Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

CHAPTER 4
AUDITOR’S REPORT & TYPES OF
OPINIONS
APX 1: HOW TO ATTEMPT CASE STUDY RELATING TO “IMPACT ON AUDIT REPORT”:
Structure of the Case:
You will be given many short situations, and requirement will be to explain effect/implication of
each situation on auditor’s report/opinion. Remember, every situation is to be solved separately
whether all situations relate to different clients or same client.

Suggested Approach to Solve:

Step # 1: Evaluate the situation:
 Discuss the relevant accounting, audit or legal concept involved in the situation, and
 Conclude whether this situation is ①Misstatement/Scope Limitation, or ②Emphasis of
Matter/Other Matter, or ③Key Audit Matter, or ④Going Concern Issue, or ⑤Additional
Opinions required by Law.

Step # 2: Determine Materiality (only if there is a misstatement or scope limitation)

Discuss significance of the matter i.e. whether it is immaterial, material or pervasive.
Situation How to calculate materiality
If materiality is given (in Use that. No need to recalculate.
%age or amount)
If profit or other benchmark  Prefer Profit to calculate materiality (Materiality = 5% * Profit)
(e.g. Total Assets/Revenue) is  If there is loss during the year or significantly low profit or entity is not-for-
given. profit organization, “Materiality = 1% or 0.5% of alternate Benchmark.
If nothing mentioned about Discuss both situations i.e. if material ______, if pervasive ____.
materiality
If there are two or more  If amounts are given, add-up them to decide about materiality.
misstatements in a single  If amounts are not given, treat them pervasive.
situation
If a misstatement is Also consider on “aggregate as well as qualitative basis”.
immaterial

Step # 3: Determine Effect on Report

We will explain the:
 effect on opinion and basis for opinion (e.g. qualified, adverse, disclaimer of opinion), and
 effect on every other paragraph of report (e.g. EOM or OM or KAM or Going Concern, or
additional opinion required by law).

Exam Tips
1. Step # 1 & 2 are sometimes called “Matters to be considered by auditor” in exam question.
2. In some questions, examiner may ask you to describe how would you deal with given situation. In
such question, “how would you deal” means “auditor’s course of action” e.g. communication with
different parties, audit procedures, impact on report etc.

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Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

APX 2: LIST OF FREQUENTLY EXAMINED MISSTATEMENTS:

Misstatements in Amounts:
 Selecting LIFO basis of inventory valuation.
 Revaluation model is adopted but entire class of fixed assets is not revalued.
 Damaged or Obsolete inventory is not recorded at Lower of Cost and NRV.
 Impairment loss (or depreciation) is not recorded on plant which is not in use, or is not useful.
 Not recording provision for bad debts or provision for warranty.
 Debt-covenant breached but management still classified it as long-term loan.
 Provision is not made for litigations against company (in which outflow is probable and measurable).
 Subsequent events are not included in financial statements

Misstatements in Disclosures:
1. Required disclosures are NOT included e.g.
a. Circumstances of impairment loss,
b. Related party relationships or transactions,
c. Earnings Per Share (EPS) of a listed company.
d. Pending litigations and claims (in which outflow is not probable or not measurable)
2. Disclosure is not adequate (e.g. events/conditions causing going concern issues not clearly disclosed).
3. If disclosure prohibited by AFRF is included e.g. contingent assets (where inflow is possible but not probable) is
included in notes.

List of Accounting Policies and Estimates:

Accounting Policies:
 Valuation of PPE or Intangible Assets (Cost or Revaluation Model)
 Valuation of Inventory (FIFO or Weighted Average)
 Valuation of Investments (Cost or fair value)

Accounting Estimates:
 Depreciation method or Depreciation rate.
 Provision for bad debts or warranty.

APX 3: CASE STUDIES RELATING TO DRAFTING MODIFICATION IN AUDIT REPORT

(OR IDENTIFICATION OF ERRORS IN MODIFIED REPORT):
Structure of the Case:
In exam, you may be given a situation causing modification in audit report and you will be required
to DRAFT relevant paragraphs of audit report.

You may also be given extracts from audit report, and you may be required to identify errors from
given extracts.

Suggested Approach to Solve:

Important thing is to identify correct impact on report. Then, it will be like a question of
reproducing the extracts of report, which you have learnt in this chapter.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

QUESTIONS

CORE PRACTICE

Q.1 Your firm serves as the auditor for Appolo Limited (AL) for the year ended 31 December 2023. AL operates within the
specialized market of small private jet planes, catering primarily to large corporate clients and high-net-worth individuals
through its charter flight services. AL's fleet consists of six Gulfstream-III aircraft models, along with a helicopter.

Some major airports restrict the operation of Gulfstream-III aircraft due to concerns over harmful emissions and noise
pollution. This restriction poses operational challenges for AL in accessing certain airports. Adding to the complexity,
aviation authorities in Pakistan issued a notification on 30 December 2023, stipulating that these Gulfstream-III aircrafts
must be phased out by 30 June 2024.

Required:
Evaluate the impact of notice issued by the aviation authority, on the audit of AL. Also, suggest relevant audit procedures.
(Reporting implications are not required) (12)
(ICAP, CAF 08 Level – Spring 2024, Q.# 3)

Q.2 You are the audit manager in a firm of Chartered Accountants. The following independent matters for the year ended 31
December 2023 are presently under your consideration:

(a) Your firm serves as the auditor of Karsaz Limited (KL). During the audit process, the audit team encountered a
challenge in conducting the inventory count at one of the warehouses. KL failed to make necessary arrangements for
inventory count at this particular location, citing the unavailability of relevant staff on the scheduled inventory count day.
The inventory in the financial statements is reported at Rs. 600 million, whereas inventory in that warehouse is recorded
at Rs. 150 million.
KL’s profit before tax is Rs. 700 million. (05)

(b) Your firm is the auditor of Malir Limited (ML). During the audit process, ML has notified the audit team that its human
resource department has also been given the responsibility for managing the human resources of its subsidiary, Valeeka
Limited (VL). This decision was made because the operational costs associated with running the human resource
department at ML are relatively minimal, considering the scale of ML's business operations. Consequently, ML has not
considered this transaction while preparing its financial statements. (05)

Required:
Analyze each of the above independent situations and discuss the related audit reporting implications if the issue could
not be resolved. (Audit procedures are not required)
(ICAP, CAF 08 Level – Spring 2024, Q.# 6)

Q.3 Discuss the impact on the key audit matter section of the audit report when the auditor expresses an adverse opinion.
(05)
(ICAP, CAF 08 Level – Autumn 2023, Q.# 8c)

Q.4 Briefly discuss the reason(s) for inclusion of ‘emphasis of matter paragraph’ and ‘other matter paragraph in the audit
report. (Examples are not required) (04)
(ICAP, CAF 08 Level – Spring 2023, Q.#7a)

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Q.5 You are the audit manager in a firm of chartered accountants. Following independent situations of three listed audit
clients are under your consideration:

(a) The client’s management has refused to provide written representation about management responsibilities. (05)

(b) Power Generation Limited has used the fuel price as at 30 June 2022 to value its closing fuel inventories.
Consequently, the value of fuel inventories has been increased from Rs. 500 million to Rs. 750 million. Profit before tax for
the year ended 30 June 2022 is Rs. 2,000 million. (05)

(c) Based on detailed assessment, the management of Wallmart Limited (WL) believes that WL will not be a going
concern. Consequently, they have prepared WL’s financial statements on liquidation basis. (05)

Required:
Briefly evaluate each of the above independent situations and discuss the impact of each matter on the audit report
including impact on the key audit matter section, if any.
(ICAP, CAF 08 Level – Autumn 2022, Q.#3)

Q.6 You are the audit partner in a firm of Chartered Accountants. Following independent matters for the year ended 31
December 2021 are presently under your consideration:

(a) Pioneer Electronics Limited (PEL) had implemented a new accounting software in 2021. Due to high pressure
from top management, the implementation of the new accounting software was hurried, which has resulted in
numerous errors in the inventory, payable and receivable module of the software. PEL’s staff is still in the
process of identifying and rectifying the software deficiencies. The audit team has been unable to verify these
balances through alternate means. Inventory, payable and receivable are appearing as Rs. 200 million, Rs. 150
million and Rs. 100 million respectively in the financial statements.
Profit before tax is Rs. 500 million. (07)

(b) Your firm has been appointed as auditor in place of retiring auditor for Smart Footwear Limited (SFL), a listed
company. SFL owns number of retail outlets across Pakistan and many of them were acquired on rental basis.
During the year, SFL has adopted IFRS 16 ‘Leases’. The audit team has made significant efforts to review the
adjusting entries made in the financial statements to reconcile the change in accounting policy of operating
leases, and agree with its accounting treatment and disclosures. The matter was discussed in detail in the audit
committee meeting, and included in the board letter.

Required:
In each of the above independent situations, discuss the reporting implication(s) including the changes that needs to be
made in the audit report as illustrated in ISA-700. (07)
(ICAP, CAF 08 Level – Spring 2022, Q.#7)

Q.7 You are the audit partner in a firm of chartered accountants. Some of the audits are in the finalization stage and presently
the following matters are under your consideration:
(a) The management of Sohni Limited has changed its revenue recognition policy. As the audit engagement
partner you are satisfied with the accounting and disclosures related to change in accounting policy. Further,
the impact of the change is significant. (04)
(b) There is a legal dispute between Marvi Limited and one of its customers. In this regard, the legal advisor has
confirmed the stance of the management in a meeting with you. However, he has refused to provide a written
confirmation thereon. (02)
(c) The management of Laila Limited is not willing to make certain disclosures. The management is of the view
that these disclosures will not add any value to the financial statements. Further, the information required to
make these disclosures cannot be compiled before the deadline for completion of the audit. (04)
Required:
Discuss the possible impact on the audit report and specify the procedures (if any) which you would undertake in the
above situations.
(ICAP, CAF 08 Level – Spring 2017, Q.#3)
(ICAP’s Question Bank for CAF 08 – Q. # 169)

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Q.8 As the engagement partner, you have reviewed the working papers of Nadeem Limited (NL) in which the audit team has
highlighted the following matters:
(a) NL provides six months warranty to its customers and has hired an expert to compute the warranty provision. The
management is not willing to provide written representation for the warranty provision because the provision is in
accordance with the expert’s advice. (04)
(b) Certain contingent assets have been disclosed in the draft financial statements in which inflow of economic benefits
is possible but not probable. The management is of the view that International Financial Reporting Standards does
not prohibit making additional disclosures which enhance the users understanding of the financial statements. (03)

Required:
Discuss the possible impact on the audit report.
(ICAP, CAF 08 Level – Autumn 2015, Q.#6)
(ICAP’s Question Bank for CAF 08 – Q. # 142 a &b)

Q.9 Sher Khan Limited (SKL) had announced a major restructuring in the year 2011 and a provision of Rs. 120 million was
made against the cost of restructuring and redundancies. During 2012 all known claims and liabilities relating to the
restructuring were settled for Rs. 90 million.

However, as a matter of prudence, the company has not written back the excess amount of provision in view of a suit filed
by certain staff members against termination of their employment. SKL’s legal counsel is of the view that the possibility of
an adverse decision against the company in this matter is remote.

The audit senior does not agree with the management’s contention and has drafted the following modification in the audit
report:
“An amount of Rs. 30 million has been provided in respect of the expected amount which the company may be required to
pay to the employees whose employment was terminated during the year. The management is of the view that in case the
company is required to pay the amount to those employees, the said provision would be utilized. In our opinion, the
company’s decision to make the above provision is not in accordance with International Accounting Standards. Had the
liabilities been recognized correctly the profit for the year would have increased by Rs. 30 million. Because of the effects
of the matters discussed above, the financial statements do not give a true and fair view of the financial position of the
company as at 30 September 2012.”

Profit before taxation and net assets of SKL are Rs. 145 million and Rs. 350 million respectively.

Required:
Comment on the decision of the audit senior and identify the shortcomings, if any, in the modification drafted by
him. (08)
(ICAP, CAF 08 Level – Spring 2013, Q.#6)

Q.10 As the engagement partner, you have reviewed the audit working papers of Samarkand Limited (SL). The audit team has
highlighted the following matters in the working papers.
(a) Twenty percent of the company’s recorded turnover (revenue) comprises of cash sales. Proper records of cash
sales have not been maintained. Consequently, the audit team was unable to design audit procedures to verify
the cash sales.
(b) During the current year, the company changed the method of charging depreciation on its fixed assets from the
straight line to the diminishing balance method. However, all the required disclosures have been included in the
notes to the financial statements.
(c) The previous year’s financial statements were audited by another firm of chartered accountants which has
issued an un-modified opinion on those financial statements.

Required:
Discuss the impact of each of the above matters on your audit report. (10)
(ICAP, CAF 08 Level – Autumn 2012, Q.#2)
(ICAP’s Question Bank for CAF 08 – Q. # 154)

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Q.11 You are the audit manager of MM Electronics (Private) Limited. The company markets its products through retail outlets
in nine major cities. The draft financial statements for the year ended 30 June 2011 show a profit after tax of Rs. 20
million and net assets of Rs. 150 million. The audit team has noted the following matters for your consideration:

(a) During the year the company has changed its policy of valuation of property, plant and equipment from
historical cost to revalued amount. For this purpose, the services of Professional Valuers (Private) Limited
were hired. They have issued valuation reports of three outlets indicating a revaluation surplus of Rs. 10
million, which has been recognised in the financial statements. The management has informed you that the
valuation reports of the remaining properties are expected to be issued in December 2011.

