Audit Reports Test Bank

Chapter 14 Audit Reports 231
Audit Reports
MULTIPLE CHOICE:
1. An auditor would issue an adverse opinion if

a. The audit was begun by other independent auditors who
withdrew from the engagement.
b. A qualified opinion cannot be given because the
auditor lacks independence.
c. The restriction on the scope of the audit was
significant.
d. The statements taken as a whole do not fairly present
the financial condition and results of operations of
the company.
ANSWER: D
2. An audit report contains the following paragraph: "Because

of the inadequacies in the company's accounting records
during the year ended June 30, 2003, it was not practicable
to extend our auditing procedures to the extent necessary to
enable us to obtain certain evidential matter as it relates
to classification of certain items in the consolidated
statements of operations." This paragraph most likely
describes
a. A material departure from GAAP requiring a qualified
audit opinion.
b. An uncertainty that should not lead to a qualified
opinion.
c. A matter that the auditor wishes to emphasize and that
does not lead to a qualified audit opinion.
d. A material scope restriction requiring a qualification
of the audit opinion.
ANSWER: D
3. A limitation on the scope of the auditor's examination

sufficient to preclude an unqualified opinion will always
result when management
a. Asks the auditor to report on the balance sheet and
not on the other basic financial statements.
b. Refuses to permit its lawyer to respond to the letter
of audit inquiry.
c. Discloses material related party transactions in the
footnotes to the financial statements.
d. Knows that confirmation of accounts receivable is not
feasible.
232 Chapter 14 Audit Reports
ANSWER: B
4. The auditor issued a qualified opinion covering the

financial statements of Client A for the year ended December
31, 2002. The reason for the qualification was a departure
from GAAP. In presenting comparative statements for the
years ended December 31, 2002 nd 2003, the client revised
the 2002 financial statements to correct the previous
departure from GAAP. The auditor's 2003 report on the
12/31/02 and 12/31/03 comparative financial statements will
a. Express a qualified opinion on the 2002 financial
statements and an unqualified opinion on the 2003
statements.
b. Express unqualified opinions on both the 2002 and 2003
financial statements.
c. Retain the qualified opinion covering the 2002
statements, but add an explanatory paragraph describing
the correction of the prior departure from GAAP.
d. Render qualified audit opinions for both 2002 and 2003
financial statements given the 2003 carryover effect of
the 2002 error.
ANSWER: B
5. When financial statements are presented that are not in

conformity with generally accepted accounting principles, an
auditor may issue a(an)
"Except for" Disclaimer
opinion of an opinion
a. Yes No
b. Yes Yes
c. No Yes
d. No No
ANSWER: A
6. Under which of the following circumstances would a

disclaimer of opinion not be appropriate?
a. The auditor is engaged after fiscal year-end and is
unable to observe physical inventories or apply
alternative procedures to verify their balances.
b. The auditor is unable to determine the amounts
associated with illegal acts committed by the client's
management.
c. The financial statements fail to contain adequate
disclosure concerning related party transactions.
d. The client refuses to permit its attorney to furnish

information requested in a letter of audit inquiry.
ANSWER: C
7. An auditor may reasonably issue an "except for" qualified

opinion for
Inadequate Scope
disclosure limitation
a. Yes Yes
b. Yes No
c. No Yes
d. No No
ANSWER: A
8. An auditor's report would be designated as a special report

when it is issued in connection with financial statements
that are
a. For an interim period and are subjected to a limited
review.
b. Unaudited and are prepared from a client's accounting
records.
c. Prepared in accordance with a comprehensive basis of
accounting other than generally accepted accounting
principles.
d. Purported to be in accordance with generally accepted
accounting principles but do not include a presentation
of the Statement of Cash Flows.
ANSWER: C
9. A limitation on the scope of an auditor's examination

sufficient to preclude an unqualified opinion will usually
result when management
a. Presents financial statements that are prepared in
accordance with the cash receipts and disbursements
basis of accounting.
b. States that the financial statements are not intended
to be presented in conformity with generally accepted
accounting principles.
c. Does not make the minutes of the Board of Directors'
meetings available to the auditor.
d. Asks the auditor to report on the balance sheet and
not on the other basic financial statements.
ANSWER: C
10. When there is a significant change in accounting principle,

an auditor's report should refer to the lack of consistency
in
a. The scope paragraph.
b. An explanatory paragraph between the second paragraph
and the opinion paragraph.
c. The opinion paragraph.
d. An explanatory paragraph following the opinion
paragraph.
ANSWER: D
11. Which of the following subsequent events will be least

