Below are listed several situations that you have encountered with certain of your audit clients.
(a) Bedford Electronics is a manufacturer of advanced electrical components. During the year, changes in the market resulted in a significant decrease in the demand for their products, which are now being sold significantly below cost. Management refuses to write off the products or to increase the inventory reserve for obsolescence.
(b) In the last three months of the current year under audit, Candia Refining Company decided to change direction and go significantly into the oil drilling business. Management recognizes that this business is exceptionally risky and could jeopardize the success of its existing refining business, but there are significant potential rewards. During the short period of operation in drilling, the company has had three dry wells and no successes. The facts are adequately disclosed in the footnotes to the financial statements.
(c) Your client, Danbury Automotive, has changed from straight line depreciation to sum-ofthe-years’-digits depreciation. The effect on this year’s income is material and the effect in future years is likely to be highly material. The facts are adequately disclosed in the footnotes to the financial statements.
(d) Franklin Technology Corporation has prepared financial statements but has decided to exclude the statement of cash flows. Management explains to you that the users of the financial statements find this statement of no use and prefer not to have it included as part of the financial statements.
(e) Gorham Fragrance, Inc. is based in New York but has operations throughout Europe. Because users of the audited financial statements are international, your audit firm was engaged to conduct the audit in accordance with U. S. auditing standards and International Standards on Auditing.
(f) The controller of Hollis Industries, Inc., will not allow you to confirm the receivable balance from two of its major customers. The amounts of the receivables are material in relation to Hollis’ financial statements. You are unable to satisfy yourself as to the receivable balances by alternative procedures.
(g) Approximately 20% of the audit of Lyme Farms, Inc. was performed by a different CPA firm, selected by you. You have reviewed their audit files and believe they did an excellent job on their portion of the audit. However, you are not willing to take complete responsibility for their work.
REQUIRED: (1) For each of the above situations, indicate the appropriate audit report from the following alternatives, following the reporting format established by the Auditing Standards Board (ASB) of the AICPA. If there is more than one alternative, indicate under which circumstances you would choose the alternatives that are available.
(a) Unmodified--Standard Wording (b) Unmodified--Explanatory Paragraph (c) Unmodified--Modified Wording (d) Qualified--Departure from GAAP (e) Qualified--Scope Limitation (f) Adverse (g) Disclaimer
(2) Based upon your answers to (1) above, indicate what modifications, if any, would be made to the standard report, including paragraphs that would be modified, any additions to the report, or any deletions from the report.