1 1 | Page Auditing Notes AUDI 101 1- TEXTBOOK USED ETC: 9 OWN QUESTIONS AND ANSWERS 10 EFT : Electronic funds transfer............................................................10 terms: 12 INTRODUCTION 14 CHAPTER 1 :INTRODUCTION TO AUDITING 15 WHAT is an AUDITOR?:.........................................................................15 WHY IS THERE A NEED FOR AUDITORS ?:..........................................................16 Split between Mngmnt & Ownership:...........................................................16 Confidence in Financial Information........................................................16 Accountability:............................................................................16 ASSURANCE AND NON-ASSURANCE ENGAGEMENTS......................................................16 ASSURANCE ENGAGEMENTS:.....................................................................16 NON-ASSURANCE ENGAGEMENT (do not meet definition of an – or do not contain the Elements)...16 Reasonable Assurance.........................................................................17 Limited Assurance Engagements:...............................................................17 Statutory and Non-Statutory Engagements......................................................17 Auditing postulates. 8 of by mautz & sharaf in philosophy of auditing 1961.................17 The accounting profession :..................................................................18 Accounting bodies in sa......................................................................18 pronouncements which regulate the profession.................................................19 The financial statement audit engagement.....................................................19 Introduction...............................................................................19 A MODEL OF INDEPENDANT AUDIT OF FIN STATS ARISING OUT OF COMPANIES ACT (STATUTORY AUDIT)...19 The roles of the various parties.................................................19 Role of companies act......................................................................20 assertions:................................................................................20 SUMMARY:...................................................................................20 CHAPTER 2 : GENERAL PRINCIPLES OF AUDITING.(ch 3 in book) 21 internal control.............................................................................21 Introduction...............................................................................21 Definition of Internal control.............................................................21 definition (per SAICA booklet :'guidance for directors:reporting on internal controls').......................................................................21 four ASPECTS of internal control from above definition..........................21 (ISA 315). 5 components of internal control (in ch 7)...........................21 internal control objectives................................................................21 limitations of internal control............................................................21 the accounting system......................................................................22 1
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1 1 | P a g e Auditing Notes AUDI 1011- TEXTBOOK USED ETC: 9
WHAT is an AUDITOR?:................................................................................................................................................. 15
WHY IS THERE A NEED FOR AUDITORS ?:...........................................................................................................................16
Split between Mngmnt & Ownership:.................................................................................................................16
Confidence in Financial Information..................................................................................................................16
Statutory and Non-Statutory Engagements........................................................................................................................17
Auditing postulates. 8 of by mautz & sharaf in philosophy of auditing 1961...............................................................................17
The accounting profession :........................................................................................................................................... 18
Accounting bodies in sa................................................................................................................................................ 18
pronouncements which regulate the profession..................................................................................................................19
The financial statement audit engagement........................................................................................................................19
A MODEL OF INDEPENDANT AUDIT OF FIN STATS ARISING OUT OF COMPANIES ACT (STATUTORY AUDIT)........19
The roles of the various parties...............................................................................................................................................19
Role of companies act........................................................................................................................................ 20
Definition of Internal control..............................................................................................................................21
definition (per SAICA booklet :'guidance for directors:reporting on internal controls')..........................................................21
four ASPECTS of internal control from above definition........................................................................................................21
(ISA 315). 5 components of internal control (in ch 7).............................................................................................................21
internal control objectives.................................................................................................................................21
limitations of internal control.............................................................................................................................21
the accounting system.......................................................................................................................................22
who is interested in what?.................................................................................................................................22
The characteristics of good internal control.......................................................................................................22
2 2 | P a g e Auditing Notes AUDI 101appropriate evidence..............................................................................................................................................................24
Influenceing factors in determining whether sufficient appropriate evidence has been obtained.........................................25
DIAGRAM OF ASSERTIONS:.....................................................................................................................................................26
EXAMPLES OF ASSERTION CLASSIFICATION IN PRACICE:........................................................................................................26
The Auditors toolbox:................................................................................................................................................... 27
TESTS OF CONTROLS......................................................................................................................................... 27
steps in the sampling exercise...........................................................................................................................29
Chapter 6 : an overview of the audit process. 31
Stages of the audit process: (know whole chapter per lecturer )..............................................................................................31
How the stages are linked:............................................................................................................................................ 31
role of ISA's : International standards on auditing................................................................................................................32
DETAILS OF EACH STAGE OF THE AUDIT PROCESS:...............................................................................................................32
CHAPTER 7 : UNDERSTANDING THE ENTITY AND ITS ENVIRONMENT. 37
UNDERSTANDING THE ENTITY AND ITS ENVIRONMENT:........................................................................................................37
DEFINITIONS: as per isa 315..............................................................................................................................37
THE ENTITY AND ITS ENVIRONMENT..................................................................................................................38
Internal Control of Entity....................................................................................................................................39
1) component : the control environment............................................................................................................................40
ENTITYS RISK ASSESSMENT PROCESS :....................................................................................................................................40
Component : Control Activities: (internal controls)................................................................................................................40
Component : Monitoring of Controls:.....................................................................................................................................40
COMPONENT: THE INFORMATION SYSTEM:...........................................................................................................................41
THE CONCEPT OF MATERIALITY....................................................................................................................................... 42
3 3 | P a g e Auditing Notes AUDI 101planning materiality and final materiality..........................................................................................................42
the nature of materiality.................................................................................................................................... 43
Planning for qualitative assessment:......................................................................................................................................43
the 4 Factors to be considered when quantifying planning materiality..................................................................................43
Final materiality................................................................................................................................................. 43
1) The Auditor must do the following to make a final materiality decision:........................................................................43
Factors to be considered in evaluating unresolved audit differences.....................................................................................43
the risk Based approach to auditing..................................................................................................................44
The components of audit risk:............................................................................................................................44
Control Risk.............................................................................................................................................................................44
Risk and materiality........................................................................................................................................... 45
Assessment of audit risk....................................................................................................................................45
levels of risk....................................................................................................................................................... 45
THE AUDITORS RESPONSIBILITY TO CONSIDER FRAUD IN AN AUDIT OF FINANCIAL STATEMENTS.....................................................46
DEFINITIONS (LECTURER SAYS KNOW THESE WELL)..........................................................................................46
resposibility of management and those charged with governance:...................................................................47
resposibility of the auditor.................................................................................................................................48
responses to the risk of material misstatement due to fraud (DO LEARN THIS as per lecturer).........................48
At Financial Statement level:..................................................................................................................................................48
At Assertion level:...................................................................................................................................................................48
Evaluation of Evidence:...........................................................................................................................................................49
fraud risk factors (do learn)...............................................................................................................................50
2) fraud risk factors relating to misstatements resulting from misappropriation of assets:................................................51
communication with management and those charged with governance (not learn).........................................52
fraud and retention of clients (do learn)............................................................................................................52
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4 4 | P a g e Auditing Notes AUDI 101CHAPTER 8: COMPUTER AUDIT THE BASICS. 54
DEFINITION OF A GENERAL CONTROL:...............................................................................................................56
CATEGORIES OF GENERAL CONTROLS...............................................................................................................57
CONTROL ENVIRONMENT AND SECURITY POLICY:.............................................................................................57
ORGANISATIONAL STRUCTURE AND PERSONNEL PRACTICES............................................................................57
STANDARDS AND STANDARD OPERATING PROCEDURES...................................................................................58
SYSTEMS DEVELOPMENT CONTROLS (NB know very well).................................................................................59
program change controls...................................................................................................................................60
APPLICATION CONTROL FRAMEWORK : MASTERFILE AMENDMENTS..................................................................62
NB ..................................................................................................................................................................... 62
APPLICATION CONTROL FRAMEWORK : INPUT....................................................................................................62
APPLICATION CONTROL FRAMEWORK : PROCESSING.........................................................................................63
APPLICATION CONTROL FRAMEWORK : OUTPUT................................................................................................63
MENU AND DESCRIPTION OF CONTROLS above:................................................................................................64
HOW DO CAATS FIT IN AUDIT PROCESS.............................................................................................................67
SYSTEM ORIENTATED CAATS.............................................................................................................................67
DATA ORIENTATED CAATS.................................................................................................................................67
FACTORS WHICH WILL INFLUENCE DECISION TO USE CAATS.............................................................................67
AUDIT FUNCTIONS WHICH CAN BE PERFORMED USING DATA ORIENTATED CAATS...........................................67
APPENDIX 1: ILLUSTRATION OF WHAT A DATA ORIENTED caat CAN DO:...........................................................68
THE USE OF MOBILE INFORMATION &COMMUNICATION TECHNOLOGY ON AUDITS.....................................................................68
WHAT THIS TECHNOLOGY CAN DO....................................................................................................................68
SECURITY IMPLICATIONS OF USING MOBILE INFORMATION AND COMMUNICATIONS TECHNOLOGY ON AUDITS........................................................................................................................................................................... 68
Security of clients files:...................................................................................................................................... 68
the ifac code of ethics........................................................................................................................................ 69
General guidance: Ethics and Professional Conduct..........................................................................................69
The Public Interest............................................................................................................................................. 69
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5 5 | P a g e Auditing Notes AUDI 101Pronouncements relating to ethics and professional conduct in South Africa....................................................69
THE IFAC (SAICA) CODE OF ETHICS FOR PROFESSIONAL ACCOUNTANTS..........................................................69
1) PART A - GENERAL APPLICATION OF THE CODE..............................................................................................................70
PART B PROFESSIONAL ACCOUNTANTS IN PUBLIC PRACTICE.................................................................................................73
PART C - PROFESSIONAL ACCOUNTANTS IN BUSINESS...........................................................................................................75
PART d - PROFESSIONAL ACCOUNTANTS IN SOUTH AFRICA...................................................................................................75
Trends in IT............................................................................................................................................................... 78
Audit Implications of Networks:...................................................................................................................................... 78
audit and control implications:.......................................................................................................................................79
Audit and control implications of EDI:................................................................................................................80
THE INTERNET............................................................................................................................................................ 81
Risks and controls:trading on the internet:........................................................................................................81
CATEGORIES of VIRUS:....................................................................................................................................... 82
AUdit and control implications:..........................................................................................................................83
Chapter 10 : Revenue AND RECEIPTS CYCLE 84
ACCOUNTING SYSTEM AND INTERNAL CONTROLS:..............................................................................................................84
DOCUMENTS USED IN THE (Revenue+receipts)CYCLE.......................................................................................84
CHARATERISTICS OF GOOD INTERNAL CONTROL...............................................................................................84
FLOW CHARTS AND DESCRIPTION OF THE CYCLE..............................................................................................85
Auditing the CYCLE:........................................................................................................................................... 87
financial statement assertions -in this cycle-(Isa 500).......................................................................................87
Important accounting aspects : specially for this cycle......................................................................................88
Fraud in the cycle.............................................................................................................................................. 88
TEsts of controls and substantive procedures....................................................................................................89
tests of controls................................................................................................................................................. 89
DIAGRAM OF ASSERTIONS:.....................................................................................................................................................90
substantive procedures for the audit of debtors:...................................................................................................................90
Use of audit software (substantive procedures) for debtors..............................................................................92
substantive procedures for auditing bank/cash.................................................................................................92
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6 6 | P a g e Auditing Notes AUDI 101Chapter 11 : Acquisitions and payments cycle: 94
The accounting system and internal controls:.....................................................................................................................94
documents in the cycle:.....................................................................................................................................94
characteristics of good internal control:.............................................................................................................94
flowchart and description of cycle.....................................................................................................................95
auditing the cycle:....................................................................................................................................................... 96
Financial statement assertions and this cycle....................................................................................................96
FRAUD in the cycle............................................................................................................................................ 97
TESTS OF CONTROLS:........................................................................................................................................ 97
Characteristics of the cycle..............................................................................................................................100
Documents in the cycle...................................................................................................................................100
3 Objectives of the cycle..................................................................................................................................100
Risks of the cycle............................................................................................................................................. 101
Auditing the cycle:........................................................................................................................................... 104
Important accounting aspects –ias2 –inventories.................................................................................................................104
fraud in the cycle:............................................................................................................................................ 105
tests of controls and substantive procedures:.................................................................................................106
Tests of controls....................................................................................................................................................................106
POST INVENTORY COUNT PROCEDURES: (bit nb sort of)......................................................................................................107
the use of audit soft ware (substantive testing)....................................................................................................................108
chapter 13 payroll and personell cycle 110
accounting system and internal controls.............................................................................................................110
Documents used in the cycle:..........................................................................................................................110
characteristics of good internal control:...........................................................................................................110
flowchart & description of cycle :.....................................................................................................................110
Auditing the cycle................................................................................................................................................ 112
fraud in the cycle............................................................................................................................................. 113
audit procedures: salaries & related accounts......................................................................................................................113
audit procedures :Wages & related Accounts:.....................................................................................................................114
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7 7 | P a g e Auditing Notes AUDI 101the use of audit soft ware (substantive procedures)........................................................................................115
HOW TO DO A RECONCILLIATION FOR SALARIES AND WAGES AS PER IAS ACC. STANDARDS IN THE NOTES TO THE FIN. STATS................................................................................................................................................ 116
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1-1-TEXTBOOK USED ETC:TEXTBOOK USED ETC: AUDITING NOTES FOR SOUTH AFRICAN STUDENTS : JACKSON AND STENT : LEXIS NEXIS PUBLISHERS 2000 6TH EDITIONGRADED QUESTIONS ON AUDTING GOWAR & JACKSONPOOPEDI
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OWN QUESTIONS AND ANSWERSOWN QUESTIONS AND ANSWERS1) A SUBJECT MATTER: Eg: Financial Position or Results of operations 2) WHAT IS STATEMENT of changes in equity and Cash Flow Statement? : fin position or fin performance ?3) Assertions: account balances,pg 5/13 eg valuations &allocation ;does this heading include for lower down allocation
eg in journal level , so is it too much in repairs ,or too much in vehicles and not machines,BEFORE it all gets to Inc.Stat heading of TOTAL repairs + maintenance.
4) Are creditors (from Account Balances) Rights or Obligations or Both? How?(no rights – only obligations!)pg 5/135) Do assertions form the 'BASIS' of the fin stats.6) Ask where : duty of fin acc. to ensure best capital structure : find best interest rates of all banks, each month,esp.
special rates for large sums / personal atttention. 7) (2)how do you find the current usury rates for b2b and b2c. (are they different? Where and how?)8) Can you segregate backwards ; ie: 2= executing-sales clerk takes order 1= credit controler authorise 3= custody=
store clerk picks order and sends out. (or what is execute = delivery note made up + or delivery man checks order+or security guard check +or not storeman does stock count– which number do these fit into)
9) Assertions :Account balances +classes of transactions&events ;?difference is it –Bal Sheet + Income Stat. ONLY or ?10) Presentation& disclosure pg5/12 –what is this . Also the example :'contingent liabilities'is this a 'note' or just
Creditors/ –ONLY in NOTES or also general format of balance sheet,methods used in journals+ledgers etc?11) What about pg 5/13 assertions –disclosure and presentation- occourance and rights and obligations- shouldnt these
2 be separated and what is rights and obligations here?12) Pg 5/13 3.3.4 accuracy and valuation : should this be broken up into accuracy and valuation and allocation? Why
does this (former) heading not appear in table below this??13) It seems assertions not very exactly classified- why pg 5/16 4.3 transactions= presentation&disclosure and not
classification&understandability. Is measurement = accuracy. Is classifiction & UNDERSTAND only for presentation/disclose not for transactionas/
14) Is pg 5/19 -18 sampling risk mixed up where two types give explanation- visa versa for 1 st test of controls thing maybe ??
15) Is Gov. Audit Statutory or Not : Answer : YES16) What is ISA stand for eg ISA 506 Answer : international standards on auditing :17) ACCESS CUSTODY CONTROLS:
(a) Information =ASSET :eg destroy debtors masterfile,make electronic payments, etc.(b) info can be regarded as an asset which must be controlled/guarded in same way(c) Computers can enhance : this by features eg:??? regular mini – stock counts (cycle counts)? ???to
recon theoretical to actual. How does this work between ????18) When an auditor comes to check your stuff: how should fin accountant treat the following issues:
a) How do you ask if the software used was thoughtroughly tested by a computer audit specialist?wont corrupt your files.can you ask to phone some of his other clients to ask if no problems?i) Are any CAATS notorious / or any specific procedures/ notorious for causing a problem.
b) How do you grant only read accessc) What should one watch out for /some pointers on how to treat an audit –
i) with a computer audit(eg: corruption of files )ii) with other type of audits.
SEMESTER II
Q1- what is yellow highlight below:ie: ”client held”
EFT : ELECTRONIC FUNDS TRANSFER1) 2 Important points to remember with EFT:
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11 11 | P a g e Auditing Notes AUDI 101a) It is Transfer of CASH : in a flash – so bad controls =gone.b) 1 function in a CYCLE: eg wage cycle – all controls contribute to VAC of payment.
2) Whatever the system : EFT payments should be in 4 steps:(eg for a wage payment system)a) MASTERFILE AMENDMENTS:
i) Any amendments to it must be VAC – V=not ficticious employee A=no errors on account details of employee C-…..
b) PREPARE THE EFT PAYMENT ( before the payment): i) Payments to be made must be VAC :
(1) V= fin.Accountant must authorize it –AFTER CHECK supporting DOCS etc.(2) A=fin.Acc should TEST COMPUTATIONS on payroll before authorizing.(3) C=fin Acc. Should CONFIRM NO. OF TRANSFERS = No. of employees.(4) NOTE: just examples- the full range of controls to be effected befor payment is in the ‘Cycle’ chapters.
c) EFFECT THE PAYMENT: d) AFTER THE PAYMENT: Controls to ensure that transfers actually made WERE VAC.
i) System MUST supply an AUDIT TRAIL of all EFT’s made to date.(Hardcopy or Onscreen)ii) Audit TRAIL TO BE REVIEWED BY SENIOR personnel and tied back to “client held” documentation.
Q2-ask yellow why queries from debtors not by the person who is in charge of debtors ie:debtors clark , eg: the person in charge of creditors, debtors, etc.8-Recording of Receipts
1-deposits not recorded/or timeously2-recorded deposits may (a)inaccurate (b)overstated(fictitious) (c)cr to wrong debtor
1-CRJ daily by date & number from receipts (if rec. issued)2-Queries from debtors : by person independent of 1’debtors’ & 2’banking&recording of cash functions.’3-recon1 bank statement TO cash book mnthly + independentof banking&recording employee + reviewed by senior official.4-recon2 CRJ supervisor (a)CRJ vs gaps 1dates 2sequential (b) test CRJ to DL5-recon3 DL to GL control acc. Independent employee regular
Assertion : valuation & allocation : isn’t it a bit similar to ‘classification and presentation’ , what the difference between italics.1) What is a year end creditors recon? what is a creditors list- a ledger Y/N?
1. HOW DO the method for doing a inventory count while there is dispatch going on in the background?2. What is the yellow here, so variable selling costs eg marketing or commission must be subtracted from ‘closing
stock’ in the financial statement or how??normall this is a period cost is it not :? Definition:Net Realisable value :
i. The estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated costs necessary to make the sale.
3.
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TERMS:TERMS:
1) Verify : means determine somethings truth or falsity.2) AUDIT OBJECTIVE 3) FORMING AN OPINION : make up your mind.4) FAIR PRESENTATION of fin info/ fin stats : properly ,correct5) Cycles of company.( in duty segregation)6) Function s of company( in duty segregation)7) material : do make a difference.8) misstatement : wrong entry/number etc.9) appropriately : 10) Corroborative Evidence : evidence which confirms/corroborates something eg: to obtain info from a debtor to
confirm his account is what it says. 11) ASSURANCE GIVER . 12) ASSURANCE ENGAGEMENT 13) Audit Differences : show a material misstatement in Fin.Stats. or Not.( OVERS AND UNDERS SCHEDULE)14) OVERS AND UNDERS SCHEDULE : shows all the “Audit Differences” which are the differences between what the fin.
Stats. Say and what auditor works out to be the real figures.1) Definition; ISA315 :risks that require : Special audit consideration15) Emoluments :16) Misallocate : eg an expense to wrong account 17) Batch Control System: system of controlling physical movement of data (eg invoices,wage cards,printouts output)
to and from user Depts.18) Compilation engagement : 19) Agreed upon procedure engagement : 20) Conducted : done,eg employees conducted a control procedure21) Casts: means addition in accounting of number of fields.22) Extentions: 23) Allocate : overheads for job costing/manufacturing/std.costing. or allocate expenses etc to correct account in
ledger24) Accumulate : costs eg direct labour and materials, to each specific account by journalizing it for job costing or
std.costing25)
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INTRODUCTIONINTRODUCTION1. Text Book :Jackson & Stent :Auditing notes for SA students. + Graded Questions edition 9 from same authors
second book.2. Coursework semester 1: Chapter 1+5+7+8 then briefly back to 3 one or 2 sections3. 2/3 tests +3/4 assignments4. Lect: Mr Poopedi, 3rd floor Kblock 1st room on left.5. Lectures :mon 1st ,wed 2+3 , fri some or other.
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CHAPTER 1 :INTRODUCTION TO AUDITINGCHAPTER 1 :INTRODUCTION TO AUDITING -------------------------------------------------------------------------------------------------------------------------------------
WHAT IS AN AUDITOR?: 1. An Auditor = ASSURANCE GIVER. : from word “audire” Latin means “to hear” from owner hear/audit to employ
a auditor.2. An Audit = ASSURANCE ENGAGEMENT. : “ expresses a conclusion designed to enhance the degree of
confidence of the intended users other than the responsible party ,about the outcome of the evaluation or measurement of a subject matter against the criteria (attempt to enhance credibility of a “statement; event ; figures)
3. International Framework for Assurance Engagements : defines an assurance engagement as: “ in which thea practitioner expresses a conclusion designed to enhance the degree of confidence of the intended user…”
4. The basic premise = ‘Enhance credibility of information’ or ‘increasing degree of confidence of users’5. TYPES OF AUDITOR :
1-Enhance whos confidence2-Independant of what3-What do they do 4 anything else might want to add
a. EXTERNAL AUDITORSi. 1-Independent of company audited opinion - 2-fin stat fairly present fin pos + results – 3-lend
credibility + enhance confidence users of fin stats.4-for statutory purposes, more for external users needs,less ,but also,for internal(head office confidence subsidiary)
6. COMMON ESSENTIAL CHARACTERISTIC : 1. Characteristic of INDEPENDENCE. …….if not independent=NOT A VALID AUDIT.
7. OTHER ESSENTIAL CHARACTERISTICS: IFAC code ethics for Prof. Accountants.
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Income Statement
Statement of Equity
16 16 | P a g e Auditing Notes AUDI 1011 INTEGRITY :straightforward , honest , moral2 OBJECTIVITY : impartial, fair, not influenced by prejudice/bias (independent)3 PROFESSIONAL COMPETENCE and DUE CARE:maintain professional knowledge/skill at
required level &performing work diligently.( eg auditors must attend min 1 symposium on IFRS per year by SAICA law to be a member)
4 CONFIDENTIALITY: respecting the confidentiality of client information.5 PROFESSIONAL BEHAVIOUR: comply laws ®ulations , avoid behavior which discredits
the profession.
WHY IS THERE A NEED FOR AUDITORS ?: SPLIT BETWEEN MNGMNT & OWNERSHIP: 1) Owners -Management split –need Auditor to verify : truth,correct,fair presentation for owner.(owner not
time/expertise to do it)as business evolved …
CONFIDENCE IN FINANCIAL INFORMATION. 1. Investors in businesses that fin info is reliable2. Gov. can trust Fin Info to set the tax rate equitable basis, run economy3. Investors direct toward needs which?-risk/return4. Develop economy as a whole- ensure funds go to sound mngmnt,strong productiveity,sound FinPos5. Inspire confidence in how gov handles its finances
ACCOUNTABILITY:1. Directors to company etc –Gov. to taxpayers – Companies for treatment of Environment etc + SOUND
CORPORATE GOVERNANCE.
ASSURANCE AND NON-ASSURANCE ENGAGEMENTS. ASSURANCE ENGAGEMENTS:1) As per International Framework for Assurance Engagements :An assurance engagement is one in which the
professional accountant: “ expresses a conclusion designed to enhance the degree of confidence of the intended users other than the responsible party ,about the outcome of the evaluation or measurement of a subject matter against the criteria “
2) Elements of an Assurance Engagement.: a) THREE PARTY RELATIONSHIP :1-Prof. accountant 2-Responsible Party 3-Intended User
i) Eg: 1-registered auditor 2-directors responsible for AFS 3-shareholdersb) A SUBJECT MATTER: Eg: Financial Position or Results of operations c) SUITABLE CRITERIA : Eg: International Fin. Reporting Standards (IFRS)d) SUFFICIENT APPRORIATE EVIDENCE : Eg: evidence needed to conclude Fin Stats free of material misstatementse) WRITTEN ASSURANCE REPORT : Eg: The Audit Report on Fair Presentation.
3) Examples :Assurance Engagements : a) Audit of Fin Stats : The Registered auditor gathers sufficient appropriate evidence to be in a position to pass an
opinion on whether the directors ,who are responsible for the AFS , have applied the IFRS standards appropriately in presenting fairly,the fin pos fin perf. and cash flow info.
b) Other types: 1-effectiveness of internal control system ( there are criteria/standards) 2-COMPLIANCE WITH SARBANNES-OXLEY ACT.
NON-ASSURANCE ENGAGEMENT (DO NOT MEET DEFINITION OF AN – OR DO NOT CONTAIN THE ELEMENTS)
a) Where does not :enhance credibility, and pass an opinion , but rather perform a task eg:
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17 17 | P a g e Auditing Notes AUDI 101b) Eg: no 3rd party involved , or client does not require assurance, or no suitable criteria/benchmarks.c) Eg: Tax Return , or compile(collect+classify+summarise) certain info. Etc,efficiency,correct sales strategy,
REASONABLE ASSURANCE. 1) Auditor DOES NOT ever CERTIFY / or CONFIRM CORRECTNESS :he only EXPRESSES AN OPINION on it's FAIR
PRESENTATION.2) Reasonable assurance THAT NO misstatement done- NOT 100% correct to be sure! A REASONED OPINION IS GIVEN.3) WHY AUDITOR CANNOT CERTIFY FINANCIAL STATEMENTS :
a) The use of testing :ONLY % OF ALL TRANSACTIONS CHECKED-Called 'TEST CHECKING'- expensive /time constraints.
b) INHERENT LIMITATIONS OF ACCOUNT & INTERNAL CONTROL SYSTEMS: -must place reliance on clients safety features inherent limitations-no system is 100% foolproof.
c) Audit evidence is usually (Docs etc.) PERSUASIVE not CONCLUSIVE. – eg: documents only persuade that a transaction took place –not prove it(must rely on documenty!
d) SUBJECTIVITY OF FINANCIAL STATEMENTS & AUDITORS APPROACH to audit.- i) Eg : Subjective estimates of Eg : Fixed & Current Assets -bad debts /depreciation impairment,stock
obsolescence-e) SUBJECTIVITY OF FINANCIAL STATEMENTS & AUDITORS APPROACH to audit.-
i) Auditors choice & timing of tests varies one to the next auditor.
LIMITED ASSURANCE ENGAGEMENTS: International framework for assurance engagements further classifies assurance engagements into Limited Assurance Engagements and Reasonable Assurance Engagements –further done in ch 19.
STATUTORY AND NON-STATUTORY ENGAGEMENTS. 1) Statutory Engagements : required by Act of Parliment. eg: 1-company annual audit.(companies Act) 2-
Fin.Institutions Act=bank annual audit2) Non-Statutory Engagements :NOT required by law. Eg: audited Fin. Stats. For a loan or if a partnership/C.C. builds
into partnership/ association agreement or if a Regulatory Body requires assurance with Corporate Governance requirements.
AUDITING POSTULATES. 8 OF BY MAUTZ & SHARAF IN PHILOSOPHY OF AUDITING 1961 Definition: Postulate. Thing claimed as a basis for reasoning, and, Provides a starting point/fundamental condition as a basis for thinking about things & arriving at solutions.The very foundation on which the discipline is built.
1) No neccessary conflict of interests exist between the auditor and 1-Management OR 2-Employees of the enterprise. a) Both client and auditor want Fin Stats to achieve fair presentation ,management is not trying to cheat.b) It becomes impossible to do a conventional (normal) audit if mngmnt are trying to cheat.- economicly &
operationally feasablec) In current times relevance becoming questionable due to rising fraud etc of mngmnt.d) For todays times and latest auditing standards newly developed : AUDITOR CANNOT ACCEPT THIS POSTULATE
AS BEING TRUE, HE MUST EVALUATE MNGMNT INTEGRITY WITH {'PROFESSIONAL SCEPTICISM' –ONE OF PRINCIPLES OF Generally Accepted Auditing Standards }–NOT BE LED AROUND BY THE NOSE-
e) Similar to (5) – very expensive or impossible audit if Mngmnt Unreliable.2) An Auditor must Act 1-Exclusively As An Auditor in order to be able to Offer an 1-Independant and 2-Objective
Opinion on the 1-Fair Presentation of Fin. Info. ( to be INDEPENDANT)a) Free of bias,independant ,cannot do other work for client eg: accounting.b) Currently under fire eg: enron+anderson accounting etc.
3) The Professional Status of the independant auditor Imposes commensurate Professional Obligations.
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18 18 | P a g e Auditing Notes AUDI 101a) Concepts of 1-Due Care , 2-Service before personal interest , 3-Efficiency ,4-Competence.
4) Financial data is Verifiable.a) It is possible to verify clients data.- there will be sufficient evidence to support transactions.b) Audit Objective of forming an opinion on fair presentation of fin info/ fin stats. Needs verification or cannot.c) Eg e-commerce ...must develop new ways of verification.d) Poor internal controls make fin. Info. NOT verifiable.
5) Internal Controls reduce the Risk of Errors & Irregularities.a) Makes errors possible not plausible ,eg sequential numbering makes duplication/omission of source docs.
Reduced.b) The more controls, the less detailed investigation/less samples. Zero controls =cannot do audit /or very
expensive.6) Application of IFRS results in fair presentation .(international financial reporting standards)
a) If you adhere to GAAP FRAMEWORK –it results in fair presentation.( not his own personal preference ,but GAAP)
7) That which Held True in the Past will Hold True in the Future, in the absence of any Contrary Evidence.a) Factual historical evidence more powerful than speculation, eg: measure Prov. Bad Debts. By history of
debtors.-But eg: directors integrity may decline. 8) The Fin. Stats. submitted to auditor for verification are free of Collusive and other unusual Irregularities.
a) Unless contrary evidence, it can be taken for granted that management took steps to prevent collusion, and they were not involved in any.
b) These Made in1961 –current cynisism- current focus on Corporate Governance – Introduction of Professional Sceptisism as important prereqiusite for auditors lately –The objective of auditors is: fair presentation – NOT an all out search for fraud.
THE ACCOUNTING PROFESSION : 1) Professional Status is achieved by the PUBLIC recognising a BODY OF PRACTITIONERS.2) SAICA says a profession is distinguished by:
a) Professional offers : mastery specialised skills ( by study,practical training)b) Render services to a High standard of conduct +performance .(Regulatory mechanism/ regulatory body -laws
restricting admittance,freedom from uninhibited competition, voluntary advancement of profession,ethical code)
c) Accept duties to society as a whole + to client+employer. d) Objective outlook . Members of profession show ethical commitment above monetary gain.(peer evaluation
not 'most moneye) OF PARTICULAR IMPORTANCE IS PRINCIPLE OF OBJECTIVITY. f) Integrity + Prof Skills&due care +Objectivity +Confidentiality.
ACCOUNTING BODIES IN SA 1) SAICA S A institute of chartered accountants.
a) Registeredwith IFAC international federation of accountants – looks after interests of professional accountants.(all types)
2) ACCA Assosiation of chartered certified accountants.3) CIMA Chartered institute of management accountants4) IRBA Independant regulatory board for auditors brought intp being by Auditing Profession Act.to replace PAAB
public accountants and auditors board.public accountants and auditors act was repealed same timea) Looks after intersts of auditors + pulic + discipline auditor members.b) ALL AUDITORS must register with the IRBA after passing part 1+2 of saica exam and be member of saica-AS PER
LAW.5) IAASB- international auditing and assurance standards board formulate the:6) IFAE :International Framework for Assurance Engagements
18
19 19 | P a g e Auditing Notes AUDI 1017) IFRS –international fin. reporting standards.8) IFAC (international federation of accountants)9) ISA –International standards on auditing
PRONOUNCEMENTS WHICH REGULATE THE PROFESSION. 1) In order to ensure high standards of ethics conduct & skill,
a) ISA 200 states ; objectives & general principles governing an audit of Fin Stats. :i) Comply with IFAC code of ethics for professional accountantsii) Conduct audit accordance International standards on auditing.
b) Legislation to ensure : ( some examples of 8 or more)i) Companies Act 2008ii) SAICA constitution and by-laws.iii) Auditing profession act 2005iv) IRBA rules& codev) IFAC code of ethics for professional accountantsvi) International auditing practice statements(IAPS)vii) South African auditing practice statements(SAAPS)viii)International standards on
(1) Auditing(ISA)(2) Review engagements(ISRE)(3) Assurance engagements(ISAE)(4) Related services(ISRS)
THE FINANCIAL STATEMENT AUDIT ENGAGEMENT. INTRODUCTION.1) An EXTERNAL Audit Engagement is called an ASSURANCE engagement + must be conducted by a registered
auditor.2) The OBJECTVE of an AUDIT is (as per ISA 200)
a) Enable AUDITOR to EXPRESS OPINION on whether FIN STATS . , is Fairly Presented.in all MATERIAL aspects, in accordance with AN IDENTIFIED REPORTING FRAMEWORK – International Reporting Framework and/or statuory requirements,
b) ISA 200 warns objective is NOT to DISCOVER FRAUD or ENSURE COMPLIANCE WITH THE LAW. (this is mngmnts responsibility.) Auditor ONLY : " REASONABLE EXPECTATION of DETECTING SUCH IF they AFFECT FAIR PRESENTATION ie: IF Fin. Info. CONTAINS MATERIA L MISSTATEMENT.
A MODEL OF INDEPENDANT AUDIT OF FIN STATS ARISING OUT OF COMPANIES ACT (STATUTORY AUDIT)1) Statutory laws arose from need to protect investors + economic system as a whole. 2) Most common audit engagement is the audit of private & public companies Fin.Stats. by registered auditors in
public practice. THE ROLES OF THE VARIOUS PARTIES
1) SHAREHOLDERS
a) Provide finance for businessb) Appoint directorsc) Appoint auditors (to opinion assertions of directors to shareholders fair)d) Receive Annual Fin. Stats.
2) DIRECTORS
a) Running company19
20 20 | P a g e Auditing Notes AUDI 101b) Reporting results OF THEIR STEWARDSHIP to shareholders.
