AUDITOR'S REPORT AND TYPES OF OPINIONS

Auditing – Study Notes Chapter 4 Auditor’s Report & Types of Opinions
CHAPTER FOUR
AUDITOR’S REPORT & TYPES OF
OPINIONS
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Coverage from Question Bank:
After completion of this chapter, you will be able to attempt following questions in ICAP’s Question
Bank:
Question # in ICAP’s Question Bank Type of Question
Question # in ICAP’s Question
Bank
Type of Question
83 Al-Badr Case Study 92a Pervasive effects Concept Review Question
84 Shahrukh and Company
98 Shahrukh and Co
Case Study 92b Pervasive effects Case Study
85 The engagement partner Case Study
93b Audit report at the end of
the audit
Concept Review Question
87 Situations have arisen on different
clients
Case Study 94 Iqra Industries Limited Case Study
89 An ‘emphasis of matter’ paragraph
and an ‘other matter’ paragraph
Concept Review
Question
96 Form 35A in the Companies Concept Review Question
90 MM Electronics (Private) Limited Case Study 101b Rake Enterprises Case Study
1 By: Muhammad Asif, ACA

PART A – AUDITOR’S REPORT
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Auditor’s Report is always in written form with following elements/contents:
Elements of an Unmodified Auditor’s Report:
Sr. # Content Brief Explanation
1. Title
Auditor’s report shall have a title clearly indicating that it is “auditor’s
report”. Title is necessary to differentiate auditor’s report from other type
of reports included in annual report.
2. Addressee
Addressee is the stakeholder to whom report is issued. Report may be
addressed to any appropriate addressee according to circumstances e.g.
“Members”, or “Board of Directors”.
3.
Introductory
Paragraph
This paragraph states:
 That an audit has been conducted.
 Title of each statement making complete set of financial statements.
 Entity whose financial statements have been audited.
 Date or Period covered by each statement.
4.
Management’s
Responsibility
Paragraph
This paragraph describes responsibilities of management:
 for preparation of financial statements in accordance with AFRF.
 for such internal control which management and TCWG determine
necessary for preparation of financial statements.
5.
Auditor’s
Responsibility
Paragraph
This paragraph describes:
 auditor’s responsibility to express an opinion on financial statements
based on audit.
 brief description of audit.
 that his audit provides a reasonable basis for his opinion
6.
Auditor’s
Opinion
Paragraph
In this paragraph, auditor states whether:
 financial statements have been prepared, in all material respects, in
accordance with AFRF (if compliance framework is used), or
 financial statements give a true and fair view in accordance with
AFRF (if fair presentation framework is used).
7.
Other Reporting
Responsibilities
(if any)
If auditor is required by local laws and regulations to report on matters
other than financial statements, such matter shall also be covered in a
separate section in audit report.
8. Signature
This section contains signature of auditor:
 if auditor is a sole-proprietor, he shall sign in his personal name.
 if auditor is a partnership firm, any partner will sign in the name of
audit firm. However, name of engagement partner shall also be
mentioned in this case.
9. Date
The date of audit report should not be earlier than the date on which
auditor obtains sufficient appropriate evidence on which his report is
based (including evidence that financial statement have been prepared
and approved by management/TCWG).
Date also indicates that auditor has considered the effect of events and
transactions upto that date.
10. Address This is the name of city where auditor practices.

If local laws/regulations require different format/wording of auditor’s report, auditor shall refer to
ISAs only when, at minimum, all of above elements are included in auditor’s report.
Additional Elements of a Modified Auditor’s Report:
A modified report includes any of following:
 “Modified Opinion” (alongwith “Basis for Modified Opinion” Paragraph), or
 “Emphasis of Matter” Paragraph, or
 “Other Matter” Paragraph.
CONCEPT REVIEW QUESTION
List down the basic elements of an audit report. (05 marks)
(CA Inter -Autumn 2004)
ISA 700 Forming an Opinion and Reporting on Financial Statements provides guidance on the form
and content of the auditor’s report and should contain a number of elements.
Required:
Describe FIVE elements of an unmodified auditor’s report. (05 marks)
(ACCA F8 – December 2011)
The International Auditing Standards (ISAs) prescribe a format for the auditor.s report and also
provide guidance regarding its preparation and contents thereof. In the light of these guidelines you
are required to briefly discuss the requirements in respect of the following:
– Auditor’s signature (02 marks)
– Date of report (03 marks)
– Auditor’s address (01 mark)
(ICMAP - 2015 March )
Who can sign the audit report under section 257(1) of the Companies Ordinance, 1984? (02 marks)
(ICMAP - 2013 September )
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Auditor’s Report to the Members
We have audited the annexed balance sheet of Star Chemicals Limited (the Company) as at June
30, 2015 and the related profit and loss account, cash flow statement and statement of changes
in equity together with the notes forming part thereof, for the year then ended and we state that
we have obtained all the information and explanations which, to the best of our knowledge and
belief, were necessary for the purposes of our audit.
It is the responsibility of the company’s management to establish and maintain a system of internal
control, and prepare and present the above said statements in conformity with the approved
accounting standards and the requirements of the Companies Ordinance, 1984. Our
responsibility is to express an opinion on these statements based on our audit.
We conducted our audit in accordance with the auditing standards as applicable in Pakistan.
These standards require that we plan and perform the audit to obtain reasonable assurance about
whether the above said statements are free of any material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in the above said

