Auditing in China Railway - Essay Example

Auditing Revel Smith & Co auditors. Auditing is the act of detecting errors and frauds in accounting ment, auditing utilizes some sample techniques to detect frauds and errors, Errors are much more likely to be discovered during an audit than fraud. A company is advised to have their accounts audited due the following reasons: Errors and frauds are detected at an early date. In a partnership auditing helps prevent financial disputes. Audited accounts are considered more correct by taxation authorities. Money may be borrowed easily through previously audited accounts. Incase insured property the insurance may cover loss using previously audited accounts. Companies are faced with employee fraud which includes embezzlement of funds, assets misappropriation and financial statement manipulation. In the Wisconsin law journal by Tracy, L. she analysis a case where an employee had been involved in fraud for three years but the auditor never found out until a time the auditor discovered a difference in the bank reconciliation statement. The employee had been steeling for years and covering her tracks by dividing the amount into very small amounts in the various accounts. Risks are more prevalent at the end of the year when there is a incase of an unusual transactions, when the companies performance is declining for no apparent reason, frequent change in business councillors and auditors, where there is a complex corporate structure and inadequate balancing of financial accounts. Audit risks include inherent risks, control risks and analytical procedure risks. Inherent risk is associated with auditor's assessment of material misstatement, it is associated with wrong information given on financial status of the various accounts. Accounts with low inherent risks include fixed assets accounts which are easy to observe and securities traded in the stock market whose price level is easily observed. Control risks are the risk that which misstatement is not easily observed and cannot be prevented or detected. The internal control system cannot detect these frauds. The assessment of control risks detects the effectiveness of the internal control to prevent and detect such misstatement. Analytical procedure risks is the risk associated with the auditor, it is a measure of the willingness of an auditor to accept the misstatement of financial statements. This risk will cause unqualified opinions on the current status of a company. The auditor can lower these risks by making sure that financial statements are not materially misstated. Both the inherent and the control risks are referred to as the risk of material misstatement. (http://www.aicpa.org/pubs/jofa/sep2000/prac_aud.htm) The analysis of Railway PLC Financial statements. According to the audited financial statements of Railway PLC the risks can be analyzed as follows: The profit and loss account for Railway PLC has two parts, the Railway and the River financial statements. This combination is not appropriate and the two sectors should be analyzed separately. In my previous discussion on the possible of the occurrence of frauds and errors, when an organization has a complex corporate structure then the risks of fraud are high. Therefore the two should be analyzed separately to reduce the occurrence of frauds and to determine their individual contribution to profits. The direct costs, depreciation and other expenses in the profit and loss account should be split into individual expenses so as to enable proper auditing in detection of any frauds. These accounts individual accounts should also be audited. Direct costs should contain fuel expenses and other accounts associated with cost of providing services. Depreciation should also be analyzed according to individual assets and this accounts forwarded for auditing. Another risk factor is the indication of revenues and expenses in thousand pounds. Each single cent should be accounted for and this is evident in the above case where an employee committed frauds through the division of a large sum of money into various individual accounts and was never discovered even after auditing. Therefore there is the possibility of inherent audit risk. The auditors report on the profit and loss statement shows the specific profit which amount to 207,867 pounds, but in the accountants profit and loss the profit is indicated as 208,000 pounds, this two figures are different and accountants figure is larger than the auditors figure, therefore auditing can be seen as one that can reduce conflicts and ensure appropriate taxation on profits. Risks Inherent risks. This are the risks that are material misstatements that can be identified by the auditor, in our accounts this may occur in the various accounts through the over statement of various accounts. In the accounts there is an increase in the level of salaries and wages paid out from 931,750 in 2004 to 961,022 in 2005. Although this can be explained by an increase in employees this may be a cover up to an embezzlement of funds and this may result to risk. There is also an increase in social security costs which may also be a cover up. To prevent this kind of uncertainties there should be a clear description on the increase in employees indicating where and why there was an addition of workforce. Control risks. This are risks associated with an organizational ability to control loss of funds, they are not easily detected by the internal control of an organization. In this type of risks there may be embezzlement of funds through the omission to enter cash which has been received, entering fewer amounts than has been actually received, entering fictitious entities in the cash books or entering more amounts in the cash book than actually paid. These types of frauds are not easily detected and in our case there are no follow ups to such occurrences. The accounts in our case especially on the expenses accounts may be overstated; they may include the