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INDEX

Sr.No. Particulars Signature


1 Basic Concept in Auditing

2 Auditing Standard

3 Summary

4 Bibliography

5 References
BASIC CONCEPTS IN AUDITING

Audit Evidence:

Auditor needs evidence to obtain information for arriving at his judgment.

AAS 1 (SA 200) on Basic Principles Governing and Audit, mention audit

evidence as one of the basic principles and requires that the auditor should

obtain sufficient appropriate audit evidence through the performance of

compliance and substantive procedures to enable him to draw reasonable

conclusions there from on which to base his opinion on the financial

information.

According to AAS 5 (SA 500) on Audit Evidence, sufficiency and

appropriateness are inter-related and apply to evidence obtained from both

compliance and substantive procedures. Sufficiency refers to the quantum

of audit evidence obtained while appropriateness relates to its relevance and

reliability.

Normally, the auditor finds it necessary to rely on audit evidence which is

persuasive rather than conclusive.


He may often seek evidence from different sources or of different nature to

support the same assertions. Auditing involves collection and evaluation of

evidence in support of certain propositions.

The evidence may be of varied nature and can assume various forms for

example, a signature on the voucher of a designated official, the payees

receipt, acknowledgement from the stores for goods received, suppliers

invoice, statement of account, minutes contracts, etc. Even the information

obtained by the auditor by discussing with the officials of the company also

constitutes audit evidence.

Generally audit evidence, depending on its source, maybe classified as

internal evidence or external evidence. Internal evidence is one that has

been created within the clients organisation and without its ever going to

outside party. Examples are duplicate sales invoices, employees time

reports, inventory reports, wage sheets, minute books, etc.

External evidence is one which emanates from outside the clients

organisation. A document issued by a person with whom some business

transactions had been entered into or who paid or was advanced an amount

constitutes such evidence, as for example, payees receipt, purchase invoice,

court decree, lease agreement, bank statement, etc.

Sometimes in certain transactions, external evidence is obtained, directly by

the auditor e.g. certificates as regards bank balance, confirmation of balance

of debtors and creditors etc. The reliability of audit evidence is informed by

its source internal or external; and by its nature i.e., visual, documentary

or oral.
The auditor should evaluate whether he has obtained sufficient appropriate

audit evidence before the draws his conclusions there from. Audit evidence

should, in total, enable the auditor to form an opinion on the financial

information.

Importance of Audit by an Independent Professional Auditor:

The principal advantage of an independent audit lies in the fact that the

society is able to get an informed, objective and forth right opinion on the

financial statements of enterprises which are used in making significant

economic decisions by interested segments of the society, e.g., shareholders,

creditors, bankers, etc. Irrespective of the fact whether audit is compulsory,

statutory or voluntary, the audit of accounts by an independent professional

auditor becomes important for every individual and every type of

organisation.

It is only through audited accounts by an independent professional auditor

that the shareholders of a company are assured that the funds invested by

them are safe and they are being used for only the purposes for which they

were raised and collected.

The chief utility of audit lies in ensuring reliable financial statements on the

basis of which the state of affairs may be easy to understand. Information

contained in the statement of accounts of a business are primarily intended

for the owners.

However, many others make use of the information for different purposes.

Management of the business uses it for decision-making purposes.


Lenders and creditors examine it to establish the degree of safety of

their money.

Government levies tax putting a prima facie reliance on the

statements and regulates the socio-economic state of affairs on a

summary view of the information contained in various accounting

statement made available to it.

Investors review the information for making investment decisions

Financial analysts can use the information to assess the performance

of an entity.

Financial statements are of great significance to workers as well they want to

be assured that reasonable and legitimate share of the revenue earned by

the organisation has been paid to them as bonus and the distribution

pattern has not violated the norms of social justice.

To ensure the acceptable degree of reliability and accuracy of the financial

statements, examination and appraisal of accounts and the financial picture

by an independent auditor is necessary.

In the company form of organisation, there is a divorce between ownership

and management - shareholders are so scattered that they have no direct

control on the day-to-day administration of the company while in a

proprietary concern, accounts may be audited to get funds from financial

institution, etc. and a partnership firm may get its accounts audited to
decide questions such as valuation of goodwill at the time of admission,

retirement and death of a partner.

The report of an independent auditor is, therefore, the only real safeguard

available to the various parties interested in the financial affairs of the

entity. It is due to the independence of the auditor, leading to an objective

report, that the risk of people being misled by untrue or fraudulent financial

statement is minimized. As a by-product, managements get attuned to open

and truthful financial statements.

