Ultimate Guide to Crowdfunding Financial Statement Review

Ultimate Guide to Crowdfunding Financial Statement Review

If you have questions about crowdfunding or a crowdfund financial statement review, all the answers are here. This comprehensive guide will explain, in plain English, such confusing topics as GAAP financials, Regulation A funding, SAFEs, affinity vs. equity crowdfunding and much, much more.

The reality is that crowdfunding rules aren’t difficult to understand when someone takes the time to cut through the BS. Helping you gain the knowledge necessary to reach your goal is our job. We also offer resources on reviewed financial statements for your crowdfund raise.

What is a Crowdfund Financial Statement Review?

A crowdfunding financial statement review is triggered by the amount of money being raised in an equity funding event. Once a company raises or plans to raise over $107,000 from a single crowdfund, they must have their financial statements reviewed by a licensed CPA. The review consists of analytical procedures and other standards.

In the review the accountant prepares a balance sheet, income statement, statement of owner’s equity, cash flow statement and their related notes. A review process consists of an engagement letter, the reviewed financials, and a management representation letter. The whole process takes less than four weeks and costs between $500 – $5,000.

What are Crowdfunding GAAP Financial Statements?

Generally Accepted Accounting Principles (GAAP) are a common set of accounting rules, procedures and standards. GAAP is issued through the Financial Accounting and Standards Board (FASB). Much of GAAP consists of authoritative standards and common industry practice.

While standards are generally set out in written form, common practice can take many forms. Such as industry publications, statements in the form of industry regulation, or plain old industry norms not set in stone.

GAAP has the goals of completeness, consistency, and comparability in financial statements. This set of rules makes it easier for investors, and the industry to analyze and use financial data for various purposes. In this way individuals and businesses can compare information from different time periods to spot trends and make investment decision.

Question: How much does a financial statement review cost?

Answer:

The cost of a financial statement review generally ranges from $1,500 to $5,000. Many CPAs will include the review at the time your taxes are prepared and roll the cost together. Other factors affecting cost negatively are if your records are in poor condition, you cause delays for the preparer or if you do business in a high cost locality. Places like Los Angeles, Houston or New York City are known to have higher CPA costs. In these instances, it is helpful to have your review done virtually by a CPA in another town or state.

Who needs a Crowdfunding Financial Statement Review and Why?

Some platforms may have more stringent requirements; however none can have weaker ones than are required by the Securities and Exchange Commission (SEC) regulation. The minimum reporting standards set by the SEC follow and should be considered when planning your crowdfunding raise. These limits may be used to guide you on how much you initially seek through your funder.

The basics are listed here for raise amounts and needs for your financial statements. But be aware that if this is your second or more fund raise, the rules are slightly different. You should check with your funding platform for specifics of your needs.

  1. If you are raising less than $250,000, you will need 2 years of financial statements in GAAP format. These do not have to be reviewed or audited by a CPA. Here is an example.
  2. If you are raising more than $250,000, you will need 2 years of financial statements in GAAP format and an independent CPA Review. Here is an example.
  3. If you are raising more than $1,070,000, you will need 2 years of financial statements in GAAP format and an Independent Auditor’s Report.

When Should I get a Financial Statement Review?

The best thing you can do for yourself is to be proactive and get your financial statement review early. Preferably before even starting the campaign. Many platforms require the financials be reviewed or audited prior to finalizing your application. This makes it even more imperative to find a CPA now.

Review of limited information will only take a week or two, However, two-year comparative reviews can take four to eight weeks. If you need an audit, you could be looking at several months or more. The platform you use can direct you to the timeline for most of your requirements. Such as when financials are due for submission and whether you need them prior to starting or after completing the crowdfund event.

In the past I have seen some instances where the crowdfunding platform allows submission after completion but prior to receiving the funds. Timing is the area of perhaps the most importance. If you finish and then need a review or audit, you could be waiting an additional two months or more before accessing the cash you raised.

Question: How much does a financial statement compilation cost?

Answer:

The cost of a financial statement compilation generally ranges from $750 to $2,500. Many CPAs will include the review at the time your taxes are prepared and roll the cost together. Other factors affecting cost negatively are if your records are in poor condition, you cause delays for the preparer or if you do business in a high cost locality. Places like Los Angeles, Houston or New York City are known to have higher CPA costs. In these instances, it is helpful to have your compilation done virtually by a CPA in another town or state.

How do I get a Financial Statement Review for a Crowdfund Event?

The first thing you need for a financial statement review of your crowdfund is to find an independent CPA. An independent CPA is one that has a limited relationship with your company in a way that would not impede their ethical standards.