likely to result in an adjustment to the financial
statements?
a. Culmination of events affecting the realization value
of accounts receivable owned as of the balance sheet
date.
b. Culmination of events affecting the realization of
inventories owned as of the balance sheet date.
c. Material changes in the settlement of liabilities which
were estimated as of the balance sheet date.
d. Material changes in the quoted market prices of listed
investment securities since the balance sheet date.
ANSWER: D
12. Soon after Boyd's audit report was issued, Boyd learned of
certain related party transactions that occurred during the
year under audit. These transactions were not disclosed in
the notes to the financial statements. Boyd should
a. Plan to audit the transactions during the next
engagement.
b. Recall all copies of the audited financial statements.
c. Determine whether the lack of disclosure would affect
the auditor's report.
d. Ask the client to disclose the transactions in
subsequent interim statements.
ANSWER: C
13. Under which of the following circumstances would a

disclaimer of opinion not be appropriate?
a. The financial statements fail to contain adequate
disclosure concerning related party transactions.
b. The client refuses to permit its attorney to furnish
information requested in a letter of audit inquiry.

c. The auditor is engaged after fiscal year-end and is
unable to observe physical inventories or apply
alternative procedures to verify their balances.
d. The auditor is unable to determine the amounts
associated with illegal acts committed by the client's
management.
ANSWER: A
14. An auditor concludes that there is substantial doubt about

an entity's ability to continue as a going concern for a
reasonable period of time. If the entity's disclosures
concerning this matter are adequate, the audit report may
include a(an)
Disclaimer "Except for"
of opinion qualified opinion
a. Yes Yes
b. No No
c. No Yes
d. Yes No
ANSWER: D
15. Management of Blue Company has decided not to account for a

material transaction in accordance with the provisions of an
FASB Standard. In setting forth its reasons in a note to
the financial statements, management has clearly
demonstrated that due to unusual circumstances the
financial statements presented in accordance with the FASB
Standard would be misleading. The auditor's report should
include an explanatory separate paragraph and contain a(an)
a. Adverse opinion.
b. Unqualified opinion.
c. "Except for" qualified opinion.
d. "Subject to" qualified opinion.
ANSWER: B
16. In the "management discussion and analysis" contained in the

2002 annual report of Dermicile Corporation, management
stated that total sales were $4.95 billion and net profit
was $500 million. The audited sales and net profit,
however, were $3.8 billion and $450 million respectively.
The financial statements, contained in the annual report,
reflected the audited figures and the CPA planned to issue
an unqualified opinion. Upon noting the inconsistencies
between the MD&A and the audited financial statements,

however, the CPA should
a. Refer to the inconsistency in the audit report and
issue a qualified audit opinion.
b. Issue an unqualified opinion without an explanatory
paragraph, because the MD&A is not covered in the audit
report.
c. Issue an unqualified audit opinion with an explanatory
paragraph describing the inconsistency.
d. Render an adverse opinion on the basis that management
had intentionally misrepresented reported sales and net
profit.
ANSWER: C
17. When the audited financial statements of the prior year are
presented together with those of the current year, the
continuing auditor's report should cover
a. Both years.
b. Only the current year.
c. Only the current year, but the prior year's report
should be presented.
d. Only the current year, but the prior year's report
should be referred to.
ANSWER: A
18. If the auditor believes that financial statements which are

prepared on a comprehensive basis of accounting other than
generally accepted accounting principles are not suitably
titled, the auditor should
a. Modify the auditor's report to disclose any
reservations.
b. Consider the effects of the titles on the financial
statements taken as a whole.
c. Issue a disclaimer of opinion.
d. Add a footnote to the financial statements which
explains alternative terminology.
ANSWER: A
19. Morgan, CPA, is the principal auditor for a multi-national

corporation. Another CPA has examined and reported on the
financial statements of a significant subsidiary of the
corporation. Morgan is satisfied with the independence and
professional reputation of the other auditor, as well as the
quality of the other auditor's examination. With respect to
Morgan's report on the consolidated financial statements,

taken as a whole, Morgan
a. Must not refer to the examination of the other auditor.
b. Must refer to the examination of the other auditor.
c. May refer to the examination of the other auditor.
d. May refer to the examination of the other auditor, in
which case Morgan must include in the auditor's report
on the consolidated financial statements a qualified
opinion with respect to the examination of the
other auditor.
ANSWER: C
20. A post-audit review, conducted by another audit partner,

