There are a few different reports that a CPA can issue along with financial statements: Audit, Review, and Compilation. These types of reports will depend on what the client needs. By law, all publicly held companies must have audited financial statements. Privately held companies can use reviewed or compiled financial statements for many purposes. Sometimes, a bank or other credit lenders will require submission of audited or reviewed financial statements for any company that they are considering doing business with. The same goes for certain Federal Government procurement vehicles or specific contract RFPs. The differences between the three levels have to do with the amount of scrutiny that the client’s financials undergo in the preparation of the financial statements and the accompanying report. There are also significant differences in time, effort, and cost to consider. Here is an overview of the different types:
In a compilation, the CPA is providing the most basic level of assurance to the financial statements. The accountant reviews the trial balance, and makes adjusting journal entries prior to the financial statement preparation. The financial statements and accompanying report are issued in accordance with AICPA, but contains no assurance from the CPA that they were prepared to conform to GAAP. This is the most common type of report issued for privately-held companies, who often need so such assurance. Footnotes to the financial statements are not required with a compilation, so long as there is a paragraph in the compilation report that states that management has elected to omit the disclosures.
While not at the level of an audit, a review is much more involved than a compilation. The CPA will perform inquiry and analytical procedures, and must remain independent during the engagement. The inquiry and analytical procedures aren’t as involved as those performed during an audit. The accountant states in their reports that they did not become aware of any material modifications that should be made in order for the financial statements to conform to GAAP. This is known as expressing limited assurance. Reviewed financial statements are prepared for third parties such as banks, outside investors, or creditors that require more assurance than a compilation provides, but not audited statements.
Audited financial statements provide the highest level of assurance service a CPA can provide. The CPA performs all of the procedures incorporated in compilation and review engagements, plus also perform additional verification and substantiation procedures. These can include physical inspections of client sites to verify that certain fixed assets actually exist and are in-use, contacting banks to verify account balances, or customers to verify the consummation of a sales transaction. An audit also includes an in-depth review of the client’s internal controls and control risk.
Keep in mind that, no matter the level of assurance given by a CPA, the financial statements are the responsibility of management. Having a quarterly compilation or annual audit done does not replace the importance of proper bookkeeping or client internal controls. There is no such thing as “absolute assurance”; not every error will be detected, even when an audit is performed.
Contributed By: Jeremy Shry