Once engaged for service the CPA will perform some steps to assess and analyze your business and financial data. Also, they will use some of the following procedures and inquiries.

  1. Inquire of management as to the accounting practices and principles used by the business
  2. Gain an understanding of procedures for recording and summarizing financial transactions and information
  3. The CPA will read and get an understanding of actions and decisions at board meetings
  4. Obtain information regarding subsequent events if any exist
  5. Perform analytical procedures on company accounts
  6. Communicate and understand management’s responsibility for internal controls and to prevent and detect fraud
  7. Compare the financial information to knowledge and expectations that the CPA may have
  8. Inquire of management regarding the knowledge of fraud and its impact
  9. Make management inquiries and obtain relevant documentation regarding financial information
  10. And after completion, obtain written representations from management as it relates to information given to the CPA

As you can see, the process for a review is detailed. While far less in scope than an audit, it takes several weeks to complete when performing the review for a several year period. This is why it is always a good idea to start early seeking help and retaining the services of a competent CPA.

Question: What is a management representation letter?

Answer:

It is a letter that company management provides to the accountant at the end of a financial statement audit or review. The management representation letter has three basic parts, the introduction, statements about the financials and declarations on the information management has provided. The introduction discuses what has been done, i.e. the financial statements for a period have been reviewed or audited. The statements about the financials are where management acknowledges its responsibility for the financials. The declarations are when management states they have cooperated fully with the CPA during the process.

What are the Pros and Cons of Affinity Crowdfunding?

The Pros of Affinity Crowdfunding

Convenience

Affinity crowdfunding has a big advantage over equity (explained below) in the ease to set up your plan. With affinity there are no decisions on how much equity to sell off. By just providing gifts and access to investors you keep the decisions, computation, and analysis to a minimum.

This convenience can lead to more creativity in what to give investors. Instead of focusing on complex stock cost information, you are free to have fun. Want to give away a weekend with the owner in Florida? Then you can. The freedom of creativity is easy and convenient.

Alternative to a loan

Loans are expensive, especially if your credit is less than stellar or not well developed. Loans can also stick with you if your idea fails to get off the ground. This leaves you paying back a bank for many years beyond the end of the business. Interest rates are another drawback. If you’re going to pay 10, 15 or 20% interest, it takes away from cash you could use to run your company.

With affinity funding you can ramp up your cash flow with no worries of expensive interest payments. As well, if the business should happen to fail, you have no further responsibility to the investors. This is provided you have set up a gift program that provides product up front. If not, you will be governed by the terms of your offer.

Control over ownership

The worst thing a new business can do is give away ownership early on. This is because at that point you have no idea where things will go. You could end up selling interest in your business for pennies now that could have been dollars in a year or two.

With affinity funding you do not sell off stock or equity in your company. Instead, you merely provide incentives to people for their investment. Talk about a win/win. It’s a win for you because you retain ownership. It’s a win for the investor because they receive product or other incentive for their money.

Less risk to investors

Investors in equity generally expect that over time their investment will grow and provide some form of return (higher sell price and/or dividend payments). The investor now has a vested interest in winning as opposed to losing. This risk is not taken lightly by many investors.

By offering a gift or promotional payout to investors, they feel no risk once they receive their payoff. This can create goodwill and good word of mouth up front and can help your campaign excel. Always remember, people love free gifts and trinkets and will look favorably upon you for them.

The Cons of Affinity Crowdfunding

Time and effort

Nothing comes with out a cost and the price for an affinity crowdfund is time. The cost of time lies in what you could be doing instead of focusing on creative ways to garner investors. Affinity raises take creativity and time in order to incubate the perfect mix of offerings and giveaways.

You also need to spend time sending investors their product or planning the services you are offering. All of this will ravage your free time. This is why some choose a standard equity offering, there is less time spent catering to investors.

Idea theft

Nothing says, “steal my idea and my investors” like a crowdfunding campaign. The moment your pet project is live on-line, you are susceptible to idea theft. The biggest problem is that unless you have something proprietary and protected, you can be out done by someone else.

Theft of ideas happens everyday and to companies large and small alike. No one is safe or immune to it. So short of never letting your idea see the light of day, you could be subject to it. The best protection is to be proactive at protecting your process and ideas legally, if possible.

Platform fees

The cost of your crowdfunding campaign can range from minimal to a substantial percentage of the money you raise. For affinity campaigns this is more important than an equity raise. With an equity raise you only have to worry about issuing stock in addition to platform fees.

However, with affinity you have the platform fee and the cost of providing the premiums to the investors. There are development costs, production costs and shipping. Once you add these with platform fees, it can dig into your actual return substantially.

