When disclaiming an opinion due to a client-imposed scope limitation, an auditor should indicate

in a separate paragraph why the audit did not comply with generally accepted auditing standards.
The auditor should also omit the:

Auditor's
Responsibilit Opinion
y paragrap
paragraph h
a. No No

b. No Yes

c. Yes Yes

d. Yes No
Explanation

Choice "a" is correct. When disclaiming an opinion because of scope limitations, the auditor
should indicate in a separate paragraph(s) the reasons that the audit did not comply with GAAS.
The Auditor's Responsibility paragraph is revised to mention the disclaimer, but is not omitted.
The Opinion paragraph is not omitted; however it indicates that no opinion is expressed.

Choices "b", "c", and "d" are incorrect, as per the above explanation.

Davis, CPA, believes there is substantial doubt about the ability of Hill Co. to continue as a
going concern for a reasonable period of time. In evaluating Hill's plans for dealing with the
adverse effects of future conditions and events, Davis most likely would consider, as a mitigating
factor, Hill's plans to:

a. Accelerate research and development projects related to future products.

b. Purchase equipment and production facilities currently being leased.
c. Accumulate treasury stock at prices favorable to Hill's historic price range.
d. Negotiate reductions in required dividends being paid on preferred stock.
Explanation

Choice "d" is correct. Negotiating reductions in required dividends would conserve cash, which
would be a mitigating factor in Davis' concerns about Hill's ability to continue as a going
concern.

Choice "a" is incorrect. Accelerating R&D projects would use cash and impair the company's
ability to continue as a going concern.
Choice "c" is incorrect. Accumulating treasury stock would consume cash and aggravate the
situation.

Choice "b" is incorrect. Purchasing equipment that is currently leased would use cash and impair
the company further.

A limitation on the scope of an audit sufficient to preclude an unmodified opinion will usually
result when management:

Refuses to disclose in the notes to the financial statements related party transactions
a.
authorized by the Board of Directors.
Does not provide the auditor with an engagement letter specifying the responsibilities of
b.
both the entity and the auditor.
Is unable to obtain audited financial statements supporting the entity's investment in a
c.
foreign subsidiary.
Fails to correct a significant deficiency in internal control communicated to those charged
d.
with governance after the prior year's audit.
Explanation

Choice "c" is correct. Restrictions on the scope of the audit, such as the timing of the work, the
inability to obtain sufficient appropriate audit evidence, or an inadequacy in the accounting
records, may require the auditor to qualify or disclaim an opinion. Inability to obtain audited
financial statements supporting the entity's investment in a foreign subsidiary is such a restriction
on the scope of the audit.

Choice "a" is incorrect. Client refusal to disclose related party transactions in the notes to the
financial statements is a GAAP problem, not a scope problem. For a GAAP problem, the auditor
must either issue a qualified or adverse opinion.

Choice "b" is incorrect. The auditor sends an engagement letter to the client, not vice versa.

Choice "d" is incorrect. Management may choose not to correct a significant deficiency in
internal control if the cost of correcting the condition outweighs the benefit.

In which of the following situations would an auditor ordinarily choose between expressing an
"except for" qualified opinion or an adverse opinion?

The auditor is asked to report only on the entity's balance sheet and not on the other basic
a.
financial statements.
The financial statements fail to disclose information that is required by generally accepted
b.
accounting principles.
The auditor did not observe the entity's physical inventory and is unable to become
c.
satisfied as to its balance by other auditing procedures.
Events disclosed in the financial statements cause the auditor to have substantial doubt
d.
about the entity's ability to continue as a going concern.
Explanation

Choice "b" is correct. Failure to disclose information that is required by GAAP is a departure
from GAAP. Departures from GAAP result in a qualified or an adverse opinion.

Choice "c" is incorrect. If the auditor is unable to observe physical inventory and is unable to
become satisfied through alternative means, that is a scope limitation. Scope limitations result in
either a qualified opinion or a disclaimer of opinion.

Choice "a" is incorrect. The auditor can report on one financial statement and not the others. This
does not preclude issuance of an unmodified opinion.

Choice "d" is incorrect. If, after considering identified conditions and events and management's
plans, the auditor concludes that substantial doubt about the entity's ability to continue as a going
concern for a reasonable period of time remains, the audit report should include an emphasis-of-
matter paragraph (after the opinion paragraph in the unmodified report) to reflect that conclusion.

How does an auditor make the following representations when issuing the auditor's report on
comparative financial statements under U.S. auditing standards?

Obtaining
evidence
that Consistent
is applicatio
sufficient n of
and accountin
appropriat g
e principles
a. Explicitly Implicitly

b. Implicitly Implicitly

c. Explicitly Explicitly

d. Implicitly Explicitly
Explanation

Choice "a" is correct. Explicitly - Implicitly.

Under U.S. auditing standards, the auditor explicitly states in the Auditor's Responsibility
paragraph of the opinion: "We believe that the audit evidence we have obtained is sufficient and
appropriate to provide a basis for our audit opinion." Consistency is implied in the auditor's
report.

Choices "c", "b", and "d" are incorrect, as per above explanation.
An auditor was unable to obtain sufficient appropriate audit evidence concerning certain
transactions due to an inadequacy in the entity's accounting records. The auditor would choose
between issuing a(an):

a. Qualified opinion and an unmodified opinion with an emphasis-of-matter paragraph.

b
Disclaimer of opinion and a qualified opinion.
.
c. Unqualified opinion with an emphasis-of-matter paragraph and an adverse opinion.
d
Adverse opinion and a disclaimer of opinion.
.
Explanation

Choice "b" is correct. Client-imposed restrictions of scope such as those caused by inadequate
records would cause the auditor to choose between issuing a disclaimer of opinion and a
qualified opinion.

Choice "a" is incorrect. An unmodified opinion would only be justified if the transactions in
question were not material, but in such situations, no emphasis-of-matter paragraph would be
required.

