Who Is the Auditor of a Joint Stock Company?

 A company auditor is a professionally qualified person (usually a Chartered

Accountant) appointed to examine and report on the company’s accounts.
 In joint stock companies, the auditor’s role and duties are defined by the Companies
Act, not by a private contract as in a firm or sole trader audit.

Qualifications and Disqualifications of an Auditor

1. Qualifications of an Auditor
According to Dr. Radha, an auditor of a company must possess the statutory qualifications
prescribed by the Companies Act.
1. Chartered Accountant
 A person must be a Chartered Accountant (CA) within the meaning of the
Chartered Accountants Act, 1949.
 Only a CA holding a valid Certificate of Practice can be appointed as an auditor.
Example:
Mr. A is a member of ICAI and holds a Certificate of Practice → Qualified to be appointed
as auditor.
2. Firm of Chartered Accountants
 A firm of Chartered Accountants can be appointed as auditor.
 In such cases, any partner who is a CA may sign the audit report on behalf of the
firm.
Example:
M/s Rao & Co., a CA firm, is appointed as auditor → Valid appointment.
3. Limited Liability Partnership (LLP)
 An LLP of Chartered Accountants is also qualified to act as an auditor.
Example:
ABC & Associates LLP (CA LLP) appointed as auditor → Qualified.
4. Person Eligible under the Companies Act
 Any person specifically recognized and permitted under the Companies Act to act as
auditor is qualified.
❌ 2. Disqualifications of an Auditor
Dr. Radha clearly explains that certain persons are disqualified to ensure independence and
impartiality of the auditor.
1. Body Corporate
 A company or body corporate (other than LLP) cannot be appointed as auditor.
Example:
XYZ Pvt. Ltd. appointed as auditor → ❌ Disqualified
2. Officer or Employee of the Company
 An employee or officer of the company cannot act as its auditor.
Example:
Accounts Manager of the company appointed as auditor → ❌ Disqualified
3. Partner or Employee of an Officer
 A person who is a partner or employee of a company officer is disqualified.
Example:
Mr. B is partner of the company’s Managing Director → ❌ Disqualified
4. Financial Interest in the Company
 A person holding shares, debentures, or any financial interest in the company is
disqualified.
Example:
Auditor holding equity shares in the client company → ❌ Disqualified
5. Indebtedness to the Company
 A person who is indebted to the company beyond the prescribed limit is disqualified.
Example:
Auditor has taken a loan from the company → ❌ Disqualified
6. Guarantee for Third Party Loan
 A person who has given guarantee or security for a loan taken by a third party from
the company is disqualified.
Example:
Auditor guarantees loan taken by his friend from the company → ❌ Disqualified
7. Excessive Number of Audits
 A person who has accepted audits beyond the maximum number prescribed by law
is disqualified.
Example:
Mr. C accepts audit of 25 companies when limit is 20 → ❌ Disqualified
8. Conviction for Fraud
 A person convicted for fraud and not yet completed the prescribed cooling period is
disqualified.
Example:
Auditor convicted for financial fraud → ❌ Disqualified
Various Modes of Appointment of a Company Auditor
1. Appointment of First Auditor
Meaning:
The first auditor is the auditor appointed immediately after the incorporation of the company.
Appointment:
 Appointed by the Board of Directors within 30 days of incorporation.
 If the Board fails, the auditor is appointed by the members in a general meeting
within 90 days.
Tenure:
 Holds office till the conclusion of the first Annual General Meeting (AGM).
Example:
A newly incorporated company, ABC Pvt Ltd, appoints Mr. X as its first auditor through a
Board resolution within 30 days of incorporation.
2. Appointment of Auditor at Annual General Meeting (AGM)
Meaning:
An auditor appointed at an AGM is known as a subsequent auditor or statutory auditor.
Appointment:
 Appointed by shareholders at every AGM.
Tenure:
 Holds office from the conclusion of one AGM till the conclusion of the next AGM.
Example:
At the AGM of XYZ Ltd, shareholders appoint M/s Rao & Co. as auditors for the next
financial year.
