By Prof.

Nishant Ghuge
MBA(Finance), NET, SET, Phd ( Pursuing)
Auditing
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
AUDIT:-
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Financial audits are performed to ascertain
the validity and reliability of information, as well as
to provide an assessment of a system's internal
control The goal of an audit is to express an
opinion of the person / organization / system
(etc.) in question, under evaluation based on
work done on a test basis
Advantages of Audit
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
1. because an audit is performed by an
independent person, his decisions are chosen to
fair and free and thus helps to settle dispute
among management of an organization.
2. In terms of applying for loan from lenders or
financial institution, the auditors report can
strengthen the application of the organization.

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
3.It enable the auditors to give constrictive advice
to management on improving the efficiency of an
organization

4. It also enables stakeholders to determine how
relevant the financial statement of an organization
is and thus take important decision towards
them.

5. it also helps organizations to comply with various
legislation and standards in financial statement
reporting
Disadvantages of Audit
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
. It reveal the remuneration of the board of
director which is one major activity management
of an organization wishes not to display in public
2. It reveals the financial performance of an
organization thus scare off investors if reported
that the organization performance is declining
consistently
3. Accountant are held liable for any discrepancy/
misinformation is revealed by the auditor that
their report does not conform to the legislation
and standard of account

Internal Control
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Acc to AAS-6 ( Revised) Entitled Risk
assessment and internal control
The system of Internal Control may be defined as
all the methods and procedures adopted by the
management of an entity to assist in achieving
managements objective of ensuring as far as
practicable, the orderly and efficient conduct of
the business, including adherence to
management policies, safeguarding assets,
prevention and detection of fraud and error, the
accuracy and completeness of the accounting
records, and the timely preparation of the reliable
financial information.
Objectives of Internal Control
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
A) Transactions are executed in accordance with
managements general or specific authorization
B) All Transaction are Promptly recorded in the
correct amount, in the proper amounts and in the
accounting period in which they are executed
C) Assets are safeguarded from unauthorized
access
D) The recorded assets are compared with the
existing assets at regular intervals and appropriate
action is taken with regard to any differences

Basic elements of Internal
Control
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Financial and other organizational plans
Competent personnel
Division of work
Separation of operational responsibility from
Record keeping
Separation of custody of assets from accounting
Authorization
Managerial supervision and review
Review and Documentation
To facilitate the accumulation of the
information necessary for the proper review
and evaluation of internal controls, the auditor
can use one of the following :
Narrative record;
Check List;
Questionnaire; and
Flow chart.

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
The Narrative Record

This is a complete and exhaustive description of
the system as found in operation by the auditor.
Actual testing and observation are necessary
before such a record can be developed It may be
recommended in cases where no formal control
system is in operation and would be more suited
to small business. The basic disadvantages of
narrative records are:
To comprehend the system in operation is quite
difficult.
To identify weaknesses or gaps in the system

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Check List

This is a series of instructions and/or questions
which a member of the auditing staff must follow.
When he completes instruction, he initials the
space against the instruction.
Answers to the check list instructions are usually
Yes, No or Not Applicable This is again an on the
job requirement and instructions are framed
having regard to the desirable elements of
control.
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
A few examples of check list instructions are given
hereunder
Are tenders called before placing orders?
Are the purchases made on the basis of a written
order?
Is the purchase order form standardised?
Are purchase order forms pre-numbered?
Are the stock control accounts maintained by persons
who have nothing to do with :
(i) custody of stock;
(ii) receipt of stock;
(iii) inspection of stock; and
(iv) purchase of stock?
The complete check list is studied by the
Principal/Manager/Senior to ascertain existence of
internal control and evaluate its implementation and
efficiency.


By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Internal Control Questionnaire

This is comprehensive series of questions
concerning internal control.
This is the most widely used form for collecting
information about the existence, operation and
efficiency of internal control in an organisation.
With a proper questionnaire, all internal control
evaluation can be completed at one time or in
sections.
The questionnaire form also provides an orderly
means of disclosing control defects.

