Chapter 17 Completing the Audit Engagement True / False Questions
1. Every contingent liability must be recorded. True False
2. An example o a contingent liability is an income tax dispute. True False
!. "eading contracts and loan agreements is one #ay to identiy unrecorded contingent liabilities. True False
$. A legal letter #ill include and evaluate all contingent liabilities o the company. True False
%. Type && subse'uent events are conditions that re'uire an ad(ustment to the account balance sho#n on the inancial statements. True False
). An example o a Type & event or condition is the settlement o a la#suit ater the balance sheet date or an amount dierent d ierent rom the amount recorded in the year-end inancial statements. True False
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Chapter 17 - Completing the Audit Engagement
7. An example o a Type && event or condition is an uncollectible account receivable resulting rom continued deterioration o a customer*s inancial condition leading to ban+ruptcy ater the balance sheet date. True False
,. ual dating is used to identiy unrecorded contingent liabilities. True False
. The auditor must perorm inal analytical procedures beore deciding on the appropriate audit report to issue or the entity. True False
1/. & there is substantial doubt about the entity*s ability to continue as a going concern0 con cern0 the auditor should obtain inormation about management*s plans to mitigate the problem and assess the li+elihood that such plans can be implemented. True False
Multiple Choice Questions
11. hen auditing contingent liabilities0 #hich o the ollo#ing procedures #ould be least eective A. "eading the minutes o the board o directors 3. "evie#ing the ban+ conirmation co nirmation letter C. Examining customer conirmation replies . Examining invoices or proessional services
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Chapter 17 - Completing the Audit Engagement
12. hen obtaining evidence regarding litigation against a client0 the C4A #ould be least interested in determining A. An estimate o #hen the matter #ill be resolved 3. The period in #hich the underlying cause o the litigation occurred C. The probability o an unavorable u navorable outcome . An estimate o the potential loss
1!. The auditor*s primary means o obtaining corroboration o management*s inormation concerning litigation is a A. 5etter o audit in'uiry to the client*s la#yer 3. 5etter o corroboration rom the auditor*s la#yer upon revie# o the legal documentation C. Conirmation o claims and assessments rom the other parties to the litigation . Conirmation o claims and assessments rom an oicer o the court presiding over the litigation
1$. An auditor should obtain evidential matter relevant to all the ollo#ing actors concerning third-party litigation against a client except the A. 4eriod in #hich the underlying und erlying cause or legal action occurred 3. 4robability o an unavorable outcome C. 6urisdiction in #hich the matter #ill be resolved . Existence o a situation indicating an uncertainty as to the possible loss
1%. An auditor #ill ordinarily examine invoices rom la#yers primarily in order to A. ubstantiate accruals 3. Assess the legal ramiications o litigation in progress C. Estimate the dollar amount o contingent liabilities . &dentiy possible unasserted litigation0 claims0 and assessments
1). & a la#yer reuses to urnish corroborating inormation regarding litigation0 claims0 and assessments0 the auditor should A. 8onor the conidentiality o the client-la#yer relationship 3. Consider the reusal to be a scope limitation C. ee+ to obtain the corroborating inormation rom management . isclose this act in a ootnote to the inancial statements
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Chapter 17 - Completing the Audit Engagement
17. The reusal o a client*s attorney to provide a representation on the legality o a particular act committed by the client is generally A. uicient reason to issue a 9sub(ect to9 'ualiied opinion 3. Considered to be a scope limitation C. &nsuicient reason to modiy the auditor*s report because o the attorney*s obligation o conidentiality . 4roper grounds to #ithdra# rom the engage ment #ithout urther consideration
1,. hich o the ollo#ing material events occurring subse'uent to the balance sheet date #ould re'uire an ad(ustment to the inancial statements beore they could be issued A. ale o long-term debt or capital stoc+ 3. 5oss o a plant as a result o a lood C. :a(or purchase o a business that is expected to double sales volume . ettlement o litigation0 in excess o the previously recorded liability
1. hich o the ollo#ing situations #ould re'uire ad(ustment to o r disclosure in the inancial statements A. A merger discussion 3. The application or a patent on a ne# production process C. iscussions #ith a customer that could lead to a $/ percent increase in the client*s sales i agreement is successul . The ban+ruptcy o a customer #ho regularly purchased !/ percent o the company*s output
2/. An example o a Type 1 subse'uent event is A. A tornado that destroys a client*s actory ater the balance sheet date 3. An event ater the balance sheet date that conirms the auditor*s belie ;documented prior to the end o the client*s iscal year< that a large portion o the client*s inventory is obsolete C. =otiication o an &" audit ater the balance sheet date . The client*s 3oard o irectors unexpectedly resigns ater the balance sheet date
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Chapter 17 - Completing the Audit Engagement
21. An auditor issued an audit report that #as dual dated or a subse'uent event that occurred ater the completion o ield #or+ but beore issuance o the auditor*s report. The auditor*s responsibility or events occurring subse'uent to the completion o ield #or+ #as A. 5imited to the speciic event reerenced 3. 5imited to include only events occurring beore the date o the last subse'uent event reerenced C. Extended to subse'uent events occurring through the date o issuance o the report . Extended to include all events occurring since the completion o ield #or+
22. hich o the ollo#ing procedures should an auditor generally perorm regarding subse'uent events A. Compare the latest available interim inancial statements issued ater year-end #ith the inancial statements being audited 3. end second re'uests to the client*s customers #ho ailed to respond to initial accounts receivable conirmation re'uests C. Communicate material #ea+nesses in internal controls to those charged #ith governance . "evie# the cuto ban+ statements or several months ater year-end
2!. The purpose o analytical procedures at the completion o the audit includes all o the ollo#ing except A. "evising the audit plan 3. Considering overall reasonableness o the inancial statements C. "evie#ing ade'uacy o evidence gathered to investigate unusual luctuations . "ecalculating some o the ratios examined during audit planning
2$. hich o the ollo#ing auditing procedures is ordinarily perormed last A. Conirming accounts payable 3. Testing the purchasing unction C. "eading the minutes o directors* meetings . >btaining a management representation letter
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Chapter 17 - Completing the Audit Engagement
2%. The date o the management representation letter should coincide #ith the A. ate o the latest subse'uent event reerred to in the notes to the inancial statements 3. 3alance sheet date C. ate o the auditor*s report . ate o the engagement agreement
2). hich o the ollo#ing items should an auditor communicate to those charged #ith governance in a publicly-held entity A. igniicant audit ad(ustments recorded by the en tity and management*s consultation #ith other accountants about signiicant accounting matters 3. igniicant audit ad(ustments recorded by the en tity but not management*s consultation #ith other accountants about signiicant accounting matters C. :anagement*s consultation #ith other accountants abou t signiicant accounting matters but not signiicant audit ad(ustments recorded by the entity . =either signiicant audit ad(ustments recorded by the entity nor management*s consultation #ith other accountants about signiicant accounting matters
27. The management letter is used A. To allo# management to corroborate oral representations to the auditor 3. To conirm the terms o the audit engagement C. To list all reportable conditions #ith respect to internal controls . To ma+e recommendations to the client based on observations made during the audit
2,. A(ax0 &nc. is an ailiate o the audit client and is audited by another audit irm. hich o the ollo#ing is most li+ely to be used by the auditor to obtain assurance that all guarantees by the client o the ailiate*s indebtedness have been detected A. end the standard ban+ conirmation re'uest to all the client*s lender ban+s 3. "evie# client minutes and obtain a representation letter C. Examine supporting documents or all entries in intercompany accounts . >btain #ritten conirmation o indebtedness rom the auditor o the ailiate
