Lectures 3 and 4

3 - 1©2006 Prentice Hall Business Publishing, Auditing 11/e, Arens/Beasley/Elder 3 - 1©2006 Prentice Hall Business Publishing, Auditing 11/e, Arens/Beasley/Elder

Audit Reports

Lectures: Three and Four

Chapter 3

3 - 2©2006 Prentice Hall Business Publishing, Auditing 11/e, Arens/Beasley/Elder

Learning Objectives of lecture 31- What are the different types of audit reports?

2- What are the conditions required to issue Standard Unqualified Audit Report?

3- What are the parts of the Standard Unqualified Audit Report?


Audit report

The final stage in the auditing process is preparing the Audit Report, which is the communication of the auditor’s findings to users.

• Note:• Our concern is about the audit report based on the

audit of historical financial statements prepared in accordance with GAAP.


Types of Audit Reports

1- Unqualified Audit Report:

A- Standard unqualified audit report.

B- Unqualified audit report with explanatory paragraph or with modified wording.

2- Qualified Audit report.

3- Adverse Audit report.

4- Disclaimer Audit report.


A- Standard unqualified audit reportStandard unqualified audit report is the most common

type of audit report and is used when the following 5 conditions have been met (see next slides):


Conditions for StandardUnqualified Audit Report

1. All statements – balance sheet, income statements,

statement of retained earnings, and statement of

cash flows, are included in the financial statements.

2. The three general standards have been

followed in all respects on the engagement.


Conditions for StandardUnqualified Audit Report. Cont’d

3. Sufficient evidence has been accumulated

to conclude that the three standards of

field work have been met.


Summary ofGeneral Standards

Generally Accepted Auditing Standards

General

1. Adequate trainingand proficiency

2. Independence inmental attitude

3. Due professionalcare

Field Work

1. Proper planningand supervision

2. Internal controlunderstanding

3. Sufficientcompetentevidence

Reporting

1. Statements prepared inaccordance with GAAP

2. Circumstances whenGAAP not followed

3. Adequacy of disclosures4. Expression of opinion

on financial statements


Conditions for StandardUnqualified Audit Report. Cont’d

4. The financial statements are presented in

accordance with generally accepted

accounting principles (GAAP).

5. There are no circumstances requiring the

addition of an explanatory paragraph or

modification of the wording of the report.


Parts of the StandardUnqualified Audit Report. Cont’d

1. Report title

2. Audit report address

3. Introductory paragraph

4. Scope paragraph

5. Opinion paragraph

6. Name of CPA firm

7. Audit report date


Parts of the Standard Unqualified Audit Report

1- Report title: Auditing standards require that that the report be titled and the title include the word “Independent” to convey to users that the audit was unbiased in all aspects. For example, “Independent auditor’s report”

2- Audit report address: It has become customary to address the report to the Board of Directors and Stockholders to indicate that the auditor is independent of the company.


Parts of the Standard Unqualified Audit Report.Cont’d

3. Introductory paragraph:

• This paragraph does three things:1- It makes the simple statement that the CPA firm has done an audit

in order to distinguish the report from a compilation or review report.

2- It lists the financial statements that were audited including the Balance Sheet dates and the Accounting Periods for the Income Statement and Statement of Cash Flows.

3- The Introductory Paragraph states that the statements are the responsibility of management and that the auditor’s responsibility is to express an opinion on the statements based on the audit.


Parts of the Standard Unqualified Audit Report. Cont’d

4. Scope paragraph: This paragraph is a factual statement about what the auditor did in the audit.

1- This paragraph states that the auditor followed GAAS.

2- It also states that the audit is designed to obtain reasonable assurance about whether the statements are free of material misstatements (to indicate that auditors are just responsible to search for significant misstatements, not minor ones that do not affect users’ decisions).

The words “reasonable assurance” mean that an audit provides a high level of assurance but it is not a guarantee.


3- It discusses the audit evidence accumulated and states that the auditor believes that the evidence accumulated was appropriate to express the opinion presented.

4- It includes the auditor’s responsibility for evaluating the appropriateness of the accounting principles, estimates, and financial statements disclosures.

• The word “test basis” indicates that sampling was used rather than an audit of every transaction and amount on the statements.



5. Opinion paragraph: The final paragraph states the auditor’s conclusion based on the results of the audit, using the words “in our opinion” to indicate that there may be some information risk associated with the financial statements, even though the statements have been audited

It includes the opinion of the auditor about the financial statements taken as whole, including a conclusion about whether the company followed the GAAP.

