INTRODUCTION TO

AUDITING
Module 1
 MEANING OF AUDIT
 Derived from the Latin word “AUDIRE” which
means to hear
 Auditor is a person appointed by the owners
to check accounts whenever they suspect
fraud
 Emphasis now is clearly on the verification of
accounting date with a view on the reliability
of accounting statement
 DEFINITION
 Spicer and Peglar: define auditing as “An
examination of the books, accounts and
vouchers of a business’s shall enable the
auditor to satisfy himself whether or not the
balance sheet is properly drawn up so as to
exhibit a true and correct view of the state
of affairs of the business according to his
best, of the information given to him and as
shown by the book”
 Mautz: defines auditing as being “Concerned
with the verification of accounting data with
determining the accuracy and reliability of
accounting statements and reports.”
 FACTORS THAT INFLUENCED THE
EVOLUTION AND IMPORTANCE OF
AUDITING:
1. Industrial Revolution
2. Divorce of Ownership from
Management
3. Regulation by the Central Government
4. The power of Court of Law
5. Mechanized accounting
6. Regulation by profession
 OVERALL OBJECTIVES OF THE
INDEPENDENT AUDITOR - SA 200
In conducting an audit of financial statements,
the overall objectives of the auditor are:
(a) 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
(b) To report on the financial statements, and
communicate as required by the SAs, in
accordance with the auditor’s findings.
 OVERALL OBJECTIVES OF THE
INDEPENDENT AUDITOR - SA 200
 In all cases when reasonable assurance
cannot be obtained and a qualified opinion in
the auditor’s report is insufficient in the
circumstances for purposes of reporting to
the intended users of the financial
statements, the SAs require that the auditor
disclaim an opinion or withdraw from the
engagement, where withdrawal is legally
permitted.
SA 200 CONTINUATION....

• Expression of opinion
Primary through the verification
Objective of accounts and
financial statements

• Detection and
Secondary prevention of fraud
Objective • Detection and
prevention of errors
 PRIMARY OBJECTIVE
Assess the system of internal control

Verify the accuracy of posting, balancing etc

Confirm the validity of transactions with supporting documents

Ascertain whether distinction has been made between capital and revenue
items

Confirm the existence of assets and liabilities

Ascertain all statutory requirements of maintenance of books and records

have been complied with
 SECONDARY OBJECTIVE
DETECTION AND PREVENTION OF FRAUD

A fraud is an Error committed intentionally to deceive/ to mislead/ to

conceal the truth/ the material fact.

Fraud

Misappropriation Misappropriation Misappropriation

of Cash of Goods of Accounts
 • This is one of the majored frauds in any organization
Misappropriation it normally occurs in the cash department. This kind
of Cash of fraud is either by showing more payments/ less
receipt.

• Here records may be made for the goods not

Misappropriation purchased or not issued to production department,
goods may be used for personal purpose. Such a fraud
of Goods can be deducted by checking stock records and
physical verification of goods.

• This is finalizing accounts with the intention of

misleading others. This is also known as “WINDOWS
Manipulation of DRESSING”. It is very difficult to locate because it is
usually committed by higher level management such
Accounts as directors. The objective of WD may be to evade
tax, to borrow money from bank, to increase the
share price etc.
 SECONDARY OBJECTIVE:
DETECTION AND PREVENTION OF ERRORS
Errors are mistakes committed unintentionally because of ignorance
and carelessness

Errors

Clerical Errors of
Errors Principle

Errors of Errors of Compensating Duplicating

Omission Commission Errors Errors
 • These are the errors which arise on
Errors of account of transaction not being
recorded in the books of accounts
Principle according to the fundamental and
accepted principles of Accountancy.

Clerical • A clerical error is one which arises on

account of ignorance, carelessness,
Errors negligence etc.
 • These are the errors which arise on account
of transaction being recorded in the books of
accounts either wholly partially. If a
Errors of transaction has been totally omitted it will
not affect trial balance and hence it is more
Omission difficult to detect. On the other hand if a
transaction is partially recorded, the trial
balance will not agree and hence it can be
easily detected.