(b) The company was sued for breach of contract by a customer claiming damages of Rs. 10 million. The legal
advisor has confirmed the management’s assertion that no liability existed at the balance sheet date. However,
while reviewing the customers’ files, you found an email from the Manager (Legal Department) addressed to
the Chief Executive in which he has opined that the company will have to pay at least 50% of the damages
claimed.

(c) With effect from 01 July 2010, the company has introduced a policy of providing one year warranty on its
television sets. No warranty is provided on the other products. Sales of television sets aggregated Rs. 20
million, whereas the total sales for the year amounted to Rs. 80 million.
The company has a customer support department which provides after sales services on all products. For
defects not covered under the warranty, the company bills the customers at 25% above cost. The management
has included a note in the draft financial statements stating that no provision has been made in respect of the
warranty, as the amount cannot be measured reliably.

(d) The directors have decided not to disclose earnings per share as the same had reduced significantly on
account of issuance of 100% bonus shares. The disclosure was however made in all previous financial
statements.

Required:
Express your views on each of the above situations and discuss the impact thereof on the audit report. (14)
(ICAP, CAF 08 Level – Autumn 2011, Q.#8)
(ICAP’s Question Bank for CAF 08 – Q. # 157)

Q.12 Al-Badr & Company, Chartered Accountants, have conducted the statutory audit of the financial statements of Al-Qasim
Limited, a listed company, for the year ended June 30, 20X3 under the requirements of the Companies Act, 2017. The job
in charge has drafted the following audit report:

Auditors’ Report to the Directors

Opinion
We have audited the annexed financial statements of Al-Qasim Limited, which comprise the statement of financial
position as at June 30, 20x3, and the statement of profit or loss and other comprehensive income or the income and
expenditure statement, the statement of changes in equity, for the year then ended, and notes to the financial statements,
including a summary of significant accounting policies and other explanatory information, and we state that we have
obtained all the information and explanations which, to the best of our knowledge and belief, were necessary for the
purposes of the audit.

In our opinion and to the best of our information and according to the explanations given to us, the statement of financial
position, statement of profit or loss and other comprehensive income or the income or expenditure statement, the
statement of changes in equity and the statement of cash flows together with the notes forming part thereof conform with
the accounting and reporting standards as applicable in Pakistan and give the information required by the Companies Act,
2017 (XIX of 2017), in the manner so required and respectively give a true and fair view of the state of the Company's
affairs as at June 30, 20x3 and of the profit or loss and other comprehensive income or loss, or the surplus or deficit, the
changes in equity and its cash flows for the year then ended.

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Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Basis for Opinion

We conducted our audit in accordance with International Standards on Auditing (ISAs). Our responsibilities under those
standards are further described in the Auditor’s Responsibilities for the Audit of the Financial Statements section of our
report. We are independent of the Company in accordance with the International Ethics Standards Board for
Accountants‟ Code of Ethics for Professional Accountants as adopted by the Institute of Chartered Accountants of Pakistan
(the Code) and we have fulfilled our other ethical responsibilities in accordance with the Code. We believe that the audit
evidence we have obtained is sufficient and appropriate to provide a basis for our opinion.

Responsibilities of Management and Board of Directors for the Financial Statements

Management is responsible for the preparation and fair presentation of the financial statements in accordance with the
accounting and reporting standards as applicable in Pakistan and the requirements of Companies Act, 2017(XIX of 2017)
and for such internal control as management determines is necessary to enable the preparation of financial statements
that are free from material misstatement, whether due to fraud or error.

In preparing the financial statements, management is responsible for assessing the Company‟s ability to continue as a
going concern, disclosing, as applicable, matters related to going concern and using the going concern basis of accounting
unless management either intends to liquidate the Company or to cease operations, or has no realistic alternative but to
do so.

Board of directors are responsible for overseeing the Company’s financial reporting process.

Auditor’s Responsibilities for the Audit of the Financial Statements

Our objectives are to obtain reasonable assurance about whether the financial statements as a whole are free from
material misstatement, whether due to fraud or error, and to issue an auditor’s report that includes our opinion.
Reasonable assurance is a high level of assurance, but is not a guarantee that an audit conducted in accordance with ISAs
as applicable in Pakistan will always detect a material misstatement when it exists. Misstatements can arise from fraud or
error and are considered material if, individually or in the aggregate, they could reasonably be expected to influence the
economic decisions of users taken on the basis of these financial statements.

As part of an audit in accordance with ISAs as applicable in Pakistan, we exercise professional judgment and maintain
professional skepticism throughout the audit.

We also:
 Identify and assess the risks of material misstatement of the financial statements, whether due to fraud or error,
design and perform audit procedures responsive to those risks, and obtain audit evidence that is sufficient and
appropriate to provide a basis for our opinion. The risk of not detecting a material misstatement resulting from
fraud is higher than for one resulting from error, as fraud may involve collusion, forgery, intentional omissions,
misrepresentations, or the override of internal control.
 Obtain an understanding of internal control relevant to the audit in order to design audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the
Company’s internal control.

 Conclude on the appropriateness of management’s use of the going concern basis of accounting and, based on
the audit evidence obtained, whether a material uncertainty exists related to events or conditions that may cast
significant doubt on the Company’s ability to continue as a going concern. If we conclude that a material
uncertainty exists, we are required to draw attention in our auditor’s report to the related disclosures in the
financial statements or, if such disclosures are inadequate, to modify our opinion. Our conclusions are based on
the audit evidence obtained up to the date of our auditor’s report. However, future events or conditions may
cause the Company to cease to continue as a going concern.
 Evaluate the overall presentation, structure and content of the financial statements, including the disclosures,
and whether the financial statements represent the underlying transactions and events in a manner that
achieves fair presentation.

We communicate with the board of directors regarding, among other matters, the planned scope and timing of the audit
and significant audit findings, including any significant deficiencies in internal control that we identify during our audit.

We also provide the board of directors with a statement that we have complied with relevant ethical requirements
regarding independence, and to communicate with them all relationships and other matters that may reasonably be
thought to bear on our independence, and where applicable, related safeguards.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

From the matters communicated with the board of directors, we determine those matters that were of most significance
in the audit of the financial statements of the current period and are therefore the key audit matters. We describe these
matters in our auditor’s report unless law or regulation precludes public disclosure about the matter or when, in
extremely rare circumstances, we determine that a matter should not be communicated in our report because the adverse
consequences of doing so would reasonably be expected to outweigh the public interest benefits of such communication.

Report on Other Legal and Regulatory Requirements

Based on our audit, we further report that in our opinion:
a. the statement of financial position, the statement of profit or loss and other comprehensive income or the
income and expenditure account, the statement of changes in equity and the statement of cash flows together
with the notes thereon have been drawn up in conformity with the Companies Act, 2017 (XIX of 2017) and are in
agreement with the books of account and returns;
b. investments made, expenditure incurred and guarantees extended during the year were for the purpose of the
Company’s business; and
c. no Zakat was deductible at source under the Zakat and Ushr Ordinance.

[Signature]
[Place/ location]
[Date]

Required:
Identify and explain (where necessary) the errors in the above audit report. (12)
(Note: You are not required to redraft the report.)
(ICAP, CAF 08 Level – Autumn 2010, Amended, Q.#10)
(ICAP’s Question Bank for CAF 08 – Q. # 153)

Q.13 You have completed the audit of financial statements of Pride Limited showing profit before tax and total assets of Rs. 74
million and Rs. 582 million respectively. Following issues are still unresolved:

(i) An employee left the company without settling a loan of Rs. 0.5 million. Management has refused to make provision but
is ready to give a disclosure.
(ii) The revenue recognition policy is not consistent with the relevant International Accounting Standard (IAS). Had it
been in accordance with the IAS, the profit before tax would have been Rs. 79.2 million.
(iii) The contract with a major customer is about to expire after three years. Certain internal documents show that the
company might have to face a very difficult situation thereafter.

Required:
Discuss the impact of each of the above matters on your audit report. (08)
(ICAP, CAF 08 Level – Spring 2008, Q.#10)

Q.14 Under the Companies Act 2017, while reporting on the financial statements the auditor has to express an opinion whether
the financial statements give a true and fair view in all material respect.
Briefly state the matters other than the above, on which the auditor is required to express his opinion as per the
requirements of Companies Act 2017. (04)
(ICAP, CAF 08 Level – Autumn 2007, Q.#7)

Q.15 Suggest how would you modify the audit report in the following situations:

(i) A client of your firm has a history of tax contingencies arising out of appeals pending at various levels. The company
has disclosed all such contingencies along with the estimated amounts in accordance with the accounting standards.
Assume that the aggregate sum of these contingencies is material.

(ii) You are appointed as the auditor of a company after the year-end i.e. June 30, 2005. Hence, you have not been able to
physically observe the counting of inventories at the year-end. Further, alternative audit procedures could not be
performed due to the nature of the company’s records. (05)
(ICAP, CAF 08 Level – Autumn 2005, Q.#8c)

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Q.16 Due to a major computer breakdown during the year, the accounting records of the company are no more verifiable. The
company does not have proper manual records. Although the integrity of the management is not in doubt, the auditor is
not in a position to substantiate management’s assertions contained in the financial statements. What type of opinion
should be expressed in these circumstances? (04)
(ICAP, CAF 08 Level – Autumn 2003, Q.#8b)

Q.17 What types of audit opinion should be expressed in the following circumstances:
(a) A listed company has accounted for a finance lease as an operating lease and accordingly has not recognized the asset
and liability in this respect. The impact of this accounting treatment is pervasive to the financial statements. (03)
(b) The appointment of auditors was such that they have not been able to observe the physical stock count. However, they
have satisfied themselves through alternative audit procedures. (04)
(c) The management has not accounted for the full liability in respect of gratuity. The management is of the view that it is
a deferred liability and not a current one. The impact is material but not pervasive in relation to the financial statements.
(03)
(ICAP, CAF 08 Level – Autumn 2002, Q.#7)

Q.18 What is the reporting responsibility of the auditor in the following circumstances:
(a) A major suit has been filed against the client which is pending in the Supreme Court. The matter has been
decided against the company in lower court. The management has not made any provision against this case and
is also refusing to disclose this case as a contingency. (05)
(b) The company has investment in the shares of a listed company. The market value is significantly lower than the
cost and the company has not made any provision for diminution in value. However, the market value is
properly disclosed in the financial statements. The contention of the company is that the investment is long term
in nature and the present diminution is temporary. The effect of diminution in value is material. (05)
(c) The company is using LIFO method for valuation of stocks. The effect of using the LIFO method is disclosed in
the financial statement which is a material figure. (05)
(ICAP, CAF 08 Level – Autumn 2001, Q.#8)

Q.19 Can an auditor modify his report if the accounts do not contain certain disclosure required by law?
(ICAP, CAF 08 Level – Autumn 2000)

Q.20 You are carrying out an audit of a company engaged in the manufacturing of pharmaceutical products. The company has
two manufacturing plants, one of which has been temporarily closes owing to lack of demand. The management contends
that depreciation should not be charged on the assets of the closed plant. The impact of not charging depreciation is
material to the financial statements.
What should be auditor do in this situation?
(ICAP, CAF 08 Level – Spring 2000)

Q.21 You are carrying out an audit of a large trading company. The company has an amount of Rs. 45 million receivable from
one customer who has been declared as bankrupt. The management of the company has refused to make provision
against this amount. The audit partner has decided that audit report should be qualified. Draft a suitable qualification in
this respect. (You are not required to write the entire report). (05)
(ICAP, CAF 08 Level – Spring 2000)

Q.22 In respect of an audit client, the following were some relevant dates:

Accounting year end December 31, 2018

Completion of audit including resolution of all queries and outstanding issues March 1, 2019
Approval of the accounts by the Board of directors. March 5, 2019
Date of representation letter. March 7, 2019

What should be the date of auditor’s report.