3. Appointment of Auditor in Case of Casual Vacancy
Meaning:
A casual vacancy arises due to death, resignation, disqualification or insolvency of the
auditor.
Appointment:
 If vacancy arises due to reasons other than resignation, it is filled by the Board of
Directors.
 If vacancy arises due to resignation, it must be filled by shareholders in a general
meeting.
Tenure:
 Auditor holds office till the conclusion of the next AGM.
Example:
If the auditor of LMN Ltd resigns mid-year, shareholders appoint a new auditor in an
extraordinary general meeting.
4. Appointment of Auditor by Central Government
Meaning:
In certain cases, the auditor is appointed by the Central Government.
When Applicable:
 In case of companies where special audit is required or when no auditor is appointed
by the company.
Example:
The Central Government appoints an auditor for a government company where shareholders
fail to appoint one.
5. Appointment of Auditor by Special Resolution
Meaning:
In some companies, auditors are appointed by passing a special resolution.
Applicability:
 Where law or articles of association require appointment by special resolution.
Example:
A company’s Articles provide that auditors must be appointed by special resolution; hence
shareholders pass a special resolution to appoint the auditor.
6. Appointment of Auditor in Government Companies
Meaning:
Auditors of government companies are appointed by a special authority.
Appointment:
 Appointed by the Comptroller and Auditor General of India (C&AG).
Example:
The auditor of BHEL, a government company, is appointed by the C&AG of India.
7. Appointment of Auditor in Reconstituted or Amalgamated Company
Meaning:
When companies merge or are reconstituted, a new auditor may be appointed.
Appointment:
 Appointed by shareholders in a general meeting of the new entity.
Example:
After amalgamation of PQR Ltd and STU Ltd, a new auditor is appointed for the merged
company.
Rights of a Company Auditor
1. Right of Access to Books of Accounts
Meaning:
The auditor has the right to access all books of account, vouchers and documents of the
company at all times.
Example:
While auditing ABC Ltd, the auditor examines cash book, ledger, invoices and bank
statements kept at the head office and branch offices.
2. Right to Obtain Information and Explanations
Meaning:
The auditor can ask for any information or explanation from officers of the company
necessary for audit.
Example:
The auditor asks the finance manager of XYZ Ltd to explain unusual increases in
administrative expenses.
3. Right to Visit Branches and Access Branch Accounts
Meaning:
The auditor has the right to visit branch offices and inspect their books unless a separate
branch auditor is appointed.
Example:
The auditor of LMN Ltd visits its Chennai branch to verify sales and stock records.
4. Right to Receive Notices of General Meetings
Meaning:
The auditor has the right to receive all notices, circulars and communications relating to
general meetings.
Example:
The auditor receives notice of the Annual General Meeting of PQR Ltd along with the
agenda.
5. Right to Attend General Meetings
Meaning:
The auditor may attend any general meeting of the company and be heard on matters
concerning him as an auditor.
Example:
At the AGM of RST Ltd, the auditor clarifies shareholder doubts regarding depreciation
policy.
6. Right to Make Representations
Meaning:
If the auditor is proposed to be removed before expiry of his term, he has the right to make a
written representation to the members.
Example:
When UVW Ltd proposes to remove its auditor, the auditor sends a written explanation to
shareholders.
7. Right to Sign Audit Report
Meaning:
The auditor has the exclusive right to sign the audit report after completing the audit.
Example:
The audit report of DEF Ltd is valid only when signed by the appointed auditor.
8. Right to Remuneration
Meaning:
The auditor is entitled to receive remuneration as fixed by shareholders or Board (in case of
first auditor).
Example:
At the AGM of GHI Ltd, shareholders approve an audit fee of ₹1,50,000 payable to the
auditor.
9. Right to Seek Legal and Technical Advice
Meaning:
The auditor may seek expert advice when necessary to conduct audit efficiently.
Example:
The auditor consults a legal expert regarding compliance with company law provisions.
10. Right to Lien on Company Books (Qualified Right)
Meaning:
The auditor may exercise lien on books of account for unpaid audit fees, subject to legal
limits.
