December 7, 2023
Cash Flows: Chief Accountant Says “Only Misclassification” Isn’t a Persuasive Argument For Immateriality
The SEC’s Office of Chief Accountant recently released this statement with timely reminders for issuers and auditors. The gist of the announcement is that the OCA doesn’t think the statement of cash flows is getting the attention it deserves from either financial statement preparers or auditors. In support, it cites the SEC’s observations that the statement of cash flows is consistently a leading area for material weaknesses in ICFR and for financial restatements. A significant majority of these restatements are “little r” restatements, but the OCA sometimes finds the materiality analyses presented to be unpersuasive:
In certain instances, the staff in OCA have been presented with analyses that conclude an error in the statement of cash flows is not material because it is an error in classification only. We have not found such analyses and their corresponding arguments persuasive since classification itself is the foundation of the statement of cash flows. Accurately classifying cash flows as operating, investing, or financing activities is paramount to investors understanding the nature of the issuer’s activities that generated and used cash during the reporting period. Therefore, issuers and auditors must consider all relevant facts and circumstances to thoroughly and objectively evaluate the total mix of information and determine if such classification errors are material to a reasonable investor.
The statement suggests specific improvements in disclosure, presentation and internal controls related to the statement of cash flows. The OCA also has a reminder for the auditors:
The risks of material misstatement related to the statement of cash flows, such as inaccurate classification of cash flows and incomplete supplemental disclosure of noncash items, are distinct from those in the other financial statements. We expect auditors to design and implement audit procedures that are specifically responsive to those risks in the statement of cash flows, rather than simply reconciling reported cash flows to the balance sheet or income statement.
– Meredith Ervine