Comparative Financial Statements, Predecessor Auditors

13.3 Comparative Financial Statements, Predecessor Auditors

Comparative financial statements present data for multiple reporting periods side by side, often two or three years. The primary reason organizations include comparative financial statements is to help users—investors, creditors, regulators, and other stakeholders—identify trends, analyze year-over-year changes, and evaluate consistency in financial reporting. From an auditing perspective, comparative reporting raises unique considerations regarding prior-year audit opinions and changes in auditors between successive reporting periods.

In this section, we will discuss: • Key concepts of comparative financial statements and the auditor’s role.
• References to prior-period audits when the same auditor performed both engagements.
• Proper handling of changes in accounting principles or disclosures that affect comparability.
• The process of reissuing or referring to predecessor auditor’s reports.
• Handling situations where prior periods were unaudited, reviewed, or compiled.
• Best practices for clear communication in the auditor’s report about differing levels of service.

1. Comparative Financial Statements: Core Principles

When presenting comparative financial statements, each period displayed in the financial statements is subject to an audit opinion (if audited) or another form of assurance (e.g., review or compilation). For consistency, the auditor’s responsibility typically extends to all periods shown, thereby offering users a consistent view across multiple years or reporting periods.

1.1 Auditor’s Responsibility Across Multiple Periods

• The continuing auditor: If the same auditor has audited the entity’s financial statements for all periods presented, the auditor should express an opinion covering each period.
• The successor auditor: If there has been a change in auditors between comparative periods, additional procedures and disclosures are required to clarify the nature of the prior engagements and any limitations that might exist.

1.2 Impact of Changes in Accounting Principles

Changes in accounting principles or their application sometimes cause the financial statements of one period to differ significantly from another. According to AU-C Section 708, the auditor must verify that: • The change is accounted for according to the applicable financial reporting framework (e.g., Generally Accepted Accounting Principles, or GAAP).
• The disclosures regarding the change are adequate.
• The change’s effect on comparability is appropriately addressed in the auditor’s report.

If the change materially affects comparability, the auditor may include an emphasis-of-matter (AICPA standards) or explanatory (PCAOB standards) paragraph to draw attention to it and highlight why the statements are not directly comparable across periods.

2. Reissuing or Referring to the Predecessor Auditor’s Report

When an entity transitions from one auditor (the predecessor) to another (the successor), the prior-year financial statements originally audited by the predecessor could still be presented for comparative purposes. In these cases, regulatory and professional standards provide two approaches:

2.1 Predecessor Reissue of Prior Report

The predecessor auditor may reissue their report on the prior year’s financial statements if they:

1. Reacquire the engagement file and evaluate whether all necessary documentation is in place.
2. Perform limited procedures, such as reading the current year financial statements and comparing them to the prior year.
3. Confirm whether management has appropriately disclosed or accounted for events or transactions that might affect the previous opinion.

If the predecessor auditor is satisfied that no new information has arisen that would materially affect their prior year opinion, they may reissue their report to accompany the comparative financial statements.

2.2 Successor Auditor References the Predecessor’s Opinion

If the predecessor will not or cannot reissue their report, the successor auditor must address that the prior year was audited by someone else. In these circumstances, the successor auditor’s report clarifies: • That the prior period financial statements were audited by a different auditing firm.
• The date of the predecessor’s report and the type of opinion expressed (e.g., unqualified/unmodified, qualified, adverse).
• If substantially different reasons for a modified opinion existed in the prior period, an explanation may be added.

This reference helps users understand that the successor auditor is not providing assurance on the prior period statements; instead, it is acknowledging the work performed by another auditing firm.

3. Handling Unaudited, Reviewed, or Compiled Periods

Comparative reporting often includes prior periods that were not audited but merely reviewed or compiled—or, in some cases, not subjected to any level of assurance work:

• If the prior period was reviewed or compiled, the auditor indicates the level of service performed and any modifications or disclaimers in that prior report.
• If the prior period was not subjected to any form of assurance, the auditor explicitly states that no opinion or assurance is provided on those statements.

These clarifications ensure that financial statement users do not infer a higher level of assurance than was actually provided for earlier periods.