discovered that the audit team had failed to examine or
confirm securities held in safekeeping. The amounts
involved were material in relation to reported net assets.
The unqualified audit report, along with the audited
financial statements, had been released two months earlier.
Based on this information, the audit team should
a. Request the client for permission to examine or confirm
the securities.
b. Notify persons known to be relying on the audit report
that the report can no longer be relied upon.
c. Draft a revised audit report containing an opinion
qualified for a scope restriction.
d. Ignore the finding inasmuch as the financial statements
and audit report have already been released.
ANSWER: A
21. The auditor's report should be dated as of the date on which

the
a. Report is delivered to the client.
b. Field work is completed.
c. Fiscal period under audit ends.
d. Review of the working papers is complete.
ANSWER: B
22. After issuing the audit report, the auditor may become aware
of information that would have affected the audit report had
it been known at the time. Given discovery of such
information, the auditor must take appropriate action. Which
of the following actions would be considered inappropriate
under these circumstances?
a. Determine whether the information is reliable and

whether the facts existed at the date of the audit
report.
b. Request the client to disclose, to financial statement
users, the newly discovered facts and their impact on
the financial statements.
c. If the client refuses to inform third parties, the
auditor should notify the board of directors and
regulatory agencies having jurisdiction over the client
that the auditors' report can no longer be relied upon.
d. Draft a revised audit report expressing a qualified or
adverse opinion, depending on the materiality of the
effect, and transmit the report to the stockholders.
ANSWER: D
23. Which of the following best describes the auditor's

responsibility for "other information" included in the
annual report to stockholders which contains financial
statements and the auditor's report?
a. The auditor has no obligation to read the "other
information."
b. The auditor has no obligation to corroborate the
"other information," but should read the "other
information" to determine whether it is materially
inconsistent with the financial statements.
c. The auditor should extend the examination to the
extent necessary to verify the "other information."
d. The auditor must modify the auditor's report to state
that the "other information is unaudited" or "not
covered by the auditor's report."
ANSWER: B
24. When an auditor conducts an examination in accordance with

generally accepted auditing standards and concludes that the
financial statements are fairly presented in accordance with
a comprehensive basis of accounting other than generally
accepted accounting principles such as the cash basis of
accounting, the auditor should issue a
a. Disclaimer of opinion.
b. Review report.
c. Qualified opinion.
d. Special report.
ANSWER: D
25. In which of the following circumstances would an auditor be

most likely to express an adverse opinion?
a. The statements are not in conformity with the FASB
Statements regarding the capitalization of leases.
b. Information comes to the auditor's attention that
raises substantial doubt about the entity's ability to
continue in existence.
c. The chief executive officer refuses the auditor access
to minutes of board of directors' meetings.
d. Control tests show that the entity's internal control
is so poor that the financial records cannot be
relied upon.
ANSWER: A
26. Under which of the following circumstances would an

unqualified audit opinion, followed by an explanatory
paragraph, not be appropriate?
a. The auditor wishes to emphasize that the client has
entered into material transactions with related
parties. The substance of the related party
transactions is properly disclosed in the
audited
b. The client has completed material transactions with
related parties and the auditor is unable to
persuade management to properly reflect the economic
substance of the transactions in the financial
statements.
c. The client has used a method of revenue recognition
that is at variance with promulgated accounting
standards. The auditor, however, agrees with
the departure on the basis that use of the promulgated
standard would make the financial statements
materially misleading.
d. The auditor believes that substantial doubt exists
concerning the ability of the client to continue
as a going concern.
ANSWER: B
27. Doe, an independent auditor, was engaged to perform an

examination of the financial statements of Ally Incorporated
one month after its fiscal year had ended. Although the
inventory count was not observed by Doe, and accounts
receivable were not confirmed by direct communication with
debtors, Doe was able to gain satisfaction by applying
alternative auditing procedures. Doe's auditor's report

will probably contain
a. A standard unqualified opinion.
b. An unqualified opinion and an explanatory middle
paragraph.
c. Either a qualified opinion or a disclaimer of opinion.
d. An "except for" qualification.
ANSWER: A
28. The adverse effects of events causing an auditor to believe

there is substantial doubt about an entity's ability to
continue as a going concern would most likely be mitigated
by evidence relating to the
a. Ability to expand operations into new product lines in
the future.
b. Feasibility of plans to purchase leased equipment at
less than market value.
c. Marketability of assets that management plans to sell.
d. Committed arrangements to convert preferred stock to
long-term debt.
ANSWER: C
29. Comparative financial statements include the financial