Choices "c" and "d" are incorrect. An adverse opinion pertains to GAAP and would not be used
for reporting restrictions of scope.

Under U.S. GAAS, in which of the following situations would a group engagement partner least
likely make reference to component auditor who audited a subsidiary of the entity?

The group engagement partner finds it impractical to review the component auditor's work
a.
or otherwise be satisfied as to the component auditor's work.
The group engagement partner is unable to be satisfied as to the independence and
b.
professional reputation of the component auditor.
The component auditor was retained by the group engagement partner and the work was
c.
performed under the group engagement partner's guidance and control.
The financial statements audited by the component auditor are material to the consolidated
d.
financial statements covered by the group engagement partner's opinion.
Explanation

Choice "c" is correct. Under U.S. GAAS, when the group engagement partner assumes
responsibility for the component auditor's work, the group engagement partner would not
mention the component auditor in the audit report (opinion). The group engagement auditor
would generally assume responsibility after reviewing the audit documentation of the component
auditor and performing supplemental audit tests, or by reputation, e.g., if the component auditor
is a correspondent (foreign) firm in which the group engagement partner auditor has developed
confidence.
Choices "a" and "d" are incorrect. When the group engagement partner finds it impractical to
review the component auditor's work, or when the FS audited by the other auditor are material, it
is more likely that the group engagement partner will divide responsibility and make reference to
the component auditor.

Choice "b" is incorrect. The group engagement partner should always make inquiries regarding
the independence and professional reputation of the component auditor. Inability to become
satisfied in this regard would constitute a scope limitation, resulting in a qualified opinion or
disclaimer of opinion. In either of these scenarios, it is likely that the component auditor would
be mentioned within an explanatory paragraph.

An auditor should disclose the substantive reasons for expressing an adverse opinion in a basis
for modification paragraph:

a. Following the opinion paragraph.

b. Within the notes to the financial statements.
c. Preceding the introductory paragraph.
d. Preceding the opinion paragraph.
Explanation

Choice "d" is correct. The auditor should disclose the substantive reasons for expressing an
adverse opinion in a separate basis for adverse opinion paragraph preceding the opinion
paragraph.

Choice "c" is incorrect. There are no circumstances where any paragraph precedes the
introductory paragraph.

Choice "a" is incorrect. An emphasis-of-matter paragraph follows the opinion paragraph when
there is a change in accounting principle or when there is doubt as to going concern.

Choice "b" is incorrect. The auditor cannot include any type of explanatory material in the
financial statements, which are the responsibility of management.

When management does not provide reasonable justification that a change in accounting
principle is preferable and it presents comparative financial statements, the auditor should
express a qualified opinion:

a. Only if the change is to an accounting principle that is not generally accepted.

b
Each year until management changes back to the accounting principle formerly used.
.
c. Only in the year of the accounting principle change.
d
Each year that the financial statements initially reflecting the change are presented.
.
Explanation
Choice "d" is correct. When management does not provide reasonable justification that a change
in accounting principle is preferable and it presents comparative FS, the auditor should express a
qualified opinion each year that the FS initially reflecting the change

When an independent CPA is associated with the financial statements of a publicly held entity
but has not audited or reviewed such statements, the appropriate form of report to be issued must
include a(an):

a. Compilation report.
b. Disclaimer of opinion.
c. Qualified opinion.
d. Unaudited association report.
Explanation

Choice "b" is correct. A "disclaimer of opinion" must be issued when a CPA is "associated" with
FS of a publicly held entity, but has not audited or (interim) reviewed such FS.

Choice "a" is incorrect. A "compilation report" refers to a report related to a non-public entity.

Choice "d" is incorrect. There is no such thing as an "unaudited association report."

Choice "c" is incorrect. The auditor did not audit the FS, so he/she cannot issue an opinion on
them.

Restrictions imposed by a retail entity that is a new client prevent an auditor from observing any
physical inventories. These inventories account for 40% of the entity's assets. Alternative
auditing procedures cannot be applied due to the nature of the entity's records. Under these
circumstances, the auditor should express a(an):

a. Qualified opinion.
b
Disclaimer of opinion.
.
c. Unmodified opinion with an explanatory paragraph.
d
Adverse opinion.
.
Explanation

Choice "b" is correct. Since the auditor is unable to observe inventory or apply alternative audit
procedures, a scope limitation exists. Due to the significance of the inventory balance (40% of
total assets is quite material), a disclaimer of opinion (rather than simply a qualification) is
appropriate.

Choice "a" is incorrect. Since the inventory balance is so material, a qualified opinion is not
sufficient in this case.
Choice "d" is incorrect. An adverse opinion is not an appropriate response to a scope limitation.

Choice "c" is incorrect. Since the scope limitation relates to a material balance, an unqualified
opinion is not appropriate.

Which of the following audit procedures most likely would assist an auditor in identifying
conditions and events that may indicate substantial doubt about an entity's ability to continue as a
going concern?

a. Reviewing lease agreements to determine whether leased assets should be capitalized.

b
Reading the minutes of meetings of the stockholders and the board of directors.
.
c. Inspecting title documents to verify whether any assets are pledged as collateral.
d
Comparing the market value of property to amounts owed on the property.
.
Explanation

Choice "b" is correct. The auditor should examine any evidence that appears contrary to the basic
principle of going concern. Reviewing the minutes from stockholder and board of director
meetings is one procedure that is used in this regard.

Choice "d" is incorrect. Comparison of the market value of property to amounts owed on the
property determines its net value, but would not necessarily indicate a going concern issue.

Choice "a" is incorrect. Reviewing lease agreements to determine whether leased assets should
be capitalized is important in evaluating the financial statements, but it would not provide
evidence of going concern issues.

Choice "c" is incorrect. Inspecting title documents to verify whether any assets are pledged as
collateral provides information regarding presentation and disclosure, but would not provide
evidence of going concern issues.

