Providing assurance and confidence is the foundation of any insurance organization. Whether it’s knowing you’ll be able to afford an extended stay at a hospital or knowing that the flood damage in your company’s office building won’t break the bank, insurance organizations exist to bring individuals and businesses peace of mind. However, you want to know that the insurance organization you’re putting your trust into is reliable. This is where financial statement audits can play a significant role in providing assurance to all key stakeholders.
Purpose of a Financial Statement Audit
A financial statement audit is an engagement performed by an independent accountant, designed to demonstrate that an organization’s financial statements are prepared in accordance with generally accepted accounting principles (GAAP) or other recognized frameworks. Although each audit is customized to meet the unique needs of each organization, the overall auditing process is largely the same, focusing on an evaluation of risk, testing financial data, and providing a final opinion. It’s also important to note that when selecting a CPA firm to conduct the audit, not all CPAs perform audits. Insurance organizations should seek to secure a firm that possesses significant auditing expertise and experience auditing companies in a similar industry and size range.
Insurance Organization Financial Statements
Insurance organizations are required to meet certain standards when it comes to filing financial statement audits unless they receive an exemption. The majority of insurance companies fall under the category of Property and Casualty insurance, while the rest are comprised of Fraternal, Health, Life Accident and Health, Title, and other risk-bearing entities. When auditors conduct a financial statement audit they seek to examine the company’s financial statements and disclosures to provide a ‘ true and fair view’ of the organization’s financial performance. Some of the most commonly audited financial statements include:
Income Statements: this shows the financial performance of a company, reporting on the revenue earned and expenses incurred during a fiscal year. To verify the accuracy of these statements, the auditor will crosscheck the cash book and individual books of accounts.
Balance Sheets: these documents report on the financial position of the company at the end of the fiscal year and show the total value of assets, liabilities, and the equity of the organization. Verifying the existence of assets and liabilities in accordance with their liquidity is an important step to ensuring the accuracy of the figures presented.
Cash Flow Statements: this shows the organization’s cash inflows and outflows over the course of the fiscal year, giving valuable insight into the company’s availability to meet short-term and long-term commitments. To verify the accuracy of these statements, the auditor will check entries against the bank statement as well as examine the footnotes for any errors.
Benefits of an Audit
For many companies, specifically publicly traded companies, their audited financial statements are on public record. Key stakeholders such as shareholders, potential investors, and suppliers or lenders who are considering doing business with the organization need to have a clear and accurate view of the way an organization handles its finances. For organizations that are falling behind, the auditing provides valuable insight into the areas where management can make changes to improve controls and processes. On the other hand, organizations that already practice consistent, high-quality business processes can use the financial statement audit as a testament to their reliability, accuracy, and trustworthiness when taking on new clients.
Planning and Risk Assessment
The exact number of steps included in a financial statement audit is disputed within the industry, but in general, auditors will conduct some initial planning and assessment followed by rigorous testing processes. However, the first stage of the auditing process is always careful planning and consideration. After determining the staffing needed to complete the engagement, the auditor will prepare an engagement letter that determines the timing, responsibility, cost of the audit, and outline of the extent of the procedures that will be performed. Additionally, the auditor obtains an understanding of the organization’s business and assesses the risk of material misstatement in the organization’s financial statements.
The auditor will spend time in the field performing tests of the financial data to ensure the accuracy and completeness of the financial statements. For example, this might include a CPA collecting a random sample of fifty disbursements then examining them to make sure the checks are payable to the correct vendor and that they are written in the correct amount. There are two main types of testing:
Controls Testing: controls testing relates to procedures that the auditor performs over automated and manual processes that contribute to the completeness and accuracy of financial statements. An example of such a control is monthly reconciliations of bank accounts. An auditor might test this control by inspecting a sample of reconciliations. The auditor will assess the effectiveness of these controls and their ability to prevent and mitigate the risk of material misstatement.
Substantive Testing: in addition to testing controls, the auditor will perform further procedures to gather substantive audit evidence. This can include physically observing or inspecting assets, securing confirmations from third parties that conduct business with the company, or checking elements of a financial statement and comparing them to relevant external information.
Audit Opinion Letter
After conducting thorough tests and examining all of the evidence, the auditor will form their overall conclusion, also known as the opinion. It’s important to note that even with a stellar opinion, auditors cannot obtain absolute assurance. The inherent limitations of the auditing process and the fact that the auditor obtains persuasive evidence rather than conclusive evidence means stakeholders should know that there is always a risk that some material misstatements may have gone undetected during the auditing process.
If you think your insurance organization might require a financial statement audit or you would like to learn more about the process, contact K Financial. Our audit team has vast experience in the field and can provide your company and your stakeholders with financial peace of mind.