Financial Statement Reporting Options
Coralee Foster, CA
Country Guide
February 2008
Most farm operations require annual financial statements for banking, management or taxation purposes.
There are three levels of assurance that can be provided by an accountant on the financial statements of a business – a compilation, a review or an audit. These three types of assurance generate three different reports - a notice to reader/compilation engagement report, a review engagement report or an auditors’ report. Many business owners are unsure or even unaware of the alternatives and what is entailed in preparing each one.
Compilation Engagement
A compilation engagement will provide financial statements with a “Notice to Reader” report attached. In a compilation, the accountant has taken the client’s numbers and assembled them into financial statements. In the absence of any obvious or clearly incorrect information, the accountant merely puts the client’s information in the form of a financial statement. In fact, the accompanying report indicates that the accountant is not providing any assurance on the contents of the financial statements. However, the financial statements should still be prepared in a consistent manner which is easily read and understood by the users of the statements.
There will be minimal notes to the financial statements and less detail is required in the body of the statements themselves. A balance sheet and statement of operations will be included.
As an example of the amount of verification that is done in a compilation engagement, using the inventory number for a cash crop operation, on a compilation engagement, the farmer may indicate that at year end, they had 50,000 bushels of corn in inventory on-site. The accountant that prepares the compilation engagement will accept the information provided the financial statements are not false or misleading.
Review Engagement
On a review engagement, a more detailed report will be attached to the financial statements. In the preparation of a review engagement to be attached to the client’s financial statement, much more analysis, inquiry and disclosure are required of the accountant. Strict adherence to the prescribed Canadian Generally Accepted Accounting Principles is required or else significant additional disclosures must be made.
There will be several notes to the financial statements, including, but not limited to, details about capital assets, long term debt, transactions with shareholders or other related parties and share capital for corporations. There will also be details of the significant accounting policy options chosen. A balance sheet, statement of operations and statement of cash flows will be included.
Using the corn inventory example again, the preparer of the review engagement would need to analyze the accuracy of the 50,000 bushels of corn. The accountant would likely compare the number of bushels to the prior year’s amounts and get an explanation from the client concerning any difference. The price per bushel used to value the corn would be compared to prior year or an estimate of current price to ensure it is reasonable.
Audit Engagement
An audited financial statement requires the most thorough work to assess the accuracy of the data provided. In addition to the required accounting principles which must be followed, there are Canadian Generally Accepted Auditing Standards which dictate the planning, performance and reporting required to conduct an audit. The auditor is providing “reasonable assurance” that there are no material misstatements on the financial statements and as such, must perform a variety of tests and detailed analysis on all sections of the financial statements, as well as assessing the controls in place to ensure that the information has been captured accurately in the first place. A material misstatement is a misstatement judged by the auditor to effect the decisions of the users of the financial statements. Each single transaction is not audited but an appropriate sample is chosen and examined in detail. As well, each line on the financial statement is assessed.
As with the review engagement, there will be numerous disclosures accompanying the financial statements. Because operations requiring audits tend to be larger and more complex than many businesses, in addition to the balance sheet, statement of operations and statement of cash flows, there may be numerous schedules to the financial statements to provide more details on separate business lines or groupings of revenue and expenses.
In the case of an audit, the auditor would in all likelihood determine the accuracy of the 50,000 bushels of corn in our example by attending the operation at year end and physically verifying that there was 50,000 bushels of corn on-site.
Which Level of Assurance is Needed for My Operation?
The lending agreement in place for the operation is the most common determinant of which kind of report is prepared. There is normally a requirement that the client provide a certain type of report (compilation, review or audit) on the financial statements of the business within a set number of days after year-end. And the type of report attached to the financial statement provided may impact the cost of borrowing or the ability to borrow additional funds at all.
However, other factors can influence which report the accountant is asked to prepare. For example, in an operation with several unrelated owners, a review or audit may be performed to provide additional assurance to all users. Or if a sale of the operation is being considered, a higher level of assurance might be appropriate to ensure as much detail as possible is available for the purchaser.
Typically, family farm operations will be required to submit either compilation or review engagement financial statements to their lenders. Audits are not normally required for farm operations but would be required for a co-operative, for example.
With each additional level of assurance required the necessary work and level of responsibility for the accountant increases significantly. Therefore, it is important that all parties involved - including owners, lenders and accountants - communicate to ensure that the appropriate report and financial statements are being prepared.