(ICAP, CAF 08 Level – Adapted)

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Q.23 You are the audit manager at the client Lavender Product Limited (LPL). Your team had proposed various adjustments
including the impairment of a plant. LPL’s CFO has agreed to record all the adjustments including the impairment loss.
However, the CFO is reluctant to disclose in the financial statements, the circumstances that lead to the impairment of
plant and machinery.
Required:
Evaluate the above situation and state the implications on the audit report, if any. (05)
(ICAP, CFAP 06 Level – Winter 2017)

Q.24 Identify the differences between the auditor’s report on financial statements of a listed company as compared to an
unlisted company, based on International Standards on Auditing. (02)
(ICAP, CFAP 06 Level – Winter 2016)

Q.25 You are a partner in a firm of Chartered Accountants. Annual audits of various clients are at finalization stage and since
this is the first time that ISA related to Key Audit Matters is to be applied, several issues have been referred to you for
guidance. These include:
(a) An adverse report is being issued in the case of Muneer Limited. The draft report also contains certain matters as Key
Audit Matters. (02)
(b) A qualified report has been drafted by the audit manager of Nadir Limited as the company has failed to make adequate
provision of contingency. The details of qualification are mentioned in the Key Audit Matters section. (03)
(c) The Key Audit Matters section of audit report of Zia Limited includes details of Key Audit Matters of only the current
period. However, the opinion has been expressed on current as well as prior year. (03)
Required:
Advise the concerned partners/managers with respect to the above matters.
(ICAP, CFAP 06 Level – Winter 2016)

Q.26 (a) Haali Limited has a policy to carry its buildings at revalued amounts. At the balance sheet date i.e. 31 December 2012,
the valuer had finalised the valuation reports of only 3 out of a total of 8 properties. According to these reports these
properties were assigned a valuation of Rs. 50 million as against the carrying amount of Rs. 62 million.
Required:
Evaluate the above condition and discuss the impact on the audit report if the revaluation loss of Rs. 12 million is
recorded in the financial statements. (04)

(b) During the year ended 31 December 2012 Chiragh Limited has changed its policy for valuation of investment in a
subsidiary from the ‘fair value’ to ‘cost’. Had the company continued with its previous policy for valuation of investment at
‘fair value’, the subject value would have been reduced by Rs. 50 million.
Required:
Discuss the matters which you should consider in respect of the above situation and the possible impact thereof on the
audit report. (03)
(ICAP, CFAP 06 Level – Summer 2013)

Q.27 Describe the implications on the audit report where the prior year’s audit has been conducted by another auditor. (04)
(ICAP, CFAP 06 Level – Winter 2012)

Q.28 Identify and explain the shortcomings in the following paragraph of the draft audit report of Javed Limited:
Emphasis of Matter:
We draw attention to the fact that the company has accumulated losses of Rs. 115,436,540 (2011: Rs. 85,365,479) and
certain payments against long term loans were overdue as at the reporting date. As at 30 September 2012, its total
liabilities exceeded its total assets by Rs. 15,450,300 (2011: Rs. 11,542,200). These conditions indicate the existence of a
material uncertainty that may cast significant doubt on the Company’s ability to continue as a going concern. (03)
(ICAP, CFAP 06 Level – Winter 2012)

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Q.29 The following situations have arisen at different audit clients of your firm:

(a) Zafar Technology Limited (ZTL), a listed company, is engaged in the manufacture of compressors used in electrical
appliances. During the conduct of the audit for the year ended 31 March 2012, a team member has discovered a letter
dated 18 March 2012 from Sartaj Electronics Limited (SEL) which states that SEL will not pay the current outstanding
invoices as according to it the compressors supplied by ZTL are of an incorrect specification.
ZTL’s Technical Director believes that the problem arose due to changes in the design of appliances produced by SEL and
not because of faulty production by ZTL. However, both the companies have agreed to refer the matter to arbitration.
Sales to SEL account for approximately 25% of the revenue of ZTL and the balance due from SEL as at 31 March 2012
amounted to Rs. 3.12 million. The profit after taxation of ZTL is Rs. 25 million with an asset base of Rs. 150 million. (07)

(b) The directors’ report of XCP Limited states without any further explanation that the 20% increase in profit as
compared to the previous year is due to increase in sales and austerity measures introduced by the management. The
income statement for the year shows an increase in profits and sales amounting to Rs. 20 million and Rs. 8 million
respectively whereas the costs have reduced by Rs. 12 million. A review of your working papers however indicates that
costs have reduced mainly on account of reduction in import duty on certain raw materials. (04)

(c) IPL is a manufacturer of diversified products and has factories in seven major cities of the country. The demand for
some of its products has been falling and the company wants to concentrate on its core products only. Consequently, it
has decided to close three of its factories and has made a provision of Rs. 30 million in respect of redundancies and
restructuring. The directors’ report for the year ended 31 May 2012 comprehensively discusses the restructuring plan
and states that the factories in Lahore and Multan would be closed in the months of July and September 2012
respectively. The third factory will be closed before December 2012 however, the location of that factory will be decided
in November 2012.
The profit after taxation of IPL according to its draft financial statements for the year ended 31 May 2012 is Rs. 80 million.
(06)
Required:
Discuss the matters which the auditor should consider for each of the above situations and the possible impact thereof on
the respective audit reports.
(ICAP, CFAP 06 Level – Summer 2012)
(ICAP’s Question Bank for CAF 08 – Q. # 155)

Q.30 Ranjha Limited (RL), a listed company, is engaged in the manufacture of fast moving consumer goods. The draft financial
statements for the year ended March 31, 2011 show a profit before taxation of Rs. 12 million and total assets of Rs. 300
million.
As the audit manager, you are reviewing the following issues which were brought to your notice by the audit team:

(i) On June 1, 2010 RL acquired a plant at a cost of Rs. 50 million. The plant has a useful life of 10 years with no residual
value. RL follows the policy to depreciate the plant on the straight line method. On January 1, 2011 the plant suffered
physical damage due to a fire in the factory. The technician from the manufacturer has inspected the plant and reported
that the damage has affected its production capacity which has now been reduced by 30%.

(ii) During the year a petition has been filed against RL by one of its customers for recovery of Rs. 20 million, alongwith
mark-up, damages and compensation, on the ground that materials supplied by RL were defective. RL has filed a written
statement in the Court denying the allegations.
RL’s legal advisor is of the view that the final liability of the company may range from 0% to 50%. However, at this point
of time, it is not possible to determine the amount with reasonable degree of accuracy. No provision in this regard has
been made in the draft financial statements.

(iii) In April 2007, RL acquired a high-tech production management software for Rs. 10 million. The useful life of the
software is 10 years. During the year it was discovered that in the past the software was erroneously amortised assuming
a useful life of 20 years.
The management has decided to adjust the amount short provided, over the remaining useful life of the software.

Required:
Discuss the matters that may be of significance to you as an auditor in respect of each of the above issues. Also explain
their implication on the audit report. (12)
(ICAP, CFAP 06 Level – Summer 2011)
(ICAP’s Question Bank for CAF 08 – Q. # 158)

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Q.31 The draft accounts of Kingfisher Pharmaceutical Limited (KPL) for the year ended September 30, 2010 show a profit
before taxation of Rs. 115 million and total assets of Rs. 450 million.
Being the audit manager you are currently reviewing the following matters:

(i) The basis of preparation of financial statements states that these have been prepared in accordance with the
International Financial Reporting Standards. However, the accounting policy note for borrowing costs states that all
borrowing costs are expensed as incurred. Results of audit tests show that borrowing costs expensed during the year
include Rs. 15 million which relate to qualifying assets.

(ii) On October 17, 2010 the Income Tax Department issued amended assessment orders for the tax years 2006 to 2009 in
which an aggregate tax of Rs. 40 million has been demanded. KPL has filed appeals against the orders before the Income
Tax Appellate Tribunal. KPL’s tax consultant has advised that it is not possible at this stage to give a reasonably accurate
estimate of the amount of tax that the company may ultimately be required to pay but it would range between Rs. 10-35
million. There is no reference of this matter in the draft financial statements.

(iii) The directors’ report contains a statement that “current year’s increase in profit before taxation by over 10% is
primarily due to the improved operating performance of the company”. However, the income statement shows that KPL’s
profit before taxation includes a gain on sale of a factory amounting to Rs. 30 million. In the absence of this gain, the
company would have reported a reduction in operating profit by 19%.

Required:
In respect of each of the above matters:
(a) State with reasons what action you would take; and
(b) discuss the implications on the audit report, if any. (13)
(ICAP, CFAP 06 Level – Winter 2010)

Q.32 You are the manager in charge on the audit of Hexa Garments Limited (HGL). The company is listed on the Karachi Stock
Exchange and has nine directors. It is engaged in the manufacture and sale of fancy garments through its own retail
outlets. You are considering the following matters in respect of the audit for the year ended December 31, 2009:

(a) According to the draft financial statements the total assets of the company are valued at Rs. 375 million. These include
value of ten retail outlets amounting to Rs. 175 million. The valuation is based on historical cost less accumulated
depreciation. During the year ended December 31, 2009, the management had decided to revalue all the retail outlets. The
valuer appointed by the management has not been able to complete the assignment to date. However, he has submitted
two interim reports as described below:

Interim Report
First Second
Date of report 31/12/09 20/02/10
Number of shops revalued 3 4
Book value as on 31/12/2009 (Rs. in million) 40 60
Revalued amount (Rs. in million) 70 100

(b) During the year HGL has developed two new brands “Deebal” and “Kalachi” and has launched an aggressive marketing
campaign for their promotion. The company has recognised the cost incurred on the campaign amounting to Rs. 10
million as an intangible asset. It is being written off over the estimated useful life of the brands i.e. four years.

Required:
Discuss the matters that may be of significance to you as an auditor, in respect of the above issues. Also explain their
implications on the audit report.
(ICAP, CFAP 06 Level – Summer 2010)

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Q.33 You are the senior responsible for the audit of Iqra Industries Limited (IIL). During the course of the audit you became
aware that a legal action has been instituted against IIL by some of its customers, on account of disputes related to
performance of its products. In response to your request for an opinion, the company’s lawyer has simply stated “We are
totally unable to give any estimate”.

No provision was made in the financial statements for the possible loss as a result of the claims (which are considered to
be material) or for the related legal expenses, although details of those legal claims were fully disclosed in the notes.

Required:
Comment on the implication of the above matter on the auditors’ report and the financial statements of IIL. (04)
(ICAP, CFAP 06 Level – Winter 2009)
(ICAP’s Question Bank for CAF 08 – Q. # 163)

Q.34 During the audit of financial statements of an investment advisory company, for the year ended 31 December 2005, you
noted the following:
(a) The company has accumulated losses at the close of financial year amounting to Rs. 50 million which have eroded the
company’s capital of Rs. 30 million.
(b) During the financial year, the company provided loan of Rs. 250 million to its directors for their personal business.
The receivable from directors at year-end is NIL.

Explain how would you deal with the above matters while finalizing the audit of the company. Suggest a suitable
modification in audit report if the same is considered necessary. (08)
(ICAP, CFAP 06 Level – Summer 2006)

Q.35 You are engaged in the audit of a listed manufacturing concern as audit senior. The audit field work has been completed
and you have completed your review. The following issues have remained unresolved after your final meeting with the
Finance Director of the client:

(a) Company has incurred certain expenses on the launch of a new product. The company has recognized only one third
of the expenses in the profit and loss account while the remaining expense are being deferred over a period of three
years. The amount of expense being deferred is Rs. 20 million which is material in the context of the company’s
financial statements. (06)

(b) The company has provided interest free loan amounting to Rs.25 million to its associated company without obtaining
the approval of its share holders. The Finance Director has indicated to you that the company does not intend to
disclose this loan separately in the financial statements. (06)

Required:
Prepare a Memorandum for your Audit Partner giving your opinion about these issues, keeping in view the requirements
of the relevant International Accounting Standards and provisions of the Companies Act, 2017.
(ICAP, CFAP 06 Level – Summer 2004)

Q.36 Items (i) to (xiii) listed below present various situations an auditor might encounter in conducting an audit of financial
statements . For each situation, identify the impact on audit report i.e. unqualified opinion, emphasis of matter, other
matter, qualified opinion, disclaimer of opinion, adverse opinion.
Do not draft qualifications.

(i) The financial statements of a listed company do not disclose significant related party transactions.
(ii) A client changes its accounting policy for valuation of inventories from FIFO to Average Cost Method. The auditor
concurs with the change.
(iii) An auditor is appointed to audit a client’s financial statements after the annual physical inventory count. The
accounting records are not sufficiently reliable to enable the auditor to become satisfied as to the year end
inventory balances.
(iv) A client has significant amount of deposit in a bank which is under liquidation. Pending completion of liquidation
proceedings of the bank, no provision has been made in the accounts. This matter is adequately disclosed in the
financial statements.
(v) The financial statements of a listed company do not disclose remuneration paid to chief executive, directors and
executives of the company.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

(vi) Due to losses and adverse key financial ratios, an auditor has substantial doubt about a client’s ability to continue
as a going concern for a reasonable period of time. The client has adequately disclosed its financial difficulties in a
note to its financial statements.
(vii) The chief executive officer refuses the auditor access to minutes of board of directors’ meetings.
(viii) The auditor is unable to obtain financial statements of a consolidated subsidiary.
(ix) Previous year’s financial statements were audited by another firm of chartered accountants who issued an
unqualified audit opinion thereon.
(x) Certain material transactions cannot be tested because of management’s retention policy related to records.
(xi) Management changes its accounting policy from Cost model to Revaluation model. The auditor does not concur
with the change.
(xii) The client refuses to permit the auditor to confirm certain significant accounts receivable or apply alternative
procedures to verify these balances.
(xiii) The chief executive officer is unwilling to sign the management representation letter . (13)
(ICAP, CFAP 06 Level – Summer 2002)

EXTENDED PRACTICE

Q.37 Describe the circumstances when an auditor will form a qualified opinion, an adverse opinion and a disclaimer of
opinion. (05)
(ICMA Pakistan, Professional Level P2 – February 2016)

Q.38 The audit of Alpha Public Limited (APL) has completed for the year ended March 31, 2017. Asif and Co. has carried out the
audit of APL. You are Audit Manager and apprised your audit In-Charge to draft audit report for APL. Following extract of
report has been produced by the audit In-Charge for your review:

We have reviewed the complete pages of financial statements of APL for the year ended on March 31, 2017.

Management's Responsibility:
Management of the company is responsible to express an opinion on the truth and fairness of above said financial
statements in accordance with the International Financial Reporting Standards (IFRS) and the requirements of the
Companies Act, 2017.