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Chapter 17 - Completing the Audit Engagement
2. ?enerally0 loss contingencies that are (udged to be remote@ A. hould be disclosed in the ootnotes 3. hould be recorded in the inancial statements C. hould not be disclosed in the ootnotes . hould be recorded in the inancial statements and the ootnotes
!/. hich o the ollo#ing procedures #ould an auditor most li+ely perorm to obtain evidence about an entity*s subse'uent events A. "econcile ban+ activity or the month ater the balance sheet date #ith cash activity relected in the accounting records 3. >btain a letter rom the entity*s attorney describing an y pending litigation0 unasserted claims0 or loss contingencies C. "evie# the treasurer*s monthly reports on temporary investments o#ned0 purchased0 and sold . Examine on a test basis the purchase invoices and receiving reports or several d ays ater the inventory date
!1. hich o the ollo#ing procedures #ould an auditor ordinarily perorm during the revie# o subse'uent events A. An analysis o related party transactions or the discovery o possible irregularities 3. A revie# o the cut-o ban+ statements or the period ater the year-end C. An in'uiry o the client*s legal counsel concerning litigation . An investigation o material #ea+nesses in internal control previously communicated to the client
!2. hich o the ollo#ing is not an audit procedure that the independent auditor #ould perorm #ith respect to litigation0 claims and assessments A. &n'uire o and discuss #ith management the policies and procedures adopted or identiying0 evaluating0 and accounting or litigation0 claims0 and assessments 3. >btain rom management a description and evaluation o litigation0 claims0 and assessments that existed at the balance sheet date C. >btain assurance rom management that it has disclosed all unasserted claims that the la#yer has advised are li+ely to be asserted and must be disclosed . Conirm directly #ith the client*s la#yer that all claims have be en recorded in the inancial statements
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Chapter 17 - Completing the Audit Engagement
!!. An attorney is responding to an independent auditor as a result o the audit client*s letter o in'uiry. The attorney may appropriately limit the response to A. Asserted claims and litigation 3. :atters to #hich the attorney has given substantive attention in the orm o legal consultation or representation C. Asserted0 overtly threatened0 or pending claims and litigation . &tems #hich have an extremely high probability o being resolved to the client*s detriment
!$. hich o the ollo#ing is generally re'uested in a legal letter A. A re'uest that the attorney comment on unasserted claims #here his or her vie#s dier rom management*s evaluation 3. A list o all attorneys that perormed any #or+ or the entity during the year C. A statement indicating that the attorney is responsible or the air presentation o unasserted claims in the entity*s inancial statements . A re'uest that the attorney provide a copy o all invoices given to the client during the year
!%. hich o the ollo#ing subse'uent events #ill be least li+ely to result in an ad(ustment to the inancial statements A. Culmination o events aecting the realiation o accounts receivable o#ned as o the balance sheet date 3. Culmination o events aecting the realiation o inventories o#ned as o the balance sheet date C. :aterial changes in the settlement o liabilities #hich #ere estimated as o the balance sheet date . :aterial changes in the 'uoted mar+et prices o listed investment securities since the balance sheet date
!). ubse'uent events or #hich the auditor has a responsibility to actively search are d eined as events #hich occur subse'uent to the A. 3alance sheet date 3. ate o the auditor*s report C. 3alance sheet date but prior to the date o the auditor*s report . ate o the auditor*s report and concern contingencies #hich are not relected in the inancial statements
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Chapter 17 - Completing the Audit Engagement
!7. An auditor is concerned #ith completing various phases o the examination ater the balance sheet date. This 9subse'uent period9 involving ormal auditor procedures extends to the date o the A. Auditor*s report 3. Final revie# o the audit #or+ing papers C. 4ublic issuance o the inancial statements . elivery o the auditor*s report to the client
!,. A ma(or customer o an audit client suers a ire ater year end0 but (ust prior to completion o audit ield #or+. The audit client believes that this event could have a signiicant direct eect on the inancial statements. The auditor should A. Advise management to disclose the event in notes to the inancial statements 3. isclose the event in the auditor*s report C. ithhold submission o the auditor*s report until the extent o the direct eect on the inancial statements is +no#n . Advise management to ad(ust the inancial statements
!. & an auditor dates the auditor*s report on inancial statements or the year ended ecember !10 2//0 as o February 1/0 2/1/0 except or =ote 60 as to #hich the date is :arch !0 2/1/0 the auditor is ac+no#ledging responsibility to actively search or and ensure proper handling by management o A. All subse'uent events occurring through :arch !0 2/1/ 3. All subse'uent events occurring through February 1/0 2/1/ C. All subse'uent events occurring through February 1/0 2/1/ and the speciic subse'uent event reerred to in =ote 6 through :arch !0 2/1/ . >nly the speciic subse'uent event reerred to in =ote 6 as o :arch !0 2/1/
$/. 8arvey0 C4A is preparing an audit program or the purpose o ascertaining the occurrence o subse'uent events that may re'uire ad(ustment or disclosure essential to a air presentation o the inancial statements in conormity #ith generally accepted accounting principles. hich one o the ollo#ing procedures #ould be least appropriate or this purpose A. Conirm0 as o the completion o ield #or+0 accounts receivable that have increased signiicantly rom the year-end date 3. "ead the minutes o the board o directors C. &n'uire o management concerning events that may have occurred . >btain a la#yer*s letter as o the completion o ield #or+
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Chapter 17 - Completing the Audit Engagement
$1. A Type && subse'uent event usually re'uires@ A. An ad(ustment to the inancial statements and the ootnotes 3. An ad(ustment to the inancial statements but no special disclosure is re'uired C. isclosure in the ootnotes . =either an ad(ustment to the inancial statements nor d isclosure in the ootnotes
$2. Ater ield #or+ audit procedures are completed0 a partner o the C4A irm #ho has not been involved in the audit perorms a second or #rap-up revie# o the #or+ing papers. This second revie# usually ocuses on A. The audit report0 inancial statements0 and ootnotes or consistency 3. &rregularities involving the client*s management and its employees C. The materiality o the ad(usting entries proposed by the audit sta . The communication o internal control #ea+n esses to those charged #ith governance
$!. &n the course o the examination o inancial statements or the purpose o expressing an opinion0 the auditor normally prepares a schedule o unad(usted dierences or #hich the auditor did not propose ad(ustments #hen they #ere discovered. hat is the primary purpose o this schedule A. To point out to the responsible client oicials the errors made by various company personnel 3. To summarie the ad(ustments that must be made beore the company can prepare and submit its ederal tax return C. To identiy the potential inancial statement eects o errors or disputed items that #ere considered immaterial #hen discovered . To summarie the errors made by the company so that corrections can be made ater the audited inancial statements are released
$$. hich o the ollo#ing ratios is least li+ely to assist the auditor in determining #hether the client is experiencing inancial diiculties A. =et #orthBtotal liabilities 3. CashBtotal assets C. Total liabilitiesBtotal assets . =et income beore taxesBnet sales
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Chapter 17 - Completing the Audit Engagement
$%. As part o an audit0 a C4A oten re'uests a representation letter rom the client. hich one o the ollo#ing is not a valid purpose o such a letter A. To provide audit evidence 3. To emphasie to the client their responsibility or the airness o the inancial statements C. To satisy himsel or hersel that a certain account balance is airly stated #hen certain customary auditing procedures are not perormed . To provide possible protection to the C4A against a charge o +no#ledge in cases #here raud is subse'uently discovered to have existed in the accounts
