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Compilation and Review Services

standing of the business of the entity that is provided pri- sources for funding, there is a “monitoring” problem not
marily through inquiry and analytical procedures. Addi- unlike that for the publicly owned companies. In general,
tionally, the accountant must obtain written the multiple owners or the bank cannot be sure the infor-
representations from management in which, among sev- mation provided by the management of the company is
eral matters, management acknowledges responsibility for reliable. Reliable information, for example, that is submit-
the fair presentation in the financial statements of finan- ted to a bank as a source of information to be reviewed for
cial position and results of operation and cash flows in the approval of a significant loan that is supported by a
conformity with generally accepted accounting practices report from a public accountant, has higher value than
(GAAP). A review does not provide assurance that the such financial information with no involvement of a pub-
accountant will become aware of all significant matters lic accountant. Such information, if all other factors are
that would be disclosed in an audit. satisfactory, generally means that the cost of the desired
Nevertheless, accountants may become aware that capital will be lower than if no such involvement was pres-
information coming to their attention is incorrect, incom- ent.
plete, or otherwise unsatisfactory. Furthermore, evidence Now, consider the case of a small sole practitioner
or information may come to the accountants’ attention who is both the owner and manager of the company. It
regarding fraud or an illegal act that may have occurred. might be the case that the owner/manager wants financial
The accountants should request that management con- statements prepared so that his or her performance may be
sider the effect of such knowledge on the financial state- assessed, but does not require the assurance regarding the
ments. Additionally accountants should consider the reliability of the numbers because the owner/manager is
effect of all information acquired on their review reports. the one who provided the figures to the CPA. In essence,
Additional procedures may be needed if the accountants the person providing the information is also the user of
believe the financial statements are materially misstated. the report. In this case, the owner/manager would proba-
An accountant must be independent in respect to the bly engage a public accountant to perform a compilation.
client when accepting an engagement to perform a review A compilation would be sufficient for the owner/manager
and provide a report. The accountant’s review provides and would be less costly than a review or an audit.
only limited assurance. This assurance is stated in the Many banks want some form of assurance from small
accountant’s report in these words: “I am (we are) not business owners (nonpublic entities) before lending them
aware of any material modifications that should be made significant sums of money, but realize that an audit is not
to the accompanying financial statements in order for necessary. Therefore, such a bank is likely to require that
them to be in conformity with GAAP.” The report pro- there be a review performed by an independent public
vided by the accountant states that the scope is less than accountant so that there is provided limited assurance that
that for an audit that is performed in accordance with the financial statements are presented in accordance with
generally accepted auditing standards. Also stated is that GAAP.
the accountant does not express an opinion on the finan- There are instances, of course, where the banker of a
cial statements. small business may have multiple sources of information
It is possible for an accountant to provide a report from the interaction between the banker and the owner of
even though some modification is required. Such modifi- the small company. In such instances a compilation pro-
cation is described in a separate paragraph of the report. vided by an independent accountant may be sufficient.
Also, an accountant may be asked to provide a review for
financial statements for more than a single year.
REVIEWS REQUIRED FOR PUBLICLY
OWNED COMPANIES
WHEN COMPILATIONS AND Publicly owned companies must have quarterly reviews.
REVIEWS ARE APPROPRIATE Publicly owned companies are required to file quarterly
When does a client hire a CPA to perform a compilation financial statements and the company’s external public
or a review instead of an audit? To understand this issue, auditor is required to perform a review at the end of the
it is first necessary to understand why some companies first three quarters before the company files its quarterly
need audits. If the company is publicly owned and must financial statements with the SEC. The guidance that is
submit financial statements to the Securities and followed in this review is provided by the Public Com-
Exchange Commission (SEC), an annual financial audit is pany Accounting Oversight Board (PCAOB). As of
a basic requirement for the financial statements submit- December 2005, however, the guidance required by the
ted. If the management of a small public company that PCAOB is that provided by the Auditing Standards Board
does not report to the SEC or a nonpublic company of the AICPA. That guidance was undergoing review by
where the owners or shareholders are separate from the the PCAOB and was subject to modification.

ENCYCLOPEDIA OF BUSINESS AND FINANCE, SECOND EDITION 133