ISA 705 (Revised)

Modifications to the Opinion in the Independent Auditor's Report

1Objective and scope

ISA 705 (Revised) deals with the auditor's responsibility to issue an appropriate report when, in forming an opinion under ISA 700, the auditor concludes that a modification to the opinion is necessary. It establishes three types of modified opinion, qualified, adverse and disclaimer, and the decision depends on the nature of the matter giving rise to the modification (a material misstatement, or an inability to obtain sufficient appropriate evidence) and on the auditor's judgement about the pervasiveness of the effects or possible effects on the financial statements. It also deals with the form and content of the report when the opinion is modified.

The objective is to express clearly an appropriately modified opinion when the auditor concludes, based on the evidence obtained, that the financial statements as a whole are not free from material misstatement, or when the auditor is unable to obtain sufficient appropriate evidence to conclude that they are.

2Key definitions

3Requirements

Choosing the modification

• A material misstatement may relate to the appropriateness of the selected accounting policies, their application (consistency, method), or the appropriateness or adequacy of disclosures, including omitted disclosures required by the framework.
• An inability to obtain evidence may arise from circumstances beyond the entity's control (records destroyed by fire, records seized by government), from the nature or timing of the work (appointment after the inventory count, when alternative procedures fail; an associate whose information cannot be obtained), or from a limitation imposed by management (refusal to allow a confirmation, to allow attendance at a count, or to give access to a component). The auditor also considers whether a management-imposed limitation has implications for the audit beyond the item concerned, including the assessment of fraud risk and the reliability of representations.
• If management imposes a limitation after acceptance that the auditor expects will result in a qualification or disclaimer, the auditor requests that management remove it; if management refuses, the auditor communicates with those charged with governance and determines whether alternative procedures can be performed. If the possible effects are material but not pervasive, the auditor qualifies; if material and pervasive, the auditor withdraws from the audit where practicable and possible under law, or, if withdrawal is not practicable or possible before issuing the report, disclaims the opinion. Before withdrawing, the auditor communicates the matters giving rise to the modification to those charged with governance.
• If the auditor expects to modify the opinion, the auditor communicates with those charged with governance the circumstances leading to the expected modification and the proposed wording, so that they have an opportunity to provide further information or explanations, or to agree the corrections.

Form and content of the modified report

• Opinion section: headed 'Qualified Opinion', 'Adverse Opinion' or 'Disclaimer of Opinion'. A qualified opinion states that, except for the effects (or possible effects) of the matter(s) described in the Basis for Qualified Opinion section, the financial statements present fairly in all material respects (or are prepared in all material respects in accordance with the framework). An adverse opinion states that, because of the significance of the matter(s) described in the Basis for Adverse Opinion section, the financial statements do not present fairly (or are not prepared in accordance with the framework). A disclaimer states that the auditor does not express an opinion, that because of the significance of the matter(s) described in the Basis for Disclaimer of Opinion section the auditor has not been able to obtain sufficient appropriate evidence to provide a basis for an opinion, and, in place of 'we have audited', that the auditor was engaged to audit.
• Basis for opinion section: headed 'Basis for Qualified (Adverse, Disclaimer of) Opinion', placed immediately after the opinion, describing the matter giving rise to the modification. For a material misstatement of amounts, it includes a description and quantification of the financial effects unless impracticable (in which case it says so); for a narrative disclosure misstatement, an explanation of how it is misstated; for an omitted disclosure, a discussion with those charged with governance, a description of the nature of the omitted information and, unless prohibited or impracticable, the omitted information itself; for an inability to obtain evidence, the reasons for the inability. Where the opinion is qualified or adverse, the section also states that the auditor believes the evidence obtained is sufficient and appropriate to provide a basis for the modified opinion; on a disclaimer that statement is omitted.
• Other elements: on a disclaimer, the description of the auditor's responsibilities is amended to state only that the responsibility is to conduct an audit in accordance with ISAs and to issue a report, that because of the matter(s) described the auditor was not able to obtain sufficient appropriate evidence, and that the auditor is independent and has fulfilled the ethical responsibilities; the Key Audit Matters section and the statement on Other Information are omitted. On a qualified or adverse opinion, key audit matters are still reported for listed entities, with a reference to the Basis section.
• Even where an adverse opinion or disclaimer is expressed, the auditor describes in the Basis section the reasons for any other matters of which the auditor is aware that would have required a modification, and their effects, so that users have the full picture.

4Documentation and reporting

The file records the matter giving rise to the modification, its evaluation as material and as pervasive or not, the quantification of the financial effects or the reasons that quantification is impracticable, the alternative procedures attempted for a limitation on scope, the requests made to management to remove a limitation or correct a misstatement, the communication with those charged with governance of the expected modification and its wording, and, where relevant, the consideration of withdrawal and the legal advice taken. The report follows the form above. In Kenya a modified opinion on a listed company also has consequences under the Capital Markets Act and the NSE listing rules, and a resigning auditor's statement of circumstances under the Companies Act may accompany a withdrawal.

5Examinable focus