$). hich o the ollo#ing expressions is least li+ely to be included in a client*s representation letter A. =o events have occurred subse'uent to the balance sheet date that re'uire ad(ustment to or disclosure in0 the inancial statements 3. The company has complied #ith all aspects o contractual agreements that #ould have a material eect on the inancial statements in the event o noncompliance C. :anagement ac+no#ledges responsibility or illegal actions committed by its employees . :anagement has made available all inancial statements and related data
$7. 9There are no violations or possible violations o la#s or regulations #hose eects should be considered or disclosure in the inancial statements or as a basis or recording a loss contingency.9 The oregoing passage most li+ely is rom a;an< A. Client engagement letter 3. "eport on compliance #ith la#s and regulations C. :anagement representation letter . Attestation report on internal controls
$,. hich o the ollo#ing matters is an auditor re'uired to communicate to those charged #ith governance A. The basis or assessing control ris+ belo# the maximum 3. The process used by management in ormulating sensitive accounting estimates C. The auditor*s preliminary (udgments about materiality levels . The (ustiication or perorming substantive procedures at interim dates
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Chapter 17 - Completing the Audit Engagement
$. 9There have been no communications rom regulatory agencies concerning noncompliance #ith or deiciencies in0 inancial reporting p ractices that could have a material eect on the inancial statements.9 The oregoing passage is most li+ely rom a A. "eport on internal control 3. pecial report C. :anagement representation letter . 5etter or under#riters
%/. hen considering the use o management*s #ritten representations as audit evidence about the completeness assertion0 an auditor should understand that such representations A. Complement0 but do not replace0 substantive procedures designed to support the assertion 3. Constitute suicient evidence to support the assertion #hen considered in combination #ith reliance on internal controls C. Are not part o the evidential matter considered to support the assertion . "eplace reliance on internal controls as evidence to support the assertion
%1. A #ritten representation rom a client*s management that0 among other matters0 ac+no#ledges responsibility or the air presentation o inancial statements should normally be signed by the A. Chie executive oicer and the chie inancial oicer 3. Chie inancial oicer and the chairman o the board o directors C. Chairman o the audit committee o the board o directors . Chie executive oicer0 the chairman o the board o directors and the client*s la#yer
%2. Communications bet#een the auditor and those charged #ith governance should include all o the ollo#ing except A. A summary o speciic audit procedures used 3. igniicant audit ad(ustments C. Consultations #ith other accountants . :a(or issues discussed #ith management beore the auditor #as retained
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Chapter 17 - Completing the Audit Engagement
%!. hich o the ollo#ing events occurring ater the issuance o a client*s inancial statements and the auditor*s report most li+ely #ould cause the auditor to ma+e urther in'uiries about the previously issued inancial statements A. An uninsured natural disaster occurs that may aect the entity*s ability to continue as a going concern 3. A contingency is resolved that had been disclosed in the audited inancial statements C. =e# inormation is discovered concerning undisclosed lease transactions in the audited period . A subsidiary that accounts or 2% o the entity*s consolidated net income is sold
%$. >n February 2%0 a C4A issued an auditor*s report expressing an un'ualiied opinion on inancial statements or the year ended 6anuary !1. >n :arch 20 the C4A learned that0 on February 110 the entity incurred a material loss on an uncollectible trade receivable as a result o the ongoing deterioration o the inancial condition o the entity*s principal customer0 #hich inally led to the customer*s ban+ruptcy. :anag ement then reused to ad(ust the inancial statements or this subse'uent event. The C4A determined that the inormation is reliable and that there are creditors currently relying on the inancial statements. The C4A*s next course o action most li+ely #ould be to A. =otiy the entity*s creditors that the inancial statements and the related auditor*s report should no longer be relied upon 3. =otiy each member o the entity*s board o directors about management*s reusal to ad(ust the inancial statements C. &ssue revised inancial statements and distribute them to each creditor +n o#n to be relying on the inancial statements . &ssue a revised auditor*s report and distribute it to each creditor +no#n to be relying on the inancial statements
%%. Ater an audit report containing an un'ualiied opinion on a nonpublic client*s inancial statements is issued0 the auditor learns that the client has decided to sell the shares o a subsidiary that accounts or !/ percent o its revenu e and 2% percent o its net income. The auditor should A. etermine #hether the inormation is reliable and0 i it is determined to be reliable0 re'uest that revised inancial statements be issued 3. =otiy the entity that the auditor*s report may n o longer be associated #ith the inancial statements C. escribe the eects o this subse'uently discovered inormation in communications #ith persons +no#n to be relying on the inancial statements . Ta+e no action because the auditor has no obligation to ma+e any urther in'uiries
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Chapter 17 - Completing the Audit Engagement
%). An auditor*s client has violated a minor re'uirement o its bond indenture #hich could result in the trustee re'uiring immediate payment o the principal amount due. The client reuses to see+ a #aiver rom the bond trustee. "e'uest or immediate payment is not considered li+ely. Dnder these circumstances the auditor must A. "e'uire classiication o bonds payable as a current liability 3. Contact the bond trustee directly C. isclose the situation in the auditor*s report . >btain an opinion rom the company*s attorney as to the li+elihood o the trustee*s enorcement o the re'uirement
%7. Auditors oten re'uest that the audit client send a letter o in'uiry to those attorneys #ho have been consulted #ith respect to litigation0 claims0 or assessments. The primary reason or this re'uest is to provide the auditor #ith A. An estimate o the dollar amount o the probable loss 3. An expert opinion as to #hether a loss is possible0 probable0 or remote C. &normation concerning the progress o cases to d ate . Corroborative in'uiries made o the client by the auditor
%,. The primary reason an auditor re'uests letters o in'uiry be sent to a client*s attorneys is to provide the auditor #ith A. A description and evaluation o litigation0 claims0 and assessments that existed at the date o the balance sheet 3. An expert opinion as to #hether a loss is possible0 probable0 or remote C. The opportunity to examine the documentation concerning litigation0 claims0 and assessments . Corroboration o the inormation urnished by management concerning litigation0 claims0 and assessments
%. hich o the ollo#ing statements extracted rom a client*s la#yer*s letter concerning litigation0 claims0 and assessments most li+ely #ould cause the auditor to re'uest clariication A. 9& believe that the possible liability to the co mpany is nominal in amount.9 3. 9& believe that the action can be settled or less than the damages claimed.9 C. 9& believe that the plainti*s case against the company is #ithout merit.9 . 9& believe that the company #ill be able to deend this action successully.9
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Chapter 17 - Completing the Audit Engagement
)/. An auditor*s decision concerning #hether or not to 9dual date9 the audit report is based upon the auditor*s #illingness to A. Extend auditing procedures 3. Accept responsibility or all events bet#een year-end and the audit report date C. 4ermit inclusion o a ootnote captioned@ event ;unaudited< subse'uent to the date o the auditor*s report . Assume responsibility or events subse'uent to the issuance o the auditor*s report
)1. A Type & subse'uent event usually re'uires@ A. An ad(ustment to the inancial statements 3. =o ad(ustment to the inancial statements C. ithdra#al rom the engagement . =one o the above
)2. A disclosure o a contingent liability in the ootnotes is made rather than ad(usting the inancial statement accounts #hen@ A. The outcome o the event is (udged to be reasonably possible and the loss can be reasonably estimated. 3. The loss can be reasonably estimated0 but the outcome is un+no#n. C. The outcome o the event is (udged to be reasonably possible but the loss cannot be reasonably estimated. . The outcome is un+no#n and the loss is reasonably estimable but the client does not #ant to boo+ the loss.
