Modern Auditing Beynton Solution Manual Chapter 2

8/12/2019 Modern Auditing Beynton Solution Manual Chapter 2

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CHAPTER2

FINANCIALSTATEMENTAUDITSANDAUDITORS' RESPONSIBILITIES

Learning Check

2-1. a. The ultimate objective of accounting is the communication of relevant and

reliable financial data that will be useful for decision making. Accountingmethods involve identifying the events and transactions that affect the

entity. Once identified, these items are measured, recorded, classified, and

summaried in the accounting records and re!orted in accordance with

generally acce!ted accounting !rinci!les "#AA$%. The accounting !rocess

is carried out by an entity&s em!loyees, and ultimate res!onsibility for the

financial statements lies with the entity&s management.

The !rimary objective of an audit is to add credibility to management&s

financial statements.

The ty!ical audit !erformed in accordance with generally acce!ted auditing

standards "#AA'% involves obtaining and evaluating evidence concerning

management&s financial statements. Auditing culminates in the issuance of an

audit re!ort that contains the auditor&s o!inion on whether the financial

statements do in fact !resent fairly the entity&s financial !osition, results

of o!erations, and cash flows in conformity with #AA$.

b. Auditing is based on the assum!tion that financial statement data areverifiable, meaning that two or more (ualified individuals inde!endently

e)amining the data could reach essentially similar conclusions.

2-2. *inancial statement audits are needed to !rovide assurance that the financial

statements are


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relevant and reliable. *our factors that contribute to the need for inde!endent

audits are "a%

conflict of interest, "b% conse(uence, "c% com!le)ity, and "d% remoteness.

+ollectively these factors contribute to information risk.

2-. *inancial statement audits enable com!anies to "a% meet statutory and other

regulatory

re(uirements that must be satisfied in order to gain access to ca!ital markets, "b%

obtain debt and e(uity financing at a lower cost of ca!ital, "c% deter inefficiency

and errors in the accounting function and reduce the risk of fraud in the

accounting and financial re!orting !rocess, and "d%

make internal control and o!erational im!rovements based on suggestions made

by the auditor as a by-!roduct of the audit.

2-. The limitations of a financial statement audit include the fact that an auditor

works within fairly restrictive economic limits that im!ose time and cost

constraints and necessitate the use of selective testing or sam!ling of the

accounting records and su!!orting data. Also, the auditor&s re!ort must usually

be issued within three months of the balance sheet date, which affects the

amount of evidence that can be obtained. The availability of alternative

accounting !rinci!les !ermitted under #AA$, and the im!act of accounting

estimates and uncertainties on the financial statements re!resent additional

inherent limitations on financial statement audits.

2-. *our im!ortant grou!s related to a client with whom the auditor may maintain

!rofessional relationshi!s are "1% management, "2% the board of directors and

audit committee, "% internal auditors, and "% stockholders.

2-/. The ty!ical a!!roach the auditor should take to management&s assertions may be

characteried as one of !rofessional ske!ticism. This means the auditor should

neither disbelieve management&s assertions nor glibly acce!t them without

concern for their truthfulness. 0ather the auditor recognies the need toobjectively evaluate conditions observed and evidence obtained during the audit.

2-. a. An audit committee is a subgrou! of the board of directors. deally, it is

com!osed of outside members of the board "i.e., members who are not

officers or em!loyees of the entity%. There has been a marked increase in the

use of audit committees because by acting as intermediaries between auditors


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and management, audit committees strengthen the inde!endence of e)ternal

auditors.

b. The functions of an audit committee include3

4ominating the !ublic accounting firm to conduct the annual audit.

5iscussing the sco!e of the audit with the auditor.

nviting direct auditor communication on material !roblems encountered

during the course of the audit.

0eviewing the financial statements and the auditor&s re!ort with the

auditor on com!letion of the engagement.

