How Interim Testing Can Save You on Audit Costs

Q4 is here for many companies and their fiscal years, and year-end is just around the corner. As we know all too well, the first 4-5 months of every year can be a painful time for accounting and finance teams. Books need to be closed for year-end, which often includes more extensive reconciliation and adjustments. After year-end close, we then move immediately into tax filings, and finally into financial statement audits for companies with US GAAP reporting requirements. 

Financial statements audits tend to be their own painful process at year-end. A mountain of requests come from auditors, and follow-up questions and requests often follow based on audit findings and insufficient information. Accounting teams are required to meet these requests, often in addition to their usual day jobs. The result is a jam-packed few weeks/months of questions, back-and-forth, meetings, and last-minute fire drills to meet audit/issuance deadlines.  

The end of an audit also comes with “overruns,” which are additional costs charged by auditors to cover additional work that was not previously anticipated in the audit fee. Pricing/fees for audit firms are generally the highest for work performed between January through April. This means that, as auditors come across unanticipated hours and costs due to audit issues, this is when they charge the highest rates. Also, as time gets tight closer to audit deadlines, more experienced and expensive resources are used to complete the work quicker. For many big firms, the hourly rate of a “National Office” or subject matter expert resource can easily be $1,000 or higher!

What if all this pain, or at least some of it, could be avoided?  

Interim Audit Testing 

Auditors ask the same question, and one key solution is in Interim Audit Testing. While many audit requests depend on year-end information, there are key areas where requests and testing can begin to be performed earlier in the year. For instance, a company may be able to provide activity for 9 months of the year after its Q3 close. This is most often performed in tandem with quarterly reviews for public companies, or in the final quarter of the fiscal year for private companies.  

By performing some audit procedures before year-end, the massive amount of requests and work for an audit can be eased into a longer period, and complex issues can be handled earlier on, with more time and at a lower cost. Stress and frustration is lowered, and work can be moved into a quarter that otherwise tends to be the quietest time for a company’s accounting department. 

If you want to find a way to lower your audit costs, and especially the magnitude/likelihood of audit overruns, then consider Interim Testing that can be front-loaded prior to year-end. 

Testing Samples 

The most time spent during an audit is often in the areas where the audit team is required to performed detailed testing, where a sample of transactions is selected from the company’s entire activity for a given period, and specific tests are performed for each selected transaction from the sample. Common cases of sample testing include: 

• Revenue transactions 

• Stock Compensation – New grants and/or modified awards 

• Fixed Asset Testing – New additions to a Company’s PP&E and/or Intangibles (e.g., capitalized software) 

For the highest risk areas, such as Revenue, sample sizes can often be in the hundreds, especially if a company’s population is made up of numerous small transactions. Moving 75%+ of that sample into interim testing can give accounting teams the time to provide that information during a quieter period of time and reduce the number of selections that need to be provided after year-end. 

Furthermore, if any audit findings are identified, such as an error or variance, this gives both the audit team and the company more time to investigate and make any necessary adjustments to its accounting records. 

Significant/Complex Transactions 

The second key pain point for audits, in terms of time as well as cost, comes in the review of a company’s significant and/or complex transactions that occur during its fiscal year. This generally consists of transactions that are one-time or unique to the company, such as the following: 

• Business combinations and/or asset acquisitions 

• New equity/debt, and/or debt refinancing 

• Revenue contracts with significant customers 

• New stock compensation plans and/or major modification events 

• New accounting standards (such as ASC 842 and CECL in prior years) 

These significant/complex transactions are commonly a focus point for audit teams, as they can have a material impact on the financial statements, and their complexity has a higher risk of misstatement due to incorrect accounting evaluation. Because of that, audit teams often involve their internal “National Office” or subject matter experts and require significant time in reviewing a company’s accounting treatment/evaluation of these transactions. 

Many of these transactions may happen early on in a given fiscal year, and companies can begin their accounting evaluation sooner rather than later, engaging technical accounting and/or valuation specialists as needed, and even handing a completed evaluation to their auditors well before year-end. The review occurs during a quieter time for audit teams, and questions/feedback have more time to be addressed and closed out. 

Conclusion 

Within these 2 key areas alone, a company and their auditors can identify major opportunities to avoid stress, frustration, and costly audit overruns, simply by front-loading the accounting and audit work to be performed prior to year-end. While there will still be plenty of audit left at year-end, this can bring a huge relief to both accounting departments and audit teams. 

Not sure where to start? See our other articles, including a guide to scoping key technical accounting issues, here. 

Or, schedule a discovery call with our team of Audit Prep experts to help you prepare for your upcoming financial statement audit.