Auditing and Professional Practice: Case Studies and Procedures

This report discusses auditing and professional practices with case studies and procedures. It covers topics like audit planning, test of controls, substantive approach, depreciation expenses, financial reporting, and auditing. The report also highlights the correlation between communicating financial information and auditing of financial statements.

Auditing and
Professional Practice

1
By student name
Professor
University
Date: 25 April 2018.
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Executive Summary
A report has been prepared on the auditing and professional practices being followed around the
world. In the given report, 3 case studies has been given and each one of them has been
discussed with regards to the audit planning and procedures to be practiced. In the 1st case study,
three independent issues or situations have been analysed for the main audit planning issues that
needs to be taken care off in the planning documents. In the 2nd case study, general issues with
respect to the test of control and substantive approach to be followed while auditing has been
discussed along with the assessment as to how they are effective in assessing the risks. Audit
procedures required to check the accuracy and completeness of the calculation of depreciation
expenses in the given example has also been discussed. Lastly, in the 3rd case study, the
connection between the reporting of the financial information and the auditing has been
discussed with the help of the examples.
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Contents
Introduction.................................................................................................................................................4
Case study 1................................................................................................................................................4
Case study 2................................................................................................................................................6
Case study 3................................................................................................................................................8
References.................................................................................................................................................10
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Introduction
Auditing is the process by which examination of the books of accounts of an entity is being
carried out, be it profit making or non profit making, small or big, public or private with the
objective of expressing an opinion on the financial statements of the entity as to whether they
showing true and fair view of affairs of the business. It is the process which gives the reasonable
assurance to te users of the financial statements that the financial statements are showing true
and fair view and that they are free from frauds and errors and that all the material misstatements
have been highlighted (Alexander, 2016). It also assures the users that the auditor has given his
opinion based on sufficient and appropriate audit evidences collected through a series of audit
procedures which includes planning, documentation of the audit working papers and the audit
evidences, reporting of the same in the audit report and closure of the same. Audit is being
conducted through a variety of procedures like the susbstantive and analytical audit procedures.
Auditors generally employ substantive audit procedures which includes vouching of incomes and
expenses and verification of the assets and the liabilities or analytical audit procedures which
includes ratio analysis, trend analysis, variance analysis, etc. The test of detail and the test of
controls are also being used so as to improve the quality of the financial information. These
topics have been extensively discussed below through the help of the case studies (Bizfluent,
2017).
Case study 1
a. Here, in the given case since the property is being developed on a major scale and there is
a downturn in the property sector due to which there are no buyers of the property, the
major risk in the planning document of developer is testing of rules and regulations that
needs to be complied in relation to provision of the property development services. The
given company City Limited is in the the real state factor which is mainly being driven by
the market forces of demand and supply but off late there has been an industry downturn
and office space city is available in abundance (Belton, 2017). The major audit issues
which may be highlighted here is the nature and type of transactions in which the
company has been involved, whether they only deal in the commercial properties or even
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the residential properties also forms the part of their portfolio, the rates that are being
charged from the clients, whether it is as per market rates or excessive and finally what
are the kind of services being provided by the builder.
b. There may be various audit issues which may be included here in the audit planning
document for the purchase of the new computer software like conducting substantive
testing which evidentiates the need for the software, validating the invoice for the
purchase, checking the annual maintenance contract for the same with the vendor of the
software, whether or not the purchase of the software has been made at the correct market
rate or excessive payment has been made (Bromwich & Scapens, 2016). Another audit
issue may be with respect to the accounting of the software as an intangible asset in the
books and what are the provisions or steps being taken by the company in regard to the
physical verification of the asset as per the financial reporting framework and IFRS
framework. The management representation letter may also be asked from the
management which is to justify the purchase of the software increasing the efficiency in
reporting and effectiveness in the business operations. As a part of the audit process, the
liasoning with the legal team with respect to the licensing agreement of the software and
compliance with the other regulations and guidelines might also be checked as a part of
audit. Besides this the term of the software is very critical as it will help in determining
whether it should be charged to P/L on straight line basis or it should be capitalised in
books (Werner, 2017).
