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24-11
24-22 (continued)
d. The search for unknown commitments is typically performed as part
of individual audit areas. Three examples of procedures Johnson
is likely to perform for the purpose of uncovering commitments are:
As part of the audit of purchase transactions, be alert for
24-23 a. A contingent liability is a potential future obligation to an outside
party for an unknown amount resulting from activities that have
b. Audit procedures to learn about these items would be as follows:
The following procedures apply to all three items:
Discuss the existence and nature of possible contingent
liabilities with management and obtain appropriate
written representations.
Stock dividend
Confirm details of stock transactions with registrar
and transfer agent.
Review records for unusual journal entries subsequent
to year-end.
24-12
24-23 (continued)
Guarantee of interest payments
Discuss, specifically, any related party transactions
of representation.
Review financial statements of affiliate, and where
1. The lawsuit should be described in a footnote to the balance
sheet. In view of the court decision, retained earnings may
current liability will be set up as soon as a final decision is
rendered or if an agreement as to damages is reached. If
2. The declaration of such a dividend does not create a
necessary, but an indication of the action taken, and that
and common stock in the balance sheet.
3. If payment by Newart is uncertain, the $137,500 interest
liability for the period June 2 through December 1, 2016,
could be reflected in the Marco Corporation’s accounting
records by the following entry:
Interest Payments for Newart Company $137,500
Accrued Interest Payable — Newart Bonds $137,500
24-13
24-23 (continued)
the amount of $2,200,000.
If the interest has been paid by the time the audit is
completed, or if for other reasons it seems certain that the
payment will be made by Newart on January 15, no entry
should be made by Marco. In this circumstance a footnote
24-24 a. In this situation, Little need only send requests for letters to those
attorneys who are involved with legal matters directly affecting
the financial statements. The letters should be sent reasonably
near to the completion of the field work, but the follow-up on
b. The auditor would be required to follow up on the first attorney’s
letter by sending a second request or by calling the attorney to solicit
a response. The second letter would not require any additional
24-25
16. Most auditors would probably require that the account be
written off as uncollectible at 6-30-16, but they are not required to
b. 3 ― Amount should have been determined to be uncollectible
before end of field work, but it was discovered after the issuance of
24-14
24-25 (continued)
c. 4 ― The amount appeared collectible as of the date of the audit
report.
d. 1 ― The uncollectible amount was determined before end of field
work.
e. 1 ― The settlement should be reflected in the 6-30-16 financial
statement as an adjustment of current period income and not a
prior period adjustment.
24-26 a. Auditing standards require the auditor to evaluate whether there
is substantial doubt about a client’s ability to continue as a going
concern for at least one year beyond the balance sheet date.
Auditors make this evaluation during the planning phase, but also
b. The auditor is required to consider whether the client is able to
c. For the audit of MakingNewFriends.com, the relevant information
includes the fact that MakingNewFriends.com has had difficulty
establishing a loyal client base and generating advertising revenues.
This suggests the company may continue to have difficulty
generating revenues over the next 12 months. The recurring
24-15
24-26 (continued)
revenue or other financing for the coming year, knowledge of
d. The auditor is required to evaluate the feasibility of management
achieving their plans. For example, the auditor may discuss with
the bank the likelihood of the company obtaining financing. The
24-27 a. A typical additional information report includes the financial statements
associated with a short-form report on the basic financial
statements plus additional information likely to be useful to
b. The purpose of additional information reports is to provide
c. It would be appropriate to include all of the items as additional
information except the following:
2. The adequacy of insurance coverage. The auditor is not
an insurance professional, and any comments about the
3. Adequacy of the allowance for uncollectible accounts.
Comments that an account balance is correctly stated are
5. Material weaknesses in internal control. These should be
identified and communicated to management as a part of
24-16
24-27 (continued)
d. The following would be added to the standard audit report:
Our audit was made for the purpose of forming an opinion on
the basic financial statements taken as a whole. The accompanying
information on pages x through y is presented for purposes of
24-28 a. AU-C 450 identifies three types of misstatements:
no doubt.
2. Judgmental misstatements are differences arising from the
judgments of management concerning accounting estimates
inappropriate.