)!. hich o the ollo#ing statements ordinarily is included among the #ritten client representations obtained by the auditor A. Compensating balances and other arrangements involving restrictions on cash balances have been disclosed 3. :anagement ac+no#ledges responsibility or illegal actions committed by employees C. uicient evidential matter has been made available to permit the issuance o an un'ualiied opinion . :anagement ac+no#ledges that there are no material #ea+nesses in the account balances
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Chapter 17 - Completing the Audit Engagement
)$. hich o the ollo#ing statements is correct about an auditor*s re'uired communication #ith management and those charged #ith governance A. Any matters communicated to those charged #ith governance are also re'uired to be communicated to the entity*s management 3. The auditor is re'uired to inorm those ch arged #ith governance about signiicant errors discovered by the auditor and subse'uently corrected by management C. The auditor does not have any re'uirement to communicate #ith anyone outside o management . ea+nesses in internal control previously reported to those ch arged #ith governance are re'uired to be communicated to those charged #ith governance ater each subse'uent audit until the #ea+nesses are corrected
)%. hich o the ollo#ing statements is correct concerning an auditor*s re'uired communication #ith those charged #ith governance A. This communication is re'uired to occur beore the auditor*s report on the inancial statements is issued 3. This communication should include management changes in the application o signiicant accounting policies C. Any signiicant matter communicated to those charged #ith governance also should be communicated to management . igniicant audit ad(ustments proposed by the auditor and recorded by management need not be communicated to those charged #ith governance
)). For #hich o the ollo#ing matters should an auditor obtain #ritten management representations A. :anagement*s cost-beneit (ustiications or not correcting internal control #ea+nesses 3. :anagement*s +no#ledge o uture plans that may aect the price o the entity*s stoc+ C. :anagement*s compliance #ith contractual agreements that may aect the inancial statements . :anagement*s ac+no#ledgment o its responsibility or employees* violations o la#s
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Chapter 17 - Completing the Audit Engagement
)7. ey Co. plans to present comparative inancial statements or the years ended ecember !10 2//, and 2//0 respectively. mith0 C4A0 audited ey*s inancial statements or both years and plans to report on the comparative inancial statements on :ay 10 2 /1/. ey*s current management team #as not present until 6anuary 10 2//. hat period o time should be covered by ey*s management representation letter A. 6anuary 10 2//, through ecember !10 2// 3. 6anuary 10 2//, through :ay 10 2/1/ C. 6anuary 10 2// through ecember !10 2// . 6anuary 10 2// through :ay 10 2/1/
),. Ater issuance o the auditor*s report0 the auditor has no obligation to ma+e any urther in'uiries #ith respect to audited inancial statements covered by an auditor*s report unless A. A la#suit in #hich ris+ o loss #as considered remote is resolved in the company*s avor 3. A development occurs #hich may aect the client*s ability to continue as a going concern C. A material raud is initiated by an employee ater the report is issued . Evidence o signiicant0 non-arms-length0 related party transactions that happened prior to year-end is discovered
). Ater an auditor has issued an audit report on a nonpublic entity0 there is no obligation to ma+e any urther audit tests or in'uiries #ith respect to the audited inancial statements covered by that report unless A. =e# inormation comes to the auditor*s attention concerning an event that occurred prior to the date o the auditor*s report that may have aected the auditor*s report 3. :aterial adverse events occur ater the date o the auditor*s report C. Final determination or resolution #as made on matters that had resulted in a 'ualiication in the auditor*s report . Final determination or resolution #as made o a contingency that had been disclosed in the inancial statements and no liability arose rom the resolution
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Chapter 17 - Completing the Audit Engagement
7/. Ater issuance o the auditor*s report0 the auditor has no obligation to ma+e any urther in'uiries #ith respect to audited inancial statements covered by that report unless A. A inal resolution o a contingency that had resulted in a 'ualiication o the auditor*s report is made 3. A development occurs that may aect the client*s ability to continue as a going concern C. An investigation o the auditor*s practice by a peer revie# committee ensues . =e# inormation is discovered concerning undisclosed related party transactions o the previously audited period
71. ho generally signs the legal letter A. The board o directors 3. The audit partner C. The CE> o the entity being audited . The entity*s attorneys
Short Answer Questions
72. A discrimination la#suit is pending or your client0 4retty 4eople &ncorporated. hat inormation about the la#suit #ould you as an auditor need to +no# to decide #hether to disclose the litigation in the inancial statements
7!. eine the term 9contingent liability9 and discuss the criteria used to classiy these events or conditions. 4rovide some example o contingent liabilities.
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Chapter 17 - Completing the Audit Engagement
7$. From the list belo#0 select the procedures that an auditor #ould use to test or contingent liabilities. a. &n'uire o EC oicials regarding reported violations by the client #hich create claims b. "ead the client*s contracts0 loan agreements0 leases0 and other documents c. "ead the client*s minutes o meetings o shareholders0 directors0 and committees d. "e'uest a representation letter rom all the client*s employees e. "ead the legal bries o all suits iled against the client*s competitors . "e'uest the client*s management to prepare a letter o in'uiry to the client*s attorney regarding pending litigation against the client
7%. hile auditing other business processes0 an auditor may identiy inormation about contingent liabilities. hat speciic audit procedures relating to other business processes could uncover these liabilities
7). hat inormation is typically re'uested in a legal letter to a client*s attorney
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Chapter 17 - Completing the Audit Engagement
77. hat is an unasserted claim and #hy #ould an attorney andBor client be reluctant to disclose an unasserted claim in the inancial statements
7,. hat is the dierence bet#een contingent liabilities and commitments
7. &dentiy the t#o primary types o subse'uent events that re'uire consideration by management and evaluation by the auditor and give t#o examples o each type.
,/. iscuss the steps used by an auditor to evaluate an entity*s ability to continue as a going concern.
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Chapter 17 - Completing the Audit Engagement
,1. iscuss the internal control communication re'uirements o the 4CA>3. hat must auditors o public companies report to those charged #ith governance
,2. tate the t#o primary purposes o the client letter o representation.
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Chapter 17 - Completing the Audit Engagement
,!. The ield #or+ or the ecember !10 2// audit o 4ump+in Corporation ended on :arch 1!0 2/1/. The inancial statements and auditor*s report #ere issued and mailed to stoc+holders on :arch 2!0 2/1/. &n each o the situations belo#0 select rom the list at the end o the problem the appropriate action to be ta+en by the auditor. Assume all situations are material. Situations: 1< >n April %0 2/1/0 you discovered that on February 1)0 2/1/0 a lood destroyed the entire uninsured inventory in one o 4ump+in*s #arehouses. 2< >n February 170 2/1/0 you discovered that on February 1)0 2/1/0 a lood destroyed the entire uninsured inventory in one o 4ump+in*s #arehouses. !< >n February 170 2/1/0 you discovered that on =ovember !/0 2//0 a lood destroyed the entire uninsured inventory in one o 4ump+in*s #arehouses. $< >n April %0 2/1/0 you discovered that on :arch !/0 2/1/0 a ire destroyed one o 4ump+in*s 1/ plants. %< >n April 70 2/1/0 you discovered that a debtor o 4ump+in #ent ban+rupt on 6anuary )0 2/1/. )< >n 6anuary 1)0 2/1/0 a la#suit #as iled against 4ump+in or a patent inringement action that allegedly too+ place in early 1. &n the opinion o 4ump+in*s attorneys0 there is a reasonable ;but not probable< danger o a signiicant loss to 4ump+in. 7< >n February 10 2/1/0 4ump+in settled a la#suit out o court that had originated in 1, and is currently listed as a contingent liability. Possile Actions: a. Ad(ust the ecember !10 2// inancial statements. b. isclose the inormation in a ootnote in the ecember !10 2// inancial statements c. "e'uest the client revise and reissue the ecember !10 2// inancial statements. The revision should involve an ad(ustment to the ecember !10 2// inancial statements. d. "e'uest the client revise and reissue the ecember !10 2// inancial statements. The revision should involve the addition o a ootnote0 but no ad(ustment0 to the ecember !10 2// inancial statements. e. =o action is re'uired.
