What is the Difference Between a Compilation and Review?
That is a question many business owners are afraid to ask. The differences are vast with respect to the amount of work performed by the certified public accountant (CPA) and the level of confidence / assurance the CPA provides. Compilation and review services are governed by the Statements on Standards for Accounting and Review Services issued by the American Institute of Certified Public Accountants. Today we’ll discuss compilation reports. Next week we’ll discuss higher levels of assurance in reviews and audits.
When a CPA is asked to prepare a compilation report to be used (read or relied upon) by a third party (meaning a bank, lender or other interested party), the client needs the financial information prepared in an acceptable financial framework. The most common financial framework is known as generally accepted accounting principles in the United States of America (GAAP). There are other financial frameworks, yet for this discussion on compilations, reviews and audits, we will stick with GAAP.
The accountant will prepare the basic financial statements: a statement of financial position (aka the Balance Sheet), Statement of Operations (aka the Income Statement), the Statement of Other Comprehensive Income (if necessary), the Statement of Changes in Owners’ Equity, and the Statement of Cash Flows. The financial statements are prepared from the client’s books and records. The “books” of the company is known as the general ledger and is commonly maintained in a software program (i.e. QuickBooks, Peachtree, Accountants World, etc.).
CPAs, with their knowledge and expertise, place the accounts and balances into the GAAP framework in the financial statements and also prepare the footnotes to the financial statements. The footnotes contain:
- The nature of the business
- The policies and procedures
- The significant disclosures required by GAAP
The uniqueness of compiled financial statements is that they may be prepared without the accompanying notes, so long as the CPAs disclose “that management has elected to omit substantially all disclosures required by GAAP” and that the reader should be aware of the risks associated with financial statements that are not complete without footnotes.
The Independent Accountants’ Report – No Assurance
CPAs provide NO ASSURANCE that the information that is provided in the financial statements and related notes, if any, are not materially misstated. The accountant’s report states literally (emphasis added):
“We have not audited or reviewed the accompanying financial statements and, accordingly, do not express an opinion or provide any assurance about whether the financial statements are in accordance with accounting principles generally accepted in the United States of America.”
The Accountants Report – Not Independent
Beyond “no assurance” at times the CPA is NOT INDEPENDENT as well. This is done only when the client does not have the capacity to accept responsibility for understanding the work performed by the accountant in preparing financial statements in accordance with GAAP. At times, the CPA made several changes via journal entry to the client’s books and records to ensure the books and records are in accordance with GAAP. A compilation report is the ONLY report CPAs may issue when they are not independent.
A CPA may also not be independent because he is a part owner, or a relative of an owner, or officer (independence requires a CPA to be independent in fact and in appearance).
The Compilation Report would not be issued if the CPA were to determine that the financial statements were misleading or fraudulent in anyway. The user of the financial statement may only take away that the CPA prepared the financial statements. If that provides a level of “comfort” to the user, then typically that’s when they are required. If assurance from the CPA is required, then we move on to reviews and audits. Look for my upcoming post on reviews next week.