Pub2608 Study Guide

Open Rubric
© 2018 University of South Africa
First edition 2000
Second edition 2005
All rights reserved
Printed and published by the

University of South Africa
Muckleneuk, Pretoria
PUB2608/1/2019–2021
70464596
MNB_style
CONTENTS
308 Page
PREFACE vi
LEARNING UNIT 1: Auditing process 1

ROUTE MAP 1
MODULE: PUBLIC FINANCIAL CONTROL II 1
INTRODUCTION 1
1.1 BACKGROUND PERSPECTIVE 2
1.1.1 Objectives and principles of auditing 3
1.1.1.1 Public accountability and reporting 3
1.1.1.2 Fraud and mistakes 3
1.1.2 Accountability and auditing 4
1.1.3 Audit mandate 5
1.2 LEGISLATION AND AUTHORISATION 5
1.2.1 Constitution of the Republic of South Africa, 1996 5
1.2.2 Public Finance Management Act 1 of 1999 6
1.2.3 Public Audit Act 25 of 2004 6
1.2.4 The structure, functions and services of the Auditor-General legislative mandate 6
1.2.4.1 Definition of audit 7
1.2.4.2 Remit of Auditor-General 7
1.3 AUDITING PROCESS 7
1.3.1 Internal and external auditing 7
1.3.2 Audit types 9
1.3.3 Regularity auditing (comprehensive auditing) 9
1.3.3.1 Responsibility of the Auditor-General 10
1.3.3.2 Standards 10
1.3.3.3 Field standards 10
1.3.3.4 Process 11
1.3.3.5 Reporting 11
1.3.4 Computer auditing 11
1.3.4.1 Controls in a computer information systems (CIS) environment 11
1.3.4.2 Application controls 12
1.3.5 Performance auditing 12
1.3.6 Forensic auditing 13
1.3.7 Environmental auditing (sustainable development audit) 14
1.4 AUDITING PROCESS – GENERIC 15
1.4.1 Pre-engagement planning phase 16
1.4.2 Execution phase – compliance and substantive procedures 17
1.4.2.1 Institution’s business 17
1.4.2.2 Materiality considerations 17
1.4.2.3 Inherent risk 17
1.4.2.4 Accounting system and related internal controls 17
1.4.2.5 Audit approach 17
1.5 AUDIT TECHNIQUES 18
1.5.1 Interviews 18
1.5.2 Questionnaires 18
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1.5.3 Flow charts 19
1.5.4 Flow lines 19
1.5.5 Statistical sampling 19
1.5.6 Working papers 20
1.5.7 Computer-assisted audit techniques (CAATs) 20
1.6 AUDIT COMMUNICATION 21
1.7 CONCLUSION 21
1.8 Self-assessment 22
1.9 Feedback on Self-assessment 22
1.10 REFERENCES AND ADDITIONAL READING 23
LEARNING UNIT 2: Audit queries 24

ROUTE MAP 24
INTRODUCTION 24
2.1 CONCEPTUALISATION 25
2.1.1 Internal processes 25
2.1.2 External processes 26
2.2 REPORTING AND ACCOUNTABILITY 26
2.2.1 Best practice internal reporting 27
2.2.2 In-year management, monitoring and reporting 28
2.2.3 Monthly reports 28
2.2.4 Quarterly reports by Treasury 29
2.2.5 Annual report 29
2.3 RELATING TO AUDITING 30
2.3.1 Annual reports 31
2.3.2 Monthly and annual reports 31
2.3.2.1 Cash flow reports 31
2.3.2.2 Monthly reports 31
2.4 REPORTING ON AUDIT QUERIES 32
2.5 ORIGIN OF AUDIT QUERIES 32
2.5.1 Appropriation reports 33
2.5.2 Elements of annual financial reports 33
2.6 AUDIT OPINIONS 33
2.6.1 Unmodified or unqualified (“clean”) opinion 33
2.6.2 Modified opinion 34
2.7 REPORTING STANDARDS 34
2.8 KEY FOCUS AREAS TO MOVE TOWARDS CLEAN AUDIT OPINIONS 36
2.9 CONCLUSION 36
2.10 SELF-ASSESSMENT 37
2.11 FEEDBACK ON SELF-ASSESSMENT 37
LEARNING UNIT 3: Financial misconduct and control 38

ROUTE MAP 38
INTRODUCTION 38
3.1 BACKGROUND PERSPECTIVE 39
3.2 CONCEPTUALISATION 39
3.2.1 Theoretical perspective 39
3.2.2 Official perspective 40
3.3 FINANCIAL MISCONDUCT BY OFFICIALS IN DEPARTMENTS AND
CONSTITUTIONAL INSTITUTIONS 40
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3.4 APPLICABLE LEGAL REGIME FOR DISCIPLINARY PROCEEDINGS 43
3.5 REGULATIONS ON FINANCIAL MISCONDUCT PROCEEDINGS 43
3.6 OFFENCES AND PENALTIES 43
3.7 TREASURY REGULATIONS 44
3.7.1 Investigation of alleged financial misconduct (Sections 85(1)(b), (c) and (d) of the
PFMA) 44
3.7.2 Criminal proceedings (Section 86 of the PFMA) 44
3.7.3 Reporting (section 85(1)(a) and (e) of the PFMA) 44
3.8 CONTROL AND FINANCIAL MISCONDUCT 45
3.8.1 Reporting 47
3.8.2 Signature 47
3.8.3 Internal audit committees 48
3.8.4 Adequate segregation of duties 49
3.8.5 Inspections 50
3.9 CLASSIFICATION OF CONTROLS 50
3.9.1 Preventive controls 51
3.9.2 Detective controls 51
3.9.3 Corrective controls 51
3.10 INTERNAL CONTROL 51
3.10.1 Responsibilities for internal control 52
3.10.2 Is internal control effective? 52
3.10.3 Need to review internal control 53
3.11 ACCOUNTING OBJECTIVES OF INTERNAL CONTROL 54
3.12 LIMITATIONS ON EFFECTIVENESS OF INTERNAL CONTROLS 55
3.13 CONCLUSION 55
3.14 SELF-ASSESSMENT 56
3.15 FEEDBACK ON SELF-ASSESSMENT 56
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PREFACE
Public Management is a dynamic field of study that has to adapt constantly to a range
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of environmental influences. These environmental influences relate to the open-systems

approach (where the organisation has contact with the environment, its flows, interactions
and information) demand that public managers are flexible and at the same time
demonstrate accountability towards the clients that they serve.
Public institutions have a responsibility towards their clients. This means that public
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institutions must deliver services and products to the public to improve their welfare
and general wellbeing. To put it another way, public institutions and the people who
work in them are responsible for creating an enabling environment in which the public
can prosper.
This module was designed and developed to fulfil a need expressed by public institutions
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operating at local, provincial and national level in South Africa. The environment in
which public institutions operate has changed, making new qualifications necessary. The
qualifications in Public Management have therefore been recurriculated.
The recurriculation of the qualifications in Public Management made the study of different
4
topics necessary. The aim therefore was to develop a complete course that would cover
all the knowledge, skills and competencies that a public manager requires to deliver
quality services to the public, other government institutions or colleagues. Each module
is intended to be a unique contribution to the field of public management and to provide
public managers with the necessary skills and competencies to manage their institutions
effectively and efficiently.
1 HOW TO USE THIS STUDY GUIDE

This study guide has been compiled with the goal of providing learners, who may well
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ultimately join the management corps of the public sector, with the necessary knowledge,
information and sensitivity to deal effectively with a number of issues in the South African
society. It is intended to serve as a basis and guideline for the application of management
functions and processes, and as a useful source of information for those who simply wish
to orient themselves regarding the environment, functions and processes of the public
sector.
The study guide includes the following components to guide and support you in achieving
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your personal and work objectives in mastering the public management functions and
processes in the South African public sector. Each unit in the module starts with a route
map that shows you where you are and how the unit fits into the module. The aim of the
route map is to provide you with a mental map of the structure of the complete module.
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Each learning unit starts with learning objectives, in line with SAQA requirements
7
and complying with the National Qualifications Framework guidelines. These learning
objectives tell you what you should be able to do by the end of each unit and during
formal assessment.
In the text you will find helpful hints and pointers, as well as activities that will help you
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to focus your attention so that you remain objective-oriented regarding the learning
content. These activities should provide you with some of the answers that you will need
to complete the self-assessment questions at the end of each unit. The self-assessment
questions are intended to help you to understand and apply the key aspects of the unit.
Feedback on the self-assessment questions is supplied at the end of each unit. This
feedback provides you with pointers and guidance, and it will assist you in assessing your
own progress during your studies.
The self-assessment questions form an extensive question bank that is used in other forms
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of assessment during the course. For example, we use the question bank when we compile
your assignments. In other words, if you work systematically through all the activities
and self-assessment questions in the study guide, you should not have any difficulty in
answering the assignment questions. The same goes for the final examinations. The
examinations are set from the self-assessment questions at the end of each learning unit
and are in line with the learning objectives at the beginning of each learning unit.
10 The following diagram provides an overview of how all these components fit together.
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2 ICONS USED IN THE STUDY GUIDE
The following icons are used in the study guide to help you identify certain types of
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learning content and study guidelines more easily.
ACTIVITY
The pencil means that you have to do something, for example answer a question.
This will help you to understand the learning content better and should also
assist you when you get to the self-assessment questions at the end of each
study unit.
DEFINITION
The magnifying glass shows you that an important term or concept has been
explained in the text. You should study the explanation or definition carefully.
SELF-ASSESSMENT
This icon indicates the self-assessment questions that you must answer to test
how well you have mastered the learning content.
EXAMPLE
The pointing finger indicates an area in the learning content where the theory
can be related to practice. This should help you to identify your own practical
examples relating to the theory.
TAKE NOTE
The glasses and sheet of notepaper indicate an important point that you need
to study carefully.
3 OVERVIEW OF THIS MODULE

This module deals with Public Financial Management. The module has been divided into
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various learning units to facilitate the learning process.
15 The following learning units will be covered to discuss and explain the process:
 Learning unit 1: Auditing process

 Learning unit 2: Audit queries
 Learning unit 3: Financial misconduct and control
The units have all been written in an interactive style to ensure that you follow the
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content of the module. Throughout the module you will find activities and questions
for self-assessment that will help you to master the content. To illustrate the theory,
numerous examples have been provided to explain the information in a practical way.
To ensure that you get the most out of the material, you should read all the information,
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take note of the various icons and answer the questions for self-assessment at the end
of each learning unit.
4 INTRODUCTION AND GENERAL ORIENTATION

It gives us great pleasure to welcome you as a PUB2608 student in the Department of
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Public Administration and Management. We, as lecturers, are at your disposal and will
gladly assist you in your studies. Be assured of our enthusiasm and willingness to support
you with advice during your study programme.
The study material is designed in such a way as to serve as an elementary text to public
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financial management. Therefore, we do not expect you to master all the ideas here;
rather we hope you can apply those that are relevant and apply them to good effect.
Basically, this module in Public Financial Control is aimed at providing knowledge and
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insight into the public sector auditing process and functions, and into the financial
misconduct and control within the public sector.
20 Syllabus/subjects covered/essential prior knowledge:
 Orientation and theoretical overview

 Public Financial Control functions and practices (only auditing and related issues will
be dealt with here)
 NQF level: 6
 Credits allocated to paper: 120
 South African Qualifications Authority Field: Public Administration and Management
The concepts NQF and SAQA are government structures responsible for ensuring that all
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South African qualifications are nationally and internationally accredited. At present, all
South African qualifications are graded on ten levels (NQF levels 1 to 10). Each level indicates
clearly what knowledge, skills and values you need to master to be declared competent
on that level. The number of credits allocated to the module also indicates the number
of hours that you will (ideally) take to master the learning outcomes set in the various
learning units.
In practice, this means that you will have to spend at least 120 hours on this module to
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master the learning material. You can divide up the 120 hours like this:
 Working through the study guide, consulting the recommended book, reading other
sources like academic textbooks and journal articles, obtaining information on the
internet, watching relevant DVDs and videos, attending seminars and conferences,
and talking to experts in the field = 40 hours
 Completing activities in the study guide and completing assignments = 40 hours
 Preparing for the examination = 40 hours
The general learning outcome for the module is to introduce to you an understanding of
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the auditing process and functions; and the financial misconduct and control within the
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public sector. This will be done by means of self-study, case studies, learning activities,
assignments and other research methods.
Engagement with a range of tasks in the study guide, tutorial letters and various forms
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of multimedia, and completing assignments and examinations will show that students
have achieved the following learning outcomes and assessment criteria.
25 Learning outcome 1
26 Students will understand the auditing process in public sector financial management.
27 Assessment criteria
We will know that students are competent to explain the auditing process when the
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following can be understood and explained:
 The objectives of auditing.

 The various types of auditing and techniques.
 The importance of internal controls in terms of accountability and audits.
30 Students will understand audit queries.
We will know that students are competent to explain the most important concepts and
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ideas relating to audit queries when the following can be understood and explained:
 The reporting categories and procedures for reporting.

 The linking of internal control with auditing.
Students will understand financial misconduct and control within public sector financial
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management.
We will know that students are competent to explain the most important concepts and
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ideas relating to financial misconduct and control when the following can be understood
and explained:
 The legislative provisions concerning financial misconduct and applicable regulations.

