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Written by: 
Ryan M. Gorman, CPA

Now that your business is taking off, there might be one minor roadblock from taking your company to the next level: audited financial statements.  The common initial reaction to the news that you now need to have an audit might spark a sense of fear or annoyance.  You don’t know what to expect, or how to allocate the time, resources, and most importantly, the money.  Today’s business world is full of opportunities but also, never-ending regulations.  The reality is that you must have your financial statements audited. So, rather than fearing your first-ever audit, embrace it as an opportunity.

WHY DO YOU NEED AN AUDIT?
If you are in need of financing or obtaining a loan to support the growth of your business, most creditors and banks require audited financial statements.  If you are looking to be bought out or attract angel investors, they also like the comfort of audited financials.  And, if you dream of going public in the future, the SEC requires a company to have three years of audited financial statements before it can register to go public. A good practice is to be prepared to be audited from the beginning.

NOW THAT YOU NEED AN AUDIT
When it comes time for the audit, someone has to do the auditing. This is when you hire a CPA firm.  Do your research and look for a firm that is qualified, and knows your business and industry.  Once you select an accounting firm, make sure you have a clear understanding of the audit process and what the auditors will expect.  This usually comes in the form of an audit engagement letter, which will also spell out the cost involved.

As a company, your goal is to get an “unmodified opinion” from the CPA firm.  This means that the auditors find nothing in your books that will make the users of the financial statements uncomfortable about the numbers.  In CPA audit language, this means that nothing is “materially misstated.” 

WHAT TO EXPECT IN THE FIRST AUDIT AND HOW TO PREPARE
It is imperative to make sure you have a clear understanding of the audit process and keep an open line of communications with your audit firm:

#1 – OBTAIN THE REQUEST LIST FROM YOUR AUDIT FIRM
This listing outlines all the documents the auditors will need. Make sure to have these items available at the start of the audit. Often the auditors will need to make selections of documents from the list provided.

Make sure you have all important agreements (articles of incorporation, board minutes, policies and procedures manuals, lease agreements, equity agreements, etc.).

#2 – DOCUMENT YOUR INTERNAL CONTROLS
Auditors are going to want to understand the control processes in place.   It’s beneficial to document your system of internal controls surrounding financial reporting and each significant area (revenue, cash, fixed assets, etc.). Not only does this save time during the audit, but also provides you with an understanding of what internal controls may be missing.  Your auditors should be able to provide you with templates and checklists to assist with this documentation.  

The size of the company will dictate how in depth the internal controls can be. Auditors will be looking to make sure there is a proper “segregation of duties” of employees’ responsibilities.

#3 – MEET WITH YOUR AUDITORS PRIOR TO THE PLANNED AUDIT FIELD WORK
It is important for you to discuss complex audit areas and get ahead of any potential accounting issues.   Two especially complex areas are equity and revenue recognition:

  • Equity – If your company issues equity compensation awards (i.e. restricted stock, stock options, etc.), be prepared for an audit of those awards.  Each award on the capitalization table must have a corresponding board authorizing document (minutes) plus evidence of a signed award document.  In addition, ensure that compensation expense has been appropriately recorded for these awards based on an acceptable valuation methodology.
  • Revenue Recognition – Document your understanding of the process for recognizing revenues and discuss the appropriateness of the recognition with your audit firm.  

CONCLUSION
An audit should not be something that a company fears, but rather, a chance for the company to prove that it is financially strong and sound, and that it has proper accounting policies and procedures in place. As it is your first audit, you should expect to run into some issues along the way.  However, with some hard work and planning, the audit process will run smoothly and your company can receive an unmodified opinion – the ultimate goal of a successful audit.

If you have any questions, contact Ryan M. Gorman, CPA, Member of the Firm, at 413-726-6870 or rgorman@wolfandco.com.