HKSA 705 - Modifications to the Opinion (Condensed)

1. Introduction and Scope (Para. 1-2)

Introduction and Scope

Purpose

HKSA 705 (Revised) deals with the auditor's responsibility to issue an appropriate report when a modification to the auditor's opinion on the financial statements is necessary.

Key Scope Elements

• Addresses how the form and content of the auditor's report is affected when the auditor expresses a modified opinion.
• All reporting requirements in HKSA 700 (Revised) continue to apply unless explicitly addressed or amended by HKSA 705.
• Effective for audits of financial statements for periods ending on or after 15 December 2016.

2. Types of Modified Opinions (Para. 3-6)

Types of Modified Opinions

Three Types

Decision Factors

1. Nature of the matter: Whether financial statements are materially misstated OR inability to obtain sufficient appropriate audit evidence.
2. Pervasiveness: Auditor's judgment about the effects or possible effects on the financial statements.

3. Definitions and Objective (Para. 3-4)

Definitions and Objective

Pervasive

Effects on the financial statements that, in the auditor's judgment:

• (i) Are not confined to specific elements, accounts or items of the financial statements
• (ii) If so confined, represent or could represent a substantial proportion of the financial statements
• (iii) In relation to disclosures, are fundamental to users' understanding of the financial statements

Modified Opinion

A qualified opinion, an adverse opinion or a disclaimer of opinion on the financial statements.

Objective

The objective of the auditor is to express clearly an appropriately modified opinion when:

• (a) The auditor concludes that the financial statements as a whole are not free from material misstatement
• (b) The auditor is unable to obtain sufficient appropriate audit evidence to conclude that the financial statements as a whole are free from material misstatement

4. Circumstances Requiring Modification and Determining Type (Para. 5-10)

Circumstances Requiring Modification and Determining Type

Circumstances

The auditor shall modify the opinion when:

• (a) Material Misstatement Exists: Based on audit evidence obtained, financial statements as a whole are not free from material misstatement.
• (b) Inability to Obtain Sufficient Appropriate Audit Evidence: Auditor is unable to obtain sufficient appropriate audit evidence to conclude that financial statements as a whole are free from material misstatement.

Decision Matrix

Qualified Opinion (Para. 7)

Express a qualified opinion when:

• (a) Having obtained sufficient appropriate audit evidence, misstatements are material but not pervasive
• (b) Unable to obtain sufficient appropriate audit evidence, but possible effects could be material but not pervasive

Adverse Opinion (Para. 8)

Express an adverse opinion when: Having obtained sufficient appropriate audit evidence, misstatements are both material and pervasive.

Disclaimer of Opinion (Para. 9-10)

Disclaim an opinion when:

• (Para. 9) Unable to obtain sufficient appropriate audit evidence, and possible effects could be both material and pervasive
• (Para. 10) In extremely rare circumstances involving multiple uncertainties, even though sufficient appropriate audit evidence obtained for each individual uncertainty, it is not possible to form an opinion due to potential interaction of uncertainties

5. Management-Imposed Limitations After Engagement Acceptance (Para. 11-14)

Management-Imposed Limitations After Engagement Acceptance

Step 1 (Para. 11)

Request management to remove the limitation.

Step 2 (Para. 12)

If management refuses:

• Communicate the matter to those charged with governance
• Determine whether alternative procedures can obtain sufficient appropriate audit evidence

Step 3 (Para. 13)

If unable to obtain sufficient appropriate audit evidence:

Step 4 (Para. 14)

If auditor withdraws, communicate to those charged with governance any matters regarding misstatements identified during the audit that would have given rise to a modification.

6. Adverse Opinion or Disclaimer of Opinion – Additional Considerations (Para. 15, A16)

Adverse Opinion or Disclaimer of Opinion – Additional Considerations

Para. 15

When expressing an adverse opinion or disclaiming an opinion on the financial statements as a whole, the auditor's report shall not also include an unmodified opinion with respect to the same financial reporting framework on a single financial statement or specific elements.

Exceptions that would NOT contradict (Para. A16)

• Unmodified opinion on financial statements under one framework AND adverse opinion on same financial statements under a different framework
• Disclaimer of opinion regarding results of operations and cash flows AND unmodified opinion regarding financial position

7. Form and Content of Modified Auditor's Report (Para. 16-29)

Form and Content of Modified Auditor's Report

Opinion Section Headings (Para. 16)

Qualified Opinion Wording (Para. 17)

For material misstatement: 'except for the effects of the matter(s) described in the Basis for Qualified Opinion section'

For inability to obtain sufficient appropriate audit evidence: 'except for the possible effects of the matter(s)...'