Compliance costs

As with every business venture there are costs to comply with rules, regulations, and laws. Affinity crowdfunding comes with regulation on the size of the offer, financial statement preparation/review/audit, and a host of other measures. These all need to be considered.

Complying by the size of your offering is addressed about in the section on “Who needs a Crowdfunding Financial Statement Review and Why?” As far as the compliance cost with a financial statement review you can read more on that here.

Question: What is an engagement letter?

Answer:

The engagement letter for a financial statement review contains all the required items that will be addressed in the review. It has five basic parts: the introduction, the CPA responsibilities, the company responsibilities, the report and other matters. The intro covers what the CPA is going to be doing. The CPA responsibilities set out what the accountant is responsible for during the engagement. The company responsibilities cover what items the company should comply with. The report discusses the report that will be included with the financials. Last, the other matters runs through any other items that are part of the contract like cost, timing etc.

What are the Pros and Cons of Equity Crowdfunding?

The Pros of Equity Crowdfunding

Equity or SAFE

The biggest positive with equity crowdfunding is that it can be equity (stock/ownership) or potential future ownership based on several triggering factors (Simple Agreement for Future Equity SAFE, explained below). The befits of immediate equity is that investors know they will receive ownership up front.

However, with a Simple Agreement for Future Equity (SAFE) you control more of the aspects of the ownership being sold off. Generally, SAFEs are based on a current evaluation of the percentage of equity being provided in the future. This means you set a percentage of the company being sold and not a static amount based on the current value of the stock.

Entices people with a stake in the business

Equity offers give investors a reason to be excited about your company, because they have a stake in it. While this can be a con in the future if your company performs poorly, in the short run it helps. Investors are likely to tell others about their “great new investment”. This helps attract more investors to your company.

The feeling of ownership in the company also allows investors to consider their investment an actual investment and not a give-away, as can happen with affinity funding. The actual ownership of part of a company gives security in that they can sell in the future and recoup their investment and maybe a gain on the sale.

Allows funding from an untapped resource, the public

Being able to attain funding from the public opens a larger group for you to work with. In traditional financing you have a small pool of banks, or family and friends to seek help from. These limited resources can hinder your start up and come with strings attached. One of the biggest drawbacks is that you have family and friends rooting for you, but also concerned for their investment. This can be bad if things go awry, and they resent you for it.

You can decide how much of the company to “sell”

With equity founding you have complete control over how much of the company to release to the public. In a straight equity offer you put out a certain amount of stock. This means you only have to offer what you want and could be 10% or 75% depending on the value and amount being raised.

With a SAFE you can offer a future percentage of the business based on current valuation. This allows you to put a number on the percentage of the company that you are selling and the amount you’re raising is tied to it. Obviously, there are limits and shooting for too high a value can be detrimental.

The Cons of Equity Crowdfunding

Compliance with the SEC

All regulation comes at a price. Compliance with the SEC can be confusing, complicated, and frightening. This is one of the top things that moves people away form equity crowdfunding, the scary SEC. First the SEC as an agency is like most bureaucracies, it sets up convoluted and confusing rules and regulations. This leaves the average person having to seek out a lawyer for every answer on the declaration page.

Second, the web of complicated, interwoven, and circular rules is mind-numbing. Alone the SEC regulations number in the tens of thousands. Not something the average person can consume. Last, all of this adds up to fear and aversion on your part. These are all real tangible reasons to fear getting involved with the SEC at all.

Investors are not “sophisticated” and may overlook a strong company

Investors can be sophisticated (accredited) or unsophisticated (non-accredited). See accredited and non-accredited investors below for more detail. When setting up a crowdfunding campaign you are able to garner non-accredited investors, but this comes with a price.

Non-accredited investors are less likely to understand how a company manages money, invests and survives on a daily basis. This is because these may be people with limited business and financial knowledge. This isn’t necessarily a bad thing, but it is something to consider. These types of investors may believe that they have recourse against you should the company fail.

Your platform could get hacked

The possibility of a website or funding platform being hacked is a real possibility. Daily we hear reports of ecommerce sites, service providers and others have client information stolen. Depending on the site you use, this could leave your fund raise vulnerable.

When choosing a platform, do your due diligence to investigate their safeguards. The last thing you need is to work for six months or a year preparing and implementing your offering only to have a hacker tear it down, or worse find a way to get your cash.

Question: What is a financial statement review report?

Answer:

The financial statement review report is the section of the financial statement that holds the CPAs limited assurance. The review report has three parts: management’s responsibility, the accountant’s responsibility and the conclusion. Management’s responsibility lists the elements that the company is responsible for like preparation and fair presentation. The accountant’s responsibilities are to conduct the review in accordance with SSARS. The conclusion is where the CPA provides limited assurance on the financials.

