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Definition of Auditing
Auditing is the process by which a competent, independent person accumulates and includes evidence
about quantifiable information related to a specific economic entity for the purpose of determining
and reporting on the degree of correspondence between the quantifiable information and established
criteria.
a. Competent, Independent Person
Competence
Qualified to understand the criteria used.
Know the types and amount of evidence to accumulate to reach the proper conclusion
after the evidence has been examined.
Independence
Have an independent mental attitude (be independent in fact and in professionalism).
Unbiased information and objective thinking are needed for the judgment and
decisions to be made.
b. Accumulating & Evaluating Evidence
Evidence-Any information used by the auditor to determine whether the quantifiable
information being audited is stated in accordance with the established criteria.
Deciding the amount of audit evidence-planning.
Accumulation of evidence – implementation.
Evaluation of evidence – implementation.
Drawing conclusion based on these evidences. Final stage.
Quality and volume of evidence – must satisfy the audit objective.
c. Quantifiable Information & Established Criteria
Quantifiable-Information in a verifiable form (can be assessed against some
criteria/standard/ benchmarks).
Established Criteria–Standards against which quantifiable information will be assessed.
Example: GAAP, IAS (International Accounting Standards), Companies Act, Accounting
Standards, Tax Ordinance, SEC Act, Auditors’ judgment based on professional skepticism.
Criteria used depend upon the objective of the audit.
d. Economic Entity: Legal entity e.g. Corporation, unit of govt., partnership, division, department &
even individual. Scope of the auditors’ responsibility – identified by defining the economic entity.
e. Reporting
Reporting (final stage in audit process) preparing audit report and communicating findings to
users of financial statements.
Audit is one of the assurance services provided by the competent and qualified professional
accountants.
3. Complexity of subject matter and the audit process: As the subject matter becomes more
complex, the possibility of unintentional errors creeping into the information – increases. Audit
in the process through which satisfaction as to the quality of information can be achieved.
4. Remoteness of users from subject matter and prepare: Remoteness prevents the user from
directly assessing the quality of information received. Remoteness can be caused –
i. A separation between the user of information and the subject matter and prepares of
information.
ii. Physical separation by legal or institutional barriers to access to the subject matter
and preparation.
iii. By time and cost constraints.
Classification of Audit
A. Classification by Legal Requirement
1. Statutory Audit: Audit subject to be governed by some statute (Act, ordinance, Rules or other
statutory regulation).
Corporate entities-
Companies Act 1994
Bank Companies Act 1991.
Insurance Act 1938
Electricity Act 1910.
SEC Act 1993
SEC Ordinance 1969
SEC Rules 1987
Income tax Ordinance 1984
NGO receiving foreign donations: Foreign donations regulations Rules 1978.
Co-operative Society: Co-operative Societies Ordinance, 1984.
Public Sector Corporation: At three levels-
a. Corporations Internal Audit Dept.
b. Independent Professional Audit firms.
c. Comptroller and Auditor General (C&AG)
2. Non- Statutory audit: An audit performed voluntarily by an entity and this requirement is not
subject to be governed by any Act, ordinance, rules or other statutory regulations. Internal audit and
operational audit e.g.
2. Compliance Audit: Involves obtaining and evaluating evidence to determine certain financial or
operating activities of an entity confirming to specific or prescribed conditions, rules or regulations.
E.g. Income tax audit by the assessment offices (DCT).
3. Performance or Value for Money Audit: Audit of an entity. Usually of a govt. department, a
charity or other non-profit making organization. To assess whether or not it is functioning efficiently
& giving value of the money it spends. This is the audit about three E’s: Efficiency, economy and
effectiveness.
C. Classification by Objectives
1. Financial Audit.
2. Compliance audit
3. Operational audit
A systematic review of an organizational activities in relations to specific objectives for the purpose
of assessing performance, identifying opportunities for improvement & developing recommendations
for improvement or further action.
Points of Difference Financial Audit Compliance Audit Operational Audit
Subject Matter Financial assertions Person’s or entity’s All parts of organizational
actions activities
Criteria GAAP Laws & Regulations Specified objectives of org.
Reporting On fairness of the On compliance On recommended
financial conformity with criteria improvements
with GAAP
2. Internal Audit
Objective–Assist members of the organization in the effective discharge of their
responsibilities.
Internal auditing furnishes them with analysis, appraisals recommendations, counsel, and
information concerning the activities reviewed.
3. Govt. Audit
Audit of govt. departments, undertaking, govt. bodies are done by govt. auditor.
President of the country appoints “The Comptroller and Auditor General of BD C& AG is the
Prime authority of Govt. audit hierarchy”.
C&AG submits the audit report of accounts under his jurisdiction to the president. The
report of the C&AG is laid before the parliament for a “debate” on it.