17-22
Chapter 17 - Completing the Audit Engagement
Chapter 17 Completing the Audit Engagement Ans#er ey
True / False Questions
1. Every contingent liability must be recorded. FA!SE
). An example o a Type & event or condition is the settlement o a la#suit ater the balance sheet date or an amount dierent rom the amount recorded in the year-end inancial statements. T"#E
7. An example o a Type && event or condition is an uncollectible account receivable resulting rom continued deterioration o a customer*s inancial condition leading to ban+ruptcy ater the balance sheet date. FA!SE
1/. & there is substantial doubt about the entity*s ability to continue as a going concern0 the auditor should obtain inormation about management*s plans to mitigate the problem and assess the li+elihood that such plans can be implemented. T"#E
11. hen auditing contingent liabilities0 #hich o the ollo#ing procedures #ould be least eective A. "eading the minutes o the board o directors 3. "evie#ing the ban+ conirmation letter C$ Examining customer conirmation replies . Examining invoices or proessional services
12. hen obtaining evidence regarding litigation against a client0 the C4A #ould be least interested in determining A$ An estimate o #hen the matter #ill be resolved 3. The period in #hich the underlying cause o the litigation occurred C. The probability o an unavorable outcome . An estimate o the potential loss
1!. The auditor*s primary means o obtaining corroboration o management*s inormation concerning litigation is a A$ 5etter o audit in'uiry to the client*s la#yer 3. 5etter o corroboration rom the auditor*s la#yer upon revie# o the legal documentation C. Conirmation o claims and assessments rom the other parties to the litigation . Conirmation o claims and assessments rom an oicer o the court presiding over the litigation
1$. An auditor should obtain evidential matter relevant to all the ollo#ing actors concerning third-party litigation against a client except the A. 4eriod in #hich the underlying cause or legal action occurred 3. 4robability o an unavorable outcome C$ 6urisdiction in #hich the matter #ill be resolved . Existence o a situation indicating an uncertainty as to the possible loss
1%. An auditor #ill ordinarily examine invoices rom la#yers primarily in order to A. ubstantiate accruals 3. Assess the legal ramiications o litigation in progress C. Estimate the dollar amount o contingent liabilities %$ &dentiy possible unasserted litigation0 claims0 and assessments
1). & a la#yer reuses to urnish corroborating inormation regarding litigation0 claims0 and assessments0 the auditor should A. 8onor the conidentiality o the client-la#yer relationship &$ Consider the reusal to be a scope limitation C. ee+ to obtain the corroborating inormation rom management . isclose this act in a ootnote to the inancial statements
17. The reusal o a client*s attorney to provide a representation on the legality o a particular act committed by the client is generally A. uicient reason to issue a 9sub(ect to9 'ualiied opinion &$ Considered to be a scope limitation C. &nsuicient reason to modiy the auditor*s report because o the attorney*s obligation o conidentiality . 4roper grounds to #ithdra# rom the engage ment #ithout urther consideration
1,. hich o the ollo#ing material events occurring subse'uent to the balance sheet date #ould re'uire an ad(ustment to the inancial statements beore they could be issued A. ale o long-term debt or capital stoc+ 3. 5oss o a plant as a result o a lood C. :a(or purchase o a business that is expected to double sales volume %$ ettlement o litigation0 in excess o the previously recorded liability
1. hich o the ollo#ing situations #ould re'uire ad(ustment to o r disclosure in the inancial statements A. A merger discussion 3. The application or a patent on a ne# production process C. iscussions #ith a customer that could lead to a $/ percent increase in the client*s sales i agreement is successul %$ The ban+ruptcy o a customer #ho regularly purchased !/ percent o the company*s output
2/. An example o a Type 1 subse'uent event is A. A tornado that destroys a client*s actory ater the balance sheet date &$ An event ater the balance sheet date that conirms the auditor*s belie ;documented prior to the end o the client*s iscal year< that a large portion o the client*s inventory is obsolete C. =otiication o an &" audit ater the balance sheet date . The client*s 3oard o irectors unexpectedly resigns ater the balance sheet date
21. An auditor issued an audit report that #as dual dated or a subse'uent event that occurred ater the completion o ield #or+ but beore issuance o the auditor*s report. The auditor*s responsibility or events occurring subse'uent to the completion o ield #or+ #as A$ 5imited to the speciic event reerenced 3. 5imited to include only events occurring beore the date o the last subse'uent event reerenced C. Extended to subse'uent events occurring through the date o issuance o the report . Extended to include all events occurring since the completion o ield #or+
22. hich o the ollo#ing procedures should an auditor generally perorm regarding subse'uent events A$ Compare the latest available interim inancial statements issued ater year-end #ith the inancial statements being audited 3. end second re'uests to the client*s customers #ho ailed to respond to initial accounts receivable conirmation re'uests C. Communicate material #ea+nesses in internal controls to those charged #ith governance . "evie# the cuto ban+ statements or several months ater year-end
2!. The purpose o analytical procedures at the completion o the audit includes all o the ollo#ing except A$ "evising the audit plan 3. Considering overall reasonableness o the inancial statements C. "evie#ing ade'uacy o evidence gathered to investigate unusual luctuations . "ecalculating some o the ratios examined during audit planning
2$. hich o the ollo#ing auditing procedures is ordinarily perormed last A. Conirming accounts payable 3. Testing the purchasing unction C. "eading the minutes o directors* meetings %$ >btaining a management representation letter
2%. The date o the management representation letter should coincide #ith the A. ate o the latest subse'uent event reerred to in the notes to the inancial statements 3. 3alance sheet date C$ ate o the auditor*s report . ate o the engagement agreement
2). hich o the ollo#ing items should an auditor communicate to those charged #ith governance in a publicly-held entity A$ igniicant audit ad(ustments recorded by the en tity and management*s consultation #ith other accountants about signiicant accounting matters 3. igniicant audit ad(ustments recorded by the en tity but not management*s consultation #ith other accountants about signiicant accounting matters C. :anagement*s consultation #ith other accountants abou t signiicant accounting matters but not signiicant audit ad(ustments recorded by the entity . =either signiicant audit ad(ustments recorded by the entity nor management*s consultation #ith other accountants about signiicant accounting matters
27. The management letter is used A. To allo# management to corroborate oral representations to the auditor 3. To conirm the terms o the audit engagement C. To list all reportable conditions #ith respect to internal controls %$ To ma+e recommendations to the client based on observations made during the audit
2,. A(ax0 &nc. is an ailiate o the audit client and is audited by another audit irm. hich o the ollo#ing is most li+ely to be used by the auditor to obtain assurance that all guarantees by the client o the ailiate*s indebtedness have been detected A. end the standard ban+ conirmation re'uest to all the client*s lender ban+s &$ "evie# client minutes and obtain a representation letter C. Examine supporting documents or all entries in intercompany accounts . >btain #ritten conirmation o indebtedness rom the auditor o the ailiate
2. ?enerally0 loss contingencies that are (udged to be remote@ A. hould be disclosed in the ootnotes 3. hould be recorded in the inancial statements C$ hould not be disclosed in the ootnotes . hould be recorded in the inancial statements and the ootnotes
!/. hich o the ollo#ing procedures #ould an auditor most li+ely perorm to obtain evidence about an entity*s subse'uent events A. "econcile ban+ activity or the month ater the balance sheet date #ith cash activity relected in the accounting records &$ >btain a letter rom the entity*s attorney describing an y pending litigation0 unasserted claims0 or loss contingencies C. "evie# the treasurer*s monthly reports on temporary investments o#ned0 purchased0 and sold . Examine on a test basis the purchase invoices and receiving reports or several d ays ater the inventory date
!1. hich o the ollo#ing procedures #ould an auditor ordinarily perorm during the revie# o subse'uent events A. An analysis o related party transactions or the discovery o possible irregularities 3. A revie# o the cut-o ban+ statements or the period ater the year-end C$ An in'uiry o the client*s legal counsel concerning litigation . An investigation o material #ea+nesses in internal control previously communicated to the client
!2. hich o the ollo#ing is not an audit procedure that the independent auditor #ould perorm #ith respect to litigation0 claims and assessments A. &n'uire o and discuss #ith management the policies and procedures adopted or identiying0 evaluating0 and accounting or litigation0 claims0 and assessments 3. >btain rom management a description and evaluation o litigation0 claims0 and assessments that existed at the balance sheet date C. >btain assurance rom management that it has disclosed all unasserted claims that the la#yer has advised are li+ely to be asserted and must be disclosed %$ Conirm directly #ith the client*s la#yer that all claims have be en recorded in the inancial statements
!!. An attorney is responding to an independent auditor as a result o the audit client*s letter o in'uiry. The attorney may appropriately limit the response to A. Asserted claims and litigation &$ :atters to #hich the attorney has given substantive attention in the orm o legal consultation or representation C. Asserted0 overtly threatened0 or pending claims and litigation . &tems #hich have an extremely high probability o being resolved to the client*s detriment
