How to Read a Financial Report: Wringing Vital Signs Out of the Numbers, 8th Edition

CHAPTER 21

AUDITS OF FINANCIAL REPORTS

A business may hire an independent CPA to audit its financial report. Many people think an audit is done for the purpose of discovering wrongdoing or ferreting out dishonest and illegal behavior. A CPA is duty bound to maintain a mental attitude of professional skepticism in doing an audit. In carrying out audit procedures the CPA may discover embezzlement or theft by employees, or uncover accounting fraud orchestrated by high-level managers. These are by-products or side effects of an audit. The main purpose of an audit by a CPA is something else.

The CPA auditor examines accounting records and gathers other evidence in order to render an opinion on the financial report of the business. Based on the audit the CPA attests, or “swears” to the fairness of the financial statements and disclosures in the financial report of the business. Fairness means, primarily, that the company’s accounting methods and disclosures are in accordance with established accounting and financial reporting standards that apply to the entity. In short, the CPA auditor states whether or not the business is playing fairly according to the rules in its financial report.

Why Audits?

Suppose you have invested a fair amount of money in a privately owned business. You are not involved in managing the company; you’re an absentee owner—a passive investor. Being a stockholder, you receive the company’s financial reports. You read the financial statements and footnotes to keep ...