Auditor's Responsibility:
Our responsibility is to prepare these financial statements based on our experiences. We conducted our audit in
accordance with some significant International Standards on Auditing (ISAs). These standards require that we plan and
perform the audit to obtain maximum assurance about whether the above said statements are free from all material
misstatements whether caused by fraud or error.

An audit involves performing procedures to obtain evidence about the amount and disclosures in the financial statement.
The procedures were selected on the basis of last year working papers and the knowledge of senior audit team members.
We considered internal control relevant to the entity and express an opinion on the effectiveness of internal controls. An
audit also includes consideration of the reasonableness of any new accounting estimates and policies made by the
management.

Asif and Co.,

Dated June 15, 2017
Engagement Partner

Required:
Identify any four (04) errors in the above extract and also indicate the amendments required to rectify these errors. (08)
(ICMA Pakistan – Summer 2017)

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Q.39 Your firm is the external auditor of Macho Ltd (Macho) for the year ended 31 December 2013. On 12 January 2014,
Macho’s warehouse was destroyed resulting in the loss of its entire inventory and an inability to fulfill customers’
outstanding orders for the foreseeable future. Your firm has concluded that the financial statements should be prepared
on a break-up basis.

State, with reasons, the implications for your firm’s audit report on Macho’s financial statements for the year ended 31
December 2013 if the directors of Macho:
(i) prepare the financial statements on a break-up basis and adequately disclose the basis of preparation in the notes to
the financial statements; or
(ii) prepare the financial statements on a going concern basis. (04)
(Institute of Chartered Accountants in England and Wales, Professional Level – 2014 March)

Q.40 You are planning the external audit of Steady Eddy Ltd (Steady Eddy) whose principal activity is the provision of road
haulage services. You have been provided with the following information in respect of the year ended 31 May 2007.

The company made a loss for the year to 31 May 2007. This is mainly due to the loss of a major customer to a competitor
and exceptional costs incurred in relocating to new premises. In previous years the company has been profitable but has
recently experienced reduced margins due to the high cost of fuel.

Despite its poor trading results, the company has managed to stay within its overdraft limit of £500,000. This was
achieved by the managing director temporarily lending the company £200,000 and delaying payments to creditors. The
overdraft facility is to be reviewed by the bank in September 2007 after the audited financial statements are available.
The company has a loan installment falling due in October 2007 which it plans to repay with the proceeds from the
recently vacated premises which are currently for sale.

The company has fallen behind with its payments to tax authorities, but the directors have successfully negotiated a
scheme for settling the arrears over a period of four months. A condition of this concession granted by tax authorities is
that the company pays all its future monthly tax liabilities on the due dates.

Requirements
(a) Explain what is meant by the going concern concept and why the auditor should consider whether a company is a
going concern. (05)
(b) Explain the circumstances particular to Steady Eddy which may indicate that it is not a going concern. (08)
(Institute of Chartered Accountants in England and Wales, Professional Level – 2007 June)

Q.41 You are an audit manager in Brown & Co and you are nearing completion of the audit of Paprika & Co (Paprika). The audit
senior has produced extracts below from the draft audit report for Paprika.

Auditor’s responsibility
(1) Our responsibility is to express an opinion on all pages of the financial statements based on our audit. We conducted
our audit in accordance with most of the International Standards on Auditing.
(2) Those standards require that we comply with ethical requirements and plan and perform the audit to obtain
maximum assurance as to whether the financial statements are free from all misstatements whether caused by
fraud or error.
(3) We have a responsibility to prevent and detect fraud and error and to prepare the financial statements in
accordance with International Financial Reporting Standards.
(4) An audit involves performing procedures to obtain evidence about the amounts and disclosures in the financial
statements. The procedures selected depend on the availability and experience of audit team members. We
considered internal controls relevant to the entity; and express an opinion on the effectiveness of these internal
controls.
(5) We did not evaluate the overall presentation of the financial statements, as this is management’s responsibility. We
considered the reasonableness of any new accounting estimates made by management. We did not review the
appropriateness of accounting policies as these are the same as last year. In order to confirm raw material inventory
quantities, we relied on the work undertaken by an independent expert.
The extracts are numbered to help you refer to them in your answer.
Required:
For the above audit report extracts, identify and explain SIX elements of this report which require amendment.
Note: Redrafted audit report extracts are not required. (12)
(ACCA, Fundamentals Level F8 – December 2013)

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Q.42 You are responsible for answering technical queries from other managers and partners of your firm. An audit partner left
the following note on your desk this morning:

(i) ‘I am about to draft the audit report for my client, Sycamore Co. I am going on holiday tomorrow and want to have
the audit report signed and dated before I leave. The only thing outstanding is the written representation from
management – I have verbally confirmed the contents with the finance director who agreed to send the
representations to the audit manager within the next few days. I presume this is acceptable?’ (03 marks)

(ii) ‘We are auditing Sycamore Co for the first time. The prior period financial statements were audited by another firm.
We are aware that the auditor’s report on the prior period was qualified due to a material misstatement of trade
receivables. We have obtained sufficient appropriate evidence that the matter giving rise to the misstatement has
been resolved and I am happy to issue an unmodified opinion. But should I refer to the prior year modification in
this year’s auditor’s report?’ (03 marks)

Required:
Respond to the audit partner’s comments.
(ACCA, Professional Level P7 – December 2011)

Q.43 You are the audit senior on the external audit of Dug Ltd (Dug) for the year ended 31 January 2011. In January 2011 Dug
sold some office equipment to the wife of Dug’s managing director. The audit junior has noted that the sale has not been
disclosed in the note to the financial statements detailing related party transactions and has suggested the inclusion of an
emphasis of matter paragraph in the audit report to highlight this issue.
Comment on the suitability or otherwise of the audit junior’s suggestion. (04)
(ICAEW– Professional, March 2011)

Q.44 The directors of Denzil Ltd are preparing the financial statements for the year ended 31 May 2001, and have approached
the auditors for advice because they are unsure whether the company can be considered a going concern.

Describe the effect on the financial statements if the company:

(i) is considered a going concern although there are significant doubts about this; and
(ii) is not considered a going concern. (04)
(Institute of Chartered Accountants in England and Wales, Professional Level – 2001 June)

Q.45 Described below are situations that have arisen in two unrelated external audit clients of your firm. The year end in each
case is 31 December 2009.

Pollen plc (Pollen)

Pollen is a pharmaceutical company specialising in the manufacture of drugs for hay fever sufferers. It currently
manufactures the market-leading drug, Hiveal, which accounts for 65% of the company’s annual revenue. High numbers
of sufferers have recently experienced adverse side effects when using Hiveal and a government committee is now
investigating this. Pollen’s license to manufacture Hiveal has been temporarily suspended until the investigation is
complete.

The investigation by the government committee will not be concluded until after the financial statements for the year
ended 31 December 2009 have been published. The directors have disclosed this matter in a note to the draft financial
statements, stating that if the license is not reinstated there would be significant doubts over Pollen’s ability to continue
to trade.

Bloome plc (Bloome)

Bloome purchased a new manufacturing plant on 1 January 2009 for £2.8 million. The plant was capable of being
operated at this date but production did not commence until 30 June 2009 due to a worldwide shortage of an essential
raw material for the production process. The plant is being depreciated, using the straight-line method, over 10 years and
the directors have charged six months’ depreciation on cost in the income statement for the year ended 31 December
2009.

The draft financial statements show that Bloome’s profit before tax is £1.3 million.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Requirements
In each of the situations outlined above, state whether you would modify the audit report. Give reasons for your
conclusions and outline the modifications, if any, to each audit report. (08)
(Institute of Chartered Accountants in England and Wales, Professional Level – March 2010)

Q.46 You are the Manager engaged in the audit of Pluto Limited. The audit fieldwork has been completed but the following
points required your attention;
 Included in the balance sheet are non‐current assets at a cost of Rs. 5 millions which have been constructed by
the company during the year. The costs include own labor capitalized amounting to Rs. 1.5 million. The labor
costs are based on the director’s estimates of time spent by employees on the construction work, which are
unsupported by time records. There are no satisfactory audit procedures to confirm that labor costs have been
appropriately capitalized.
 Out of total inventory value of Rs. 2 millions appearing in the balance sheet, you have been unable to physically
verify Rs. 150,000 which is lying in the Muzaffargarh Branch of the Company. The Branch was damaged due to
excessive flooding.
 The Company is involved in a legal dispute with one of its customers, who has demanded Rs. 2 millions as
damages for supply of defected goods. The Company’s legal advisors believe that the amount may eventually
have to be paid as the Company’s case is not strong. However, the management has not recorded any liability in
relation to this case in the balance sheet.

Assuming the company has materiality level of Rs. 850,000 describe what course of action you should take in relation to
the above matters and in case the matters remain unresolved, what type of Audit Opinion is likely to be issued.
(PIPFA – Winter 2011)

Q.47 Explain, with reasons, the possible audit opinion which may be given in case of each of the following cases (each part is to
be treated independently and answered separately):

(a) Inventories as per physical count performed in the presence of auditor differ from inventories recorded in the
Financial Statements by a material amount. (02)

(b) The company does not account for provision for environmental damages in its Balance Sheet. As per prevailing laws of
the city, a fine of Rs. 1 million is imposed if chemical released in drainage system of the city is more than 1 ton. As per
estimates, the chemical released for the year is 2.4 tons. The company’s profit for the year is Rs. 10 million. (02)

(c) A beverage-manufacturing company formed a year ago has not tested its fixed assets for impairment (02)

(d) The management does not permit the auditor to send confirmation letters to trade receivables, which are material
item on the balance sheet. (02)

(e) A company applies straight-line basis for recording of depreciation whereas the commonly used basis in the industry
is the Reducing Balance Method. (02)
(PIPFA – Summer 2016)

Q.48 You are the partner in an audit firm, currently engaged in the audit of Alpha Limited (AL). The draft financial statements
for the year ended 31st December, 2016 show profit before tax of Rs. 30 million and total assets of Rs. 112 million. The
following issues have been highlighted by the senior in charge of the team. Discuss the impact of the below issues on the
auditor’s report.

(a) Sales tax refundable amounting Rs.10 million is appearing in the Financial Statements. In the auditor’s opinion, input
tax amounting to Rs. 8 million is time-barred and the company will not be able to claim an adjustment against it. The
management, however, is unwilling to write back the refund. (03)

(b) The company was charging depreciation on equipment’s using straight line method in previous years. This year the
company changed its method to reducing balance method and the auditor concurs with the change. (03)
(PIPFA – Winter 2017)

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

SUGGESTED SOLUTIONS

A.1 Impact of Notice issued by the Aviation Authority:

Going Concern Issue:
Gulfstream-III aircrafts consists of significant portion of AL’s fleet. Therefore, phase-out requirement affect AL's future
revenue streams. This might raise concerns about AL's ability to continue as a going concern.

Impairment Issue:
Further, as the issue of notice reduces useful life of aircrafts, it also indicates that impairment review is required for the
aircraft as their carrying amount may exceed their recoverable amount.

Suggested Audit Procedures:

Additional Procedures on identification of event/condition casting doubt on Going Concern:
1. Review management's plans for addressing the phase-out requirement, and evaluate whether it is feasible.
Obtain representation from management regarding future plans and their feasibility.
2. If management has prepared a cash flow forecast, evaluate:
a. Data used is reliable, and
b. Assumptions used are adequately supportable.
3. Consider effects of subsequent event on going concern assessment.
4. Read Reports of Aviation Authority and minutes of Board Meeting and Shareholders’ Meeting to understand how
they plan to address the issue.
5. Inquire legal counsel regarding legal implications of the case, alongwith any fine or penalty.

Procedures for Impairment Review of Fleet:

 Ask management to carry out impairment review.
 Obtain working. Check source data and assumptions of working.
 Physically inspect condition.
 Engage expert, if necessary.

A.2 (a) Karsaz Limited (KL) - Inventory Count Issue:

Analysis:
• The inability to conduct an inventory count at one of the warehouses, is a scope limitation.
• Impact is likely to be material as amount of inventory in warehouse Rs. 150 million is greater than materiality
level of Rs. 35 million [ = 700,000,000 * 5%]

Audit Reporting Implications:

• If the issue is not resolved, Auditor shall express Qualified Opinion on financial statements (as effect is material).
• Auditor shall also explain nature of scope limitation in “Basis for Qualified Opinion” section in Audit Report.
• Qualified opinion is by nature a key audit matter. Therefore, a reference to the Basis for Qualified Opinion should
be included in the Key Audit Matters section.

(b) Malir Limited (ML) - Human Resource Management of Subsidiary:

Analysis:
• VL, being subsidiary of ML, is a related party of ML. Managing human resources of subsidiary is a related party
transaction.
• Related party transactions are qualitatively material.
• This related party transaction should be approved, accounted for and disclosed in accordance with AFRF and
legal requirement.

Audit Reporting Implications:

• If this transaction is not disclosed in financial statements, it will be a misstatement.
• Auditor shall express qualified opinion (as transaction is qualitatively material).
• Auditor shall describe nature of misstatement in Basis of Qualified Opinion section, alongwith quantification of
misstatement.
• Qualified/Adverse opinion is by nature a key audit matter. Therefore, a reference to the Basis for
Qualified/Adverse Opinion should be included in the Key Audit Matters section.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

A.3
1. In case of Adverse Opinion, Key Audit Matter Section shall still be included in Audit Report.
2. Matter resulting in Adverse opinion shall be discussed in “Basis for Adverse Opinion Section” and shall not be
included in Key Audit Matter Section, however, a reference to the matter shall be made in Key Audit Matter
Section.
3. Reference will be made in following words “In addition to matters described in Basis for Adverse Opinion
Section, following are other Key Audit Matters ……….”

