Question 1
Explain the auditing concept.
Answer
As per the General Guidelines on Internal Auditing issued by The Institute of Chartered Accountants of India,
“auditing is a systematic and independent examination of data, statement, records, operation and performances (financial or otherwise) of an enterprise for a stated purpose. In any auditing situation, the auditor perceives and recognizes the proposition before him for examination, collects evidence, evaluates the same and on this basis formulates his judgement which is communicated through his audit report’’.
According to them, “...auditing is the accumulation and evaluation of evidence about information to determine and report on the degree of correspondence between the information and established criteria”.
According to SA 200, Basic Principles Governing an Audit,
“an audit is an independent examination of financial information of any entity, whether profit oriented or not, and irrespective of its size or legal form, when such examination is conducted with a view to expressing an opinion thereon”.
Question 2
Explain the features of auditing
Answer:
The essential features of auditing are enumerated below;
(i) It involves evaluation & verification of the relevance, reliability and adequacy of evidence in support of verifiable information such as vouchers, documents, explanations.
(ii) It is analytical, critical and investigative review of systems of Accounting & Internal Controls.
(iii) The information audited may be financial or non-financial.
(iv) There should be standards or criteria for evaluation of the information in a systematic & scientific manner.
(v) The auditor should be competent and independent, qualified & possessing prescribed qualification & certificate of practice.
(vi) It ensures reliability of information and authenticity of assertions made in the financial statements relating to enterprises, whether profit-oriented or not and whether it is required by law or not, to enable the auditor to form his opinion on these statements with regard to true and fair view of state of affairs of Business and of profit or loss made during financial period disclosed therein.
Question 3
Explain the nature of auditing.
Answer
The nature of auditing is summed up below:
1] Auditing is a systematic and scientific examination of the books of accounts of a business.
2] Auditing is undertaken by an independent person or body of persons who are duly qualified for the job.
3] Auditing is a verification of the results shown by the profit and loss account and the state of affairs as shown by the balance sheet.
4] Auditing is a critical review of the system of accounting and internal control.
5] Auditing is done with the help of vouchers, documents, information and explanations received from the authorities.
6] The auditor has to satisfy himself with the authenticity of the financial statements and report that they exhibit a true and fair view of the state of affairs of the concern.
7] The auditor has to inspect, compare, check, review, scrutinise the vouchers supporting the transactions and examine correspondence, minute books of shareholders, directors, Memorandum of Association and Articles of Association, etc. in order to establish the correctness of the books of accounts.
Question 4
Enumerate the scope of auditing.
Answer
In the ancient period, the scope of auditing was really limited. But over the time the scope of auditing has extended considerably.
As per SA 200, the objective of an audit is to express an opinion as to the true and fair view of the financial statements.
The scope of audit of financial statement is determined by the terms of engagement, requirement of relevant legislation and pronouncements of The Institute of Chartered Accountants of India (ICAI).
Thus, the appointing authority cannot restrict the scope of an audit in relation to those matters which are prescribed by the relevant legislation and the pronouncements of The Institute of Chartered Accountants of India (ICAI).
The auditor is responsible for forming and expressing his opinion on the financial statements, while the responsibility for their preparation is that of the enterprise.
Management’s responsibility includes the maintenance of adequate accounting records and internal controls, selection and application of accounting policies and safeguarding the assets of the enterprise. The audit of financial statements does not relieve the management of its responsibilities.
The following points are included in the scope of audit of financial statements:
1] Scope of audit of financial statements
2] Coverage of all aspects of entity relevant to the financial statements being audited.
3] Reliability and Sufficiency of financial information
4] Proper disclosure of financial information
5] Expression of an opinion on financial statements
The following points are not included in the scope of audit of financial statements:
1] Responsibility statements of preparation and presentation
2] Duties outside scope of competence of auditor
3] Expertise in authentication of documents
4] Investigation
The scope of auditing depends on the following factors:
1] The size of the organisation,
2] Legal status of the organisation (statutory or voluntary),
3] Purpose of audit,
4] Agreement between the auditor and owners (in case of non-statutory audit),
5] Adequacy and effectiveness of the internal control system of the organisation,
6] Accounting system of the organisation,
7] Published guidelines and standards on auditing,
8] Relevant statutes prevalent in the country,
9] Legal decisions on different cases.