• When incorrect entries are made in the books

of accounts either wholly, partially such
Errors of errors are known as errors of commission. Eg:
Commission wrong entries, wrong Calculations, postings,
carry forwards etc such errors can be located
while verifying.
 • when two/more mistakes are committed
which counter balances each other. Such
Compensating an error is know an Compensating Error.
Eg: if the amount is wrongly debited by
Errors Rs 100 less and Wrongly Credited by Rs
100 such a mistake is known as
compensating error.

• Arises, if the same transaction is

Duplicating recorded twice in the books of original
entry and also posted twice in the
Errors ledger. Eg. If a purchase of Rs. 200 is
recorded twice in the books.
 DIFFERENCES BETWEEN
ACCOUNTING AND AUDITING
 It’s a continuous process  It’s a one time activity after
carried out throughout the the closure of accounting
year year
 No prescribed qualification is  He must be the member of
required to be an Institute of Chartered
accountant. Accountants of India to
 An accountant is a employee become an auditor.
of the company.  An auditor is an independent
 An accountant gets regular professional.
salary for his work.  He gets remuneration for his
 Accounting is concerned with professional work. Audit fees.
recording of business  Its concerned with
transactions systematically. verification of accounts
 Accounting precedes, prepared by the accountant.
auditing  Auditing succeeds
accounting.
 TYPES OF AUDIT
Statutory Audit: any audit carried on as per
the requirement of law is called as a
statutory audit. eg: all companies have to
get their accounts audited as per the
provision of the Companies Act of, 1956 (Now
Companies Act of, 2013).
Periodical/ Annual Audit: it is a kind of audit
where the auditor verifies the account at the
end of the financial year. He starts the audit
work after the closure of financial year. This
is a common audit and is mostly used by
small organizations.
Interim audit: its an audit conducted in the
middle of the accounting year before the
accounts are closed. In other words any audit
conducted between two financial audit is
known s interim audit. The objective is to
get periodical results, to declare interim
dividend.
Partial Audit: when an auditor is asked to
audit only a part of the account system. Its
called partial audit. E.g.: he may be asked to
audit only the payment side of cash book.
Balance sheet audit: it’s a kind of partial
audit and is concerned with the verification
of only those items appearing in the Balance
Sheet. It is more popular in the USA. In fact
while verifying BS items the auditor verifies/
checks all related items/accounts.
Cost audit: cost audit is defined as the verification of cost
accounting records. Data and techniques for its accuracy
and authenticity. It gets as effective managerial tool for
the detection of errors and frauds in cost accounting
records. The companies act implies the central
government to order cost audit incase of specifies
companies.
Management audit: Management audit may be defined as a
comprehensive examination of an organizational structure
of a company, institution/government and its plans and
objectives it means of operations and use of human and
physical facilities. The main objective of mgt audit is to
see how far the objectives of mgt are fulfilled. It aims to
ascertain whether sound mgt prevails throughout the
organization and evaluates its efficiency in the system of
its operation.
Continuous audit: a continuous audit is one in which the
auditor visits his clients office at regular intervals through
out the year to verify the account. The objective of CA
may be-
➢ To get final account audited immediately after the closure of
accounting year.
➢ When the business is very large.
➢ When interval control system is into effective.
➢ When regular final accounts are required.
SUMMARY OF THE OBJECTIVES
 Primary Objective
❖ The primary objective is reporting that is
whether the financial statements present a
true and fair view of the financial position
(B/S) and the financial performance (P&L)
during the year.
 Incidental/Secondary Objectives
❖ The incidental and secondary audit objective
is to detect errors and frauds and to make
recommendations to the appointing
authority, so as to prevent their recurrence
❖ The responsibility of the management is to
(a) safeguard the assets and (b) prevent
frauds and defalcations, by designing and
implementing a suitable system of internal
controls
❖ The auditors should bear in mind the
possibility of existence of fraud or other
irregularities in the accounts. “The auditor
is only a watchdog and not a bloodhound”
❖ The auditor has to consider the effect of an
error or fraud on the financial statements.
He shall draw the attention of the
management or the appointing authority.
 CASE LAWS ON “AUDIT
OBJECTIVES”
 The London and General Bank Ltd. 1895
In this case the company had taken credit for interest accrued on
loans which were never likely to be repaid. Many of these loans
were statute barred (i.e. uncollectable). The auditor was aware of
the problem and reported only to the directors and not to the
shareholders. Subsequently the financial statements did not show a
true and fair view. In summing up, the judge stated that the auditor
had a duty to shareholders to report any dishonest acts that had
occurred. He said the auditor could not expect to find every error
but had a duty to use due care and skill.
 Kingston Cotton Mills Co. 1896
In this case the accounts had been falsified to a very considerable
extent by the managing director, by extensive overvaluations of
stock. In this instance the auditors were deceived, and although
they acted with due care, they had understandably missed the
deception. Lord Justice Lindley stated that the auditor is not bound
to be a detective; he is a watchdog and not a bloodhound. In this
