Lecture 8- Going concern & audit opinion

Going concern assumption- Entity is to continue in [blank_start]operational existence[blank_end] for [blank_start]foreseeable[blank_end] future

Financial statements are prepared on [blank_start]going-concern[blank_end] basis because measures based on [blank_start]break-up[blank_end] values tend not to be [blank_start]relevant[blank_end] to users & likely to be valued at [blank_start]less[blank_end] than [blank_start]going concern[blank_end] basis if it is going to continue [blank_start]trading[blank_end]

Auditor must focus on [blank_start]going concern[blank_end] throughout audit & not just at [blank_start]conclusion[blank_end]

ISA 570 requires [blank_start]auditors[blank_end] to consider same period in [blank_start]future[blank_end] as management provided more than [blank_start]12[blank_end] months from balance sheet [blank_start]date[blank_end]. If lower auditor requests [blank_start]directors[blank_end] to extend period of assessment. Auditors need to get [blank_start]12[blank_end] months of data from [blank_start]directors[blank_end] to review so that they can see [blank_start]beyond[blank_end] approval of financial statements. Where directors look at period of [blank_start]less[blank_end] than one year from approval of financial statements determine whether [blank_start]additional[blank_end] disclosure required. If directors do not disclose auditors must disclose it in [blank_start]audit report[blank_end]. Auditors must remain [blank_start]alert[blank_end] to possible conditions beyond [blank_start]12[blank_end] months. There might be change of circumstance

[blank_start]Directors’ responsibilities[blank_end] need to be recognised because they need to also determine if company is [blank_start]going concern[blank_end]. [blank_start]Auditors’ role[blank_end] also need to be recognised as they need to satisfy themselves [blank_start]going-concern[blank_end] basis is appropriate, [blank_start]disclosures[blank_end] in financial statements are [blank_start]sufficient[blank_end], how [blank_start]directors[blank_end] concluded company is [blank_start]going concern[blank_end] & finally assess [blank_start]logic[blank_end], [blank_start]rationale[blank_end] & [blank_start]strength[blank_end] of information used in coming to conclusion

Information to assess going concern include [blank_start]profit & loss[blank_end] forecast, [blank_start]balance sheet[blank_end] forecast, [blank_start]cash flow[blank_end] forecast & [blank_start]history[blank_end] of forecasting

Two indicators that might suggest that company is having going-concern problems are company is generating [blank_start]negative cash flows[blank_end] & company has made [blank_start]significant losses[blank_end]

Another two indicators that might suggest that company is having going-concern problems are company has [blank_start]substantial debts[blank_end] which it is having trouble [blank_start]servicing[blank_end] & company has [blank_start]current net liabilities[blank_end]

Another two indicators that might suggest that company is having going-concern problems are company's major [blank_start]customers[blank_end] are in [blank_start]bankruptcy[blank_end] & company has had to [blank_start]renegotiate loan repayments[blank_end]

Another two indicators that might suggest that company is having going-concern problems are company has [blank_start]reduced[blank_end] its [blank_start]dividends[blank_end] & company is taking [blank_start]longer[blank_end] time to pay [blank_start]creditors[blank_end]

Another three indicators that might suggest that company is having going-concern problems are company has made number of [blank_start]employees redundant[blank_end], company is in [blank_start]declining market[blank_end] & company has been forced to sell some of its [blank_start]fixed assets[blank_end]

If there is no doubt in going concern of company, neither [blank_start]directors[blank_end] nor [blank_start]auditors[blank_end] need refer specifically to going concern in [blank_start]financial statements[blank_end] or [blank_start]audit report[blank_end] (ISA 570)

If there is doubt in going concern of company, [blank_start]auditors[blank_end] will consider if [blank_start]directors[blank_end] have included sufficient [blank_start]appropriate[blank_end] disclosures such that financial statements give [blank_start]true[blank_end] & [blank_start]fair[blank_end] view. If so, they need not issue qualified [blank_start]audit opinion[blank_end], even where there is fundamental [blank_start]uncertainty[blank_end], but include an [blank_start]explanatory[blank_end] paragraph on going-concern problems, referring to note disclosure in [blank_start]audit report[blank_end]

Audit report- ISA 700 says it is auditor’s report on [blank_start]financial statements[blank_end]. Auditor should [blank_start]review[blank_end] & [blank_start]assess[blank_end] conclusions drawn from [blank_start]audit evidence[blank_end] obtained as basis for expression of an opinion on [blank_start]financial statements[blank_end]

Unmodified audit opinion- Auditors are [blank_start]satisfied[blank_end] accounts give [blank_start]true[blank_end] & [blank_start]fair[blank_end] view & [blank_start]comply[blank_end] with legislation

Modified report but unmodified audit opinion- [blank_start]Emphasis of matter[blank_end] (paragraph in audit opinion). This draws user's attention to specific [blank_start]matter[blank_end] that is [blank_start]fundamental[blank_end] to their understanding

Contents of unmodified audit report include [blank_start]addressee[blank_end], [blank_start]identification[blank_end] of statements upon which are [blank_start]reporting[blank_end], [blank_start]responsibilities[blank_end] of those involved in [blank_start]audit[blank_end] (both auditors & client), [blank_start]scope[blank_end] of audit, [blank_start]opinion[blank_end] i.e. conclusion, [blank_start]name[blank_end] & [blank_start]address[blank_end] of auditors & finally [blank_start]date[blank_end] of audit report

