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Free AICPA CPA-Auditing Exam Questions (page: 8)

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When an entity changes its method of accounting for income taxes, which has a material effect on comparability, the auditor should refer to the change in an explanatory paragraph added to the auditor's report. This paragraph should identify the nature of the change and:

  1. Explain why the change is justified under generally accepted accounting principles.
  2. Describe the cumulative effect of the change on the audited financial statements.
  3. State the auditor's explicit concurrence with or opposition to the change.
  4. Refer to the financial statement note that discusses the change in detail.

Answer(s): D

Explanation:

Choice "d" is correct. The paragraph should refer to the note in the financial statements that discusses the change in detail. Following is an example of an appropriate explanatory paragraph: "As discussed in Note X to the financial statements, the company changed its method of accounting for income taxes in X2."
Choice "a" is incorrect. The auditor need not explain why a change from one generally accepted accounting principle to another is justified.
Choice "b" is incorrect. The paragraph should not identify the cumulative effect of the change on the audited financial statements.
Choice "c" is incorrect. The auditor should never explicitly state concurrence with a change. If the auditor opposes the change, a qualified or adverse opinion should be issued.



Green, CPA, was engaged to audit the financial statements of Essex Co. after its fiscal year had ended. The timing of Green's appointment as auditor and the start of fieldwork made confirmation of accounts receivable by direct communication with the debtors ineffective. However, Green applied other procedures and was satisfied as to the reasonableness of the account balances.
Green's auditor's report most likely contained a(an):

  1. Unqualified opinion.
  2. Unqualified opinion with an explanatory paragraph.
  3. Qualified opinion due to a scope limitation.
  4. Qualified opinion due to a departure from generally accepted auditing standards.

Answer(s): A

Explanation:

Choice "a" is correct. There is a presumption that the auditor will request the confirmation of accounts receivable during an audit unless accounts receivable are immaterial, the use of confirmations would be ineffective, or the assessed inherent risk is so low that the evidence expected to be provided by analytical procedures or other substantive tests of details would be sufficient. In this example, the confirmation of accounts receivable by direct communication with the debtors would be ineffective. If Green was able to apply alternative audit procedures and was satisfied as to the reasonableness of the account balances, then an unqualified opinion could be issued.
Choice "b" is incorrect. Since Green was satisfied as far as the accounts receivable balances, there is no need to add an explanatory paragraph.
Choice "c" is incorrect. Since Green was able to perform alternative procedures and was satisfied as far as the reasonableness of the account balances, there is no scope limitation. Choice "d" is incorrect. Since Green was able to perform alternative procedures and was satisfied as far as the reasonableness of the account balances, there is no departure from generally accepted auditing standards.



Davis, CPA, believes there is substantial doubt about the ability of Hill Co. to continue as a going concern for a reasonable period of time. In evaluating Hill's plans for dealing with the adverse effects of future conditions and events, Davis most likely would consider, as a mitigating factor, Hill's plans to:

  1. Accelerate research and development projects related to future products.
  2. Accumulate treasury stock at prices favorable to Hill's historic price range.
  3. Purchase equipment and production facilities currently being leased.
  4. Negotiate reductions in required dividends being paid on preferred stock.

Answer(s): D

Explanation:

Choice "d" is correct. Negotiating reductions in required dividends would conserve cash, which would be a mitigating factor in Davis' concerns about Hill's ability to continue as a going concern. Choice "a" is incorrect. Accelerating R&D projects would use cash and impair the company's ability to continue as a going concern.
Choice "b" is incorrect. Accumulating treasury stock would consume cash and aggravate the situation.
Choice "c" is incorrect. Purchasing equipment that is currently leased would use cash and impair the company further.



In the auditor's report, the principal auditor decides not to make reference to another CPA who audited a client's subsidiary. The principal auditor could justify this decision if, among other requirements, the principal auditor:

  1. Issues an unqualified opinion on the consolidated financial statements.
  2. Learns that the other CPA issued an unqualified opinion on the subsidiary's financial statements.
  3. Is unable to review the audit programs and audit documentation of the other CPA.
  4. Is satisfied as to the independence and professional reputation of the other CPA.

Answer(s): D

Explanation:

Choice "d" is correct. If, among other requirements, the principal auditor is satisfied as to the independence and the professional reputation of the other auditor, the principal auditor may express an opinion on the financial statements taken as a whole without making reference to the audit of the other auditor.
Choice "a" is incorrect.
Whether or not an unqualified opinion is issued is not the determining factor as to whether the principal auditor must make reference to another CPA. Choice "b" is incorrect.
Whether or not an unqualified opinion is issued on the subsidiary's financial statements is not the determining factor as to whether the principal auditor must make reference to another CPA.
Choice "c" is incorrect. If the principal auditor is unable to review the audit programs and audit documentation of the other CPA, he or she is likely to divide responsibility by making reference to the other CPA in the auditor's report.



