Much like a report card, financial statements offer a comprehensive view of a company's financial health.
The three most common financial statement reports are audits, reviews and compilations. Each report reveals a particular depth of the company's debt, expenses and cash flow. These financial reports often are used by banks, investors, suppliers and sometimes even clients and/or customers.
The main goal of these reports is to assess if the company is profitable, if the debt ratio is too high and to identify potential problems.
What are the differences between these three types of reports?
- Level of assurance. An audit provides the highest level of assurance, the compilation provides no assurance, and the review is somewhere between the two reports.
- Reliance on management. In all three cases, the auditor begins with the account balances that the company's officers provide.
- Internal control. The auditor only tests the internal controls of the client in an audit; no testing is conducted for a review or a compilation.
- Time and cost. Because an audit requires a significant number of hours to complete, and there are many audit procedures to be performed, it is the most expensive report. A review requires substantially fewer hours, while the effort associated with a compilation is relatively minor.
Compilation: Presenting the financial statement
A compilation is the lowest level of assurance that an accountant can provide. The auditor presents financial statements based on the representations that the company's officers make. There is no analysis or test work performed to substantiate the figures reported on the balance sheet or profit and loss statement, also known as the P&L. And, corrections to misstatements are made only if they are obvious. The CPA auditor does not issue a statement that addresses the reasonableness of the financials.
Review: A closer look without testing
The next level of assurance is the review. In a review the auditor conducts analytical procedures and makes inquiries to ascertain if the information contained within the financial statements is correct. The result is a limited level of assurance that the financial statements presented does not require any material modifications.
Your CPA will report whether or not they found any information in the financial statements that suggested a material misstatement. To complete a review CPAs rely on inquiries and analytics to become comfortable with a company’s financial statements. However, unlike an audit, there is very little testing of transactions, and in some cases there is no testing.
Audit: The detailed overview
The highest degree of assurance over the financial statement comes from an audit. Essentially, the audit report states that the financial statement is free of material misstatements, or in other words the financial statements are presented fairly and conform to the appropriate financial reporting.
To complete an audit, detailed testing on a company’s account balances and transactions is required. Another requirement of an audit is the examination of source documents, third party confirmations, physical inspections, tests of internal controls, and other procedures.
Once the audit is completed an Independent Auditor's Report is provided in addition to a Management Letter. Together these two components offer an evaluation of the company's internal controls, improvement recommendations and significant findings.
Steven Alpinieri CPA, An Accountancy Corporation in La Jolla, offers both tax and audit engagements including audits, reviews and compilations. If you would like to learn more please visit www.sandiegocpasteve.com or call the office at (858) 230-6610.