A friend says, “You need an audit,” but is that true? Audits can be expensive, so are there other less costly options? The answer is yes, in some cases.
This article explains how you can determine the accounting service you need without excess cost. Below we explain what we do in each service and how that affects pricing. This article is for individuals (e.g., small business owners) or organizations (e.g., nonprofits, governments) with financial statements.
Financial Statements, Accounting Services, and Stakeholders
Lenders often request comfort from a CPA. They want assurance that your numbers are accurate and that comfort can come from audits or reviews. Depending on your business and loan risk, some banks do not need formal assurance services from a CPA. Lenders may, in some cases, accept nonassurance reports such as compilations or preparation of financial statements.
Of course, parties other than lenders may desire financial statement assurance. That could be you (the owner of the business), or it might be your board. Sometimes grantor agencies require audits or review reports.
So, consider who you will give your financial statements to as a first step. These stakeholders will determine which service you need.
Also, consider if there are any legal or regulatory requirements regarding your financial statements. For instance, you may have a loan agreement that requires an audit, or a state law might require a particular type of attest service.
Here are examples of accounting services and assurance levels:
- Audits – High assurance
- Reviews – Moderate assurance
- Compilations – No assurance
- Preparation of Financial Statements – No assurance
As you would expect, the higher the assurance, the higher the price. Audits are the most expensive option, and preparations are the least costly.
There’s no need to pay for an audit if it’s not necessary. So, when is an audit needed? Lenders often require audits as a part of their loan processes. The more risky your loans are, the more bankers will want assurance that your financial statements are correct.
If your bank loans you $50,000 for a car and they have sufficient collateral (your vehicle), then they don’t need an audit of your business or assets. But if, for example, you borrow $20 million and the collateral is your business trade receivables, the lender will usually want assurance that your company’s numbers are correct.
In an audit, you provide your company records to the CPA, who performs tests to determine if the amounts and disclosures are appropriate. Those procedures might include
- agreeing payments in your general ledger to invoices or bills sent to customers
- confirming bank accounts with banks
- counting inventory at year-end
- comparing current year balances with the prior year to see if they appear appropriate
- comparing collections in the month after year-end with receivable balances
- reviewing your internal controls to plan the audit (if controls are weak, the auditor will generally perform more test work; we usually do not provide internal control assurance)
When done, the auditor issues an audit opinion to say whether the numbers (e.g., balance sheet) and disclosures (narrative information supporting the numbers) are materially correct. When records are materially correct, auditors issue an unmodified opinion. In other words, we (your CPA firm) are saying your numbers are, in our view, materially correct.
How does that help?
The banker has greater faith in your company’s financial statements, which can save you money in terms of lower interest rates.
So, what do lenders desire from your business? Mainly repayment of the loan. If your audited financial statements reflect healthy profits and cash flows, bankers are more comfortable loaning you funds. Bankers may also consider your balance sheet if you pledge assets as collateral.
So, what does all this mean?
A healthy business + comfort (audit opinion) = A successful loan
We are speaking, of course, in general terms, and we can’t say what your banker will do. But you see how audits help you obtain and retain loans.
As we said earlier, other third parties, such as grantor agencies, may require audits. Or your board may want assurance that the financial statements are accurate. For governments, state law often requires audits by CPAs.
But do third parties, management, or your board always need audits? No.
We can provide comfort to third parties at a lesser cost than audits with a review engagement.
CPAs don’t do as much work in review engagements. A review report doesn’t say your financial statements are fairly stated, as an audit opinion does. A review report does, however, say we (the CPA firm) don’t know of any necessary material financial statement modifications. In other words, we are not aware of any required changes.
The basis for the review report consist of the following:
- Comparisons of numbers (for example, comparing current year numbers with the last two years)
- Inquiries (e.g., we might ask, for example, how your sales went up 8% in the current year)
Detailed audit testing is generally not done in a review engagement. Thus, the cost of a review engagement is usually less than an audit.
But what if no one needs assurance? For example, what if you don’t have business loans and only need assistance with your financial statements?
Compilations are less costly than review engagements.
A compilation service usually includes:
- Our assistance in creating your financial statements
- We read those financial statements to see if they appear to be appropriate
Notice we don’t test the numbers. We help you put the financial statements together and then read them. A compilation might be a good option if you own a small business without significant loans.
We do issue a compilation report in a compilation engagement. That report is on our letterhead, and our firm signs it. A compilation is, however, a nonassurance service; we say–in the compilation report–we do not assure anyone.
But what if you don’t need a compilation report?
4. Preparation of Financial Statements
The last option, the least costly, is a preparation of financial statements. In this engagement, we create your financial statements based on your records, but we do not issue a report. There is no audit, review, or compilation report. We just create your financial statements.
We must say that “no assurance is provided” regarding the financial statements. We provide this language on each financial statement page or in a disclaimer that precedes the financial statements.
What Assurance or Nonassurance Service do you need?
Let’s discuss your options to see what is best for you. We prepare thousands of financial statements each year and have been in business for over eighty years–so we know how to help you.
Ultimately, you will need to decide on the type of engagement you desire, but we can advise you.
Call and ask to speak with one of our partners at 478-746-6277.