statements of a prior period which were examined by a
predecessor auditor whose report is not presented. If the
predecessor auditor's report was qualified, the successor
auditor must
a. Obtain written approval from the predecessor auditor to
include the prior year's financial statements.
b. Issue a standard comparative audit report indicating
the division of responsibility.
c. Express an opinion on the current year statements alone
and make no reference to the prior year statements.
d. Disclose the reasons for any qualification in the
predecessor auditor's opinion.
ANSWER: D
30. When reporting on financial statements prepared on a

comprehensive basis of accounting other than generally
accepted accounting principles, the independent auditor
should include in the report a paragraph that
a. States that the financial statements are not intended
to be in conformity with generally accepted accounting
principles.
b. States that the financial statements are not intended

to have been examined in accordance with generally
accepted auditing standards.
c. Refers to the authoritative pronouncements that explain
the comprehensive basis of accounting being used.
d. Justifies the comprehensive basis of accounting being
used.
ANSWER: A
31. After an audit report containing an unqualified opinion on a

non-public client's financial statements was issued, the
client decided to sell the shares of a subsidiary that
accounts for 30% of its revenue and 25% of its net income.
The auditor should
a. Determine whether the information is reliable and, if
determined to be reliable, request that revised
financial statements be issued.
b. Notify the entity that the auditor's report may no
longer be associated with the financial statements.
c. Describe the effects of this subsequently discovered
information in a communication with persons known to be
relying on the financial statements.
d. Take no action because the auditor has no obligation
to make any further inquiries.
ANSWER: D
32. An audit report contained the following wording: "In our

opinion, except for the omission of the segment information
referred to in the preceding paragraph..." This excerpt was
taken from a(n)
a. Unqualified audit opinion with an explanatory paragraph
added to emphasize a matter.
b. Unqualified audit opinion with an explanatory paragraph
added to describe a material uncertainty.
c. Audit opinion qualified due to a departure from GAAP.
d. Adverse audit opinion.
ANSWER: C
33. An auditor includes a separate paragraph in an otherwise

unqualified report to emphasize that the entity being
reported upon had significant transactions with related
parties. The inclusion of this separate paragraph
a. Violates generally accepted auditing standards if this
information is already disclosed in footnotes to the
b. Necessitates a revision of the opinion paragraph to

include the phrase "with the foregoing explanation."
c. Is appropriate and would not negate the unqualified
opinion.
d. Is considered an "except for" qualification of the
report.
ANSWER: C
34. An audit report contains the following paragraph: "Since

the company did not take physical inventories and we were
not able to apply auditing procedures to satisfy ourselves
as to inventory quantities and the cost of property and
equipment, the scope of our work was not sufficient to
enable us to express, and we do not express, an opinion on
these financial statements." This paragraph illustrates
a(n)
a. Disclaimer of opinion due to uncertainty.
b. Disclaimer of opinion due to scope restrictions.
c. Adverse audit opinion.
d. Audit opinion qualified for material scope
restrictions.
ANSWER: B
35. An auditor's examination reveals a misstatement in segment

information that is material in relation to the financial
statements taken as a whole. If the client refuses to make
modifications to the presentation of segment information,
the auditor should issue a(n)
a. "Except for" opinion.
b. Adverse opinion.
c. Unqualified opinion.
d. Disclaimer of opinion.
ANSWER: A
36. An auditor's report on financial statements that are

prepared in accordance with a comprehensive basis of
accounting other than generally accepted accounting
principles should preferably include all of the following,
except
a. Disclosure of the fact that the financial statements
are not intended to be presented in conformity with
generally accepted accounting principles.
b. An opinion as to whether the use of the disclosed
method is appropriate.
c. An opinion as to whether the financial statements are

presented fairly in conformity with the basis of
accounting described.
d. A description of a change in accounting principles.
ANSWER: B
37. When the financial statements are prepared on the going

concern basis but the auditor concludes there is substantial
doubt whether the client can continue in existence and also
believes there are uncertainties about the recoverability of
recorded asset amounts on the financial statements, the
auditor may issue a(an)
a. Adverse opinion.
b. "Except for" qualified opinion for scope limitation.
c. "Except for" qualified opinion for departure from GAAP.
d. Unqualified opinion with an explanatory separate
paragraph.
ANSWER: D
38. Client A reports property, plant, and equipment at appraisal