3) AUDITOR
a) Independant opinion Fin info. fairly presents fin. Pos + fin Res.b) Report to shareholdersl
ROLE OF COMPANIES ACT.1) States all companies must be audited2) Duty on shareholders to appoint auditor.3) Duty on shareholders appoint directors.4) Regulates who may be appointed as director + auditor and how/when may resign or be dismissed.5) Form & Content of report from directors to shareholders – Annual Fin. Ststs. + 4th schedule.6) Legal backing for Financial Reporting Standards.7) Requires Audit Commitees to enhance audit function be appointed.8) Right of auditor to access company records.9) Requirements fulfilled by auditor (eg accounting records in agreement with fin stat) before can report to
shareholders.10) Duty on auditor to report to shareholders.11) CLEARLY stipulates : auditors report must contain OPINION –if Fin Stat. = fairly presents FIN Pos + Res.
ASSERTIONS:1) The REPORT to the SHAREHOLDERS from the DIRECTORS take the FORM of Fin.STATS. in form of GAAP(ifrs+isa)
+CONTROLLED by COMPANIES ACT (fin stats + 4th schedule)2) EMBODIED in Fin.Stats. are the ASSERTIONS OF MANAGEMENT – are RERESENTATIONS on
assets,liab.,transactions,events.3) AUDITORS RESPONSIBILITY: 1- obtain SUFFICIENT APPROPRIATE EVIDENCE that that assertions embodied in fin
stats are fairly presented. 2-REPORT to Shareholders.
SUMMARY: Scan in pg1/16 bottom
20
SHAREHOLDERS
DIRECTORS
AUDITORS
21 21 | P a g e Auditing Notes AUDI 101
CHAPTER 2 : GENERAL PRINCIPLES OF AUDITING.(CH 3 IN CHAPTER 2 : GENERAL PRINCIPLES OF AUDITING.(CH 3 IN BOOK)BOOK)
INTERNAL CONTROL INTRODUCTION1) ISA 315- before an auditor can audit a thorough understanding of a clients internal control systems should be
obtained –(do a walk through)2) Internal Contols: + acc.sys. produce balances & totals –good acc.sys. = generates good ( 1-valid,2-accurate,3-
complete,4-timeous = “FVACT”) info.3) Auditor more interested in acc. info. less in other info : eg sales analysis,budgeting info,marketing info etc.
DEFINITION OF INTERNAL CONTROL.DEFINITION (PER SAICA BOOKLET :'GUIDANCE FOR DIRECTORS:REPORTING ON INTERNAL CONTROLS')Internal Control is a PROCESS effected by the 1- COMPANIES BOARD OF DIRECTORS ,2-MANAGEMENT AND 3-OTHER PERSONNEL.Designed to provide REASONABLE ASSURANCE regarding the achievement of OBJECTIVES in the following 3 categories:
i) 1-ECONOMY 2- EFFICIENCY 3-EFFECTIVENESS.ii) INTERNAL FINANCIAL CONTROL iii) COMPLIANCE with applicable LAWS & REGULATIONS.
FOUR ASPECTS OF INTERNAL CONTROL FROM ABOVE DEFINITION.1. Internal control is a PROCESS , a means to an end, not an end in itself.2. AFFECTED BY PEOPLE ,not just procedures/policies.3. Only REASONABLE ,NOT ABSOLUTE ASSURANCE.4. To achieve objectives in 3 CATEGORIES , which are INTERLINKED. (3 in definit.)
(ISA 315). 5 COMPONENTS OF INTERNAL CONTROL (IN CH 7)1. CONTROL ENVIRONMENT (all) : +attitudes,awareness,actions, of those responsible for
governance,mngmnt2. ENTITIES RISK ASSESMENT PROCESS: 3. INFORMATION SYSTEM : transactions 4. CONTROL ACTIVITIES : actual sys.5. MONITORING OF CONTROLS : eg internal audit dept.
INTERNAL CONTROL OBJECTIVES.1) Policies & Procedures (internal controls) to ensure orderly & efficient conduct of business.incl. controls to :
a) ADHERE TO MNGMNT POLICIES (INCL. APPLICABLE LAWS & REGULATIONS!) b) SAFEGUARD ASSETS c) PREVENT& DETECTION OF FRAUD & ERROR d) ACCURACY & COMPLETENESS OF ACC RECORDS e) TIMELY PREPARATION OF RELIABLE FIN. & OTHER INFO NECESSARY TO RUN BUSINESS.
LIMITATIONS OF INTERNAL CONTROL.1) Cost exceed benefit –limits capacity of int.controls.2) Directed at routine transactions. –miss non-routine eg sell copier.3) Human error. – eg: calc. discount after vat.
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22 22 | P a g e Auditing Notes AUDI 1014) Collusion- eg fraudulent paypacket- collude wage clerk,foreman,personell mngr.5) Abuse of responsibility over internal control.- eg mngr overrides stop on purchases for overdue acc.6) Changes in CONDITIONS causes INADEQUATE controls.- sales clerk not check credit record/overdue acc. due to
volume
THE ACCOUNTING SYSTEM1) Category of int. controls = 'INTERNAL FINANCIAL CONTROLS'.2) Collection of TASKS & RECORDS to process transactions to create fin.records 3) Maj. elements = 1-PAPER 2-PROCEDURES 3-PEOPLE 4-COMPUT4) BUT , to ensure VALID ,ACCURATE,COMPLETE +TIMEOUS ADD: control procedures to Acc.Sys. (not calc.price,write
invoice,enter in sales journal, BUT check customer not overdue before sale, check calculations, mnthly check if entered in sales journal afterwards.
WHO IS INTERESTED IN WHAT?
1) MANAGEMENT:all 3 categories , but eg fin director-int.fin. controls, production dir- operations controls(efficiency,effecti...) etc
2) INTERNAL AUDITORS : all 3 categories –eg audit delivery procedures,or compliancewith laws, or stock audit etc.3) EXTERNAL AUDITORS :Internal Financial Control :accounting sys. + related controls.,related laws &
reh=gulations(but not on eg environmental laws,that is production mngr etc.,unless fin implications eg a fine is involved.Then he is interested,(now financial))
THE CHARACTERISTICS OF GOOD INTERNAL CONTROL.
INTERNAL CONTROL is only ever: POLICIES & PROCEDURES .
1) Control Environment (strong) : Attitude and awareness of managers & directors to internal controls and their importance to entity.1. Eg : fin accountant does not bother to check recon of creditors ledger to creditors statements made by creditors
clerk PROPERLY ,only HALF,before paying ,.So soon clerk wont bother to actually reconcile properly.2. ISA 315 : says good control environment characterised by:
23 23 | P a g e Auditing Notes AUDI 101iii) Mngmnt Acts/displays : Integrity & Ethical.iv) Mngmnt Acts/displays : Leadership , Sound judgement , (+Ethical behaviour).v) Organisation Structure promotes this : Authority + Responsibility + Reporting : relationships vi) Organisation Structure promotes this : Planning + Execution control + Review vii) Good HR policies : Training & development , Compensation fair & benefits ,get competent ethical staff.
2) Competent ,Trustworthy Personnel. – esp. at internal controls.3) Segregation of Duties. – collusion is necessary.
1. Eg: E.F.T. control, or storeman signs a gate pass delivery note+ falsify stock record+takes goods2. A TRANSACTION PASSES THROUGH 4 STAGES:
i) Authorising (1) Purchase order authorised by chief buyer(2) Checking & approve supporting docs. For a payment to a creditor.
ii) Executing (1) Order placed with supplier by the order clerk(2) Preparing the cheque realisation and cheque (SEPARATE CUSTODY OF CHEQUE)
iii) Custody of Asset (1) Goods rec. by receiving clerk & placed in store.(2) Signing cheque (NB person who has signing power auto has SEPARATE HAS CUSTODY OF CASH)
iv) Recording (1) Transactions entered into acc. records by acc. clerk.(2) Recording payment in records & posting to ledgers.
3. MOST IMPORTANT DIVISION : 3 & 4 are the most 'incompatible'. 'Defalcation' is easiest if both are same ou. Esp: SMALL BUSINESSES.i) NEXT BEST is 2 & 3 & 4 . :For the same reasons.ii) 1 & 2 can be combined most easily : because if the others are segregated ,defalcation is likely to be
identified. iii) GOOD SEGREGATION : starts with divide the companies CYCLES into FUNCTIONS , then further segregate
duties within FUNCTIONS. ( each Function = Segregated duty./a New person and each cycle = authorisation/executing/custody/recording)
4) Isolation of responsibility – 1. FULLY AWARE OF THEIR RESPONSIBILITIES : Internal controlsER must be .2. ACCOUNTABLE FOR THEIR PERFORMANCE ; Internal controlsER must be .3. Acknowledge in writing that they have peformed control procedure :IDENTIFY & ISOLATE employee responsible.
i) SIGNITURE fulfils 2 functions :(or fingerprint login)(1) ISOLATE+IDENTIFY which person was responsible for delivery.(2) ACKNOWLEDGEMENT of delivery.from supplier . to purchaser.
5) Custody / Access Controls. 1. ONLY to PROTECT COMPANIES ASSETS.( policies & procedures)
i) PHYSICAL & NON PHYSICAL ASSETS.Cash in Bank(only entry in book to show), Investments (only papers to show), Debtors (only an entry in book to show).
ii) Custody/access controls designed to;(1) Prevent damage to
(a) NON-PHYSICAL : Debtors get legal dont pay status from too long time wait to pay,with no court action.
(b) Physical : (2) Prevent deterioration of
(a) NON- PHYSICAL ASSETS eg: debtors get behind in payments.(b) Physical Assets.
(3) Unauthorised USE , THEFT , LOSS. Eg security
23
24 24 | P a g e Auditing Notes AUDI 101(a) NON-PHYSICAL : limit no. of personell with powers to cash payment / or sell investment. Or prevent
DEBTORS LEDGER from being altered.(b) Physical :
6) Source Document Design: ('PAPER') 1. Properly designed docs. can assist in achieving good internal control. by have following features -Esp. Fin
Control. i) Pre-printed – format leaves MINIMUM AMOUNT OF INFO. to be filled in.ii) Pre-numbered- facilitates IDENTIFICATION OF MISSING /Added FORMS (used by skelms)–by data entry
clerk end week.iii) Logicaly designed : eg : Prominent 'important info' spaces , + blocks per digit in acc. no. so allways 10 get
put in.iv) Contain Prominent Block each for 1-authorising / 2-approving / 3-preparer etc etc to sign in.v) (a) MULTI-COPIED (vi)CARBONISED SELF COPYING , (vii)DIFFERNT COLOURS EACH SHEET.-sales clerk fills
form for : 1-picking slip to stores 2 +to accounting, all in one go.7) Comparison and Reconcilliation.
1. 1-FREQUENT AND 2-TIMEOUS comparison & recons.2. INDEPENDANT from functions & records kept.
Following 2 make all recons far less effective as a control:3. AGAIN REVIEWED BY SENIOR PERSONEL.4. FOLLOWED UP / investigated and pursued.(+ report where it went or auditors fees go up!).5. Following recons & comparisons ARE IMPORTANT.
i) Stock & fixed assets to records. Eg: stock cycle counts. ii) Bank and investments accounts to Bank statements eg bank recon. iii) Creditors accounts to creditors statements. iv) Subsidiary ledgers to general ledger.
8) Efficient risk identification & monitoring system : ADDED later from a later chapter :: eg audit committees, internal control design committees, risk officer/manager/supervisor/appointee
AUDIT EVIDENCE. Audit evidence is absolutely crucial to audit function to Support opinion. ISA 500R- "The Auditor should obtain SUFFICIENT APPROPRIATE EVIDENCE to be able to draw a reasonable
conclusions on which to base audit opinion." : KEY PHRASE = sufficient appropriate evidence. Evidence usally relates to Assertions on Fin Stats.
SUFFICIENT APPROPRIATE EVIDENCE.Overall measure of whether enough sufficient appropriate evidence is gathered cannot be 100% exactly determined :BUT
1) SUFFICIENT EVIDENCE: 1) SUFFICIEN T means if QUANTIT Y of evidence is enough.2) Evidence is Cumulative : eg debtors test = 1-debtors circularisation +2-test if debtors pay( very good evidence they
exist!)3) To calc. quantity of evidence needed =NO hard and fast way ,only :USE professional Judgement + statistical
methods.This is done as part of the "AUDIT PLAN" stage.APPROPRIATE EVIDENCE.1) APPROPRIATE means if QUALITY of evidence is enough. Further broken down into:
a) RELIABILITY (source & nature)b) RELEVANCE (to assertion being tested)
r
24
25 25 | P a g e Auditing Notes AUDI 1012) RELIABILITY : Hierarchy of Reliability of Evidence:
a) Most Reliable =Developed by auditor : eg inspect stock.b) Reasonably Reliable =Evidence from 3rd party(not client) if 1-Independant 2-Reputable 3-Competent eg
attorneyc) Less Reliable = From 3rd party BUT passed through client. Eg: bank statement.d) Less Reliable = Evidence from clients SYSTEM and where related controls it passed through were Effectivee) Least reliable = Evidence provided by client (lacks independance)f) Written more reliable than oral.(easy denied)g) Original documents More than Photocopies /facsimiles.
Also, REM these are guidelines, eg if competence +integrity of directors&employees are strong &acc.sys and internal controls are strong, evidence from client could be very reliable.Eg sheet to shelf = existance BUT shelf to sheet =completeness.3) RELEVANCE :
a) Evidence MUST be MATCHED to assetion tested : eg; self stock count= 'existence'+some 'valuation' BUT not 'rights' eg could be uncollected but sold .NOR 'completeness' yet eg must first be traced to records to determine if all were included in records.
b) Eg tests of controls as to accuracy will not prove validity or completeness.c) A single procedure could be relevant to more than 1 assertion though.
INFLUENCEING FACTORS IN DETERMINING WHETHER SUFFICIENT APPROPRIATE EVIDENCE HAS BEEN OBTAINED.
Factors which MUST influence auditors decision.:
1) THE ASSESMENT of Inherent Risk and Control Risk at the client. :if higher risk – more evidence from most reliable source needed.
2) THE MATERIALITY Of Item Being Examined : eg if stock is very material – auditor must get more of appropriate evidence.-why –greater likelihood of material misstatement.
3) Experience from Previous audits (at same client). HISTORY 4) Results of audit procedures ALREADY CONDUCTED. – eg if test of debtors was good , then do less other tests.5) RELIABILITY and Source of info.available. if no reliable tests available, then much more of less reliable tests must
do.6) PERSUASIVENESS of the audit evidence : eg: evidence gathered on one section of audit which is Supported by
evidence from another section = more persuasive .If it Contradicts it = less pesuasive.
FINANCIAL STATEMENT ASSERTIONS:
1) The OBJECTIVE of an audit : is for an auditor to EXPRESS an OPINION on whether the FINANCIAL STATEMENTS are FAIRLY PRESENTED.(check other definitions of this before)
2) Embodiment of Assertions : the financial statements are the EMBODIMENT of the ASSERTIONS of the DIRECTORS of the COMPANY ,in the PRESCRIBED FORMAT , on the FINANCIAL RESULTS and PERFORMANCE of OPERATIONS ,which they are managing on behalf of shareholders.
3) ISA 500R : the auditor should use assertions for classes of transactions ,account balances,and presentation and disclosure,in sufficient detail to form a basis for the assesment of risks of material misstatement and the design and performance of further audit procedures.
4) It is the Auditors duty to gather sufficient evidence to support assertion being audited.5) Every assertion should be considered for audit, but those assert. presenting highest risk of MATERIAL
MISSTATEMENT by the AUDITOR in his'"OPINION on ... ", must be concentrated on.
6) CATEGORIES OF ASSERTIONS: ISA 500R Categorises the Assertions as follows.:a) Classes of Transactions and Events (for period) eg:sales, purchases, interest received
25
26 26 | P a g e Auditing Notes AUDI 101b) Account Balances carried forward to next year (at year end) eg:property plant &equipment ,accounts
receivable.c) Presentations and Disclosure : eg:notes to bal.sheet , contingent liabilities
1. Classes of TRANSACTIONS AND EVENTS: Assertions about (during period)1.1. OCCURENCE :recorded trans.& events DID occour and DO PERTAIN to THIS entity.1.2. COMPLETENESS :all that should have been recorded, were recorded ,none missing.1.3. ACCURACY :1-Amounts & 2-Data were recorded appropriately.1.4. CUT-OFF : in right accounting period.1.5. CLASSIFICATION (and UNDERSTANDABILITY) : recorded in correct account names.
2. ACCOUNT BALANCES :Assertions about (end period). 2.1. EXISTENCE : assets, liabilities, equitys DO actually exist.2.2. RIGHTS AND OBLIGATIONS : entity holds rights to assets , liabitities are obligations of this entity , named
shareholders . : do hold the rights to the equity.+2-ALL ENCUMBERENCES on ownership must be . .. . :Disclosed
2.3. COMPLETENESS : all that should have been recorded,were recorded,none missing.2.4. VALUATION AND ALLOCATION. : assets ,liabilities , equity recorded at appropriate valuation amounts and any
resulting : valuation adjustments or allocation adjustments are appropriately recorded .ALSO , :DEPRECIATION and OBSOLECENCE ALSO allocated to correct accounts in ledger
3. PRESENTATION AND DISCLOSURE :Assertions about. 3.1. OCCURENCE 3.2. AND RIGHTS AND OBLIGATIONS. :disclosed events ,transactions& other matters DID occour and Do pertain to
this entity. 3.3. COMPLETENESS : All matters that should be disclosed in FIN STATS. , were disclosed, none missing.3.4. CLASSIFICATION AND UNDERSTANDABILITY. :financial info./disclosures are appropriately/ properly
PRESENTED and DESCRIBED, and EXPRESED CLEARLY., and classified correctly in ledger3.5. ACCURACY AND VALUATION. : 1-FINANCIAL and 2-OTHER INFORMATION( eg notes on union problems) are
disclosed FAIRLY and at APPROPRIATE AMOUNTS. (at correct valuation amounts and in a correct and proper – 'FAIRLY presented' - manner.)
EXAMPLES OF ASSERTION CLASSIFICATION IN PRACICE: 1. SALES TRANSACTIONS :
26
27 27 | P a g e Auditing Notes AUDI 1011.1. FIRSTLY : all Sales figures PLUS all disclosures pertaining to sales should be checked for :(leave out
Occourance for disclosures though)1.1.1. Occourence : all sales included DID actually occour.(not fictitious)1.1.2. Completeness : all sales made were included in sales total, none left out.1.1.3. Accuracy : all sales recorded appropriately , meaning prices discount & vat rates are correct & correctly
calculated. 1.1.4. Cut- off : All sales recorded occoured in accounting period being audited.1.1.5. Classsification : All sales posted to proper account incl. Contra accounts –VAT, DISCOUNT ,CREDITORS.
2. Auditor self stock count= 'existence'+some 'valuation' BUT not 'rights' eg could be uncollected but sold .NOR
'completeness' yet because must first be traced to records to determine if all were included in records.3. sheet to shelf = existance BUT shelf to sheet =completeness.4. Tests of controls specificaly as to accuracy will not prove validity(?occourence /existence? ) or completeness.
THE AUDITORS TOOLBOX: 1. Auditor has ONLY 2 things in his TOOLBOX
a. TESTS OF CONTROLS =to test if control procedures complied withb. SUBSTANTIVE PROCEDURES. =to test if verify / substantiate 1-TRANSACTIONS 2-BALANCES
TESTS OF CONTROLS1) CATEGORIES OF TESTS OF CONTROLS:
i) REPERFORMANCE : repeating 1-Wholly 2- In Part control procedures eg: reperform bank recon.ii) INSPECTION : verify on docs. if contrl procedures did happen : eg: verify if transaction authorisation
signiture is there. iii) ENQUIRY; ask person CONCERNED with control procedure as to effective operation of.,NOT just
accept mngmnts word. Eg : find out who performs each procedure and what they do.
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28 28 | P a g e Auditing Notes AUDI 101iv) OBSERVATION: watch process/procedure being performed eg:watch what a receiving clerk does when
supplier delivers goods.2) Tests of Control are performed to obtain evidence of whether
i) Controls suitably Designed to (1) PREVENT (2) DETECT (3) CORRECT material misstatements
ii) Operated effectively THROUGHOUT PERIOD AUDITED.
3) Good results reduce control risk and hence audit risk , then less time need spent on substantive tests.4) LIMITATIONS OF : tests of controls:
a) Good when checked but not in the rest of the Fin. Year. b) Inherent risk? ch7eg 1-only test some 2- subjectivity-auditor own method 3-
5) LIMITATIONS OF : internal controls: i) Cost exceed benefit –limits capacity of int.controls.ii) Directed at routine transactions. –miss non-routine eg sell copier.iii) Human error. – eg: calc. discount after vat.iv) Collusion- eg fraudulent paypacket- collude wage clerk,foreman,personell mngr.v) Abuse of responsibility over internal control.- eg mngr overrides stop on purchases for overdue acc.vi) Changes in CONDITIONS causes INADEQUATE controls.- sales clerk not check credit record/overdue acc.
due to volume6) Example:
a) If control procedures in credit purchase procedure are sound- related balances/transactions rec. will be soundi) Ie: control when purchase acc and creditors acc debited /reconciled authorised, also controls at creditor
payment and creditor acc. DR etc.
SUBSTANTIVE PROCEDURES.1) Tests controls cannot provide 100% assure so sustant.tests need be done.2) SUBSTANTIVE TESTS BROADLY DISTIGUISHED INTO;
a) Tests Of Detail. b) Analytical Procedures.( very powerful tool)
3) CATEGORIES OF SUBSTANTIVE PROCEDURES: i) REPERFORMANCE : repeating 1-Wholly 2- In Part same procedures performed by client eg:debtors age
analysis.ii) INSPECTION : inspect 1-docs+records, or 2-tangible assets eg: inspect fixed asset to verify existence or
inspect . "Confirmation Of Balance Certificate" from long term loan creditor.iii) CONFIRMATION + ENQUIRY; :seek info. from knowledgeable person inside or outside entity
(1) Enquiry : 1-oral or 2-formal written : to inside or outside entity to get 1-Corroborative evidence or 2-Plain . .. Information did not know.
(2) Confirmation : procedure of obtain response to an enquiry to corroborate info. in the acc. records. iv) RECALCULATION : check arithmatic on source docs & records. Eg: check depreciation calc.v) ANALYTICAL PROCEDURES : analysis of ratios + trends , then investigate inconsistent deviations .(statistics)
4) Substantive procedures are performed on a) Balances Assertions= ; Existence, Completeness,Rights&Obligations,Valuation&Allocation.,b) Transactions Assertions= ; Occourence,Completeness,Cut-off,Classification&Understandability,Accuracy
5) Financial stat. consist of onlya) Collection of balances - bal sheetb) Summary of totals – inc.stat
6) VOUCHING AND VERIFYING: a) Vouching: (To Vouch) TRANSACTIONS auditing.
28
29 29 | P a g e Auditing Notes AUDI 101b) Verifying : BALANCES auditing.c) Example:
i) VOUCH – a sales transaction = inspect docs + enquire discounts + recalculate ii) VERIFY – a debtors balance = confirmation in writing from debtors + enquiries as to calc. of prov.bad debts.
+reperform aging analysis of debtors.7) DUAL PURPOSE TESTS : some tests can be a test of control and substantive test at same time eg: bank recon.
Reperform = test of control(recon is a control) and substantive test (bank balance).
AUDIT SAMPLING DEFINITIONS:1) From ISA 530 : 'audit sampling and other means of testing': gives definitions2) AUDIT SAMPLING
a) application of PROCEDURES to LESS THAN 100% OF ITEMS in balance or class of transactions ,to EVALUATE AUDIT EVIDENCE on the some characteristic of sample to form CONCLUSION ON POPULATION
3) ERROR:a) 1-Test of Controls =Control deviations 2-Substantive testing= Misstatements OR
4) TOTAL ERROR :a) 1-Rate of Deviations 2-Total Misstatement . AND
5) ANOMOLOUS ERROR:a) ERROR FROM ISOLATED EVENT,not representative of population.
6) POPULATION :a) Total set of data from which samples are selected.eg all items in an account balance or class of transactions.
7) SAMPLING RISK:a) RISK THAT the auditors conclusion is not true for total population because sample is not representative of the
total population .(Sample could be selected by stat or non-stat approach-any).There are 2 types of Auditing Risk:i) Risk 1-tests of control =auditor judges them to be more effective than they actually are. 2- Tests of Detail-
error exists where it does not : this type 1-AFFECTS AUDIT EFFICIENCY :causes more work for auditor to establish that initial conclusions were incorredt.
ii) Risk 2-tests of control = auditor judges them to be less effective than they actually are. 2- Tests of Detail- error does NOT exist where it does. : This type2-AFFECTS AUDIT EFFECTIVENESS : more likely to lead to an inappropriate audit opinion than assesing risk to be higher than it is..
8) NON-SAMPLING RISK : risk of a) apply sampling plan incorrectly, or b) used inappropriate procedure c) misunderstood results of sampling exercise.
9) SAMPLING UNIT. a) :INDIVIDUAL ITEMS making up a population eg: cheques listed on deposit slips/credit entries on bank
statements.10) STATISTICAL SAMPLING :
a) any approach that has following characteristics or it is non-statistical.i) Random selection of a sample.ii) Use of probability theory -to evaluate sample results (INCL.MEASUREMENT OF SAMPLING RISK.)
11) STRATIFICATION :a) DIVIDING a population into sub-populations each with similar characteristics eg : debtors balance >1000.
INTRO.1. Only some items all are tested eg:loans to directors,but mostly sampling is used due to Resource & Time efficients.2. Sample results must be EXTRAPOLATED over population(3 mistakes * xxx= 1000 mistakes total) statistical sampling
will result in more defensable results than non-statistical sampling.29
30 30 | P a g e Auditing Notes AUDI 1013. Other ebvidence is used together with sampling results like a jigsaw puzzle eg: Analytical procedures on same
population.4. ISA 500 –says auditor must selecyt appropriate means of selecting samples when design audit procedures.
STEPS IN THE SAMPLING EXERCISE.1) Determine objectives of procedure2) Determine procedure3) Confirm population is appropriate & complete4) Define units5) Get sample size6) Select sample7) Perform audit procedure8) Analyse nature & cause of errors9) Project results over population10) Evaluate11)
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31 31 | P a g e Auditing Notes AUDI 101
CHAPTER 6 : AN OVERVIEW OF THE AUDIT PROCESS.CHAPTER 6 : AN OVERVIEW OF THE AUDIT PROCESS.KNOW/LEARN WHOLE CHAPTER PER LECTURER :
STAGES OF THE AUDIT PROCESS: (KNOW WHOLE CHAPTER PER LECTURER ) STAGE 1 : PRELIMINARY ENGAGEMENT ACTIVITIES:
i) ESTABLISH/CONTINUE : Performing Procedures to decide whether to Establish/Continue a Relationship.ii) CAPACITY :Establish if auditor has the Capacity / Resources / if Client can be appropriately serviced or not.iii) ETHICAL :Evaluate if Firm can comply with ethical requirements. Eg independanceiv) TERMS OF ENGAGEMENT :Formulate the terms of engagement.
STAGE 2 : PLANNING: 1) AUDIT STRATEGY :Establish an overall audit strategy.2) AUDIT PLAN :develop one.to be in a position to develop one audit team must first do the next 3 things:3) Obtain Understanding : of Entity and Environment incl. Internal Control.4) Risk : of Material Mistatement :Assess risk of in the financial statements.5) Materiality : Determine guidelines.
STAGE 3 : PUTTING AUDIT -PLAN AND STRATEGY - INTO ACTION.1) RESPOND RISK FIN.STAT. LEVEL ('overall response') :Respond to assesed risk at financial statement level,
eg: assign more experienced staff.2) RESPOND RISK ASSERTION. LEVEL :By carrying out Tests Of Controls +Substantive Tests (to gather
sufficient evidence to reduce risk to an acceptable level.)3) RESPOND TO SIGNIFICANT RISKS : By carrying out Tests Of Controls +Substantive Tests + Investigation eg
laws regulations etc.
STAGE 4 : EVALUATE & CONCLUDE.1) EVALUATE AND CONCLUDE :Evaluate and Conclude on Audit Evidence gathered.2) AUDIT REPORT :Formulate Audit Report.
HOW THE STAGES ARE LINKED: The preliminary stage is not really linked to the other stages , except for the fact that the info gathered here will be used in the rest of the audit in eg: evaluating the client The rest of the stages are closely linked
1- The planning stage is linked to Putting into action stage because the Nature/Timing /Extent of tests done in executing stage are determined in planning stage
2- The executing linked to reporting because : all info gathered here is used in reporting + evaluate stage.ALSO :(Note: The stages are NOT standalone units and the activities within each stage do not fit neatly into the order presented.Planning :is not standalone because \1-as they do current audit, next years audit is being planned.2- if problems develop in audit then new planning must again be done to implement additional procedures / audit strategy if needed. –so if you are in stage 3 , you must go and do some stage 2 things again, but you are already in stage 3.)
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32 32 | P a g e Auditing Notes AUDI 101
ROLE OF ISA'S : INTERNATIONAL STANDARDS ON AUDITING 1) SA has adopted the IFAC (international federation of accountants) auditing standards : (ISA's).2) Stipulate a standard& give explanatory comment how (does Not give a list of procedures)3) Eg: STAGE 1 = ISA210 -terms of engagement + ISA 220R Quality control for audits of historical fin. Info. STAGE 2 =
ISA 300 etc.
DETAILS OF EACH STAGE OF THE AUDIT PROCESS:
STAGE 1 : PRELIMINARY ENGAGEMENT ACTIVITIES: REASONS WHY AUDIT FIRM MAY NOT WISH TO START RELATIONSHIP.
1. Business Reputation : Client Unethical or lacks Integrity. 2. Business Practices eg. Illegal : eg money laundering OR : Not wish to be assosiated with eg.
Porn/tobacco. 3. Attitude To Accounting Standards. : acceptable financial framework : 'Fairest' OR 'most
favourable picture' accounting standards4. Audit Fees payment /if they will pay fair fees or not.5. Client Impose Limitations On Audit. Eg restrict access to information.6. Risk Sue Auditor : Client history of poor relationships with auditor.7. Capacity :not competence+ resources, not able to do it (eg too big)8. Ethical: see standards below ,eg: client director is family of auditor.
REASONS WHY AUDIT FIRM MAY NOT WISH TO CONTINUE WITH EXISTING CIENT. (ii) Same as above exactly.
(2) COMPLIANCE WITH STANDARDS: ISA 220R +ISQCI STIPULATE: (A) INTEGRITY:
(i) ESTABLISH/CONTINUE :Performing Procedures to decide whether to Establish/Continue a RelationshiISA220R etc : of key management,principle owners, those charged with governance.1. Business Reputation : Client Unethical or lacks Integrity. 2. Business Practices eg. Illegal : eg money laundering OR : Not wish to be assosiated with eg.
Porn/tobacco. 3. Attitude To Accounting Standards. : acceptable financial framework : 'Fairest' OR 'most
favourable picture' accounting standards4. Audit Fees payment /if they will pay fair fees or not.5. Client Impose Limitations On Audit. Eg restrict access to information.6. Reasons For Change Of Auditors.; if suspect reasons
(B) CAPACITY :ESTABLISH IF AUDITOR HAS THE CAPACITY / RESOURCES / IF CLIENT CAN BE APPROPRIATELY SERVICED OR NOT. (I) Technical Skills -competence in firm or access to other auditors or experts who do have the
skills.(ii) Resources : -Staff,computers etc.(iii) Time. – Necessary to complete within deadline.(iv) Personnel needed to perform quality control reviews.
(c) ETHICAL :Evaluate if Firm can comply with ethical requirements. Eg independance(i) Conflicts of interest : eg both offer same services to same market.(ii) Threats to independance :of team,auditor,experts /or if adequate safeguards possible to stop
threats.(iii) Any other situations ; possible contraventions of Code of Professional Conduct.
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33 33 | P a g e Auditing Notes AUDI 101(d) TERMS OF ENGAGEMENT
(i) This is formalising terms of engagement into an engagement letter, and having it signed.(ii) Audit commitee of client must understand terms exactly
1. 'Expectation Gap' : Confused if objective is : find fraud / terminology misunderstand( eg compilation engagement,agreed upon procedure engagements etc., Or if an opinion is to be given or NOT(eg for a review)
(iii) ISA 210 –auditor right to decide , but client must agree to how audit will be conducted.(iv) The 'Letter of Engagement' should contain reference to:
1. Objective :Implied or Stated :ie to express an opinion on the fin.stats.2. Managements Responsibilities
a. Preparation of Fin.Stats : plus refer to basis of preparation ie: IFRS. international fin.reporting standards.
b. Accounting Records Maintenance of.c. Accounting Policies selectingd. Safeguarding Assets.e. Internal controls.
3. Scope of Engagement + refer to laws etc eg:ISA's.: outline of what is to be done.4. The Form of Reports : that will be produced.5. Inherent limitations , risk not detecting misstatements : sampling methods +internal
controls6. Auditors Independance : auditor chooses tests + must be given access to all info needed.7. Managements duty prevent illegal acts + auditors duty : Reportable Irregularities to Gov.8. Written confirmation of oral representations by client: auditor expects this from client.9. Weakness in internal control will be brought to mngmnts attention.10. Other parties Involvement : experts, previous auditor, other auditors,internal audit.11. Other services to be rendered: eg tax – and if delivered late etc.- must state if clients fault
for not providing documents , or if auditors fault , and penalties etc 12. Name of Auditor responsible : not just the firm, but person himself responsible.13. Performance Arrangements : Stockcount dates, meetings dates to be held.14. Any Audit Deadlines.15. Fee's : basis of computation and invoicing arrangements.16. Must sign letter.
(3) PROCEDURES TO GATHER PRELIMINARY ENGAGEMENT INFO. (i) Relationships to team/auditors : enquiry if any family etc.relationships exist(regular written from
better than 1, + experienced).(Analytical Procedures are for planning stage(risk assessment) , not here(iii) Outside Inquiry/ : of firms bankers,legal council,etc (permission must be sought first)(iv) Observation & Inspection :of operations etc. and also of :(v) Observation & Inspection: of Public Documents or made available : by client eg: group reports.(vi) Other Audit Procedures :Database searches : eg. internet(vii) Other Audit Procedures :Previous Auditor : communicate with , in compliance with code
of Professional Conduct.
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34 34 | P a g e Auditing Notes AUDI 101
(II) STAGE 2 : PLANNING:
1) INTRODUCTION: a) ISA 300R "the auditor should plan the audit work so that it will be performed in an effective manner"b) AUDIT STRATEGY & PLAN is formulated by : KEY EXPERIENCED TEAM MEMBERS ONLYc) Documentation: all Audit Plan + Audit Strategy must be documented for:
i) Reference for team ii) Proof of proper planning by team iii) Record of key decision made
d) IMPORTANCE OF PLANNING: i) Attention -: Plan to give enough to important areas of audit.ii) Potential Problems : Identify & resolved.iii) Audit team : Properly assemblediv) Supervision +Review : and proper review of their work ,of audit team , facilitatedv) On time : completion of work planned
1) AUDIT STRATEGY :ESTABLISH AN OVERALL AUDIT STRATEGY. a) Audit Strategy sets the (below): of the audit and GUIDES THE DEVELOPMENT of the audit plan.
I) SCOPE- eg:if it is maybe a statutory audit , or maybe JSE listed company , so securities exchange commission requirements to be adhered to.(1) fin. Reporting standards pertaining to type of audit(2) audit coverage: eg inventory locations,divisions.(3) invovement of other auditors(4) any specialised knowledge need(5) auditors reliance on any internal auditors work, + availability of(6) computer auditing effect on audit –data etc.
