What Auditors look for when Examining a Business

The process of auditing businesses didn’t become practice in the United States until after ratification of the Securities and Exchange Act of 1934. The Act came about as the result of the 1929 crash, and was in response to the deplorable business practices that had occurred during prohibition years.

The purpose of an audit is to insure that your company’s financial statements are clean and verifiable, and that there is no fraud, or misrepresentation of an organization’s financial information to third party investors or the state and federal governments.

After the Enron scandal, the importance of accurate auditing by an outside source was underscored; the key word here is “accurate”, because Arthur Anderson, who had been the consulting firm in charge of auditing Enron’s books, overlooked many flagrant abuses of Generally Accepted Accounting Principles (or GAAP), across the board.

In addition to sussing out fraud, an audit will also verify whether or not a company is following accounting methods that are standard for a particular industry. Accounting methodology necessarily can vary from industry to industry; there are certain “dos and don’ts” which are expected to be followed.

The overall financial health of the organization will be checked as well; current and long term debt ratios will be checked to make sure that a company is not too highly leveraged, or too short on liquid assets.

Other specifics that will be checked during an audit are the company’s cash and investment accounts. Hopefully, a company that is up for an audit will have kept on top of their bank recons throughout the year, so that a quick review, then verification with the bank will be a relatively easy process.

Additionally, financial statements will be reviewed to make sure expenses and capital expenditures are appropriately categorized. For example, all capitalized costs will need to be verified to make sure that they shouldn’t be recorded as expenses, instead. If repairs to assets have been capitalized, the auditing agency will want verification that said repairs will actually extend the life of an asset. If not, the company will have to expense them, which will at once, lessen the value of the company’s assets, and decrease the bottom line on the profit and loss statement. Depreciation methods will also be reviewed to make sure that established rules are adhered to in this regard.

The bottom line is that an outside audit is added insurance. For investors, it’s the assurance that the books are in order, and that management practices are above board.