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LECTURE 1

CORPORATE GOVERNANCE
Elements of Corporate
Governance

Accountability

Transparency

Regulatory Framework

Business Ethics

Administrative Structure
ACCOUNTABILITY

• Plan an good accounting system (enabling you to gauge


whether your business model is cost effective, and to
identify elements that are succeeding or failing:
single/double entry: Single= only one entry is marked for
either a debit entry or credit, Double = each entry has an
opposite entry) for its activities in order to prepare an
effective financial statement & to disclose the results in
transparent manner
• The design of reporting should be improved and perfect.
TRANSPARENCY

• The extent to which a corporation’s actions


are observable by outsiders.
• Disclosure of material matters concerning the
organizing should be timely and balanced to
ensure that all investors have access to clear,
factual information
REGULATORY FRAMEWORK

• Ensure the company managers and directors


act in the interest of company and of
shareholders
• The framework of rules and systems within
and by which authority is exercised and
controlled in cooperation.
BUSINESS ETHICS

• Drive company strategy, business goals,


policy and activities with a good value
and ethics.
• Being responsible with regard to
environmental and human rights issue
ADMINISTRATIVE STRUCTURE

• A good admin structure indicates the information


provided by the corporation is efficient and
correct.
• Its indicate company probability of success or
failure in long term
• Dishonesty between management and
shareholders weaken the corporation governance
AUDIT COMMITTEE

An operating committee of a company’s


board of directors that is in charge of
overseeing financial reporting and
disclosure.
STRUCTURE OF AUDIT
COMMITTEE

From amongst
director which
fulfill the following
requirements.

Not less than 3 Must be Chairman –


members independent Independent non-
directors executive directors
ROLES OF AUDIT COMMITTEE

Role in monitoring
Role in oversight Role in oversight Role in oversight the effectiveness
of financial of the external of risk of the internal
reporting and auditor management control process and
accounting of the internal
audit.
ESSENTIAL FEATURES OF AN AUDIT

An auditor involves in examination of financial statements,


the auditor is not responsible for the preparation of the
financial statements.

The end result of an audit is an opinion to assist the user of


the financial statements. Auditing therefore relies heavily
on professional judgment, not merely on the facts.

The auditor’s opinion makes reference to “true and fair” or


“fair presentations” but “true and fair” is again a matter
of judgment. It is not precisely defined for the auditor.
WHY IS THERE A NEED FOR AN
AUDIT?
Contain errors

Not disclose fraud

Be inadvertently misleading

Be deliberately misleading

Fail to disclose relevant information

Fail to conform to regulations


DISTINCTION BETWEEN AUDITING
AND ACCOUNTING

• Solely responsibility of
Accounting management

• Independent examiner
Auditing
REGULATION OF THE AUDIT PROFESSION

Take the form of general principles, Standards may take the form of a
relying on interpretation and series of rules, limiting the flexibility
judgment by the financial statement and use of judgment allowed in their
preparers before they can implement implementation.
THEORIES OF AUDIT

The Theory Professor


of Rational Mautz and David Flint’s
Expectations, Sharaf’s Philosophy
developed Philosophy and
by Professor of Auditing. Principles of
Limperg. Auditing.
THE THEORY OF RATIONAL
EXPECTATIONS
Theory of Rational Expectations was developed in 1926 by Professor
Theodore Limperg of the University of Amsterdam, who called it the
Theory of Inspired Confidence.

Limperg’s theory states that the usefulness of the auditor’s opinion is


based on the general understanding society has about the usefulness
of audit.

Legal considerations aside, the necessity for and cost of an audit are
borne by companies because of the need of investors and lenders for
reliable information to aid their decision-making.