Example:
If JKL Ltd fails to pay audit fees, the auditor retains certain accounting records until payment.
Duties of the Company Auditor
The duties of a company auditor may be classified under the following three heads:
1. Statutory Duties of the Auditor
2. Duties Imposed by the Court of Law
3. Other Duties (Contractual, Accounting Standards and Professional Duties)
1) Statutory Duties of the Auditor
Statutory duties are those imposed by the Companies Act. These duties are compulsory and
cannot be avoided.
(A) Duty to Enquire – Section 227(1A)
Meaning
Section 227(1A) makes it the statutory duty of the auditor to enquire into certain specified
matters during the course of audit.
The auditor is not required to report if the enquiry is satisfactory; reporting is compulsory
only when the result is unsatisfactory.
Matters to be Enquired into
The auditor shall enquire whether:
1. Loans and advances made by the company are properly secured and not prejudicial
to the company’s interest.
2. Transactions represented merely by book entries are not prejudicial.
3. Assets of the company have been sold at a price less than cost, except when justified.
4. Loans and advances shown as deposits are actually deposits.
5. Personal expenses of directors or officers have been charged to revenue account.
6. Cash receipts and payments are genuine.
Example
If a company grants an unsecured loan to a director without adequate justification, the auditor
must enquire whether it is prejudicial to the company. If unsatisfied, he must report it.
Important Point (Dr. Radha)
 Silence in the report implies satisfaction
 Enquiry is mandatory, reporting is conditional
(B) Duty to Report – Section 227(2) and 227(3)
Section 227(2): Duty to Report to Members
The auditor must submit a report to the shareholders stating whether:
 Proper books of accounts have been kept
 Balance Sheet and Profit & Loss Account agree with the books
 Financial statements give a true and fair view
Section 227(3): Matters to be Stated in the Audit Report
The auditor must specifically state:
1. Whether he has obtained all information and explanations
2. Whether proper books of account have been kept
3. Whether the Balance Sheet and P&L Account agree with books
4. Whether accounts comply with accounting standards
5. Whether directors are disqualified from appointment
6. Whether accounts give a true and fair view
Example
If the auditor is denied access to certain records, he must mention this fact in his audit report.
(C) Duties under Section 227(4A)
Meaning
Section 227(4A) empowers the Central Government to issue an order requiring the auditor
to report on additional matters.
This led to the issue of CARO (Companies Auditor’s Report Order).
Matters Covered under CARO (Illustrative)
 Fixed assets records and physical verification
 Inventory verification
 Loans to related parties
 Internal control system
 Statutory dues
 Fraud reporting
Example
If the company has defaulted in payment of GST, the auditor must report it under CARO.
(D) Other Duties under Company Law
1. Duty to attend General Meetings when required
2. Duty to certify statutory reports
3. Duty to report on prospectus
4. Duty to report on branch accounts
Example
If branch accounts are audited by another auditor, the main auditor must consider and report
on them.
2) Duties Imposed by the Court of Law
Courts have laid down certain duties through judicial decisions.
Important Judicial Duties
1. Auditor must exercise reasonable care, skill and diligence
2. Auditor is not a guarantor, but must act honestly
3. Auditor must verify and not merely rely on management
4. Auditor must detect material frauds if reasonable care is applied
Case Reference (Conceptual)
If an auditor fails to verify cash balance and fraud occurs, courts may hold him negligent.
Example
Failure to verify bank balance with bank confirmation may amount to professional
negligence.
3) Other Duties of the Auditor
(A) Contractual Duties
These duties arise from the agreement between the auditor and the company.
Examples
 Reporting on interim accounts
 Audit of special purpose statements
 Tax audit assignments
(B) Duties in Relation to Mandatory Accounting Standards
The auditor must ensure that:
 Accounting Standards prescribed are properly followed
 Deviations are properly disclosed
 Effect of non-compliance is reported
Example
If AS relating to revenue recognition is not followed, the auditor must qualify his report.
(C) Professional Duties
These duties arise from the Code of Ethics and Auditing Standards.
