Auditing: A Risk Based Approach to Conducting a Quality Audit, 10e
Solutions for Chapter 15
True/False Questions
15-2 T
15-4 F
15-6 F
15-8 T
15-10 T
15-12 F
15-14 F
15-16 T
Multiple-Choice Questions
15-18 A
15-20 C
15-22 B
15-24 C
15-26 B
15-28 C
15-30 D
15-32 B
15-2
Review and Short Case Questions
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As outlined in AICPA’s Principle 1, the purpose of an audit is to enhance the degree of
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These principles basically require auditors either to express an unqualified opinion on the
entire set of financial statements and related footnotes, including all years presented for
15-35
15-36
Such reports can be issued for public companies only if:
• There are no material violations of GAAP.
15-3
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SEC Reporting Requirements
Size of Filer
Form 10-K (Annual
Report)
$700 million)
less than $700 million)
(Market capitalization less than $75
million)
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Audit reports are designed to promote clear communication between the auditor and the
financial statement reader by delineating:
• What was audited and the relative responsibilities of the client and the
auditor (introductory paragraph)
15-4
Other important components of an audit report include:
• A title that includes the word independent
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Auditors following the ISAs would refer to ISA 700 for relevant guidance, which is
generally consistent with the AICPA’s AU-C 700, although there are terminology
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The primary difference would be in the opinion paragraph where the auditor would refer
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The first phrase implying some risk of not detecting all material misstatements is in the
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The second phrase is also in the scope paragraph: “…examining, on a test basis,
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The principal auditor may decide not to refer to the use of other auditors when:
• The other firm is an associated or correspondent firm
• The other firm is hired by the principal audit firm which directs the work of the
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a. Principal auditor refers to the auditor expressing the opinion on the overall financial
statements. Another term is group engagement partner.
b. We have audited the consolidated balance sheets of Parat, Inc. and subsidiaries as of
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statements are free of material misstatement. An audit includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and significant
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Title
1. There is no title. It should include the word “independent.”
Introductory paragraph
3. Management’s responsibility for the financial statements is omitted.
Scope paragraph
5. An auditor obtains reasonable assurance about whether the financial statements
6. The statement that an audit includes “evaluating the overall financial statement
presentation” is omitted.
7. The statement that the auditors “believe that our audit provides a reasonable basis
for our opinion” is omitted.
Explanatory paragraph
9. The auditors should not give an opinion concerning the entity’s survival beyond a
10. The use of the term subject to is inappropriate. It should be an unqualified
opinion.
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13. No reference to the United States GAAP.
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a, c, and e are changes for which the auditor should add a paragraph to alert the readers.
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a. The rationale is to ensure the comparability of an entity’s financial statements
over time. The auditor should add an explanatory paragraph when a client changes an
b.
2. Change in Estimate
3. Correction of an Error
Change should be adequately disclosed in the notes to the statements. If
4. Change in Accounting Principle to a Non-GAAP principle
5. Change in Entity
6. Change in estimate and principle
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7. Change in Classification
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The auditor must add a paragraph to the audit report when the client has changed an
accounting principle or method of application, the effect of which is material to the
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When a client has a justified departure from GAAP, the auditor should add an
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Examples of matters that auditors may choose to emphasize when issuing an unqualified
opinion include:
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a. When an auditor has substantial doubt about a client’s ability to remain a going
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continuing as a going concern and refer to management’s footnote(s) explaining the
problems and plans to overcome the problems.
For some going concern situations in which the client is experiencing severe financial
distress, the auditor may not feel comfortable expressing any opinion. In such cases, the
b. The company might argue that a going concern opining will certainly ensure that
the company will not remain a viable business, because the going concern audit opinion
will likely limit the ability of the company to obtain needed funding, etc. However, if an
c. This question provides a good opportunity for class discussion. For XL Group, it
might be that company management was able to convince the auditors that they had a
plan to address their financial difficulties. Some students are likely to point out that
d. It may be that a higher level of professional skepticism would lead an auditor to
be more likely to issue a going concern opinion. Auditors with a higher level of
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There are three situations in which an auditor will issue a qualified opinion. These
situations occur when there is:
• A material unjustified departure from GAAP that is not pervasive
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Independent Auditor’s Report
To the Shareholders of Shylo Ranch, Inc.
We have audited the consolidated balance sheet of Shylo Ranch, Inc. as of December 31,
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flows for the year then ended. The financial statements are the responsibility of the
company’s management. Our responsibility is to express an opinion on these financial
statements based on our audits.
Except as discussed in the following paragraph, we conducted our audits in accordance
with the standards of the Public Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe our audit provides a reasonable basis
for our opinion.
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a. Title – The report has no title such as “Independent Auditor’s Report.” Such a title is
important so the reader can clearly distinguish between the report of the independent
auditors and other reports such a by management or the audit committee.
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iii. If these are comparative statements, balance sheet should be plural – balance
sheets.
iv. The statement of changes in financial position should be referred to as cash flow
statements.
iv. “On a test basis” should precede “evidence” in the third sentence to convey the
idea that the auditor obtains evidence on a test basis rather that obtaining
evidence for all transactions and events.
v. The fourth sentence should indicate the auditor assesses “significant estimates
made by management.”
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The qualification is because of inadequate disclosure. Following the scope paragraph are
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“Disclosures about Segments of an Enterprise and Related Information.” In our
opinion, disclosure of this information is required by U.S. generally accepted
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An auditor issues an adverse opinion when there is a pervasive and material unjustified
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The purpose of a disclaimer is to state that the auditor does not express an opinion on the
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The auditor should ordinarily disclaim an opinion when the client imposes significant
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The types of audit reports other than a standard unqualified report and the circumstances
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Qualified report expressed when there is a material departure from GAAP, a significant
scope limitation, or inadequate disclosures.
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Nature of Matter Giving Rise to
the Modification
Auditor’s Professional Judgment About the Pervasiveness of
the Effects or Possible Effects on the Financial Statements
Material and Pervasive
Financial statements are
materially misstated
Adverse opinion
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a. An unqualified opinion should be issued because sufficient appropriate evidence
was obtained. No explanatory paragraph is needed. In fact, an explanation would likely
confuse the reader.
b. A qualified or possibly adverse opinion should be issued because of a material
GAAP violation. The choice depends on how material and pervasive are the effects. The
explanatory paragraph should precede the opinion paragraph.
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d. A disclaimer should be expressed because of this significant scope limitation
imposed by the client. An explanatory paragraph should replace the scope paragraph and
precede the disclaimer paragraph. An opinion is not expressed.
e. An unqualified opinion should be expressed. The auditor may choose to
emphasize this by adding an explanatory paragraph that may precede or follow the
opinion paragraph.
f. An unqualified opinion would normally be expressed. An explanatory paragraph
should follow the opinion paragraph. Alternatively, the auditor could express a disclaimer
with the explanatory paragraph preceding the opinion paragraph.
i. A company needs to disclose a change in accounting principle when the effect on
future financial statements is likely to be material. Since the client refuses to make this
disclosure, the auditor should express a qualified opinion and provide the disclosure in a
paragraph preceding the opinion paragraph.
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1. (d or e) Qualified, scope limitation or Disclaimer
This is actually difficult to answer because the auditor may not have enough information
to render an opinion. If the auditor is satisfied that the loans need to be written down by
the $7.5 million, the qualified, except for opinion is appropriate. If the auditor suspects
2. (a) Unqualified, standard wording