Difference Between Qualified and Unqualified Audit Report – 4 Types of Audit Opinion

Qualified and Unqualified audit report

The conduct of an audit is always followed by an audit report duly furnished by a company’s auditor. An auditor has to indicate in this audit report that he or she evaluated the client’s financial statements for a given fiscal year in accordance with generally accepted accounting standards. And that he or she has performed the tests of accounting records and other appropriate auditing processes.

Thereafter, he or she must also indicate that whether or not, in his or her opinion, the financials of the client fairly depict the financial position and results of operations. This audit opinion can take the following forms:

  • Unqualified opinion,
  • Adverse opinion,
  • Qualified opinion, or
  • Disclaimer of opinion
Difference between qualified and unqualified audit report
Qualified and Unqualified audit report

Unqualified audit report

When an auditor has no reservations or objections about the information of the client under audit, he gives an unqualified opinion. This is the most commonly seen type of audit opinion. It is also called an unmodified opinion wherein the auditor believes that the financial statements are prepared, in all material aspects, as per the applicable reporting framework.

An unqualified opinion given by an auditor indicates that he/she acknowledges the accounting treatment given to various transactions in the client’s books. He or she affirms that the client’s year-end financials (i.e., profit and loss account and balance sheet) give a true & fair view of the company’s state of affairs and operations performed during the year.

An unqualified or clean audit report is the best that a company can expect. It signifies the following:

  • The financial statements of the client are prepared using Generally Accepted Accounting Principles, that are consistently applied.
  • The financials comply with all applicable statutory laws and regulations.
  • All essential matters pertinent to the correct presentation of financial information are adequately disclosed.
  • Reasonable evidence is obtained to prove the accuracy of the transactions recorded in the client’s books.
  • There are no discrepancies in the financial reports. No material transaction recorded in the books of account is illegal or outside the legal competence of the company.

Any audit report issued by an auditor other than unqualified is said to be modified. Under Standard on Auditing (SA) 705 (Revised), Modifications to the Opinion in the Independent Auditor’s Report, it is the objective of every auditor to clearly express and give a modified opinion whenever he feels that financial statements are not completely free from any misstatement. This modified opinion can be either adverse, qualified, or a disclaimer.

Adverse Opinion

An adverse opinion is a professional judgement expressed by an auditor that a company’s financial statements are misrepresented, misstated, and do not truly represent its financial performance and health. Adverse opinions are harmful to businesses because they imply misconduct or dishonest accounting practices. An adverse opinion is a warning signal for investors, and it may have a significant negative impact on stock prices as well.

An auditor gives an adverse opinion in circumstances when he or she has reservations or objections on certain matters. This may happen when the auditor is completely dissatisfied with the adequacy of disclosures made or the selection of accounting policies and their application by the client. The auditor has found many discrepancies in books and deviations from accounting standards. Moreover, the auditor believes that the impact of such reservation is so significant and pervasive that the financial statements as a whole fail to show a correct picture.

Assume that an auditor engaged by a company making premium watches finds that the stocks and debtors of the company are not realizable. Such debtors constitute more than 80% of the total assets of the company. Moreover, during the course of his audit for the year ended 2021-22, he found that the company’s cashier has also committed fraud. As both the facts are not reflected in the financials, the auditor concludes that the impact of these is material and pervasive and that the financial statements give a distorted view of the state of affairs of the company. Thus, he shall express an adverse opinion in this case. Further, he must also consider the reporting responsibilities under Section 143(12) of the Companies Act, 2013 and CARO, 2020 in this regard.

Qualified audit report

When neither an unqualified nor an adverse opinion is suitable, the auditor issues a qualified opinion. This happens when the auditor has some reservations about the client’s financial statements but they are not that significant so as to justify an adverse opinion. He otherwise consents with the genuineness of financials to a large extent. A qualified report is given when the auditor disagrees with the management on some matters with respect to the adequacy of disclosures made in footnotes of financial reports, the applicability of accounting policies, etc. But such disagreements are not so severe that may warrant an adverse opinion.

The overall impact of all reservations is not significant enough to invalidate the true and fair view of financial statements, but it is critical that such matters be brought to the notice of investors. In other words, subject to certain reservations or qualifications stated in his report, the auditor agrees with the matters disclosed in the financial statements. 

Take an example. Suppose the statutory auditors of a manufacturing company, while performing an audit for the financial year ended 2021-22, find that the company hasn’t bifurcated its loans into short-term and long-term. The auditor understands that this is a misstatement. Although it is material, it’s not pervasive so as to warrant an adverse opinion. Hence, he may give a qualified opinion on account of this misstatement while simultaneously figuring out that the rest of the financials give a true and fair view. It should be noted that in this case, he can’t give a clean report too as it would not justify his findings.