statements. An audit also includes assessing the accounting policies and significant estimates
made by management, as well as, evaluating the overall presentation of the above said statements.
We believe that our audit provides a reasonable basis for our opinion and, after due verification, we
report that:
(a) in our opinion, proper books of accounts have been kept by the company as required by the
Companies Ordinance, 1984;
(b) in our opinion:
(i) the balance sheet and profit and loss account together with the notes thereon have
been drawn up in conformity with the Companies Ordinance, 1984, and are in
agreement with the books of accounts and are further in accordance with accounting
policies consistently applied, except for the changes as stated in note # xxx with
which we concur;
(ii) the expenditure incurred during the year was for the purpose of the company’s
business; and
(iii) the business conducted, investments made and the expenditure incurred during the
year were in accordance with the objects of the company;
(c) in our opinion and to the best of our information and according to the explanations given to
us, the balance sheet, profit and loss account, cash flow statement and statement of
changes in equity together with the notes forming part thereof conform with approved
accounting standards as applicable in Pakistan, and, give the information required by
the Companies Ordinance, 1984, in the manner so required and respectively give a true
and fair view of the state of the company’s affairs as at June 30, 2015 and of the profit (or
loss), its cash flows and changes in equity for the year then ended; and
(d) in our opinion, Zakat deductible at source under the Zakat and Ushr Ordinance, 1980 (XVIII
of 1980), was deducted by the company and deposited in the Central Zakat Fund
established under section 7 of that Ordinance(N–1).
ABC & Co.
August 13, 2015
Lahore
Engagement partner: XYZ
N – 1: Where no Zakat is deductible, substitute “in our opinion, no Zakat was deductible at source
under the Zakat and Ushr Ordinance, 1980”.
Under the Companies Ordinance 1984, while reporting on the financial statements the auditor has
to express an opinion whether the financial statements give a true and fair view in all material
respect.
Briefly state the matters other than the above, on which the auditor is required to express his
opinion as per the requirements of Section 255 of the Companies Ordinance, 1984. (08 marks)
Study Tips
You are advised to learn this report by heart. Or atleast, learn how the key
words/phrases (in bold) are presented. In exam, you may be required to identify
errors in a given report either omitting or wrongly including these words/phrases.

(CA Inter, Autumn 2007)
Briefly describe the responsibilities of the management and the auditors as described in the audit
report of a company given in Form 35A prescribed under the Companies Ordinance, 1984.
(07 marks)
(CA Inter -Spring 2007)
PART B – AUDITOR’S OPINIONS ON FINANCIAL STATEMETNS
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Before forming an opinion, auditor shall conclude:
1) Whether there is a misstatement or scope limitation.
2) Whether effect of misstatements or scope limitation is immaterial, material or pervasive.
Auditor shall also evaluate following (before forming an opinion on financial statements):
 Whether financial statements present true and fair view (if fair presentation framework is
used).
 Whether financial statements provide adequate disclosures.
 Whether accounting estimates are reasonable.
 Whether accounting policies are selected, applied and disclosed in accordance with AFRF.
 Whether accounting policies are consistently applied.
 Whether AFRF is adequately described.
Auditor’s responsibilities if accounting policy is changed during the year:
Auditor shall:
a) mention the exception to consistent application of accounting policies in his report.
b) refer to the note in financial statements where full disclosure is available.
c) also state in his report whether he concurs with the change or not.
What steps should auditors take before forming an opinion on the financial statements of a
company. (08 marks)
(CA Inter, Spring 1995)
What is the responsibility of the external auditor regarding assessment and disclosure of a change
in accounting policy made by his client. (05 marks)
(CA Final, Summer 2003)
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Definition and Examples of Misstatements:
Misstatement:
Misstatement means difference between:
 amount, classification, presentation and disclosure reported in financial
statements, and
 amount, classification, presentation and disclosure required to be reported in

accordance with AFRF.
A misstatement in financial statements may arise in relation to following:
(a) The appropriateness of the selected accounting policies:
 The selected accounting policies are not consistent with the AFRF.
 Financial statements do not represent underlying transactions and events in ‘true and fair’
manner.
(b) The application of the selected accounting policies:
 Selected accounting policies are not applied consistently (e.g. between prior period or to
similar items) and auditor does not concur with change.
 Selected accounting policies are not applied correctly (e.g. errors in application of
accounting policies)
(c) The appropriateness or adequacy of disclosures in the financial statements:
 Financial statements do not provide all disclosures required by AFRF.
 Disclosures in financial statements are not in accordance with AFRF.
 Financial statements do not provide the disclosures necessary to achieve fair presentation
Auditor’s course of action/responsibilities if there is a misstatement:
1. Auditor accumulates all misstatements identified during the audit, whether material or
immaterial.
2. In the light of identified misstatements, auditor considers their impact on audit strategy and
audit plan (i.e. risk and audit procedures may be revised).
3. All misstatements should be communicated to management on timely basis and auditor
should request to correct misstatements in financial statements.
4. If some of the misstatements are not corrected, auditor shall inquire management reasons
for not correcting.
5. For uncorrected misstatements, auditor considers their materiality:
a. If misstatement are immaterial (individually as well as in aggregate), auditor shall
obtain written representation from management that uncorrected misstatements
are immaterial.
b. If misstatements are material or pervasive, auditor:
 shall communicate them to TCWG alongwith their effect on auditor’s
opinion, and
 shall express qualified opinion (if effect is material) or adverse opinion (if
effect is pervasive).
Study Tips
1. Disclosure of misstatement in financial statements is not a substitute for correct
accounting treatment.
2. There will be no misstatement in financial statements if management corrects it
before the date of auditor’s report.
Study Tips
A misstatement can also be identified after end of the audit (i.e. after auditor’s
report). Appropriate course of action in this case will be discussed in a later chapter.6 By: Muhammad Asif, ACA

