Certified Public Accountants
|January 20, 1997
To our peer review clients:
Since we have always tried to maintain a helpful and useful outlook with respect to peer reviews, we felt it would be appropriate to remind you of some pronouncements that have been issued recently. Also, we wanted to let you know that our firm now has a home page on the internet. The address for our web site is as follows:
Let's start with some good news in the area of disclosures. As we discussed in our letter a year ago, FASB Statement No. 107 requires disclosures regarding the fair value of financial instruments in financial statements, and these disclosures are necessary even if the only "financial instrument" is long-term debt. The good news is that FASB has issued Statement No. 126 which makes fair value disclosures optional for non-public companies with assets under $100 million as long as they have not dealt in derivatives. The Statement is effective for fiscal years ending after December 15, 1996, with earlier application permitted for financial statements that have not been previously issued.
Although we briefly mentioned SOP 94-6 in our prior letter, further clarification may be in order, since this statement requires new disclosures in any financial statement prepared in accordance with GAAP, beginning with the 1995 calendar year. This statement requires a nature of operations note which includes a description of the major products or services that the company sells and its principal markets, including the locations of those markets, and, if the company has more than one division, the relative importance of each operation. In addition, you will need to include in your accounting policies footnote the following disclosure:
Use of Estimates
The presentation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
NEW STATEMENTS ON QUALITY CONTROL STANDARDS
There are two new statements on quality control standards which supersede prior standards, effective January 1, 1997. We have an article on this topic at our web site which you may want to consult for details. The nine elements of quality control as described in prior standards have been replaced with five broad elements. For the most part, nothing significant has changed. The new elements combine and rename the previous elements. You probably should revise your firm's written quality control document, if you have one, to reflect these changes. The new standards do make major revisions in the area of internal inspections and, under the new standards, attestation engagements, which previously were not subject to peer review, now are subject.
Two major new standards affecting nonprofit organizations, FASB Statements No. 116 and 117, which previously applied only to larger organizations are both effective for the 1996 calendar year for organizations with less than $5 million in total assets. Depending on what type of nonprofit clients you have, these Statements may not require much more than changing the financial statement titles (for example, the "balance sheet" becomes the "statement of financial position") and other terminology used in the financial statements (for example, "fund balance" becomes "net assets"). However, major adjustments will be required if your client receives or makes contributions. For example, a United Way can no longer defer contribution revenues to the year the allocations are made.
If you have nonprofit clients, you will also want to review FASB Statement No. 124, regarding accounting for investments held by nonprofits, and SOP 94-3, which provides guidance on consolidating related entities, such as a majority-owned for-profit subsidiary, into the financial statements of a nonprofit.
FOR FIRMS WITH AUDIT CLIENTS
For those of you performing audits, there are several new Statements on Auditing Standards which you will want to review. In particular, there is a SAS on internal controls, and a SAS on fraud detection, both effective for audits of calendar year 1997 financial statements, which you will need to implement.
SAS No. 78, on the consideration of internal control in an audit, was issued to conform the descriptions of internal control we use as auditors to the descriptions contained in the Committee of Sponsoring Organizations of the Treadway Commission. You will need to revise your consideration of internal control to incorporate these new concepts on existing clients and be sure to use them on new clients. It does represent a significant change in terminology. For example, the phrase "internal control structure" which was introduced in SAS No. 55, and which you have probably just recently become comfortable with, has been replaced by the expression "internal control." You will need to keep this in mind when writing reports on internal control, in communications with an audit committee, and when communicating reportable conditions. By the way, the pre-SAS No. 55 terminology "internal control systems" continues to be out of favor.
SAS No. 82, on fraud detection, requires the auditor to specifically assess the risk of material misstatement due to fraud in every audit, and includes related documentation requirements. Among other things, the Statement requires auditors on every audit to ask management about the risk of fraud and whether management has knowledge of fraud within the company.
We appreciate your business. Please do not hesitate to contact us if you have questions on these or any other matters.
Very truly yours.
Read & Bose