AUDITING
ACCOUNTING TECHNICIAN DIPLOMA
ATD LEVEL III
STUDY TEXT
CONTENT
- Nature, purpose and scope of auditing
- Definition of auditing, auditor and an audit
- Explain the principles and processes of an audit
- Differences between auditing and accounting
- The types and timing of audits Consider internal versus external and a focus on the complimentary role of internal to external, interim and final
- The users of audited financial statements and auditor reports
- Planning for the audit
- Objectives of planning for the audit work
- Audit plan for a new client
- Audit plan for an existing client
- Developing an overall audit plan
- Limitations of audit plans
- Internal control system
- Definition of internal controls and internal control systems
- Purpose of internal control system
- Designing an internal control system
- Benefits and limitations of internal control system
- General controls on:
- Sales
- Purchases
- Cash and bank
- Inventory
- Errors and fraud
- Definition of error and fraud
- Differences between error and fraud
- Types of errors and fraud
- Audit evidence
- Nature and source of audit evidence
- Types of audit evidence
- Gathering audit evidence
- Reliance on the work on internal auditor
- Contents of audit working papers (excluding their preparation)
- Audit tests
- Compliance tests
- Substantive tests
- Analytical tests
- Risk based audit
- Definition of audit risks
- Types of audit risks
- Computerised auditing
- Benefits and drawbacks of computerised accounting systems
- Computer Aided Auditing Techniques (CAATs); Auditing around and through the computer
- Auditor’s report
- Purpose of the auditor’s report
- Elements of the auditor’s report
- Types of audit reports
- Professional ethics
- Importance of professional ethics
- Fundamental ethical principles
- Emerging issues and trends
TOPICS PAGE NUMBER
Topic 1: Nature, purpose and scope of auditing………..…5
Topic 2: Planning for the audit……………………………….…63
Topic 3: Internal control system …………………………..……78
Topic 4: Errors and fraud………………………………………….99
Topic 5: Audit evidence……………………………………………108
Topic 6: Risk based audit………………………….……………..132
Topic 7: Computerised auditing…………………………………138
Topic 8: Auditor’s report…………………………………………….161
Topic 9: Professional ethics………………………………………..180
Revised on: June 2019
TOPIC 1
NATURE, PURPOSE AND SCOPE OF AUDITING
KASNEB SAMPLE NOTES
DEFINITION OF AUDITING, AUDITOR AND AN AUDIT Auditing
The Institute of Certified Public Accountants of Kenya (ICPAK) defines auditing as the independent examination of and expression of opinion on, the financial statements of an enterprise by an appointed auditor in pursuance of that appointment and in compliance with any relevant statutory obligation,
Auditing the independent examination of and expression of opinion on, the financial statements of an enterprise by an appointed auditor in pursuance of that appointment and in compliance with any relevant statutory obligation
Auditor—“Auditor” is used to refer to the person or persons conducting the audit, usually the engagement partner or other members of the engagement team, or, as applicable, the firm. Where an ISA expressly intends that a requirement or responsibility be fulfilled by the engagement partner, the term “engagement partner” rather than “auditor” is used. “Engagement partner” and “firm” are to be read as referring to their public sector equivalents where relevant.
An official whose job it is to carefully check the accuracy of business records. An auditor can be either an independent auditor unaffiliated with the company being audited or a captive auditor, and some are elected public officials. The term is sometimes synonymous with “comptroller.” Auditors are used to ensure that organizations are maintaining accurate and honest financial records and statements
Audit This is the independent investigation into the quality of published accounting information.
An audit is the independent examination of and expression of an opinion on the financial statements of an economic entity by appointed auditor in pursuance of that appointment and in compliance with any relevant statutory obligation.
The objective of an audit is to enable the auditor express an opinion whether financial statements show a true and fair view of the company state of affairs in accordance with an identified financial reporting framework.
The purpose of an audit is not to provide additional information but rather it is intended to provide the users of the accounts with assurance that the information provided to then by directors is reliable. However, the users should not assume the auditor’s opinion is one to efficiency with which management has conducted the affairs of the entity.
