FADM 2 CA.N.Nabeel Ahmed B.

com, ACA, CMA, AICWA, MBA

Auditing
y Need for audit y Objective of the audit y Regulatory requirements for audit by Companies Act

Need for Audit

Shareholders - provides capital and hires manager to manage it.

Shareholders

Information asymmetry and conflict of interest lead to information risk for the Shareholders

Directors

Director is accountable to Shareholders; provides financial reports.

Auditor gathers evidence to evaluate fairness of manager financial statements.

Auditor

Directors hires auditor to report on the fairness of manager financial statements. Risk information asymmetry of principle reduce.

Objective of Audit
The objective of the audit is to express an opinion on the financial statements whether or not the financial statements present fairly. 1) Unqualified Report Clean Report 2) Qualified Report 3) Disclaimer Report

Regulatory Requirement
Section XX of companies act: The balance-sheet and the profit and loss account shall be audited by the auditor of the company, in the manner hereinafter provided, and the auditors report shall be attached thereto. Section XX of companies act: Every auditor of a holding company appointed shall also report on consolidated financial statements and exercise all such powers and duties as are vested in him. Section XX of Companies Act: Every company shall at each annual general meeting appoint an auditor or auditors to hold office from the conclusion of that meeting until the conclusion of the next annual general meeting.

TYPES OF AUDITS
y Financial statements audits y Compliance audits y Operational audits y Forensic audits y IT audits

THREE FUNDAMENTAL CONCEPTS IN CONDUCTING AN AUDIT

y Materiality y Audit risk y Evidence

MATERIALITY
An aggregate of all misstatements in financial statements is considered to be material if, in light of surrounding circumstances, it is probable that the decision of a person who is relying the financial statements, on

would be influenced by the aggregate of all misstatements.

AUDIT RISK
Audit risk is the risk that the auditor will fail to express a reservation in his or her opinion on financial statements that are materiality misstated.

EVIDENCE
y Evidential matter supporting the financial statements consists of the underlying accounting records. y It should be relevant and Reliable y Relevance refers to whether the evidence relates to the specific audit objective being tested. y Reliability refers to the whether or not a particular type of evidence can be relied upon to signal the true state of the assertion or audit objective.

THE AUDITOR'S STANDARD UNQUALIFIED AUDIT REPORT

y This is the most common type of audit report. y The standard unqualified audit report contains

seven important elements:

y Title y Addressee y Introductory paragraph y Scope paragraph y Opinion paragraph y Name of auditor y Date of report

THE RELATIONSHIP OF EVIDENTIAL MATTER TO THE AUDIT REPORT

Financial Statements Management Assertions Audit Report

Audit Procedures Evidence Accounting Records

SAMPLING: INFERENCES BASED ON LIMITED OBSERVATIONS

y Due to cost and time constraints, the auditor

examines only a subset of the data (transactions) available in the client s records.
y As a result, the auditor uses his/her knowledge about

the transactions and/or a sampling approach to examine the transactions.

Will an Auditor be always liable for wrong opinion?

y The phrase true and fair in the auditor's report signifies that the

auditor is required to express his opinion as to whether the assets and liabilities represent a true position.
y In specific terms to ensure truth and fairness, an auditor has to see:

y that the assets and liabilities are neither undervalued or overvalued; y the charge on assets, if any, is disclosed; y accounting policies have been followed consistently; y all unusual, exceptional, non recurring items have been disclosed

separately; y accounts have been drawn as per requirement of accounting standards

OVERVIEW OF THE AUDIT PROCESS

y Client acceptance and continuance y Establish the terms of the engagement y Plan the audit y Consider internal control y Conduct audit procedures y Complete the audit y Issue audit report

Audit of Income Statement Items

y Rent Received y Cash Sales y Assets received on Hire y Sale of Scrap

Cash Sales
y i) Examine the system of internal control to ascertain any

loopholes therein. y (ii) Ensure that the date of cash memos tally with the entry in the cash account. y (iii) Verify that prices of goods sold have been correctly recorded and check the calculation. y (iv) Verify the entry in the goods outward book with the sales account.

Rent Received
y (i) Check copies of rent receipt issued to the tenant with

reference to tenancy agreement

y (ii) The entries in the rental register in respect of rent accrued

should be traced with reference to copies of rental bills. collected by such agent.

y (iii) Scrutinize the account of collecting agent when the rent is y (iv) Vouch the entries for rent received in advance and ensure

proper adjustment is made.

y (v) Investigate into abnormal rent outstanding. y (vi) Reconcile the outstanding rent and see that proper provision

is made if unrecoverable

Assets received on Hire

y (i) Inspect the agreement to ascertain the terms and

condition, the installment.

y (ii) Ensure that these are not treated as an asset on balance

sheet if it is an operating lease.

Sale of Scrap
y (i) Review the internal control as regards disposal of scrap. y (ii) Check whether the organization is maintaining reasonable record

for generation of Scrap.

y (iii) Analyze the raw material used, production and generation pattern

of scrap and compare the same with figures of earlier year. with previous year.

y (iv) Check the rates at which scrap has been sold and compare the rate y (v) Vouch sales, with invoices raised, advertisement for tender, rate

contract with scrap dealers.

y (vi) Ensure that there exists a proper control procedure to identify

scrap and good units and they are not mixed up and sold as scrap.

Audit of Balance Sheets

y Creditors y Borrowings for a Bank y Inventory y Plant and Machinery

Creditors ( Accounts Payable )

y (i) Compare the balances with the confirmation or statement of

account received from trade creditors.

y (ii) Pay special attention to long outstanding items and enquire

about the reason thereof.

y (iII) Verify subsequent payments and reversal entries in the

Purchases ledger of year end entries.

y (Iv) See that trade creditors are classified and shown in the

balance sheet as per requirement of Accounting Standards.

Borrowings from a Bank

y Ensure that balance as per books of the COMPANY and the

BANK statement tally. In case of difference between the two amounts, reconciliation statement prepared by the client should account for reasons.
y Examine whether borrowings from the bank have been duly

authorized.
y Examine the loan agreement and ensure that the terms

therein have been duly complied with.

y Ascertain the purpose for which loan has been raised and

examine whether end use of the funds have been accordingly made.

Inventory
y Physical Verification of stock as on end of the y y y y y

accounting period. Track internal control for purchases of stock. Valuation at year end lower of cost or MV. Check ageing analysis for stock to verify expired items Track internal control for sales of stock Scrap items should be separately stored

Plant and Machinery

y Physical verification of Assets on sampling basis. y Ensure that depreciation is calculated correctly for the

accounting period. y Ensure the profit on sale of assets has been recorded an extra ordinary item and not as regular sale. y Ensure Capital expenses had been duly capitalized.