What is a Simple Agreement for Future Equity (SAFE)?

Pros of SAFEs

Company friendly and easy

SAFE’s are generally a company friendly and easy way for a business to acquire interment cash inflow. A SAFE is a simple form that can be set up quickly by the company or their legal counsel. As well there are fewer variables to negotiate. This ease in setup is a key feature of SAFEs.

Also, a SAFE by Y-combinator is a standard form and format. This leads to lower cost in setting up the plan. With most of the agreement fill-in-the blank, you can save time and money related to legal costs. Terms of a SAFE are easily determined and you can set up more in the future as your company grows and extra cash flow is required.

No Interest payments

With tradition financing or financing from family and friends, you may encounter high interest rates and tough repayment terms. This creates hardship for your new business. With a SAFE you avoid this scenario. The agreement is based on potential ownership of the company. While the percentage of ownership varies by the agreement, you are under no obligation beyond the offering. If the company does not survive, the agreement is essentially over.

There is no requirement that the company repay the investors or guarantee that the investor shall receive equity. The investment shall convert into equity if, and only if, the SAFE’s conversion trigger is achieved pursuant to a subsequent qualified financing by the company.

No deadlines

Unlike convertible notes and similar debt with functional triggers, a SAFE contains incredible flexibility. The triggers in a SAFE are most often set up to the benefit of the company more than the investor. While not all the benefit goes the company way, the flexibility lies with the business more so.

Cons of SAFEs

Costs

There are fees and cost associated with a SAFE offering. Preparation costs, enforcement costs and the costs to comply with triggers all can be a detriment. While these hurdles can be less than other options, all should be considered before moving forward.

Different Investor pool

Accredited investors may not be interested in a SAFE offering. Many sophisticated investors are not interested in holding a SAFE because it doe not initially have any real value. Its value is derived once a trigger fires and the SAFE converts to actual equity in the company. This function can turn off those that are seeking upfront ownership.

Sophisticated investors may object to using a SAFE. Depending on the respective bargaining power of the parties involved, a company may need to instead offer a convertible promissory note or other financing option.

Question: What is in a financial statement review document?

Answer:

The elements of a financial statement review packet are the title page, table of contents, the review report, balance sheet, income statement, cash flow statement and the notes. The title page and table of contents are self-explanatory. The balance sheet lists the company’s assets and liabilities. The income statement provides the income and expenses for the period. The cash flow statement provides insight into the cash inflow and outflow during the year.

What is Regulation A Crowdfunding?

Regulation A refers to a crowdfund under SEC rules for crowdfunding. It allows companies to sell shares of stock to the public and avoid the reequipments that are generally enforced when gathering over 100 investors. This allows almost anyone to invest in a company.

Some of the highlights:

All transactions under Regulation Crowdfunding are to take place online through an SEC-registered intermediary, i.e. a funding portal

It permits a company to raise a maximum aggregate amount of $5 million through crowdfunding offerings in a 12-month period

There are limits on the amount individual non-accredited investors can invest across all crowdfunding offerings in a 12-month period

It requires disclosure of information in filings with the Commission and to investors and the intermediary facilitating the offering

What is an Accredited investor?

An accredited investor is allowed to trade securities that may not be registered with financial authorities, the SEC. And can be a business or individual. They must generally satisfy one or more requirements to be considered accredited. The rules for an individual are to have an annual income exceeding $200,000 for the last two years, if they have a net worth of over $1,000,000, or are a business head for a company that issues unregulated securities.

A business is accredited if it is a private business development company or an organization with assets exceeding $5 million. Or if the entity consists of equity owners who are accredited investors, the entity itself is an accredited investor.

What is a Non accredited investor?

The short answer is one that does not meet the qualifications of being an accredited investor. Which means they have two-year annual income of less than $200,000, and a net worth less than $1,000,000.

Who do I need to perform a crowdfunding Campaign?

CPA

They will help you prepare your financial statements and perform a review or audit as required by your type of arrangement. They can also help you stay compliant with regulations and other financial requirements.

Lawyer

This person will aid you in preparing and filing your crowdfunding documents. They are a needed asset when it come to filing Form C and the other various requirements in a crowdfund. You should always run thoughts and ideas by the lawyer first as it will save you time and money in the long run by avoiding errors.

Business Advisors and Accountants

These individuals will help you with many things including budget preparation, ongoing review and long-term planning. As well they should be able to provide good cash flow management advice with  forecasting and analysis. If they cannot help you implement sound control systems, find someone else for your needs.

