Fundamentals of Auditing

Ajmal Khan Momand

MBA,RMP & ACCA Part Qualified
Book reference
Fundamentals of auditing by S.K.BASU
Auditing by Schwieger
Auditing Theory and practical by Robert
 Brainstorming

Ajmal Khan Momand

MBA,RMP & ACCA Part Qualified
 What is Auditing?
 The word audit is taken from Latin word “Audire” which means to hear. In old days
the business people living in Egypt, Greece and Rome used to appoint auditors to
hear accounts matters relating to business.

 Montgomery says that auditing is a systematic examination of the books and records
of a business or other organizations, in order to determine or verify, and to report
upon the other facts regarding its financial operations and results thereof..

 As per International Auditing Standards an audit is the independent examination of

financial information of an entity whether profit oriented or not and
irrespective of size, when such an examination is conducted with a view to
expressing an opinion thereon.

 It is clear that auditing is an independent checking of statements, records, operations

and performance of a concern with a view to expressing an opinion in the form of
written report.
 Objectives of Auditing
• Fairness of financial statements
• Prescribed laws followed
• Accounting policies are followed.
• Independent opinion on financial information of an entity.
• Detection of errors from accounting records.
• Detection of frauds from books of accounts.
• Prevention of future errors and frauds
• To assess the performance of the management.
• To satisfy taxation officers.
• To examine the business performance for social responsibility.
• To examine the proper use of resources.
• To verify the correctives of cost accounts.
• Audit can be done for loans, sale of business, admission of new partner etc.
 Scope of Audit
• Legal requirements:
– Scope of audit will depend upon legal requirements or regulations or relevant
professional bodies.

• Audit of all aspects of an entity:

– The audit should cover all aspects of an entity to give an opinion about fairness of
transactions of an entity.

• Reliable information:
– The scope of audit work depend upon the availability of reliable information.

• Substantive test:
– The reliability of information can known by carrying out other tests, enquiries and other
verification procedures of accounting transactions and account balances.

• Internal control:
– If proper internal control is existed then sampling technique can be used to examine
accounting records instead of detail investigation.
 Characteristics of Auditing
 Independent examination:
– Independent examination of facts and figures.
 Financial information:
– Financial information is examined to know validity of data.
 Entity:
– Audit is compulsory for limited liability companies and it is
optional for other entities.
 Size of business:
– Audit is suitable for any size of organization
 Expressing opinion
Audit is conducted for expressing an opinion
–
 Difference Between Accounting and Auditing
1.Accounting is concerned with preparing financial statements but auditing checking these
statements.

2. Accounting concerned with current and past data but auditing about past data only.

3. Accounting shows financial performance and position of an entity but auditing certify
the true and fair view of financial statements.

4. Work of accountant starts when book keeper work ends and auditor work starts when
accountant work ends

5. Accounting starts with journalizing and ends with final accounts but auditing starts with
verification of accounts and ends with an opinion.