 The carrying out of control measures.
37 General
As lecturers, we understand that we need to deliver high-quality service to you, the

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student. We conclude that we need to develop a learning environment that promotes

learning. For this purpose, we undertake to:
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 provide you on an ongoing basis with augmented, relevant learning material that is
regularly compared with similar local and international financial management courses
 liaise on an ongoing basis with employers and the profession to compile and develop
the learning material for financial management in such a way that the public sector’s
needs will be met
 support you in your studies as and when you need it
 provide you with clear guidelines on formative and summative assessment so that
you will know what is expected of you
 provide you with feedback on your assignments in good time; we will strive to return
your assignment, with our feedback within three weeks of the closing date, if you
hand in the assignment on or before the closing date
Unisa has various guidelines for different subject areas, so you need to be quite clear that
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we, as lecturers in the Department of Public Administration and Management, expect

our learners to:
 take personal responsibility for the learning process, because we expect you as learner
to have an acceptable level of skill to cope with public finance problems in the public
sector
 be sensitive to and have empathy with the cultural and academic views of other
learners, and to work together effectively to contribute to the work needed in the
field of public finance
 read with insight about public finance theories and philosophies, and interpret
and report on them insightfully and scientifically in the broader context of public
administration
 collect public finance information from a wide range of sources, analyse it innovatively,
organise it creatively and evaluate it critically within the field of public administration
 investigate public finance problems in the public sector with understanding, analyse
them thoughtfully and solve them judiciously
 manage the learning process in the field of public finance responsibly by evaluating your
own progress and acquiring skills for completing assignments, writing examinations
and doing research
 use technological aids effectively to master the learning activities, while at the same
time taking responsibility for the environment and the welfare of other people
We have arranged the learning material as follows to ensure that all learners achieve the
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learning outcomes:
 Learning units. Each learning unit consists of learning outcomes, an introduction,

self-assessment and feedback on self-assessment.
Answer the self-assessment questions at the end of each learning unit to make sure that
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you have mastered the content of that section. Make sure that you know what you will
be tested on in this module. Your progress will be tested by means of:
1. formative assessment
2. summative assessment
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Formative assessment is done as you complete the activities in the study guide and the
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assignments in the tutorial letter. The examination at the end of the academic semester
is a summative assessment. You should assess your own progress constantly and revise
those aspects of each learning outcome that in your opinion you need to improve.
In Tutorial Letter 101 we list the resources that you will need to achieve the learning
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outcomes of this module. Note that you will need these resources to complete the
activities in every learning unit.
44 Firstly, it is in your own interest to consult the recommended book:
Pauw, JC, Van der Linde, GJA, Fourie, D & Visser, CB. 2015. Managing Public Money.
3rd edition. Cape Town: Pearson.
45 Secondly, there is also the study guide that forms the nucleus of this module.
It is our belief that this introduction and general orientation will help you to tackle your
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study of this module with greater clarity. Some of the literature in this module may seem
strange to you at first, but you will see as you progress with your study of this module
that we have not moved outside the framework of the guidelines mentioned above.
We would like to point out that successful study of this interesting field (Public Financial
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Control) ought to lead to attractive career opportunities in the public sector, and that
you have entered a dynamic field of knowledge in public administration that can offer
you important challenges in the academic world.
This discipline is aimed at expanding the research area by means of independent thinking
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and well-considered practices. We hope that you will find the content of this module
interesting and instructive, and that you will enjoy it with us.
49 Connecting online to the module PUB2608
Computers and the internet are becoming essential in the workplace, in life, and
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in education. In distance learning at Unisa, myUnisa plays a huge role in your study
experience, because you do not attend face-to-face lectures. The internet is simply the
fastest, most effective and efficient way to do that.
Why all the fuss about going online? Because it saves so much time. You can submit
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assignments or get results at the click of a button, rather than waiting for the post. By
embracing computers, and by encouraging our students to use the internet, we are
preparing them for the demands of the digital age. Yes, systems do go down and internet
connections are lost from time to time, but for the most part, the internet is very reliable.
Therefore, you can submit your assignments with confidence and check that they have
been received.
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53 myLife e-mail
Registered Unisa students all get a free myLife e-mail account. Important PUB2608
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announcements and notices are sent exclusively to this account. Please check it regularly
to receive important communiqués from your lecturer.
55 How to register on myUnisa
Unisa’s online student portal (myUnisa) is your most important study tool for this module;
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it is your PUB2608 lifeline. You can start at the main Unisa website (http://www.unisa.ac.za)
and then click on myUnisa, which will take you to the myUnisa website. When you are
on the myUnisa website, click on Claim Unisa Login on the left-hand side of the screen.
You will then be prompted to give your student number to claim your initial myUnisa
and myLife login details. Should you experience any difficulties registering your myUnisa
account, consult the Study @ Unisa brochure for detailed information.
57 myUnisa tools for PUB2608
The purpose of myUnisa is to support your learning, and you need to visit the PUB2608
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web pages on myUnisa frequently. If you make a habit of regularly checking your module
webpage, you can take full advantage of the myUnisa tools explained in Tutorial Letter 101.
Do not hesitate to contact us, your lecturers, if you experience any difficulties with any
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aspects of the module. You can contact us either via e-mail, telephone or the Course
Contact option on myUnisa. Our contact details are available on the home page of the
module site. Remember, help is just a click away.
We wish you a fascinating and satisfying journey through the learning material and trust
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that you will complete the module successfully.
61Lecturers
Public Administration and Management

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January 2018
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Learning unit 1
Auditing process
ROUTE MAP
65 Use the route map to determine where we are and how this unit fits into the module.
MODULE: PUBLIC FINANCIAL CONTROL II

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66 Auditing process
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70 Audit queries
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71 Financial misconduct and control
Learning outcomes
After studying this unit, you should be able to:

− apply the objectives of auditing to your working environment
− distinguish between the various types of auditing
− relate the difference between internal and external auditing to your own work situation
− identify the various audit techniques
− explain the importance of internal controls in terms of accountability and audits
INTRODUCTION
The expenditure management cycle is not directly geared to determine the extent to
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which all of its systems were performed in terms of economy, efficiency and effectiveness.
Systems are designed for particular purposes, with the intention to achieve their designed
objectives. Although year-end reports and financial statements may reflect a particular
picture about an institution’s business, there has to be another mechanism to make sure
that all intended policies have been carried out and that all resources have been utilised
optimally and, above all, to provide an objective and clarified basis for accountability.
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In this regard, the legislature appoints the Auditor-General to ensure all the above and
report its findings to Parliament. In this unit we will deal with all the elements of the audit
process in the public sector.
1.1 BACKGROUND PERSPECTIVE

Auditing comes from the need to establish a system of control over people entrusted to
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manage the receipt and expenditure of money on behalf of others. Auditing also refers
to establishing the reliability and accuracy of already completed financial reports. The
word “audit” comes from the Latin word audire, which means “to hear”. This evolved from
the times when accounting people had to appear before the auditor, who then heard
the accounts.
Before the Public Finance Management Act (PFMA) 1 of 1999, the Exchequer Act 66 of
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1975 served as a guide for regulating the government’s financial affairs. In terms of the
latter Act, the Treasury Instructions and Financial Regulations were issued, also with the
aim of guiding the government’s financial affairs. The point, however, is the link between
the Treasury and auditing. The word “exchequer” comes from the French word eschequier,
which refers to the medieval practice of computing revenue accounts on a checked table.
Take note
The term “exchequer” became inseparable from the parliamentary system of government,
since it served as a conduit between treasury, Parliament and government’s finances.
In earlier times, collecting money and making funds available for spending by the executive
authority did not give parliament the assurance that those funds would be utilised
according to its wishes. In Europe and the United Kingdom, in the previous century, this
problem was solved by the appointment of a comptroller general, and later, the Controller
and Auditor General (in the UK) and the President of the Court of Audit (in Europe).
The initial purpose of auditing was to determine that all receipts and payments on behalf
of others were properly accounted for. This represented a basic cash audit. Since then,
auditing per se has evolved into a mechanism far beyond mere cash auditing, as we will
indicate in this unit.
Definition
We can use the following definition to conceptualise the meaning of auditing (Gauthier
1992:1):
An “audit” can be defined as the systematic examination of the assertions or actions of a third
party to evaluate conformance to some norm or benchmark. In this broad sense, many different
types of audits are commonly encountered in the public sector. Tax auditors, for example,
scrutinise the returns of taxpayers for compliance with applicable laws and regulations. Fraud
auditors investigate indications of possible irregularities. Similarly, government employees
often perform “pre-audits” of vendor payments to ensure that there is proper documentation
and approval before payment is made.
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1.1.1 Objectives and principles of auditing
The basic purpose of auditing is twofold. Auditing is geared to support public accountability
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and, secondly, to discover and prevent fraud and mistakes. Within this framework, a variety
of audits can be conducted, such as performance auditing, which will serve both of these
two objectives.
1.1.1.1 Public accountability and reporting

One of the basic premises relating to state finances is that government is accountable
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to the electorate for how it utilises public funds. The executive authority must provide
information to the legislature, and especially Parliament, on issues requiring accountability.
In theory, nothing should be simpler than the equation between approved budgets and
reporting on expenditure, according to the budget. In practice, however, the situation
seems to be different – there are so many government departments, constitutional
institutions and trading entities, numerous transactions and transaction types and a wide
variety of possible permutations of them.
Parliament relies on the auditing function to provide it with comprehensive, accurate and
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timely information to act where necessary, but also to fulfil the premise of accountability.
If you think about it, there is no other mechanism in modern government to replace the
auditing function.
The purpose of state auditing may be regarded as an external and independent

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investigation of government’s financial affairs to measure the conduct of those institutions

and officers against the norms of legality, regularity and efficiency. If we consider that
original audits comprised mainly cash audits, and efficiency is measured according to
auditing processes, it is clear that auditing did indeed evolve from a cash audit process
to a function where much more is required from it. We will explain the terms “legality”,
“regularity” and “efficiency” in more detail later in this unit.
1.1.1.2 Fraud and mistakes

The discovery of fraud and mistakes, contrary perhaps to popular belief, is not the main
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aim of auditing. This remains secondary to the principle of public accountability. However,
both fraud and mistakes do occur, and auditing should be performed to detect these
occurrences and possibilities to promote and sustain public accountability. Detection
and prevention of fraud and mistakes should therefore not constitute auditing in itself.
In other words, auditing should not be conducted with this purpose in mind.
Fraud and the possibility of mistakes are ever-present in all organisations and are not
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phenomena restricted to the public sector. However, since public institutions function
with public money, our concern in this field is directed mainly at public sector auditing.
The possibility of fraud and mistakes will depend on a variety of factors and circumstances,
such as the size of the institution, its bookkeeping system, internal control mechanisms
and the level of proficiency of staff. These are all elements that auditors will need to
consider when planning and conducting an audit.
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Activity
What is the primary purpose of auditing?

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1.1.2 Accountability and auditing

Financial statements of institutions do not only reflect the financial situation, but also
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serve to measure the performance in terms of profitability. This of course relates to private
enterprise, where the basis of existence is income and profit generating.
As such, financial statements will therefore reflect the extent to which the objective of
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profit generating has been achieved in measurable terms. By contrast, the objective of
non-profit seeking institutions has both an economic and social dimension, which means
that the success ratio of most objectives can be measured in real terms, such as directly
equating rand income against rand expenditure.
Accountability involves the obligation to account for the specific responsibility that was
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delegated. Its aim is to:
 determine compliance with legislation and relevant authorities

 account and provide for the safe custody of assets
 determine the adequacy of management systems
 ensure the economical and efficient administration of resources
 determine the effectiveness of programmes
Activity
Describe the link between accountability and auditing.

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1.1.3 Audit mandate
Auditors act and report in terms of their specified mandate. Audit mandates specify
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what is required by the auditors and equip them with the necessary authority to conduct
the audit and report its findings. These mandates are normally based on legislation or
instituted through contracts.
The audit and reporting requirements specified in the audit mandates form the basis of
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the audit institutions. Audit institutions serve as the foundation for the determination
of audit standards. When audit institutions are the same, similar audit standards should
be applied, irrespective whether the institution (to be audited) is a private or public
institution. The reason is that users have a right to uniform quality. This is not possible
when different standards are applied to similar audits.
1.2 LEGISLATION AND AUTHORISATION

87 For this unit, the following are relevant to the auditing function:
 PFMA 1 of 1999
 The Public Audit Act 25 of 2004
 Constitution of the Republic of South Africa, 1996
1.2.1 Constitution of the Republic of South Africa, 1996

Chapter 9 of the Constitution of the Republic of South Africa, 1996 provides for the
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functions of the Auditor-General. In terms of subsections 188(1) and (2), the Auditor-General
must audit and report on the accounts, financial statements and financial management of:
 All national and provincial state departments and administrations

 All municipalities
 Any other institution or accounting entity required by national or provincial legislation
to be audited by the Auditor-General
The Constitution further allows the Auditor-General to audit and report on the accounts,
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financial statements and financial management of:
 Any institution funded from the National Revenue Fund or a provincial fund or by a
municipality
 Any institution that is authorised in terms of any law to receive money for a public
purpose
In addition to the requirements of the Constitution, the Auditor-General shall perform,

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among others, the duties specified in the Public Audit Act 25 of 2004 (PAA). In terms of
section 13(3)(b), the Auditor-General may issue directives on the standards of audits.
These directives are issued annually in the form of a Government Notice. All public sector
audits must be conducted in terms of the directives, and reference should be made to
the relevant Government Notice in all documentation.
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In terms of subsection 188(3), the Auditor-General must submit reports to any legislature
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that has a direct interest in the audit, and to any other authority prescribed by national
legislation.
1.2.2 Public Finance Management Act 1 of 1999

Section 62(1) of the Public Finance Management Act 1 of 1999 states that the Auditor-
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General may investigate any public entity or audit the financial statements of any public
entity if the Auditor-General is not appointed as auditor and the Auditor-General considers
it to be in the public interest or upon the receipt of a complaint.
1.2.3 Public Audit Act 25 of 2004

In terms of the Public Audit Act 25 of 2004, the Auditor-General must audit and report
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on the consolidated financial statements of:
 The national government as required by section 8 of the PFMA

 All provincial governments as required by section 19 of the PFMA
 A parent municipality and all municipalities under its sole or effective control as required
by section 122(2) of the Municipal Finance Management Act 2003
The Auditor-General may audit the accounts, financial statements and financial management
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processes of:
 Any public entity listed in the PFMA