Question: Which financial statement provides the most useful information?

Answer:

While they are all important, the income statement leads the way. It is better than the balance sheet because it shows the results for a period of time and not at a specific date.

Funding Portals

The key to your crowdfunding raise is the portal. Picking the wrong portal can end your fund in disaster and waste precious time. Below is a brief overview of a few of the top portals.

WeFunder

We help everyone invest as little as $100 in the startups they love.  You can think of us like “Kickstarter for investing”. Unlike Kickstarter, you are not buying a product or donating to an artist. Instead, you are investing in a business with the hope of earning a return.

You decide which companies are worthy of funding. If the business does well, you may make money.  If it doesn’t do well, you lose all your money. Either way, you join a community of other investors who seek to help the startup succeed. You sometimes get neat perks from the companies too.

If you want to grow your existing business, WeFunder can help you get funded. Your investors receive a small stake in your company, and the platform aims to increase their emotional investment in your success.

Kickstarter

Kickstarter campaigns make ideas into reality. It’s where creators share new visions for creative work with the communities that will come together to fund them.

Some of these creators, like Critical Role, TLC, and The Smithsonian Institution already had huge fanbases. But many projects have been as small-scale as a limited run of silent meditation vinyl’s or as up-and-coming as early versions of Issa Rae’s Insecure and Phoebe Waller-Bridge’s Fleabag.

No matter what, creators always control how the work comes together—no 100-page grant applications, no donors demanding you modify your message, no last-minute edits from investors. When backers chip in funding and help spread the word, they too become part of these independent works.

Fundable

Entrepreneurs create over 6 million new businesses each year in the United States, and yet only a fraction receive funding. We’ve set out to change that by creating a business crowdfunding platform that enables companies to raise capital from investors, customers, and friends. Here are the three things that have made Fundable the leading platform for business crowdfunding:

Fundable focuses on helping entrepreneurs, startups, and companies raise capital from the public through business crowdfunding. The site allows users to offer either rewards or equity in return for financial support.

Crowdfunder

Crowdfunder is the leader in equity crowdfunding and has helped raise capital for thousands of companies from our network of 12,000 VCs and angel investors. We’ve helped startups at all stages raise money from Pre-Seed to Series A.

This equity crowdfunding platform allows businesses to sell shares to accredited investors. Crowdfunder has a network of 15,000 venture capitalists and angel investors.

StartEngine

StartEngine is the largest equity crowdfunding platform in the US and the first mover in the industry. We have raised over $400M for over 500 company offerings on our platform to date, and we have helped more companies raise capital than any other platform.

Question: Is a financial statement review an audit?

Answer:

No. An audit is a very specific function. It offers high assurance than a review and is far more expensive due to its time intensive nature. 

What is the Form C Crowdfunding Filing?

The Form C is an offering statement filed by businesses looking to raise capital from accredited and non-accredited investors through online crowdfunding without all of the responsibilities that come with registering the offer and sale of securities with the SEC. Form C must include the following information:

  1. A description of the issuer’s business and the use of proceeds from the offering
  2. The price to the public of the securities or the method for determining the price
  3. The target offering amount and the deadline to reach the target offering amount
  4. Whether the issuer will accept investments in excess of the target offering amount
  5. Information about officers, directors, and owners of 20 percent or more of the issuer certain related-party transactions
  6. A discussion of the issuer’s financial condition and financial statements for up to two years

Question: Can an accountant perform a financial statement review?

Answer:

One who performs a review must be a licensed practitioner. Different countries have varying requirements and regulations when it comes to review, compilation and audit. 

Ernest L Tomkiewicz CPA has been called by some “the best affordable accountant and CPA” in New Hampshire. He has worked as an accountant and auditor for decades providing services to Massachusetts and New Hampshire. Saint Joseph’s College in Maine has conferred upon him a Master’s degree in Accountancy as part of his educational background.

His experience was broadened under the direction of Diane B Rohde CPA PLLC, where he worked for many years. Ernest has membership in the American Institute of Certified Public Accountants, the Association of Certified Fraud Examiners, the New Hampshire Society of Certified Public Accountants and the Greater Concord Chamber of Commerce.

In addition to being a certified public accountant he is also a certified fraud examiner. To learn more or subscribe to his social network, use these links: Facebook, LinkedIn, Twitter.

Financial Statement Review Management Representation Letter (What is it?)

Financial Statements listed our as Balance sheet, income statement, cash flows and equityFinancial Statements listed our as Balance sheet, income statement, cash flows and equity

The financial statement review management representation letter is designed to complete managements responsibilities in the review. The letter is signed at the end of the engagement and is dated at the time of the review report. The management representation letter has three basic parts, the introduction, statements about the financials and declarations on the information management has provided.

