CPA Quiz: Ability To Continue As Going Concern
20 questions · exam conditions
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Ability To Continue As Going ConcernQuestion 1 of 20

You are the auditor of a nonissuer manufacturing company in an audit of financial statements. The company has recurring operating losses, a 1.8 current ratio decline to 0.7, and a 12-month cash flow forecast showing a 3.5millionshortfall;603.5 million shortfall; 60% of debt (4.0 million) matures in the next 9 months and the entity is currently in technical covenant violation with a waiver that expires in 60 days. Management plans to obtain a new revolving credit facility but has only initiated preliminary discussions with one lender and has no term sheet. What is the most appropriate action for the auditor to take regarding the going concern assessment?

Obtain sufficient appropriate audit evidence about management's plans and the feasibility of those plans, evaluate whether substantial doubt exists for the 12 months after the financial statement issuance date, and determine whether an emphasis-of-matter paragraph is required if substantial doubt is alleviated by management's plans.
Because the client is a nonissuer, apply PCAOB AS 2415 and evaluate going concern for the 12 months after the balance sheet date, adding an explanatory paragraph whenever negative cash flows are forecasted.
Defer all going concern evaluation procedures until after the audit report date because subsequent events procedures will provide the most reliable evidence about future viability.
Focus primarily on additional substantive testing of revenue recognition because misstatements in revenue are the most common cause of going concern issues, and do not evaluate management's financing plans unless a misstatement is identified.
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CPA Quiz: Ability To Continue As Going Concern

Practice Ability To Continue As Going Concern in CPA with focused quiz questions that help you check what you know, review explanations, and build confidence with test-style prompts.

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This quiz focuses on Ability To Continue As Going Concern, giving you a quick way to practice the rules, question types, and explanations that matter most for CPA.

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Question 1

You are the auditor of a nonissuer manufacturing company in an audit of financial statements. The company has recurring operating losses, a 1.8 current ratio decline to 0.7, and a 12-month cash flow forecast showing a 3.5millionshortfall;603.5 million shortfall; 60% of debt (4.0 million) matures in the next 9 months and the entity is currently in technical covenant violation with a waiver that expires in 60 days. Management plans to obtain a new revolving credit facility but has only initiated preliminary discussions with one lender and has no term sheet. What is the most appropriate action for the auditor to take regarding the going concern assessment?

  1. Obtain sufficient appropriate audit evidence about management's plans and the feasibility of those plans, evaluate whether substantial doubt exists for the 12 months after the financial statement issuance date, and determine whether an emphasis-of-matter paragraph is required if substantial doubt is alleviated by management's plans. (correct answer)
  2. Because the client is a nonissuer, apply PCAOB AS 2415 and evaluate going concern for the 12 months after the balance sheet date, adding an explanatory paragraph whenever negative cash flows are forecasted.
  3. Defer all going concern evaluation procedures until after the audit report date because subsequent events procedures will provide the most reliable evidence about future viability.
  4. Focus primarily on additional substantive testing of revenue recognition because misstatements in revenue are the most common cause of going concern issues, and do not evaluate management's financing plans unless a misstatement is identified.
Explanation: Under AU-C 570 for nonissuers, auditors must evaluate whether substantial doubt exists about an entity's ability to continue as a going concern for 12 months after the date the financial statements are issued (or available to be issued). The key facts here include severe liquidity issues (current ratio dropped to 0.7), imminent debt maturities (60% of debt due in 9 months), covenant violations, and management's preliminary financing plans lacking concrete evidence. The correct answer (A) properly requires obtaining sufficient appropriate audit evidence about management's plans and their feasibility, which is critical given the preliminary nature of the credit facility discussions. Answer B incorrectly applies PCAOB standards to a nonissuer and uses the wrong evaluation period (balance sheet date rather than issuance date). Answer C inappropriately defers evaluation until after the report date, violating the requirement to evaluate going concern before issuing the report. Answer D incorrectly focuses on revenue testing rather than the required going concern evaluation procedures. The professional judgment framework requires auditors to (1) identify conditions indicating substantial doubt, (2) obtain and evaluate evidence about management's plans, (3) conclude whether substantial doubt is alleviated, and (4) determine appropriate reporting based on that conclusion.