2. Periodic or Final or Complete Audit: At the close of the financial or trading period–when all
accounts have been balanced and a trading and P\L account and B/S have been prepared.
3. Interim Audit: It’s conducted in between the two annual audits–with a view to find out interim
profits.
4. Occasional Audit: Conducted once a while whenever the need arises and the client desires it to be
carried out.
As per requirements of the Companies act 1994 (applicable for all the companies) the auditor’s
responsibilities of reporting as follow:
The auditor’s report shall state whether, in his opinion and to the vest of his information and
according to the explanation given to him, “the accounts, balance sheet and profit and loss account
and every other document to be part of or annexed to the balance sheet or profit and loss accounts”
give the information required by the Companies Act in the manner so require and give a true and
fair view-
In the case of the balance sheet, of the state of the company’s affairs as at the end of the
financial year;
In the case of the profit and loss accounts, of the profit or loss or its financial year [sec. 213(3)]
Definition of fraud: The term ‘fraud’ refers to an intentional act by one or more individuals among
management, those charged with governance, employees or third parties, involving the use of
deception to obtain an unjust or illegal advantage.
Types of fraud: Two types of intentional misstatements are relevant to the auditors’ consideration of
fraud:
1. Misstatements resulting from fraudulent financial reporting; and
2. Misstatements resulting from misappropriation of assets.
Audit Process
f. Determine ability to use due care: Auditor should apply the required professional care
throughout each level of the audit process. Following considerations:
i. Assess timing of appointment for training the opportunity to employ all the audit tests
and
ii. Consider the scheduling of field work which should start as such a point of that there
is a reasonable period to complete the interim work before preparing the B/S and also
to complete the yearend audit work after preparing the F/Ss.
g. Preparation of engagement letter (BSA 210): It is in the interest of both client and auditor
that the auditor sends an E\L, preferably before the commencement of the engagement
(para.5). It documents and confirms the auditor’s acceptance of the appointment, the objective
and scope of the audit, the extent of the auditor’s responsibilities to the client and the form of
any reports (para.5).
2. Planning the audit: It is the 2nd phase of audit process. Adequate planning of the audit work is
because–
Appropriate attention is devoted to important areas of the audit.
Potential problems are identified and
The work is completed expeditiously.
Planning also helps-
In proper assignment of work to assistants,
In coordination of work done by other auditors and experts.
a. Familiarization:
i. Obtain understanding of client’s business and industry.
Understanding of the entity and its environment.
Sufficient to identify and assess the risks of material misstatement of F/Ss whether due
to fraud or error.
Sufficient to design and perform further audit procedures.
Following steps are followed:
(I) Review prior years’ working papers: Applicable only if current audit is a
continuing engagement.
(II) Review industry and business data: May be collected from various industry
publications.
Review the memorandum of association and the articles of association and
various by laws of the entity.
Read the minutes of the meetings of the Board of Directors and AGM of the
shareholders or any other extraordinary shareholders meeting to obtain
information about such events as dividend announcements and shareholders’
approval of business reorganization.
Analyze recent annual and interim F/Ss, income tax returns, VAT returns and
other reports submitted to regularly agencies.
Become familiar with applicable laws & govt. regulations.
Read important continuing contracts such as lease agreements, loan
agreements, and labor contracts.
Read trade and industry publications by the Bangladesh Bank, Bangladesh
Bureau of Statistics, and other international bodies concerning current
business and industry developments.
Information obtained must be documented by the auditor and retained in
permanent file for future use.
Md. Azim Ferdous
BBA-11th Batch, Section-B
Auditing: Page 10
(III) Visit client operations: Visit the operating facilities and offices to obtain
knowledge about a new client’s operating characteristics.
Plant tour:
Plant lay-out
The operating or manufacturing process.
Storage facilities.
Potential problem spots.
Office tour:
Aware about the types and locations of accounting records, and EDP
facilities.
Work habits of the personnel.
(IV) Make inquiries of mgt: Inquiries of mgt. are useful to understand the recent
business developments of the entity.
a) Risk of material misstatement at the overall financial statement level: This refers to risks of
material misstatement that relate pervasively to the financial statement as a whole and
potentially affect many assertions.
Relate to entity’s control environment.
Declining economic conditions.
* Such risk may be especially relevant to the auditors’ consideration of the risk of material
misstatement arising from fraud.
b) Risk of material misstatement at the class of transactions, account balance and disclosure
level:
Such consideration directly assists in determining the nature, timing and extent of further
audit procedures at assertions level.
ii) Detection Risk: There is an inverse relationship between detection risk and the combined level of
inherent risk and control risk. e.g. when inherent risk and control risk are high acceptable levels of
detection risk need to be low to reduce AR to an acceptably low level.
