3 Types of Modified Audit Opinion: Definition | Example | Explanation

Definition:

Modified opinions are the types of audit opinions that issue to entity’s financial statements when auditors found that those statements are not prepared and present fairly in all material respect in accordance with the accounting framework that they are using.

There are three sub audit opinions belong to Modified Opinion.

The level of modification classifies into three different types based on the level of misstatements, pervasiveness, and sufficiency of audit evidence according to ISA 705.

As per ISA 705, auditors need to modify their opinion (qualified report) according to the detailed guideline in ISA 705 if the misstatements are found by auditors in the financial statements.

Based on ISA 705, modification to the opinion in the independent auditors’ report, there are three modified audit opinions:

  1. Qualified audit opinion
  2. Adverse audit opinion and
  3. Disclaimer audit opinion

We will talk about these opinions in detail and you will learn techniques about them.

Audit opinion that expresses to the financial statements imply not only how the entity’s financial statements are, but also inform the readers or users of audit report about the integrity of executive management in the organization.

That is why the audit opinion is matter to not only executive management, but also investors and shareholders.

Noted: These types of modified audit opinion is applied only if auditor use International Standard on Auditing. If auditor use local standard, verification with those local standard is highly recommended.

Here are these three modified opinions,

Qualified Opinion:

Qualifies opinion is the first type of modified audit opinion where auditors make a conclusion after their testing that there is material misstatement found in the financial statements; however, those misstatements are not pervasive.

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Pervasive here is a bit subjective as it is based on auditors’ judgment.

But, as said in standard, misstatement is not pervasive to financial statements if those misstatements are not effected the entire financial statements and users’ decision making.

For example, the auditor will express a qualified opinion on the basis that inventories amount to USD 500,000 (equal to 20% of total assets) at the end of the year does not exist.

The qualified audit opinion is the massage to the users of financial statements to have high skepticism when they are using that financial information.

Especially, the information that causes the auditor to qualified the opinion.

For example, if the opinion for the financial statements qualified because of inventories, the users need to take serious attention to that financial information.

It is depending on the nature of business as well as financial information to which level of skepticism that users should have.

For example, if the entity is the manufacturing and inventories are what the auditors qualified. Although the opinion is qualified, the effect might be bigger than what the audit said.

However, if the entity is the financial industry and the qualified is because of inventories. This qualified opinion might be okay and maybe not affect other information.

Summary: There are two factors that cause auditors qualified audit opinions. First, There is material misstatement found in the financial statements. Second, material misstatements are not pervasive.

Adverse Opinion:

The adverse opinion is issued to the financial statements where auditors examine and concluded that those financial statements are materially misstated and pervasive.

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It is the second type of qualified opinion and compared to qualified opinion, adverse opinion is more serious.

This opinion is the message to users of financial statements that they should not rely on these financial statements in their decision making. This opinion is a bit different from a qualified opinion.

For a qualified opinion, the auditor found material misstatement in the financial statements, but those misstatements are not pervasive. Yet, adverse opinion, misstatements are both material and pervasive.

For example, the auditor concludes that the inventories amount to USD 500,000 ( equal to 20% of total assets) at the end of the year does not exist.

Also, the sales amount of USD 50,000,000 equal to 10% of total sales during the years has not occurred.

Summary: There are two factors that cause auditors to issue an adverse audit opinion. First, there is material misstatement found in the financial statements. Second, material misstatements are pervasive.

Disclaimer Opinion:

Disclaimer opinion, by the way, is different from both qualified and adverse. The auditor issued the disclaimer opinion where they could not obtain or unable to access the audit evidence for individual items or in aggregation in the to support their testing.

Auditor believes that for those items that they are not able to access and obtain information could be materially misstated and pervasive.

This is happening after the auditor tries their best to negotiate with the client to obtain all of that important information and the client still rejects it no matter it is the intention or unintentional.

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For example, audit expresses their disclaimer opinion when management refuses to provide supporting documents too verified capital injection to the entity.

Normally, the modification of audit opinion is not what the client wants, and the auditor should strictly follow the standard and consult with highly experienced professional qualifications before issued such an opinion.

Sometime, if the opinion is not proper, the auditor might be sued by the client.

Summary: There are two factors that cause auditors to disclaim their opinion. First, auditors are not able to obtain audit evidence. Second, the objects that auditors could not obtain the evidence are believed to be materially misstated in financial statements.

Written by Sinra