Your firm is concluding its audit of the financial statements of Turtle Ltd (Turtle) for the year ended
31 March 2015. The audit work has identified a number of misstatements, which are individually
immaterial, in transactions and account balances recorded in the statement of profit or loss and
statement of financial position.
State the actions your firm should take in relation to the misstatements before reaching its audit
opinion on the financial statements of Turtle. (03 marks)
(ICAEW - 2015 September)
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Definition and Examples of Scope Limitation:
Scope Limitation:
Scope Limitation arises when auditor is unable to obtain sufficient appropriate
audit evidence on which to base his opinion.
A scope limitation on audit may arise in relation to following:
(a) Circumstances beyond the control of entity:
 Accounting records of entity have been destroyed (e.g. by fire, computer virus or other
natural disaster).
 Accounting records of entity have been seized by govt. authorities.
(b) Circumstances relating to the timing or nature of auditor’s work:
 The timing of the auditor’s appointment is such that the auditor is unable to observe the
counting of the physical inventories.
 Entity is required to use “equity method” of accounting for an associated entity, but auditor
is unable to obtain evidence about financial information of associated entity.
 Substantive procedures alone do not provide sufficient evidence and entity’s internal
controls are also weak.
(c) Limitations imposed by management/entity:
 Management prevents the auditor from observing the counting of the physical inventory.
 Management prevents the auditor from requesting external confirmation of specific account
balances.
 Management does not provide written representations to auditor.
Auditor’s course of action/responsibilities if there is a scope limitation:
If auditor is unable to perform a required procedure,
Study Tip
There will be no scope limitation if auditor is able to obtain evidence from
alternative audit procedures in above cases.

 Auditor shall discuss the matter with management and TCWG and shall try to obtain
evidence by performing alternative audit procedures.
 If auditor is unable to obtain evidence from alternative procedures too, this will be a scope
limitation.
 If scope limitation is material, auditor shall express Qualified Opinion.
 If scope limitation is pervasive, auditor shall withdraw from engagement if possible and
practicable. If withdrawal is not possible and practicable, auditor shall express Disclaimer of
opinion.
If scope limitation is imposed by management, auditor shall also consider integrity of management
(in addition to effect on report). If management lacks integrity:
 Auditor shall reassess reliability of representations by management.
 Risk of fraud will be increased.
 Auditor shall also consider withdrawal from engagement (as precondition for audit is not
present).
Discuss different types of limitations of scope that may result in a modified opinion giving suitable
examples of each (You are not required to draft opinion). (05 marks)
List down the situations that may result in limitation on scope of auditor’s work. (04 marks)
In peculiar circumstances the client restricts the auditors from performing certain audit
procedures. Discuss how the auditor should deal with such restrictions if the same are imposed:
(i) at the time of appointment
(ii) during the audit. (08 marks)
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Immaterial:
An item which is not material, is called immaterial.
Material:
Misstatements, including omissions, are considered material if they, individually or in
aggregate, could reasonably be expected to influence the economic decisions of users
taken on the basis of the financial statements.
Materiality depends on size as well as nature of misstatement.
Pervasive:
Pervasive effects on the financial statements are those that, in the auditor’s
Study Tips
A scope limitation can also be faced before acceptance of audit. Appropriate course
of action in this case will be discussed in a later chapter.

judgments:
i. Are not confined to specific accounts/elements of the financial statements;
ii. If so confined, represent substantial proportion of the financial statements; or
iii. In relation to disclosures, are fundamental to users’ understanding of the
financial statements.
CONCEPT REVIEW QUESTIONS
What are the factors which make an item material? (04 marks)
(CA Final, Summer 1997)
Briefly explain the term ‘pervasive effects on the financial statements’. (04 marks)
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Which opinion to express in what Circumstances:
There are four types of audit opinions, expressed by an auditor.
Immaterial effect Material effect Pervasive effect
Misstatement
Unmodified Opinion Qualified Opinion
Adverse Opinion
Scope Limitation Disclaimer of Opinion*
When to express Unmodified Opinion:
Auditor shall express unmodified opinion when auditor has obtained sufficient appropriate audit
evidence and concludes that financial statements are free from material misstatements.
This opinion is expressed as “the financial statements give a true and fair view… in accordance with
AFRF”.
When to express Adverse Opinion:
Auditor shall express adverse opinion when auditor has obtained sufficient appropriate evidence
and concludes that there are misstatements in financial statements whose effect is pervasive.
This opinion is expressed as “the financial statements do not give a true and fair view….. in accordance
with AFRF”.
When to express Disclaimer of Opinion:
Auditor shall express disclaimer of opinion when:
1. auditor is unable to obtain sufficient appropriate evidence on which to base the opinion and
concludes that possible effect of undetected misstatements in financial statements is pervasive,
or
2. there are multiple uncertainties and auditor concludes that it is not possible to form an opinion
due to these uncertainties.
This opinion is expressed as “we do not express an opinion on the financial statements”.
When to express Qualified Opinion:
Auditor shall express qualified opinion when:

1. auditor has obtained sufficient appropriate evidence and concludes that there are
misstatements in financial statements whose effect is material (but not pervasive), or
2. auditor is unable to obtain sufficient appropriate evidence on which to base the opinion and
concludes that possible effect of undetected misstatements in financial statements is material
(but not pervasive).
This opinion is expressed as “except for …….., the financial statements give a true and fair view… in
accordance with AFRF”.
Explain and distinguish between the following three types of modified audit opinions:
(i) qualified opinion;
(ii) adverse opinion; and
(iii) disclaimer of opinion. (06 marks)
(ICAEW – June 2011)
Describe the situations in which an auditor issues a qualified audit opinion. (07 marks)
(CA Inter -Spring 2009)
(i) Explain the circumstances when a modification to the auditor's opinion is required. (02 marks)
(ii) Describe the circumstances when an auditor will form a qualified opinion, an adverse
opinion and a disclaimer of opinion. (05 marks)
(ICMAP - 2016 February)
Study Tips
1. Qualified Opinion, Adverse Opinion and Disclaimer of Opinion are collectively
called “Modified Opinions”.
2. Whenever a Qualified/Adverse/Disclaimer of opinion is expressed, an
additional paragraph (called basis for Qualified/Adverse/Disclaimer of
opinion) is also included in audit report to explain nature of misstatement or
scope limitation.