Care should be taken in producing this letter. It contains many items that if left out, increase liability on the CPA. In addition, the standards of SSARS (Statements on Standards for Accounting and Review) require certain elements to be included.

Also, please review our Ultimate Guide to Financial Statement Review and Compilation for information on the review process from beginning to end.

If you need help with a financial statement review or audit, contact me now!

The Introduction

This section lays out the basis of the representations. Management states what has been performed, the review. They also state that matters are generally limited to items that are material in nature. The following is the standard wording provided by the American Institute of Certified Public Accountants (AICPA).

This representation letter is provided in connection with your review of the financial statements of ABC Company, which comprise the balance sheets as of December 31, 20X2 and 20X1, and the related statements of income, changes in stockholders’ equity and cash flows for the years then ended, and the related notes to the financial statements, for the purpose of obtaining limited assurance as a basis for reporting whether you are aware of any material modifications that should be made to the financial statements in order for the statements to be in accordance with accounting principles generally accepted in the United States of America.

Certain representations in this letter are described as being limited to matters that are material. Items are considered material, regardless of size, if they involve an omission or misstatement of accounting information that, in the light of surrounding circumstances, makes it probable that the judgment of a reasonable person relying on the information would be changed or influenced by the omission or misstatement.

Statements About the Financials

This is one of the two sections of the document that contain the meat. In this section management takes responsibility for a number of things, it covers fair presentation according to GAAP, responsibility for internal controls and more. The following is a section form the AICPA approved wording.

  1. We acknowledge our responsibility and have fulfilled our responsibilities for the preparation and fair presentation of the financial statements in accordance with accounting principles generally accepted in the United States of America.
  2. We acknowledge our responsibility and have fulfilled our responsibilities for the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free from material misstatement, whether due to fraud or error.
  3. We acknowledge our responsibility for the design, implementation, and maintenance of internal control to prevent and detect fraud.
  4. Significant assumptions used by us in making accounting estimates, including those measured at fair value, are reasonable.
  5. Related party relationships and transactions have been appropriately accounted for and disclosed in accordance with the requirements of accounting principles generally accepted in the United States of America.
  6. Guarantees, whether written or oral, under which the company is contingently liable have been properly accounted for and disclosed in accordance with the requirements of accounting principles generally accepted in the United States of America.
  7. Significant estimates and material concentrations known to management that are required to be disclosed in accordance with FASB Accounting Standards Codification (ASC) 275, Risks and Uncertainties, have been properly accounted for and disclosed in accordance with the requirements of accounting principles generally accepted in the United States of America.
  8. All events occurring subsequent to the date of the financial statements and for which accounting principles generally accepted in the United States of America requires adjustment or disclosure have been properly accounted for.
  9. The effects of uncorrected misstatements are immaterial, both individually and in the aggregate, to the financial statements as a whole.
  10. The effects of all known actual or possible litigation and claims have been accounted for and disclosed in accordance with accounting principles generally accepted in the United States of America.

Declaration of the Information Provided

Finally, management states certain things about the information it has provided during the engagement. Things such as:
We have responded fully and truthfully to all inquiries made to us by you during your review.

We have provided you with:

  1. access to all information, of which we are aware, that is relevant to the preparation and fair presentation of the financial statements, such as records, documentation, and other matters
  2. minutes of meetings of stockholders, directors, and committees of directors or summaries of actions of recent meetings for which minutes have not yet been prepared; additional information that you have requested from us for the purpose of the review; and unrestricted access to persons within the entity from whom you determined it necessary to obtain review evidence.
  3. All transactions have been recorded in the accounting records and are reflected in the financial statements.
  4. We have [no knowledge of any] [disclosed to you all information that we are aware of regarding] fraud or suspected fraud that affects the entity and involves
  5. management, employees who have significant roles in internal control, or others when the fraud could have a material effect on the financial statements.
  6. We have [no knowledge of any] [disclosed to you all information that we are aware of regarding] allegations of fraud, or suspected fraud, affecting the entity’s financial statements as a whole communicated by employees, former employees, analysts, regulators, or others.
  7. We have no plans or intentions that may materially affect the carrying amounts or classification of assets and liabilities.
  8. We have disclosed to you all known instances of noncompliance or suspected noncompliance with laws or regulations whose effects should be considered when preparing financial statements.
  9. We [have disclosed to you all known actual or possible] [are not aware of any pending or threatened] litigation and claims whose effects should be considered when preparing the financial statements [and we have not consulted legal counsel concerning litigation or claims]
  10. We have disclosed to you any other material liabilities or gain or loss contingencies that are required to be accrued or disclosed by FASB ASC 450, Contingencies.
  11. We have disclosed to you the identity of the entity’s related parties and all the related party relationships and transactions of which we are aware.
  12. We have disclosed to you all information relevant to the use of the going concern assumption in the financial statements.
  13. No material losses exist (such as from obsolete inventory or purchase or sale commitments) that have not been properly accrued or disclosed in the financial statements.
  14. The company has satisfactory title to all owned assets, and no liens or encumbrances on such assets exist, nor has any asset been pledged as collateral, except as disclosed to you and reported in the financial statements.
    We have complied with all aspects of contractual agreements that would have a material effect on the financial statements in the event of noncompliance.
  15. We are in agreement with the adjusting journal entries that you have recommended, and they have been posted to the company’s accounts (if applicable).