A limitation on the scope of an audit sufficient to preclude an unqualified opinion will usually result when management:

  1. Is unable to obtain audited financial statements supporting the entity's investment in a foreign subsidiary.
  2. Refuses to disclose in the notes to the financial statements related party transactions authorized by the Board of Directors.
  3. Does not provide the auditor with an engagement letter specifying the responsibilities of both the entity and the auditor.
  4. Fails to correct a significant deficiency in internal control communicated to those charged with governance after the prior year's audit.

Answer(s): A

Explanation:

Choice "a" is correct. Restrictions on the scope of the audit, such as the timing of the work, the inability to obtain sufficient appropriate audit evidence, or an inadequacy in the accounting records, may require the auditor to qualify or disclaim an opinion. Inability to obtain audited financial statements supporting the entity's investment in a foreign subsidiary is such a restriction on the scope of the audit.
Choice "b" is incorrect. Client refusal to disclose related party transactions in the notes to the financial statements is a GAAP problem, not a scope problem. For a GAAP problem, the auditor must either issue a qualified or adverse opinion.
Choice "c" is incorrect. The auditor sends an engagement letter to the client, not vice versa. Choice "d" is incorrect. Management may choose not to correct a significant deficiency in internal control if the cost of correcting the condition outweighs the benefit.



In which of the following situations would an auditor ordinarily choose between expressing an "except for" qualified opinion or an adverse opinion?

  1. The auditor did not observe the entity's physical inventory and is unable to become satisfied as to its balance by other auditing procedures.
  2. The financial statements fail to disclose information that is required by generally accepted accounting principles.
  3. The auditor is asked to report only on the entity's balance sheet and not on the other basic financial statements.
  4. Events disclosed in the financial statements cause the auditor to have substantial doubt about the entity's ability to continue as a going concern.

Answer(s): B

Explanation:

Choice "b" is correct. Failure to disclose information that is required by GAAP is a departure from GAAP.
Departures from GAAP result in a qualified or an adverse opinion. Choice "a" is incorrect. If the auditor is unable to observe physical inventory and is unable to become satisfied through alternative means, that is a scope limitation. Scope limitations result in either a qualified opinion or a disclaimer of opinion.
Choice "c" is incorrect. The auditor can report on one financial statement and not the others. This does not preclude issuance of an unqualified opinion.
Choice "d" is incorrect. If, after considering identified conditions and events and management's plans, the auditor concludes that substantial doubt about the entity's ability to continue as a going concern for a reasonable period of time remains, the audit report should include an explanatory paragraph (after the opinion paragraph in the unqualified report) to reflect that conclusion.



When an auditor expresses an adverse opinion, the opinion paragraph should include:

  1. The principal effects of the departure from generally accepted accounting principles.
  2. A direct reference to a separate paragraph disclosing the basis for the opinion.
  3. The substantive reasons for the financial statements being misleading.
  4. A description of the uncertainty or scope limitation that prevents an unqualified opinion.

Answer(s): B

Explanation:

Choice "b" is correct. The opinion paragraph in an adverse opinion reads, "in our opinion, because of the effects of the matters discussed in the preceding paragraphs, the financial statements...." Choice "a" is incorrect. The principal effects of the departure from GAAP are included in the explanatory paragraph, not the opinion paragraph.
Choice "c" is incorrect. The "substantive reasons for the financial statements being misleading" are discussed in the explanatory paragraph, not the opinion paragraph. Choice "d" is incorrect. Scope limitations pertain to disclaimers of opinion, not adverse opinions. (It is very important to memorize the qualifying phrases in the qualified, adverse, and disclaimer of opinions.)



Under which of the following circumstances would a disclaimer of opinion not be appropriate?

  1. The financial statements fail to contain adequate disclosure of related party transactions.
  2. The client refuses to permit its attorney to furnish information requested in a letter of audit inquiry.
  3. The auditor is engaged after fiscal year-end and is unable to observe physical inventories or apply alternative procedures to verify their balances.
  4. The auditor is unable to determine the amounts associated with illegal acts committed by the client's management.

Answer(s): A

Explanation:

Choice "a" is correct. The failure of the financial statements to contain adequate disclosure of related party transactions, or other required disclosures, would result in a qualified or adverse opinion, not a disclaimer of opinion.
Choice "b" is incorrect. A client's refusal to permit its attorney to furnish information requested in a letter of audit inquiry would generally result in a disclaimer of opinion. Choice "c" is incorrect. The auditor's inability to observe physical inventories or apply alternative procedures to verify their balances could result in a disclaimer. Choice "d" is incorrect. The auditor's inability to determine the amounts associated with illegal acts committed by the client's management could result in a disclaimer.



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