Question 2

You are performing an audit of a nonissuer entity. Conditions and events (recurring losses, negative operating cash flows, and imminent debt maturities) indicate substantial doubt about the entity's ability to continue as a going concern, and management's plans are not likely to alleviate the doubt. Management includes a note disclosure describing the conditions but refuses to disclose that its mitigation plan is unlikely to be successful. What is the most appropriate action for the auditor to take regarding the going concern assessment?

  1. Issue an unmodified opinion with an emphasis-of-matter paragraph and omit consideration of disclosure adequacy because going concern is not a disclosure matter.
  2. Treat the omission as a financial statement disclosure deficiency, request management to correct the disclosures, and if not corrected, consider a modified opinion due to a departure from the applicable financial reporting framework. (correct answer)
  3. Withdraw from the engagement immediately because any going concern uncertainty requires withdrawal rather than reporting.
  4. Complete the audit as planned and communicate the issue only in a management letter after report issuance, because disclosures are outside the scope of the auditor's report.
Explanation: Under AU-C 570 and ASC 205-40, when substantial doubt exists and is not alleviated by management's plans, financial statements must include complete disclosures about the conditions, management's evaluation, and the conclusion that substantial doubt remains. The critical issue is management's refusal to disclose that mitigation plans are unlikely to be successful, creating incomplete and potentially misleading disclosures. Answer B correctly treats this as a departure from the financial reporting framework requiring disclosure correction, and if uncorrected, consideration of opinion modification for inadequate disclosure. Answer A incorrectly suggests omitting disclosure adequacy consideration when going concern disclosures are explicitly required by GAAP. Answer C inappropriately requires withdrawal rather than appropriate reporting modifications. Answer D incorrectly defers communication until after report issuance and suggests disclosures are outside audit scope. The professional principle establishes that complete and transparent going concern disclosures are required by GAAP, and material omissions or misleading disclosures constitute departures from the financial reporting framework requiring potential opinion modification to alert users to the deficiency.

Question 3

You are performing an audit of a nonissuer apparel company. The company has a history of losses, negative operating cash flows, and an upcoming 6.06.0 million debt maturity in 11 months; management's cash flow forecast shows a deficit unless it completes an equity raise. After year-end but before report issuance, management receives nonbinding investor indications of interest but no executed subscription agreements. What is the most appropriate action for the auditor to take regarding the going concern assessment?

  1. Conclude that substantial doubt is alleviated because management has initiated an equity raise process, and issue an unmodified report without evaluating the feasibility of the raise.
  2. Perform procedures to evaluate the likelihood and sufficiency of the equity raise (including the status of negotiations and evidence of committed funding), and if substantial doubt remains, include an emphasis-of-matter paragraph and evaluate the adequacy of the financial statement disclosures. (correct answer)
  3. Wait until the next year's audit to address going concern because the debt matures after the current year-end.
  4. Communicate the going concern issue only to management because those charged with governance are not involved in financing decisions.
Explanation: AU-C 570 requires auditors to evaluate the feasibility of management's plans to mitigate substantial doubt, obtaining sufficient appropriate audit evidence about the likelihood of plan implementation and effectiveness. The critical facts include history of losses, negative cash flows, $6.0 million debt due in 11 months, and management's equity raise plan supported only by nonbinding indications of interest. Answer B correctly requires performing procedures to evaluate the likelihood and sufficiency of the equity raise, including examining the status of negotiations and evidence of committed funding, then determining appropriate reporting if substantial doubt remains. Answer A fails to evaluate feasibility before concluding doubt is alleviated, violating the evidence requirement. Answer C inappropriately defers evaluation when the debt maturity falls within the required 12-month evaluation period. Answer D incorrectly limits communication to management when AU-C 260 requires communication of significant matters to those charged with governance. The professional framework emphasizes that nonbinding indications of interest provide limited assurance compared to executed agreements, requiring careful evaluation of the probability of successful completion and consideration of alternative plans.