2-6. The work of internal auditors !ertaining to the client&s internal control structure

can affect the work of the inde!endent auditor, and internal auditors can !rovide

direct assistance to the inde!endent auditor in !erforming a financial statement

audit. The internal auditor&s work cannot be a substitute for the inde!endent

auditor&s work, but it can be an im!ortant com!lement. n determining the effect

of the internal auditor&s work, the inde!endent auditor should "1% consider the

com!etence and objectivity of the internal auditor and "2% evaluate the (uality of

the internal auditor&s work.

2-7. The A'8, or Auditing 'tandards 8oard, is an arm of the Auditing 'tandards

5ivision of the A+$A. t is the A+$A&s senior technical committee authoried

to issue !ronouncements on auditing standards, and its 1 members are all

members of the A+$A.

2-19. 'A's, or 'tatements on Auditing 'tandards, are the !ronouncements of the

Auditing 'tandards 8oard. They e)!lain the nature and e)tent of an auditor&s

res!onsibility and offer guidance to an auditor in !erforming the audit. 8efore

issuance, each 'A' is e)!osed for !ublic comment and e)tensively discussed at

o!en meetings of the A'8. The a!!roval of two-thirds of the 8oard is re(uiredfor issuance. They are accessible as individual !ublications of the A+$A, via a

loose-leaf service entitled $rofessional 'tandards, :olume 1, in annual bound

volumes, and in electronic format on disk and on-line as !art of the $rofessional

;iterature file of the 4ational Automated Accounting 0esearch 'ystem

"4AA0'%.


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2-11. a. The three categories of the generally acce!ted auditing standards are "1%

general standards, "2% standards of fieldwork, and "% standards of re!orting.

b. Of the general standards, the first relates to ade(uate technical training and

!roficiency, the second to inde!endence in mental attitude, and the third todue !rofessional care. Of the standards of fieldwork, the first relates to

ade(uate !lanning and !ro!er su!ervision, the

second to understanding the internal control structure, and the third to

obtaining sufficient com!etent evidential matter. Of the standards of

re!orting, the first relates to identifying

#AA$ as the criteria used to evaluate management&s financial statements, the

second to consistency in the a!!lication of #AA$, the third to the ade(uacy

of informative disclosures, and the fourth to e)!ressing an o!inion on the

financial statements taken as a whole or stating that an o!inion cannot be

e)!ressed.

2-12. nternational 'tandards on Auditing are issued by the nternational Auditing

$ractices +ommittee "A$+% of the nternational *ederation of Accountants

"*A+%. +om!liance with the international standards is voluntary and they do

not override local standards such as the A+$A&s 'A's.

2-1. a. 0easonable assurance is not a guarantee that the financial statements are

free of material misstatements. 0ather it !rovides a high level of assurance

that the financial statements are free of material misstatement based on thework of the auditor.

b. The limitations associated with reasonable assurance include the fact that

economic factors !revent the auditor from e)amining all the evidence

su!!orting the financial statements. The auditor must e)ercise skill and

judgment in deciding what evidence to look at, when to look at it, how much

to look at, and who in the audit team should evaluate the evidence. *urther,

the financial statements themselves are not


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b. f fraud is discovered during the audit, even minor or immaterial fraud, it

should be re!orted to management at least one level above the level where

the fraud occurred. The auditor would normally re!ort to the board of

directors or its audit committee and fraud involving senior management or

any material fraud. The auditor is normally !recluded by ethical and legal

obligation from disclosing fraud outside the client entity. >owever, the

auditor may be re(uired to do so in the following situations3

n res!onse to a court sub!oena.

To the '?+ when the auditor has withdrawn or been dismissed from the

engagement, or when the auditor has re!orted fraud to the audit

committee or board of directors and the committee or board fails to take

a!!ro!riate action.

To a successor auditor who makes in(uiries in accordance with

!rofessional standards.

To a funding or other agency in accordance with audit re(uirement for

entities that receive governmental financial assistance.