Professional Duties Include:
1. Duty of independence
2. Duty of confidentiality
3. Duty of professional competence
4. Duty to follow auditing standards
 5. Duty to act with integrity and objectivity
Example
An auditor should not disclose company information to outsiders without authority.
Other Kinds of Audit under the Companies Act
Apart from the statutory audit, the Companies Act provides for certain specialized audits to
ensure proper control, transparency, and protection of stakeholders. These include Branch
Audit, Social Audit, Special Audit, and Cost Audit.
1. Branch Audit
Meaning
According to Section 143(8) of the Companies Act, 2013, where a company has branches,
the accounts of the branch shall be audited either by:
 The company’s statutory auditor, or
 Any other qualified auditor appointed for the branch.
A branch audit refers to the audit of accounts maintained at the branch office of a company.
Objectives
 To verify the accuracy of branch accounts
 To prevent fraud and misappropriation at branch level
 To ensure compliance with company policies
 To enable consolidation of branch accounts with head office accounts
Scope
 Verification of cash, stock, and debtors at branch
 Checking branch expenses and revenues
 Verification of internal control system at branch
 Examination of branch returns sent to head office
Example
A bank having branches across India appoints separate auditors for each branch. The branch
auditor verifies daily cash balance, loans, and advances and submits a report to the head
office auditor.
2. Social Audit
Meaning
A social audit is an evaluation of a company’s activities with respect to its social
responsibilities towards employees, consumers, society, and the environment.
Though not mandatory for all companies, it is increasingly recognised under the Companies
Act in connection with Corporate Social Responsibility (CSR) under Section 135.
Objectives
 To assess the social performance of the company
 To ensure CSR funds are properly utilised
 To evaluate environmental and social impact
 To improve corporate image and public confidence
Scope
 Welfare measures for employees
 Environmental protection initiatives
 Community development programmes
 Consumer protection practices
Example
A manufacturing company audits its CSR activities such as building schools, providing
drinking water facilities, and reducing pollution to ensure funds are properly utilised..
3. Special Audit
Meaning
A special audit is an audit conducted for a specific purpose or under special circumstances,
as ordered by the Central Government or regulatory authorities.
Under Section 143(11), the Central Government may direct special audit in certain cases.
Objectives
 To investigate suspected fraud or mismanagement
 To examine specific transactions or periods
 To protect the interests of shareholders and creditors
Scope
 Examination of specific books or transactions
 Investigation of irregularities
 Verification of compliance with legal provisions
Example
If a company is suspected of inflating expenses to reduce profits, the government may order a
special audit to investigate such transactions.
(As per Dr. Radha)
Special audit acts as a corrective and investigative mechanism to detect serious financial
irregularities.
4. Cost Audit
Meaning
A cost audit is the verification of cost records to ensure accuracy and compliance with cost
accounting principles.
Under Section 148 of the Companies Act, 2013, cost audit is mandatory for certain specified
industries.
Objectives
 To verify correctness of cost data
 To control cost of production
 To detect wastage and inefficiencies
 To ensure fair pricing
Scope
 Material, labour, and overhead costs
 Cost records and statements
 Cost control techniques
 Efficiency of production processes
Example
A cement manufacturing company is required to maintain cost records and appoint a cost
auditor to audit cost statements submitted to the government..
Liabilities of a Company Auditor
An auditor holds a position of trust and confidence. If he fails to discharge his duties with
reasonable care, skill, and honesty, he becomes liable. According to Dr. Radha, the
liabilities of a company auditor may be broadly classified into:
1. Civil Liability (Negligence)
2. Specific Statutory Liability
3. Criminal Liability
4. Professional Misconduct
1. Civil Liability of an Auditor
(Liability in Case of Negligence)
Meaning of Negligence
Negligence means failure to exercise reasonable care, skill, and diligence expected from a
qualified auditor under similar circumstances. If such negligence results in loss to others, the
auditor is liable to compensate.
(a) Parties to Whom an Auditor is Liable
1. Liability to the Company
The auditor is appointed by the company and is primarily liable to it.
Example:
Failure to detect fraud due to careless checking of vouchers.