4. Dual Dating of the Auditor’s Report

Sometimes a significant event (e.g., legal claim settlement, discovery of fraud, or other subsequent event) arises after the original report date. If the predecessor auditor or successor auditor chooses to reflect that event in their reports, they may “dual date” the report. By dual dating, the auditor limits responsibility to events up to the original date, with an exception for the specific matter reported on the later date. This technique focuses accountability without requiring the auditor to extend overall responsibility to a more extensive time period.

5. Illustrative Flowchart: Successor and Predecessor Auditor Roles

Below is a Mermaid.js diagram showing a typical sequence of events when a new auditor succeeds the predecessor in a comparative reporting scenario:

    flowchart LR
	    A[Entity obtains prior-year audit from Predecessor Auditor] --> B[Predecessor Auditor issues report on prior-year F/S]
	    B --> C[Entity changes auditors for the current year]
	    C --> D[Successor Auditor performs current year audit]
	    D --> E{Comparative Financial Statements?}
	    E -->|Yes: Prior Period Reissued| F[Predecessor Auditor Reissues Report <br> or Successor Refers to Predecessor]
	    E -->|No: Single-Period Presentation| G[Successor Auditor Issues Single-Period Report]
	    F --> H[Combined Auditor's Report Includes References for Both Periods]

As shown in the diagram:

1. The predecessor auditor issues the prior year’s report.
2. The entity changes auditing firms.
3. The new (successor) auditor completes the current-year audit.
4. For comparative statements, the predecessor may reissue, or the successor references the predecessor’s opinion.
5. A combined or comparative report is prepared if multiple years are presented.

6. Additional Considerations

6.1 Consistency vs. Comparability

• Consistency: Ensuring the same accounting principles and methods are used from one period to the next.
• Comparability: Evaluating whether the information is measureably consistent across periods and adequately explained if changes occur.

6.2 Communication with Those Charged with Governance

Prior to finalizing the audit report, the auditor should discuss any unusual prior year findings, disclaimers from the predecessor, and changes in accounting methods with the audit committee or those charged with governance. This promotes transparency and fosters a better understanding of any issues impacting the comparative statements.

6.3 Regulatory Considerations

For public companies (issuers), the PCAOB sets requirements that may differ slightly from AICPA standards for non-issuers (private companies). Additionally, the SEC mandates that registration statements often include multiple years of audited financial statements. Filings must therefore clearly present and reference the predecessor auditor’s opinion where applicable.

7. Glossary of Key Terms

• Predecessor Auditor: The auditor who completed the prior engagement but is no longer the external auditor.
• Dual Dating: When significant events occur after the initial audit report date, auditors may assign a later date for those specific events, keeping the original date for the rest of the report.
• Comparative Report: An auditor’s report addressing more than one reporting period side by side, allowing stakeholders to compare results across multiple years.

8. Best Practices and Common Pitfalls

1. Frequent Communication: Coordination between successor and predecessor auditors is crucial. Successor auditors should query the predecessor about known issues or outstanding matters.
2. Documentation: Meticulous documentation of the reissuance or referencing process protects both auditors and fosters clarity for third parties.
3. Timely Interim Procedures: If reissuing a prior report, the predecessor must perform certain limited procedures to ensure no new material information arises that could affect their opinion.
4. Transparency in Reporting: Clearly labeling unaudited, reviewed, or compiled prior periods as such prevents misinterpretation by stakeholders who might assume a prior audit was performed.

9. References and Resources

9.1 Official References

• AU-C Section 700: “Forming an Opinion and Reporting on Financial Statements” – outlines general guidance on reporting responsibilities.
• AU-C Section 708: “Consistency of Financial Statements” – details the importance of consistency and the auditor’s obligation to address changes.

9.2 Additional Resources

• SEC Guidance for registrants: Presents detailed instructions on including multiple-year audited financial statements within regulatory filings.
• AICPA Practice Aids on “Successor and Predecessor Auditor Communications”: Offers practical advice for ensuring a smooth transition between auditing firms.

Quiz: Comparative Financial Statements & Predecessor Auditor Knowledge

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