Chapter 19.pptx

KA T H E A R N A C C A F 8

C H A P T E R 1 9

Audit

Learning

objectives

By the end of this lecture you should be able to:

 Describe and analyse the format and content of unmodified audit reports.  Describe and analyse the format and

content of modified audit reports.  Describe the format and content of

emphasis of matter and other matter paragraphs.

 Explain when each audit opinion is appropriate.

The

completion

stage

of

the

audit

At the end of the audit, there are lots of reports to be signed.

 Management will sign the final

management representation letter.

 The auditors will issue the management

letter.

 The auditor will issue their audit

report, containing the audit

Components

of

unmodified

audit

reports

 Title

 Addressee

 Introductory paragraph

 Responsibilities

 Scope  Opinion  Date

Audit

reports

Audit reports are either:

Unmodified

This means the report follows the standard template, governed by

several different guidelines, including:

• Companies Act 2006

• ISA 700

• Bulletin 2010/2

• Case law

Modified

A modification means that the

standard ISA 700 audit report has changed.

Modifications are used when something has happened which the auditor wants to communicate to the users of the financial

statements and could be:

• A modified report with an unmodified opinion

Unmodified

audit

reports

 ISA 700 sets out a standardised audit report for the auditor to follow.

 The IASB Bulletin sets out a number of examples of how to tailor that report for

different reporting frameworks, or whether the company is listed / not.

Components

of

unmodified

audit

reports

 Looking at the opinion:

Opinion What this covers

Express opinion

ALWAYS REQUIRE D

• Whether the financial statements give a true and fair view

• Whether the financial statements have been properly prepared in accordance with

Companies Act 2006 and the relevant financial reporting framework

• Whether the Directors’ Report is consistent with the financial statements

Components

of

unmodified

audit

reports

Opinion What this covers

Express opinion Implied opinion

• Report by exception under Companies Act 2006 • Bulletin 2010/2 requires these to be included in UK audit reports even if there are no problems to enhance the users’

understanding

• Adequate accounting records have been kept.

• Returns adequate for our audit have been received from branches not visited.

• Financial statements are in agreement with the accounting records.

• Disclosures of directors’ remuneration have been made.

Components

of

unmodified

audit

reports

Component What this covers

Bannerma n

paragraph

• This paragraph restricts the duty of care owed by the auditor to the shareholders as a body only.

• It has been in use since a decided case which found that the Royal Bank of Scotland was entitled to rely on the published financial statements of a company for the purposes of lending the company money.

Corporate governance statement (in the annual report)

• Required for listed clients

Modified

audit

reports



A

modified

audit

report

means

that

the

standard

ISA

700

audit

report

has

changed.



Modifications

are

used

when

something

has

happened

which

the

auditor

wants

to

communicate

to

the

users

of

the

financial

statements

and

could

be:



A

modified

report

with

an

unmodified

opinion

Modified

audit

report

with

an

unmodified

opinion

 The report still says that the Financial Statements give a true and fair view.

 However, where a matter has arisen whichis fundamental to the understanding of the

financial statements or audit opinion, the auditor should include an additional

paragraph in the audit report.

 Emphasis of matter paragraph

Emphasis

of

matter

paragraph

 Used to highlight a matter included in the

financial statements which has been correctly disclosed but which is fundamental to the

understanding of the users of the financial statements.

 Included in the audit report after the opinion

(T&F)

 Headed up ‘Emphasis of Matter’

 Describes the matter

 States that the audit opinion is not modified

in this respect

 For example: An item of significant uncertainty

Other

matter

paragraph

 Used to highlight a matter not included in the financial statements.

 Included in the audit report after the opinion

 Headed up ‘Other Matter’  Describes the matter

 For example: A material inconsistency between

the financial statements and other

Modified

report

with

a

modified

opinion

 A modified audit report means that the standard

ISA 700 audit report has changed.

 A modified opinion means that don’t just say “FSs

give a true and fair view” – but we can modify in differing ways dependent on how material the

Modified

report

with

a

modified

opinion

(continued)

 Modified “except for” opinion

 “In our opinion, except for the effects of the matter

described in the Basis for Qualified Opinion paragraph, the financial statements give a true and fair view...”

 Adverse opinion

 “In our opinion, because of the significance of the matter

described in the Basis for Adverse Opinion paragraph, the financial statements do not give a true and fair view...”

 _{Disclaimer of opinion}

 “Because of the significance of the possible impact of

Determining

the

appropriate

audit

opinion

Step 1: Consider what the problem is.

Step 2: Consider the nature of the problem. Either disagreement or

limitation of scope.

Step 3: Consider the seriousness of the problem.

Is it immaterial, material, or material and pervasive?

Step 4: Determine appropriate opinion. What kind of opinion? What is the wording of

Step

2:

Consider

the

nature

of

the

problem

• _{Different types of errors result in different}

opinions being given. There are 2 types of error.