II) TIMING- :- reporting deadlines(1) companies Year End /interim reporting schedule(2) Meetings(3) timing +types of Reports(4) timing of types of Reports From Other Experts(5) Visits timeing(6) Computer Audit Visits timing
III) DIRECTION – eg : Material account headings, Materiality levels, Risk factors.(1) Materiality levels(2) Significant Risks(3) Fin Statement Level impact of risks eg assign more experienced staff.(4) Internal Control Soundness(5) Volume of transactions (6) Significant Industry Changes eg management, laws, IT etc.
b) CHECK RESOURCES NEEDED : staff- experience,+management of eg :meetings, quality control reviews,evaluations etc.
2) AUDIT PLAN :develop one. To plan the team must first do following 3 things:I) OBTAIN UNDERSTANDING :OF ENTITY AND ENVIRONMENT INCL. INTERNAL CONTROL.
(1) eg check if there is a risk of directors overstating stock, and of internal controls to determine no. of samples to take ,one cannot do planning without first study Entity.
II) MATERIAL MISTATEMENT :ASSESS RISK OF IN THE FINANCIAL STATEMENTS. iii) MATERIALITY :decide what is material, and what is not .
a) The audit plan is far more detailed than audit strategy
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35 35 | P a g e Auditing Notes AUDI 101B) AUDIT PLAN MUST CONTAIN:
I) Planned Procedures :Risk Assesment: (1) NATUR E of Procedures : make sure its sorted out ie :sufficient to asses risks of material
misstatement(2) TIMING of Procedures : make sure its sorted out ie :sufficient to asses risks of material
misstatement(3) EXTENT of Procedures : make sure its sorted out ie :sufficient to asses risks of material
misstatement.II) Planned (Audit) Procedures : At Assertion Level : to respond to the risk identified above.
(1) NATURE of Procedures : for each MATERIAL CLASS of Account Balance, &Transactions, &Disclosure.
(2) TIMING of Procedures : for each MATERIAL CLASS of Account Balance, &Transactions, &Disclosure.
(3) EXTENT of Procedures : for each MATERIAL CLASS of Account Balance, &Transactions, &Disclosure.
III) Plus Any Other Procedures Needed: to comply with ISA’sC) DOCUMENTATION: ALL AUDIT PLAN + AUDIT STRATEGY MUST BE DOCUMENTED FOR:
I) REFERENCE FOR TEAM II) PROOF OF PROPER PLANNING BY TEAM
RECORD OF KEY DECISION MADE
III ) STAGE 3 : PUTTING AUDIT -PLAN AND STRATEGY - INTO ACTION.1-OBJECTIVE of putting PLAN INTO ACTION: TO GATHER SUFFICIENT APPROPRIATE EVIDENCE to reduce risk of material misstatement remaining undetected to an acceptable level :in the account balances,classes of transactions and disclosure. (from PLANNING Item 2 –now carried out here)2-there are many ISA’s refered to for each stage eg: ISA540 =audit of estimates ,ISA520=how to conduct analytical procedures.
1) ISA 330: SAYS : in order to reduce risk to an acceptably low level , auditor should determine overall responses to assesed risk at financial statement level,and should design and perform further audit procedures to respond to assesed risk relating to the assertions.(at account balance/ transaction level) .
a) RESPOND RISK FIN.STAT. LEVEL ( 'overall response') (1) ‘overall responses‘ at Fin.Stat. Level- overall responses means actions to deal with risk at fin.stat.
level : eg assigned strong willed staff/experts/more supervision/surprise visits/do abnormal,unexpected types of tests , not expected : if there is risk of directors manipulating results.
b) RESPOND RISK ASSERTION. LEVEL : By carrying out Tests Of Controls +Substantive Tests (to gather sufficient evidence to reduce risk to an acceptable level.)i) eg: valuation of stock, existence of debtors, completeness of of salesii) Auditors Toolbox : this is where he uses it, ie; 1-substantive tests 2- tests of controls, both done by:
(1) Inspection : check records /assets etc(2) Observation : watch internal controls(3) Inquiry and Confirmation : ask receiving clerk about controls, debtors circulation(4) Recalculation: : eg discounts on sales invoices(5) Analytical Procedures : check ratios+stats etc(6) Reperformance : eg reperform year –end bank recon.
c) RESPOND TO SIGNIFICANT RISKS : By carrying out Tests Of Controls +Substantive Tests Tests (to gather sufficient evidence to reduce risk to an acceptable level.) eg check for laws and regulations etc.j
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36 36 | P a g e Auditing Notes AUDI 1012) QUICKLY READ PG 6/10 , FROM NO. 3, TO 6.12 BOTTOM. VERY FAST- SOME QUICK FACTS.J
STAGE 4 : EVALUATE & CONCLUDE.3) EVALUATE AND CONCLUDE :
The Evaluation, Done By senior/manager/partner, checks if:
i) SUFFICIENT APPROPRIATE EVIDENCE : was obtained(to reduce audit risk to acceptable levels)(qualified opinion or disclaimer issued if not able to obtain sufficient evidence)
ii) AUDIT DIFFERENCES : show a material misstatement in Fin.Stats. or Not.(1) OVERS AND UNDERS SCHEDULE : shows all the “Audit Differences” which are the differences
between what the fin. Stats. Say and what auditor works out to be the real figures.(2) There must be sufficient evidence to support each ‘audit difference”(3) “Known errors” : auditor can be cocky + request fin ststs. Adjustment, and badly qualify fin.stats.(4) “Likely Errors” : auditor NOT EASILY Allowed to : can be cocky + request fin ststs. Adjustment,
and badly qualify fin.stats.( eg: estimation of stock obsolescence)(5) “Materiality”: auditor will not badly qualify fin stats if not MATERIAL to affect users decisions
using fin stats. , but auditor must just inform client so he can make some changes if he feels like it.
III) FIN POS + FIN PERF + CASH FLOWS FAIRLY PRESENTED. OR NOT . (1) Accounting policies : 1-IFRS + 2-correctly done + 3-correct for business type. (2) Estimates :by client correct(3) Relevant +Reliable + Comparable + Understandable : acc. Info is / or Not(4) Disclosure : whether sufficient to enable users to understand or not.(5) Statutory Requirements & Regulations : complied or not
IV) AFTER BALANCE SHEET DATE TILL AUDIT REPORT. (1) If any (NEW) relevant /material events must be disclosed.
4) AUDIT REPORT : a) Formulate Audit Report. : senior decides , on basis of reviews in course of audit and final outlook-
what type of opinion to give:i) Exept forii) Adverseiii) Disclaimeriv) Other additions eg inclusion of an ‘emphasis of matter paragraph.’(DONE IN CHAPTER ON REPORTING LATER)
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37 37 | P a g e Auditing Notes AUDI 101
CHAPTER 7 : UNDERSTANDING THE ENTITY AND ITS CHAPTER 7 : UNDERSTANDING THE ENTITY AND ITS ENVIRONMENT.ENVIRONMENT.UNDERSTANDING THE ENTITY AND ITS ENVIRONMENT: INTRO:
NBLEARN a) ISA 315 :”Understanding The Entity And Its Environment and Assessing The Risks Of Material Misstatement” : …
is to obtain an understanding of the entity ,its internal control and its environment, sufficient to identify and assess the risks of material misstatement of the financial statements ,whether due to fraud or error , and sufficient to design and perform further audit procedures….
DEFINITIONS: AS PER ISA 315 NB
a) BUSINESS RISK : A Risk resulting from significant 1Conditions, 2Events, 3Circumstances, 4Actions Or 5Inactions that could adversely affect an entitys ability to achieve its objectives and execute its strategies, or from the setting of inappropriate objectives and strategies.
b) Significant risk : A risk of Material Misstatement that in the auditors judgement , is one that requires Special Audit Consideration
c) Audit risk – risk that an auditor gives an inappropriate conclusion when there is a material misstatement , so if he says there is no material miststement when there actually is one.
d) RISK ASSESSMENT PROCEDURES (5) :The Audit Procedures designed to obtain an understanding od the 1-Entity, incl. Its 2-Internal Control, and its 3Environment, to identify and assess the Risks of Material Misstatement , whether due to 1Fraud or 2Error, at the 1Financial Statement And 2Assertion Levels.
e) INTERNAL CONTROL : The Process designed and effected by those charged with governance ,management and other personell to provide REASONABLE ASSURANCE about the achievement of an entitys objectives with regard to 1Reliability Of Financial Reporting ,2Effectiveness,And 3Efficiency of operations and 4Compliance with applicable laws and regulations.
f) MATERIAL WEAKNESS: A weakness In Internal Control that could have a Material Effect on the Financial Statements.
RISK ASSESSMENT PROCEDURESNB
1) RISK ASSESSMENT PROCEDURES (5) :The Audit Procedures designed to obtain an understanding od the 1Entity, incl. Its 2Internal Control, and its 3Environment, to identify and assess the Risks of Material Misstatement , whether due to 1Fraud or 2Error, at the 1Financial Statement And 2Assertion Levels.
a) ENQUIRY: :I.T.(i.t.), legal personell(fraud,contracts interpretation),sales personnel(sales),production b) Inspection : check records /assets etcc) Observation : watch internal controls/ mnftring operationd) ANALYTICAL PROCEDURES : ratio & trend,unusual, prior years etce) Recalculationf) Reperformanceg) OTHER AUDIT PROCEDURES :trade journals,internet,lawyers,bankers,h) PREVIOUS AUDITORS
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38 38 | P a g e Auditing Notes AUDI 1012) Remember though : When using auditors toolbox – substantive tests + tests of controls :same type procedures
used
3) And for doing only ‘Preliminary Evaluation’ it is:(viii) Relationships to team/auditors : enquiry if any family etc.relationships exist(regular
written from staff)(ix) Inquiry : of firms bankers,legal council,etc (permission must be sought)(x) Observation & Inspection :of operations etc. and also of :
1. Observation & Inspection: of Public Documents or made available : by client eg: group reports.
(xi) Other Audit Procedures :1. Other Audit Procedures :Previous Auditor : communicate with , in compliance with code of
Professional Conduct.2. Other Audit Procedures :Database searches : eg. internet.
4) Discussion
THE ENTITY AND ITS ENVIRONMENT.1) KNOW THIS ONE ONLY ,JUST READ THE REST :As per ISA 315 , the auditor should obtain an understanding of
(pg6/8)a) INDUSTRY Relevant INDUSTRY , REGULATORY, and other EXTERNAL FACTORS. (of whole industry)b) ENTITY :NATURE of the Entity. (of just entity itself)c) ACCOUNTING POLICIES. The Entitys selection of d) OBJECTIVES &STRATEGIES of entity and the related business RISK ,of Entitye) FINANCIAL PERFORMANCE. of Entity
2) As per ISA 315 , the auditor should obtain an understanding of (IN DETAIL,SAME AS ABOVE): a) of whole industry -INDUSTRY , REGULATORY, and other EXTERNAL FACTORS, that are Relevant
i) INDUSTRY:(1) cyclical/seasonal(2) Risk Profile : high eg fashion /technology –OBSOLETE etc, labour volatility, boom/recession,
39 39 | P a g e Auditing Notes AUDI 101(2) BEE(3) BoD : governance adherence ,risk management, reputations, committees, meetings(4) Management Operational : pressures to perform/deadlines , performance based remuneration ,
capabilities etc(5) Internal Audit dept.
iii) INVESTMENTS AND FINANCING ACTIVITIES :(1) Acquisitions/mergers(2) Investments : other entities(joint ventures,partnerships) , plant & Equipment, technology(3) Sources of Finance(4) Group Structure ;(5) Debt Structure:
(a) Covenants(b) Restrictions(c) Off balance Sheet(d) Leasing(e) Related Parties(f) Derivatives
iv) FINANCIAL REPORTING:(1) The Reporting Environment : deadlines, profit share/remuneration based on financials, 3rd party
reliance(bank lend etc), shareholders expectations, pressure to perform from holding company/overseas affiliates.
c) ACCOUNTING POLICIES , the Entitys selection of i) If appropriate or notii) If consistent with that Type Industry standard.iii) OF SPECIFIC INTEREST TO AUDITOR:
(1) Unusual Transactions: Accounting for unusual transactions(2) No Accounting Policies Available New’ Matters : Accounting Policies adopted for controversial or
‘/issues, for which there is no standard(3) Change Accounting Policies :Reasons and appropriateness of changes client has made to accounting
policies(4) Change Accounting Policies :If New Standards Adopted :How client adopts & implements new
standards in accounting.d) OBJECTIVES & STRATEGIES ‘RISKS’ of Entity . : eg Risk=Sales on credit to customers who will not pay. Potential
e) FINANCIAL PERFORMANCE, (Income Statement) of Entity.i) After considering the following things in Evaluation of Performance, a unusual result may indicate mngmnt
manipulation from pressure from holding company. (1) Ratios/trends ,(2) comparable info mnth-mnth / division-division / industry- industry.(3) Budgets/forecasts(4) Employee Incentive/performance schemes. Or. Holding company pressures to perform.
INTERNAL CONTROL OF ENTITYISA 315 gives a more formal approach to internal control than chapter 5, and requires the auditor to have understanding of following 5 components of internal control:
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40 40 | P a g e Auditing Notes AUDI 1011) COMPONENT : THE CONTROL ENVIRONMENT
Sets the tone of organization and influences control consciousness of staff,positive audit risk factor if good,fraud les
Control Environment : Attitude and awareness of managers & directors to internal controls and their importance to entity.(a) Eg : fin accountant does not bother to check recon of creditors ledger to creditors statements made
by creditors clerk PROPERLY ,only HALF,before paying ,.So soon clerk wont bother to actually reconcile properly.
(b) ISA 315 : says good control environment characterised by:(i) Mngmnt Commitment/implements/employ : Integrity and Ethical values and Sound
relationships (vi) Organisation Structure/policies promotes this : Planning + Execution +Control + Review (vii) Good HR policies : Training & development , Compensation fair & benefits ,get
competent ethical staff.
ENTITYS RISK ASSESSMENT PROCESS :(1) THE PROCESS OF THE ENTITY IN PLACE TO:
(i) Identify Business Risks:(ii) Estimate significance of each Risk:(iii) Assess likelihood of its occourance(iv) Respond to risk.
(2) In larger organizations : (i) Committees hold regular meetings.(ii) Appoint chief Risk Officer and/or Compliance Officer
(3) Smaller organizations & generally: managers job(4) Audit by Inspecting:
(a) Documentation eg;(i) Minutes of special committee meetings.(ii) Inter-office memos on rectifying problems/ rectifying risks.
COMPONENT : CONTROL ACTIVITIES: (INTERNAL CONTROLS)1) Info. Is Gathered on this by auditor in same way as for I.T. above (iv)2) Ensure mngmnts objectives carried out- policies & procedures which3) Auditor ONLY concerned with those ones where MATERIAL MISSTATEMENT likely. EG:
a) Authorisation of transactionsb) Segregation of dutiesc) Physical control over assetsd) Comparison + reconciliatione) Access controlsf) Custody controls over eg: blank chequesg) Good document design etc etc etc
COMPONENT : MONITORING OF CONTROLS:1) How internal controls are monitored, to ensure they are actually done.
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41 41 | P a g e Auditing Notes AUDI 1012) If no monitoring, not be long before employees order goods for themselves,write off friends debt,steal stock etc)
a) Eg:\i) Regular employee performance reviewsii) Weekly IT manager srutinises logs+exeption reportsiii) Telesales manager replays recordings check procedure
3) Info. Is Gathered on this bya) Inspection :Documents on ‘monitoring activities’ /’performance reviews’.b) Discussion :Internal auditors discuss with
COMPONENT: THE INFORMATION SYSTEM:1) Auditor wants info on RELEVANT info ie: fin stat , not nonsense, he wants info on:
a) FINANCIAL REPORTING and COMMUNICATION.i) “Classes of transactions” that are relevant to Fin.Stats.ii) Procedures : Manual + IT for A-Z ‘initiate transaction to fin stat’‘ process.iii) Capturing of NON-FINANCIAL info: eg contingent liabilities.iv) Accounting Estimates + Disclosuresv) Controls over Unusual transaction Journal Entries vi) Manner fin. Info. Is conveyed to board, audit committee, JSE etc.
b) COMPUTERISED INFORMATION SYSTEM.i) Aspects of IT sys to Consider for Auditor:
(5) Complexities of the System(a) Complex databases,internet,EFT,LANS,WANS,EDI(electronic data interchange),
(6) Level of Dependence (on system by client) : eg wages , if broken - disruptionii) Risks to Internal Control :
(1) Programming Errors : eg calc.vat incorrectly.(2) Unauthorized Access to data : could delete/contaminate entire masterfile etc!(3) Unauthorised Changes to data: (4) IT personell fiddling data eg salaries.(5) Instantaneous Fraud Processing: eg eg funds transfer.(6) Data non-access from system failure.
iii) Risks to IT System (1) New employees(2) Rapid growth(3) New technology(4) Introducing new business models(5) Corporate restructuring
iv) How auditor gathers Info on system: (1) Observation.(2) Inquiry (+questionaires)
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42 42 | P a g e Auditing Notes AUDI 101(3) Discussion (past auditor, mngmnt,outsiders,software providers)(4) Discussion (Internal Auditor + review their workpapers)(5) Trace info through system.(6) Flowcharts inspection
SIGNIFICANT RISKSNB
1) Definition; ISA315 :risks that require : Special audit consideration2) Classed as: low medium high , or specific or pervasive , increased or decreased3) Must have some or all of Following Characteristics:
1. Fraud : Risk–to do with risk-2. Events :Recent + Significant Related to in economic,acc,other –to do with risk-eg new IFRS standards, recession
etc.3. Complex : transactions From–to do with risk-merger/acquisition/unbundling4. Related : parties , significant transactions with –to do with risk- eg: inter-company transactions5. Estimation : / Subjectivity/ High degree: in measurement of fin. Info. –to do with risk-estimate provision bad
debts.6. Outside Normal Operations : /unusual Transactions –to do with risk-eg: BEE transactions
2) Auditors Response to: 1. Experienced staff2. Supervision More 3. Professional skepticism Emphasise team 4. Surprise visits : add more unpredictability elements –5. Change Audit : make plan different to in past
COMMUNICATING WITH THOSE CHARGED WITH GOVERNANCE AND MANAGEMENT.1) Auditor MUST : ASAP inform management or governance personell of material weaknesses in Internal controls
and Risk assessment process.
DOCUMENTATION:Auditor MUST document his all work .
THE CONCEPT OF MATERIALITY. NB
INTRO:1) It is generally understood and accepted by users of fin.stats that NOT 100% and may contain margin of error or
uncertianity.HOWEVER margin of error must be acceptable to users otherwise are of little value.-ie : Materiality.2) DEFINITION : MATERIALITY :
a) If omission or misstatement could affect users decisionsb) Size of item judged from particular circumstances.c) Threshold or cut-off point rather than a qualitative characteristic - to be useful.
PLANNING MATERIALITY AND FINAL MATERIALITY1) ISA320 says Auditor must consider materiality at 2 places:
a) PLANNING STAGE:when determining nature,extent + timing of testing (planning materiality)b) FINAL STAGE :when evaluating the effect of any misstatement (final materiality)
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43 43 | P a g e Auditing Notes AUDI 101
THE NATURE OF MATERIALITY1) SUBJECTIVE : Materiality is very :1 auditor will get a different answer to another auditor, but many similarities. 2) RELATIVE, NOT ABSOLUTE : Materiality is very : material to small firm is maybe not material to large firm.
a) Eg :+/- Net profit before tax 5%, current assets 5% ,current liabilities 3% ,Total Assets 3 % Turnover 1%.b) Net profit before tax is mostly used alone, none of others , so cross-mix ups do not occour.(most important
one)3) QUANTITATIVE AND QUALITATIVE : Materiality is very :Quali= non-figure eg a ‘law’ or disclosure / Quanti=
figures.
PLANNING MATERIALITY1) EACH AUDIT FIRM USES ITS OWN TYPE OF MATERIALITY PLANNING: EITHER ONE OF THE FOLLOWING:
a) GENERAL WAY In a: just take the biggest money accounts, less for smaller money accounts.b) PERCENTAGE AS a % : of account balances c) FORMULA use a.
SETTING PLANNING MATERIALITY LEVELS :a) The Plannning materiality level is INVERSE to audit risk) : ie Low Materiality Level =1% High Materiality level =
10 % so if level is high , risk is low and visa-versa.PLANNING FOR QUALITATIVE ASSESSMENT:
a) After studying firm you get an idea of disclosures to look out for and plan accordingly.eg:litigation,licencesTHE 4 FACTORS TO BE CONSIDERED WHEN QUANTIFYING PLANNING MATERIALITY
a) USE OF PRESET GUIDELINES : eg % or formulasb) SPECIFIC INFORMATION : its importance to users (special additional info. Eg conditions of loans)c) LEGAL REQUIREMENTS : eg special figures for JSE must be carefully auditedd) PRELIMINARY /FINAL FIGURES : if clients final figures differ a lot, materiality might have to be adjusted a bit
FINAL MATERIALITY1) THE AUDITOR MUST DO THE FOLLOWING TO MAKE A FINAL MATERIALITY DECISION:. i) ANALYSE AND Project :the errors in sample over population specifiedii) DECIDE IF FURTHER TESTS :should be carried out or whether client should be asked to check the population
in detail for further errors.iii) DISCUSS WITH CLIENT MNGMNT :all misstatements in detail with management in order to attempt to have
them rectified .If client does NOT correct them , it could be for following reasons: (then auditor will have to qualify his report IF it is material )(1) Disagree with Auditor : eg eg client says stock is not obsolete, or something is not a financial lease per
IAS 17 so not to be capitalized etc. (2) Do not regard as Material : client says it would not influence a user(3) Directors Crooking the Books : eg want some ratio, so get stubborn(4) Regard it as ‘too much hassle’ to make changes. : all the fin stats(5) Do not care if Fin Stats. Are Qualified. :stuff you
FACTORS TO BE CONSIDERED IN EVALUATING UNRESOLVED AUDIT DIFFERENCESi) Known errors and likely errors : known = sales invoices wrong period(strong ground) Likely= provision bad
debts(weak ground for auditor)ii) Misstatements should not be considered in isolation: seek patternsiii) Statutory and other contractual obligations :eg directors emoluments,contractual obligation need keep
fixed ratio iv) Nature of the misstatement.: eg: IFRS standards important, misallocate expense less, director cheat more,v) Impact of the misstatement: Specificly on Popular figures & ratios eg :EPS (earnings per share)
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44 44 | P a g e Auditing Notes AUDI 101vi) The absolute and relative size of the misstatement.: if 1 milllion is Relatively – unimportant , But Absolutely
– just too much , then auditor takes action anyway.Basicly , to overlook some misstatement because client will be unhappy is Unprofessional.
CONCLUSION1) No magic formula, takes years of experience , confidence grows as experience increases.
AUDIT RISK. INTRO:1) As per International Framework for Assurance Engagements :assuance engagement
a) Definition: (AUDIT) RISK is “ the risk that the practitioner expresses an INAPPROPRIATE CONCLUSION when the subject matter info. is MATERIALLY MISSTATED ”.
2) As per ISA200 : a) Definition: (AUDIT) RISK is “ the risk that the practitioner expresses an INAPPROPRIATE CONCLUSION when the
subject matter info. is MATERIALLY MISSTATED in the FINANCIAL STATEMENTS ”. 3) So it is just the risk the auditor gives an UNQUALIFIED OPINION if he should have given a QUALIFIED OPINION.
THE RISK BASED APPROACH TO AUDITINGThe auditor identifies the fin stat assertions at risk of misstatement and plans the audit in such a way that it reduces this risk to an acceptable level.
THE COMPONENTS OF AUDIT RISK:NB
1) Per ISA 200 audit risk has 3 components1) INHERENT RISK :
1) Is NOT controllable by auditor1) Built in risk eg: complex transaction calc’s MORE than simple transaction calc’s, or jewelry value more
than cricket bat value. CONTROL RISK
2) Is NOT controllable by auditor1) If Internal controls do not do their job properly. Due to :1-Good=Costly ,2-Non routine transactions, 3-
Human error 4-Collusion 5-Abuse =Mngmnt Override 6-Change (upswing in sales) 2) Overcome by put control activites in place: eg segregation duties, access control, control environment.
DETECTION RISK 3) Is controllable by auditor – if inherent + control risk is high , he must increase experience staff,or no. of
samples, etc, to reduce detection risk.4) May arise because 3 reasons: auditor
a) Selects :an Inappropriate audit Procedureb) Misapplies :an Appropriate procedurec) Misinterprets :results of a test
RISK AT FINANCIAL STATEMENT LEVEL AND AT ASSERTION LEVEL:NB
1) INTRO: 1) ISA200 says: must be assessed at 2 levels:
a) Financial Statement level:b) Assertion level:
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45 45 | P a g e Auditing Notes AUDI 1011) FINANCIAL STATEMENT LEVEL
1) Possible reasons:a) Management Crooked b) Management Inexperienced/Unknowledgeable c) Management Pressure to perform : no capital,etc.d) Business nature : technology/fashion (obsolescence) ,complexity of capital structure,no.of locations.e) Industry nature :economic conditions(recession) , competition, consumer demand, accounting
practices.2) Possible solutions: (etc)
a) Experienced staffb) Supervision More c) Professional skepticism Emphasise team d) Surprise visits : add more unpredictability elements –e) Change Audit : make plan different to in past
2) ASSERTION LEVEL:
1) Possible reasons:a) Account Type : eg involve high degree of estimation: stock count fresh vegetables,or provision bad
debtsb) Complex Transactions : eg sale &leaseback , contract accountingc) Estimation /Judgement Involved : bad debts provisiond) Asset Vulnerability : eg cash e) Near Year End :of fin period.Unusual OR Complex transactions : to manipulate transactions.f) Non-Routine/Unusual Transactions: sale of old assetsg) Other could be added eg: mngmnt integrity(completeness assertion :liabilities) /technology
obsolete stock(valuation assertion: inventory )etc.2) Possible solutions:
a) Address the risk relating to possible assertion directly eg: more samples , or get expert to valuation assertion for technology stock.
RISK AND MATERIALITY 1. (AUDIT) RISK : Is “ the risk that the practitioner expresses an INAPPROPRIATE CONCLUSION when the subject
matter info. is MATERIALLY MISSTATED in the FINANCIAL STATEMENTS ”. 2. MATERIALITY : When making a decision based on Fin. Stats. : the judgement of a reasonable person would be
effected a. Reasonable person/user =
i. Reasonable knowledge of Business and Economic Activities and Accounting.ii. Willingness to study information with Reasonable Diligence
ASSESSMENT OF AUDIT RISK1) The more checking up it takes for something , the higher the misstatement risk and thus higher AUDIT
RISK.2) Eg: a leased asset attracts more risk of misstatement than a bought item because there is more checking
up to be done: assertion : valuation(more) + rights(more) + existence (easy) .If you add incompetent financial manager,then the risk is even higher.
LEVELS OF RISK1) TYPES OF LEVELS:
a) ISA’s only give ‘significant’ Definition; ISA315 :risks that require : Special audit consideration
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46 46 | P a g e Auditing Notes AUDI 101b) Some audit firms have : high,medium,lowc) Some have :pervasived) Some have increased or decreased
2) Must have some or all of Following Characteristics:1. Fraud : Risk–to do with risk-2. Recent Events : + Significant Related to in economic,acc,other –to do with risk-eg new IFRS standards, recession
etc.3. Complex : transactions From–to do with risk-merger/acquisition/unbundling4. Related : parties , significant transactions with –to do with risk- eg: inter-company transactions5. Estimation : / Subjectivity/ High degree: in measurement of fin. Info. –to do with risk-estimate provision bad
debts.6. Outside Normal Operations : /unusual Transactions –to do with risk-eg: BEE transactions
2) Auditors Response to: 1. Experienced staff2. Supervision More 3. Professional skepticism Emphasise team 4. Surprise visits : add more unpredictability elements –5. Change Audit : make plan different to in past
THE AUDITORS RESPONSIBILITY TO CONSIDER FRAUD IN AN AUDIT OF FINANCIAL STATEMENTS. INTRO:1) Due to increase in fraud worldwide eg: enron.parmalat,leisurenet ,auditing profession responded by amending
ISA.’s In past objective of audit NOT to discover fraud(see postulates of auditing) but to express opinion on fin stats to increase confidence.The primary objective is still not to discover fraud, but more emphasis has been placed on this.
2) Recent developments in Auditing to respond :a) ISA 200 : ‘Emphasise Professional Scepticism’b) Isa315 ‘assesses the risk of fraud’c) Isa330 ‘respond to assessed risk ‘d) THE MAIN ONE:
i) ISA 240R Title: “The auditors responsibility to consider fraud in an audit of fin stats.” States objective of auditor is to:(1) Consider fraud when identifying and assessing risk of material misstatement(2) Respond to assessed,identified, or suspected risk.
DEFINITIONS (LECTURER SAYS KNOW THESE WELL)NB
1) ERROR: an unintentional act which results in misstatements in the fin. Stats. 3 (eg calc. interest wrongly,mistake in journal entry,not by auditor but by client , not on purpose)
2) FRAUD : an intentional act involving deception to obtain an illegal advantage 33) FRAUD RISK FACTORS : Events or Conditions that show an Incentive, or Pressure or provide Opportunity to
commit fraud. 2/54) MANAGEMENT FRAUD : fraud involving one or more members of management OR those charged with
governance.
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47 47 | P a g e Auditing Notes AUDI 1015) EMPLOYEE FRAUD : fraud involving employees, NOT management or those charged with governance.6) FRAUDULENT FINANCIAL REPORTING : Fraudulent Financial Reporting invoves intentional
misstatements ,including omissions,in financial statements,to deceive users of the financial statements.It is normally perpetrated by those charged with governance or management (they have the most control over fin stats/prepare them)
NBa) It may be accomplished by the following:
i) SUPPORTING DOCUMENTS :Underlying the financial statements. Manipulate ,Falsify , Alter . (1) Change balance on a debtors account to reflect a higher value(2) Inflate cost price of inventories(3) Include fictitious sales
ii) FINANCIAL STATEMENTS :Misrepresent OR Omit from events,transactions, or significant information. (1) NOTES , OMIT in NOTES a significant contingent liability from the NOTES.(2) UNDERPROVIDE /or do not :for all known future losses.(3) SALE Failing to reflect the SALE of material assets.
iii) ACCOUNTING PRINCIPLES :Intentional misapplication to amounts,classification,manner of presentation or disclosure.(1) failing to CAPITALIZE FINANCIAL LEASES.(2) INAPPROPRIATE POLICY to inflate profits
KNOW ALL OF (iv) below per lectureriv) MANAGEMENT OVERRIDE (particularly where controls appear to be operating effectively)
(1) FICTITIOUS JOURNAL ENTRIES –eg fictitious sales in journal(2) JUDGEMENTS/ESTIMATES - eg understate asset impairments(3) YEAR END DATE : Omit /Advance /Delay recognition of transactions at balance sheet date. Eg
Premature recognize profits on long term contract, or include sales from following year in current fin year to inflate ‘sales’ (STOP THIS BY GOING ON YEAR END DATE AND WRITING END ON LAST SALES DOCUMENTS SO YOU CAN CHECK NUMBERING AFTERWARDS)
(4) DISCLOSURE of FACTS : Hide disclosable facts ; eg a claim for damages agaist company(5) COMPLEX TRANSACTIONS : structured to MISREPRESENT financial PERFORMANCE /POSITION of
company. Eg manipulate inter-company balances in a group to ‘reallocate profits’.(6) ALTERING RECORDS /or TERMS relating to significant or unusual transactions.
b) Eg: directors deliberately understate liabilities and overstate assets to secure a loan, or manipulate earnings to reduce taxation , or to get performance bonus’s.
7) MISAPPROPRIATION OF ASSETS : theft of companies assets , by employees or mngmnt,harder to detect with mngmnt they can conceal it easier.includes:a) Embezzlement:
i) Stealing cash sales ii) Stealing cash received from debtors, and then writing debtor off as bad.
b) Physical assets or intellectual property: Theft of or c) Pay for goods and services not received: Causing entity to ficticious employees- keepthe money,or pay a
ficticious company set up by management for goods never received.buy things for own use through companyd) Using companies assets for personal use : hire out equip on weekends, keep cash.
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48 48 | P a g e Auditing Notes AUDI 101 Eg: if you sign on delivery invoice for goods received ,it is easy to commit fraud, just slip in a false delivery note.stop this by using a ‘goods Receiving Note’ : sequential numbering hard to slip in a duplicate.If no numbering though- just print a new document then slip it in ,+ must use special printing & special paper, to stop photocopying.
RESPOSIBILITY OF MANAGEMENT AND THOSE CHARGED WITH GOVERNANCE:NB
1) Responsibility for the 1- Prevention 2-Detection of fraud lies with those charged with 1-governance 2- management 2) Strong control environment – responsibility also rests with those charged with 1-governance 2- management .3) Management responsible for Concious assessment of of risk of fin stats materially misstated.
RESPOSIBILITY OF THE AUDITORNB
Where does that leave the auditor?1) Professional Scepticism {even mngmnt with integrity can be tempted to fiddle fin stats to meet group performance
targets}2) Audit Team { auditor must make team aware of duty to watch out for fraud}3) Other Information:
a) SPECIFICLY ASK MANAGEMENT : i) Their Assessment :THEIR ASSESSMENT OF RISK that FIN STATS may be MISSTATEMENT DUE TO
FRAUD.ii) Processes Identifying :THEIR PROCESSES FOR IDENTIFYING FRAUD ,INCL. ANY LIKELY OR ALREADY
IDENTIFIEDiii) Processes Responding :PROCESSES FOR RESPONDING TO FRAUD ; eg one supplier alleges buyer takes
kickbacks from other supplier. iv) Communicate Stance :HOW MNGMNT COMMUNICATED ITS STANCE ON ETHICAL BEHAVIOR TO
EMPLOYEES.(1)
b) Make Inquiries: management,internal audit,others eg legal council,hr mngr,operational personnel –if any fraud/suspected
c) Governance : obtain an understanding of how those charged with governance exercise their responsibility by: i) Attend meetings at which such matters are addressed.ii) Read minutes of those meetings.iii) Enquiry of Governance people.
d) Analytical procedures : unusual or unexpected relationships eg unusual fluctuations in gross profit percentage.e) Other sources: eg: from previous audit engagement at clientf) Fraud Risk Factors : if any are present from assessing Entity and Environment.
4) Financial statement & Assertion level : Identify and Assess Risk of Material Misstatement due to FRAUD at level of 5) Financial Statement and Assertion level :determine Audit Response
RESPONSES TO THE RISK OF MATERIAL MISSTATEMENT DUE TO FRAUD (DO LEARN THIS AS PER LECTURER)
49 49 | P a g e Auditing Notes AUDI 1011.4. That adopt Professional Scepticism
2. Accounting Policies :Consider those adopted by mngmnt :Appropriate & Properly applied OR indicative of possible fraudulent earnings manipulate/influence users etc
3. Element of Unpredictability: nature ,timing,extent : surprise vistis etc.
AT ASSERTION LEVEL:1. Nature ,timing ,extent :consider of tests to minimize risk of misstatement in assertions2. Nature ,timing ,extent ;
2.1. Remember difficult to detect concealed things2.2. Strong evidence : must get strong, not weak, evidence for any serious allegations.
