You are engaged in the audit of the financial statements of Armada Corporation for the year ended August 31, 20X0. The balance sheet, reflecting all your audit adjustments accepted by the client to date, shows total current assets, $8,000,000; total current liabilities, $7,500,000; and stockholders’ equity, $1,000,000. Included in current liabilities are two unsecured notes payable—one payable to United National Bank in the amount of $900,000 due October 31, 20X0; the other payable to First State Bank in the amount of $800,000 due September 30, 20X0. On September 30, the last scheduled date for your audit fieldwork, you learn that Armada Corporation is unable to pay the $832,000 maturity value of the First State Bank note, that Armada executives are negotiating with First State Bank for an extension of the due date of the note, and that nothing definite has been decided as to the extension.
a. Should this situation be disclosed in the notes to Armada Corporation’s August 31 financial statements?
b. After the question of financial statement disclosure has been resolved to the auditors’ satisfaction, might this situation have any effect upon the audit report?