values and records depreciation based on the appraised
amounts. Also, the company does not defer income taxes for
temporary differences arising from using the installment
method of recognizing gross profit for tax purposes. The
company uses the accrual method for financial reporting
purposes. Under these circumstances, the auditor will
probably issue a(n)
a. Audit opinion qualified for a departure from GAAP.
b. Adverse audit opinion.
c. Disclaimer of opinion.
d. Unqualified audit opinion with an explanatory paragraph
describing the client's unique accounting practices.
ANSWER: B
39. A CPA engaged to examine financial statements observes that

the accounting for a certain material item is not in
conformity with generally accepted accounting principles,
and that this fact is prominently disclosed in a footnote to
the financial statements. The CPA should
a. Express an unqualified opinion and insert a middle
paragraph emphasizing the matter by reference to the
footnote.
b. Disclaim an opinion.
c. Not allow the accounting treatment for this item to
affect the type of opinion because the deviation from

generally accepted accounting principles was disclosed.
d. Qualify the opinion because of the deviation from
generally accepted accounting principles.
ANSWER: D
40. When a principal auditor decides to make reference to

another auditor's examination, the principal auditor's
report should always indicate clearly, in the introductory,
scope, and opinion paragraphs, the
a. Magnitude of the portion of the financial statements
examined by the other auditor.
b. Disclaimer of responsibility concerning the portion of
the financial statements examined by the other auditor.
c. Name of the other auditor.
d. Division of responsibility.
ANSWER: D
41. An auditor may issue a qualified opinion under which of the

following circumstances?
Lack of sufficient Restrictions on the

competent scope of the
evidential matter audit
a. Yes Yes
b. Yes No
c. No Yes
d. No No
ANSWER: A
42. In which of the following circumstances may the auditor

issue the standard audit report?
a. The principal auditor assumes responsibility for the
work of another auditor.
b. The financial statements are affected by a departure
from a generally accepted accounting principle.
c. Substantial doubt exists concerning the ability of the
entity to continue as a going concern.
d. The auditor wishes to emphasize a matter regarding
the financial statements.
ANSWER: A
43. Does the auditor make the following representations

explicitly or implicitly when issuing the standard auditor's
report on comparative financial statements?
Consistent Examination of
application of evidence on a
accounting principles test basis
a. Explicitly Explicitly
b. Implicitly Implicitly
c. Implicitly Explicitly
d. Explicitly Implicitly
ANSWER: C
44. When there is a significant change in accounting principle,

an auditor's report should refer to the lack of consistency
in
a. The scope paragraph.
b. An explanatory paragraph between the second paragraph
and the opinion paragraph.
c. The opinion paragraph.
d. An explanatory paragraph following the opinion
paragraph.
ANSWER: D
45. In which of the following situations would an auditor

ordinarily issue an unqualified audit opinion without an
explanatory paragraph?
a. The auditor wishes to emphasize that the entity had
significant related party transactions.
b. The auditor decides to make reference to the report of
another auditor as a basis, in part, for the auditor's
opinion.
c. The entity issues financial statements that present
financial position and results of operations, but omits
the statement of cash flows.
d. The auditor has substantial doubt about the entity's
ability to continue as a going concern, but the
circumstances are fully disclosed in the financial
statements.
ANSWER: B
46. How are management's responsibility and the auditor's

responsibility represented in the standard auditor's report?
Management's Auditor's
responsibility responsibility
a. Explicitly Explicitly
b. Implicitly Implicitly
c. Implicitly Explicitly
d. Explicitly Implicitly
ANSWER: A
47. An auditor should disclose the substantive reasons for

expressing an adverse opinion in an explanatory paragraph
a. Preceding the scope paragraph.
b. Preceding the opinion paragraph.
c. Following the opinion paragraph.
d. Within the notes to the financial statements.
ANSWER: B
48. When the financial statements contain a departure from

generally accepted accounting principles, the effect of
which is material, the auditor should
a. Qualify the opinion and explain the effect of the
departure from generally accepted accounting principles
in a separate paragraph.
b. Qualify the opinion and describe the departure from
generally accepted accounting principles within the
opinion paragraph.
c. Disclaim an opinion and explain the effect of the
departure from generally accepted accounting principles
in a separate paragraph.
d. Disclaim an opinion and describe the departure from
generally accepted accounting principles within the
opinion paragraph.
ANSWER: A
49. Tread Corp. accounts for the effect of a material accounting

