Chapter Seven

Audit Reporting
 D E F IN IT I O N OF REPORT
• A report is a statement of collected and
considered facts, so drawn up as to give clear
and concise information to persons who are not
in possession of the full facts of the subject
matter of the report.
• An auditor's report is a written statement of
the auditor, containing his independent
professional opinion about the truth and
correctness of accounts and financial
statements examined by him and other specific
information, which the auditor submits to his
client at the conclusion of audit.
 ESSE N T IALS OF G O O D A U D IT REPO RT
• Simplicity
• Clarity
• Brevity
• Firmness
• Objectivity
• Consistency
• Accepted Principles
• Disclosure Principles
 S C O P E OF A U D I T REPO RT
• It is the duty of the auditor to report to the members
of the company
▫ on the accounts examined by him
▫ on the Balance Sheet and Profit and Loss Account
▫ every other documents declared by the Act to be part of
or annexed to the Balance Sheet and the Profit and Loss
Account.
• The auditor should report whether in his opinion and to the
best of his information and according to the explanations
given to him, the said accounts give the information
required by the Companies Act in the manner so required
and the Balance Sheet gives a true and fair view of the
company's affairs at the end of the financial year and the
Profit and Loss Account gives a true and fair view of the
profit and loss for the financial year.
 S C O P E OF A U D I T REPO RT
• The auditor should report on the following matters:
▫ Whether he has obtained all the information and
explanations which to the best of his knowledge and
belief were necessary for his audit.
▫ Whether in his opinion, proper books of account as
required by law have been kept by the company, so far as
appears from his examination of those books and proper
returns adequate for the purpose of his audit have been
received from branches not visited by him.
▫ Whether in his opinion, the balance sheet and the profit
and loss account comply with the accounting standards.
 S C O P E OF A U D I T REPO RT
▫ Whether the company's balance sheet and profit and loss
account dealt with by the report are in agreement with
the books of account and returns.
▫ Whether the report on the accounts of any branch office
audited by a person other than the company's auditor
has been forwarded to him as required by the law and
how he has dealt with the same in preparing the
auditor's report.
• The duty of any auditor for making a report on the
statement of account also extends to matters reported
upon by the directors to the shareholders in so far as
information which is required to be given by the Act
in the statements of account or can be given in a
statement annexed to the accounts are contained in
the report of directors.
 C O N T E N T S OF A U D I T REPO RT
• Whether in his opinion and to the best of his
information and according to the explanations given
to him:
▫ The accounts give the information required by
the Companies Act in the manner so
required.
▫ The accounts give a true and fair view of the state of
company's affairs as at the end of its financial year in
the case of the Balance Sheet.
▫ The accounts also give a true and fair view of the
profit or loss of the company for its financial year in
the case of the Profit and Loss account.
• Obtaining all the information and explanations, which
were necessary for the purpose of his report.
• Proper books of accounts as required by law have
 C O N T E N T S OF A U D I T REPO RT
• Proper returns adequate for the purpose of audit have
been received from branches not visited by him.
• The report on the accounts of any branch office audited
by a person other than the main auditor of the company
has been forwarded to him.
• How he has dealt with the Branch Auditor's
Report in preparing his audit report.
• Whether the Profit and Loss Account and Balance Sheet of
the company are in agreement with the books of accounts
and returns.
• Whether the Balance Sheet and the Profit and Loss
Account comply with the accounting standards.
• Where any of the matters in the auditor's report is answered
in the negative or with a qualification, the reasons for such
should also be stated.
• A statement on such matters as may be specified in the
Central Government orders.
 FORMS OF A U D I T
REPO RT
• International Auditing Guidelines issued by the IFAC
provide guidance on the form and content of the
auditor's report to be issued after the examinations
of financial statements.
Title
• An appropriate title such as ‘Auditor's Report’ helps
the reader to identify the report and to distinguish it
from reports issued by others.
Address
• The report should be properly addressed.
• Like in the case of a statutory audit of a company,
the report is addressed to the shareholders and in
case of special audit; it is addressed to the
Government.
 FORMS OF A U D I T
REPO RT
Identification of Financial Statements
• The financial statements can be identified by including
the name of the organization and the date and period
covered by the financial statements.
Reference to Auditing Standards and Practices
• Such a reference ensures compliance and assured the
readers that the accounting and auditing standards
have been complied with.
Opinion on the Financial Statements
• The report should clearly state the auditor's opinion
on the financial position and operational result of the
organization.
 FORMS OF A U D I T
REPO RT
Signature
• The report should be signed in the name of the
firm or personal name of the auditor or both.
A ddress of the A uditor
• The report should give the address of the firm.
Date of the Report
• It should be properly dated.
 Parts of the standard unqualified audit
report
1.Report title
2.Audit report address
3.Introductory
paragraph
4.Scope paragraph
5.Opinion paragraph
6.Name of C PA firm
7.Audit report date
8.Place of signature
9.Auditor's signature
 1. Report
title
• The report should be titled.
• Include the word independent.
• Examples : independent auditor’s report.

