Auditing Theory and Practice - Desklib

This article discusses the importance of materiality, trend analysis, and audit procedures in auditing theory and practice. It also provides insights on analytical review and fraud risk factors. The article is relevant for students studying auditing and accounting courses in universities and colleges.

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Auditing Theory and Practice

Executive summary
An Audit can be conduct internally by the workers or heads of the specific division and
outwardly by any outside firm or the individual auditor. The concept of audit is to evaluate
and check the accounts by the self-regulating authority to make sure that the books of
accounts are prepared fairly and there is no fraud or misrepresentation, which is being made
(Louwers, et. al, 2015).
In the following parts, the audit practice, concept of assessment of materiality and factor of
fraud risk is discussed and examined.

Contents
Introduction................................................................................................................................4
Concept of Materiality...............................................................................................................4
Trend Analysis of Income Statement.........................................................................................7
Analytical Review......................................................................................................................8
Audit Procedures........................................................................................................................9
Conclusion................................................................................................................................10

Introduction
An audit the basic practice involved in the transactions, which needs the inspection of the
financial statements of the corporation, firm, person and various enterprises. An audit refers
to the scrutiny or assessment of several books of accounts by the auditors followed by
physical valuation of the stock and asset to ensure that all divisions are following recognized
system of recording dealings. It is done to check and determine the correctness of the
financial statements given by the company. The audit firm requires the proper arrangement
and the implementation and for similar trial balance has been examined, the possible areas as
well as the non-potential areas are verified for making the views. Further materiality is a
concept within auditing and accounting concerning to the significance of an amount or deals.
The main object of an audit of financial statements is to make able the auditors to express
views whether financial statements are arranged in the material respects.
Concept of Materiality
The trial balance of the Chestnut Enterprises is given below-
Chestnut
Enterprises
Trial Balance
Jul 1, 2016 -
Dec 31, 2016
Jul 1, 2015 -
June 30, 2016
Debit Credit Debit Credit
Cash at Bank 70000 73000

Accounts receivable 120750 122750
Inventory 185000 174000
Machinery 71000 64000
Accumulated
Depreciation 28138 24000
Motor Vehicles 66000 66000
Accumulated
Depreciation 24785 21000
Furniture 7400 7400
Accumulated
Depreciation 2580 2200
Bank Loan 230000 230000
Sales 98975 187450
Cost of sales 30525 63595
Consultancy fee 29625 57000
Interest income 24 50
Bank charges 174 350
Depreciation 8283 15738
Interest expense 5750 11500
Printing 185 375
Repair and
maintenance 720 5050
Wages 26285 53000
Superannuation 1997 4770

Total 594069.00
414127.0
0 661528 521700
Answer to question 1
The materiality concept is fundamental in both the accounting and audit. It is related to the
important and amount of the operation or inconsistency. The materiality factor is of the
importance that it has the authority to affect the decision of the stakeholders. Any mistake,
misstatement, error, or blunder in financial statement, individually or in aggregate method
has the chance to modify the attitude of the shareholders. The main evaluation is conducted
on the basis of the material deals and non-material deals. The primary evaluation of the
materiality of the financial report completely is set at 15000 $ that is far more than what is
recommended by the International Accounting Standards Board. There are many guiding
principle, that are stated by International Accounting Standards Board decide the
materiality’s range (Griffiths, 2016).
According to the set standards or norms of International Accounting Standards Board in
respect of the materiality, the gross profit is in range of .6-1.1% of gross sales 1-3% of total
assets of the profit, 6-11% of net profit, or 3-7% of equity of shareholders of company.
According to the calculation mentioned below in tabular form, it will support the auditor in
deciding their views on the financial statements, else there are many accounts that will not be
certified by auditors and will be overlooked. The accounts, which are remain with the
auditors to inspect, are the account of liabilities, account of assets, superannuation account,
and miscellaneous accounts (Kumar and Sharma, 2015).

Chestnut Enterprises
Range 0.6-1.1% 1-3% 1-3% 3-7% 6-11%
Basis Gross
revenue
Total Assets Gross Profit Equity Net Profit
Amount 98975 520150 68450 Not
Available
54705
Level of
materiality
593.85 to
1088.725
5201.5 to
15604.5
684.50 to
2053.5
Not
Available
3282.3 to
6017.55
Answer to question 2
Trend Analysis of Income Statement
Period
Particulars
June 1,
2015- June
30, 2016
Equivalent
Period
July1, 2016-
Dec 31, 2016 Changes
Tren
d
Analy
sis
Sales 187,450 93,725
98,97
5
5,25
0 5.60
Consultancy fees 57,000 28,500
29,62
5
1,12
5 3.95
Interest income 50
2
5
2
4
(
1) -4.00
Total Revenue 244,500 122,250
128,62
4
6,37
4
Less: Expenses
Bank charges 350
17
5
17
4
(
1) -0.57
Depreciation 15,738 7,869
8,28
3
41
3 5.25
Interest expense 11,500 5,750
5,75
0 - 0.00
Printing 375
18
8
18
5
(
3) -1.33
Repairs and 5,050 2,525 72 (1,805 -71.49

