What is a private company audit?
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What is a private company audit?

1 month ago · 3 min read

What is a private company audit?

Many companies and company stakeholders rely on audited financial statements to present a fair and materially accurate picture of their economic situation. Audits — which are performed by CPAs -- provide an opinion on whether the financial statements that company management has prepared, taken as a whole, are fairly presented and comply with appropriate financial reporting standards. In an audit, the auditor takes steps that include examining evidence and determining whether the financial statements are free of material misstatement.

Private vs. public

By law, the annual financial statements of public companies must be audited each year by independent auditors. Public companies are those whose shares are traded on a stock exchange or over-the-counter market. The idea is to provide stakeholders, such as investors, capital market participants and policymakers with “reasonable assurance” that they can rely on the information in the financial statements for decisions about investments and other purposes, thereby protecting the public interest.

Private companies, on the other hand, are those whose shares are not publicly traded or issued to the general public. They are often owned by a group of investors, members of company management or by members of a family. The company’s shares are not issued to the general public.

Two of the key differences between public and private company audits are:

  • Who sets the rules the auditors follow. Requirements for audits of public companies are set by the Public Company Accounting Oversight Board. Private company audit standards are defined by the Auditing Standards Board of the American Institute of CPAs.

  • The audit mandate. As noted, public companies are legally required to obtain annual audits. Private companies are not, since they are typically owned by a limited group and their shares are not sold to outsiders. Many do not publicly issue financial statements.

However, numerous private companies do get audits because their stakeholders may require audited financial statements that follow Generally Accepted Accounting Principles (GAAP). For example,

  • Bankers and other lenders often require audited financial statements in considering whether to offer a company financing.

  • Audited financial statements would generally be needed when complex transactions are involved, such as when a company wants to sell the business or is considering a merger. In addition, venture capitalists or other potential investors would want to see audited financial statements before putting up funds.

  • Companies may need to issue audited financial statements to comply with the requirements of regulators in specific industries, for example, or to obtain insurance.

  • Contractors and companies in certain industries may need audited financial statements to gain surety bonding.

  • Company owners who don’t have these reasons may simply value the assurance, information and insights that an audit of the financial statements can provide.

What’s fundamental to all audits

There are many essential requirements for all audits, whether the company involved is public or private. In every case, the CPA must be independent from the company being audited. Auditor independence standards require the auditors to exercise objective and impartial judgment on all aspects of their audit work. In the end, the informed users of the financial statements and related audit reports must be able to conclude that the auditors are objective and impartial under the specific audit circumstances.

In all audits, the CPA is required to obtain an understanding of the business’s internal controls and assess the risk of material misstatement, including fraud risk. The CPA also must perform additional procedures and evaluate the information obtained to assess whether the financial statements are materially misstated.With an audit the CPA obtains high, but not absolute assurance and issues a report that includes the CPA’s opinion as to whether the financial statements are presented fairly in all material respects in accordance with the financial reporting framework.

Although they may follow different standards, private company audits address some of the same critical concerns of any audit. Examples include:

  • Internal controls. Proper controls within the organization help to ensure the accuracy and integrity of the financial statements and reports and make it possible to provide reasonable assurance that they are free from material error or misstatements. In an audit, management must give the auditors a representation letter that includes an acknowledgement that it has fulfilled its responsibility for maintaining adequate internal controls relevant to the preparation and fair presentation of the financial statements. The auditor must work to understand the company internal controls that are relevant to the audit in order to assess the risk of material misstatement in the financial statements. These efforts are critical in every company.

  • Related-party transactions. Related parties are people or entities that have some relationship with the business being audited. Parent companies, subsidiaries and affiliates are related parties, as are company owners and employees, their families and any related company trusts. It’s not uncommon for related parties to engage in transactions with each other. The CPA’s goal is to determine whether related parties, relationships and transactions have been properly identified, accounted for and disclosed. Planning and performing the audit with professional skepticism is particularly important, given the potential for undisclosed related-party relationships and transactions.

When it comes to a private company audit, businesses expect their CPA to understand their industry and the complexities of performing an audit of their financial statements, and, in fact, CPAs have a professional responsibility under their code of professional conduct to have the appropriate competence and expertise to perform a particular audit. Although private companies are not required to have audits of their financial statements, many choose to do so for a variety of important reasons. And in all cases, the critical components that CPAs offer—independence, objectivity and expertise—remain the same.

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