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
It is the general practice to review the internal control
system annually and record the review in detail.
In the questionnaire, generally questions are framed
such that the answer will be 'Yes', ' No' or 'Not
Applicable'
'Yes' denotes satisfactory position and a 'No' answer
suggests weakness.
Questionnaire is usually, issued to the client and the
client is requested to get it filled by the concerned
executives and employees.
If on a perusal of the answers inconsistencies are
noticed, the matter is further discussed by auditor's
staff for a clear picture.
The concerned auditor then prepares a report of
deficiencies and recommendations for improvement

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Flow Chart

It is a graphic presentation of each part of Cos
system of internal control.
It is the most concise way of the auditor's review
of the system. It minimises the amount of
narrative explanation.
It gives bird's eye view of the system and the flow
of transactions and integration and improvements
can be suggested easily

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
It is also necessary for the auditor to study the
significant features of the business carried on by
the concern; the nature of its activities and
various channels of goods and materials as well
as cash, both inward and outward; and also a
comprehensive study of the entire process of
manufacturing, trading and administration.
This will help him to understand and evaluate the
internal controls in the correct perspective.

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
TESTING OF INTERNAL
CONTROL
After studying the internal control system, the
auditor needs to examine whether and how far
the same is actually in operation.
For this, he resorts to actual testing of the system
in operation.
This he does on a selective basis, he can plan
this testing in such a manner that all the important
areas are covered in a period of say, three years.
Selective testing is being done by application of
procedural rests and auditing in depth.

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Tests of Control

Tests of control are performed to obtain audit
evidence about the effectiveness of the:
(a) design of the accounting and internal control
systems, that is, whether they are suitably
designed to prevent or detect and correct material
misstatements; and
(b) operation of the internal controls throughout the
period.

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Tests of control may include:

Inspection of documents supporting transactions and
other events to gain audit evidence that internal
controls have operated properly, for example,
verifying that a transaction has been authorised.
Inquiries about, and observation of, internal controls
which leave no audit trail, for example, determining
who actually performs each function and not merely
who is supposed to perform it.
Re-performance of internal controls, for example,
reconciliation of bank accounts, to ensure they were
correctly performed by the entity.
Testing of internal control operating on specific
computerised applications or over the overall
information technology function, for example, access
or program change controls.

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Based on the results of the tests of control, the
auditor should evaluate whether the internal
controls are designed and operating as
contemplated in the preliminary assessment of
control risk.
The evaluation of deviations may result in the
auditor concluding that the assessed level of
control risk needs to be revised. In such cases,
the auditor would modify the nature timing and
extent of planned substantive procedures.
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
It has been suggested that actual operation of the
internal control should be tested by the
application of procedural tests and examination in
depth.
Procedural tests simply mean testing of the
compliance with the procedures laid down by the
management in respect of initiation, authorisation,
recording and documentation of transaction at
each stage through which it flows.




By Prof Nishant Ghuge, KCES's IMR, Jalgaon
For example, the procedure for sales requires the
following:
(i) Before acceptance of any order the position
of stock of the relevant article should be known to
ascertain whether the order can be executed in
time,
(ii) An advice under the authorisation of the sales
manager should be sent to the party placing the
order, internal reference number, and the
acceptance of the order. This advice should be
prepared on a standardised form and copy
thereof should be forwarded to stock section to
enable it to prepare for the execution of the
order in time.
(iii) the credit period allowed to the party should be
the normal credit period. For any special credit
period a special authorisation of the sales
manager would be necessary.
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
(iv) The rate at which the order has been
accepted and other terms about transport, ins
etc., should be clearly specified.
(v) Before deciding upon the credit period, a
reference should be made to the credit section
know the creditworthiness of the party and
particularly whether the party has honored
commitments in the past.