Which of the following procedures most likely would assist an auditor in identifying conditions
and events that may indicate substantial doubt about an entity's ability to continue as a going
concern?

a. Inquiring of the entity's legal counsel about litigation, claims, and assessments.
Performing cutoff tests of sales transactions with customers with long-standing receivable
b.
balances.
c. Inspecting title documents to verify whether any real property is pledged as collateral.
d. Evaluating the entity's procedures for identifying and recording related party transactions.
Explanation
Choice "a" is correct. If a liability is significant enough, it may give rise to a situation in which
there is substantial doubt about an entity's ability to continue as a going concern. Inquiring of an
entity's legal counsel about litigation, claims, and assessments is one way to determine whether
such a liability exists.

Choice "b" is incorrect. Cutoff tests are used to determine whether sales are recorded in the
proper period. Applying such tests to customer accounts with long-standing receivable balances
would not provide information about the entity's ability to continue as a going concern.

Choice "d" is incorrect. Evaluating the entity's procedures for identifying and recording related
party transactions is a means for the auditor to evaluate financial statement presentation and
disclosure, but it does not provide information about going concern issues.

Choice "c" is incorrect. Identifying situations in which real property is pledged as collateral is a
means for the auditor to evaluate financial statement presentation and disclosure, but it does not
provide information about going concern issues.

A CPA's report on audited financial statements under U.S. auditing standards would be
inappropriate if it referred to:

a. Management's responsibility for the financial statements.

b. Significant estimates made by management.
c. The CPA's assessment of sampling risk factors.
d. An assessment of the entity's accounting principles.
Explanation

Choice "c" is correct. The CPA's report on audited financial statements does not include matters
related to the auditor's assessment of specific risk factors.

Choice "a" is incorrect. The CPA's report on audited financial statements includes an explanation
that management is responsible for the preparation and fair presentation of the financial
statements.

Choices "d" and "b" are incorrect. The CPA's audit includes evaluating the appropriateness of the
accounting policies used and the reasonableness of significant accounting estimates made by
management, as well as evaluating the overall presentation of the financial statements. This is
mentioned in the auditor's responsibility paragraph.

When an auditor has substantial doubt about an entity's ability to continue as a going concern
because of the probable discontinuance of operations, the auditor most likely would express a
qualified opinion if:

a. Information about the entity's ability to continue as a going concern is not disclosed.
b Management has no plans to reduce or delay future expenditures.
 .
c. Negative trends and recurring operating losses appear to be irreversible.
d
The effects of the adverse financial conditions likely will cause a bankruptcy filing.
.
Explanation

Choice "a" is correct. In a situation where it is likely that an entity's operations will be
discontinued, disclosure of information about the entity's ability to continue as a going concern is
required by GAAP. Failure to make such disclosure would be a departure from GAAP, resulting
in either a qualified or adverse opinion.

Choice "d" is incorrect. As long as the going concern situation is adequately disclosed, the fact
that there will be a bankruptcy filing would not cause the auditor to express a qualified opinion.
Generally, an emphasis-of-matter paragraph would be added following the opinion paragraph of
the unmodified report.

Choice "b" is incorrect. As long as the going concern situation is adequately disclosed, the fact
that management does not intend to reduce or delay future expenditures would not cause the
auditor to express a qualified opinion. Generally, an emphasis-of-matter paragraph would be
added following the opinion paragraph of the unmodified report.

Choice "c" is incorrect. As long as the going concern situation is adequately disclosed, the fact
that negative trends and recurring operating loses appear to be irreversible would not cause the
auditor to express a qualified opinion. Generally, an emphasis-of-matter paragraph would be
added following the opinion paragraph of the unmodified report.

An auditor believes that there is substantial doubt about an entity's ability to continue as a going
concern for a reasonable period of time. In evaluating the entity's plans for dealing with the
adverse effects of future conditions and events, the auditor most likely would consider, as a
mitigating factor, the entity's plans to:

a. Lease rather than purchase operating facilities.

b. Issue stock options to key executives.
c. Accelerate the due date of an existing mortgage.
d. Repurchase the entity's stock at a price below its book value.
Explanation

Choice "a" is correct. Leasing rather than purchasing operating facilities results in reduced (or at
least delayed) expenditures, which is a mitigating factor in a going concern situation.

Choice "d" is incorrect. Mitigating factors in a going concern situation include plans to dispose
of assets, plans to borrow money or restructure debt, plans to reduce or delay expenditures, or
plans to increase ownership equity. Repurchasing stock is an outflow of cash that would reduce
ownership equity; as such, it is not a mitigating factor.
Choice "b" is incorrect. Mitigating factors in a going concern situation include plans to dispose
of assets, plans to borrow money or restructure debt, plans to reduce or delay expenditures, or
plans to increase ownership equity. Issuing stock options does not fall into any of these
categories and would not be considered a mitigating factor.

Choice "c" is incorrect. Mitigating factors in a going concern situation include plans to dispose
of assets, plans to borrow money or restructure debt, plans to reduce or delay expenditures, or
plans to increase ownership equity. Accelerating the due date of an existing mortgage would
increase expenditures, and therefore would not be a mitigating factor.

Which of the following is true regarding the audit report for an issuer?

Reference may be made in the auditor's responsibility paragraph to either PCAOB

a.
standards or generally accepted auditing standards.
PCAOB standards should not be mentioned at all, although their use is implied in the
b.
auditor's report.
Reference should be made in the auditor's responsibility paragraph to PCAOB standards,
c.
and in the opinion paragraph to generally accepted accounting principles.
Reference should be made in the auditor's responsibility paragraph to both PCAOB
d.
standards and generally accepted auditing standards.
Explanation

Choice "c" is correct. An auditor reporting on the audit of financial statements of an issuer
should indicate in the auditor's responsibility paragraph that the engagement was conducted in
accordance with PCAOB standards, and should refer to GAAP in the opinion paragraph.