2. Liability to Shareholders
The auditor is liable to shareholders as a body, not to individual shareholders, if they suffer
loss due to reliance on an incorrect audit report.
3. Liability to Third Parties
Generally, an auditor is not liable to third parties, except where:
 There is privity of contract, or
 Auditor knew accounts would be relied upon by third parties.
(b) Damages Arising out of Negligence
1. Compensatory Damages
Damages awarded to compensate actual loss suffered.
Example:
Loss due to undetected misappropriation.
2. Special Damages
Damages arising due to special circumstances, provided such circumstances were known to
the auditor.
Example:
Auditor certifies accounts knowing they are to be used for obtaining loans.
(c) Important Legal Case on Auditor’s Negligence
Kingston Cotton Mills Co. Ltd. (1896)
Facts:
Auditor relied on stock certificates issued by management. Later, stock was found overstated.
Judgement:
The court held that:
“An auditor is a watchdog, not a bloodhound.”
Significance:
 Auditor is not expected to detect all frauds
 Liability arises only when reasonable care is not exercised
2. Specific Statutory Liability
(a) Liabilities under the Companies Act
Auditor is liable for:
 Non-compliance with statutory duties
 False statements in audit report
 Failure to report frauds
(b) Liability for Misstatement in Prospectus
(Section 35, Companies Act, 2013)
If the auditor authorises a prospectus containing untrue statements, he is liable to:
 Compensate investors
 Face civil and criminal consequences
Example:
Incorrect profit figures certified by auditor included in prospectus.
(c) Liability during Winding-up Proceedings
During liquidation:
 Auditor may be examined by the liquidator
 Liable for misfeasance or breach of duty
 Court may order repayment of losses
(d) Liability under Consumer Protection Act, 1986
Auditor is treated as a professional service provider.
If audit services are deficient, he can be sued.
Example:
Negligent audit resulting in financial loss to the client.
(e) Liability for Unaudited Statements
If an auditor allows his name to be associated with unaudited financial statements, he is
liable for misrepresentation and negligence.
3. Criminal Liabilities of an Auditor
Criminal liability arises when the auditor commits fraud or willful default.
(a) Criminal Liability under the Companies Act
1. False Statement
If the auditor knowingly makes false statements in audit report, he is punishable with:
 Fine
 Imprisonment
 Both
2. Willful Default in Making the Report
Intentional failure to submit audit report attracts criminal liability.
(b) Liability under the Income Tax Act, 1961
Auditor is liable if he:
 Certifies false tax audit reports
 Abets tax evasion
 Furnishes incorrect information
(c) Liability under the Indian Penal Code (IPC)
Under IPC, auditor may be punished for:
 Fraud
 Cheating
 Forgery
 Criminal breach of trust
Example:
Collusion with management to falsify accounts.
4. Professional Misconduct of an Auditor
Meaning
Professional misconduct refers to acts or omissions that violate the professional code of
conduct prescribed for auditors.
According to Dr. Radha, professional misconduct arises when an auditor:
 Acts dishonestly
 Lacks independence
 Fails to maintain professional ethics
Instances of Professional Misconduct
 Accepting audit without proper qualification
 Failure to report material misstatements
 Disclosure of client’s confidential information
 Gross negligence in audit work
 Acting in collusion with management
 Signing audit report without proper examination
Consequences of Professional Misconduct
 Disciplinary action by professional body
 Monetary penalties
 Suspension or removal from practice, Loss of professional reputation
1. SHARE CAPITAL AUDIT
Meaning
Share Capital Audit refers to the examination of transactions relating to the issue,
allotment, calls, forfeiture, re-issue and redemption of shares, to ensure compliance with
the Companies Act, Articles of Association, and proper accounting treatment.
Objectives of Share Capital Audit
1. To verify that share capital is issued as per law
2. To ensure proper authorization for issue of shares
3. To check correct valuation and recording of share capital
4. To detect fraud or irregular allotment
5. To ensure adequate disclosure in the Balance Sheet
Auditor’s Duties in Relation to Share Capital
1. Verification of Authorization
 Examine Memorandum of Association (capital clause)
 Examine Articles of Association for issue procedures
 Check Board and Shareholders’ resolutions
👉 Example:
If authorised capital is ₹10 lakh, issue beyond this is illegal.