2-1. a. The auditor&s res!onsibility for misstatements resulting from illegal acts

having a direct and material effect on the determination of financial

statement amounts is the same as for errors or fraud. That is, the auditor

should !lan an audit to detect such illegal acts and im!lement the !lan with

due !rofessional care.

b. The auditor !rimary res!onsibility is for fair !resentation in the financial

statements. @hen illegal acts have a material effect on the financial

statements they should be !ro!erly disclosed. n this way the auditor meets

their res!onsibility to management, to the board of directors, and to !arties

outside the entity. f management does not !ro!erly disclose such illegal

acts in accordance with #AA$, the auditor should e)!ress a (ualified or

adverse o!inion if management does not revise the financial statements.

c. nder the $rivate 'ecurities ;itigation 0eform Act of 177 !rovide a safe

harbor where the auditor is not liable for re!orting illegal acts to the '?+ ifthe following circumstance a!!ly3

The audit committee or board of directors of a !ublicly held com!any has

been ade(uately informed with res!ect to illegal acts detected in the

audit. 'ubse(uently the auditor determines that the illegal acts have a

material effect on the financial statements, and the senior management or

board of directors has not taken a!!ro!riate remedial actions with res!ect


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to such illegal acts, and the failure to take remedial actions is reasonably

e)!ected to warrant de!arture from a standard audit re!ort or warrant

resignation by the auditor, then the auditor shall re!ort these conclusion

to the !ublic com!anyBs board of directors.

A !ublic com!any whose board of directors receives the re!ort referredto above must so inform the '?+ not later than one business day after the

recei!t of such re!ort and furnish the inde!endent auditor with a co!y of

the notice !rovided to the '?+.

f the inde!endent auditor fails to receive a co!y of the !ublic com!anyBs

notice to the '?+ before the e)!iration of the re(uired one business day

!eriod, the auditor shall within one additional day furnish to the '?+ a

co!y of the re!ort !reviously !rovided to the !ublic com!anyBs board of

directors. n such case the auditor may also wish to consider resigning

from the engagement.

2-1/. f the auditor reaches a conclusion thatsubstantial doubte)ists about an entities

ability to continue as a going concern during the year following the date of the

financial statements, then the auditor should state this conclusion in his or her

audit re!ort. The auditor has no res!onsibility for remaking a statement in his or

her re!ort if substantial doubt about going concern does not e)ist.

2-1. An un(ualified o!inion in not e(uivalent to a clean bill of healthon the audit

client. t only !rovides the financial statement user with reasonable assurance

that the financial statements are free of material misstatement. The absence ofreference to substantial doubt about going concern should not be viewed as

!roviding assurance about an entityBs ability to continue as a going concern.

2-16. a. The seven basic elements of the auditor&s standard re!ort are3 "1% title, "2%

addressee, "% introductory !aragra!h, "% sco!e !aragra!h, "% o!inion

!aragra!h, "/% firm&s signature, and

"% date.

b. The auditor&s re!ort is dated as of the last day of field work rather than the

date on which the re!ort is actually issued which may be several days toseveral weeks later.

2-17. The concluding !aragra!h of the auditor&s standard re!ort satisfies the first and

fourth standards

of re!orting, res!ectively, by e)!licitly stating that the financial statements are


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!resented fairly in conformity with generally acce!ted accounting !rinci!les and

by e)!ressing an o!inion on the financial statements taken as a whole. The

second and third standards of re!orting "i.e.,

consistency in the a!!lication of #AA$ and the ade(uacy of informative

disclosures% are satisfied because these standards are !resumed to be met unless

the auditor&s re!ort states to the contrary.

2-29. a. The two categories of de!artures from the auditor&s standard re!ort are "1%

standard re!ort

with e)!lanatory language and "2% other ty!es of o!inion.

b. Three ty!es of circumstances that re(uire a de!arture from the auditor&s

standard re!ort and

the ty!e or ty!es of o!inion a!!ro!riate for each are3 "1% circumstances

re(uiring e)!lanatory language do e)ist - un(ualified o!inionC "2% financialstatements contain a de!arture from

#AA$ - (ualified o!inion or adverse o!inionC "% auditor unable to obtain

sufficient

com!etent evidence "sco!e limitation% - (ualified o!inion or disclaimer of

o!inion.