The words “subject to” are used to indicate qualification in an audit report. If a qualification is quantifiable (measurable), the auditor is required to quantify it. And, if it is not measurable, the auditor must indicate explicitly that the quantification is not feasible.

Note:
Pervasive means - likely to have an impact on all or most of the elements of the financial statements. A misstatement is pervasive if it impacts the financials to a great extent.

Disclaimer of Opinion

The above three are opinions that an auditor expresses, however, ‘disclaimer of opinion’ is a situation when the auditor is not in a position to express his opinion. This could be due to the inability of the auditor to collect sufficient & appropriate audit evidence that enables him to draw his conclusion. In the absence of sufficient evidence, the auditor may be unable to obtain necessary information and give an opinion. This is also called a limitation in the scope of audit work imposed either by the management or might be when the company’s books are seized by tax authorities.

However, if such limitation is with respect to only a particular item(s), is not so material and pervasive, and does not restrict the auditor’s ability to express his overall opinion, the auditor, in that case, may give a qualified opinion rather than a disclaimer. For instance, he may give a qualified opinion if he is not able to obtain information on the value of investments but has all other information readily available.

When an auditor gives a disclaimer of opinion, he or she must specifically state in the audit report that he or she is unable to form an opinion on the financial statements.

To take an example, let’s assume that a company has recently transformed its accounts from manual system to SAP software. During the transition period, there were many errors in accounting as the employees weren’t well versed with the new software. As such the auditor of the company could not extract correct data and reports from the SAP system. Moreover, neither was such data available manually nor were the employees and management supportive in providing the requisite details to the auditor. Here, lack of sufficient data necessitates the auditor to give a disclaimer of opinion.

Wrapping up – Nature of differences between qualified and unqualified audit report

Basis of differenceQualified audit reportUnqualified audit reportAdverse opinion
Agreement with managementThe auditor agrees with management affirmations subject to certain reservations.The auditor agrees with management affirmations.The auditor does not agree with the affirmations made in financial reports.
Financial statements have misstatementsMaterial but not pervasiveNo misstatementMaterial and pervasive
Limitation in the scope of the auditWhen the limitation is material but not pervasive, a qualified opinion is given.No limitationNA; When the limitation is material and pervasive, a disclaimer of opinion is given.
Another name  NAAn unqualified opinion is also known as a “Clean report”.It is also known as a negative opinion.
True and fair viewThe auditor’s reservation is usually stated as: “Subject to the above, we report that the financial statements show a true and fair view.”The auditor states that the financials show a true and fair view of the state of affairs of the company.The auditor states that the financials do not reflect a true and fair view of the state of affairs of the company.
Duty of managementThe management must give an explanation in respect of every reservation in the audit report.No specific dutyAs a result of the negative opinion, a company must restate and perform another audit of its financial accounts.
Acceptability by investorsStill acceptable to most investors and lendersWelcomed by investorsNot acceptable
Impact on companyOverall satisfactoryPositiveNegative
Qualified and Unqualified audit report

ConclusionQualified and Unqualified audit report

The type of report issued by an auditor depends on the materiality and pervasiveness of misstatements found in the client’s books. If there are no misstatements, a clean or unqualified opinion is given. But in case of misstatements, an auditor uses his professional judgement.

To take an example, if substantial amounts of credit sales have been classified as cash sales, this might result in the issuance of a qualified report because of the materiality of the transaction. But if credit sales of the same amount are not recorded at all in the books of account, an adverse opinion may be issued because of its pervasiveness, i.e., its effect on sales, accounts receivables, taxes payable, current assets, total assets, operating income, and owner’s equity. Thus, as misstatements become more pervasive, the likelihood of issuing an adverse opinion than a qualified opinion increases.

Similarly, in cases where the client imposed significant limitations on the scope of the audit, the auditor may issue a disclaimer of opinion instead of a qualified opinion.

Whichever type of opinion an auditor expresses, be it adverse, qualified, or a disclaimer, it is extremely important that he states in his report the reason for expressing the same so that the users can assess their significance and effect.


You might also like:

Ruchi Gandhi

The author enjoys to write informational content in the domain of company law and allied laws. She takes interest in doing thorough and analytical research on legal topics. She is a CA along with MBA (Fin) and M. Com.

You May Also Like

Leave a Reply

Your email address will not be published.