Maintenance 0 )
Wages 53,000 26,500
26,28
5 (215) -0.81
Superannuation 4,770 2,385
1,99
7
(388
) -16.27
Total Expenses 90,783 45,392
43,39
4
Net Profit (a-b) 153,717 76,858
85,23
0
Note: In the above trend analysis, the figures of the year June 1, 2015 to June 30, 2016 have
been averaged by dividing by two, to make it equivalent for comparison.
Answer to question 3
Inferences from Analytical Review
The trend analysis is an important tool to analyse the various accounts (Queensland
Government, 2018). As conducted above it depicts the various changes that have occurred
over the period of six months, in percentage and numerical terms. As visible from the
analysis, the following accounts appear to be at risk:
Firstly, there is a huge change in the repair and maintenance account. The repairs have
drastically reduced with a change depicted of about 72 percent. Thus, the auditors would be
required to verify the reasons and the rationale behind the sudden reduction in the same.
The second account that depicts the major change is that of the superannuation charges.
These too have reduced around 16 percent. The auditors need to vouch the accuracy of the
same. This would be done in relation to the wages. As the wages have reduced about 0.6
percent, but the superannuation expenses have reduced by 16 percent, the same pose a risk,
that needs to be verified by the auditors.
Thirdly, the depreciation account shows an increase of about 5 percent. On evaluation of the
fixed assets from the financial statements it is found that only the figures of machinery have

changed in terms of the increase in the fixed assets. These have increased by an amount of
7000. The computation of the depreciation must be cross checked by the auditors, to check
whether the same have been done correctly in accordance with the stated rates and amount of
the fixed assets.
Thus the major changes occurring expose the accounts to significant audit risks and testing
procedures to be performed thereon (Chan and Vasarhelyi, 2018).
Answer to question 4
Audit Procedures
The next step to be adopted by the auditors is to conduct the audit procedures, to eventually
verify the relevant evidences obtained in relation to these accounts. The lists of the
procedures that can be adopted by the audit team have been described as follows.
In order to verify the repair and maintenance account, the auditors must evaluate the invoices
of the repairs. The increase in machinery can be because of the capitalization of the repair
expenses in the machinery account. The auditor must examine the nature and the amount that
has been capitalised in the machinery account, together with that of the repair and
maintenance accounts. In case the addition in the machinery account is because of the
charges of regular nature, the same would be suggested to be charged back to the repair
account. Thus, the nature and the materiality of amount is required to be examined.
In addition, the depreciation calculations must be re performed by the audit team to vouch for
its accuracy in terms of the rate selected and the period of time, over which the depreciation
has been charged.
In order to verify the amount of the superannuation expense, the audit team must examine the
labour rates, and the number of the labours currently employed. In addition, the receipt of the

contribution of the superannuation amount must be verified, in case of contribution to
regulatory fund.
Answer to question 5
As per this analytical review, the audit partner is not in the position with what the concept has
been defined in connotation with an auditor. The model of the professional scepticism will be
contravened if the factor related to fraud risk is not regarded. The preservation of the books
of accounts is not only the benchmark, which may expose that a person or the firm has been,
followed all principles, rules, and regulations. In this way, it is very significant to conduct the
audit of accounts. Moreover, it was found after the analytical review that there are many
disagreements, which are required to be consider and which are required to be remedied.
Because of these elements, the increment in expenses and reduction in the expenses without
any note and it will be normally immoral to not to have a scrutiny. In this way, the analysis is
very much important to find the fraud risk factors (Knechel and Salterio, 2016). Thus, it can
be stated that fraud risk should be considered for each of the client, irrespective of the
integrity of the staff.
Conclusion
Thus, as per the discussions conducted in the previous parts it can be concluded that a trend
analysis can be a useful tool for the analytical review procedures of the audit team. The
auditors must exercise professional scepticism, experience and the technique of re
computation. The same will aid the audit team to decide the level of materiality, to vouch the
accuracy of the accounts and the supporting calculations mentioned therein. Further, it is
suggested that auditor must consider the fraud risks and examine the invoices and other
supporting documents.

References
Chan, D.Y. and Vasarhelyi, M.A. (2018) Innovation and practice of continuous auditing. In
Continuous Auditing: Theory and Application. Emerald Publishing Limited, pp. 271-283.
Griffiths, P. (2016) Risk-based auditing. California: Routledge.
Knechel, W. R. and Salterio, S. E. (2016) Auditing: Assurance and risk. Oxon: Routledge.
Kumar, R. and Sharma, V. (2015) Auditing: Principles and practice. Phillipines: PHI
Learning Pvt. Ltd.
Louwers, T. J., Ramsay, R. J., Sinason, D. H., Strawser, J. R., and Thibodeau, J. C.
(2015) Auditing & assurance services. Boston: McGraw-Hill Education.
Queensland Government (2018) Trend analysis for business improvement [online] Available
from: https://www.business.qld.gov.au/running-business/growing-business/trend-analysis
[Accessed on: 28/09/18].