Question 4

You are auditing an issuer software company. Management's footnote states that it has "adequate liquidity" but the company has negative operating cash flows, a material debt maturity within 12 months, and is negotiating a waiver for a covenant violation; the waiver is not obtained as of the report date. What type of disclosure is required if a going concern issue is identified?

  1. A note disclosure that transparently describes the conditions raising substantial doubt, the evaluation period, and management's plans, rather than conclusory statements about liquidity. (correct answer)
  2. No note disclosure is required if the auditor includes an emphasis-of-matter paragraph.
  3. Only a disclosure in the auditor's report is permitted; management is prohibited from discussing going concern uncertainties in the notes.
  4. A note disclosure only if the company has already filed for bankruptcy protection.
Explanation: The concept tested is ASC 205-40 for issuers under PCAOB AS 2415, requiring detailed going concern disclosures including conditions and plans, not vague statements. The footnote's 'adequate liquidity' claim contradicts negative flows, debt maturity, and pending waiver. Choice A is correct as it mandates transparent notes on doubt, period, and plans. Choice B is incorrect because auditor paragraphs do not replace entity disclosures, and choice C is wrong as management must disclose in notes. Choice D is incorrect since disclosures are needed pre-bankruptcy. A rule is to reject conclusory language for specific details. Judgment ensures disclosures match evidence of doubt.

Question 5

You are auditing a nonissuer retail chain. The company has experienced a market decline and store traffic is down 20%; it has negative operating cash flows and is behind on rent payments. Management's plan includes obtaining rent concessions and closing underperforming stores, and it provides executed lease amendment agreements for 60% of locations and a board-approved closure plan with quantified costs. Which management plan would most likely mitigate going concern doubts?

  1. Executed rent concession agreements and a board-approved store closure plan with quantified costs and timing incorporated into a supportable cash flow forecast. (correct answer)
  2. A verbal plan to request rent concessions from landlords, with no executed amendments or quantified impact on cash flows.
  3. A plan to increase revenue by "improving customer experience" without identifying actions, costs, or expected timing.
  4. A plan to stop paying rent temporarily to conserve cash, without landlord consent and without considering legal consequences.
Explanation: The standard being tested is AU-C 570 for nonissuers, requiring executed agreements and approved plans with quantified impacts to mitigate going concern doubts effectively. The mitigating plan involves executed rent concessions and a board-approved closure plan with costs in the forecast, providing feasibility. Choice A is correct as it offers concrete evidence and integration, per guidance. Choice B is incorrect without executions or quantification, and choice C is wrong lacking specifics. Choice D is incorrect as stopping payments risks legal issues. A framework is to prioritize plans with binding commitments. Judgment evaluates quantification and timing alignment with needs.

Question 6

In an audit of an issuer biotech company, the company has no product revenue, significant operating losses, and cash sufficient for only 6 months. Management's going concern footnote describes plans to raise capital and reduce spending, but it does not describe the conditions giving rise to substantial doubt or the timeframe of the cash shortfall. What type of disclosure is required if a going concern issue is identified?

  1. A disclosure that includes the principal conditions or events raising substantial doubt, management's evaluation of their significance, and management's plans to mitigate, with sufficient detail to be understandable. (correct answer)
  2. No disclosure is required because biotech companies commonly operate at a loss prior to commercialization.
  3. A note that removes all forward-looking information because forecasts are prohibited in financial statements.
  4. A disclosure only in management's discussion and analysis, with no financial statement note required.
Explanation: The concept tested is ASC 205-40 disclosure requirements for issuers under PCAOB AS 2415, mandating detailed notes when substantial doubt exists, including conditions and plans. Key issues are no revenue, losses, low cash, and a footnote omitting doubt conditions and cash shortfall details. Choice A is correct as it requires transparent disclosure of conditions, significance, and plans, per standards. Choice B is incorrect because industry norms do not exempt disclosures, and choice C is wrong as forward-looking info is needed for plans. Choice D is incorrect since notes are required, not just MD&A. A rule is to ensure disclosures enable users to understand doubt and mitigations without ambiguity. Professional judgment involves checking for sufficiency and detail in disclosures before report decisions.