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
EXAMINATION IN DEPTH
It implies examination of a few selected
transactions from the beginning to the end
through the entire flow of the transaction, i.e.,
from initiation to the completion of the transaction
by receipt or payment of Cash and delivery or
receipt of the goods.
This examination consists of studying the
recording of transactions at the various stages
through which they have passed, At each stage,
relevant records and authorities are examined; it
is also judged whether the person who has
exercised the authority in relation to the
transactions is fit to do so in terms of the
prescribed procedure.
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
INTERNAL AUDIT
It is a review of the operations and records,
sometimes continuously undertaken, within a
business, by specially assigned staff.
But internal audit must not be confused with
internal check. Internal check consists of a set of
rules or procedures that are part of the
accounting system, introduced so as to ensure
that accounts of a business shall be correctly
maintained and the possibility of occurrence of
frauds and errors eliminated.
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Though the routine process by which an internal
audit is carried out are broadly the same as those
followed for professional audit, but internal audit
often differs in its scope and emphasis, it is more
managerial than accounting; also its form is
varied, depending on the size of the organisation
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
APPLICATION OF CONCEPT OF
MATERIALITY AND AUDIT RISK:
Materiality:
Information is material if its misstatement (i.e.
omission or erroneous statement) could influence
the economic decisions of the taken on the basis
of financial information. Materiality depends on
size & nature of item.
The assessment of what is material is matter of
professional judgement. Materiality of an item can
be judged :


By Prof Nishant Ghuge, KCES's IMR, Jalgaon
(a)from the impact that the item has on the profit or
loss or on the balance sheet, or on the total of the
category of items to which it pertains, and
(b) on its comparison with the corresponding
figure of the previous year. In many
circumstances even small amount may be
considered material.
Thus, if there is a statutory requirement of
disclosure of amount paid as sitting fee to
directors the amount so paid must be disclosed
precisely and separately. Similarly, a payment of
Rs. 100 to directors as remuneration in excess of
statutory limits may be material.
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Audit Risk:
It is the risk that auditor may give an
inappropriate opinion on financial information that
is materially misstated i.e. the auditor may give an
unqualified opinion on financial statements
without knowing that they are materially mis-
stated.
There are following types of Risks:
1) Inherent risk (risk that material errors will occur);
2) Control risk (risk that the client's system of
internal control will not prevent or correct such
errors
3) Detection risk (risk that any remaining material
errors will not be detected by the auditor).
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Limitations of Internal Control
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Internal control can provide only reasonable
assurance about the desired objectives, i.e., sound
management, safety of assets and reliability of
account-ing records. It cannot provide complete
assurance in regard to above because of the following
limitations:
1) The management may consider employment of
controls costlier than the benefit arising there from.
2) The span of control may not cover unusual or
abnormal transactions
3) Possibility of collusion by the concerned employees
and the outsiders. Even the best designed controls
fail to operate if employees collude to circumvent
them.
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
4) The possibility that a person responsible for
exercising control could self abuse that control
because of his authority.
5) The possibility that procedures may become
outdated due to changes in organisational setup
or other conditions and compliance with such
procedures may not achieve the control
objectives.
6) Manipulations by management with respect to
transactions or estimates and judgment required
in the preparation of financial statements.
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
It is advisable that internal control system should
be reviewed after a-couple of years and revised
according to the changes in the nature of
business, organisational set-up, policies or
procedures of the company.
To sum up, it can be stated that unless controls
receive constant attention, these tend to disinte-
grate. Weaknesses in the system start appearing
quickly just like weeds in an unattended garden.



