If you are a small business owner, there will come a time when you need a set of professionally prepared financial statements. They may be needed to obtain a loan from the bank or to present to a potential investor or maybe they're just for your own reference. Since most business owners aren't really knowledgeable about accounting matters, they don't know what the different types of statements are and what the differences are between them.

For the purposes of this article, let's assume that a set of financial statements contains a Balance Sheet, Income Statement and Statement of Cash Flow. These are by far the 3 most common reports that financial statements have in them. There are other things that can be included such as footnotes, supplemental statements and any other kind of statement that is agreed upon.

There are 3 different types of services that a professional accounting firm can perform on your financial statements. They are: compiled, reviewed and audited. In this article, I will focus on compiled financial statements.

When an accounting firm prepares any financial statement, they are required to attached an accountant's report to the statements. This report spells out exactly what type of service they performed on the statements and what level of assurance they are providing that the financial information is proper and accurate. A compilation gives the least amount of assurance while an audit provides the highest level. A review is somewhere in between.

When they perform a compilation, they are not giving the users of the financial statements any assurance that the information contained in the statements are correct. They simply take the account balances given to them by the business owner and put them into proper financial statement format. They don't verify the accuracy of anything, although if something looks obviously wrong, they are required to inquire about it.

So the accounting firm takes the accounting information that the business gives them and puts it in the proper format, attaches a report stating that they don't give any assurance as to the accuracy of the information and puts it in a nice binder and that's it! Why would a bank or any third-party want this or place any value on it?

I believe it's because most accounting firms actually do look at the accounting info that is provided to them and analyze it more than they are required to. They don't want to issue financial statements that have obvious mistakes or worse yet, fraudulent information. Any accounting firm worth their salt will review the numbers and make sure everything seems to be in order. Sometimes they are the ones that put together the accounting information to begin with.

A lot of small businesses don't have their own accounting department so they outsource that job to their accounting firm. In that case, the accountants are taking their own work and just putting it into a different format. They already know that the numbers are good because they did all the work to arrive at those numbers. This type of arrangement is OK for a compilation since there is no requirement that the client and the accountant are independent of one another. But for a review or audit, the accountant must be independent of the client meaning that they can't provide any bookkeeping services for that client in addition to issuing the financial statements.

Even though compiled financial statements have the least amount of assurance on them they are by far the most common for small businesses. Banks understand that the accounting firm will probably check into the numbers anyway and the cost of a review or audit is too high to justify in most cases. The loan officer at the bank knows how to read the statements anyway, so if there was something really wrong he or she would spot it anyway.

Hopefully you have found this article to be informative and useful!