Examiners’ Comments:
Examinees did not discuss that key audit matters should not imply that the financial statements as a whole are more credible
in relation to those matters when an adverse opinion is expressed.

Marking Plan:
• Discussion on relevance of key audit matter 1.0
• Discussion on including a reference to the adverse opinion section 2.0
• Discussion on description of the key audit matter 2.0

Passing Percentage:
25%

A.4 Reason to Include Emphasis of Matter Paragraph:

Emphasis of Matter paragraph is included in auditor’s report if auditor considers it necessary to draw users’ attention to
matter adequately disclosed in financial statements; and is fundamental to users’ understanding of the financial
statements; provided:
i. matter is not a misstatement or scope limitation requiring modified opinion.
ii. matter is not a Key Audit Matter.

Reason to Include Other Matter Paragraph:

Other Matter paragraph is included in auditor’s report if auditor considers it necessary to communicate a matter which is
not required to be disclosed in financial statements, but is relevant to users’ understanding of the audit, auditor’s report,
or auditor’s responsibilities; provided:
i. communication is not prohibited by law or regulation or professional standards; and
ii. matter is not a Key Audit Matter.

Examiners’ Comments:
The majority of examinees overlooked the fact that the "other matter" paragraph included in the auditor's report refers to a
matter that is separate from those presented or disclosed in the financial statements.

Marking Plan:
• Discussion on the reason for including emphasis of matter paragraph 2.0
• Discussion on the reason for including other matter paragraph 2.0

Passing Percentage:
67%

A.5 (a)
Evaluation of Situation:
Not providing written representation to auditor is a scope limitation by management. Impact is pervasive as it relates to
overall responsibilities of management to prepare financial statements.

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Impact on Report:
Auditor shall withdraw from engagement if possible and practicable. If withdrawal is not possible and practicable:
 Auditor shall express Disclaimer of Opinion on financial statements.
 Auditor shall describe nature of scope limitation in Basis of Disclaimer of Opinion.
 Auditor shall also include Other Matter paragraph in his report to describe why withdrawal was not possible
and practicable.
 Auditor shall not include Key Audit Matter Section in his report (as disclaimer of opinion is expressed)

(b)
Evaluation of Situation:
Inventory is required to measure at lower of Cost and NRV. Therefore it will be misstatement if management measures
inventory at NRV (Rs. 750 million) instead of Cost (Rs. 500 million).
Impact is material as misstatement of Rs. 250 million (= 750 – 500) is more than materiality level Rs. 100 (= 2,000 * 5%).

Impact on Report:
 Auditor shall express Qualified Opinion on financial statements.
 Auditor shall describe nature of misstatement in Basis of Qualified Opinion section, alongwith quantification of
misstatement.
 A reference to the Basis for Qualified Opinion shall be included in Key Audit Matter Section (because matter is
KAM by nature].

(c)
Evaluation of Situation:
If going concern assumption is not appropriate, financial statements should be prepared on liquidation basis and basis of
accounting should be disclosed in notes to the accounts.

Impact on Report: (assuming auditor agrees that going concern assumption is not appropriate)
If financial statements are appropriated prepared on liquidation basis and adequate disclosure is included in financial
statements:
 Auditor shall express unmodified opinion on financial statements.
 Auditor shall include emphasis of matter paragraph in his report in which he shall state:
o the matter being emphasized i.e. basis of preparation of financial statements.
o the reference to the notes in financial statements which fully describes the matter.
o that auditor’s opinion is not modified in respect of the matter emphasized.
 There will be no impact on Key Audit Matter Section for this situation.

Examiners’ Comments:
(a)
 In the evaluation, examinees did not discuss the necessity of the management representation regarding their
responsibilities.
 Examinees did not realize that it was a scope limitation and therefore a disclaimer of opinion would be given. Contrary to
this, examinees mentioned expressing an adverse opinion or a qualified opinion.
 Examinees did not mention that if a disclaimer of opinion is given then key audit matter is not made part of the audit
report.
(b)
 The majority of the examinees mentioned that the upward valuation of inventory was correct and a clean audit opinion
would be expressed.
 Examinees also mentioned including it as a key audit matter which was not correct.
(c)
 The examinees did not mention that an unmodified opinion would be expressed.
 Examinees mentioned including it as a key audit matter which was not correct.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Marking Plan:
(a)
 Evaluation of the situation 2.0 marks
 Discussion on the reporting implications 2.0 marks
 Discussion on the implication on the key audit matter 1.0 marks
(b)
 Evaluation of the situation 2.0 marks
 Discussion on the reporting implications 2.0 marks
 Discussion on the implication on the key audit matter 1.0 marks
(c)
 Evaluation of the situation 1.0 marks
 Discussion on the reporting implications 3.0 marks
 Discussion on the implication on the key audit matter 1.0 marks

Passing Percentage:
31%

A.6 (a) Reporting Implications and Changes in Audit Report:

 This is a scope limitation in Inventory, Payable and Receivables as auditor is unable to obtain evidence from
alternative procedures too.
 Impact is pervasive as aggregate amount of scope limitation (Rs. 200 + 150 + 100 = 450 million) represents
substantial part of financial statements i.e. more than 50% of profit.
 Auditor shall express disclaimer of opinion on financial statements.
 Auditor shall also explain nature of scope limitation in basis for disclaimer of opinion paragraph.

Due to disclaimer of opinion paragraph, following other changes shall also be made in audit report:
 Key Audit Matter Paragraph (which is required in case of listed company) shall not be included unless required
by law.
 In opinion section words “we have conducted audit” will be replaced by words “we were engaged to conduct
audit”.
 Auditor’s responsibility section and scope of audit shall also be changed accordingly.

(b) Reporting Implications and Changes in Audit Report:

As this is first year of audit, auditor shall include Other Matter paragraph in his report. The Other Matter paragraph
should contain:
 a statement that the financial statements of the prior period were audited by the predecessor auditor,
 the type of opinion expressed (alongwith reason for modification if opinion was modified), and
 the date of that opinion.

Further, information given in the case indicates that although team did make significant efforts to review the entries,
however in the end team has obtained sufficient appropriate evidence and proposed adjustments are correctly stated in
financial statements (*although this fact should have been clearly mentioned in the case*). Therefore, there is no
misstatement in financial statements. However, as the matter was significant and also communicated with TCWG, auditor
shall include it in Key Audit Matter Section in which auditor shall state:
 why he considered it to be a key audit matter, and
 procedures performed to address the matter.

Examiners’ Comments:
(a):
• Examinees mentioned about expressing qualified or adverse opinion, which was not correct.
• Examinees who mentioned about disclaiming the audit opinion did not mention the changes to be made to the audit report
when a disclaimer of opinion is given.
(b):
• Examinees did not discuss that why the matter was needed to be included as a key audit matter.
• Examinees did not know that other matter paragraph was also to be included in the audit report as the previous year’s
financial statements were audited by another firm.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Marking Plan:
(a)
• Discussion on the materiality and pervasiveness of the matter 3.0
 Mentioning the audit opinion to be expressed 1.0
 01 mark for mentioning each change to be made in the audit report as illustrated in
3.0
ISA-700
(b)
• Discussion on the reporting implication 4.0
• 01 mark for mentioning each change to be made in the audit report as illustrated in
3.0
ISA-700

Passing Percentage:
11%

A.7 (a)
Procedures:
Auditor shall also communicate the KAM with TCWG.

Impact on Report:
This matter will be reported in Key audit Matter section. Auditor shall discuss following in KAM section:
 Why the matter was considered most significant in audit.
 How the matter was addressed in audit.
 Reference to related disclosure in F/S (if any)

(b)
Procedures:
 Verbal confirmation from lawyer is less reliable evidence, and is not a sufficient appropriate audit evidence.
Auditor should request lawyer to confirm response in writing.
 Auditor shall also discuss the issue with TCWG, before expressing modified opinion.

Impact on Report:
 If written confirmation is not obtained, it will be a scope limitation.
 Auditor shall express Qualified Opinion (if effect is material), or Disclaimer of opinion (if effect is pervasive).

(c)
Procedures:
 If a disclosure is required by IFRS, it must be included in F/S.
 Auditor should request management to include disclosure in F/S, and extend deadline for completion of audit, if
necessary.
 If management does not accept auditor’s request, auditor shall discuss the issue with TCWG.

Impact on Audit Report:

If management does not agree, this will be a misstatement in F/S. Auditor shall:
 express Qualified Opinion (if effect is material), or Adverse Opinion (if effect is pervasive).
 describe the nature of omitted disclosure in “basis for qualified/adverse section”.

Examiners’ Comments:
This question contained three situations (parts) and the candidates were required to discuss the possible impact on the audit
report and specify the procedures which the auditor may be required to take, in each case. The overall performance was very
poor as only 7% of the candidates secured passing marks. A common issue in part (b) and (c) was that many candidates only
mentioned that a modified opinion would be issued but did not specify the exact nature of modification. Further comments on
each part are given below:
(a)The performance was very poor. Only few candidates could identify that change of accounting policy has to be reported as
a key audit matter and therefore missed all the related issues. However, the students generally scored marks by mentioning
that auditor needs to concur with the change.
(b)It was rightly noted by majority of the candidates that refusal to grant written confirmation by lawyer is a scope
limitation in gathering audit evidence and would have a consequential impact on the audit report either being qualified or
disclaimer being issued. However, some students presumed it to be an issue of management representation and went into a
totally different direction.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

(c)This was a simple situation where the management was unwilling to make certain disclosures. Generally the candidates
were able to identify that a qualified opinion would be given but most of them failed to explain clearly about giving details of
the nature of information in the basis for opinion paragraph. Further, before making any final decision, the auditor was
supposed to bring the issue to the knowledge of those charged with governance. This aspect was rarely covered.

Marking Plan:
(a)
• Discussion on the possible impact on the audit report 3.0
 Audit procedures to be performed 1.0
(b)
• Discussion on the possible impact on the audit report 2.0
(c)
 Discussion on the possible impact on the audit report 3.0
• Audit procedures to be performed 1.0

Passing Percentage:
7%

A.8 (a)
1. Management is still responsible for F/S even if provision is based on expert’s advice.
2. It will be a scope limitation if management does not provide written representation.
3. If effect is material, auditor shall express qualified opinion on F/S and shall explain nature of scope limitation in basis
for qualified opinion section.
4. If effect is pervasive, auditor shall withdraw from engagement if possible and practicable.
If withdrawal is not possible or practicable, auditor shall express disclaimer of opinion and shall explain nature of
scope limitation in basis for disclaimer of opinion section. Auditor shall also include Other Matter Paragraph in his
report to explain why he did not withdraw from engagement.

(b)
1. Management’s point of view is incorrect, because contingent assets are disclosed only if they are probable.
2. This is a misstatement in F/S.
3. Auditor shall express qualified opinion on financial statements (if effect is material) or adverse opinion (if effect is
pervasive). Auditor shall also describe nature of misstatement in Basis for Qualified/Adverse Opinion paragraph,
alongwith quantification of misstatement.

Examiners’ Comments:
(a)Majority of the students accepted the management’s argument that the provision is as per expert’s advice and stated that
if alternate procedures can be performed then audit report does not need to be modified even if the management refuses to
provide appropriate representation. This was not correct because when any amount in the financial statements is computed
on the basis of assumptions, the management must take responsibility for these assumptions even if the calculation has been
made by an expert. Further, many candidates also discussed evaluation of the expert which were not required at all, in this
case.
(b)Average performance was witnessed in this part as most of the candidates correctly concluded that contingent assets
cannot be disclosed unless it is probable that these would be realized. However, as regards the impact on audit report, most of
the candidates seemed confused and recommended insertion of emphasis of matter paragraph probably because they were
not sure whether the report may be qualified merely on the grounds of disclosures.

Marking Plan:
(a)
• Need for written representation 1.0
 Course of action if management do not provide written representation 1.5
 Impact on audit report 1.5
(b)
• Invalidity of management argument and its justification 2.0
 Impact on audit report 1.0
.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

A.9 Decision of the audit senior:

Decision of the audit senior regarding reversal of the provision is correct because legal counsel is of the view that there is
remote possibility for adverse decision. However, as the matter is material (i.e. 30 million is greater than materiality level
determined using rule of thumb 7.25 million = 145 * 5%), but not likely to be pervasive as it does not affect substantial
portion of financial statements, therefore, auditor should express qualified opinion instead of adverse opinion on financial
statements.

Shortcomings in audit report:

1. A reference of notes to the accounts should have been made where details regarding provision can be found.
2. Management’s view is given in the audit report, whereas, it should be excluded from the report and should be
included in notes to the accounts.
3. “Basis for opinion” and “opinion” both are given in the same paragraph. They should be separated.
4. Quantification of financial effect is not made completely e.g. effect on income tax, net income and equity has not
been mentioned.
5. Words “in our opinion” are omitted from opinion section.
6. Auditor should express qualified opinion, instead of adverse opinion on financial statements (as discussed
above).

Examiners’ Comments:
A mixed response was seen in this question. The students were generally able to point out some of the apparent issues in the
modification paragraph but very few could identify the relatively more technical issues such as presentation of basis of
modification and the opinion in the same paragraph and that qualified opinion was more appropriate in the given situation
as against an adverse opinion appearing in the draft modification.