2. Audit of Issue of Shares
(a) Issue for Cash
Auditor should verify:
 Prospectus / Statement in lieu of prospectus
 Application and allotment register
 Bank statements for money received
 Share allotment entries in books
👉 Example:
If 10,000 shares @ ₹10 are issued, auditor verifies ₹1,00,000 receipt.
(b) Issue for Consideration Other Than Cash
 Examine contracts and vendor agreements
 Verify valuation of assets acquired
 Check approval of shareholders
👉 Example:
Shares issued to vendor for purchase of machinery.
3. Audit of Calls on Shares
 Verify call resolutions
 Check calls in arrears and advances
 Ensure calls are made uniformly
4. Forfeiture and Re-issue of Shares
Auditor must ensure:
 Forfeiture is as per Articles
 Proper notice was given to shareholders
 Re-issue is at permissible discount
 Profit on re-issue transferred to Capital Reserve
5. Audit of Bonus and Rights Issue
 Check compliance with SEBI guidelines
 Verify Board and shareholder approval
 Ensure correct accounting entries
Presentation in Balance Sheet
 Authorised Capital
 Issued Capital
  Subscribed Capital
 Paid-up Capital
(as per Schedule III)
2. SHARE TRANSFER AUDIT
Meaning
Share Transfer Audit refers to the verification of transfer of ownership of shares from one
person to another, ensuring legality, accuracy, and proper recording.
Objectives of Share Transfer Audit
1. To ensure transfers are genuine and legal
2. To prevent forged or invalid transfers
3. To ensure proper updating of records
4. To safeguard shareholders’ rights
Legal Requirements for Share Transfer
According to Companies Act:
 Properly executed Share Transfer Deed
 Share certificate attached
 Transfer approved by Board of Directors
 Stamp duty duly paid
Auditor’s Duties in Share Transfer
1. Examination of Transfer Deed
Auditor should verify:
 Correctly filled Form
 Signatures of transferor and transferee
 Adequate stamp duty
 Date of execution
2. Verification of Share Certificates
 Check certificate number and distinctive numbers
 Ensure certificates are genuine and cancelled after transfer
3. Board Approval
 Verify minutes of Board meetings
 Ensure transfers are duly authorized
4. Updating Statutory Registers
 Register of Members
 Register of Share Transfers
 Share certificate book
5. Issue of New Share Certificate
 Old certificate cancelled
 New certificate issued within prescribed time
 Proper entries in books
Auditor’s Responsibility
 Auditor is not expected to guarantee title,
 But must exercise reasonable care and professional skepticism
👉 Example:
If forged transfer deed exists and auditor ignores obvious defects, he is liable.
Difference Between Share Capital Audit and Share Transfer Audit
Basis Share Capital Audit Share Transfer Audit
Nature Creation of capital Transfer of ownership
Parties Company & public Transferor & transferee
Impact Changes capital structure No change in capital
 Basis Share Capital Audit Share Transfer Audit
Legal focus Issue & allotment Transfer formalities
AUDIT REPORT
Meaning of Audit Report
According to Dr. Radha, an Audit Report is a formal written statement through which the
auditor communicates the results of his audit examination to the shareholders of the
company.
The audit report expresses the independent opinion of the auditor on the truth and fairness
of the financial statements.
Definition
“An audit report is the opinion of the auditor regarding the correctness and fairness of the
financial statements prepared by the management.”
Importance of Audit Report
1. It is the final product of audit work
2. It gives credibility to financial statements
3. It protects the interest of shareholders
4. It fixes the legal responsibility of the auditor
5. It is essential for statutory compliance
CONTENTS OF AN AUDIT REPORT
An audit report should contain the following essential elements:
1. Title
The report should have a clear title such as:
“Independent Auditor’s Report”
2. Addressee
 Usually addressed to shareholders of the company
 In case of special audit, addressed to the appointing authority
3. Introductory Paragraph
Contains:
 Identification of financial statements audited
 Period covered by the audit
 Responsibility of management and auditor
👉 Example:
“I have audited the Balance Sheet as at 31st March…”
4. Scope of Audit Paragraph
 States that audit was conducted according to generally accepted auditing standards
 Mentions nature and extent of audit procedures
 Assurance of reasonable verification
5. Opinion Paragraph
This is the most important part of the audit report.