• What is the need for such title ??

to convey to users that the audit was
unbiased.
 2. Audit report address
• The report is usually addressed to the
company, its stockholders or the
board of directors.
• It has become customary to address
the report to the Board O F
Directors.
 3. Introductory
• paragraph
The first paragraph does three things :
1. Makes simple statement that the C PA
firm has done the Audit.
2. Lists the financial statements that where
audited.(including balance sheet dates and
accounting periods for income statement and
cash flow statement).
3. States that the statements are the
responsibility of management and Auditor’s
responsibility is to express an opinion on the
statements.
 4. Scope
paragraph
• What the auditor did in the audit.
• States the chosen criteria.
• Auditing standards used.
• States that the Audit is designed to obtain
Reasonable Assurance that the statements
are free of material misstatements.
• Test Basis.
 5. Opinion
paragraph
• Auditor’s conclusions based on the results of
the Audit.
• Stated as an opinion rather than as a statement
of absolute fact or guarantee.
• Bases on professional judgment.
• Opinion on the financial statements taken
as a whole.
 6. N ame of C PA
firm
• Identifies the C PA firm who performed the
Audit.
 7. Audit report date
• The appropriate date is the one on which
the auditor completed the auditing
procedures in the filed.
 8. Place of
signature
• The report should name specific
location, which is ordinarily the city
where the audit report is signed.
 9. Auditor's
signature
• The report should be signed by the auditor in his
personal name along with the membership
number assigned by the Institute.
• Where the firm is appointed as the auditor, the
report should be signed also in the personal
name of the auditor and in the name of the
audit firm.
 TY PES OF A U D I TOR'S REPO RT
• Standard Unqualified Report
• Unqualified with explanatory paragraph or
modified wording.
• Qualified Report
• Adverse Report
• Disclaimer of Opinion Report
 Conditions required to issue the
standard unqualified audit report
1. All financial statements are included.
2. General standards have been followed in all respects
on the engagement.
3. Sufficient evidence has been accumulated to conclude
that standards of field work have been met.
4. The financial statements are presented in accordance
with generally accepted accounting principles.
5. There are no circumstances requiring the addition of an
explanatory paragraph or modification of the wording
of the report
 • The five
Standard conditions.
unqualified

Unqualified with • Complete audit took place with satisfactory results and
financial statements are fairly presented.
Explanatory • The auditor believes it is important or required to
paragraph or provide additional information.
Modified wording
• The overall financial statements are fairly presented but
Qualifie :
• The scope of the audit has been materially restricted .
d • Or GAAP were not followed

• The financial statements are not

fairly presented(adverse).
Adverse or • The auditor is unable to form an opinion to whether
Disclaimer the financial statements are fairly presented or not
(Disclaimer)
 Standard unqualified report
• This type of report can be issued only if:
▫ there are no material violations of Accounting Principles;
▫ disclosures are adequate;
▫ the auditor was able to perform all necessary
procedures;
▫ there has been no change in accounting principles
that had a material effect on the financial statements;
▫ the auditor has performed his/her audit functions
in a completely independent manner; and
▫ the auditor does not have significant doubt about the
client remaining a ‘going concern’.
 Departures from standard audit
• Departures from the standard report occur when the auditor
report
concludes that either an explanatory paragraph should be added
to the report while still expressing an unqualified opinion, or a
different type of opinion should be expressed on the financial
statements.
• Modifications of the standard audit report:
▫ Circumstances may require a modification of the wording of
the standard report but not a modification of the auditor’s
opinion.
▫ Circumstances may require a modification of both the wording
of the standard report and the auditor’s opinion on the
financial statements.
▫ In such circumstances, the auditor’s opinion can take the
following forms:
🞄qualified opinion;
🞄adverse opinion; or
 Unqualified with Explanatory paragraph
or Modified wording
• Describe the five circumstances when an unqualified
report with an explanatory paragraph or modified
wording is appropriate.
1.Lack of consistent application of generally
accepted accounting principles
2.Substantial doubt about going concern
3.Auditor agrees with a departure from
promulgated accounting principles
4.Emphasis of a matter
5.Reports involving other auditors
 Unqualified with Explanatory
paragraph or Modified
wording
• The first four reports all require an
explanatory paragraph, following the opinion
paragraph.
• Only reports involving other auditors use a
modified wording report. (this report contains
three paragraphs and all three paragraphs are
modified).
1. Lack of consistent application of generally
accepted accounting principles

