Key Concepts in Auditing - Assignment Example

Running Head: Essay, Business Auditing Auditing can be described as a systematic and structural process of evaluating abusiness. It may encompass its operations, products it produces and the entire process of production in the system. Auditing may also include an investigation of the past undertakings of the company which are used to gauge and discover the legality of the operations of the business. This practice is normally handled by a stable and independent individual who has nothing to lose from the report; in this paper I am going to analyze some of the key concepts in auditing (AUASB, 2008). Q 1 1.1. (A) It is the responsibility of auditors to audit the annual accounts submitted by the directors of different companies. The general responsibilities directors are attached to by the company are well envisioned in the companies Act 2006 which are based on the common laws and equitable principles. These duties include; promotion of company to success, reasonable care, appropriate measures of skills and diligence (Anaipure&Anaipure, 2009). Part 16 of the companies act demonstrates the statutory audit of companies; this may be registeredor unregistered companies. To a limited trend is the partnerships which are to be included in this category. Currently the legal policy in regard to a limited liability company is that if its annual turnover exceeds or equals to 6.5million pounds or 10% or more of the shareholders requests then the company must be statutorily audited by an independent and registered firm of auditors. Sometimes a company can request the services or stipulate its own internal mechanisms of auditing for reasons to be brought up by management of the company. The combination of the CEO, board monitoring and the auditor shape a company’s reporting process. The strength of corporate governance and earnings accuracy is never bound to be the truth. It can be founded that strong corporate governance would lead to less or no distortion of the reported financial position of the company, but that is never the case as it has been found over and over again that corporate governance can steer manipulation of figures. The objective of an auditor is to express an opinion; an auditor just adds an opinion about the credibility of the prepared financial statements. The amount of work to be audited is best influenced by; judgment, professional bodies mandates or requirements, terms of engagement which are to be agreed upon, need to instil a professional point of view, sample characteristics, fraud detection, among other evidences to be sought after (Cameron, 2011). An audit opinion is given whether the financial statements conform to the regulations and policies of the financial standards or not. Mostly an opinion is arrived at after; an assessment of the risk has been done, accuracy and validity of the tools used in the financial statements, financial statements comply with accounting standards and principles. Thus, an audit gives the users a clear and truthful view of the reports submitted by management. An audit should be performed in accordance with the national auditing standards or the generally accepted auditing standards globally (Dube&Gulati, 2011). 1.1. (B). An external gives a confidence to stakeholders about the integrity of the corporate reports which is beneficial to the entire society and more specifically the shareholders of the company. On the other hand an internal audit is a management assistant; it means that an internal auditing process is an independent assurance activity which can be consultative to give or add value on the internal processes of the company on financial matters. Value for money auditing revolves around provision of techniques which will be favourable on maximization of output from investments. This falls hand in hand with the environmental and public sector auditing. An audit report conducted in accordance with ISAs must have within itself the requirements of; legislation and regulations, ISAs concepts of evaluation, planning, evidence, conclusions and reporting and relevant professional bodies like ACCA. These factors stipulate the scope of auditing and its relevant process of formulation. An auditor will produce an absolute assurance but not a reasonable assurance it is framed in a manner that information is subject to audit is free of material understatements or overstatements (Eilifsen, 2010). 1.2. (A) A threshold audit is set to determine the cut of mark of entities which are to undergo one full single audit or no audit at all. It is a procedure which facilitates the auditing process. However, over time there are numerous changes which are taking place in the industry. For example, the current threshold of 6.7million pounds which points that the entity is required by law to undergo a single full audit. However if the entity was depicting a value less than that in the financial statement then it will be automatically be exempted. 1.2. (B) An audit threshold is very important to potential investors of the company. Each time a company reaches a certain range of profit circle there is tendency for it to attract investors who may want to get a piece of the cake on the table. Thus, an audit threshold is fundamental to depict the reality of the firm’s financial capabilities to the investors. A scale fee is normally set for each council in determining the auditor’s fee. This comprises of fixed elements depicted by the council on various issues which adds up a percentage of gross spending. The auditors will then compute the associated risks and gauge their costs at +/- 30% (IFAC, 2005). Q 2 2.1. (A) Auditing has evolved to cater for the needs of different individuals and personalities in the systems. It provides unbiased facts which are in conjunction with actual and potential risks in an organization. Close family ties can portray an image that the auditor may not be rigorous enough to depict the malicious implications if any by the manager. It also brings up the idea that there will be a relaxation on the part of the auditor because of the outstanding family ties which exists. However, there is one school of thought which suggests that the closeness depicted by the auditor to the client will lead to a more useful and quality audit. There has been numerous envisaged analysis and formulations which have compounded the auditing procedures. For example in Sweden legal and taxation requirements has devolved a principle based model which mandates auditors in the country to carry out their activities independently to avoid manipulation from the common aspects which may entangle the two parties (ICA Britain & Kemp, 2007). According to Myers, Rigsby& Boone (2007), a close link between the auditor and the client brings about a more reliable and quality audit. These researchers used absolute and abnormal accruals for earnings quality. They depict that discretionary accruals increase with auditor relationship or ties. It is also established that management will gain a higher flexibility if the amicable relationship exists between the two parties. Thus, a family link is beneficial. 