Reference no: EM132527234
Question - In September 2008, XL Leisure Group, Britain's third-largest tour operator, filed for bankruptcy. A few months prior to filing for bankruptcy, the company had issued its audited financial statements. Neither the financial statements nor the auditor's opinion contained any explicit warning that the company was in financial difficulty.
In contrast, in 2007 the auditors of MovieLink expressed substantial doubt that MovieLink, which offers movies that can be downloaded from the Internet, would be able to continue as a going concern. The basis for the auditors' concern included MovieLink's recurring losses from operations, negative cash flows from operating activities, and an accumulated deficit that had risen to $145 million.
A company's financial statements are prepared and audited under the assumption that the company is a going concern, meaning that that company will continue to operate for a reasonable period of time, for example, one year. However, during times of financial crisis, it is expected that many companies will find themselves facing financial difficulties, even to the point of filing for bankruptcy. Financial difficulties can arise when companies fund their operations through debt, ranging from overdrafts to credit lines to large loans. If companies need these sources of funds to continue to operate, yet banks are unwilling to commit to providing these loans, many companies face the prospect of not being able to continue their operations. During times of financial crisis, banks may not be willing to continue providing the lending they have in the past or to commit to new lending. In these situations, auditors may have substantial doubt about a company's ability to continue as a going concern.
Required -
a. How does the auditor's substantial doubt about a client's ability to remain a going concern affect the format of the audit opinion?
b. What are the implications to the company and to the audit firm when the audit firm's report expresses substantial doubt about a company's ability to remain a going concern?
c. Why might the auditors of XL Leisure Group and MovieLink have arrived at two different decisions?
d. How might professional skepticism impact the auditor's decision to issue a going-concern opinion?