1. 2 - 1 Copyright  2003 Pearson Education Canada Inc. CHAPTER 2 The Auditor’s Reports

2. 2 - 2 Copyright  2003 Pearson Education Canada Inc. What is the purpose of the audit report? Ace Corp. Audit Report

3. 2 - 3 Copyright  2003 Pearson Education Canada Inc. What is the purpose of the audit report? The audit report is an explanation of the audit process and conclusions reached. The report is the formal communica- tion between the auditor and the external users of the financial state- ments, primarily the shareholders.

4. 2 - 4 Copyright  2003 Pearson Education Canada Inc. Generally Accepted Auditing Standards REPORTING STANDARDS 1.The report should identify the financial statements & distinguish between the responsibilities of management and the auditor. Footnotes Ace Company 2004 Financial Statements

5. 2 - 5 Copyright  2003 Pearson Education Canada Inc. REPORTING STANDARDS 1. The report should identify the financial statements. What financial statements are required by GAAP?

6. 2 - 6 Copyright  2003 Pearson Education Canada Inc. What financial statements are required by GAAP? -balance sheet -income statement -statement of retained earnings -statement of changes in financial position

7. 2 - 7 Copyright  2003 Pearson Education Canada Inc. Could an auditor accept an engagement to audit only one (or more) financial statement? REPORTING STANDARDS 1.The report should identify the financial statements.

8. 2 - 8 Copyright  2003 Pearson Education Canada Inc. Could an auditor accept an engagement to audit only one (or more) financial statement? yes - however, the auditor’s report would have to be qualified because of non- compliance with GAAP

9. 2 - 9 Copyright  2003 Pearson Education Canada Inc. -GAAS -plan & perform -reasonable assurance -examine evidence on test basis -assess accounting principles -assess significant estimates -evaluate overall statement presentation REPORTING STANDARDS 2.The report should describe the scope of the auditor’s examination.

10. 2 - 10 Copyright  2003 Pearson Education Canada Inc. REPORTING STANDARDS 3.The report should contain either an expression of opinion on the financial statements or an assertion that an opinion cannot be expressed. In the latter case, the reasons therefor should be stated. Ace Company 2004 Financial Statements opinion?

11. 2 - 11 Copyright  2003 Pearson Education Canada Inc. Ace Company 2004 Financial Statements GAAP ? REPORTING STANDARDS 4.Where an opinion is expressed, it should indicate whether the financial statements, present fairly, in all material respects, the financial position, results of operations and changes in financial position in accordance with an appropriate disclosed basis of accounting, which except in special circumstances should be GAAP. The report should provide adequate explanation with respect to any reservation contained in such opinion.

12. 2 - 12 Copyright  2003 Pearson Education Canada Inc. Report title: Auditor’s Report The Standard Unqualified Audit Report

13. 2 - 13 Copyright  2003 Pearson Education Canada Inc. Report title: Auditor’s Report Address: To the Shareholders of Ace Corporation: report may also be addressed to company or board of directors, not management

14. 2 - 14 Copyright  2003 Pearson Education Canada Inc. Report title: Auditor’s Report Address: To the Shareholders of Ace Company: Introductory paragraph: What statements were audited? What time period? What are client and auditor responsibilities?

15. 2 - 15 Copyright  2003 Pearson Education Canada Inc. Report title: Auditor’s Report Address: To the Shareholders of Ace Company: Introductory paragraph: We have audited the balance sheets of Ace Company as at December 31, 2004 and the statements of income, retained earnings, and changes in financial position for the year then ended. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

16. 2 - 16 Copyright  2003 Pearson Education Canada Inc. Scope paragraph: What is an audit?

17. 2 - 17 Copyright  2003 Pearson Education Canada Inc. Scope paragraph: We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation.

18. 2 - 18 Copyright  2003 Pearson Education Canada Inc. Opinion paragraph: What opinion did the auditor form?

19. 2 - 19 Copyright  2003 Pearson Education Canada Inc. Opinion paragraph: In our opinion, these financial statements present fairly, in all material respects, the financial position of Ace Company as at December 31, 2004 and the results of its operations and the changes in its financial position for the year then ended in accordance with generally accepted accounting principles.

20. 2 - 20 Copyright  2003 Pearson Education Canada Inc. Opinion paragraph: In our opinion, these financial statements present fairly, in all material respects, the financial position of Ace Company as at December 31, 2004 and the results of its operations and the changes in its financial position for the year then ended in accordance with generally accepted accounting principles. Name of firm: Taylor & Tower, CAs

21. 2 - 21 Copyright  2003 Pearson Education Canada Inc. Opinion paragraph: In our opinion, these financial statements present fairly, in all material respects, the financial position of Ace Company as at December 31, 2004 and the results of its operations and the changes in its financial position for the year then ended in accordance with generally accepted accounting principles. Name of firm: Taylor & Tower, CAs City: Anywhere, any province

22. 2 - 22 Copyright  2003 Pearson Education Canada Inc. Opinion paragraph: In our opinion, these financial statements present fairly, in all material respects, the financial position of Ace Company as at December 31, 2004 and the results of its operations and the changes in its financial position for the years then ended in accordance with generally accepted accounting principles. Name of firm: Taylor & Tower, CAs City: Anywhere, any province Audit report date: February 27, 2005 field work completion date

