Accurate financial statements are essential to making informed business decisions. So, managers and other stakeholders may express concern when a company restates its financial results. Before jumping to premature conclusions, however, it’s important to dig deeper to evaluate what happened.

Uptick in restatements 

In June 2024, the Center for Audit Quality (CAQ) reported a recent uptick in financial restatements by public companies. The report, “Financial Restatement Trends in the United States: 2013–2022,” delves into a ten-year study by research firm Audit Analytics. It found that the number of restatements in 2022 had increased by 11% from the previous year.

More alarming is a trend toward more “Big R” restatements. Big Rs indicate that the company’s previously filed financial reports were deemed unreliable by the company or its auditors. Although most restatements are due to minor technical issues, the proportion of total restatements that were Big Rs rose to 38% in 2022, up from 25% in 2021. The 2022 figure is also up from 28% in 2013 (the peak year for restatements in the study) — and it’s the third consecutive year that the proportion of Big Rs has increased.

However, the CAQ report states, “It is too early to tell if the increase in restatements toward the end of the sample period is a true inflection point or simply a brief disruption of the previous downward trend.” Overall, financial restatements have decreased from 858 in 2013 to 402 in 2022.

Reasons for restatement 

The Financial Accounting Standards Board defines a restatement as a revision of a previously issued financial statement to correct an error. Whether they’re publicly traded or privately held, businesses may reissue their financial statements for several “mundane” reasons. For instance, management might have misinterpreted the accounting standards, requiring the company’s external accountant to adjust the numbers. Or they simply may have made minor mistakes and need to correct them.

Common reasons for restatements include:

1. Recognition errors (for example, when accounting for leases or reporting compensation expense from backdated stock options),
2. Income statement and balance sheet misclassifications (for instance, a company may need to shift cash flows between investing, financing and operating on the statement of cash flows),
3. Mistakes reporting equity transactions (such as improper accounting for business combinations and convertible securities),
4. Valuation errors related to common stock issuances,
5. Preferred stock errors, and
6. The complex rules related to acquisitions, investments, revenue recognition, and tax accounting.

Often, restatements happen when the company’s financial statements are subjected to a higher level of scrutiny. For example, restatements may occur when a private company converts from compiled financial statements to audited financial statements or decides to file for an initial public offering. They also may be needed when the owner brings in additional internal (or external) accounting expertise, such as a new controller or audit firm.

Material restatements often go hand-in-hand with material weakness in internal controls over financial reporting. In rare cases, a financial restatement also can be a sign of incompetence — or even fraud. Such restatements may signal problems that require corrective actions. However, the CAQ report found that only 3% of all restatements and 7% of Big Rs involved fraud over the 10-year period.

We can help

The restatement process can be time-consuming and costly. Regular communication with interested parties — including lenders and shareholders — can help businesses overcome the negative stigma associated with restatements. Management also needs to reassure employees, customers and suppliers that the company is in sound financial shape to ensure their continued support.

Accounting and tax rules are continuously updated and revised. So, your in-house accounting team may need help understanding the evolving accounting and tax rules to minimize the risk of restatements, as well as help them effectively manage the restatement process. We can help you stay atop the latest rules, reinforce your internal controls, and issue reports that conform to current Generally Accepted Accounting Principles.

In certain circumstances, businesses may need to hire CPAs to perform agreed-upon procedures (AUPs) instead of (or in addition to) a review or an audit. AUPs are a type of attestation engagement “in which a practitioner performs specific procedures on subject matter and reports the findings without providing an opinion or conclusion,” according to the standards set forth by the American Institute of Certified Public Accountants.

AUPs generally cost less and take less time than a review or an audit. Plus, their versatility allows them to address nonfinancial matters and dig deeper into items reported on your financial statements.

The basics

In general, an AUP engagement uses similar procedures to a review or an audit, but on a smaller and limited scale and with no assurance on the part of the CPA. An engagement letter is used to outline the scope and nature of the specific procedures that will be performed.

Upon completing AUPs, CPAs issue a written report that 1) describes the procedures performed and 2) summarizes the findings from each procedure. The accounting standards also require an AUP report to contain the following:

• A title that includes the word “independent” to show the report is from an independent accountant,
• Identification of the engaging party, the subject, and responsible party (if it’s not the same as the engaging party),
• The intended purpose(s) of the engagement,
• A statement that the practitioner didn’t conduct an examination or review,
• A statement that the practitioner doesn’t express an opinion or conclusion, and
• Reservations or restrictions concerning procedures or findings.