PART C – EMPHASIS OF MATTER AND OTHER MATTER PARAGRAPHS
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Emphasis of Matter Paragraph Other Matter Paragraph
When to add
paragraph in
auditor’s report
(Definition)
Emphasis of Matter Paragraph is included if
auditor considers it necessary to draw users’
attention to a matter which is disclosed in
financial statement that is fundamental to users’
understanding of the financial statements,
provided matter is not materially misstated in
financial statements.
Other Matter Paragraph is included if auditor
considers it necessary to communicate a matter
which is not required to be disclosed in
financial statements but is relevant to users’
understanding of the audit, auditor’s report or
auditor’s responsibilities, provided
communication is not prohibited by law.
Examples of
Situations/
Circumstance
a. If there is an exceptional litigation or
regulatory action pending against company.
b. If there are events and conditions causing
doubt on going concern assumption.
c. When a major catastrophe significantly
affects entity’s financial statements.
d. Early application of a new accounting
standard that has a pervasive effect.
a. When financial statements of prior period
were not audited or were audited by another
auditor.
b. When auditor reports on more than one sets
of financial statements for same entity and
for same period (but with different
frameworks).
c. When auditor restricts distribution of
auditor’s report.
d. When “Other Information” is materially
inconsistent with audited Financial
Statements.
Requirements
for
Presentation in
Auditor’s
Report
 Use the heading “Emphasis of Matter”.
 Show immediately after opinion paragraph.
 State briefly the matter being emphasized.
 State the reference of notes to accounts
where full disclosure is available.
 State that auditor’s opinion is not qualified in
respect of this matter.
 Use the heading “Other Matter”.
 Place immediately after Opinion Paragraph
and Emphasis of Matter Paragraph (if any).
Example of
Draft
“We draw your attention to Note X to the
financial statements which describe the
uncertainty related to the outcome of the
lawsuit filed against the company by XYZ
Company. Our opinion is not qualified in
respect of this matter.”
“The financial statements of ABC Company for
the year ended December 31, 20X0 were
audited by another auditor who expressed an
unmodified opinion on those statements on
March 31, 20X1.”
Exam Tip
1. Emphasis of Matter paragraph is not a substitute of “Modified Opinion”, or
“Disclosure required in financial statements”.
2. Auditor should avoid excessive use and excessive elaboration of Emphasis of
Matter paragraph.

(i) Define an ‘Emphasis of Matter paragraph’ and explain, providing examples, the use of such a
paragraph; (06 marks)
(ii) Define an ‘Other Matter paragraph’ and explain, providing examples, the use of such a
paragraph. (04 marks)
Note: You are not required to produce draft paragraphs.
(ACCA P7 – June 2010)
Identify the situations in which an auditor may modify his report without affecting his opinion. Also
explain how such a modification should be presented in the audit report. (07 marks)
(CA Inter - Spring 2010)
Specify the requirements of International Standards on Auditing while including an emphasis of
matter paragraph in the auditor’s report. (04 marks)
(ICMAP - 2013 September )
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If the auditor expects to modify his report by including “Modified Opinion” or “Emphasis of Matter”
or an “Other Matter” paragraph in his report, the auditor shall communicate with those charged
with governance the circumstances that led to modification and the proposed wording of
modification.
This communication:
1. Enables auditor to communicate the intended modification and its reasons to TCWG on
timely basis and also enables to obtain their concurrence.
2. Gives TCWG an opportunity to provide further information and explanation regarding the
matter causing modification.

Auditing – Case Studies Chapter 4 Auditor’s Report & Types of Opinions
CHAPTER FOUR (CASE STUDIES)
AUDITOR’S REPORT & TYPES OF
OPINIONS
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RREEPPOORRTT::
Structure of the Case:
An audit report with numerous errors will be given in question; and you will be required to identify
errors from given auditor’s report.
Suggested Approach to Solve:
1. Learn the key terms used in the audit report; also learn requirements regarding
modification in opinion, emphasis of matter paragraph and other matter paragraph.
2. Use element-wise format to comment on report.
3. If something is omitted, state the words/phrase/name of para which is omitted.
4. If something is wrong, write error alongwith explanation (i.e. correct treatment).
5. DO NOT redraft report; otherwise you will get zero marks.
If there is modified opinion in the report:
1. Evaluate whether the matter requires qualified opinion or adverse opinion or disclaimer of
opinion.
2. Basis for modified opinion paragraph and modified opinion paragraph should be separate.
3. Management’s point of view is not given in Basis for Modified Opinion Paragraph.
In the absence of information, assume that Auditor’s Report is to be drafted/corrected in accordance
with “Form 35A of Companies Rules 1985”.
Model Case Study From Examination Questions:
Case Study 1:
Al-Badr & Company, Chartered Accountants, have conducted the statutory audit of the financial statements of
Al-Qasim Limited, a listed company, for the year ended June 30, 2010 under the requirements of the
Companies Ordinance, 1984. The job in charge has drafted the following audit report:
Auditors’ Report to the Directors
We have audited the annexed balance sheet of Al-Qasim Limited as at June 30, 2010 and the related profit and
loss account and statement of changes in equity together with the notes forming part thereof, for the year
then ended and we state that we have obtained all the information and explanations which, to the best of our
knowledge and belief, were necessary for the purposes of our audit.
We conducted our audit in accordance with the auditing standards. These standards require that we plan and
perform the audit to obtain reasonable assurance about whether the above said statements are free of any
material misstatement. An audit includes examining evidence supporting the amounts and disclosures in the
above said statements. An audit also includes assessing the accounting policies and all estimates made by
management, as well as, evaluating the overall presentation of the above said statements. We believe that our
audit provides a reasonable basis for our opinion and, after due verification, we report that:
1 By Muhammad Asif, ACA

