Donna, a public accountant, is approached by the owner of one of her clients, for whom she normally compiles monthly and annual financial statements, to perform an audit of the company’s inventories. The client, Fantastic Fashions Ltd., is a chain of retail clothing stores that operates in several local shopping malls.

The owner explains that he is seeking new bank financing that will be secured by the inventories as collateral for the loan and that the bank has requested an audit of the recorded inventories as a condition of granting the loan. The bank insists that it will lend no more than 75 percent of the number of inventories as shown on an audited schedule of inventories that the owner has been asked to submit.

Because the owner is in urgent need of cash, he offers to pay Donna an audit fee equal to 10 percent of the loan amount, and Donna agrees to these terms. She then performs an audit of the inventories in accordance with generally accepted auditing standards, and issues a standard unqualified audit opinion, except that the opinion paragraph reads as follows: “In my opinion, this schedule presents fairly, in all material respects, the inventories of Fantastic Fashions Ltd. as at March 31, 2016, in accordance with generally accepted accounting standards for private enterprises.”

Discuss the following point:

ISSUE

AUDIT EVIDENCE

CONCLUSION