Question

Refer to textbook chapter 15, section titled Requirements for a Standard Unqualified Audit Report on the Financial Statements for U.S. Public Companies and specifically to Panel A of Exhibit 15.1. Certain words and phrases in an unqualified audit report imply that there is a risk that the audited financial statements may contain a material misstatement.

Select the item or items that appear in Panel A, Exhibit 1 that imply that, in spite of the fact that the financial statements are audited, there could be risk of material misstatement. Check all that apply.

a. in the scope paragraph “assessing the accounting principles used and significant estimates made by management”

b. in the scope paragraph "obtain reasonable assurance about whether the financial statements are free of material misstatements"

c. in the opinion paragraph “present fairly, in all material respects”

d. in the scope paragraph “…examining, on a test basis, evidence…”

e. in the opinion paragraph “in our opinion....”

Answer 1

a)“assessing the accounting principles used and significant estimates made by management”

Measuring accounting estimates involves some level of uncertainty. As a result, accounting estimates, such as allowances for doubtful accounts, impairments of long-lived assets, and valuations of financial and non-financial assets, require extra attention from auditors

Examples of specialists used to prepare accounting estimates include:

• Actuaries to determine employee benefit obligations
• Engineers to determine obligations regarding environmental remediation
• Appraisers to determine the value of intangible assets or real estate
• Geologists to estimate mineral deposits or oil reserves for mining & energy companies
• Lawyers to forecast the potential losses from a legal proceeding

Auditors often help direct these specialists to minimize the risk of misstatement, especially when specialists are not subject to the audit firm’s training, resources, and quality control systems.

b. in the scope paragraph "obtain reasonable assurance about whether the financial statements are free of material misstatements"

“The auditor’s objectives are to obtain reasonable assurance about whether the financial statements as a whole are free from material misstatement.” The statement goes on to set out key areas of oversight including identifying and assessing the risk of material misstatement, obtaining an understanding of internal controls and evaluating whether the presentation, structure and content of financial statements gives a true and fair view.The auditor should perform risk assessment procedures that are sufficient to provide a reasonable basis for identifying and assessing the risks of material misstatement, whether due to error or fraud,³and designing further audit procedures.Risks of material misstatement can arise from a variety of sources, including external factors, such as conditions in the company's industry and environment, and company-specific factors, such as the nature of the company, its activities, and internal control over financial reporting

c. in the opinion paragraph “present fairly, in all material respects”

An independent auditor's report contains an opinion as to whether the financial statements present fairly, in all material respects, an entity’s financial position, results of operations, and cash flows in conformity with generally accepted accounting principles.The independent auditor's judgment concerning the "fairness" of the overall presentation of financial statements should be applied within the framework of generally accepted accounting principles.he auditor's opinion that financial statements present fairly an entity's financial position, results of operations, and cash flows in conformity with generally accepted accounting principles should be based on his or her judgment.

Generally accepted accounting principles recognize the importance of reporting transactions and events in accordance with their substance. The auditor should consider whether the substance of transactions or events differs materially from their form.The auditor should be aware that the accounting requirements adopted by regulatory agencies for reports filed with them may differ from generally accepted accounting principles in certain respects.

d. in the scope paragraph “…examining, on a test basis, evidence…”

Audit evidence is all the information, whether obtained from audit procedures or other sources, that is used by the auditor in arriving at the conclusions on which the auditor's opinion is based. Audit evidence consists of both information that supports and corroborates management's assertions regarding the financial statements or internal control over financial reporting and information that contradicts such assertions.The objective of the auditor is to plan and perform the audit to obtain appropriate audit evidence that is sufficient to support the opinion expressed in the auditor's report

  Sufficiency is the measure of the quantity of audit evidence. The quantity of audit evidence needed is affected by the following:

• Risk of material misstatement (in the audit of financial statements) or the risk associated with the control (in the audit of internal control over financial reporting). As the risk increases, the amount of evidence that the auditor should obtain also increases.
• Quality of the audit evidence obtained. As the quality of the evidence increases, the need for additional corroborating evidence decreases.

Appropriateness is the measure of the quality of audit evidence, i.e., its relevance and reliability.

e. in the opinion paragraph “in our opinion....”

In our opinion,the risk of material misstatement on a financial statement level is the risk that certain risks could affect financial statements as a whole .The auditor must develop audit objectives for each individual assertion and perform audit procedures to accumulate the required audit evidence to achieve the audit objective.An auditor attempts to better understand the client and its business environment, including the client’s internal controls.

To maintaining the risk of material misstatement, the following points will be considered

• The risk of material misstatement is a function of the following parameters – inherent risk and control risk.
• Risk can be materially misstated on a financial statement level and an assertion level.
• An auditor completes risk assessment procedures to improve their understanding of the business and its internal controls, assist in identifying the risk of material misstatement, and because it helps develop an audit strategy and audit plan.