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Stockholders, creditors, and private investors often need assurance that financial statements accurately represent the true financial position of a company. In addition, state and federal franchise laws require audited financial statements to be included in the UFOC.
A Certified Public Accountant (CPA) can provide different levels of assurance through audited and reviewed financial statements. Audited financial statements offer the highest level of assurance.
Audit – Highest Level of Assurance
An audit provides the highest level of assurance. An audit is a methodical review and objective examination of the financial statements, including verification of specific information as determined by the auditor or as established by general practice.
Our work includes a review of internal controls, testing of selected transactions, and communication with third parties. Based on our findings, we issue a report on whether the financial statements are fairly stated in accordance with generally accepted accounting principles (GAAP) and free of material misstatement.
You get the highest level of assurance, because we go outside your company to obtain more information. Typically, we’ll have written communication with:
- Your customers to check outstanding receivable balances
- Your banks to confirm cash or debt balances and terms
- Your vendors to verify outstanding payable balances
- Your attorneys for information on pending or threatened legal action
We also perform physical inspections by observing your inventory counting methods and perform test counts. We document and test each operating cycle, including sales and cash receipts, expenses and cash disbursements, and payroll. Our audit work papers include a detailed work program to document the examinations and testing performed.
Who is required to have audited financial statements?
All public companies are required to have an annual audit, but some nonpublic entities must undergo an annual audit as well. Franchisors are required to have audited financial statements of the most recent two years in their uniform franchise offering circular (UFOC). Moreover, some financial institutions loan covenants require audits of nonpublic companies based on the financing amount and/or the bank’s assessment of the company’s risk. Also, companies with absentee ownership (such as those owned by investment firms, or individuals who no longer run the business) may order audits as validation of their management teams.
Review – Limited Assurance
Less extensive than an audit, a review engagement consists primarily of analytical procedures we apply to the financial statements, and various inquiries we make of your company’s management team. If the financial statements or supporting information appear inconsistent or otherwise questionable, we may need to perform additional procedures.
A review doesn’t require us to study and evaluate your company’s internal controls or verify data with third parties or physically inspect assets. Rather, a review report expresses limited assurance in the form of the statement: “We are not aware of any material modifications” for the financial statements to be in conformity with generally accepted accounting principles (GAAP). Reviewed financial statements must include all required footnotes and other disclosures.
Why might a business request a review engagement?
A business might request a review engagement, because it can be a good middle ground, providing the advantages of a CPA’s technical expertise without the work and expense of an audit.
Compilation-No Assurance Provided
A compilation is a service, the objective of which is to assist management in presenting financial information in the form of financial statements without undertaking to obtain or provide any assurance that there are no material modifications that should be made to the financial statements in order for the statements to be in conformity with the applicable financial reporting framework. Although a compilation is not an assurance engagement, it is an attest engagement. In summary, a compilation is the lowest form of financial statement assurance.
Which Report is Right for You?
Each type of financial statement report may suit specific circumstances, depending on requirements from your bank, other parties, as well as your budgetary needs.
Understanding each report’s unique strengths and weaknesses can help you choose the most appropriate one.