CHAPTER 14
Audit
Reports
1
The Standard Unqualified Audit Report
Report title:
Independent Auditor’s Report
2
Report title:
Independent Auditor’s Report
Address:
To the Stockholders of Ace Corporation:
report may
also be addressed
to company or
board of directors,
not management
3
Report title:
Independent Auditor’s Report
Address:
To the Stockholders of Ace Company:
Introductory paragraph:
What
statements
were audited?
What time period?
What are client
and auditor
responsibilities?
4
Report title:
Independent Auditor’s Report
Address:
To the Stockholders of Ace Company:
Introductory paragraph:
We have audited the accompanying balance sheets of Ace
Company as of December 31, 19x5 and 19x4, and the related
statements of income, retained earnings, and cash flows for
the years then ended. These 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.
5
Scope paragraph:
We conducted our audits in accordance with generally
accepted auditing standards. 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 that our audits provide
a reasonable basis for our opinion.
6
Opinion paragraph:
In our opinion, the financial statements referred to above
present fairly, in all material respects, the financial position
of Ace Company as of December 31, 19x5 and 19x4 and the
results of its operations and its cash flows for the years
then ended in conformity with generally accepted accounting
principles.
7
Opinion paragraph:
In our opinion, the financial statements referred to above
present fairly, in all material respects, the financial position
of Ace Company as of December 31, 19x5 and 19x4 and the
results of its operations and its cash flows for the years
then ended in conformity with generally accepted accounting
principles.
Name of firm:
Taylor & Tower, CPAs
8
Opinion paragraph:
In our opinion, the financial statements referred to above
present fairly, in all material respects, the financial position
of Ace Company as of December 31, 19x5 and 19x4 and the
results of its operations and its cash flows for the years
then ended in conformity with generally accepted accounting
principles.
Name of firm:
Taylor & Tower, CPAs
Audit report date:
February 27, 19x6
field work
completion
date
9
Types of Audit Reports
- unqualified - “statements present fairly”
client
10
Types of Audit Reports
- qualified - “except for one or more
exceptions, statements present fairly”
client
11
Qualified Audit Report
(GAAP Departure)
same introductory paragraph
same scope paragraph
explanatory third paragraph including $-effect
In our opinion, except for the effects of ..., as discussed in
the preceding paragraph, the financial statements referred to
above present fairly, in all material respects, the financial
position of Ace Company as of December 31, 19x5 and the
results of its operations and its cash flows for the year then
ended in conformity with generally accepted accounting
principles.
12
Types of Audit Reports
- adverse - “statements do not present fairly”
client
13
Adverse Audit Report
same introductory paragraph
same scope paragraph
explanatory third paragraph including $-effect
In our opinion, because of the effects of the matters
discussed in the preceding paragraph, the financial
statements referred to above do not present fairly, in
conformity with generally accepted accounting principles,
the financial position of Ace Company as of December 31,
19x5 or the results of its operations and its cash flows for
the year then ended.
14
Types of Audit Reports
- disclaimer - “no opinion”
client
15
Disclaimer
(scope restriction)
We were engaged to audit...remainder of the introductory
paragraph is the same
no scope paragraph
explanatory third paragraph including $-effect
Since we were unable to ... and we were unable to satisfy
ourselves as to the ...by means of other auditing procedures,
the scope of our work was not sufficient to express, and we
do not express, an opinion on the financial statements.
