Nature and Scope of Auditing

Auditing Handbook by Akinyele A.
P (Esq)
Institute of Entrepreneurship and Development Studies,
OAU, Ile Ife.
NATURE AND SCOPE OF AUDITING
An Audit is the independent examination and expression of opinion on the financial
information of an enterprise by an appointed auditor in pursuance of that appointment and in
compliance with any relevant statutory and ethical requirements.
It should be appreciated that audit ‘is a logical process. It involves’ the conduct of logical
procedures, designed to obtain audit evidence (information and expatiations), which provide
a basis for drawing conclusions on which the auditors bases his opinion on the financial
information.
It should be further noted from the above definition that:
i. The audit is an independence examination of the financial information. The auditor
must be independent of those responsible for the financial statements (the
management).
ii. The matters to be addressed in the auditor’s report are dictated by the terms of the
auditors’ appointment and any relevant statutory and professional matters that the
auditor is obliged to comply with.
FEATURES OF AN AUDIT
Audit involves a set of logical procedures as follows:-
i. Understanding the nature of the business of the client, its operating environment, its
organizational structure, its method of operation, and its accounting policies and
accounting systems by:
* Obtaining and reviewing the Articles and Memorandum of Associations, Partnership
Agreement etc.
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* Visiting the clients operating premises, and reviewing relevant technical manuals in
order to determine the method of operation.
* Obtaining and reviewing the organizational chart and the administrative manual of
the enterprise, which defines responsibilities, and limits of authority.
* Ascertaining the addresses of registered offices, other offices and factories, as well as
their sizes and functions.
* Obtaining and reviewing details of and legislature and accounting pronouncements,
which affect the enterprise. * Obtaining and reviewing copies of important agreements,
service contracts, loan agreements, technical service agreement, lease agreements etc.
* Obtaining and reviewing extracts of minutes of meetings, which have relevance to
future activities of the enterprise.
* Obtaining and reviewing particulars of accounting systems in operation, details of the
books of accounts maintained and accounting documents used.
* Obtaining and reviewing copies and past audited accounts.
ii. Determining that audit strategy, including the nature, timing and extent of the audit
work by:
* Determining the audit approach to be adopted.
* Preparing the audit programme.
* Determining the number and grade of audit staff required.
* Preparing the audit-planning memorandum.
iii. Ascertaining the accounting and internal control systems by:
* Making enquiries of staff and management.
* Inspecting systems manuals, organizational charts, systems flowcharts, etc.
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* Inspecting accounting records and transaction documents.
* Observing procedures.
iv. Recording the accounting and internal control systems by:
* A narrative description of the systems.
* Internal control questionnaires.
* Organisational charts.
* By flowcharting the systems.
* Conduct of walk-through checks to confirm the correctness of the auditors
understanding and recording of the systems in existence
* Consideration the effect of any uncertainty or disagreement on the truthfulness and
fairness of the view presented by the financial statements.
* Determining the type of audit opinion to express.
* Rendering the audit report to the client.
OBJECTIVES OF AUDITING
The objectives of auditing can be classified into two
1. Primary Objective: This is for the auditor to form and express an opinion to the truth
and fairness of the financial statement for any person reading them to have belief in
them.
2. Secondary Objective: The secondary objective of auditing are:
a. To ensure that the financial statement before him comply with any relevant
statutory requirement
b. To detect errors and fraud in the accounting books
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c. To prevent errors and fraud by the deterrent and moral effects
d. To provide spin-off effects by assisting his clients with accounting system,
taxation and consultancy services.
ADVANTAGES OF AUDIT
1. To have an independent examination and confirmation of actual financial position
and earning of the organization.
2. There is reliance on the financial statement audited
3. Prevention of fraud
4. Satisfaction of requirement by bank
5. It prevents disagreement between partners
6. It provides confidence to the prospective investors
7. Detection and correction of errors
8. Adequacy or otherwise of the Internal Control System
DISADVANTAGES OF AUDIT
1. Audit fees: For every audit work, an auditor is entitled to some amount of money
known as audit fees. This might be according to professional scale of fees; the client
is requested to pay a huge amount as audit fee which he might develop the fair to pay
such amount.
2. Time Consuming: Audit work consumes considerably too much time as it is a logical
process, and it involve the conduct of logical procedures, base on the specialized view
of audit, it is time consuming
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3. Loss of Privacy: An auditor is believed to have been exposed to company’s secret as
he audits the company’s account, in other words nothing is hidden to him as the
financial status of the organization will be known to you, and hence there is no
privacy in the organization endeavours.
4. Identification of faults
5. Influential Audit report
TYPES OF AUDIT
1. Private Audit: This is a type of audit that is carried out on the request of the
interested party. It is not compulsory for sole trader and partnership business to audit
their account, but if they wanted to, they will make an arrangement with the auditor,
making audit to conduct an agreed work / limit.
2. Statutory Audit: A statutory audit arises under the Companies and Allied Matters
Act (CAMA) 1990, as a result of which it has become statutory obligation for the
account of every publicly traded firms (limited liability companies) to be audited
annually by professionally qualified auditor.
Other types of Audits
3. Interim Audit: At this audit, the workdone is mainly internal control evaluation which is
related to system audit work by recording the system of accounting, evaluating strengths and
weaknesses, planning and carrying out compliance tests, draws conclusion.
4. Final or Completed Audit: The auditor conducts the final audit after the end of the
financial year by completing the compliance testing, verification of all assets and liabilities,
critical review of accounts.
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5. Continuous Audit: Are those audit works carried out on continuous basis – monthly,
quarterly or bi-annually. Any audit work not carried out yearly could be related to continous
audit
6. Procedural Audit
7. Management Audit
RIGHTS OR POWER OF AN AUDITOR
The following are the important rights of the auditor
Access To Books
The auditor of a company has a right of access, at all items to the books and accounts
and voucher of the company, whether kept at the head office of the right of access to
books etc is an absolute right and is not subject to any restriction exception or
qualification. This means that the auditor can examine the books vouchers etc at any
time during normal working hours.
Right of Inspection
It is a right of the auditor that he can inspect the record of the company at any time. He
can visit without any notice and verify the cash or any document.
Right of Information
The auditor has the right to obtain any information and explanation from the officers or
directors of the company as he may think necessary for the performance of his duties as
an auditor. If any information or explanation is refused on the ground that it is not
necessary for the performance of his duties as auditor. He may report to the members
accordingly.
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Access to Branches
The auditor has a right to visit the branch office of the company if any, if a duly qualified
auditor has not audited the accounts of company branch and if he deems it necessary to
do so for the performance of his duties as auditor.
Receiving Notices
A company auditor has a right to receive all notices and other communications relating
to any general meeting of the company, which any member of the company is either to
have sent to him.
Right of Attending the Meeting
The auditor has a right to attend any general meeting and to be heard there at any part of
the business, which concerns him as auditor, however, the right to attend a general
meeting and to speak there at any part is not mandatory.
Report to Member
The auditor has a right to make a report to the members on the account examined by him