Preliminary Expenses:

This term is applied to expenses incurred in connection with the formation

of a limited company. They generally include the following expenses:

(i)Legal costs in drafting the memorandum and articles of association;

(ii)Capital duty and other fees on registration of the company;

(iii)Cost of printing the memorandum and articles of association;

(iv)Cost of statutory books and the companies seal, etc;

(v)Any other expense incurred to bring into existence the statutory books of

the company.

Preliminary expenses in so far as they have not been written off to date must

be shown separately in the balance sheet of the company under the heading

"Miscellaneous Expenditure".
The auditor should verify these expenses with reference to supporting

documents such as invoices and contracts relating to these expenses. In the

case of a company, the auditor should also examine that the reimbursement

of such expenses to promoters is in accordance with the disclosures made in

the prospectus. Compliance with legal provisions regarding reimbursement

of the promoters' expenses should be specifically examined.

Fundamental Accounting Assumptions

As per AS 1 on Disclosure of Accounting Policies accounting policies refer

to the specific accounting principles and the methods of applying those

principles adopted by the enterprise in the preparation and presentation of

financial statements. There is no single list of accounting policies which are

applicable to all circumstances.

The choice of the appropriate accounting principles and the methods of

applying those principles in specific circumstances calls for judgment by the

management. The profit or loss can be significantly affected by the

accounting policies followed.

Therefore disclosure of significant accounting policies followed is necessary

if the view presented is to be properly appreciated.

In this context, AS 1 states that certain fundamental accounting

assumptions underlie the preparation and presentation of financial

statements. They are usually not specifically stated because their

acceptance and use are assumed.

Disclosure is necessary if they are not followed.


Disclosure of Accounting Policies

The view presented in the financial statements of an enterprise of its state of

affairs and of the profit or loss can be significantly affected by the

accounting policies followed in the preparation and presentation of the

financial statements.

The accounting policies followed vary from enterprise to enterprise.

Disclosure of significant accounting policies followed is necessary if the view

presented is to be properly appreciated. The disclosure of some of the

accounting policies followed in the preparation and presentation of the

financial statements is required by some cases.

The purpose of AS 1 is to promote better understanding of financial

statements by establishing through an accounting standard and the

disclosure of significant accounting policies and the manner in which such

accounting policies are disclosed in the financial statements. Such

disclosure would also facilitate a more meaningful comparison between

financial statements of different enterprises.

To ensure proper understanding of financial statements, it is necessary that

all significant accounting policies adopted in the preparation and

presentation of financial statements should bed is closed. Such disclosure

should form part of the financial statements. It would be helpful to the

reader of financial statements if they are all disclosed at one place instead of

being scattered over several statements, schedules and notes which form

part of financial statements.


Any change in accounting policy, which has a material effect, should be

disclosed. The amount by which any item is in the financial statement is

affected by such change should also be disclosed to the extent

ascertainable. Where such amount is not ascertainable, wholly or in part,

the fact should be indicated.

If a change is made in the accounting policies, which has not material effect

on the financial statements for the current period, which is reasonably

expected to have material effect in latter periods, the fact of such change

should be appropriately disclosed in the period in which the change is

adopted.

The view presented in the financial statements of an enterprise of its state of

affairs and of the profit or loss can be significantly affected by the

accounting policies followed in the preparation and presentation of the

financial statements. The accounting policies followed vary from enterprise

to enterprise. Disclosure of significant accounting policies followed is

necessary if the view presented is to be properly appreciated.

The disclosure of some of the accounting policies followed in the preparation

and presentation of the financial statements is required by some cases. The

purpose of AS 1 is to promote better understanding of financial statements

by establishing through an accounting standard and the disclosure of

significant accounting policies and the manner in which such accounting

policies are disclosed in the financial statements.

Such disclosure would also facilitate a more meaningful comparison

between financial statements of different enterprises. To ensure proper

understanding of financial statements, it is necessary that all significant


accounting policies adopted in the preparation and presentation of financial

statements should be disclosed.

Such disclosure should from part of the financial statements. It would be

helpful to the reader of financial statements if they are all disclosed at one

place instead of being scattered over several statements, schedules and

notes which form part of financial statements.

Any change in accounting policy, which has a material effect, should be

disclosed. The amount by which any item is in the financial statement is

affected by such change should also be disclosed to the extent

ascertainable.

Where such amount is not ascertainable, wholly or in part, the fact should

be indicated. If a change is made in the accounting policies, which has not

material effect on the financial statements for the current period, which is

reasonably expected to have material effect in latter periods, the fact of such

change should be appropriately disclosed in the period in which the change

is adopted.

Concept of True and Fair:

The concept of true and fair is a fundamental concept in auditing. The

phrase true and fair in the auditors report signifies that the auditor is

required to express his opinion as to whether the state of affairs and the

results of the entity as ascertained by him in the course of his audit are

truly and fairly represented in the accounts under audit.

