22.3 Auditor’s Reports
So far we have focused on the role that the accountants and management play in providing useful information to investors. Another important component of a company’s financial statements is the audit opinion. Audit opinions are prepared by firms of independent and professionally trained auditors whose job is to examine a company’s financial statements and disclosures, internal control systems, and all other relevant data in order to express an opinion on the fairness of their financial statements. Audit opinions are required for any company that wants to trade its shares publicly; in some jurisdictions they may also be required of private companies.
The purpose of an audit opinion is to provide assurance to the readers that a company’s financial disclosures have been prepared in accordance with the appropriate accounting standards and to ensure that they are not materially misstated. This assurance is important to the operation of capital markets, as investors need to have confidence in the information that they are using to make decisions.
Although auditing standards are regulated nationally, many jurisdictions have adopted the International Standards on Auditing (ISAs), which are issued by the International Auditing and Assurance Standards Board (IAASB). With over 80 nations globally now using the ISAs, there are still jurisdictions, such as the United States, which issue their own audit standards. However, they have recently made attempts to harmonize these standards with the ISAs.
The end product of the auditor’s work is an audit report that is attached to the financial statements. This report may appear fairly simple but it is, in fact, the product of many hours of detailed testing and procedures carried out by audit professionals. An example of the standard form of the report used in Canada is featured below.
INDEPENDENT AUDITOR’S REPORT
[Appropriate Addressee, usually the Board of Directors]
Report on the Financial Statements
We have audited the accompanying financial statements of Sample Company, which comprise the statement of financial position as at December 31, 20X7, and the statement of comprehensive income, statement of changes in equity and statement of cash flows for the year then ended, and a summary of significant accounting policies and other explanatory information.
Management’s Responsibility for the Financial Statements
Management is responsible for the preparation and fair presentation of these financial statements in accordance with International Financial Reporting Standards, and for such internal control as management determines is necessary to enable the preparation of financial statements that are free from material misstatement, whether due to fraud or error.
Auditor’s Responsibility
Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with Canadian generally accepted auditing standards. Those standards require that we comply with ethical requirements and plan and perform the audit to obtain reasonable assurance about whether the financial statements are free from material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor’s judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity’s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control.An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of accounting estimates made by management, as well as evaluating the overall presentation of the financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Opinion
In our opinion, the financial statements present fairly, in all material respects, the financial position of Sample Company as at December 31, 20X7, and its financial performance and its cash flows for the year then ended in accordance with International Financial Reporting Standards.
[Auditor’s signature]
[Date of the auditor’s report]
[Auditor’s address]
Note that the final opinion states that these financial statements present fairly the financial position and financial performance of the company in accordance with IFRS. However, in some jurisdictions the term “present fairly” is replaced by the statement that the presentation gives a “true and fair view” of the company’s affairs. These phrasings are generally considered to be equivalent in meaning. Also, in some jurisdictions, the audit report may provide more details of the auditor’s procedures and further assurances regarding regulatory or legal issues. However, the basic elements of the report will be the same.
This audit opinion is sometimes referred to as a “clean” opinion, although this term is somewhat misleading. While the audit opinion is prepared to provide assurance to investors, it does not guarantee that the financial statements are 100% accurate.
In some cases, auditors may find it necessary to modify their opinion. This occurs when insufficient audit evidence is available or if material misstatements are included in the financial statements. If these effects are not considered pervasive, the auditor can then issue a qualified audit opinion. This type of opinion states that the financial statements are presented fairly except for the particular accounts for which insufficient evidence or misstatements are present. Further explanations for the reasons for the qualification will be required in the audit report.
In cases where the effects of insufficient evidence or misstatements are considered pervasive, the auditor will have to either deny an opinion, in the case of insufficient evidence, or issue an adverse opinion, in the case of misstatements. Effects are considered pervasive if they are not confined to specific elements or accounts in the financial statements, if they represent a substantial portion of the financial statements, or if they are fundamental to the users’ understanding of the financial statements. In such cases, the auditor needs to exercise prudent judgment, as such opinions can prove harmful to a company. As these types of opinions essentially state that either the auditor cannot provide an opinion, or that the financial statements are not fairly presented, they will not provide assurance to investors. However, adverse opinions are rare, as management will try to correct any material misstatements.
In other situations, the auditor may determine that all the appropriate disclosures have been made, but that there is a particular disclosure that is critical to the readers’ understanding of the financial statements as a whole. In this case, the auditor may include an emphasis of matter paragraph which highlights particular disclosures.
The main auditor opinions:
Unmodified opinion means that the auditor expresses the opinion that the financial statements present fairly, in all material respects, the entity’s financial position, results of operations and cash flows in conformity with GAAP. This is the type of opinion that all companies want, it’s a clean opinion.
Qualified opinion means that the auditor finds an exception to GAAP standards. Ordinarily, the exception is not significant enough to invalidate the statements as a whole. The auditor may deviate from the unmodified report on financial statements when something does not follow GAAP. Wording on the report would be “…in our opinion, except for the effects of the matter described in the Basis of Qualified Opinion section of our report, the accompanying financial statements present fairly…..”
Adverse opinion is required in any report in which the auditor concludes that material misstatements have been found that a qualified opinion is not justified. On other words, the financial statements taken as a whole do not present fairly the company’s financial position, results of operations and cash flow. Most adverse opinions are rare as companies will likely change and improve their accounting to conform to the auditor requirements, rather than receive an adverse opinion.
In summary, the audit report adds value to the package of full disclosures that companies provide to financial statement readers to enable them to make better decisions.