3. CORROBORATIVE Multiple tests : experts+observation+inspection+analytical review +element of Unpredictability. +CAATS(find duplicate bank acc. No. for fake employee payroll scam)
MANAGEMENT OVERRIDE:
1. CHARACTERISTICS OF FRAUDULENT JOURNAL ENTRIES:
1.1. Unusual Accounts :entries made to unusual,unrelated,or seldom used acc’s1.1.1. Nature+Compexity : eg not reconciled regularly ,or acc .with no specific purpose eg slush
funds.1.1.2. Normal course of business : ie non- recurring ,not subject tostandard internal controls.
1.2. Other People :passed (entered/done)by people who normally do not do journal entries.1.3. Narrations: Not supported by adequate reasons,explanations or descriptions1.4. Ledger :Not posted to ledger, but direct to fin stats(loss of audit trail.)1.5. Round Amounts : Or Consistent Ending Numbers only.
2. Journal Internal Control : Entries authorisation : concentrate on entries where controls are weaker 3. End Year adjustments: procedures to check journal entries & adjustments.4. Fraud Risk Factors : consider these, eg if there is already an assessed risk debtors payment embezzeled
& written off as bad debt.5. Weak Internal Controls Unusual transactions :Significant transactions outside normal course of business
eg: purchase firm which makes different products.EVALUATION OF EVIDENCE:
1. After initial audit procedures : reconsider initial assessment of risk of misstatement again ISA 240 (redrafted gives lengthy list of circumstances to consider:eg1.1. Acc records discrepencies :non-timeous recons, unauthorized trasactions eg travel
expense,unneeded access to records possible by eg foreman,tips /complaints1.2. Conflicting evidence : unexplained recon items,unusual ratios eg commission up but sales
same,implausible explanations from employees,excessive charges /payments to eg lawyers/suppliers
1.3. Missing evidence missing purchase orders,1.4. Management-auditor : Problematic or unusual relationships between auditor and : deny access to
records,overd:one time pressures,intimidation of team,unwillingness to allow (reasonable)CAATS.etc
2. Consider if un- fraud- like misstatements could be intentional ,esp. if their effect on fin. Stats. Is very significant.
MANAGEMENT REPRESENTATIONS:
1. REPORTABLE IRREGULARITES ABOVE 100 000
The law says you must report any fraud over 100 000 must be reported, not dealt with in-house,or else you are seen as being part of the fraud.
1. Auditor must get written confirmation from management that:49
50 50 | P a g e Auditing Notes AUDI 1011.1. Fraud Internal controls: Mngmnt responisible for design+implement Internal controls to prevent &
detect fraud1.2. Disclosed assessment :Mngmnt has disclosed to auditor their assessment that misstatement due
fraud in current fin stats.1.3. Prior fraud : mngmnt has disclosed to auditor prior fraud by 1-employees 2-mngmnt1.4. Suspected fraud : mngmnt has disclosed to auditor SUSPECTED fraud , esp communicated by others
eg: employees,analysts,regulators.2.
FRAUD RISK FACTORS (DO LEARN)NB
1) INTRO: 1. ISA240 says fraud risk factors can be divided into 2 categories. And each of theses two categories can be
further divided into 3 categories. They are :
1. Fraudulent Financial Reporting: 2. Fraud Risk Factors Relating To Misstatements Resulting From Misappropriation Of Assets:And:
1. Incentives/Pressures : are there pressures eg: performance bonus’s2. Opportunities :are there any opportunities3. Attitudes / Rationalisations: does the attitude of employees&mngmnt suggest an
environment conducive to fraud.
FRAUDULENT FINANCIAL REPORTING:
1) INCENTIVES/PRESSURES
1. PROFITABITLTY /FINANCIAL STABILITY : threatened by economic,industry operating conditions 1.1. Competition so declining margins1.2. High Vulnerability to Change :rapid change eg interest rates, technology,eg electronics
2. PERFORMANCE PRESSURE : Excessive pressure for mngmnt to meet the expectations of 3rd parties due to following:2.1. Debt or equity financing: eg need a loan, want to show good results to influence2.2. Expectations :profitability or trend level, of investment analysts,significant
creditors,institutional investors.2.3. Debt repayment requirements: eg to maintain ratios specified in a loan agreement.2.4. Pending transactions : significant,need specific performance. eg: merger or construction
contract(cant show bad losses)3. PERSONAL FINANCIAL POSITION : info indicates personal fin position of mngmnt is threatened by
entities fin performance arising from following:3.1. Mmngmnt Performance bonuses : eg 25% of net profit after tax.3.2. Mngmnt Shares: :hold significant shares in firm3.3. Personal debt guarantees: :by directors of firm.
4. EXCESSIVE PRESSURE FOR FINANCIAL TARGETS OR ALSO FOR INCENTIVE GOALS: set by those charged with governanace,incl sales,profitability incentive goals.
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51 51 | P a g e Auditing Notes AUDI 1015. OPPORTUNITIES
1. NATURE OF INDUSTRY/OPERATIONS:
1.1. Non-Same auditor Related Party transactions :significant transactions inter-group1.2. Firm Dominates industry sector :allowing firm to dictate conditions to suppliers resulting in
inappropriate transactions.1.3. Estimates: where difficult to corroborate estimates could be used to manipulate results (assets,
liabilities, revenue, expenses)1.4. No clear business justification: all business methods with –eg import through a neighbouring
country.
2. INEFFECTIVE MONITORING OF MANAGEMENT
2.1. Domination : of mngmnt by small group/ or person without compensating controls.2.2. Ineffective oversight :by those charged with governance over the financial reporting
process&internal control.
3. COMPLEX ,or UNSTABLE ORGANISATIONAL STRUCTURE :3.1. Controlling interest :Difficult to determine who has controlling interest in company3.2. Unusual legal entities &managerial lines of authority in Overly complex organizational structure.3.3. High pro staff turnover: senior mngmnt and legal council and those charged with governace.
4. INTERNAL CONTROL DEFICIENT:4.1. Inadequate monitoring of internal controls.4.2. High -Turnover /Ineffective : either of for Accounting ,Internal Audit, or IT staff.4.3. Ineffective accounting and information systems.
6. ATTITUDES/RATIONALISATIONS:
1. Enforcement of Ethics :Ineffective enforcement of firms values and ethical standards.2. Non-fin Mngmnt Accounting policies + Estimates : non- financial managements excessive participation.
In determining3. History of law/fraud allegations: any regulations or fraud eg insider trading4. Share price/earnings trend :Excessive interest by mangmnt in increasing /maintaining entitys share
price/earnings trend5. Tax :Interest by mngmnt in unappropriate means to minimize reported earnings for tax : eg understating
sales.6. Personal/business transactions : No interest in differentiating eg: takes holidays & charges company.
2) FRAUD RISK FACTORS RELATING TO MISSTATEMENTS RESULTING FROM MISAPPROPRIATION OF ASSETS:
1. INCENTIVES/PRESSURES
1. Personal financial problems Mngmnt.2. Adverse relationships: with firm eg compensation /other dissatisfaction , anticipated retrenchments.
2. OPPORTUNITIES
1. NATURE:1.1. Cash : large amounts on hand1.2. Inventory characteristics : eg small size high value –jewelry1.3. Assets :Easily convertible : eg bearer bonds /diamonds1.4. Assets: Characteristics : small, marketable,lacks ID ,eg power tools
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52 52 | P a g e Auditing Notes AUDI 101
2. INTERNAL CONTROL:2.1. Inadequate segregation of duties2.2. Lack of management supervision : eg goods into /out stores with no supervision.2.3. Poor personell practices : screening for sensitive jobs (incl. storeman)2.4. Recons: inadequate record keeping for the coming recon of assets, or asset recon itself
inadequate.2.5. Lack proper purchases authorization.2.6. Physical safeguards : poor over assets2.7. Timely and appropriate documentation for transactions: lack of eg: let customers take goods
but do paperwork later.2.8. Mandatory vacations employees in key control positions: they normally do not want to take a
holiday because they cannot cover up in that time.2.9. Senior management expenditures: inadequate authorization,review and control eg: travel
claims.2.10. IT personel ‘do what they want’ : esp. if Mngmnt has inadequate understanding of IT: IT
personell might change debtors balances in masterfile.
3. ATTITUDES/RATIONALISATIONS
1. Factors which indicate employees have a relaxed attitude to control, or to misappropriation of assets.1.1. Control Environment :poor : eg Ignore theft incedents, Overriding controls.1.2. Lifestyle changes: Mngmnt suddenly takes expensive holidays.1.3. Dissatisfaction Behavior: by employees indicating displeasure at treatment or at entity itself.
COMMUNICATION WITH MANAGEMENT AND THOSE CHARGED WITH GOVERNANCE (NOT LEARN)1) Matters for auditor to consider when identifies misstatement resulting from fraud:
a) Confidentiality- it is inappropriate to simply inform all and sundry about it, ie SARS,creditor,trade union.
b) Management fraud : should always be reported 1 level higher,(+to section chief eg: to fin or other manager if needed) than suspect eg paymaster to financial manager, financial manager to audit comitee/chairman (those charged with governance)If this is not successful it may be necessary to report to IRBA as reportable irregularity.
c) Absolute evidence of fraud is not needed but at least sufficient appropriate evidence befor e wild accusations.
d) Entire matter should be documentede) As per Auditing Professionact: to be a “reportable irregularity” the auditor only needs “reason to
believe”, not absolute evidence.2) Parties to whom auditor must communicate fraud
a) Mangement : +1 level above suspect. b) Those charged with governance: Audit committees + {BoD is the ultimate level charged with
governance}. + And Audit committees (law says public companies must have one) Folowing matters MUSt be reported to these ?2?:i) INTERNAL CONTROL MATERIAL WEAKNESS (mngmnt is not doing their job)ii) Questions regarding mngmnt integrityiii) Mngmnt fraudiv) Other fraud resulting in material misstatement of fin. Stats.
c) Regulatory and enforcement authorities:
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53 53 | P a g e Auditing Notes AUDI 101i) Confidentiality stops auditor from reporting to 3rd party exept:
(1) To IRBA as per Act(law)(2) Court or statute requires certain disclosure(3) Client gives permission
d) Proposed successor auditor:i) If permission not granted by client to discuss with proposed new auditor then old may not
discuss with new auditor ,but he must say permission has not been granted.
FRAUD AND RETENTION OF CLIENTS (DO LEARN)NB
1) It is NOT in best interests of Firm& Auditing Profession to retain clients where fraud is a frequent occourance.Particularly if mngmnt do not take decisive action to eradicate fraudulent practices.
2) There is a high audit risk there .3) If Resigning for ANY reason, per Companies act, must deliver to COMPANY + REGISTRAR written NOTIFICATION in
the PRESCRIBED FORMAT that he has NO REASON TO BELIEVE that a REPORTABLE IRREGULARITY ,HAS , or ,IS ABOUT TO , take place,other than which has already been reported to the IRBA (independent regulatory board for auditors) BEFORE RESIGNING.
4) It should not be an option to resign from an audit before it is complete, just to get out of a time consuming or lengthy situation, overriding duty,professional manner,honesty,integrity,fulfil audit.
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54 54 | P a g e Auditing Notes AUDI 101
CHAPTER 8: COMPUTER AUDIT THE BASICS.CHAPTER 8: COMPUTER AUDIT THE BASICS.COMPUTER AUDITING INTRO:
1) Companies can use different types of ERP (enterprise resource planning) software , which doe severything from accounting to warehouse , mail, online etc etc in the business.Different types include: J.D.Edwards, BAAN, SAP, Oracle , PeopleSoft etc.
2) Auditor is a called a simple ‘line auditor’.A computer Audit Specialist might have to be called in if there are difficulty with technicalities ,or a tax specialist if there are tax troubles.Auditors are not necessarily highly specialized in these fields.
3) VACT = valid,accurate,complete,timeous(in old days shortcut) ,SCRAMM=separation of duties,c,r,access control,m,m ,CEAVOP=completeness,e,accuracy,validation,o,p,
4) First years of auditing=verification approach only ie check bal sheet.1960 etc ,then 2 –systems approach, now today 3-cycle approach.
COMPUTER ENVIRONMENTS:1) Definition : Computer Environment is any particular and unique combnination of hardware,software,and
personnel.(larger clients may have 2 or more of these computer environments)2) Small firms will not be able to implement all the internal controls needed eg full segregation of duties, like
the larger firms, but mngmnt is still responsible to ensure proper internal control.3) VAC : Valid Accurate Complete : although computer environments are different ,”auditing objective” is still
to establish if accounting system and related controls is VAC.4) EDP= Electronic Data Processing (Old Term Used In Past)5) DP= Data Processing(Old Term Used In Past)6) IT= Information Technology (Current Term)7) IS= Information Systems(Current)
A BRIEF DESCRIPTION OF DIFFERENT COMPUTER ENVIRONMENTS:(1) FULLY CENTRALISED SYSTEMS
(a) In old days all hardware was centralized and users need bring all documents to dept. to be processed.Some companies still use this system for certain aspescts eg: clock cards to head office for processing, using batch controls.
(b) Characteristics of fully centralized system.:(i) IT Skills :Employees in user depts. Need have no IT skills.(ii) Security Easy: Easy since only 1 dept to control access etc. to.(iii) Batch Control System: system of controlling physical movement of data (eg invoices,wage
cards,printouts output) to and from user Depts.
(2) CENTRALISED IT DEPT. BUT LINKED TO USER DEPTS. BY PERSONAL COMPUTER
(a) Next development was the central IT depts. Linked to user depts. By a terminal in dept where info. could be typed in.Hardcopy (printed material first had to be delivered(batch controls) but in later years could be printed out in user dept.
(b) Characteristics of this type of system;(i) Widening Risk to incl. Users : Employees in user depts. Needed some computer skills, so
corresponding widening of risk to include them, not just ‘boffins’ in computer dept.(ii) Facilities and data risk spread : hardware + data access by many more depts. widened this risk
too.
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55 55 | P a g e Auditing Notes AUDI 101(3) USE OF MICROCOMPUTERS/PERSONAL COMPUTERS
(a) Next stage : explosion of small businesses using self contained computers to do accounting etc.(b) Segregation of duties: far less since 1 person could do all easily.Very Risky if alternative controls not
put in place eg: accountant deletes debtors and keeps payments.”Physical Audit Trail” missing now.
(4) NETWORKED SYSTEMS
(a) Definition: number of pc s linked together by data cable, each has own powerful processing capabiliteies, but can share networked computers data and processing power.
(b) Characteristics:(i) Power: combined processing power and storage of each together is considerable.(ii) Security is Demanding : far more demanding since each computer has access to all other’s data
etc.eg employee can alter his wage record.(iii) Computer knowledge : Sophisticated software neede so a high level of knowledge is needed to
run it.
(5) USE OF OUTSIDE SERVICE PROVIDERS
(a) Similar to a centralized IT dept. but run by another firm.Very common example is a ‘computer bureau”Information can be delivered /collected in hardcopy or magnetic tape or electronicly.
(b) Implications of using this type –characteristics:(i) Natural Segregation of Duties(ii) Security is dependant on bureau – makes business vulnerable here.(iii) Transfer of Information. Controls : these controls must now be very strong –back and forth..
(6) SUMMARY
(1) An Entity may have a mixture of all these systems , lans,wans, networks, central, and use a service bureau for wages to enhance confidentiality and security , etc etc .controls must be designed to fit the user, a large organization will use all the controls, a small one far less.
(7) A
(2) a
INTERNAL CONTROL IN COMPUTERISED ACCOUNTING SYSTEMS1) The 7 (+1 = controls monitoring,review,development) characteristics of good internal control as applying to
computer environment:i) THE CONTROL ENVIRONMENT :
(1) increases the need :Intoduction of computers increases the need for good control environment.ii) COMPETENT TRUSTWORTHY STAFF :
(1) Trustworthy: needed because of potential of destruction/manipulation of data.(2) Competent :important because of skill needed ,for common users as well as specialized I.T. staff.
iii) SEGREGATION OF DUTIES ; (1) Danger : makes it possible for 1 person to do all the duties at once,lessens segregation.(2) Capabilities of computers that can enhance segregation of duties:
(a) PC Restricted access: can be set to restrict access to certain files and programs to certain PC’s only.
(b) User Restricted Access: can set to restrict access to data&programs to certain users.(c) Level of access : read only / write only / (d) Log: record of who accesed what +when.+ log any entries = leaves an audit trail.
iv) ISOLATION OF RESPONSIBILITIES :(1) Unique user id’s :Can computer can isolate who did what and when.: by this allow 5 people to
use 1 pc for different purposes,and the above types,v) ACCESS CUSTODY CONTROLS:
55
56 56 | P a g e Auditing Notes AUDI 101(1) Information =ASSET :eg destroy debtors masterfile,make electronic payments, etc.(2) info can be regarded as an asset which must be controlled/guarded in same way(3) Computers can enhance : this by features eg: regular mini – stock counts (cycle counts) to recon
theoretical to actual. vi) SOURCE DOCUMENT DESIGN:
(1) Equally important in computers, processes what is fed, good doc design minimizes errors at source already.
(2) Note: no signitures,no coloured paperwork copies carbon, etc.(3) Effective pre-numbering: when on-screen , each doc should be pre-numbered!(4) For hardcopy distribution : (printing) requirements for multipart stationary should be satisfied.(5) ‘On Screen‘ good design Achieved by :
(a) Mandatory fields ; before can continue(b) Alpha numeric checks : wrong letter(c) Screen dialogue : eg have you Confimed order details.(d) As little as possible : to be keyed in by capturer, rest auto by system(less mistakes)(e) Select & click : only the desired options for data entry are allowed.
vii) COMPARISON AND RECONCILIATION :(1) A strong computerized acc system should promote frequent reconciliation and comparison.eg:
(a) Input-output(b) Theoretical-actual eg stocktake(c) Progammed computer to do auto -own recons as well.
(2) Timely and comprehensive accounting info makes frequent ®ular recons +comparisons possible .
FACTORS PECULIAR TO COMPUTERISED SYSTEMS WHICH THE AUDITOR SHOULD BE AWARE OF. Watch for exam question:contrast a manual and computer system
(1) Lack of audit trail : could be only in machine readable form,or only exists short period in some.(2) Lack of segregation of duties : (3) Potential for errors an irregularities
(a) Development + Operation + Maintenance needs more skill and detail so potential for human error (b) Visible evidence: one can gain access and alter data without visible(c) Decreased human involvement : means less chance of spotting errors(d) Software Design errors: remain undetected for long, or exploited by those in the know.
(4) Initiation or execution of transactions may be automatic : eg interest rate increases on a savings account once a certain balance is reached.
(5) Dependence of other controls on computer processing : eg: when account balance debtor check before sale is made, if masterfile tampered with, it could lead to extra bad debts.
(6) Uniform processing of transactions : if error in program, all transactions will be wrong eg: extra vat calculated etc.
(7) Potential for increased mngmnt supervision: appropriate software – eg sales reports,analyses, expense fluctuations,stock movement reports.
COMPUTER AUDITING DEFINITION OF A GENERAL CONTROL:
1) All controls in a computerized centre are classified as either 1-General or 2-Application controls.2) Definition: General Controls: Span across all applications.Establish an overall framework of control for
computer activities.Must be in place before any processing of transactions takes place.3) Definition: Application Controls :relevant to a specific task within the accounting system eg wage cycle,
purchases cycle,
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57 57 | P a g e Auditing Notes AUDI 101
CATEGORIES OF GENERAL CONTROLS1) Control environment and security policy2) Organizational structure and personnel practices3) Standards and standard operating procedures4) System development controls5) Program change controls6) Continuity of operations7) Access controls8) Documentation.
CONTROL ENVIRONMENT AND SECURITY POLICY:I) CONTROL ENVIRONMENT
1) As per normal for control environments , especially the following for I.T.a) BoD IT representation: “IT Committee” preferably ,all new IT matters referred to them.b) Internal Control System : incl. an Internal Audit Dept. if possible + embrace characteristics of good
internal controlc) Mngmnt style : that promotes good controls.d) Organizational structure : that promotes to good controls.
II) CONTROL ENVIRONMENT
1) For Hardware +Software ONLY:A Policy ,not Procedures, must be developed, must be DOCUMENTED. Characteristics should be :a) Least Priveledge: clerk cannot access things he does not need to.b) Fail Safe : if one control fails, another takes its place : eg log in software fails, system shuts down.c) Defense in depth : combination of controls ,not just one, eg ATM , no more than balance total give
out, in case it spews out thousands.-sommer add a control.d) Logging: NOT an EFFECTVE measure unless regular and frequent review/AND follow up action .All
access,all changes etc.
ORGANISATIONAL STRUCTURE AND PERSONNEL PRACTICES1) Should achieve 2 major objectives :
a) Clear Reporting Lines / Levels of Authorityb) Lay foundation for segregation of duties,so no staff perform incompatable functions. :1- segregate IT
and user depts., 2- segregate users within dept.
I) ORGANISATIONAL STRUCTURE
2) Sound ORGANISATIONAL STRUCTURE for an EDP/IT Dept :3) The following chart illustrates following important segregations of duty: note main principles used below
for chart.a) 1- SEGREGATE I.T. AND USER DEPTS.,
i) Authorise :No transactions to be authorized by IT dept eg: wage increase rate, purchase order (to put on system, or otherwise)
ii) Access :No IT staff have access/or custody of PHYSICAL ASSETS eg stock, or UNCONTROLLED ACCESS TO NON-PHYSICAL ASSETS eg debtors masterfile.
iii) Resposible : ONLY responsible for correcting errors in processing+operating problems, for other corrections (eg in books) ONLY assistance if by request from user departments.
b) 2- SEGREGATE USERS WITHIN DEPT.
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58 58 | P a g e Auditing Notes AUDI 101i) Technical administrators have a high level of knowledge and should be separated from
programmers/business analysts else if they also knew the program they could easily make unauthorized changes.
ii) Security : separate from other – because a operator should never be asked to follow up on logged access violations.
4)
5) APPLICATION DEVELOPMENT AND PROGRAMMING. : a) Business system analysts b) programmers
6) TECHNICAL /ADMINISTRATION a) Db admin b) OS admin ( and hardware)c) Network admin
(1) Very important to have good personnel practices in IT .( nerve centre)(a) Background check,competence checks(b) Password,access exclusion if dismissed.(c) Compulsory leave : crookery discovered when they are missing to cover up(d) Training and development(e) Terms of reference: written personnel policies and practices.(f) Rotation of duties: boredom, learn other tasks, catch out. Do not compromise segregation of duties
though.
STANDARDS AND STANDARD OPERATING PROCEDURESI) STANDARDS:
(1) Eg ISO 9000 , and ISO17799 : standards for security ertc. In IT depts..(2) Makes sure
(a) Compatability with other systems /companies(b) Communicate requirement for good consistent practices with IT mngmnt .
58
BoDBoard of Directors
Steering Commitee
IT Manager
Application Development
and Programming
Technical Administrators
Help Desk /Operations Security
59 59 | P a g e Auditing Notes AUDI 101II) STANDARD OPERATING PROCEDURES:
(1) Prodedures over everyday Operations: compliance with standards and current standards should be frequently reviewed to ensure up to date,in touch,protected.(a) Scheduling of jobs : eg wages on thurs for payout fri.(b) Equipment operation and maintenance. : eg log out, not switch off at plug.(c) Machine serviceing: eg printer every 1000 copies etc.(d) Job run procedures: not left to own devices but instructions(e) Activity logs: as before(f) Personnel habits and tidiness: eating ,drinking ,smoking etc- protect equip- neatness standards: less
loss eg flash disk.(g) Library(physical) : tapes etc. : label,access,issue,inspection,duty segregation.
SYSTEMS DEVELOPMENT CONTROLS (NB KNOW VERY WELL)
DOUBLE NB3) For a new system eg payroll or internet shop, new hardware,software,OS,procedures etc must be got4) RISKS :
i) Costs get out of controlii) Sytem design end up does NOT suit user at end.iii) Errors,bugsiv) Business analyst incorrectly implements accounting procedures etcv) Not enough controls implemented- users access too easy etc.vi) No-one knows how to use itvii) Transfer info old to new system causes errors.
5) To avoid these risks , following controls must be implemented: know well as per lecturer:i) STANDARDS : eg ISO 9000 , + check compliance ii) PROJECT APPROVAL: steering committee must approve, feasibility study in-house or off-shelf
+cost vs benefits.iii) PROJECT MANAGEMENT : KNOW well lecturer : 1-project team 2-stages/milestones/deadlines 3-
progress monitoring + 4-prog. monit. reports to steering commiteeiv) USER REQUIREMENTS : business analyst + auditors consult(int +ext) + mngmnt of depts. sign off
approvalv) SYSTEMS SPECIFICATIONS AND PROGRAMMING : specifications documented + programming by
international standards –flow chart etc.vi) TESTING : debugging, test data run, integration other programs, if users happyvii) FINAL APPROVAL : test results approved by all involved, + final all users-mngmnt-IT-internal
audit approvalviii) TRAINING : schedule for training with times for all users, manuals updated.ix) CONVERSION: following controls to ensure DATA is VALID,ACCURATE,COMPLETE
(i) CONVERSION PROJECT: seen as a project in its own right(ii) DATA CLEANUP: thoughrouly checked before conversion eg stock count(iii) CONVERSION METHOD:
1. parallel OR 2. phases OR3. shut down old start new
(iv) PREPARATION AND ENTRY: 1. File comparison – old to new data +resolve discrepencies2. Reconcile old/new using:1- Record counts & 2-Control totals.3. Use programmed Limit checks etc. to identify problems and follow up 4. user approval per dept if correctly done, 5. confirm all balances with customers/suppliers etc.
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60 60 | P a g e Auditing Notes AUDI 101x) POST IMPLEMEMENTATION REVIEW: : users+auditors+ IT for several months : documentation/sys
dev. success or not/bugs/
PROGRAM CHANGE CONTROLS(1) You want valid + accurate + complete information. (2) When changes are made to computer programs/ + sytems :Use following controls to ensure above. For
“program maintenance”(a) Similar standards as f or system development controls (above)(b) Documented , Preprinted ,Prenumbered : change control forms.(c) Change requests: approval by 1- IT manager 2 user dept.(d) Done by programmers, NOT operators.(separation of duties)(e) Make it a Mini project (f) Change a development (test) program first, not the real one.(g) Test by programmer+ senior use debugging tequniques(h) Changes : users + internal audit must sign change form control.(i) Documentation updated(j) 1-Logging: of changes dine to it by computer + 2-independent tech operator puts program
on(separation of duties)(k) Review of log by it manager to check no extra changes were made skelm in the process.
P
do pg 8/17 to 8/24 left out no time (incl. passwords controls!)
APPLICATION CONTROLS: INTRO:
(1) GENERAL CONTROLS & APPLICATION CONTROLS (a) General = for all applications and the sytem eg hardware, other software etc etc
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61 61 | P a g e Auditing Notes AUDI 101(b) APPLICATION CONTROLS: o nly for the software : programs & procedures to satisfy users for 1 task
eg: payroll(2) Suggested framework for application controls: = 10 KEYWORDS:
(3) When input/output/ processing is more real time than segregated(tech), we(a) More access+programmed controls , less manual controls(b) More Preventative , less than detective+corrective.
i. Eg: get details of a airline booking correct before its processed(for both above)
DEFINITIONS:
NB (4) An APPLICATION : a set of procedures and programs , ,designed to satisfy users for a specific task eg
payroll cycle(cycle link)(5) APPLICATION CONTROLS : over input,processing output of fin info , relating to a specific application ,to
ensure VAC :Valid Accurate Complete.(6) TRANSACTION FILES: files to STORE DETAILS of individual transactions(7) MASTER FILES: files only to store 1-standing information + 2- latest balances : need tight control(8) MASTERFILE AMENDMENTS : changes to(9) VAC: VALID , ACCURATE, COMPLETE (objective of controls in computerized environment is VAC)
(a) VALID: transactions&data : not 1-fraudulent/fictitious 2-in Accordance activities actually authorized by mngmnt.
(b) ACCURATE; transactions&data: are correctly 1-captured,processed,allocated to 2-minimize errors(c) COMPLETE: transactions&data: not omitted or incomplete
(10) PREVENTION, DETECTION ,CORRECTION : (just the stage at which controls are implemented to achieve objectives of VAC))
(a) PREVENTION : controls to get errors BEFORE input/process/output (check before input)(b) DETECT :controls to detect errors ALREADY IN SYSTEM + RESOLVE.(c) CORRECT :controls to RESOLVE ERRORS&PROBLEMS already identified by detection controls
INPUT, PROCESSING, OUTPUT:
NB(11) Application Controls : are Various controls , designed to ensure info on comp.acc sys. Is VAC , which
means controls at stages of input/processing/output stages(12) Diagram: masterfiles - programmes - processing – output : see pg 8/26 (13) INPUT: data inputed to computer by:
(14) PROCESSING: info to masterfile, Application programmes use this to processing, controls to 1-program error 2-hardware/software malfunctions(a) HARDWARE MUST FUNCTION PROPERLY : regular servicing,treatment,ie auditer worry(b) INPUT: TRANSACTIONS MUST BE VAC : computer processes whats fed to it: so need General
Controls (eg good source docs)+ Application controls(foreman authorize clockcard) (c) MASTERFILES: very important eg alter salary.(d) PROGRAMMES : gives what fed, so general controls eg sytems development/implementation contrls
(15) OUTPUT: eg hardcopy/e-mail/store : Controls to: (a) Integrity : Preserve data integrity
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62 62 | P a g e Auditing Notes AUDI 101(b) Effective Use :Ensure of reports(c) Confidentiality :Ensure
PROCESSING METHODS:
NB(1) 3 types of controls
(a) BATCH ENTRY ,batch processing/update (i) First on Source Docs(ii) In batches of eg 25 : entered on computer to store at efficient/convenient time, to update
(2) Controls techniques to achieve objective:(a) VALIDITY
(i) Program Controls(processing)(ii) Logs and Reports
(b) ACCURACY (i) Program Controls(ii) Logs and Reports(iii) Reconcilliation and Review
(c) COMPLETENESS (i) Program Controls(ii) Logs and Reports(iii) Reconcilliation and Review
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64 64 | P a g e Auditing Notes AUDI 101
APPLICATION CONTROL FRAMEWORK : OUTPUT
DOUBLE NB(1) Can be hardcopy, data file, e-mail etc. so different control techniques(2) Eg : destroy printer ribbon & carbon from stationary : data can be read from it.(3) Controls:
(b) ACCURACY (i) Logs And Reports(ii) Recon. And Review
(c) COMPLETENESS (i) Logs And Reports(ii) Reconciliation And Review
MENU AND DESCRIPTION OF CONTROLS ABOVE:
NB(1) AUTHORISATION
(i) Signature of supervisor on source doc and batch forms(ii) input module program application restricted to authorized person(iii) programmed checks: against parameters : eg loan allowed if income+expenditure right/enough(iv) overrides to above: min. supervisor +logs and recon by mngmnt
(2) ACCESS (i) Unused source docs under lock and key, independent person(ii) Register of issue/receipts + numerical sequenceing
(3) SOURCE DOC DESIGN (i) Pre-printed, multicopy in differ colours(ii) Tick , from list rather than write.(iii) Clear Title(iv) Instructions written below how to fill in(v) Field size boxes: eg date= 6 boxes(vi) Order of keying in : in right order not here and there(vii) Pre-numbered
(4) INDEPENDENT CHECKS (i) Independent check others work person eg : foreman checks clerks ‘hours worked’ calculation (ii) Check numbering sequence correct. Preferably With exeption reports.(iii) Review : Override Logs, Exception Reports, Audit Trails By Senior/supervisor.
1. Financial Totals: totals of any fields holding monetary amounts
2. Hash Totals : totals of any numeric field eg: invoice number
3. Record Counts: total records per batch
(ii) Batch Control Sheet :attached to each batch.Should contain on it:
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65 65 | P a g e Auditing Notes AUDI 101
1. Unique batch number : eg batch 3 of 6, week ending 31/07/2008
2. Control totals for batch : see (i) above
3. Transaction Type : eg invoices
4. Signature spaces : prepared by + checked by + reviewed by.
(iii) Batch Register : 1. Recipitent : signs the register after checkingwhat is signed for
(a)Batch Control System Works As Follows: 2. Details(description & control totals) keyed into computer to create “batch header label”3. Actual Records entered : already then subjected to programmed validsation checks eg valid
account number, limit checks.4. Finsh entering records: computer computes&check all contol totals5. If totals agree +no other error: batch accepted , else rejected & sent back for re-processing.6. The contol totals can follow the bach in its life : eg 10 clock cards keyed in, 10 processed,10
output created etc.
(c)Batching assists with the following: 7. Data transcription error identify eg wrong valued entered into computer by accident.8. Incorrect field : detect data entered in incorrect field.(computates like trial balance)9. Invalid or omitted or duplicate entry into computer checked for.
(d) Batch control in online entry systems: 1. Pre –entry batch Controls impossible, so use Post-entry batch Controls.
a. Set 1 : Computer generates logical batch totals : eg per user/ application /PC b. Set 2 : User manually computes same logical batch totals totals on entry.
(e) ACCESS CONTROLS (i) Only certain PC’s can Access certain applications : eg payroll(ii) Physical access to PC’s : lock door, key safe.(iii) User Id/password restrict to (least privaledge)
1. System level (to PC)2. Application level (to Program)3. Read only/ write access4. Time of day5. Sensitive fields hidden
(iv) PC Shutdown for violation/timeout.(v) Logs :User ID + application
(f) Screen Aids : (i) Minimum key in Info.(ii) Order of type in same as form order(iii) Screen formatted like form : ie sound source doc design controls.(iv) Screen dialogue + prompts(v) Mandatory fields : cannot continue till typed in(vi) Verbal confirmation of data : eg with customer (vii) Drop down lists .
(g) PROGRAM CHECKS: VERY VERY NB(i) CONTROLS BUILT INTO the software, this list is not exhaustive :
1. Alpha –numeric – if letter or number2. Range checks –min AND max
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66 66 | P a g e Auditing Notes AUDI 1013. Limit checks – min OR max4. Limit test after processing – not on entry5. Check digit – extra digit on end of field, formula checks if field generates it,no db6. Size checks – field too many characters7. Missing data checks – detect blanks8. Reasonable checks – eg not more than 50 Hrs per week9. Reasonableness test after processing : eg wage of 10000000010. Sequence checks –duplications/gaps in numbers11. Verification checks – masterfile lookup if correct account number12. Data approval checks –credit limit for all sales13. Internal label check – if computer file name correct14. Generation number check – correct file generation loaded ( old/ new etc)15. Retention date checks –if file expired16. Arithmetic accuracy check – eg reverse multiplication for 3*5= 15 : do 15/5=?17. Cross casts – acc18. Run to run totals: closing balance 10th compared to opening balance 11th ,and also to total
debits minus credits etc. and more at same time same time etc etc.19. Reconciliation of related subsystem balances – debtors legder to debtors control acc.