 Any other institution funded from the National Revenue Fund or a Provincial Revenue
Fund or by a municipality or authorised to receive money for a public purpose
1.2.4 The structure, functions and services of the Auditor-General

legislative mandate
The role of the Auditor-General is defined in section 188 of the Constitution of the Republic
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of South Africa, 1996. It stipulates that the Auditor-General is the external auditor of all
national and provincial state departments and administrations, all municipalities and any
other institution or accounting entity required by national or provincial legislation to be
audited by the Auditor-General. The Auditor-General is appointed by the President on
the recommendation of the National Assembly, for a non-renewable term of between
five and 10 years.
The statutory mandate for the functions of the Auditor-General is enshrined in the
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Constitution and the Public Audit Act. The Public Audit Act, which repealed both the
Auditor-General Act 12 of 1995 and the Audit Arrangement Act 122 of 1992, establishes
and assigns functions of the Auditor-General as well as his or her duties regarding the
administration thereof. The Public Audit Act defines the Auditor-General as the supreme
and independent audit institution of the Republic, subject only to the Constitution and
the law, and empowered to perform his or her functions without fear, favour or prejudice.
6
The Auditor-General is in overall control of and accountable for his or her administration,
called the Office of the Auditor-General.
1.2.4.1 Definition of audit

An audit can be defined as an official examination of accounts and financial statements.
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The objective of an audit is to determine and express an opinion whether the statements
provide a fair presentation of the financial affairs of an entity. An auditor should always
be independent, objective and professional in his or her approach.
1.2.4.2 Remit of Auditor-General

The Auditor-General no longer just conducts annual audits of the public service. Instead,
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as a result of a focus on outcomes and efficiency, the Auditor-General may be involved

in several audits per year. Although the Auditor-General has no legal powers to punish
violations disclosed in the audit, these must be reported to Parliament who will decide
on the sanction. In this respect, the Auditor-General can be regarded less as a watchdog
and more as a coach who helps departments achieve their goals of attaining efficiency
and value-for-money within the parameters of the law.
1.3 AUDITING PROCESS

Before discussing the auditing process, we need to distinguish between internal and
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external auditing.
1.3.1 Internal and external auditing

The basic difference is that internal auditors are appointed staff of a department, whereas
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the external auditing function is conducted by the Office of the Auditor-General and is
independent of any department. Another main distinction is the reporting action: internal
auditors report to the management of an institution, whereas the Auditor-General reports
directly to Parliament. In this unit we will deal with the external auditing process. However,
owing to the importance of internal auditing and in terms of the learning objectives, we
will make applicable references to the internal auditing functions.
101 The following table indicates the difference between internal and external auditing.
Internal audit External audit
Independence  Auditors operate as part of the  Auditors are completely

organisation they serve independent of the organisation
 Appropriate organisational they audit
status necessary to enhance
objectivity
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Internal audit External audit
Accountability  Auditors are accountable to the  Auditors are accountable to the
organisation that they serve legislative or governing body of
the auditee
Responsibility  Responsibility towards the  Statutory responsibility to express
organisation they serve and set an independent opinion on
out in the internal audit charter the financial statements of the
auditee
Scope  Depends on limits, if any,  Set out in a statute that includes
set by the audit committee, financial regularity, compliance
internal audit charter and senior and value for money matters
management  In the public sector – the scope of
 Can cover all aspects of internal Auditor-General’s function is set
controls including financial, out in the Constitution
operation and compliance control
Concept of  Used to determine scope, focus  Fundamental to the planning,
materiality and depth of audit work and the performing and finalisation of a
(Note: Materiality assessment of the effectiveness of statutory audit
in the context of
the control environment  The amount by which the financial

auditing refers to
the importance/ If the organisation’s performance statements can be misstated
significance of an objectives could be materially before they are considered to
amount, transaction
or discrepancy) affected as a result of significant influence the economic decisions
weaknesses in the internal control, taken by the users of the financial
internal audit would not be able statements
to express a favourable opinion on  If financial statements are
the effectiveness of the internal materially misstated, it will have
control environment an influence on the audit opinion
by the external auditors on the
fair representation of the financial
statements
Concept of  Concerned with determining  Approach to the extent necessary
control whether there are adequate to express an opinion on the
controls to limit the risk of financial statements
breakdowns in the organisation  Need to review internal controls
 To assure senior management that to provide assurance that the
control activities are adequate financial statements are fairly
and operating efficiently presented
Concept of risk  Risk assessments performed to  Risk assessments performed to
identify audit focus area identify audit focus areas
 Risk assessment used as a tool to  Assesses the effectiveness of
assist in managing risk effectively. controls that reduce the inherent
risk of material misstatement
of those aspects on which they
express an opinion
Source: Adapted from Office of the Auditor-General (2017)
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The benefits of external auditing are to:
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 add credibility to the information provided

 assist in the strengthening of oversight, accountability and governance in the public
sector
 assist in giving momentum to the process of transformation of financial management
in the public sector
 provide insights to facilitate foresight of decision-makers thus, making a difference
in the lives of citizens
Activity
Which single factor would you identify as the most important element distinguishing
internal auditing from external auditing?
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1.3.2 Audit types

We need to briefly identify the audit types, since this will have a bearing on the planning
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and performance of an audit. We will explain the following audit types:
 Regularity auditing (comprehensive auditing)

 Computer auditing
 Performance auditing
 Forensic auditing
 Environmental auditing (sustainable development)
1.3.3 Regularity auditing (comprehensive auditing)
Take note
The objective of a regularity audit is to enable the auditor to express an opinion on the
fairness of the presentation of the financial statements of an entity’s financial position at a
certain date and its operations for the period ended on that date, as well as the compliance
with laws, regulations and other directives relating to the entity.
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1.3.3.1 Responsibility of the Auditor-General
104 When reporting on any account, the Auditor-General must draw attention to material cases:
 Where a grant or allocation has been exceeded or utilised for a service or a purpose
other than what was intended
 Where the use or custody of assets occurs in a way that is or may be to the detriment
of the entity concerned
 Unauthorised, irregular, as well as fruitless and wasteful expenditure that comes to
the auditor’s attention in the course of his/her duties
 Where internal control and management measures are inefficient or ineffective
 Any other matters of public interest
1.3.3.2 Standards
All regularity audits are conducted in accordance with internationally developed generally
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accepted government auditing standards. The general standards that have to be complied
with include the following:
 Independence of the auditor and the audit office.

 The auditor and the audit office must possess the required competencies and exercise
due care.
 The audit office should adopt policies and procedures to support the skills and
experience available in the office.
 The auditing standards should adopt policies and procedures to review the efficiency
and effectiveness of the internal standards and procedures of the International
Organization of Supreme Audit Institution (INTOSAI)
1.3.3.3 Field standards

106 The field standards that need to be complied with are the following:
 The auditor should plan the audit in a way that ensures that an audit of high quality
is carried out in an economical, efficient, effective and timely way.
 The work of the audit staff at each level and audit phase should be supervised properly
during the audit and documented work should be reviewed by a senior member of
the audit staff.
 The auditor should study and evaluate the reliability of internal control to determine
the extent of the scope of the audit.
 A test should be made of compliance with laws and regulations.
 Competent, relevant and reasonable evidence should be obtained to support the
auditor’s judgement and conclusions regarding the organisation, programme, activity
or function under audit.
 The auditor should analyse the financial statements to establish whether acceptable
accounting standards for financial reporting and disclosure are complied with.
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1.3.3.4 Process
A regularity audit is carried out in terms of a structured approach consisting of a planning,
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execution and reporting phase. In conducting an audit, the auditor ensures that the audit
efforts are concentrated on the areas where the risk is perceived to be higher, rather than
the areas where the risk appears to be lower or insignificant.
1.3.3.5 Reporting
The audit report on all accounts at national level is submitted to Parliament. The Standing
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Committee on Public Accounts has to examine the reports on behalf of Parliament. A

similar process is followed for provincial government when the audit report is submitted
to the provincial legislature and examined by the provincial Public Accounts Committee.
The following state institutions are accountable to the National Assembly, and must
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report on their activities and on the performance of their functions to the Assembly at
least once a year:
 The Public Protector

 The South African Human Rights Commission
 The Commission for the Promotion and Protection of the Rights of Cultural, Religious
and Linguistic Communities
 The Commission for Gender Equality
 The Auditor-General
 The Electoral Commission (Constitution, Chapter 9)
1.3.4 Computer auditing

The role of the computer auditing component is to assist the functional auditors proactively
110
in identifying and evaluating computer-related risks and controls.
111 This assistance refers to:
 systems documentation
 flow charting
 general and application control audits
 systems development audits
 computer-assisted audit technique (CAAT) applications
The major audit risks in a computer environment relate to the risk of error and fraud, data
112
confidentiality and the availability of data, systems and processing facilities.
1.3.4.1 Controls in a computer information systems (CIS) environment

The controls in a CIS environment include manual procedures and procedures in computer
113
programs. The control environment consists of management and independent controls

as well as general and application controls.
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Management and independent controls are direct controls performed by people
114
independent of the processing of controls, to detect errors or irregularities that may have
occurred before or during processing and may not have been prevented by processing
controls. Typically, they comprise manual reviews, analyses, comparisons and reconciliations.
General controls support the effectiveness of management and independent controls

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as well as processing controls. Their operation is often essential for the effectiveness of
application controls, and typically comprises:
 the organisational structure and segregation of incompatible duties

 operating procedures in terms of the controls in the CIS environment to ensure that
processing is accurate and reliable, and that processing errors are detected and
corrected
 logical access controls to ensure that only authorised people have access to specific
applications and data
 physical access controls to ensure that the physical access to computer operations is
restricted to authorised staff only
 program change controls to ensure that only authorised programs are used
1.3.4.2 Application controls

Application controls can be manual or computerised and can be applied either to individual
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or similar batches designed to prevent errors or irregularities from occurring or to detect

them in the early stages of processing or immediately thereafter. Application controls
include control over processing and computer data designed to provide reasonable
assurance that:
 data is entered correctly

 transactions are processed properly by the computer
 transactions are not lost, added, duplicated or changed improperly
 processing errors are identified and corrected in time
 transactions are not reported incorrectly
1.3.5 Performance auditing
Take note
The aim of a performance audit is to evaluate the measures implemented to ensure that
resources are procured economically and utilised efficiently and effectively. Performance
audit refers to an independent examination of a program, function, operation or the
management systems and procedures of a governmental or non-profit entity to assess
whether the entity is achieving economy, efficiency and effectiveness in the employment
of available resources (https://en.wikipedia.org/wiki/Performance_audit).
A performance audit of overall management arrangements will typically relate to:

117
 systems for planning, budgeting, authorisation as well as the control and evaluation
of revenue, expenditure and resource allocation
12
 factors beyond the control of the institution, which have had a material adverse effect
on the institution
 proper resource management
 measures aimed at deriving economies of scale or expertise, especially in the provision
of goods and services
 steps aimed at improving economy, efficiency and effectiveness
 proper assignment of responsibilities, powers and accountability
 measures to monitor results against predetermined objectives and performance
standards
Performance auditing is cyclical and is conducted in accordance with a structured approach

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that consists of planning, fieldwork and reporting phases. Performance auditing is a difficult
issue since auditors do not have technical expertise in the functions of line departments.
Speaking from the line department’s point of view, auditors may be incompetent to
perform a proper performance audit of non-financial functions.
The cooperation in the audit process of the institution concerned is very important.
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A steering committee is therefore established, with the main purpose to secure and
maintain cooperation between the management of the institution and the audit team.
This committee consists of the audit team and a number of senior officials of the institution.
The steering committee seeks consensus on matters such as focus areas, criteria, findings
120
and conclusions. This ensures that the final report will not contain any surprises for the
institution and affords it an opportunity to make timely inputs and effect corrective action.
1.3.6 Forensic auditing
Take note
The basic role of forensic auditing is to facilitate the prevention, detection and investigation
of economic crime and maladministration and improbity in the accounting financial
statements and financial management in the public sector. It includes the following:
 The initiation of an economic crime awareness programme is to highlight the exis-
tence of potential risks and the need for an economic crime prevention strategy in
each public institution.
 A review of the criminal justice system as it relates to economic crime in the pub-
lic sector and of all the relevant legislation with a view to identifying any material
shortcomings and reporting on them.
 The development of the necessary policy and guidelines, including an appropriate
risk assessment model, for audit and other purposes.
It is the responsibility of the audited entities to establish internal control measures and
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develop appropriate prevention strategies that will prevent economic crime from occurring
in their working environment.
The forensic audit component seeks to improve the quality and coverage of governmental
122
auditing by taking cases of alleged fraud and corruption to a more advanced stage of
readiness for the investigative agencies. The main objective of the component is to
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facilitate proactive strategies for the prevention of economic crime as well as to properly
identify, in good time, and, where possible, successfully investigate and prosecute the
more material cases of economic crime in the public sector.
1.3.7 Environmental auditing (sustainable development audit)

Through its involvement with INTOSAI, the Office of the Auditor-General contributed
123
to the drafting of international standards and guidelines for environmental auditing

and is applying those standards and guidelines in practice. It focuses on the social and
environmental aspects of business processes.
Environmental auditing can reflect various types of evaluations that are intended to
124
identify environmental compliance and management system implementation gaps,

along with related corrective action (https://en/wikipedia.org/wiki/Environmental_audit).
125 The following elements can be identified in relation to environmental auditing:
126
Source: Adopted from Office of the Auditor-General (2017)
14
1.4 AUDITING PROCESS – GENERIC
127 A: Engagement activities
128 Before any audit work is performed, AGSA needs to
 determine skills and competence requirements of the audit team (right people for
the job)
 establish terms of engagement (responsibilities of management and auditor)
129 B: Planning
130 AGSA assesses risk at the following two levels:
1. overall at financial statement level (looking at the entity in total)

2. in detail at account/transaction level (looking at individual amounts)
131 AGSA needs to
 understand the entity and its environment

 understand accounting information and internal control systems
 assess risk (focus areas)
 determine materiality amounts (which would impact on users’ decisions)
 develop the audit strategy
− how, when and how many items to audit in order to reduce the risk of an inappropriate
audit opinion
132 C: Execution (field work)
133 AGSA does the following:
 designs audit procedures to deal with the risk identified in planning

 performs test checks (does not test all transactions/accounts 100%)
− sufficient (enough evidence)

− appropriate (right type of evidence)
 obtains evidence through
− people
− paper
− place
134 D: Evaluating, concluding and reporting
135 AGSA does the following:
 reviews all evidence obtained during the audit process

 reports on identified potential exceptions:
− qualitative (non-financial information)

− quantitative (rand value)
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 deals with management report:
− audit findings are communicated to management via a management report

− management gives responses to findings in writing
− report includes financial and governance issues
− not a public document (but be assured that all material findings will flow through to
the audit report)
 deals with audit report:
− audit report “reflecting” significant findings in the management report

− as a public document, the report is only public after tabling in parliament or a provincial
legislature, as follows:
◊ mandatory audits – as part of the annual report of the auditee, tabled by the
auditee discretionary audits, for example, performance auditing (including
environmental auditing)
◊ as separate reports, tabled by AGSA
136 An auditing process generally comprises three phases:
 Pre-engagement planning phase

 Execution phase
 Reporting phase
1.4.1 Pre-engagement planning phase

137 The planning phase involves various pre-engagement activities that consist of:
 performing new client investigations or considering changes in circumstances of

existing clients, such as management
 determining skills and competence requirements
 identifying risks
138 Regarding the planning activities, the following elements must be considered:
 Obtain knowledge of the institution’s business

(Activity: Say your institution or component is due for an audit by the AG. Draw up a short
report in which you set out the main elements of your business with a view to their work.)
 Materiality consideration
 Auditor’s consideration of inherent risk
 Obtain an understanding of the accounting system and related internal controls
 Formulation of an audit approach
 Evaluation of internal controls on which reliance is intended
 Communication of an audit plan to management
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1.4.2 Execution phase – compliance and substantive procedures
The execution phase will proceed according to the planned audit approach with
139
consideration of the elements listed under the planning phase. This phase involves the
following:
 Testing of controls
 Detailed test of transactions and balances
 Continual communication
 Letter to management to highlight key audit findings and clarify them
1.4.2.1 Institution’s business

The nature and environment of the institution’s business will enable the auditors to perform
140
their examination according to the generally accepted government auditing standards.

