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Jan 1992

Year-end accounting and auditing advantage.

by Primoff, Walter M.

    Abstract- Accounting firms earn the greatest portion of their revenues from year-end accounting and auditing. The end of the fiscal year, however, is also the most trying time for public accountants as they try to cope with the tremendous volume of work to be done, meet various engagement commitments, and keep clients satisfied, while keeping track of all the deadlines that have to be met. Practitioners can have an easier time during this busy season by planning, knowing the clients and their operating environment, consulting with experts, using practical aids and checklists, assessing internal controls correctly, and decreasing the number of bank confirmations.

The editors of The CPA Journal, to help accountants make the most of the "busy season" have prepared this final count down. It is designed to give a thought, an approach, or an idea to help turn the season to the practitioner's best advantage. It is not a substitute for a careful study or other materials available such as the AICPA "Audit Risk Alert" published each year in The CPA Letter or the "Current Industry Development" (CID) updates prepared by the many AICPA industry committees and published throughout the year (more on these AICPA publications appears in the accompanying sidebar on new pronouncements).



Following is a brief discussion of areas that practitioners sometimes neglect or find troublesome. The topics were selected from conversations with practitioners, the experience of the editors, and deficiencies noted by technical reviewers in the quality review program.

Properly attending to these matters can provide additional assurance that the engagement--audit, review, or compilation--is completed to the practitioner's advantage.

The Secret to Sudden Success is

Long Preparation

There is no substitute for planning. This is true for every level of service, and it is never to late to do the planning that may have been neglected or might have been better performed at an earlier date. Planning accomplishes four every important things:

* It leads to the identification of the risks and exposures in an engagement;

* It increases the likelihood of conforming with professional standards;

* It provides focus for delivery of a quality product on time, which leads to a happy client; and

* It enhances efficiency and effectiveness.

Identification of Risks. In the bright light of hindsight, in most audit busts--an audit that did not reveal a significant overstatement of revenue and assets--the evidence of the problem was there. The auditor failed to be alert to or give proper weight to existing evidence. He or she failed to see, for example, changing economic conditions, changes in attitude of management, or decline within the industry. Part of planning is to look for the increased risks and exposures because things are different than they were the last time the engagement was conducted.

Conforming with Professional Standards. Proper planning and its documentation is a requirement of professional standards for all levels of service. The lack of documentation of planning, including partner involvement early in the process, is one of the most common deficiencies being identified in quality reviews. The planning phase is also the time to be sure that all new pronouncements are properly considered and implemented. To help identify the new standards that are effective this busy season, the editors have prepared an accompanying sidebar of pronouncements.

Quality Service = Happy Client. Clients are looking for both a quality final product--the financial statement and tax return--and quality throughout the process. Did work begin when the client expected? Were questions identified early so there were no last minute surprises? Was the tax return delivered in time to have it reviewed and signed by the client? Were the partner and other senior people on the client service team visible to the client and were their contributions known?

As firms try to cope with competition and fee pressures, quality service can make the difference and be the key to survival.

For the Sake of Efficiency and Effectiveness. The competitive environment requires not only that services meet the expectations of the client through a quality product, but also that the work be performed in an efficient, cost-effective way. Planning can lead to:

* Doing the right amount of work for the level of assurance called for by the engagement--the risks from not doing enough work are great, the benefits of doing too much work are small;

* Implementing time-saving features of microcomputer technology;

* Having people at the right level perform the work at the right time; and

* Having the work reviewed shortly after it is completed.

It is never too late to do the steps that planning entails. This up- front time will pay for itself.

Know Your Client and the

Client's Operating Environment

The recession that affected the U.S. economy severely in 1991 appears to be continuing. Bankruptcies are up and profits are down. Although there are some signs of recovery, the current depressed state of the economy seems likely to linger into 1992. How should these economic conditions affect planning for engagements involving 1991 year-end financial statements?

Asset Valuation. The accountant should consider the risk of material misstatement related to asset valuation issues. Is the client using the appropriate useful lives for amortization of long-lived assets--both tangible and intangible? Has there been a permanent impairment of the carrying amount of these assets that must be recognized? Are the client's policies and procedures adequate for identifying the need for write-downs for both current and long-lived assets?

The accountant should also consider the valuation of investments in assets with a restricted market, or no market, such as real estate and certain securities. Are client policies for evaluating the net realizable value of such assets adequate? Is the evidence supporting net realizable value adequately documented and sufficiently persuasive?

Liability Presentation and Disclosure. Clients under severe economic pressure may have violated the covenants of debt agreements. The accountant should advise the client's management on a timely basis of the need to obtain waivers of violations to avoid debt reclassification or related disclosures. Also, the accountant should consider whether the documentation of the waiver is adquate.

Earnings Measurement. In the current economic environment management may be under increased pressure to use accounting methods to improve earnings performance. The accountant should consider whether there have been changes in revenue recognition policies or adoption of new methods of applying existing policies designed to increase earnings. The accountant should also consider whether there have been accounting changes that defer costs or delay expense recognition. In general, professional skepticism should be exercised in these areas particularly with respect to large or unusual transactions recorded late in accounting periods.