(a) in our opinion:
(i) the balance sheet and profit and loss account together with the notes thereon have been drawn up
in conformity with the Companies Ordinance, 1984, and are in agreement with the books of account
and further in agreement with accounting policies consistently applied;
(ii) the expenditure incurred during the year was for the purpose of the company’s business; and
(iii) the business conducted, investments made and the expenditure incurred during the year were in
accordance with the objects of the company;
(b) in our opinion and to the best of our information and according to the explanations given to us, the
balance sheet, profit and loss account and statement of changes in equity together with the notes forming part
thereof conform with International Financial Reporting Standards, and give the information required by the
Companies Ordinance, 1984, in the manner so required and respectively give a true and fair view of the state
of the company’s affairs as at June 30, 2010 and of the profit and changes in equity for the year then ended;
and
(c) in our opinion, no zakat was deductible at source under the Zakat and Ushr Ordinance, 1980 (XVIII of
1980).
Al-Badr & Company
Chartered Accountants
Karachi
Dated: September xx, 2010
Required:
Identify and explain (where necessary) the errors in the above audit report.
(Note: You are not required to redraft the report.) (12 marks)
(CA Inter, Autumn 2010)
Solution:
Element Error/Omission
Addressee  Word “Directors” should be replaced by word “Members”.
Introductory
Paragraph
 “Cash flow statement” is omitted from complete set of financial statements.
Management’s
Responsibility
Paragraph
 This paragraph is omitted from report.
Auditor’s
Responsibility
Paragraph
 Sentence “Our responsibility is to express an opinion on these
statements based on our audit” is omitted.
 Words “as applicable in Pakistan” are omitted after the words “We conducted
our audit in accordance with the auditing standards”.
 Phrase “on a test basis” is omitted from description of audit.
 Words “all estimates” should be replaced by words “significant estimates”.
Opinion Paragraph
 Sentence “in our opinion, proper books of accounts have been kept by
the company as required by the Companies Ordinance, 1984;”, is
omitted.
 “cash flow statement” is omitted from complete set of financial statements.
 Words “conform with International Financial Reporting Standards” should be
replaced by words “conform with approved accounting standards as applicable
in Pakistan”.
 True and fair view of “cash flows” is omitted
Date  “xx” should be replaced by a real date of the month of September.
Name  Name of engagement partner is omitted.

AAPPPPEENNDDIIXX 22:: CCAASSEE SSTTUUDDYY RREELLAATTIINNGG TTOO IIDDEENNTTIIFFYYIINNGG IIMMPPAACCTT OONN AAUUDDIITTOORR’’SS
OOPPIINNIIOONN//RREEPPOORRTT::
Structure of the Case:
You will be given many short situations, and requirement will be to explain implication of each
situation on auditor’s opinion/report (even if all situations relate to same client).
Suggested Approach to Solve:
Step # 1:
Explain whether the given situation is a Misstatement or Scope Limitation, or matter affecting
Additional Opinions, or matter affecting Emphasis of Matter/Other Matter Paragraph. Any wrong
argument by management in the question is to be criticized and corrected.
(A list of frequently examined questions is given in Appendix – 3 alongwith explanation).
Step # 2: (only in case of misstatement or scope limitation)
State whether effect of misstatement/scope limitation is Immaterial, Material or Pervasive.
Two situations are possible in exam in this regard:
 It will be mentioned in question (i.e. either question states effect is material/pervasive, or
profit is given from which materiality can be calculated suing Rule of Thumb i.e Materiality
= 5% of Profit)
 If it is not mentioned in question, cover Both situations. (words “significant” or “major” in
question indicate to cover both situations).
Step # 3:
State effect on opinion/report in 3 stages:
a) State type of opinion on financial statements. If opinion is modified, also include “Basis for
Qualified/Adverse/Disclaimer of Opinion paragraph” in report.
b) If any of 5 additional opinions (e.g. change in accounting policy, proper books of accounts,
deduction and deposit of Zakat.) is to be modified, state this.
c) If the situation requires inclusion of emphasis of matter paragraph (e.g. there is material
uncertainty) or other matter paragraph (e.g. prior year financial statements audited by
another auditor), mention this stating the information to be included in the paragraph.
If it is an open-end question (i.e. question without specific requirement), you can discuss all
possibilities however impact on report to be discussed only for that possibility which modifies auditor’s
report (e.g. when financial statements are not amended).
Suggested Marking Scheme for a 5-marks’ Case on Reporting
 1 – 2 marks for explanation of case.
 1 mark for calculation of materiality (if relevant).
 1 mark for stating opinion on financial statements.
 1 marks for mentioning basis for modified opinion paragraph.
 1 mark for stating impact on additional opinion or EOM/OM (if relevant).