!$. hich o the ollo#ing is generally re'uested in a legal letter A$ A re'uest that the attorney comment on unasserted claims #here his or her vie#s dier rom management*s evaluation 3. A list o all attorneys that perormed any #or+ or the entity during the year C. A statement indicating that the attorney is responsible or the air presentation o unasserted claims in the entity*s inancial statements . A re'uest that the attorney provide a copy o all invoices given to the client during the year
!%. hich o the ollo#ing subse'uent events #ill be least li+ely to result in an ad(ustment to the inancial statements A. Culmination o events aecting the realiation o accounts receivable o#ned as o the balance sheet date 3. Culmination o events aecting the realiation o inventories o#ned as o the balance sheet date C. :aterial changes in the settlement o liabilities #hich #ere estimated as o the balance sheet date %$ :aterial changes in the 'uoted mar+et prices o listed investment securities since the balance sheet date
!). ubse'uent events or #hich the auditor has a responsibility to actively search are d eined as events #hich occur subse'uent to the A. 3alance sheet date 3. ate o the auditor*s report C$ 3alance sheet date but prior to the date o the auditor*s report . ate o the auditor*s report and concern contingencies #hich are not relected in the inancial statements
!7. An auditor is concerned #ith completing various phases o the examination ater the balance sheet date. This 9subse'uent period9 involving ormal auditor procedures extends to the date o the A$ Auditor*s report 3. Final revie# o the audit #or+ing papers C. 4ublic issuance o the inancial statements . elivery o the auditor*s report to the client
!,. A ma(or customer o an audit client suers a ire ater year end0 but (ust prior to completion o audit ield #or+. The audit client believes that this event could have a signiicant direct eect on the inancial statements. The auditor should A$ Advise management to disclose the event in notes to the inancial statements 3. isclose the event in the auditor*s report C. ithhold submission o the auditor*s report until the extent o the direct eect on the inancial statements is +no#n . Advise management to ad(ust the inancial statements
!. & an auditor dates the auditor*s report on inancial statements or the year ended ecember !10 2//0 as o February 1/0 2/1/0 except or =ote 60 as to #hich the date is :arch !0 2/1/0 the auditor is ac+no#ledging responsibility to actively search or and ensure proper handling by management o A. All subse'uent events occurring through :arch !0 2/1/ 3. All subse'uent events occurring through February 1/0 2/1/ C$ All subse'uent events occurring through February 1/0 2/1/ and the speciic subse'uent event reerred to in =ote 6 through :arch !0 2/1/ . >nly the speciic subse'uent event reerred to in =ote 6 as o :arch !0 2/1/
$/. 8arvey0 C4A is preparing an audit program or the purpose o ascertaining the occurrence o subse'uent events that may re'uire ad(ustment or disclosure essential to a air presentation o the inancial statements in conormity #ith generally accepted accounting principles. hich one o the ollo#ing procedures #ould be least appropriate or this purpose A$ Conirm0 as o the completion o ield #or+0 accounts receivable that have increased signiicantly rom the year-end date 3. "ead the minutes o the board o directors C. &n'uire o management concerning events that may have occurred . >btain a la#yer*s letter as o the completion o ield #or+
$1. A Type && subse'uent event usually re'uires@ A. An ad(ustment to the inancial statements and the ootnotes 3. An ad(ustment to the inancial statements but no special disclosure is re'uired C$ isclosure in the ootnotes . =either an ad(ustment to the inancial statements nor d isclosure in the ootnotes
$2. Ater ield #or+ audit procedures are completed0 a partner o the C4A irm #ho has not been involved in the audit perorms a second or #rap-up revie# o the #or+ing papers. This second revie# usually ocuses on A$ The audit report0 inancial statements0 and ootnotes or consistency 3. &rregularities 3. &rregularities involving the client*s management and its employees C. The C. The materiality o the ad(usting entries proposed by the audit sta . The . The communication o internal control #ea+nesses #ea+n esses to those charged #ith governance
$!. &n the course o the examination o inancial statements or the purpose o expressing an opinion0 the auditor normally prepares a schedule o unad(usted dierences or #hich the auditor did not propose ad(ustments #hen they #ere discovered. hat is the primary purpose o this schedule A. To A. To point out to the responsible client oicials the errors made by various company personnel 3. To 3. To summarie the ad(ustments that must be made beore the company can prepare and submit its ederal tax return C$ To identiy the potential inancial statement eects o errors or disputed items that #ere considered immaterial #hen discovered . To . To summarie the errors made by the company so that corrections can be made ater the audited inancial statements are released
$$. hich o the ollo#ing ratios is least li+ely to assist the auditor in determining #hether the client is experiencing inancial diiculties A. =et A. =et #orthBtotal liabilities &$ CashBtotal assets C. Total C. Total liabilitiesBtotal assets . =et . =et income beore taxesBnet sales
$%. As part o an audit0 a C4A oten re'uests a representation letter rom the client. hich one o the ollo#ing is not a valid purpose o such a letter A. To A. To provide audit evidence 3. To 3. To emphasie to the client their responsibility or the airness o the inancial statements C$ To satisy himsel or hersel that a certain account balance is airly stated #hen certain customary auditing procedures are not perormed . To . To provide possible protection to the C4A against a charge o +no#ledge +n o#ledge in cases #here raud is subse'uently discovered to have existed in the accounts
$). hich o the ollo#ing expressions is least li+ely to be included in a client*s representation letter A. =o A. =o events have occurred subse'uent to the balance sheet date that re'uire ad(ustment to or disclosure in0 the inancial statements 3. The 3. The company has complied #ith all aspects o contractual agreements that #ould have a material eect on the inancial statements in the event o noncompliance C$ :anagement ac+no#ledges responsibility or illegal actions committed by its employees . :anagement . :anagement has made available ava ilable all inancial statements and related data
$7. 9There are no violations or possible violations o la#s or regulations #hose eects should be considered or disclosure in the inancial statements or as a basis or recording a loss contingency.9 The oregoing passage most li+ely is rom a;an< A. Client A. Client engagement letter 3. "eport 3. "eport on compliance #ith la#s and regulations C$ :anagement representation letter . Attestation . Attestation report on internal controls
$,. hich o the ollo#ing matters is an auditor re'uired to communicate to those charged #ith governance A. The basis or assessing control ris+ belo# the maximum &$ The process used by management in ormulating sensitive accounting estimates C. The auditor*s preliminary (udgments about materiality levels . The (ustiication or perorming substantive procedures at interim dates
$. 9There have been no communications rom regulatory agencies concerning noncompliance #ith or deiciencies in0 inancial reporting p ractices that could have a material eect on the inancial statements.9 The oregoing passage is most li+ely rom a A. "eport on internal control 3. pecial report C$ :anagement representation letter . 5etter or under#riters
%/. hen considering the use o management*s #ritten representations as audit evidence about the completeness assertion0 an auditor should understand that such representations A$ Complement0 but do not replace0 substantive procedures designed to support the assertion 3. Constitute suicient evidence to support the assertion #hen considered in combination #ith reliance on internal controls C. Are not part o the evidential matter considered to support the assertion . "eplace reliance on internal controls as evidence to support the assertion
%1. A #ritten representation rom a client*s management that0 among other matters0 ac+no#ledges responsibility or the air presentation o inancial statements should normally be signed by the A$ Chie executive oicer and the chie inancial oicer 3. Chie inancial oicer and the chairman o the board o directors C. Chairman o the audit committee o the board o directors . Chie executive oicer0 the chairman o the board o directors and the client*s la#yer
%2. Communications bet#een the auditor and those charged #ith governance should include all o the ollo#ing except A$ A summary o speciic audit procedures used 3. igniicant audit ad(ustments C. Consultations #ith other accountants . :a(or issues discussed #ith management beore the auditor #as retained
%!. hich o the ollo#ing events occurring ater the issuance o a client*s inancial statements and the auditor*s report most li+ely #ould cause the auditor to ma+e urther in'uiries about the previously issued inancial statements A. An uninsured natural disaster occurs that may aect the entity*s ability to continue as a going concern 3. A contingency is resolved that had been disclosed in the audited inancial statements C$ =e# inormation is discovered concerning undisclosed lease transactions in the audited period . A subsidiary that accounts or 2% o the entity*s consolidated net income is sold