If the audit process changed so that it ceased to inspire a uniform


level of confidence in society, but instead inspired different levels of
confidence in different users, society’s confidence in the audit process
would decline as the social usefulness of the audit was reduced.
MAUTZ AND SHARAF’S PHILOSOPHY
OF AUDITING
• Financial statements and financial data are verifiable.
• There is no necessary conflict of interest between the auditor and the
management of the enterprise under audit, i.e both are working to the
same end of producing reliable financial information.
• The financial statements and other information submitted for verification are
free from collusive and other unusual irregularities.
• The existence of a satisfactory system of internal control eliminates the
Broadly, Mautz and probability of irregularities.
Sharaf adopted a • Consistent application of generally accepted principles of accounting result
scientific approach to in fair presentation of the financial position and the results of operations.
auditing. They • In the absence of clear evidence to the contrary, what has held true in the
developed eight • past for the enterprise under examination will hold true in the future.
When examining financial data for the purpose of expressing an opinion
tentative ‘postulates’ or thereon, the auditor acts exclusively in the capacity of an auditor.
factors necessary for • The professional status of the independent auditor imposes commensurate
audits to achieve the professional obligations.
desired result.
Accounting Principles: E,G: i) Economic Entity (unit is society like hospital
orgz), ii) Monetary unit Assumption (expressed in terms of monetary units), iii)
Time Period Assumption(activities of a business into periods of a year, quarter,
month, week), etc
PROFESSOR DAVID FLINT’S PHILOSOPHY
AND PRINCIPLES OF AUDITING
In 1988
Professor David
Flint of the • The fundamental condition for the existence of an audit is accountability, either
University of private (eg between management and shareholders), or public accountability.
• The subject matter of accountability is too remote, too complex and/or of too
California great a significance for the discharge of the duty (to be accountable) to be
demonstrated without the process of audit.
published • Essential distinguishing characteristics of audit are the independence of its status
and its freedom from investigatory and reporting constraints.
Philosophy and • All aspects of an audit, its conduct, the work carried out and its conclusions must be
Principles of capable of being evidenced.
• There have to be standards of accountability for those who carry out audits, which
Auditing. He form the standard by which actual performance can be measured. This means: –
that there are standards of accountability for conduct, performance, achievement
also developed and quality of information; – actual conduct, performance, achievement, quality
and so on can be measured and compared with these standards by reference to
a series of known criteria; and – that the process of measurement and comparison requires
skill and the exercise of judgment.
postulates as a • The meaning, significance and intention of financial and other statements and data
which are audited are sufficiently clear that the credibility which is given to it as
basis for the a result of audit can be clearly expressed and communicated. An audit produces
an economic or social benefit.
development of
a theory of
auditing.
WHO CAN BE AN AUDITOR?
For appointment as auditor of:

a) a Public Company or

b) a Private Company which is a subsidiary of a Public Company.


c) a Private Company having paid up capital (the amount of money a
company has received from shareholders in exchange for shares of stock.)of three
million rupees or more.
The person must be a Chartered Accountant within the meaning of the Chartered
Accountants Ordinance, 1961.
For listed companies an auditor must have a satisfactory QCR (quality control
review: second pair of eyes to review engagement performance: The firm and its
personnel comply with professional standards and applicable legal and regulatory
requirements; and Reports issued by the firm or engagement partners are
appropriate in the circumstances.) rating issued by ICAP.
WHAT IS AN AUDITOR’S REPORT

The primary aim of an audit is to enable the auditor to


say “these accounts show a true and fair view” or, of
course, to say that “they do not show a true and fair
view”.

At the end of his audit, when he has examined the entity,


its record, and its financial statements, the auditor
produces a report addressed to the owners/stake holders
in which he expresses his opinion of the truth and fairness,
and sometimes other aspects, of the financial statements.
WHAT ARE THE DIFFERENT TYPES
OF AUDIT?

Three types of audits are discussed in general, i.e.

Financial statement audits

Operational audits

Compliance audits
FINANCIAL STATEMENT AUDITS
IN ACCORDANCE WITH SPECIFIED CRITERIA:
• NORMALLY, THE CRITERIA ARE THE REQUIREMENTS OF THE
APPLICABLE INTERNATIONAL FINANCIAL REPORTING STANDARDS
(IFRSS) AND THE COMPANIES ORDINANCE 1984.
GENERAL AUDIT:
• FOR EXAMPLE, A GENERAL AUDIT OF A BUSINESS MAY PROVIDE
SUFFICIENT FINANCIAL INFORMATION FOR A BANKER
CONSIDERING A LOAN TO THE COMPANY,
• BUT A CORPORATION CONSIDERING A MERGER WITH THAT
BUSINESS MAY ALSO WISH TO KNOW THE REPLACEMENT COST
OF FIXED ASSETS AND OTHER INFORMATION RELEVANT TO THE
DECISION. THE CORPORATION MAY USE ITS OWN AUDITORS TO
GET THE ADDITIONAL INFORMATION.
OPERATIONAL AUDITS

