Four Names For the Opinion
Note that formal audit results may be called Auditor's Opinion, Auditor's Report, or Auditor's Statement. Or, they may also appear as Accountant's Opinion, Report, or Statement. These terms all mean almost the same thing.
- When the written document name includes "Opinion," as in "Accountant's Opinion" or "Auditor's Opinion," the report focuses on the actual opinion, one of the four possible outcomes appearing below.
- By contrast, the terms "Statement" or "Report" imply that the text includes the opinion, but also:
- The responsibilities of auditors
- Responsibilities of directors and corporate officers
- The scope of cover
Four Possible Audit Outcomes
Sections below further define and explain financial reporting audits. This article explains the four primary audit outcomes:
- Unqualified opinion
- Qualified opinion
- Adverse opinion
- Disclaimer of opinion
An audit examines a report. Its purpose is to assess report transparency and accuracy. Auditors perform these inspections and take personal responsibility for audit results.
In business, auditors may be accountants, financial specialists, project managers, line managers, technical experts, security experts, and others. The only universal requirement for working as an auditor is recognized expertise in the area under audit. This recognition is crucial because the resulting opinion must speak with authority.
Two rules also apply universally for auditing:
- Firstly, the auditor does not report to the person under audit. The auditor, therefore, cannot receive discipline or reward from this person.
- Secondly, the auditor's pay does not depend on the audit outcome. The auditor, therefore, has no financial incentive to choose one opinion over another.
These rules, naturally, reinforce auditor impartiality.
Auditors serve as either internal or external auditors.
- Internal auditors report directly to very senior managers or directors.
- External auditors are outside the entity's management hierarchy. They are therefore known also as "independent" or "third-party" auditors.
Internal Financial Audits
Directors and officers in many firms rely on internal financial audits. As a result, corporate officers and boards of directors build internal financial audits into the firm's governance structure.
Investor-owned hotels, for example, run financial audits nightly. They do this because they must be sure that managers and other staff do not allow guests to build large outstanding balances. The industry even has job titles for this role, such as "Night Auditor" or "Night Accountant."
Similarly, internal auditors everywhere are always on the watch for such things as;
- Accounting fraud.
- Inventory leakage.
- Reimbursement abuse.
Internal auditors almost always report only to corporate officers or directors. Note that some organizations discourage their internal auditors from developing close personal ties, or social relationships with their colleagues—the people they audit.
Independent Third-Party Auditors
By contrast, independent third-party auditors, who write the formal opinions appearing below, are entirely outside the entity they audit. They are therefore assumed free of influence from all levels of the group they are auditing.
Independent auditors are usually certified accountants or financial specialists, working for themselves or consulting firms. They are therefore responsible only to their managers, regulators, governments, and the law.
Note that third-party opinion is mandatory for financial results appearing in an Annual Report to Shareholders. And, this review is almost always required when firms submit financial statements to regulators, governments, or lenders.
Formal opinions from independent auditors fall into four categories. (1) Unqualified Opinion, (2) Qualified Opinion, (3) Adverse Opinion, and (4) Disclaimer of Opinion.
First, the "Unqualified Opinion" is the best possible audit outcome. And, it is also by far the outcome that auditors report most often. By contrast, the other three possible results appear rarely.
The term "unqualified" means that the auditor, has no reservations in personally endorsing the opinion that …
- Financial statements conform to Generally Accepted Accounting Principles (GAAP).
- And, statements represent the entity's financial accounts fairly.
Second Possible Auditor Opinion
Second, a "Qualified Opinion" means the auditor finds that reports conform to GAAP, except in a few specific areas. For these areas, the auditor cannot assert conformance. The qualified opinion may result because:
- The report misstates or misclassifies accounting entries.
For example, an expense that should appear above the gross profit line appears wrongly below it. This error can lead to misleading Gross profit figures.
- There are limits on audit scope.
In other words, auditors may not have had access to particular financial data.
- The auditor doubts the veracity of specific financial data.
- The auditor is not entirely confident that reports:
- Comply with GAAP
- Represent the entity's accounts fairly
In conclusion, auditors report the audit outcome as "qualified" when they are not comfortable calling it either "unqualified" or "adverse." With qualified opinions, auditors state specific reasons for their conclusions.
Thirdly, an "Adverse Opinion" means the auditor finds one or both of the following.
- Statements do not fairly represent the entity's accounts.
- The audited statements do not comply with GAAP.
Before publishing an adverse opinion, auditors advise the firm's accountants and officers of such problems. And, auditors then work with them to correct problems, insofar as they can. They do this hoping to describe the outcome as "unqualified" or "qualified" opinion, instead of "adverse," if possible.
When auditors do report an adverse opinion, they give specific reasons for the conclusion. As a result, auditors may point out specific accounting errors or departures from GAAP.
In any case, an adverse opinion has severe consequences for the reporting entity. At a minimum, the conclusion ensures that investors, regulators, lenders, and governments will reject the reports. Also, if the audit reveals illegalities, corporate officers may be held personally accountable.
Fourth Possible Audit Outcome: No Opinion
Disclaimer of Opinion
Fourthly, auditors may issue a "Disclaimer of opinion." Note especially that this is not an opinion. Instead, it means that auditors choose not to render one.
Auditors may issue a disclaimer of opinion when:
- They believe they cannot audit impartially. With the disclaimer, therefore, auditors recuse themselves.
- The auditor's scope is limited. The auditor is limited in this way, for instance, when auditors cannot access particular financial data.
- Auditors have other doubts about the reports. For example:
- Financial statements may seem to violate accounting principles such as the matching concept or the conservatism principle.
- Auditors may question the classification of certain revenues and expenses.
- Some listed capital items probably should not have been capitalized.
- They may question the way the entity applies rules such as the Lower of Cost or Market rule, or LIFO and FIFO rules for inventory.
Auditors issue conclusions only when they are confident the opinion is supportable. Otherwise, they submit a disclaimer of opinion.