Unduly Adversely Affect Shareholder Lead Auditing

Read the case below, answer the question, and explain your choice. Be sure to consider materiality as part of your explanation.

You are the lead auditor working with Brace Corporation. You have found three misstatements in the course of your audit – detailed below. You have met with management at Brace Corporation and they agree with your findings. However, management at Brace Corporation would like to make the adjustments in the current year rather than making them to the prior year. Management believes that adjustments to the financial statements will unduly adversely affect shareholder and creditor confidence. A managing partner in your firm has been advised of the situation. The partner has not reviewed the findings in detail, but she agrees that adjustments should not be made unless they are essential for a fair representation.

When you began the audit you determined that the overall financial statement materiality was $450,000. This amount represents 4% of earnings. Performance materiality has been set to 75%. All amounts are given pre-tax. The amounts and types of misstatements are included below:

Summary of Unadjusted Misstatements A

Warranty – verbal increase of the warranty period from two to three years. They have been honoring these verbal arrangements. Analysis of current data on this expense shows a $100,000 estimated adjustment is needed.

Repair and Maintenance – $150,000 of costs related to an upgrade were capitalized, but the upgrade has been scrapped due to technical difficulties. Since 1/10th of the cost was depreciated in the audit year, only the difference is understated.

Accounts Receivable – At year-end, Brace had receivables from 1,250 customers with a book value of approximately $6,500,000. A random sample of 30 accounts was selected for positive confirmation. All differences found appear to be unintentional. See the details below:

In your post, choose one of the following statements that gives a clean opinion for Brace. Explain your justification.

• I would not be willing to issue a clean opinion even if Brace is willing to make adjustments for items on the Summary of Unadjusted Misstatements.
• I would be willing to issue a clean opinion without any adjustments.
• I would be willing to issue a clean opinion only if Brace is willing to make some adjustments to their financial statements for items on the Summary of Unadjusted Misstatements.