and to state whether the said account give the information required by the companies act
in the manner which is required.
Sign Audit Report
The auditor has a right to sign the auditor's report or authenticate any other document of
the company.
Seek Legal and Technical Advice
The auditor has a right to seek opinions of experts in different fields whenever he feels it
necessary as he is not expert in all the areas.
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Receive Remuneration
The auditor has a right to receive remuneration for auditing the accounts of the company
after he has completed the work of audit even if he is dismissed in the middle he has a
right to get full remuneration of the year.
Speak
The auditor has a right that he can speak in the annual general meeting for the
explanation of some matters, which are related, with the accounts of business.
Present in Meeting
For the safeguard of his right, the auditor has a right to remain present in the meetings of
the company. Sometimes the business accounts may not be presented before the
shareholders for the approval. In this time the auditor can protect himself.
Opinion
The auditor has also a right to consult the experts for some matters. In order to clear the
doubt, he may get the help of the technical services. So the auditor has also a right to
seek the opinion.
Correction
The auditor has also a right of correction. He can make correction in the written or
spoken matters. Even that he can make a revised statement if he founds any written
mistake in it.
Representation
The auditor has also a right to defend himself if he is asked to leave the office in the
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meeting. So he can make the representation in meeting. He has a right to remain in
business for the full tenure.
Important Note
It is clear that the right of an auditor cannot be limited either by the articles of
association or by the resolution of the members.
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Essential Qualities of an Auditor
The following are the essential qualities of an auditor:
1. Professionally Competent
It is the basic quality of an auditor. He must have a complete and thorough
knowledge of the accountancy. To understand the accounting details, he can apply his
knowledge and skill. It is only possible if he has a sound background in accountancy
and he is professionally competent.
2. Honest
This is the personal quality of an auditor. He should have the high moral standard. It
is his duty to report on the fact basis. The auditor must be honest and sincere with his
profession. He is not responsible to sign any paper which is no correct under his
observation.
3. Up to Date Knowledge
An auditor's knowledge of auditing must be up to date. He must know the techniques
of auditing. He must have the knowledge of other subjects relating auditing.
4. Knowledge of Business/Mercantile Law
It is the professional quality of an auditor to be aware of the merchantile law, he has a
complete knowledge of Contract Act, Sales of Good Act, Agency, Negotiable
instruments Act, Partnership Act etc.
5. Knowledge of Taxation Law
It is also a professional quality of an auditor. He is aware of income tax ordinance
1979, sales tax and excise act and wealth tax etc this is helpful in checking the correct
return of income etc.
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6. Intelligent
It is also an important quality of an auditor that he should be intelligent and be versed
in reasoning
7. Qualification
For a professional auditor it is necessary that he should be a chartered accountant.
According to the company's ordinance 1984, it is essential qualification for an
auditor.
8. Tactful
It is also the personal quality of an auditor. Technical information is required to
comment and criticize the policies of management. In case of missing, can collect it
from the client.
9. Maintain Secrecy
It is another basis of personal quality of an auditor. In the business world, there is a
keen competition and if the auditor does not care of the secrecy of the business, then
the client of the auditor has to face a lot of difficulties. So, the auditor must maintain
the cent percent secrecy among the clients.
10. Patience
It is also the personal quality of auditor when any document is received by him he
cannot make hurry to sign it or express or implied promise to provide the proof later
on. In spite of it, he personality check the records to know the true views.
11. Critical Attitude
The attitude of an auditor must be positive. By this quality he can get the desirable
results due to favourable thinking. If he is confused about some matters he can go
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into the details to clear it.
12. Bold and Courageous
Auditor should be bold and courageous person. Any authority should not influence
him. He should possess the courage to face the differences in opinion between him
and client on any issue.
13. Courteous
It is an important quality, which the auditor should possess. His attitude towards the
staff of client should be very humble and polite. He should also stress on his own
staff to be courteous with the client.
14. Budget Preparation
The auditor has a quality of preparing the budget. According to the facts and figures
of the Previous year, the estimates are established for the next year. The auditor can
check that these budgets are according to their facts and corrects.
Personal Qualities
15. Independence
Independence is the personal quality of an auditor. This quality is desirable for
independent opinion on business activities. He cannot be influenced directly or
indirectly by other people. An auditor must be independent at the time of
programming investigation and reporting. He cannot change his programme due to
management interference.
16. Vigilance
This is also the quality of an auditor. By this quality the auditor can discover the
errors and frauds. The auditor can also watch and check that if accounting staff has
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made any fraud or error. Because he has to be alert minded so that he cannot avoid
errors and work well.
17. Judgement
An auditor must have the qualities of judgement. Judgement is involved in selecting
depreciation, provision for bad debts, inventory valuation. The auditor can apply
professional knowledge; experience and ethics to make decisions, which have no
prescribed areas.
18. Common Sense
An auditor must have common sense. He can make difference between essential and
non-essential information. An item, which can influence the decision of other people,
is considered as material. The auditor can use common sense to declare it as
important rather than application of principles.
19. Prudence
Prudence is the personal quality of an auditor. He can be asked to give advice on
financial matters. He can be allowed to suggest improvement in accounting methods
and techniques. There is a need to use prudence for guiding the businessman when he
is asked to do so.
20. Practical
An auditor must have practical training. He can seek training in the field of finance,
management and business organization. An audit staff is able to pass through a
comprehensive training. This practical training is part of this professional life.
21. Self Control
An auditor must have qualities of self-control. The balance work shows regular
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progress on the part of audit. There is no over work or less work every day. A
discipline is created in every work. The quality of audit work is improved due to
discipline.
22. Initiative
An auditor must have the quality of initiative. He can start and complete an audit
work without any help. The auditor must have experience, qualification and courage
to complete the auditor work. He has courage to deal with audit work even in difficult
situations.
23. Leadership
An auditor must have leadership. He is the working under his leadership. He must
have communication ability. He can motivate and control the audit staff. As a team
leader he can guide the auditor through practical-demonstration.
24. General Knowledge
It is also a professional quality of an auditor. He is aware of the economic and
political conditions. He is also aware of the latest knowledge, which affects the
business concern.
25. Electronic Data Processing
The auditor should also aware of the use of computer in the business for getting the
information. He is must also trained in handling the data through the computers
STATUTORY AND PROFESSIONAL FRAMEWORK OF AUDIT
Conventional audits are conducted within a framework of legal and professional
requirements. These requirements define the context within which auditors conduct their
work and express opinions on financial statements.
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The companies and Allied Matters Decree, 1990 is the principal source of statutory matters
governing the preparation and audits of the accounts of companies.