In other words, the institutions must be examined according to the same rules by which
they themselves operate. They cannot be audited according to another set of rules.
1.4.2.2 Materiality considerations

Materiality refers to either a quantitative or qualitative examination of financial information,
141
such as budgets, or any other financial information.
1.4.2.3 Inherent risk

The inherent risk of material misstatement relating to assertions in the financial information
142
must be assessed. Auditors may choose not to assess inherent risk relating to an assertion
where the effort required would exceed the potential benefit to be derived from reducing
the other audit procedures. They should then assume risk to be at a maximum. For instance,
the materiality of an account balance or class of transactions to the financial information
is a significant factor in determining the inherent risk related to an assertion.
1.4.2.4 Accounting system and related internal controls

The auditor’s understanding of the accounting system and related internal controls should
143
be sufficient to provide them with a general knowledge of the flows of significant data
from its origins to financial information. This general knowledge will enable the auditors
to identify the existence of related controls and assess control risk for each assertion.
1.4.2.5 Audit approach

The auditors formulate an audit approach that will limit the audit risk for each assertion
144
to an acceptable level. Where the auditors do not intend placing reliance on the internal
controls, they will assume control risks to be at a maximum and will limit audit risk to an
acceptable level through application of substantive auditing procedures. The following
elements will therefore then be assessed:
 Appraisal of audit ability and professional risk
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 Materiality
 Year-end account balances
 Material types of transactions and sources of evidence
 Identification of types of errors
 Institutional systems
 Internal controls
1.5 AUDIT TECHNIQUES
Take note
Auditors use various techniques in collecting evidence prior to the assessment and
reporting phases. These techniques are:
 interviews
 questionnaires
 flow charts
 flow lines
 statistical sampling
 working papers
 computer-assisted audit techniques (CAATs)
1.5.1 Interviews
An interview is a serious, purposeful, planned conversation. It is time-bound and includes
145
the participation of the communicator (auditor) and the recipient (client). Interviews can
basically be categorised as:
 data collecting interviews

 persuasion interviews
The foundation of a good interview is based on intelligent questions, spontaneous reaction

146
and the interpretation of the non-verbal communication factors (body language). It would
appear that it is impossible to lay down a set of infallible rules regarding interviews, but
the established guidelines should be valid for most interview situations.
1.5.2 Questionnaires
A questionnaire is one of the simplest and clearest methods of communication and data
147
collection. However, to be of any value, it must meet the following requirements:
 It should be pertinent – only the most essential information should be extracted from it.
 The questions should be in a specific order to obtain direct and explicit answers.
 They should be limited so as not to extract vague and or irrelevant information.
 They should be unambiguous.
 The questions should not contradict themselves.
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 They should not be unnecessarily complicated.
 Questions should not predetermine the answers.
 Choice of words should be concise, explicit and simple.
 Questions should be arranged in a logical sequence.
1.5.3 Flow charts
Definition
A flow chart is a schematic representation of the activities of an institution. It enables the

auditor to comprehend the complete system of internal control in an institution. It also
serves to graphically represent the major steps in the process of work and concentrates
on who does what, rather than on how it is done.
149 Flow charts vary in purpose and layout, but the following aspects are generic:
 They identify documents, vouchers, files and reports and provide descriptions of
operations and related documents in the sequence of processing.
 They could show the complete path of each type of transaction (audit trail) from
beginning to end.
 They can distinguish types of transactions with the emphasis on differences in control.
1.5.4 Flow lines

All accounting systems, such as those for purchases, sales, salaries or wages, have a flow
150
of transactions running through them. The flow charts should be based on a continuous
flow line running through the systems cycle, beginning with the authorisation of the
major types of transactions and ending with their recording in the ledger.
151 The following elements relate to the use of flow lines:
 Divisional format, in which the segregation of duties is highlighted

 Description of operation and related controls
 Overview flow chart, which is a summarised, detailed flow chart
 Specimen documents, which are obtained and cross-referenced
 Supplementary notes to expand on flow lines where necessary
 Transaction review, which involves selection of a transaction type to trace through
the accounting system.
1.5.5 Statistical sampling

The enormous increase in the volume of transactions at all institutions to be audited and
152
the escalation of costs make a 100% transaction audit impossible. The audit emphasis has of
necessity shifted from transaction auditing to system auditing. Weaknesses are discovered
in the accounting and internal control systems, and it then becomes necessary to do a
transaction audit. As a result of these factors, this can best be done on a sampling basis.
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Sampling is based on the theory of probability that envisages that a small group of data
153
drawn at random from a larger group will have characteristics not very different from the
larger group. Before a statistical sample can be selected, it is important that the purpose
of a specific test be defined clearly so that the necessary deductions can be made.
Where possible, statistical sampling is preferred to random percentage tests as it is a

154
scientific technique that is applied to select an unbiased sample from a specific population.
This example is then evaluated and used to make accurate and reliable deductions
concerning the population as a whole.
1.5.6 Working papers

Working papers should record the auditor’s planning, the nature, timing and extent of
155
the auditing procedures performed, and the conclusion drawn from the evidence.
Working papers should be sufficiently complete and detailed for an experienced auditor
156
to obtain an overall understanding of the audit. The form and content of working papers
are affected by elements such as:
 the nature of the engagement

 the form of the auditor’s report
 the nature and complexity of the client’s business
 the nature and condition of the client’s records and degree of reliance on internal control
 the needs in the particular circumstances for direction, supervision and review of work
performed by assistants
1.5.7 Computer-assisted audit techniques (CAATs)

When planning the audit, the auditor should consider an appropriate combination of
157
manual and computer-assisted audit techniques. In determining whether to use CAATs,

the following factors can be considered:
 Computer knowledge, expertise and experience of the auditor

 Availability of CAATs and suitable software and computer facilities
 Impracticability of manual tests
 Effectiveness and efficiency
 Timing
158 When using CAATs, the following steps apply:
 Set the objective of the CAAT application.

 Determine the content and accessibility of the entity’s files.
 Define the transaction types to be tested.
 Define the procedures to be performed on the data.
 Define the output requirements.
 Identify the audit and computer staff who may participate in the design and application
of the CAAT.
 Refine the estimates of costs and benefits.
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 Ensure that the use of the CAAT is properly controlled and documented.
 Arrange the administrative activities, including the necessary skills and computer
facilities.
 Execute the CAAT application.
 Evaluate the results.
You should be aware that these techniques comprise far more than the bare essentials
159
as indicated. However, the field of auditing is too extensive for us to deal with in detail
in terms of the learning objectives of this unit.
1.6 AUDIT COMMUNICATION

160 Objective: To clarify audit expectations, ensure a smooth process and prevent surprises
in the audit report.
161 This can take the form of:
 leadership visibility
 engagement letters
 letters requesting evidence or clarifying audit findings
 structured meeting agendas
 audit steering committees
 report(s) on discussion meetings
Therefore, much emphasis is placed on ensuring that the audit reports are beyond
162
reproach.
1.7 CONCLUSION
The main focus of the auditing process is its contribution towards accountability. This
163
aspect must be considered and re-emphasised continuously, since it is of paramount

importance in public finance and in administration. In that sense, the auditing function can
be viewed as a mere tool and not as an ultimate objective. The intention is not, however,
to downplay the importance of the auditing function. After all, what other mechanism
could government use for detailed examination and reporting on such a comprehensive
basis? Departmental annual reports do not even closely reflect the type of information
that an audit report may do. For what it is worth, departmental reports do not disclose
the functions that went wrong. The auditing function and processes can therefore be
regarded as perhaps the most essential element as far as control and accountability in
the public sector are concerned.
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1.8 SELF-ASSESSMENT
(1) Briefly define an audit. (3)
(2) What is the primary purpose of auditing? (1)
(3) Identify five elements relating to the obligation to account for the
responsibility that was delegated. (5)
(4) Which elements are used to distinguish between internal and external
auditing? (7)
(5) Explain the differences in the objectives of forensic auditing and CAATs. (3)
(6) What does INTOSAI stand for? (1)
(7) What are the three stages of the audit process? (3)
(8) Identify the specific techniques used by auditors in conducting audits. (6)
(9) What are the differences between flow charts and flow lines? (4)
1.9 FEEDBACK ON SELF-ASSESSMENT

(1) An audit can be defined as the systematic examination of the assertions or actions of a
third party to evaluate conformance to some norm or benchmark.
(2) To promote accountability.
(3)  Compliance with legislation and relevant authorities
 Accounting of and provision for safe custody of assets
 Adequacy of management systems
 Economical and efficient administration of resources
 Effectiveness of programmes
(4)  Independence
 Accountability
 Responsibility
 Scope
 Concept of materiality
 Concept of control
 Concept of risk
(5) Forensic auditing is related to economic crime prevention in the public sector, and CAATs
(computer-assisted auditing techniques) are used to aid the audit process.
(6) International Organization of Supreme Audit Institutions
(7)  Planning
 Execution
 Reporting
(8)  Interviews
 Questionnaires
 Flow charts
 Flow lines
 Statistical sampling
 Working papers
 CAATs
(9) A flow chart is a schematic representation of the activities of an institution and enables
the auditor to comprehend the complete system of internal control in an institution.
Flow lines represent the flow of transactions running through the systems cycle,
beginning with the authorisation of the major type of transactions and ending with
their recording in the ledger.
22
1.10 REFERENCES AND ADDITIONAL READING
Gauthier, SJ. 1992. An elected official’s guide to auditing. Chicago: Government Finance
Officers Association of the United States and Canada.
https://en/wikipedia.org/wiki/Environmental_audit (accessed on 26-09-2017).

https://en.wikipedia.org/wiki/Performance_audit (accessed on 26-09-2017).
Office of the Auditor-General. 2017. http://www.agsa.co.za/portals/O/AGSA_Terminology.

pdf (accessed on 29-09-2017).
South Africa. 1996. Constitution of the Republic of South Africa, 1996. Pretoria:
Government Printer.
South Africa. 1999. Public Finance Management Act 1 of 1999. Pretoria: Government Printer.
South Africa. 2004. The Public Audit Act 25 of 2004. Pretoria: Government Printer.
164
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Learning unit 2
Audit queries
ROUTE MAP

166
Auditing process
Audit queries
Financial misconduct and control
Learning outcomes

− identify the reporting categories
− link internal control with auditing
− explain the procedures for reporting
INTRODUCTION
Financial management does not relate exclusively to achieving budgeted objectives.
167
In view of the budget cycle, control and accountability are the final procedures and are
determined through the use of audit instruments. Accounting officers are subjected to all
control and audit measures and, as such, must also report on the activities and functions
of their institutions.
The aim is to ensure accountability, and this particular element of public sector financial
168
management may not be neglected.
24
2.1 CONCEPTUALISATION
The main concept that we need to emphasise is accountability. Accountability within a
169
democratic society and vested in the Constitution is the basis of all aspects of budgeting
and financial management in the public sector. Formulating spending objectives, carrying
out these objectives and everything that goes along with this is subject to the principle
of accountability. Accountability does not happen by itself or by chance – it must be
instituted in the budget cycle to have any viable and visible effect on the process.
To ensure that accountability does take place, it has to be instituted in formal terms,
170
meaning that legislation must incorporate accountability measures to enforce its

maintenance. Accountability cannot be based on a fragmented or ad hoc process, but it
should in fact be sufficiently comprehensive to cover the full spectrum of government
functions and activities.
A two-pronged approach has been devised to provide a basis for accountability. This dual
171
approach can basically be categorised into internal and external measures.
2.1.1 Internal processes

Internal processes relate to the institutionalised procedures forming part of the financial
172
management in institutions. Measures pertaining to accounting, record keeping, financial

transactions, performance and internal control are provided by means of legislation and
regulations plus internal policies and procedures. The primary aim of the legislation and
regulations is to ensure conformity to accepted standards relating to the various functional
processes within institutions, hence the term “institutionalised”. These standards relate
to the following:
 Proper accounting methods and procedures

 Proper cash management
 Proper record-keeping (e.g. stores, personnel)
 Proper maintenance (e.g. stores, records)
 Risk management
 Fund management plus management of working capital
 Proper supply chain management
 Proper financial management (e.g. performance).
These aspects do not rely on a hit-or-miss approach to ensure propriety or conformity,

173
but they are based on pre-determined procedures usually contained in procedural

manuals issued in terms of legislation. The use of these procedures is essential. Failure to
use them will probably result in some problem. Control measures are designed to detect
deviations from procedures. However, if circumstances warrant deviation from procedures
and accounting officers have informed the relevant treasury about the deviation and the
reasons for it, the deviation is noted with the relevant transactions.
Internal control processes and procedures are designed to safeguard institutions against
174
problems arising from executing their functions where financial management is concerned.
These processes and procedures are initiated through legislation and substantiated
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through the use of procedural manuals. These same manuals will be used by the Auditor-
General as a reference when conducting audits. This means that the performance of
institutions in terms of the degree to which they apply these manuals will be measured
against all the activities and functions of the institution.
Activity
Explain the reason for internal control measures.

