As the author of “Putting the Decades-Long ‘Plain Paper’ Debate to Rest: Will SSARS 21 be the Final Resolution?” (The CPA Journal, November 2015), I read with great interest the May 2017 article by Vincent J. Love and Thomas R. Manisero, “‘Plain Paper’ Financial Statements Made Not So Plain: An Overview of SSARS 21.” I view this new article as a valuable complement to my own piece, the scope of which was limited to summarizing the main provisions of SSARS 21.
I particularly appreciate the authors’ risk management focus, advising practitioners to use extreme caution when accepting engagements for the new preparation service. But perhaps even more than this, I especially support the piece’s message that “CPAs must also consider whether the level of work is so far below the expertise attached to the CPA designation that it lowers the professional image of the CPA or firm providing the service.” Kudos to the authors!
Since its introduction in SSARS 1 in 1978, I have held that that compilation, a service in which the CPA uses virtually none of the skills his professional designation implies, should be characterized as less than a professional service, if permitted at all. I have likewise maintained that as a professional organization, the AICPA should take all steps deemed practical to assure that undue reliance is not placed by financial statement users, including client management, on such a low-level, low-quality service simply because a CPA’s name is on it.
In my 50 years in this profession, new standards have been universally intended to elevate both the quality of CPA services to clients and the public and the stature of CPAs in the business community—until the introduction of the compilation service. This was a step down from the publication in 1975 of the Guide for Engagements of CPAs to Prepare Unaudited Financial Statements. Apparently, despite the clear disclaimer that has been required in a standard compilation report since SSARS 1, the financial statement–user community, made up principally of lenders, does not understand that a CPA is not required by the standard to do much other than sign his name (i.e., nothing that warrants a user placing any reliance on a compilation report).
Now, with SSARS 21’s introduction of the even lower-level preparation service, characterized as a professional service merely by virtue of its inclusion in SSARS and the applicability of professional ethical constraints (AR-C section AU-C 60.08), our profession has taken another step backward, allowing CPA involvement with “plain paper statements” without “association,” as has been defined since SAP 38 in 1967 (see below). This development appears to be motivated principally by a wish to enable further high-volume, low-cost, and low-quality work by CPAs, which, as pointed out by Love and Manisero, has the potential to lower the profession’s esteem in the eyes of knowledgeable people it serves.
In fact, there are no differences in the performance requirements applicable to these purported separate levels of service, none of which are substantive with regard to any user interest in reliability. The authors overstate these requirements somewhat with regard to both compilation and preparation services by including among them “an understanding of the client’s business, structure, its accounting system, environment.” In fact, only an understanding of the financial reporting framework and significant accounting policies in use is required for either service level, and it is only suggested that some industry knowledge be obtained in the absence of relevant experience (ARC 70.12 and .A12, and 80.12 and .A17). Despite its permitting the CPA’s theoretical anonymity, there is nothing in SSARS 21 that would prevent or even discourage a client from giving the prepared financial statements to a lender together with oral assurance that they “were prepared by my CPA.”
I wish to deepen the historical perspective of the Love-Manisero article for the benefit of Journal readers, especially the younger ones, with some additional details. Probably as a result of the authors’ focus on risk management in the current environment, the second paragraph of the article contains a conflation of some early historical events, claiming a direct link between the 1971 landmark 1136 Tenants’ Corp. case and SSARS 1’s 1978 introduction of the compilation and review service levels. I believe the connection, if any, is far more indirect.
The use of plain paper was not an issue in 1136 Tenants’ Corp. Nevertheless, because of other facts and circumstances of that highly publicized case, practitioners began paying closer attention to the reporting requirements of SAP 38 (which the defending CPA in the case did not do) and overreacting for fear of crossing the line and “accidentally” doing an unintended audit. This fear may have led practitioners to step so gingerly as to avoid performing reasonable and necessary procedures to investigate matters that appeared to be out of line. Eventually, this excessive avoidance behavior settled into merely exercising appropriate caution to avoid careless use of the word “audit” in all written and oral communications in nonaudit engagements, thus reducing opportunities for misunderstandings.