• AN OPERATIONAL AUDIT IS A REVIEW OF ANY PART OF:


• AN ENTITY’S OPERATING PROCEDURES AND METHODS FOR THE PURPOSE OF
EVALUATING EFFICIENCY AND EFFECTIVENESS.
• AT THE COMPLETION OF AN OPERATIONAL AUDIT, RECOMMENDATIONS TO
MANAGEMENT FOR IMPROVING OPERATION ARE NORMALLY EXPECTED.

AN EXAMPLE OF AN OPERATIONAL AUDIT IS EVALUATING THE EFFICIENCY


AND ACCURACY OF PROCESSING PAYROLL TRANSACTIONS IN A NEWLY
INSTALLED COMPUTER SYSTEM. ANOTHER EXAMPLE, WHERE MOST
ACCOUNTANTS WOULD FEEL LESS QUALIFIED IS EVALUATING THE EFFICIENCY,
ACCURACY, AND CUSTOMER SATISFACTION IN PROCESSING THE
DISTRIBUTION OF LETTERS AND PARCELS BY A COURIER COMPANY SUCH AS
TCS.
COMPLIANCE AUDITS

• PURPOSE
• TO DETERMINE WHETHER THE ENTITY IS FOLLOWING SPECIFIC
PROCEDURES, RULES, OR REGULATIONS SET DOWN BY SOME
HIGHER AUTHORITY.
• ALSO COMPLYING WITH LEGAL REQUIREMENTS.
• IN THE AUDIT OF GOVERNMENTAL UNITS SUCH AS DISTRICTS
SCHOOL, THERE IS EXTENSIVE COMPLIANCE AUDITING DUE TO
EXTENSIVE REGULATION BY HIGHER GOVERNMENT AUTHORITIES. IN
VIRTUALLY EVERY PRIVATE AND NON PROFIT ORGANIZATION, THERE
ARE PRESCRIBED POLICIES, CONTRACTUAL AGREEMENTS, AND
LEGAL REQUIREMENTS THAT MAY CALL FOR COMPLIANCE AUDITING.
• RESULTS OF COMPLIANCE AUDITS ARE TYPICALLY REPORTED TO
SOMEONE WITHIN THE ENTITY BEING AUDITED RATHER THAN TO A
BROAD SPECTRUM OF USERS.
EXAMPLES OF THE THREE TYPES
OF AUDITS
TYPES OF AUDIT EXAMPLE QUANTIFIABLE ESTABLISHED AVAILABLE
INFORMATION CRITERIA EVIDENCE

Financial Statement Annual Audit of General Motors International Documents,


Audit General Motors’ financial statements. Financial Reporting records, and
financial statements. Standards. outside sources
of evidence.
Operational Audit Evaluate whether the Number of payroll Company standards Error reports,
computerized payroll records processed in a for efficiency and payroll records,
processing for month, costs of the effectiveness in and payroll
subsidiary is operating department, and payroll department. processing costs.
efficiently and number of errors
effectively. made.

Compliance Determine if bank Company records Loan agreement Financial


Audit requirements for loan provisions. statements and
continuation have calculations by
been met. the auditor.
WHAT ARE THE
ADVANTAGES AND
DISADVANTAGES OF
AUDITING?
ADVANTAGES OF AN AUDIT

These advantages can be summarized as follows:

Disputes between management

Major changes in ownership

Application to lenders/financial Institutions for finance

in depth examination
DISADVANTAGES OF AN AUDIT

Audit Fee

Time to providing
information to the auditor
FRAUD AUDITING

Fraud is known as
An intentional false Auditors have
representation of professional
material fact or its responsibility to
concealment with detect fraud in
the aim of making their line of work
another party act known as fraud
on this information auditing.
at his/her own
peril.
PRINCIPLES OF FRAUD AUDITING

Fraud auditing is unlike financial auditing. It is more a mind-set


than a methodology.

Fraud auditors are unlike financial auditors. Fraud auditors


focus on exceptions, oddities/twists, accounting irregularities,
and patterns of conduct, not on errors and omissions.