For identification of statements auditors must identify [blank_start]published[blank_end] information upon which they are [blank_start]reporting[blank_end] & [blank_start]check[blank_end] that information not audited does not [blank_start]conflict[blank_end] with view given by [blank_start]financial statements[blank_end]

Auditors state their [blank_start]responsibility[blank_end] to form an [blank_start]opinion[blank_end] on financial statements in accordance with [blank_start]auditing standards[blank_end]- [blank_start]scope[blank_end] of audit

Directors’ responsibilities include [blank_start]preparation[blank_end] of financial statements that give [blank_start]true[blank_end] & [blank_start]fair[blank_end] view, [blank_start]determination[blank_end] of appropriateness of [blank_start]going-concern[blank_end] assumption & ensuring entity keeps proper [blank_start]accounting records[blank_end]

Auditors express an [blank_start]opinion[blank_end] & not [blank_start]guarantee[blank_end]. [blank_start]Opinion[blank_end] is directed towards two matters & they are [blank_start]truth & fairness[blank_end] of accounts & [blank_start]compliance[blank_end] with Companies Act 2006

Auditors ensure [blank_start]companies[blank_end] comply with Companies Act 2006 by ensuring [blank_start]companies[blank_end] state whether [blank_start]accounts[blank_end] have been prepared in accordance with applicable [blank_start]accounting standards[blank_end] & where there is [blank_start]material[blank_end] departure from [blank_start]standards[blank_end], reasons for departure & effect should be [blank_start]disclosed[blank_end]

Examples of items that would be included emphasis of matter paragraph are [blank_start]uncertainty[blank_end] relating to future outcome of exceptional [blank_start]litigation[blank_end] (process of taking [blank_start]legal[blank_end] action), early [blank_start]application[blank_end] of new [blank_start]accounting[blank_end] standard & major [blank_start]catastrophe[blank_end] that had (or still has) effect on entity’s [blank_start]financial position[blank_end]

Modified audit opinion- There are [blank_start]material[blank_end] matters contained in [blank_start]financial statements[blank_end] where auditors are not completely [blank_start]satisfied[blank_end]. It is also known as [blank_start]qualified audit report[blank_end]. [blank_start]Dissatisfaction[blank_end] could be because of limitation in audit [blank_start]scope[blank_end] & auditors’ [blank_start]disagreement[blank_end] with treatment or disclosure

Type of modification depends on “[blank_start]pervasiveness[blank_end]”. [blank_start]Pervasiveness[blank_end] is term used to describe [blank_start]effects[blank_end] on financial statements of [blank_start]misstatements[blank_end] or undetected [blank_start]misstatements[blank_end] (due to inability to obtain) [blank_start]audit evidence[blank_end]. It is [blank_start]pervasive[blank_end] if: not restricted to specific [blank_start]accounts[blank_end] or [blank_start]items[blank_end] in financial statements, restricted to specific [blank_start]accounts[blank_end] or items that represent [blank_start]substantial[blank_end] portion of financial statements & relates to [blank_start]disclosures[blank_end] which are fundamental to users [blank_start]understanding[blank_end] of financial statements

One type of qualification is [blank_start]disagreement[blank_end]. For items that are [blank_start]material[blank_end] but not pervasive there is [blank_start]qualified[blank_end] (except for) opinion. For items that are [blank_start]material[blank_end] & [blank_start]pervasive[blank_end] there is [blank_start]adverse[blank_end] opinion

Another type of qualification is [blank_start]limitation of scope[blank_end]. For items that are [blank_start]material[blank_end] but not [blank_start]pervasive[blank_end] there is [blank_start]qualified[blank_end] (except for) opinion. For items that are [blank_start]material[blank_end] & [blank_start]pervasive[blank_end] there is [blank_start]disclaimer[blank_end] of opinion

Limitation of scope- [blank_start]Auditors[blank_end] are unable to obtain [blank_start]sufficient[blank_end] appropriate [blank_start]evidence[blank_end]

Disclaimer opinion- Possible effect is so [blank_start]material[blank_end] or [blank_start]pervasive[blank_end] that they cannot form an [blank_start]opinion[blank_end] otherwise except for [blank_start]opinion[blank_end]

Examples of limitation in scope are loss of [blank_start]financial records[blank_end], loss of [blank_start]accounting control[blank_end], unable to attend [blank_start]stock take[blank_end] & client does not permit [blank_start]confirmation letters[blank_end] to be sent to relevant [blank_start]parties[blank_end]

Disagreement- [blank_start]Auditors[blank_end] form an opinion on specific matter that [blank_start]differs[blank_end] from opinion of [blank_start]management[blank_end]

Adverse opinion- When effect of disagreement is so [blank_start]material[blank_end] or [blank_start]pervasive[blank_end] that financial statements are seriously [blank_start]misleading[blank_end]– not [blank_start]true & fair[blank_end] view

‘Except for’ opinion- Where disagreement about an item is [blank_start]material[blank_end] but not seriously [blank_start]misleading[blank_end]

Reasons for disagreement include use of an inappropriate [blank_start]accounting base[blank_end] ([blank_start]accounting treatment[blank_end] not correct), disagreement with client as to [blank_start]facts[blank_end] or [blank_start]amounts[blank_end] (i.e. [blank_start]provisions[blank_end]) & non-compliance with relevant [blank_start]legislation[blank_end] or [blank_start]accounting standards[blank_end]