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Unformatted text preview: AUDITOR RESPONSIBILITY FOR GOING CONCERN An auditor has a responsibility to determine if substantial doubt exists at the date of the auditors report about whether the audit client can continue as a going concern for the next year. The auditor bases this evaluation on the evidence obtained in performing the audit and considers the entitys financial position as of the balance sheet date. Now consider the following information. As the auditor is completing the audit, the auditor notes the following circumstances. In the last year revenues have grown 2 1 / 2 times, but profitability has fallen from 2 percent to 1 percent of sales. Nevertheless, the company reports over $1 billion in net income. The entitys ratio of debt to equity has grown from 2.5:1 to 4.7:1. Fifty-two percent of pretax income is from noncash sources. Reported cash flow from operations increases from $1.2 billion to $4.7 billion; how- ever, a significant portion of operating cash flows may not be recurring. The company had cash and cash equivalents of $1.3 billion at year-end. In the normal course of business, the company must retire debt in the coming year in the amount of about $2.1 billion. Prices for the companys products are at record highs, and the product is in high demand. The companys stock is near an all-time high, and the company has access to equity markets. The company has an investment grade credit rating, and it has over $2 billion in committed lines of credit. If this is what you know about the company as you are completing your audit, take a moment and consider whether the auditor should have substantial doubt about whether the entity can continue as a going concern. Does substantial doubt exist? Is evaluating whether substantial doubt exists a clear-cut right or wrong issue? Yes or no? This information was taken from Enrons financial statements as of December 31, 2000. On December 2, 2001, Enron filed for bankruptcy protection. Should Andersen have issued a going-concern opinion when its audit opinion was issued on February 23, 2001? Or did Enron fail primarily because of events that happened during 2001 and were not known in February 2001? Although Andersen was heavily criticized for its failure to find material misstatements in Enrons report on financial position and results of opera- tions (debt to equity should have been 5.3:1, and net income should have been $847 million rather than $979 million), there have been few criticisms of the fact that it did not issue a going-concern opinion. Read on in this chapter to better understand the auditors responsibility, not just with respect to going concern, but other responsibilities as well....
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- Spring '11