change prospectively when the inclusion of the cumulative
effect of the change is required in the current year. The
auditor would choose between expressing a(an)
a. Qualified opinion or a disclaimer of opinion.
b. Disclaimer of opinion or an unqualified opinion with an
explanatory paragraph.
c. Unqualified opinion with an explanatory paragraph and
an adverse opinion.
d. Adverse opinion and a qualified opinion.
ANSWER: D
50. The Securities and Exchange Commission has authority to

a. Prescribe specific auditing procedures to detect fraud
concerning inventories and accounts receivable of
companies engaged in interstate commerce.
b. Deny lack of privity as a defense in third-party
actions for gross negligence against the auditors
of
public companies.
c. Determine accounting principles for the purpose of
financial reporting by companies offering securities to
the public.
d. Require a change of auditors of governmental entities
after a given period of years as a means of ensuring
auditor independence.
ANSWER: C
51. An auditor has previously expressed a qualified opinion on

the financial statements of a prior period because of a
departure from generally accepted accounting principles.
The prior-period financial statements are restated in the
current period to conform with generally accepted accounting
principles. The auditor's updated report on the prior-
period financial statements should
a. Express an unqualified opinion concerning the restated
b. Be accompanied by the original auditor's report on the
prior period.
c. Bear the same date as the original auditor's report on
the prior period.
d. Qualify the opinion concerning the restated financial
statements because of a change in accounting
principle.
ANSWER: A
52. An auditor's report includes the following statement: "The

financial statements do not present fairly the financial
position, results of operations, or cash flows in conformity
with generally accepted accounting principles." This
auditor's report was most likely issued in connection with
financial statements that are
a. Inconsistent.
b. Prepared in accordance with another comprehensive basis
of accounting.
c. Misleading
d. Affected by a material uncertainty.
ANSWER: C
53. An auditor who qualifies an opinion because of an

insufficiency of evidential matter should describe the
limitation in an explanatory paragraph. The auditor should
also refer to the limitation in the
Scope Opinion Notes to the
paragraph paragraph financial
statements
a. Yes No Yes
b. No Yes No
c. Yes Yes No
d. Yes Yes Yes
ANSWER: C
54. Restrictions imposed by a client prohibit the observation of

physical inventories, which account for 35% of all assets.
Alternative audit procedures cannot be applied, although the
auditor was able to examine satisfactory evidence for all
other items in the financial statements. The auditor should
issue a(an)
a. "Except for" qualified opinion.
b. Disclaimer of opinion.
c. Unqualified opinion with a separate explanatory
paragraph.
d. Unqualified opinion with an explanation in the scope
paragraph.
ANSWER: B
55. An auditor may not issue a qualified opinion when

a. A scope limitation prevents the auditor from completing
an important audit procedure.
b. The auditor's report refers to the work of a
specialist.
c. An accounting principle at variance with generally
accepted accounting principles is used.
d. The auditor lacks independence with respect to the
audited entity.
ANSWER: D
COMPLETION:
56. The nature of the examination is described in the

____________ paragraph of the audit report.
ANSWER: SCOPE
57. Generally accepted auditing standards are addressed in the
paragraph of the audit report, whereas generally

accepted accounting principles are the evaluation standard
used in the paragraph.
ANSWER: SCOPE, OPINION
58. The two relevant dates in a dual-dated audit report are the
date of completion of audit field work and the date of the
.
ANSWER: SUBSEQUENT EVENT
59. An unqualified audit opinion may be rendered only when the

financial statements contain no material departures from
GAAP, and when no material have
prevented the auditor from collecting sufficient, competent
evidence.
ANSWER: SCOPE LIMITATIONS (RESTRICTIONS)
60. The statement "in our opinion the financial statements do

not present fairly" is included in a(n) ____________
opinion.
ANSWER: ADVERSE
61. The responsibilities of management and the auditors with

respect to the financial statements are described in the
paragraph of the audit report.
ANSWER: INTRODUCTORY
62. An audit report, in a separate paragraph following the

opinion paragraph, describes the impact of related party
transactions that have been properly reflected and disclosed

in the financial statements. This form of report
illustrates __ .
ANSWER: EMPHASIS OF A MATTER
63. A CPA who audited the financial statements for the preceding
year, and will also be auditing the current year, is said to
be a auditor.
ANSWER: CONTINUING
64. If a scope restriction is material and client-imposed, the

auditor should render a(an) (qualified, adverse,
disclaimer of) opinion.
ANSWER: DISCLAIMER OF
65. A fourth paragraph making reference to omission of

supplemental data required by FASB is categorized as
.
ANSWER: EMPHASIS OF A MATTER
66. If financial statements have been prepared utilizing a

comprehensive basis of accounting other than GAAP, the
auditor will evaluate fairness within the framework of
____ __________ ________.
ANSWER: THE OTHER BASIS
MATCHING:
67. From the following types of audit reports, select the one
that best fits each of the listed situations. A given selection
may be used once, more than once, or not at all.
A. Standard audit report