Remember to Consult

Professional standards, increasing business risks, and competition all demand that the accountant reached the "right" conclusion as quick as possible. Too often, for a variety of reasons--time pressures, client expectations, pride, and ignorance to name a few--practitioners fail to get the right answers. It is extremely important that practitioners recognize when it is time to consult with knowledgeable professionals within the firm and, if necessary, outside the firm. It is important when consulting that all the relevant facts be presented in an objective way. It is not a weakness to consult. It should be done after the practitioner has researched the area and reached a tentative conclusion.

Some places for the practitioner to consider for consulation include:

* The AICPA Technical Information Service 800-223-4158 (Except New York City), 800-522-5430 (New York only);

* The FASB Technical Information Service 203-847-0700, Extension 369; and

* Your state CPA society technical inquiry service.

Use Practice Aids and Checklist

Practitioners no longer can carry the pronouncements and guidance that they are required to know in their heads, let alone their bulging brief cases. It becomes essential for them to use checklists and reminders to make sure nothing has been overlooked. Checklists are available for every conceivable purpose. The choices of which to use and how to use them must be be made wisely. If the practitioner is not careful, excessive use of checklists can lead to preparation in a perfunctory manner, which does more harm than good.

Engagement Control Checklists. Common types of checklists used in the control of accounting and auditing engagement include:

* Engagement planning (an example was published in Auditing department of The CPA Journal in September 1991, page 60).

* Financial statement preparation and disclosure--relates to the preparation of financial statements in accordance with GAAP.

* Accountant's reports--relates to the preparation of the proper accountant's report for the nature and conclusions reached on the engagement.

* Engagement and workpaper review--assures that the documentation in support of the accountant's conclusion and report is reasonably complete.

* Concurring or pre-issuance review--documents that a firm's requirements for a second partner review have been satisfactorily completed.

Engagement control checklists of the kind described above are available from third-party publishers or they can be developed by a careful study of professional standards and what others are using in practice.

Other Engagement Checklists. Practitioners and others have developed a variety of other checklists to improve efficiency and assure that matters have been properly considered, such as:

* Tax savings checklist--an idea-triggering device to identify tax planning and saving matter for clients. To be effective, this type of checklist must be prepared prior to year-end while there is time to take action. (A sidebar presents a sample of the kinds of questions that a tax-savings checklist might cover).

* Tax accrual checklist--a reminder list for auditors to see that the tax consequences of potentially significant events have been considered by the client in making the income tax accrual.

* Inventory observation checklist--an aid to help assure that all essential steps in an observation in a physical inventory as part of an audit have been accomplished.

Checklists are also widely used in the tax practices of many to assist in return preparation.

Getting Internal Control Right

Calendar 1991 is the second year of implementation of SAS 55, "Consideration of the Internal Control Structure in the Financial Statement Audit." CPAs no longer study and evaluate internal control; they now obtain an understanding of the internal control structure and assess control risk. Quality reviews are revealing that practitioners are having difficulty with or are ignoring the requirements of that new SAS.

SAS 55 requires greater documentation of internal control matters and the making of an assessment of control risk for each assertion for each significant account balance or transaction class embodied in the financial statements. At first look this drastic switch in approach can overwhelm the local practitioner auditing small entitles. Practitioners struggling with implementation of these new concepts can refer to the AICPA audit guide bearing the same name as the SAS. That guide discusses implementation of the statement for three types of entities. For one of them, the small business entity named Ownco, Inc., the guide provides some practical advice on implementaion in a cost-beneficial way and illustrates some simple documentation approaches. For example, rather than making an assessment of control risk for each potentially 150 assertions--five assertions for 30 account balances or transaction classes--in a typical financial statement, it suggests that the practitioner state in the planning process that for all but the specifically named assertions, the assessment of control risk is at the maximum. The practitioner then goes on to name the specific assertions for which control risk is assessed at below the maximum. In the small entity audit, control risk may very well be assessed at the maximum for all assertions, and a primarily substantive audit approach followed.

Reduce the Number of Bank


The new bank confirmation form is required for confirmations mailed on or after March 31, 1991 (see "The New Confirmation Form for Financial Institutions," The CPA Journal, January 1991, page 50). The new form requests the financial institution to indicate the correctness of information on deposit and loan balances. It no longer can be used to discover information about contingent liabilities, guarantees, and the like. If this other information is sought, the request should be made in a separate letter to the financial institution official that would be presumed to have the appropriate knowledge about that other information or transaction. It has been customary for accountants to send requests for confirmation of bank balances to all financial institutions that hold deposits with the expectation of discovering otherwise unknown liabilities. Accountants were often heard saying, "the cash balance is not material at this bank; but I still have to send the confirmation to seek out a transaction or other liability that may not be recorded." With some institutions now charging for the responses, accountants may wish to reconsider the need to send request to all of the client's banks. For example, it may be decided to omit sending requests to banks that do not have significant deposits and loan balances.

