Unit 1
Introduction to Auditing
The word Auditing is derived from the Latin term ‘audire’ which means – to hear. In ancient times, auditing was done in such a manner. But, the manner of Auditing has undergone dramatic changes with the time.
From the end of the 15th Century, great significance was given to trade and business. In 1494, when the Double Entry System of Bookkeeping was introduced to the world by Luca Paciolo of Venice, this accounting system proved to be a remarkable point.
The ancient cultures worldwide, show the existence of Accounting and its Auditing. In India, Kautilya’s famous script ‘Arthashashtra’has a detailed understanding on the process of Accounting and Auditing. The system of checks and counter checks has been explained in this script.
Industrial Revolution that began in the 18th Century, was a massive step towards growth and development throughout the world. The traces of Auditing, too can be found from that time, when the mass production began to flourish the business.
“An Auditor is a person who diligently examine the accounting records and other financial statements of the business entity, does the work of audit, frames his opinion, present it through his report (called Audit Report) for the concerned period.”
Persons having recognised professional training and qualification need to be auditor. In India, the Companies Act, 2013 recognise a Chartered Accountant to be an Auditor.
According to General Guidelines on Internal Auditing issued by the ICAI, "Auditing is defined as a systematic and independent examination of data, statements, records, operations and performances (financial or otherwise) of an enterprise for a stated purpose. In any auditing situation, the auditor perceives and recognises the propositions before him for examination, collects evidence, evaluates the same and on this basis formulates his judgement which is communicated through his audit report."
The scope of audit of financial statements depends uponthe terms of engagement and the requirement of the relevant laws.It is the inherent authority with the auditor to cover all those aspects of the organisation which are relevant to the financial statements.
While forming an opinion on the financial statements, the auditor should satisfy himself that the financial statements of the entity reflects true and fair view on the financial stand, internal control and profitability of the entity.
The auditor is predominantly concerned with those items of the financial statements which either individually or in a group are material. Since, defining a definite standard for materiality is difficult, it is left on the professional experience and judgement that of the Auditor.
A perfecttarget in an audit programme should cover the following:
- An examination of Internal Control. This enables the auditor to form his opinion as to whether the financial and non-financial records placed before him, can be relied.
- verifying the arithmetical accuracy in the books of accounts
- checking the transactions entered in the books of accounts with the supporting documents
- verifying the existence of proper authority of each transaction.
- reporting to the appropriate person whether the statement of profit and loss and the Balance Sheet of the entity reveal true and fair view.
SA 200 ‘Overall Objectives of the Independent Auditor’ lays down the objectives of the auditor while conducting an audit and reporting on the financial statements.
The objectives of an Auditor is mainly two-fold.
To obtain reasonable assurance whether the financial statements are free from material misstatements, whether due to fraud or error.
And
To report on the financial statements and communicate in accordance with the Auditor’s findings and discoveries.
The above mentioned objectives of audit are explained with the help of the following points:
- To examine the accuracy of books of accounts
While examining the accuracy of books of accounts, the Auditor has to verify the vouchers and other records.The auditor have to verify the arithmetical accuracy of the books of accounts. Also, the existence and the value of assets and liabilities need to be verified.
- Detection and prevention of errors and frauds
An error is nothing but an unintentional mistake. It depicts carelessness at that person’s end who prepares the accounting records. There may be errors of omission or errors of recording or errors of posting or error of duplication or error of principle.
Fraud is an intentional misrepresentation in certain transactions in the books of accounts. Unlike Error, Fraud is done wilfully to deceive somebody. This is why, detection of frauds is of utmost importance while conducting Audit.
- Expression of opinion
Once the verification of books of accounts is done, the Auditor has to express his expert opinion on the financial statements. The auditor need to express in his Audit Report whether the statements show true and fair view.
The meagre fact that audit is compulsory by law, shows that it is of great importance. The obvious benefit of the audited financial statements is that the users of these statements can rely on the observations and conclusions drawn by the auditor.
Advantages of Auditing:
- Audited financial statements help in determining and settling the tax liability.
- while negotiating loans with the Banks or any financial institutes, audited statement of profit and loss and the balance sheet are required.
- As audit requires checking of internal controls of the organisation, any inadequacy in the internal controls can be traced.
- Insurancecompaniesrequiresauditedstatement of valuation in case the company is claiming for any loss suffered.
- Audit helps in the following cases of reconstruction (restructure)
- Upon admission of a new partner
- Settlements with the family members of the deceased partner
- While amalgamating the business
- At the time of sale of business
Limitations of Auditing
The limitations of Auditing arise from:
- Nature of audit procedures
- Fraud, where top management is involved
- Non-compliance of applicable laws
Following are the limitations:
- The auditor is empowered only to give opinion on the financial statements. He cannot give guarantee regarding the financial soundness of the business entity.
- Auditor has to rely on the information, data and statistics provided by the management of the organisation. If there remains a deep laid fraud, (generally possible with the involvement of top management) it may not come to the knowledge of the auditor with the normal course of examination. So there are chances of undisclosed frauds.
- Auditing does not involves control over the past activities. Since auditing starts after the completion of the accounting work that is, recording the transactions, the audited accounts cannot prevent past damage that has been done.
Reference
- Auditing – T. R. Sharma – SahityaBhawan Publications.
- Auditing – B. K. Mehta – SBPD.
- Auditing – N. L. Nadda.
- A Hand Book of Practical Auditing - B. N. Tandon, S. Sudharsanam& S. Sundharabahu – S. Chand.
- Auditing – O. P. Gupta, B. N. Ojha, B. K. Singh – S. Dinesh & Co.
- Auditing: Theory and Practice – G. D. Verma, Pradeep Kumar, BaldevSachdeva, Jagawant Singh – Kalyani Publisher