23. 2 - 23 Copyright  2003 Pearson Education Canada Inc. Types of Audit Reports

24. 2 - 24 Copyright  2003 Pearson Education Canada Inc. Types of Audit Reports - unqualified - “statements present fairly” client

25. 2 - 25 Copyright  2003 Pearson Education Canada Inc. Types of Audit Reports - qualified - “except for one or more exceptions, statements present fairly” client

26. 2 - 26 Copyright  2003 Pearson Education Canada Inc. Qualified Audit Report (GAAP Departure) Same introductory paragraph Same scope paragraph Explanatory third paragraph including $-effect In our opinion, except for the effects of..., as discussed in the preceding paragraph, the financial statements present fairly, in all material respects, the financial position of Ace Company as of December 31, 2004 and the results of its operations and the changes in its financial position for the year then ended in accordance with generally accepted accounting principles.

27. 2 - 27 Copyright  2003 Pearson Education Canada Inc. Qualified Audit Report (Scope Limitation) Same introductory paragraph Except as explained in the following paragraph, I conducted my audit in accordance with generally accepted auditing standards... Explanatory third paragraph In our opinion, except for the effects of adjustments, if any, which I might have determined to be necessary had I been able to... as discussed in the preceding paragraph, the financial statements present fairly, in all material respects, the financial position of Ace Company as of December 31, 2004 and the results of its operations and the changes in its financial position for the year then ended in accordance with generally accepted accounting principles.

28. 2 - 28 Copyright  2003 Pearson Education Canada Inc. Types of Audit Reports - adverse - “statements do not present fairly” client

29. 2 - 29 Copyright  2003 Pearson Education Canada Inc. Adverse Audit Report Same introductory paragraph Same scope paragraph Explanatory third paragraph including $-effect In our opinion, because... as explained in the preceding paragraph, the financial statements do not present fairly the financial position of Ace Company as at December 31, 2004 and the results of its operations and the changes in its financial position for the year then ended in accordance with generally accepted accounting principles.

30. 2 - 30 Copyright  2003 Pearson Education Canada Inc. Types of Audit Reports - denial - “no opinion” client

31. 2 - 31 Copyright  2003 Pearson Education Canada Inc. Denial (Scope Restriction) Same introductory paragraph Except as explained in the following paragraph, we conducted our audit in accordance with generally accepted auditing standards... Explanatory third paragraph including $-effect In view of the possible material effects on the financial statements of the matters described in the preceding paragraph, we are unable to express an opinion whether these financial statements are presented fairly in accordance with generally accepted accounting principles.

32. 2 - 32 Copyright  2003 Pearson Education Canada Inc. Unqualified Reports with Explanatory Paragraphs or Modified Wording

33. 2 - 33 Copyright  2003 Pearson Education Canada Inc. In some circumstances, a change in the financial statements may result in a qualified or adverse opinion: client

34. 2 - 34 Copyright  2003 Pearson Education Canada Inc. In some circumstances, a change in the financial statements may result in a qualified or adverse opinion: client -a change in accounting principle or application thereof not in accordance with GAAP

35. 2 - 35 Copyright  2003 Pearson Education Canada Inc. Changes in accounting principles or in their application excludes: - change in an estimate client

36. 2 - 36 Copyright  2003 Pearson Education Canada Inc. Changes in accounting principles or in their application excludes: - change in an estimate - error corrections not involving principles client

37. 2 - 37 Copyright  2003 Pearson Education Canada Inc. Changes in accounting principles or in their application excludes: - change in an estimate - error corrections not involving principles - changes in format and presentation client

38. 2 - 38 Copyright  2003 Pearson Education Canada Inc. Changes in accounting principles or in their application excludes: - change in an estimate - error corrections not involving principles - changes in format and presentation - changes due to substantially different events client

39. 2 - 39 Copyright  2003 Pearson Education Canada Inc. Treatment of an uncertainty about the client’s ability to continue to operate as a going concern depends on the accounting treatment used. Unqualified Reports with Explanatory Paragraphs or Modified Wording

40. 2 - 40 Copyright  2003 Pearson Education Canada Inc. Treatment of an uncertainty about the client’s ability to continue to operate as a going concern depends on the accounting treatment used. - if accounting treatment, disclosure and presentation comply with GAAP, no impact on auditor’s report Unqualified Reports with Explanatory Paragraphs or Modified Wording

41. 2 - 41 Copyright  2003 Pearson Education Canada Inc. Treatment of an uncertainty about the client’s ability to continue to operate as a going concern depends on the accounting treatment used. - if accounting treatment, disclosure and presentation comply with GAAP, no impact on auditor’s report - if do not comply with GAAP, a qualified or adverse report would be issued Unqualified Reports with Explanatory Paragraphs or Modified Wording

42. 2 - 42 Copyright  2003 Pearson Education Canada Inc. Inclusion of a fourth paragraph in the auditor’s report is necessary if prior financial statements were unaudited or were audited by another auditor, and these conditions are not disclosed in the notes to the financial statements. Unqualified Reports with Explanatory Paragraphs or Modified Wording