Reporting to Tax-Basis Financial


The standards overload has caused practitioners and their clients to consider the preparation of financial statements on an income tax basis. The thinking is that if financial information is going to be developed for the tax return, why not, in the interests of economy and simplicity, prepare financial statements on that same basis? Many companies have found that users of financials, such as bankers and others, will accept tax-basis financials. Under SAS 62, "Special Report," that basis is an acceptable other comprehensive basis of accounting (OCBOA), and guidance is given in that SAS on the type of accountant's report that is appropriate.

Caution is in order, however. In an audit of tax-basis financial statements, the accountant cannot merely accept the word of the tax consultant or other tax specialist that these are the amounts expected to appear in the tax return. The accountant must examine evidence as in any audit that the amounts are fairly stated, albeit on an income tax basis. For example, in the audit of inventories for tax-basis financials, the accountant would still be required to test for physical existence and proper valuation, including the application of overhead as required for tax purposes. Similarly, if the accrual basis of accounting is appropriate for tax purposes, then the accountant would have to make the usual tests for unrecorded liabilities, but using the tax definition for liabilities.

And the accountant would have to consider what disclosures are necessary by way of contingencies and other matters so as not to make the financial statements misleading.


The Firm is More Important than

the Goals and Statistics of


Motivating professionals to perform and compensating them for such performance is conventional wisdom. It requires that objective measurement criteria be employed: client chargeable hours, realization rates, and hours managed to name a few. But during this peak period, when operating at full capacity, the greatest success can be achieved if the individual goals and objectives are tempered and sometimes put aside for the good of the firm.

For example, with permanent staff levels at the lowest in recent years, partners, managers and staff may have to pitch in and work below their level to complete the work on time and achieve appropriate levels of quality. This will adversely impact realization rates, but may well result in a satisfied client--and at no out-of-pocket cost to the firm.

Keeping the senior on the wrap-up phase of the engagement instead of turning it over to the second in command may keep overall time on an engagement to the minimum, but prevent the timely completion of a more complex engagement that is short an experienced senior.

The overall success of the firm is presumably the objective. It requires give and take and communication among the principals.

Pay Attention to Billing and


Practitioners in the heat of battle occasionally neglect or put off the sometimes unpleasant task of billing and collecting. Work performed for clients that has not been paid for is work not yet finished. Practitioners may wish to consider the following advice:

*Bill for work prompty, and pursue for collection if not promptly paid. Those that hand back in seeking collection may end up settling for less.

* Consider progress billings every two weeks for work that extends for more than that.

* Final bill shortly after all the work is completed and still fresh in the mind of the client.

* Send bills with tax returns. It may mean making an estimate of time spent, but the benefits far outweigh the risk of an incorrect estimate.

* Obtain retainers for special work or work for clients with cash flow difficulties.

Do You Trust Your Client?

Perhaps the most important consideration for the practitioner from both a professional and practice management perspective is whether a client is trustworthy. If, for whatever reason, a client cannot be trusted to tell all the relevant facts and to pay the fair value of services rendered, it may not be a worthwhile client. The risks to reputation and the potential costs of a "blown engagement" are just too great.

Get Ready for the Slow Season


At the point that the firm is busiest is the time to think about what steps should be taken when work begins to slow down. Matters to be considered are:

* Monitor that evaluations of staff by supervisory personnel are prepared on an ongoing basis as work is performed. Don't wait until all the "important" work is done.

* Schedule the staff evaluation process to begin during the busy season so that judicious reductions in staff based on performance can made as the workload declines.

* Review and make note of the work being done to see that procedures could have been eliminated or done earlier. These notes should be used in the planning process next year to optimize the overall use of staff. Doing work before the year-end may add to total time on an engagement but may reduce the time in peak periods and result in a smaller permanent professional staff.

Insurance is a Buyer's Market--But

Be Careful

A number of insurers are for the first time offering coverage to accountants, some at significantly reduced rates. This is somewhat surprising in view of the withdrawal of carriers from this field a few years ago and the impression of ever-increasing numbers of claims against accountants.

Before making any change in carrier or renewing coverage, practitioners should:

* Carefully look into the current financial status and rating of the carrier, and

* Carefully review the policy's coverage in view of the expanding nature of their practice and the increased risks in today's business climate.


At each year-end and before the end of each engagement a practitioner should ask him- or herself--no matter how carefully an engagement is planned--what has been potentially overlooked and what conditions exist for the first time which would alter the work being done? This should be asked when planning is well advanced but before the die is cast as to the timing and performance of too much or too little work.

The CPA Journal is broadly recognized as an outstanding, technical-refereed publication aimed at public practitioners, management, educators, and other accounting professionals. It is edited by CPAs for CPAs. Our goal is to provide CPAs and other accounting professionals with the information and news to enable them to be successful accountants, managers, and executives in today's practice environments.

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