Question 7

You are auditing a nonissuer distributor. The company has a severe liquidity crisis: $150,000 cash, negative operating cash flows, and $3 million of debt due in 5 months; management's forecast assumes a new $4 million credit facility will close in 60 days and provides only an email from a broker stating "lenders are interested." Based on the financial conditions, what should the auditor consider in evaluating going concern?

  1. Whether the financing assumption is supported by sufficient appropriate evidence (such as lender term sheets/commitments and status of due diligence) and the sensitivity of the forecast to delays or failure to close. (correct answer)
  2. Whether to reduce audit procedures because a broker's email is an external confirmation and therefore the highest quality evidence.
  3. Whether to delay the going concern evaluation until the next year's audit because the debt is not due at the financial statement date.
  4. Whether to report the matter only to the company's legal counsel to obtain a legal opinion on financing likelihood.
Explanation: The standard being tested is AU-C 570 for nonissuers, emphasizing evidence sufficiency for financing assumptions and forecast sensitivity in going concern evaluations. Key considerations are low cash, negative flows, debt due, and weak evidence like a broker's email for a new facility. Choice A is correct as it requires assessing evidence and sensitivity, per standards. Choice B is incorrect as emails are not high-quality confirmations, and choice C is wrong because evaluations are current-year. Choice D is incorrect since auditors evaluate, not defer to legal opinions. A framework is to test financing evidence for commitment levels. Judgment includes scenario analysis for delays.

Question 8

You are auditing a nonissuer food distributor. A key supplier experienced an operational disruption and stopped shipments for two months, causing production delays and a 30%30\% decline in quarterly sales; management expects supply to resume but has only a nonbinding email from the supplier. The company has a 2.52.5 million term loan due in 10 months, negative operating cash flows of 0.90.9 million year-to-date, and a forecast showing it will breach minimum liquidity covenants in 6 months. What is the most appropriate action for the auditor to take regarding the going concern assessment?

  1. Evaluate the severity and likelihood of the supplier disruption continuing, obtain evidence supporting management's forecasts and mitigation plans, and assess whether substantial doubt exists for the 12-month period after financial statement issuance, including the adequacy of related disclosures. (correct answer)
  2. Request that management issue pro forma financial statements reflecting the supplier disruption and, if management declines, automatically qualify the opinion due to a scope limitation.
  3. Apply issuer (PCAOB) going concern requirements because supply chain disruptions are considered a public-company risk, regardless of entity type.
  4. Limit the going concern evaluation to the period through the balance sheet date because events after year-end are addressed only in subsequent events testing.
Explanation: AU-C 570 requires auditors to evaluate conditions and events through the 12-month period after financial statement issuance, considering both the severity of adverse conditions and the feasibility of management's mitigation plans. The key facts include operational disruption from a key supplier, 30% sales decline, upcoming debt maturity ($2.5 million in 10 months), negative cash flows, and projected covenant breaches with only nonbinding evidence of supply resumption. Answer A correctly requires evaluating the severity and likelihood of continued disruption, obtaining evidence supporting forecasts and mitigation plans, and assessing substantial doubt for the full evaluation period including disclosure adequacy. Answer B incorrectly suggests pro forma statements are required and that declining such a request creates a scope limitation. Answer C incorrectly applies PCAOB standards to a nonissuer based on risk type rather than entity type. Answer D limits evaluation to the balance sheet date, violating the requirement to evaluate through 12 months after issuance. The professional judgment framework emphasizes obtaining corroborative evidence for critical assumptions (supplier resumption), evaluating the sufficiency of mitigation plans against identified risks, and ensuring the evaluation covers the complete required period.

Question 9

You are the auditor of a nonissuer technology services company in a financial statement audit. A new regulation requires costly data-privacy controls, and management estimates compliance will increase annual operating costs by 1.51.5 million (approximately 12%12\% of revenue), turning projected profits into losses; the company has 0.60.6 million cash on hand and historically relies on operating cash flows to fund growth. Management's plan is to pass costs to customers, but no contract amendments have been executed and customers have pushed back in negotiations. Based on the financial conditions, what should the auditor consider in evaluating going concern?

