What is an auditor?
An auditor is a trained professional who examines and verifies a company’s financial records, internal controls, and related information to give an independent view of whether the financial statements fairly reflect the company’s financial position and performance. Auditors help ensure legal and accounting standard compliance and provide assurance to investors, creditors, regulators, and management.
Key takeaways
– An auditor issues an independent report about the reliability of financial statements.
– The most favorable outcome is an unqualified (or unmodified) opinion; a qualified opinion signals limitations or departures from standards.
– External (independent) auditors and internal auditors have different roles and reporting lines.
– Audits provide reasonable—not absolute—assurance; they use judgment, sampling, and materiality thresholds.
– Becoming an external auditor typically requires professional certification (e.g., CPA in the U.S.), education, and experience.
Core terms (definitions)
– Audit trail: the documented sequence of evidence that supports transactions and balances in the financial records.
– Unqualified (unmodified) opinion: the auditor’s statement that the financial statements present fairly, in all material respects, in accordance with the applicable accounting framework.
– Qualified opinion: an auditor’s report that indicates exceptions or scope limitations that are material but not pervasive.
– Reasonable assurance: a high—but not absolute—level of confidence that the audited statements are free from material misstatement.
– CPA (Certified Public Accountant): a professional credential required for most external audit work in the U.S.; state licensing and exam requirements apply.
What auditors do — a concise workflow
1. Acceptance and planning: agree the engagement and set materiality levels, scope, and timetable.
2. Risk assessment: identify areas likely to contain material misstatements.
3. Evidence gathering: inspect documents, test transactions, observe processes, and use sampling.
4. Evaluate controls: examine whether internal controls are adequate to prevent or detect errors/fraud.
5. Reporting: issue an audit report that contains the auditor’s opinion and any
and any other explanatory paragraphs (for example, emphasis-of-matter or other-matter paragraphs) that clarify the basis for the opinion or call attention to specific issues. The auditor may also deliver a management letter with recommendations for control improvements.
Types of audits (brief)
– External audit: an independent audit of financial statements intended for outside stakeholders. Usually performed by a CPA firm and results in a formal audit opinion.
– Internal audit: ongoing checks by a company’s own audit department focused on controls, efficiency, and compliance.
– Forensic audit: focused on investigating fraud or suspected wrongdoing; may be used in litigation.
– Compliance audit: checks adherence to laws, contracts, grants, or specific regulations.
– Operational audit: reviews business processes for efficiency and effectiveness.
– IT audit: assesses information systems, cybersecurity, and IT controls.
Audit opinions — what they mean
– Unmodified (clean) opinion: financial statements present fairly, in all material respects. This is the desired outcome.
– Qualified opinion: except for a specific issue (material but not pervasive), statements are fair. The opinion includes a description of the qualification.
– Adverse opinion: statements are materially misstated and misleading (material and pervasive). This is a serious negative conclusion.
– Disclaimer of opinion: auditor cannot obtain sufficient evidence to form an opinion (scope limitation) and therefore disclaims an opinion.
How to read an audit report — quick checklist
1. Title and addressee: confirms independence and intended readers.
2. Opinion paragraph: the auditor’s conclusion about fairness.
3. Basis for opinion: references standards followed and summarizes evidence-gathering.
4. Key audit matters (if applicable): matters of most significance in the audit (common in IFRS reports).
5. Responsibilities: distinguishes management’s responsibilities from the auditor’s.
6. Signature, firm name, and date: indicates when fieldwork was completed.
7. Other paragraphs: emphasis-of-matter, other-matter, going concern, or explanatory language.
Worked numeric example — materiality and impact
Assumptions:
– Company A: revenue = $10,000,000; pre-tax profit = $1,000,000; total assets = $8,000,000.
Common approaches to set overall materiality (these are judgmental rules of thumb):
– Profit-based: 5% of pre-tax profit = 0.05 × $1,000,000 = $50,000.
– Revenue-based: 0.5% of revenue = 0.005 × $10,000,000 = $50,000.
– Asset-based: 1% of total assets = 0.01 × $8,000,000 = $80,000.
Example consequence:
– If the auditor sets materiality at $50,000 and aggregate discovered misstatements total $60,000, management must correct or the auditor will normally consider that the financial statements are materially misstated and may modify the opinion.
Limitations auditors will state
– Reasonable, not absolute, assurance—audits use judgment, testing, and sampling, so some misstatements can remain undetected.
– Fraud detection is difficult—especially when management overrides controls.
– Reliance on representations—auditors often rely on written management representations, which are not a substitute for evidence.
– Scope restrictions—if management limits access to records, the auditor may issue a qualified opinion or disclaimer.
Auditor independence and ethics (high level)
– Independence means neither financial nor other relationships impair objectivity.
– Professional ethics require competence, due care, confidentiality, and professional skepticism (a questioning mind and awareness of bias).
Practical checklist for a small company preparing for an external audit
– Finalized trial balance and general ledger with explanatory notes.
– Bank reconciliations and confirmation letters ready for banking relationships.
– Accounts receivable subledger and aged receivables, with evidence of subsequent cash receipts.
– Accounts payable subledger and confirmations for selected vendors.
– Fixed-asset register with acquisitions, disposals, depreciation schedules, and supporting invoices.
– Payroll summaries, tax filings, and employee benefit documentation.
– Inventory counts (if applicable) and valuation method documentation.
– Copies of major contracts, leases, loan agreements, and board minutes.
– Documented internal controls and any recent changes to processes.
– Contact information for lawyers and a summary of any litigation or contingencies.
Common red flags auditors look for
– Missing or delayed reconciliations (bank, inventory, intercompany).
– Significant related-party transactions lacking transparent documentation.
– Large or unusual journal entries around period end.
– Management resistance to providing requested evidence.
– Rapid or unexplained revenue growth or margin changes.
– Lack of segregation of duties in key financial processes.
Skills and qualifications for auditors
– Technical accounting knowledge (GAAP/IFRS, tax basics).
– Understanding of audit standards (AICPA generally accepted auditing standards in the U.S.; PCAOB standards for public companies).
– Analytical skills, sampling methods, and IT literacy.
– Communication skills to write findings and discuss issues with management and governance.
Practical tips for readers of financial statements
– Read the auditor’s opinion first—any modification is a material red flag.
– Compare prior-year opinions and changes in key audit matters.
– Look at the auditor’s report date to ensure it is after year-end and covers the full period.
– Check for any going-concern emphasis if the auditor questions the entity’s ability to continue.
Sources and further reading
– Public Company Accounting Oversight Board (PCAOB) — Standards and guidance: https://pcaobus.org
– American Institute of CPAs (AICPA) — Auditing standards and resources: https://www.aicpa.org
– U.S. Securities and Exchange Commission (SEC) —
https://www.sec.gov
– International Auditing and Assurance Standards Board (IAASB) — International standards on auditing and guidance: https://www.iaasb.org
– Financial Reporting Council (FRC) — U.K. regulator with auditing and corporate governance resources: https://www.frc.org.uk
– International Federation of Accountants (IFAC) — Global organization for the accountancy profession: https://www.ifac.org
Educational disclaimer: This information is for educational purposes only and does not constitute individualized investment, accounting, or legal advice. Verify standards and regulations relevant to your jurisdiction before making decisions.