Question

Based on the review notes presented below, select those items, which Charles has correctly (and incorrectly) identified as deficiencies in the report by clicking the appropriate options. Select an answer for every instance.

REVIEW NOTES:

Charles, CPA, audited the consolidated financial statements of Right Industries and all but two of its subsidiaries of the years ended December 31, Year 1, and December 31, Year 2. Tyler is the staff accountant assigned to the Right engagement.

Charles expressed a qualified opinion on the Year 1 financial statements because Right capitalized certain research and development expenditures that should have been expensed, but Right has corrected this error in Year 2. The Year 1 financial statements have been appropriately restated, and an unqualified opinion is currently being expressed on both sets of financial statements.

Karl & Karla, CPA’s, audited the financial statements to Newton, Inc., and of Capricorn Consulting, both of which are consolidated subsidiaries of Right. Charles has decided not to assume responsibility for the work of Karl & Karla with respect to the Newton engagement, but will assume responsibility for the work of Karl & Karla with respect to the Capricorn job.

Right is currently being investigated of possible securities law violations. This is adequately disclosed in the notes to the consolidated financial statements, but the ultimate outcome of these matters cannot presently be determined. Therefore, no provision for any liability that may result has been recorded.

Right experienced a net loss in Year 2 and is currently in default under substantially all of its debt arrangements. Management’s plans in regard to these matters are adequately disclosed, although no financial statement adjustments have been made. These matters raise substantial doubt about Right‘s ability to continue as a going concern.

Charles reviewed Tyler’s draft of the auditor’s report and indicated in his review notes that there were several deficiencies in the report.

The reference to the subsidiary, Newton, and the magnitude of its financial statement should be in the scope paragraph rather than in the opening (introductory) paragraph.

The other independent auditors, Karl & Karla, should be named in the scope paragraph rather than in the opening (introductory) paragraph.

The reference in the scope paragraph to “the financial statements are free of material misstatement” should be followed by the phrase, “whether caused by error or fraud.”

The required reference in the scope paragraph to assessing ‘significant estimates made by management” has been omitted.

The reference in the scope paragraph to “assessing fraud risk” is inappropriate and should be omitted from the report.

The required reference in the scope paragraph to “evaluating the overall financial statement presentation has been omitted.

A separate explanatory paragraph describing the investigation into possible violations of securities laws is required to be placed between the scope and opinion paragraphs.

The reference in the explanatory paragraph (between the scope and opinion paragraphs) to the qualified opinion on the Year 1 financial statements is not properly placed. The Year 1 opinion should be reference in the opinion paragraph.

The reference in the explanatory paragraph does not express our belief that the disclosures are adequate. This belief should be specifically expressed in this paragraph.

The reference to the other auditor’s in the opinion paragraph is incomplete. It should specifically include the words “unqualified opinion” to describe the type of opinion expressed by Karl & Karla.

The opinion paragraph should extend the auditor’s opinion beyond financial position to include the results of Raleigh’s operations and its change in stockholders’ equity.

The reference to the uncertainty in the opinion paragraph is incomplete. It should describe the nature of the uncertainty as pertaining to the investigation into possible violations of securities laws.

The explanatory paragraph following the opinion paragraph does not include the term “substantial doubt.” This term is required to be used in this paragraph under these circumstances.

The explanatory paragraph following the opinion paragraph does not include the term “going concern.” This term is required to be used in this paragraph under these circumstances.

The explanatory paragraph following the opinion paragraph includes an inappropriate statement that “the consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.” This statement is misleading and should be omitted.

A. Charles is Correct B. Charles is Incorrect

Answer 1

1. Yes, the reference of Newton should be in scope paragraph.
2. No, the other independent auditors, Karl and Karla should have been mentioned in cope paragraph.
3. No, whether caused by fraud or error was not required and accordingly, has not been mentioned in the scope paragraph.
4. No, there was no requirement of significant estimates made by management in the scope paragraph.
5. Yes, assessing fraud risk is inappropriate and should be omitted.
6. Yes, it should not have been omitted.
7. Yes, a separate paragraph describing the investigation into possible violations of securities laws is required to be placed between scope and opinion paragraph.
8. Yes, the qualified opinion paragraph is not properly placed.
9. Yes, the belief of disclosures should be specifically expressed.
10. No, the inclusion of unqualified opinion is not essential and necessary.
11. No, there was no need to extend the opinion paragraph of the auditor.
12. Yes, the reference to the uncertainty in the opinion paragraph is incomplete. It should describe the nature of the uncertainty as pertaining to the investigation into possible violations of securities laws.   
13. No, there is no requirement of substantial doubt term needed to be incorporated.
14. Yes, the explanatory paragraph following the opinion paragraph does not include the term “going concern.” This term is required to be used in this paragraph under these circumstances.
15. Yes, this statement is misleading and should be omitted.