The Role of Management Representations in Financial Reporting
What is a Management Representation?
A ‘management representation’ or ‘written representation’ is a formal statement from a company's senior management provided to accountants or auditors. The document should be signed by a duly authorised member of management, such as the CEO or CFO. It typically includes statements that all financial information, to the best of management's knowledge, is accurate and complete. The scope and intended use of these statements may vary making them not just useful during audits but are integral to compiling and reviewing financial statements as well.
Using Representations Across Financial Engagements
Management representation letters are mandated by different standards depending on the nature of the financial engagement:
Audits: As per International Standards on Auditing (ISA) 580, auditors are required to obtain written representations from management to confirm facts and support their conclusions.
Review Engagements: The International Standard on Review Engagements 2400 (ISRE 2400 Revised) highlights the need for management representations, albeit with less rigor compared to audits.
Compilation of Financial Statements: Under International Standard on Related Services 4410 states that:
Representations When Compiling Financial Statements
When compiling financial statements, management representations help accountants ensure that all necessary information has been provided and is presented fairly as per legal requirements, such as those outlined in section 29(1)(b) of the Companies Act. This section demands that financial statements fairly present the company’s state of affairs.
Typically, these representations should be collected after compiling the information but before issuing the final financial statements. They serve critical purposes:
Confirming Information: They ensure that all provided information by management is fully disclosed and accurately reflected in the financial statements.
Acknowledging Responsibility: Management must recognise their responsibility for both preparing and presenting the financial statements.
For example, a robust management representation letter may include:
Acknowledgment of Responsibility: Management confirms their responsibility for the financial statements' preparation and presentation according to the applicable financial reporting framework.
Confirmation of Completeness: Assurance that all necessary records and documents have been fully disclosed to the accountant.
Disclosure of Unrecorded Transactions: A declaration that all transactions have been recorded in the company’s books.
Compliance with Laws and Regulations: Confirmation that the financial statements comply with relevant laws and regulations.
Differences in Use Between Accountants and Auditors/Reviewers
While both auditors and accountants require management representations, their purposes differ significantly:
Auditors and Reviewers: These professionals use the representations to support their opinions on the financial statements, assessing risks and validating their conclusions against possible material misstatements.
Accountants: In compilation engagements, representations mainly help accountants confirm that all relevant information has been provided. They do not verify these assertions since their role does not include providing assurance on the financial statements.
An Illustrative Process of Compiling Financial Statements
An accountant is engaged to compile the financial statements of an NPO. The NPO is governed by the Non-profit Organisations Act of 1997, which requires it to maintain proper accounting systems, prepare financial statements annually, and ensure these statements are audited or reviewed by an appointed accounting officer. The compilation process would be as follows:
Initial Contracting:
The accountant and the NPO enter into an engagement letter (contract) outlining the scope of work, responsibilities of both parties, and deliverables.
Compilation Process:
Information Gathering: The accountant collects all necessary financial records, including transaction logs, bank statements, and minutes from board meetings.
Drafting Financial Statements: The accountant uses the information provided to draft the financial statements, ensuring they align with the relevant accounting framework.
Obtaining Management Representations:
Before finalising the financial statements, the accountant requests a management representation letter from the NPO’s senior management.
The letter includes confirmations such as:
Completeness and accuracy of all financial records provided.
Management's responsibility for the financial statements.
Acknowledgment of no known fraud or legal violations that could impact the financial statements.
Confirmation that all assets and liabilities have been accurately reported and disclosed.
Use of the Representation Letter:
Assurance on Completeness: The letter assures the accountant that they have received all the necessary information to compile the financial statements accurately.
Legal Compliance: It provides a basis for the accountant to believe that the financial statements comply with applicable laws and regulations, crucial for the NPO’s statutory compliance.
Risk Management: If any issues arise later regarding the financial statements, the representation letter serves as a document that can help resolve disputes or misunderstandings about what was provided or disclosed during the compilation process.
Finalising and Delivering Financial Statements:
With the management representations in hand, the accountant finalises the financial statements.
The completed financial statements along with the representation letter are then submitted to the NPO's board for approval.
Post-Compilation:
The accountant keeps a copy of the management representation letter on file as part of the engagement documentation for accountability and future reference.
In Summary
Management representations are foundational in ensuring that financial statements are complete and accurately presented. Understanding their role and significance allows financial professionals to enhance the reliability and credibility of financial reporting, ensuring better compliance and transparency across business practices.