The professional framework of auditing is made up of various accounting standards, as well
as auditing standards and guidelines.
The professional requirement applicable to Nigeria include:
* The International Accounting Standards (IAS) - promulgated by the
International Accounting Standards Committee (IASC).
* The Statement of Accounting Standards (SAS) - promulgated by the Nigerian
Accounting Standards Board (NASB).
* The International Auditing Guideline (JAG) - promulgated by the
International Auditing Practice Committee (IAPC), and
* The Auditing Guidelines Issued by the Institute of Chartered Accountants of
Nigeria (ICAN).
APPOINTMENT OF AUDITOR
Appointment of Auditors of Accounts In Case Of Companies
Whenever any person starts his business, he wants to keep an account whether he is
earning Profits or losses, whether he is in Proprietorship, partnership or a Company. In case
of sole trader or partnership, it may not be necessary to audit their accounts because of their
less sales or whatever the case may be but Audit of Annual Accounts of a company is
compulsory and is indispensable part of incorporated business.
Every company shall at each annual general meeting appoint an auditor or auditors to
audit the financial statements of the company, and to hold office from the conclusion of that,
until the conclusion of the next, next annual general meeting. S.357 (1). CAMA 1990. Since
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the auditors are appointed by the shareholders at the AGM, they are therefore independent of
the Directors, who are the preparer of the financial statements.
Why Audit of Companies is Necessary: Those who carry on business with the other
people's money have to be accountable to the so-called owners. Management and
accountancy demands specialized skill. Shareholders are generally laymen. Thus there arises
a need of an agency to stand in between the shareholders and management. The agency, viz.,
statutory auditors, should be technically qualified for the job and should be independent, and
able to withstand the pressure of management. It is because of this law demands for skillful
and independent auditor, who is appointed by the shareholders of the company so that they
are reported by a reliable person.
REAPPOINTMENT OF AUDITORS
At every Annual General Meeting, a retiring auditor shall be reappointed unless:-
1. He is not qualified for re-appointment;
2. He has given the company notice, in writing, of his unwillingness to continue as auditor;
3. A resolution has been passed at an annual general meeting appointing somebody or stating
that he shall not be reappointed.
CONFIRMATION FROM AUDITOR
Before a company makes an appointment or reappointment of an auditor, a written
certificate has to be obtained from the person concerned stating that the appointment or
reappointment, if made, will be within the limits specified above
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RESIGNATION OF AUDITOR
An auditor may resign before his term of office expires by depositing a notice in
writing to that effect at the company's registered office. His resignation becomes effective on
the date he lodges such notice or on such later date as may be specified in the notice.
RETIRING AUDITOR CANNOT BE REMOVED BY THE BOARD
The Board of Directors of the Company has no power to remove an auditor appointed
by the company in general meeting, i.e., the auditors can be removed only by the company in
general meeting and prior approval from the Central Government is also necessary for such
removal of the auditors. He also has a right to make written representation on the matter to
the shareholders. S.362(1) CAMA 1990.
REMUNERATION OF AUDITORS
The Board fixes the remuneration of the First Auditors. Where the auditor is
appointed or re-appointed by the general meeting, the remuneration is fixed by the general
meeting, or it may be fixed in any manner as determined by a general meeting. Where
Central Government is approached for appointing the auditor, the Government fixes the
remuneration.(This power of the Central Government is delegated to the Regional
Director)The remuneration fixed for an auditor is inclusive of all expenses allowed to him so
that he cannot claim any amount additional to the remuneration fixed either as expenses or
otherwise.
QUALIFICATION & DISQUALIFICATION OF AUDITORS
Statutorily and ethically, only individual possessing the requisite knowledge and skill
can be appointed as auditor of the company. The auditor should be independent in carrying
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out his work so that he is able to give an unbiased opinion based on an objective assessment
of facts. Thus, he should have no interest, financial or otherwise and whether directly or
indirectly, in the company and/or its management. A person, who is Chartered Accountant
within the meaning of Chartered Accountants Act, 1949 and holds a certificate of practice, or
a partnership firm where of all the partners are Chartered Accountants holding certificates of
practice, may be appointed as auditor of a company. S. 358(1). However, in the latter case,
the appointment as an auditor may be made in the firm name and any of its partners may act
in the name of the firm. The following persons cannot be appointed as auditor of a Company
according S. 358(2)
1. An officer or employee of the company;
2. A person who is partner with an employee of the company or employee of an employee of
the company;
3. Any person who is indebted to a company for a sum exceeding Rs. 1,000/- or who have
guaranteed to the company on behalf of another person for a sum exceeding Rs. 1,000/-.
4. A person who is holding any security of that company, after a period of one year from the
date of commencement of Companies (Amendment) Act, 2000.If an auditor, after his
appointment, becomes subject to any disqualification mentioned above, he shall be deemed
to have vacated as such.
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AUDIT PLANNING
Although all audits will have precisely the same objective, ‘lamely, to report to the
interested parties on the result of audit undertaken within the content of an engagement it is
nevertheless true that the detailed manner in which the audit is conducted will largely
depend upon the size and circumstances of the client concerned.
For the audit objective to be achieved a systematic approach to the task is essential and,
although all aspects of audit work are closely interrelated, it is convenient to distinguish the
essential phases through which the audit develops. In summary an audit plan is a statement
setting out the audit objectives and the strategies to be adopted in achieving the objectives.
Planning ensures that there are no gaps or duplications in the audit work, every member of
staff understands what is required of him and the key control areas identified so that attention
is devoted to the critical aspects of audit.
The auditor’s operational standards require the auditor to adequately plan the audit. The
reasons for planning an audit include:
 Planning enables the auditor to determine the audit objective and strategy of
achieving the objective.
 Planning focuses attention on high risk and critical areas of the audit.
 It provides a basis for directing and controlling the audit.
 Enables the auditor to determine his staffing requirement and other resources to be
used in the audit execution.
 Helps to ensure e that all aspects of the audit are covered.
 Helps to ensure that the audit is carried out in an economical manner.
 It facilitates the preparation of audit programmes and audit integrity checklist.
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 Planning facilitate audit review by managers and partners. Planning is all evidence of
proper audit approach.
PLANNING PROCEDURE
The planning procedure to adopt for an audit is a function of whether it is a first audit
or an existing audit. If it is a first audit and being taken over from an existing professional
colleague, the auditors must ensure compliance with ethical guide on change of professional
engagement. This requires that the incoming auditor should seek necessary professional
clearance from the outgoing auditor.
The approach for planning an old audit is essentially a review and an update of information
already collected on the company.
To ensure that the audit is planned, efficiently and effectively, the auditor must, from the
onset, consider and obtain all understanding of the following matters.
 The nature of business carried on by the enterprise.
 The operating environment, with due attention to the legal, political, economic and
technological factors which have impact oil the enterprises business.
 Recent events in tile economy and within the enterprise that have implication for the
financial statement. e.g. significant changes in the trend of business.
 The organisational structure of the enterprise and the existence of any related parties.
 The nature of the accounting system, accounting records and internal control in