In total the management representation letter sums up the company responsibilities for the engagement. It outlines the various factors taken into account during a review or audit. Care should be used when preparing this letter to assure it is in compliance with accounting regulations. Below is a link to a properly formatted financial statement review management representation letter.

The Financial Statement Review Engagement Letter (What is it?)

Financial Statements listed our as Balance sheet, income statement, cash flows and equityFinancial Statements listed our as Balance sheet, income statement, cash flows and equity

The financial statement review engagement letter is designed to spell out the who, what and how of the review. It generally contains five parts: the introduction, the CPA responsibilities, the company responsibilities, the report and other matters. Like any contact it is a binding legal agreement if properly prepared.

Care should be taken when writing an engagement letter. First, it is a tool to ensure that both sides perform as specified. And if not, it can be used to enforce penalties for non-performance. Second, the engagement letter must adhere to standards of SSARS (Statements on Standards for Accounting and Review).

Also, please review our Ultimate Guide to Financial Statement Review and Compilation for information on the review process from beginning to end.

Independence

Before accepting the engagement and creating an engagement letter the CPA must determine if they have the independence needed to perform the service. As well, If during the performance of the review, the CPA determines that his independence is impaired, he should withdraw from the review engagement.

So what is independence? The American Institute of Certified Public Accountants (AICPA) defines independence as: “the state of mind that permits a member to perform an attest service without being affected by influences that compromise professional judgment, thereby allowing an individual to act with integrity and exercise objectivity and professional skepticism”.

Further, “Independence in appearance is the avoidance of circumstances that would cause a reasonable and informed third party, who has knowledge of all relevant information, including safeguards applied, to reasonably conclude that the integrity, objectivity, or professional skepticism of a firm or member of the attest engagement team is compromised”.

They can call this “plain English” all they want, but it’s still a little wonky. Let’s breakdown the first part. What they are saying is that if there is a situation that puts the CPA in a position to not properly perform without bias, it’s a problem. Things that can impair independence this way are:

The performance of certain services for the client such as acting in a management capacity, holding custody of their assets or having a close family member in a position of governance working for the client. These situations create a situation where the CPA is beholden to the company they must be independent from.

The second part uses a gauge to determine if independence is impaired. If a third-party outsider would consider the CPA to be impaired, they probably are impaired. This type of consideration is useful to give the CPA pause to step back and look at his situation from the outside.

The Engagement Letter

The Introduction

The introduction set out what will be done. It’s where the CPA explains that a financial statement review will be performed. It also provides the time frame that is being reviewed. The following from the AICPA is a standard introduction.

You have requested that we prepare the financial statements of ABC Company, which comprise the balance sheet as of December 31, 20XX, and the related statements of income, changes in stockholders’ equity, and cash flows for the year then ended, and the related notes to the financial statements and perform a review engagement with respect to those financial statements. We are pleased to confirm our acceptance and understanding of this engagement by means of this letter.

This section can be changed to reflect a variety of things. Perhaps the engagement is for comparative financials or is for only specific elements like only a balance sheet or all statements but with out the notes. It is key to get this section, dates and all, correct.

CPA Responsibilities

This section is actually entitled, Our Responsibilities. That is because it is being written from the perspective of the CPA firm. There are quite a few items that appear here the following is a list from the AICPA of the basics to include.

The objective of our engagement is to:

a. prepare financial statements in accordance with accounting principles generally accepted in the United States of America based on information provided by you and

b. obtain limited assurance as a basis for reporting whether we are aware of any material modifications that should be made to the financial statements in order for the statements to be in accordance with accounting principles generally accepted in the United States of America.