B. Report qualified because of scope restriction
C. Report qualified because of departure from GAAP
D. Adverse opinion
E. Disclaimer of opinion
F. Unqualified opinion with explanatory paragraph following
opinion paragraph
_____1. Management refuses to permit the audit team to confirm

accounts receivable which comprise 30% of current

assets. The auditors are unable to satisfy
themselves
by other means.
_____2. Although significant related party transactions have

occurred, they are fully explained in the notes to the
financial statements; and related party receivables and
payables are separately reflected on the balance sheet.
_____3. A major legal action, fully described in Note 3 to the

financial statements, was been brought against the
client during the year being audited. Although the
outcome is unknown, a significant loss could result.
_____4. A patent infringement lawsuit, that could produce a

significant damage award, was filed against the client
during the year being audited. To maintain
confidentiality, the company elected not to
disclose the lawsuit in the notes to the financial
statements.
_____5. Although the financial statements appear to be fairly

presented in all other respects, the auditors have been
unable to satisfy themselves regarding the future
economic benefit of certain intangible assets. The
aggregate balance in these accounts is considered to be
material.
_____6. The auditors did not review the quarterly financial data
of Client A, a publicly held company. The data is
included in the annual report to stockholders as
part of the supplemental financial data.
_____7. Given significant appreciation of its plant assets,

Client B elects to report them at current replacement
cost. The dollar amount of these assets accounts for
60% of total assets. The offsetting credit resulting
from the write-up was to an account entitled
“appreciation surplus” and is reflected as part of
stockholders’ equity.
_____8. Although the client has applied an accounting principle

not in accordance with GAAP, the audit team is satisfied
that conforming to GAAP would make the financial
statements materially misleading.
_____9. Client F has suffered recurring losses over the past few
years, along with negative cash flows. In the auditors’
opinion, management has not demonstrated a viable plan
for getting the company “back on track.” The financial
statements adequately disclose the company’s financial
position, results of operations, and cash flows.
_____10. The auditors were appointed by Client G after year-end,

and therefore were unable to observe the taking of the
company’s physical inventory. Given adequate perpetual
inventory records and documentation of transactions, the
audit team was able to satisfy themselves as to the
reasonableness of the ending inventory.
SOLUTION:
1. E
2. A
3. A
4. C
5. B
6. F
7. D
8. F
9. F
10. A
PROBLEM/ESSAY
68. Jonathon Hershey, CPA, is the senior auditor for Web Stores,
Inc., a company that markets products on the Internet. The
current year-end is January 31, 2003. Last year's audit report
contained an explanatory paragraph because of doubt regarding the
ability of Web Stores to continue as a going concern. The
company had defaulted on two major loan agreements, and appeared
to be losing the race to develop a solid commercial presence on
the Internet. Since the date of last year's audit report,
however, company management has changed. A new advertising
campaign and innovative marketing techniques, have proven
successful. Creditors have agreed to major debt restructuring
agreements, and the client appears to be "out of the woods."
Required:
Assuming the company presents comparative financial

statements for 2003 and 2002, explain how the current audit
report, as it relates to 2002, will differ from the original
report on the 2002 statements. Do not draft an audit
report.
SOLUTION:
Last year’s audit report covering the year ended January 31,
2002, included a fourth paragraph following the opinion
paragraph. Explanatory in nature, this paragraph expressed the
auditor’s doubt as to the ability of Web Stores, Inc. to continue
as a going concern. Given the favorable developments during the
past year, the current report should omit the fourth paragraph.
69. General Joe’s Wholesale Produce changed its method for

depreciating plant assets from historical cost straight-line to
replacement cost straight-line at the beginning of its fiscal
year ended March 31, 2003. Plant assets were also written up to
reflect replacement cost.
Required:
a. What type of accounting change is presented in this case?