c. Beauty Pty Limited is a company which is opening an overseas sales branch or outlet and
is engaged in the manufacturing of the healthcare, skincare and cosmetic products and
therefore the main audit points would be compliance with the health and safety standards
which are applicable on the manufacturing entities as per the laws of the land. Also, since
it is an overseas branch, so the regulatory and legal compliance procedures may be
checked along with the government policies of the country in which the branch is opened
as well as the parent organization country. The FDI norms needs to be taken care off and
physical verification of the inventory needs to be ensured as the same is being directly
transferred from Australia (Trieu, 2017). The proper stock count should be maintained in
Australian books even though the same will be used as sample in the new overseas
branch. Furthermore, the audit planning document should also incorporate the checking
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of the marketing policy of the company as to whether or not there is a need for the
distribution of samples for marketing of the product. The audit should also include the
check on the internal controls being set up by the company for the new sales outlet being
opened. This will help in detection of the risks upfront (Raiborn, Butler, & Martin, 2016).
Case study 2
a. Given below is the difference between the use of the test of controls and the susbstantive
approach and what the general issues with respect to the use of the same:
Test of controls: It is generally testing of the internal controls being implemented by the
company in order to ensure accuracy, minimum errors and misstatements and better
control on the operations as well as reporting of the business performance. In case this is
being used by the auditor it shows the efficiency with which the internal operations
within the company are being performed as these test of controls are primarily aimed at
ensuring smooth and effective organizational processes. These are effective in
identification of the control risks and inherent risks in the business (Chron, 2017).
Substantive approach: On the other hand, these are few procedures being performed by
the auditors to check the material misstatements or fraud in the financial statement
analysis. This includes comparison of the actual data with the assertion level and includes
procedures like vouching of incomes and expenses and verification of the assets and
liabilities notwithstanding what is being shown or provided directly by management
(Defond & Lennox, 2017).
The general issues which are being considered as to whether the test of control should be
used or substantive procedures should be used while auditing depends on the materiality
level set by the auditor as per their judgement or the level of error tolerance. The
effectiveness of the internal control in the organization is also critical to deciding whether
test of control will be enough for audit opinion or the test of detail would also be required
for appropriateness and sufficiency of the audit evidences. Audit procedures undertaken
are also influenced by the level of inherent, control and detection risk pertaining to an
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entity (Heminway, 2017). The more the inherent and control risk, the more the need to
perform the substantive audit procedures.
b. The choice of audit approach is influenced by the risk assessments as inherent risk is the
risk of presence of the mistatatment in financials when the internal controls are not in
place for an entity, on the other hand, control risk is the audit risk which arises when even
though the internal controls are in place but they are not as effective and efficient to
prevent the occurrence of frauds and errors in the financial statements. Lastly, detection
risk is the risk that the internal controls are strong due to which the frauds and errors
would not be identified by the audit procedures. All these risks directly affect the choice
of the audit approach as more the inherent and control risk, more will be substantive and
analytical audit procedures required alongwith the test of controls. More the detection
risk, more intensive the audit procedures to identify the errors and frauds (Dichev, 2017).
The level of risk in entity determines the level of materiality assumed by the auditor and
if the internal control is strong, less will be substantive procedures required. Thus, the
risk assessment for each of the above mentioned transactions like the disclosure and
existence of the leased assets, depreciation expense accounting, risghts and obligations
w.r.t. vehicles and valuation of the vehicles will use different audit procedures in order to
form an opinion on the same.
c. Depreciation may be defined as the true up in the value of the asset as the asset undergoes
the wear and tear while being used in the business and the same should be charged to
expense periodically. The approach which is generally being set out in the planning
document to verify the accuracy and completeness of the depreciation expenses is
employing test of controls instead of substantive procedures as on the balance sheet date.
