Chapter 1_ Business Environment PDF

Audit Theory and Practice 1 Business Environment Prepared by Taing Muykeang The Nature of Accounting Record Shareholders - investment decisions Lenders/Financial institutions - lending dec...

Audit Theory and Practice 1 Business Environment Prepared by Taing Muykeang The Nature of Accounting Record Shareholders - investment decisions Lenders/Financial institutions - lending decisions Government institutions - support the calculation of taxation Management - support operational decisions and business strategy Employees - job security and remuneration potential Customers/suppliers - long-term trading partnerships The public - wide range of data, environmental and corporate social responsibility information The Nature of Auditing An audit is an exercise that the auditor carry out in order to be able to give the statutory opinion whether the financial statements give a true and fair view. An audit is an independent examination of and expression of an opinion on a set of financial statements. True. Information is factual and conforms with reality, such that it is not false. In addition, the information conforms with required standards and law. The financial statements have been correctly extracted from the books and records. Fair. Information is free from discrimination and bias, and complies with expected standards and rules. The financial statement should reflect the commercial substance of the company’s underlying transactions. Fair presentation/True and Fair It’s important to understand that fair presentation/true and fair does not mean correct. So, Auditors cannot say that financial statements are correct (without error) because: - Financial statements are combination of fact and judgement. - An audit also include judgements made by the auditors - Auditors do not test every transaction - Company management might tell lies/carry out hidden fraud which the auditors do not detect ❖ An audit therefore gives what is called “reasonable assurance”. ❖ Reasonable assurance is defined as a high, but not absolute, level of assurance. Reporting Standards & Auditing Standards Reporting Standards: Auditors also state whether financial statements are in accordance with the applicable financial reporting framework. This means the statement are prepared in accordance with law and accounting standards. Auditing Standards: To ensure that all audits are a good quality, the test and enquires and judgements made by auditors have to be carried out in accordance with certain standards known as International Standards on Auditing (ISAs). Auditors Auditors are appointed by the shareholders. Only shareholders can remove the auditors. Resignation: Auditors have to prepare: ○ Statement of circumstances ○ Notice of resignation Auditors have to notify all appropriate parties (shareholders). The right to convene a general meeting to discuss the circumstances of resignation. The Auditor’s report The auditors are required to produce a report for the company’s members (shareholders). In this report the auditor expresses their opinion on the financial statements. In their opinion the auditor should state whether the financial statements show a true and fair view of the financial position at the year end, and of the financial performance for the year. As part of their audit, the auditors must conclude whether the company has kept adequate accounting records, whether each geographical branch of the business has given sufficient information for the audit, and that the underlying records match the financial statements the directors have prepared. The Advantages of an Audit Any audit will give assurance to readers of the accounts that the accounts have been properly drawn up and give a fair presentation of the financial position of the business. Disputes between stakeholders may be more easily settled. Major changes in ownership may be facilitated if past account contains an independent auditor’s report. Applications to third parties for finance may be strengthened by the submission of audited accounts, as it add credibility to the figures. The audit is likely to involve an in-depth examination of the business and so may enable the auditor to give constructive advice to management on improving the efficiency of the business. The Disadvantages of an Audit Cost: The auditors will charge the client for their service (additional expenses for the company) Time: Staff and management will spend time answering audit queries and providing information, evidence and explanation. Disruption: normal working routines may be affected during the audit. Accommodation: auditors will need space in which to work. Staff perception: An audit may be regarded as external ‘policing’ by staff, which may negatively affect staff morale. The RIGHT of the auditors: Access to records. A right of access at all times to the books, accounts and vouchers of the company. Information and explanations. A right to require from the company’s officers such information and explanation as the auditors think necessary for the performance of their duties as auditors. Attendance at/notices of general meetings. A right to attend any general meeting of the company and to receive all notice of and communications relating to such meetings which any member of the company is entitled to receive. Right to speak at general meetings. A right to be heard at general meetings which they attend on any part of the business that concerns them as auditors. Right in relation to written resolutions. A right to receive a copy of any written resolution proposed. Systems of internal control: A system of internal control within a company assist in the efficient and effective operation of company. Internal control is the system designed, implemented and maintained by those charged with governance, management and other personnel, to provide reasonable assurance about the achievement of an entity’s objectives with regard to reliability of financial reporting, effectiveness and efficiency of operations, and compliance with applicable laws and regulations. Directors set up a system of internal control to mitigate the risks that the company faces. Business risk is the risk of events or conditions which either prevent the company from achieving its objectives and executing its strategy, or lead to set inappropriate objectives and strategies. The internal audit function: The internal audit function assists management in achieving the entity’s corporate objectives, particularly in establishing good corporate governance. Internal auditing is an independent, objective assurance and consulting activity designed to add value and improve an organization’s operations. It helps an organization accomplish its objectives by bringing a systematic, disciplined approach to evaluate and improve the effectiveness of risk management, control, and governance processes. The scope of an internal audit function: Review of the accounting and internal control systems Examination of financial and operating information Review of the economy, efficiency and effectiveness of operations Review of compliance with laws, regulations and other internal policies & external requirements. Review of the safeguarding of assets Review of the implementation of corporate objectives Identification of significant business and financial risks, monitoring the organization’s overall risk management policy and risk management strategies Special investigations into particular areas, for example suspected fraud. The evaluation the work of the internal audit function The following criteria must first be considered by the external auditors when determining whether the work of the internal audit function can be used. The extent to which its objectivity is supported by its organizational status, relevant policies and procedures. The level of competence of the function (adequately resourced, relevant professional bodies) Whether the internal audit function applies a systematic and disciplined approach (including quality control) Note: If the internal audit function is found to be lacking in any of the preceding areas, the auditors shall not use the work of the internal auditor. Determining the nature and extent of internal audit work When determining the areas and extent to which of the internal audit function can be used, the auditor must consider: The nature and scope of specific work performed or to be performed The relevance of that work to the audit strategy and audit plan The degree of judgement involved in evaluation of audit evidence gathered by internal auditors Using the work of internal auditors It requires the external auditor to read the reports of the internal audit function relating to the work the external auditor plan to use. This is to obtain an understanding of the nature and extent of audit procedures the internal audit function performed, as well as understanding the related findings. Before using the work of internal audit, the external auditors need to evaluate and perform audit procedures on the entirety of the work that they plan to use, in order to determine its adequacy for the purposes of the audit. Using the work of internal auditors The evaluation includes the following: Whether the work was properly planned, performed, supervised, reviewed and documented. Whether sufficient appropriate evidence was obtained to allow the internal auditors to draw reasonable conclusions Whether the conclusion reached are appropriate in the circumstances and the reports prepared are consistent with the results of the work done. Using the work of internal auditors The nature and extent of the audit procedure performed on specific work of internal auditors will depend on the external auditor’s assessment of: The amount of judgement involved The assessed risk of material misstatement How well the audit function’s organizational status and relevant policies and procedures support the objectivity of the internal auditors. Audit procedures might include: Examination of items already examined by the internal auditors Examination of other similar items Observation of procedures performed by the internal auditors End of Chapter 1! More to go!!