3. Projected misstatements are the auditor's best estimate of
misstatements in populations, involving the projection of
misstatements identified in audit samples to the entire
Evidence that a misstatement is not an isolated occurrence
and other misstatements may exist include situations when the
b. AU-C 450 indicates the auditor should determine whether
the size and nature of the misstatements, both in relation
to particular classes of transactions, account balances, or
disclosures and the financial statements as a whole, and
24-17
24-28 (continued)
c. AU-C 450 requires the auditor to document the following:
the amount below which misstatements would be regarded
as clearly trivial;
all misstatements accumulated during the audit and
24-29 a.
POSSIBLE MISSTATEMENT ―
OVERSTATEMENT (UNDERSTATEMENT)
Item
Total
Amount
Current
Assets
Noncurrent
Assets
Current
Liabilities
Noncurrent
Liabilities
Income
Before Tax
1
$125,000
($125,000)
$125,000
2
85,000
(85,000)
60,000
(25,000)
3
44,000
(44,000)
(44,000)
4
52,000
52,000
52,000
5
43,000
0
6
Not known
0
0
(129,000)
112,000
(125,000)
0
108,000
net effect of adjustments to current assets and noncurrent assets
is less than materiality for total assets, the fact that a major
financial statement line item, such as current assets, is misstated
by more than materiality, indicates the adjustments would need to
assets and noncurrent liabilities.
24-18
24-30 a. Schwartz’s legal and professional responsibility in the issuance
b. Major considerations that will determine whether Schwartz is liable
in this situation are whether the client installed the system
according to Schwartz’s instructions or whether they deviated
from his instructions and whether they could have foreseen the
Case
24-31 a. See the “Summary of Possible Adjustments” on page 24-20 that
follows.
their records contain misstatements.
c. As indicated on the “Summary of Possible Adjustments” on page
24-20, you should attempt to have Aviary’s management record
required to determine the allowances for inventory obsolescence
and doubtful accounts and (2) it is not uncommon for auditors to
assist clients in adjusting these accounts. This may help minimize
management’s reluctance to admit making a mistake.
24-19
24-31 (continued)
the current year.
d. Your responsibility related to unadjusted misstatements that
management has determined are immaterial individually and in
the aggregate is to determine for yourself whether the combined
representation letter, along with management’s representation that
the uncorrected misstatements are immaterial.
e. Auditors of larger public companies must evaluate the noted
financial statements when issuing the audit report on internal
control. For example, if the possible adjustments identified by Aviary
Industries’ auditor are deemed to be material misstatements that
were not initially identified by the company’s internal controls, the
would include an adverse opinion if the auditor concludes that it
is a material weakness.
24-31 (continued)
a.
Client Name Aviary Industries
SUMMARY OF POSSIBLE ADJUSTMENTS
Year-ended December 31, 2016
A/C DR.
TOTAL
POSSIBLE ADJUSTMENTS – DR (CR)
CURRENT
NON-
CURRENT
CURRENT
NON-
CURRENT
BEGINNING
(1) Unrecorded
credit memos*
Sales R&A
A/R
26,451
(26,451)
26,451
(2) Unrecorded
inventory
purchases
Purchases
A/P
25,673
(25,673)
25,673
(3) Sales recorded
in wrong period
Sales
A/R
41,814
(41,814)
41,814
(4) Held checks
Cash
A/P
43,671
43,671
(43,671)
(5) Obsolete
inventory**
Loss A/C
Inventory Allow. A/C
15,000
(15,000)
15,000
(6) AFDA
understated**
Bad debt exp.
AFDA
35,000
(35,000)
35,000
Totals
(74,594)
(69,344)
68,265
75,673
Conclusions:
The net effect of the above items is as follows:
Working capital $143,938 decrease
Total assets: $ 74,594 decrease
Net income: $143,938 decrease
Opinion as to need for AJE: Preliminary materiality was $100,000. However, revised materiality
based on 5% of actual income before taxes = $1,508,929 x 5% = $75,446.45. Rounded = $75,000.
The combined effect of the above proposed entries on net income exceeds revised materiality.
Propose that all entries be recorded. However, at a minimum, entries (3) and (6) should be recorded
in order to decrease the effect of the above entries to a level below revised materiality of $75,000.
Entry (1), (2), or (5) may also have to be recorded in order to have some cushion between the net
income misstatement and revised materiality after recording entries (3) and (6).
24-20
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