Model Case Study From Examination Questions:
CASE STUDY ON DECIDING TYPE OF OPINION– FIRST EXAMPLE
Case Study 1:
Identify with justification how the following items would effect the auditors opinion
(a) The auditors have not been able to physically verify the inventory and have to rely on management
representation letter. The inventory constitutes a material portion of the current assets of the
company.
(b) The company has determined the useful life of vehicles to be 10 years over which they are
depreciated. The auditors believe that this useful life is not justified.
(c) 3% of the total purchases are authorized by the purchase officer rather than the purchase
manager.
(d) The company has labour problems. It has lost a major franchise and government has passed
legislation against its main product.
(e) The Company is not complying with the provisions of IAS-2 Inventories for valuation of inventory. The
company has misclassified capital expenditure on account of machinery as revenue expenditure. The
company has not disclosed one of its long term loans in the financial statements. (10 marks)
(PIPFA, Winter 2008)
Solution:
(a)
 This is a scope limitation if auditor is unable to obtain evidence from alternative procedures too.
 Management representation is not a sufficient appropriate audit evidence.
 Auditor shall express Qualified Opinion on financial statements (as effect is material).
 Auditor shall also include Basis for Qualified Opinion paragraph immediately before opinion paragraph
in his report to describe nature of scope limitation.
(b)
 This is a misstatement in financial statements as estimate is not reasonable.
 Auditor shall express qualified opinion on financial statements (if effect is material) or adverse opinion
(if effect is pervasive).
 Auditor shall also include Basis for Qualified/Adverse Opinion paragraph immediately before opinion
paragraph in his report to describe nature of misstatement.
(c)
 This is a weakness in internal control of company which does not affect audit report as no opinion is
required regarding operating effectiveness of internal controls.
 Auditor shall express unmodified opinion on financial statements.
(d)
 These are multiple uncertainties which create doubt on entity’s ability to continue as going concern (not
misstatements if these uncertainties are adequately disclosed in financial statements).
 As there are multiple significant uncertainties, auditor shall express disclaimer of opinion instead of
Emphasis of Matter Paragraph. Auditor shall also include Basis for Disclaimer of Opinion paragraph
immediately before opinion paragraph in his report to describe nature of multiple significant
uncertainties.
(e)
 These are misstatement in financial statements as company is not complying with various requirements
of IFRS.
 Effect is pervasive as it is not confined to single element of financial statements.
 Auditor shall express adverse opinion on financial statements. Auditor shall also include Basis for
Adverse Opinion paragraph immediately before opinion paragraph in his report to describe nature of
misstatements.

CASE STUDY ON DECIDING TYPE OF OPINION– SECOND EXAMPLE
Case Study 2:
The following situations have arisen on different clients being audited by your firm. The year-end in each
instance is 31 December 2013.
(i) During the year Iron Limited has changed its policy for valuation of intangible assets from Cost Model to
Revaluation Model. (03 marks)
(ii) Due to fire in the record room of Titanium Limited, all the records and backup related to the fixed assets,
trade debtors and stocks were destroyed and you are unable to perform audit procedures for
verification of the balances. (03 marks)
(iii) During the planning stage of Coal Limited it was noted that the system of internal controls of the
company is weak. This aspect was taken into consideration in determining the nature, timing and extent
of the audit procedures. (02 marks)
(iv) One of the plants of Uranium Limited was destroyed subsequent to year-end. Appropriate disclosure
thereof has been made in the financial statements. (02 marks)
Required:
Discuss the impact of each of the above matters on the audit report.
Solution:
(i)
This is a change in accounting policy which does not affect auditor’s opinion. However, auditor shall:
a) Mention the exception to consistent application of accounting policies in his report.
b) Refer to the note in financial statements where full disclosure is available.
c) State in his report whether he concurs with the change or not.
(ii)
1. This is a scope limitation.
2. Effect is pervasive as it is not confined to single element of financial statements.
3. Auditor shall express Disclaimer of opinion on financial statements.
4. Auditor shall also include a basis for disclaimer of opinion paragraph immediately before opinion
paragraph to explain nature of scope limitation.
5. Auditor shall also modify his opinion, as required by Form 35A, by stating that “proper books of accounts
have not been kept in respect of this matter”.
(iii)
 This is a weakness in internal control of company which does not affect audit report as no opinion is
required regarding operating effectiveness of internal controls.
 Auditor shall express unmodified opinion on financial statements.
(iv)
1. As per IAS – 10, if major fixed assets have been destroyed/impaired because of events after the year,
it is a non-adjusting event requiring disclosure in financial statements. As adequate disclosure has
been given, this is not a misstatement in financial statements.
2. Auditor shall express unmodified opinion on financial statements.
3. As matter is fundamental for users’ understanding of financial statements, auditor shall draw users’
attention to this matter by including Emphasis of Matter Paragraph in his report (immediately after
opinion paragraph) which shall:
o State brief description of the matter.
o Refer to the note in financial statements where full disclosure is available.
o State that auditor’s opinion is not modified in respect of this matter.

Examiners’ Comments:
(i) Very few candidates identified the need to mention the exception to the consistent application of accounting
policies and whether or not the auditor concurred to the exception. Instead, they stated that an emphasis of
matter paragraph would be required. Some candidates wrote about the accounting treatment of intangible
assets under the Cost and Revaluation model which was not required.
(ii) Most candidates correctly mentioned that a disclaimer of opinion would be required under the
circumstances; however, many among them could not identify that the auditor would also be required to report
that proper books of accounts as required by the Companies Ordinance, 1984 have not been maintained.
(iii) Most of the candidates did not appreciate the fact that weaknesses in controls are not reported in the audit
report. Most of them advised some sort of modification.
(iv) About half the candidates correctly identified the need of an emphasis of matter paragraph which should
give reference to the note in the financial statements where the matter was disclosed. The others had little idea
and resorted to guesswork which mostly resulted in irrelevant answers. Some candidates went into details
regarding the going concern assumption. Such a discussion was not required.
CASE STUDY ON DECIDING TYPE OF OPINION– THIRD EXAMPLE
Case Study 3:
Described below are situations which have arisen in four audits. The year end in each case is 31 March 2002.
Mercury Ltd
On 21 March 2002, the Inland Revenue commenced a major enquiry into all aspects of the tax affairs of the
company. Until the enquiry is completed, it is not possible to estimate, with any reasonable degree of
certainty, any ultimate liability which may fall upon the company. Consequently, no liability in respect of this
matter has been included in the financial statements. The directors have included a note to the accounts
explaining the situation.
Pluto Ltd
Included in the balance sheet at 31 March 2002 are fixed assets at cost of £2.5 million which have been
constructed by the company during the year. The costs include own labour capitalised of £180,000. The
labour costs are based on the directors’ estimates of time spent by employees on the construction work,
which are unsupported by time records. There are no satisfactory audit procedures to confirm that labour
costs have been appropriately capitalised.
The pre-tax profit of Pluto Ltd for the year ended 31 March 2002 is £650,000.
Jupiter Ltd
On 16 May 2002 a liquidator was appointed at Saturn Ltd, a major customer of Jupiter Ltd. The balance due
from Saturn Ltd on 31 March 2002 was £242,000. In addition, work in progress included £520,000, the cost
of customised work relating to Saturn Ltd. The directors refuse to make a provision for the debt on the
grounds that the liquidator was appointed after the balance sheet date. They also refuse to make any
provision in respect of the work in progress because they are planning to convert it to finished goods at an
estimated cost of completion of £260,000 as another customer has agreed to buy it for £700,000.
Final audit materiality has been set at £250,000 for Jupiter Ltd for the year ended 31 March 2002.
Requirement
In respect of each of the situations outlined above, reach a conclusion on whether or not you would qualify
your audit report. Give reasons for your conclusion and describe the effect on your audit report. (12 marks)
(ICAEW – June 2002)

