What is an Auditor’s Report?
An independent Auditor’s Report is an official opinion issued by an external or internal auditor as to the quality and accuracy of the financial statements prepared by a company. The report is a primary source of communication between the auditor and users of financial statements. The users include equity holders, lenders, creditors, and any other potential investors in the company.
The relationship between all relevant parties is best depicted in a diagram:
The auditor provides auditing services to the client, the client provides the financial statements to the users, and the auditor provides the auditor’s report to the users.
Components of an Auditor’s Report
- Report’s addressees
- Opinion paragraph
- Basis for opinion
- Key audit matters that are relevant to the client
- Responsibilities of the management and those with governance for the financial statements
- The auditor’s responsibilities
- Signature of the firm and the engagement partner
Some of the components listed above are new and will be implemented starting in December 2018. One of the changes is that the name of the partner involved in the engagement must be printed and signed on the auditor’s report. The measure was implemented so that auditors cannot hide behind the name of the firm. They now take on more personal responsibility by putting their name out in public.
Another new component is the key audit matter section of the report. Before, the auditor’s report was more generic and could be used for different companies. However, the new report requires specific details about the company so that it is more tailored to that individual company.
Different Types of Auditor’s Reports
The most standard form of the auditor’s report, where everything is presented fairly in all material respects, is called the unqualified or clean auditor’s report. Any changes made to the unqualified report are called reservations. There are two general reservations: GAAP departures and scope limitations.
GAAP departure issues refer to situations where the financial statements are not free from material misstatement. For example, there are errors in the financial statements that management is unwilling to alter, which violate GAAP.
Scope limitations, on the other hand, refer to situations in which the auditor is unable to obtain sufficient evidence to conclude that the financial statements are free from material misstatements. It means that the auditor is not able to obtain what they need, due to either outside events or management not permitting them access to the necessary information.
The form of the auditor’s report also differs in terms of determining pervasiveness. Pervasive refers to the idea that the impact of an issue or limitation is widespread and affects many different accounts on the financial statements.
A qualified opinion is reported if there is a material error in the financial statements, or if the auditor is unable to gather enough information to verify a certain aspect of the reporting. However, in a qualified opinion, the error is small enough that it does not hurt the overall accuracy of the financial statements.
An adverse opinion is reported when there are material errors in the financial statements that negatively affect the accuracy of the financial statements.
A disclaimer of opinion is reported when the auditor cannot, or refuses to, state an opinion on the financial statements. It can occur if the auditor has concerns about the company’s ability to continue operating, or if the company has limited the scope of the audit such that the auditor is unable to form an opinion.
A disclaimer of opinion can also be reported if the auditor is not fully independent or if there are conflicts of interest.
The Idea of Materiality in Audit Reports
One section of the auditor’s report states that “accompanying financial statements present fairly, in all material respects, the financial position of the company as of XXX…” It is important to note that it says that the financial statements are presented “fairly” – it does not say that they are presented “accurately” or “precisely.” It means that there are areas where professional judgment and policy choices were made and differences could exist between the judgments of different auditors.
In addition, “in all material respects” is also an important phrase. Materiality is the idea that certain changes are significant enough to potentially change the investment decisions of investors and potential investors. it means that issues that only deal with a small portion, i.e., 1% of net income, are not material.
Auditors are primarily concerned with material misstatements, which include omissions or other errors that individually or in the aggregate would reasonably be expected to influence the economic decisions of users. Materiality is pivotal in the course of an audit and affects what type of report the auditor will issue.
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