(h) Logs and reports (i) Audit trails: eg intrest or PAYE rates used/ or summaries + list transactions(ii) Run to run balancing reports – see above(iii) Override reports- abuse of privaledges(iv) Exception rports- outside parameters set for control purposes eg wages > 40 hrs(v) Before and after images- database images before/after updates in case error(vi) Activity reports- usage times etc per user on pc, using resource(vii) Computer generated transaction listing- all automaticly generated re-orders/purchases by
(vi) shredding/ destroy: eg carbon paper or printer ribbons etc.
(j) Reconciliation and review (i) Control clerk:activity reports : output and processing(ii) Control clerk:control totals from input : eg batch controls(iii) Control clerk:sequence checks numbering on docs(iv) Control clerk:document count : eg must be 200 cheques for 200 payments(v) User dept :recon : with processing dept : eg foreman calc. 5000 wage hrs, payment
should be for 5000 wage hrs.(vi) User dept : recon :reports : to 1-source docs 2- physical assets (vii) User dept :reasonableness: review output for:
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67 67 | P a g e Auditing Notes AUDI 101
SUMMARYComputers do not change the FUNCTIONS which mus occour in a cycle: eg in a wage system:Personnel recordsTime keepingPayroll prep and recordPayPay deductions overUnclaimed wages accounted for.
CAATS : COMPUTER ASSISTED AUDITING TECHNIQUES (SUMMARY –NOT NB) Common large client sytems: SAP ,Peoplesoft CAAT programs : 1-GAS (generalized audity software)eg: ACL and 2- CAS (customisesd audit software)
HOW DO CAATS FIT IN AUDIT PROCESS(1) TO AUDIT AROUND COMPUTER
(a) Only check source3 docs-input – and output for VAC, if right then computer is also ok.Only for simple computer systems
(2) TO AUDIT THROUGH COMPUTER (a) Testing the computer system and controls built into it
(3) TO AUDIT WITH COMPUTER (a) Using computer to assist in audit procedures- mainly substantive testing(b) And using it to do reports, fin stats, workpapers etc.
SYSTEM ORIENTATED CAATS(1) More : auditing through computer (2) Mainly for tests of controls, but some substantntive evidence may be produced(3) Send test data through stystem, wrong acc. No.s and overlarge amounts eg 50 hrs wages week etc(make
a dummy company/cost centre X, to prevent corruption of clients files.watch out for manipulation of by fraud –of this dummy cost centre
(4) Any of :Test data,IntegretedTestCentre,Parallel,Embedded audit facility
DATA ORIENTATED CAATS(1) More : auditing with computer (2) Mainly substantive testing(3) Can cause : Corruption of client files
FACTORS WHICH WILL INFLUENCE DECISION TO USE CAATS(1) Complexity(2) Volume(3) Data elec(4) Skills(5) Independence: loss -assistence(6) Attitude professional tequniques –must use caats(7) Compatable hardware(8) Utilites available(9) Cost of data 3rd parties
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68 68 | P a g e Auditing Notes AUDI 101
AUDIT FUNCTIONS WHICH CAN BE PERFORMED USING DATA ORIENTATED CAATS
(1) Sorting and file organization (2) Summarization,stratification and frequency analysis (3) Extracting samples (4) Exception reporting (5) File comparison eg current masterfile to prior years masterfile (6) Analytical review eg extraction of ratios (7) Casting and recalculation (8) Examinining records for inconsistencies ,inaccuracies and missing data- and creating a report thereon
APPENDIX 1: ILLUSTRATION OF WHAT A DATA ORIENTED CAAT CAN DO:See above list XV)
NB NB DOUBLE NB KNOW VERY WELL.(1) Scan the file : and produce a report on missing fields ,duplicated item numbers , eg item no.missing/dup(2) Sort the file : by category : and total fields to determine if any has major portion : determine where to
aim audit (3) Sort the file : by location: add values and quantity fields to assist in planning stockcount attendance(4) Extract a list : items with negative quantity, or values, or unit costs : ( NB : - X - =+)(5) Extract a list : items quantity field is zero but date of last purchase is after the date of last sale(6) Extract a list : items where date of last sale is say > 9 mnths ago , but date of last purchase is < 3 mnths
ago : enquiry why ordereod? – is it because goods in stock were damaged(7) Extract a list : where date last order > 9 mnths , and date last purchase > 9 mnths : to assist in
identifying non saleable stock –which should be written down.(8) Extract a list : where date last sale or purchase after stock masterfile date : weird(9) Extract a list : random sample of items to be counted at stockcount (10) Cast : value field for total value : to be compared to trial balance(11) Compare : unit price EXCEEDS selling price (12) Reperform : Qty X Value : see where clients file has a different answer
THE USE OF MOBILE INFORMATION &COMMUNICATION TECHNOLOGY ON AUDITS. WHAT THIS TECHNOLOGY CAN DO
(1) Planning and administration (2) Review Internal control & accounting systems (3) Document & obtain evidence (4) Preparation and review of fin stats (5) Application of generalized audit software(GAS)
SECURITY IMPLICATIONS OF USING MOBILE INFORMATION AND COMMUNICATIONS TECHNOLOGY ON AUDITS.
(1) Security over workpapers: controls restrict access to audits computers& storage devices (2) Security of clients files:
SECURITY OF CLIENTS FILES:(1) Client make Backup to time of access by auditor.(2) Only audit software thouroughly tested by a computer audit specialist should be used.(ask to phone other clients he lately
used it on)68
69 69 | P a g e Auditing Notes AUDI 101(3) Full procedure should be done in presence of clints IT personell(4) The software should be read – only if/where possible(5) Access granted only to those files necessary for audit purposes.(eg debtors)(6) Clients staff should not have access to audit software(7) Own: have updated computer anti-virus same day.(both auditor and client)
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70 70 | P a g e Auditing Notes AUDI 101
CHAPTER 2: PROFESSIONAL CONDUCTCHAPTER 2: PROFESSIONAL CONDUCTINTRODUCTION THE IFAC CODE OF ETHICS
1) From june 1996 saica adopted the IFAC (international federation of accountants) code of ethics for professional accountants.So saica is using the professional accountants code now, not an auditors code.
2) Ifac places more emphasis on a conceptual framework than a rule based system: rules difficult to apply everywhere, but concept /methodogy is for everything., otherwise basicly the same as the previous set of rules saica had.
3) Parts A,B,C are form IFAC.But member countries can add country specific sections if they wish- so saica added part D.
GENERAL GUIDANCE: ETHICS AND PROFESSIONAL CONDUCT1) Saica: pre-eminent attribute of CA = skills&integrity2) Ethics: dictionary = a set pf principles, or morals, rules of conduct3) Morals: dictionary= concerned with the distinction between right and wrong,virtuous in general conduct,4) Sources for ethical guidance: corporate code of conduct
a) older leaders5) questions to ask for an ethical question:
a) Greatest good for greatest no. of peopleb) Would I be comfortable explaining my decision to a person I respected for their moralsc) Is decision honest & truthfuld) If my action to others Is it how I want others to act toward me
6) Issues affecting accountants: eg:a) Did I act independentlyb) Should I use confidential info from a client for my own advantagec) Should I report a client who evades tax to the authorities
THE PUBLIC INTEREST 1) Eg to enhance confidence of public/users : auditor=fin stats to be accurate, internal auditor=sound internal control
systems ,tax experts=confidence in tax system,mngmnt consultants=promote sound mngmnt decision making.
PRONOUNCEMENTS RELATING TO ETHICS AND PROFESSIONAL CONDUCT IN SOUTH AFRICA 1) The IFAC code of Ethics for Professional Accountants(adopted by SAICA)
a) Applies to professional accountants ini) PUBLIC PRACTICE: professional accounting firm for tax,accounting or auditingii) BUSINESS : employed by a company/government etc as accountant.iii) TRAINEES.
2) Code of Conduct of the independent regulatory board for auditors (IRBA) 3) The disciplinary rules of IRBA 4) IRBA and IFAC codes are identical in all material respects.
THE IFAC (SAICA) CODE OF ETHICS FOR PROFESSIONAL ACCOUNTANTS
1) Structure of the Code 2/5a) Part A 100-150 General application of the codeb) Part B 200-190 Professional Accountant in Public Practicec) Part C 300-350 Proff. Acc. In Businessd) Part D 400-495 Prof. Acc. In South Africa.
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71 71 | P a g e Auditing Notes AUDI 1011) PART A - GENERAL APPLICATION OF THE CODE
(A) BASIS OF THE CODE - THE CONCEPTUAL FRAMEWORK 2/5
NB (i) The code has 5 fundamental principles:
1. Integrity2. Objectivity3. Confidentiality4. Professional behavior5. Professional competence and due care
(ii) As per Conceptual framework approach-It then provides the approach they should adopt for threats & safeguards.(iii) Method:
1. Identify threats to their compliance with above2. See where threat is insignificant3. See where it is clearly not insignificant
(B) FUNDAMENTAL PRINCIPLES
NB 1. INTEGRITY
a. Straightforward honest fair truthful in professional and business relationshipsb. Should not tbe associated with info. they believe is false,misleading(omission or inclusion) or recklessly
provided.2. OBJECTIVITY
a. Should not compromise their professional or business judgement because of Bias,conflict of interest,or undue influence of others.
3. CONFIDENTIALITY a. professional accountants should not
i. * disclose confidential information acquired as a result of a professional or businessii. relationship, without specific authority or unless there is a legal or professional duty
to do so.iii. * use confidential information acquired as a result of professional and business
relationshipsiv. to their own personal advantage or the advantage of third parties.
b. 4.2 professional accountants must maintain confidentiality in a social environment and must be alert to the possibility of unintentially disclosing confidential information to friends, long-term business associates or a close family member (parent, child or sibling), or an immediate family member (spouse or dependent).
c. 4.3 a professional accountant should attempt to ensure that staff under his or her control and anyone from whom advice or assistance is obtained in respect of an assignment, respect the duty of confidentiality.
d. 4.4 if a relationship between a professional accountant, a client or employer ends: the duty of confidentiality remains.
e. 4.5 disclosure of confidential information is permitted wheni. * disclosure is permitted by law and is authorised by the client or emplcer in the case
of a professional accountant in business)ii. * disclosure is required by law e.g.iii. • providing evidence in the course of legal proceedingsiv. • disclosing infringements of the law to the appropriate public authority.v. * there is a professional duty or right to disclose e.g.
when reporting on the quality review of a member bodyvi. • in response to an enquiry or investigation by a member body or regulatory bodyvii. • to protect the professional interests of a professional accountant in legal
proceedings orviii.• to comply with technical standards or ethics requirements
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72 72 | P a g e Auditing Notes AUDI 101f. 4.6 In deciding whether to disclose confidential information a professional accountant
shouldi. consider whether the interests of all parties could be unnecessarily or unjustly
harmed by the disclosuresii. * whether all relevant information is known and substantiated (disclosing
unsubstantiated facts or incomplete information could be unfairly damaging to other parties and is unprofessional)
iii. whether the method or type of communication is appropriate and the recipient of the information is appropriate.
4. PROFESSIONAL BEHAVIOR a. 5.1 This fundamental principle requires that professional accountants
comply with relevant laws and regulationsb. * avoid any action that may bring discredit to the profession (acts in a way which
negatively affects the good reputation of the profession)c. * market and promote themselves in an honest and truthful manner
5. PROFESSIONAL COMPETENCE AND DUE CARE professional accountants are required to
a. * maintain professional knowledge and skill at a level which ensures that clients or employers
b. (in the case of professional accountants in business) receive competent professional in service
c. * act diligently in accordance with applicable technical and professional standards whend. providing professional services.e. 3.2 to maintain professional competence a professional accountant must remain abreast
of relevant technical, professional and business developments.f. 3.3 acting diligently (with due care) requires that the professional accountant act
carefully, thoroughly and in accordance with the requirements of the assignment.g. 3.4 a professional accountant must ensure that those working under his or her authority
in a professional capacity have appropriate training and supervision.
(C) FUNDAMENTAL PRINCIPLES
NB 1. INTEGRITY
a. Straightforward honest fair truthful relationshipsb. be associated false,misleading(omission or inclusion) or recklessly info.
2. OBJECTIVITY a. Compromise judgement - Bias,conflict of interest,or undue influence of others.
3. CONFIDENTIALITY a. professional accountants should not
i. disclose - without specific authority or legal or professional duty to do so.ii. use - confidential information acquired as a result of professional and business
relationshipsiii. to own/ third parties advantage.
b. confidentiality in a social environment /alert unintentially disclosing confidential info. friends, long-term business associates / close family member / immediate family member
c. staff = advisors +assistents. confidentialityd. relatationship ends: the duty of confidentiality remains.e. disclosure of confidential information is permitted when
i. permitted by law and is authorised by client or employer : disclosure is in the case of a professional accountant in business.
ii. by law: disclosure is required by law iii. providing evidence in the course of legal proceedings
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73 73 | P a g e Auditing Notes AUDI 101iv. infringements of the law to the appropriate public authority :. disclosingv. professional duty or right :there is a professional duty or right to disclose e.g. when
reporting on the quality review of a member bodyvi. investigation by a member body or regulatory: in response to an enquiry or
investigation by a member body or regulatory bodyvii. to protect the professional interests of a professional accountant in legal
proceedings orviii. to comply with technical standards or ethics requirements
f. In deciding whether to disclose confidential information: a professional accountant shouldi. unnecessarily or unjustly harmed :consider whether the interests of all parties could
be unnecessarily or unjustly harmed by the disclosuresii. substantiated: whether all relevant information is known and substantiated
(disclosing unsubstantiated facts or incomplete information could be unfairly damaging to other parties and is unprofessional)
iii. recipient+ method : whether the method or type of communication is appropriate and the recipient of the information is appropriate.
4. PROFESSIONAL COMPETENCE AND DUE CARE
a. professional knowledge and skill -at a level clients receive competent service b. technical and professional standards –act in accordancec. maintain professional competence -abreast of relevant technical, professional, business
developments.d. acting diligently (with due care) = :carefully, thoroughly and in accordance requirements
of the assignment.e. under his or her authority- appropriate training and supervision
i.5. PROFESSIONAL BEHAVIOR
a. laws and regulationsb. discredit to the profession (acts in a way which negatively affects the good reputation of
the profession)c. market and promote- honest truthful
THREATS
NB
THREATSNow that the fundamental principles have been described, it is necessary to consider the circumstances which can threaten compliance with the fundamental principles. The code categorises them as follows:1. SELF-INTEREST THREATS, which may occur as a result of the financial or other interests of a
professional accountant or of an immediate or close family member, e.g. the professional accountant has shares in a company which is about to become an audit client.
2. SELF-REVIEW THREATS , which may occur when previous work needs to be re-evaluated by the professional accountant responsible for that work, e.g. the professional accountant has written up the accounting records of a client for which he or she has also been appointed to audit
3. ADVOCACY THREATS, which may occur when a professional accountant promotes a position or opinion to the point that his or her subsequent objectivity may be compromised, e.g. a
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74 74 | P a g e Auditing Notes AUDI 101professional accountant values a client’s shares and then leads the negotiations on the sale of the client’s company.
4. FAMILIARITY THREATS, which may occur when, because of a close relationship, a professional accountant becomes too sympathetic to the interests of others; e.g. the professional accountant fails to report a fraud at a client because the perpetrator is a close friend.
5. INTIMIDATION THREATS, which may occur when a professional accountant may be deterred from acting objectively by actual or perceived threats, , e.g. a professional accountant in business fails to report a fraud perpetrated by his section head because he fears he himself will be dismissed by the section head.NOT ALL THREATS NEATLY FALL INTO THE ABOVE CATEGORIES! THIS DOES NOT MEAN THEY ARE NOT THREATS, AND MUST STILL BE ADDRESSED.
SAFEGUARDS
NB
SAFEGUARDSUnless the threat is clearly insignificant, the professional accountant is obliged to apply safeguards which will eliminate or reduce the threat to an acceptable level.1 How does the professional accountant decide whether a threat is clearly insignificant? There is no
magic formula or “hard and fast” rule. The decision1. professional judgement will be a matter of professional judgement2. public interest :must take into account the public interest — if the public interst is
threatened , it is most likely to be significant.3. reasonable and informed third party :should be one which a reasonable and informed third
party having knowledge of all relevant information would make.2. Safeguards fall into two categories
2.1 profession,legislation or regulation safeguards created by the profession,legislation or regulation eg:the Companies Act which presents a professional auditor in public practice from being a director in his/her audit cient
2.2 work environment :safeguards in the work environment : eg a company has sound procedures to protect an employee (a professional accountant in business) from intimidatory threatsfrom the employees manager
3. If no suitable safeguard can be put in place, the prof.accountant will be obliged to withdraw from the business relationship.-employee or assurance engagement.
PART B PROFESSIONAL ACCOUNTANTS IN PUBLIC PRACTICE1) This section applies to all :
a) Assurance engagements : threats to fundamentsl principles esp. significant - threats to objectivity esp., b) Non-Assurance engagements : less threats than above in most cases.
2) SAFEGUARDS: following points are important:(1) Sound Leadership in firm + Engagement team are essential.(2) Policies and Procedures must be documented +conveyed to employees regularly.(3) Disciplinary mechanism must be effective.(4) Firms employees should have a procedure for and feel safe in raising ethical issues with senior
personnel.eg: staff partner.(5) The clients structures eg: audit committees, corporate governance policies, should be embraced whenever
possible.
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75 75 | P a g e Auditing Notes AUDI 101
ONLY THE PARTS WHICH ARE MARKED NB ARE DONE ONLY THE PARTS WHICH ARE MARKED NB ARE DONE HERE : THE REST IS LEFT OUT TO END OF CHAPTER ONHERE : THE REST IS LEFT OUT TO END OF CHAPTER ON PROFESSIONAL ETHICS.PROFESSIONAL ETHICS.
a) CLIENT ACCEPTANCE: ( Section 210 Professional Appointment)i) RESPONSIBILITY : to consider if accepting would threaten compliance fundamental pricnciplesii) THREATS : integrity+professional behavior (dishonest business) objectivity( independent)iii) SAFEGUARDS :screening client- as per ISQC1+ISA220 have suitable procedures to check 1- screen 2- independence
i) RESPONSIBILITY : competent/ facilities to do itii) THREATS: professional competence & due care : threat to : “Self Interest”iii) SAFEGUARDS: prodedures+ policies by firm- enough skills on team, experts, enough time frame.
c) CHANGES IN PROFESSIONAL APPOINTMENT: i) RESPONSIBILITY :1-both accountants realize must ask & cooperate +2- confidentiality +3- ask old accountant if any
reasons why he should maybe not accept it ii) THREATS: same as for new client one +also Professional behavior: if you criticize client & new accountant.iii) SAFEGUARDS: :NEW: get clients permission and define boundries of what may be discussed : in writing to discuss his
affairs fully and freely with the old accountant- if he is hiding something he wont give this permission and probably should not be taken on.To be asked of old accountant: eg if client has poor relationships with his professional advisors. OLD:1- get client permission & boundries to discuss with new accountant in writing from client. 2- be honest and anambigous 3- assign senior to handle transition to prevent bad professional behavior eg crtitisism.
2) Section 220 Conflicts of Interest 2/133) Section 230 Second Opinions 2/144) FEES AND OTHER TYPES OF REMUNERATION
a) NORMAL FEES : i) RESPONSIBILITY: entitled to FAIR remuneration, but not OVER or UNDER charge.ii) THREATS: professional competence & due care + objectivity- low fees,quick work ; eg fixed fee for variable
hours ; integrity –not an honest practice iii) SAFEGUARDS: 1-basis of charges not fixed quote ,alert in writing to variability of hours eg problems,issues ;2-
discuss termswith client 3- assign appropriate time & experience of staffb) CONTINGENT FEES :( calc.per outcome of engagement or per transactions arising from work)
i) RESPONSIBILITY: certain typesare permitted, some not eg audit fees NOTii) THREATS: self interest threats to objectivity +integrity+professional behavior iii) SAFEGUARDS: 1-advance written agreement of basis of charges with client ,2-committee authorize all
contingent fees. 3- disclose to 3rd party users contingent nature 4-review by pro. 3rd party of your work to counter claims of fee maximization.
c) REFERRAL FEES / COMISSIONS i) RESPONSIBILITY: pro. Accountanrt may pay/charge to get/give work BUT must make sure not threaten
fundamental principles.ii) THREATS: to objectivity, pro. Competence&due care , integrity. iii) SAFEGUARDS: 1-disclose to client that you advised that you got commission for referrals 2-same rules for
areferral fee 3- committee in firm to authorize any such fees/comissionsiv)
5) Section 250 Marketing professional services 2/166) Section 260 Gifts and hospitality 2/16
RESPONSIBILITY May accept clearly insignificant gifts: as judged by a 3rd party, bt not large giftsi) THREATS : intimidation(disclosure) and familiarityii) SAFEGUARDS : quality ethics committee: approval ; notice to employees & clients of policy of not accept gifts.iii)
7) Section 270 Custody of client assets 2/17a) RESPONSIBILITY: must: ensure: separately identifiable,not from illegal sources,not used for purposes other than
intended.
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76 76 | P a g e Auditing Notes AUDI 101b) THREATS integrity,professional behavior, objectivity. (accused of misuse, money laundering,integrity)c) SAFEGUARDS: separate bank accounts,purposes it may be use for in writing,records of anything earned/done with
it etc+record available always for inspection,FICA compliant bank acc.etc8) Section 280 Objectivity — all services 2/179) Section 290 Independence - assurance engagements 2/17
a) : INDEPENDENCE HAS 3 PARTS TO IT i) Of mind : influences not affect objectivity , independence , professional skepticism eg own shares in company
etcii) In appearance: as per a 3rd parties opinioniii) State of mind & in appearance : eg: even if you can get by the 1st one , both must be true – so if a 3rd party
would say not look like it , then it is not , even if you made a plan somehow.10) See detailed index on the following page11) DEFINITIONS:
a) Financial interest: i) An interest in an equity or other security,debenture, loan, other debt instrument of an entity,including rights
and obligations to aquire such an interestb) Direct financisl interest:
i) A fin intyerst owned directly by or under contrilled of an individual or entiyyii) Fin interst beneficially owned through an investment vehicle (eg yunit trust fund,trust, estate etc) which is
controlled by the individual or entity.c) Indirect financial interest:
i) Fin interst beneficially owned through a collective investment vehicle (eg unit trust fund,mutual fund) over which entity/person has no control
ii) Immediate family: spouse or dependantiii) Close family : parent, child or sibling who is not an immediate family memberiv) Listed entity :company whose shares or DEBT is listed on a recognized stock exchange. Eg JSE.v) Network firm : part of the company eg subsidiary : ie under 1-common control, 2-common ownership 3-
common management: as per a 3rd parties judgement.d)
PART C - PROFESSIONAL ACCOUNTANTS IN BUSINESS12) Section 300 Introduction 2/3613) SECTION 310 POTENTIAL CONFLICTS 2/36
a) RESPONSIBILITY: COMPLIANCE WITH FUNDAMENTAL principles threatened by conflict withj interests of company b) THREATS: intimidation or all other principles
i) Laws: don’t pay PAYE.ii) Professional standards : awarding tenders because intimidation by GMiii) Unethical/ or illegal earnings strategies- eg illegal productsiv) Lie/intentionally mislead (incl. remain silent) 1-auditors eg fictitious sales2- regulators eg customsv) Issue or be otherwise associated with a financial or non financial report that materially misrepresents the facts :
eg for good ratiosc) SAFEGUARDS: 1-access to those charged with corporate governanceeg audit committee/independent director 2-
SAICA etc .advice 3-formal dispute resolution process in the company14)15) Section 320 Preparation and reporting of information 2/3716) Section 330 Acting with sufficient expertise 2/3717) Section 340 Financial interests 2/3818) Section 350 Inducements 2/3819) 2/1
PART D - PROFESSIONAL ACCOUNTANTS IN SOUTH AFRICA20) Section 400 Joint and vicarious liability 2/3921) Section 410 Tax practice 2/4022) Section 420 Insolvency practice 2/4123) Section 430 Discrimination 2/4224) Section 440 Cross border activities 2/4225) Section 450 Publicity, advertising and solicitation 2/4326) Section 460 Responsibilities to colleagues 2/4427) Section 470 Recruiting 2/4428) Section 480 Signing of reports or certificates 2/4529) Section 490 Stationery and letterheads 2/4530) Section 495 Inclusion of the name of a professional accountant in public practice in a
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77 77 | P a g e Auditing Notes AUDI 10131) document issued by a client 2/4532) THE CODE OF PROFESSIONAL CONDUCT (IRBA) 2/4633) THE DISCIPLINARY RULES (IRBA) 2/4734) DETAILED INDEX FOR SECTION 290 - INDEPENDENCE35) Introduction 2/1736) Structure 2/1837) Definitions/Terminology 2/1838) The conceptual approach applied to independence 2/1939) Illustrative examples 2/2040) I. Financial interests in an assurance client 2/2141) 2 Financial interests in financial statement audit clients 2/2242) 3. Financial interests in non-financial statement audit assurance clients 2/2343) 4. Loans and guarantees 2/2344) 5. Close business relationships with assurance clients 2/2445) 6. Family and personal relationships 2/2446) 7. Employment with assurance clients 2/2547) 8. Recent service with an assurance client 2/2648) 9. Serving as an officer or a director on the Board of an assurance client 2/2749) 10. Long association of senior personnel with assurance clients 2/2750) 11. Financial statement audit clients that are listed entities 2/2851) 12. Provision of non-assurance services to assurance clients 2/2852) 13. Preparing accounting records and financial statements for an assurance client 2/2953) 14. Valuation services 2/3054) 15. Provision of taxation services to a financial statement audit client 2/3055) 16. Provision of internal audit services to a financial statement audit client 2/3056) 17. Provision of Information Technology services to a financial statement audit client 2/3157) 18. Temporary staff assignments to financial statement audit clients 2/3158) 19. Provision of litigation support services to a financial statement audit client 2/3259) 20. Provision of legal services to a financial statement audit client 2/3260) 21. Recruiting senior management on behalf of an assurance client 2/3361) 22. Corporate finance and similar activities 2/3362) 23. Fees and pricing 2/3463) 24. Gifts and hospitality 2/3564) 25. Actual or threatened litigation between the firm and an assurance client 2/35
COMPANIES ACT: May not be auditor:1) Director.officer,employee of company2) Director.officer,employee of company or of any company offering secretarial work to the company.3) Partner, employee,employer of any director of the company4) Person or partner or employee of regular bookkeeper/sectetearial work of company.5) At any time in fin year was a director or officer of company.
a) Unless : if hav=bitually a bookkeeper/decretary: i) Private companyii) Shareholders agree writingiii) In audutiors reportiv) No shares owned by public companyv) Auditor registered IRBA
1) Rotation of auditors: 5 yrs , or if >2 yrs, then stop , then must wait further 2 years.2) Removal of auditors: auditor appointed casually or by directors or first appointment – can be removed on 28 days
notice ,before AGM umless he suspects any reportable irregularities.,
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78 78 | P a g e Auditing Notes AUDI 101a) BUT auditor normally appointed may not be removed exept at AGM by ¾ majority of those present
3) Right of access by auditor: at all times & may require explanations as he /she thinks necessary of directors& officers.BUT: audiror of Holding company ONLY has access to old Financial Stat. of subsidiary , not books /records books and records or premises of company : because he is not the auditor.But he may require explanations + REQUEST INFORMATION from the directors of the subsidiary company as he deems necessary.
4) General Meetings of company for Auditors : auditor has right of access to ;i) Attend all such meetingsii) Receive all notices regarding such meetingsiii) Be heard at such meetings on any business of the meeting which CONCERNS HIM AS AUDITOR.
5) Auditors duties : report on all such matters said by act or any other acts.a) Examine afs and gafs to be laid before AGMb) Ensure proper acc. Records and returns received from branches not visited.c) Minute books and attendance registers of meetings kept as requires by actd) Register of directors interests in contracts have been kept.and entries agree with minutes of meetings.e) Existence of securitiesf) All info + explanations auditor deems necessary.g) AFS in accordance acc. Records& returnsh) Gafs comply with acti) Tests to Gafs &Afs fairly presentj) Directors report – conflict fair presentation / distort meaning of fin statsk) Not carrying on business+ no intention= report to registrarl) Comply any other duty imposed by act on himm) Comply auditing profession act
6)CC Act1) Founding statement: basic document bring cc into being = memorandum of company but simpler
i) Name ii) principle businessiii) postal + physical addressiv) full name + ID of each memberv) % of each members interestvi) Contributionvii) Accounting officers name& addressviii)Fin year end date.
2) Disposal deceased members interest:a) Executor to heir if he qualifies(not mad)+ other members consent b) If no consent in 28 days : he may sell it to
i) Corporation(cc)ii) Any other remaining memberiii) Any other person who qualifies both ways as above.( if members disapprove then may purchase
themselves)3) Cession of membership by order of court: on application to
a) Incapable of performi9ng role eg unsound mindb) Guilty of conduct prejudicial : eg reckless/negligencec) Impractical to other members: eg such member never presentd) Other circumstances render just & equitable to cease to be eg acts in own interests detriment cc.All For ‘not pull their weight’ , and also court decides on payment+ method of purchase.
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79 79 | P a g e Auditing Notes AUDI 101
CHAPTER 9 : NETWORKING.(CH9 IN BOOK)CHAPTER 9 : NETWORKING.(CH9 IN BOOK)
INTRODUCTION: 1) In large companies access to computer resources must be controlled:
a) For 1-tapping the Telephone lineb) 2-points of access plugsc) Maintaining the
i) 1-integrity and ii) 2- security of data actually transmitted
2) Auditor is not a expert BUT must call on experts if need be! For technical stuff.
TRENDS IN IT 1. Move from mainframes to personal computers-move to end user computing-processing power +storage-division of duties&data
integrity and confidentialtity under threat if correct controls not put in place (due to everybody has access now,not just 1 central mainframe)
a. Auditor benefits – uses laptop computers2. Client-server architecture : simplest is a LAN, applications+databases scattered throughout organization,same implications for
auditor as in introduction above.3. Open sytems: many applications all use same standards, so communicate/exchange data easy.eg word+wordplus+others. Has
implications for auditor.4. Image processing: scan backups for audit trails5. CD,USB,DVD : opportunity&threat= + easy to store stuff for auditor.& stealing info6. Smartcards: contains microprocessor, not magnetic stripe.= better controls-(storage+processing) 7. Communications technology: EFT,EDI,wireless etc.8. Web enabled: access application via the internet.
NETWORKS 1) Why we have them: Comes from people wanting to share printers,so to buy less printers, now expanded to any resource incl.
processors/database etc etc.
DEFINITIONS: 1) LAN: local area network : is a Data Communications System, links independent resources, normally by cable,in a small geographical
area/building.For 1-share resources+ 2-communicating.2) WAN: wide area network : same as LAN, exept :
a) Wider geographical area – Eg: to Branches/trading partners(use EDI)/service providers(banks).b) Extra resources eg: routers,gateways,bridges.c) Additional considerations: - see cost/security/access control to use either
i) Use leased line ORii) Switched line ORiii) Lines in analogue(needs modems to convert to computer digital) or digital(uses diginet connections).
3) VAN: value added networks: Business entities which provide a message transmission service: they connect you to 3rd parties/ or trading partners for a fee so you don’t have to buy expensive equipment.
4) VPN: virtual private network: uses encryption to provide a secure ‘tunnel’ using the internet to connect companies to remote offices/users.Cheaper than leased/owned lines.
5) Internetworks: signify linking of LANS,WANS, to many other LANS,WANS, also to mainframes,PCs etc. Risks remain same.6) Server : Powerful microcomputer which controls the usage and makes available to the network : a particular resource eg; printer/ files/e-
mail etc. and makes it available.7) Distributed Processing: where 1-processing + 2-storage is distributed amoungst a number of different computers and processors and could
take place on various remote sites, not just on 1 easily controlled site.1-Security of link + 2-Access control is very important.
AUDIT IMPLICATIONS OF NETWORKS: Auditor is interested in the VAC of the data produced by the system. Following points he is interested in:
1) Access control : (Validity) :
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80 80 | P a g e Auditing Notes AUDI 101a) each new user in a system increases chance of data being /invalid. And integrity of programs or data.Distributed
processing+networking increases problem. Via laptop in socket or bona fide pc. in socket.b) ACCESS CONTROLLS used :NB…………(note- majority of fraud is from internal statisticly)….
i) Sound General Controls: eg: control environment,policies& guidelines, trustworthy personnel,ii) +Physical Access controls: eg payroll clerk locks office when out, plus strong office security.iii) +Logical Access Control: : at 1-system+2-application level by.
(1) Identification of users+(2) Authentication of 1Users + 2Computer Resources(3) Authorisation : define level of access granted to 1user or 2computer.(4) Encryption (5) Logging
2) Security and accuracy/completeness of the data in the communication channels: a) Long lines in network gives lots of place for hackers to get access.b) CONTROLLS used :NB
i) Physical & Logical access controls to Telephone Lines.ii) “Call Back” facility : Once connected , then the bank cuts connection and redials users stored number- so hackers will be left out.iii) Lockout after 3 unsuccessful login attemptsiv) Use Industry standards – to ensure network is developed in right way.v) Use Sophistcated User Authentication techniques designed for network/distributed processing environment.vi) Encryption methods: eg public key or private key.vii) Network monitoring devices : cuts off vulnerable devices/logs anauthorised access.viii) Firewalls: to secure a protected environment.
c) ACCURACY & COMPLETENESS of DATA. NB i) Communication Protocols: international standard developed to facilitate communicationii) Auditor is less concerned with this and more with VAC of input/processing and output.
DATABASES DEFINITIONS1) DATABASE : pool of interrelated data stored/structured/managed in such a way that:
a) Duplication is minimizedb) Contains all: information needed for use by sharing in common programs&usersc) Quickly accessable : by all authorized usersd) Simultaneous : accessability by many users with the same view in spite of updates which are in progress.e) Provides sharing : by many users eg Microsoft SQL
2) DBA : database administrator : he manages the database.Duties include:a) Define access priviledges of database usersb) Design, definition,maintenance of database.c) Backup and recovery ; define and control
3) Data Ownership: NOT the DBA , BUT the person he gives some ownership to: ie: the database DBA grants ownership of certain data to certain users eg credit controller-creditors.Then they are allowed to tell administrator who may access that data and who may not.Promotes integrity of the database.
4) Database structure: either Hierarchical or Network or Relational.5) Data Sharing: ability of different users on different applications to use same data for different purposes: eg qty on hand used by stock
controller+buyer each for own thing.6) Data Independence: it is independent of a specific application- can be shared by many applications7) Datawarehouse : a very large database with many records,from many different applications , also used for management reports.