2.1. (B)Auditors must obtain an understanding of the various accounting policies or procedures portrayed by a company to enable them to identify and understand; major classes of transactions which are entailed by the company; how transactions are initiated by the company; important Accounting records; supporting documents adopted by the company being audited and the financial reporting process starting from the initiation of transactions and their inclusion in the financial statements (Gray, 2007). A clear understanding of the control environment enables auditors to effectively assess the control procedures in the company. A strong control environment will basically increase the control of procedures. On the other hand a small entity control environment will be assessed by the close relationship or involvement of the directors including their take on the financial information. Blake’s which is yet to establish a strong internal audit mechanism is currently depicted by a small control environment with minimal budgetary allocations (Hall & Hall, 2011). Based on their understanding of the accounting systems and control environment auditors will come up with preliminary assessments which will be the basis for the preparation of financial statements. The nature of the procedures adopted by auditors to come up with an understanding of the system varies on a number of things; materialism, size and complexity, inherent risks, type of internal control systems and the nature of an entity’s documentations. 2.1. (C) Auditing expectation gap is the difference between the auditor’s actual standards of performance and the public’s intended expectation on the outcome. It is an opposition to the required standards of performance. Auditors are supposed to bring to the fore the malignant issues which may arise in the financial statements. To reduce this gap society must; understand the auditor’s engagement letter, understand the report, understand auditor’s perceptions, implementation of internal control systems and belief in the professionalism of the auditor. Expectation gap is a societal aspect which does not depict the professional auditing standards. 2.2. Engagement Letter Our Ref; Whittington, Sparrow & Co Date: 25th August 2013 Blake’s Board of Directors Dear Sir/Madam Audit Engagement Letter Basis of this letter is to stipulate the grounds on which to act as auditors of Blake’s Responsibilities of Blake’s As a company your responsibilities will be to formulate financial statements as per the law Scope of the Audit Our audit will be based upon the Auditing statements and Auditing standards issued by the UK’s Institute of Certified Public Accountants. Fees Our fee is computed on a framework of time spent on your affairs and the level of skills involved in the process. Agreement of Terms On its agreement this letter will be effective from one audit to another until there are changes in the audit appointment. Yours faithfully, Whittington, Sparrow & Co Q 3 3.1. (A) Edward Blake Ltd Statement of financial position as at 30th September: 2012 2013 2013 Actual Budget Draft £000 £000 £000 Fixed assets 3,420 4,800 4,600 Inventory 420 470 725 Accounts receivable 600 690 780 Bank and cash 100 200   Total current assets: 1,120 1,360 1,505 Accounts payable 460 530 660 Interest 25 40 45 Taxation 75 100 70 Bank overdrafts   120 Total current liabilities: (560) (670) (895) Net current assets: 560 690 610 Total assets less current liabilities: 3,980 5,490 5,210 Long -term debt (1,200) (2,200) (1,500) Net assets: 2,780 3,290 3,710       Report; we have conducted an audit of Blake’s financial position dated as at 30th September and we belief that the information is sufficient to clarify our opinion on the subject. In our opinion the financial statements have been properly prepared in all material respects which are in accordance with the SME-FRS. The balance sheet together with the associated notes is correctly drawn to depict the true and correct state of the company’s affairs as at 30th September. The company incurred a net 830,000 pounds and its assets exceed its liabilities by 3,710,000 pounds in the year 2013; these aspects indicate material uncertainty which depicts the company as a going concern. The information was sampled based on; materialism, relevance, time and cost minimization schedule. Thus we decided to pick on the balance sheet as the best audit sample. Total current assets exceeded the total current liabilities with 560,000 pounds which is a sign that the company is a separate legal entity from its shareholders in the market. As per the rules juxtaposed by the IFRS a company exhibits them authentically. 3.1. (B) Materiality in audits=quality+ quantity; this means that both the quantity and quality of misstatements are very important in deciding what is material. The main objective in financial material audit is to enable an expression of conformity to financial reporting framework. Basically in auditing materiality means a quantifiable amount and its effect on the various platforms. Materiality conforms to the content of the financial statements and the subsequent level and type of testing to be done on those statements (Whittington, 2013). In the auditing process the auditor will decide what level of materiality will be utilized in the entire financial statements to be audited. Materiality thus relates to both the content of the financial statements to be audited and their respective testing to be employed. The decision which comes forth is mainly based on the judgment of the auditors on size, nature and particular circumstances of misstatements that could influence the users of the financial reports (Gomez, 2012). 