Chap012.ppt

Chapter 12

Reports on Audited

Financial Statements

The television industry doesn’t like to see the complexity of the world. It prefers simple reporting, with simple ideas: this is white,

that’s black; this is good, that’s bad.

Filmmaker Krisztof Kieslowski

McGraw-Hill/Irwin

Copyright © 2008 by The McGraw-Hill Companies, Inc. All rights reserved.

Reports Accompanying Financial Statements

• Prepared by Auditor– Opinion on financial statements and related

disclosures: Are they presented per GAAP?– Opinion on internal control over financial

reporting: Is it effective?

• Prepared by Management– Opinion on internal control over financial

reporting: Is it effective?

12-2

The Purpose of the Auditors’ Report

• Are F/S in conformity with GAAP?– Provide indication of what the F/S would be like if GAAP were

followed– Provide any entity-omitted disclosures

• Any unusual aspects of the audit examination?– Scope limitations– Division of responsibility

• Any unusual matters related to the entity?– Going-concern uncertainty– Consistency– Emphasis of a matter

12-3

Types of Auditors’ Reports

• Standard report – Expresses an unqualified opinion

• Unqualified opinion with modified wording– F/S are in conformity with GAAP– Difference between this and standard report is that additional

matters are disclosed in report• Qualified opinion

– “Except for” some matter, F/S are in conformity with GAAP• Adverse opinion

– F/S are not in conformity with GAAP• Disclaimer of opinion

– No opinion is issued by auditors

12-4

The Standard Report (Paragraphs)• Introductory

– F/S and years examined– Responsibility of auditors and management

• Scope– Audit conducted in accordance with PCAOB standards– Description of an audit (specific references to “test basis,”

“materiality,” and “significant estimates”)– Audit provides reasonable assurance

• Opinion – Are F/S presented in conformity with GAAP?

• Internal Control– References examination, report, and opinion on internal control

12-5

The Standard Report (Other Elements)

• Title includes the word “independent”

• Addressed to the client (normally, shareholders and board)

• Dated on the audit completion date

• Signed by the accounting firm

12-6

Independent Auditors’ Report (AS 5)

Report of Independent Registered Public Accounting Firm

To the Board of Directors and ShareholdersAPOLLO SHOES, INC.

We have audited the accompanying balance sheets of APOLLO SHOES, INC. as of December 31, 2008 and 2007, and the related statements of income, comprehensive income, shareholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2008. These financial statements are the responsibility of APOLLO SHOES, INC.'s management. Our responsibility is to express an opinion on these financial statements based on our audits.

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 that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of APOLLO SHOES, INC. as of December 31, 2008 and 2007, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 2008, in conformity with accounting principles generally accepted in the United States of America.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), APOLLO SHOES, INC.’S internal control over financial reporting as of December 31, 2008, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated January 29, 2009 expressed an unqualified opinion thereon.

Smith & Smith, CPAs

January 29, 2009

Report Title

Report Address

Introductory Paragraph

Scope Paragraph

Opinion Paragraph

SignatureReport Date

Internal Control Paragraph

12-7

Reporting Options

• Separate reports on F/S and I/C – Each of the reports would reference other report

• Combined report on F/S and I/C

12-8

Reasons to Issue an Other than Standard Report• Departure from GAAP

– Qualified or adverse opinion, depending upon materiality and pervasiveness.

• Unable to conduct the audit in accordance with GAAS (PCAOB Standards)

– Scope limitation: Qualified or disclaimer of opinion, depending upon materiality and pervasiveness

• Auditors wish to bring matters to readers’ attention (unqualified with additional explanation)

– Consistency– Going-concern uncertainty– Rule 203 departures from GAAP– Division of responsibility– Emphasis of a matter

12-9

GAAP Departures12-10

Qualified (“Except for ...”) Opinion

• Issued when departure is material, yet not pervasive

• Report Modifications: – Introductory and scope paragraphs remain the same

– Add explanatory paragraph preceding the opinion paragraph explaining departure and detailing $ amounts involved

– Modify opinion paragraph (“In our opinion, except for the matter discussed in the preceding paragraph,….”)

12-11

Adverse Opinion

• Issued when statements are “so lacking in fairness” that a qualified opinion would be misleading (i.e., a serious, pervasive departure from GAAP).

