Audit Report: Definition, Elements, Characteristics, Types

An audit report is the auditor’s written opinion explaining if he found the financial statements are free of material misstatements and presented correctly by following Generally Accepted Accounting Principles.

Definition of Audit Report

An audit report is a technical, special-purpose communication that presents a true and fair picture of the state of affairs of the financial position of an organization. A certified auditor prepares it. The auditor will be responsible for all mistakes or misrepresentations of facts.

A report is a statement of collected and considered facts so drawn up as to give clear and concise information to persons who do not already possess the full facts of the report’s subject matter.

An audit report is a written opinion of an auditor regarding whether an entity’s financial statements are free of material misstatements and are presented fairly following the Generally Accepted Accounting Principles.

This is written in a standard format, as mandated by generally accepted auditing standards (GAAS). It is the auditor’s formal means of communication to interested parties of a conclusion about the audited financial statement.

The auditor should send his report addressed to shareholders to the secretary, a responsible official, or the company. The auditor’s report is to be read and discussed at the annual general meeting of shareholders.

Basic Elements of an Audit Report

A measure of uniformity in the form and content of the auditor’s report is desirable because it helps to promote the reader’s understanding and to identify unusual circumstances when they occur.

Title

The title indicates the nature of the report. The title should be “Auditor’s Report” or Branch Auditor’s Report.”

Addressee

The auditor’s report should address the person to whom it is meant to be forwarded to. Generally, the audit report is submitted to an entity’s board of directors or stockholders.

Opening or Introductory Paragraph

The introductory paragraph should identify:

• types of service performed (‘We have audited’),
• financial statements audited,
• dates of statements,
• management’s responsibility for statements, and
• auditor’s responsibility for opinion.

Scope Paragraph

The scope paragraph specifies the work performed by the auditor. The scope paragraph should indicate that the auditor had planned and performed the audit to obtain reasonable assurance whether financial statements are free from material misstatement.

Specifically, the scope paragraph describes the audit as including-

• examining the evidence on a test basis,
• assessing accounting principles used and significant estimates made by management,
• evaluating the overall financial statement presentation.

Opinion Paragraph

The opinion paragraph of the report should state the auditor’s opinion as to whether the financial statements give a true and fair view in conformity with the financial reporting framework and comply with the statutory disclosure requirements.

Date of the report

The report’s date should be when the auditor has obtained sufficient appropriate evidence to support the opinion. It should not be earlier than the date when management approves the financial statements.

Place of the report

The town in which the audit report is signed should be indicated.

Auditor’s signature

The report should be signed in the personal name of the auditor or the name of an audit firm, or both.

Characteristics of a Good Audit Report

The duty of the auditor is to make a report to shareholders.

In addition to this report, the auditor makes a long-form audit report to the management. It contains detailed observations of auditors on various matters connected with the company’s financial areas.

It points out weaknesses, lapses, and errors/frauds observed in the system.

It suggests corrective measures. A good report must at least meet the following characteristics:

1. It should be based on factual information;
2. It should be convincing;
3. It should be forceful;
4. It should be unbiased;
5. It should point out mistakes;
6. It should be constructive criticism and not be in a reprimanding tone;
7. It should offer constructive and timely suggestions to the management;
8. It should be brief. If it is lengthy, the object of the report is defeated, even if it is well written.

Types of Audit Report

There are 5 common types of auditor’s reports, each presenting a different situation encountered during the auditor’s work.

1. Unqualified Opinion

Often called a clean opinion, an unqualified opinion is an audit report that is issued when an auditor determines that each of the financial records provided by the business is free of any misrepresentations.

Also, it is an unqualified opinion.

indicates that the financial records have been maintained following the standards known as Generally Accepted Accounting Principles (GAAP).

This is the best type of report a business can receive.

Typically, an unqualified report consists of a title that includes the word “independent.” This is done to illustrate that an unbiased third party prepared it. The main body follows the title.

Made up of three paragraphs, the main body highlights the auditor’s responsibilities, the audit’s purpose, and the auditor’s findings. The auditor signs and dates the document, including his address.

2. Unqualified Opinion with an Explanatory Paragraph

An unqualified opinion with an explanatory paragraph is an audit report issued when the auditor determines that a complete audit took place with satisfactory results and that financial statements are fairly presented.

Still, the auditor believes providing additional information is important or required.

An opinion is unqualified when the auditor concludes that the Financial Statements give a true and fair view following the financial reporting framework used for preparing and presenting the Financial Statements.

An Auditor gives a clean opinion or Unqualified Opinion when he or she does not have any significant reservations concerning matters contained in the Financial Statements.

This type of report is issued by an auditor when the financial statements presented are free of material misstatements and are represented fairly following the Generally Accepted Accounting Principles (GAAP), which, in other words means that the company’s financial condition, position, and operations are fairly presented in the financial statements.

It is the best type of report an auditee may receive from an external auditor.

An Unqualified Opinion indicates the following –

1. The Financial Statements have been prepared using the Generally Accepted Accounting Principles, which have been consistently applied;
2. The Financial Statements comply with relevant statutory requirements and regulations;
3. There is adequate disclosure of all material matters relevant to the proper presentation of the financial information subject to statutory requirements, where applicable;
4. Any changes in the accounting principles or their application method and their effects have been properly determined and disclosed in the Financial Statements.

3. Qualified Opinion

When a company’s financial records have not been maintained following GAAP, but no misrepresentations are identified, an auditor will issue a qualified opinion.

Writing a qualified opinion is extremely similar to that of an unqualified opinion. A qualified opinion will include an additional paragraph highlighting why the audit report is not unqualified.

When the auditor concludes that an unqualified opinion cannot be expressed, a qualified opinion should be expressed.

Still, that effect of disagreement with management is not so material and pervasive as to require an adverse opinion, or the limitation on the scope is not so material and pervasive as to require a disclaimer of opinion.

A qualified opinion is expressed as being “subject to” or “except for” the effects of the matter to which the qualification relates.

The qualification should indicate the reasons for the qualification and the impact of the qualification in profit/losses and the entity’s financial position.

The following situation may occur in qualified opinion:

1. Limitation on audit scope– Nonavailability of confirmation of balances of major debtors, non-verification of stocks at the year-end, etc.
2. Disagreement with management.

Accounting policy, e.g., providing retirement benefits on a cash basis without accrual accounting, non-provision of depreciation.

Wrong application of accounting, e.g., Capitalizing interest expenditure on loan for the erection of machinery after installation.

Adequate disclosure -omitting to furnish quantitative details of purchases, sales, stock as per schedule VI requirements, separately showing the managerial remuneration, etc.

4. Adverse Opinion

An adverse opinion is the worst type of financial report that can be issued to a business. This indicates that the firm’s financial records do not conform to GAAP.

Also, the financial records provided by the business have been grossly misrepresented.

Although this may occur by error, it often indicates fraud.

When this type of report is issued, a company must correct its financial statement and have it re-audited, as investors, lenders, and other requesting parties will generally not accept it.

5. Disclaimer of Opinion

Sometimes, an auditor cannot complete an accurate audit report. This may occur for various reasons, such as the absence of appropriate financial records.

When this happens, the file auditor issues a disclaimer of opinion, stating that an opinion of the firm’s financial status could not be determined.

Relationship of Materiality to Type of Opinion