A financial statement audit is an independent appraisal of the financial statements prepared by the organization. The cardinal objective of a financial statement audit is to provide an independent assurance that the management has, in its financial statements, presented a “true and fair” view of a company’s financial performance.
The result of this examination is a report by the auditor, attesting to the fairness of presentation of the financial statements and related disclosures. The auditor’s report must accompany the financial statements when they are issued to the intended recipients.
The purpose of a financial statement audit is to add credibility to the reported financial position and performance of a business. Similarly, lenders typically require an audit of the financial statements of any entity to which they lend funds. Suppliers may also require audited financial statements before they will be willing to extend trade credit (though usually only when the amount of requested credit is substantial).
Audits have become increasingly common as the complexity of the two primary accounting frameworks, Generally Accepted Accounting Principles and International Financial Reporting Standards, have increased, and because there have been an ongoing series of disclosures of fraudulent reporting by major companies.
The primary stages of an audit are:
- Planning and risk assessment. Involves gaining an understanding of the business and the business environment in which it operates, and using this information to assess whether there may be risks that could impact the financial statements.
- Internal controls testing. Involves the assessment of the effectiveness of an entity’s suite of controls, concentrating on such areas as proper authorization, the safeguarding of assets, and the segregation of duties.
- Substantive procedures. Involves a broad array of procedures, of which a small sampling.
An audit is the most expensive of all the types of examination of financial statements. The least expensive is a compilation, followed by a review. Publicly held entities must have their quarterly financial statements reviewed, in addition to the annual audit.
The manner of appointment, the qualifications and the format of reporting by an external auditor is defined by statute which varies according to jurisdiction of different countries.
The auditors must be a member of one of the recognized professional accountancy bodies. The auditors normally address their reports to the shareholders of a corporation or to the owners of the business entity. The auditors are subjected to strict rules to uphold their integrity and to establish independence.