existence at the client’s enterprise.
 The terms of the audit engagement
 Matters noted in the prior period audits which have relevance to the current year’s
audit.
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 Major accounting policies used by the company.
 Article and Memorandum of Association of the company.
 Information on company’s management, Directors and shareholders.
AUDIT PLANNING MEMORANDUM
Audit Planning Memorandum (A-PM) is a document prepared by the auditor, setting
out the information obtained and the decisions taken as a result of the audit planning effort.
The APM is used to communicate information about the audit engagement and the audit plan
to members of the audit team. It also serves as a record of the audit plan for future reference.
The contents of all APM will include the following:
i. Background information relating to the business including:
- A brief history of the enterprise.
- The economic environment of the business of the enterprise
- The nature of business of the enterprise
- The organisation structure
- A brief financial history of the enterprise
- Significant accounting policies used by the enterprise
- Information relating to the accounting system, records and the internal controls of
the enterprise
- The terms of the audit engagement.
ii. Information relating to the audit strategy including:
- The audit objectives
- The analyses of the audit risk and the audit approach. This may be either a
compliance approach, or substantive approach.
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- Areas of special audit emphasis.
iii. Information relating to the administration of the assignment including:
- The partner in charge of the engagement
- The manager in charge of the engagement
- Timing of the audit visits including interim, final and attendance at stock take.
- The timing of the partner and managers reviews
- The reporting deadline.
- The audit budget
iv Audit programmes- This will include both compliance and substantive audit
programme for all aspects of the financial statements including share capital, reserves
and long term liabilities, purchase and creditors, sales as debtors, cash and bank
taxation, investments and investment income, stocks and work in progress.
v. Ethical/legal requirements - compliance with all relevant legislations and Auditing
standards and guidelines. Also International Accounting Standards, Statement of
Accounting standards etc.
AUDIT BUDGET
An audit budget is a quantitative statement of the cost and revenue expectations of an
audit assignment. This will enable the auditor to determine the profitability of the audit
assignment. The audit budget incorporates:
- The time budget
- This specifies the time to be spent on the audit.
- The audit cost budget - The cost arrived at under the time rate analysis
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- The revenue budget - Expressed as a percentage of turnover or on the effective time
spent on the audit.
The advantages of the audit budget include the following:
- It provides a basis for controlling the audit.
- It provides a basis for measuring performance. The analysis of variance can assist in
diagnosing staff training-needs.
- It provides a basis for preparing future budgets
- It can assist in the statement of audit fees.
The audit budget may not be met because of the following reasons:
- Some budgets are unrealistic and therefore not attainable.
- Lack of co-operation from the members of the management team.
- Inadequate preparation for the audit by company’s staff
- Incompetence of the members of the audit team.
- Inadequate resources for the audit execution
- Attitude of the member of the audit team may be responsible for adverse valiance in
audit budget.
Basis for charging fees: Audit fees are to be charged based on the effective changed based
on tile graduated rate on turnover of the company, whichever is agreeable to by the company.
PROBLEMS OF AUDIT PLAN IMPLEMENTATION
The likely problems that; could be encountered in implement lug audit plans include the
following:
- The shortage of qualified staff. This may be done to unanticipated high turnover of staff
in the film.
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- Failure of the enterprise’s management and staff to meet agreed deadlines
- Lack of co-operation from the officers of the company.
- Unanticipated changes in the clients business, accounting systems internal control
systems etc.
- Changes in government policies and professional guidelines that affect the business of the
enterprise.
Steps that may be taken to minimize the above problems include:
- Arranging a planning meeting with the client so as to ascertain the enterprises
financial time-table and agree with the audit plan.
- Constant liaison with the management of the enterprises to ascertain development and
planned changes in the enterprise
- The auditor should keep the management informed of pending audit visits.
- The auditor should monitor the environment to anticipate governments legislation and
accountancy pronouncement.
- The audit budget should be realistic and take account contingencies.
- The auditor should consider the rate of turnover of staff and the firms requirement
for audit staff.
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QUALITY CONTROL OF AUDITS
The Auditors Operating Standard states that the auditor should adequately plan
control and record his work. The principles of quality control apply to all organisations
carrying out independent audits whether in the private or the public sector.
The principles of audit control are applicable not only to auditing but to the entire
range of professional services provided by a firm. Quality control is the means by which a
firm obtains reasonable assurance that its expression of audit opinions always reflects
observance of approved auditing standards, any statutory or contractual requirement and any
professional standards set by the firm itself. Quality control should also promote observance
of the personal standards relevant to the work of an auditor.
The objectives of quality control procedures are the same for all firms. It is important for
all firms to put in place a functional quality control process. For each firm, the exact nature
and extent of the procedures needed will depend on its size and the nature of its practice, the
number of its officers and its organization. The main features of the procedures include:
1. Each firm should establish procedures appropriate to its circumstances and
communicate them to all partners and relevant staff and to other professionals
employed by the firm in the course of its audit practice. This should normally involve
putting them in writing, although, it is recognized that oral communication may be
effective in a small closely controlled firm.
2. Acceptance of Appointment and Reappointment as Auditor: Each firm should
ensure that, in making a decision of accept appointment or reappointment as auditor
considered in given to the firm’s independence and its ability to provide an adequate
service to the client. The firm should determine what information is needed to
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evaluate prospective clients, and whether the decision to accept appointment or
reappointment should be taken by the firm as a whole or by a designated partner or
committee.
3. Professional Ethics: There should be procedures within the firm to ensure that all
partners and professional staff adhere to the principles of independence, objective,
integrity and confidentiality, set out in the ethical statements issued by the institute.
These procedures include providing guidance particularly to those staff who are not
members of the Institute, resolving questions on the above principles and monitoring
compliance with them. For smaller firms in particular, it may be appropriate that the
task of guiding staff ill these areas should be allotted to a particular partner. If for
example, tile firm does.
Skills and competence - The firm’s partners and staff should have attained the skills and
competence required to fulfill their responsibilities. This involves Procedures relating to:
a. Recruitment
b. Technical training and updating
c. On-the-job training and professional development.
Staff should be informed of the firm’s procedures for example by means of manuals and
standardized documentation of programmes. The firm’s procedures should be regularly
updated.
Recruitment: Effective recruitment of personnel with suitable qualitative including any
necessary expertise in specialized areas and industries, involves both planning for staffing
needs and determining criteria for recruitment based on such needs. Such criteria should be
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designed to ensure that cost considerations do not deter the firm from recruitment of audit
staff with experience and ability to exercise the appropriate judgement.
Technical Training and Updating: All partners and staff should be required to keep
