©2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 3 - 1

Audit Reports

Chapter 3

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Learning Objective 1

Describe the parts of

the standard unqualified

audit report.

Describe the parts of

the standard unqualified

audit report.

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Parts of the StandardUnqualified Audit Report

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

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Learning Objective 2

Specify the conditions

required to issue the

standard unqualified

audit report.

Specify the conditions

required to issue the

standard unqualified

audit report.

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Conditions for StandardUnqualified Audit Report

1. All financial statements are included.

2. The three general standards have beenfollowed in all respects on the engagement.

3. Sufficient evidence has been accumulatedto conclude that the three standards offield work have been met.

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Conditions for StandardUnqualified Audit Report

4. The financial statements are presented inaccordance with generally acceptedaccounting principles.

5. There are no circumstances requiring theaddition of an explanatory paragraph ormodification of the wording of the report.

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Four Categoriesof Audit Reports

Standard unqualified

Unqualified withexplanatory paragraphor modified wording

Qualified

Adverse or disclaimer

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Learning Objective 3

Describe the five circumstances

when an unqualified report with

an explanatory paragraph

or modified wording is

appropriate.

Describe the five circumstances

when an unqualified report with

an explanatory paragraph

or modified wording is

appropriate.

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Unqualified Reportwith Explanation

1. Lack of consistent application of generallyaccepted accounting principles.

2. Substantial doubt about going concern.

3. Auditor agrees with a departure from promulgated accounting principles.

4. Emphasis of a matter.

5. Reports involving other auditors.

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Consistency versusComparability

Changes that affect consistency and requirean explanatory paragraph if they are material:

1. Changes in accounting principles

2. Changes in reporting entities

3. Corrections of errors involving principles

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Consistency versusComparability

Changes that affect comparabilitybut not consistency:

1. Changes in an estimate

2. Error corrections not involving principles

3. Variations in format and presentation of financial information

4. Changes because of substantially different transactions or events

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Substantial Doubtabout Going Concern

1. Significant recurring operating losses or working capital deficiencies

2. Inability of the company to pay its obligations as they come due

3. Loss of major customers, the occurrence of uninsured catastrophes

4. Legal proceedings, legislation, that might jeopardize the entity’s ability to operate

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Auditor Agrees with a Departure

from a Promulgated Principle

The auditor must be satisfied and must stateand explain, in a separate paragraph or

paragraphs in the audit report, that adheringto the principle would have produced a

misleading result in that situation.

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Emphasis on a Matter

Under certain circumstances, the CPA maywant to emphasize specific matters regarding

the financial statements, even though theCPA intends to express an unqualified opinion.

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Reports InvolvingOther Auditors

1. Make no reference in the audit report.

3. Qualify the opinion.

2. Make reference in the report(modified wording report).

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Learning Objective 4

Identify the types of audit

reports that can be issued

when an unqualified

opinion is not justified.

Identify the types of audit

reports that can be issued

when an unqualified

opinion is not justified.

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Departures from anUnqualified Opinion

1. Scope limitation

2. GAAP departure

3. Auditor not independent

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Qualified Opinion

A qualified opinion report canresult from a limitation on thescope of the audit or failure to

follow generally acceptedaccounting principles.

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Adverse Opinion

It is used only when the auditor believesthat the overall financial statements are

so materially misstated or misleading thatthey do not present fairly the financial

position or results of operations and cashflows in conformity with GAAP..

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Disclaimer of Opinion

It is issued when the auditor is unableto be satisfied that the overall financial

statements are fairly presented.

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Learning Objective 5

Explain how materiality affects

audit reporting decisions.

Explain how materiality affects

audit reporting decisions.

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Materiality

A misstatement in the financial statementscan be considered material if knowledge ofthe misstatement would affect a decision

of a reasonable user of the statements.

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Levels of Materiality

Amounts are immaterial.

Amounts are material but donot overshadow the financial

statements as a whole.

Amounts are so material or sopervasive that overall fairness

of the statements is in question.

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Relationship of Materialityto Type of Opinion

MaterialityLevel

Significance in Terms ofReasonable Users’ Decisions

Type ofOpinion

Users’ decisions are unlikelyto be affected.

Users’ decisions are likelyto be affected.

Users’ decisions are likelyto be significantly affected.

Immaterial

Material

HighlyMaterial

Unqualified

Qualified

Disclaimeror Adverse

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Materiality Decisions

Failure tofollow GAAP

Audit report

UnqualifiedQualified

opinion onlyAdverse

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Materiality Decisions

Scopelimitation

Audit report

UnqualifiedQualified scope

and opinionDisclaimer

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Materiality Decisions

Dollar amount compared with a base

Measurability

Nature of the item

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Learning Objective 6

Draft appropriately modified

audit reports under a variety

of circumstances.

Draft appropriately modified

audit reports under a variety

of circumstances.

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Discussion of ConditionsRequiring Departure

Auditor’s scope has been restricted.

Statements are not in conformity with GAAP.

Auditor is not independent.

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Scope Restricted byClient or Conditions

Immaterial Material

Level of Materiality

ExtremelyMaterial

Unqualifiedreport

Qualified scope, additionalparagraph, and qualified

opinion (except for)

Disclaimerof opinion

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Statements Not Prepared inAccordance With GAAP

Immaterial Material

Level of Materiality

ExtremelyMaterial

Unqualifiedreport

Additional paragraphand qualified opinion

(except for)

Adverseopinion

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The Auditor Is NotIndependent

Immaterial Material

Level of Materiality

ExtremelyMaterial

Disclaimer of opinion(regardless of materiality)

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Learning Objective 7

Determine the appropriate

audit report for a given

audit situation.

Determine the appropriate

audit report for a given

audit situation.

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Auditor’s Decision Process

Determine whether any condition existsrequiring a departure from a standard

unqualified report.

Decide the materiality for each condition.

Decide the appropriate type of report.

Write the audit report.

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Number of Paragraphsin the Report

Standard 3Unqualified with explanatory paragraph 4Unqualified shared report with other auditors 3Qualified – opinion only 4Qualified – scope and opinion 4Disclaimer – scope limitation 3Adverse 4

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Learning Objective 8

Discuss the impact

of e-commerce on

audit reporting.

Discuss the impact

of e-commerce on

audit reporting.

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Impact of E-Commerceon Audit Reporting

Auditors are not required to read informationcontained in electronic sites.

Most companies provide access to financialinformation through their home Web page.

Auditing standards note that electronic sitesare not considered “documents.”

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End of Chapter 3