AUPs can be tailored to your organization’s needs and provide a targeted analysis into key areas of your business’s operations.

AUPs in the real world

Examples of areas where an AUP can provide clients and third parties with valuable insights include:

• Internal control evaluations,
• Grant compliance,
• Franchise agreement compliance,
• M&A due diligence,
• Construction project progress and spending practices, and
• Royalty payments under a licensing agreement.

Lenders also may want to confirm whether a company is in compliance with its loan covenants. Or if a lender waived a loan covenant violation during the year-end review or audit, the bank might request, as a condition of the waiver, that the borrower hire a CPA to perform AUPs to check on key financial metrics midyear.

We can help

AUPs are among the many services CPAs offer. These engagements can be a flexible, time-saving alternative (or add-on) to financial statement reviews and audits. But they have their limitations. Contact us to determine whether an AUP engagement is right for your situation.

With a median loss of $766,000, financial misstatement schemes are the costliest type of fraud, according to “Occupational Fraud 2024: A Report to the Nations,” a study published by the Association of Certified Fraud Examiners. Fortunately, auditors and forensic accountants may be able to detect financial statement fraud by testing journal entries for errors and irregularities. Here’s what they look for and how these tests work.

Suspicious entries

Statement on Auditing Standards (SAS) No. 99, Consideration of Fraud in a Financial Statement Audit, provides valuable audit guidance that can be applied when investigating fraudulent financial statements. It notes that “material misstatements of financial statements due to fraud often involve the manipulation of the financial reporting by … recording inappropriate or unauthorized journal entries throughout the year or at period end.”

Financial misstatement comes in many forms. For example, out-of-period revenue can be recorded to inflate revenue — or checks can be held to hide current period expenses and boost earnings. Accounts payable can be understated by recording post-closing journal entries to income. Or expenses can be reclassified to reserves and intercompany accounts, thereby increasing earnings.

To detect these types of scams, SAS 99 requires financial statement auditors to:

• Learn about the entity’s financial reporting process and controls over journal entries and other entries,
• Identify and select journal entries and other adjustments for testing,
• Determine the timing of the testing,
• Compare journal entries to original source documents, such as invoices and purchase orders, and
• Interview individuals involved in the financial reporting process about inappropriate or unusual activity relating to the processing of journal entries or other adjustments.

Forensic accountants also follow audit guidelines when investigating allegations of financial misstatement. And financial statement auditors may call on these experts when they notice significant irregularities in a company’s financial records.

Testing procedures

AICPA Practice Alert 2003-02, Journal Entries and Other Adjustments, identifies several common denominators among fraudulent journal entries. Auditors will ask for access to the company’s accounting system to test journal entries made during the period for signs of fraud.

Specifically, they tend to scrutinize entries made:

• To unrelated, unusual, or seldom-used accounts,
• By individuals who typically don’t normally make journal entries,
• At the end of the period or as post-closing entries that have little or no explanation or description,
• Before or during the preparation of the financial statements without account numbers, and
• To accounts that contain transactions that are complex or unusual in nature and that have significant estimates and period-end adjustments.

Other red flags include adjustments for intercompany transfers and entries for amounts made just below the individual’s approval threshold or containing large, round dollar amounts.

Getting professional help

Financial misstatement can be costly, but your organization can take steps to minimize its risk. External financial statement audits, surprise audits, and forensic accounting investigations can help identify vulnerabilities and unearth anomalies. Contact us for more information, including how we use computer-assisted audit techniques to review accounting transactions.

There are currently more than 33 million small businesses in the United States, according to the U.S. Chamber of Commerce. To succeed in today’s competitive markets, it’s essential for your business organization to have accurate books and records.

Bookkeeping vs. Accounting

For starters, you should understand the distinction between bookkeeping and accounting. Bookkeeping refers to the systematic storing of financial documentation, such as receipts, purchase orders, and invoices, as well as recording of daily financial transactions, such as purchases and sales of goods and services. In general, bookkeeping is the basis for accounting. Bookkeepers record journal entries — that is, debits and credits — for each transaction using accounting software, such as QuickBooks®, NetSuite®, or Xero™. However, bookkeepers do more than data entry; they also may be responsible for sending invoices, processing payments and payroll, conducting banking activities, and reconciling accounts.