2-21. The wording in the o!inion !aragra!h that distinguishes the four ty!es of

o!inions that may be e)!ressed is as follows3

n(ualified o!inion - n our o!inion, the financial statements referred to

above !resent fairly

....

Dualified o!inion - n our o!inion, e)ce!t for the effects of "refer to matter

leading to (ualification described in e)!lanatory !aragra!h%, the financial

statements referred to above !resent fairly ....

Adverse o!inion - n our o!inion, because of the effects of "refer to effects of

matter leading to adverse o!inion described in e)!lanatory !aragra!h%, the

financial statements referred toabove do not !resent fairly ....

5isclaimer of o!inion - 'ince "refer to effects of matter described in

e)!lanatory !aragra!h

that lead to disclaimer%, we do not e)!ress an o!inion on these financial

statements.


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Objective Questions

2.16 1. a 2. b . d

2.17 1. d 2. c . c2.29 1. d 2. a . a . a . b

2.21 1. a 2. d . b . a

Comprehensive Questions

2-22. "?stimated time - 2 minutes%

a.

A++O4T4#

Analye ?vents and

Transactions

A5T4#

Obtain and ?valuate ?vidence

+oncerning the *inancial

'tatements

Eeasure and 0ecord

Transaction 5ata

:erify 'tatements Are

$resented *airly in +onformity@ith #AA$

+lassify and 'ummarie

0ecorded 5ata

$re!are *inancial 'tatements

!er #AA$

5istribute *inancial

'tatements and Auditor&s0e!ort to 'tockholders

in Annual 0e!ort

?)!ress O!inion in Audit 0e!ort

5eliver Audit 0e!ort

to +lient

b. This contention is incorrect. Eanagement has the res!onsibility for the

!re!aration of the financial statements. The auditor&s res!onsibility is limited


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to making an audit of the

statements and re!orting the findings. n the course of the audit, the auditor

may suggest adjustments in the financial statements. >owever, management

is res!onsible for all decisions concerning the form and content of the

statements.

2-2. "?stimated time - 2 minutes%

Statement I

a. ?ach sentence of this statement is !artially true3

1. Test checking is used e)tensively on most audits.

2. The auditor&s judgment is involved in selecting the sam!le, either directly

or through choice of statistical design.

. A system of 199 !ercent verification would detect errors and !rotect to

some e)tent against fraud.

b. Areas of misconce!tion, incom!leteness, or fallacious reasoning included in

this statement are the following3

1. The auditor does not !erform all !arts of the audit on a test basis. *or

e)am!le, he or she reviews minutes for all meetings of the board of

directors and e)amines all material contracts and agreements.

2. The statement ignores the im!ortance of the auditor&s consideration and

testing of internal control. This is the basis for determining the e)tent of

!rocedures. f internal control is weak, he or she may e)amine every

transaction during the transaction !eriod. >owever, such an e)amination

is not a !erfect substitute for good internal control. A 199 !ercent

verification may not detect so!histicated errors or frauds.

. +om!etent e)ercise of judgment is one of the auditor&s skills.

5eficiencies in the e)ercise of this skill are !ossible, but a 199 !ercent

verification also may be !erformed im!ro!erly.

. The historical e)!erience of the auditing !rofession su!!orts the

conclusion that material misstatements are disclosed by test checking. f

the sam!ling is statistically sound, it is further backed by the

mathematical conce!ts of !robability theory. A 199 !ercent

verification does not add significantly to the auditor&s degree of


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assurance. >igh accuracy and !rotection against fraud are better !rovided

by good internal controls and ade(uate bonding of em!loyees.

. On most engagements the cost of checking every transaction would be

e)cessive in terms of the benefits derived.