3.2. (A)an audit risk is typically the risks that an auditor will express an incorrect opinion on linked to the financial statements of the company. Some of the incorrect audit opinions include; issuance of unqualified report, issuance of a professional report where no opinion is necessary, not emphasizing a significant matter in an audit report, provision of opinions where they are not deemed necessary (Leung, 2011). A risk model encompasses; inherent, control and detection risks Inherent risk This is the risk of material misstatement in a financial statement whose origin is the omission as a result of factors which are not the same as controls which may cause a misstatement. This may be due to a lapse in the control assessment. For example an inherent risk for a newly established audit firm is likely to be higher than a well established company. Control risk This is basically the risk of a material misstatement in the financial statement which arises due to the absence or failure of the functionality in the controls of the entity in question. Control risk is expected to be higher where an audit firm does not have adequate internal control mechanisms to detect fraud and errors in the financial statements. This kind of risk thrives in small organizations who do not have well outlined duties and financial statements are prepared by individuals (ACCA, 2007). Detection risk This is a type of risk which arises when auditors fail to detect a material misstatement in the financial statements. Procedural abuse may lead to failure of detecting misstatements in the financial statements. Thus, to curb such risks auditors have to follow the stipulated frameworks. 3.2. (B)Audit evidence is basically the information that is used by the auditor in arriving at the final conclusion on the basis of their opinion. This includes the information all the information which is contained in the accounting records and the associated financial statements. The techniques of collecting the auditing evidence include;Inspection; this is the physical review or examination of tangible assets or associated records. It may include searching for evidence in the records for controls in the form of compliance tests. For example, Blake’s sale invoice will be examined for clarification, test of the control system, checking the physical existence of an asset and the inventories in the possession of Blake’s (Louwers& Timothy, 2004). Observation; this is the physical search and analysis of the process or procedures in performance to ensure that the process basically works as documented. For example, the distribution of wages, cash collection process and the physical inventory of Blake’s will be the major points of consideration under this technique. This will ensure that all the observable aspects of the company will be a major factor of audit opinion.Enquiry and confirmation; it involves seeking relevant information from persons who are acquainted with the specific knowledge who have a direct or indirect contact with the firm. Relevant stakeholders of Blake’s will be offered letters of representation to answer various issues which will arise Recalculation or computation; it is the checking or the arithmetic accuracy of the source documents and the accounting records of an entity. It also encompasses ensuring that the trial balance additions conform to the additions of the cash book. The accuracy of source documents of Blake’s will be a key issue to address beginning from its cashbook to the trial balance. Analytical procedures; encompasses the analysis of significant ratios and investigation of the fluctuations of materials and variances. Blake’s financial and non-financial trends will be the subject under this method; its data will be analyzed by means of plausible relationships. 3.3. (A)Some procedures performed by other auditors may provide evidence of material misstatements. Even though a third party may influence the auditor’s procedures, the independent auditor should perform procedures to obtain their own substantive and appropriate evidence on the matter. This evidence arrived at by the auditor’s direct personal knowledge which encompasses physical examination, computations and inspection is regarded as more persuasive than the information obtained directly (Jubb, 2012). 3.3. (B)Carol’s work will be relied upon to cut back the associated costs which may be incurred if the independent audit was to be done. Carol having trained and worked in the audit firm is expected to be reliable on accuracy and relevance on the topic. Secondly it is a means of allowing co-existence between the two parties. If the audit report deviates from the internal audit report then there may be a problem stirred up; hence to ensure uniformity of the matter both parties are to work towards the same objective (Kemp, 2012). References ACCA, 2007. Paper F8, Paper F8. Crowthorne, International Financial Pub. In association with Emile Woolf International. Auditing and Assurance Standards Board (AUASB). 2008. AUASB auditing and assurance standards. Chatswood, N.S.W., LexisNexis Butterworths. Anaipure, V &Anaipure, M. M. 2009.Auditing and assurance. Cameron, R.. 2011. Modern auditing & assurance services: study guide. Milton, John Wiley & Sons (Aust) Ltd. Dube, D. P., &Gulati, V. P. 2005. Information system audit and assurance.New Delhi, Tata McGraw-Hill Pub.Co. Eilifsen, A. 2010.Auditing and assurance services. New York, McGraw-Hill Higher Education. Gray, I. 2007. The audit process: principles, practice and cases. London, Thomson Learning. Gomez, C. 2012. Auditing and assurance: theory and practice. New Delhi, PHI Learning. Hall, J. A., & Hall, J. A. 2011.Information technology auditing and assurance.Mason, Ohio, Thomson/South-Western. ICA Britain, & Kemp, S. 2007. Auditing and assurance handbook 2007: incorporating all The standards as at 1 January 2007.Milton, Qld, Wiley. International Federation of Accountants.(IFAC).2005. Handbook of International Auditing, Assurance, and Ethics Pronouncements: 2005 edition. Jubb, C. 2012. Auditing and assurance: a business risk approach. South Melbourne, Vic, Cengage Learning. Kemp, S. 2012. Auditing and assurance handbook 2012: incorporating all the standards as at 1 December 2011. Milton, Qld, Wiley. Leung, P. 2011. Modern auditing & assurance services. Milton, Qld, John Wiley. Louwers, K. & Timothy J. 2004.Auditing and Assurance Services.Irwin Professional Pub. Whittington, O. R. 2013. Wiley cpa exam review 2014 auditing and attestation. Hoboken, John Wiley. Read More