CONDUCT OF AN AUDIT
Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with International Standards on Auditing (LAS 200)
The objective of an audit of financial statements is to enable the auditor to express an opinion on whether the financial statements are prepared, in all material respects, in accordance with an applicable financial reporting framework.
- This International Standard on Auditing (ISA200) deals with the independent auditor’s overall responsibilities when conducting an audit of financial statements in accordance with ISAs. Specifically, it sets out the overall objectives of the independent auditor, and explains the nature and scope of an audit designed to enable the independent auditor to meet those objectives. It also explains the scope, authority and structure of the ISAs, and includes requirements establishing the general responsibilities of the independent auditor applicable in all audits, including the obligation to comply with the ISAs. The independent auditor is referred to as “the auditor” hereafter.
- ISAs are written in the context of an audit of financial statements by an auditor. They are to be adapted as necessary in the circumstances when applied to audits of other historical financial information. ISAs do not address the responsibilities of the auditor that may exist in legislation, regulation or otherwise in connection with, for example, the offering of securities to the public. :Such responsibilities may differ from those established in the ISAs. Accordingly, while the ;auditor may find aspects of the ISAs helpful in such circumstances, it is the responsibility of the Uuditor to ensure compliance with all relevant legal, regulatory or professional obligations.
KASNEB SAMPLE NOTES
Scope of the Audit
The auditor’s opinion on the financial statements deals with whether the financial statements are prepared, in all material respects, in accordance with the applicable financial reporting framework. Such an opinion is common to all audits of financial statements.
- The auditor’s opinion therefore does not assure, for example, the future viability of the entity nor the efficiency or effectiveness with which management has conducted the affairs of the entity. In some jurisdictions, however, applicable law or regulation may require auditors to provide opinions on other specific matters, such as the effectiveness of internal control, or the consistency of a separate management report with the financial statements.
- While the ISAs include requirements and guidance in relation to such matters to the extent that they are relevant to forming an opinion on the financial statements, the auditor would be required to undertake further work if the auditor had additional responsibilities to provide such opinions.
An Audit of Financial Statements
The purpose of an audit is to enhance the degree of confidence of intended users in the financial statements. This is achieved by the expression of an opinion by the auditor on whether the financial statements are prepared, in all material respects, in accordance with an applicable financial reporting framework. In the case of most general purpose frameworks, that opinion is on whether the financial statements are presented fairly, in all material respects, or give a true and fair view in accordance with the framework. An audit conducted in accordance with ISAs and relevant ethical requirements enables the auditor to form that opinion
The financial statements subject to audit are those of the entity, prepared by management of The entity with oversight from those charged with governance. ISAs do not impose responsibilities on management or those charged with governance and do not override laws and regulations that govern their responsibilities. However, an audit in accordance with ISAs is conducted on the premise that management and, where appropriate, those charged with governance have acknowledged certain responsibilities that are fundamental to the conduct of the audit. The audit of the financial statements does not relieve management or those charged with governance of their responsibilities:
As the basis for the auditor’s opinion, ISAs require the auditor to obtain reasonable assurance about whether the financial statements as a whole are free from material misstatement, whether due to fraud or error. Reasonable assurance is a high level of assurance. It is obtained when the auditor has obtained sufficient appropriate audit evidence to reduce audit risk (that is, the risk that the auditor expresses an inappropriate opinion when the financial statements are materially misstated) to an acceptably low level. However, reasonable assurance is not an absolute level of assurance, because there are inherent limitations of an audit which result in most of the audit evidence on which the auditor draws conclusions and bases the auditor’s opinion being persuasive rather than conclusive.