............................................................................................................................................................................
............................................................................................................................................................................
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2.1.2 External processes

External processes comprise the function of the Auditor-General, which is an independent
175
institution appointed by Parliament as an instrument to ensure accountability. For the

purpose of this unit, the actions emanating from the functions of the Auditor-General
are of primary importance and form the crux of this unit.
External processes, as far as control and accountability is concerned, therefore rest with the
176
Auditor-General. External in this regard means that the control processes are not determined
or controlled by accounting officers of departments or constitutional institutions. It is
also the oversight functions of legislators, for example parliamentary questions, to the
executive and debates on the various votes plus the reports of portfolio committees in
terms of the Money Bills Act.
2.2 REPORTING AND ACCOUNTABILITY

Information has no intrinsic value: managers must use it to develop plans, evaluate
177
alternative courses of action and, where necessary, institute corrective actions. The
production of information is not an end in itself, and when reports are not scrutinised
and used by managers, the quality of information will remain poor. Ideally, management
information should be:
 Accurate, for meaningful decisions and steps to be taken

 Economically justified, without redundancy
 Flexible and capable of rapid adjustment should needs change
 Comparable, to ensure that decisions are benchmarked
 Relevant to each manager’s particular area of responsibility.
26
It is crucial to improve the quality of information available to managers to implement
178
the PFMA. While the Act stresses the need for regular monthly management reports for
submission to the Minister or MEC and the relevant treasury, the primary purpose of these
reports is to assist managers in discharging their responsibilities. The reports focus on
performance against budget and service delivery improvement programmes, and alert
managers where remedial action is required. In addition, these reports will be consolidated
and published monthly for the National Revenue Fund (NRF) and quarterly for the provincial
revenue funds in the national Government Gazette, in line with international best practice.
The reports facilitate the compilation of the year-end financial statements and annual
reports, and the reduced timeframe for audit procedures strengthen accountability.
The monthly reports enable executive authorities to monitor performance of their

179
accounting officers and assist Cabinet/Exco in monitoring the performance of their

government.
2.2.1 Best practice internal reporting

Information to managers, Ministers and MECs is usually presented in internal reports, to
180
facilitate:
 Controlling the current activities of the organisation

 Planning its future strategies and operations
 Improving objectivity in the decision-making process
 Optimising the use of resources
 Measuring and evaluating performance
 Improving internal and external communication.
Best practice internal reporting suggests that management information should include
181
the following:
 A graphical presentation of performance for the period showing KPIs (which must
not be solely financial)
 A focus on those KPIs essential for senior management’s attention, balancing operational
and financial indicators
 Written commentary on the overall performance of the department
 A set of financial statements
 A concise report from each major programme and sub-programme that highlight
operating results and variances against budget
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2.2.2 In-year management, monitoring and reporting
The PFMA specifies a variety of reports, monthly, quarterly and at year-end, with different
182
responsibilities for executive authorities and accounting officers. The requirements are
illustrated in the following diagram.
183
2.2.3 Monthly reports

Within 15 days of the month-end, the accounting officer must submit to the relevant
184
treasury and executive authority, information on:
 actual revenue, expenditure and transfers for that month, in the format determined
by the National Treasury
 actual expenditure on any conditional grants under the Division of Revenue Act (DoRA)
 projections of anticipated expenditure and revenue for the remainder of the current
financial year, in the format determined by the National Treasury
 any material variances and a summary of actions to ensure that the projected
expenditure and revenue remain within the budget.
The provincial treasury must also submit a statement of transactions affecting its revenue
185
fund (in the prescribed format) to the National Treasury before the 22nd day of each month.
The head of the provincial treasury must certify that the information has been verified.
Monthly reports to the executive authority should contain at least the information provided
186
to the treasury, and be complemented by quarterly reports on:
 more detailed information on the state of finances

 detailed information on corrective measures taken (e.g. disciplinary action)
 nonfinancial information to enable measurement of progress against service delivery
indicators
28
2.2.4 Quarterly reports by Treasury
Every quarter, the national Treasury publishes a statement in the Government Gazette
187
detailing the revenue and expenditure of each of the ten revenue funds, with actual
performance against the budget for each vote. Accounting officers should expect the
press, parliamentary committees, nongovernmental organisations (NGOs) and the public
to monitor their department’s progress through these reports.
Information on grants made under the DORA must be reported in terms of that Act. The
188
accounting officer effecting the payment must report to the relevant treasury on the
funds transferred to each government entity within 15 days of the end of every quarter.
2.2.5 Annual report

The accountability cycle is completed with the production and publication of an annual
189
report, which reviews performance and achievement against the plan and budget
approved by the legislature at the start of the year. The PFMA requires each department
to publish an annual report that “fairly presents” the state of its affairs, its financial results
and position at the end of the financial year, and its performance against predetermined
objectives. The annual report must include particulars of any material losses through
criminal conduct, and any unauthorised, irregular, fruitless and wasteful expenditure,
together with any criminal or disciplinary steps taken as a result of such losses.
The annual report should also indicate the department’s efficiency, economy and
190
effectiveness in delivering the outputs specified in the operational plan, as well as any
other information required by the legislature, and the use of any foreign assistance or
aid-in-kind. The audit committee of the Department must comment on internal control
in the department.
According to the Constitution, the financial statements will be prepared under the Generally
191
Recognised Accounting Practice (GRAP). GRAP is defined by the Accounting Standards

Board (established under the Act) and introduces many of the accounting practices used
in the private sector. In particular, accrual accounting is introduced: this recognises income
and expenditure when the benefit is received or given, rather than simply reflecting the
timing of a cash flow. It also acknowledges the consumption of assets over their useful
lives, through depreciation.
The Accountant-General issues guidelines for the production of financial statements, as

192
well as a series of practice notes dealing with matters such as the closure of accounts.
These are available on the National Treasury’s website.
The PFMA introduces strong sanctions for delays, which are deemed financial misconduct.
193
The accounting officer must ensure that the systems and financial staff within the
department are capable of preparing high-quality financial statements within two months
of the year-end. The Auditor-General will report to parliament, the legislatures and the
treasuries on the date of submission. The Auditor-General will be asked to comment on
the quality of the data: should this prove to be poor, a charge of financial misconduct may
29 PUB2608/1
result. Should accounting officers submit incomplete financial statements, the Auditor-
General will no longer finalise these.
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next year
March Complete financial

statements
June
Budget submissions
Audit
August
September Submit to
parliament
Complete accounts
committee
hearings
Cabinet
194
The accounting officer must also, within five months of the year-end, submit the
195
department’s annual report containing the audited financial statements and the Auditor-
General’s report to the relevant treasury and the executive authority. The Accountant-
General will consolidate the departmental information to show Government’s overall
position.
Departments and the Auditor-General must cooperate to ensure that annual reports are
196
finalised within five months of the year-end. This will include coordinating interim audits
and ensuring that financial and other records are readily available for auditing at year-
end. The reduced timescale will enhance accountability and will result in actual figures
being available in time to influence submissions to the next budget cycle (indicated by
the dotted line in the diagram).
In-year monitoring and the annual report is the basis for evaluating achievements, and
197
accounting officers are responsible for delivering clearly specified outputs. The Office of
the Auditor-General will focus on performance as well as compliance auditing. In addition
to examining the post-audit review, legislators will play a greater role in monitoring the
performance of accounting officers during the financial year.
2.3 RELATING TO AUDITING

Accounting officers are expected to report on all the functions and activities of their
198
departments. Reporting, however, assumes different perspectives for various purposes.

In terms of this unit, we are interested in reporting relating to auditing. For the purpose
of clarification, we need to explain the essence of reporting.
30
2.3.1 Annual reports
Annual reports submitted by accounting officers are most often too generalised to be
199
of any value in terms of financial management and accountability. Their basic purpose
is more to create a favourable impression of the institution. Therefore, it will refrain from
publishing mistakes, reports of mismanagement or similar negative elements in these
reports. The reports are not comprehensive enough to fully explain all aspects relating
to the department’s activities and functions, let alone the financial elements.
Activity
Explain how you would differentiate between annual reports of departments and
departmental annual financial statements.
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2.3.2 Monthly and annual reports

200 The following should be read in conjunction with sections 2.2.3 and 2.2.5.
2.3.2.1 Cash flow reports

Accounting officers must annually submit to the relevant treasury (national or provincial)
201
a breakdown of anticipated revenue and expenditure in the format determined by the

National Treasury. By the 15th working day of February, provincial treasuries must submit
to the National Treasury projections of their expenditure, revenue and borrowings. Once
these amounts have been approved and modified if necessary, after consultation with
the relevant treasury, the accounting officer may not draw from the revenue fund more
than the amount approved for a month, without prior written approval from the relevant
treasury. If the accounting officer deems it necessary to adjust the approved projections, the
proposed adjustments must be motivated to the relevant treasury for evaluation against
the availability of funds in the Exchequer (regulation 18.1 of the Treasury Regulations).
2.3.2.2 Monthly reports

In terms of the PFMA, accounting officers must submit to the relevant treasury (national or
202
provincial) and executive authority, within 15 days of the end of each month, information
on:
 the actual revenue and expenditure, in the format determined by the National Treasury
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 projections of anticipated expenditure and revenue for the remainder of the current
financial year in the format determined by the National Treasury
 any material variances and a summary of actions to ensure that the projected
expenditure and revenue remain within the budget
These reports are typically those used during the financial year. They are supplemented
203
by quarterly and, ultimately, annual financial reports. These reports must be prepared
in terms of specific reporting standards and generally recognised accounting practice.
An extremely important distinction is the one between reporting for the purposes of
204
conforming to the requirements of the PFMA and the Treasury Regulations and reporting
in terms of auditing requirements. Reporting in terms of auditing requirements takes on
a different dimension. Auditing per se is based on the information gained through the
financial reporting at the end of a financial year by the Auditor-General, in terms of the
Public Audit Act 25 of 2004. However, this does not diminish the importance of financial
reporting as part of financial management during a financial year.
Activity
What is the importance of stating deviations in the monthly reports in terms of financial
control?
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2.4 REPORTING ON AUDIT QUERIES

The Auditor-General of South Africa (AGSA) is in accordance with Chapter 9 of the
205
Constitution of the Republic of South Africa, 1996 established as one of the state institutions
supporting constitutional democracy. The AGSA must be impartial and must exercise its
powers and perform its functions without fear, favour or prejudice.
The functions of the AGSA are described in section 188 of the Constitution, and further
206
regulated in the Public Audit Act 25 of 2004, which mandates the AGSA to perform
constitutional and other functions. (Go to https://www.agsa.co.za/About /Legislation.
aspx for more information.)
2.5 ORIGIN OF AUDIT QUERIES

Accounting officers are obliged to answer all auditing queries from the Auditor- General.
207
However, this aspect should also be viewed in its proper perspective. The main issue at
this stage is to determine the origin of auditing queries.
32
Auditing conducted by the Auditor-General takes place after the end of a financial year.
208
During the financial year, the Auditor-General will be occupied with auditing the previous
financial year’s records and activities of institutions. This being the case, enquiries will relate
to the financial activities and statements of the previous year, and not the current one.
2.5.1 Appropriation reports

Auditing queries are in terms of the appropriation reports that accounting officers have to
209
submit to the Auditor-General at the end of each financial year. The appropriation report
of departments and institutions must be prepared and submitted to the Auditor-General
according to a specific format. Basically, the appropriation report is a year-end financial
account of all the financial transactions of departments and institutions.
2.5.2 Elements of annual financial reports

Annual Financial Statements for Departments, as guided by the Treasury Regulations,
210
must consist of the following:
 A balance sheet (statement of financial position)

 A statement of changes in net assets
 An income statement (statement of financial performance)
 A cash flow statement
 An appropriation statement
 Notes to the appropriation statement and annual financial statements
 Such other statements as may be determined by the National Treasury
2.6 AUDIT OPINIONS

The auditor’s opinion on financial statements is generally in a concise, standardised
211
format that reflects the results of a wide range of tests and other audit work. Basically,
the following two types of audit opinions can be distinguished:
2.6.1 Unmodified or unqualified (“clean”) opinion
Definition
An unqualified opinion is one in which the auditor has collected and evaluated enough
appropriate audit evidence to conclude if the financial statements:
 reflects a true and fair view of the financial position at the end of the financial year
 comply with the relevant financial framework
 are properly prepared in accordance with the applicable legislation (Porter, Simon &
Hatherly 2014:564–565)
An unqualified opinion thus means that the report is clean.
33 PUB2608/1
2.6.2 Modified opinion
Definition
A modified opinion is expressed when the auditor is sure that the financial statements
are not free from material misstatement; or is unable to gather enough relevant audit
evidence to conclude that the financial statements are free from material misstatement
(Porter et al. 2014:565).
212 The following three types of modified opinion exist:
 Disclaimer of opinion
In the opinion paragraph, the auditor will indicate that he or she was unable to obtain
213
sufficient appropriate audit evidence to provide a basis for an audit opinion; and does
not express an opinion on the financial statements (Porter et al. 2014:572).
 Adverse opinion
In an adverse opinion the auditor will state in his or her opinion that the financial statements
214
do not provide a true and fair reflection in accordance with the applicable financial
reporting framework (Porter et al. 2014:571).
 Qualified opinion
Definition
This kind of opinion refers to the author’s opinion that, except for the effects of the
relevant matter(s) described in the Basis for Qualified Opinion paragraph, the financial
statements do provide a true and fair view in accordance with the applicable financial
reporting framework (Porter et al. 2014:570).
2.7 REPORTING STANDARDS

