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Jan 1989

Revisiting 'plain paper' financial statements.

by Israeloff, Robert L.

    Abstract- 'Plain paper financial statements' may be a viable alternative so that accountants can provide clients with historical financial statements that are intended solely for the client's use without having to comply with the requirements for a compilation report. The American Institute of Certified Public Accountants should consider these financial statements as long as suggested safeguards are met, such as: it is understood that the statements will be used only by the client; the accountant will not issue a report on the financial statements; and the financial statement will not have the accountants' name or logo anywhere on the statement.

The AICPA should reconsider the requirement in SSARS No. 1 that an accountant comply with the standards established for a compilation service whenever he submits financial statements to his client or others. Both the Executive Committee and the Technical Issues Committee of the AICPA Private Companies Practice Section support the concept of allowing "plain paper statements" in certain circumstances.

The propriety and effectiveness of "plain paper statements" has been the subject of study and controversy for most of this century. In 1967, SAP 38 put an end to the practice. SSARS No. 1 confirmed the SAP 38 position. In 1982, the Accounting and Review Services Committee proposed an exemption from the compilation standards for computer prepared interim financial statements. That proposal attracted many negative comment letters, perhaps because it differentiated computer prepared statements from manually prepared statements, and was subsequently withdrawn.

Given that history, why do I raise the same issue again? In a nutshell, because times change, needs change, and people change. And because accounting and auditing standards are not immutable laws destined to apply forever. Rather, they reflect the best thinking as to what meets the needs of the public and our clients in the circumstances that exist at the time.

Times have changed, but one thing has remained the same: standards overload is still with us, and it is far worse than it was in 1972 when Peter Arnstein observed in an article in the Journal of Accountancy that: "With the increasingly complex Opinions being issued by the APB at an accelerated rate...more and more time is being spent developing information which is not of significance to anyone."

This article is not for the purpose of criticizing the various accounting pronouncements that I believe are confusing, costly, and often unnecessary for the smaller, private company. I am confident that most of you know what they are. The real point is that CPAs in public practice and their clients are increasingly concerned about standards overload and want the AICPA to do something about it.

Time has brought changes in the number and complexity of accounting rules, but it has also brought an improved understanding of the CPA's role in the financial reporting process by bankers and other users of the financial statements of small private companies. Every banker I know has a good understanding of what an audit is. A lot of bankers may not be able to explain what a review is, but they certainly know it is not as "good" as an audit. Most seem to know that a compilation is not much different from a statement by management. And I do not know any banker who would place reliance on a CPA's alleged "association" with a set of financial statements without seeing the CPA's report.

These changes in the user environment deal directly with the major argument advanced by those opposed to plain paper financial statements. Reliance by third party users on financial statements that are not accompanied by a CPA's report is no longer a major risk.

As times have changed, so have needs. Our clients are operating in an increasingly complex and competitive environment. Small retailers have to compete daily against mass marketers and discounters and have to cope with a customer base that is constantly changing in our mobile society. Small manufacturers, just like large ones, have to meet the challenge of foreign competitors, poorly armed with a weak dollar and obsolescent plants. Service companies are subject to all the challenges posed by competition, inflation, consumer price resistance, regulations, and so forth.

Survival is a very real issue for many of my clients and yours. We, as their CPAs, have an important role to play in helping them to survive. They need basic information, they need it on a timely basis, and they need help interpreting it. That is what we should be doing for our small, private companies during the year, not worrying about the calculation of deferred taxes and other esoteric accounting issues.

Some opponents of plain paper financial statements argue that it will lead to more substandard reporting. I disagree. I do not believe that financial statements that meet a client's needs are substandard, provided they are marked "for management use only." Moreover, I do not believe GAAP financial statements are necessary to meet the day-to-day needs of my small, private clients. In fact, GAAP financial statements- -which are basically intended for reasonably informed third party users- -often only confuse those clients.

No CPA who is a professional is going to give his or her client financial information with deficiencies that will cause the client to make a bad decision. Such a CPA would soon be out of business. And the new quality review program is going to make sure that the CPAs in our ranks are professionals.

Finally, it is time to act because people change. The CPAs I know who have client bases like mine are ready for a change. Our clients are tired of us telling them what we cannot do and of us giving them what they do not want--they want a change. The AICPA should consider a change that will enable CPAs to provide their clients with useful, timely services on a cost-effective basis.

Statements clearly marked "for management use only" will not mislead any third party user. Moreover, as an Institute we are learning how to communicate with the public more effectively and we can make certain our message and intent are communicated to bankers. It is time to allow CPAs in public practice to do for their clients what the clients could do if they did not need the CPA.

Thus, I believe that SSARS No. 1 should be amended to permit an accountant to compile historical financial statements of a nonpublic entity that are intended solely for the client's use without complying with the requirements for a compilation report in SSARS No. 1 when safeguards such as the following are met:

. The accountant establishes an understanding with the client, preferably in writing, that the financial statements will be used solely with the client entity and will not be distributed to any party outside the entity.

. Nothing comes to the accountant's attention during the engagement that would cause the accountant to believe that the financial statements will be used by any party outside the entity.

. Each page of the financial statements is marked with the legend "For Management Use Only--Contains Departures From GAAP."

. The accountant does not issue a report on the financial statements.

. The financial statements are presented on paper that does not contain the accountant's or firm's name, watermark, logo, or any other means of associating the accountant or firm with the financial statements.

. The financial statements are not presented alongside or bound with any other information containing the accountant's report or name.

Many accountants believe that a solution is to allow the use of plain paper statements restricted to management use is an idea whose time has come once again.

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