A.10 (a)
1. This is scope limitation.
2. Auditor shall express qualified opinion (if effect is material), or disclaimer of opinion (if effect is pervasive).
3. Auditor shall also explain nature of scope limitation in “Basis for Qualified/Disclaimer of Opinion” section in Audit
Report.
4. Qualified opinion is by nature a key audit matter. Therefore, in Key Audit Matter section, a reference to the Basis for
Qualified Opinion should be included. If Disclaimer of opinion section is given, Key Audit Matter section will not be
included in audit report.
5. Auditor shall also state in report that “proper books of account have NOT been kept by the Company as required by
the Companies Act, 2017 in respect of this matter”.

(b)
 This is a change in estimate (not a change in accounting policy).
 As change in estimate is appropriately recorded, auditor shall express unmodified opinion on F/S.

(c)
1. Auditor shall express unmodified opinion on financial statements.
2. Auditor shall include Other Matter Paragraph in his report to communicate that prior period were audited by the
predecessor auditor who express unmodified opinion.

Examiners’ Comments:
This question intended to test the knowledge of the candidates about impact on Auditors Report in the given three situations.
The performance of the candidates was rather poor. Each situation is discussed below:

(a): Students were required to frame the impact of non-verifiable cash sales on audit report. Although most of the candidates
managed to identify that the situation involves scope limitation, majority of them could not make out that besides scope
limitation the Report also required a modification because the company has not maintained proper books of account (with
respect to Cash Sales) as required under the Companies Act 2017.

(b): Many students were of the incorrect opinion that a change in depreciation method is a change in accounting policy and
the auditor needs to mention this in Key Audit Matter Section. In fact, a change in depreciation method is a change in
accounting estimate and not a change in accounting policy.

(c): Majority of the students did not know that the auditor will need to include another matter paragraph and state therein
that the financial statements for the previous year were audited by another auditor who had expressed an unmodified
opinion on those financial statements.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

A.11 (a)
Views:
 If revaluation model is used, IFRSs require to revalue entire class of assets.
 Selective revaluation is a misstatement. Management should be asked either to revalue entire class.
 Effect is material as Rs. 10 million > Rs. 1,000,000 (20,000,000 * 5%)

Impact on Audit Report:

 If company returns to Cost basis, auditor shall express unmodified opinion.
 If company revalues all assets, auditor shall express unmodified opinion. [There will be no Key Audit Matter as
company is a Private Company]
 If company continues to use selective revaluation, auditor shall express Qualified Opinion.
 Auditor shall also explain nature of misstatement in “Basis for Qualified Opinion” section in Audit Report,
alongwith quantification of misstatement.

(b)
Views:
 There is a contradiction between evidence from different sources.
 Auditor should perform further audit procedures to resolve this inconsistency.
 If it is probable that company will have to pay any damages, a provision should be recorded for probable outflow
and disclosure should be given for amount not probable to be paid.
 If provision is not recorded or disclosure is not included in financial statements, it will be a misstatement.
 Effect is material as Rs. 10 million > Rs. 1,000,000 (20,000,000 * 5%)

Impact on Audit Report:

 If provision is not recorded or disclosure is not included, auditor shall express Qualified opinion on financial
statements.
 Auditor shall also explain nature of misstatement in “Basis for Qualified Opinion” section in Audit Report,
alongwith quantification of misstatement.
 Qualified opinion is by nature a key audit matter. Therefore, a reference to the Basis for Qualified Opinion should
be included in the Key Audit Matters section.

(c)
Views:
 Management’s point of view that amount of warranty cannot be measured reliably is incorrect.
 It is management’s responsibility to make reasonable estimates in preparation of F/S.
 Not recording provision for warranty is a misstatement.

Impact on Audit Report:

 Auditor shall express qualified opinion on financial statements (if effect is material) or adverse opinion (if effect
is pervasive).
 Auditor shall also describe nature of misstatement in Basis for Qualified/Adverse Opinion section, alongwith
quantification of misstatement.
 Qualified/Adverse opinion is by nature a key audit matter. Therefore, a reference to the Basis for
Qualified/Adverse Opinion should be included in the Key Audit Matters section.
(d)
Views:
 An Unlisted company is not required to disclose EPS.
 There is no misstatement in F/S if EPs is not disclosed.

Impact on Audit Report:

Auditor shall express unmodified opinion on F/S.

Examiners’ Comments:
(a) Most of the candidates failed to comprehend the key issue i.e., the fact that the policy of revaluation has to be applied on
all the assets in a particular class of assets. Consequently, they could not produce appropriate replies.
(b) Candidates did highlight the significance of the confirmation from an independent source; however, very few could point
out that the difference between the opinion of the internal and the external source also needed to be sorted out.
(c) Very few candidates could identify that the management’s contention that the amount of warranty claims cannot be
measured reliably was not correct as it could have been reliably estimated on the basis of prior years’ data.
(d) Only about 10% of the students could highlight the fact that the requirement to disclose earnings per share does not apply
to non-listed entities.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

A.12
1. Audit report should be addressed to “Members”, instead of Directors.
2. In the opinion paragraph, “Cash flow statement” has been omitted from complete set of F/S.
3. Al-Badr & Company is a listed company, but Key Audit Matter section is not included in audit report.
4. In the basis for opinion, words “as applicable in Pakistan” should have been added after the statement that “we
conducted our audit in accordance with ISAs”.
5. In auditor’s responsibility section, responsibility to evaluate accounting policies and estimates has been omitted.
6. In the “Report on Other Legal and Regulatory Requirements” section, opinion whether “proper books of account
have been kept by the Company as required by the Companies Act” is omitted.
7. Name of engagement partner is not mentioned.

A.13 (i)
 This is a misstatement in F/S.
 Effect is immaterial, as Rs. 500,000 million < Rs. 3,700,000 (=74,000,000 * 5%).
 Auditor shall express unmodified opinion on F/S, provided misstatement is also immaterial on aggregate and
qualitative basis.

(ii)
 This is a misstatement in F/S.
 Effect is material, as Rs. 5,200,000 (79,200,000 – 74,000,000) > Rs. 3,700,000 (=74,000,000 * 5%).
 Auditor shall express Qualified opinion on F/S.
 Auditor shall describe nature of misstatement in Basis of Qualified Opinion section, alongwith quantification of
misstatement.
 Qualified opinion is by nature a key audit matter. Therefore, a reference to the Basis for Qualified Opinion should
be included in the Key Audit Matters section.

(iii)
 This is an event/condition which is indication of going concern problem.
 As difficult situation will arise after twelve month, there is no need to include “Going Concern relating to
Material Uncertainty” paragraph in audit report.

Examiners’ Comments:
This question was designed to test the candidates’ ability to analyze the issues and their eventual impact on the audit report.
Barring few exceptions, incorrect conclusions were drawn in most situations. The students generally recommended some sort
of qualification in every case without considering the materiality and adjusting/non-adjusting nature of the events.
Individual situations and the responses thereto are discussed below:
(i). Students could not recognize that the amount involved i.e., Rs. 0.5 million was immaterial and would not have any impact
on audit report.
(ii). Non-compliance with the International Accounting Standards on revenue recognition is a principal error. The trend
among the students to suggest qualifications in all cases enabled them to secure some marks. However, very few of them
highlighted the fact that the effect of the error was material i.e., 7% of the net profit before tax.
(iii). The current profitability does not cast any doubt on the company’s ability to continue as a going concern. Students were
unable to focus on this aspect. They also failed to realize that ample time (three years) was available with the company to
address the issue.
(iv). Most of the students were able to clarify that non-availability of documents in personal file may have some impact on
risk assessment but it does not warrant a modification in the audit report.

A.14
i. Whether proper books of accounts have been kept as required by Companies Act.
ii. Whether financial statements are drawn up conformity with the Companies Act and are in agreement with the
books of account and returns.
iii. Whether investments made, expenditure incurred and guarantees extended during the year were for the
purpose of the Company’s business.
iv. Whether Zakat deductible at source, was deducted by the company and deposited in the Central Zakat Fund.

Examiners’ Comments:
Examiner commented that some students misunderstood the question and started to list and describe matters on the basis of
which the audit report is qualified.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

A.15 (i)
 There is no misstatement in financial statements.
 Auditor shall express unmodified opinion.
 However, considering complexity and subjectivity involved in the matter, auditor may include it as a “Key Audit
Matter” in his report.
(Note for students: If there is a single major regulator action by tax authorities, ‘Emphasis of Matter’ will be given)

(ii)
 This is a scope limitation.
 Auditor shall express Qualified Opinion (if effect is material), or Disclaimer of Opinion (if effect is pervasive).
 Auditor shall include Other Matter Paragraph in his report to communicate that prior period were audited by
the predecessor auditor.

Examiners’ Comments:
Capability to analyze a situation comprehensively was found lacking. Students should have considered the modification of
reports at different levels of materiality and its effects on financial statements as a whole.

A.16
1. This is a scope limitation.
2. Effect is likely to be pervasive as whole of the record is destroyed.
3. Auditor shall express disclaimer of opinion on F/S.
4. Auditor shall also state in report that proper books of accounts have not been kept as required by Companies Act,
2017.

Examiners’ Comments:
Most of the students got full marks in this part. It shows that students have good knowledge in this part of syllabus.

A.17 (a)
 This is a misstatement in F/S. Auditor shall express Adverse Opinion (as effect is pervasive).
 Auditor shall describe nature of misstatement in Basis of Adverse Opinion section, alongwith quantification of
misstatement.
 Adverse opinion is by nature a key audit matter. Therefore, a reference to the Basis for Adverse Opinion should
be included in the Key Audit Matters section.

(b)
 Auditor shall express Unmodified Opinion.
 However, auditor shall also include Other Matter Paragraph in his report to communicate that prior period were
audited by the predecessor auditor who express unmodified opinion.

(c)
 This is a misstatement in F/S. Auditor shall express Qualified Opinion (as effect is material).
 Auditor shall describe nature of misstatement in Basis of Qualified Opinion section, alongwith quantification of
misstatement.
 Qualified opinion is by nature a key audit matter. Therefore, a reference to the Basis for Qualified Opinion should
be included in the Key Audit Matters section.

Examiners’ Comments:
The main objective of this question comprising of three parts was to check the decision-making skills of the candidates where
the line between correct and incorrect decision was intentionally kept thin. Based on ISA 13 the question helped many
candidates to score passing marks in the papers as they score good 70% to 80% marks of the allocated 10 marks.

Similarly, some candidates failed to answer correctly and were unfortunate to bag good marks. Part (a) and (b) were the
trickier one’s, specially (b) where the candidates were confused between scope limitation and para of emphasis. However, in
actual it was a clean opinion. Similarly in part (a) many candidates thought of it being qualified opinion instead of answered
being adverse, very much clear from the question. Part (c) was well answered by most of the candidates. Another point to be
noted was that most of candidates tried to explain the reason why the type of opinion they guessed was being expressed,
whereas the question only asked about the opinion and not the explanation.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

A.18 (a)
 Auditor should obtain confirmation from lawyer about expected outcome.
 Auditor should ask management to record provision (if outflow is probable), or disclose (if outflow is not probable or
is uncertain)
 This will be misstatement if not management does not record or disclose it as appropriate.
 Auditor shall express Qualified Opinion (if effect is material), or Adverse Opinion (if effect is pervasive).

(b) Investment should be recorded at market value. If management does not record it at market value, it will be a
misstatement and auditor shall express Qualified Opinion on F/S.

(c)
This is a misstatement. Auditor shall express Qualified Opinion on F/S.

Examiners’ Comments:
It was a practical question which was not well answered in general by the students. The main weaknesses observed were:
i) The students did not read the actual conditions given in the questions instead they made situations on their own on the
basis of information given in the question and answered accordingly and therefore, failed to get good marks.
ii) Some students wrote the correct type of opinions required in the circumstances but failed to narrate the reasons for
expression of that particular type of opinion.
iii) Some students wrote the whole opinion paragraphs which were not required from them. In case of part (a) and (c), the
performance of the students was average while in case of part (b) the performance was below average. It appears that the
students have the theoretical knowledge but they lack application of this knowledge in practical situations.

A.19 Yes.
This will be a misstatement.

A.20
1. This is a case of misstatement.
2. Auditor shall request management to correct this misstatement.
3. If misstatement is corrected, auditor shall express unmodified opinion on financial statements.
4. If misstatement is not corrected, auditor shall express Qualified Opinion on financial statements.
Note: There will be no misstatement if Units of Production method of depreciation is used.

A.21 Qualified Opinion:

In our opinion, except for the effects of the matter described in the Basis for Qualified Opinion section of our report, the
balance sheet, profit and loss account, ……….. give a true and fair view of ………..

Basis for Qualified Opinion:

Management has not recorded provision for bad debts on a bankrupt debtor, which is a departure from IFRS. Had
management recorded the provision for bad debts, debtors would have been reduced by xxx, and income tax, net income
and shareholders’ equity would have been reduced by xxx, xxx and xxx, respectively.

A.22 Audit report should be dated when auditor has obtained sufficient appropriate evidence, including approval of F/S by
directors. Therefore, auditor should date audit report on or after March 07, 2019.

A.23 Evaluation of Situation:

 This disclosure is required by IFRS.
 If disclosures not included, this will be a misstatement in F/S.