We will conduct our engagement in accordance with Statements on Standards for Accounting and Review Services (SSARSs) promulgated by the Accounting and Review Services Committee of the AICPA and comply with the AICPA’s Code of Professional Conduct, including ethical principles of integrity, objectivity, professional competence, and due care.

A review engagement includes primarily applying analytical procedures to your financial data and making inquiries of company management. A review engagement is substantially less in scope than an audit engagement, the objective of which is the expression of an opinion regarding the financial statements as a whole. A review engagement does not contemplate obtaining an understanding of the entity’s internal control; assessing fraud risk; testing accounting records by obtaining sufficient appropriate audit evidence through inspection, observation, confirmation, or the examination of source documents; or other procedures ordinarily performed in an audit engagement. Accordingly, we will not express an opinion regarding the financial statements.

Our engagement cannot be relied upon to identify or disclose any financial statement misstatements, including those caused by error or fraud, or to identify or disclose any wrongdoing within the entity or noncompliance with laws and regulations. However, we will inform the appropriate level of management of any material errors and any evidence or information that comes to our attention during the performance of our review procedures that indicates fraud may have occurred. In addition, we will report to you any evidence or information that comes to our attention during the performance of our review procedures regarding noncompliance with laws and regulations that may have occurred, unless they are clearly inconsequential.

Management’s Responsibilities

This section is titled Your Responsibilities. This is due to the fact that the letter is being aimed at the company. The following is from the AICPA and is preferred language.

The engagement to be performed is conducted on the basis that you acknowledge and understand that our role is to prepare financial statements in accordance with accounting principles generally accepted in the United States of America and to obtain limited assurance as a basis for reporting whether we are aware of any material modifications that should be made to the financial statements in order for the statements to be in accordance with accounting principles generally accepted in the United States of America. You have the following overall responsibilities that are fundamental to our undertaking the engagement in accordance with SSARSs:

a. The selection of accounting principles generally accepted in the United States of America as the financial reporting framework to be applied in the preparation of the financial statements

b. The preparation and fair presentation of the financial statements in accordance with accounting principles generally accepted in the United States of America and the inclusion of all informative disclosures that are appropriate for accounting principles generally accepted in the United States of America

c. The design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of the financial statements that are free from material misstatement, whether due to fraud or error

d. The prevention and detection of fraud

e. To ensure that the entity complies with the laws and regulations applicable to its activities

f. The accuracy and completeness of the records, documents, explanations, and other information, including significant judgments, you provide to us for the engagement

g. To provide us with:

  • access to all information of which you are aware is relevant to the preparation and fair presentation of the financial statements, such as records, documentation, and other matters,
  • additional information that we may request from you for the purpose of the review engagement,
  • unrestricted access to persons within the entity of whom we determine it necessary to make inquiries

h. To provide us, at the conclusion of the engagement, with a letter that confirms certain representations made during the review.

You are also responsible for all management decisions and responsibilities, and for designating an individual with suitable skills, knowledge, and experience to oversee our preparation of your financial statements. You are responsible for evaluating the adequacy and results of services performed and accepting responsibility for such services.

In general, management of the company is responsible for the financial information and that it complies with GAAP. They are also responsible for fraud detection and prevention and to comply with laws and regulations. They have a responsibility to provide the CPA with any access necessary to complete the review. Last they need to have a person of suitable financial knowledge to oversee the financial statement review.

Our Report

This section discusses the report that will be issued with the financial statements. It also explains that the CPA does not assure that a clean (unmodified) report will be issued. It also provides an out if the CPA feels they need to withdraw from the engagement. Last it specifies what the company can and can’t do with the reviewed financials. From the AICPA this is an example wording.

We will issue a written report upon completion of our review of ABC Company’s financial statements. Our report will be addressed to the board of directors of ABC Company. We cannot provide assurance that an unmodified accountant’s review report will be issued. Circumstances may arise in which it is necessary for us to report known departures from accounting principles generally accepted in the United States of America, add an emphasis-of-matter or other matter paragraph(s), or withdraw from the engagement. If, for any reason, we are unable to complete the review of your financial statements, we will not issue a report on such statements as a result of this engagement.

You agree to include our accountant’s review report in any document containing financial statements that indicates that such financial statements have been reviewed by us and, prior to inclusion of the report, to ask our permission to do so.

Other Relevant Information

This area is designed for the CPA to insert the cost for services as well as charges for ancillary services like photo copying and other side items. They can also add legal things like how disputes are handled. Pretty much anything not covered above can be inserted here.

Attached to this post below is a copy of a financial statement review letter that I sometimes use. It is a guide that I base many letters off of. Enjoy!

 

Sample Financial Statement Review Engagement Letter