The auditor expresses his opinion on:
 True and fair view of financial position
 Profit or loss
 Compliance with Companies Act
6. Other Legal and Regulatory Requirements
Includes:
 Matters required under Companies Act
 CARO reporting
 Observations on books of accounts
7. Signature of the Auditor
 Signed by auditor in his personal name
 Mention of firm registration number
8. Date of the Report
 Indicates completion of audit
 Auditor is responsible for events till this date
9. Place of Signature
 City where audit is completed
TYPES OF AUDIT REPORT
Audit reports are broadly classified into:
I. CLEAN (UNQUALIFIED) AUDIT REPORT
Meaning
A clean audit report is issued when the auditor is satisfied that:
 Accounts give a true and fair view
 No material misstatements exist
 All legal requirements are complied with
👉 Example:
Proper depreciation charged and disclosures made.
II. QUALIFIED AUDIT REPORT
Meaning
Issued when auditor disagrees with certain aspects of accounts but effect is not pervasive.
Reasons for Qualification
 Inadequate provision for depreciation
 Non-valuation of closing stock
 Non-compliance with accounting standards
👉 Example:
Depreciation not provided on machinery.
III. ADVERSE AUDIT REPORT
Meaning
Issued when financial statements do not present a true and fair view due to material and
pervasive misstatements.
Circumstances
 Fundamental accounting principles ignored
 Serious misrepresentation of facts
👉 Example:
Overstatement of profits intentionally.
IV. DISCLAIMER OF OPINION
Meaning
Auditor refuses to express an opinion due to lack of sufficient evidence.
Reasons
 Incomplete books of accounts
 Management restriction on audit scope
 Destruction of records
👉 Example:
Books destroyed due to fire.
V. STATUTORY AUDIT REPORT
Meaning
Audit report issued under statutory requirement of Companies Act.
VI. SPECIAL AUDIT REPORT
Meaning
Prepared for a specific purpose such as:
 Investigation
 Bank loan
 Government requirement
DIFFERENCE BETWEEN QUALIFIED & ADVERSE REPORT
Basis Qualified Report Adverse Report
Effect Limited Pervasive
Opinion Partly favourable Unfavourable
Reliability Mostly reliable Not reliable
AUDITOR’S RESPONSIBILITY REGARDING AUDIT REPORT
 Auditor must exercise due care and professional judgment
 Report must be clear, precise and complete
 Misleading report may attract legal liability
Qualifications in Auditor’s Report
Meaning of Auditor’s Qualification
A qualification in the auditor’s report refers to any reservation, objection, or adverse
remark made by the auditor when the financial statements do not present a true and fair
view or when the auditor is unable to obtain sufficient and appropriate audit evidence.
👉 If the auditor is satisfied in all respects, an unqualified (clean) report is issued.
👉 If not, the auditor expresses a qualified opinion.
Need for Qualifications
An auditor qualifies the report when:
1. Proper books of accounts are not maintained
2. Auditor is unable to obtain sufficient audit evidence
3. Accounting standards are not followed
4. There is material misstatement in accounts
5. Information or explanations required are not provided
Nature of Qualifications
Qualifications may relate to:
 Profit or loss
 Assets and liabilities
 Disclosure of information
 Scope of audit
 Compliance with law
Types of Qualifications in Auditor’s Report
1. Qualification Due to Limitation of Scope
Occurs when the auditor is prevented from obtaining audit evidence.
Examples:
 Non-verification of stock
 Non-confirmation of debtors
 Inaccessibility to records
📌 Auditor states that accounts are true and fair except for the limitation.
2. Qualification Due to Non-Compliance with Accounting Standards
When mandatory accounting standards are not followed.
Example:
 Depreciation not provided as per prescribed rates
  Valuation of inventory not as per accounting standards
3. Qualification Due to Uncertainty
When the outcome of an event is uncertain.