  1. Whether management's cost-pass-through assumptions are supported by persuasive evidence (such as executed contract amendments) and whether the resulting cash flow projections indicate substantial doubt within 12 months after financial statement issuance. (correct answer)
  2. Whether the company's internal audit function has tested the new controls, because internal audit testing substitutes for the auditor's going concern evaluation.
  3. Whether the auditor should immediately withdraw from the engagement because regulatory changes automatically require a disclaimer of opinion.
  4. Whether the auditor can avoid going concern procedures by increasing sample sizes for accounts payable and payroll to reduce detection risk.
Explanation: Under AU-C 570, auditors must evaluate management's plans to mitigate adverse conditions and obtain sufficient appropriate audit evidence regarding the feasibility of those plans within the 12-month evaluation period after financial statement issuance. The critical facts are the 1.5millioncostincreasethatwillcreatelosses,limitedcashreserves(1.5 million cost increase that will create losses, limited cash reserves (0.6 million), reliance on operating cash flows, and management's unexecuted plan to pass costs to customers who are resisting. Answer A correctly focuses on obtaining persuasive evidence (such as executed contract amendments) supporting management's cost-pass-through assumptions and evaluating the resulting cash flow impact. Answer B incorrectly suggests internal audit work can substitute for the auditor's going concern evaluation, which violates auditor independence and responsibility requirements. Answer C inappropriately suggests automatic withdrawal and disclaimer, when the proper response is evaluation and potential reporting modifications. Answer D incorrectly attempts to address going concern through substantive testing of unrelated accounts rather than evaluating management's plans. The professional framework requires auditors to (1) identify the financial impact of known events, (2) critically evaluate management's mitigation plans with supporting evidence, and (3) project whether the entity can meet obligations as they come due.

Question 10

You are performing an audit of a nonissuer retailer. Demand for its primary product line has dropped sharply, resulting in a 25%25\% revenue decline year over year, gross margin compression from 32%32\% to 18%18\%, and negative operating cash flows of 2.22.2 million for the year. Management's $12-month cash flow projections assume a rapid rebound in sales without support from signed customer contracts, and the company has only 0.40.4 million of unused availability on its line of credit. Which factor most likely indicates a going concern issue?

  1. A significant decline in demand that results in recurring losses and negative operating cash flows combined with limited borrowing capacity. (correct answer)
  2. The presence of audited financial statements for the prior year that received an unmodified opinion.
  3. Management's intent to continue operating the business and to maintain staffing levels.
  4. The company's use of estimates in its cash flow forecast, because forecasts are inherently subjective and therefore cannot be used in a going concern evaluation.
Explanation: AU-C 570 requires auditors to evaluate conditions and events that may indicate substantial doubt about an entity's ability to continue as a going concern, focusing on financial indicators such as recurring losses, negative cash flows, and limited financing availability. The key facts include a 25% revenue decline, severe margin compression (32% to 18%), negative operating cash flows of 2.2million,andminimalborrowingcapacity(2.2 million, and minimal borrowing capacity (0.4 million) against unsupported recovery assumptions. Answer A correctly identifies the combination of declining demand, recurring losses, negative cash flows, and limited borrowing capacity as primary going concern indicators under professional standards. Answer B is incorrect because prior year audit opinions do not mitigate current year going concern issues. Answer C is incorrect because management's intent alone, without feasible plans supported by evidence, does not alleviate substantial doubt. Answer D misunderstands the role of forecasts - while subjective, cash flow projections are essential tools in going concern evaluation when properly supported. The transferable principle is that auditors must focus on objective financial indicators and the feasibility of management's plans, not intentions or past audit results, when evaluating going concern.

Question 11

You are auditing a nonissuer hospitality company. The company has recurring losses, negative operating cash flows, and a $6 million loan due in 7 months; the lender has provided a written indication it will consider refinancing but has not issued a commitment letter. Management's forecast assumes refinancing occurs and also assumes a 20% increase in occupancy without signed group bookings. Based on the financial conditions, what should the auditor consider in evaluating going concern?

