Chap 17

When auditing contingent liabilities, which of the following procedures would be least effective?

• reading the minutes of the board of directors

• obtaining a letter of audit inquiry from the entity’s attorneys

• examining customer confirmation replies

• examining invoices for legal services

When obtaining evidence regarding litigation against an entity, the CPA would be least interested in determining:

• an estimate of when the matter will be resolved.

• the period in which the underlying cause of the litigation occurred.

• the probability of an unfavorable outcome.

• an estimate of the potential loss.

The auditor's primary means of obtaining corroboration of management's information concerning litigation is a:

• letter of audit inquiry to the entity's lawyer.

• letter of corroboration from the auditor's lawyer upon review of the legal documentation.

• confirmation of claims and assessments from the other parties to the litigation.

• confirmation of claims and assessments from an officer of the court presiding over the litigation.

An auditor should obtain evidential matter relevant to all the following factors concerning third-party litigation against an entity except the:

• period in which the underlying cause for legal action occurred.

• probability of an unfavorable outcome.

• jurisdiction in which the matter will be resolved.

• existence of a situation indicating an uncertainty as to the possible loss.

An auditor will ordinarily examine invoices from lawyers primarily to:

• substantiate accruals.

• assess the legal ramifications of litigation in progress.

• estimate the dollar amount of contingent liabilities.

• identify actual or potential litigation against the entity.

If a lawyer refuses to furnish corroborating information regarding litigation, claims, and assessments, the auditor should:

• honor the confidentiality of the client-lawyer relationship.

• consider the refusal to be a scope limitation.

• seek to obtain the corroborating information from management.

• disclose this fact in a footnote to the financial statements.

The refusal of an entity's attorney to provide information requested in the letter of audit inquiry is generally:

• sufficient reason to issue a "subject to" qualified opinion.

• considered to be a scope limitation.

• insufficient reason to modify the auditor's report because of the attorney's obligation of confidentiality.

• proper grounds to withdraw from the engagement without further consideration.

Which of the following material events occurring subsequent to the balance sheet date would require an adjustment to the financial statements before they could be issued?

• sale of long-term debt or capital stock

• loss of a plant as a result of a flood

• major purchase of a business that is expected to double sales volume

• settlement of litigation, in excess of the previously recorded liability

Which of the following situations would require adjustment to or disclosure in the financial statements?

• a merger discussion

• the application for a patent on a new production process

• discussions with a customer that could lead to a 40 percent increase in the entity's sales if agreement is successful

• the bankruptcy of a customer who regularly purchased 30 percent of the company's output

An example of a Type I subsequent event is:

• a tornado that destroys an entity's factory after the balance sheet date.

• an event after the balance sheet date that confirms the auditor's belief (documented prior to the end of the entity's fiscal year) that a large portion of the entity's inventory is obsolete.

• notification of an IRS audit after the balance sheet date.

• the entity's Board of Directors unexpectedly resigns after the balance sheet date.