This requires that the auditor should examine the accounts with a view to

verifying that all assets and liabilities, incomes and expenses are stated at
the amounts which are in accordance with accounting principles and

policies, and no material item has been omitted. What constitutes true and

fair has not been defined in the legislation.

However, section 211(5) of the Companies Act, 1956states that the balance

sheet and profit and loss account of a company shall not be treated as not

disclosing a true and fair view of the state of affairs of the company if they

do not disclose any matters which are not required to be disclosed by virtue

of the provisions of Schedule VI to the Companies Act, 1956, or by virtue of

any notification or any order. Therefore the auditor must see that the

accounts are drawn up as per requirements of the provisions of Schedule VI,

and whether they contain all matters required to be disclosed therein.

In case of companies governed by special Acts, say, banking, electricity, etc.

The auditor should see, whether the relevant disclosure requirements are

complied with.

Thus, what constitutes a true and fair view is a matter of the auditors

judgment in the particular circumstances of the case. In specific terms to

ensure truth and fairness, an auditor has to see:

(i) that the assets are neither undervalued or overvalued;

(ii) no material asset is omitted;

(iii) the charge on assets, if any, is disclosed;

(iv) material liabilities should not be omitted, and liabilities are neither

undervalued or overvalued;
(v) accounting policies have been followed consistently;

(vi) all unusual, exceptional, non recurring items have been disclosed

separately;

(vii) accounts have been drawn as per requirement of Schedule VI to the

Companies Act; and

(viii) the accounts have been drawn in compliance to the relevant

accounting standards. In case of deviation from accounting standards,

disclosure should be made of the reasons for such deviation and

financial effects, if any arising due to such deviation.

AUDITING STANDARDS

Generally Accepted Auditing Standards, or GAAS are sets of standards

against which the quality of audits are performed and may be judged.

Several organizations have developed such sets of principles, which vary by

territory.

In the United States, the standards are promulgated by the Auditing

Standards Board, a division of the American Institute of Certified Public

Accountants (AICPA).
AU Section 150 states that there are 10 standards: 3 general standards, 3

fieldwork standards, and 4 reporting standards.

These standards are issued and clarified Statements of Accounting

Standards, with the first issued in 1972 to replace previous guidance.

Typically, the first number of the AU section refers to which standard

applies. However, in 2012 the Clarity Project significantly revised the

standards and replaced AU Section 150 with AU Section 200, which does

not explicitly discuss the 10 standards.

In the United States, the Public Company Accounting Oversight Board

develops standards (Auditing Standards or AS) for publicly traded

companies.

Since the 2002 passage of the Sarbanes-Oxley Act; however, it adopted many

of the GAAS initially. The GAAS continues to apply to non-public companies.

General

The auditor must maintain independence in mental attitude in all

matters related to the audit.

The auditor must have adequate technical training & proficiency to

perform the audit.


The auditor must exercise due professional care during the

performance of the audit and the preparation of the report.

Standards of Field Work

The auditor must adequately plan the work and must properly

supervise any assistants.

The auditor must obtain a sufficient understanding of the entity and

its environment, including its internal control, to assess the risk of

material misstatement of the financial statements.Due to error or

fraud, and to design the nature, timing, and extent of further audit

procedures.

The auditor must obtain sufficient appropriate audit evidence by

performing audit procedures to afford a reasonable basis for an

opinion regarding the financial statements under audit.

ISAs

International Standards on Auditing are stated by the International Auditing

and Assurance Standards Board of the International Federation of

Accountants. Derivatives of ISAs are used in the audit of several other

jurisdictions, including the United Kingdom.

Standards of Reporting
The auditor must state in the auditor's report whether the financial

statements are presented in accordance with generally accepted

accounting principles.

The auditor must identify in the auditor's report those circumstances

in which such principles have not been consistently observed in the

current period in relation to the preceding period.

When the auditor determines that informative disclosures are not

reasonably adequate, the auditor must so state in the auditor's report.

The auditor must either express an opinion regarding the financial

statements, taken as a whole, or state that an opinion cannot be


expressed, in the auditor's report.

When the auditor cannot express an overall opinion, the auditor

should state the reasons therefore in the auditor's report. In all cases

where an auditor's name is associated with financial statements.

The auditor should clearly indicate the character of the auditor's work,

if any, and the degree of responsibility the auditor is taking, in the

auditor's report.

Clarity Project

In 2004, a project was begun to clarify and converge the standards with the

International Standards in Auditing (ISAs). Many of the AU sections are

being remapped as part of the Clarity Project. In October 2011, SAS 122 was

issued which superseded all previous SASes except 51, 59, 65, 87, and 117-

20. In the interim period, these new AU sections are referred to as AU-C

until 2014. The AICPA provides a list of the AU-C standards.

