to conclude that the directors are wrong. This is
an adjusting event. There were conditions that existed at the year-end that both R Ltd. and the auditor should
have known about. There would be either correspondence with the customer asking why payment has not
been made or the age receivables listing would reveal an old debt that needs chasing up.

Accounting standards knowledge provides the normal source of evidence so there is no lack of evidence.
There is no unresolvable uncertainty and no other information is mentioned so we can dismiss four possible
modifications straight away.

A qualified opinion on the grounds of a lack of evidence, a disclaimer of opinion, an emphasis of matter and
another matter are not appropriate.

The error here is an isolated one, it is not pervasive as it only affects receivables, so an adverse opinion would
be too extreme.

We should suggest a qualified opinion on the grounds of material misstatement, after having given
the directors of R Ltd. the opportunity to adjust the financial statements. If an adjustment is made then
an unmodified report is fine.

2. Scenario 2:
N Ltd. sells sports equipment. Recently, customers have been lost and no replacements found. The company
is also very short of cash with no prospect of getting any further finance - the bank has just refused a request
for a loan. The directors of N Ltd. estimate that they have enough cash to run the company for a further three
months, so have prepared the financial statements on a going concern basis.

Solution:
This is a big problem! The basis of preparation is always a material issue because it affects all areas of the
financial statements. The going concern assumption says that a company must be able to continue to trade
for at least 12 months, this company cannot do this, so it is not a going concern.

Our knowledge of the going concern concept is the normal source of evidence available. Once again, there
is no missing evidence, no unresolvable uncertainty and no other information, so 4 possible modifications can
be rejected.

A qualified opinion on the grounds of a lack of evidence, a disclaimer, an emphasis of matter and another
matter are not appropriate.

The wrong basis of preparation is always a pervasive issue. If the wrong basis is used, then most items in the
financial statements are wrongly classified or wrongly measured or both, so an adverse opinion would be
required unless the directors were to change the basis of preparation, in which case an unmodified
report could be issued.

3. Scenario 3:
L Ltd. gets 70% of its sales revenue from one customer by way of a renewable annual contract. The
relationship between client and supplier is somewhat strained and L Ltd. is unsure as to whether or not the
contract will be renewed. If it is not, then L Ltd. will need to find alternative customers in order to survive. The
renewal date for the contract is some time after the audit report is due to be signed.

Solution:
This is a fundamental uncertainty requiring an emphasis of matter paragraph in the basis of opinion, as long
as the directors of L ltd have disclosed the situation in full in a note to the financial statements. If no disclosure
has been made, then instead we would need to qualify the opinion on the grounds of material misstatement
because the disclosure is missing.

There is no missing evidence here, the uncertainty surrounding the contract still exists even after all normal
sources of evidence have been obtained.
This is a modification to the basis of opinion if the uncertainty is disclosed, but to the opinion, if it is
not.

NOTE: It is essential both to know what the reporting options are as well to be able to apply them correctly as we
have done in these three scenarios.

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