The audit of Recorder is nearly complete and the auditor’s report is due to be signed next week.

The
directors are refusing to adjust the valuation of inventory to the lower of cost and net realisable value.
The difference is considered to have a material effect on the financial statements.

Describe the impact on the auditor’s report if the issue remains unresolved.

 Failure to value inventory at the lower of cost and net realisable value will mean Recorder has not
complied with the requirements of IAS 2 Inventories.

 The financial statements will be materially misstated due to overstatement of inventory, although the
issue is unlikely to be pervasive.

 The audit opinion will be modified with a qualified ‘except for’ opinion.

 A basis for qualified opinion will be required to explain the material misstatement to the users of the
financial statements and quantify the financial effect of the misstatement on the financial statements.

 The basis for paragraph should be positioned below the opinion section within the auditor’s report

Encore co)

It is now 26 August 20X5 and the auditor’s report for Encore Co is being finalised. On 12 August 20X5,
the transport authority announced that it was taking legal action against Encore Co in respect of 17
breaches of the regulations. Encore Co’s lawyers have advised that it is probable Encore Co will be found
guilty of all of the breaches. Encore Co’s directors have informed you that no provision will be made in
respect of this matter, as the decision by the authority to take legal action was made after the year end,
but they have agreed to disclose the issue in the notes to the financial statements

(d) Discuss the issue and describe the impact on the auditor’s report, if any, should this issue remain
unresolved.

The breaches in regulations and the initial investigation into the breaches occurred before the year end.
The announcement by the authorities that they are taking legal action provides further evidence
regarding these conditions which existed at the year‐ end date therefore IAS 10 Events after the
Reporting Period would classify this as an adjusting subsequent event

As it seems probable that the fine will be payable, a provision must be included rather than merely the
disclosure. Failure to make such a provision will cause profits to be overstated and provisions to be
understated.

The potential fine of $850,000 (17 × $50,000) is 16% ($850k/$5.3m) of profit before tax and 2.1%
($850k/$40.1 m) of total assets. It is therefore material.

If the directors refuse to make a provision, then Velo & Co should issue a modified opinion on the
grounds that there is a material misstatement of profit and liabilities.

As this is material but not pervasive a qualified opinion would be appropriate.

A basis for qualified opinion paragraph would be included after the opinion paragraph.
This would explain the material misstatement in relation to the non‐recognition of the provision and the
effect on the financial statements. The opinion paragraph would be qualified ‘except for’

Jasmine co

During the final audit, the finance director has informed the audit team that Jasmine Co’s bankers will
not make a decision on the renewal of the overdraft facility until after the auditor’s report is signed. The
audit engagement partner is satisfied that the use of the going concern basis is appropriate. The
directors have agreed to include some brief going concern disclosures in the draft financial statements
and the audit team still have to assess the adequacy of these disclosures.

Discuss the issue and describe the impact on the auditor’s report of Jasmine Co of adequate AND
inadequate going concern disclosure.

As the outcome regarding the negotiations for the overdraft facility renewal will not be known at the
time of signing the auditor’s report, there is a material uncertainty which may cast significant doubt on
the company’s ability to continue as a going concern. The impact on the auditor’s report depends on
whether this uncertainty is deemed to be adequately disclosed in the financial statements.

Disclosure adequate

If the disclosures are adequate, then the auditor’s report will need to include a material uncertainty
related to going concern section.

The section will state that the audit opinion is not modified, indicate that there is a material uncertainty
and will cross reference to the disclosure note made by management.

It would be included after the opinion and basis for opinion paragraph.

Disclosure inadequate

If the disclosures made by management are not adequate, the audit opinion will need to be modified as
there is a material misstatement relating to inadequate disclosure.

The failure to adequately disclose is likely to be material but not pervasive due to the ongoing nature of
the negotiations and so a qualified opinion will be issued.

The opinion paragraph will state that ‘except for’ the failure to adequately disclose the uncertainty, the
financial statements give a true and fair view.

The report will contain a basis for opinion paragraph, subsequent to the opinion paragraph, explaining
that a material uncertainty exists and that the financial statements do not adequately disclose this
matter

Gooseberry

During the audit, the team discovers that the intangible assets balance includes $440,000 related to one
of the nine new health and beauty products development projects, which does not meet the criteria for
capitalisation. As this project is ongoing, the finance director has suggested that no adjustment is made
in the 20X5 financial statements. She is confident that the project will meet the criteria for capitalisation
in 20X6.
Discuss the issue and describe the impact on the auditor’s report, if any, should this issue remain
unresolved.

During the audit, the team discovers that the intangible assets balance includes $440,000 related to one
of the nine new health and beauty products development projects, which does not meet the criteria for
capitalisation. In accordance with IAS 38 only costs that meets the capatalisation criteria must be
capatalised as intangible assets. Failure to comply with IAS 38 may lead to overstatement of intangible
assets and understatement of expenses.

Dashing co)

A few months have now passed and the audit team is performing the audit fieldwork including the audit
procedures which you recommended over the redundancy provision. The team has calculated that the
necessary provision should amount to $305,000. The finance director is not willing to adjust the draft
financial statements.

Discuss the issue and describe the impact on the auditor’s report, if any, should this issue remain
unresolved.

The company has included a redundancy provision of $110,000 in the draft financial statements,
however, audit fieldwork testing has confirmed that the provision should actually be $305,000. The
provision is understated and profit before tax overstated if the finance director does not amend the
financial statements.

The provision included is $110,000, it should be $305,000 hence an adjustment of $195,000 is required
which represents 7.5% of profit before tax (195/2,600) or 1.1% of total assets (195/18,000) and hence is
a material matter.

Insects 4u

The finance director of Spider Spirals Co has informed you that he is not proposing to make an
adjustment for the trade payables payment run made on 3 May, as the total payment of $490,000
would only require a change to trade payables and the bank overdraft, both of which are current
liabilities.

Discuss the issue and describe the impact on the auditor’s report, if any, should this issue remain
unresolved.

The company made a payment run of $490,000 for payables on 3 May, which is post year‐end. The trade
payables which were outstanding at the year end have been understated as they have been recorded as
being paid. In addition, the bank overdraft is overstated as the payments are recorded as coming out of
the year‐end bank balance. Thisis evidence of window dressing, asthe company has attempted to record
a lower level of payable obligations at the year‐end.

Pineapple beach hotel

The date is now 1 September 20X5 and the audit is nearly complete. Suggested wording for the written
representation letter has been given to the directors of Pineapple Beach Hotel, including a point
confirming that the directors believe the food poisoning claim is appropriately accounted for and
disclosed in the financial statements and all information in respect of the claim has been provided to the
auditor. The directors have stated that they will not sign the written representation this year on the
grounds that they believe the additional evidence that it provides is not required by the auditor.

Auditor’s report

The lack of a signed written representation letter means the auditor does not have sufficient and
appropriate audit evidence to be able to form an opinion on the matters covered by the representation.

As the written representation letter covers many aspects such as confirming the directors have recorded
all transactions, the financial statements have been properly prepared and they have provided the
auditor with all information for the audit, the refusal to sign the letter casts doubt over management
integrity and is likely to be considered material and pervasive.

The opinion should be modified with a disclaimer of opinion being issued stating that the auditor does
not express an opinion on the financial statements due to an inability to obtain sufficient appropriate
evidence.

The basis for opinion will be changed to a basis for disclaimer of opinion and will explain the issue
causing the modified opinion.

The reference to professional standards which is usually included in the basis for opinion section will be
moved to the auditor’s responsibility section of the report.

The statement that the auditor has audited the financial statements will be changed to the auditor was
engaged to perform an audit.