/. *inally, a 199 !ercent e)amination unduly delays com!letion of the audit

and issuance of the audited financial statements.

Statement 2

a. This statement is untrue if the +$A is fulfilling his or her res!onsibilities.

b. t is fallacious to assume the following3

1. That the attest function has no value to the users of financial statements.

2. That the auditor renders no service beyond the furnishing of an o!inion.

$erha!s the best indication of the value of the auditor&s re!ort is that it is so

often insisted u!on by the users of financial statements. The auditor alerts users

to im!ro!er or inade(uate re!orting by means of a (ualified o!inion. @hen the

o!inion is un(ualified, the auditor increases the reliance which users may !lace

u!on the financial statements. t is likely that the (uality of re!orting is

im!roved by the certainty of an audit and by the desire for an un(ualified

o!inion.

The auditor fulfills a vital social role. An e)am!le is the auditor&s contribution to

the maintenance of orderly ca!ital markets and im!rovement of the efficiency of

the economy by reducing the risk !remium that investors re(uire in their return

on investment.

n addition to rendering an o!inion on financial statements, the auditor usually

!lays an im!ortant advisory role in their !re!aration. The auditor also furnishes

advice to the client on control and other financial matters and makes general

management suggestions.

2-2 "?stimated time - 19 minutes%

1. 'tudent 5 is correct. t is the client&s res!onsibility.

2. a. "1% The first sentence of this statement is !artially true. t is im!ortant to

read the


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footnotes to financial statements because they !rovide im!ortant

su!!lementary information.

"2% *ootnotes often !ertain to com!le) matters and are !resented in

technical language. +ertainly it must be acknowledged that

sometimes they could be !resented in a clearer form.

"% To the e)tent the footnotes su!!lement disclosures in the body of

the financial statements, they could reduce the auditor&s e)!osure

to third-!arty liability.

b. "1% The statement is clearly wrong in asserting that the footnotes can

be used to correct or contradict financial statement !resentation.

*ootnotes are an integral !art of the financial statements. f there

is contradiction or if the !resentation is incom!rehensible, this

constitutes inade(uate re!orting and re(uires comment in the

auditor&s re!ort."2% The statement fails to recognie that the need for accuracy and

com!leteness sometimes overrides the desire for clarity.

"% The statement incorrectly assigns the !rimary res!onsibility for the

financial statements and footnotes to the auditor instead of to

management. The auditor&s relationshi! to the footnotes is the

same as to the balance sheet and other financial statements. *or

both, the auditor&s actions are governed by the same re!orting

res!onsibilities.

"% 8ecause footnotes are !re!ared by management, the auditor cannot

control their content. Other advisors, e.g., legal counsel, willinfluence the wording of footnotes. The auditor should recommend

im!rovements in !resentation, but will only make an o!inion

e)ce!tion if disclosure is inade(uate or so unclear as to be

misleading.

2-2 "?stimated time - 9 minutes%

a. Identification of

Standard

b. Statement of Standard

1. Third general 5ue !rofessional care is to be e)ercised in the!erformance of the audit and the !re!aration of the

re!ort.

2. *irst fieldwork The work is to be ade(uately !lanned and assistants, if

any, are to be !ro!erly su!ervised.


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Standard


. 'econd fieldwork A sufficient understanding of the internal control

structure is to be obtained to !lan the audit and to

determine the nature, timing, and e)tent of tests to be

!erformed.

. *irst fieldwork The work is to be ade(uately !lanned and assistants, if

any, are to be !ro!erly su!ervised.

. *irst general The audit is to be !erformed by a !erson or !ersons

having ade(uate technical training and !roficiency as

anauditor.

/. *irst re!orting The re!ort shall state whether the financial statements

are !resented in accordance with generally acce!ted

accounting !rinci!les.

. 'econd general n all matters relating to the assignment, an

inde!endence in mental attitude is to be maintained by

the auditor or auditors.