Implication on Audit Report:

 If disclosure not included in F/S, auditor shall express Qualified Opinion (if effect is material), or Adverse
Opinion (if effect is pervasive)
 If disclosures is included in F/S, auditor may include this matter in “Key Audit Matter” section in audit report.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

A.24 ISAs require following additional items to be included in audit report of listed companies:
 Key Audit Matters.
 Last two paragraphs in audit Auditor’s Responsibility section (relating to independence and KAM).
 Name of engagement partner

A.25 (a) There is no issue in this situation. Key Audit Matters can be included in Audit Report, even if Adverse Opinion is
expressed.
However, in such case adverse opinion will be because of different matter and Key Audit Matter will be because of
different matter.

(b)
This treatment is incorrect. If a matter requires modification in opinion, then it should be discussed in basis for modified
opinion and not in key audit matter section.

(c)
There is no issue in this situation. Auditor is required to communicate only those matters as Key Audit Matters which
significantly affect current year’s financial statements. Therefore non-inclusion of Key Audit Matters of prior period is
appropriate.

A.26 (a)
If revaluation model is adopted, IFRSs require to revalue entire class of an asset. Company has not made revaluation of
remaining 5 property, which is a misstatement in F/S. All properties should be stated at revalued amount.

If management does not revalue entire class of properties, auditor shall express Qualified Opinion (if effect is material), or
Adverse Opinion (if effect is pervasive).

(b)
Significant Matters to be considered:
 Whether company has changed accounting policy in accordance with AFRF.

Impact on Audit Report:

If accounting policy has been changed in accordance with AFRF:
 There is no misstatement.
 Auditor shall express unmodified opinion on F/S.
 Auditor may discuss this matter in Key Audit Matter section in audit report.

If accounting policy has NOT been changed in accordance with AFRF:

 This will be a misstatement in F/S.
 Auditor shall express Qualified Opinion (if effect is material), or Adverse opinion (if effect is pervasive).

A.27 Auditor shall add “Other Matter Paragraph” in the audit report, in which auditor shall state:
 name of predecessor auditor,
 type of opinion by predecessor auditor.
 If opinion is modified, reason of modification, and
 date of opinion by predecessor auditor.

A.28
1. This matter should be discussed in “Material Uncertainty relating to going concern” instead of “Emphasis of
Matter “paragraph.
2. A reference to the notes to the accounts should be given which fully describe this event.
3. Phrase “Our opinion is not modified in respect of this matter.” is missing.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

A.29 (a)
Discussion of Significant Matters:
 There are two issues:
o Provision for bad debts due to dispute with major debtor.
o Loss of major customer creates doubt on going concern.
 Effect is material as amount of receivable Rs. 3.12 million is greater than materiality level Rs. 1.25 million (25
million * 5%).

Impact on Audit Report:

 If appropriate amount of provision is recorded, auditor shall express unmodified opinion on financial
statements. However, auditor shall include “material uncertainty relating to going concern” paragraph in his
report.
 If appropriate amount is not recorded, this will be misstatement in F/S. Auditor shall express Qualified Opinion.

(b)
Discussion of Significant Matter:
 There is a material inconsistency between directors’ report and financial statements. Auditor shall discuss the
matter with management, and request management to amend directors’ report.

Impact on Audit Report:

 If management does not correct Other Information, there is no misstatement in F/S. Auditor shall express
unmodified opinion on F/S.
 However, auditor shall mention in ‘Information Other than the Financial Statements and Auditor’s Report
Thereon’ that relevant information in directors’ report is misstated.

(c)
Discussion of Significant Matters:
 As plan to close factories have been announced publically, there is a constructive obligation of company and
provision for redundancies and restructuring should be recorded for two factories.
 Provision should not be recorded for third factory, because company has not identified yet which third factory
would be closed, However, this decision should be disclosed in F/S.
 Effect is material as amount of receivable Rs. 30 million is greater than materiality level Rs. 4 million (80 million
* 5%).

Impact on Audit Report:

Auditor shall ask management to reverse the provision for third factory
 If provision of third factory is reversed, there is no misstatement in F/S. Auditor shall express unmodified
opinion.
 If provision of third factory is not reversed, this will be a misstatement. Auditor shall express Qualified Opinion
on F/S.
 Auditor shall also include Key Audit Matter paragraph in his report on restructuring plan.

Examiners’ Comments
A significant number of students were not even able to identify the core issues. As a result, they were not able to assess the
consequences and likely impact thereof on the auditors’ report. Each situation is discussed below:
(a) Surprisingly, many students could not identify the two risks viz the risk of uncollectibility of the amount and the possibility
of creating a going concern or at least a liquidity issue on account of possible loss of a major customer. Many candidates
started discussing modification of audit report without discussing the materiality of the amounts involved.
(b) Most of the candidates attempted the answer in right direction and thereby gained high marks. However, many
candidates did not know that if the inconsistency persists, an “other information paragraph” would have to be included in the
auditor’s report.
(c)The students were expected to identify the following aspects:
 A constructive obligation existed in respect of the two factories which have been identified but not for the third factory.
 The auditor would need to see whether the provision pertains to the two factories for which the constructive obligation
exists. If provision had also been made in respect of the third factory, the related amount would have to be reversed.
 The fact that a third factory would be closed in due course would need to be disclosed in the financial statements.
Most of the student could not answer this part in proper sequence and related the answer to the going concern issue which
did not exist. More than 50% of the students could not identify the point related to constructive obligation.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

A.30 (i)
Discussion of matter and its significance:
 This is an indication that plant may have been impaired due to physical damage by fire. Management should test
and record impairment loss.
 Effect is pervasive as expected impairment loss Rs. 15 million (i.e. 50 million * 30%) is greater than 50% of
profit.

Implication for report:

If management does not test and record impairment loss:
 This will be a misstatement.
 Auditor shall express Adverse opinion on financial statements. Auditor shall explain nature of misstatement in
Basis for Adverse Opinion Section, alongwith quantification of misstatement.

If management records impairment loss,

 Auditor shall express unmodified opinion on financial statements.
 However, auditor shall include this matter in Key Audit Matter Section.

(ii)
Discussion of matter and its significance:
 This is a pending litigation, whose outcome cannot be measured reliability. Management should disclose it in
F/S.
 Effect is uncertain, it could be material or pervasive.

Implication for report:

 If matter is disclosed in financial statements, auditor shall express unmodified opinion on financial statements.
However, auditor shall include Emphasis of Matter paragraph in his report.
 If matter is not disclosed in the financial statements, this is a misstatement in financial statements. Auditor shall
express Adverse Opinion on financial statements. Auditor shall include explain nature of misstatement in Basis
for Adverse Opinion Section.

(iii)
Discussion of matter and its significance:
 This is a misstatement in prior year because useful life has been erroneously amortized using life of 20 years
instead of 10 years. IAS – 8 requires management to correct this misstatement retrospectively and restate
comparatives of prior periods.
 Effect is material as amount of depreciation short-provided Rs. 2 million (10/10*4 – 10/20*4) is greater than
materiality level Rs. 0.6 million (12 million * 5%).

Implication for report:

As management has decided not to correct it retrospectively, it is a misstatement in financial statements. Auditor shall
express qualified opinion on financial statements.

If management corrects it retrospectively there will be no misstatement, and auditor shall include Emphasis of Matter
paragraph in his report as comparatives are restated.

Examiners’ Comments
(i) The performance was good as most of the students were able to identify the issue of impairment in the value of plant and
the impact on audit report in case there was a disagreement with the client, on its reporting, in the financial statements.
(ii) Majority of the students only mentioned that the contingent liabilities would need to be disclosed and in view of the fact
that a material uncertainty has arisen, an emphasis of matter paragraph would have to be added. The possibility of a
disagreement with the management, on the issue of disclosure, should have been discussed also.
(iii)This was a prior period error which was required to be corrected retrospectively in accordance with the requirements of
IAS-8. Majority of the students were unable to identify the same and discussed it as a change in accounting estimate.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

A.31 (i)
Actions:
IFRSs require to capitalize all borrowing cost on qualifying assets.
Management should be requested to capitalize 15 million.

Implications on Report:
If management does not capitalize 15 million, this will be a misstatement.
Effect is material, Rs. 15 million > 5.75 million (= 5% * 115). Auditor shall express Qualified opinion on financial
statements.

Marking Scheme Errors by students

 1 mark for describing correct treatment of  Accounting treatment not discussed.
relevant situation.  Separate headings not given for different
 1 mark for course of action. requirements.
 1 mark for calculation of materiality.
 1 mark for type of opinion.

(ii)
Actions:
IFRSs require that a provision should be recorded if outflow is probable and measurable, otherwise it should be disclosed
as contingent liability.

Auditor should request management to record provision for 10 million and disclose 25 million in notes.

Implications on Report:
If management records provision and make disclosure, auditor shall express unmodified opinion. However, auditor shall
include Emphasis of Matter paragraph to draw users’ attention towards disclosure.

If management does not record provision or make disclosure, it shall be misstatement. Effect is material, Rs. 35 million >
5.75 million (= 5% * 115). Auditor shall express Qualified opinion on financial statements.

Marking Scheme Errors by students

 1 mark for identifying the issue and describing  Accounting treatment not discussed.
correct treatment.  Separate headings not given for different
 1 mark for course of action. requirements.
 1 mark for calculation of materiality.  Amount of provision and disclosure not
 1 mark for type of opinion. segregated.
 Students don’t write “If management does not
amend F/S” before stating type of opinion.

(iii)
Actions:
This is an inconsistency between Directors’ report (i.e. Other Information) and financial statements. If there is a
misstatement in Other Information, auditor shall request management to correct other information.

Implications on Report:
If Other Information is not corrected, auditor shall express unmodified opinion on F/S. However, auditor shall state in
“Information Other than the Financial Statements and Auditor’s Report Thereon” Section that other information is
materially misstated.

Marking Scheme Errors by students

 1 mark for describing correct treatment of  Did not state that is “Inconsistency between
relevant situation. financial statements and other information”.
 1 mark for course of action.
 1 mark for effect on report.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

A.32 (a)
Matters of Significance:
If a revaluation model is adopted, IFRSs require to revalue entire class of assets. Auditor should request management to
either:
 Make available revaluation report of entire class of assets by the end of audit, or
 Reverse the valuation and adopt Cost Model.

Matter is material as amount of revaluation recorded Rs. 70 million > 3.75 million (= 1% * 375)

Implication on Report:
If management revalues entire class, auditor shall express unmodified opinion. However, matter may be discussed in “Key
Audit Matter” Section.

If management does not revalue entire class of assets, this will be a misstatement and auditor shall express Qualified
Opinion on financial statements.

Marking Scheme Errors

 1 mark for describing correct treatment of  Materiality not calculated, although figure of Total
relevant situation. Asset was given.
 1 mark for calculation of materiality.  Accounting treatment not discussed.
 2 marks for effect on report.  Separate headings not given for different
requirements.

(b)
Matters of Significance:
IFRSs require to expense out marketing expenses on launch of new products.
Matter is material as amount of expenses recorded Rs. 10 million > 3.75 million (= 1% * 375)

Implication on Report:
If management does not make adjustment, this will be a misstatement and auditor shall express Qualified Opinion on
financial statements.

Marking Scheme Errors

 1 mark for describing correct treatment of  Materiality not calculated, although figure of Total
relevant situation. Asset was given.
 1 mark for calculation of materiality.  Accounting treatment not discussed.
 1 marks for effect on report.  Separate headings not given for different
requirements.

A.33
 This is a case of exceptional litigation whose outcome cannot be measured reliably.
 It should be disclosed in financial statements (no provision is required).
 As matter is fully disclosed in financial statements, there is no misstatement. Auditor shall express unmodified
opinion on financial statements.
 Auditor shall also include emphasis of matter paragraph in report to draw users’ attention, in which:
o Auditor shall state the matter being emphasized i.e. exceptional litigation.
o Auditor shall include reference to the notes in financial statements which fully describes the matter.
o Auditor shall state that auditor’s opinion is not modified in respect of this matter.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

A.34 (a)
How to deal with the matter:
This is a condition casting doubt on entity’s ability to continue as going concern. Auditor shall perform procedures to
confirm whether going concern assumption is appropriate or material uncertainty exists.
 If material uncertainty exists, auditor should request management to disclose it in notes to financial statements.
 If Going concern assumption is not appropriate, auditor should request management to prepare financial
statements on alternate basis.

Modification in report:
If material uncertainty exists:
 If management discloses it in financial statements, auditor shall add paragraph “Material Uncertainty relating to
Going Concern” in his report to draw users’ attention.
 If management does NOT discloses it in financial statements, it will be a misstatement and auditor shall express
Qualified Opinion (if effect is material), or Adverse Opinion (if effect is pervasive).

If Going concern assumption is not appropriate:

 If management prepares financial statements on alternate basis, auditor shall express unmodified opinion on
financial statements and shall also add Emphasis of Matter Paragraph in his report to draw users’ attention to
alternate basis.
 If management prepares financial statements on going concern basis, this shall be a misstatement and auditor
shall express Adverse opinion.

Marking Scheme Errors

 1 mark for describing correct treatment of  Students did not make appropriate sub-headings
relevant situation. of solution, according to requirements.
 1 mark for audit procedure.  Did not cover all possible situations.
 1 mark for request to management.  Directly expressed opinion without discussing
 2 mark for reporting implication if material situation.
uncertainty exists.
 2 mark for reporting implication if going concern
not appropriate.

