Financial Statement Assertions

Updated on March 29, 2024
Article byKhalid Ahmed
Edited byAshish Kumar Srivastav
Reviewed byDheeraj Vaidya, CFA, FRM

What Are Financial Statement Assertions?

Financial Statement Assertions refer to claims of the accuracy and completeness of data presented in financial statements by the management of an organization. It serves as a theoretical basis for external auditors to ensure the integrity and correctness of financial statements while auditing a firm’s financial records. 

Financial Statement Assertions

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There are five types of assertions, namely occurrence or existence, allocation or valuation, obligations and rights, and disclosure and presentation. Such claims have become necessary for analysts and investors to assess a company’s financial status. Companies trading their shares must make their financial statements complying with their assertions.

Key Takeaways

  • Financial statement assertions are statements made by a business’s management about the correctness and completeness of the data in its financial reports.
  • External auditors use it as a benchmark to guarantee the accuracy and integrity of financial reporting. 
  • It has five types – existence or occurrence, completeness, valuation or allocation, rights and obligations, presentation and disclosure.
  • It is important because it – acts as a foundational framework for third-party auditors, covers the five pillars of assertions, complies with government regulation, leads to accountability and transparency, and increases trust amongst investors and stakeholders.

Financial Statement Assertions Explained

Financial statement assertions are claims related to the accuracy and trustworthiness of financial data, providing a roadmap for verification of the financial landscape. It includes five important pillars as assertions to instill confidence in the users, investors, and stakeholders. Such assertions are deployed in separate categories: transaction level, account balance, and presentation and disclosure assertions.

Moreover, such claims or assertions are put into the financial statements either openly or implicitly as management representations. The Financial Accounting Standards Board (FASB) made preparing financial reports per generally accepted accounting principles (GAAP) for publicly traded companies necessary. 

It assists auditors to know the area where the statements may have been misstated. Consequently, auditors design suitable testing procedures for confirming these assertions through financial statement assertions audit. They may use the procedures, namely risk assessment and further audit procedures containing control tests and substantive procedures for authenticating the assertions.

If the audit process reveals that any of the five assertions are incorrect, then they may conduct extra audit procedures, or their opinion may not be a clear audit opinion. Additionally, if all the assertions of the five preceding assertions are declared false, then it means the management is committing fraud in the financial statement. Many companies, like PricewaterhouseCoopers (PwC) and Public Company Accounting Oversight Board (PCAOB) financial statement assertions, use it in their statements. 

Types

Financial statements contain five major types of assertions, as listed below:

  1. Existence or occurrence: It assures the actual existence of liabilities, assets, and transactions that happened in real-time during the designated accounting period
  2. Completeness: It informs external users that all the financial information present in the statements of a company contains all required information by law and statutory bodies without any relevant data or information being omitted.
  3. Valuation or Allocation: It confirms that the transactions, liabilities and assets were correctly valued and allocated to the appropriate accounting time limits.
  4. Rights and Obligations: It means that this company is owned legally and owes the credits or obligations as contained in the financial statements. 
  5. Presentation and Disclosure: It confirms the clarity and consistency of the financial statement presentation supported by all the required disclosures.

Examples

Let us use a few examples to understand the concept of the topic.

Example #1

An article was published on March 19, 2023 regarding changes to financial statement assertions under ASU 2020-06. The FASB has released these changes related to convertible debt accounting. The new standard has simplified the accounting guidance concerning securities like equity and debt of an entity. Moreover, it particularly affects convertible debt instruments accounting.

Its new guidance became applicable to all Securities and Exchange Commission (SEC) audits beginning after December 15, 2021 for fiscal years. In the future, it became applicable from December 15, 2022 on smaller reporting entities. Subsequently, its amendments and guidance became applicable to all other firms after 15 December 2023 for fiscal years. Therefore, one concludes that the fresh guidance has become applicable to all entities since starting of this year.

ASU 2020-06 had made significant changes concerning convertible debt which is the retention of only three accounting models for its allocation. Also, ASU 2020-06 segregated bifurcated derivative (BCF) with convertible debt and cash conversion feature with convertible debt. As a result, these changes would affect the classification of contracts as liabilities or assets, leading to the addition of more new contracts to qualify under equity classification.

Since these changes are related to the debt conversion features associated with audits of all companies from this year, firms must be ready to review instruments along with the updating of evaluating systems and financial presentation. Hence, it is going to affect accounting guidance concerning financial assertions based on applying new guidance on convertible debt’s transition. 

Example #2

Let us consider the situation of Techvilla, an imaginary city in Loolaland where Jasmin works as chief financial officer at Innovabest Solutions Ltd. After some time, an audit of the financial statements of Techville takes place under the able auditor Jackyn. 

Jasmin had asserted the existence and evaluation of the firm’s products to make them presented fairly. Meanwhile, Jackyn, the auditor, focuses on verifying and substantiating the assertions of Jasmin to instill investor and stakeholder confidence. It also tried to comply with regulations throughout the dynamic landscape of Loolaland.

Importance

These assertions are vital in a company’s financial reporting and auditing of data, as depicted below:

  1. It serves as the foundational framework for third-party auditors, providing them with the theoretical route to formulate the audit process. 
  2. It covers the five pillars of assertions, which address particular aspects of a statement’s completeness and accuracy.
  3. Various stakeholders and investors use these assertions to get true insights into a firm’s financial positions for making investment and analytics decisions. 
  4. Government regulatory bodies have made it mandatory for firms to prepare and present their financial statements aligned with assertions.
  5. It also leads to transparency and accountability of financial reporting concerning companies having publicly traded securities.
  6. After auditors confirm the accuracy and completeness of financial reports as per assertions while auditing, it increases the reliability of a company’s data and invokes higher trust amongst stakeholders.

Frequently Asked Questions (FAQs)

1. Who makes financial statement assertions?

The company’s management makes these assertions to vouch for the authenticity of the data presented in their cash flow statements, balance sheets, and income statements. The assertions may be implicit or explicit, including claims on authenticity about valuations, completeness, accuracy, obligations and rights, disclosure, and presentations.

2. What are assertions in an audit?

In audit, any claim regarding the establishment of fairness and accuracy of financial statements is termed as an assertion. It has a crucial role in determining the correctness or fairness of auditing financial records. Moreover, an audit attests to five major financial statement assertions in a company’s statements.

3. What are the downsides of financial statement assertions?

It has certain downsides, too, like a tendency toward bias from management, errors, and fraud. Too much dependence on assertions leads to auditory risks and underscores the trustworthiness of any financial statements. As a result, it may present a company’s misleading or inaccurate financial health, negatively impacting investors and analysts.

4. Who can benefit from financial statement assertions?

It benefits almost all the stakeholders, including analysts, regulators, investors, and creditors. These assertions play an important role in a company’s trustworthiness, performance, and financial health, allowing informed decisions on investment by investors.

This article has been a guide to what are Financial Statement Assertions. Here, we explain it in detail along with its examples, types, and importance. You may also find some useful articles here –

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