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Audit

UNIT IIIAuditing Techniques and Internal Audit Q1) What are the advantages of Test Check?A1) Advantages of Test Check are as follows:

Reduces the cost of audit.

It helps to speed up the audit work.

It helps to decide whether the financial records are reliable and to what extent.

It is a labor saving technique.

It helps auditor to arrive at a conclusion regarding the true and fair view.

Q2) What are the drawbacks of Test Checking?A2) Drawbacks of Test Checking

Arbitrary Selection

The selection depends upon the personal judgment of the auditor.2. Ignores Statistical TechniquesTest checking ignores statistical techniques of sampling, random selection, risk assessment etc. Thus, auditor cannot be confident that he has selected the right sample. 3. Ignores QualityAn audit instruction regarding, say 25% checking of purchase entries, does not indicate how those 25% entries are to be selected.4. RisksRisk means the possibility that conclusions from test checks may be different from those based on 100% checking. Risks are of the following types –(a) Reliance on Internal Controls(b) Wrong Conclusions Q3) What is Audit Sampling? What is its purpose?A3) Audit sampling is an investigative tool in which less than 100% of the total items within the population of items are selected to be audited. It is an auditing technique that provides supporting evidence that allows auditors to issue audit opinions without having to audit every single item and transaction. Purpose of Audit SamplingNo matter what kind of audit is being performed – internal, external, or government – audit sampling needs to be used so that auditors can complete their audits without wasting resources in checking every single item. The objectives of audit sampling are as follows:• Gather enough evidence to conclude an audit opinion• Reduce the number of resources used• Provide the basis for auditors to issue a conclusive audit opinion• Detect any errors or fraud that can occur• Prove that auditors have completed their audit fully in accordance with auditing standards• Used as a tool for investigating Q4) What is the importance of Audit Sampling?A4) Importance of Audit SamplingWhen auditing financial statements, it is not feasible to audit and check every single item within the financial statements. It will be very costly and will take a lot of resources and time to do so.Audit sampling enables auditors to make conclusions and express fair opinions based on predetermined objectives without having to check all of the items within financial statements. The auditors will only verify selected items, and through sampling, can infer their opinion on the entire population of items. Q5) What are the different forms of Audit Sampling?A5) Forms of sampling1. Statistical audit samplingStatistical audit sampling involves a sampling approach where the auditor utilizes statistical methods such as random sampling to select items to be verified. Random sampling is used when there are many items or transactions on record.Consider a company with more than 100 inventory transactions on its records. Using statistical sampling is recommended due to the high number of transactions.For example, with statistical sampling, ten items are selected from the total population randomly. Every single item within the 100 has an equal probability of being selected and tested for accuracy as a result. Again, it benefits auditors since they can still make an audit opinion but do not have to check all 100 transactions. 2. Non-statistical audit samplingIn contrast to statistical audit sampling, non-statistical audit sampling items are not chosen randomly. Instead, they are chosen based on the auditor’s judgment, and the result of the testing from the selections is not used to infer the conclusion for the entire population.In the example earlier, ten inventory transactions can be used to infer the opinion on all 100 transactions. In non-statistical audit sampling, the auditors may choose to select items based on criteria such as:• The value of items (e.g., items greater than $100,000)• Items with specific information (e.g., items related to a certain company) Q6) Explain the objectives of Internal Control.A6) The objective of internal control i.e. accounting Controls and Operational Controls are as follows.

Accounting controls

All transactions are duly authorized, properly recorded and recorded promptly.
The accounting policies adopted by the management in respect of stock valuation, depreciation etc. are implemented.
The assets of the concern are safeguarded; the assets are not used or sold without proper authorization and are verified regularly.
Errors and frauds are prevented and detected.
The books of accounts are complete and accurate.
The final accounts are reliable and ready in time.

2. Operational or Administrative ControlsOperational Controls aim to ensure that the management policies in respect of the operations and administration of the concern are implemented. This in turn ensures that the business is conducted in an orderly and efficient manner. Examples of operational controls are Quality Control, Budgetary Control, Internal Check, Internal Audit, Quantitative Controls etc. Q7) What are the objectives and functions of Internal Audit?A7) Objectives of Internal Audit

Review of accounting system and Internal controls

Examination of Accounting controls

Examinations of Operational controls

Physical verification

Functions Of Internal Audit

Monitoring of internal control

Examination of financial and operating information

Review of operating activities

Review of compliance with laws and regulations

Risk management

Governance

Q8) Distinguish between Statutory Audit and Internal Audit.A8) INTERNAL AUDIT VS. STATUTORY AUDIT

TOPIC	INTERNAL AUDIT (IA)	STATUTORY AUDIT (SA)
Voluntary / Compulsory	IA is Voluntary	SA is compulsory under law e.g. under Companies Act.
Appointment	Internal Auditor is appointed by the management itself.	Statutory Auditor is appointed by the shareholders of a Company.
Status	Internal Auditor is an employee of the concern.	Statutory Auditor is an independent outside expert.
Responsible & reports to	Internal Auditor is responsible and reports to management.	Statutory Auditor is responsible and reports to shareholders.
Scope of duties	Management decides the scope of duties of internal Auditor. It includes non accounting matters.	Duties of statutory auditor are laid down by law (e.g. Companies Act) its scope limited to accounting matters.
Removal	Internal auditor can be removed by the management on its own.	Statutory Auditor can be removed by shareholders only if approved by central Government.
Objectives	IA aims to review the internal control system of concern.	SA aims to report to shareholders whether the accounts are true and fair.
Period	IA is continuous.	SA is normally periodical or annual.
Qualifications	No qualifications are prescribed by law for an Internal Auditor.	Qualifications are prescribed by law for Statutory Auditor.
Liability for Negligence	Internal Auditor is liable only to management and not to shareholders or third parties.	Statutory Auditor is liable to shareholders and in some cases to third parties also.

Q9) Explain the limitations of Internal Control.A9) Limitations of Internal Control:

Costs

Cost of implementing control procedure may be much more than its benefits.2. Human ErrorA control procedure may not prove effective due to human errors e.g. carelessness of employees, misunderstanding of instructions, wrong judgments etc.3. CollusionEven if duties are divided among different employees, they may collude (work together fraudulently).4. MisuseAn employee responsible for a particular function may misuse his authority.5. Manipulation by ManagementManipulation and misappropriation by top management will defeat the very purpose of internal control. Q10) What are the transactions not suitable for test checking?A10) The following transaction/balances are not suitable for test checking.

Opening and closing entries.

Bank Reconciliation statements.

Item recurring calculations/estimates e.g. depreciation, royalty etc.

Very important/material transactions/ balances etc.

Q11) Discuss the importance of Test Checking.A11) Importance of Test Checking

Full Checking Impossible

When the number of transactions is large auditor cannot check all the transactions 100%. In such cases auditor has to resort to test checks. 2. Full Checking Unnecessary In most cases, 100% checking is unnecessary. Statements on Auditing Practices issued by the ICAI states that where an adequate system of internal control is in force, the auditor is entitled to apply test checks.3. Extent of CheckingThe extent of checking should be based on the following factors:

Possibility of errors and frauds.

Nature and materiality of item being checked.

Nature of the business and size of the company.

The system of accounting.

Internal controls.

Internal audit.

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