An audit entails considerable extra work for your law firm’s finance team, at a time when they may already be busy. The key to success is communication and preparation, explains Huw Nicholls, legal sector audit director at accountants Armstrong Watson. (8 December 2023)
Ask law firm finance teams about the audit process and they will often talk about the challenges that an audit brings. Finance teams have limited capacity to answer all the questions from auditors while also performing their routine duties. There is potential for delays, staff stress and audit overrun fees.
For a first-year audit these challenges can be even greater, due to unfamiliarity with the audit process.
However, there are preparatory steps that can be taken to make the process as easy and efficient as possible.
Be clear on the deliverables
Prior to an audit commencing, the audit team will normally send the finance team a list of information (‘deliverables’) that needs to be made available for the audit.
The finance team may need to clarify some points with the auditor, as well as making a plan for who on the finance team is preparing what by when. Can you do all this work in the timeframe requested?
Having these conversations early will save time and prevent problems down the line.
Where the list of deliverables contains reports run from the accounting system, consider whether any of these reports can only be run at a specific point in time. If you fail to run such reports on those dates it can result in significant extra work reconciling reports back to the year-end balance.
A significant amount of the information requested will relate to objective facts like the amount of cash in the bank at the year-end date. However, some items will be subjective, where management have made judgements to come up with estimates for the value of certain items in the financial statements.
WIP (work in progress) and debtors are obvious examples. How much WIP and debtors will get turned into cash at the end of the day and how much might end up being written off for one reason or another?
The auditor will typically want to ‘get into management’s shoes’ before reaching their own conclusion about these values. So, in your information for the auditor detail the management’s logic, plus any evidence from previous years to support that logic.
For WIP, auditors will typically want access to fee-earners, to ask them for the reasoning behind why such-and-such a WIP balance is recoverable. The finance team will need to organise this liaison between the auditors and the fee-earners.
Such requests from the auditor can be pre-empted to a certain extent, by asking all fee-earners to provide the reasoning for the value of all WIP balances greater than an agreed threshold every month.
Where the deliverables relate to more objective areas, finance teams can reduce the number of follow-up questions by collating the information to support balance sheet items at the time of preparing the year-end figures.
For example, when you come up with the finalised figures for accruals and prepayments at year-end, at the time of preparation retain the evidence for these figures in an easily accessible folder. This avoids the need to search for the evidence again when the audit team asks for it.
Several tests performed by the auditors will start outside the accounts system. For example, sales testing will typically start from timesheets. The finance team needs to know how to obtain the information required, so the timesheets can be traced to matters by the audit team.
Auditors will typically want to verify the fixed assets. A good, up-to-date asset register makes this much easier and faster. Some assets, such as vehicles, are straightforward to identify. But items such as laptops are harder to track and to identify, as there is so much change and because the same brand and model may be used by several people.
You can simplify the tracking process by setting a monetary limit for capitalisation, with anything below this value being treated as a renewal and charged to the profit and loss account (i.e. written off in the year it is purchased).
The auditors will also want access to certain legal agreements; for example, leases, finance facilities and partnership agreements. So make these readily available, too.
Finally, where the auditors are preparing the financial statements, the finance team should already have considered how their trial balance will map to the statutory accounts.
Plan for the practicalities of being audited:
- Where will the audit team sit to do their work?
- Can they log into the finance and/or practice management system?
- Can they access the firm’s wi-fi network? As auditors move to cloud-based audit packages, internet access is becoming essential.
- Are all members of the finance team available when the audit is being performed?
The above preparation points will help to make the audit process as quick and easy as possible. But, more importantly, will also help you to run the law firm more efficiently.
For example, having a documented thought process for WIP provisioning should lead to a more accurate WIP provisioning figure, month after month. Accurate provisions in turn enable better cash flow forecasting and improved financial decision-making generally.
Likewise, fee-earners having to justify the recoverability of their WIP balances on a regular basis can transform the firm’s ability to identify problems in matters early on. And so on.
Audit preparation top ten tips
- Review and clarify the deliverables list early on.
- Set reminders to run time-critical reports at the year end.
- Thoroughly review the year-end WIP and debtors for recoverability.
- Collate supporting evidence for judgements and estimates in the financial statements – particularly WIP.
- Make fee-earners aware of the timing of audit fieldwork and the importance of responding to the auditors.
- Implement controls to track assets.
- When preparing the financial statements ahead of time, agree the mapping to be applied to the trial balance.
- Collate relevant legal and financial agreements, ready for access.
- Ensure that the auditors can access systems remotely and/or have access to desk space in your offices.
- Ensure the finance team know how to access all the reports that will be requested by the auditors.
Why do law firms choose Armstrong Watson?
It’s because this accountancy firm has built an outstanding reputation in the legal sector, working as preferred partner of the Law Society.