The concept of materiality is applied by the auditor both in planning and performing the audit, and in evaluating the effect of identified misstatements on the audit and of uncorrected misstatements, if any, on the financial statements. In general, misstatements, including omissions; are considered to be material if, individually or in the aggregate, they could reasonably be expected to influence the economic decisions of users taken on the basis of the financial statements. Judgments about materiality are made in the light of surrounding circumstances, and are affected by the auditor’s perception of the financial information needs of users of the financial statements, and by the size or nature of a misstatement, or a combination of both… The auditor’s opinion deals with the financial statements as a whole and therefore the auditor is not responsible for the detection of misstatements that are not material to the financial statements as a whole.
The ISAs contain objectives, requirements and application and other explanatory material that are designed to support the auditor in obtaining reasonable assurance. The ISAs require that the auditor exercise professional judgment and maintain professional skepticism throughout the planning and performance of the audit and, among other things:
Identify and assess risks of material misstatement, whether due to fraud or error, based on an understanding of the entity and its environment, including the entity’s internal control. Obtain sufficient appropriate audit evidence about whether material misstatements exist, through designing and implementing appropriate responses to the assessed risks.
Form an opinion on the financial statements based on conclusions drawn from the audit evidence obtained.
The form of opinion expressed by the auditor will depend upon the applicable financial reporting framework and any applicable law or regulation.
The auditor may also have certain other communication and reporting responsibilities to users, management, those charged with governance, or parties outside the entity, in relation to matters arising from the audit. These may be established by the ISAs or by applicable law or regulation.
Preparation of the Financial Statements
- Law or regulation may establish the responsibilities of management and, where appropriate, those charged with governance in relation to financial reporting.
- However, the extent of these responsibilities, or the way in which they are described, may differ across jurisdictions. Despite these differences, an audit in accordance with ISAs is conducted on the premise that management and, where appropriate, those charged with governance have acknowledged and understand that they have responsibility:
- For the preparation of the financial statements in accordance with the applicable financial reporting framework, including, where relevant, their fair presentation;
- h) For such internal control as management and, where appropriate, those charged with governance determine is necessary to enable the preparation of financial statements that are free from material misstatement, whether due to fraud or error; and
- To provide the auditor with:
- Access to all information of which management and, where appropriate, those charged with governance are aware that is relevant to the preparation of the financial statements such as records, documentation and other matters;
- Additional information that the auditor may request from management and, where appropriate, those charged with governance for the purpose of the audit; and Unrestricted access to persons within the entity from whom the auditor determines it necessary to obtain audit evidence.
The preparation of the financial statements by management and, where appropriate, those charged with governance requires:
- The identification of the applicable financial reporting framework, in the context of any relevant laws or regulations.
- The preparation of the financial statements in accordance with that framework.
- The inclusion of an adequate description of that framework in the financial statements.
The preparation of the financial statements requires management to exercise judgment in making accounting estimates that are reasonable in the circumstances, as well as to select and apply appropriate accounting policies. These judgments are made in the context of the applicable financial reporting framework.
The financial statements may be prepared in accordance with a financial reporting framework designed to meet:
- The common financial information needs of a wide range of users (that is, “general purpose financial statements”); or
- The financial information needs of specific users (that is, “special purpose financial statements”).
- The applicable financial reporting framework often encompasses financial reporting standards established by an authorized or recognized standards setting organization, or legislative or regulatory requirements. In some cases, the financial reporting framework may encompass both financial reporting standards established by an authorized or recognized standards setting organization and legislative or regulatory requirements.
- Other sources may provide direction on the application of the applicable financial reporting framework. In some cases, the applicable financial reporting framework may encompass such other sources, or may even consist only of such sources. Such other sources may include:
- The legal and ethical environment, including statutes, regulations, court decisions, and professional ethical obligations in relation to accounting matters;
- Published accounting interpretations of varying authority issued by standards setting, professional or regulatory organizations;
- Published views of varying authority on emerging accounting issues issued by standards setting, professional or regulatory organizations;
- General and industry practices widely recognized and prevalent; and
- Accounting literature.
- Where conflicts exist between the financial reporting framework and the sources from which direction on its application may be obtained, or among the sources that encompass the financial reporting framework, the source with the highest authority prevails.