Reporting includes the auditor’s opinion and any other remarks on a set of financial
215
statements resulting from a financial audit, as well as the auditor’s report after completing
a performance audit. The auditor’s opinion on a set of financial statements are generally
in a concise, standard format that reflects the results of a wide range of tests and other
audit work as set out in the previous paragraph.
Basically, the auditor has to report on the compliance of transactions with laws and
216
regulations and on matters such as inadequate systems of control, illegal acts and fraud.
The Auditor-General may require accounting officers to respond to certain enquiries to

217
clarify particular areas of concern or specific issues. Accounting officers are obliged to
adhere to any auditing query raised and submitted to them by the Auditor-General. In
practice, the chief financial officer (CFO) will respond to the auditing query by preparing
a report and any supporting evidence.
34
This type of auditing query is not done in terms of spot checks but is the result of
218
the ongoing audit performed by the auditors. Certain irregularities may be found, or
shortcomings in the internal control system or probable fraud or theft or similar problems
may be detected. To address these specific concerns, and instead of conducting another
audit, more information is required.
The form and content of all audit opinions and reports are based on the following
219
principles:
 Title
The opinion and report should be preceded by a suitable title or heading, helping the
220
reader to distinguish it from statements and information issued by others.
 Signature and date
The opinion and report should be properly signed. The inclusion of a date informs the
221
reader that the effect of events or transactions that the auditor became aware of up to
that date (which, in the case of financial audit, will be beyond the period of the financial
statements) have been considered.
 Objectives and scope
The opinion and report should include reference to the objectives and scope of the audit,
222
since they establish the purpose and boundaries of the audit.
 Completeness
Opinions should be appended to and published with the financial statements to which
223
they relate; however, performance reports may be separate from them. In expressing an
opinion, the auditors may require information from time to time that cannot be freely
disclosed in the national interest, and this can affect the completeness of the report.
 Addressee
The opinion and report should identify those to whom it is addressed, as required by the
224
circumstances of the audit engagement and local regulations or practice. This may, of
course, be unnecessary where there are formal procedures for its submission.
 Identification of subject matter
The opinion and report should identify the financial statements, which include the name
225
of the audited entity, the date and period covered by the financial statements and the
subject matter that has been audited.
 Legal basis
Audit opinions and reports should identify the legislation or other authority providing
226
for the audit.
35 PUB2608/1
 Compliance with standards
Audit opinions and reports should indicate the auditing standards or practices followed
227
in conducting the audit. This provides the reader with the assurance that the audit has
been carried out in accordance with generally accepted practice.
 Timeliness
The audit opinion or report should be available promptly to be of greatest use to readers
228
and users, particularly those who have to take necessary action.
2.8 KEY FOCUS AREAS TO MOVE TOWARDS CLEAN AUDIT

OPINIONS
 Quality of financial statements:
− ability to produce financial statements and quality management information

throughout the period
− utilisation by leadership of credible financial information to proactively tackle
emerging concerns
 Strong governance arrangements:
− ensuring effective internal audit functions and audit committees

− reviewing internal controls, risks and financial information throughout the period
− monitoring action plans compiled to remedy previous audit deficiencies and the
effect of implementing them
 Effective oversight by the leadership:
− administrative leadership that should establish proper tone at the top and act
timeously on red flags
− executive authority that must act decisively on obstacles hampering implementation
of corrective action plans and on red flags brought to their attention by auditors
and those charged with governance
2.9 CONCLUSION
Auditing queries constitute an important aspect in the accountability chain. The Auditor-
229
General must audit and report on the accounts, financial statements and financial
management of all national and provincial state departments and administrations; all
municipalities; and any other institution or accounting entity required by national or
provincial legislation to be audited by the Auditor-General.
36
2.10 SELF-ASSESSMENT
(1) To what specific elements should standards conform in all institutions? (8)
(2) Of what do annual financial statements consist? (6)
(3) What is an unqualified opinion? (2)
(4) What are the principles forming the basis of the form and content of all audit opinions
and reports? (9)

(1)  Proper accounting methods and procedures
 Proper cash management
 Proper record-keeping (e.g. stores, personnel)
 Proper maintenance (e.g. stores, records)
 Risk management
 Fund management
 Proper purchasing management
 Proper financial management (e.g. performance)
(2)  A statement of liabilities and financially related assets

 An income statement
 A cash flow statement
 Notes to the annual financial statement
 A report on the financial position of and performance by the Treasury
 Any other statements as may be determined by the Accounting Standards Board
(3) An unqualified opinion is one in which the auditor can state, without reservation, that
the financial statements are fairly presented in conformity with generally accepted
accounting practice.
(4)  Title
 Signature and date
 Objectives and scope
 Completeness
 Addressee
 Identification of subject matter
 Legal basis
 Compliance with standards
 Timeliness

Gauthier, SJ. 1995. An elected official’s guide to financial reporting. 2nd edition. Chicago:
Government Finance Officers Association of the United States and Canada.
https://www.agsa.co.za/About /Legislation.aspx
Porter, B, Simon, J & Hatherly, D. 2014. Principles of external auditing. 4th edition. West
Sussex: John Wiley & Sons Ltd.
South Africa. 2000. Treasury Regulations for Departments, Constitutional Institutions and
Trading Entities. Government Gazette, 21249, 31 May 2000. Pretoria: Government Printer.
South Africa. 2004. Public Audit Act 25 of 2004. Pretoria: Government Printer.
37 PUB2608/1
Learning unit 3
ROUTE MAP

231
Auditing process
232 Audit queries
Learning outcomes

− describe how the formal provisions concerning financial misconduct are applied in
your institution
− apply the proper regulations to your own work situation
− carry out control measures in your work situation
INTRODUCTION
Financial misconduct in the public sector can be a major detrimental factor in terms of its
233
influence or effect on effective and efficient financial management. From a theoretical point
of view, financial misconduct means that legislation, rules, procedures and regulations are
wilfully or negligently contravened. Whatever the reasons for financial misconduct may
be, control mechanisms should obviously be in place and enforced. Public accountability
cannot be served without a control framework that includes elimination and reporting
of financial misconduct.
38
In this unit we will deal with a conceptualisation of financial misconduct and control and
234
discuss the categories of misconduct and how legislation deals with these situations,
processes and procedures.
3.1 BACKGROUND PERSPECTIVE

The principle of public accountability remains the most important facet of all matters
235
concerning government’s finances. A democratic society is based upon this principle.

Once a principle as important as this is contaminated, the very foundation of a democratic
society is threatened.
A principle in itself cannot be upheld by mere attitudes, loyalty and personal attributes.
236
A principle such as public accountability, especially with regard to public finances,

which is characterised by the huge number of financial transactions and technicalities,
must be based on structured control mechanisms and systems. The mere fact that
financial misconduct occurs, according to reports of the Auditor-General and special
investigation commissions of inquiry, indicates that either the control mechanisms are
not sufficient or that control is not enforced and managed as it should be.
Financial misconduct and the assumed and/or associated lack of proper control enforcement
237
are not only linked to public accountability. They affect matters such as service delivery,
they can promote corruption, affect the loyalty of other officials, and influence the
credibility of the public service. This projects a negative image of the public sector and,
ultimately, of the government itself.
However, the purpose of this unit is not to provide a moral discussion of ethical issues
238
concerning financial misconduct and control. The aim, as reflected by the learning
objectives, is to provide you with the framework of control for dealing with financial
misconduct effectively, whether the cause is intended or not. The intention of this
particular section is to get you to think about the importance of this particular element
of public financial management.
3.2 CONCEPTUALISATION
We will use both a theoretical and an official approach to conceptualise financial misconduct.
239
The purpose for the theoretical conceptualisation is to support the practical and official
perspectives of financial misconduct.
3.2.1 Theoretical perspective

Technically, misconduct comprises actions by public officials that are contrary to laid down
240
rules, legislation, procedures and any regulations relating to their functions. Misconduct
does not necessarily mean that officials would get financial gain from deliberately
contravening regulations or procedures.
When you study the PFMA 1 of 1999 and the Treasury Regulations, it will become obvious
241
that even by not performing their duties according to the formal requirements and
39 PUB2608/1
procedures, public officials also become subject to disciplinary procedures. Financial
misconduct is therefore related both to deliberate criminal actions and to those actions
that are not criminally intended, but rather arise from elements such as negligence.
Activity
Briefly summarise the difference between criminal actions and negligence to perform
duties according to formal provisions and regulations.
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3.2.2 Official perspective

In terms of the official perspective, the PFMA 1 of 1999 and the Treasury Regulations
242
issued in terms of the Act, explicitly state the procedures and actions to be undertaken
with regard to financial misconduct. Chapter 10 of the Act specifically deals with financial
misconduct, as we have indicated in the next section.
3.3 FINANCIAL MISCONDUCT BY OFFICIALS IN DEPARTMENTS

AND CONSTITUTIONAL INSTITUTIONS
In terms of the PFMA, an accounting officer for a department or constitutional
243
institution commits an act of financial misconduct if he or she wilfully or negligently:
 fails to comply with a requirement of sections 38, 39, 40, 41 or 42

 makes or permits an unauthorised expenditure, an irregular or a fruitless and wasteful
expenditure
An official to whom a power or duty is assigned in terms of section 44 (which deals with
244
the assignment of powers and duties by accounting officers) commits an act of financial
misconduct if he or she wilfully or negligently fails to exercise that power or perform
that duty.
245 Let us look at these sections in more detail.
Section 38 deals with the general responsibilities of accounting officers. These entail the
246
following:
 Ensuring that a department, trading entity or constitutional institution maintains:

− effective, efficient and transparent systems of financial and risk management
and internal control
40
− a system of internal audit under the control and direction of an
audit committee complying with and operating in accordance with regulations
and instructions in terms of sections 76 and 77 (which relate to Treasury Regulations
and Instructions and audit committees, respectively)
− an appropriate procurement and provisioning system that is fair, equitable,
transparent, competitive and cost effective
− a system for properly evaluating all major capital projects prior to final decision
on the project
 Being responsible for the effective, efficient, economical and transparent use of the
resources of the department, trading entity or constitutional institution
 Taking effective and appropriate steps to:
− collect all monies due to the department

− prevent unauthorised, irregular and fruitless and wasteful expenditure and losses
resulting from criminal conduct
− manage available working capital efficiently and economically
 Being responsible for the management, including the safeguarding and the maintenance
of the assets, and for the management of the liabilities, of the department
 Complying with any tax, levy, duty, pension and audit commitments as may be required
by legislation
 Settling all contractual obligations and paying all money owing, including
intergovernmental claims, within the prescribed or agreed period
 On discovery of any unauthorised, irregular or fruitless and wasteful expenditure,
immediately reporting, in writing, particulars of the expenditure to the treasury and
in the case of irregular expenditure involving the procurement of goods or services,
also to the relevant tender board
 Taking effective and appropriate disciplinary steps against any official in the service
of the department who:
− contravenes or fails to comply with a provision in the Act

− commits an act that undermines the financial management and internal control
system of the department
− makes or permits an unauthorised, irregular or fruitless and wasteful expenditure
 Ensuring that, when transferring funds in terms of the annual Division of Revenue Act,
the provisions of that Act are complied with
 Before transferring any funds (other than grants in terms of the annual Division of
Revenue Act or to a constitutional institution) to an entity within or outside government,
obtaining a written assurance from the entity that it implements effective, efficient
and transparent financial management and internal control systems, or, if this written
assurance is not or cannot be given, making the transfer of the funds subject to
conditions and remedial measures requiring the entity to establish and implement
effective, efficient and transparent financial management and internal control systems
 Enforcing compliance with any prescribed conditions if the department gives financial
assistance to any entity or person
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 Considering all relevant financial considerations, including issues of propriety, regularity
and value for money, when policy proposals affecting the accounting officer’s
responsibilities are considered, and when necessary, bringing those considerations
to the attention of the responsible executive authority
 Promptly consulting and seeking the prior written consent of the National Treasury
on any new entity that the department intends to establish or in the establishment
of which it took the initiative
 Complying and ensuring compliance by the department with the provisions of the
PFMA
 Not committing the department to any liability for which money has not been
appropriated
Section 39 deals with the responsibilities of accounting officers with regard to budgetary
247
control. They must:
 ensure that expenditure of their department is in accordance with the vote of the
department and the main divisions within the vote
 ensure that effective and appropriate steps are taken to prevent unauthorised
expenditure
 take effective and appropriate steps to prevent any overspending of the vote of the
department or a main division within that department
 report to the executive authority and the treasury any impending:
− under-collection of revenue due

− shortfalls in budgeted revenue
− overspending of the department’s vote or main division within that vote
 comply with any remedial measures imposed by the treasury in terms of the PFMA to
prevent overspending of the vote or a main division within the vote
Section 40 deals with the reporting responsibilities of accounting officers, section 41 with
248
the information to be submitted by accounting officers, and section 42 with accounting

officers’ responsibilities when assets and liabilities are transferred.
Activity
Do you think underspending is also viewed as misconduct? Motivate your answer.
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42
3.4 APPLICABLE LEGAL REGIME FOR DISCIPLINARY
PROCEEDINGS
A charge of financial misconduct against an accounting officer or official referred to in
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sections 81 or 83 of the PFMA, or an accounting authority or a member of an accounting

authority or an official referred to in section 82, must be investigated, heard and disposed
of in terms of the statutory or other conditions of appointment or employment applicable
to that accounting officer, authority, member or official, and any regulations prescribed
by the minister in terms of section 85.
3.5 REGULATIONS ON FINANCIAL MISCONDUCT

PROCEEDINGS
250 The minister may make regulations prescribing:
 the manner, form and circumstances in which allegations and disciplinary and criminal
charges of financial misconduct must be reported to the National Treasury and the
Auditor-General, including:
− particulars of the alleged financial misconduct