In the given case, the inherent as well as the control risk with respect to the charging of
the depreciation on assets is low which indicates that the internal control is strong but at
the same time there may be a huge detection risk too (Goldmann, 2016). Therefore, in
this case, the auditor needs to adopt the test of details alongwith the extensive substantive
procedures as the chances that the frauds and errors will not be identified is high. Hence,
the approach set out in the planning document should be different here as initially it was
more test of details instead of substantive procedures. Some of the substantive procedures
which will be employed here are checking the rates of depreciation, date of capitalization
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of assets, the period being considered for depreciation, the historical cost of the fixed
assets and the disclosures with regards to depreciation amount being considered in
financial statements.
Case study 3
Financial Reporting is the process of generating and presenting the financial information with
regards to an entity in the form of the financial statements which is generally beuing prepared as
per the local GAAP, IFRS or the accepted financial accounting framework. It is a very critical
process and essential in terms of communicating the performance of the entity or the
organization to the users of the financial information (Knechel & Salterio, 2016). The users may
be internal or external. Internal stakeholders include the shareholders of the company, the
employees, the debtors, creditors, etc. External stakeholders include the bank, financial
institutions, the government, tax authorities, etc. The management of the company is responsible
for the preparation of the financial statements and their final generation and presentation in the
annual report of the company. This needs to be prepared in the manner which meets the needs of
the users of the financial statements and which suffices the financial reporting framework. All
this information of the financial transactions are being included in the financial statements for
effective and accurate financial reporting.
On the other hand, auditing is the process which is a post facto activity to the preparation of the
financial statement and is undertaken by the auditor to check whether the financial statements are
free from misstatements, frauds and errors. This is aimed at providing assurance to the users of
the financial statements that the same is showing the true and fair view of the state of accounts of
the entity as on the given presentation date (Raiborn, Butler, & Martin, 2016). The auditor who is
an external party to the company does this actity applying the professional skill and care and
judgement and scepticism. He checks the appropriateness and sufficieny of the audit evidences
collected and tehn expresses his opinion thereof. This serves just as an assurance and not the
guarantee on the financial statements of an entity as the preparation is the responsibility of the
management of the company.
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There is big correlation between communicating of the financial information to the relevant
statekholders and auditing of the financial statements as it is auditing which forms the basis of
communicating the financial information. Reporting is being donw so that the accurate and
relevant financial information can be passed on to the intended users for decision making
purposes. Auditing is a stage or process which starts after reporting or presentation cum
preparation of the financial statements and the reliability of the same is formed through the audit
opinion (Jefferson, 2017). Thus, there is an integration between the reporting of the financial
information in the logical and sequential manner supported by audit which gives reasonable
assurance about the reliability of the information which is being reported and that there are free
from errors and fraud. The decision of the major stakeholders, be it internal or external depends
on the financial information communicated. Hence, not only reporting of information but the
ensuring the reliability of the same through audit is equally important.
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References
Alexander, F. (2016). The Changing Face of Accountability. The Journal of Higher Education, 71(4), 411-
431.
Belton, P. (2017). Competitive Strategy: Creating and Sustaining Superior Performance. London: Macat
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https://bizfluent.com/info-8064250-advantages-disadvantages-internal-control.html
Bromwich, M., & Scapens, R. (2016). Management Accounting Research: 25 years on. Management
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Defond, M., & Lennox, C. (2017). Do PCAOB Inspections Improve the Quality of Internal Control Audits?
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Dichev, I. (2017). On the conceptual foundations of financial reporting. Accounting and Business
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Goldmann, K. (2016). Financial Liquidity and Profitability Management in Practice of Polish Business.
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Heminway, J. (2017). Shareholder Wealth Maximization as a Function of Statutes, Decisional Law, and
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Knechel, W., & Salterio, S. (2016). Auditing:Assurance and Risk (fourth ed.). New York: Routledge.
Raiborn, C., Butler, J., & Martin, K. (2016). The internal audit function: A prerequisite for Good
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Trieu, V. (2017). Getting value from Business Intelligence systems: A review and research agenda.
Decision Support Systems, 93, 111-124.
Werner, M. (2017). Financial process mining - Accounting data structure dependent control flow
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