AUDIT AND CONTROL IMPLICATIONS: 1) General Controls must be assessed (control environment,policies+guidelines,trustworthy personel)2) DBA ‘s function must be assessed:
a) Data ownershipb) Access controlsc) Effectiveness+reliability of DB in 1-access+2-updates assessed by
i) Use SQL language &utilities to check upii) Attempt anauthorised access( both by computer audit specialists)
d) Standards : asses adherence to standards of program 1-development& 2-changes adherence)(used by many-no stuff ups)e) Segregation of duties of : 1-design 2-implement 3-operate 4-use database for integrity+VAC of DB.eg programmers do not update
data on database. Assess by 1-inspect organisational charts 2- observation & enquiry
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81 81 | P a g e Auditing Notes AUDI 101
ELECTRONIC MESSAGING SYSTEMS 1) Definition: involves communicating, transacting or recording Electronicly instead of paper based.Two common forms:
a) EFT: electronic funds transfer: transfer money from one account to another by electronic instructionb) EDI : electronic data interchange :TRANSACT or TRADE electronicly via links between their computer- By 1Van, 2Direct Link or
3Internet.2) Benefits: from Characterristics/
a) Characteristics are: Speed , Minimal Paper use , less Repetition of Data. So benefits are:b) Benefits are :lower costs, quicker response times, fewer errors.
3) Risks: a) System failure =loose customer confidence,fail supply deadlines etc.b) Loose confidentiality = of “interchanged’ datac) No Stopping Payments = No Manual controls to stop eg cheque- EFT is gone.d) Reliance =on Networks+ Data Communications.e) No audit trail = no paperf) Legal liability Issues =: eg loss of supplier data : responsible VAN,company A , or B, or Communications provider?
4) How Electronic M.. S.. works: a) Either you do it manually or you place orders and send invoice, statement, payment etc etc electronicly.Can use a VAN to store these
messages and re-transmit them or direct link/internet etc.
AUDIT AND CONTROL IMPLICATIONS OF EDI:1) Basic requirements of internal control do not change: all transactions must be VAC .2) Approach to use here: identify risks/objectives and then determine control procedures most appropriate.
a) NB: Risk/Objective = Continuity : i) Control = Normal General Controls incl.
(1) Physical protection(2) Backups and Redundancy(3) Disaster recovery plan
b) NB: Risk/Objective = Fraud /Error : i) Control =
(1) Segregation of Duties by physical & logical access controls.(2) Trustworthy & Reliable Staff.(3) Supervisory Control: supervisor must add his code as a signature to authorize each transaction.
c) NB: Risk/Objective = New EDI sytem implementation.i) Control = normal systems controls apply
(1) Standards (apply, not not)(2) EDI CHAMPION (appoint one)
d) NB: Risk/Objective = Confidentiality/Unauthorised accessi) Control = Normal access control principles apply
(1) Apply Network specific control principles( as earlier in this chapter)(2) Particulary important is encryption.
e) NB: Risk/Objective = Loss of manual controlsi) Control = add corresponding program controls eg:
(1) Check digit in Acc. No’s.(2) Reasonableness check(3) Missing data checks, etc.
f) NB: Risk/Objective = lack of Audit Traili) Control =
(1) Logs(2) Reports on transactions timely+adequate to ID + treat problems.
g) NB: Risk/Objective = Legal Liabilityi) Control = Use standard EDI trading contracts for defining resposibilities & penalties.
h) NB: Risk/Objective = Use of a VANi) Control = Must insist on:
(1) VAN contract for defining duties& liability/penalties of VAN(eg security/message format etc).(2) Independent verification from time to time of VAN.(eg access to your messages,logs etc)
EFT : ELECTRONIC FUNDS TRANSFER3) 2 Important points to remember with EFT:
a) It is Transfer of CASH : in a flash – so bad controls =gone.
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82 82 | P a g e Auditing Notes AUDI 101b) 1 function in a CYCLE: eg wage cycle – all controls contribute to VAC of payment.
4) Whatever the system : EFT payments should be in 4 steps:(eg for a wage payment system)a) MASTERFILE AMENDMENTS:
i) Any amendments to it must be VAC – V=not ficticious employee A=no errors on account details of employee C-…..b) PREPARE THE EFT PAYMENT ( before the payment):
i) Payments to be made must be VAC : (1) V= fin.Accountant must authorize it –AFTER CHECK supporting DOCS etc.(2) A=fin.Acc should TEST COMPUTATIONS on payroll before authorizing.(3) C=fin Acc. Should CONFIRM NO. OF TRANSFERS = No. of employees.(4) NOTE: just examples- the full range of controls to be effected befor payment is in the ‘Cycle’ chapters.
c) EFFECT THE PAYMENT: following controls to be effected: i) NO. OF PC’S FROM WHICH TRANSFER can be effected to be restricted.(try 1 only?)ii) 2 PASSWORDS FROM 2 DIFFERENT senior personnel required to effect a transfer.iii) Bank to identify terminal PC first eg: ‘CALL BACK’iv) Auto ACCOUNT LOCKOUT AFTER 3 unsuccessful attempts.v) LOGS + FOLLOW UPS of security violationsvi) Full range of PASSWORD+IDENTIFICATION controls.vii) LEAST PRIVILEGE principle. Eg: wage clerks cannot do internet transfers.viii) ONLY POSSIBLE TRANSFER FROM MAIN TO CLEARING (1 for wages, 1 for purchases etc) accounts at same bank- from MAIN
never /not to any other accounts at all exept ‘clearing’ one.(even up to point that - main account is NOT internet enabled – only debit orders allowed here and then also only to clearing accounts-or similar -or you must go into bank itself etc etc .)
ix) All payments eg: wages to be made ONLY FROM “CLEARING” acc.x) TRANSFERS LIMITED EG: ONLY ON 23 RD allowed to clearing account, or only Fridays for Wages etc.xi) BANK ACKNOWLEDGE+RETRANSMIT info (eg to fin.acc + also another accountant/manager etc) for final confirmation before
transfer to employees bank account.xii) ENCRYPTION.
d) AFTER THE PAYMENT: Controls to ensure that transfers actually made WERE VAC. i) System MUST supply an AUDIT TRAIL of all EFT’s made to date.(Hardcopy or Onscreen)ii) Audit TRAIL TO BE REVIEWED BY SENIOR personnel and tied back to “client held” documentation.iii) BANK RECON by NON -EFT function person.
THE INTERNET 1) Started as ARPANEt- many LANS,WANS etc.2) Virus,confidentiality,corruption of data+PROGRAMS,3) Certain protocols for different types of service, some are more safe than others.Different services are:
a) WWW : uses http/ https (secure) ,hypertext transfer protocol. to market products/sell 24/7 /source of info./download products=music/articles etc.
b) E-Mail : uses smtp=simple mail transfer protocolc) File Transfer : uses FTP/ SFTP ,file transfer protocol.d) Remote terminal access+command execution: as if you were on that terminal.
RISKS AND CONTROLS:TRADING ON THE INTERNET:Apart from usual controls, the following is just a part of the whole cycle as usual in sales etc: so use the usual controls + these:
RISKS CONTROLS1 Electronic communications and Transactions act.(ECTA)
Employees/consultants to monitor AND implement compliance.
2 Link-allows unathorised access Virus,data/program corruption,loss confidential:CONTROLS=1. Configure system to restrict access granted to outsiders by link2. Store +Process sensitive stuff on separate non-connected system3. Firewalls to restrict route.4. Use eg: Web marshall/Mail Marshal = internet+e-mail monitoring software to
1-Log all web sites accessed 2-block web sites 3-control address/lenghth/content of e-mails. 3-virus scan all incoming 4-encrypt 5-control delivery to specific PC’s.
3 Non -Payment Before dispatch : verify customer strong possibility will pay.-ID+auth. BY:1-get ID no/credit card no. and give customer a log in password. 2-challenge-response question(security question)3-e-mail address to alert customer of transactions on his account or verify and foil fraud use of anothers e-mail. 4-restrict payment to credit card only(supposedly bank has his details etc-but seems a bit dof ) 5-For credit sales all normal creditworthiness controls must be done+ ID&auth.
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83 83 | P a g e Auditing Notes AUDI 1014 Info could be missing=cannot fill order-unhappy customer
Adequate input& reasonableness checks eg:1-well designed web pages with spaces for all info. +EASY TO FOLLOW.2-minimum input eg click description of product- NOT type it in! brings up item no. etc.3-program check eg alphanumeric/mandatory fields etc.
5 Unauthorized disclosure of customer info. or data integrity loss on transmission
Use transport layer security techniques.eg 1SSL etc. 2- info is re-sent to customer to confirm it after input(confirmation page)3-logs checked to see if all transmissions sent were received.
6 Customers chased by suspicion of malicious code/or non-legitimacy of business.
1-Verify company using Thawte/Verisign/ 2-display privacy policy3-secure web applications by specialists: ID+auth. ,input validation, reasonableness check
7 Lack of availability of 24/7/365 Lost /unhappy customers prevented by reputable service provider
1-inhouse specialists –user friendly,up to date,attractive.2-Redundancy&disaster recovery
8 Incorrect Pricing Reputable staff + info. systems who can :1-Must calculate all costs of webstore carefully, also not compete with own retail stores.2-Set prices correctly
9 Risks of international trade, unless country blocked to SA only:
Reputable staff to ensure: 1-reliable delivery 2-policies +procedures to avoid contravening customs/financial export/etc
10 Inadequate Audit Trail prevents adequate defense against claims
1-digital signatures2-time stamping3-software which logs all transactions.
COMPUTER BUREAUX 1) Is a business which processes other entities data for a fee.Provides hardware,software,skills. You don’t have to pay for staff& equipment.2) Options:
a) Facilities Mngmnt : -your equip., they look after it at their premises.b) ASP: application service providers- entire service for an application is provided by themc) Full Outsourcing: All IT services are provided by the bureau.
3) Used by some to enhance confidentiality eg: salaries processed offsite.
AUDIT IMPLICATIONS:1) Adds another dimension to accounting system to be controlled.2) Auditor must evaluate bureau3) Data must still be INPUT ,PROCESSED ,OUTPUT – with all same controls by client or bureau- one of the two!4) Auditor MUST do the following:
a) Assess bureauxs suitability.-i) it is relying on an expert, so their 1-competence 2-independence 3-stability 4-range of services 5-reputation for confidentiality 6-
security arrangements of bureau 7-deadlines efficiency&responsibility 8-up to date and reliability+check any independent evaluations done on them,read correspondence emails with them,professional bodies etc.
b) Evaluate bureauxs agreement/contract.(learn-very large thing in book-could ask just this)i) Reference in dispute: must cover: 1-liason2- describe input/process/output 3-deadlines&consequences 4-clients + also 5 bureaus
responsibilities 6 back-up processing arrangements. 7-auditors access to 8-training 9-fidelity&10 other insurance 11-basis of fee etc
c) Evaluate controls of client over functions which are the clients responsibility.i) IE: by observation,enquiry,inspection,reperformance.
VIRUS 1) DEFINITION: it is a program SPREADS from 1 computer to another, EVENTUALLY performing the ILLICIT function for which it was intended.
Each virus works INDEPENDENT of original. Common to SPREAD BY e-mails.2) Viruses extra likely in high network environment eg internet.
CATEGORIES OF VIRUS:a) DESTRUCTIVE:
i) Massive destr. : unrecoverable data damage
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84 84 | P a g e Auditing Notes AUDI 101ii) Partial destr: erase portions of storageiii) Selective destr: erase specific filesiv) Random havoc: change random data/keystrokes/input or output data.v) Network Saturation: overload crash
b) NON-DESTRUCTIVE:i) Annoyance : display messages/change screen colour/change keystrokes(eg ALT/SHIFT combination)/delete chars. etc.
KINDS OF a) Trapdoor = code causes extra illicit password/entry doorb) Worm = code spread through a networkc) Trojan Horse = code copies eg passwords as typed ind) Logic/Time bomb – sets off at date/event does some illicit thing
AUDIT AND CONTROL IMPLICATIONS:1) Security system which includes following controls must be instituted.
a) Regular backupsb) Anti-virus updated all PCsc) Scan in/out e-maild) Reputable software suppliers e) Examine carefully all new purchased software/ first load on separate PC.f) Users informed of data security g) Users: instructions not open e-mail from unknown/suspicious sitesh) Access restricted to authorized personell- also accountable for their PC’s
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85 85 | P a g e Auditing Notes AUDI 101
CHAPTER 10 : REVENUE AND RECEIPTS CYCLECHAPTER 10 : REVENUE AND RECEIPTS CYCLEACCOUNTING SYSTEM AND INTERNAL CONTROLS: INTRODUCTION:1) The Revenue and Receipts cycle is sometimes also referred to as the : SALES and COLLECTION cycle.2) This cycle deals with ACCOUNTING system and related controls pertaining to it.3) The MAJOR Activities of a (credit) REVENUE AND RECEIPTS CYCLE are:
i) Receiving Customer Orders –phone/internet/written/counter etc.ii) Authorising the Sale -creditworthy/and in stockiii) Processing the Order -manual pickingiv) Despatch -releasing+collect/courierv) Invoicing - vi) Record Sales and Raise Debtors.- vii) Receiving and Recording Payment from debtors.-
4) The MINOR Activities are:i) Goods returned Controlii) Credit Notes passingiii) Discounts granting on paymentsiv) Bad debts – writing off and considering.
DOCUMENTS USED IN THE (REVENUE+RECEIPTS) CYCLE
1) Customer order: customers instruction2) Internal sales order : sales clerk for picking+records3) Picking slip : 4) Invoice :sent(say all details in exam)5) Delivery note: signed by customer,details to delivery list to schedule6) LIST :Statement: month end(say all details in exam,Ob+Cbalance+ageing+pay received+credit notes)7) Credit application form : trade references,income+expenditure,bankers,details,credit bureaux8) Receipts9) Remittance advice: from customer, advises which Precisely accounts being paid10) LIST :Remittance register: lists all payments received by company11) Credit note: acknowledge customers account reduced(we cr your dr) for all exept pay received12) Deposit slip: bank document deposit …13) LIST :Price lists: …referred to by sales clerk14) Back-order note: a slip/doc,ONLY goods in orders which could not be supplied… filed+regular review to check if ordered.15) Goods returned voucher : made by company, records returns.16) ALSO: Sales,Cash Receipts,”Sales returns+allowances”,JOURNALS + debtors ledger.
CHARATERISTICS OF GOOD INTERNAL CONTROLAll normal good internal control characteristics –here applied to Sales&rec.cycle like this:1) Control environment:
i) Over receipts particularly strong +ii) protection of debtors(eg crook deleted etc)
2) Competent trustworthy Personnel:i) Emphasis – those access to cash+cheques
3) Segregation of Duties:i) Basic= points 1-7 in basic activities of r&r cycleii) 1Receive payments /from/2Banking cash /from/ 3Recording writing up / from 4Reconcilliation
4) Isolation of Responsibilities:i) All docs in cycle signed to indicate a control procedure has taken place.ii) + Important: As goods move: check/count them +sign for receiptiii) +Important : As Payment/cash move …..mailroom to cashier …sameiv) Creditworthiness check-per order-before process -controler signature.
5) Access/Custody control:i) Cashier protected
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86 86 | P a g e Auditing Notes AUDI 101ii) Cheques crossed after receipt ( if stolen cannot..)iii) Debtors ledger (destroy/altered)iv)
6) Source document design:all docs in cycle7) Comparison and Reconcilliation :Frequent & timeous of
i) Orders placed TO orders Processed/invoicedii) Invoices TO Payments receivediii) Debtors ledger TO General ledgeriv) Bank statement TO Cash records
8) ?????
FLOW CHARTS AND DESCRIPTION OF THE CYCLENOTE: For every single controls column below , ADD: employees must sign docs to acknowledge control procedures they have conducted.( as per book vertabim)FUNCTION Descr. DOCUMENTS RISKS CONTROL PROCEDURES
1-only account holders2-sequential numbering3-attach customer order to internal sales order-cross check details if practical4-phoneorders: get 1-acc.no; 2-customer ref.no. ;3-confirm details by ‘read back’ 5-order clerk sign ISO,s indicate cntrl procedures done6-regular sequence check ISO’s (C=complete) + + + + matched to delivery notes find those not acted upon.7-order clerk check vAc right customers ‘items’ details
2-Sales Authorisation (order dept)Authorising the Sale
Old=not exeed limitNew=creditworthy
Credit applicationDebtors ledger
Not creditworthy-will not pay
Old Customer:1-credit contrlr check (a) fictitious details(b)credit status fine from balance&terms on file2-ISO’s(picking slip) Credit Cntrlr authorize by sign first.New Customer:1-must fill in bank details,trade references,+inc&exp details2-credit cntrlr follow up credit bureau, trade references,assess liquidity.3-Limit set by credit contrlr. And approved by fin.manager.
3-WarehouseProcessing the Order
Ensure only authorized orders are acted on
Picking SlipDelivery NoteBack Order Note
1-picking slip not picked2-pick for fictitious / unauthorised sales3-pick incorrect item/qty 4-delivery note inaccurate/incomplete5-‘out of stock’ items not shown on picking slip.6-customer not notifed of “out of stock” items-
1-picker initial each picked item, and tick items unpickable out of stock2-warehouse foreman-check all items picked supported by signed picking slips.3-stores clerk to: i)check goods picked to picking slip ii)prepare delivery note from picking slip+cross reference iii)prepare back order slip + cross reference iv)back order copy to order clerk to notify customer v)back order copy to buying dept.4-order clerk follow up back order, confirm send again when arrive5-delivery notes &picking slips filed numericly – follow up unmatched to check for picked/sent
4-DespatchDespatch
Delivery noteList of Deliveries
1-theft from uncontrolled dispatch2-Dispatch errors qty/item/customer3-customers deny receiving4-released from warehouse but never despatched.
1-on receipt by dispatch clerk (a)check qty/item against 1picking slip 2delivery note (b)sign picking slip&delivery note show receipt (c)keep 2 copies of delivery note,return picking slip to warehouse 2-double check against picking slip when packing,also check address3-clerk prepare 2 part delivery list, match goods+Delivery Note eg: Delivery Note a447… 5 boxes.4-delivery staff sign delivery list show receipt (after check) of goods+delivery notes, give to dispatch clerk,+keep 1 copy
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87 87 | P a g e Auditing Notes AUDI 1015-gate control dtae stamp both copies of delivery note after check goods vs 1delivery notes+2delivery list(no gate control then dispatch controls must be very tight)6-customer sign both copies of delivery note, keep 1 ,1back
5-invoicingInvoicing
Return of delivery note match to ISO and produce invoice.
1-Sales invoice2-Price lists
1-Goods not invoiced2-Inaccurate invoice
1-copy of ISO temporary in numerical order in invoicing dept.2-as signed delivery notes received filed sequentially & match to ISO(is it then removed to where from file)3-ISO’s remaining in temporary file investigate frequently.4- matched delivery notes file sequence tested, gaps check5-invoice clerk:
i) check details ISO vs INVOICEii) check prices vs price&discount listsiii) make sequenced invoice cross-reference to
1-invoices are omitted from sales journal2-inv. Duplicated in sales journal3-inv.inaccurately entered in eg 45 as 4504-inv.entered against incorrect debtor
1-invoices entered in sales journal in numerical sequence only a)sequence continued from period to period b)cancelled invoices to be recorded in SJ -as “cancelled”-no missing a number2-batch control sys- total “invoices” before entry/ then after entry total the “sales journal” to check entries.3-independant employee to: recon1 a)sequence check SJ entries+follow up missing b)compare SJ customer name+amount to invoice c)check SJ to “GL & DL”4-other independent employee recon 2 DL to GL regular
7-Receipts Mail room/ CashierReceiving and Recording Payment from debtors.
1-payments received not banked due – (a)carelessness or (b)theft
1-Post opened by 2 people2-Post payments into remittance register by “openers”3-Prenumbered receipts for all pay received(or at least for cash)4-bank receipts daily5-Bank deposit slip by CASHIER- NOT employees opening post.6-cashier recon 1 remit.register vs cash&cheques & sign it.7-independent employee remittance register& receipts issued recon 2 to bank deposits.
8-Recording of ReceiptsReceiving and Recording Payment from debtors.
Record debtors in CRJ & credit debtors accounts promptly Total received for period then posted to GL control acc.
1-deposits not recorded/or timeously2-recorded deposits may (a)inaccurate (b)overstated(fictitious) (c)cr to wrong debtor
1-CRJ daily by date & number from receipts (if rec. issued)2-Queries from debtors : by person independent of 1’debtors’ & 2’banking&recording of cash functions.’3-recon1 bank statement TO cash book mnthly + independentof banking&recording employee + reviewed by senior official.4-recon2 CRJ supervisor (a)CRJ vs gaps 1dates 2sequential (b) test CRJ to DL5-recon3 DL to GL control acc. Independent employee regular
9-Goods Returned by Customersee 4 minor activities in the cycle for this one
1-Goods returned voucher2-credit note3-Returns&allowance journal4-debtors ledger5-general ledger
1-desc. & qty of the actual goods returned incorrect- causes an incorrect credit note be passed2-credit note passed for goods not returned3-credit note recorded inaccurately/or to wrong debtor
1-all ONLY received by “Goods receiving Dept.”2-goods receiving clerk must: (a)check qty+descr. +damage (b)make goods retuned voucher+ cross reference it to customer documentation (c)sign customer docs. +keep copy+attach to GRVoucher3-transfer receiving TO warehouse: clerk (a)check qty+desc to GRVoucher (b)sign4-Credit notes to be:
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88 88 | P a g e Auditing Notes AUDI 101 (a)ONLY made by Accounting dept (b)cross-reference to original invoice (c)supervisor check GRV+credit note+signed customer docs –check policies(eg: in 30 days only) +valid (d)5-sequential in Returns&Allowances Journal and normal control procedures over recording put in placeeg check gap6-senior fin. Manager regular check Journal +follow up suspicious(eg large amounts, regular same customer, etc)7-Not to mix up damaged with other stock
10-Credit Managementsee 4 minor activities in the cycle for this one
All record in cycle are relevant+monthly statements+age analysis+credit bureau information
1-debtors do not pay/pay late2-debtors prematurely or inappropriately written off3-debtors written off without authority.
1-credit application controls same as in ‘sales authorisation’2-monthly statements to be sent promptly to all debtors3-monthly age analysis+ follow up by phone/letter if exceed4-if not successful- credit manager contact to re-negotiate terms or threaten hand over debtor.5-hand over before too long period elapsed(prescription..)6-write off recommend credit manager , authorize independent senior financial employee.7-recon 1 : credit manager recons write offs TO supporting docs, after entered in journal.8-REPORT: senior fin manager: regular: age analysis,write offs,how overdue’s are being handled,bank,debtors balance,list of debtors.
AUDITING THE CYCLE:1) SPECIAL INTERESTING CHARACTERISTICS OF THE REVENUE AND RECEIPTS CYCLE:
After assessing the risk at FinStat AND at assertion(eg complete/exist/occour ..ance) level, auditor gets idea which of following is more likely to occour.a) Debtors Amount : this cycle produced what is frequently a very significant figure on the balance sheet. (fraud/errors etc)b) Sales : it produces the figure from which Profits & Losses originate. c) The Overall Risk in this cycle can be looked at in 2 ways:
i) Understate SALES: mngmnt tempted to understate for (1) TAX & REDUCED PROFITS particularly with large cash sales.(2) ‘hold back’ by moving to next year , to get off to a good start for next year ( if large slaes this year)
ii) Overstate SALES: mngmnt overstate to : by ficticious paper sales OR pre-invoicing (year-end more)(1) Meet sales targets(2) ‘Ratios’ by manipulate ‘debtors’
FINANCIAL STATEMENT ASSERTIONS -IN THIS CYCLE-(ISA 500)The directors of company are ‘ASSERTING’ 1) SALES: (transactions)
a) Completelessb) Occourancec) Accuracyd) Cut-Offe) Classification (proper accounts)
3) 1-DEBTORS 2-BANK/CASH (balances)a) Existence (like ‘occourance‘ but goes for events)b) Rights: (entity had the rights, and they were not encumbered in any way – OR it should have been disclosed)c) Completeness (at bal. sheet date)d) Valuation : 1-Prov.BadDebts 2-Bank/Cash balances
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89 89 | P a g e Auditing Notes AUDI 101
4) PRESENTATION and DISCLOSURE:a) Completeness (in terms of the 4th schedule and the financial reporting standards)b) Accuracy (of presentation)c) Classification-d) Understandability-
IMPORTANT ACCOUNTING ASPECTS : SPECIALLY FOR THIS CYCLEAs per ISA18 revenue : following conditons must be met before it can be recognized.
1) SALES of GOODS a) Revenue Measurement Reliable : can be measured reliably – simple if amount is on invoiceb) Flow Economic Benefits Probable : not that it is not probable it will flow to entity– eg a fictitious sale. c) Effective control or managerial involvement - eg Consignment : seller does not retain effective control or managerial involvement
over goods eg: consignment or other type.d) Evidence : that risks&rewards of ownership have passed from seller to buyer. Eg: signed contract/delivery note
2) RENDERING of SERVICES a) Revenue Measurement Reliable : can be measured reliably – simple if amount is on invoice/or rates&payments terms on contractb) Flow Economic Benefits Probable : not that it is not probable it will flow to entity– eg a fictitious sale. c) STAGE of completion at Bal.Sheet.Date. :-of transaction can be measured reliably eg by %costs used vs total costs.
3) ALLOWANCE FOR DOUBTFUL DEBTS: a) As per isa18, if it seems a revenue cannot be collected, an expense should be created instead of reducing revenue (PROV. BAD DEBTS)
FRAUD IN THE CYCLE
1) FRAUDULENT FINANCIAL REPORTING a) Fictitious/Overstating Sales( occourance) & fictitious /Overstating Debtors( existence) : incr. profits & current assets –so ratios.b) Understating Sales & same Debtor : tax or ‘cheap mngmnt buyout’c) Understating Bad Debt Allowance( valuation) : normally part of trend to manipulate allowances/provisions , improve
assets/profits/ratiosd) Recognition of revenue from sales (occourance): eg pre-invoicing OR recording appro. / lay-by OR understating
2) MISAPPROPRIATION OF ASSETS. a) Stealing cash sales(Completeness sales+bank)b) Stealing debtors payments(Completeness debtors+bank)c) Unauthorised reduced sales charge -bribe/friend(Completeness debtors+bank & Accuracy sales)d) Debtors accounts (Completeness debtors ) bribe/friend –not accurate but completeness.e) Picking/dispatch theft (Existence stock) – 15 instead of 10 collusion ouside)f) VAT not pay (Completeness liabilities) – recorded OR unrecorded sales.
3) LAPPING/ ROLLING a) Stealing cash from : Cash sales or Debtors payments by:
i) Hide by manipulate posting from debtors to debtors ledgerii) Hide by substitute cash stolen with debtors cheque payments-take cash put debtors cheque payment as a cash sale-then post
another debtors payment at mnth end as 1st one taken/or multiple.(Becomes very complex Web)You can say 2nd was too close to mnth end thus not reflecting yet. (reconcile physical cash with cash receipts)
b) He needs: NOT use bank deposit slips as source docs for cash book(bank teller compares cheque name to deposit slip),he handles all queries from debtors, or he write up source doc receipt Or cash book.
c) Fix by:i) Feed backii) Credit notesiii) Bad debtsiv) Destroy records
TESTS OF CONTROLS AND SUBSTANTIVE PROCEDURES1) TESTS OF CONTROLS: used to determine if Control Procedures & Information System is working correctly89
90 90 | P a g e Auditing Notes AUDI 101a) Observation b) Enquiry c) Inspectiond) Re-performance
2) SUBSTANTIVE PROCEDURES : if Balances and Totals are fairly presented.a) Enquiry & Confirmationb) Inspectionc) Reperformanced) Recalculatione) Analytical Procedures : eg: if Gross profit 30%, you immediately know whether sales & purchases is correct.
TESTS OF CONTROLS1) You identify each control, then perform 1 of the above 4 procedures on it to test if it works .2) Each is Limited in value: ‘inspect’ signature only says it was signed, not actually checked, ‘observe’ only says control worked While you
watched, not always.3) Note: tests must also be done on NON-SPECIFIC (GENERAL) CONTROLS: eg ‘custody’ of blank delivery notes,invoices.4) Eg:
a) Enquire: i) of order clerk if 1- ALL orders go to him, ii) 2- if he makes out an ISO for all orders, not only phone orders.
b) Inspect : i) 1-filed copies of ISO for ‘evidence’ credit approval was obtained.ii) 2- correspondence from ‘credit bureau’ to confirm approval was actually obtained.
c) Observe: i) opening of mail & writing of receiptsii) despatch clerk counting and checking goods on transfer from warehouse to dispatch.
d) Reperformi) A bank recon
SUBSTANTIVE PROCEDURES1) In some other textbook says it is divided in 3 Types: 1- Transactions 2-Balances 3-Analytical Procedures.(we say + Presentat.and Disclos.)2) MAIN focus for this cycle: BANK/CASH + DEBTORS balances, which also gives evidence for sales.3) MOST IMPORTANT part : non-cash transactions which reductions debtor balances : do tests as in ‘eg’ no 4 below , PARTICLARLY
AUTHORITY given for each to be done.a) Credit notesb) Bad debts write offc) Special discounts
4) Eg: auditor just selects a sample of Sales Invoices and Does DUAL PURPOSE TESTs on them :”VOUCHING OF TRANSACTIONS ‘ ARE referred to as ‘dual purpose’ tests: because…..a) DUAL PURPOSE TESTS:
i) Inspect: Match to details on supporting docs –sales order,delivery noteii) Inspect: trace to entry in sales journaliii) Inspect : docs for signatures showing control procedures have been carried out.iv) Reperform :pricing from price list and Enquiry&Confirmation :validity of discounts.v) Reperform/recalculate: casts, extensions,discounts, vat.vi) Reperform: posting to debtors ledger.
5) CATEGORIES OF ASSERTIONS: ISA 500R Categorises the Assertions as follows.:a) Classes of Transactions and Events (for period) eg:sales, purchases, interest receivedb) Account Balances carried forward to next year (at year end) eg:property plant &equipment ,accounts
receivable.c) Presentations and Disclosure : eg:notes to bal.sheet , contingent liabilities
4. Classes of TRANSACTIONS AND EVENTS: Assertions about (during period)4.1. OCCURENCE :recorded trans.& events DID occour and DO PERTAIN to THIS entity.4.2. COMPLETENESS :all that should have been recorded, were recorded ,none missing.4.3. ACCURACY :1-Amounts & 2-Data were recorded appropriately.4.4. CUT-OFF : in right accounting period.
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91 91 | P a g e Auditing Notes AUDI 1014.5. CLASSIFICATION (and UNDERSTANDABILITY) : recorded in correct account names.
5. ACCOUNT BALANCES :Assertions about (end period). 5.1. EXISTENCE : assets, liabilities, equitys DO actually exist.5.2. RIGHTS –(AND OBLIGATIONS) : entity holds rights to assets , liabitities are obligations of this entity , named
shareholders . : do hold the rights to the equity.+2-ALL ENCUMBERENCES on ownership must be . .. . :Disclosed
5.3. COMPLETENESS : all that should have been recorded,were recorded,none missing.5.4. VALUATION –(AND ALLOCATION). : assets ,liabilities , equity recorded at appropriate valuation amounts and
any resulting . . . : valuation adjustments or allocation adjustments are appropriately recorded .ALSO , . . :DEPRECIATION and OBSOLECENCE
6. PRESENTATION AND DISCLOSURE :Assertions about. 6.1. OCCURENCE AND RIGHTS AND OBLIGATIONS. :disclosed events ,transactions& other matters DID occour and
Do pertain to this entity. 6.2. COMPLETENESS : All matters that should be disclosed in FIN STATS. , were disclosed, none missing.6.3. CLASSIFICATION AND UNDERSTANDABILITY. :financial info./disclosures are appropriately/ properly
PRESENTED and DESCRIBED, and EXPRESED CLEARLY.6.4. ACCURACY AND VALUATION. : 1-FINANCIAL and 2-OTHER INFORMATION( eg notes on union problems) are
disclosed FAIRLY and at APPROPRIATE AMOUNTS. (at correct valuation amounts and in a correct and proper – 'FAIRLY presented' - manner.)
SUBSTANTIVE PROCEDURES FOR THE AUDIT OF DEBTORS:1) ASSERTION: RIGHTS :
a) Determine if any accounts received have been factored, ceded or encumbered in any way. By:i) Inspection:
(1) Loan agreements(2) Bank confirmations(3) Prior year workpapers(4) Minutes of directors meetings
ii) Enquiry: of management2) EXISTENCE:
a) The 2 MAJOR procedures for existence are:i) Enquiry: Debtors circularization: must have permission from management(if no you qualify report), ii) Inspection: Subsequent receipts testing : matching amounts owed at year end to payments received after year end.(unless paid
for new year bill)b) How to do a debtors circularization:
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92 92 | P a g e Auditing Notes AUDI 101i) Auditor takes control of all debtors statements after they have been printed at month end
(1) Test to debtors ledger & other way(2) Select sample for circularization
ii) 2 types of confirmation can be used.(1) Positive : requests confirm if correct OR not
iii) Negative: only confirm if not correct: weak since could be 1-fictitious debtor 2-incorrect in favour of debtor iv) Enclose in letter
v) Auditor supervise all mailings by:(1) Direct all ‘addressee unknown’ to return to auditor only(2) Check all P.O. boxes telephonicly or by looking in the directory.
vi) Auditor collects evidence for Existence & Valuation now by :monitors replies, follows up on:(1) Disagreements: refer to 1-source docs, 2-client, 3-clients attorneys.(2) ‘No-replies’, ‘addressee unknowns’ : refer to : 1-recircularise after correct address,&2-telephone/fax &3-post year end
receipts.c) How to ‘subsequent receipts testing’:
i) Select sampleii) Check CRJ to identify receipts, 1-trace to customers remittance to see for which invoice it was, 2-trace to date, 3-trace to invoice
& delivery note& 4-trace if recorded at year end in sales journal & debtors ledger.iii) Make sure a cut-off test is performed where last 20 invoices+delivery notes customer signed inspected to make sure they are
from year end /OR : at year end(auditor marks the last invoice/del. Note number as ‘end of year’ & note number)3) ASSERTION : VALUATION (& ALLOCATION): for debtors consists of 2 parts , gross amount and bad debts
i) Gross Amounts: & follow up(1) Unusual entries: eg year end dr’s(2) List of debtors : trace to general ledger debtors control account&trial balance, and debtors ledger individual accounts.(3) Reconciling items from ii) must be
(a) Casts(b) Reconciliation logic(c) Follow up reconciliation items.
(4) re-CAST : Debtors list & control account re-CAST.(5) Find CR balances in debtors ledger+reverse if needed(6) Circularization : Refer to circularization & follow up (7) Foreign currency :
(a) Rates Bank(b) Old transaction rates calc vs end year rates(c) Must be at end of year rate in books, or it is wrong!
b) Bad Debts:(1) Method &procedures enquire (eg if to students hostel room no. then provision must be more)(2) Authorization procedure :(better if more independent of ‘credit control/er’ itself)(3) Change in circumstances : have they change so prior year’s method is wrong eg new credit policy.(4) ENQUIRE MNGMNT: change in circumstances : eg new credit policy/ changed trading conditions major customer.(5) Reperform ALL calc’s.(6) Reperform Ageing : on small sample, to check if correct periods, refer to invoice/delivery note.(7) Long outstanding & material outstanding :discuss ALL with credit controller(8) Legal &debtors correspondence : check to identify debtors handed over and those with disputes.(9) Prior year vs Actual : compare to check the companies ability to estimate correctly.(10) MONTHLY REPRTS TO MNGMNT: should be reviewed eg: write offs & debtor liquidity problems.(11) Analytical Review:
(a) % to prior year (b) write-offs to prior year.(c) Age analysis to prior year : is debt getting older?(d) Ratios year on year : eg Days Outstanding Debtors.