Choice "d" is incorrect. An auditor reporting on the audit of financial statements of an issuer is
required to refer to PCAOB standards in the auditor's responsibility paragraph. Auditors of
nonissuers may include a reference to PCAOB standards.

Choice "b" is incorrect. An auditor reporting on the audit of financial statements of an issuer
should indicate in the audit report that the engagement was conducted in accordance with
PCAOB standards. This is an explicit statement in the report; it is not implied or assumed.

Choice "a" is incorrect. An auditor reporting on the audit of financial statements of an issuer
should indicate in the auditor's responsibility paragraph that the engagement was conducted in
accordance with PCAOB standards. Referring to generally accepted auditing standards instead is
not an option, as audits of issuers must follow PCAOB standards.

Under which of the following circumstances would an auditor's expression of an unmodified

opinion be inappropriate?

a. The auditor is unable to obtain the audited financial statements of a significant subsidiary.
Analytical procedures indicate that many year-end account balances are not comparable
b.
with the prior year's balances.
 There are significant deficiencies in the design and operation of the entity's internal
c.
control.
d. The financial statements are prepared on the entity's income tax basis.
Explanation

Choice "a" is correct. If the auditor is unable to obtain the audited financial statements of a
significant subsidiary, a scope limitation exists. Assuming the effect is material, the auditor
would issue either a qualified opinion or a disclaimer of opinion.

Choice "d" is incorrect. Financial statements prepared on an entity's income tax basis are "special
purpose framework financial statements." The auditor may issue a special report, which can
include an unmodified opinion, on special purpose framework financial statements.

Choice "c" is incorrect. Significant deficiencies in the design and operation of an entity's internal
control do not preclude issuance of an unmodified opinion, although they do increase the risk of
material misstatement and will likely result in modifications to the nature, timing, and extent of
the auditor's testing.

Choice "b" is incorrect. An unmodified opinion may still be expressed when there are significant
changes in year-end account balances as compared to prior year balances, as long as the auditor
has obtained sufficient appropriate audit evidence about the current balances.

Under which of the following circumstances would the expression of a disclaimer of opinion be
inappropriate?

Management does not provide reasonable justification for a change in accounting

a.
principles.
Management refuses to allow the auditor to have access to the company's canceled checks
b.
and bank statements.
The company failed to make a count of its physical inventory during the year and the
c.
auditor was unable to apply alternative procedures to verify inventory quantities.
d. The auditor is unable to obtain the audited financial statements of a consolidated investee.
Explanation

Choice "a" is correct. If management does not provide reasonable justification for a change in
accounting principles, the auditor would issue a qualified or adverse opinion, depending on
materiality.

Choice "d" is incorrect. If the auditor is unable to obtain the audited financial statements of a
consolidated investee, a qualified opinion or a disclaimer of opinion would be issued, depending
on materiality.

Choice "c" is incorrect. If the company failed to make a count of its physical inventory during
the year and the auditor was unable to apply alternative procedures to verify inventory quantities,
a qualified opinion or a disclaimer of opinion would be issued, depending on materiality.
Choice "b" is incorrect. If management refuses to allow the auditor to have access to the
company's canceled checks and bank statements, a qualified opinion or a disclaimer of opinion
would be issued, depending on materiality.

A CPA firm is completing the fieldwork for an audit of Swenson Co. for the current year ended
December 31. The manager in charge of the audit is performing the final steps in the evidence
accumulation phase of the audit and notes that there have been several changes in Swenson
during the year under audit. Which of the following items would indicate there could be
substantial doubt about Swenson's ability to continue as a going concern for a reasonable period
of time?

a. A lack of significant contracts with new customers.

b. Term debt refinanced with a new bank.
c. Recurring working capital shortages.
d. Cash infusion by a venture capital firm.
Explanation

Choice "c" is correct. Negative trends such as recurring working capital shortages are often
indicative of substantial doubt about a company's ability to continue as a going concern.

Choice "d" is incorrect. A cash infusion would improve the company's financial situation.

Choice "a" is incorrect. A lack of significant contracts with new customers might not be cause
for concern, as long as the company has a stable and profitable customer base.

Choice "b" is incorrect. Refinancing debt often improves the terms of the debt for the borrower.

A CPA concludes that the unaudited financial statements on which the CPA is disclaiming an
opinion are not in conformity with generally accepted accounting principles (GAAP) because
management has failed to capitalize leases. The CPA suggests appropriate revisions to the
financial statements, but management refuses to accept the CPA's suggestions. Under these
circumstances, the CPA ordinarily would:

Describe the nature of the departure from GAAP in the CPA's report and state the effects
a.
on the financial statements, if practicable.
Issue a qualified opinion or adverse opinion depending on the materiality of the departure
b.
from GAAP.
Restrict the distribution of the CPA's report to management and the entity's board of
c.
directors.
Express limited assurance that no other material modifications should be made to the
d.
financial statements.
Explanation
Choice "a" is correct. If the client refuses to accept the CPA's suggestions, the CPA should add a
paragraph modifying the disclaimer to describe the nature and effect of the departure from
GAAP.

Choice "d" is incorrect. If the CPA issues a disclaimer of opinion, no assurance (not even limited
assurance) is expressed with respect to the financial statements.

Choice "c" is incorrect. If the client refuses to accept the CPA's suggestions, the CPA should
modify the disclaimer to describe the situation, but would not be required to restrict the use of
the report.

Choice "b" is incorrect. If the CPA issues a disclaimer of opinion, no assurance is expressed and
no opinion is rendered. A qualified or adverse opinion provides a level of assurance beyond that
contemplated by a disclaimer.

A client decides not to make an auditor's proposed adjustments that collectively are not material,
and wants the auditor to issue the report based on the unadjusted numbers. Which of the
following statements is correct regarding the financial statement presentation?