The auditors assessment of inherent risk – are made primarily in the planning stage.
Auditors determine a planned assessed level of control risk and detection risk for each
significant financial statement assertion – is the planning stage of the audit.
c. The information systems including the related business process, relevant to financial
reporting and communications
[Para 80, 315]
This includes – spiciest – Para 81, 315
d. Control Activities: Control activities are the policies and procedures that help to ensure that
management directives are carried out, for example – those necessary actions are taken to
addresses risks – that threaten the achievement of the entity’s objectives. Example of specific
control activities are as follows:
Authorization
Performance reviews
Information processing
Physical controls
Segregating of duties [Para 90, 315] (Distributing Duties)
Performing audit tests means the process of collection and evaluation of evidence related to various
audit tests. The phase of performing audit tests involves following steps:
1. Obtain evidential matter through audit tests.
2. Evaluate the evidence obtained for sufficiency and appropriateness.
3. Document the audit evidence in working paper.
1. Obtain evidential matter through audit tests: To obtain evidential matter; following audit tests
are performed –
i. Tests of control (referred to as compliance test prior to 1988): Tests of control are performed
to obtain audit evidence about the effectiveness of the-
a. Design of the accounting and internal control systems, i.e. whether they are, suitably
designed to prevent and detect and correct material misstatements.
b. Operation of the internal control throughout the period.
Test of control may include –
Inspection of documents
Inquiries about and observations of internal controls.
Re-performance of internal control.
ii. Substantive tests: Substantive tests are tests of details and analytical procedures performed
to detect material misstatements in the account balance, transactions class and disclosure
components of F/S. Substantive tests are the following –
a. Analytical procedures: Analytical procedure involves the analysis of significant ratios and
trends including the resulting investigation of fluctuations and relationships that are
inconsistent with other relevant information or deviate from predictable amount
b. Tests of details of transactions: Examining the evidential support for the individual
debits and credits to an account and are done through – vouching and tracing.
Vouching: Selecting entries is the accounting records and inspecting the documentation
that served as the basis for the entries with a view to ascertaining the propriety and
validity of the recorded transaction.
Vouching of cash transaction- Chapter V (Tandon)
Verification and valuation of assets & liabilities - Chapter VIII (Tandon)
Tracing: Inspecting documents created when transactions were executed and
ascertains that information from the documents were properly recorded in the
accounting records.
iii. Test of details of balances: Examining the evidential support for the ending balance directly. The
rationale for testing control is to reduce the extent of substantive tests. To obtain evidential
matter – following steps.
a. Determine the objective test: Over all purpose of audit tests – obtain audit evidence to
detect material misstatements in F/Ss and evaluate effectiveness of ICS. Based n the
objective of tests, substantive tests or tests of control are to be performed.
2. Evaluate the evidence obtained for sufficiency & appropriateness: By applying combinations
of substantive tests and tests of control, the auditor should be able to obtain evidence to satisfy in
forming an opinion on financial statements.
Confidentiality, Safe custody, retention & ownership of Working Papers (Para -13 &14): The
auditor should adopt appropriate procedures for-
Maintaining the confidentiality and safe custody of the working papers
Retaining them for a period sufficient to meet the needs of the practice and in accordance
with legal and professional requirements of record retention.
Working papers are property of the auditor.
Expressing an independent and expert opinion on the fairness of financial statements is the most
frequently performed service rendered by the auditor.
This opinion provides users of financial statements with reasonable assurance that the statements
are in conformity with GAAP.
The auditor should review and assess the conclusions drawn from the audit evidence obtained as
the basis for the expression of an opinion on the financial statements.
1. An unqualified opinion- standard report: Expresses s “clean opinion” & may be issued only
the following two conditions have been met-
i. The financial statements are presented in conformity with GAAP, including adequate
disclosure.
ii. The audit was performed in accordance with GAAS, with no significant scope limitations
preventing the auditors from gathering the evidence necessary to support their opinion.
3. A qualified opinion: A qualified opinion states that the financial statements are presented
fairly in conformity with GAAP “except for” the effects of some matter. Qualified reports are
issued when-
The financial statements depart materially from GAAP.
Limitations are placed on the scope of the auditors’ procedures.
4. An adverse opinion:
An adverse opinion states that the financial statements are not presented fairly in
conformity with GAAP.
Auditors issue an adverse opinion when the deficiencies in the financial statements are so
significant that the financial statements taken as a whole are misleading.
All significant reasons for the issuance of an adverse opinion should be set forth in an
explanatory paragraph.
5. A disclaimer of opinion:
A disclaimer of opinion means that due to a significant scope limitation, the auditors were
unable to form an opinion or did not form an opinion on the financial statements.
A disclaimer is not an opinion. It simply states that the auditor does not express an opinion
on the financial statements.