themselves technically up-to-date on matters that are relevant to their work. The firm should
assist them to meet the requirement. Such assistance should include:
a. Circulating digests or full tents, where appropriate, of professional publications and
relevant legislation.
b. Maintaining a technical library.
c. Issuing technical circulars and memoranda on professional development as they
affect the firm.
d. Encouraging attendance of professional courses.
e. Maintaining appropriate training arrangements.
The methods of implementing the above procedure may vary according to the size of the
firm, for example, a smaller can ensure that it has copies of essential reference books
relevant to its practice where a full technical library would be impracticable.
Also, manuals and standards documentation do not need to be produce internally by
smaller firm I Hit ran be acquired from various professional bodies and commercial
sources: and Co operative arrangements with other firms can help meet training needs.
On-the-Job Training and Professional Development: a further fact in staff assignment
should be the opportunity for on-the-job training and professional development. This should
provide staff with exposure to difference types of audit anti with the opportunity to work
with more experienced members of the team who should be main responsible for the
supervision and review of the work of junior staff. It is important that the performance of
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staff on audits is evaluated and that the results of these assessments are communicated to the
staff concerned, given the opportunity for staff to respond to comments made for any action
to be agreed.
4. Consultation: There should be procedures for consultation. These will include a.
structured approach to audit file review procedures recommended in the Auditing
guidelines on controlling are effective for every audit; reference of technical problems
to designated specialists within the firm, and procedures for resolving matters of
judgement. For smaller firms, and particularly for sole practitioners, Consultation with
other practitioner or with any relevant professional advisory service may be a suitable
alternative, provided confidentiality of the client’s affairs is maintained. To provide
opportunities such consultations, practitioners in smaller firms will find it helpful to
develop links with other practitioners of with relevant professional associations.
5. Monitoring the firm’s Procedures: The firm should monitor the effectiveness of its
application of the quality control procedures outlined above. This monitoring process
should provide reasonable assurance that measures to maintain the professional
standards of the firm are being properly and effectively carried out.
This process should include periodic review of a sample of the firm’s audit files by
independent reviewers from within the firm, the firm should:
a. Have procedures for select ion of particulars audits for review and for the frequency,
timing, nature and extent of review.
b. Set the levels of competence for the partners and staff who are to participate in review
activities.
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OAU, Ile Ife.
c. Establish procedures to resolve disagreements, which may arise between the reviewers
and audit staff.
It should be borne in mind that the purpose of this independent review is to provide an
assessment of the overall standards of the firm, and is to provide quite separate from the
purposes of the earlier review procedures referred to in consultation which are carried out by
member of the audit team to provide control over the individual audit.
Where in the smaller firm, impendent review within the firm is not possible, identifying
potential problem area. Alternatively, an independent and objective ways for monitoring the
effectiveness of quality control procedures can be achieved by reference to professional
practice advisory services, where available.
AUDIT EVIDENCE
Audit evidence refers to all the information obtained by the auditor by the conduct of
compliance and substantive procedures from which he draws conclusions on which he bases
his opinion on the financial statements. The auditor’s operational standard requires the
auditor to obtain relevant, reliable and sufficient evidence.
The quantum of audit evidence needed to achieve the required level of assurance necessary to
form; in opinion is a question for the auditor to determine by exercising his judgement in the
light of tile opinion called for under the terms of his engagement. Generally, the judgement
as to what constitutes sufficient audit evidence will be influenced by:
The nature and materiality of the items in the financial statements;
- The auditors experience as to the reliability of management and staff of the
enterprises and of its records.
- The financial position of the enterprise
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OAU, Ile Ife.
- The persuasiveness of the evidence; and
- The consistency of evidence.
The relevant of audit evidence is influenced by the audit-objectives.
Accordingly, audit evidence is considered relevant where it enables the auditor to draw
conclusions about sonic characteristics of the items tested.
In relation to compliance procedure relevant audit evidence are those, which enable the
auditor to decide whether or not:
a. Controls exist;
b. Controls are operating effectively, and
c. Controls have operated effectively throughout the period of intended reliance.
In relation to substantive procedures relevant audit evidence are those, which enable the
auditor to decide:
- Whether an asset or a liability exists at a given date.
- Whether an asset is owned by the enterprise or a liability is owed by the enterprise.
- Whether a transaction or an event which pertains to the enterprise took place during
the period.
- Whether an asset or a liability or a transaction has been omitted from the records.
- Whether an asset or a liability is recorded at an appropriate value.
Whether a transaction has been recorded at an appropriate amount and revenue or
expense is allocated to the proper period.
- Whether an item is disclosed, classified and described in accordance with acceptable
accounting policies, and where applicable, legal requirements.
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The reliability of audit evidence is influenced by its source-internal and external and by its
nature - visual, documentary or oral. While being dependent on the circumstances under
which it is obtained, the following generalizations are used in assessing the reliability of
audit evidence;
- External evidence, for example confirmation received from a third party, is more
reliable than internal evidence.
- Internal evidence is more reliable when related internal control is satisfactory.
- Evidence obtained by the auditor himself is more reliable than that obtained from the
enterprise.
- Evidence in the form of document and written representation is more reliable than
oral representation.
The distinction between compliance and substantive tests derive from their objectives.
Compliance tests are those tests, which seek to provide audit evidence as to whether
controls are being applied as prescribed. Substantive tests on the other hand, are those audit
tests, including analytical review procedures, which seek to provide audit evidence regarding
t lie completeness, accuracy and time validity of transactions and balances included in the
accounts and financial statements.
Five methods of obtaining audit evidence include the following:
- Inspection - This refers to the review or the examination of records, documents or
tangible assets. Inspection of records and documents provides evidence of varying
degrees of reliability depending upon their nature and source. The inspection of
tangible assets provides the auditor with reliable audit evidence as to the existence of
those assets, but not necessarily as to their ownership, cost or value.
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- Observation - This means looking at an operation procedure being performed by
others with a view to determining the manner of its performance. Observation
provides the auditor with reliable audit evidence as to tile manner of the performance
of the process or procedure at the time of observation but not at any other time.
- Enquiry - This means seeking relevant information from knowledgeable persons
inside or outside the enterprise, whether formally or informally, orally or in writing.
The degree of reliability that the auditor attaches to evidence obtained in this manner
is dependent on his opinion regarding the competence, experience, independent and
integrity of the respondent.
- Computation- This means checking the arithmetical accuracy of accounting records
or performing independent calculations.
- Analytical review procedures- These include the study of significance radios, trends
and other statistic and investigating any unusual or unexpected variations. The auditor
