Brian
Watson, CA
Many associations arrange to get audited financial statements each year. It’s often a requirement in the association’s by-laws. But what exactly does an association get when it invests in an audit?
The association’s auditor is basically selling confidence in the financial information that is being presented. Financial statements contain essential information for the decision-making of many stakeholders – including members, directors, employees, funders, bankers, creditors and government.
If the financial information is substantially incorrect then the resulting decisions made could be inappropriate. For example, an association is in reality close to bankruptcy and yet the financial statements portray a healthy balance sheet; a creditor could be misled into advancing more credit and eventually suffer a loss. Directors can be held legally responsible for employee wages and payroll taxes. If they think everything is fine when it really isn’t then they won’t properly respond to this financial risk. What you don’t know CAN hurt you! For these reasons many stakeholders in an association prudently will want to have an audit.
Does an audit guarantee that everything is 100% accurate? No. It is generally much too expensive to verify everything 100% and so it is standard practice for auditors to check evidence supporting the amounts and disclosures in the financial statements on a test basis. This involves analyzing and verifying financial controls in order to evaluate the extent to which the system can be relied upon.
It is important to remember that financial statements often include estimates. For example, some of the receivables may eventually prove to be uncollectible; or the bills may not have come in from certain suppliers. These items will require estimates based on previous experience, contracts, purchase orders, correspondence, etc. However these accounting estimates may not exactly correspond with the amounts that are eventually paid. This is generally acceptable to readers of financial statements as long as the estimates are substantially correct. The auditor will check the reasonableness of estimates based on supporting evidence.
It is very common for auditors to come up with correcting adjustments arising from their verification work. The financial statements often become more accurate than they otherwise would have been.
Does an audit guarantee that there has been no fraud in an association. The answer is no although it should reduce the probability. There are a multitude of ways in which fraud can occur. Opportunities for fraud are limited only by the imagination of the perpetrators and by the effectiveness of the systems of financial control that are in place. You should be aware that it is common practice for the engagement letter (outlining the terms of reference for the auditor) to state that the audit is not designed, and cannot be relied upon, to disclose defalcations and other irregularities.
Generally accepted auditing standards are employed in the performance of audits. These standards provide for an audit which reduces to an appropriate low level the risk of not detecting a material misstatement in the financial statements. However, an audit does not guarantee that all material misstatements will be detected. Of course, the discovery of such irregularities may still result from the audit, and should any significant ones be encountered, they are reported to the association.
An audit is less likely to detect material misstatements arising from fraud or other illegal acts because such acts are usually accompanied by acts designed to conceal its existence. Accordingly, audit procedures that are effective for detecting an unintentional misstatement may be ineffective for an intentional misstatement or an illegal act that is concealed. It should be noted though that the profession is currently looking at raising the bar for audit practitioners in this whole area.
A useful by-product of an audit is the management letter. The auditor may have observed weaknesses in financial control and other financial matters. These are brought to the attention of management, including suggested recommendations for improvement.
Management has the responsibility for the maintenance of adequate accounting records and internal controls, prevention and detection of fraud and errors, safeguarding of assets, selection and application of suitable accounting policies and appropriate disclosure of financial information in the financial statements. The preparation of the financial statements in accordance with generally accepted accounting principles is also the responsibility of management.
Association managers and board members are the players and the auditor is the referee reporting on the official score and ensuring that the financial game is being played fairly and according to the rules. The auditor basically provides an objective professional opinion that the financial statements prepared by management present fairly, in all material respects, the financial position as at the fiscal year end and the results of operations and cash flows for the year then ended in accordance with generally accepted accounting principles.
Board members and association managers must understand that they are the ones who are primarily responsible for ensuring the accuracy and reliability of financial information. They can’t sit back and expect the auditor to be their only line of defence. It is essential that they be vigilant, careful and prudent at all times to satisfy their fiduciary duties and stewardship role. The audit is one of the key tools to be utilized.
Brian Watson is an Ottawa chartered accountant servicing primarily association clients. He can be reached at bdwatson@bdwatson.ca.
The views expressed in this article are those of the author, and do not necessarily reflect the views of Association Xpertise Inc.