instance the directors are liable to the shareholders for fraud. Both
this case and Re London and General Bank represent a cornerstone
for auditor liability.
AUDITING IN AN EDP ENVIRONMENT
 EDP - Electronic Data Processing
 It is the process of collecting and evaluating evidence to
determine whether a computer system safeguards assets,
maintains data integrity, achieves organizational goals
effectively and consumes resources efficiently.
 An electronic data processing audit is an evaluation of the
accuracy and proper function of an organization's data
processing. Organizations mainly audit the accounting
department. Other areas like project management, quality
management and energy conservation are also audited.
Auditing ensures compliance and checks on fraud of the
company's resources.
 In an EDP (ELECTRONIC DATA PROCESSING) audit the
auditor may not vouch each and every transaction but he
must perform overall analytical checking to ensure that
the financial records show true and fair view of the
business entity.
 PROBLEMS IN AN EDP
ENVIRONMENT
 Absence of supporting vouchers
 Lack of visible Audit Trail
 Vulnerability to manipulations
 Garbage in garbage out
 Storage problem
 Coding problem
 Computer frauds (Taping, intercepting,
editing, physical manipulation, unauthorized
use/access to computers, Frauds, thefts,
etc,)
 Computer Virus
 APPROACH TO EDP AUDITING
 Auditing around the computer:
 Authorization
 Description
 Codification, translation of data into machine
language
 Auditing through the computer:
 All input is actually introduced in the computer
 Unusual conditions in the input cannot cause
misprocessing
 The computer and operators cannot cause
undetectable irregularities in the final reports
 Auditing by using computers:
 Program control method
 Simulated problem method
 Development of special computer audit programs
ADVANTAGES OF EDP AUDITING:
1. Examination of data become more rapid
2. The auditor gains better knowledge of his
client’s data processing system
3. More effective and efficient audits can be
performed
4. More valuable services can be provided
5. More efficient review of the past possible
DISADVANTAGES OF EDP AUDITING:
1. Audit time may be increased in the
period of initial program development
2. Technological changes
3. A certain degree of inflexibility
Audit process in such a system may involve following steps:
 Evaluation of the internal control system - Auditor should care
fully evaluate the internal control system. He should check the
system existing in the entity, as well its actual use by the
business. It is possible that whereas a well designed system is
present but it is not put to use by the management. Based upon
the evaluation of such a system, the auditor should decide the
degree of reliance that can be placed on it.
 Checking the records - After checking the reliability of the
internal control system auditor should proceed to checking the
record produced by the system. He should check the basic
records available in the entity. As far as possible auditor should
insist on maintaining the supporting vouchers which can be
checked with the books of accounts.
 Explanation and information - Auditor should make inquiries
from the management and staff regarding the work. Basing on
such inquiries he can decide upon the truthfulness of the
financial records.
 Analysis of the financial statements - Auditor should then check
the financial statement prepared form the books of account. All
the other checking methods should be applied as are used in the
manual auditing.
AUDITING STANDARDS IN INDIA
International Response to Auditing Needs
 International Federation of Accountants
(IFAC) - https://www.ifac.org/
 International Auditing and Assurance
Standards Board (IAASB), earlier known as
the International Auditing Practices
Committee - https://www.iaasb.org/
AUDITING STANDARDS IN INDIA
India’s Response to Auditing Needs:
 The Institute of Chartered Accountants of
India was set up in 1949
 One of the steps is the establishment of the
Auditing and Assurance Standard Board
(AASB)
AUDITING STANDARDS IN INDIA
Engagement Standards – The following
Standards are collectively known as the
Engagement Standards:
 Standards on Auditing (SAs)
 Standards on Review Engagements (SREs) -
Std on Engagement.
 Standards on Assurance Engagements (SAEs) -
Std on Assurance
 Standards on Related Services (SRSs)
 Standards on Quality Control - Std on Qlty
WORKING PROCEDURE OF AUDITING
AND ASSURANCE STANDARDS BOARD
1. The Auditing and Assurance Standards Board identifies
project proposal
2. In the preparation of the Standard/General
Clarification/Statement, the Board is normally,
assisted by the study groups.
3. The Preliminary Draft given by the Study Group along
with issue papers is sent to the Chairman, AASB for
approval and approved draft is hosted on the website
of the AASB.
4. The AASB, at its meeting, considers the Preliminary
Draft of Standard/General Clarification/Statement
prepared by Study Group.
5. As modified in the light of the deliberation of the
Board, is issued as an Exposure Draft in the Institute’s
Journal and also hosted on the website of the ICAI, for
public comments.
Continued…………..
WORKING PROCEDURE OF AUDITING
AND ASSURANCE STANDARDS BOARD
Continued…..
6. The comments and suggestions received within the
exposure period are considered by the AASB.
7. Statement and the comments thereon are to be
discussed is open for public.
8. After taking into consideration, the comments
received, the draft of the proposed Standard is
finalized by the Board and submitted to the Council of
the Institute.
9. The Council considers the final draft of the proposed
Auditing Standard and, if necessary, modifies the same
in consultation with the Board. The Standard is then
issued under the authority of the Council of the
Institute.
AUDITING STANDARDS IN INDIA
➢ Harmonization with International
Engagement and Quality Control Standards