6. 'econd re!orting The re!ort shall identify those circumstances in which

such !rinci!les have not been consistently observed in

the current !eriod in relation to the !receding !eriod.

7. Third fieldwork 'ufficient com!etent evidential matter is to be

obtained

through ins!ection, observation, in(uiries, and

confirmations to afford a reasonable basis for ano!inion

regarding the financial statements under audit.

19. Third re!orting nformative disclosures in the financial statements are

to be regarded as reasonably ade(uate unless

otherwise


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Standard


stated in the re!ort.

11. *ourth re!orting The re!ort shall either contain an e)!ression of

o!inion

regarding the financial statements, taken as a whole, or

an

assertion to the effect that an o!inion cannot be

e)!ressed.

@hen an overall o!inion cannot be e)!ressed, the

reasons

therefor should be stated. n all cases where an

auditor&sname is associated with financial statements, the

re!ort

should contain a clear-cut indication of the character

of

the audit, if any, and the degree of res!onsibility the

auditor is taking.

2-2/. "?stimated time - 19 minutes%

a. #AA' are included in the sco!e !aragra!h. #AA$ are included in the

o!inion !aragra!h.

b. #AA' are a!!roved and ado!ted by the membershi! of the A+$A. They

a!!ly to all financial statement audits and deal with the (uality of

!erformance and the overall objectives to be achieved. #AA$ re!resents

the !rinci!les to be followed in the !re!aration of financial statements.

#AA$ includes ade(uate disclosure. 'tatements of the *A'8 and #A'8

are recognied as #AA$.

c. #AA$ is the criteria for determining whether the financial statements

!resent fairly, in all material res!ects. The auditor is also re(uired by the

first standard of re!orting to state whether the financial statements are in

conformity with #AA$.


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d. #AA' are !art of the 'tatements on Auditing 'tandards.

2.2 "?stimated time - 1 minutes%

a. Paragraph Sentence Sequence

1. 'co!e *irst

2. 'co!e ;ast

. O!inion ------

. ntroductory *irst

. 'co!e Third

/. ntroductory Third

. 'co!e 'econd

6. 'co!e *ourth

7. ntroductory 'econd

b. The !rimary !ur!ose of each !aragra!h is3

ntroductory--distinguish between the res!onsibilities of management

and the auditor.

'co!e--describe the nature and sco!e of the audit.

O!inion--satisfy the standards of re!orting.


a. 5e!artures from the auditor&s standard re!ort occur when "1% e)!lanatory

language is added to

the standard re!ort and "2% other than an un(ualified o!inion is e)!ressed.

b. A change in an accounting !rinci!le made in conformity with #AA$

results in adding

e)!lanatory language to the auditor&s standard re!ort in a !aragra!h

following the o!inion

!aragra!h. There are no other changes in the standard re!ort.

c. The auditor may e)!ress one of the following other ty!es of o!inions3

A (ualified o!inion states that e)ce!t for the effects of the matter"s% to

which the


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(ualification relates, the financial statements !resent fairly... in


An adverse o!inion states that the financial statements do not !resent

fairly... in

conformity with #AA$. A disclaimer of o!inion states that the auditor does not e)!ress an

o!inion on the financial statements.

d. There are three changes in the auditor&s re!ort when there is nonconformity

with #AA$3 "1%

an e)!lanatory !aragra!h is added before the o!inion !aragra!h that

e)!lains the

nonconformity with #AA$, "2% reference is made to the e)!lanatory

!aragra!h in the o!inion !aragra!h, and "% the wording of the o!inion!aragra!h will say &n our o!inion, e)ce!t for.F

2.27 Omitted, will be !rovided in the classroom discussion


a. An illegal act refers to such acts as the !ayment of bribes, the making of

illegal !olitical

contributions, and the violation of other s!ecific laws and governmental

regulations.

b. Two characteristics of illegal acts influence the auditor&s res!onsibility for

detection.