• Accounting principles change is observed in

the current period compared the previous
period.
• When a material change occurs the
auditor modifies the report by adding
explanatory paragraph.
• The materiality of a change is evaluated based
on the current year effect of the change.
• Those changes could affect Consistency
&/or Comparability.
Changes that affect consistency and require
an explanatory paragraph
Change in accounting
principles (FIFO to LIFO
)

Changes in reporting
Consistency entities (inclusion of an
additional company in
combined financial
statements)

Corrections of
errors involving
principles.
 Changes that affect consistency and require
an disclosure in footnotes.

Changes in an estimate.

Error correction not involving

principles (mathematical error
in previous year)
Comparabilit Variations in format
y and presentation of
financial statements.

Changes because of
substantially different
transactions or events (sale of
a subsidiary)
 2. Substantial Doubt About Going Concern

1.Significant recurring operating losses or

working capital deficiencies.
2.Inability of the company to pay its obligations
as they come due.
3.Loss of major customers, the occurrence
of uninsured catastrophes.
4.Legal proceedings, legislation that might
jeopardize the entity’s ability to operate.
Explanatory Paragraph Because of Substantial Doubt about
Going Concern
3. AuditorAgrees with a Departure from a
Promulgated Principle
• The auditor must be satisfied and must state and
explain, in a separate paragraph or paragraphs in
the audit report, that adhering to the principle
would have produced a misleading result in
that situation.
 4. Emphasis of a
Mattercertain circumstances, the C PA may want to
• Under
emphasize specific matters regarding the financial
statements, even though the CPA intends to express
an unqualified opinion.
A. The existence of significant related party
transactions.
B. Important events occurring subsequent to the
balance sheet date.
C. A description of accounting matters affecting the
comparability of the financial statements with those
of previous years.
D. Material uncertainties disclosed in the footnotes.
 5. Reports Involving Other Auditors
1. Make no reference in the audit report
A. The auditor audited an immaterial portion of
the statements.
B. The other auditor is well known or
closely supervised by the principal
auditor.
C. The principal auditor has thoroughly reviewed
the other auditor’s work.
 5. Reports Involving Other
Auditors
2. Make reference in the report (modified wording
report). Also called shared opinion.
A. When it is impractical to review the work of the
other auditor.
B. The portion of financial statements audited by the
other CPA is material.
• Introductory paragraph discusses the shared
responsibility. And the other auditor is referred to the
scope and opinion paragraphs.
Unqualified Shared
Report
 5. Reports Involving Other
Auditors
3. Qualify the opinion
Qualified or disclaimer (depending on materiality ) if
the auditor is not willing to assume any responsibility
for the work of the other auditor.
 Causes of Modified Example Type
Wor
ording
Explanatory of
Repor
Paragraph t
Consistenc Change from Unqualified with
y LIFO to FIFO explanatory paragraph
Exception inventory
Substantial Significant Unqualified
Doubt About recurring losses with
Going explanatory
C oncern paragraph
Auditor Agrees with a Federal legislation requires Unqualified with
Departure from the use of a new method of explanatory paragraph
GAAP accounting for the
automotive industry
Emphasis of a A merger with a large Unqualified with
Matter company occurred after explanatory paragraph
the balance sheet date

Reports Involving A chartered accounting firm Unqualified with modified

Other Auditors audited a subsidiary wording
operating in Canada
 Departures from An Unqualified
Opinion
1. Scope limitation:
The auditor has not accumulated sufficient
appropriate evidence.
Restrictions could be caused by the client or
caused by circumstances.
2.GAAP departure
Using replacement cost for assets rather than
historical cost.
3.Auditor is not independent
 (GAAP (Limitation of
Materiality Departure) Scope) Auditor
Level Auditor Has Lacks Knowledge
Knowledge

Immateria Unqualified Unqualified

l

Materia Qualified Qualified

l (Opinion (Scope and
only) opinion)

Highly Advers Disclaime

Material e r
 Qualified Report
• This states that except for the effects of
the matter(s) to which the qualification
relates, the financial statements present
fairly (the financial position of the
company) . . . in conformity with GAAP.
• A qualified opinion is expressed because of:
▫ a material unjustified departure from GAAP;
▫ inadequate disclosure;
▫ a scope limitation.
 Qualified Report
• A qualified opinion report can result from
a limitation on the scope of the audit or
failure to follow generally accepted
accounting principles.
• Can be used only when the auditor concludes
that the overall financial statements are fairly
stated.
• The term “except for “ must be used in the
opinion paragraph.
• Types :
▫ Qualification of both the scope and opinion
OR the opinion alone.
 Qualified Report
1.Q ualification of both the scope and opinion:

• The auditor has been unable to accumulate all of

the evidence required GAAS.