Process of Auditing
What is the concept and process of auditing? During the 1960s and 1970s,

audit professionals in many countries independently developed theories of

auditing that could be applied to examination of many different areas,

including financial statements. While practitioners may have differences of

opinion as to the application of certain of the underlying concepts, the basic

framework is generally accepted by auditors and the public. This framework

has been codified in many countries around the world and is often called

Generally Accepted Auditing Standards (GAAS).

The fundamental responsibility of an auditor of a not-for-profit organization

is to obtain evidence to determine the degree to which assertions in the

financial statement under audit compare to established generally accepted

accounting criteria. The four concepts in the above statement that require

an explanation are:

1. financial statement assertions

2. established generally accepted accounting criteria

3. obtaining evidence

4. comparison of financial statement assertions with established accounting

criteria.

Financial statement assertions

A set of financial statements is created by management to communicate

information to a variety of readers about a series of financial transactions


occurring in a prior period, most often a year. The information in the

financial statements contains certain assertions made by management.

Assertions include:

existence that an asset or a liability of the organization exists at a

given date

occurrence that a recorded transaction took place involving the

organization

completeness that there are no unrecorded assets, liabilities or

transactions

ownership that an asset is owned or a liability is owed by the

organization at a given date

valuation that an asset or liability is recorded at an appropriate

value

measurement that a revenue or expense transaction is recorded in

the proper amount and in the appropriate period

statement presentation that an item is disclosed in accordance with

generally accepted accounting principles (GAAP).

To help clarify the concept of an assertion, take as an example the caption

cash in a statement of financial position. As cash is classified as an asset,

the reader is entitled to assume that the cash both exists and is owned by

the organization.
Existence and ownership are key accounting assertions relating to the asset

category of cash.

As another example, the assertions for accounts payable and accrued

liabilities would be those of completeness, that all the liabilities that should

be recorded have been recorded, and valuation, that the liabilities recorded

are valued correctly (i.e. they are not over or under stated).

The assertions for a revenue item such as membership fees would include:

occurrence, that the revenue was earned by the organization; ownership,

that the fees did not belong to another organization; and completeness, that

all the revenue that was earned was recorded.

The assertions contained in financial statements come from the accounting

process. Accounting paints a picture of past financial transactions and

communicates this to the reader. The auditing process, on the other hand,

uses generally accepted criteria to provide an objective opinion as to whether

the financial statements accurately reflect the accounting assertions.

Established Generally Accepted Accounting Criteria

The criteria used to generate financial statements have been developed

through a quasi-legislative process over the last forty years in a number of

countries including Canada, the UK , the USA and Australia. The criteria

are called GAAP Generally Accepted Accounting Principles. GAAP in

Canada at the present time includes:

standards promoted by the Canadian Institute of Chartered

Accountants (CICA) Accounting Standards Board


common principles and practices that have gained general acceptance

in the spirit of existing standards for those areas where the CICAs

Accounting Standards Board is silent.

Summary

In summary, an audit is a cumulative process that starts with planning and

moves to gathering and evaluating of evidence. In determining the amount of

evidence to be obtained in the verification procedures, the auditor must

specifically assess the risk that a material misstatement in the financial

statements will not be identified during the audit process.

Once the auditor has obtained sufficient evidence and performed sufficient

verification then he or she will draw a conclusion as to whether the financial

statements are, in all material respects, fairly presented in accordance with

generally accepted accounting principles. This opinion will be presented to

readers in the auditors report.

Bibliography

The following sources were essential for the preparation of this article:

Auditing: An Integrated Approach, W.M. Lemon, A.J. Arens & J.K.

Loebbecke 1997

The CICA Handbook

The IAASB Handbook http://web.ifac.org/publications


CICA Report of the Commission to Study the Publics Expectations of

Audits 1988

The External Audit, R.J. Anderson 1977

The Philosophy of Auditing, R.K. Mautz & H.A. Sharaf 1961

References

Note that AU stands for audit, not separate words. See Alphabet Soup:
A Directors Guide to Financial Literacy and the ABCs of Accounting
and Auditing.

Jump up ^ AU Section 150: Generally Accepted Auditing Standards.


AICPA.

Jump up ^ Morris JT, Thomas T. (2011). Clarified Auditing Standards:


The Quiet Revolution. Journal of Accountancy.

Jump up ^ Summary of Differences Between Clarified SASs and


Existing SASs. AICPA.

Jump up ^ The AICPAs Guide to Clarified and Converged Standards


for Auditing and Quality Control. AICPA.

^ Jump up to: a b Clarity Project: Questions and Answers.

Jump up ^ Clarified Statements on Auditing Standards. AICPA.