Financial audit of a company: what it is, when it is mandatory, stages

A financial audit (in legal terms, an audit of financial statements, audyt finansovoi zvitnosti) is an audit service in which accounting data and financial statement figures are examined, after which the auditor expresses an independent opinion on whether the statements comply in all material respects with the national accounting regulations (standards), International Financial Reporting Standards or other requirements. The definition is given in Article 1(1)(1) of the Law of Ukraine «On the Audit of Financial Statements and Auditing Activity» No. 2258-VIII of 21 December 2017.

How a financial audit differs from a state inspection and internal audit

The difference comes down to three things: who performs the review, under which standards, and what the client receives. A financial audit is performed by an independent audit entity under International Standards on Auditing (ISA) (Article 13 of Law No. 2258-VIII) and ends with a report containing a clearly expressed opinion. Law No. 2258-VIII does not apply to state authorities, their units and officials empowered to exercise state financial control (which includes state inspections and audits of that kind), or to internal audit functions of legal entities, state authorities and local self-government bodies (Article 2(2)).

Two terms within auditing itself are also worth keeping apart. «Audit of financial statements» is the general term (Article 1(1)(1) of the Law). «Mandatory audit» (Article 1(1)(16)) is a specific case: the audit of entities that are required by law to publish or submit their financial statements to users together with an auditor’s report. Any other audit is an initiative audit commissioned by the owner.

Comparison of audit types

When a financial audit is mandatory under Ukrainian law

The list of enterprises that publish their annual financial statements together with an auditor’s report is set by Article 14(3) of the Law of Ukraine «On Accounting and Financial Reporting in Ukraine» No. 996-XIV of 16 July 1999.

• By 30 April of the year following the reporting period, financial statements together with the auditor’s reports are published by public interest entities (except large enterprises that are not securities issuers), public joint-stock companies, natural monopolies on the national market and businesses in the extractive industries.
• By 1 June: large enterprises that are not securities issuers and medium-sized enterprises, as well as other financial institutions and non-state pension funds that are micro- or small enterprises.
• By 1 June: small state-sector enterprises, together with the auditor’s report, where a mandatory audit of their financial statements was carried out as required by law.

The published statements and auditor’s reports must stay on the enterprise’s website for at least six years unless the law sets a longer period (Article 14(7) of Law No. 996-XIV). Under Article 1 of the same law, public interest entities are issuers whose securities are admitted to trading on a regulated capital market or have been offered publicly, banks, insurers, non-state pension funds, other financial institutions (except those that are micro- or small enterprises) and large enterprises.

The size category of an enterprise is determined by the criteria in Article 2(2) of Law No. 996-XIV: its figures must meet at least two of the three criteria as at the date of the annual financial statements for the year preceding the reporting year. For criteria expressed in euros, the official average hryvnia exchange rate for the period is used, calculated from the official rates set by the National Bank of Ukraine for the euro during the relevant year.

Enterprise size criteria (Article 2(2) of Law No. 996-XIV)

A separate ground applies to limited liability companies (LLCs, TOV). At the request of a participant or participants who together hold 10% or more of the charter capital, the company’s financial statements are audited by an auditor (audit firm) that has no property interests in the company, its officers or its participants (Article 41 of the Law of Ukraine «On Limited and Additional Liability Companies» No. 2275-VIII of 6 February 2018). Within 10 days of receiving the request and an original copy of the audit engagement contract, the company’s executive body must enable the auditor to carry out the audit and provide certified copies of all documents within the scope of services set in the contract. The cost of such an audit is borne by the participant who requested it, unless the company’s charter provides otherwise.

Failure to submit, or late submission of, auditor’s reports required by Ukrainian law makes managers and other officials liable to a fine of five to ten tax-free minimum incomes, rising to ten to fifteen for a person already penalised for the same offence within a year (Article 163-1 of the Code of Ukraine on Administrative Offences, KUpAP). Failure to keep accounting records or keeping them in breach of the established rules, entering false data in the financial statements, failure to submit financial statements, and late or poor-quality inventory counts of cash and tangible assets carry a fine of eight to fifteen tax-free minimum incomes, or ten to twenty for a repeat offence within a year (Article 164-2 of the Code).

What an initiative audit of financial activity is for

An initiative audit is commissioned when an independent assessment of the reliability of accounting data is needed. The law does not fix its scope: the subject matter, scope of audit services, fees and payment terms, the parties’ liability and other terms are set by the audit engagement contract (Article 7(2) of Law No. 2258-VIII), and the client is free to choose the audit entity (Article 7(3)).