(12) Potentially Uncollectable : debtors should be considered on a 1 by 1 basis, not as a %.Consider all aspects eg large chain store will pay, but just overdue.
4) ASSERTION : COMPLETENESS : do following to make sure of thisa) Cut-Off Testing:
i) AFTER: first 20 (material) after year end cut off number –trace correct to delivery notes/records ii) BEFORE: 10 before check as above.
b) Credit Sales: to see whats NOT been recorded is more difficult to check/trace than what has been recorded.i) Missing dispatch notes (not in debtors)
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93 93 | P a g e Auditing Notes AUDI 101ii) Dispatch notes NOT MATCHED to an invoice (not invoiced= not in debtors- TAX etc)iii) Purchases+ inventory left MATCH to Sales (eg sold but not in debtors/or revenue)iv) Specific Representation from Management as to Completeness of Sales v) Analytic procedures:
(1) gross profit % fluctuations(2) prior periods : sales&debtors to (3) prior periods : sales by characteristic to branch/region/month/customer(4) sales ratio: eg: commission vs sales (if commission is up, sales should be up)
5) ASSERTIONS: (not ‘balances’ but next one :ie) PRESENTATION & DISCLOSURE as it applies to debtors: as per ISA500a) IAS :COMPLETE IN TERMS OF ias INTERNATIONAL ACCOUNTING STANDARDS, 4TH SCHEDULE. Eg: debtors balance with current assets, +
disclosed encumbrances on debtors.b) Evidence :consistent with evidence gathered on audit.c) Amounts , facts ,details, 1-accurate 2- and=evidenced) Appropriate classification of information.e) Wording is clear and understandable. Eg: accounting policy & explanation of encumbrances.
6) ASSERTIONS: all /Generala) Analytical procedure of debtors : should be performed
(1) Analytical Review: (a) Debtors to prior year (b) Debtors vs credit Sales to prior year.(c) No. & Amount of Debtors by Branch/Division/Product.
USE OF AUDIT SOFTWARE (SUBSTANTIVE PROCEDURES) FOR DEBTORS1) Enhance auditing of debtors by (if clients debtors are computerized)
(1) Stratify as % total: by rand amount, profile,etc, select samples for ageing(valuation)/circularization(existence).(2) Scan ERROR : masterfile for error conditions,duplicate ACCOUNT NUMBERS (existence),NEGATIVE balances( valuation) ,blank
fields(existence)., over/abnormal/ credit limit/terms(valuation bad debts)(3) Debtors balances vs client listing, or vs ageing,(4) Unique characteristic/code 1-2-3: eg extract all handed over to lawyers(Valuation gross&bad debts, or code 2
correspondence(all assertions)(5) This Year vs Last Year for
(a) New accounts ( to check eg credit applications)(existence)(b) Major fluctuations in individual account balances(valuation)(c) Not Listed :anymore Debtors (existence)
(6) Bad debt allowance : recalculate based on aging eg 3% 30 days + 5% 60 days etc.(7) Casts/cross cast : (valuation)
SUBSTANTIVE PROCEDURES FOR AUDITING BANK/CASH1) ASSERTION: RIGHTS & EXISTENCE : BANK BALANCE
a) Bank confirmation letter(1) Standard SAICA bank confirmation letter sent to bank, first permission from client(2) Return to auditor, not client(3) Ask to SUPPLY balance details, NOT confirm bal. details.- auditor gives account numbers.(4) ALL TYPES of accounts eg: 32 days, call , current etc.(5) Takes bank long, do timeously,-auditor give year end date.(6) Compare to clients docs(7) encumbrances : Confirmation from bank must ALSO list any ENCUMBRANCES(8) minutes of directors meetings checked for balances encumbered.
2) ASSSERTION : COMPLETENESS : ALL BANK BALANCESa) Risk Siphoning: off to other bank accounts ,then call forensic auditor assistance.- b) This year to previous year : no. and type of accounts held compare & follow up closed accountsc) ASK bank if ALL: accounts have been included in confirmation.d) Alert in other audit procedures: to check for other bank accounts, eg in minutes,cash budgets,vouching payments.e) Foreign Bank :ask mngmnt about foreign accounts if any import/export is undertaken.
3) ASSERTION: VALUATION: at appropriate amounts in the fin.stas.a) Bank confirmation: Theory is bank could not pay up, but in reality this is low, so confirmation is good enough.b) Bank Recon:
i) REPERFORM by:
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94 94 | P a g e Auditing Notes AUDI 101(1) Check balance on recon vs bank stat. vs bank confirm.lett. vs cashbook(2) Reperform casts & test logic of recon ( eg outstanding cheques added not subtracted to cash book balance.)(3) Sample cashbook receipts & payments : check in bank statements before OR in recon itself.(recon date is year end)(4) Outstanding out cheques + deposits in recon : must be in BEFORE: date cash book AFTER: date a bank statement.(5) Cut off no. cheque on any post bank statement : must appear on recon.(6) Written out :enquire about any long standing deposits (max 2 weeks) and long outstanding cheques which should be written
back.(7) Unusual reconciling items : follow up by supporting docs.
4) Window Dressing : where you make a payment by cheque but do not post it until after year end: so a ratio of 2:1 will become a ratio of 3:1: eg bank 100 creditors 5=2:1 , so you pay 25 then bank=75 creditors= 25 = 3:1 –(1-to catch check a ‘cut off statement from bank’ which means one from after the end of fin year, to see which cheques took very long to present, 2-then request to write-back this cheque for year end figures purposes)
5) Kiting: where company controls many bank accounts and uses this to inflate ceratin balances using the time taken by a bank to clear payment n a cheque. You transfer from a bank account at another bank, by cheque to another bank account-then while one is waiting to clear so it gets reduced (has not cleared yet so not yet reduced at 1 bank) , then other is immediately credited on deposit and youseem to have more than you actually have ie; 50 +10+ deposit of 10 = 70., but deposit only clears after bal.sheet date so then it is 2 weeks before 40-payment of 10 + 10+deposit of 10=60
6)7) Transfers:
a) Eft TRANSFERS scrutinize : carefully esp. payee account VALIDITYb) YEAR END : any large transfers at year end, to subsidiary or related party or own bank accounts,CONFIRM(for KITING) (also with
reference to other auditors at related parties if needed).i) Supporting docsii) In same year period : recorded in both enities books in same periodiii) Any outstanding : are included in any bank recons.
8) Cash counts: a) Simultaneous: counting of all floats prevents cover upsb) In Presence of cashier responsible for:c) Alone : auditor NEVER alone with cash, or accused of stealing itd) Cashier+auditor sign : results on workpaper togethere) Recon as follows: cash float + cash received - cash payments=cash on hand.f) Supporting docs : all Payments& receipts should be supported by g) Supporting docs: 1-Valid+2-Authority all to be scrutinized for both of these things.h) Postings: cash transactions to the ledger
9) PRESENTATION AND DISCLOSURE : i) Same as for Debtors, egii) Correctly presented on face of SOFP. –in liabilities if in overdraft, or in assets etciii) Disclosuresiv) Agree evidence.
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95 95 | P a g e Auditing Notes AUDI 101
CHAPTER 11 : ACQUISITIONS AND PAYMENTS CYCLE:CHAPTER 11 : ACQUISITIONS AND PAYMENTS CYCLE:THE ACCOUNTING SYSTEM AND INTERNAL CONTROLS: 1) 2 major activities:
2) Major balance= creditors3) Control procedures: mainly payments =risk asset=cash
DOCUMENTS IN THE CYCLE:1) Requisitions: from any dept but mainly stores, from stores mainly by: 1-re-order levels/qtys(computer or count) 2-production schedules 3-
special (preferably written) request. 2) order forms: buying dept,sign chief buyer,details & price3) Suppliers delivery note: cross reference order form, sign by us, 4) Goods received note: by us, cross-ref SupplierDelnote.5) Purchase invoice:6) Credit note: FROM supplier, + returned goods accompanied by “12-returned goods voucher”7) Creditors statements: mnthly8) Cheque requisitions: by creditors section to whoever9) Remittance advice: breakdown of what is being paid10) Receipt: from supplier11) PJ,Creditors journal,GL, Purchase Returns & Allowances journal
CHARACTERISTICS OF GOOD INTERNAL CONTROL:1) Control environment: 1-NORMAL + 2-particular to authorize payments (shows poor contrl envir.…: 1-sign blank cheques, 2-not check
a) Order goods = not Access goods (order for yourself) + {best if also “not Authorize payment”}b) 1-Receiving/custody = not amend records , 2-also Receiving=not do Goods Rec.Note.(or receiving does correct GRN but sends half
back with suppliers truck then split proceeds{so receiving signs ‘delivery note’, but warehouse does ‘GRN’ later))4) Isolation of responsibility:only: 1-moving goods isolate each move BOTH ‘count+sign’ 2-cash transferred isolate each move BOTH ‘c+s’5) Custody/asset control : 1-blank order forms (etc) 2-bank 3-goods6) Regular reconciliations & review
a) Creditors Statement vs Company Records (before pay)b) Orders vs goods received (unfulfilled)c) Company’s records vs Bank statements
7) Source doc design: 1-normal
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96 96 | P a g e Auditing Notes AUDI 101
FLOWCHART AND DESCRIPTION OF CYCLENOTE: For every single controls column below , ADD: employees must sign docs to acknowledge control procedures they have conducted.( as per book vertabim)FUNCTION Descr. DOCUMENTS RISKS CONTROL PROCEDURES
1-Incorrect/Unnecessary =liquidity+wastage2-unauthorised=losses by fraud3-order forms misused eg private orders4-requisition not acted on OR orders not timeous5-inferior quality6- unnecessarily high prices 7-orders not OR not timeously filled.
1-order clerk not order no authorized requisition (a)cross-ref requisition to order (b)confirmation by stores/production (esp. preset levels)2-before place order senior buyer/supervisor check (a)accuracy&authority (b)supplier suitability, price&qty reasonable, nature goods reasonable ie used by company3-approved supplier list (a) confirm available+delivery dates (b)or get quotes if no supplier list (c)seniors evaluate suitability of before approve a supplier4-order dept file requisitions sequentially by dept + frequent review requistions not cross-ref to an order. (unordered) 5-copy of order filed sequentially + review sequence check +cross-ref to GRN to make sure they were received.OR check pending file of orders in receiving bay.6-blank order forms sound stationary controls (custody)
1-acceptance of Short deliveries as full Damaged/broken Itms not ordered Wrong type/qty2-GRN incomplete/ Inaccurate3-no GRN made out4-fraud/theft +collusion outside
1-pysically secured access controlled Goods rec. section2-offload by goods rec. clerk who must: (a)match supplier delivery note to Purchase Order (b)check qty+descry. Vs both docs above (c)check goods- broken/wet etc (superficially) (d)reject incorrect + note on both docs (e)note short delivered on both(+ actual QTY!) (f)include only those accepted on GRN(??????) (g)suppliers personel sign +sign amendment eg short (h)sign supplier delivery note3-on transfer to stores next clerk sign GRN + count + report discrepencies to supervisor4-Collusion in this cycle is a major problem to many companies, so isolate responsibilities+independent physical controls eg: tracing device on vehicles+security cameras to be used by all in supply chain
1-record incorrect amounts from incorrect purchase invoices (a)QTY/QTY/TYPE notas ordered or received (b)price not as quoted (c)calc errorsegcast/vat2-fictitious purchases /creditors from invoices never receiv. or ordered3-delays, misallocation, posting errors = recon problems+ loose early pay discounts.
1-purchase invoice must be: (a)match to1- GRN 2-delivery note+3-purchase order for: Qty, descr,prices, discounts(from order or supplier price lists) (b)review if posted to correct account eg: stationary. 2- account to be posted must be got from official list by requisition maker outer and written on there-or clerk will not know for which account it is.!3-reperform casts,extentions,calc,s on invoice.4-Specific emplyee must responsible GRN +invoice dates check and only then timeously posted to journal+ledger.
4-Payment preparation(requisitioning)
1-remittance advice (RA) 2-cheque requisition
1-pay fictitious creditors2-pay incorrect amounts3-unauthorised payments4-discounts lost
1-creditors statement recon to support docs.+clerk check invoice accuracy controls done before recorded2- creditors statements recon creditors ledger individual 3-creditors clerk make sure pay early discount 1-pay early2-actually is deducted
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97 97 | P a g e Auditing Notes AUDI 1014-cheque requisitions 1-preprinted+ 2-sequenced + 3-custody controls over blanks5-cheque requisitions: 4-to incl. details of 5- authorized by preparer sign 6- maybe even authorized second person6-cheque requisition+support docs ALL go to cheque signatories.(+ batch controls if numerous enough)
1-cheque incorrectly made out(payee,amount)2-invalid payments(fictitious creditors)3-payments recorded inaccurately (error/fraud)
1- two cheque signatories2-they must agree support doc to date/amount/payee3-cancel (stamp/crossing) paid used SupDocs(not use again)4-anti-tampering methods for cheque (a)permanent ink (b)no gaps (c)payees name in full (d)cross as ‘not transferrable’5-cheques+cheque books issued numerial sequence, only 1 used at a time.6-incorrect cheques: stamp cancelled +tear off signature –retain do not throw away7-signed cheques NOT returned to preparer: BUT mailed by independent employee.8-all recorded in NUMERICAL sequence in CPJ9-CPJ review by mngmnt regularly for missing sequence OR unusual pay.10-recon cash book to bank statement : staff independent of banking functions/creditors dept11-returned paid cheques: (a)filed numerically, (b) review suspicious endorsements.
AUDITING THE CYCLE: INTRO.1) Important cycle –must be comprehensively audited.2) Product= purchases&creditors also bank 3) If auditor thinks cash&creditors is fair, then purchase&payments should be fair
FINANCIAL STATEMENT ASSERTIONS AND THIS CYCLE1) Purchase transactions: (TRANSACTIONS)
a) Completeness.-all have beenb) Occourance. -normalc) Accuracy.d) Cut-off.e) Classification.-in the proper accounting records
4) Assertions pertaining to (PRESENTATION AND DISCLOSURE.)a) Completenessb) Accuratec) Classification & Presentation
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98 98 | P a g e Auditing Notes AUDI 101d) Understandable
FRAUD IN THE CYCLE1) FRAUDULENT FINANCIAL REPORTING :
a) Understate trade creditors : to improve ratios (completeness testing)i) Eg: manipulate cut-off year end = inventory count at year end but only put as a ‘purchase’ after year end.
b) Overstate Purchases : to reduce profits (tax)c) Trading with many related parties like subsidiaries = “current liabilities” manipulation becomes much easier
2) MISAPPROPRIATION OF ASSETS i) Order goods for personal use- but company pays (occourance purchase,obligation fictitious creditors)ii) Fictitious payments to creditors : own companies/friends (obligation of creditors, occourance of purchases)iii) Claim Vat not entitled to :(completeness of liabilities)iv) Bribes from suppliers to purchase/or family/friends : Sect 45 Accounting Profession Act (director has not declared his interest to
company) –difficult to catch.v) Theft of goods at receiving stage: (existence of inventory)
TESTS :1) Tests of controls:
a) Observationb) Inspectionc) Reperformanced) Enquiry
TESTS OF CONTROLS:1) Assess the risk that misstatement will not be identified by the system/risk of misstatement of the fin stats/not fairly presented.2) Eg:
a) Inspecti) a sample of purchase orders for supplier is on approved supplier listii) Requisitions for authorizing signatureiii) Supporting docs is it stamped so it cannot be used again
b) Enquire: procedures carried out of goods receiving clerk – to reveal missing proceduresc) Observe: procedures carried out of goods receivingd) Reperform: creditors reconciliation(creditors STATEMENTS to creditors ledger)
3) Test should also be conducted on GENERAL(NON-SPECIFIC) CONTROLS eg: custody of blank order forms4) Remember limitations of these tests: observing someone performing it only means he did it then, not every time etc.
SUBSTANTIVE PROCEDURES:1) Main= creditors balance, main=completeness, main 2) Generally seen as :liabilities understated, not overstated3) In addition to creditors balances auditor may select sample of transactions eg: payments and purchases to perform subst.tests on, to seek
EVIDENCE on assertions :Eg on a purchase transaction:a) Occourance:
i) Inspect supporting docs (GRN, PURCHASE ORDER, DELIVERY NOTE, INVOICE)to see if(1) External docs are made out to Why(Pty)ltd(2) All doc are signed by the authority eg chief buyer.
b) Accuracy: (amount)i) Recalc name extentions invoice ii) Confirm prices&discouts: check order or purchase contractiii) Recalc vat , check discounts come before vat.
c) Cut-off:i) Date on docs to date in purchase journal +fin year
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99 99 | P a g e Auditing Notes AUDI 101d) Classification:
i) Should be on purchase order by buyer , check if in right oneii) Check descr. To be sure correct: eg fixed asset not written off as expense.iii) Vat correct on invoice+journaliv) Creditors ledger posting from ..
e) Completenessi) All that should have been recorded are recorded.
DUAL PURPOSE TESTSThese are combinations of testcontrols& substantive tests : to be done as follows:1) BY INSPECTION:
a) Supporting docs for:i) A Requisition from stores or production : 1- signed by foreman etc 2- goods commonly used by company ii) An Official company order form: 1-signed by the inhousecompany Buyer 2-cross-ref requisition 3-agree descr. Received goods 4-
from authorised supplieriii) Copy suppliers delivery note which is:
(1) Sign(2) Descr right / agrees (3) Cross-ref : (only?)order
iv) Official GRN:(1) Sign in stamp says qty+qlty checked(2) Cross-ref :order/suppliers delivery
v) A suppliers invoice which :1-signed to show following tests done: 2-arithmatic accuracy check 3-pricing supplier list vs order price checked 4-the invoice was reconciled with supporting docs.
vi) A suppliers statement and RECONCILLIATIONwhich: 1-signed by clerk who reconciled 2-cross-ref to cheque requisition& agrees in amount to.
vii) A cheque requisition which: 1-cross ref. to creditors support docs.by name,date amount 2- bears number of cheque issued 3-signed by senior creditors clerk & fin. Accountant to authorize it
b) Returned paid cheque:i) Correct creditorii) Amountiii) Crossing&datingiv) Stamped by bankv) Signed by authorized signatories( pref.2)
c) General:i) All docs cancelledii) All docs addressed to this companyiii) All docs dates in current fin year + reasonable relation to each other
2) REPERFORMANCEa) Casts & extentions (generally)b) Prices correct (generally) test to price lists/orders etc.c) Recons correct
CREDITORS BALANCE (TRADE) PERFORMING SUBSTANTIVE PROCEDURES ON :1) Assertion : Existence :
a) Cut –off tests at year end. 1-record cut off no.& write on invoice 2 select in last 2 weeks material in purchases journal check GRN&delivery note&invoice that number&date are from last year(check for prematurely3- raised creditors so not overstated )..
2) Assertion : Obligations: : a) Check supporting docs to get evidence of
i) 1-the goods are commonly used by companyii) 2-made out in name of company
3) Assertion : Valuation (1) Individual Creditors Accounts TO Creditors Control account NB- MAIN do not forget this one(2) Sample of creditors on creditors list TO individual creditors accounts(3) Cred control+ ACCRUALS in General ledger TO- TrialBalance(4) Reperform Casts of Creditors list+ Creditors Control acc.(5) Find ANY ‘dr’ balance and discuss with credit manager if they should be taken off list- put in debtors.(6) Check Year end Recons by creditors clerk : a sample incl. major suppliers
(a) Reperform casts(b) Balances on recon- TO creditors list AND creditors statement
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100 | P a g e Auditing Notes AUDI 101(c) Test logic of recon.(d) Inspect supporting docs & inquiry&confirmation –all amounts/balances
(7) Foreign currency –on date of fin stats = at Spot Rate.(8) All Accruals (year end adjustments) : 1-re-cast list 2-check all sup docs+Ledger &reperform calculations3- check if total is the
same as in TB,Ledger,Balance Sheet4) Assertion : Completeness MOST AT RISK of ALL – companies are more likely to understate liabilities than overstate them (find missing
ones)(1) Current year TO last year : 1-missing this year 2-significantly smaller this year 3-find why(2) Disputes – check creditors correspondence file for evidence –adjust if needed/dispute not winnable?(3) Check list of GRN unmatched to Invoices year end-which is compiled when doing cut-off at year end 1-was it specially raised
in journals at year end since no invoice was received yet ??Y/N 1-recalc amount 2-check price(a) Check if Pile of Unmatched GRN,s contains 1 with number lower than cut-off number -and check if that one was put in
journal (creditor raised)-the later in year you do this the less likely there will be 1.(ALL THE YELLOW ONES BELOW WERE NOT FINISHED_NO TIME)book- page11/28
(4) AFTER year end: 1-GRN purchases journal no. > cutoff . 2-DATES after year end (5) Check if cheque payments made prior to year end are paid in reasonable time(window dressing creditors) (6) Check recon-eg premature write off disputed amount (7) Physical MORE THAN recorded inventory. (8) GL accounts ACCRUALS correct
5) ASSERTION: Presentation & Disclosure of trade creditors.(ISA500)NOT FINISHED-NO TIME BOOK pg 11/29 (very short)
USE OF AUDIT SOFTWARE (SUBSTANTIVE PROCEDURES) FOR CREDITORS BALANCES2) Enhance auditing of debtors by (if clients debtors are computerized)
(1) Stratify as % total: by rand amount, profile,etc, select samples for ageing(valuation)/ nil balance/ above some level(2) Scan ERROR : masterfile for error conditions,duplicate ACCOUNT NUMBERS (existence),NEGATIVE balances( valuation) ,blank
fields(existence)., over/abnormal/ credit limit/terms(valuation bad debts)(3) Unique characteristic/code 1-2-3: eg extract all handed over to lawyers(Valuation gross&bad debts, or code 2
correspondence(all assertions)(4) This Year vs Last Year for
(a) Major fluctuations/reduced in individual account balances(valuation)(b) Not Listed :anymore creditors
(5) Casts/cross cast : (valuation) ageing + print a detailed list of creditors&balances out (6) creditors balances vs client listing, or vs ageing,
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CHAPTER 12 INVENTORY AND PRODUCTION CYCLECHAPTER 12 INVENTORY AND PRODUCTION CYCLEACCOUNTING SYSTEM AND INTERNAL CONTROLS:
INTRODUCTION:1) Also called: “inventory & warehousing cycle” ,”conversion cycle”, etc.2) Deals with 3 things:
(1) Control Physical Transfer of inventory – /it’s movement anywhere.(2) Protect inventory : from damage,theft,loss / Custody. raw materials, work in process, finished
goods.(3) Record Production Costs : Provide Information to calc. cost of manufacture/production.
(accumulating all production costs and adding to ‘cost’)
CHARACTERISTICS OF THE CYCLE1) HEART of the business : often the business is shaped around what it sells2) FIN. STATS. Effect on:usually major component in calc. of sales/cost of sales/net profit. Pervasive role in
fair presentation . of fin. Stats. Int.controls&control environment&acc.procedures must be good. (many businesses failed . .. due to this)
3) INTERNAL cycle : acquisitions cycle puts in, revenue cycle takes out, but this one depends on their controls.
4) PHYSICAL asset : physical controls because it is not non-physical assets(eg debtors) 5) FRAUD - Inventory: inventory overstatement is very prominent –very ‘effective’ manipulation by overstating
fin.stats.6) DIVERSITY of inventory :acc.procedures&internal controls must be able to deal with:
The auditor is affected by the diversity by eg: existence: of gas, valuation: of products of rapid tech obsolescence, rights: to inventory held in anothers possession, completeness & existence: held at multiple&obscure locations.a) Nature – 1-easy ID:fridge 2-difficult ID : chemicals,precious stones 3-growing: game,plants,chickensb) Location – 1-in transit, 2-multiple locations, 3-obscure locations, 4-in others possession-eg customs
or on . . consignment.c) Stage of development – raw/wip/finishedd) Permanence – 1-tech.obsolecence 2-expiry dates 3- fresh produce
DOCUMENTS IN THE CYCLE1) Goods received note : for transfer from receiving bay into stores- simply that stores clerk MUST SIGN the
original GRN made out when the goods arrived in the receiving bay from supplier2) Materials issue note/materials requisition – authorize the removal of items from stores.3) Manufacturing or Production schedules : to notify production what to produce, from orders/stock
levels/forecasts etc.4) Job cards :tracks the stages of production of a specific job./adds each cost as it comes + an overhead
allocation.5) Production report ; reports results of production/output/ wastage loss/ For specific cost centres 6) Transfer to finished goods note : records from mnftring TO stores.7) Picking slip: -normal8) Delivery notes: when/after we delivered9) Inventory sheet: for inventory count: descr,location,qty,cost,extention.10) Inventory tag: 2 (identical)small,numerically sequenced, attached to each item before count,name&descr. Of
item,empty qty block.Team1 gives to ‘inventory controller’. Teams 2 as well. Discrepencies recounted.Some have a 3rd leaf which stays with the part till count is over.
11) Inventory adjustment form:sequenced form used to record adjustments when actual&theoretical perpetual inventory records do not agree.(eg lazy to count right at goods receiving, or stolen)
3 OBJECTIVES OF THE CYCLEThere are 3 objectives of the cycle:
1) Control Physical Transfer of inventory – /it’s movement anywhere.2) Protect inventory from :damage,theft,loss / Custody. raw materials, work in process, finished goods.3) Record Production Costs :Provide Information to calc. cost of manufacture/production. (accumulating all
production costs and adding to ‘cost’)
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102 | P a g e Auditing Notes AUDI 1014) SEE DIAGRAM PAGE 12/4 bottom – no time
RISKS OF THE CYCLE
1-RISKS1) Inventory is Lost or Stolen due to.
(1) Physical Controls – inadequate(2) Transfer Controls -of inventory, inadequate ,unathorised issues(3) Isolation of Responsiblility – inadequate establish who is accountable for at any stage(4) Division of Duties - inadequate- eg storeman custody+recording=conceal theft
2) Inventory Deteriorates due toa) Inadequate Physical controls (eg: gets wet)b) Its Nature (foodstuffs, chemicals, fresh produce)
3) Delays & Inefficiencies in Production due to:a) Incorrect raw materials supplied to productionb) Non-availability of raw materialc) Poor Quality of raw materials
4) Unauthorised Production : eg private jobs5) Inadequate recording of Costs of Production. : WIP etc wrong costs carried forward.
2-CONTROL PROCEDURES1-TRANSFERS N.B. 1) Recorded : no movement without recording eg signed requisition / or barcode
scanning.2) Deliverer + Receiver Sign : both should acknowledge after check qty,descr. Eg
material issue3) Filed Numericly : transfer documents (for finding gaps/false copies/missing/)4) Regular Review Signature : all docs. Should regular review for authorizing
signature.5) Regular review sequence check : docs regular find missing/false extra etc.
guards/gate cntrl.c) Restricted entry/only: eg buying clerks not unaccompanied, only production
employees.d) Secure buildings: solid structure, minimum windows, locks etce) Environmental: pest free, temp. controlled, dry, neat , clean.f) Surveillance: cameras over production line+receiving+despatch.(it’s often easy
to steal from production line)2) Frequent Comparison & Reconciliation:
a) Inventory theory vs Actual: in all its forms, theoretical vs actualb) Production schedule VS Actual :where’s the extra raw materials from lower
actual gone to?c) Budget VS Actual : why did it cost more? Dofness on duty?or why?
3) Investigate Reconciliation : material variances.4) Regular Surprise Checks: by mngmnt+supervisory to see unauthorized production
by: machine hours/usage compare to actual production+production schedule to actual being made comparison
5) Division of Duties : Note: ONLY THIS ONE : custody + recording inventory not by same person.
3-Info. FOR PRODUCTION COSTS
1-FOR JOB ORDERS1) Preprinted Job Cards for ALL JOBS TO BE RECORDED ON
a) Sequenced and datedb) List of materials to be usedc) Cross-ref : to customer order/quoted) Cross-ref : to materials requisitione) Cross ref : daily production schedulef) AUTHORISED by PRODUCTION MANAGER.
2) Job cards Pending File : that are still In production go in a …and updated for
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receivingreceiving
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103 | P a g e Auditing Notes AUDI 101labour hours as they are incurred.(could be computerized)
3) Job cards Finished: should be removed from pending file and costed-labour hours&material prices accumulated and overheads allocated. (see objectives above)
4) 5) Job Card Calculations Checked : all above calc. should be checked by a second
clerk6) Job Card Numericaly filed : after7) Job Card Completed file Sequence test & Check for: Frequent & Regular for
a) Cross-ref to “transfer to finished goods note” and to a “sales invoice” ( not skelm private job)
b) Missing job Cards are still in the production stage.8) Job Card Mngmnt Compare : to QUOTES and BUDGETS & investigate variances.9) “transfer to finished goods form” : On Completion : make out a
a) Accompany goods to finished goods storeb) Cross-ref to job cardc) Be used to write up perpetual inventory of finished goods (one record-the other is
job card accumulation, so you have 2 to stop skelm change 1,as well as other reasons)
2-FOR PROCESS COSTING1) Production Schedules : ALL ‘process runs’ MUST go on these, which are:
a) Sequenced & Datedb) Cross-ref : to Production Plansc) Cross-ref : to Material Requisitionsd) Authorised by: production manager
2) Each Day / or eg per 1000 : “Transfer to Finished Goods Form” should be made outa) Accompany goods to finished goods storeb) Cross-ref to Production Schedulec) Used to write up the finished goods perpetual inventory
3) Performance reports : by production shift to measure performance eg wastage,qty produced,damaged items.
4) Performance reports +production schedules –sent to: ‘costing’ for the allocation of labour &material pricing &overhead costs(by ‘Standard costing usually’)
5) Mngmnt Compare: Costed Production Schedules: Date&Sequence test regularly to checka) All Production Qty was CROSS-REF to a ‘transfer to finished goods form’(means
none was left out)b) Missing schedules are for finshed goods still in production(not skelm private
jobs)6) Mngmnt review :Performance reports to evaluate &follow up
inefficiencies/wastage/(control environment)7) Standard Costs :VS: Actual cOSTS: variances investigated.8) Posting to Journals: from signed , costed production schedules:
a) Dr WIP : Material cost, Direct labour, Mnftring overheads.b) Cr WIP , Dr finished goods with the total costs of goods above
9) CHECK: all casts, extentions,calc. before posting though.
4-INVENTORY COUNTS 1- CYCLE COUNTS Frequent comparison &reconciliation logic behind it is Discrepencies must be timeously indentified & corrected & preventative measures then put in place to stop more
1) Cycle counts are: used by very large qty&items inventories to compare actual to theoretical.BUT then PERPETUAL system must be used in order to make this work.(cycle counts are not restricted to large companies but a perpetual inventory IS required.)
2) Plan Timing : at begin year eg: 2 days every 3 weeks, or every 3 months(in large firms it can be an ongoing exercise.
3) Identify items to be counted:a) Random samples (from the records -list to shelf)b) Items susceptible to theftc) High value itemsd) Divided List in sections: do just 1 at each count
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104 | P a g e Auditing Notes AUDI 101e) Divided Warehouse in sections. : do 1 at the count
4) Use a Standard method & count controls5) Sequenced INVENTORY ADJUSTMENT FORM : all discrepencies entered here.6) Investigate discrepencies : by 1-internal audit 2-inventory controller.
a) Results of investigation recorded on ‘inventory adjustment form’b) Warehouse manager authorize adjustments &reviewc) Numerically filedd) Sequence checked regularly(? Why?maybe got ‘lost’in investigation)
7) Recording adjustments : by other clerk independent of 1-custody,2-receiving,3-issue.
8) Review 1 : perpetual inventory records VS adjustment forms by senior warehouse ou (to see if all adjustments DO actually come from the forms or not?)
9) Review 2 : discrepencies over a period to identify trends & put preventative measures in place.
2-YEAR END INVENTORY COUNTSPeriodic sytems count & price all once per year – so mistakes =effect on fin.stats.(perpetual as well but not as bad)
1) PLANNING & PREPARATION: 1. Timeous planning & preparation2. Date & time : of count, to be decide in advance.3. Method of : choose eg Tag system, or double counts, or marking all boxes
counted in 2 colours chalk (1 colour for each count) etc.4. Staff requirements : 1-Per team : 1 person from stores, 1 from accounting 2-
How many teams?5. Supervision : who will be the “Count Controller”?6. Prepare Warehouse: tidy racks, mark damaged goods,stack like goods
together,pack out half empty goods on to the racks.7. Warehouse floor plan :draft one to ID count areas for count teams.8. Locations & Categories :ID locations & categories all of inventory.
2) DESIGN OF STATIONARY:(3 types used) 1. Various docs.(3) used, all to be designed along standard design stationary
item number + location,columns for 1st count + 2nd count + discrepencies +prices + extentions(in many companies counters must insert the descriptions etc, esp. where perpetual system not used.)
3. Quantities not to be shown on sheet, as per records : so it forces counters to count(in theory, but practically not always possible)
4. Inventory tags : 5. Inventory adjustment forms :
3) WRITTEN INSTRUCTIONS: 1. Provide for all members directly&indirectly involved : info&instructions on
the count to be conducted.2. Identity of Count Teams + Responsibilities of each. 3. Method to be Used : eg Tag system, or double counts, or marking all boxes
counted in 2 colours chalk (1 colour for each count) etc.4. Identity of 1-Slow moving 2-damaged 3-consignment inventory.(say how to
identify these and record it)5. Controls over issues to & returns of Inventory Sheets to count
controller???:6. Procedures if Problems Arise: eg if items cannot be found, deliveries during
count etc.7. Dates,Times, Locations of Count: Give this in Detail.8. Pronounce ‘sixtiey’ etc not sixtie for 60, same for 70, 80, etc. to avoid confusion
4) CONDUCTING THE COUNT :(NB done in detail in class)(there are variations in procedutes but following should always be adopted)1. TEAMS of 2, one person always independent of all aspects of ‘inventory section’2. Floor plan : each team gets one, shows which are they are accountable for3. Count Twice: all items, use one of following methods:
i) 1 member counts, 1 records, swapping to count their area a second time.ii) I team counts 1 area once , then another team counts it again.They give their
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105 | P a g e Auditing Notes AUDI 101sheets back to controller and sign for sheets of another area.
4. Tag OR Chalk :Either neatly boxes counted coloured chalk 1 colour for each count OR use tag system
5. Damaged OR Very Dusty unused : inventory: mark on sheet as potential write-downs.
6. Packaging Tampered with : count items inside & note details on sheet.7. Random selection & check : select some packages and check contents inside to
see if description is same as on sheet, (check they have not been changed/removed and seal replaced.)
8. After count: controller + assistents must walk through warehouse and checki) Double marks OR both tags removed : on all boxes to show counted twiceii) Check inventory sheets if 1st & second counts qty same and same as records of
perpetual inventory.iii) Have discrepencies recounted.
9. Last GRN + INVOICE + DELIVERY NOTE numbers up to date of count obtained by count controller and recorded for future reference.