Question 5
List the objectives of auditing
Answer
According to SA 200, Overall Objective of the Independent Auditor and the Conduct of an Audit as per Standard of Auditing, in conducting an audit of financial statements, the overall objectives of the auditor are:
(i) To obtain reasonable assurance about whether the financial statements as a whole are free from material misstatement, whether due to fraud or error, thereby enabling the auditor to express an opinion on whether the financial statements are prepared, in all material respects, in accordance with an applicable financial reporting framework; and
(ii) To report on the financial statements, and communicates as required by the SAs, in accordance with the auditor’s findings.
The objectives of an audit can be grouped into two categories: (1) Primary Objectives and (2) Secondary Objectives.
Primary Objectives: The primary objective of an audit is to substantiate the accuracy and judge the reliability of the financial statements of a particular accounting period of the organisation and to express an opinion about the truthfulness and fairness of the financial statements. Rendering opinion on financial statements by the auditor is specifically included in SA 200.
Secondary Objectives: The following are the secondary objectives of audit:
(i) Detection of errors: Detecting errors may or may not be easy. It depends on the type of error. It is easy to locate those errors whose occurrences result in a mismatch in the total of the trial balance.
(ii) Detection of fraud: Fraud is difficult to detect because in most cases frauds are committed intelligently and top management is involved. However, an auditor can detect frauds if he applies reasonable skill and care in the discharge of his duties.
(iii) Prevention of errors: Appropriate measures can be suggested by the auditor to prevent the recurrence of errors committed earlier.
(iv) Prevention of fraud: An auditor can suggest ways for preventing the occurrence and recurrence of frauds.
Question 6
List the social objectives of auditing.
Answer:
In the process of adhering to the above objectives, an audit also attains certain social objectives as follows:
(i) To protect the shareholders’ interest of shareholders.
(ii) To stop evasion of taxes
(iii) To safeguard against capital erosion
(iv) To ensure fair return on investors
(v) To ensure reasonable price to customers
(vi) To ensure fair compensation to workers
(vii) Complying with polices regarding corporate social responsibilities
Question 7
Explain the significance of auditing.
Answer:
(i) Audited accounts provide high quality information: Audited financial statements is qualitative and reliable. It gives confidence to users that information on which they are relying. An audit reviews existence and operations of various controls operating in any entity. Hence, it is useful at pointing out deficiencies.
(ii) Acceptability to the Government: Audited accounts are acceptable by government authorities like Income Tax Department, Land Revenue Department, etc.
(iii) Facilitating detection of error and fraud: Auditing helps in timely detection and prevention of errors and frauds.
(iv) Getting loans: For obtaining the loan from banks and financial institutions, previous years’ audited accounts are of great help as the lenders can determine the solvency of the borrowers based on audited accounts.
(v) Moral Check: Audit acts as a moral check on the employees of the client. This restricts them from committing defalcations.
(vi) Helps in settling claims in partnership firms: In case of a partnership business, audited accounts facilitate settlement of claims on the retirement or death of a partner.
(vii) Settlement of Insurance Claim: In event of loss of property by fire or other incidents, audited accounts help in expediting the process of settlement of claims from the insurance company.
(viii) Aids in settling disputes: Audit often aids in amicable settlement of disputes between the management and labour unions on issues like payment of bonus and higher wages.
(ix) Prevention of wastage: Audit helps in detection of wastage which aids management to prevent the recurrence of the same in future.
(x) Reviewing control systems: Audit appraises and reviews the existence and operations of different controls in the organisation and reveals weakness and inadequacy in them.
(xi) Aids in case of insolvency and bankruptcy: Audited accounts form a basis for determining action in cases relating to insolvency and bankruptcy.
Question 8
Explain the inherent limitations of auditing.
Answer:
Inherent Limitations of Audit (SA 200 “Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with Standards on Auditing”):
The auditor is not expected to, and cannot, reduce audit risk to zero because there are inherent limitations of an audit. The inherent limitations of an audit arise from:
(i) The Nature of Financial Reporting:
The preparation of financial statements involves making many judgment by management in applying the requirements of the entity’s applicable financial reporting framework to the facts and circumstances of the entity. It is true that financial statements may not disclose the true picture even after audit due to inflationary trends. Further, certain non-monetary facts cannot be measured.
