What your company should know before making the transition
A lender requests audited financial statements. A potential investor wants greater assurance about your financial results. Or your company is preparing for a transaction that brings new reporting expectations. For a growing business, these situations can prompt an important question: Is it time to move from a financial statement review to an audit?
An audit provides a higher level of assurance, but the transition involves more than a different report. It requires additional supporting evidence, earlier planning, and more involvement from your accounting team. Understanding those changes can help you prepare for a smoother first audit.
Financing requirements are a common reason to make the transition. Banks, investors, private equity firms, and bonding companies may require or prefer audited financial statements. An audit may also support due diligence during a merger, acquisition, or ownership transition.
As operations become more complex, owners and boards may seek greater confidence in financial reporting. The audit process may identify control gaps or opportunities to improve reporting processes, although an audit does not ordinarily provide an opinion on the effectiveness of internal controls.
A review provides limited assurance, primarily through inquiries and analytical procedures. Detailed testing of transactions and balances is not ordinarily performed, although additional procedures may be necessary when questions arise.
An audit provides reasonable, rather than absolute, assurance that the financial statements are free from material misstatement due to fraud or error. Auditors assess risks and gather evidence to support an independent opinion on the financial statements. Their work may include inspecting records, observing inventory counts, obtaining third-party confirmations, and testing selected transactions and balances.
That additional work generally means a longer timeline, higher fees, and a greater time commitment from management. The extent of the work depends on your organization, its risks, and the applicable financial reporting framework.
More documentation and support. Expect requests for reconciliations, contracts, invoices, account schedules, and support for significant estimates. Schedules should agree to the trial balance, and your team should be able to explain the assumptions and calculations behind key accounting judgments.
Discussions about processes and controls. Auditors will obtain an understanding of relevant controls and evaluate their design and implementation. Your team may walk through how transactions are initiated, approved, recorded, and reviewed. Existing process narratives, flowcharts, and evidence of approvals can help. Whether auditors test the operating effectiveness of controls depends on the audit approach and assessed risks.
Revenue and journal entry testing. The audit team will evaluate revenue recognition and test selected transactions, including activity around year-end. Be prepared to provide customer agreements, invoices, and evidence of delivery or services performed. Auditors also test journal entries as part of addressing the risk of management override of controls, so complete general-ledger data and supporting records need to be accessible.
Coordination beyond the accounting department. Auditors may request confirmations from banks, customers, lenders, or legal counsel. When inventory is material, auditors generally attend physical inventory counting unless attendance is impracticable. Discuss count dates, locations, and inventory held by third parties early. If a service provider processes transactions relevant to financial reporting, the audit team may also request a SOC 1 report and evaluate whether additional procedures are needed.
Follow-up after fieldwork. Requests may continue through the report date as auditors address subsequent events, financial statement disclosures, and unresolved questions. Keep key personnel available and communicate significant developments promptly.
One of the most important differences in a first audit is the work on beginning balances. Because the prior-year financial statements were reviewed rather than audited, the audit team will need additional evidence about balances carried into the current year. Prior-year financial statements, trial balances, reconciliations, and supporting records should be available.
Beginning inventory deserves particular attention. If the prior-year physical count was not observed, additional procedures may be necessary. Discuss this with your auditor as early as possible so the team can assess the available evidence and plan its approach.
If prior-year financial statements will appear alongside the current year, confirm which periods will be presented. Previously reviewed comparative information may affect the procedures performed and the wording of the auditor’s report.
When sufficient evidence is unavailable, additional procedures may be needed, reporting may be delayed, or the auditor’s opinion may need to be modified. Early discussions help identify these issues before a reporting deadline is approaching.
Begin by confirming the reporting requirements, periods to be presented, and delivery deadline with the parties requesting the audit. Then meet with your audit team to establish the schedule and identify procedures that need to occur before year-end.
Internally, designate a point person to coordinate requests and make sure process owners are available. Prioritize reconciled balance sheet accounts, organized supporting records, documented accounting policies and controls, and the ability to export complete general-ledger and subledger data. Build additional time into your first-year schedule for opening-balance work and follow-up questions.
Management remains responsible for the financial statements, internal controls, and complete and accurate information. An audit does not guarantee that every error or instance of fraud will be detected. Clear responsibilities and realistic expectations help everyone prepare for the engagement.
Moving from a review to an audit is a significant change in your financial reporting process. Preparing early gives your team time to organize records, address documentation gaps, and coordinate procedures that could otherwise delay the report.
If your company is considering its first audit, contact Meaden & Moore to discuss your reporting needs, timing, and preparation for the transition.