b. Discuss the possible audit report modifications resulting
from this change.
SOLUTION:
a. This is an error since replacement cost accounting for

plant assets is at variance with GAAP.
b. Depending on the materiality of the amounts involved,
the auditor should either qualify the audit opinion or render an
adverse opinion.
70. Audit reports frequently contain an explanatory paragraph

following the scope paragraph or the opinion paragraph.
Required:
a. Describe the conditions under which one might expect to
find an explanatory paragraph following the opinion paragraph of
the audit report.
b. Describe the conditions under which an explanatory
paragraph is mandatory.
c. Draft an explanatory paragraph for the following
situation:
Doria Gray, the chief executive officer of Doria’s

Beauty Botiques, Inc., also owns a large cosmetics supply
company, Gray’s Cosmetics, Ltd. Several material
transactions have been completed between Doria’s Beauty
Botiques and Gray’s Cosmetics. A sizeable receivable from
Gray’s Cosmetics appears on Doria’s Beauty Botiques’ balance
sheet. As auditor for Doria’s Beauty Botiques, you have
concluded that the transactions have been properly reflected
in the financial statements, and adequately described in
Note 4 to the financial statements.
SOLUTION:
a. The auditor may elect to add an explanatory paragraph under

any one or more of the following conditions.:
1. Departure from a designated principle and the
auditor agrees with the departure;
2. Doubt as to going concern ability;
3. Change in accounting principle properly accounted
for and disclosed;
4. Emphasis of a matter
In addition, omission of supplemental information required by
FASB, discovered errors or inconsistencies in the data, or
failure of the auditor to apply limited procedures to the data,
may require an explanatory paragraph. The explanatory paragraph
does not in any way qualify the auditor's opinion.
b. In some cases the explanatory paragraph is optional; in
other cases it is required. In the above listing, only (4),
emphasis of a matter permits auditor discretion as to whether or
not to add the paragraph. In all of the other categories,
including supplemental information required by FASB, the
paragraph is mandatory.
c. The Company is under common control with an affiliate
and has had significant transactions with this company (See Note
4).

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Chapter 14 Audit Reports 231

1. An auditor would issue an adverse opinion if

2. An audit report contains the following paragraph: "Because

3. A limitation on the scope of the auditor's examination

4. The auditor issued a qualified opinion covering the

5. When financial statements are presented that are not in

6. Under which of the following circumstances would a

d. The client refuses to permit its attorney to furnish

7. An auditor may reasonably issue an "except for" qualified

8. An auditor's report would be designated as a special report

9. A limitation on the scope of an auditor's examination

10. When there is a significant change in accounting principle,

11. Which of the following subsequent events will be least

13. Under which of the following circumstances would a

information requested in a letter of audit inquiry.

14. An auditor concludes that there is substantial doubt about

15. Management of Blue Company has decided not to account for a

16. In the "management discussion and analysis" contained in the

between the MD&A and the audited financial statements,

18. If the auditor believes that financial statements which are

19. Morgan, CPA, is the principal auditor for a multi-national

Morgan's report on the consolidated financial statements,

20. A post-audit review, conducted by another audit partner,

21. The auditor's report should be dated as of the date on which

a. Determine whether the information is reliable and

23. Which of the following best describes the auditor's

24. When an auditor conducts an examination in accordance with

25. In which of the following circumstances would an auditor be

26. Under which of the following circumstances would an

27. Doe, an independent auditor, was engaged to perform an

alternative auditing procedures. Doe's auditor's report

28. The adverse effects of events causing an auditor to believe

29. Comparative financial statements include the financial

30. When reporting on financial statements prepared on a

b. States that the financial statements are not intended

31. After an audit report containing an unqualified opinion on a

32. An audit report contained the following wording: "In our

33. An auditor includes a separate paragraph in an otherwise

b. Necessitates a revision of the opinion paragraph to

34. An audit report contains the following paragraph: "Since

35. An auditor's examination reveals a misstatement in segment

36. An auditor's report on financial statements that are

c. An opinion as to whether the financial statements are

37. When the financial statements are prepared on the going

38. Client A reports property, plant, and equipment at appraisal

39. A CPA engaged to examine financial statements observes that

affect the type of opinion because the deviation from

40. When a principal auditor decides to make reference to

41. An auditor may issue a qualified opinion under which of the

Lack of sufficient Restrictions on the

42. In which of the following circumstances may the auditor

43. Does the auditor make the following representations

44. When there is a significant change in accounting principle,

45. In which of the following situations would an auditor

46. How are management's responsibility and the auditor's

47. An auditor should disclose the substantive reasons for

48. When the financial statements contain a departure from

49. Tread Corp. accounts for the effect of a material accounting

50. The Securities and Exchange Commission has authority to