(ii) The Nature of Audit Procedures:
There are practical and legal limitations on the auditor’s ability to obtain audit evidence such as:
1] Non Co-Operation by Management:
Management may not provide intentionally or unintentionally, the complete information relevant for preparation and presentation of Financial Statement. There is no way by which auditor can force management to provide complete information as may be requested by auditor. In case he is not provided with required information, he can only report. It is an example of legal limitation on auditor’s ability to obtain audit evidence.
2] Fraud may involve sophisticated and carefully organised schemes:
It may not be possible for the auditor to detect certain errors and frauds which are committed very cleverly.
3] Not in nature of investigation:
An audit is not an official investigation. Hence, auditor cannot obtain absolute assurance that financial statements are free from material misstatements due to frauds or errors.
(iii) Timeliness of financial reporting and decrease in relevance of information over time:
In most cases, it is not possible for the auditor to detailed checking each and every transaction due to time and cost constraints. He has to rely on test checking. an auditor does not test all transactions and balances. He forms his opinion only by testing samples. It is an example of practical limitation on auditor’s ability to obtain audit evidence.
(iv) Other Matters that Affect the Inherent Limitations of an Audit:
In case of certain subject matters, limitations on the auditor’s ability to detect material misstatements are particularly significant. Such assertions or subject matters include:
1] Fraud, particularly fraud involving senior management or collusion.
2] The existence and completeness of related party relationships and transactions.
3] The occurrence of non-compliance with laws and regulations.
4] Future events or conditions that may cause an entity to cease to continue its business as a going concern.
Question 9
Explain the advantages of audit.
Answer:
The advantages of audit are as follows:
(i) Audit is a tool, which different stakeholders can use to protect their interests in the enterprise. Audited accounts provide high quality information. It gives confidence to users that information on which they are relying is qualitative and it is the outcome of an exercise carried out by following Auditing Standards recognised globally.
(ii) Audit is not only a corrective measure but has a deterrent effect. It serves as a moral check on the employees from committing frauds for the fear of being discovered by audit..
(iii) The employees of the organisation remain alert and vigilant as regards the updating of books of accounts and other records.
(iv) Audited accounts are considered more reliable by different cadres of Government. For example, the tax audit report filed with the taxation authorities.
(v) It facilitates detection of wastage's and losses and helps in instituting corrective actions.
(vi) Audited accounts are taken to be more reliable and useful during corporate restructuring exercises, valuations etc.
(vii)Banks, Financial Institutions and Government require audited accounts before granting any financial assistance to the enterprise.
(viii)Audited accounts are taken to be more helpful in the settlement of accounts between the partners and thus avoiding any dispute amongst them.
Question 10
Explain the Basic Principles Governing an Audit.
Answer:
SA 200 issued by The Institute of Chartered Accountants of India gives the following basic principles that govern the auditor’s responsibilities whenever an audit is carried out:
(i) Integrity, objectivity and independence: The auditor should be straight-forward, honest, sincere and free form any influence on his audit work. He should maintain impartiality and be free of any interest.
(ii) Confidentiality: He should not disclose the client’s information to anybody without the client’s permission or under any regulatory requirement.
(iii) Skills and competence: The audit should be performed and audit report be prepared by adequately trained, experienced and competent person.
(iv) Work performed by others: The auditor should carefully supervise the work performed by others (such as his subordinates, other auditors, experts etc.) as remains responsible for the work delegated by him to his assistants, other auditors or experts.
(v) Documentation: Proper working papers should be maintained by the auditor to evidence the audit work. Working paper which is maintained is to demonstrate that the audit is in adherence to the basic principles.
(vi) Planning: The auditor should obtain the knowledge about client’s business to determine the nature, timing and the extent of the audit procedures.
(vii) Audit evidence: The auditor should obtain sufficient appropriate audit evidence through performing the compliance and substantive procedures.
(viii) Accounting system and internal controls: An understanding of the accounting system and the related internal controls help in determining the nature, timing and extent of other audit procedures.
(ix) Audit conclusions and reporting: On the basis of conclusions drawn from the audit evidence obtained the auditor should give unqualified report or qualified report or adverse report or the disclaimer report.
Question 11
Explain the Qualities of an Auditor.
Answer:
Personal Qualities: Tact, caution, firmness, good temper, integrity, discretion, industry judgement, patience, clear headedness, commonsense, trust and reliability etc. are some of qualities which an auditor should have. In short, all those personal qualities that go to make a good businessman contribute to the making of a good auditor.