The most direct and precipitous result of 1136 Tenants’ Corp., I believe, was the development and issuance in 1975 of the Guide by the AICPA Task Force on Unaudited Financial Statements. Auditing Research Monograph 4, The Market for Compilation, Review and Audit Services, published in 1981, while not mentioning the case, attributed the development of the guide to the inconsistencies observed in practice and perceptions of user demands, which may be traceable, in part, to the publicity 1136 Tenants’ Corp. received.
SAP 38 contained no minimum performance requirements for unaudited engagements, although in the years following its issuance, many firms developed their own, the nature and extent of which varied considerably. Consistent with 1136 Tenants’ Corp., the guide established for the first time universally applicable minimum performance guidance for CPAs’ association with unaudited financial statement engagements. These de facto requirements were composed of inquiries and analytical procedures such as those now employed in modern review engagements.
Based on a study, Alan Winters wrote “one-third of the bankers believe the CPA should perform some audit procedures, and the majority of loan officers believes CPAs should at least take some positive review steps such as inquiries” (Banker Perceptions of Unaudited Financial Statements,” The CPA Journal, August 1975). Also in 1975, apparently recognizing that there continued to be a need for further evaluation of the nature and scope of unaudited services performed by CPAs, the AICPA appointed a subcommittee of what was then called its Auditing Standards Executive Committee, and in 1977, the subcommittee was elevated to its current status as a senior technical standards-setting committee, the Accounting and Review Services Committee (ARSC).
I believe SSARS 1 came about primarily because of two factors, one of which was the common lender view referred to by Winters above. The more important factor, however, appears to have been pressure from practitioners who did not wish to be unnecessarily compelled by the guide to perform analytical procedures and inquiries. They apparently reasoned that if they had to perform those procedures, they ought to be able to offer their clients a report that gave some kind of “limited” assurance, upon which a lender would be able to place some reliance, rather than issue the sterile, unqualified disclaimer prescribed by section 516 of SAS 1, which seemed inconsistent with the guide’s performance requirements. Thus, the review report form was born. Clients and their lenders could now choose between the limited assurance of the new review service or, if it suited their needs, the lower-cost compilation service and its total disclaimer of assurance.
SSARS 19 and SSARS 21
In 2005 and 2006, the ARSC conducted a survey of more than 4,300 third-party financial statement users and held meetings and discussions, in which many of them advised that “they believe that the accountant’s involvement improves the quality of the financial statements because those third-party users understand that oftentimes, smaller businesses do not have the skills necessary to maintain their accounting records and prepare quality financial statements without the accountant’s involvement.” As a result, a “reliability project” was undertaken, which recommended that the independence requirement for performing reviews be softened to permit a modified review report that nevertheless contains the same limited assurance, even when independence is impaired because the CPA was involved in designing or maintaining a client’s system of internal control. The ARSC considered this proposal desirable because it was believed that users saw such CPA involvement as likely improving the inherent reliability of unaudited financial statements. This proposed change was intended to be incorporated in the recodified and clarified standard introduced in 2009 by SSARS 19, but fortunately it was not adopted; in fact, SSARS 19 did little or nothing to improve reliability. In my opinion, it could and should have achieved this objective had it eliminated the compilation option, which never should have been promoted among users as reliable in any way.
Since the 1978 division of unaudited services into compilations and reviews, the lower cost and less reliable compilation alternative has unfortunately turned out to be far more popular. After the ARSC’s failed attempt in 2009 to improve reliability of CPA reporting on unaudited financial statements by making the review service and report form available in certain circumstances when the CPA is not independent, SSARS 21 ultimately went in the opposite direction by enabling the even less costly, lower-quality, and equally unreliable preparation service. As a result, CPAs are now able to hide their association behind plain paper and utilize the “see no evil, hear no evil, say no evil” approach to what is nonetheless inappropriately characterized as a professional service. It remains to be seen if availability of the preparation service will cause the equally unreliable compilation service to go the way of the dinosaur. I think that would be a good thing, but only if the preparation service goes extinct, too.
Thanks, guys. Good job!