  1. Whether management's assumptions are supported by persuasive evidence (such as a refinancing commitment and corroborating occupancy data) and whether substantial doubt remains after considering management's plans. (correct answer)
  2. Whether the auditor can omit evaluating management's forecast because the lender expressed willingness to consider refinancing.
  3. Whether to issue an adverse opinion solely because the company has a loan due within 12 months.
  4. Whether to communicate the issue only to the company's bank because it is the primary user affected by refinancing risk.
Explanation: The concept tested is the auditor's consideration of going concern under AU-C 570 for nonissuers, focusing on evaluating management's assumptions and plans with sufficient evidence. Key facts include recurring losses, negative cash flows, a near-term loan maturity with only a noncommittal lender indication, and an unsupported occupancy increase assumption. Choice A is correct as it requires assessing assumption supportability and determining if doubt remains, per AU-C 570's evidence-based approach. Choice B is incorrect because auditors cannot omit forecast evaluations even with lender willingness, and choice C is wrong as adverse opinions are not automatic for debt maturities. Choice D is incorrect since communication should include those charged with governance, not just the bank. A decision rule is to test key forecast inputs for reasonableness using corroborative data like commitments or historical trends. Professional judgment involves sensitivity analysis to assess how changes in assumptions impact going concern conclusions.

Question 12

During an audit of an issuer energy services company, management's cash flow projections show compliance with debt covenants only if it wins a major contract that is still in competitive bidding. The company has negative operating cash flows, low liquidity, and significant debt maturities within 12 months. What is the most appropriate action for the auditor to take regarding the going concern assessment?

  1. Obtain sufficient appropriate audit evidence supporting the key assumptions (including the likelihood of winning the contract) and evaluate whether substantial doubt exists and whether disclosures are adequate. (correct answer)
  2. Assume the contract will be awarded because management has industry expertise and therefore reduce substantive testing.
  3. Wait until after issuing the audit report to assess whether the contract was awarded and then decide whether to revise the report.
  4. Issue a disclaimer of opinion because uncertain future events are outside the scope of an audit.
Explanation: The concept tested is PCAOB AS 2415 for issuers, requiring auditors to obtain evidence on uncertain events in management's plans, like contract awards, to assess going concern. Key facts are negative cash flows, low liquidity, debt maturities, and projections dependent on an unawarded contract. Choice A aligns by mandating evidence on likelihood and evaluation of doubt and disclosures. Choice B is incorrect as assumptions reduce testing, violating skepticism, and choice C is wrong because assessments occur before report issuance. Choice D is incorrect since uncertainties are auditable, not disclaimers. A rule is to corroborate contingent plans with probability evidence. Judgment involves weighing uncertainty impacts on forecasts for doubt conclusions.

Question 13

During an audit of an issuer company, you conclude substantial doubt about going concern exists and is not alleviated by management's plans, and management has included adequate financial statement disclosures. What is the most appropriate action for the auditor to take regarding the auditor's report?

  1. Issue an unmodified opinion and include an emphasis-of-matter paragraph (or equivalent explanatory language) to highlight the going concern uncertainty. (correct answer)
  2. Issue an adverse opinion because substantial doubt always means the financial statements are not presented fairly.
  3. Disclaim an opinion because the future outcome is uncertain and cannot be audited.
  4. Issue a qualified opinion due to a scope limitation created by management's inability to guarantee future financing.
Explanation: The concept tested is PCAOB AS 2415 for issuers, specifying report modifications when substantial doubt exists but is disclosed adequately, without alleviation by plans. Key is the conclusion of unrelieved doubt with proper disclosures, requiring an unmodified opinion with emphasis-of-matter. Choice A aligns with guidance for highlighting uncertainty. Choice B is incorrect as adverse opinions are for GAAP departures, not uncertainties, and choice C is wrong because uncertainties do not warrant disclaimers. Choice D is incorrect since no scope limitation exists. A rule is to use emphasis paragraphs for disclosed doubts. Judgment determines if disclosures suffice before modifying reports.

