You finally see it in your inbox: the bolded email and subject line from the prospect you have been courting for months has finally sent you the financial package you requested. Naturally, you open the financial statement attachment, glance at the cover page and plunge into the numbers. And in so doing have completely bypassed a potentially valuable source of information: The Letter of Transmittal.
Sometimes known as the cover sheet to a financial statement, the letter of transmittal is the first page of the financial statement (after a table of contents) that on a basic level describes the reporting period the statement covers (fiscal, six months, etc.) and the amount of work the accounting firm put into verifying the contents. This can vary from a Compilation, a Review or a Certified statement (sometimes referred to as an Audit).
Here are some other things to look for:
- Does the letter contain what is sometimes referred to as “ongoing concern or qualifying language”; an explicit advisory that the accuracy of the statement is contingent on the ability of the company to operate as an ongoing concern and will usually direct you to a footnote in the Notes that elaborates.
- Is it a “short” or even “long” period - the former many times due to the conversion of a “C” corporation to a subchapter “S” which usually requires a conversion to a calendar date year-end? The latter can also be due to adopting S status and “skipping” the traditional reporting period. Tax considerations, a change in business model or ownership, can affect fiscal reporting periods.
- The transmittal letter should carry a date which represents the date the work has been completed and approved by both the client and the accounting firm as opposed to the date of the reporting period. A 60-day difference or less is the norm, six months is not. If the difference is over 60 days, feel free to ask why the discrepancy exists. Was the accounting firm simply busy or was there some disagreement with management as to the reporting of certain operating results or events?
- Is the size of the accounting firm commensurate with the size of the subject company? To take a severe case, is a one-person accounting firm providing the financials for a company with $200MM in revenue? Many times, a very large client, being a significant source of revenue for the accounting firm, can intimidate their accountants into a favorable interpretation of data reflected on the statement. Typically, the cover letter will have a listing of partners that give a sense of the size of the firm (if not a well-known international or regional firm).
- Are there any spelling mistakes on the Letter of Transmittal? While sounding trivial, the financial statement is the most viewed work product of any accounting firm and as such is vetted on many levels. A spelling or obvious grammatical error can be an indicator of shoddy work.
- Have different accountants prepared the financial statements? Have there been frequent changes in accounting firms? Was the accounting firm or the business “fired”? This should be explored as it could be an indicator of the “bullying” tactics previously described.
Digging a bit deeper into the Letter of Transmittal can provide clues to areas of concern and improve the chances that you will enter into a mutually beneficial relationship.