• Report Modifications: – Introductory and scope paragraphs remain the same– Add explanatory paragraph preceding the opinion

paragraph explaining the departure and detailing $ amounts involved

– Change opinion paragraph (“financial statements do not present fairly”)

12-12

GAAS Departures12-13

Scope Limitation: Qualified (“Except for ...”) Opinion

• Issued when scope limitations are material, but not pervasive

• Report Modifications: – Introductory paragraph remains the same– Scope paragraph: “Except as discussed in the following

paragraph [the scope limitation], we conducted our audit…”– Add explanatory paragraph preceding the opinion paragraph

describing the scope limitation– Modify opinion paragraph (“In our opinion, except for”)

• Key is the inability of auditors to identify potential misstatements because of the scope limitation, not the limitation itself

12-14

Scope Limitation: Disclaimer of Opinion

• Pervasive scope limitation, usually client-imposed – Significance of the limitation is such that auditors cannot gather

sufficient appropriate evidence to form an opinion

• Report Modifications: – Introductory paragraph: (“We were engaged to audit ….”; omit

auditors’ responsibility)– Omit scope paragraph– Add explanatory paragraph describing scope limitation – Change opinion paragraph (“…we do not express an opinion….”)

• May still issue opinion on internal control if no scope limitation on that examination

12-15

Lack of Independence

• Scenario: Auditors begin engagement but independence subsequently compromised

• Report– Single paragraph – Indicates auditors are not independent– Does not indicate why independence lacking

12-16

Unqualified Opinion with Explanatory Language

• Consistency

• Going-Concern Uncertainties

• Rule 203: Justified Departures from GAAP

• Division of Responsibility

• Emphasis of a matter

12-17

Consistency

• Relates to the changes in:– Accounting principles (GAAP to GAAP)– Form of reporting entity– Accounting principles (non-GAAP to GAAP)– Accounting principle inseparable from changes in estimates– Presentation and definitions in Statement of Cash Flows

• Add explanatory paragraph following the opinion paragraph

• May issue a qualified opinion (GAAP departure) if:– Change is not justified– Change is not accounted for in conformity with GAAP

12-18

Going-Concern Uncertainties

• Auditors are responsible to evaluate whether substantial doubt exists about ability of entity to continue in existence for one year beyond date of F/S

• Options– Add explanatory paragraph following opinion

paragraph (still unqualified opinion)– If serious uncertainty, may issue disclaimer of opinion– Modified language must include the words substantial

doubt and going concern

12-19

Rule 203 Report

• Rule 203 allows for unqualified opinions on F/S that are not in conformity with GAAP if GAAP would be misleading

• Add explanatory paragraph either preceding or following the opinion paragraph

12-20

Division of Responsibility

12-21

Reference to Other Auditors

• Principal auditors should– Verify other auditors’ reputation and independence– Communicate and coordinate with other auditors

• Options– Take responsibility for work: Standard report– Name other auditors

• Present report of other auditors, only with their permission

– Refer to other auditors• Modify introductory, scope, and opinion paragraphs of report• Still express unqualified opinion

12-22

Emphasis of a matter

• Call user attention to important matters

• Add explanatory paragraph after opinion paragraph discussing the matter

12-23

Other Issues Affecting Auditors’ Report• Association with unaudited F/S

• Comparative F/S

• Information accompanying F/S– Condensed F/S– “Other information”– Quarterly and supplemental information

12-24

Association with Unaudited F/S

• Auditors permit use of name in communication• Issue disclaimer of opinion (one paragraph)

– Do not mention auditing procedures performed

– Must identify any known departures from GAAP in the report

– Should cover all unaudited prior-years’ financial statements

12-25

Comparative F/S

• Continuing Auditors– Update opinion by considering if previously-issued

opinions still appropriate– If previously-issued opinions not appropriate, revise

opinion in current report

• Predecessor auditors– With permission, successors may present reissued report

on prior-years’ F/S along with their report on current F/S– If predecessors’ report not presented, successors’ report

must reference predecessors’ report and opinion on prior-years’ F/S

12-26

Information Accompanying F/S

• Types– Condensed F/S– “Other information” presented by management– Quarterly and Supplemental

• Determine whether information is inconsistent with F/S, misstated, or omitted

• Reporting– Issues with information do not affect opinion on F/S– Expand auditors’ report to discuss issues

12-27

Reporting Summary

12-28