It includes the words “presented fairly” which mean that the statements are not only in accordance with GAAP, but also that necessary examination of the substance of transactions and balances for possible misinformation



6. Name of CPA firm:

The name indentifies the CPA firm or practitioner that performed the audit

7. Audit report date: The appropriate date for the report is the one on which the auditor completed the auditing procedures in the field. This date is important to users because it indicates the last day of the auditor’s responsibility for the review of significant events that occurred after the date of the financial statements. For example, balance sheet is dated December 31, 2009, and the audit report is dated February 15, 2010. This indicates that the auditor has searched for material unrecorded transactions and events that occurred up to February 15, 2010.


Summary: Parts of the Standard Unqualified Audit Report:

1. Report Title: Independent Auditor Report.

2. Report Address: To the stockholders of the corporation.

3. Introductory Paragraph:

a) The CPA has done an audit.

b) Name of the company being audited. (Auditee)

c) Listing of the financial statements that have been audited.

d) Preparing the financial statements is the management’s responsibility.

e) The job of the auditor is to express an opinion on the statements based on the audit.


4. Scope Paragraph:a) Audit is conducted in accordance with GAAS.

b) Purpose of the audit: the audit is designed to obtain reasonable assurance that the financial statements are free of material misstatements.

c) The type of the audit evidence that have been accumulated.

d) The auditor’s responsibility for evaluating the appropriateness of the accounting principles, estimates, and financial statements disclosures.

5. Opinion Paragraph:a) A statement of "In Our Opinion………………"

b) A statement about whether the financial statements were fairly presented, and in accordance with GAAP.

6. Name and Signature of the CPA firm

7. Date of the Audit report: Date of ending the audit.



Exercises: True/ False1- Professional standards require that a report be issued

whenever a CPA firm is associated with financial statements.

a. True

b. False

Answer: A

2- The phrase “auditing standards generally accepted in the United States of America” can be found in the opinion paragraph of a standard, unqualified audit report for a public company.

a. True

b. False

Answer: B


3- The audit report is normally addressed to the company’s president or chief executive officer.

a. True

b. False

Answer: B

4- The phrase “generally accepted accounting principles” can be found in the opinion paragraph of a standard unqualified report.

a. True

b. False

Answer: A


Exercises: MCQ1- To emphasize the fact that the auditor is independent, the addressee of the

audit report is usually

a. the company’s management.

b. the stockholders of the client company.

c. the board of directors of the client company.

d. either b or c.

2- The purpose of the introductory paragraph in the standard unqualified report is

a. to distinguish the audit report from a compilation or review report.

b. to identify the financial statements which were audited and the dates and time periods covered by the report.

c. to communicate the responsibilities of management in preparing the financial statements and to clarify the respective roles of management and the auditor.

d. all of the above.


3- Which of the following is not an essential condition for issuing the standard unqualified audit opinion?

a. All statements are included in the financial statements.

b. The financial statements are stated in accordance with an acceptable method of accounting.

c. The generally accepted auditing standards have been followed in all respects.

d. Sufficient evidence has been accumulated.

4- The audit report date indicates

• a. the last day of the auditor’s responsibility for the review of significant events that occurred after the date of the financial statements.

• b. the date on which the financial statements were filed with the Securities and Exchange Commission.

• c. the last date on which users may institute a lawsuit against either client or auditor.

• d. the last day of the fiscal period.


5- Whenever an auditor issues an unqualified opinion, the implication is that the auditor

a. does not know if the statements are presented fairly in accordance with GAAP.

b. does not believe the statements are presented fairly in accordance with GAAP.

c. is satisfied that the statements are presented fairly in accordance with GAAP except for a specific aspect of them.

d. is satisfied that the statements are presented fairly in accordance with GAAP.-

6- The introductory paragraph of the standard audit report states that the financial statements and the opinion expressed about those statements are

a. the responsibility of the auditor.

b. the responsibility of management.

c. the joint responsibility of management and the auditor.

d. none of the above..


Essay Question:

1- what are the purposes of the scope paragraph in the auditor’s report?

Identify the most important information included in the scope paragraph


Answer:

The purposes of the scope paragraph in the auditor's report are to inform the financial statement users that the audit was conducted in accordance with generally accepted auditing standards (GAAS), in general terms what those standards mean, and whether the audit provides a reasonable basis for an opinion.

The information in the scope paragraph includes:

1- The auditor followed generally accepted auditing standards (GAAS).

2- The audit is designed to obtain reasonable assurance about whether the statements are free of material misstatement.

3- Discussion of the audit evidence accumulated.

4- Statement that the auditor believes the evidence accumulated was appropriate for the circumstances to express the opinion presented.

Lectures 3 and 4

Documents

obtain reasonable

standard unqualified

unqualified

financial

audit evidence

audit report

sufficient

material misstatements