During this stage of an assurance engagement possible solutions are reviewed that would lead to increased credibility, both in the form of internal and external assurance services and of other ways to gain comfort over information.
All such scenarios have something in common: someone (investors, other stakeholders, management themselves) is required to take a calculated risk in their dealings with an organisation; management are looking for a way to control or reduce the perceived riskiness and thus inspire trust.
|First line of defence
|Avoid the risk by stopping the activity that causes it.|
|Mitigate the risk by changing the procedures in place.|
|Second line of defence
|Introduce new internal controls to address the risk.|
|Third line of defence
|Internal assurance engagement.|
|Fourth line of defence
|External assurance engagement.|
Stakeholders are most concerned that if they suffer loss, the cost of this is covered either by externally underwritten insurance of some kind, or self insurance, including simply having accepted the risk and being prepared to absorb the loss.
Insurance isn't dealt with in this guidance. It prevents short-term direct loss only.
Ensuring the organisation "gets it right"
Getting external comfort that the organisation has "got it right"
Don't Trust – Insure instead
Stakeholder expectations lead to market, regulatory or other pressure on an organisation to quality, controls and governance and the way these are communicated in the market.
A chartered accountant can provide:
Stakeholders seek comfort from an independent third party that an organisation's reports, data, products, assertions or processes are trustworthy
A chartered accountant can provide:
Stakeholders are most concerned that if they suffer loss, the cost of this is covered either by externally underwritten insurance of some kind or, self-insurance. Including simply having accepted the risk and being prepared to absorb the loss.
These two approaches are assurance for the purposes of this guidance. They aim to create value, protect reputation and anticipate and prevent indirect loss and long-term value destruction.
Insurance is not dealt with on these webpages. It prevents short-term direct loss only.
The term "management" can have different meanings and interpretations depending on its use and context. Within this guidance the term "management" is generally associated with the party responsible for the subject matter on which assurance is sought. However, depending on the context, "management" may also refer to overall management of the entity to which the subject matter relates who, in certain cases, may also be the users of the assurance report.
An example would be assurance reporting on key performance indicators published by a corporate entity where management is used to refer to those responsible for calculating and presenting the key performance indicators while the overall management of the entity may benefit from the assurance report in terms of using the information to develop remuneration policies, and those charged with governance (ie, the board or the audit committee) are the primary users seeking assurance.
It is a legitimate to ask why professional accountants should be involved in addressing a broad range of information needs. After all, accountants are trained primarily in financial information and its assurance.
Professional accountants use professional judgement when performing assurance services, underpinned by ethical standards and applied with the relevant knowledge for specific situations. In performing their work it is essential that the professional accountant understands and assesses the reliability of information and has the strength of character to challenge management if concerns arise. Where appropriate, the professional accountant should bring specialist knowledge from outside their immediate team to deal with technical matters.
Professional accountants undertake a rigorous regime of training and examinations, and gain a broad range of practical experience, which enables them to apply sound judgement to deal with a wide range of information that becomes the subject of assurance. This gives them the ability to apply themselves objectively, and with the use of professional skepticism, to areas or topics that require challenge, supplemented by an independent mind-set. They are bound by a strict code of ethics and are subject to regular assessment by regulators.
Their commitment to professional competence and due care requires them to offer high-quality services to businesses and to act in the public interest. We, therefore, believe the accountancy profession can credibly support the development of assurance services.
The primary benefit of assurance engagements is to enhance the credibility of information for users. By carrying out assurance engagements with independence and expertise and to high standards, professional accountants provide assurance opinions that bring credibility to the information with which those opinions are associated.
This guidance primarily considers assurance engagements performed in accordance with the IAASB's Amended International Framework for Assurance Engagements (the Framework) and ISAE 3000 Revised). Although the discussion herein should be consistent with the principles used for audits and reviews, these are excluded from the scope as there are specific standards for such engagements.
What is the business value of increased credibility in business assertions?
Businesses prepare financial statements annually, but how much reliance and comfort can be obtained from these accounts?
There are several factors to consider when deciding on whether or not to take the annual preparation of accounts one step further and to have an assurance review, either over the whole controls and systems in place or just a specified area of concern. An assurance review can provide additional level of confidence over the financial statements.
Why should a business voluntarily opt to have a firm of chartered accountants, who are governed by the Code of Ethics, come and do an assurance review?
- First and foremost an assurance review can provide further comfort to executive and non-executive directors, which is especially important where there is a separate management team operating the business. An independent review by a chartered accountant will enable those director/shareholders who sit outside the daily running of the business to accept that the company’s reporting is more accurate.
This does not of course absolve the directors from their responsibility from ensuring the effectiveness of internal controls over a group (including the subsidiary company businesses). However, assurance provided by an independent third party (chartered accountant) can be extremely helpful for the executive and non-executive management in reinforcing other sources of information and dealing with specific concerns regarding more remote businesses.
There is often a perception that owner-managers “know what is going on” without the need for proper company reporting. While this may be true in a higher level business sense, there is still a risk that errors may be present. For example, smaller errors which go unnoticed by an owner-manager may lead to covenant breaches, erroneous accounting policies may lead to restatements etc.
- An assurance review will lower the perceived risk to potential lenders and investors who are relying on the information and this will therefore increase the likelihood of obtaining funding and also perhaps obtaining more favourable lending terms, leading to reduced debt service cost.
- There will be a lower risk as well to any potential acquirers of the business. A set of financial statements that has had an assurance review undertaken will offer greater comfort than one that hasn’t. The potential for errors being highlighted during the due diligence process will be reduced such that the final outcome is as close to what was expected with no nasty surprises or shock adjustments. This will also lead to a stronger hand around the negotiating table contributing to an improved sales price.
- Suppliers and credit rating agencies will be able to gain additional comfort from a set of accounts that have been assurance reviewed as opposed to a set that hasn’t. This will lead to improved credit rating and credibility with suppliers.
- New customers who are looking to take on a large contract with the business will be comforted to know that the business has been reviewed and the controls and systems in place are robust.
- From an internal perspective employees (both current and prospective) will be able to gain comfort with regards to the financial information, especially when there are targets/bonuses and share incentive schemes that are based on the performance of the business.
The credibility that comes with business assertions allows the various users of the accounts to have a third-party link and check between them and the finance function and systems, and they are therefore able to make a more informed decision based on the information provided.
What value can particular assurance engagements provide for business?
All the comments here show how value can be derived for businesses from an assurance review:
- Improved likelihood of obtaining external funding.
- Stronger hand in negotiations around sale of business contributing to an increased selling price.
- Reduced debt services costs.
- Better supplier terms improves cashflow.
- Additional comfort to new customers improves sales growth.
- Additional comfort to employees improves ability to attract and retain top talent.
ICAEW's assurance resource
This page is part of ICAEW’s online assurance resource, which replaces the Assurance Sourcebook.