Internally generated information may highlight entity's position vis-a-vis, its competitors and reports from credit rating agencies and analysts may provide information useful to the auditors understanding of the entity and its environments. It follows that internal control is designed and implemented to address identified business risks that threaten the achievement of any of these objectives.
Components of internal control a The control environment b The entity's risk assessment process c The information system, including the related business processes relevant to financial reporting and communication. Understanding of Internal Control is used by the auditor 1. Definition of Internal Control Internal control is the process designed and affected by those charged with governance, management, and other personnel to provide reasonable assurance about the achievement of the entity's objectives with regard to: 1.
Reliability of financial reporting, 2. Effectiveness and efficiency of operations and 3. Compliance with applicable laws and regulations. Components of Internal Control i The control environment ii The entity's risk assessment process iii The information system, including the related business processes relevant to financial reporting and communication. Such process includes how management: 1. Decides upon actions to manage them. Many information systems make extensive use of IT.
The two broad groupings of information systems control activities are: i. Application controls apply to the processing of individual applications. These controls help ensure that transactions occurred, are authorized, and are completely and accurately recorded and processed. General IT-controls commonly include controls over data center and network operations; system software acquisition, change and maintenance; access security; and application system acquisition, development, and maintenance.
These controls apply to main-frame, mini-frame and end-user environments.
Examples of segregation of duties include reporting, reviewing and approving reconciliations, and approval and control of documents. Monitoring means and includes: Ensuring that internal controls are operating as intended. Monitoring includes: a Supervisions, functions of managers b Internal audit c Communication from external parties indicating areas requiring 3. Assessing the Risk of Material Misstatement The auditor should identify and assess the risks of material misstatement at the financial statement level, and at the assertion level for classes of transactions, account balances, and disclosures.
For significant risks, to the extent the auditor has not already done so, the auditor should evaluate the design of the entity's related controls, including relevant control activities, and determine whether they have been implemented. If management has not appropriately responded by implementing controls over significant risks and if, as a result, the auditor judges that there is a material weakness in the entity's internal control, the auditor communicates this matter to those charged with governance as required in paragraph 8.
In these circumstances, the auditor also considers the implications for the auditor's risk assessment. Risks for which substantive procedures alone do not provide sufficient appropriate audit evidence As part of the risk assessment as described in the above paragraph, the auditor should evaluate the design and determine the implementation of the entity's controls, including relevant control activities, over those risks for which, in the auditor's judgment, it is not possible or practicable to reduce the risks of material misstatement at the assertion level to an acceptably low level with audit evidence obtained only from substantive procedures.
No other documentation of orders placed or goods received is produced or maintained, other than through the IT system. Revision of Risk Assessment While performing tests of controls or substantive procedures auditor finds that controls are not performing effectively and misstatements found are not in accordance with expectations of misstatements, the auditor should revise his assessment of risk and modify the further planned audit procedures. Communicating with those Charged with Governance and Management The auditor should make those charged with governance or management aware, as soon as practicable, and at an appropriate level of responsibility, of material weaknesses in the design or implementation of internal control which have come to the auditor's attention.
Descriptions may be used once, more than once, or not at all. Control environment.
Management's philosophy b Adequate documents and record. Functioning of the audit committee. Identify and record all valid transactions. Permit proper classification of transactions. Segregation of duties. Adequate documents and records.
Auditing (CQA) Fundamentals I | ASQ
Pre-numbered receiving reports h internal controls objective. Preparation of reliable financial reports. Members can appoint the auditors if they are not appointed by the Directors within 60 days of incorporation. The part of the Statutory Report which relates to the Receipt and Payments is required to be certified by the auditors.
Benefits of Internal Control to the auditor Of course, if the audit client benefits from a sound system of internal control, it is likely that the auditor will also be benefited. All of the above stated benefits help to promote a situation where the financial statements present a true and fair view.
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In simple terms, a good system of internal control will make life easier for the auditor. Auditor's work on the Internal Control International standards on auditing emphasize the importance of internal control to the auditor by stating that auditor should: a Obtain an understanding of the accounting and internal control system sufficient to plan the audit and develop an effective audit approach, and b Use professional judgment to assess the components of audit risk and to design audit procedures to ensure it is reduced to an acceptably low level.