• confirming the figures before the financial statements are submitted or published;
• reviewing the accounts when the chief accountant, director or owner changes;
• finding errors early: based on the audit findings, an enterprise may submit revised financial statements to replace those submitted earlier (Article 14(6) of Law No. 996-XIV);
• preparing for a transaction, where a financial audit is often combined with financial and tax due diligence.

The officers of the legal entity whose financial statements are audited are responsible for the completeness and reliability of the documents and other information provided to the auditor, and must create proper conditions for the audit services to be delivered to a high standard (Article 7(4) of Law No. 2258-VIII).

Stages of a financial audit and how to prepare

An audit starts with a contract and ends with a written report. In between come planning, gathering evidence and internal quality control.

1. Contract. The audit engagement contract between the audit entity and the client is the basis for providing audit services (Article 7(1) of Law No. 2258-VIII).
2. Planning and risk assessment. The auditor applies professional scepticism, recognising that the financial statements may be materially misstated as a result of facts or conduct indicating irregularities, including fraud or error, regardless of past experience of the honesty and integrity of the company’s officers (Article 9(1)). The auditor also takes a critical and questioning approach to management’s estimates of fair value, impairment of assets, provisions and future cash flows (Article 9(2)).
3. Gathering evidence. Everything material is recorded in the auditor’s working papers, which set out the procedures and tests used, the information obtained and the conclusions reached (Article 1(1)(20)).
4. Engagement quality control review. An assessment of the work of the auditor or key audit partner to confirm that the conclusions in the draft auditor’s report are well founded (Article 1(1)(8)).
5. Report. Prepared under ISA and the requirements of the law, in writing, on paper or in electronic form (Article 7(5)).

On the company’s side, preparation mainly means being able to back up the accounting data with facts. An inventory count is mandatory before the annual financial statements are prepared (paragraph 7 of Section I of the Regulation on the Inventory of Assets and Liabilities approved by Order of the Ministry of Finance of Ukraine No. 879 of 2 September 2014). It is carried out before the balance sheet date: within three months for non-current assets, inventories, current biological assets, receivables and payables, deferred expenses and deferred income; within two months for capital investment in progress, work in progress, financial investments, cash and settlements with the budget (paragraph 10 of Section I). Land, buildings, structures and other real estate may be counted once every three years.

You will also need the primary documents. Certain categories of taxpayers keep them, together with accounting registers, financial statements and other documents related to calculating and paying taxes, for at least 1,825 days, and other documents for at least 1,095 days (paragraph 44.3 of the Tax Code of Ukraine). The financial statements themselves consist of the balance sheet (statement of financial position), the statement of financial results (statement of comprehensive income), the cash flow statement, the statement of changes in equity and the notes (paragraph 1 of Section II of National Accounting Regulation (Standard) 1, NP(S)BO 1).

Reporting deadlines should also be taken into account when planning the audit. Under paragraph 5 of the Procedure for Submitting Financial Statements approved by Cabinet of Ministers Resolution No. 419 of 28 February 2000, micro- and small enterprises submit their annual financial statements no later than 28 February of the year following the reporting year and medium-sized enterprises no later than 1 June, while interim statements for the first quarter, first half-year and nine months are submitted no later than the 30th day of the month following the reporting quarter.

What the client receives after the audit

The main result is the auditor’s report, which gives users assurance through the auditor’s independent opinion on whether the financial statements comply in all material respects with the national accounting regulations (standards), International Financial Reporting Standards or other requirements (Article 14(1) of Law No. 2258-VIII). The report is signed by the auditor where the auditor works as a sole practitioner, or, where the audit is performed by an audit firm, at least by the key audit partner; the signatory states the date of signing (Article 14(2)).

After a mandatory audit, the report must include at least: the full name of the legal entity, the components of the financial statements, the reporting period and the date as at which they were prepared; a statement that ISA were applied; the auditor’s clearly expressed opinion; any matters that deserve attention but did not affect the opinion; information on the consistency of financial information in the management report; any material uncertainty about going concern; and basic information about the audit entity that performed the audit (Article 14(3)). For public interest entities the report also states the body that appointed the auditor, the date of appointment and the total uninterrupted duration of the audit engagements, the auditor’s assessment of the most significant risks of material misstatement, and an explanation of the scope of the audit and its inherent limitations (Article 14(4)).

Types of audit opinion

The auditor’s working papers belong to the audit entity, and access to them and to information constituting professional secrecy is possible only by court decision, except for quality control of audit services, disciplinary proceedings, other cases defined by law and the voluntary consent of the audit entity (Article 11(8)). Working papers and all reports are kept for at least seven years from the date the engagement is completed (Article 39). Read more on our audit of financial statements page.