Accounting involves classifying, interpreting and communicating financial transactions. Accounting uses the records maintained by the bookkeeper throughout the period to generate historic and prospective financial statements. These reports — balance sheets, income statements and statements of cash flow — provide financial insights that help management and external stakeholders evaluate financial performance.

2 methods

Business owners must choose a method for recording and classifying financial transactions. There are two main options for small and midsize businesses:

1. Cash accounting. Under this simplified method, a business records revenue when cash is received and expenditures (such as expenses and asset purchases) when they’re paid.

2. Accrual accounting. This method is prescribed under U.S. Generally Accepted Accounting Principles. Here, revenue is recorded when earned, and expenses are recorded when incurred, without regard to when cash changes hands. It’s based on the principle that revenue should be “matched” to the related expenses incurred in the reporting period. The chart of accounts for an accrual-basis business includes such items as accounts receivable (invoices that have been sent but haven’t yet been paid by customers) and accounts payable (bills that have been received but haven’t yet been paid).

It’s important to choose one accounting method and stick with it as you record transactions (a bookkeeping function) and prepare your financial statements (an accounting function). Some organizations start with cash accounting and switch to accrual accounting as they grow.

Getting professional help

Complying with accounting rules, tax laws, and payroll regulations can be overwhelming for many closely held businesses. Fortunately, you don’t have to go it alone. We can help you set up and maintain a reliable system of reporting financial transactions in an accurate, timely manner. Contact us for more information.

When you hear the word “audit,” you might automatically associate it with financial reporting or the IRS. But auditing warehouse operations might also be beneficial for some businesses, such as manufacturers, distributors, and retailers. Awkward or repetitive movements by employees, oversized packages, and disorganized layouts can slow down productivity and even lead to medical and disability claims. Small adjustments can make a big difference in your bottom line. Here are some steps toward more efficient warehouse management.

Compute average cycle time 

Looking around the warehouse, you probably see a lot of people and products in motion. But don’t equate constant motion with efficiency. A closer inspection may reveal people and products waiting in queues due to blocked aisles, unavailable forklifts, or computer glitches. You may even find some workers wandering aimlessly for misplaced or hard-to-find items.

Improving efficiency starts by reviewing the order fulfillment process. How long does it take to process an order from start to finish? Your average cycle time is a critical benchmark. The goal is to find ways to reduce it by minimizing errors, wasted movements, congestion, and inefficient picking paths. Bottlenecks, idle workers, unused space, and piles of unattended inventory represent opportunities for improvement.

Make tangible enhancements

Once you’ve identified potential inefficiencies, you can put formal policies and procedures in place to reduce or eliminate them. Efficient warehouses have specific protocols for putting away shipments of new items, restocking returns, cleaning up messes, responding to accidents, and storing warehouse supplies and equipment.

Once those types of standard operating procedures are communicated to employees, focus on streamlining fulfillment. Examples of workflow improvements include:

• Rethinking floor, aisle, and rack layout to improve space utilization,
• Rearranging product locations so the most popular items are located in ground-level bins that are nearest to the packing stations and
• Redesigning signage to make it easier for pickers to identify aisles, racks, products, and workflow.

Consider asking your workers for suggestions. They may have some ideas that you haven’t thought of yet — plus, it helps with buy-in on any changes to your existing operating procedures.

After you’ve implemented improvements, measure your new and improved cycle time. Knowing how much you’ve shaved off the baseline metric can be a powerful motivational tool. Use it to drive continuous improvement.

Consider investing in more technology

Manual processes and outdated systems can cause errors and delays in fulfillment. So why not automate certain functions using technology? Bring your existing inventory management systems into the 21st century with upgrades, such as wireless mobile devices, radio frequency identification (RFID) technology, automated material handling equipment and voice-picking applications. Doing so can potentially speed up fulfillment, reduce errors and enhance customer satisfaction levels.

Before investing in a technology upgrade, it’s important to carefully weigh the costs vs. benefits. You’ll also need to evaluate compatibility issues with your existing accounting and resource planning systems. And don’t forget to train employees on how to use the technology; otherwise, you won’t reap all its potential benefits.

We can help

Sometimes objective outsiders can spot warehouse inefficiencies that company insiders overlook on a daily basis. Or they may be aware of improvements that other companies have successfully implemented. Contact us for guidance on best practices before auditing your warehouse.