Examples:
 Pending legal cases
 Disputed tax liabilities
📌 Auditor mentions uncertainty and its possible financial impact.
4. Qualification Due to Disagreement
Arises when auditor disagrees with management.
Examples:
 Improper valuation of assets
 Incorrect recognition of revenue
5. Qualification Due to Inadequate Disclosure
When required information is not disclosed.
Examples:
 Non-disclosure of contingent liabilities
 Related party transactions not disclosed
Manner of Making Qualifications
According to practical auditing principles:
1. Qualification should be clear and precise
2. Should specify nature and extent of impact
3. Must be supported by facts
4. Should be expressed in unambiguous language
5. Material effect should be quantified wherever possible
Legal Provisions
 Auditor must report whether accounts give a true and fair view
 Qualifications must be clearly stated in the auditor’s report
 Auditor is legally responsible for misleading or vague qualifications
Effect of Qualifications
1. Reduces credibility of financial statements
2. Alerts shareholders and stakeholders
3. May affect company’s goodwill
4. Protects auditor from legal liability
Provisions of the Companies Act, 1956 Regarding the Contents of
Auditor’s Report
Introduction
Under the Companies Act, 1956, the auditor of a company is under a statutory obligation to
prepare and submit a report to the shareholders after examining the books of accounts.
Section 227 of the Act lays down the powers, duties and contents of the auditor’s report.
The auditor’s report acts as a medium of communication between the auditor and the
shareholders.
Section 227(2): Main Contents of Auditor’s Report
According to Section 227(2), the auditor shall make a report to the members of the company
stating:
1. True and Fair View
The auditor must state whether:
 The Balance Sheet gives a true and fair view of the state of affairs of the company.
 The Profit and Loss Account gives a true and fair view of the profit or loss for the
year.
📌 This is the most important responsibility of the auditor.
2. Proper Books of Accounts
The auditor must report whether:
 Proper books of accounts as required by law have been kept by the company.
 Proper returns have been received from branches not visited by him.
3. Agreement of Accounts
The auditor must state whether:
 The Balance Sheet and Profit & Loss Account are in agreement with the books of
accounts.
4. Compliance with Accounting Standards
The auditor must report whether:
 Financial statements comply with the Accounting Standards referred to in Section
211(3C).
 Any deviation has been properly disclosed and explained.
Section 227(3): Specific Matters to be Reported
Under this section, the auditor must state:
(a) Information and Explanations
Whether the auditor has:
 Obtained all information and explanations necessary for the audit.
(b) Proper Books of Account
Whether:
 Proper books of account have been kept as required by law.
(c) Branch Audit
Whether:
 Branch audit reports have been received and properly dealt with.
(d) Agreement with Books
Whether:
 Balance Sheet and Profit & Loss Account agree with the books and returns.
(e) Accounting Standards
Whether:
 Financial statements comply with accounting standards.
(f) Disqualification of Directors
Whether:
 Any director is disqualified from being appointed as director under Section 274(1)(g).
Section 227(4A): Reporting on Matters Specified by Central
Government
The Central Government may require the auditor to report on specific matters.
This led to the introduction of CARO (Companies Auditor’s Report Order).
📌 The auditor must include a statement on matters such as:
 Fixed assets
 Inventory
 Loans and advances
 Internal control system
 Statutory dues
Section 227(1A): Duty to Inquire
The auditor must inquire into matters such as:
1. Whether loans and advances are properly secured
2. Whether transactions are prejudicial to company interests
3. Whether assets are represented merely by book entries
4. Whether personal expenses are charged to revenue
📌 If any adverse findings arise, they must be reported.
Form and Signing of Auditor’s Report
 Report must be in writing
 Must be signed and dated by the auditor
 Must mention place of signature
 If firm of auditors, partner signs on behalf of the firm
Importance of These Provisions
According to Dr. Radha, these provisions:
1. Ensure transparency in corporate reporting
2. Protect shareholders’ interests
3. Fix legal responsibility on auditors
4. Enhance reliability of financial statements