There are three main reasons businesses rely on various financial statements:
- To allow investors, creditors, and analysts to evaluate the performance of a company.
- To have the ability to compare companies to each other.
- To use the financial information for trending, forecasting, and other analysis.
The users of financial statements need to know they can rely on the information in the statements. As a result, many users look for specific types of reports on the financial statements which indicate that the statements have a level of assurance over them regarding both their accuracy and the type of information disclosure included in the statements. These types of financial statement reports are known as the Audit and the Review Engagement. Both types of engagements provide assurance of financial information. Understanding the distinctions between Audit and Review Engagements is vital for businesses seeking to meet regulatory requirements, enhance credibility, and make informed decisions.
Here we explain the differences between each and when they are appropriate or necessary, their scope, and the level of assurance provided to stakeholders.
First, let’s look at what an audit means in accounting for businesses.
What Is an Audit Engagement?
An Audit engagement is a rigorous and systematic examination of a company’s financial records, transactions, and internal controls. The primary objective of an audit is to provide the highest level of assurance to stakeholders, assuring that the financial statements present a true and fair view of the company’s financial position and performance.
During an audit, licensed chartered public accountants (CPAs) will conduct extensive testing and verification of financial data. This includes examining supporting documentation, reconciling accounts, assessing the effectiveness of internal controls, and analytical procedures, discussions with management, verification with external parties, and an assessment of accounting policies and their application along with related disclosures.
An audit provides the highest level of assurance to stakeholders such as investors, lenders, and regulatory authorities. The auditor expresses an opinion in the audit report, stating whether the financial statements are in accordance with generally accepted accounting principles and whether the financial statements are materially misstated or not.
Audit engagements are typically required by regulatory authorities for public companies and entities that handle significant public funds. Additionally, businesses seeking to enhance credibility may opt to have an audit performed in situations where the company may be seeking investors, additional financing, anticipating a sale of the company, or for additional regulatory requirements or supplier approvals.
Now that there is a clearer understanding of what an audit engagement is, let’s move forward to understanding what are review engagements in accounting for businesses.
What is a Review Engagement?
A Review engagement is a limited examination of a company’s financial statements, providing a moderate level of assurance to stakeholders. While a Review does not offer the same level of assurance as an audit, it still provides valuable insights into the company’s financial health with a limited level of assurance to users.
During a Review, CPAs perform analytical procedures and inquiries to assess the plausibility of financial data. Unlike audits, reviews do not involve extensive transaction testing or confirmations with external third parties.
A Review provides moderate assurance to stakeholders. The Review still ensures that the financial statements are presented in accordance with generally accepted accounting principles along with the relevant disclosures. In addition, the accountant performing the Review will assess whether the financial statements are materially misstated based on the results of their limited testing.
Review engagements are commonly requested by lenders and creditors for small to medium-sized businesses (SMEs), where the cost of an audit may be prohibitive. Additionally, some private companies may choose reviews to meet the financial reporting needs of their stakeholders since it provides a balance between assurance of their statements and the cost of a full audit.
Key Differences Between Audit and Review Engagements
Depth of examination and verification
The most significant difference between audits and reviews lies in the depth of examination. Audits involve extensive testing and verification, while reviews focus on limited analytical procedures and inquiries. Review engagements can be sufficient where there is a high level of confidence in the existing financial statements.
Level of assurance and reliability of information
Audits provide a higher level of assurance, as the auditor expresses an opinion on the financial statements’ accuracy. In contrast, reviews offer moderate assurance, making them suitable for specific financial reporting situations.
Cost and time considerations
Audits are more time-consuming and costly due to the level of testing and verification involved. Reviews, being less comprehensive, are more cost-effective and quicker to complete. The amount of time required to conduct either depends on the size and complexity of a company’s operations.
Regulatory and legal requirements
Ultimately, it is at the user’s discretion which engagement to choose based on the situation and their risk assessment. For example, in a company sale situation, the purchaser may be willing to accept a Review Engagement during due diligence but may stipulate an audit will be required with the closing financial statements.
The CRA does not require an audit or review engagement for the purposes of the tax return, but they do require financial statements to be available which can be prepared as part of a compilation engagement. (link to previous article or website page related to compilation engagements)
Certain regulatory bodies and lending institutions may require companies to undergo an audit, while reviews may suffice for others depending on the company’s size and industry.
There are no set rules for when an audit or engagement review are necessary. It is up to the stakeholders and users to assess the depth of analysis and level of assurance required based on the application of the financial information to determine whether an audit or review engagement is appropriate.
Navigating the nuances between the difference of an audit or review engagement can be a challenging task for any business owner. At SB Partners, we understand the importance of making informed financial decisions that align with your unique business needs and objectives.
Author: Greg Clarke, Partner, A&A