• Used when the scope has been restricted .

2.Qualification of the opinion alone.

• Financial statements are not stated in accordance
with GAAP.
 Adverse Report

• An adverse report states that the financial

statements as a whole do not present fairly
in conformity with generally accepted
accounting principles.
• The auditor expresses an adverse opinion when
he or she believes that the financial statements,
taken as a whole, are misleading, because of:
▫ a pervasive and material unjustified departure
from GAAP;
▫ lack of important disclosures.
 Adverse Report
• It is used only when the auditor believes that
the overall financial statements are so
materially misstated or misleading that they
do not present fairly the financial position or
results of operations and cash flows in
conformity with GAAP.
• Rarely used .
 Disclaimer of opinion Report
• This states that the auditor does not express an
opinion on the financial statements because
the auditor either lacked independence or was
unable to obtain sufficient evidence to form an
opinion on the overall fairness of the financial
statements.
• This may occur because of:
▫ a scope limitation;
▫ the audit firm not being engaged to perform an
audit.
 Disclaimer of Opinion Report
• It is issued when the auditor is unable to be
satisfied that the overall financial
statements are fairly presented.
• Caused by :
1. severe limitations on the scope of the
audit.
2. Nonindependent relationship.
 Materiality
• A misstatement in the financial statements
can be considered material if knowledge of
the misstatement would affect a decision of a
reasonable user of the statements.
 Materiality
1. Amounts are immaterial.
• Is unlikely to affect the decision of a
reasonable user.
• Unqualified.
2. Amounts are material but do not overshadow
the financial statements as a whole.
• The misstatement in the financial statement
would affect users decision, BUT the overall
statements are fairly stated.
• Qualified opinion ‘except for’.
 Materiality
3. Amounts are so material or so pervasive
that overall fairness of the statements is in
question.
• Users are likely to make incorrect decisions if
they rely on the overall financial statements.
• Adverse or disclaimer.
Materiality Significance in Type
Leve Terms of Opinion
of
l Reasonable
Users’ Decisions

Immateria Users’ decisions Unqualifie

are unlikely d
l to be affected.

Material Users’ decisions are Qualified

likely to be affected.

Highly Users’ decisions are Disclaime

likely to be significantly r or
materi affected. adverse
al
Materiality
Decisions
Failure
to
follow
GAAP
Report type

Unqualified Qualified Adverse

Opinion
only
 Materiality Decisions
1. Dollar amount compared with a base.
Common bases: net income/total assets/
current assets/working capital.
1. Measurability - Acquisition of a new company
after balance sheet date.
2. N ature of the item. Illegal or
fraudulent transactions.
 Scope
limitatio
n

Report type

Unqualifie
Qualified Disclaime
d scope
and
r
opinion
 Types
Conditions Exampl Opinion
of
e s
Scope Client • Unqualified
Restricted refuses to • Qualified (scope
: By allow C PA and opinion)
Client to examine • Disclaimer
----------- minutes
Scope --------
Restricted: By Engagement begins
Conditions after year-end

Failure to Client uses • Unqualifie

Follow replacement cost for d (opinio
GAAP inventory • Qualifie n
d only)
• Adverse

Auditor Lacks Independence Ownership of stock • Disclaimer

in client by
partner
 Auditor’s scope has Been Restricted
• The auditor may issue : Unqualified report,
Qualification of both scope and opinion or a
disclaimer of opinion, depending on
materiality.
• If the auditor can be satisfied with
alternative procedures that the information
being verified is fairly stated, an unqualified
report is appropriate.
• If those procedures cannot be performed ??????
Qualified Scope and Opinion Due to Scope
Restriction
• Qualifying paragraph preceding the opinion
to describe the restriction.
Disclaimer of Opinion Due to Scope
Restriction
• “We were engaged” in the introductory
paragraph.
• Second paragraph added.
• Scope paragraph is deleted.
• The opinion paragraph is changed to
disclaimer .
Statements Are N ot inConformity with
GAAP
• The auditor knows that the statements
may be misleading because they were not
prepared in conformity with GAAP.
• The client is unable or unwilling to correct
the misstatement.
• Qualified or adverse opinion depending
on materiality.
Qualified Due to N on-
GAAP
Adverse Opinion Due to Non-GAAP
 Disclaimer
Disclaimer Due
: to Lack of Independence
 Lack of statement of cash flow
• The client is unwilling to include the statement
of cash flow.
• A third paragraph stating the omission and
an “except for” opinion qualification.