10. No dispatch on date of count(or use system of : all issue forms on those days must record if before end of year or after end of year removal per item and exact time and date of picking–before add to count if already counted , after subtract from count if not yet already counted – the counters must note time & date of each item counted to see which .(note : if box was already counted, then before leave same , and after also leave same.And if busy counting the box while picking stock then figure out a method to balance it all out-with people at door to double check what goes out etc. etc.very complex- must research and work this out)
11. Receipts from deliverys : store separate in receiving bay-don’t add to stock until after count.These late deliveries MUST then be counted and added to inventory count after count is complete.
12.Counters to:i) Draw Lines through Blank spaces on sheetsii) Sign each sheet and every alteration.
13. Inventory Controller to:i) Check above 2 procedures doneii) Sequence test sheets to make sure all are accounted for.
14. Count Teams Formally Dismissed : only when count is complete AND all queries have been attended to.
AUDITING THE CYCLE:During the “understabding the entity and its environment” stage the auditor will walk through and gather details of internal controls and production/cost accumulation/ inventory internal controls & processes and estimate the risk of fin.stats. being misstated.then he plans the audit in accordance.
FINANCIAL STATEMENT ASSERTIONS
1) Mainly : THE ASSET is fairly presented in fin.stats.2) Assertions : which apply:
a) Rights: …b) Existence: actually existed(not overstated)c) Completeness: all that should was recordedd) Allocation & Valuation: appropriate value amount(incl.adjustments ie “carrying value” at lower of cost
and net realizable value) and in the right account headings in ledger.3) Presentation & Disclosure :
a) Complete : in terms of 4th schedule and IFRSb) Classified : correctlyc) Accurately: presentedd) Understandable : ..manner
IMPORTANT ACCOUNTING ASPECTS –IAS2 –INVENTORIES
1) IAS-international accounting standards- gives definitions and requirements for methods to value inventory and present &disclose it.
2) DEFINITIONS: a) Definition: Inventories:consist of
i) Assets held for sale in the ordinary course of business(incl. finshed goods or bought for resale)
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106 | P a g e Auditing Notes AUDI 101ii) Assets held in process of production(WIP)iii) Raw materials to be consumed in production process
b) Definition:Net Realisable value :i) The estimated selling price in the ordinary course of business less the estimated costs of completion and
the estimated costs necessary to make the sale.3) Inventory to be presented at the lower of cost and net realizable value
a) Eg damaged inventoryb) Eg obsolete inventoryc) Eg:selling price has declined to below cost price
4) Cost of inventories: a) Should consist of
i) Costs of purchase: transport + import dutiesii) Costs of conversion :production overheads & direct labouriii) Costs to bring to present location and condition: eg costs of designing a product for a client
b) MUST EXCLUDE:i) Storage costs(unless these costs are necessary in the production process before the (further), following
production stage)ii) Administrative costs (exept those incurred in bringing them to present location and condition)iii) Selling costsAuditor must be satisfied that these were written off as expenses and not included in the costs of inventories
5) ‘Cost’ of manufactured goods : a) Allocating overheads to inventory must incl. only the following:
i) Fixed&variable PRODUCTION overheads.ii) Based on NORMAL capacityiii) Be allocated on a systematic basis which is reasonableiv) ABNORMAL wasted material,labour,or other abnormal production costs should be excluded.
6) Cost formulae : only the following are allowed by IAS 2.a) Specific Identifictionb) Weighted Averagec) FIFOd) Standard costs(only allowed to be used in fin.stats. if it approximates actual costs though-as a second
requirement)i) Only Variances in STD costing relating to Stock actually an hand at year end-since some will relate to
stuff already sold- may affect the cost of sales)ii) Variances as a result of incorrect standard setting must be dr/cr to inventory & cost of sales to
approximate actual cost as per IAS2)iii) So if it was a temporary price rise due to shortages but the price went down again , it must be added to
inventory cost for any of that specific purchase that is still in stock ,for the fin stats, due to condition: only allowed to be used in fin.stats. if it approximates actual costs though-as a second requirement), but if it is a price rise and half the inventory was sold, the variance for the part that was sold must be “???written off???how?? “, but only for part still in stock it must be added to the cost of inventories, and if same inventories were used for manufacture then it must be ‘written off”???what if the manufactured goods are still in stock?.
e) Retail Method (allowed to be used in fin.stats. if it approximates actual costs though-as a second requirement)
7) Pricing of Imported inventory: a) Rate at TRANSACTION date, not PAYMENT date.b) Even if rate is different at year end, no change is made to inventory.
FRAUD IN THE CYCLE:1) Fraudulent Financial Reporting :
a) Presents directors with an effective opportunity for manipulating the bal.sheet.b) The directors may:
i) Include fictitious inventoryii) Understate writedowns for obsolescence,damage,etc.iii) Overstate writedowns, or exclude inventory which should be included.
c) There are hundreds of ways to include fictitious inventory.As all directors know auditor will perform physical tests of inventory,many frauds require intricate planning and a lot of deception
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107 | P a g e Auditing Notes AUDI 101d) Example: the great salad oil swindle- vats had false pipes for measuring or seawater in the bottom.fraud
only got discovered when the banks called in their debts and there was no oil.e) Methods to reconcile fraudulent inventory with physical inventory:
(1) Include hollow containers in the count(2) Hollow stacking: surround empty boxes with full ones(3) Attach empty container to shelf to seem heavy(4) Put bricks in proper inventory packaging(5) Repack second hand or defective to look like new.(6) Alter qty on inventory count after the count(7) Include inventory which is not what is recorded on sheets eg steal genuine nike and replace
with cheap lookalike(8) Borrow from a related party for the count only(9) Have sold goods returned under false pretences for the count eg vehicles(10) Double counting : eg in transit or multiple locations(11) Obtain False 3rd party confirmations from agents or related parties(12) Include ‘on-consignment’ inventory as your own(13) Manipulate year–end cut-off.(14) Incl. goods received in physical count but not in inventory.(15) Pre-invoicing and include goods in physical count.
2) Misappropriation of assets a) How to get the goods and how to hide the theftb) How to get the goods will depend on:
i) Nature of goods: small valuable vs large immovableii) Physical control ; limited exits, cameras,etciii) Division of duties: custody & recording by same personiv) Frequency of physical & theoretical reconciliations.the more often the more difficult to stealv) Controls in other cycles: eg receiving goods(aquisition cycle) , despatching goods(revenue cycle)vi) How to hide the theft will depend on :
(1) Division of duties-custody & record keeping – presents the BEST opportunity.(2) Control environment weak.
TESTS OF CONTROLS AND SUBSTANTIVE PROCEDURES:TESTS OF CONTROLS
The auditors main focus will be substantive testing but some tests of controls are carried out.1) Observation:
a) of inventory count2) Inspection:
a) Cycle count amendment forms&recons. For frequency&materiality & how were resolved of discrepenciesb) Of Stores Controls : to determine the effectiveness of:
i) ACCESS : Access Control,(custody and safekeeping)ii) DOCS: Authorized documentation to record inventory movement.iii) FIFO: STORES LAYOUT, to facilitate physical implementation of FIFO.
c) Inspect Records controlling inventory movement. i) Inspecting a sample of requisitions and materials issue notes.
(1) Authorising signatures(2) Cross-ref to Job cards.
ii) Inspect a sample of inventory movements per the perpetual inventory records to “transfers to finished goods stores”
3) Enquiry: of production & warehousing to see what procedures they really perform.4) Recomputation :of calculations on 1-production schedules, 2-performance reports, and 3-other costing records.
SUBSTANTIVE PROCEDURES
1) Many of the tests of controls are dual purpose tests 2) Auditors Objective: (all done by substantive procedures)
a) Quantities correctb) Cost formula correctc) Reasonableness of write-downsd) Cut-off procedures(physical vs records)e) List of GRN no.s not matched to suppliers invoices by year end drawn up for later use.
3) Year-End procedures: a) Attendance at inventory count (existence ,completeness,valuation)
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108 | P a g e Auditing Notes AUDI 101b) Post – count procedures :subsequent audit of carrying value (valuation, rights, presentation & disclosure)
4) Inventory Count Attendance: ( generally) a) it is both a test of controls & substantive test.b) Test of controls: of actual controls for the count itselfc) Substantive tests:
i) Existence : of qty by sheet to shelf tests.ii) Valuation : condition-damaged/obsolete/slow moving.iii) Completeness: by shelf to sheet
d) Cut-off procedures(physical vs records)e) List of GRN no.s not matched to suppliers invoices by year end drawn up for later use.
5) INVENTORY COUNT ATTENDANCE: (METHOD ) NB a) PRIOR:
i) dates & times Liase with client about of countii) locations: confirm by enquiry, prior audit papers,visitiii) admin.planning eg organize staff to attendiv) written instructions: get a copy of clients instructions to his teamsv) not to be counted: get list of eg: consignment,invoiced but not delivered/collected.(&ask how it is
identified physically)vi) brief audit staff: as to their responsibilities.
b) DURING: i) Written instructions: observe to check clients instruction are adhered to.ii) Obsolete/damaged/dusty old packets record item no,details etc to check if it was noted on count
sheets as it should have.iii) Sheet to shelf: make sure all categories all sections & categories are tested.iv) Shelf to sheet: make sure all categories all sections & categories are tested.v) Resolve discrepencies & amendment: before end, to be sure amendments entered on sheet after
recounted with staff.vi) Numerical Sequence test: check before & after count to be sure all sheets are accounted forvii)Exclusions: confirm by enquiry (of counters) &inspection (of sheets) whether
consignment/undelivered/uncollected/etc have not been included.viii) Pronounce ‘sixtiey’ etc not sixtie for 60, same for 70, 80, etc. to avoid confusion.
c) CONCLUSION: i) Inspect Inventory Sheets To Confirm That:
(a) Lines drawn through blank spaces. (so items cannot be added)(b) Alterations/corrections have been signed.(c) Sheets signed by counters responsible.
(2) Audit Records (create some by)(a) Copies: of all inventory sheets.(hardcopy or digital)(b) Observations: as to clients count procedures.(c) Test Counts Results : of Test Counts by Audit team(d) Recording damaged/slow-moving/ obsolete : inventory.
(3) Record cut-off numbers: for all docs used in inventory & production cycle.(4) Record GRN unmatched to Supplier Invoices. List of.
POST INVENTORY COUNT PROCEDURES: (BIT NB SORT OF)
1) RIGHTS : (company holds or controls rights to the inventory.)a) Consignment : enquire mngmnt if any is held for other partiesb) Imported in Transit: get listing, see from FOB,CIF- if ownership has passed or not.c) Encumbered: find out if any is offered as security. By.
i) Discuss with mngmnt.ii) Inspect bank confirmationsiii) Review directors minutesiv) Review correspondence/contracts- suppliers/&credit providers.
d) Invoices : made out to clients name (not another) check while doing valuations.2) VALUATION & ALLOCATION (at appropriate amounts) (ONLY IN MULTIPLE CHOICE)
a) Arithmatic Accuracy: i) Auditors copy VS clients copy of inventory sheet(if client did not alter the sheets)ii) Reperform casts&extentions on inventory sheets.iii) Negative item values- check sheet(should not be any)iv) Inventory sheets TOTAL vs ledger vs TB.
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109 | P a g e Auditing Notes AUDI 101b) Pricing inventory purchased locally
i) use sample test counted at ‘count’ to check(1) trace pricing to suppliers invoices(2) & recalc. Formula for FIFO.(3) Or recalc formula for Weighted average if used(4) Carriage costs: enquire of costing clerk&inspect transporter invoices to make sure it was incl. in costs
of itemsc) Pricing imported inventory purchases.
i) Get a sample of HIGH VALUE items(1) Get suppliers invoices,shipping contracts,costing schedule and reperform unit cost calc. to verify:
(a) Exchange rate on day of transaction, not payment(check with bank -rates)(b) Customs&import duties incl. –from Shipping agents invoices(c) Allocation to each item of these costs is reasonable & accurate.(d) NOTE: companies which import inventory usually have a ”COSTING SCHEDULE” with details of
how costof imported goods was arrived at – eg customs,shipping etc. (auditor traces back to source docs)
(e) NOTE: there may be more than 1 supplier invoice at different prices× for any 1 type of items sampled-check all.
d) Pricing manufactured goods i) COSTING METHOD: enquire&inspect docs to get idea of method used.ii) CHECK IF CONSISTENT with prior years, AND remains appropriate now.iii) FOR STD COSTING SYSTEM:
(1) Check appropriateness of standards setting process & adjustments to standards- enquire&inspect(2) Check variances- esp. to see no inappropriate increasing of inventory at year end.
iv) COSTING SCHEDULES VS SUPPORTING DOCS:(1) descr. of materials & prices (2) labour costs VS payroll records(3) allocation of overheads: ONLY fixed&var. Production overheads.(4) Based on normal capacity(5) Done on a systematic basis which is reasonable
v) COSTS OF CONVERSION: make sure no: admin. Overheads or selling expenses or “abnormal” wastage&labour&production costs.
e) Lower of cost/net realizable value i) Use a sample to verify selling price by
(1) Refer to sales lists(2) Most recent sales invoice per item(3) Compare sales prices VS 1st post bal. sheet date invoices to see which is lower.
f) Obsolescence : Inventory allowance i) Discuss with management:
(1) Process used – fixed(only allowed if strong historical evidence) or detailed analysis each year.(2) Procedure for approval of allowance- eg is it approved by fin. Director after consult warehouse mngr.(3) Specific events: eg flooding this year(4) Any soon to be /or are obsolete products- eg competitor launched a competing product.
ii) Analytical procedures: this year to last tear for eg:(1) Allowance(2) As % of total inventory(3) Inventory turnover ratio(4) Days inventory on hand
iii) Indicators of obsolescence problems:iv) Reperform ageing of inventory by tracing back to source docs.v) Compare allowances raised in previous years to actual write-offs in subsequent years to check mngmnts
estimates.vi) Year-end count- check if those obsolete/damage etc have been included in allowance.vii) Reperform calc.s of allowance viii) & discuss reasonableness with management as per evidence gathered.
3) COMPLETENESS a) Cut-off proves all that was purchased was included and all that was sold, was excluded.b) Attend inventory countc) Analytical review
4) EXISTENCE :a) Cut-off proves all that was purchased was included and all that was sold, was excluded.b) Attend inventory countc) Analytical review
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5) GENERAL: ALL ASSERTIONS: a) Analytical review : current to last years eg:
i) Total ii) Total by category, source(local/import), locationiii) As % of Current assets,total assets.
b) Include reference to inventory + also to obsolescence, in the management representation letter.
6) PRESENTATION & DISCLOSURE : (whether fin.stats. are complete in terms of)a) IAS standards & 4 th schedule
i) Encumbrances on inventory(security)ii) Accounting policiesiii) Cost formulae
b) Consistent with evidence gathered on auditc) Amounts,facts,details accurate and consistent and agree with evidence gathered.d) Classification is appropriate : eg WIPe) Wording of disclosures is clear&understandable eg: for a reversal of impairment.
THE USE OF AUDIT SOFT WARE (SUBSTANTIVE TESTING)
1) Normally the inventory masterfile will contain at least the following fields:a) Item no.,descr,category,location,importlocal,approved suppliers,qty on hand,unit selling price,unit cost,date
of last receipt&GRN no., date of last issue & Doc. No, item value(cost*qty).2) Procedures which can be conducted on it using CAAT. 3) Enhance auditing of inventory by
(1) Stratify as category & item value – for 1-planning/2-analytical/3-selecting samples(2) Scan ERROR : masterfile for error conditions,1-duplicate ACCOUNT NUMBERS (existence),2-NEGATIVE qty or unit cost 3-
negative qty AND negative unit costs( valuation) ,3-blank fields(existence)., 4-QTY field is 0 but date last purchase is > date of last sale 5-qty = 0 but ‘value’ is above zero 6-date last purchase/sale in after year end
(3) Select samples for 1- pricing 2- inventory count(4) Reperform : 1-qty VS unit cost 2- cast totals field(5) ANALYSE by:-ALL to get evidence for WRITE-DOWNS
(a) Unit cost EXCEEDS selling price(b) Date last sale is 9 mnths before year end,date of last purchase is within 2 mnths of year end(c) Date last sale+purchase is over 9 mnths from year end(d) Where qty on hand is say over 5 times qty sold to date.
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CHAPTER 13 PAYROLL AND PERSONELL CYCLECHAPTER 13 PAYROLL AND PERSONELL CYCLEACCOUNTING SYSTEM AND INTERNAL CONTROLS
INTRODUCTION:1. Unique Characteristics:
a. Major Expense: results in an outflow of cash , to most businesses it is a MAJOR expense, not a small one.
b. Involves Cash : many are still cash , exept electronic transactions.c. Internally generated transactions : most documents are internally generated, not by eg external
suppliers.Fraud is thus easy with this.d. Susceptibility to fraud: wage frauds are not uncommon because:
i. Cash is easy to conceal/stealii. Adding fictitious hours/or workers needs no external documentation.iii. Large amounts of money can be generated, by 20 extra employees, to bribe collusion wage
dept.e. Continuity of Operations: a workforce paid 1 day late is very upset, not suppliers.Thus
Contingency Plans Needed.f. Major Risks Within the Cycle.
i.
DOCUMENTS USED IN THE CYCLE:1) Employment Contract/ Employee file : Employment contracts + Advert in Newspaper(proof not fictitious)
+Interviewing panel results + UIF etc. + Sick leave taken/signed etc.2) Payroll Amendment Form : used in detail to authorize all changes per mnth etc. for promotions/dismissals/
higher wages etc.3) List of Employees: provided by personnel, a list of all employees &details, needed to calc. wages&salries
month end etc.4) Clockcard: card which records hrs a wage earner has worked.5) Batch Control Sheet & Batch Register: control movements of batches of clockcards between functions.6) Deduction tables & Returns: PAYE /Med.Aid /UIF etc.7) Wage journal (PAYROLL is another name) : spreadsheet listing employees names + work/cost centre +
overtime&hours etc.8) Paypackets, Payslips, Salary Advices: cash goes in here./ explains deductions etc.9) Unclaimed Wage Register: book recording those who did not collect their paypackets.10) Wage /Salary Reconcillliation: recons this weeks wages/salaries to last weeks .(see example later in
chapter)
CHARACTERISTICS OF GOOD INTERNAL CONTROL:1) Control Environment: important that management insists on strict adherence to controls, if employees
perceive weakness frauds will occour.2) Competent Trustworthy staff.: cash is being handled: accurate& on time & trustworthy.3) Division of Duties: recording separate to assets(cash&bank) eg clerk prepare payroll may not handle cash./
or sign cheques.a) 1- creating clockcards 2-recording hours 3-preparing payroll 4- paying over cash/signing cheques b) Within each of these above functions : divide between Doing task & Checking it.
4) Isolation of Responsibilities : because fraud is likely , workers must be able to prove where their resposnsibility started and ended and prove they carried out their function. This is very important where cash is passed from 1 to another.a) Eg: where clockcards are passed from 1 to another : both must sign to show they 1-checked &
2-received/gave the cards so if any false card is inserted, it can be identified who was involved /put it in.5) Access/Custody controls : especially: blank clockcards, salary account cheques, clocking device , cash(as
paypackets or unclaimed wages)6) Source document design : eg place to sign payroll journal&clockcards . Also space for
normal/overtime/employee details/ etc. and gross wages/deductions total in payroll journal etc.7) Comparison and Reconcilliation :
a) Current VS Previous weeks wages/salaries + no. of employees + amounts paid.b) Payroll (by wages dept) VS Records from User Dept(eg depatch dept etc.)c) Personell records VS Actual living people
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FLOWCHART & DESCRIPTION OF CYCLE :NOTE: For every single controls column below , ADD: employees must sign docs to acknowledge control procedures they have conducted.( as per book vertabim)FUNCTION Descr. DOCUMENTS RISKS CONTROL PROCEDURES
1-PERSONNEL (Human Resources)
Obtain max efficiency from workforce by control: 1-Dismissals2-Recruitments3-Wage negotiations4-Labour disputes5 Keep Records for employees(Accurate Complete) produce clockcards from these.
1-Payroll Amendment Form.(PAF)2-Employees File.
1- Unnecessary or unsatisfactory :recruit/retain such employees.2- Dismissal : Incorrect procedures.3-Unauthorised amendments to employee records. -fictitious add - wage rate change
1-Requests: for new retain or old dismiss must be from 1-DEPT making request, IN WRITING 2-Signed by section head , countersigned by sect. manager,after reference to the budget.2-Pay Rate / promotions /other service conditions : 1- Decided by Wage Committee/ or Personnel Dept. after 2-Consultation with interested parties eg UNION representative 3-Consider Laws & Regulation : eg min. pay rate/overtime etc. 4-Documented + Authorised by body authorizing eg: Wage Committee/ Personell 3-Payroll Amendment Form(PAF) : all above to here + 1-Cross Ref to supporting docs + 2-Signed by senior Personnell Dept. 3-Regular Review Gaps in file of PAFS : sequence&validity.4-Competent trustworthy Personel : 1-use sound Personell Practices (interview/background checks.)5-File Of Each Employee : to be kept incl : 1-copies of relevant PAF’s 2-employment contract 3-performance appraisals & disciplinary warnings 4-personal details including qualifications ,background info.
2-TIMEKEEPING 1-KEEP VAC record of valid hrs worked2-Clockmachine commonly used3-daily hrs added for week & sent to payroll preparation.
1-Clock cards2-Batch control sheet3-batch register.
1-invalid Hrs recorded.by eg: Fictitious employee Clock for absent friend Clock in + leave premises.2-hrs incorrectly added for normal / overtime
1-Entry & Exit points of Work area: 1-limited (preferably just 1) 2-protect by turnstile mechanism(counts in/out) 3-supervised during clocking periods(watch that no double clock etc.)2-Clockcard : prepare by Personell Dept only,strictly per “authorized employee list.”3-At end of WEEK : (usual Wednesday Afternoon) 1-agree no. of cards VS list of employees in section.
2- calculate ordinary time3- calc. overtime4- divide into workable batches(25)5- Do batch control sheet:
4-Batches: a- Before batch transferred to payroll section head must: 1-check calculations 2-authorise overtime( need for overtime to be confirmed before it is worked) 3- check & sign batch control sheet\ b- Batch Register : details of batch to register & then securely transferred to Payroll Preparation
3-PAYROLL PREPARATION:
Calc. wages&deductions. From hrs. and record on payroll.(wages journal)
1-Clock cards2-Deduction tables3-Updated List of employees4-Payroll (Journal)
1-Wage clerk check details of batch & sign register on receipt from timekeeping.2-Wage clerk prepare: 1-payroll 2-coinage schedule 3-Recon : this week VS last week (no.employees+amounts net) 4-A RECORD: control totals for overtime & hrs worked etc. 3-Supervisor or 2nd wage clerk : 1-verify hrs&rates used VS clockcards & employee lists. 2-verify deductions VS relevant table 3-Reperform calculations & wage recon. 4-Sign4-Head of Payroll Prep : SIGN 1-payroll 2-recon (week to week one) after careful review.5-Cheque for wages: give with 1-payroll 2- recon to 2 cheque signatories who : 1-review for unusual eg large amounts , excessive overtime. 2-check signatures :for control signatures 3-sign payroll & recon
1-Errors or theft of cash during 1-drawing of cash 2-making up paypackets
1- 2 people to make up wage packets (where there is cash allways 2+) (and also “physical” security over cash handling tight)2- Delivery of Wages to payout: section head must
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recording. 4-Unclaimed wages register 3-payment of employees2-Theft of Unclaimed Wages
1- agree no. paypackets to payroll. 2-agree control totals : batch register ot.hrs , no. cards. 3-sign payroll to show receipt & control procedure done.3- Lock away paypackets till payout4- 2 people min. do payout :independant paymaster & foreman 5- Employees must: 1-show ID 2-sign payroll (to show receipt) 3-count & report discrepencies immediately. (tick sheet on employment date to say read this- tick each & sign.6- collect for another person : MAY NOT collect the paypacket. 7- AFTER payout: foreman & independent paymaster must : 1-agree all unclaimed paypackets to payroll 2-identify on payroll all employees with unclaimed paypacket. 3-Unclaimed wage register : fill it in 4-Sign Payroll :to acknowledge this control procedure.8- Lock away by paymaster : unclaimed paypackets AND payroll9- Collect Unclaimed Wages : show ID + Sign unclaimed wage register(not payroll) (it could be a fictitious employee!)10-After 2 weeks: unclaimed to be a-Banked + b-Copy deposit slip attached to register + c-Cross-Ref to entries11- Reconciliation : unclaimed wage packets to unclaimed wage register +CHECK FOR UNUSUAL OCCOURANCES eg more unclaimed in one section than another.
POINTS BY LECTURER:-physical security : high windows + no disturbance allowed during the paypacket filling with cash.-people who will count out cash must declare how much cash they have when they walk into the room- if short wages they must be searched. & use other people eg creditors or debtors clerk, not same ones who prepared the wages. Also someone must observe them to make sure they put nothing in their pockets.-unclaimed: recon to blank spaces on register
5-DEDUCTIONS: PAYMENT & RECORDING.
1-To record liabilities in respect of deductions& settle them in time
1-General Ledger2-Payroll (wage journal)3-Cash Payment Journal4-Return form
1-penalties due to non-payment or late payment or underpayment.2-criminal/civil charges due to non-payment (this is theft)3-Overpayments : losses due to
1-One Single Person to raise & pay deductions :isolate responsibility so no confusions develop 2-a strict monthly schedule for : 1-post entries to raise liabilities for deductions 2-make payments timeously 3-supervisory checks on above activities3- Signing cheques: Payroll Journal & Return forms should be presented for scrutiny before signing .4- independent monthly scrutiny of general ledger accounts for deductions (liability/ creditor account) by the financial accountant , to be sure they are being cleared
AUDITING THE CYCLE
INTRODUCTION1) Risk of misappropriation is high so direct lots of resources to this one2) EXPENSE total, not a BALANCE total which can be reconciled to an asset.3) Auditor must be reasonable certain controls operated efficiently throughout the year to produce VAC total.4) Substantive tests:
a) Test recording of hoursb) Confirm employees do existc) Test week to week changes to PAF d) Accuracy of calculations & deductionse) Confirm deductions are paid overf) Extensive Analytical review
5) BASE WEEK METHOD: common method is to test 1 or 2 base weeks to be sure they are 100% correct, then just compare& recon them to all other weeks in year and do ANALYTICAL COMPARISONS.
ASSERTIONS:1) OCCOURANCE : most important one because The Highest risk = overstatement of expense by incl. fictitious
payments2) ACCURACY: 3) CUT- OFF: 4) CLASSIFICATION : in the proper accounts
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114 | P a g e Auditing Notes AUDI 1015) COMPLETENESS : not normally a risk exept make sure no illegal immigrants and not record wages/ or illegally
low wages to those who need a job.= reportable irregularity + contingent liabilities (fines/penalties/ illegal)6) DEDUCTIONS: the Liabilities part does not form part of this and is done when “creditors” are audited , not
here.
FRAUD IN THE CYCLE1) FRAUDULENT FINANCIAL REPORTING
a) Not really a lot of scope for this, exept profit by manipulating the expense accountb) Illegal immegrants: by not reporting their wages a form of fraudulent financial reporting is taking place.
i) Wages not reportedii) Contingent liabilities ie possible fines/penalties not reported
2) MISAPPROPRIATION OF ASSETS a) Wage fraud :
i) OCCOURANCE :Include dummy employees : MASTERFILE+ CLOCK CARD etc (1) Not remove if retire/dismissed/resign(2) Collusion is required eg foreman & wage clerk , also possibly fictitious employee.(3) Note : They MUST get the cash into their own pockets somehow-this is a tricky part
ii) OCCOURANCE :Unauthorized rate/scale changesiii) OCCOURANCE :Employee paid for Fictitious hours eg foreman authorizes overtime never worked & split
proceeds , or clock in for absent friendiv) VARIOUS ASSERTIONS :Tax evasion schemes - by directors usually , eg company cars for directors not
declared and PAYE not deducted & fringe benefit not reported.This is a reportable irregularity per Auditing Profession Act.
AUDIT PROCEDURES: SALARIES & RELATED ACCOUNTS
1) OCCOURANCE: a) Check if genuine living people :Sample of Employees from wage register,
i) Inspect Personel file (various docs verify he exists)ii) Signature : compare “salaries register” one to “employee file” one. iii) Vouch ; trustworthy eg fin acc. To vouch for people you don’t knowiv) Vouch ; with dept. manager if if worked there in dept.v) If Doubt, do surprise verification: physical check on person.vi) Discuss with Personell Staff, & Examine employ/dismiss Docs to:
(1) Make sure removed from salaries register on correct date(2) Employ/dismiss Docs Properly Authorised
vii)Examine: PAYE /UIF returns for employee name&tax no. etc. VS employee fileviii) AUDIT SOFTWARE: Check masterfile for Error conditions which show fictitious employee
(1) Duplicated/missing ID no.(2) Duplicated/missing Tax No.(3) Duplicated: employee no (only duplicated)(4) Duplicated: Bank acc. No.
2) ACCURACY , CUT-OFF , CLASSIFICATION a) Inspect : Salaries register Gross salary VS personnel section listingb) Inspect: if there were lately salary changes – inspect authorized list of salary increases VS actual salary
paid to see if correct one was used.c) Deductions: PAYE/Med aid etc check if correct was made, if wrong ask personell&employeed) Returned Salary Cheques: correct crossings, + suspicious endorsements + correct amount per salary
register.e) Recompute: 1-deductions & 2-salaries register casts & cross-casts. f) DATES & details : on Paid cheques VS return forms for : deductions Clearing Accounts+ salaries paid
pertain to correct cut off AND deductions paid timeously. 3) GENERAL ANALYTICAL PROCEDURES:
a) Salaries : Month TO Month any large fluctuations by division/branch/dept etc. b) Ratio & Trend :
i) Commission % of TOTAL SALES ii) Salaries as % of TOTAL EXPENSES
c) Payroll ledger accounts : STRANGE/’out of ordinary’ amounts eg 13 th cheque/ lump sum payments4) ASSERTIONS PERTAINING TO PRESENTATION & DISCLOSURE:
a) Disclosures in notes: i) Complete in terms of IAS (international acc. Standards) and 4th schedule eg directors emoluments&
post employment benefitsii) Consistent with Evidence gathered on the auditiii) Amounts, facts details accurate & agree with evidenceiv) Classification: of info is appropriate.
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115 | P a g e Auditing Notes AUDI 101v) Wording Clear & Understandable
5) NOTE 1: illegal employees : if auditor has a suspicion :a) Do a reverse identification ( employee against list, not visa versa)b) Alert to unsupported paymentsc) Alert secret bank accounts.
6) NOTE 2 : Salaries by EFT:a) Obtain mnthly schedule of EFT from bank = 3rd party evidence used to gather substantive evidence
7) NOTE 3: Month to month Recon :a) Use it to vouch & verify movements on the Payroll Journal eg incr. means you check appointsments
documentation and salary increase authorizations.
AUDIT PROCEDURES :WAGES & RELATED ACCOUNTS:
1) OCCOURANCE: a) We will assume the base week method has been chosen, for the following procedures:At the planning stage
a number of weeks should be pre-selected at which a surprise attendance at the wage payout will take place:i) Arrive after paypackets prepared but before payoutii) Take custody of all paypackets agree name number amounts to Payroll.iii) Disribute wages :Accompany paymaster and check:
(1) ID of each (2) Ask foreman if the employees are authentic(3) Unclaimed Wages :
(a) Check if noted in Unclaimed Wages Register + on Payroll(b) On later visit ask for the employees & ID .(c) Inspect the U.W. Register all entries since last attendance.
(i) Employees appearing Regularly :Check authentic each employee (ii) Confirm re-banked in reasonable time (deposit slips/ copies on UWregister/bank records)
iv) Personell Records (of a sample of employees at the attendance)(1) Check files for evidence (eg: contract, UIF/PAYE, advertisement, union details, medical details)(2) PAYE/ UIF – check their names were included on the returns.
b) EFT Payouts :i) ID : still check ID ‘s and physical inspection at workplace of employeesii) AUDIT SOFTWARE: Check masterfile for Error conditions which show fictitious employee
(1) Duplicated/missing ID no.(2) Duplicated/missing Tax No.(3) Duplicated: employee no (only duplicated)(4) Duplicated: bank acc. No.
c) CHECK HRS RECORDED WERE ACTUALLY WORKED (occourance) i) The following tests of control during the base week are done
(1) Observe if clocking controls limit fictitious people & hrs (in morning/evening) (2) Integrity Foreman : ask management of his integrity(3) Foremans Signature : inspect it authorizing the overtime(4) Reperform calc. of hrs worked on clockcard(5) Evaluate possibility of hrs could be credited to employee after ‘clocking’ eg during payroll
preparation.ii) The rest of the year is checked by comparing to he base week., any large fluctuations are followed up.
2) ACCURACY , CUT-OFF, CLASIFICATION: a) FOR WEEKS of surprise attendance :check payroll& supporting docs, to confirm
i) Wage rates are authorized (employee list)ii) Total hrs calculated correct AND overtime+normal are correct.iii) Deductions correct as per tables
b) RECALCULATION: i) Extentions& casts correct ii) Gross wages- deductions=net pay iii) Classification: postings from Journal to legder are to correct accounts.
c) DEDUCTION CLEARING ACCOUNTS: check if cleared timeously – by inspect cheques and bank transfer documents.
3) COMPLETENESS a) If suspect wages paid not recorded(eg illegal immigrants)
i) Reverse ID check (shelf to sheet)ii) Enquire senior mngmnt illegal workersiii) Alert to unsupported payments –esp.cash amountsiv) Check validity of ‘casual wages’
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116 | P a g e Auditing Notes AUDI 1014) GENERAL / ANALYTICAL PROCEDURES
a) on each subsequent visit after base week , b)c) Wages : week to week any large fluctuations by net wages,/division/branch/dept etc. d) To Total wages last year e) Production /or total no. employees vs Wages f) Trace Ledger wage balances to Trial Balance g) Ratio & Trend :
i) Commission % of TOTAL SALES ii) Salaries as % of TOTAL EXPENSES
h) Payroll ledger accounts : STRANGE/’out of ordinary’ amounts eg 13 th cheque/ lump sum payments5) ASSERTIONS AS TO PRESENTATION & DISCLOSURE:
a) Only related disclosures eg: post employment benefits.
THE USE OF AUDIT SOFT WARE (SUBSTANTIVE PROCEDURES)1) If weekly transaction files + computerized & on masterfile :
i) Masterfiles can be :(1) SCANNED for ERROR conditions :
(a) Missing names, employee numbers, tax reference no. etc.(b) No amounts in ”year to date’ earnings field(c) Negative earnings (there should be none)(d) Net wages > Gross earnings of employee (none should be found)
(2) STRATIFIED & SUMMARISED by(a) Section /branch / region / for Analytical review
(3) EXTRACT :(a) List of 1- employed 2- resigned/dismissed and COMPARE to PAF(b) Random Sample of employees for : physical identification.(c) Random Sample of employees for : pay rates /grades verified against physical documentation
(4) Masterfiles contain usually:(a) Name,number, address, grade, section/branch/region, leave entitlement, date employed, date
dismissed/resign, earnings&deductions for current week/month, same for current year .
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HOW TO DO A RECONCILLIATION FOR SALARIES AND WAGES AS PER IAS ACC. STANDARDS IN THE NOTES TO THE FIN. STATS.
