An audit is an objective examination and evaluation of the financial statements of a company to ensure that they reflect a true, fair and accurate picture of the financial position of the company. This audit is performed by the Statutory Auditors of the company. The report issued by the auditors, called the independent Audit Report, is presented to the shareholders and other stakeholders of the company. This report gives an independent assurance to the shareholders, who are the owners of the company, that the financials prepared by the management are true and fair. The users, of financial statements, like investors, lenders, shareholders etc. base a number of their decisions and plans on information contained in the Audit Report of any company.
There are two types of opinions that an Auditor gives in the Audit report i.e., unmodified opinion (such reports are called unqualified reports) and modified opinion (such reports are called qualified reports).
An unqualified report is a clean report. It indicates that in the auditor’s judgment, the company’s financial statements are fairly and appropriately presented, without any identified exceptions, and in compliance with generally accepted accounting principles. It does not judge the financial position of the company or interpret the financial data. It indicates that as a result of the test check done during the audit, the auditor has enough information to conclude that the company’s financial statements conform to accounting principles, and fairly present the company’s financial position for the stated time frame. It is issued when the auditor believes that all changes, accounting policies and their application and effects, have accurately been disclosed.
A qualified report however means all is not well with the financials. An auditor can qualify a report when:
(a) The auditor concludes that, based on the audit evidence obtained, the financial statements as a whole are not free from material misstatement; or
(b) The auditor is unable to obtain sufficient appropriate audit evidence to conclude that the financial statements as a whole are free from material misstatement.
A qualified report can be in one of three forms (i) a qualified opinion, (ii) an adverse opinion or (iii) a disclaimer of opinion. Standard on Auditing (SA) 705 issued by the Institute of Chartered Accountants of India (ICAI), which is on Modifications to the Opinion in the Independent Auditor’s Report, states under what situations is a modification to the Auditor’s opinion required to be given.
A qualified opinion is an auditor’s opinion that the financials are generally okay, with the exception of some specified area(s), which have been reported by him. These may or may not have a material impact on the financials of the company.
An adverse opinion is an opinion by the auditor that the financial reports contain gross misstatements and these can have material impact on the financials of the company.
A Disclaimer of Opinion is provided when an auditor is not able to obtain sufficient evidence on which to base his opinion, or when there are several uncertainties which could have an impact on the financials. This impact may or may not be material.
In the event of an audit report being unmodified, auditors can also include a paragraph titled Emphasis of Matter. This forms a part of the Audit Report in a situation when the Auditors conclude that there is an item which is important enough for the users of the financial statements to know. This is as per as per Standard on Auditing (SA) 706, Emphasis of Matter Paragraphs and Other Matter Paragraphs in the Independent Auditor’s Report.
Readers of the financial statements should focus on whether the auditor’s report is qualified or unqualified. Irrespective of the category of qualification, a qualification means all is not well.