The requirement for a management representation letter on financial statements is set out by the International Standards on Auditing (ISA, particularly ISA 580), which are part of Czech legislation. Every auditor must comply with these standards, and it is not possible that another auditor would not request such a letter from management.
What does this letter include?
In the representation letter, management confirms its responsibility for the preparation of the financial statements and the accuracy of the information contained therein. This letter is a key piece of audit evidence.
At the beginning of the audit planning process, the client commits in the audit engagement letter to sign this management representation before the auditor’s report is issued. Even though the auditor has reviewed the financial statements, there remains a risk of undetected misstatements. In the representation, management acknowledges that the auditor’s examination may not necessarily identify all possible deficiencies or inaccuracies. This does not imply that the auditor has not performed their work properly. It is a natural risk, as the auditor does not examine every single accounting entry but instead performs testing on samples. The auditor’s report states that the financial statements present a true and fair view in all material respects – not an absolutely true and fair view. The auditor works with a level of materiality, determined at the start of the audit based on professional judgment. But that leads us into another topic.
Returning to the representation: for the auditor, the client’s willingness to sign such a letter is evidence that management trusts its own financial statements. If the client does not trust their own financial statements, why should the auditor?
Variations of the letter
The management representation letter on financial statements may also include a list of uncorrected misstatements. This is a mandatory part of the letter, required by auditing standards whenever the auditor has identified a misstatement that the client refuses to correct. In that case, a paragraph is added stating that management is aware of the misstatement but believes it does not have a material impact on the true and fair view of the financial statements. The auditor may disagree with management on the substantive nature of such misstatements but must agree that they are not material. If, however, the auditor considers their value to be material, even if they disagree on substance, it would be difficult to finalize the audit without modifying the opinion.
Another issue arises when management, e.g., a managing director, refuses to sign the representation letter because they were appointed only after the end of the audited financial period. They argue that they cannot take responsibility for a period during which they were not in office. From the date of their appointment, however, the new managing director is responsible for fulfilling the statutory obligations of the company, which are primarily set out in the Business Corporations Act (ZOK). These include the obligation to prepare the company’s financial statements for the previous period by the statutory deadline. The introductory part of the representation states that the signatory confirms it to the best of their knowledge and belief, and after making appropriate inquiries of other staff. In other words, they are not asked to make an absolute statement, only to respond based on the information available to them.
Moreover, ISA does not prescribe that there can only be one representation letter or that all items must be signed by the same individuals. The auditor may also request representations on specific matters from other members of management, if those matters fall within their competence.
