Audit Investigation

Week 9

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Introduction
A more specialised assignment Usually undertaken for a specific purpose Governed only by the terms of reference mutually agreed between the parties to the contract

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Investigations
An enquiry commissioned by a client for a purpose Not part of the work of an auditor as auditor However, auditors are frequently asked to carry out investigations because auditors are trained in investigative techniques and are know to be independent and have integrity

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Types of investigations
Acquisition of companies Purchase of a business Prospective investment Incoming partners Prospective lending Fraud Losses arising from systems breakdown Investigations under Companies Act 1965 Back duty (tax evasion) Sponsorship of orchestral concerts The employment of a building contractor by a local authority
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Clients
Companies Individuals Lending Institutions Local Authorities

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Stages of investigations
1. Obtain precise written instructions from the client (letter of engagement) 2. Professional etiquette 3. Organising the investigation 4. Background information 5. Preliminary information 6 The report outline 7. The investigation proper 8. Draft the report 9. Discuss the report verbally 10. Type or print the report and submit to client 11. Further discussion or investigation
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Acquisitions
Client ask auditors to help him: a. Whether to buy or not b. If he is to buy, at what price and for what consideration detailed examination of accounts covering a period of 1 or more years & the subsequent adjustment & interpretation of those accounts in accordance with the purpose of the investigation
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Stages for acquisitions

Examine the financial statements - decide on number of years to be covered 3 years ideal, since it enables current position (adjusted) to be studied in perspective - obtain copies of detailed accounts for each of the years to be examined - note any audit qualifications - consider any detailed info with supporting schedules & working papers
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Stages for acquisitions (Contd.)

Redraft the financial statements (make adjustments), taking into account: - past income & expenditure not applicable in the future/not relevant to the business - likely future income & expenditure - correct amounts of assets & liabilities. E.g. exclude intangibles. - note: adjustments should only be made if grounds for doing so are reasonably certain shortage of working capital, heavy reliance on expensive external finance, loss-making branches

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Stages for acquisitions (Contd.)

Establish the reliability of the accounts - consider possible manipulations to the accounts to cause the business to appear more profitable than true position - overstated stocks - overstated sales - understated purchases - deferred expenditure - overstated assets - understated liabilities

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Stages for acquisitions (Contd.)

Commercial considerations, future prospects & miscellaneous matters - analysis of sales success rate of diff product lines - present mgt policy to assess future impact, e.g. selling off of loss-making branches - tax position - staff loyalty - customer goodwill - length of current leases - expiry dates of major contracts - age/condition of physical stocks
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Prospective lending
Client may be asked to finance another company The borrower must have power to borrow Loan considerations: - strength/profitability revealed by past analysis of accounts - purpose of loan - adequacy of amount being sought to include a profitable margin to allow for contingencies, to allow for adequate working capital - nature/adequacy of underlying security (and ease of realisation, if necessary), any prior charges - proposed interest payment arrangements - period of repayment of principal sum

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Prospective lending (Contd.)

Viability of business concern - size of existing market & likelihood of success for new venture - quality of service/commodities offered in comparison to what is already available, as well as comparison of prices - availability of suitably located premises Financial considerations - personal guarantees given by companys promoters - promoters past record of success
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Prospective lending (Contd.)

Schedules to look at - cash flow budgets - monthly income/expenditure estimates - monthly fixed costs & set up costs - worst-case estimates

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Companies Act 1965 investigations

Declared companies - Minister may declare that a company be investigated if: - a prima facie case has been established for public/shareholders /creditors protection - where allegations of fraud/misfeasance/misconduct by persons connected with formation/management of company for public interest - any other reason for public interest - in the case of foreign country, appropriate authority of another country has requested it
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Companies Act 1965 investigations

At direction of Minister under s.197: - for a company having share capital - on application of <200 members or members holding not less than 1/10 of shares issued - on application of debenture holders holding > 1/5 in nominal value of debentures issued - for a company not having share capital - on application of >1/5 in number of persons on register of members

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Companies Act 1965 investigations

Investigation by resolution of company (not a declared company) inspector shall report his opinion in a general meeting Appointment of Inspectors to investigate (usually includes an accountant) Procedure of inquiry - may investigate into the affairs of related corporations (with Ministers consent) - every officer/agent of company shall be required to produce all books/documents in his custody & shall give all assistance to inspector - officer/agent of company may be required to appear for examination on oath or affirmation
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Companies Act 1965 investigations

Procedure of inquiry (Contd.) - inspector may take possession of all books/documents - non-compliance of officer/agent Court may inquire & punish - no person who is/formerly was an officer/agent can refuse to answer on the grounds that the answer will incriminate him

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Back duty investigations

Occur if Citizens have been known to fail to declare some income or to understate their income from some particular source in making their tax returns IRB then will insist on a back duty investigation Investigators will be from the IRB tax investigators will usually demand to view audit files & tax payers accounts & records
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Back duty investigations (Contd.)

Special points which arise : The past period to be covered (years) The apparent cash available for living compared with the taxpayers actual standard of living. The accumulation of capital compared with the known sources for such accumulation The existence of other sources of income and capital must be investigated (gambling, legacies and gifts) The results of an investigation may be that undeclared income comes to light such as payment of tax on the income and negotiated penalty

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