16
Unqualified Reports with Explanatory
Paragraphs or Modified Wording
Changes in consistency (AU 420
and 508) must be distinguished
from changes in comparability.
changes in
consistency
changes in
comparability
17
changes in
consistency
changes in
comparability
- changes in accounting
principles (ex., FIFO to
LIFO)
- changes in reporting
entities (ex., equity
method to consolidation)
- correction of errors
involving principles non-GAAP method to
GAAP
18
changes in
consistency
- changes in accounting
principles (ex., FIFO to
LIFO)
- changes in reporting
entities (ex., equity
method to consolidation)
- correction of errors
involving principles non-GAAP method to
GAAP
changes in
comparability
- changes in estimate
(ex., asset useful life)
- changes in statement
format or presentation
- purchase or sale of a
subsidiary
- error correction not
involving principles
(ex., math error of prior
year)
19
changes in
consistency
changes in
comparability
additional
fourth
paragraph
no
audit
report
effect
20
Consistency Modification
same introductory paragraph
same scope paragraph
same opinion paragraph
As discussed in note ? to the financial statements, the
company changed its method of...in (current year).
This report is a modification; i.e.,
unqualified but the wording is changed.
21
In some circumstances, a lack
of consistency may result in a
qualified or adverse opinion:
- the client cannot justify the change
- the client changed to a non-GAAP
method
- the client refuses to properly
disclose the lack of consistency
(footnote disclosure)
22
Unqualified Reports with Explanatory
Paragraphs or Modified Wording
Substantial doubt about the client’s ability to
remain a going concern (AU 341) will result in
a disclaimer or an additional fourth paragraph
to an unqualified report.
occasionally
referred to as
the
“kiss of death”
opinion
23
Going Concern Modification
same introductory paragraph
same scope paragraph
same opinion paragraph
The accompanying financial statements have been prepared
assuming that Ace Company will continue as a going
concern. As discussed in note ? to the financial statements,
...(some circumstance)...raises substantial doubt about the
company’s ability to continue as a going concern. Management’s plans in regard to these matters are also described in
note ?. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.
This report is a modification; i.e.,
unqualified but the wording is changed.
24
Unqualified Reports with Explanatory
Paragraphs or Modified Wording
Departure from a promulgated accounting
principle (AU 508) occurs when the auditor
and client agree that a departure from GAAP
is justified to avoid misleading results.
The report should be unqualified but have
an additional explanatory paragraph either
preceding or following the opinion paragraph.
25
Unqualified Reports with Explanatory
Paragraphs or Modified Wording
Emphasis of a matter (AU 508) is appropriate
when the auditor believes that an unqualified
opinion is warranted but attention should be
drawn to a matter.
The report should be unqualified but have
an additional explanatory paragraph either
preceding or following the opinion paragraph.
26
Unqualified Reports with Explanatory
Paragraphs or Modified Wording
Opinion based, in part, on the report of
another auditor (AU 543, 508) occurs
when a part of the client is audited by
another auditor.
27
Opinion based, in part, on the
report of another auditor
The overall report must be signed
by the principal auditor. This
designation is based on:
- materiality of the portion of the
statements examined
- knowledge of overall statements
- importance of client components
audited
28
Opinion based, in part, on the
report of another auditor
The principal auditor must:
- make inquiries into the reputation of the other auditor
- obtain representation from
other auditor regarding
independence
- ascertain that the other
auditor knows GAAS, SEC
standards, and that the
component audited is part
of a larger company.
29
Opinion based, in part, on the
report of another auditor
If the results of these inquiries are
unsatisfactory, the principal
auditor must:
- qualify or disclaim the audit
report
OR
- audit the component
30
Opinion based, in part, on the
report of another auditor
If the results of these inquiries are
satisfactory, the principal auditor
must decide whether to refer to
the other auditor in the report:
- no reference to the other auditor
in the report
- a shared report indicating
divided responsibility
31
Shared Modification
We have audited the accompanying consolidated balance
sheets of Ace Company as of December 31, 19x5, and the
related consolidated statements of income, retained
earnings, and cash flows for the years then ended. These
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. We did not
audit the financial statements of Trace Company, a
consolidated subsidiary in which the Company had an equity
interest of 57% as of December 31, 19x5, which statements
reflect total assets of $xx,xxx as of December 31, 19x5 and
total revenues of $x,xxx for the year then ended. Those
statements were audited by other auditors whose report has
been furnished to us, and our opinion, insofar as it relates to
amounts included for Trace Company, is based solely on
the report of the other auditors.
