When you need a loan for your business, potential lenders may ask to see your audited financial statement. Learn what this is and why lenders want to see it before they approve your business loan.
When you’re applying for business funding, lenders and investors want to be sure they won’t lose money on the opportunities you present; that’s why you brought detailed financial statements to your pitch meeting. If however, the people you’re presenting to still feel uncertain about your company’s finances, that might be because you haven’t prepared an audited financial statement. Read on to learn what an audited financial statement is and how it differs from an unaudited financial statement.
What is an audited financial statement?
An audited financial statement is any financial statement that a certified public accountant (CPA) has audited. When a CPA audits a financial statement, they will ensure that the statement adheres to general accounting principles and auditing standards. Without this CPA verification, inventors and lenders may not be confident that the statement you’re presenting is accurate.
How does an audited report differ from other types of accounting reports?
When you think of the word "audit," the IRS might come to mind first. That’s because audits are often associated with the IRS investigating taxpayers for possible tax filing inaccuracies. As such, you might think of audits as punishment, but they’re not – for your financial statements, they can actually be beneficial, if not paramount. To understand why, compare an audited report to two other types of accounting reports:
- Compiled reports. Any accountant can prepare a compiled report, which is just a basic financial statement. It’s called a compiled report because your accountant generates it by compiling your financial records into a widely accepted financial statement format. However, in compiling this report, your accountant does not check whether the information you’ve given them is accurate and will say so in the report.
- Reviewed reports. A reviewed report undergoes slightly more scrutiny than a compiled report. For these reports, your accountant will employ limited analytical procedures and submit a small number of inquiries to your management. Through this work, your accountant will determine whether your financial statements require substantial modifications. Your accountant will also verify that your company uses generally accepted accounting principles, but they will not test your protocols.
- Audited reports. An audited report involves a thorough review of each and every item on a financial statement. It also entails internal protocol testing to ensure that money moves about your company in a way that your reports accurately reflect. As such, an audit is proof that your financial statements are fully accurate.
Who should prepare audited statements?
Any company presenting its financials to investors or lenders should prepare audited financial statements. The vast majority of potential funders for your company will request audited financial statements instead of unaudited ones since the latter leaves far less room for error.
Additionally, if your company is publicly traded, you’ll need to prepare annual audited financial statements. While federal regulatory bodies mandate that publicly traded companies file audited statements, you can regularly create unaudited ones throughout the year if they help you assess your finances.
Types of audited financial statements
There are four primary types of financial statements that may merit auditing:
- Balance sheet. A balance sheet details your company’s total assets, shareholder equity and debts at a given point in time. It is often thought of as a snapshot of your company’s performance.
- Cash flow statement. A cash flow statement details the amounts of cash and cash equivalents moving in and out of your company’s bank accounts. Cash equivalents include overdrafts, bank deposits, cash-convertible assets and short-term investments. For this type of statement, cash includes both cash available on hand and money stored in demand deposits.
- Income statement. An income statement, also known as a profit and loss statement, details your company’s revenue after all expenses and losses. Whereas a balance sheet is a snapshot of your company’s performance, an income statement captures that performance over an extended period. It usually includes metrics such as gross profits, net earnings, revenue, expenses, cost of goods sold, taxes and pre-tax earnings.
- Statement of shareholder equity. While often included as a portion of the balance sheet, the statement of shareholder equity can be prepared separately as well. It details all changes to your company’s value to shareholders during an accounting period. Increasing equity indicates good business practices while decreasing equity may indicate the opposite.
What are the stages of an audited financial statement?
A CPA auditing a financial statement will usually move through these three stages:
Industry research and risk assessment. For proper auditing, a CPA should learn about not just your company, but its industry and competitors. With this knowledge, they may better be able to identify risks that could affect your financial statements’ accuracy.
Internal control testing. Your CPA will test your company’s internal controls to understand its processes for employee authorizations, delegation of responsibilities and asset protection. After identifying these workflows, your CPA will conduct control procedures to verify their fortitude. A strong set of procedures may merit more complex auditing, and a weak set of procedures may require extra financial assessments.
- Thorough statement verification. Following the first two stages, your CPA will verify each and every item on a financial statement. For example, if your CPA is verifying your accounts payable, they may reach out to companies with whom you have uncompleted invoices to verify the amount you owe. After this stage, your CPA will be ready to offer an opinion letter, which we’ll discuss more below.
What is included in an audited financial statement?
An audited financial statement includes the following information:
- CPA verification. Even if you meticulously track all your company’s spending and earning, you might make errors. When you hire a CPA to audit your financial statements, you minimize these errors and move your statement closer to complete accuracy.
- On-site inspection. For an audited financial statement, a CPA will go over your financials with a fine-tooth comb, but sometimes, that’s not all. If parts of your financial statements include reports on your inventory, your CPA may also personally inspect your inventory to ensure no gaps in stock counts.
- Internal control inspection. If your team includes employees who monitor your company’s spending – especially if these employees have little to no supervision or double-checking from other team members – your CPA may inspect their work. That’s because with so little everyday oversight, there’s always a chance (though maybe a tiny one) that these employees could be fudging your books or otherwise committing fraud. [Read related article: Should You Audit Your Bookkeeper?]
To summarize the above information, your CPA will provide an opinion letter detailing their perspective on your financial statements. There are four types of CPA financial statement opinions:
- Unmodified opinion. Also known as an unqualified opinion, when a CPA gives this opinion, it means that you prepared your financial statements accurately using standard, acceptable bookkeeping and accounting practices.
- Qualified opinion. If you receive this opinion, then your CPA thinks your financial statement preparation, accounting and/or bookkeeping have a small number of gaps. Your CPA will detail these problems and how you can fix them, and once you rectify your errors, you can seek an unmodified opinion.
- Adverse opinion. This opinion signifies that your financial statements are inaccurate, with more than just a small, relatively insignificant number of gaps. It means that investors, lenders and other funders should not trust the information in your financial statements. Here too, your CPA will explain your route for fixing your options and allow you to return for an unmodified opinion.
- Disclaimer of opinion. This result is not an opinion, but a lack of one. It signifies that you haven’t given your CPA the access, information or time needed for a complete audit.
What is the difference between audited and unaudited financial statements?
When comparing audited and unaudited financial statements, you’ll notice the following key differences:
- Creation. Any accountant can create an unaudited financial statement. Only a CPA can create an audited financial statement.
- Trust. When you present an unaudited financial statement, the person reviewing your statement cannot entirely trust that it is accurate. An audited financial statement is, by definition, thoroughly and professionally reviewed, eliminating any doubts about its accuracy.
- Time. An unaudited financial statement is fairly quick and simple to generate. Your accountant simply compiles all your financial information into one document. An audited financial statement, on the other hand, will likely take weeks or even months to complete.
- Cost. Unaudited financial statements cost less money to generate than audited financial statements. That’s because whether your in-house accounting team prepares them or you hire a third-party accountant, you won’t pay as much as you would to hire a CPA.
- Legitimacy. When applying for additional business funding, you’ll likely need to present audited financial statements. Since unaudited financial statements don’t include a guarantee of accuracy, lenders and investors often do not consider them legitimate.
From these differences, you can see that the fundamental characteristic of audited financial statements is the involvement of CPAs. To learn more about how CPAs differ from traditional accountants and determine how you can hire either for your company, read our article: How to Hire the Right Accountant for Your Business.