The financial statements are free from material misstatement, and no disclosure is required
a.
in the notes to the financial statements.
The financial statements do not conform with generally accepted accounting principles
b.
(GAAP).
The financial statements contain unadjusted misstatements that should result in a qualified
c.
opinion.
The financial statements are free from material misstatement, but disclosure of the
d.
proposed adjustments is required in the notes to the financial statements.
Explanation

Choice "a" is correct. An unmodified opinion states that the financial statements are presented
fairly, in all material respects. Since the collective effect of the proposed adjustments is
immaterial, an unmodified opinion should be expressed. In addition, footnote disclosure of
proposed immaterial adjustments is not required.

Choice "b" is incorrect. The AICPA defines fair presentation as reflecting the underlying
transactions of a company in a manner that represents the financial statements within a range of
acceptable limits. Since the collective effect of the proposed adjustments is immaterial, the
financial statements would be considered to conform to generally accepted accounting principles.

Choice "c" is incorrect. An unmodified opinion states that the financial statements are presented
fairly, in all material respects. Since the collective effect of the proposed adjustments is
immaterial, an unmodified opinion should be expressed.

Choice "d" is incorrect. The AICPA defines fair presentation as reflecting the underlying
transactions of a company in a manner that represents the financial statements within a range of
acceptable limits. Since the collective effect of the proposed adjustments is immaterial, the
financial statements would be considered to conform to generally accepted accounting principles,
and footnote disclosure of the proposed adjustments would not be required.

An auditor believes that there is substantial doubt about an entity's ability to continue as a going
concern for a reasonable period of time. In evaluating the entity's plans for dealing with the
adverse effects of future conditions and events, the auditor most likely would consider, as a
mitigating factor, the entity's plans to:

a. Operate at increased levels of production.

b. Extend the due dates of existing loans.
c. Accelerate expenditures for research and development projects.
d. Issue stock options to key executives.
Explanation

Choice "b" is correct. Plans to delay expenditures, such as extending the due dates of existing
loans, would be considered a mitigating factor.

Choice "a" is incorrect. Plans to reduce expenditures would be considered a mitigating factor, but
operating at increased levels of production would likely increase expenditures, not reduce them.

Choice "c" is incorrect. Plans to delay expenditures would be considered a mitigating factor.
Accelerating expenditures would not be a mitigating factor, as it would tend to reduce cash flow
even further.

Choice "d" is incorrect. Issuance of stock options does not provide an inflow of cash, and would
not be a mitigating factor. (Remember that options would only provide an inflow of cash if they
were exercised.)

Under International Standards on Auditing, the going concern period is:

a. At least one year from the date of the financial statements being audited.
b
No more than one year from the date of the financial statements being audited.
.
c. Equal to one year from the date of the financial statements being audited.
d
May be more or less than one year from the date of the financial statements being audited.
.
Explanation

Choice "a" is correct. Under ISAs, the going concern period must be at least, but not limited to,
twelve months from the date of the financial statements being audited. Under U.S. auditing
standards, the going concern period cannot exceed one year from the date of the financial
statements being audited.

Choices "b", "c", and"d" are incorrect, based on the above answer.
Grant Company's financial statements adequately disclose uncertainties that concern future
events, the outcome of which are not susceptible of reasonable estimation. The auditor's report
should include a (an):

a. Adverse opinion.
b. Unmodified opinion.
c. "Subject to" qualified opinion.
d. "Except for" qualified opinion.
Explanation

Choice "b" is correct. The auditor should issue an "unmodified opinion" when management
adequately discloses future events, the outcome of which are not susceptible of reasonable
estimation. Under U.S. auditing standards an emphasis-of-matter paragraph may be added by the
auditor if the matter is of such importance that it is fundamental to the users' understanding of the
financial statements. International Standards on Auditing recommend the addition of a paragraph
describing the significant uncertainty.

Choice "c" is incorrect. "Subject to" qualified opinions are not permitted.

Choice "d" is incorrect. An "except for" qualified opinion would not be used as there is adequate
disclosure and there are no scope limitations.

Choice "a" is incorrect. An adverse opinion would not be used because the FS are presented
"fairly" in conformity with GAAP.

When qualifying an opinion because of an insufficiency of audit evidence, an auditor should

refer to the situation in the:

Basis for Notes to

Qualified the
Opinion financial
paragrap statement
h s
a. Yes Yes

b. No Yes

c. Yes No

d. No No
Explanation

Choice "c" is correct. When a qualified opinion results from a limitation on the scope of the audit
or an insufficiency of audit evidence, the situation should be described in the Basis for Qualified
Opinion paragraph preceding the opinion paragraph and referred to in the opinion paragraph of
the auditor's report. It is not appropriate for the scope of the audit to be explained in a note to the
financial statements, since the description of the audit scope is the responsibility of the auditor
and not that of the client.

Choices "a", "b", and "d" are incorrect based on the above explanation.

An auditor believes there is substantial doubt about an entity's ability to continue as a going
concern for a reasonable period of time. In evaluating the entity's plans for dealing with the
adverse effects of future conditions and events, the auditor most likely would consider, as a
mitigating factor, the entity's plans to:

a. Postpone expenditures to upgrade its information technology system.

b
Pay cash dividends that are in arrears to the preferred stockholders.
.
c. Purchase production facilities currently being leased from a third party.
d
Increase the useful lives of plant assets for depreciation purposes.
.
Explanation

Choice "a" is correct. When an auditor believes that there is substantial doubt about an entity's
ability to continue as a going concern, the auditor is required to consider management's plans for
dealing with the conditions or events that led to the auditor's belief, including:

1. Plans to borrow money or restructure debt

2. Plans to sell assets
3. Plans to delay or reduce expenditures
4. Plans to increase ownership equity

Choice "c" is incorrect. Making a decision to purchase rather than continue leasing would
generally not be a mitigating factor for the concern over whether a company can continue as a
going concern.

Choice "b" is incorrect. Making a decision to pay cash dividends would generally not be a
mitigating factor for the concern over whether a company can continue as a going concern.