The determination of whether an act is illegal is de!endent on legal

judgment that normally is beyond the auditor&s !rofessional

com!etence.

llegal acts vary considerably in their relation to financial statements.

'ome laws and

regulations such as income ta) laws have a direct and material effect

on the financial

statements. >owever, other laws such as those !ertaining to

occu!ational safety and health


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and to environmental !rotection have only an indirect effect on the

financial statements.

c. 5isagree. The auditor&s res!onsibilities differ for illegal acts that have a

direct and materialeffect on the financial statements and all other illegal acts. The auditor&s

res!onsibilities for

the first ty!e of illegal acts are the same as for material errors and fraud

"i.e., he or she

should !lan the audit to detect such acts.% 0es!onsibilities for all other

illegal acts are limited

to a!!lying auditing !rocedures to such acts that come to the auditor&s

attention.

d. nformation that may !rovide evidence concerning !ossible illegal acts

includes "1% unauthoried transactions, "2% investigations by governmental

agencies, and "% failure to file ta) returns. The auditor should res!ond by

discussing the matter with management, consulting with the client&s legal

counsel, and a!!lying additional !rocedures to obtain an understanding

of the act and its effects on the financial statements.

e. The effects on the audit re!ort are the same as for fraud. @hen an illegal

act having a material effect on the financial statements is not accounted for

in conformity with #AA$, the auditor should e)!ress either a (ualifiedo!inion or an adverse o!inion. f the auditor is unable to obtain sufficient

evidence about an illegal act, there is a sco!e limitation, which should

result in e)!ressing either a (ualified o!inion or disclaimer of o!inion. The

auditor&s re!orting res!onsibilities to other !arties is limited to

communicating with the audit committee.

Cases


rief !escription of "enera##$

%ccepted %uditing Standards

&o#mes' %ctions (esu#ting in

)ai#ure to Comp#$ *ith "enera##$


"enera# Standards


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1. The audit is to be !erformed

by a !erson or !ersons having

ade(uate technical training

and !roficiency is an auditor.

t was ina!!ro!riate for >olmes to hire the

two students to

conduct the audit. The audit must be

conducted by !ersons

with !ro!er education and e)!erience in

the field of

auditing. Although a junior assistant has

not com!leted his

or her formal education, he or she may hel!

in the conduct

of the audit as long as there is !ro!er

su!ervision andreview.

2. n all matters relating to the

assignment, an inde!endence

in mental attitude is to be

maintained by the auditor or

auditors.

To satisfy the second general standard,

>olmes must be

without bias with res!ect to the client under

audit. >olmes

has an obligation for fairness to the owners,

management,

and creditors who may rely on the re!ort.

8ecause of thefinancial interest in whether the bank loan

is granted to

0ay, >olmes is inde!endent in neither fact

nor a!!earance

with res!ect to the assignment undertaken.

. 5ue !rofessional care is to be

e)ercised in the !erformance

of the audit and the

!re!aration of the re!ort.

This standard re(uires >olmes to !erform

the audit with due care, which im!oses on

>olmes and everyone in >olmes&

organiation a res!onsibility to observe the

standards of fieldwork and re!orting.

?)ercise of due care re(uires critical

review at every level of su!ervision of the

work done and the judgments e)ercised by

those assisting in the audit. >olmes did not


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review the work or the judgments of the

assistants and clearly failed to adhere tothis standard.

Standards of )ie#d *ork

1. The work is to be ade(uately

!lanned and assistants, if any,

are to be !ro!erly su!ervised.

This standard recognies that early

a!!ointment of the auditor has advantages

for the auditor and the client. >olmes

acce!ted the engagement without

considering the availability of com!etent

staff. n addition, >olmes failed to

su!ervise the assistants. The work

!erformed was not ade(uately !lanned.

2. A sufficient understanding of

the internal controls is to be

obtained to !lan the audit and

to determine the nature,

timing, and e)tent of tests tobe !erformed.

>olmes did not obtain any understanding

of the internal control structure. There

a!!ears to have been no audit at all. The

work !erformed was more an accounting

service than it was an auditing service.