At an early stage in their work auditors will have to decide the extent to which they wish to place reliance on the internal controls of the enterprise.
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As the audit proceeds, that decision will be kept under review and, depending on the results of their examination, they may decide to place more or less reliance on these controls. Possible application : a supervisor or manager reviews and checks the work of a subordinate.
Possible application : lines of authority within an organization make it clear which individuals are responsible for decisions and transactions c Arithmetic and Accounting The company should ensure that there are adequate controls to ensure the completeness and accuracy of its financial records. Possible application : banking cash immediately, controlling access to inventory areas; electronic tagging of inventory and portable non-current assets.
Possible application : the use of budgeting and standard costing systems; the establishment of an internal audit department f Authorization All transactions should be authori2ed. Possible application : authori2ation of purchases, cash and bank payments, sale of non-current assets, sales to customers on credit, bad debt write offs.
Possible application : recruiting the right people for the job; training them effectively, motivating and rewarding employees in an appropriate way. This is a fundamental control procedure designed to ensure that one person does not have sole charge of a transaction from beginning till end. Perfect segregation of duties exists where each of the main stages in a transaction are under the control of a different person. Possible application: Consider an inventory purchasing system in a manufacturing company: Stage Documentation Responsibility Initiation Stores requisition Stores keeper Authorization Purchase order Purchasing officer Custody Goods received note Receiving officer Recording Invoice Account department Documenting the system Documenting the system is an extremely important stage in the audit; Auditing standards state that in planning the audit, auditors should obtain and document an understanding of the accounting system and control environment sufficient to determine their audit approach.
FUNDAMENTALS OF AUDITING
The various methods of ascertaining and recording the system may be summarized as follows: 1. Organization chart 2. Having ascertained the system, the auditor draws up a narrative description of it for the audit files. An example might be: Sales invoices are prepared by Mr. They are checked by Mr. Shortcomings of the method: 1. Notes can take up a disproportionate amount of space 2.
Notes may be difficult to interpret 3. What happens it personnel change? Flowcharts This is becoming an increasingly widely used technique for recording accounting systems in audit files. A flowchart is a diagrammatical representation of an accounting system. A good flowchart will be supplemented with narrative. Flowcharts have the following advantages: i They portray the flow of documents through the system and enable the auditor to relate those movements with procedures and checks carried out as part of that system.
Standard symbols are used to represent documents, operations and checks carried out. Dotted lines are used to represent the flow of information between documents. Essentials of flowchart Internal control evaluation flowcharts must highlight the following: a the sequence of operations happening to each document e. Order quantity is pre-determined by use of a copy of the previous purchase order. Where quantity received is below order a shortage memo set is also raised and a note made on the purchase order.
The flow-lines at the bottom of the page would continue to page 2 of the flowchart. Such vertical flow-lines represent a movement in time within a particular department. When the document is moved to another department, this movement in position will be represented by a horizontal line; departments are therefore listed across the page. Here the document is originated in Dept A.
Note that only vertical and horizontal lines are used, never diagonal lines.
The Operation symbol Various operations will be performed on a document. It will, for instance: be prepared, added up, used to prepare other documents, etc. Any operation, other than a check function, is represented by the cross symbol. Each operation symbol should be supported by a brief narrative explaining the nature of the operation.
Invoice Kamran totals the invoice Note that the operation symbol is positioned on a vertical flow-line. It should never appear on a horizontal flow-line since that would suggest in this case that Kamran totals the invoice while it is moving from one department to another. Sales order Here one document is prepared from another. The movement of information to the sales invoice is shown by a dotted line. Such information flow-lines are always horizontal, never vertical.
Note that flow-lines then continue for both the order and the invoice. Delivery Sales Note Invoice Pasha checks that all goods dispatched have been invoiced. This shows a check between two documents. Note the use of the information flow-line again and that both the delivery note and the sales invoice continue with vertical flow-lines of their own. Such files are either permanent or temporary. The two sorts of file are denoted by the same symbol but the temporary files are marked with a letter T.