Choice "d" is incorrect. Making a decision to increase the useful life estimate of capital assets
would not be considered a genuine mitigating factor for the concern over whether a company can
continue as a going concern. In fact, it would likely concern the auditor that the management was
trying to cover up their financial results through the use of an unreasonable estimate.

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. The entity's financial statements adequately
disclose its financial difficulties. Under these circumstances, the auditor's report is required to
include an emphasis-of-matter paragraph that specifically uses the phrase(s):
 "Except for "Possible
the effects discontinuanc
of such e
adjustments of the entity's
" operations"
a. No Yes

b. Yes No

c. Yes Yes

d. No No
Explanation

Choice "d" is correct. The wording of the explanatory paragraph must include the terms
"substantial doubt" and "going concern." The phrases in the above question are not required to be
used.

Choices "c", "b", and "a" are incorrect based on the above explanation.

Which of the following conditions or events most likely would cause an auditor to have
substantial doubt about an entity's ability to continue as a going concern?

a. Restrictions on the disposal of principal assets are present.

b
Usual trade credit from suppliers is denied.
.
c. Significant related party transactions are pervasive.
d
Arrearages in preferred stock dividends are paid.
.
Explanation

Choice "b" is correct. Denial of usual trade credit is one example of a financial difficulty that
may be indicative of substantial doubt about an entity's ability to continue as a going concern.

Choice "c" is incorrect. Pervasive significant related party transactions, by themselves, are not
necessarily indicative of an entity's ability to continue as a going concern.

Choice "d" is incorrect. The ability to pay arrearages in preferred stock dividends would be
indicative of financial health and would not create substantial doubt about an entity's ability to
continue as a going concern.

Choice "a" is incorrect. Restrictions on the disposal of principal assets would not cause an
auditor to have substantial doubt about an entity's ability to continue as a going concern.
After considering management's plans, an auditor concludes that there is substantial doubt about
a client's ability to continue as a going concern for a reasonable period of time. The auditor's
responsibility includes:

Disclaiming an opinion on the financial statements due to the indications of possible

a.
financial difficulties.
Issuing a qualified or adverse opinion, depending upon materiality, due to the possible
b.
effects on the financial statements.
Indicating to the client's audit committee whether management's plans for dealing with the
c.
adverse effects of the financial difficulties can be effectively implemented.
Considering the adequacy of disclosure about the client's possible inability to continue as
d.
a going concern.
Explanation

Choice "d" is correct. When the auditor believes there is substantial doubt about the ability of the
entity to continue as a going concern for a reasonable period of time, there is a responsibility to
consider the adequacy of the client's disclosure of such circumstances.

Choice "a" is incorrect. There is no requirement to disclaim an opinion solely due to a going
concern issue.

Choice "c" is incorrect. The auditor does not have a responsibility to communicate to the audit
committee whether management's plans can or cannot be effectively implemented.

Choice "b" is incorrect. A qualified or adverse opinion is only required in situations where there
is no adequate disclosure.

An auditor is unable to complete a procedure during an audit. Based on this situation, which
opinion is least likely to be rendered?

a. A qualified opinion.
b. A disclaimer of opinion.
c. An unmodified opinion.
d. An adverse opinion.
Explanation

Choice "d" is correct. An adverse opinion is rendered when there is a departure from GAAP,
which is not the case in this question.

Choice "c" is incorrect. An unmodified opinion would be rendered if the effect on the financial
statements were immaterial, or if acceptable alternative procedures could be performed.

Choice "a" is incorrect. A qualified opinion may be issued due to a material scope limitation.
Choice "b" is incorrect. A disclaimer of opinion may be issued due to a highly material scope
limitation.

During an audit, the auditor notes that the client's financial statements are not in conformity with
GAAP regarding the recording of leases. Based on this situation, which opinion is least likely to
be rendered?

a. An adverse opinion.
b. A disclaimer of opinion.
c. An unmodified opinion.
d. A qualified opinion.
Explanation

Choice "b" is correct. A disclaimer of opinion is issued when there is a significant scope
limitation, when the auditor is not independent, or when the financial statements are not audited,
which is not the case in this question.

Choice "c" is incorrect. An unmodified opinion may be issued when the effect of the GAAP
departure is deemed to be immaterial.

Choice "d" is incorrect. A qualified opinion may be issued when the effect of the GAAP
departure is material.

Choice "a" is incorrect. An adverse opinion may be issued when the effect of the GAAP
departure is material and pervasive.

Which of the following is true?

The auditor may issue an unmodified opinion when a material departure from GAAP
a.
exists.
If an auditor believes there is substantial doubt about an entity's ability to continue as a
b. going concern, and management has properly disclosed the situation, the auditor may not
issue an unmodified opinion.
When an auditor includes a paragraph after the opinion paragraph emphasizing a
c.
significant related party transaction, the opinion would be considered a qualified opinion.
When a material accounting change has been properly accounted for and disclosed, the
d.
auditor may not issue an unmodified opinion.
Explanation

Choice "a" is correct. Although this situation is unusual, if a departure from GAAP is justified,
the auditor may issue an unmodified opinion with an emphasis-of-matter paragraph.

Choice "c" is incorrect. An auditor may decide to use an emphasis-of-matter paragraph, but this
does not constitute a qualified opinion. This is still an unmodified form of the opinion.
Choice "d" is incorrect. A lack of consistency that has a material effect must be disclosed in an
emphasis-of-matter paragraph. If all the acceptability criteria for the accounting change are met,
the auditor may issue an unmodified opinion. In evaluating the acceptability of the accounting
change, the auditor should consider whether the newly adopted accounting principle is in
accordance with the applicable financial reporting framework, the method of accounting for the
change is acceptable, the disclosures related to the change are appropriate and adequate, and the
entity has justified that the alternative accounting principle is preferable.

