Throughout the world differences exist concerning the form and content of standard audit reports, for example those related to jurisdiction-specific reporting requirements, such as language and the level of detail in describing the responsibilities of management and the auditor. The primary objective of audit reports however, is relatively uniform: “to express clearly the auditor‘s opinion on the financial statements and to describe the basis for that opinion” (IOSCO, 2009, 7).
Cosserat and Rodda (2009, 60) formulate the general purpose of an audit report as: “… to give assurance and / or highlight problems with regard to the truth and fairness of the financial statements and compliance with the applicable reporting framework, law and other relevant regulation.”
According to Elder et al. (2010, 56), materiality is an essential consideration in determining the appropriate type of report for a given set of circumstances. Deciding on actual materiality in a given situation however, is a difficult judgment. “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”.
Elder et al. (2010) distinguish four types of audit reports:
When the financial statements presented are free of material misstatements and are represented fairly in accordance with the Generally Accepted Accounting Principles (GAAP), the auditor will issue a standard unqualified audit report.
An unqualified audit report with an explanatory paragraph or with modified wording will be issued when all criteria for an unqualified report have satisfactorily met, but the auditor believes it is important or is required to provide additional information.
Examples of situations in which an explanatory paragraph will be added:
lack of consistent application of generally accepted accounting principles;
substantial doubt about going concern;
emphasis of a matter;
reports involving other auditors.
A qualified report will be issued when the auditor encountered situations that do not comply with generally accepted accounting principles, a qualification of the opinion, or when the scope of the audit has been restricted, a qualification of both the scope and the opinion.
A qualified report is issued when the auditor concludes that the financial statements overall are fairly presented.
Adverse or disclaimer
An adverse opinion will be issued when the auditor determines that the financial statements are materially misstated and, as a whole, do not provide a true and fair view of the financial position and results of operations in conformity with GAAP.
A disclaimer of opinion will be issued when the auditor could not affect an opinion on the financial statements. The disclaimer of opinion report will be supplied when lack of independence exists between the auditor and the auditee or when a severe limitation of scope exists. In addition, the auditor can issue a disclaimer of opinion concerning a going concern problem.
3.3 Development standard audit report
Once the audit of an issuer’s set of financial statements is completed, the auditor issues a report, which contains information about the audit, including its scope, and an opinion regarding the fair presentation of the financial statements (IOSCO, 2009, 3). The standard audit report is the primary means by which auditors communicate to users of financial statements regarding their audits.
The standard format currently used in 24 Member States of the European Union is ISA 700, ‘Forming an Opinion and Reporting on Financial Statements’, or a national standard based on ISA 700. In the Netherlands, as per December 31, 2006, ISA 700 has implemented in national standard 700 (Handleiding Regelgeving Accountancy).
In developing its standard audit report (2004), the International Auditing and Assurance Standards Board (IAASB) intended to increase the understandability of the auditor’s role and of the auditor’s report. The understandability of the auditor’s report should be improved by using simple language and being concise, while still aiming to be informative (IOSCO, 2009, 4).
With the implementation of ISA 700, effective in behalf of reports dated on or after December 31, 2006, the IAASB intends to provide “new wording concerning the auditor’s report that better explains the respective responsibilities of management and the auditor. This updates the description of the audit process and the clarification of the scope of the auditor’s responsibilities with respect to internal controls” (IAASB, 2004).
The UK‘s first auditing standard on auditor reporting was issued in 1980 and required the auditor to express an opinion concerning the ‘true and fair’ view of the audited financial statements.
After its formation in 1991, the Auditing Practices Board (APB) as part of the Financial Reporting Council (FRC), UK’s independent regulator, presented proposals concerning an expanded audit report. The focus was to reduce the “expectations gap”; users of audit reports were not acquainted with the scope and nature of an audit. One major point of difference between the proposed Statement on Auditing Standards (SAS 600) and the auditing standard as issued in 1980 was that audit reports prepared in accordance with the SAS should contain descriptions of the respective responsibilities of directors and auditors (APB, 2007, 11).
SAS 600 was retrieved with the issuance of ISA (UK and Ireland) 700, applicable to the financial statement audits for periods starting on or after December 2004. The replacement of SAS 600 with ISA 700 did not have a significant impact on the wording of audit reports (APB, 2007, 12).
In 2009, because of the Companies Act of 2006 (renewal of the Companies Act 1985), the UK standard audit report was revised. The Companies Act 2006 reflects audit-reporting developments as proposed by national and international standard setters (for example ISA 700). The form and content of the Companies Act 2006 however is far more prescriptive than previous legislation. Sections 495 to 498 of the Companies Act 2006 prescribe the auditors’ reporting duties (Cosserat, 2009, 534).
According to section 495 of the Companies Act 2006, the audit report needs to be included:
the introduction identifying the annual accounts that are subject of the audit and the financial reporting framework that has been applied in their preparation;
Auditors were required to provide a three-part opinion in which the auditor must state whether the annual accounts give a true and fair view of the state of affairs of the company; are properly prepared in accordance with the relevant financial reporting framework; and are prepared in accordance with the requirements of the Companies Act of 2006 (Cosserat, 2009, 534).
On behalf of audit reports in the Netherlands (national standard 700), new wording is introduced. The new form audit report will be effective as from December 15, 2010.
Because of the ‘Clarity project’, a project to improve the clarity of ISAs, completed in February 2009, clarified ISAs have released among which ISA 700 (Redrafted), ‘Forming an Opinion, and Reporting on Financial Statements’.
National standards in the Netherlands are based on International Standards on Auditing. In consequence of the revision of ISA 700, also national standard 700 (HRA) had to be rewritten. As from December 15, 2010, the audit report is called ‘controleverklaring’. This new title should better reflect the nature of the work performed by the auditor, i.e., the ‘controleverklaring’ as a resultant of the audit of financial statements.