➢ Compliance with Engagement and Quality

Control Standards
 Clause 5 &7 of Part 1 of the Second Schedule to the
Chartered Accountants Act, 1949
 Clause 9 of Part I of the Second Schedule to the
Chartered Accountants Act, 1949
 EXTENSIBLE BUSINESS REPORTING
LANGUAGE (XBRL)
 Extensible Business Reporting Language, Commonly Known
As XBRL
 XBRL or eXtensible Business Reporting Language is a
software standard that was developed to improve the way
in which financial data is communicated, making it easier
to compile and share this data
 The reporting of financial data in XBRL is not required by
all companies, but because it has become prevalent, it has
been suggested that it won't be long before all companies
will have to report their financial data in this language
 https://www.xbrl.org/the-standard/what/what-is-xbrl/
 EXTENSIBLE BUSINESS REPORTING
LANGUAGE (XBRL)
AUDIT AND CONTROL ISSUES
 Risks of Errors
 Control Issues
 These procedures include review and approval activities
by a knowledgeable person on:
 The tagging that is applied.
 The data elements to which tags are applied.
 The consistency of tagged data elements with the
requirements of the taxonomy being used.
 Assurance Issues
 Internal Controls
 Creating, using, testing, and maintaining extension
taxonomies.
 Mapping data to XBRL instance documents.
 Automating subsequent mappings.
 Performing change management activities related to all
aspects of XBRL.
 EXTENSIBLE BUSINESS REPORTING
LANGUAGE (XBRL)

Risk Assessments:
 Technology risks
 Mapping errors
 Fraud risks
 External risks