(b)
This is a related party transaction which should be disclosed by management in financial statements.
If management does not disclose it, this will be a misstatement and auditor shall express Qualified Opinion (if effect is
material), or Adverse Opinion (if effect is pervasive).

Marking Scheme Errors

 1 mark for describing correct treatment of  Stated that giving loan itself is a misstatement.
relevant situation.  Stated that disclosure is not necessary if balance
 1 mark for impact on report. is nil.

A.35 (a)
1. This is a misstatement in financial statements because. IFRSs require that all expenses on the launch of new product
should be expensed out in profit and loss account.
2. Auditor shall express Qualified Opinion on financial statements (as effect is material but not pervasive). Auditor shall
also describe nature of misstatement in Basis for Qualified Opinion Section, alongwith quantification of misstatement.

(b)
1. This is a misstatement in financial statements because IFRSs require that all related party transactions should be
disclosed separately in financial statements.
2. Auditor shall express Qualified Opinion (if effect is material) or Adverse opinion (if effect is pervasive) on financial
statements. Auditor shall also describe nature of misstatement in Basis for Qualified/Adverse Opinion Section

Examiners’ Comments:
The performance was average. Students quoted IAS 38 in issue (a) but incorrectly categorized the expense as Development
Expenditure though clear ruling in the IAS is available to charge expense on launch of product to profit and loss account.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

A.36 (i) Qualified Opinion (if effect is material), or Adverse Opinion (if effect is pervasive).
(ii) Unmodified Opinion. Matter should be discussed as Key Audit Matter in report.
(iii) Qualified Opinion (if effect is material), or Disclaimer of opinion (if effect is pervasive). Auditor shall also include
“Other matter paragraph”.
(iv) Qualified Opinion (if effect is material), or Adverse Opinion (if effect is pervasive).
(v) Qualified Opinion (if effect is material), or Adverse Opinion (if effect is pervasive).
(vi) Unmodified opinion. Auditor shall also include “Material uncertainty relating to Going Concern”.
(vii) Qualified Opinion (if effect is material), or Disclaimer of opinion (if effect is pervasive).
(viii) Disclaimer of Opinion (because effect is likely to be pervasive as it would affect entire financial statements, almost
all account balances included therein).
(ix) Unmodified Opinion. Auditor shall also include “Other matter paragraph”.
(x) Qualified Opinion (as effect is material).
(xi) Qualified Opinion (if effect is material), or Adverse Opinion (if effect is pervasive).
(xii) Qualified Opinion (if effect is material), or Disclaimer of opinion (if effect is pervasive).
(xiii) Disclaimer of opinion.

A.37 Qualified Opinion:

Qualified Opinion is expressed when there is:
 Misstatement whose effect is Material, or
 Scope Limitation whose effect is Material.

Adverse Opinion:
Adverse Opinion is expressed when there is Misstatement whose effect is Pervasive.

Disclaimer of Opinion:
Disclaimer of Opinion is expressed when there is Scope Limitation whose effect is Pervasive.

Examiner commented that some students gave examples in casual way e.g. when sales transactions are recorded
fraudulently, or when disclosure is not given in financial statements, or when management is not ready to correct financial
statements.

A.38
1. In the first line, auditor should state “we have audited”, instead of “we have reviewed”.
2. In the first line, all components of financial statements should be identified i.e. statement of financial position,
statement of comprehensive income, the statement of changes in equity, the statement of cash flows, and notes
to the financial statements.
3. Management is not responsible to express opinion on F/S. It is responsible to prepare F/S.
4. Auditor is not responsible to prepare F/S. He is responsible to express opinion on F/S.
5. Audit is conducted in accordance with all ISAs, not in accordance with significant ISAs.
6. Auditor obtains reasonable assurance, not maximum assurance.
7. Audit procedures are not based on last year’s working paper or audit senior’s knowledge. Audit procedures are
based on auditor’s judgment and his risk assessment (considering internal control).
8. Auditor considers internal control for risk assessment, and does NOT express opinion on effectiveness of
internal control.
9. Auditor examines significant estimates and policies, and NOT just new estimates and policies.

A.39 (i)
Auditor shall express unmodified opinion on financial statements because there is no misstatement or scope limitation on
financial statements. However, auditor shall include emphasis of matter paragraph in his report to draw users’ attention
to the basis of preparation and the note in the financial statements.

(ii)
There is a misstatement in financial statements. Effect is pervasive, as basis of preparation of financial statements is not
correct. Auditor shall express adverse opinion. Auditor shall explain nature of misstatement in basis for adverse opinion
section.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

Examiners’ Comments:
Financial statements prepared on break-up basis with adequate disclosure
The majority of candidates correctly identified that the opinion should be unmodified. However, a small minority failed to
consider the use of an emphasis of matter paragraph to direct the users' attention to the note.
Financial statements prepared on going concern basis
The majority of candidates correctly identified that the circumstances warranted an adverse opinion. Weaker candidates
hedged their opinions, thereby demonstrating that they were unaware of the requirement in ISA 570 Going Concern to
provide an adverse opinion when financial statements have been prepared on an inappropriate basis. A minority of
candidates confused the purpose of an emphasis of matter paragraph (i.e. to draw users' attention to a note in the financial
statements) with the purpose of a basis for adverse opinion paragraph (i.e. an explanation for the modified opinion).

A.40 (a)
What is meant by the going concern concept:
Going concern means entity has an ability to continue its operations in foreseeable future (usually 12 months) and does
not have intention or necessity to liquidate its operations.

Why auditor should consider whether a company is a going concern:

ISA 570 requires auditor to obtain sufficient appropriate audit evidence about the appropriateness of management’s use
of the going concern assumption. ISA 570 also requires auditor to conclude whether there is a material uncertainty about
the entity’s ability to continue as a going concern

If going concern assumption is not appropriate, it may have implications on both financial statements and audit report e.g.
financial statements may have to be prepared on alternative basis (i.e. liquidation or break-up basis), and auditor should
emphasize this in his report.

If there is going concern uncertainty, financial statements should disclose it and auditor should also emphasize it in his
report.

(b)
Loss of major customer causing loss for the year:
Future revenue stream has been lost. This will have adverse impact on company’s ability to generate cash in future.

Increased competition:
Company is losing its revenue to competitors. A tough competition may further cause company to lose its customers and
revenue.

Reducing profit margins due to high cost of fuels:

Company’s profitability will further reduce in future.

Delaying payments to creditors:

Creditors may withdraw credit facilities and may change terms of transactions (e.g. from credit to cash).

Overdraft facility is subject to review in September 2007:

Bank may not approve overdraft facility for next term, and company may not have sufficient cash to pay it.

Loan installment falling due in October:

Lender may file petition to court to wind-up company.

Default in payment to tax authorities & Customs:

Tax authorities may file petition to court to wind-up company if obligations not met as agreed.

Examiners’ Comments:
(a)Almost all candidates were able to explain what is meant by the going concern concept. Although the majority of
candidates appreciated that the auditor had to consider the going concern because of the potential impact on the financial
statements, many failed to develop the point and did not describe what the impact would be i.e. the classification of items and
the amounts at which they would be stated. Furthermore, many failed to consider the disclosure implications for the financial
statements and the implications for the audit report.
(b)This part of the question was generally well answered with a number of candidates attaining maximum marks.
Candidates tended to be better at identifying the circumstances but not so good at explanations.

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 Auditing – The Case Book Chapter 4: Auditor’s Report & Types of Opinions

A.41 Extract 1:
 Name of each element of financial statements is not mentioned.
 Audit is conducted in accordance with all relevant ISAs, not in accordance with most of ISAs

Extract 2:
 Auditor obtains reasonable assurance, not maximum assurance.
 Auditor obtain assurance with financial statements are free from Material misstatements, not from all
misstatements.

Extract 3:
 Auditor does not have responsibility to prevent fraud and errors, or to detect all frauds and errors. This is the
responsibility of management.
 Auditor does not have responsibility to prepare financial statements. This is the responsibility of management.

Extract 4:
 Procedures selected by auditor depend on his risk assessment and judgment. Procedures do not depend on time
and resources availability.
 Auditor does not express opinion on effectiveness of internal control.

Extract 5:
 It is auditor’s responsibility to evaluate overall presentation of financial statements.
 Auditor considers reasonableness of significant estimates, not only of new estimates.
 It is auditor’s responsibility to review appropriateness of accounting policies.
 Use of work of expert is not mentioned in auditor’s report.

Marking Scheme Errors

 1 mark for each error identified.  Very well attempted.

A.42 (i)
ISAs require that date of audit report should not be earlier than the date on which auditor obtains sufficient appropriate
evidence on which his report is based. As written representations are a necessary piece of audit evidence, therefore audit
report should not be signed before receiving representation letter.

(ii)
Auditor shall include Other Matter paragraph in his report. The Other Matter paragraph should contain a statement that
the financial statements of the prior period were audited by the predecessor auditor, the type of opinion expressed
(alongwith reason for modification if opinion was modified), and the date of that opinion.

A.43 Audit junior’s suggestion is not correct. Not disclosing related party transaction is a misstatement. Emphasis of matter
paragraph is not a substitute of correct accounting treatment.

As related party transactions are qualitatively material, auditor shall express Qualified Opinion on financial statements
(or adverse opinion if effect is considered pervasive).

A.44 (i)
Financial statements should adequately disclose the events and conditions casting doubt on going concern (alongwith
plans and actions taken).

(ii)
Financial statements should be prepared on break-up basis, and basis of preparation of financial statements should be
adequately disclosed in financial statements. In preparing financial statements on break-up basis:
 Assets and liabilities should be reclassified as current.
 Assets will be recorded at recoverable amount.
 Additional liabilities for losses/redundancies may arise.

Examiners’ Comments:
Not well answered, mostly providing general principles and much too little detail.

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A.45 Pollen plc (Pollen)

1. Regulatory action pending against company is a significant uncertainty which requires disclosure in financial
statements (not a misstatement if it is adequately disclosed in financial statements).
2. Auditor shall express unmodified opinion on financial statements.
3. Suspension of license casts doubt on entity's ability to continue as going concern as 65% of firm’s annual revenue is
lost. Auditor shall include a separate section in audit report with heading "Material uncertainty related to Going
Concern" to:
 Draw attention to the note in the financial statements that discloses the matters; and
 State that these events or conditions indicate that a material uncertainty exists that may cast significant doubt
on the entity’s ability to continue as a going concern and
 State that auditor’s opinion is not modified in respect of the matter.

Bloome plc (Bloome)

1. This is a misstatement in financial statements because management has not recorded depreciation which is required
by IFRS.
2. Effect is material as amount of misstatement 140,000 (£2.8 million/10 * ½) is greater than materiality level
determined using rule of thumb 65,000 (1,300,000 * 5%)
3. Auditor shall express qualified opinion on financial statements (as effect is material but not pervasive). Auditor shall
also describe nature of misstatement in Basis for Qualified Opinion, alongwith quantification of misstatement.

A.46 Own labor capitalized:

 This is a scope limitation as time records are not available.
 Effect is material because amount of capitalization Rs. 1.5 million is greather than Rs. 850,000.
 Auditor shall express qualified opinion on F/S.
 Auditor shall also state in his report that proper books of accounts have not been kept in respect of this matter.
 Auditor shall also discuss the issue with TCWG, before expressing modified opinion.

Unable to physically verify inventory:

 This is a scope limitation, if auditor is unable to obtain evidence from alternative procedures, too.
 Matter is immaterial because amount of inventory Rs. 150,000 million is less than Rs. 850,000.
 Auditor shall express unmodified opinion on F/S.

Dispute with customer:

 As outflow is probable and amount is measurable, provision should be recorded in F/S.
 This will be misstatement if company does not record it.
 Effect is material because amount of damages claimed Rs. 2 million is greater than Rs. 850,000.
 Auditor shall express qualified opinion on F/S.
 Auditor shall also discuss the issue with TCWG, before expressing modified opinion.

A.47 (a)
 This is a misstatement in F/S, if inventory is not recorded at actual amount.
 Auditor shall express Qualified Opinion on F/S.

(b)
 As company has breached law, provision for fine should be recorded.
 This is a misstatement in F/S if provision is not recorded.
 Effect is material because amount of fine Rs. 1,000,000 million is greater than Rs. 500,000 (= 10,000,000 * 5%).
 Auditor shall express Qualified Opinion on F/S.

(c)
 There is no indication of impairment (and assets are also new), impairment testing is not required. Auditor shall
express unmodified opinion.
 However, if there is an indication and management does not test fixed assets for impairment, this will be a
misstatement in F/S. Auditor shall express Qualified Opinion (if effect is material), or Adverse Opinion (if effect
is pervasive).

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(d)
 This is scope limitation, if auditor is unable to obtain evidence from alternative procedures.
 Auditor shall express Qualified Opinion on F/S.

(e)
 There is no misstatement in F/S, because both methods are allowed by IFRS.
 Auditor shall express unmodified opinion on F/S.

A.48 (a)
 This is a misstatement in F/S, because time barred sales tax should NOT be recorded as refundable.
 Effect is material because amount of misstatement Rs. 8,000,000 million is greather than Rs. 1,500,000 (=
30,000,000 * 5%).
 Auditor shall express Qualified Opinion on F/S.

(b)
 This is a change in estimate. There is no misstatement in F/S, because both methods are allowed by IFRS.
 Auditor shall express unmodified opinion on F/S.

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