administration costs, interests. The company should employ a strong internal control system that will be involved in internal checking of accounts. This will ensure that accounts are checked regularly and not only at the end of the year. Therefore by introducing an internal control system frauds and errors will be minimized. The awarding of employees and giving them a reasonable salary such that they are not tempted to engage in frauds will also reduce these risks. This will also boost morale to work and at the same time reduce errors. Encouraging the staff to take annual leaves will enable the company to assess his or her performance. In the absence of an employee errors are revealed and these will also reduce the risks of frauds and errors. There should also be close supervision of accounts especially the most sensitive ones; this would include the cash receipts and payments. These accounts are more likely to be faced with errors and are more likely to be sources of risks. The use of machines to record transactions will reduce the occurrence of error and frauds. The introduction of cheque writing machines and franking machines can help in prevention of errors. The company can therefore mechanize their sales receipts that will record cash receipts. Employment of qualified workers is another solution to prevention of these risks. If unqualified staffs are employed then the company may experience difficulties in accounting for its business. Errors may occur in different ways, some of the examples of these errors include, errors of omission, these errors occur when a transaction has not been recorded in the books in this case it's very hard for the auditor to discover them. The other error is the error of original entry, this occurs when the transaction has been recorded in all books of accounts but in the wrong quantity, this will lead to a misinterpretation of books of account and they cannot be easily identified by the auditor. Another error is the error of principle, this error occurs when the entities of accounting are recorded in a way that they do not follow the accounting principle; these errors are easily identified and in most cases rectified at an earlier date by the accountant failure to which they are identified by the auditor. Finally is the error of duplication, this error usually occur when a transaction has been recorded twice in the books of accounts. Frauds are usually perpetuated by embezzlement of cash, misappropriation of goods and fraudulent manipulation of accounts. Under embezzlement of funds this will occur when there is an omitted entry example a payment in the cash book and there is no entry to show this transaction, there is a record of less amounts in the cash book than is actually paid and the existence of more amount of payment in the cash book than is actually paid. All this will result to errors and frauds which may or may not be identified. Misappropriation of goods may occur and it is termed as fraud. This type can be prevented by regularly checking stocks and ensuring that closing stock from previous periods match the opening balance of the current period. Fraudulent manipulation of accounts will occur due to the following reasons, if employees services may be retained by showing stakeholders that they are productive and that the company is making more profits, if the employees hold shares they might overstate profits in order to sell their shares at high profits, the employees will understate profits in order to acquire shares at low prices and the other reason for understating profits is so that they give a wrong impression to competitors. All this manipulation will result to frauds and errors. Continuous auditing will ensures that figures are not manipulated after they have been audited. In a case where auditing is not regular employees will manipulate the audited accounts and this not the case where regular audit is practiced. In Railways PLC auditing occurs only once a year and at this time it is too late to rectify or take preventive measures. Therefore there is a need to have regular audits in the year. In railways PLC there exist no vouching audit system, this system checks each transaction right from the original posting in books of accounts to the final record, this is the best method to ensure less risk to frauds and errors. The auditor may also be faced with the risk of ignoring small balances that may be evident, there may be a small difference between the accountants balance on account with that of the auditor, this is evident in our PLC accounts where the accounts show a profit of 208,000 pounds while the auditors account shows a profit of 207,867. this an evidence to show that the auditors are faced with a risk of ignoring small differences in accounts that may amount to large sums of money once they are added up. There should be also the circulation of debtors account, this means that there should be confirmation by auditors from various debtors' accounts in respect to amount due to them. Accounts of debtors should be analyzed as individual accounts and group accounts to detect errors. Conclusion. Audit risk can easily be avoided if a company adopts some preventive measures, this may include the introduction of machines that will record cash transactions, cheque production. A company should also at all times hire qualified staff to work for them, there should be regular auditing on accounts, The PLC company should also introduce an internal control system which will ensure regular monitoring of financial accounts in fraud and error prevention. Vouching audit should be introduced which is the most reliable way to check for errors. Therefore we can prevent to a certain extent the occurrence of risks involved in auditing. References Journal of Accountancy(2000): The Audit Risk Model: Retrieved on 21st August, Available at http://www.aicpa.org/pubs/jofa/sep2000/prac_aud.htm Thomsett M.C. (2001): Builder Guide to Accounting, Craftsman publishers, London. Read More