Adverse Opinion Wording (Para. 18)

'because of the significance of the matter(s) described in the Basis for Adverse Opinion section'

Disclaimer of Opinion Wording (Para. 19)

The auditor shall:

• (a) State that the auditor does not express an opinion on the accompanying financial statements
• (b) State that, because of the significance of the matter(s), the auditor has not been able to obtain sufficient appropriate audit evidence to provide a basis for an audit opinion
• (c) Amend the statement required by HKSA 700 (Revised) para. 24(b) to state that the auditor was engaged to audit the financial statements

Basis for Opinion Section (Para. 20-27)

Heading Amendments (Para. 20): 'Basis for Qualified Opinion', 'Basis for Adverse Opinion', 'Basis for Disclaimer of Opinion'

Content Requirements:

• For material misstatement of specific amounts (Para. 21): Include description and quantification of financial effects; if not practicable to quantify, state that fact.
• For material misstatement of qualitative disclosures (Para. 22): Include explanation of how disclosures are misstated.
• For non-disclosure of required information (Para. 23): (a) Discuss non-disclosure with those charged with governance; (b) Describe nature of omitted information; (c) Unless prohibited by law/regulation, include omitted disclosures if practicable and sufficient appropriate audit evidence obtained.
• For inability to obtain sufficient appropriate audit evidence (Para. 24): Include reasons for the inability.
• For qualified or adverse opinion (Para. 25): Amend statement about audit evidence to include word 'qualified' or 'adverse'.
• For disclaimer of opinion (Para. 26): Shall NOT include: Reference to section where auditor's responsibilities are described; Statement about whether audit evidence obtained is sufficient and appropriate.
• Even with adverse opinion or disclaimer (Para. 27): Describe reasons for any other matters that would have required modification.

Auditor's Responsibilities Section for Disclaimer of Opinion (Para. 28)

Include only:

• (a) Statement that auditor's responsibility is to conduct an audit in accordance with HKSAs and to issue an auditor's report
• (b) Statement that, because of the matter(s), auditor was not able to obtain sufficient appropriate audit evidence
• (c) Statement about auditor independence and other ethical responsibilities

Key Audit Matters and Other Information (Para. 29)

When disclaiming an opinion:

• Shall NOT include a Key Audit Matters section (HKSA 701)
• Shall NOT include an Other Information section (HKSA 720 (Revised))
• Exception: Unless required by law or regulation

8. Communication with Those Charged with Governance and Nature of Matters (Para. 30, A3-A12)

Communication with Those Charged with Governance and Nature of Matters

Communication with Those Charged with Governance (Para. 30)

When the auditor expects to modify the opinion, the auditor shall communicate with those charged with governance:

• The circumstances that led to the expected modification
• The wording of the modification

Purpose (Para. A27):

• (a) Give notice of intended modification(s) and reasons
• (b) Seek concurrence regarding facts or confirm matters of disagreement
• (c) Provide opportunity for those charged with governance to provide further information

Nature of Material Misstatements (Application Guidance)

Para. A3: Material misstatements may arise in relation to:

• (a) Appropriateness of selected accounting policies
• (b) Application of selected accounting policies
• (c) Appropriateness or adequacy of disclosures

Appropriateness of Accounting Policies (Para. A4-A5):

• Selected policies not consistent with applicable financial reporting framework
• Financial statements do not correctly describe accounting policy
• Financial statements do not represent underlying transactions to achieve fair presentation
• Non-compliance with requirements for changes in accounting policies

Application of Accounting Policies (Para. A6):

• Inconsistent application between periods or to similar transactions
• Unintentional error in application

Disclosures (Para. A7):

• Not including all required disclosures
• Disclosures not presented in accordance with framework
• Not providing additional disclosures necessary for fair presentation

Nature of Inability to Obtain Sufficient Appropriate Audit Evidence

Para. A8: May arise from:

• (a) Circumstances beyond the control of the entity
• (b) Circumstances relating to nature or timing of auditor's work
• (c) Limitations imposed by management

Para. A9: Inability to perform a specific procedure does NOT constitute a scope limitation if alternative procedures can obtain sufficient appropriate audit evidence.

Examples of circumstances beyond entity's control (Para. A10):

• Accounting records destroyed
• Accounting records of significant component seized indefinitely by governmental authorities

Examples relating to nature/timing of auditor's work (Para. A11):

• Unable to obtain audit evidence about associate's financial information for equity method
• Timing of appointment prevents observation of physical inventory counting
• Controls not effective and substantive procedures alone insufficient

Examples of management-imposed limitations (Para. A12):

• Management prevents observation of physical inventory counting
• Management prevents requesting external confirmations