What Is an Audit?
- Alan D. Bowers, Jr.
“Your organization needs a financial statement audit.”
If you’ve recently heard those words for the first time, you’re likely a bit nervous. But don’t be scared. Once you know exactly what it is, an audit holds far less power to frighten you.
When it comes to finances, an audit is an independent examination of your business’s financial statements, in which auditors seek to determine whether there are any material misstatements and whether the financial statements conform to your company’s chosen reporting framework.
To better understand what this means for your business, let’s break this definition down into more manageable pieces:
Annual financial statement audits provide assurance to lenders, investors, and other stakeholders that the information presented in the financial statements (balance sheet, income statement, statement of cash flows) fairly reflects the financial position of the organization. To ensure the examination is done reliably and ethically, financial statement audits must be performed by an independent CPA. This independence gives credibility to the auditors’ work so that they can issue an opinion on how fairly the financial statements reflect the financial position of the business.
When you receive your auditor’s report, you will see one of four types of audit opinions:
The financial statements present fairly, in all material respects, the financial position of the business. Also known as a clean opinion.
The financial statements contain a deviation from GAAP or a limitation to the audit procedures performed, but the issues are not pervasive and the financial statements are fairly presented with the exception of the specified area.
The auditors provide no opinion related to the financial statements.
The financial statements do not fairly present the financial position of the business.
Most stakeholders will only accept an unmodified opinion. Anything less tells them that your business’s financial position, as reflected in your financial statements, isn’t fully trustworthy.
To get that coveted “clean” auditor’s opinion, you must give your auditors evidence that the financial statements present fairly in all material respects the financial position of the company.
Because auditors cannot reasonably be expected to verify all the balances and transactions that flow into your financial statements, they focus their efforts on auditing balances they consider to be material or substantial. And to test those balances, they look at a sample of transactions to determine whether there are any material misstatements.
A material misstatement is any balance on (or omission from) the financial statements that could mislead investors and other stakeholders. If a third party’s reliance on that misstatement could impact their decision, the misstatement is considered material.
A reporting framework is a set of rules a company uses to determine when and how to disclose information on the financial statements. Using a standard reporting framework provides insight and transparency into your financial position. It helps stakeholders compare your company’s financial results year over year, and it also helps them see how you stack up against your competitors.
The most common reporting framework used by businesses in the U.S. — and the one required for most publicly traded entities — is the Generally Accepted Accounting Principles (GAAP). Organizations in other parts of the world might follow International Financial Reporting Standards (IFRS).
An audit is only one type of attestation service provided by a CPA. Of the three main types of services performed by auditors (which you can read more about in this chart), financial statement audits lend the highest degree of credibility to the financial statements.
Even though most privately held companies aren’t required to obtain financial statement audits for regulatory compliance, many choose to get one, or are encouraged by a third party to get one. A lender, for example, may have been satisfied with reviewed financial statements in the past, but if you seek to purchase a building, they will likely require a full-fledged audit. Or perhaps your state has passed a new law, such as the 2022 Florida law requiring skilled nursing facilities to submit audited financials to the state Medicaid agency each year.
Remember: A financial statement audit conducted by an independent CPA is far more than a simple compliance requirement. It lends credibility to your organization’s financial statements, providing access to the capital your organization needs to grow and thrive.
Whether it’s time for your first audit, or you’ve been around the block a time or two, we can help. Call your CRI CPAs.
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