Technical / Professional Competence: The auditor should possess specific knowledge of accountancy, auditing, taxation, relevant laws and regulations etc., which are acquired by him during the course of his theoretical education. Practical training and theoretical education are equally necessary for the development of professional competence of an auditor for undertaking any kind of audit assignment.
Skills: Auditors need strong analytical abilities to examine complex financial data and effective communication is essential to interact with clients colleagues and stakeholders.
Time management: Auditors often work on multiple engagements simultaneously. good time management skills help them meet deadlines and complete audits efficiently.
Confidentiality: Auditors handle confidential financial information and it is essential to maintain strict confidentiality and safeguard sensitive data.
Lord Justice Lindley in the course of the judgement in the famous London & General Bank case had succinctly summed up the overall view of what an auditor should be as regards the personal qualities. He said, “an auditor must be honest that is, he must not certify what he does not believe to be true and must take reasonable care and skill before he believes that what he certifies is true”.
Question 12
What is the purpose of external audit engagements?
Answer:
Engagement means an arrangement to do something. In the context of auditing, it means a formal agreement between auditor and client under which auditor agrees to provide auditing services. It takes the shape of engagement letter.
The purpose of external audit engagements is to enhance the degree of confidence of intended users of financial statements. Such engagements are also reasonable assurance engagements.
Question 13
Explain an auditing is interdisciplinary in nature.
Answer:
It draws from diverse subjects including accountancy, law, behavioural science, statistics, economics and financial management and makes use of these subjects.
1] Accounting:
audit of financial statements is concerned with financial information, a sound knowledge of accounting principles is a fundamental requirement for an auditor of financial statements to conduct audit and express an opinion.
2] Laws:
Good knowledge of business laws and various taxation laws helps auditor to understand financial statements in a better way in accordance with applicable laws.
3] Behavioural Science:
During course of audit, auditor has to interact with lot of persons for seeking information and making inquiries. This can be done only if one has knowledge of human behaviour.
4] Statistics and Mathematics:
Auditors use statistical methods to draw samples in a scientific manner. It is not possible for an auditor to check each and every transaction. So, use of statistical methods to draw samples for conducting audit is made. The knowledge of mathematics is also required on the part of auditor particularly at the time of verification of inventories.
5] Economics:
Knowledge of subject like economics helps auditor to be familiar with overall economic environment in which specific business is operating.
6] Financial Management:
Financial management deals with issues such as funds flow, working capital management, ratio analysis etc. and an auditor is expected to be knowledgeable about these for applying some of audit procedures and carrying out audit effectively. Besides, knowledge of financial markets comprised in study of financial management is expected from a professional auditor.
7] Production:
The knowledge of production process shall become more essential in case of an internal auditor. The auditor shall also require understanding the cost system in operation in the factory and assessing whether the same is adequate for the particular company. The understanding of the terminology of the production shall enable an auditor to communicate with production employees in connection with his work.
8] Data Processing:
Question:
Mr. G, one of the team members of audit team of Different and Capable Limited was of the view that role of computers and data processing in auditing is increasing with each passing day.
Explain how computers and data processing helps in conducting audit of a company.
Answer:
The role of computers and data processing is important while conducting the audit of a particular company. Computers are able to save and process large volumes of data and at the same time provide that data whenever required. This way computers and data processing would be of huge help to the auditor in terms of saving time and efforts while conducting the audit of a company.
Question 14
Audit mandatory or voluntary?
Answer:
Question 15
Who appoints an auditor?
Answer:
Generally, an auditor is appointed by owners or in some cases by constitutional or government authorities in accordance with applicable laws and regulations.
For example,
1] in case of companies, auditor is appointed by members (shareholders) in Annual General Meeting (AGM). Shareholders are owners of a company and auditor is appointed by them in AGM. However, in case of government companies in India, auditor is appointed by Comptroller and Auditor General of India (CAG), an independent constitutional authority.
2] In case of a firm who engages an auditor to audit its accounts. In such a case, auditor is appointed by partners of firm.
3] There may be a situation in which auditor may be appointed by a government authority in accordance with some law or regulation. For example, an auditor may be appointed under tax laws by a government authority.
Question 15
To whom report is submitted by an auditor?
Answer:
The outcome of an audit is written audit report in which auditor expresses an opinion.
The report is submitted to person making the appointment. In case of companies, these are shareholders- in case of a firm, to partners who have engaged him.
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