Choice "b" is incorrect. Going concern issues must be disclosed in an emphasis of matter
paragraph, but if the auditor is satisfied that the going concern disclosures by management are
adequate, an unmodified opinion can be issued.

If an auditor is unable to determine whether management's estimate of the effects of future

events is reasonable, and the effect of those events is believed to be material, he or she should
express:

a. A qualified opinion or an adverse opinion.

b. A qualified opinion or a disclaimer of opinion.
c. An unmodified opinion with no additional paragraphs.
An unmodified opinion with an emphasis-of-matter paragraph following the opinion
d.
paragraph.
Explanation

Choice "b" is correct. This is a scope limitation, which results in either a qualified opinion or a
disclaimer of opinion. (Note that the question does not say that management's estimate is
unreasonable, just that the auditor is unable to determine whether the estimate is reasonable.)

Choice "a" is incorrect. An adverse opinion is not expressed for scope limitations.

Choices "d" and "c" are incorrect. A scope limitation believed to have a material effect would not
result in an unmodified opinion.

Foley, CPA, is the group engagement partner for a multinational corporation. Pente, CPA, audits
a wholly owned subsidiary of this corporation. Which of the following is true about Foley's
decision between assumption and division of responsibility under U.S. GAAS?

If Foley chooses to assume responsibility, the report will mention this assumption in the
a.
auditor's responsibility paragraph.
If Foley chooses to divide responsibility, no reference to the work done by Pente will be
b.
included in the audit report.
If Foley chooses to assume responsibility, she must not make reference to the component
c.
auditor in her report.
If Foley chooses to divide responsibility, she need not evaluate Pente's reputation and
d.
independence.
Explanation
Choice "c" is correct. Under U.S. GAAS, if Foley chooses to assume responsibility, no reference
to the component auditor should be made in the auditor's report because to do so may cause a
reader to misinterpret the degree of responsibility being assumed. Furthermore, the group
engagement team should determine the type of work to be performed on the financial
information of the components. Note that division of responsibility is generally not permitted
under ISAs.

Choice "b" is incorrect. If Foley chooses to divide responsibility, the report should clearly
indicate that the component was not audited by the auditor of the group financial statements but
was audited by the component auditor, and should include the magnitude of the portion of the
financial statements audited by the component auditor.

Choice "a" is incorrect. If Foley chooses to assume responsibility, no reference to this

assumption or to the work done by Pente will be included in the audit report.

Choice "d" is incorrect. Regardless of Foley's decision, she must always become satisfied
regarding Pente's reputation and independence.

Which of the following audit procedures most likely would assist an auditor in identifying
conditions and events that may indicate there could be substantial doubt about an entity's ability
to continue as a going concern?

a. Confirmation of bank balances.

b
Confirmation of accounts receivable from principal customers.
.
c. Review of compliance with terms of debt agreements.
d
Reconciliation of interest expense with debt outstanding.
.
Explanation

Choice "c" is correct. By reviewing the debt agreements, the auditor may discover that the entity
is near or in noncompliance with specific debt (financial) covenants. This may cast doubt on
whether the entity will be able to continue as a going concern.

Choice "b" is incorrect. This procedure would not provide information on whether the entity has
a going concern issue but instead could detect errors in financial reporting by the entity.

Choice "d" is incorrect. The mere reconciliation of interest expense to the debt outstanding
would not provide information regarding the entity's ability to function as a going concern.

Choice "a" is incorrect. Confirming bank balances could detect reporting errors but would not be
a procedure to ascertain whether the entity has a going concern issue.
A group engagement partner decides not to refer to the audit of a component auditor.  After
making inquiries about the component auditor's professional reputation and independence, the
group engagement partner most likely would:

Add an emphasis-of-matter paragraph to the auditor's report indicating that the

a.
component's financial statements are not material to the consolidated financial statements.
Document in the engagement letter that the group engagement partner assumes no
b.
responsibility for the other CPA's work.
Contact the component auditor and review the audit programs and working papers
c.
pertaining to the component.
Obtain written permission from the component auditor to omit the reference in the group
d.
engagement auditor's report.
Explanation

Choice "c" is correct. When the group engagement auditor accepts responsibility for the work
performed by a component auditor, the group engagement partner must contact the component
auditor and review the audit program and working papers pertaining to the component.

Choice "b" is incorrect. When a group engagement partner decides not to reference a component
auditor, the group engagement partner has assumed responsibility for the work performed by the
component auditor.

Choice "d" is incorrect. Permission does not need to be obtained to assume responsibility for the
work of the other CPA.

Choice "a" is incorrect. When the group engagement partner assumes responsibility for the work
of a component auditor, no reference to the component auditor or to the component's financial
statements is made in the auditor's report.

An auditor should consider which of the following when evaluating the ability of a company to
continue as a going concern?

a. Audit fees.
b
Management's plans for disposal of assets.
.
c. A lawsuit for which judgment is not anticipated for 18 months.
d
Future assurance services.
.
Explanation

Choice "b" is correct. The nature of management's plan to sell or liquidate assets could provide
valuable information to the auditor regarding whether or not the entity can continue to function
as a going concern.

Choice "a" is incorrect. Audit fees have no bearing on a client's going concern issue.
Choice "d" is incorrect. This item would not be directly relevant when determining if there is a
going concern issue.

Choice "c" is incorrect. The future outcome of a pending lawsuit that is more than one year away
is a contingency that would not have a significant impact on a going concern issue for a current
audit. Under U.S. GAAP, the going concern period is one year.

In which of the following should an auditor's report refer to the lack of consistency when there is
a change in accounting principle that is significant?

a. The opinion paragraph.

b. An emphasis-of-matter paragraph following the opinion paragraph.
c. An emphasis-of-matter paragraph before the opinion paragraph.
d. The introductory paragraph.
Explanation

Choice "b" is correct.  A justified lack of consistency caused by a material change in GAAP
between periods would be reported in an emphasis-of-matter paragraph after the opinion
paragraph. Under these circumstances, the auditor issues an unmodified opinion.