Fraud auditing is learned primarily from experience, not from


audit text books or last year’s work papers. Learning to be a
fraud auditor means learning to think like a thief “Where are
the weakest links in this chain of internal controls?”
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PRINCIPLES OF FRAUD AUDITING
From an audit perspective, fraud is intentionally misrepresenting
financial facts of a material nature. From a fraud-audit perspective,
fraud is an intentional misrepresentation of financial facts.

Frauds are committed for economic, egocentric/selfish, ideological,


and psychotic reasons. Of the four, the economic motive is the most
common.

Frauds tends to encompass a theory structured around motive,


opportunity, and benefit.

Fraud in a computerized accounting environment can be committed at


any state of processing—input, throughput, or output. Input frauds
(entering false and fraudulent data) are the most common.

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PRINCIPLES OF FRAUD AUDITING
The most common fraudulent schemes by lower-level employees involve
disbursements (payables, payroll, and benefit and expense claims).

The most common fraudulent schemes by higher-level managers involve “profit


smoothing” (deferring expenses, booking sales too early, overstating inventory).

Accounting-type frauds are caused more often by absence of controls than by


loose controls.

Fraud incidents are not growing exponentially, but fraud losses are.

Accounting frauds are discovered more often by accident that by financial audit
purposes or design. Over 90 percent of financial frauds are discovered by
accident.

Fraud prevention is a matter of adequate controls and work environment that


places a high value on personal honesty and fair dealing.

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Auditing in Public
Sector
DEFINITION OF GOVERNMENT AUDIT
According to the INTOSAI (International Organization of Supreme Audit
Institutions) Auditing Standards, the full scope of government auditing
includes regularity and performance audit.

Regularity audit comprises of the attest of Financial Statements called


Certification Audit and Compliance with Authority Audit. Regularity
audit embraces:

• Attestation of financial accountability of accountable entities, involving examination


and evaluation of financial records and expression of opinion on Financial Statements;
• Attestation of financial accountability of the government administration as a whole;
• Audit of financial systems and transactions including an evaluation of compliance with
applicable statues and regulations;
• Audit of internal control and internal audit functions;
• Audit of the probity/correctness and propriety/just of administrative decisions taken
within the audit entity; and
• Reporting of any other matters arising from or relating to the audit that the Supreme
Audit Institution considers should be disclosed.
PERFORMANCE AUDIT
Performance audit is concerned with the audit of
economy, efficiency and effectiveness and embraces:
• Audit of the economy of administrative activities in accordance with
sound administrative principles and practices, and management
policies;
• Audit of the efficiency of utilizing of human, financial and other
resources, including the examination of information systems,
performance measures, monitoring arrangements, and procedures
followed by audited entities for remedying identified deficiencies;
and
• Audit of the effectiveness of performance in relation to the
achievement of the objectives of the audited entity, and audit of the
actual impact of activities compared with the intended impact.
• Detailed guidelines for Performance Audit have been issued by the
DAGP (Department of audit general of Pakistan) which are being
updated under a special program initiated by PIFRA (Project to
Improve Financial Reporting and Auditing.)
AUDIT ACCOUNTABILITY CYCLE
GOVERNMENT OF PAKISTAN
TYPES OF AUDIT IN PUBLIC
SECTOR
DIRECTORATE GENERAL AUDIT, FEDERAL GOVERNMENT CONDUCTS THE
FOLLOWING TYPES OF AUDIT

• CERTIFICATION AUDIT
• COMPLIANCE WITH AUTHORITY AUDIT
• PERFORMANCE AUDIT
CERTIFICATION AUDIT
Objectives of certification audit
• The Financial Statements properly present, in all
material respects, the government’s financial
position, the results of its operations, its cash flows
and its expenditures and receipts by
appropriation;
• Ensure that assessed revenue is promptly collected
and deposited in government treasury and
properly classified in the Financial Statements; and
• The sums expended have been applied in all
material respects, for the purposes authorised by
Parliament and have, in all material respects, been
booked to the relevant grants and appropriations.
METHODOLOGY FOR CERTIFICATION
AUDIT
Understanding the auditee;

Conducting risk assessment;

Defining detailed audit objectives;

Developing audit programmes;

Performing analytical procedures;

Testing the internal controls;

Determining sample size for substantive testing of detail;

Conducting substantive tests;

Evaluating results;

Reporting; and

Follow up.
COMPLIANCE WITH AUTHORITY AUDIT
Audit against the provision of funds to ascertain whether the
moneys shown as expenditure in the accounts were
authorized for the purpose for which they were spent.