Question 14

You are the auditor of a nonissuer wholesale company in an audit. The entity has recurring losses and negative operating cash flows, and it must repay $5 million of debt within 10 months; management plans to sell a warehouse that is currently pledged as collateral and estimates proceeds of $6 million. There is no listing agreement with a broker, and the warehouse appraisal is 18 months old; furthermore, the lender must consent to release the collateral. Which management plan would most likely mitigate going concern doubts?

  1. A plan to sell the warehouse supported by a current appraisal, an executed listing agreement, and lender consent (or evidence the lender will release the collateral) on terms consistent with the forecast. (correct answer)
  2. A plan to sell the warehouse based solely on management's estimate of fair value without third-party support or lender involvement.
  3. A plan to delay paying the debt beyond maturity without communicating with the lender.
  4. A plan to reduce audit procedures to lower professional fees and improve liquidity.
Explanation: The standard being tested is AU-C 570 for nonissuers, emphasizing evaluation of management's plans to alleviate substantial doubt, requiring evidence of feasibility like appraisals and agreements. The effective plan involves a warehouse sale with current appraisal, listing agreement, and lender consent, aligning with guidance on probable implementation. Choice A is correct as it provides corroborative evidence consistent with the forecast, enhancing plan credibility. Choice B is incorrect without third-party support or lender involvement, lacking feasibility evidence, and choice C is wrong as delaying payments without consent is not a viable plan. Choice D is incorrect because reducing audit fees is irrelevant to going concern mitigation. A framework is to require plans involving asset disposals to have market-based evidence and necessary approvals. Judgment should assess if proceeds and timing sufficiently address liquidity needs.

Question 15

An auditor is reviewing the financial health of a manufacturing client. Which of the following findings would most likely indicate the existence of substantial doubt about the entity's ability to continue as a going concern?

  1. The client has defaulted on a major loan agreement, and the lender has accelerated the repayment schedule. (correct answer)
  2. A planned major plant expansion is being financed entirely through a new issuance of common stock.
  3. The gross profit margin decreased by 2% during the year due to increased raw material costs.
  4. The company's long-time chief financial officer announced their retirement, effective in six months.
Explanation: Correct. Defaulting on a loan and having the debt repayment accelerated is a significant financial difficulty and a strong indicator of substantial doubt about the entity's ability to meet its obligations as they come due. B is incorrect because financing expansion through equity rather than debt can be a sign of financial strength. C is incorrect because a minor decrease in profit margin is a negative trend but, by itself, does not typically rise to the level of substantial doubt. D is incorrect because while the loss of key management is a potential issue, it is less direct and less severe than a major loan default.

Question 16

An auditor notes that a client has recurring operating losses and negative cash flows from operations. Management asserts that a new, patented product line, to be launched next quarter, will generate sufficient profits to reverse these trends.

Which of the following audit procedures would provide the most persuasive evidence regarding the viability of management's plan?

  1. Obtaining a written representation from management about the new product's expected success.
  2. Reviewing and analyzing the client's detailed cash flow forecast, including the underlying assumptions for the new product launch. (correct answer)
  3. Confirming with a sample of the client's existing customers their intent to purchase the new product.
  4. Reading the minutes of board of directors' meetings where the new product strategy was approved.
Explanation: Correct. A detailed cash flow forecast provides a quantitative assessment of management's plans. The auditor's analysis of this forecast, including critically evaluating the reasonableness of the underlying assumptions (e.g., market size, pricing, production costs), is the most direct and persuasive procedure to evaluate if the plan is likely to be effective. A is incorrect because management representations have low persuasiveness and must be corroborated with other evidence. C is incorrect because customer intent is speculative and may not be reliable or representative. D is incorrect because board minutes confirm that the plan was discussed and approved, but provide no evidence about its financial feasibility or likelihood of success.

Question 17

An auditor has identified substantial doubt about an entity's ability to continue as a going concern. Management presents several plans to mitigate this risk. Which of the following plans would an auditor most likely consider an effective mitigating factor?