obtains reliable audit evidence regarding tile reasonableness of transaction and
balance through the performance of these procedures.
The auditors use third party evidence for various reasons:
- To confirm information obtained from within tile enterprise.
- To seek expects opinion in relation to certain aspects of the enterprise’s business.
- To seek complementary audit evidence, which n addition to the audit evidence
obtained from within the enterprise, will provide tile audit with a reasonable basis for
drawing conclusions.
It is important for the auditor to obtain third pa.rty evidence in addition to that obtained,
entirely from within the enterprise because such audit evidence tend to be more objective
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than that which is obtained solely from within the company alone. In certain circumstances,
third party audit evidence may be more authoritative than evidence obtained from within the
enterprise. For example, the valuation of liabilities or outstanding life policies by an
actuaries.
The reliability of the valuation of assets carried out by specialist valuers is dependent oil the
skills and experience of the valuers, their independence and objectivity as well as their
integrity. The reliability will also be influenced by the objective of the valuation and the
quality of data used for carrying out the valuation.
The auditor will also consider the assumptions made by the valuer for consistency with other
information available to him and reasonableness.
He should also check the computation carried out by the valuer in arriving that his valuation
to ensure that they are accurate.
Other audit procedures that should be conducted include:
- The physical verification of the land and buildings to ascertain their ‘existence.
- The examination of title deeds and certificate of occupancy to ascertain the ownership
of the land and industrial building.
- The auditor on should review depreciation policies on the building to ensure that the
depreciation charge is reasonable and correct.
- The auditor should ascertain whether the land and buildings are free of third party
lien.
- Check the treatment of surpluses or deficiencies oil revaluation.
- Review tile presentation of land and buildings in the financial statements.
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Replies to debtor’s circularization provide reliable evidence in relation to the existence of
the debtors and tile amount owing the company by the debtor, and necessarily the
collectibles of the debts. The auditor must ensure that the replies are not intercepted by
the enterprises staff.
The additional audit work needs to be performed in order to verify the amount of trade
debtors shown in the balance sheet include:
- Agreeing the opening balances of trade debtors to prior year audit working papers and
published financial statements.
- Agreeing closing balances included in debtors schedule prepared by the’ client staff
to the debtors control account and the individual debtors ledger balances.
- Vouching a sample, of payments by debtors to the cashbook and bank statements to
ensure authenticity.
- Vouching discounts and amounts written off during the year to ensure that they were
authorized and are in accordance with the enterprises policy.
- Vouching return inwards to stock records to ensure that they are authentic.
- Reviewing the aged analysis of debtors to determine the collectability of the amounts,
and the adequacy of the provision for doubtful debts.
- Comparing the current year trade debtors balances with those for prior years and in
the light of current trading circumstances investigating any unusual variation.
- Obtaining a written representation from management regarding debtors balances.
- Ensuring that trade debtors are properly presented and relevant information disclosed
in the financial statements.
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- Evidence obtained by way of confirmation from banks regarding cash at bank or
bank overdrafts are often very reliable.
The additional audit works to be carried out include:
- A review of bank reconciliation statements to identify unusual transactions for
further investigation.
- As regards bank overdraft reviewing for compliance with terms.
- Obtaining written representation from management.
The two audit objectives normally associated with tests executed on a sample of transactions
selected from a large-volume population are:
i. To determine whether internal controls were being applied as prescribed by
management throughout the period during which the transactions occurred. This type
of audit test is referred to as compliance test.
ii. To determine whether transactions and balances included in the accounts and the
financial statements are complete, accurate and valid. This type of audit test is known
as substantive test.
An example of audit test which not only assist the auditor in determining the reliability of
controls, but also the completeness accuracy of transactions and balances is the test counting
of stock items when the auditor attends the client’s stock take. Such test count will enable the
auditor:
- To determine the extent to which the stock take procedures can generate reliable
stock quantities for incorporation in the financial statements, and
- To ascertain the accuracy of the counted stock items. By tracing a single transaction
of each type through all stages of the accounting system, the auditor is able to confirm the
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correctness if his understanding of the accounting and internal control systems which exist in
the client’s enterprise. This type of test is referred to as walk-through test or walk-through
check or walk-through procedure.
INTERNAL CONTROL AND INTERNAL AUDITS
Internal control system can be defined as the own system of control which may be
financial or otherwise established by the management structures of an organization is in the
business of assuring that an organization has a reliable financial reporting system and
functions effectively in compliance with applicable laws and regulations. Internal control
seeks to provide that there is proper maintenance of environment that frowns at corruption
and deter any fraudulent activities by management and employees. Internal controls are
essentially carried out in the internal audit department of an organization.
When conducting an independent audit for a large company who has an internal audit
staff, external auditors needs to evaluate the internal auditors' functions. These functions
consist of the internal auditors' competence, objectivity, and work performance. The
principles of internal control are: Maintaining adequate records, divide responsibilities for
related transaction, apply technological controls, perform regular and independent reviews,
insure asset and bond key employees, separate record keeping from custody of assets. The
key to an effective independent audit is to provide adequate lines of communication between
the internal and external auditors in order that these internal audit functions can be
adequately evaluated by the external auditors. Because of the external auditors' reliance on
these internal audit functions and because of the scope of the audit, sometimes tension enters
into this relationship.
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COMPONENTS OF INTERNAL CONTROL
Control Environment: This to a large extent influences the control consciousness of its
people and serves as a foundation for all other internal control
Risk Assessment: One of the components of internal control is the identification and analysis
of relevant risks to the achievement of objectives which forms a basis for how the risk should
be managed.
Information and Communication: The recent advancement in technology supports the
identification, capture and exchange of information of information in a form and time frame
that enable people to carry out their responsibilities
Control Activities: These are the activities and procedural policies that help to ensure that
management directives and instructions are adequately carried out.
Monitoring: This is also one of the components of internal control as it is a process used in
assessing the quality of internal control performance over time
This behavioral aspect is extremely important because of the working team relationship that
must exist. If it does not exist, it is likely that this behavioral aspect can significantly
influence many audit decisions made the external auditors. Thus, because of the nature of this
relationship, communication problems can affect the outcome of an effective and efficient
independent audit.
In any working relationship, one has to be totally cognizant of the human relations
component that can arise, and the internal and external audit relationship is no exception. It is
possible for external auditors to have a negative attitude toward internal auditors that can