Audit against rules and regulation to see that the expenditure


incurred was in conformity with the laws, rules and regulations
framed to regulate the procedure for expending public
money.

Propriety Audit which extends beyond scrutinizing the mere


formality of expenditure to its wisdom and economy and to
bring to light cases of improper expenditure or waste of
public money.

While conducting the audit of receipts of the Government, the Auditor-


General satisfies himself that the rules and procedures have been
properly adopted and ensures that the assessment, collection and
allocation of revenue are done in accordance with the law and there is
no leakage of revenue which legally should come to Government.

Review, analyse and comment on various Government


policies relating to different sectors.
METHODOLOGY
• UPDATING THE UNDERSTANDING OF THE BUSINESS PROCESSES WITH RESPECT TO CONTROL
STRUCTURE;
• IDENTIFICATION OF KEY CONTROLS ON THE BASIS OF PRIOR YEARS’ AUDIT EXPERIENCE /SPECIAL DIRECTIONS
FROM THE HEAD OFFICE ETC.;

• PRIORITISING RISK AREAS BY DETERMINING SIGNIFICANCE AND RISKS ASSOCIATED WITH


IDENTIFIED KEY CONTROLS;

• DESIGN AUDIT PROGRAMMES INCLUDING ANALYTICAL PROCEDURES FOR TESTING IDENTIFIED


RISK CONDITIONS;

• SELECTION OF AUDIT FORMATIONS I.E. DDOS ON THE BASIS OF: MATERIALITY/SIGNIFICANCE


AND RISK ASSESSMENT

• SELECTING SAMPLES AS PER SAMPLING CRITERIA;

• EXECUTION OF AUDIT PROGRAMMES;

• IDENTIFICATION OF WEAKNESSES IN INTERNAL CONTROLS AND DEVELOPMENT OF AUDIT


OBSERVATIONS AND RECOMMENDATIONS RELATING TO NON COMPLIANCE OF LAWS, RULES,
REGULATIONS AND PRESCRIBED PROCEDURES;

• INTEGRATING THE WORK WITH FINANCIAL ATTEST AUDIT , WHERE POSSIBLE;

• EVALUATING RESULTS;

• REPORTING; AND

• FOLLOW UP.
KEY ELEMENTS OF AN EFFECTIVE PUBLIC
SECTOR AUDIT ACTIVITY

Organizational independence

A Formal Mandate

Unrestricted Access

Sufficient Funding

Competent leadership

Objective Staff

Competent Staff

Stakeholder support

Professional Audit standards


PUBLIC SECTOR AUDITING – PART OF
EFFECTIVE GOVERNANCE

In a system of representative democracy, the


institutions of government and the officials exist
to serve the interests of the public. In such a
constitutional system, the Parliament is the
public’s representative forum and it derives its
ultimate legitimacy from the public on whose
behalf it has been elected and acts. Parliament
has the responsibility to promote the goals of
openness, accountability and integrity.
OUTCOME QUESTIONS OF THE TOPIC
DOES AUDIT EVALUATE THE ADEQUACY AND EFFECTIVENESS OF INTERNAL
CONTROLS?
DOES AUDIT REVIEW THE RELIABILITY AND INTEGRITY OF FINANCIAL AND
OPERATING INFORMATION?
DOES AUDIT REVIEW THE FISCAL, OPERATIONAL, AND ADMINISTRATIVE
OPERATIONS?
DOES AUDIT REVIEW SYSTEMS ESTABLISHED TO ENSURE COMPLIANCE WITH
POLICIES, PLANS, PROCEDURES,
DOES AUDIT EVALUATE THE EFFECTIVENESS AND EFFICIENCY WITH WHICH
RESOURCES ARE EMPLOYED?
DOES AUDIT EVALUATE THE ACCOMPLISHMENT OF ESTABLISHED OBJECTIVES
AND GOALS?