6. Accounting principles include going concern, accrual basis, consistency and prudence but
auditing principles include full independence, objectivity, honest and free of bias.
 Kinds of Audit
• External Audit
– Continuous audit
– Final audit
– Interim audit
• Internal audit
• Government audit
• Propriety audit
• Management audit
• Cost audit
• Operational audit
• Compliance audit
• Tax audit
• Information system audit
 External audit
Periodic or specific purpose audit conducted by external
(independent) qualified accountant(s). Its objective is to
determine, among other things, whether (1) the accounting
records are accurate and complete, (2) prepared in accordance
with the provisions of GAAP, and (3) the statements prepared
from the accounts present fairly the organization's financial
position, and the results of its financial operations.
– Continuous audit
– Final audit
– Interim audit
 Continuous audit
Under continuous audit an auditor is required to
attend at regular intervals during financial year , say
monthly or quarterly and examine the books of
accounts. This audit is suitable for:
– Where audit accounts are required
immediately after close of financial year.
– Where monthly audited accounts are required.
– Where no satisfactory internal control existed.
– Where organization is large and numerous
transactions are to be checked.
 Advantages of Continuous audit
• As books are checked at regular intervals,
errors and frauds can be easily discovered.
• Audit work can be more effectively as
sufficient time is available.
• Audited accounts can be presented to share
holders at annual general meeting very
quickly after close of accounting period.
• Frequent visits of auditor can reduce the
opportunity of frauds.
 Disadvantages of Continuous Audit
• The dishonest staff can alter the figures after
the audit has been completed during the
period.
• The auditor may lost the thread of his work
due to which unchecked entries might be left.
• The frequent visit of auditor may cause
inconvenience to the client and dislocate his
work.
 Interim audit
• This type of audit is conducted when
the management of an organization
desires to know trading results of
business in order to declare interim
dividend or where audited financial
statements are required to be issued
soon after the close of the financial
year.
 Final audit
A final audit is that which is
commenced at the end of
accounting year when all accounts
have been closed and final
accounts have been prepared and
carried out until the audit work
for entire period is completed.
 Advantages of final audit
• Less chance of manipulation of figures
after they have been checked.
• Auditor can perform his work more
effectively as he has been given all
facts and figures at the same time.
• Thread of work is not lost as work is
completed in one session.
 Disadvantages of final audit
• It is more expensive as it need more staff
to complete audit with in specific time
period.
• It is not effective in case of large
organization.
• It is not possible to check each and every
transaction in case of large concern.
 2. Government audit
• The government audit is an instrument
of financial control. It is mainly
concerned with the audit of:
– Receipts and payments
– Expenditures
– Sanctions
– Rules and auditors
– Debt and remittance transactions
– Stores and others
 3. Internal audit
It is a continuous process of reviewing
and appraising all business activities
relating to accounting, financial and
other operations. It is conducted to
provide day to day information to the
management, so that an appropriate
action can be taken for correct
decisions.
 4. Propriety audit
It is concerned with the assessment of executive
actions and plans bearing on the finance and
expenditure side of the company. The audit is
basically an expenditure audit as the auditor has
to see the justification of expenditure incurred by
the company. He must ensure:
– Whether the expenditure has been adequately
planned
– Whether the expenditure has produced best
result or not
 5. Management audit
It is an audit to examine, review and
independently appraise the various
policies of the management on the basis
of objectives standards. Its aim is to
reveal the shortcomings or irregularities
in management and suggest ways and
means to management for improving
operational profitability and organisation
viability.
 Other kinds of Audit
• Compliance audit. This is an examination of the policies and procedures of an
entity or department, to see if it is in compliance with internal or regulatory
standards. This audit is most commonly used in regulated industries.

• Cost audit. It is concerned with the verification and examination of books of cost
accounts in order to ensure whether these have been correctly maintained in
accordance with the system of cost accounting employed by the company.

• Financial audit. This is an analysis of the fairness of the information contained

within an entity's financial statements. It is conducted by a CPA firm, which is
independent of the entity under review. This is the most commonly conducted
 Kinds of Audit
• Information systems audit. This involves a review of the controls
over software development, data processing, and access to
computer systems.

• Operational audit. This is a detailed analysis of the goals, planning

processes, procedures, and results of the operations of a
business. The audit may be conducted internally or by an external
entity.

• Tax audit. This is an analysis of the tax returns submitted by an

individual or business entity, to see if the tax information and any
resulting income tax payment is valid
Advantages of
Auditing
 Advantages for Business
1. Errors are located
2. Frauds are discovered
3. Loans become easy
4.Advice about weakness
5. High moral values
6. Tax payments to government
 Advantages for owners
1. Efficiency improves
2. Dispute settles
3. Planning become possible
4. Improvement in internal control
5. To know fluctuation in profit
6. Increase credit rating of company
7. Listing of stock exchange is possible
8. Shareholders are protected
9.Donors are satisfied that their funds are
properly utilized
 Advantages for Government
1. Better performance of tax department
2. Exact revenue amount can be determined.
3. Progress of economy can be known exactly
through audited accounts.
4. State owned organizations can be sold at
their actual market bid prices.
5.It makes the work of tax authorities to
determine the tax amount on business
incomes.
 Main top audit firms
• #1 – PwC (PricewaterhouseCoopers) LLP.
• #2 – Deloitte LLP.
• #3 – Ernst & Young LLP(EY)
• #4 – KPMG LLP.
• #5 – Grant Thornton LLP.
• #6 – BDO USA LLP.
• #7 – Crowe Horwath LLP.
• #8 – RSM US LLP.
End of Chapter one

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