Solution:
Mercury Ltd:
As per IAS – 37, if a regulatory action is pending against company at year end, and amount of obligation is
uncertain, it should be disclosed as contingency.
If disclosure in financial statements is adequate, there is no misstatement. Auditor shall express unmodified
opinion on financial statements. However, auditor shall include Emphasis of Matter Paragraph in his report
(immediately after opinion paragraph) which shall:
o State this matter which is fundamental for users’ understanding of financial statements.
o Refer to the note in financial statements where full disclosure is available.
o State that auditor’s opinion is not modified in respect of this matter.
If disclosure in financial statements is not adequate, there is misstatement. Auditor shall express qualified
opinion on financial statements (if effect is material) or adverse opinion (if effect is pervasive). Auditor shall
also include Basis for Qualified/Adverse Opinion paragraph immediately before opinion paragraph in his
report to describe nature of misstatement.
Pluto Ltd:
 This is a scope limitation on audit.
 Effect is material as amount of scope limitation 180,000 is greater than materiality level determined
using rule of thumb 32,500 (650,000 * 5%).
 Auditor shall express Qualified Opinion on financial statements.
 Auditor shall also include a "Basis for Qualified Opinion Paragraph" (immediately before opinion
paragraph) to describe the nature of scope limitation.
 Auditor shall also qualify his opinion, as required by Form 35A, by stating that proper books of
accounts have not been kept in respect of this matter.
Jupiter Ltd:
As per IAS – 10, subsequent bankruptcy of debtor and reduction of NRV below cost after the year-end are
adjusting events. If provision is not recorded for unrecoverable debt, or write-down of inventory below cost
is not recorded, these will be misstatements in financial statements.
Amount of misstatement of debtor 242,000 is less than materiality level 250,000, therefore it is individually
immaterial. Amount of misstatement of inventory 80,000 (Cost 520,000 – NRV 440,000 i.e. 700,000 –
260,000) is less than materiality level 250,000, therefore it is also individually immaterial. However, when
aggregated, these amounts become material (322,000 = 242,000 + 80,000).
Auditor shall express Qualified Opinion on financial statements. Auditor shall also include Basis for Qualified
Opinion paragraph immediately before opinion paragraph in his report to describe nature of misstatements.
Examiners’ Comments:
Weaker candidates were unable to distinguish between the two grounds for qualification ie disagreement and
limitation in scope. The most common omission was the failure to appreciate that, in the case of Pluto Ltd, there
would be a requirement to consider whether proper accounting records had been maintained. The most common
misunderstanding was that, in the case of Jupiter Ltd, although the amount owed by the customer in liquidator
ship and the amount needed to reduce stock to its NRV were individually immaterial when aggregated they were
material.

AAPPPPEENNDDIIXX 33:: EEXXPPLLAANNAATTIIOONN OOFF FFRREEQQUUEENNTTLLYY AASSKKEEDD CCAASSEESS::
Category 1 There is misstatement in financial statements.
Inventory becomes physically damage or technically obsolete:
IAS – 2 requires that inventories are measured at lower of cost and net realizable value.
Appropriate depreciation or impairment loss on fixed assets is not recorded:
IAS – 16 requires that depreciation should be recorded on fixed assets when they are available for
use.
Selective revaluation of fixed assets:
IAS – 16 requires policy of revaluation to be applied to entire class of non-current assets. If
revaluation exercise cannot be completed before auditor’s report, revaluations recorded so far
should be reversed and should be stated at cost.
Research Cost is recognized as Intangible Asset:
IAS – 38 requires to capitalize development cost only if strict criteria is met.
Related party transactions are not disclosed in financial statements:
IAS – 24 requires management to disclose adequately related party relationships and transactions
in financial statements.
Litigations/Regulatory Action started before year end:
IAS – 37 states that if a litigation or regulatory action/investigation is pending against company at
year-end, and:
 outflow of resources is probable, a provision should be recorded, or
 outflow of resources is possible, disclose it as a contingency, or
 outflow of resources is uncertain or amount cannot be measured reliably, disclose it as a
contingency.
However, auditor shall also include Emphasis of Matter Paragraph, if litigation or regulatory action
is material.
An Uncertainty casting doubt on going concern (whether created before or after year end):
As per IAS – 1, if there is an uncertainty which cast significant doubt on entity’s ability to continue
as a going concern (e.g. cash flow difficulties, major product failure, loss of major
franchise/license/customer/supplier), it should be disclosed in the financial statements.
Auditor shall also include Emphasis of Matter Paragraph if there is a material uncertainty. However,
if there are multiple uncertainties, auditor shall express disclaimer of opinion.
Category 2 There are Subsequent events requiring adjustment.
Bankruptcy of debtor after year end:
As per IAS – 10, subsequent bankruptcy of debtor after the year-end is an adjusting event. Provision
should be recorded for unrecoverable debt.