− the steps taken in connection with this financial misconduct
 matters relating to the investigation of allegations of financial misconduct

 the circumstances in which the National Treasury may direct that disciplinary steps be
taken or criminal charges be laid against a person for financial misconduct
 the circumstances in which a disciplinary board that hears a charge of financial
misconduct must include a person whose name appears on a list of people with
expertise in state finances or public accounting compiled by the National Treasury
 the circumstances in which findings of a disciplinary board and any sanctions imposed
by the board must be reported to the National Treasury, the provincial treasury and
the Auditor-General
3.6 OFFENCES AND PENALTIES

An accounting officer is guilty of an offence and liable on conviction to a fine, or to
251
imprisonment for a period not exceeding five years, if he or she wilfully or in a grossly
negligent way fails to comply with a provision of sections 38, 39 and 40.
Any person, other than a person mentioned in section 66(2) or (3), who purports to borrow
252
money or to issue a guarantee, indemnity or security for or on behalf of a department,

public entity or constitutional institution, or who enters into any other contract that
purports to bind a department, public entity or constitutional institution to any future
financial commitment, is guilty of an offence and liable on conviction to a fine or to
imprisonment for a period not exceeding five years.
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3.7 TREASURY REGULATIONS
253 Treasury Regulation 4 refers.
3.7.1 Investigation of alleged financial misconduct (Sections 85(1)(b), (c)

and (d) of the PFMA)
If an official is alleged to have committed financial misconduct, the accounting officer
254
of the institution must ensure that an investigation is conducted into the matter and, if
confirmed, must ensure that a disciplinary hearing is held in accordance with the relevant
prescripts and agreements applicable in the public service.
The accounting officer must ensure that such an investigation is instituted within 30 days
255
from the date of discovery of the alleged financial misconduct.
If an accounting officer is alleged to have committed financial misconduct, the relevant

256
treasury, as soon as it becomes aware of the alleged misconduct, must ensure that the
relevant executive authority initiates an investigation into the matter and if the allegations
are confirmed, holds a disciplinary hearing in accordance with the relevant prescripts and
agreements applicable in the public service.
257 A relevant treasury may:
a. Direct that an official other than an employee of the institution conducts the inves-
tigation; or
b. Issue any reasonable requirement regarding the way in which the investigation
should be performed.
3.7.2 Criminal proceedings (Section 86 of the PFMA)

 The accounting officer must advise the executive authority, relevant treasury and the
Auditor-General of any criminal charges laid against any person in terms of section
86 of the Act.
 The relevant treasury may direct an institution to lay charges of criminal financial
misconduct against any person should an accounting officer fail to take appropriate
action.
3.7.3 Reporting (section 85(1)(a) and (e) of the PFMA)

The accounting officer of a department must, as soon as the disciplinary proceedings
258
are completed, report the outcome to the executive authority, the Department of Public
Service and Administration and the Public Service Commission, including:
 the name and rank of the official against whom the proceedings were instituted
 the charges, indicating the financial misconduct the official is alleged to have committed
 the findings
 any sanction imposed on the official
44
 any further action to be taken against the official, including criminal charges or civil
proceedings
The accounting officer of a constitutional institution must report the information required
259
of these regulations to parliament.
The accounting officer of a department must inform the executive authority, the relevant
260
treasury, the Department of Public Service and Administration and the Public Service
Commission of the outcome of any criminal proceedings instituted against any person
for financial misconduct in terms of section 86 of the PFMA, while the accounting officer
of a constitutional institution must inform parliament of such outcomes.
The accounting officer of an institution must, on an annual basis, submit to the provincial
261
treasury (if applicable), the National Treasury and the Auditor- General a schedule of:
 the outcome of any disciplinary proceedings and/or criminal charges

 the names and ranks of officials involved
 the sanctions and any further actions taken against these officials
The schedule must be accompanied by a report that refers to any changes made to the
262
institution’s systems of financial and risk management as a result of any investigation.
Activity
When reading the last paragraph of section 3.7.3, try to think of possible situations or
examples where reports of misconduct initiated changes in a department’s internal
control systems.
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3.8 CONTROL AND FINANCIAL MISCONDUCT

It should be obvious that the Public Financial Management Act and Treasury Regulations
263
cover the full spectrum of all functions exercised by public officials. Failure to comply
with provisions of legislation, regulations and/or procedures could result in a charge of
financial misconduct against an official or accounting officer.
We cannot over-emphasise the importance of financial misconduct. The result of financial

264
misconduct could imply any number of shortcomings occurring in public sector service
delivery; for example, pension transfers not being paid to pensioners, medicinal supplies
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to hospitals not being available, contracts and obligations not being honoured to the
detriment of the state, and a host of other negative possibilities.
The most important element, and perhaps a more positive approach, is that the possibility
265
of financial misconduct should be limited and prevented, rather than allowed to happen in
the first instance. For example, in terms of the PFMA, an accounting officer can be charged
with financial misconduct if over-expenditure of the approved budget occurs. Within the
limitations of current planning mechanisms and budgeting processes the chance that
accounting officers will necessarily exceed their budgetary allocations is highly probable. If
accounting officers know this in advance, they are virtually defenseless against charges of
financial misconduct being laid against them in terms of Chapter 10 of the Public Finance
Management Act. However, accounting officers do have a way out of this dilemma, and
that is by merely applying the correct procedures when the possibility of over-expenditure
becomes apparent. If over-expenditure is warranted, accounting officers will, by means
of an advanced cash need request to the relevant treasury, explain the reasons for the
over-expenditure to be incurred. They may also use the virement principle whereby
savings may be used to defray shortages; however, this must be within the parameters
of the prescribed regulations. In this situation, charges of financial misconduct can be
laid only if the accounting officer neglects to apply the correct procedures by allowing
over-expenditure to continue without notifying the relevant treasury of its occurrence
and the reasons for it. The same principle applies in respect of all responsibilities and
functions pertaining to accounting officers, public officials and public entities.
You will now realise that accounting officers therefore do have the authority to ensure
266
that their departments or other entities listed in the PFMA Schedules are managed
according to the prescribed legislation and regulations and thus prevent the occurrence
of actions that can lead to charges of financial misconduct. How can accounting officers
ensure that they perform all their functions and responsibilities according to prescribed
legislation and regulations?
Accounting officers have the authority to ensure that all procedures are followed as
267
prescribed by effecting and maintaining proper control measures in their departments.

These control measures are maintained to ensure that officials perform their functions
according to all requirements in terms of legislation, regulations, and matters relating to
material, contracts, commitments, accounting procedures and record keeping.
Control measures maintained by accounting officers relate to internal control measures

268
and not external control measures, since the approach is to apply control measures in
a preventive way rather than exercising control after, for instance, misappropriation of
funds has occurred.
Internal control measures therefore form part of the daily operational procedures in a
269
department or public entity. It should also be an automatic action in terms of all functions
undertaken within departments, as we will now indicate.
46
3.8.1 Reporting
Managers at the various levels have to report continuously to the top management of
270
the department. To be of any value, these reports have to be written, and in the case of
expenditures and forecasts, amounts listed in terms of:
 the amount expended up to the date of the total budget

 the forecasted need for the ensuing month
 foreseeable changes to the budget (budget variance)
 possible savings
 any circumstances affecting future spending.
The compilation of these reports from the various levels aids the accounting officer
271
and the chief financial officer of the department in detecting any anomalies with regard
to spending patterns in terms of total departmental financial needs. They also enable
accounting officers to take corrective action, such as applying virement procedures and
informing the relevant treasury of impending over-expenditure in good time.
Reports may also be compiled by managers at various levels in terms of other elements,
272
such as progress reports on their various functional activities, especially with regard to
performance reports. Performance reports are based on predetermined agreements on
output units and evaluation criteria, since these differ in terms of functional activity per
level of activity in each department. In this way, the accounting officer can ensure that
services are delivered according to the budget items. Reports submitted in good time
will enable accounting officers to take remedial actions where and when necessary, such
as reporting such incidences where required to the relevant treasury.
Activity
List two or three possible disadvantages of using reporting as a control mechanism.

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3.8.2 Signature
Accounting practices require authorisation signatures. Officials with these responsibilities
273
are required to sign documentation to verify that a function may proceed. An example
of these signatory powers is for payment purposes. An official verifies the correctness
of the evidence on which the transaction is made. If, for instance, payment is required
for a service provided or material supplied, the official authorising the payment needs
to establish that:
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 the payment is for the service or product intended
 the payment constitutes a legitimate charge against the budget
 the service or products have in fact been provided or delivered
 payment for the same service or products has not been made previously
 all documentation to verify the transaction is available
 payment does not exceed the contractual obligation
 delivery forms correlate with the order forms in terms of the particulars contained in
them.
One reason for these validations is that it provides the data for an audit trail required
274
by the Auditor-General when conducting audits. A departmental audit committee will

therefore have to make sure that all officials in that particular department are familiar
with the requirements of validation in terms of signature authorisation.
If each transaction is dealt with according to the prescribed procedures and signatures
275
are obtained with due consideration of all prescribed related matters, accounting officers
can make sure that irregular expenditure, as well as fruitless and wasteful expenditure
do not occur.
Activity
To what extent would you value the contribution of signature as a control method as
opposed to that of reporting?
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3.8.3 Internal audit committees

The traditional role of internal auditing has been to provide accounting officers with
276
the assurance that there is satisfactory compliance with laws, regulations, policies and
instructions within the department. It has, however, progressed from an “error” style audit,
with the emphasis on negative reporting on deviations from financial control measures,
to a proactive approach aimed at adding value through performance improvement.
The internal control function performs an invaluable service to the management of the
277
department and as such is part of the management tools utilised by the accounting
officer to ensure prevention of financial misconduct. This aspect is further confirmed by
evaluating the following benefits of an effective internal audit function:
48
 Greater assurance will be given to accounting officers, management and the
departmental audit committee that the systems of internal control are effective,
efficient and economical and that its operations are performed properly.
 Financial discipline, control environments and operational controls within the
department will be strengthened.
 The quality of management processes will be enhanced.
 Departmental performance will be improved.
 Valuable contributions will be made towards the effectiveness and efficiency of
operations through timely, corrective actions because of internal audit’s evaluations
and recommendations.
 The quality of management’s understanding of internal control and risk management
will be improved and management will be assisted in the clear identification of risks
across the department.
 More efficient and economical application of resources will be ensured, as surplus or
underutilised assets will be identified.
 Fraud prevention and detection will be enhanced within the department.
 Interdepartmental communications will be improved through examples of effective
controls being shared with other departments or components.
 A control-conscious culture within the department will be strengthened by providing
feedback on the quality of operations and controls and recommending improvements
where necessary.
 Actual savings are made, for example where control breakdowns have been identified,
allowing recoveries to take place or identifying redundant business processes.
 All operational activities within the department are scrutinised regularly.
3.8.4 Adequate segregation of duties

This control mechanism is intended to ensure that no single person manages or deals
278
with two transactions where one results from the other; for example, where one person
is responsible for receiving money (cashier) and for recording this transaction. The cashier
should only be responsible for receiving money and issuing receipts for the amounts
received. For general types of segregation of duties for the prevention of both intentional
and unintentional errors, the following principles apply:
 Segregation of operational responsibility from financial record-keeping responsibility

 Segregation of the custody for assets from accounting for those assets
 Segregation of the authorisation of transactions from the custody of related assets
plus receiving goods
 Segregation of duties within the accounting function
Activity
If you had to decide whether to use segregation of duties or signature as your primary
control method, which one would you choose? Substantiate your answer by means of
practical examples.
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3.8.5 Inspections
Inspections are normally carried out in situ, that is, at the physical place to which they
279
are directed. This entails an inspection of stores and other places where a physical
examination and evaluation will take place. The inspection can range from verifying stock
on hand and comparing the actual number of items with stock cards, checking whether
kilometres on the odometers of motor vehicles correlate with the log sheets and claims
and accounts of these kilometres, medicine issued against stock, or whether services or
stores were actually received.
Activity
Identify two possible disadvantages of using inspections as a control procedure.
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3.9 CLASSIFICATION OF CONTROLS

A distinction should be made between internal controls in general and internal control
280
for audit purposes. An institution may, for example, maintain a control mechanism to
guard an expensive tool-making machine from damage through misuse. The same
element will apply when locking cash and securities in a safe and placing the key under
the responsibility of the cashier. The latter will be subject to audit control, but not the
former. The reason lies in the distinction between the two types of control. While the
purpose of the lock on the safe is to safeguard the cash and securities, it is also a control
over potential error in the financial statements. The purpose of the lock on the machine
is not to be a potential error in the financial statements and therefore auditors would not
rely on this control during audits.
For the purpose of internal control, control systems can be divided into two broad
281
categories: preventive controls and detective controls.
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3.9.1 Preventive controls
The purpose of preventive controls is to prevent loss or harm from occurring. These controls
282
are advantageous if they operate effectively, because they avoid the cost of correcting
errors. They normally exist in a system irrespective of the volume of transactions.
Preventive controls include the segregation of duties within an accounting system, such
283
as the separation of recording functions from custodial functions, and the separation of
authorisation functions from execution functions. They will also be part of the processing
of data to ensure that input is valid, complete and correct, and that it is properly processed.
3.9.2 Detective controls

The purpose of detective controls is to monitor activity to identify instances where practices
284
or procedures were not followed. Although detective controls are an additional cost,
since a transaction has already been processed when the control is performed, they are
nevertheless useful because they can provide a measure of the reliability of preventive
controls. More important, however, is that they are necessary because certain types of
errors cannot be controlled preventatively in a cost-effective manner.
Detective controls are checks on the reliability of preventive controls and are usually
285
performed on the outputs of the accounting system. At systems level, examples of

detective controls are investigations of overdue accounts receivable and cost variance
accounts and reconciliation of bank accounts.
3.9.3 Corrective controls

Corrective controls restore the system or process back to the state prior to a harmful event;
286
for example, a business may implement a full restoration of a system from backups after
evidence is found that someone has altered the payment data.
3.10 INTERNAL CONTROL

Internal control is nothing new – it exists in all organisations. It can be defined as the
287
processes put in place by management and other stakeholders, which are designed to:
 provide reasonable assurances that the organisation’s objectives are achieved effectively
and efficiently, in compliance with applicable laws and regulations
 ensure reliable financial reporting
Internal controls are the systems (manual or electronic), procedures and processes that
288
are implemented to minimise the risk (and any financial consequences) to which the
department might otherwise be exposed as a result of fraud, negligence, error, incapacity
or other cause.
The PFMA makes it clear that accounting officers must actively ensure that internal controls
289
are appropriate for their specific circumstances and, most importantly, are operating as
intended. Controls must be designed to provide reasonable assurance that:
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 Goals are met with economical and efficient use of resources.
 Financial and operational information is reliable and useful.
 Assets are accounted for and protected from losses.
 Policies, procedures, laws and regulations are complied with.
In a rapidly changing environment, internal control becomes significantly more important.