- The requirements of the applicable financial reporting framework determine the form and content of the financial statements. Although the framework may not specify how to account for or disclose all transactions or events, it ordinarily embodies sufficient broad principles that can serve as a basis for developing and applying accounting policies that are consistent with the concepts underlying the requirements of the framework.
- Some financial reporting frameworks are fair presentation frameworks, while others are compliance frameworks. Financial reporting frameworks that encompass primarily the financial reporting standards established by an organization that is authorized or recognized to promulgate standards to be used by entities for preparing general purpose financial statements are often designed to achieve fair presentation, for example,
- International Financial Reporting Standards (IFRSs) issued by the International
- Accounting Standards Board (IASB).
- The requirements of the applicable financial reporting framework also determine what constitutes a complete set of financial statements. In the case of many frameworks, financial statements are intended to provide information about the financial position, financial performance and cash flows of an entity.
- For such frameworks, a complete set of financial statements would include a balance sheet; an income statement; a statement of changes in equity; a cash flow statement; and related notes. For some other financial reporting frameworks, a single financial statement and the related notes might constitute a complete set of financial statements:
- For example, the International Public Sector Accounting Standard (IPSAS), Financial Reporting under the Cash Basis of Accounting, issued by the International Public Sector
- Accounting Standards Board states that the primary financial statement is a statement of cash receipts and payments when a public sector entity prepares its financial statements in accordance with that IPSAS.
- Other examples of a single financial statement, each of which would include related notes, are:
- Balance sheet.
- Statement of income or statement of operations.
- Statement of retained earnings.
- Statement of cash flows
- Statement of assets and liabilities that does not include owner’s equity
- Statement of changes in owners’ equity.
- Statement of revenue and expenses.
- Statement of operations by product lines.
KASNEB SAMPLE NOTES
TOPIC 4
ERRORS AND FRAUD
DEFINITION OF ERROR AND FRAUD
Misstatements in the financial statements can arise from fraud or error.
The term “error” refers to an unintentional misstatement in financial statements, including the omission of an amount or a disclosure, such as:
- a mistake in gathering or processing data from which financial statements are prepared;
- an incorrect accounting estimate arising from oversight or misinterpretation of facts; and
- a mistake in the application of accounting principles relating to measurement, recognition, classification, presentation, or disclosure.
- The term ” fraud” refers to an intentional act by one or more individuals among
management, those charged with governance, employees, or third parties, involving the use of deception to obtain an unjust or illegal advantage. Although fraud is a broad legal concept, the auditors are concerned with fraudulent acts that cause a material misstatement in the financial statements. Misstatement of the financial statements may not be the objective of some frauds.
Auditors do not . make legal determinations of whether fraud has actually occurred. Fraud involving one or more members of management or those charged with governance is referred to as “management fraud”; fraud involving only employees of the entity is referred to as “employee
KASNEB SAMPLE NOTES
TOPIC 8
AUDIT REPORT
INTRODUCTION
An audit report is a written opinion of an auditor regarding an entity’s financial statements. The report is written in a standard format, as mandated by international standard reporting
An audit report may also be described as an an appraisal of A business‘s complete financial status. Completed by an independent accounting professional, this document covers a company‘s assets and liabilities, and presents the auditor‘s educated assessment of the firm‘s financial position and future. Audit reports are required by law if a company is publicly traded or in an industry regulated by the Securities and Exchange Commission. Companies seeking funding, as well as those looking to improve internal controls, also find this information valuable. There are four types of audit report
Companies Act stipulates the statements that should be expressly stated in the auditor‘s report. These are;
- Whether they have obtained all the information and explanations which to the best of their knowledge and belief were necessary for the purposes of their audit.
- Whether in their opinion, proper books of account have been kept by the company, so far as appears from their examination of those books, and proper returns adequate for the purposes of their audit have been received from branches not visited by them.
- 3.Whether the company’s balance sheet and (unless it is framed as a consolidated profit and loss account) profit and loss account dealt with by the report are in agreement with the books of account and returns.