affect the relationship. Oftentimes, this situation is compounded by the internal auditors'
negative perception of the external auditors' status within the independent audit. Although
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not all external and internal auditors experience this behavior, it nevertheless is still an
important element to be evaluated because of the potential behavioral problems that can
affect the audit.
Some internal auditors see their interactions with external auditors as not one of their
favorite parts of their job because of the external auditors’ limited use of the work performed
by internal auditors. The internal auditors perform various operations that could be used by
the external auditors, but some external auditors do not rely on the work. As a result, this
situation can cause tension and conflict, and it often stems from poor communication.
Therefore, one way to improve communications between internal and external auditors is to
determine what may be the specific communication problems or barriers affecting this
relationship. Once the barriers have been identified, then appropriate training and /or
counseling to deal with the communication barriers can be developed and administered.
The following communication barriers are common types of barriers that may arise in
this relationship.
Distortion or Omission of Information
Given the nature of the internal and external auditor relationship, an element of pride
may enter into the situation. Each group perceives the work performed as critically important
to the successful completion of the independent audit. Unfortunately, when an external
auditor seeks information from an internal auditor, or vice versa, there is a tendency not to be
as open and detailed regarding the information sought. This barrier can be dealt with by
providing an environment that encourages open lines of communication and reinforces the
element of cooperation in meeting the objective of the audit.
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Lack of Credibility
From the standpoint of the external auditor, if the external auditor perceives the
internal auditors as lacking credibility, then the reliance on the work performed by the
internal auditors will be reduced dramatically. The internal auditors need to establish a basis
of competence and convey this appropriately to the external auditors. When internal auditors
can provide the necessary credentials illustrating an understanding and application of the
proper audit procedures through appropriate training and prior work performance, external
auditors can begin to accept the work as reliable and improve the relationship.
Inadequate Common Accounting Knowledge
Although both types of auditors have had similar coursework in their undergraduate
accounting programs, sometimes because of the nature and type of business, specific types of
accounting procedures may be required.
One of the first things external auditors need to do is to become familiar with the appropriate
common business practices of the company. They need to seek information from the internal
auditors to help them understand the various requirements necessary for the audit. By
providing an atmosphere of cooperation, the auditors can work together in a productive and
efficient manner by sharing the appropriate information needed for the audit.
Tendency Not To Listen
Probably one of the most common communication barriers that can arise in this
relationship is through ineffective listening. If internal and external auditors do not make a
point to listen effectively to each other, obvious problems can surface to affect the
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independent audit. Each group needs to establish a basis of trying to gain proper information
from each other by keeping an open mind and not developing any preconceived notions.
If these auditors realize that they can benefit from each other and stop from developing a
negative attitude toward each other, then this would be the first step to improve this
relationship. And, the best way to achieve this goal is through effective listening. These
auditors need to listen not only with empathy for the speaker but also with feeling and
acceptance. They have to remember that often emotions can filter the benefit that can occur if
one does not listen effectively.
Resistance to Change
Another common barrier that can surface in this relationship is the external auditors'
resistance to change to new ideas and procedures developed by the internal auditors to
improve the independent audit. When the change is perceived as threatening to the norm of
handling a particular issue, this change can affect the communication exchange. Internal
auditors always strive to improve the procedures and policies within the accounting
environment, and when external auditors discount the value of these new ideas, internal
auditors develop a feeling of resentment and further exacerbate an already fragile
relationship. Both groups of auditors need to develop an atmosphere of openness to new
ideas in that each group should give enough time to each other to show the value that can be
gained by considering a possible change.
In conclusion, the features of internal control are management integrity through
employees’ handbook and procedural manuals, competent personnel, Segregation of
duties, record maintenance, Safeguards.
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The first step to improve the communication between internal and external auditors is
to attempt to recognize the barriers that may cause problems. These barriers can have a direct
impact on the success of the audit. Working together as a team rather than two independent
groups can only improve the efficiency and effectiveness of the independent audit. If the
auditors can begin to recognize potential behavioral communication problems that can affect
this relationship, as noted in this article, this would be an important step to reduce and/or
eliminate the problems. Once the problems have been identified, various training and
educational efforts can be offered to help the auditors deal with these communication
concerns.
AUDITORS REPORT
It must be recognized that there are two fundamental aspect of audit. One is to
establish the facts and the other is to report material facts fearlessly to members, it was held
long ago, in the case of RE: LONDON GENERAL BANK – 1985, that an auditor failed in
his duty where he did not convey information clearly in his report. The discussion below is
based on the provisions of law, which give guidance on the report of auditors on financial
statements.
BASIC ELEMENTS OF THE AUDITORS REPORT
IAG 13 requires the audit’ report to include the following basic elements:
- Title
- Those to whom the report is addressed.
- The financial statements to which the report refers.
- A reference to the status under which the audit was carried out.
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- The auditor’s opinion.
- The auditor’s signature.
- The date of the report.
- The auditor’s, address.
MATTERS THAT SHOULD BE EXPRESSLY STATED IN THE AUDITOR’S
REPORT.
In compliance with Schedule CAMD 1990 and generally acceptable audit practice,
the auditor should refer expressly in his report to the following matters.
Whether the auditor has obtained all the information and explanations necessary for the
purpose of their audit.
- Whether, in his opinion, proper books of accounts have been kept by the company,
and proper returns adequate for the purpose of the audit obtained from branches not
visited.
- Whether the financial statements are in agreement with the books of accounts and
returns.
- Whether in the auditor’s opinion the financial statements give a true and fair view of
the state of affairs, profit or loss and, where applicable, cash flow statements.
- Whether the financial statements have been prepared in accordance with the
provisions of the Companies and Allied Matters Decree 1990 and any other statute.
The auditor should also refer in his report the particular convention used in preparing the
financial statements if he considers it necessary in order to avoid misunderstanding.
An example of audit report containing the basic elements and setting out those matters
specified under the CAMD 1990 is set forth below:
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AUDITOR’S REPORT TO THE MEMBERS OF SOLAR NIGERIA LIMITED.
WE HAVE EXAMINED THE ACCOUNTS OF THE COMPANY ON PAGES 2 TO13
AND WE HAVE CARRIED OUT SUCH AUDITING PROCEDURES AND OBTAINED
ALL THE INFORMATION AND EXPLANATION, WHICH WE CONSIDER
NECESSARY.
IN OUR OPINION, THE COMPANY HAS KEPT PROPER BOOKS AND THE
ACCOUNTS, WHICH ARE IN AGREEMENT’ WITH THEM AND WITH THE
INFORMATION AND EXPLANATIONS, GIVE IN THE PRESCRIBED MANNER, THE
INFORMATION REQUIRED BY THE COMPANIES AND ALLIED MATTERS
DEGREE, 1990, AND GIVE A TRUE AND FAIR VIEW OF THE COMPANIES
AFFAIRS AS AT 31 DECEMBER 1996 AND OF ITS PROFIT AND CASHFLOW
STATEMENT FOR THE THEN ENDED.
11 MARCH, 2010
SOLAR & Co
CHARTERED ACCOUNTS
43