%$. >n February 2%0 a C4A issued an auditor*s report expressing an un'ualiied opinion on inancial statements or the year ended 6anuary !1. >n :arch 20 the C4A learned that0 on February 110 the entity incurred a material loss on an uncollectible trade receivable as a result o the ongoing deterioration o the inancial condition o the entity*s principal customer0 #hich inally led to the customer*s ban+ruptcy. :anag ement then reused to ad(ust the inancial statements or this subse'uent event. The C4A determined that the inormation is reliable and that there are creditors currently relying on the inancial statements. The C4A*s next course o action most li+ely #ould be to A. =otiy the entity*s creditors that the inancial statements and the related auditor*s report should no longer be relied upon &$ =otiy each member o the entity*s board o directors about management*s reusal to ad(ust the inancial statements C. &ssue revised inancial statements and distribute them to each creditor +n o#n to be relying on the inancial statements . &ssue a revised auditor*s report and distribute it to each creditor +no#n to be relying on the inancial statements
%%. Ater an audit report containing an un'ualiied opinion on a nonpublic client*s inancial statements is issued0 the auditor learns that the client has decided to sell the shares o a subsidiary that accounts or !/ percent o its revenu e and 2% percent o its net income. The auditor should A. etermine #hether the inormation is reliable and0 i it is determined to be reliable0 re'uest that revised inancial statements be issued 3. =otiy the entity that the auditor*s report may n o longer be associated #ith the inancial statements C. escribe the eects o this subse'uently discovered inormation in communications #ith persons +no#n to be relying on the inancial statements %$ Ta+e no action because the auditor has no obligation to ma+e any urther in'uiries
%). An auditor*s client has violated a minor re'uirement o its bond indenture #hich could result in the trustee re'uiring immediate payment o the principal amount due. The client reuses to see+ a #aiver rom the bond trustee. "e'uest or immediate payment is not considered li+ely. Dnder these circumstances the auditor must A. "e'uire classiication o bonds payable as a current liability 3. Contact the bond trustee directly C$ isclose the situation in the auditor*s report . >btain an opinion rom the company*s attorney as to the li+elihood o the trustee*s enorcement o the re'uirement
%7. Auditors oten re'uest that the audit client send a letter o in'uiry to those attorneys #ho have been consulted #ith respect to litigation0 claims0 or assessments. The primary reason or this re'uest is to provide the auditor #ith A. An estimate o the dollar amount o the probable loss 3. An expert opinion as to #hether a loss is possible0 probable0 or remote C. &normation concerning the progress o cases to d ate %$ Corroborative in'uiries made o the client by the auditor
%,. The primary reason an auditor re'uests letters o in'uiry be sent to a client*s attorneys is to provide the auditor #ith A. A description and evaluation o litigation0 claims0 and assessments that existed at the date o the balance sheet 3. An expert opinion as to #hether a loss is possible0 probable0 or remote C. The opportunity to examine the documentation concerning litigation0 claims0 and assessments %$ Corroboration o the inormation urnished by management concerning litigation0 claims0 and assessments
%. hich o the ollo#ing statements extracted rom a client*s la#yer*s letter concerning litigation0 claims0 and assessments most li+ely #ould cause the auditor to re'uest clariication A. 9& believe that the possible liability to the co mpany is nominal in amount.9 &$ 9& believe that the action can be settled or less than the damages claimed.9 C. 9& believe that the plainti*s case against the company is #ithout merit.9 . 9& believe that the company #ill be able to deend this action successully.9
)/. An auditor*s decision concerning #hether or not to 9dual date9 the audit report is based upon the auditor*s #illingness to A$ Extend auditing procedures 3. Accept responsibility or all events bet#een year-end and the audit report date C. 4ermit inclusion o a ootnote captioned@ event ;unaudited< subse'uent to the date o the auditor*s report . Assume responsibility or events subse'uent to the issuance o the auditor*s report
)1. A Type & subse'uent event usually re'uires@ A$ An ad(ustment to the inancial statements 3. =o ad(ustment to the inancial statements C. ithdra#al rom the engagement . =one o the above
)2. A disclosure o a contingent liability in the ootnotes is made rather than ad(usting the inancial statement accounts #hen@ A. The outcome o the event is (udged to be reasonably possible and the loss can be reasonably estimated. 3. The loss can be reasonably estimated0 but the outcome is un+no#n. C$ The outcome o the event is (udged to be reasonably possible but the loss cannot be reasonably estimated. . The outcome is un+no#n and the loss is reasonably estimable but the client does not #ant to boo+ the loss.
)!. hich o the ollo#ing statements ordinarily is included among the #ritten client representations obtained by the auditor A$ Compensating balances and other arrangements involving restrictions on cash balances have been disclosed 3. :anagement ac+no#ledges responsibility or illegal actions committed by employees C. uicient evidential matter has been made available to permit the issuance o an un'ualiied opinion . :anagement ac+no#ledges that there are no material #ea+nesses in the account balances
)$. hich o the ollo#ing statements is correct about an auditor*s re'uired communication #ith management and those charged #ith governance A. Any matters communicated to those charged #ith governance are also re'uired to be communicated to the entity*s management &$ The auditor is re'uired to inorm those charged #ith governance about signiicant errors discovered by the auditor and subse'uently corrected by management C. The auditor does not have any re'uirement to communicate #ith anyone outside o management . ea+nesses in internal control previously reported to those ch arged #ith governance are re'uired to be communicated to those charged #ith governance ater each subse'uent audit until the #ea+nesses are corrected
)%. hich o the ollo#ing statements is correct concerning an auditor*s re'uired communication #ith those charged #ith governance A. This communication is re'uired to occur beore the auditor*s report on the inancial statements is issued &$ This communication should include management changes in the application o signiicant accounting policies C. Any signiicant matter communicated to those charged #ith governance also should be communicated to management . igniicant audit ad(ustments proposed by the auditor and recorded by management need not be communicated to those charged #ith governance
)). For #hich o the ollo#ing matters should an auditor obtain #ritten management representations A. :anagement*s cost-beneit (ustiications or not correcting internal control #ea+nesses 3. :anagement*s +no#ledge o uture plans that may aect the price o the entity*s stoc+ C$ :anagement*s compliance #ith contractual agreements that may aect the inancial statements . :anagement*s ac+no#ledgment o its responsibility or employees* violations o la#s
)7. ey Co. plans to present comparative inancial statements or the years ended ecember !10 2//, and 2//0 respectively. mith0 C4A0 audited ey*s inancial statements or both years and plans to report on the comparative inancial statements on :ay 10 2 /1/. ey*s current management team #as not present until 6anuary 10 2//. hat period o time should be covered by ey*s management representation letter A. 6anuary 10 2//, through ecember !10 2// &$ 6anuary 10 2//, through :ay 10 2/1/ C. 6anuary 10 2// through ecember !10 2// . 6anuary 10 2// through :ay 10 2/1/
),. Ater issuance o the auditor*s report0 the auditor has no obligation to ma+e any urther in'uiries #ith respect to audited inancial statements covered by an auditor*s report unless A. A la#suit in #hich ris+ o loss #as considered remote is resolved in the company*s avor 3. A development occurs #hich may aect the client*s ability to continue as a going concern C. A material raud is initiated by an employee ater the report is issued %$ Evidence o signiicant0 non-arms-length0 related party transactions that happened prior to year-end is discovered
). Ater an auditor has issued an audit report on a nonpublic entity0 there is no obligation to ma+e any urther audit tests or in'uiries #ith respect to the audited inancial statements covered by that report unless A$ =e# inormation comes to the auditor*s attention concerning an event that occurred prior to the date o the auditor*s report that may have aected the auditor*s report 3. :aterial adverse events occur ater the date o the auditor*s report C. Final determination or resolution #as made on matters that had resulted in a 'ualiication in the auditor*s report . Final determination or resolution #as made o a contingency that had been disclosed in the inancial statements and no liability arose rom the resolution
7/. Ater issuance o the auditor*s report0 the auditor has no obligation to ma+e any urther in'uiries #ith respect to audited inancial statements covered by that report unless A. A inal resolution o a contingency that had resulted in a 'ualiication o the auditor*s report is made 3. A development occurs that may aect the client*s ability to continue as a going concern C. An investigation o the auditor*s practice by a peer revie# committee ensues %$ =e# inormation is discovered concerning undisclosed related party transactions o the previously audited period
71. ho generally signs the legal letter A. The board o directors 3. The audit partner C$ The CE> o the entity being audited . The entity*s attorneys
72. A discrimination la#suit is pending or your client0 4retty 4eople &ncorporated. hat inormation about the la#suit #ould you as an auditor need to +no# to decide #hether to disclose the litigation in the inancial statements & a negative outcome o the la#suit is probable and the amount o the contingency can be estimated0 the amount #ill have to be charged to income and appear as a liability in the inancial statements. & the event has a reasonably possible chance o having a negative outcome or the amount cannot be estimated0 the contingency should be disclosed in the ootnotes o the inancial statements. =o disclosure is necessary or contingencies the li+elihood o occurrence or #hich is remote.