- Whether, in their opinion and to the best of their information and according to the explanations given to them, the said accounts give the information required by this Act in the manner so required and give a true and fair view—
- in the case of the balance sheet, of the state of the company’s affairs as at the end of its financial year; and
- in the case of the profit and loss account, of the profit or loss for its financial year; or, as the case may be, give a true and fair view thereof subject to the non-disclosure of any matters (to be indicated in the report) which by virtue of Part III of the Sixth Schedule are not required to be disclosed.
- In the case of a company which is a holding company and which submits group accounts whether, in their opinion, the group accounts have been properly prepared in accordance with the provisions of this Act so as to give a true and fair view of the state of affairs and profit or loss of the company and its subsidiaries dealt with thereby, so far as concerns members of the company, or, as the case may be, so as to give a true and fair view thereof subject to the non- disclosure of any matters (to be indicated in the report) which by virtue of Part III of the Sixth Schedule are not required to be disclosed. When financial statements are finalised, they usually must contain an evaluation – an auditor’s report from a licensed accountant or auditor. This report provides an overview of the evaluation of the validity and reliability of a company or organization‘s financial statements.
PURPOSE OF THE AUDITORS REPORT
The main purpose of an auditor’s report is to document reasonable assurance that a company‘s financial statements are free from error.
An audit of a company‘s financial statements should result in a report wherein the accountant or auditor is free to share their opinion about the validity and reliability of a company‘s financial statements.
In this report, the auditor should provide an accurate picture of the company and their financial statements. The auditor should also state whether they are externally or internally connected to the company.
Within the report, the auditor can share any reservations about the condition of the company‘s finances or relevant additional information. Reservations could arise if the auditor disagrees with something found in the financial statements, e.g. if the auditor disagrees with management about the valuation of an asset because they believe that this has a more significant impact on the financial statements.
In the report there are rules concerning what an auditor’s report should include and the order in which various items should be reported.
Auditor’s reports must adhere to accepted standards established by governing bodies. The governing bodies help to assure external users that the auditor’s opinion on the fairness of financial statements is based on a commonly accepted framework.
KASNEB SAMPLE NOTES
ELEMENTS OF THE AUDITORS REPORT
Basic elements of auditor’s report
The Companies Act does not stipulate the form the auditor’s report should take. The auditing standards seek to ensure that the auditor’s report is clear and unambiguous. To this end, it seeks to standardize the form of the auditor’s report.
It does this by giving the basic elements of the auditor’s report.
Appropriate report title
Auditing standards require that the report be titled and that the title includes the word `independent’ e.g. independent auditors report’. The requirement that the title includes the word independent is intended to convey to users that the audit was unbiased in all aspects. The title should indicate that the report is by an independent auditor to confirm all the relevant ethical Standards have been met
Address
The auditor’s report shall be addressed as required by the circumstances of the engagement. The report is usually addressed to the company, its stockholders or the board of directors. For practical reasons, it limits the users of auditor’s report.
Introductory paragraph
The first paragraph has three purposes, fist, it makes a statement that the practice did an audit. Secondly, it lists all the financial statements that were audited including the balance sheet dates and accounting periods for the income statement and cash flow statement. The wording of the financial statements in the report should be identical to those used by management on the financial statements. –
Thirdly, the introductory paragraph states that the statements are the responsibility of management and that the auditor’s responsibility is to express an opinion on the statements based on the audit.
The introductory paragraph in the auditor’s report shall:
- Identify the entity whose financial statements have been audited;
- State that the financial statements have been audited;
- Identify the title of each statement that comprises the financial statements;
- Refer to the summary of significant accounting policies and other explanatory information; and
- Specify the date or period covered by each financial statement comprising the financial statements.
Scope paragraph
This paragraph is a factual statement about what the auditor did in the audit. This paragraph states how the audit was planned and performed in accordance with ISAs and states that the audit is designed to obtain reasonable assurance whether the financial statements are free of material misstatements
KASNEB SAMPLE NOTES