43. 2 - 43 Copyright  2003 Pearson Education Canada Inc. Opinion paragraph is revised if financial statements are prepared in accordance with an appropriate disclosed basis of accounting other than GAAP. Unqualified Reports with Explanatory Paragraphs or Modified Wording

44. 2 - 44 Copyright  2003 Pearson Education Canada Inc. Opinion paragraph is revised if financial statements are prepared in accordance with an appropriate disclosed basis of accounting other than GAAP. In my opinion, these financial statements present fairly … in accordance with the basis of accounting required by … as disclosed in note … to the financial statements. Unqualified Reports with Explanatory Paragraphs or Modified Wording

45. 2 - 45 Copyright  2003 Pearson Education Canada Inc. Conditions Requiring a Departure From the Unqualified Report

46. 2 - 46 Copyright  2003 Pearson Education Canada Inc. Conditions Requiring a Departure From the Unqualified Report Scope limitation - the auditors were unable to perform some aspect of the audit that they considered necessary: Client-imposed - the client will not allow the auditor to perform an audit procedure Circumstance-imposed - because of some circumstance other than a client-imposed restriction, the auditor could not perform an audit procedure

47. 2 - 47 Copyright  2003 Pearson Education Canada Inc. audit scope is not significantly limited probably deny pursue alternative procedures Client-Imposed Scope Limitation audit scope is significantly limited

48. 2 - 48 Copyright  2003 Pearson Education Canada Inc. adequate alternative procedures are available qualify or deny adequate alternative procedures are not available Circumstance-Imposed Scope Limitation no audit report effect

49. 2 - 49 Copyright  2003 Pearson Education Canada Inc. Scope limitations may result in different opinions on individual statements. EXAMPLE: an auditor cannot adequately verify beginning inventory of a first-year client balance sheet opinions? income statement

50. 2 - 50 Copyright  2003 Pearson Education Canada Inc. Scope limitations may result in different opinions on individual statements. EXAMPLE: An auditor cannot adequately verify beginning inventory of a first-year client income statement denial unqualified balance sheet

51. 2 - 51 Copyright  2003 Pearson Education Canada Inc. Scope Restriction Denial Introductory paragraph is the same Except as explained in the following paragraph, I conducted my audit in accordance with generally accepted auditing standards... Explanatory third paragraph In view of the possible material effects on the financial statements of the matters described in the preceding paragraph, I am unable to express an opinion whether these financial statements are presented fairly in accordance with generally accepted accounting principles.

52. 2 - 52 Copyright  2003 Pearson Education Canada Inc. Scope Restriction Qualification Same introductory paragraph Except as explained in the following paragraph, we conducted our audit...remainder of the scope paragraph is the same Explanatory third paragraph In our opinion, except for the effects of adjustments, if any, which we might have been determined to be necessary had we been able to..., the financial statements present fairly, in all material respects, the financial position of Ace Company as of December 31, 2004 and the results of its operations and the changes in its financial position for the year then ended in accordance with generally accepted accounting principles.

53. 2 - 53 Copyright  2003 Pearson Education Canada Inc. Conditions Requiring a Departure From the Unqualified Report Departures from GAAP result in a qualified or adverse opinion depending on materiality and pervasiveness. Ace Company 2004 Financial Statements GAAP

54. 2 - 54 Copyright  2003 Pearson Education Canada Inc. Conditions Requiring a Departure From the Unqualified Report Departures from GAAP result in a qualified or adverse opinion depending on materiality and pervasiveness. The correct information should be included in an additional third paragraph. If this information is not available, the report should state that fact.

55. 2 - 55 Copyright  2003 Pearson Education Canada Inc. Conditions Requiring a Departure From the Unqualified Report Departures from GAAP result in a qualified or adverse opinion depending on materiality and pervasiveness. The correct information should be included in an additional third paragraph. If this information is not available, the report should state that fact. Inadequate disclosure is a GAAP departure.

56. 2 - 56 Copyright  2003 Pearson Education Canada Inc. GAAP Departure Qualification Same introductory paragraph Same scope paragraph Explanatory third paragraph including $-effect In our opinion, except for the effects of..., as discussed in the preceding paragraph, the financial statements present fairly, in all material respects, the financial position of Ace Company as of December 31, 2004 and the results of its operations and the changes in its financial position for the year then ended in accordance with generally accepted accounting principles.

57. 2 - 57 Copyright  2003 Pearson Education Canada Inc. The audit report should not include any statements that would counterbalance the opinion:

58. 2 - 58 Copyright  2003 Pearson Education Canada Inc. The audit report should not include any statements that would counterbalance the opinion: - negative assurance - “nothing came to our attention that would lead us to believe...”

59. 2 - 59 Copyright  2003 Pearson Education Canada Inc. The audit report should not include any statements that would counterbalance the opinion: - negative assurance - “nothing came to our attention that would lead us to believe...” - piecemeal opinion - positive comments on some components of the financial statements when a denied or adverse opinion is issued