7!. eine the term 9contingent liability9 and discuss the criteria used to classiy these events or conditions. 4rovide some example o contingent liabilities. A contingent liability is deined as an existing condition0 situation0 or set o circumstances involving uncertainty as the possible loss to an en tity that #ill ultimately be resolved #hen some uture event occurs or ails to occur. FA3 AC Topic $%/0 9Contingencies09 states that #hen a contingent liability exists0 the li+elihood that the uture event #ill result in a loss or impairment o an asset or the incurrence o a liability can be classiied into three categories@ 4robable. The uture event is li+ely to occur. & the event is probable and the amount o the loss can be reasonably estimated0 the loss is accrued by a charge to income. "easonably possible. The chance o the uture event occurring is more than remote but less than li+ely. hen the outcome o the event is (udged to be reasonably possible or the amount cannot be estimated0 a disclosure o the contingency is made in the ootnotes to the inancial statements. "emote. The chance o the uture event occurring is slight. &n general0 loss contingencies that are (udged to be remote are not disclosed in the ootnotes. Examples o contingent liabilities include@ pending or threatened litigation0 actual or possible claims and assessments0 income tax disputes0 product #arranties or deects0 guarantees o obligations to others0 and agreements to repurchase receivables that have been sold.
7$. From the list belo#0 select the procedures that an auditor #ould use to test or contingent liabilities. a. &n'uire o EC oicials regarding reported violations by the client #hich create claims b. "ead the client*s contracts0 loan agreements0 leases0 and other documents c. "ead the client*s minutes o meetings o shareholders0 directors0 and committees d. "e'uest a representation letter rom all the client*s employees e. "ead the legal bries o all suits iled against the client*s competitors . "e'uest the client*s management to prepare a letter o in'uiry to the client*s attorney regarding pending litigation against the client b0 c and are procedures typically used by auditors to test or contingent liabilities.
7%. hile auditing other business processes0 an auditor may identiy inormation about contingent liabilities. hat speciic audit procedures relating to other business processes could uncover these liabilities "eading the minutes o the board o directors and committees o the bo ard and stoc+holders • "evie#ing contracts0 loan agreements0 leases0 and correspondence rom government agencies • "evie#ing income tax liability0 tax returns0 and &" agents* reports • Conirming or other#ise documenting guarantees and letters o credit obtained rom inancial institutions or other lending agencies • &nspecting other documents or possible guarantees •
7). hat inormation is typically re'uested in a legal letter to a client*s attorney A list and evaluation o any pending or threatened litigation to #hich the attorney has devoted substantial attention • A list o unasserted claims and assessments considered by management to be probable o assertion and reasonably possible o unavorable outcome • A description and evaluation o the outcome o each pending or threatened litigation • Additions to the list provided by management or a statement that the list is complete • Comment on unasserted claims #here his or her vie#s dier rom management*s evaluation •
77. hat is an unasserted claim and #hy #ould an attorney andBor client be reluctant to disclose an unasserted claim in the inancial statements An unasserted claim is one in #hich the in(ured party or potential claimant has not yet notiied the entity o a possible claim. The attorney may be reluctant to provide inormation on such claims due to client-attorney privilege. Also0 b oth the client and the attorney may be concerned that disclosing the unasserted claims could lead to the claims actually occurring.
7,. hat is the dierence bet#een contingent liabilities and commitments Contingent liabilities are an existing condition0 situation0 or set o circumstances involving uncertainty as to possible loss to an entity that #ill ultimately be resolved by some uture event. A commitment is an agreement made by the entity to a set o ixed conditions. The conditions in a commitment are speciied in advance .
7. &dentiy the t#o primary types o subse'uent events that re'uire consideration by management and evaluation by the auditor and give t#o examples o each type. Events that provide additional evidence about conditions that existed at the date o the balance sheet and aect the estimates that are part o the inancial statement preparation process ;Type & events<. Examples include declaration o ban+ruptcy by a customer #ith an outstanding accounts receivable balance ;the deterioration existed at the balance sheet date< and the settlement o litigation at an amount dierent rom the amount already recorded on the boo+s. • Events that provide evidence about conditions that did not exist at the date o the balance sheet but arose subse'uent to that date ;Type && events<. Examples include a decline in the mar+et value o securities held or temporary investment or resale during the subse'uent period and loss due to natural disaster ater the balance sheet date. •
,/. iscuss the steps used by an auditor to evaluate an entity*s ability to continue as a going concern.
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Chapter 17 - Completing the Audit Engagement
Auditing standards ;AD !$1< indicate that the auditor has a responsibility to evaluate #hether there is substantial doubt about an entity*s ability to continue as a going concern or a reasonable period o time ;deined as one year beyond the date o the inancial statements being audited<. The auditor should ollo# three overall steps in ma+ing the going-concern evaluation@ tep 1. Consider #hether the results o audit procedu res perormed during the planning0 perormance0 and completion o the audit indicate #hether there is substantial doubt about the entity*s ability to continue as a going concern or a reasonable period o time ;one year<. tep 2. & there is substantial doubt0 the auditor should obtain inormation about management*s plan to mitigate the going concern problem and assess the li+elihood that such plans can be implemented. tep !. & the auditor concludes0 ater evaluating management*s plans0 that there is substantial doubt about the ability o the entity to continue as a going concern0 he or she should consider the ade'uacy o the disclosures about the entity*s ability to continue and include an explanatory paragraph in the audit report. Auditing standards identiy our ma(or categories o conditions or events@ negative inancial trends0 other inancial diiculties0 internal problem0 and external matters.
,1. iscuss the internal control communication re'uirements o the 4CA>3. hat must auditors o public companies report to those charged #ith governance The items to be communicated are organied into three categories@ the auditor*s responsibilities under generally accepted auditing standards0 an overvie# o the planned scope and timing o the audit0 and signiicant indings rom the audit. ;ee Table 17-$ or speciic details o items to be communicated.<
,2. tate the t#o primary purposes o the client letter o representation. To corroborate oral representations made to the auditor and to document the continued appropriateness o such representations • To reduce the possibility o misunderstanding concerning management*s responses to the auditor*s in'uiries •
,!. The ield #or+ or the ecember !10 2// audit o 4ump+in Corporation ended on :arch 1!0 2/1/. The inancial statements and auditor*s report #ere issued and mailed to stoc+holders on :arch 2!0 2/1/. &n each o the situations belo#0 select rom the list at the end o the problem the appropriate action to be ta+en by the auditor. Assume all situations are material. Situations: 1< >n April %0 2/1/0 you discovered that on February 1)0 2/1/0 a lood destroyed the entire uninsured inventory in one o 4ump+in*s #arehouses. 2< >n February 170 2/1/0 you discovered that on February 1)0 2/1/0 a lood destroyed the entire uninsured inventory in one o 4ump+in*s #arehouses. !< >n February 170 2/1/0 you discovered that on =ovember !/0 2//0 a lood destroyed the entire uninsured inventory in one o 4ump+in*s #arehouses. $< >n April %0 2/1/0 you discovered that on :arch !/0 2/1/0 a ire destroyed one o 4ump+in*s 1/ plants. %< >n April 70 2/1/0 you discovered that a debtor o 4ump+in #ent ban+rupt on 6anuary )0 2/1/. )< >n 6anuary 1)0 2/1/0 a la#suit #as iled against 4ump+in or a patent inringement action that allegedly too+ place in early 1. &n the opinion o 4ump+in*s attorneys0 there is a reasonable ;but not probable< danger o a signiicant loss to 4ump+in. 7< >n February 10 2/1/0 4ump+in settled a la#suit out o court that had originated in 1, and is currently listed as a contingent liability.
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Chapter 17 - Completing the Audit Engagement
Possile Actions: a. Ad(ust the ecember !10 2// inancial statements. b. isclose the inormation in a ootnote in the ecember !10 2// inancial statements c. "e'uest the client revise and reissue the ecember !10 2// inancial statements. The revision should involve an ad(ustment to the ecember !10 2// inancial statements. d. "e'uest the client revise and reissue the ecember !10 2// inancial statements. The revision should involve the addition o a ootnote0 but no ad(ustment0 to the ecember !10 2// inancial statements. e. =o action is re'uired.