. 'ufficient, com!etent

evidential matter is to be

obtained through ins!ection,

observation, in(uiries, and

confirmations to afford a

reasonable basis for an

o!inion regarding the

financial statements under

e)amination.

>olmes ac(uired no evidence that would

su!!ort the financial statements. >olmes

merely checked the mathematical accuracy

of the records and summaried the

accounts. 'tandard audit !rocedures and

techni(ues were not !erformed.

Standards of (eporting

1. The re!ort shall state whether

the financial statements are

!resented in accordance with

generally acce!ted accounting

>olmes& re!ort made no reference to

generally acce!ted accounting !rinci!les.

8ecause >olmes did not conduct a !ro!er

audit, the re!ort should state that no


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!rinci!les. o!inion can be e)!ressed as to the fair

!resentation of the financial statements inaccordance with generally acce!ted

accounting !rinci!les.

2. The re!ort shall identify those

circumstances in which such

!rinci!les have not been

consistently observed in the

current !eriod in relation to

the !receding !eriod.

>olmes& im!ro!er audit did not result in a

determination of whether !rinci!les were

consistently observed.

. nformative disclosures in the

financial statements are to be

regarded as reasonably

ade(uate unless otherwise

stated in the re!ort

Eanagement is !rimarily res!onsible for

ade(uate disclosure in the financial

statements, but when the statements do not

contain ade(uate disclosures the auditor

should make such disclosures in the

auditor&s re!ort. n this case both thestatements and the auditor&s re!ort lack

ade(uate disclosures.

. The re!ort shall either contain

an e)!ression of o!inion

regarding the financial

statements taken as a whole or

an assertion to the effect that

an o!inion cannot be

e)!ressed. @hen an overallo!inion cannot be e)!ressed,

the reasons therefor should be

stated. n all cases where an

auditor&s name is associated

with financial statements, the

re!ort should contain a

Although the >olmes re!ort contains an

e)!ression of o!inion, such o!inion is not

based on the results of a !ro!er audit.

>olmes should not e)!ress an o!inion

because he failed to conduct an audit in

accordance with generally acce!ted

auditing standards.


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clearcut indication of the

character of the audit, if any,and the degree of

res!onsibility the auditor is

taking.


a. n conducting an ordinary audit, >ill G Associates should be aware of the

!ossibility that fraud may e)it. 5efalcations, fraud, or deliberate

misre!resentations may result in misstated financial statements. Theordinary audit leading to the e)!ression of an o!inion is not a guarantee that

fraudulent activities will be detected.

nder #AA', the auditor has the res!onsibility to !lan the audit to

detect errors or fraud that would have a material effect on the financial

statements, and to e)ercise due skill and care in the conduct of the audit.

8ecause the audit is based on the conce!t of selective testing of the data,

there is the risk that material errors or fraud, if they e)ist, will not be

discovered. Eoreover, there is the risk that management override of controls

and collusion by em!loyees may limit the effectiveness of the auditor&se)amination.

b. @hen fraud e)ists, the auditor cannot issue an un(ualified o!inion because

the auditor&s standard re!ort im!licitly indicates the belief that the financial

statements taken as a whole are not materially misstated as a result of errors

or fraud.

@hen the auditor has obtained sufficient com!etent evidential matter

concerning the fraud, he or she should e)!ress either a (ualified or adverse

o!inion, de!ending on materiality, because the financial statements are notin conformity with #AA$.

@hen the audit indicates the !resence of fraud and the auditor remains

uncertain about whether it may materially affect the financial statements, the

auditor should (ualify the o!inion or disclaim an o!inion on the financial

statements because it is not known whether the financial statements are in



21/21

(+S+%(C& Q,+S-IOS

*or the reasons s!ecified in the introduction to this manual, solutions are not !rovided

for this category of (uestions.

Documents

Modern Auditing Beynton Solution Manual Chapter 2