Marie Janes encounters the following situations in doing the audit of a large car dealership. Janes is not a partner:
1. The sales manager tells her there is a sale (at a substantial discount) on new cars that is limited to long-established customers of dealership. Because her firm has been doing the audit for several years, the sales manager has decided Janes should also be eligible for the discount.
2. The car dealership has an executive lunchroom that is available free to employees above a certain level. The controller informs Janes that she can also eat there at any time.
3. Janes is invited to and attends the company’s annual Christmas party. When presents are handed out, she is surprised to find her name included. The present (gift voucher) has a value $500.
Use the three-step process in the AICPA’s independence conceptual framework to assess whether Janes’ independence has been impaired.
a. Describe how each of the situations might threaten Janes’ independence from the auto dealership.
b. Identify a safeguard that Janes’ firm could impose that would eliminate or mitigate the threat of each situation to Janes’ independence.
c. Assuming no safeguards are in place and Janes accepts the offer or gift in each situation, discuss whether she has violated the rules of conduct.
d. Discuss what Janes should do in each situation.
The following situations involve the provision of nonaudit services. Indicate whether providing the service is a violation of AICPA rules or SEC rules including Sarbanes-Oxley requirements on independence. Explain your answer as necessary.
a. Providing bookkeeping services to a public company. The services were preapproved by the audit committee of the company.
b. Providing internal audit services to a public company that is not an audit client.
c. Designing and implementing a financial information system for a private company.
d. Recommending a tax shelter to a client that is publicly held. The services were preapproved by the audit committee.
e. Providing internal audit services to a public company audit client with the preapproval of the audit committee.
f. Providing bookkeeping services to an audit client that is a private company.
1. During your audit of Raceway, Inc., you conclude that there is a probability that inventory is materially overstated. The client refuses to permit you to expand the scope of your audit adequately to verify whether the balance is actually misstated.
2. You do the audit of Munich Department Store, and in your view the financial statements are fairly shown. On the last day of the audit, you find out that one of your supervisors assigned to the audit has a material investment in Munich.
3. Auto Delivery Company has a fleet of various delivery trucks. In the past, Auto Delivery had followed the policy of purchasing all equipment. In the present year, they determined to lease the trucks. The method of accounting for the trucks is thus changed to lease capitalization. This change in policy is completely disclosed in footnotes.
4. You are auditing Deep Clean Services for the 1st time. Deep Clean has been in business for subsequent years but over the last two years has struggled to stay afloat provided the economic conditions. Based on your audit work, you have considerable doubt that Deep Clean may be in business by the end of its next fiscal year.
5. One of your audit clients has a material investment in a privately-held biosciences company. Your audit firm engaged a business valuation specialist to help in computing the client’s estimation of the investment’s fair value. You refer that the valuation specialist’s work gives sufficient appropriate audit evidence.
6. Four weeks after the year-end date, a main customer of Prince Construction Co. declared bankruptcy. Because the customer had definite the balance due to Prince at the balance sheet date, management refuses to charge off the account or otherwise disclose the information. The receivable represents just about 10% of accounts receivable and 20% of net earnings before taxes.
For each situation, do the subsequent:
a. Check which of the conditions requiring a modification of or a deviation from an unqualified standard report is appropriate.
b. State the level of materiality as immaterial, highly material or material. If you cannot select the level of materiality, state the extra information needed to make a decision.
c. Given your answers in parts a and b, state the kind of audit report that should be issued. If you have not decided on one level of materiality in part b, state the related report for each alternative materiality level
Various types of “accounting changes” can affect the second reporting standard of the generally accepted auditing standards. This standard reads, “The auditor must identify in the auditor’s report those circumstances in which such principles have not been consistently observed in the current period in relation to the preceding period.” Assume that the following list describes changes that have a material effect on a client’s financial statement for the current year:
1. Correction of a mathematical error in inventory pricing made in a prior period.
2. A change from prime costing to full absorption costing for inventory valuation.
3. A change from presentation of statements of individual companies to presentation of consolidated statements.
4. A change from deferring and amortizing preproduction costs to recording such costs as an expense when incurred because future benefits of the costs have become doubtful. The new accounting method was adopted in recognition of the change in estimated future benefits.
5. A change from the completed-contract method to the percentage-of completion method of accounting for long-term construction contracts.
6. A change in the estimated useful life of previously recorded fixed assets based on newly acquired information.
7. A change to including the employer share of Social Security (FICA) taxes as “retirement benefits” on the income statement from including it with “other taxes.”
8. A change from FIFO method of inventory pricing to the LIFO method of inventory pricing.
Identify the type of change described in each item above, and state whether any modification is required in the auditor’s report as it relates to the second standard of reporting. Organized your answer sheet as shown For example, a change from the LIFO method of inventory pricing to the FIFO method in inventory pricing would appear as shown.
Assume that each item is material.
Set up like this below.