Choices "d", "a", and "c" are incorrect. The proper treatment of a justified lack of consistency is
to add an emphasis-of-matter paragraph after the opinion paragraph.

In which of the following paragraphs of an auditor's report does an auditor communicate the
nature of the engagement and the specific financial statements covered by the audit?

a. Introductory paragraph.
b. Opinion paragraph.
c. Emphasis-of-matter paragraph.
d. Scope paragraph.
Explanation

Choice "a" is correct. The introductory paragraph indicates the nature of the engagement (i.e.,
audit), the financial statements covered in the (audit) engagement, the name of the entity whose
financial statements have been audited, and the dates covered by each financial statement.

Choice "d" is incorrect. There is no scope paragraph.

Choice "b" is incorrect. The opinion paragraph gives the auditor's opinion on the financial
statements under audit.

Choice "c" is incorrect. Emphasis-of-matter paragraphs are used when required by SAS or when
the auditor believes they are necessary. They are used when referring to a matter that is
appropriately presented or disclosed in the financial statements and is of such importance that it
is fundamental to the users' understanding of the financial statements. This paragraph does not
affect the auditor's opinion.

Zag Co. issues financial statements that present financial position and results of operations but
Zag omits the related statement of cash flows.  Zag would like to engage Brown, CPA, to audit
its financial statements without the statement of cash flows although Brown's access to all of the
information underlying the basic financial statements will not be limited.  Under these
circumstances, Brown most likely would:

Prepare the statement of cash flows as an accommodation to Zag and express an

a.
unmodified opinion.
Refuse to accept the engagement as proposed because of the client-imposed scope
b.
limitation.
c. Explain to Zag that the omission requires a qualification of the auditor's opinion.
Add an emphasis-of-matter paragraph to the auditor's report that justifies the reason for
d.
the omission.
Explanation

Choice "c" is correct. The auditor would explain to the client that in order for the entity's
financial statements to be in conformity with GAAP, there must be adequate disclosures of all
material matters including all financial statements and the supporting footnotes. As a result, the
auditor would tell Zag that without adequate disclosure of the entity's cash flows, the audit report
would have to be issued with a qualified or adverse audit opinion.

Choice "d" is incorrect. Missing the statements of cash flows would not result in an unmodified
opinion with an additional emphasis-of-matter paragraph because no statement of cash flows is a
material departure from GAAP.

Choice "b" is incorrect. The auditor is not required to refuse to accept the engagement, but the
client should be made aware that the missing statement of cash flows will result in a qualified or
adverse opinion.

Choice "a" is incorrect. The responsibility to prepare the statement of cash flows is solely the
client's.

A client has capitalizable leases but refuses to capitalize them in the financial statements.  Which
of the following reporting options does an auditor have if the amounts pervasively distort the
financial statements?

a. Qualified opinion.
b. Adverse opinion.
c. Disclaimer opinion.
d. Unmodified opinion.
Explanation

Choice "b" is correct. The scenario above indicates a material departure from GAAP that is
neither necessary nor justified by the client. When a misstatement is both material and pervasive,
the auditor should issue an adverse opinion.

Choice "a" is incorrect. A misstatement that is both material and pervasive is too significant to
justify a qualified opinion.

Choice "d" is incorrect. An unmodified opinion cannot be issued because the financial statements
are not fairly presented in conformity with GAAP.

Choice "c" is incorrect. A disclaimer opinion would not be used by the auditor for the above
scenario as there are no apparent scope limitations to inhibit the auditor from rendering an
opinion.

An auditor has substantial doubt about the entity's ability to continue as a going concern for a
reasonable period of time because of negative cash flows and working capital deficiencies.
Under these circumstances, the auditor would be most concerned about the:

a. Correlation of detection risk and inherent risk.

b
Possible effects on the entity's financial statements.
.
c. Effectiveness of the entity's internal control activities.
d
Control environment factors that affect the organizational structure.
.
Explanation

Choice "b" is correct. If an auditor has substantial doubt about the entity's ability to continue as a
going concern, the auditor would be most concerned about the possible effects on the entity's
financial statements.

Choice "d" is incorrect. The control environment factors that affect the organizational structure
do not directly relate to going concern.

Choice "a" is incorrect. The auditor is concerned about the correlation between detection risk and
inherent risk when deciding the nature, extent, and timing of audit procedures.

Choice "c" is incorrect. When the auditor is concerned about an entity's ability to continue as a
going concern, the auditor is concerned about the effects on the entity's financial statements and
will identify conditions and events that may be indicative of substantive doubt. The effectiveness
of internal controls would not typically provide evidence of substantial doubt.

When there has been a change in accounting principles, but the effect of the change on the
comparability of the financial statements is not material, the auditor should:
 a. Refer to the change in an emphasis-of-matter paragraph.
b. Explicitly state whether the change conforms with GAAP.
c. Refer to the note in the financial statements that discusses the change.
d. Not refer to the change in the auditor's report.
Explanation

Choice "d" is correct. If the change in accounting principles has an immaterial effect on the
comparability of financial statements, no revision to the audit report is necessary.

Choice "c" is incorrect. The auditor's report would not need to be modified when the effect of the
change on comparability is immaterial, therefore, the auditor does not need to refer to the note in
the financial statements that discusses the change.

Choice "a" is incorrect. A change in accounting principles, which has a material effect on the
comparability of financial statements, would refer to the change in an emphasis-of-matter
paragraph.

Choice "b" is incorrect. The auditor does not need to explicitly state whether the change
conforms with GAAP because the effect of the change is immaterial. The auditor's standard
report implies that the auditor is satisfied that the comparability of financial statements between
periods has not been materially affected by changes in accounting principles, and that such
principles have been consistently applied between or among periods because either (a) no change
in accounting principles has occurred, or (b) there has been a change in accounting principles or
in the method of their application, but the effect of the change on the comparability of the
financial statements is not material.