The new form audit report contains the heading: ‘independent auditor’s report’ (controleverklaring van de onafhankelijke accountant). The addition of the word ‘independent’ affirms that the auditor has met all of the ethical requirements regarding independence and, consequently, distinguishes the independent auditor’s report from reports issued by others.
3.4 Form and contents standard audit report
This paragraph continues on the standard audit report by describing its form and contents, reflecting on both the United Kingdom’s and the United States’ latest issuances of ISA 700.
ISA 700 is designed to establish a new form of the audit report, which seeks to approve the explanations on auditors’ responsibilities and the task and scope of the audit. With the implementation of ISA 700, effective for reports dated on or after 31 December 2006, the IAASB intended to increase the understandability of the auditor’s role and of the auditor’s report.
ISA 700 requires from the audit report to give explicit information concerning the auditor’s responsibility and to express an opinion on the financial statements based on the conducted audit. Included in the auditor’s responsibility section is an explanation of the audit procedures and scope to ensure the user understands the extent and scope of an audit.
ISA 700, ‘Forming an Opinion and Reporting on Financial Statements’, effective for audits of financial statements for periods beginning on or after December 15, 2009, is the latest revision of ISA 700 as issued by the IAASB.
Following ISA 700, ‘Forming an Opinion and Reporting on Financial Statements’ (IFAC, 2009, 658) (Appendix 1, illustration 2: ISA 700 ‘Forming an opinion and reporting on financial statements’), the form and content of an audit report (audit report for audits conducted in accordance with ISA) is as follows:
The audit report has a title that clearly indicates that it is the report of an independent auditor.
The audit report has addressed as required by the circumstances of the engagement.
states that the financial statements have been audited;
identifies the title of each statement that comprises the financial statements, for example a balance sheet, an income statement, a statement of changes in equity and a cash flow statement;
refers to the summary of significant accounting policies and other explanatory information; and
comprising the financial statements specifies the date or period covered by each financial statement comprising the financial statements.
Management’s responsibility for the financial statements
This section of the audit report describes the responsibilities of those in the organization that are responsible for the preparation of financial statements. The audit report uses the term, for example ‘management’ or ‘those charged with governance’, that is appropriate in the context of a particular legal framework.
The audit report describes management’s responsibility for the preparation of the financial statements: ‘the preparation and fair presentation of financial statements’. The description includes an explanation that management is responsible for the preparation of the financial statements in accordance with the applicable reporting framework, and for such internal control as it is necessary to enable the preparation of financial statements that are free from material misstatement.
The audit report states that the responsibility of the auditor is to express an opinion on the financial statements based on the audit and refers to the conduction of the audit in accordance with International Standards on Auditing (ISA).
The audit report explains that the auditor is required to comply with ethical requirements and that the auditor plans and performs the audit to obtain reasonable assurance about whether the financial statements are free from material misstatement.
The audit report describes an audit by stating that an audit involves performing procedures to obtain audit evidences about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor’s judgment, including the assessment of risks of material misstatements of the financial statements. In order to design audit procedures that are appropriate in the circumstances, but not concerning the purpose of expressing an opinion on the effectiveness of the entity’s internal control, the auditor considers internal control.
The audit report describes that an audit includes evaluating the appropriateness of the accounting policies used and the reasonableness of accounting estimates made by management.
The last phrase of this section of the audit report states whether the auditor believes that the audit evidence as obtained by the auditor is sufficient and appropriate to provide a basis for the auditor’s opinion.
Expressing an unmodified opinion on the financial statements, the auditor’s opinion is that the financial statements are prepared, in all material aspects, in accordance with [the applicable reporting framework]. If the reference to the applicable reporting framework is no to International Financial Reporting Standards (IFRS), the auditor’s opinion identifies the jurisdiction of origin of the framework.
Other reporting responsibilities
If the auditor addresses other reporting responsibilities in the audit report on the financial statements, these other reporting responsibilities need to be addressed in a separate section in the audit report.
Signature of the auditor
The auditor’s signature is either in the name of the audit firm, the personal name of the auditor or both, as appropriate for the particular jurisdiction.
The audit report is dated no earlier than the date on which the auditor has obtained sufficient appropriate audit evidence on which to base the auditor’s opinion on the financial statements.
The audit report names the location in the jurisdiction where the auditor practices.
The latest version of ISA 700 as published by the APB: ISA (UK and Ireland) 700 (revised), is effective for UK companies for accounting periods ending on or after 5 April 2009. See appendix 1, illustration 3: ISA (UK and Ireland) 700 (revised).
The content of ISA 700 (UK and Ireland) is, generally, alike ISA 700 ‘Forming an opinion and reporting on financial statements’. The main difference between the UK and US ISA 700 is that UK companies are subject to specific UK company law, which is the ‘Companies Act 2006’. The financial statements have to be prepared in accordance with the requirements of the Companies Act of 2006.
In the opinion paragraph of an unqualified audit report, the auditor expresses that the financial statements have been prepared in accordance with the requirements of the Companies Act 2006. The opinion paragraph further contains an opinion on matters as prescribed by the Companies Act 2006, for example the directors’ remuneration report and the information given in the directors’ report (see further appendix 1, illustration 3).
Another difference between the UK and US ISA 700 is that ISA (UK and Ireland) 700 (revised) enables auditors to provide shorter audit reports. Section ‘scope of the audit’, formerly described as ‘basis of opinion’, allows cross-referring to a ‘Statement of the Scope of an Audit’ that is maintained on APB’s web site or is included elsewhere within the annual report. Where auditors decide to include a description of the scope within the audit report, APB believes the description should be as short as possible and uses the prescribed words (APB, 2009, 2).