Nature and Scope of Auditing

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Nature and Scope of Auditing

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Auditing Handbook by Akinyele A.

NATURE AND SCOPE OF AUDITING

An Audit is the independent examination and expression of opinion on the financial

information of an enterprise by an appointed auditor in pursuance of that appointment and in

compliance with any relevant statutory and ethical requirements.

It should be further noted from the above definition that:

i. The audit is an independence examination of the financial information. The auditor

must be independent of those responsible for the financial statements (the

auditor is obliged to comply with.

Audit involves a set of logical procedures as follows:-

accounting systems by:

* Obtaining and reviewing the Articles and Memorandum of Associations, Partnership

order to determine the method of operation.

the enterprise, which defines responsibilities, and limits of authority.

their sizes and functions.

* Obtaining and reviewing details of and legislature and accounting pronouncements,

* Obtaining and reviewing extracts of minutes of meetings, which have relevance to

future activities of the enterprise.

* Obtaining and reviewing particulars of accounting systems in operation, details of the

books of accounts maintained and accounting documents used.

* Obtaining and reviewing copies and past audited accounts.

* Determining the audit approach to be adopted.

* Preparing the audit programme.

* Determining the number and grade of audit staff required.

* Preparing the audit-planning memorandum.

iii. Ascertaining the accounting and internal control systems by:

* Making enquiries of staff and management.

* Inspecting systems manuals, organizational charts, systems flowcharts, etc.

* Inspecting accounting records and transaction documents.

iv. Recording the accounting and internal control systems by:

* A narrative description of the systems.

* Internal control questionnaires.

* By flowcharting the systems.

* Conduct of walk-through checks to confirm the correctness of the auditors

understanding and recording of the systems in existence

* Consideration the effect of any uncertainty or disagreement on the truthfulness and

fairness of the view presented by the financial statements.

* Determining the type of audit opinion to express.

* Rendering the audit report to the client.

The objectives of auditing can be classified into two

2. Secondary Objective: The secondary objective of auditing are:

b. To detect errors and fraud in the accounting books

c. To prevent errors and fraud by the deterrent and moral effects

d. To provide spin-off effects by assisting his clients with accounting system,

taxation and consultancy services.

1. To have an independent examination and confirmation of actual financial position

and earning of the organization.

2. There is reliance on the financial statement audited

4. Satisfaction of requirement by bank

5. It prevents disagreement between partners

6. It provides confidence to the prospective investors

7. Detection and correction of errors

8. Adequacy or otherwise of the Internal Control System

of audit, it is time consuming

3. Loss of Privacy: An auditor is believed to have been exposed to company’s secret as

privacy in the organization endeavours.

5. Influential Audit report

making audit to conduct an agreed work / limit.

account of every publicly traded firms (limited liability companies) to be audited

annually by professionally qualified auditor.

Other types of Audits

weaknesses, planning and carrying out compliance tests, draws conclusion.

critical review of accounts.