Written by Part 4 of 4 of Getting Through Your First Audit
Congrats, you are close to the finish line with your first official audit. It’s time to review the draft of the audit report. The report outline will typically follow this format (you will probably memorize it soon):
- Title and Addressee: The report starts with a title indicating that it is an “Independent Auditor’s Report” or a similar term. It’s addressed to the company’s board of directors, shareholders, and other relevant parties.
- Introductory Paragraph: This paragraph identifies the audited financial statements, including the balance sheet, income statement, cash flow statement, and any accompanying notes.
- Management’s Responsibility: This section outlines the (Your) management’s responsibility for the financial statements, including their preparation and presentation according to the applicable financial reporting framework (e.g., GAAP/IFRS).
- Auditor’s Responsibility: This part describes the auditor’s responsibility for performing the audit in accordance with auditing standards. It states that the audit was planned and performed to obtain reasonable assurance that the financial statements are free from material misstatement.
- Opinion on Financial Statements: The heart of the audit report is the auditor’s opinion on the financial statements. There are several types of opinions that can be issued:
- Unqualified Opinion (Clean Opinion): This is what you want, a favourable opinion, indicating that the financial statements are presented fairly and in all material respects in accordance with the applicable financial reporting framework.
“In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Your Company as of [Date], and the results of its operations and its cash flows for the year in accordance with [applicable financial reporting framework (GAAP)].”
- Qualified Opinion: This opinion is issued when the auditor identifies a specific issue or limitation in the financial statements. It’s not good but the issue does not pervasively affect the overall presentation of the statements.
- Adverse Opinion: An adverse opinion is issued when the auditor determines that the financial statements are materially misstated and do not present the financial position, results of operations, or cash flows in accordance with the applicable financial reporting framework. This is bad news.
- Disclaimer of Opinion: This opinion is given when the auditor is unable to express an opinion due to significant limitations on the scope of the audit or a lack of sufficient evidence. This means more headaches to come.
Other Important Sections
- Basis for Opinion: This section explains the procedures performed during the audit, including assessing internal controls, testing transactions, and evaluating the appropriateness of accounting policies.
- Other Reporting Responsibilities: If applicable, the audit report may include additional sections related to the auditor’s responsibilities regarding other regulatory or legal requirements, such as reporting on internal controls over financial reporting.
- Signature and Date: The report is typically signed by the audit firm and dated. The signature reaffirms the independence and accountability of the audit firm.
- Auditor’s Address and Registration Number: The report includes the address of the audit firm and its registration or license number as required by relevant regulations.
- Auditor’s Opinion Date: This is the date when the auditor has gathered enough evidence to form their opinion on the financial statements.
Review the Draft Audit Report
Carefully review the draft audit report provided by the audit firm before it becomes official. Ensure that all audit findings, recommendations, and conclusions accurately reflect the information shared during the audit.
Ruh Roh: If you get a Qualified Opinion
- What Happened?: Dont panic. Carefully review the audit report to understand the specific reason for the qualification. The auditor should provide clear details about the nature of the issue and how it impacts the compliance for finance.
- Evaluate Materiality: Assess whether the issue that led to the qualification is material. Consider the significance of an item or issue in relation to the financial statements as a whole. If the issue is not material, its impact on users of the financial statements might be considered immaterial.
- Review Auditor’s Findings: Engage in discussions with the audit firm to better understand the findings and the basis for the qualification. This can help you determine the implications of the qualification and potential actions to address it.
- Rectify the Issue: If the qualified opinion is related to a specific accounting treatment, disclosure, or financial statement element, make the appropriate adjustments to address the issue. This might involve unfortunately restating financial figures or providing additional disclosures.
- Amend Financial Statements: Work with the audit firm to revise and reissue the financial statements with the necessary adjustments and disclosures. The goal is to correct the issue that led to the qualification.
- Communicate with Stakeholders: If the qualified opinion is likely to affect stakeholders’ perceptions of the company’s financial health or performance, consider communicating the situation transparently. This might involve issuing a press release, holding a conference call (hopefully not), or engaging in other forms of communication to provide context and explain the steps being taken to address the qualification.
- Prevent Recurrence: Evaluate why the issue that led to the qualified opinion occurred in the first place. Implement better internal controls, improved accounting policies, or other measures to prevent a similar issue from happening again in the future.
- Monitor Progress: Keep track of the progress of addressing the qualified opinion and ensure that the necessary corrections are implemented in a timely manner.
- Consult Other Professionals: If the qualification involves complex accounting standards or interpretations, consider seeking advice from additional accounting experts and your legal team to ensure that the proposed corrective actions are appropriate and compliant with relevant regulations.
The Going Concern
Cash, Customers and Churn (the 3 C’s to Avoid Being a Going Concern)
We’ve seen a lot when it comes to companies becoming going concerns and auditors have a job to do to flag these problems. To avoid problems we stick to the importance of having cash in the bank (enough runway to the next round of financing), Customers (revenues and expanding growth), and minimizing churn (I’ve seen major product problems or competitive pricing pressures accelerate churn).
Investor slides always show a chart up and to the right and financial plans are typically more optimistic than they should be. Be methodical, have some cushion, and document the process for auditors so that they have a good view of the financial health of your company. WeWork was a $ 40 billion company which is now a going concern.
Many Companies Make it Through Going Concerns, Some Don’t
Rental-car company Hertz Global Holdings Inc., restaurant and entertainment firm Dave & Buster’s Entertainment Inc. and cruise operator Norwegian Cruise Line Holdings Ltd. were among the companies that issued such notices a few years ago. Hertz filed for bankruptcy about two weeks after disclosing a warning, but Dave & Buster’s and Norwegian didn’t. Truck startup Lordstown Motors Corp. earlier said it might not have enough cash to start production, which triggered a management reshuffle. Here are some Chapter 11 filings, not to scare you or anything.
Concluding Thoughts on Your Audit
Post the audit report, do some wrap-up learning with your team. Get your executive director’s impression of the auditors and the process. Were the auditors efficient, or did they perform or require redundant work and a lot of back and forth? Did they demonstrate the requisite expertise, skills and understanding? Did the senior auditor just hand off the work to junior members? Were they disruptive to operations or work in the background? Auditors are running a business too so it’s a balance of having a good relationship without the billing hours getting out of whack.
Consider all the input when deciding whether to retain the same firm for the next one. Usually, it’s an ongoing relationship so you don’t want to constantly swap our auditors, this causes too much disruption. In addition to feedback, the team will have suggestions on how to streamline the process for the next engagement (which typically will expand in scope and cost).
Good luck!
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