  1. A plan to reduce discretionary research and development expenses by 15%.
  2. A forecast showing increased sales based on anticipated general economic improvements.
  3. A legally binding agreement from a financially capable third party to provide additional financing to the entity. (correct answer)
  4. A plan to apply for a government grant for which the entity may not meet all eligibility requirements.
Explanation: Correct. A legally binding agreement from a credible third party to provide necessary financing is a strong mitigating factor because it is a committed source of funds that is not solely dependent on the entity's own future performance. It directly addresses the entity's ability to meet its obligations. A is incorrect because reducing discretionary spending may provide some relief but might be insufficient to resolve substantial doubt and could harm future prospects. B is incorrect because plans that rely on general external factors not within the entity's control are less persuasive. D is incorrect because the outcome of a grant application is uncertain, especially if eligibility is in question. The plan must be likely to be successfully implemented.

Question 18

An auditor identified conditions creating substantial doubt about a nonissuer's ability to continue as a going concern. However, after evaluating management's plans, which included obtaining a significant new long-term loan, the auditor concludes that the substantial doubt has been alleviated. The entity has included adequate disclosures about the original conditions and management's plans.

What is the most likely effect on the auditor's report?

  1. The auditor must include an emphasis-of-matter paragraph referencing the going concern disclosures.
  2. The auditor will issue an unmodified opinion and may, but is not required to, include an emphasis-of-matter paragraph. (correct answer)
  3. The auditor should issue a qualified opinion because of the initial existence of substantial doubt.
  4. The auditor's report will be unaffected in any way because the substantial doubt was resolved before year-end.
Explanation: Correct. Under AICPA standards, if substantial doubt was identified but subsequently alleviated by management's plans, and disclosures are adequate, the auditor issues an unmodified opinion. The auditor has the option (it is not required) to include an emphasis-of-matter paragraph directing users' attention to the disclosures. This is a matter of professional judgment. A is incorrect because the emphasis-of-matter paragraph is optional in this situation, not mandatory. C is incorrect because a qualified opinion is not appropriate when the doubt has been alleviated and disclosures are adequate. D is incorrect because the financial statements must still contain adequate disclosures about the matter, which the auditor considers in forming the opinion.

Question 19

An auditor of an issuer concludes that substantial doubt exists about the entity's ability to continue as a going concern for a reasonable period of time. The doubt has not been alleviated by management's plans, and the financial statements contain appropriate disclosures. Which of the following is required in the auditor's report under PCAOB standards?

  1. A qualified opinion due to the going concern uncertainty.
  2. An emphasis-of-matter paragraph immediately following the Basis for Opinion section.
  3. An explanatory paragraph that includes the phrase "substantial doubt about the company's ability to continue as a going concern." (correct answer)
  4. A description of the matter in the Critical Audit Matters (CAM) section of the report.
Explanation: Correct. PCAOB Auditing Standard AS 2415 requires the auditor's report to include an explanatory paragraph when there is substantial doubt about the entity's ability to continue as a going concern. This paragraph must include the specific phrase mentioned. A is incorrect because an unmodified opinion is typically issued when disclosures are adequate. B is incorrect because "Emphasis-of-matter paragraph" is AICPA (nonissuer) terminology. PCAOB standards use the term "explanatory paragraph" for this purpose. D is incorrect because while the issue may also be a CAM, the requirement for a separate explanatory paragraph is distinct and mandatory.

Question 20

An auditor is auditing a company where liquidation is imminent. The financial statements, however, have been prepared on a going concern basis, which the auditor has concluded is inappropriate. What type of audit opinion should the auditor issue?

  1. An unmodified opinion with an emphasis-of-matter paragraph.
  2. An adverse opinion. (correct answer)
  3. A qualified opinion.
  4. A disclaimer of opinion.
Explanation: Correct. When the going concern basis of accounting is inappropriate (i.e., liquidation is imminent and the liquidation basis should have been used), the financial statements as a whole are materially misstated. This is a pervasive departure from GAAP, requiring an adverse opinion. A is incorrect because an emphasis-of-matter paragraph is used when the going concern basis is appropriate but substantial doubt exists. C is incorrect because a qualified opinion is for a material misstatement that is not pervasive. The inappropriate use of the going concern basis is considered pervasive. D is incorrect because a disclaimer of opinion is issued for a scope limitation, not a known GAAP departure.