290
Changes in management personnel and culture may well result in a fundamental redesign
of internal controls; however, it must never expose the organisation or its management
to the risks that would arise should these controls be eliminated.
3.10.1 Responsibilities for internal control

The responsibilities of different stakeholders for internal control can be summarised as
291
follows:
 Management has the ultimate responsibility for the operation and ownership of the
system of internal control.
 The Auditor-General will play an important role in making recommendations should
any weaknesses in internal control be identified.
 The audit committee should be able to identify and act on instances where management
may override internal control or otherwise seek to misrepresent reported financial
results. Hence, the independence of the audit committee from management, the extent
of the committee’s involvement with and scrutiny of activities, and the appropriateness
of its actions will strongly influence the control environment in an organisation.
3.10.2 Is internal control effective?

Accounting officers are required to ensure that the internal controls within their departments
292
are operating effectively. To do this, they will need to examine the five elements of internal
control; these are:
 The control environment

 Risk assessment
 Control activities
 Information and communication
 Monitoring arrangements
While the last three points are well understood, the first two may not be and are considered
293
in the following paragraphs.
294 The control environment includes:
 The governance structures and functions of the department

 Management’s philosophy towards risk, and its style of operation
 The approach to assigning authority and responsibility in the department
 The nature and extent of the risks involved
 Systems for controlling expenditure
 The control systems in place, including internal audit
52
 Personnel policies and procedures
 Segregation of duties
 Access to computer-based systems (both physical and in terms of network security)
 Physical protection of cash and securities (the need to hold cash and securities should
first be assessed), and so forth
 The management information system
Despite the previous centrally prescribed and procedurally focused Treasury Instructions,
295
the weaknesses in the control environment in the public sector are significant. These
weaknesses arise when, for example, newly appointed staff do not appreciate the reasons
why duties are separated.
Because the Treasury Instructions prescribed detailed procedures to be applied to all

296
entities, regardless of specific circumstances, the notion of departmental managers

undertaking a risk assessment for themselves is an innovation in most parts of the public
sector.
Risk management acknowledges that all the activities of an organisation involve some
297
element of risk. Management must decide what is an acceptable level of risk (given the
cost and other social factors) by objectively assessing the factors (risks) that may prevent a
particular activity from meeting its objective. For example, the risk of delay in constructing
a new clinic may be offset or managed by ensuring that the stock level of building material
is adequately monitored; or, the risk of an asset such as a photocopier breaking down
will be reduced by ensuring that it not misused. Elements of risk management include:
 Assessing the nature and extent of the risks associated with the department’s operations
 Deciding on an acceptable level of loss or degree of failure
 Deciding how to manage or minimise the risk
 Monitoring, reporting and, from time to time, reassessing the level and implications
of the risk exposure
3.10.3 Need to review internal control

The Treasury Regulations assign responsibilities for aspects of risk management to the
298
internal audit unit and the audit committee, each of which reports to the accounting
officer. Hence, each accounting officer will need to review the operation of the internal
controls within his or her department, in accordance with the following basic principles:
 Internal control systems should be of high quality, but it should be provided at a

reasonable cost.
 Managers must ensure that the controls over the operations and resources entrusted
to them are adequate, and they should continuously determine whether controls are
effective.
 The design and extent of control measures and procedures must match the risk and
exposure in the particular area. Before implementing a control, management should
be satisfied that the benefits outweigh the cost of operating the control.
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After such a review, the accounting officer may need to implement some or all of the
299
following measures:
 Produce guidelines and standards to reflect the organisation’s values for conducting
business.
 Train managers in risk management and control techniques.
 Establish self-assessment programmes for managers to measure the adequacy of
controls on a routine basis.
 Establish information flows that will indicate unfavourable trends and trigger corrective
actions.
It is impossible to avoid all risk through internal control measures; attempts to do so

300
may come at a cost higher than that of the potential risk. This was often the case with
the procedures implemented in previous years. Before further internal control measures
are implemented, the cost of these must be assessed against cost of the risk.
3.11 ACCOUNTING OBJECTIVES OF INTERNAL CONTROL

Auditing efforts are directed primarily toward identifying and evaluating the controls
301
intended to ensure the propriety of transactions and the accuracy, reliability and fairness
of accounting information.
Within specific accounting systems, controls are designed to prevent and/ or detect seven
302
general classes of error or, alternatively, to achieve seven internal control objectives for
transactions. These objectives are elements of the first and second broad objectives given
in the definition of internal control. They serve as a framework for evaluating internal
control for audit purposes. The seven detailed objectives are the following:
 Recorded transactions are valid. This objective deals with the possibility of invalid
transactions being included in the records. An example is the recording of a sale
where none has been made.
 All transactions are recorded. An example is the shipment of goods sold without
recording the sale and an account receivable.
 Transactions are properly authorised to prevent improper transactions from taking
place, resulting in assets wasted or destroyed or unnecessary liabilities being incurred.
An example is a sale to a bad credit risk.
 Recorded transactions are properly valued. Even though all transactions are recorded,
they may be recorded at an incorrect amount. For instance, arithmetical errors in the
quantities, prices, extensions or additions on sales invoices would cause an improper
value of both the sale and the accounts receivable to be recorded.
 Recorded transactions are properly classified. An example of misclassification is the
miscoding of the purchase of a fixed asset as an expense.
 Transactions are recorded in the correct period. For example, goods sold and awaiting
collection might not be recorded as sales until delivery, whereas they should be
recorded as sales when they are at the customer’s disposal.
 Transactions are properly posted to the subsidiary records and are correctly summarised.
For example, if the head office payroll was incorrectly posted to manufacturing labour
54
expenses, there would be errors in inventory and cost of goods sold accounts, as well
as in head office expenses.
3.12 LIMITATIONS ON EFFECTIVENESS OF INTERNAL

CONTROLS
Although the importance of good internal control should not be underestimated, you need
303
to recognise that there will always be certain potential limitations on their effectiveness.
The major limitations are as follows:
 Controls usually provide reasonable rather than absolute assurance that their objectives
will be achieved. This is primarily because the cost of an internal control should not
exceed the benefits to be derived from it. Therefore, controls that can “guarantee”
that all errors will be prevented or detected and corrected will seldom exist.
 There is the risk that controls may become inadequate because of changes in conditions.
 The effectiveness of control ultimately depends on the officials performing them.
Auditors, when performing audits, generally make the following assumptions about
the motivation of people in the control environment:
− The threat of prompt exposure will deter an individual from committing fraud.
− People will report irregularities that come to their attention.
− The probability of collusion is low since people will be deterred by the possible
consequences of being rejected in an attempt to propose fraudulent activities.
− Personal relationships within the organisation will not influence or conflict with
“formal” relationships established by the organisation.
− People will perform only those functions required by the organisation structures.
− The existence of documentary evidence that an action has taken place implies
that the action has in fact been performed.
− Employees have sufficient training, experience, time and motivation to perform
their duties competently and conscientiously.
 Any controls designed to ensure the execution and recording of transactions will be
ineffective against errors or irregularities perpetrated by management. Because of
their authority to establish controls, management can normally override them.
The possibility, however, of these assumptions being invalid can never be ignored. If there
304
is reason to believe that any of them are invalid, the effectiveness of the control system
would necessarily have to be re-evaluated.
3.13 CONCLUSION
Financial misconduct, despite the presence and maintenance of many internal control
305
mechanisms and the penalties associated with misconduct, seems to be permeating the
public sector.
This is according to numerous reports of the Auditor-General after conducting audits

306
within government departments. However, it is also evident that many of the misconduct
55 PUB2608/1
issues result from the previous political dispensation, such as in the former “homelands”,
where financial control was regarded as less important than political matters.
One of the main concerns of the Auditor-General is training. Many of the misconduct
307
matters raised are due to lack of proper training and can therefore be regarded as
unintentional. However, whatever the cause may be, financial misconduct is harming
the capabilities of the government to provide proper service: for instance, desperately
needed funds for poverty relief are simply not being spent as budgeted for. Although
there are control measures to ensure that the government is performing as it should, the
focus should rather be on service delivery. Control is therefore only a mechanism that
ensures that government achieves its objectives as planned and according to the proper
procedures and regulations. Finally, by merely associating the provisions of the PFMA and
the Treasury Regulations with the reports of the Auditor-General, the discrepancies will
be apparent and perhaps also disturbing. The efficiency, effectiveness and economy of
government relies on the extent to which internal controls are maintained and exercised
as intended with the end result: service delivery.
3.14 SELF-ASSESSMENT
(1) What assumptions do auditors make about officials in departments when an audit is
conducted? (7)
(2) Are there differences in the approach to determining financial misconduct and the
intentions relating to financial misconduct? (3)
(3) Give two reasons for the possible disadvantages of reporting and inspection as a control
mechanism. (4)

(1) The assumptions are:
 The threat of prompt exposure will deter an individual from committing fraud.
 People will report irregularities that come to their attention.
 The probability of collusion is low since people will be deterred by the possible conse-
quences of being rejected in an attempt to propose fraudulent activities.
 Personal relationships within the organisation will not influence or conflict with
“formal” relationships established by the organisation.
 People will perform only those functions required by the organisation structures.
 The existence of documentary evidence that an action has taken place implies that
the action has in fact been performed.
 Employees have sufficient training, experience, time and motivation to perform their
duties competently and conscientiously.
(2) Financial misconduct does not always occur as a result of criminal intent. It is more
often the result of noncompliance with prescribed regulations such as the PFMA and
the Treasury Regulations.
(3) Reporting
 Reports can be subjective and biased.

 Reports might reflect only the more positive issues.
56
Inspection
 If it is not a surprise inspection, people have time to update documents or shift stock
to match tally cards.
 It is time-consuming.

Information security handbook. http://ishandbook.bsewall.com.risk/Assess/Risk/con-
trol_types.html (accessed on 9 February 2018).
Institute for Democracy in Africa (IDASA). Available at: http://www.idasa.org. za/FAQs

(accessed on 2011-10-10).
National Treasury of South Africa. 2009. Estimates of national expenditure 2009/2010.

Pretoria: Government Printer.
National Treasury of South Africa. 2010. Annual Report of the National Treasury for
2009/2010. Pretoria: Government Printer.
Presentation by the Auditor General to the Portfolio Committee on Public Service and
Administration. November 2009.
South Africa (Republic). 1996. Constitution of the Republic of South Africa, 1996. Pretoria:
Government Printer.
South Africa. 2000. Treasury Regulations for Departments, Constitutional Institutions and
Trading Entities. Government Gazette, 21249, 31 May 2000. Pretoria: Government Printer.
South Africa (Republic). 2001. Treasury Regulations, 2001. Pretoria: Government Printer.
South Africa (Republic). 2004. Public Audit Act 25 of 2004. Pretoria: Government Printer.
57 PUB2608/1

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LEARNING UNIT 1: Auditing process 1

LEARNING UNIT 2: Audit queries 24

LEARNING UNIT 3: Financial misconduct and control 38

of environmental influences. These environmental influences relate to the open-systems

1 HOW TO USE THIS STUDY GUIDE

learning content and study guidelines more easily.

3 OVERVIEW OF THIS MODULE

various learning units to facilitate the learning process.

 Learning unit 1: Auditing process

4 INTRODUCTION AND GENERAL ORIENTATION

20 Syllabus/subjects covered/essential prior knowledge:

 Orientation and theoretical overview

following can be understood and explained:

 The objectives of auditing.

30 Students will understand audit queries.

 The reporting categories and procedures for reporting.

 The legislative provisions concerning financial misconduct and applicable regulations.

As lecturers, we understand that we need to deliver high-quality service to you, the

student. We conclude that we need to develop a learning environment that promotes

we, as lecturers in the Department of Public Administration and Management, expect

 Learning units. Each learning unit consists of learning outcomes, an introduction,

44 Firstly, it is in your own interest to consult the recommended book:

49 Connecting online to the module PUB2608

55 How to register on myUnisa

57 myUnisa tools for PUB2608

that you will complete the module successfully.

Public Administration and Management

MODULE: PUBLIC FINANCIAL CONTROL II

71 Financial misconduct and control

After studying this unit, you should be able to:

1.1 BACKGROUND PERSPECTIVE

1.1.1.1 Public accountability and reporting

The purpose of state auditing may be regarded as an external and independent

investigation of government’s financial affairs to measure the conduct of those institutions

1.1.1.2 Fraud and mistakes

What is the primary purpose of auditing?

1.1.2 Accountability and auditing

delegated. Its aim is to:

 determine compliance with legislation and relevant authorities

Describe the link between accountability and auditing.

1.2 LEGISLATION AND AUTHORISATION

1.2.1 Constitution of the Republic of South Africa, 1996

 All national and provincial state departments and administrations

financial statements and financial management of:

In addition to the requirements of the Constitution, the Auditor-General shall perform,

1.2.2 Public Finance Management Act 1 of 1999

1.2.3 Public Audit Act 25 of 2004

on the consolidated financial statements of:

 The national government as required by section 8 of the PFMA

 Any public entity listed in the PFMA

1.2.4 The structure, functions and services of the Auditor-General

1.2.4.1 Definition of audit

1.2.4.2 Remit of Auditor-General

as a result of a focus on outcomes and efficiency, the Auditor-General may be involved

1.3 AUDITING PROCESS

1.3.1 Internal and external auditing

Internal audit External audit