Notes:
 If some customized inventory is held on behalf of bankrupt customer, it will also be written-
down to NRV.
 Similarly, if some specialized equipment is held on behalf of bankrupt customer,
impairment loss will also be recorded on such equipment.
Sale of inventory below cost after year end:
As per IAS – 10, sale of inventory below cost after the year-end is an adjusting event. Inventory
should be written down to NRV.
Decision of Litigations after year-end:
As per IAS – 10, settlement of a court case after the year-end is an adjusting event.
Category 3 There are Subsequent events requiring disclosure.
Major fixed assets have been destroyed/impaired (e.g. due to fire, natural disaster):
As per IAS – 10, if major fixed assets have been destroyed/impaired because of events after the
year, it is a non-adjusting event requiring disclosure in financial statements.
However, auditor shall also include Emphasis of Matter Paragraph.
Litigations/regulatory action started after year end:
If a litigation is initiated against company after the year (because of events after the year), IAS – 10
states that it is a non-adjusting event and requires to disclose it in financial statements.
However, auditor shall also include Emphasis of Matter Paragraph, if there is material litigation or
regulatory action.
Restructuring (due to closure of factory and redundancies):
IAS – 10 states that a restructuring announced after year end is a non-adjusting event requiring
disclosure in financial statements.
However, auditor shall also include Emphasis of Matter Paragraph.
Bank Guarantee issued:
If significant guarantee has been issued after the year, IAS – 10 states that it is a non-adjusting event
requiring disclosure in financial statements.
Exam Tip
If disclosure is given in financial statements, check whether to discuss if disclosure is
adequate/ appropriate.
Exam Tip
Provision for Restructuring is recorded only when entity has announced the plan or
has started to implement it. A mere board decision is not sufficient to record a
provision or disclosure.

Category 4 There is scope limitation on audit.
If auditor is unable to physically verify the inventory:
This will be a scope limitation if auditor is unable to obtain evidence from alternative procedures
too.
If books of accounts are destroyed by fire (or evidence supporting expenses/assets is not
available):
This is a scope limitation if auditor is unable to obtain evidence from alternative procedures too.
Auditor shall also modify his opinion, as required by Form 35A, by stating that proper books of
accounts have not been kept in respect of this matter.
If management does not provide written representation required by auditor.
If management does not provide written representation, it will be scope limitation on audit.
Auditor shall also qualify his opinion, as required by Form 35A, by stating that he has not obtained
all the information and explanation which were necessary for the purpose of audit.
Category 5 There is a matter affecting additional opinions required by Law
Change in Accounting Policy:
If an accounting policy is changed, auditor shall:
a) Mention the exception to consistent application of accounting policies in his report.
b) Refer to the note in financial statements where full disclosure is available.
c) State in his report whether he concurs with the change or not.
Examples of changes in Accounting Policy
 Valuation method of PPE changed from Cost to Revaluation Model (or vice-versa)
 Valuation method Intangible Assets changed from Cost to Revaluation Model (or vice-versa)
 Valuation of Inventory changed from FIFO to Average Cost (or vice-versa)
 Valuation of Investments changed from fair value to cost (or vice-versa).
(remember change in depreciation method is a change in estimate, not a change in policy)
Expenditure incurred during the year was not for the purpose of the company’s business
Auditor shall state in his report that expenditure was not for the purpose of the company’s
business.
Exam Tips
1. If fire burns accounting records, it may cause scope limitation and modification
regarding proper books of accounts. However, if fire burns assets, it may cause
emphasis of matter paragraph.
2. If there is scope limitation, check whether to discuss if evidence can be
obtained from alternative procedures.

Investments/Expenditures were not in accordance with the objects of the company.
Auditor shall state in his report that investment/expenditure was not in accordance with the
objects of the company.
Zakat deductible was not deducted or not deposited by the company.
Auditor shall also state in his report that Zakat deductible at source has not been deducted by
company, or has not been deposited by the company in central zakat fund.
Category 6 Matters requiring “Other Matter Paragraph”
When financial statements of prior period were audited by another auditor.
Auditor shall add “Other Matter Paragraph” in the audit report, immediately after the opinion
paragraph and Emphasis of Matter Paragraph (if any), in which auditor shall state:
1. That financial statements of company for last year were audited by another auditor
2. Type of opinion expressed by predecessor auditor. (If opinion of predecessor auditor is
modified, auditor should also explain reason for modification in this paragraph)
3. Date when opinion was expressed by predecessor auditor.
If other information (e.g. Directors’ Report, or Supplementary information) is materially
inconsistent with financial statements:
Auditor shall:
 Discuss the matter with management to determine whether the audited financial
statements or the other information needs to be corrected.
 If financial statements need correction, and management refuses to correct financial
statements, auditor shall modify his opinion.
 If other information needs correction, and management refuses to correct financial
statements, there is no ground for qualification of opinion on financial statements. However,
auditor should:
o communicate the matter to TCWG, and
o include Other Matter Paragraph in audit report describing material inconsistency or
withhold report or withdraw from engagement.
Category 7 Matters NOT affecting audit report.
Following matters do not affect audit report in any manner:
 Weakness in Internal Control.
 Immaterial misstatements or scope limitations.
 Change in accounting estimates (unless change is unreasonable).
 Use of internal auditor
 Use of expert (unless work of expert requires modification in report)
 Use of component auditor (unless work of component auditor requires modification in
report)

AUDITOR'S REPORT AND TYPES OF OPINIONS

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