32
Shared Modification
We conducted our audits in accordance with generally
accepted auditing standards. 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 that our audits and the
report of other auditors provide a reasonable basis for our
opinion.
33
Shared Modification
In our opinion, based on our audits and the report of other
auditors, the consolidated financial statements referred to
above present fairly, in all material respects, the financial
position of Ace Company as of December 31, 19x5 and the
results of its operations and its cash flows for the year then
ended in conformity with generally accepted accounting
principles.
This report is a modification; i.e.,
unqualified but the wording is changed.
34
conditions requiring a departure
from the unqualified report
35
conditions requiring a departure
from the unqualified report
Scope limitation (AU 508) - the auditors were
unable to perform some aspect of the audit
that they considered necessary:
client-imposed - the client will not allow the
auditor to perform an audit procedure
circumstance-imposed - because of some
circumstance other than a client-imposed
restriction, the auditor could not perform an
audit procedure
36
client-imposed scope limitation
audit scope
is
significantly
limited
probably
disclaim
audit scope
is not
significantly
limited
pursue alternative
procedures 37
circumstance-imposed scope limitation
adequate
alternative
procedures
are
available
adequate
alternative
procedures
are not
available
no audit
report effect
qualify or
disclaim
38
Scope limitations may result in different
opinions on individual statements.
EXAMPLE: an auditor cannot adequately
verify beginning inventory of a first-year client
income
opinions?
statement
balance
sheet
39
Scope limitations may result in different
opinions on individual statements.
EXAMPLE: An auditor cannot adequately
verify beginning inventory of a first-year client
income
statement
unqualified
disclaimer
balance
sheet
40
Scope Restriction Disclaimer
We were engaged to audit...remainder of the introductory
paragraph is the same
no scope paragraph
explanatory third paragraph including $-effect
Since we were unable to ... and we were unable to satisfy
ourselves as to the ...by means of other auditing procedures,
the scope of our work was not sufficient to express, and we
do not express, an opinion on the financial statements.
41
Scope Restriction Qualification
same introductory paragraph
Except as discussed in the following paragraph, we
conducted the audit ...remainder of the scope paragraph is
the same
explanatory third paragraph including $-effect:
We were unable to...
In our opinion, except for the effects of such adjustments,
if any, as might have been determined to be necessary had
we been able to..., the financial statements referred to above
present fairly, in all material respects, the financial position
of Ace Company as of December 31, 19x5 and the results
of its operations and its cash flows for the year then ended
in conformity with generally accepted accounting principles.
42
conditions requiring a departure
from the unqualified report
Departures from GAAP (AU 508) result in a
qualified or adverse opinion depending on
materiality and pervasiveness.
The correct information should be included
in an additional third paragraph. If this
information is not available, the report
should state that fact.
43
GAAP Departure Qualification
same introductory paragraph
same scope paragraph
explanatory third paragraph including $-effect
In our opinion, except for the effects of ..., as discussed in
the preceding paragraph, the financial statements referred to
above present fairly, in all material respects, the financial
position of Ace Company as of December 31, 19x5 and the
results of its operations and its cash flows for the year then
ended in conformity with generally accepted accounting
principles.
44
conditions requiring a departure
from the unqualified report
Auditor’s lack of independence (AU 504)
will result in a disclaimer. The report
should not mention the reason for the
lack of independence or any audit
procedures.
45
Lack of Independence Disclaimer
We are not independent with respect to Ace Company,
and the accompanying balance sheet as of December 31,
19x5, and the related statements of income, retained
earnings, and cash flows for the year then ended were not
audited by us. Accordingly, we do not express an opinion
on them.
46
The audit report should not include any
statements that would counterbalance
the opinion:
- negative assurance - “nothing came to
our attention that would lead us to
believe...”
- piecemeal opinion - positive comments
on some components of the financial
statements when a disclaimer or
adverse opinion is issued
47