What is an Audit Report?

The audit report is a formal document that confirms and authenticates the company’s financials, including its statements of income, cash flows, revenue and earnings. The report is prepared by an external agency hired by the company, which can be a firm of chartered accountants or a chartered accountant.

The agency hired by the company has access to the company’s entire financial data, which it processes and authenticates. It then prepares a formal document, mandatorily prepared and signed by a chartered accountant, which offers the opinion and assessment of the auditor and serves as a certificate of authenticity of the company’s financials.

The authenticity of the auditor’s report largely depends on the credibility of the auditor. While smaller companies can hire a local auditor, large companies usually hire an established and reputable auditor or audit agency, which leaves little scope for doubt about the authenticity of the audit report.

Purpose and Benefits of Audit Report

The main purpose of the audit report is to provide an independent assessment of the company’s financials so that equity holders, lenders, creditors, and potential investors can get an authentic assessment about the company and accordingly make informed investing decisions in the company.

The other important purposes and benefits of the audit report are the following:

1. The audit report of a company ensures the accuracy and integrity of its financials and processes.
2. The report confirms whether the company complies with the local laws, regulations and internal policies.
3. It evaluates the environmental, social and governance (ESG) data and disclosures of a company and provides an assessment of the ESG compliance and performance of the company.
4. It highlights the gaps and inefficiencies in the internal processes and accounting practices of the company and identifies the internal control weaknesses and risks of the company.
5. The audit report also fulfils the legal requirement of regular audits for the purpose of regulatory compliance.

Contents of Audit Report

The audit reports usually have a predefined structure that includes different components. The main components of an audit report are listed below.

1. Title: It has to directly state whether the auditor is independent or not.
2. Introduction: It is a short paragraph that gives details about the audited company and the time period of the audit.
3. Opinion: It is the most important component of any audit report and provides the summary of the audit result and the opinion of the auditor. The auditor briefly summarises the audit results and their opinion.
4. Basis of Opinion: It provides the reasoning for the opinion reached by the auditor.
5. Auditor’s name and signature: This component gives the name and signature of the auditor, which verifies the authenticity of the report.
6. Date of Audit: It provides the date on which the audit report has been finalised.

Types of Opinions in Audit Report

The opinion provided by an auditor is usually of four types.

Unqualified Opinion

The unqualified opinion, or the unmodified opinion, means that the auditor has found no discrepancies in the company’s financials. It is also referred to as a clean report. This type of audit report has no adverse comments or disclaimers. In case the company is publicly listed, it is referred to as an unqualified report, and if it is a private company, then such a report is referred to as an unmodified report.

Qualified Opinion

A qualified opinion, or modified opinion, would mean that the auditor is doubtful about certain processes or certain transactions, while other processes and the overall financials of the company are confirmed and authenticated. This type of opinion is considered a red flag.

Adverse Opinion

This opinion means that the auditor has found significant misstatements and gross inaccuracies in the financials and processes of the company. Such a report would mean that the company is potentially involved in fraud, irregularities, or compliance failure. An adverse opinion would make alarms ring among investors and the industry, making the company a pariah and untrustworthy.

How Investors Can Use Audit Reports?

The audit report of a company is used by stakeholders, which includes investors, creditors and lenders, to verify the financial health of the company, understand its past performance and forecast its growth potential. It also provides insights about the company’s leadership, management and internal policies. The audit reports also assist investors in making comparisons between different companies within an industry or a sector, helping to make an informed investment decision.

Eligibility, Qualification and Disqualification of Auditor

In India, the eligibility, qualification and disqualification of an auditor are described in detail in section 141 of the Indian Companies Act. It is mandatory that the auditor of a company be a practising chartered accountant. In case a chartered accountancy firm is hired for the audit, the partners who are chartered accountants in practice are to be authorised by the firm to act and sign on behalf of the firm.

The law prohibits and disqualifies the following categories from auditing a company: a body corporate, an officer or employee of the company, and a person who is a partner or who is in the employment of an officer or employee of the company. A person who, or his relative or partner, is holding any security or is indebted or has a business relation with the company or its subsidiary, is disqualified from auditing the company.

Conclusion

An audit report is essential for a company to build trust with its investors and potential investors, as it brings transparency and verifies its financials and processes. An investor or a potential investor can judiciously use the audit report of a company to understand the efficacy of its leadership and management processes. It can also assist investors in understanding the shortcomings of the company and forecasting its future growth. Therefore, an audit report is a window into the company’s working, financials, and growth potential.

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