Who may perform a financial audit

Only an audit entity entered in the Register of Auditors and Audit Entities: audit services may be provided only after registration (Article 20(1) of Law No. 2258-VIII). The Register is kept electronically, and its holder and administrator is the Audit Public Oversight Body of Ukraine (Article 20(2)). The Register is public, published and kept up to date on the Body’s official website, and the information in it is open to everyone free of charge, around the clock (Article 20(3)). No fee is charged for entering information in the Register (Article 20(8)).

The Register has four sections (Article 21(1)): auditors; audit entities; audit entities entitled to perform mandatory audits of financial statements; and audit entities entitled to perform mandatory audits of financial statements of public interest entities. Check the audit firm in the section that matches the engagement: mandatory audit services may be provided only once the entity has been entered in the relevant sections of the Register (Article 6(1) of the Law).

Further requirements: an auditor acquires the right to practise after confirming professional competence, gaining practical experience and registering in the Register (Article 4(1)), and must be of good repute (Article 4(7)). Only an auditor may be the officer who manages an audit firm (Article 5(3)), and founders (participants) who are not auditors or audit firms may together hold no more than 30% of the charter capital (Article 5(2)). An audit entity performing mandatory audits must have third-party liability insurance, and without it may not provide mandatory audit services (Article 43(2) and (3)). See the full range of services in the audit services section.

Auditor independence and why it matters

Independence is a condition for being allowed to do the work. An auditor and an audit entity may provide audit services only if they, their owners, officers, key audit partners and staff involved in the engagement are independent of the legal entity whose financial statements are being audited and have not taken part in preparing or making its management decisions; this applies to the reporting period under audit and to the period of the engagement (Article 10(1) of Law No. 2258-VIII).

The law prohibits providing audit services if these persons, or their close relatives and family members, own financial instruments issued by the audited entity or have had employment, contractual or other relations with it that could lead to a conflict of interest (Article 10(4)). Requesting or accepting money or non-monetary gifts from the client entity is prohibited (Article 10(6)). All significant threats to independence and the safeguards applied are documented in the auditor’s working papers (Article 10(5)). A cooling-off period applies after a mandatory audit: for at least one year, or at least two years for public interest entities, the auditor may not take up a key management position in that entity (Article 10(8)).

Members of the administrative, management and supervisory bodies, owners of the audit entity and their related parties are prohibited from interfering in the auditor’s work in a way that compromises the auditor’s independence and the objectivity of the opinion (Article 12). Fees for mandatory audit services may not be made contingent on predetermined conditions relating to the outcome of the services, in particular on the opinion expressed in the auditor’s report (Article 26(2)). For when an audit becomes mandatory, see our article when an audit of financial statements is mandatory.

Frequently asked questions

What is a financial audit of a company, in plain terms?

It is an independent review of accounting data and financial statement figures, after which the auditor gives a written opinion on whether the statements present the company’s position fairly in all material respects. It is carried out by an external professional under International Standards on Auditing, independently of the company’s own staff.

How does a financial audit differ from an audit of financial statements?

In substance they are the same thing: the law uses the term “audit of financial statements” and defines it in Article 1(1)(1) of Law No. 2258-VIII, while “financial audit” is the everyday synonym. The practical distinction is between a mandatory audit and an initiative audit, whose scope is set by the engagement contract.

Is an audit of financial statements mandatory for an LLC?

The obligation depends on the company’s size category and on whether it must publish its annual financial statements together with an auditor’s report under Article 14(3) of Law No. 996-XIV, whatever its legal form. An LLC’s statements are also audited at the request of participants who together hold 10% or more of the charter capital (Article 41 of Law No. 2275-VIII).

How do I check an auditor in the Register of Auditors and Audit Entities?

The Register is public: it is published and kept up to date on the official website of the Audit Public Oversight Body, and the information in it is open to everyone free of charge, around the clock (Article 20(3) of Law No. 2258-VIII). Check the section as well as the entry itself: firms authorised for mandatory audits appear in a separate section of the Register.

How long does a financial audit take, and what does the timing depend on?

The law sets no standard duration: the subject matter, scope of audit services, fees and payment terms, and the parties’ liability are set by the audit engagement contract under Article 7(2) of Law No. 2258-VIII. In practice the timing depends on the scope of the engagement, the number of periods under review and the state of the primary documents.

What happens if the auditor’s report is not submitted on time?

Failure to submit, or late submission of, auditor’s reports required by Ukrainian law makes company managers and other officials liable to a fine of five to ten tax-free minimum incomes (Article 163-1 of the Code of Ukraine on Administrative Offences). For a repeat offence by a person already penalised for the same breach within a year, the fine is ten to fifteen tax-free minimum incomes.