Disagreement Limitation of

scope

The auditor disagrees with the directors over accounting treatment or disclosure resulting in the financial statements being misstated.

Exampl e

A customer has gone into liquidation and cannot pay, so receivables are overstated.

The auditor is unable to obtain sufficient

appropriate audit evidence over a balance/(s) in the

financial statements. Example

A military coup overseas means the auditor cannot attend the inventory

account at the location

Step

3:

Consider

the

seriousness

of

the

problem.

Seriousnes

s Meaning

Immaterial Something that is below the materiality threshold would not

impact the users of the financial statements.

Material Something that is material would impact the users of the financial statements. Things are material by nature (e.g. director’s transactions) or by size:

• ½–1% of revenue

• 1–2% of gross assets

• 5–10% of profit before tax Material

and

pervasive

ISA 705 defines a pervasive matter as one which:

• Is not isolated; or

• Represents a substantial proportion of the financial statements; or

Step

4:

Determine

appropriate

opinion

 Determining the audit approach is factual.

 The audit opinion that the auditor gives will depend on the type of error, and the

seriousness of the matter.

 Now let’s look at some scenarios to determine the appropriate opinion.

Question

1

 Ash Ltd uses leased motor vehicles which have

been accounted for as operating leases. However, you believe that these leases are finance leases and should have been capitalised at £51,000. The current treatment does not comply with

accounting standards which require

finance leases, where the user takes on the risks and rewards of ownership, to be included within noncurrent assets and capitalised. Profit for the year would then have been reduced by £4,000.

 The pre tax profits of Ash Ltd for the year ended 31

March 2013 were £600,000, and total assets at 31 March 2013 were £5.4 million.

Solution

to

question

1

The accounting treatment adopted by the company does not agree with accounting standards so there is a misstatement in the financial

statements.

The misstatement

represents 0.67% of profit before tax and 0.94% of total assets.

Therefore it is immaterial.

Therefore give an unmodified opinion.

Question

2

 A fire in the warehouse of Oak Ltd in April 2013

destroyed the inventory sheets, which were the only record of the company’s inventories at the year end. The company has included an

estimated inventory figure of £780,000.

 The pre tax profits of Oak Ltd for the year

ended 31 March 2013 were £1.1 million and

total assets at 31 March 2013 were £6.5

million.

Will the audit opinion would be modified?

Solution

to

question

2

Limitation of

Scope

Immateri al

Unmodifie d

opinion

Materi al

Modifie d “except

for” opinion

Materia l and pervasi

ve

Disclaim er of opinion

Solution

to

question

2

• The inventory balance represents 70% of

profit before tax and 12% of total assets.

• Any misstatement is likely to be smaller, but the limitation would be considered material.

• It is isolated to one area of the financial

Solution

to

question

2

Therefore give an

modified “except for” opinion.

“In our opinion, except for the effects of the matter described in the Basis for Qualified

Opinion paragraph, the financial statements give a true and fair view...”

The ‘Basis for

Qualified Opinion paragraph’ will

Question

3

 Beech Group limited have been

preparing their consolidated financial statements for the year.

 They have omitted to consolidate an entire subsidiary, representing half of the group’s results.

Will the audit opinion would be modified?

Give reasons and describe the impact on the

Solution

to

question

3

The accounting treatment adopted by the company does not agree with

accounting standards so there is a misstatement in the financial

statements.

The omitted subsidiary is half of the group. Consolidation will impact every line of the

financial statements.

It is material and pervasive.

Therefore give an adverse opinion.

Financial

reporting

treatment

 If a company is a going concern, then it prepares its financial statements on the

going concern basis.

 If the company is not a going concern, then it should prepare its financial statements on the

break-up basis.

 If the company’s going concern is not

Scenario

1:

Company

is

a

GC

and

has

used

GC

basis

 Simple!

 Unmodified opinion

Company

is

not

a

GC

Have the financial statements been

prepared on the break-up basis?

Ye s

The audit will issue an

unmodifiedopinion.

A GC issue is considered

fundamental to the understanding of the users of the financial

statements and therefore the

auditor will include an emphasis

of matter paragraph.

N o

This is a disagreement. It is considered material by nature and is pervasive to the users understanding of the financial statements.

The auditor will issue an

Company

may

not

be

a

GC

Has the uncertainty been adequately disclosed?

Ye s

Issue an unmodified opinion and will include an

emphasis of matter paragraph.

N o

Considered materialbut not

pervasive Issue a modified ‘except for’

opinion.

Considered materialand

Summary

of

learning

objectives

You should now be able to:

 Describe and analyse the format and content of unmodified audit reports.  _{Describe and analyse the format and}

content of modified audit reports.  Describe the format and content of

emphasis of matter and other matter paragraphs.

 Explain when each audit opinion is appropriate.