By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Employees become careless in carrying out their
work when control lacks which results in problems
and bottlenecks in the day-to-day functioning.
This basically happens when the management
becomes com-placent about functioning of
internal controls.
Internal Check system
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
checks on day-to-day transactions which
operate continuously as a part of routine system
whereby the work of a one person is proved
independently or is complementary to the work of
another
The object is prevention or early detection of
fraud and error
Internal check is a part of overall internal control
system
A system of internal check in accounting implies
organization of a system of bookkeeping and
management of staff duties in such a manner that
no one person can completely carry through a
transaction and record every aspect thereof
General considerations in framing of
internal check
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
No single person should have an independent
control over any imp aspect of the business
The duties of members should be changed time
to time without any previous notice
Every member should be encouraged to go on a
leave at least once in a year
Persons having physical custody of assets must
not be permitted to have access to the books of
account
There should exist periodical inspection of assets
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Automatic cash register should be employed
Budgetary control should be there
Stock taking should be done by staff of others
sectors of organization
Financial and administrative powers should be
divided very judiciously among different officers

Internal check with regard to
purchase
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
a) Purchase Reequisition
b) Enquiry for purchase
c) Purchase order
d) Receipt of goods
e) Making the payment
Internal check with regard to
sales
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
a) Independent sales department
b) Receipt of orders
c) Packing the goods
d) Preparation of Invoices
e) Checking of invoices
f) Despatching the goods
Internal check with regard to
wages
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
a) Review the internal control system in
preparation of wages
b) Checck that payment sheets are checked by
responsible person before payment
c) Check deductions on account of PF, ESI,
Income tax
d) Check names appearing in wages sheet
e) Check wages are paid in presence of senior
officer
f) Check calculations of gross and net salaries
g) Check the employee acknowledge receipt of
wages
Internal check in store
department
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Receipt:-
a) Verifying all receipts as to quality and quantity
b) Entering goods immediately in goods inward
c) Drawing quadruplicate goods received note
d) Transmitting the material in stock department
Storage:-
a) Keep track on ordering level
b) Good should be stored such that they are easily
accessible, safe from deterioration, occupy
minimum space and segregated between fast
moving and slow moving
c) Also it should be ensured that goods are insured
from fire and theft
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Issues:-
Entry should be made on Stock card on Issue of
goods and balance should be reduced.
Test Checking
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
The term 'test checking' stands for the method of
auditing, where instead of a complete
examination of all the transactions recorded in the
books of accounts, only some of the transactions
are selected and verified.

Test checking means to select and examine a
representative sample from a large number of
similar items
Objectives of Test Checking
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
The basic objective of test checking is to draw a
valid conclusion by undertaking examination of
some transactions from the large number of
transac-tions and thereby save time and cost.
Advantages of test checking
By Prof Nishant Ghuge, KCES's IMR, Jalgaon
It is one of the best techniques of auditing
through which cost of audit can be reduced,
It can ensure the speed of audit work.
It can easily locate the deficient areas and thus
helps to come to the conclusion as to the
acceptability of financial records.
It is a labour saving device.
It acts as a guide to the auditor to arrive at a
conclusion regarding the true and fair view of the
state of affairs of the business
Disadvantages

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
It will prove inefficient where internal check and
control system are not operating or found
ineffective.
It is not suitable lor small concerns. _,
It will bound to show incorrect result if the
samples are not proper representative of the
population.
It does not offer any consistency in selecting the
percentage of check that will be adopted
by all concerns.

Precautions to be Taken Before
Taking Test Checking Technique

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
The auditor should review the existing internal
control in order to ascertain its effectiveness
The transactions to be selected for test checking
must be homogenous.
The transaction to be test checked must form an
adequate sample.
As far as possible, the transactions to be selected
for test checking should be on the basis
of random number tables
The results of the test checks themselves should
be examined, particularly the nature of errors.

Transactions Not Suitable for the
Adoption of Test Checking

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
In industries where the activities are based on
seasonal fluctuations, the auditor cannot adopt
test checking on an annual basis.
Exceptional transactions or the transactions of a
non-recurring nature are also not suitable
for adop-tion of test checking.
Some transactions have legal implication, i.e.,
they have to be recorded on the basis of legal
provisions. Such transactions cannot be test
checked.

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Areas involving computation and calculations
should not be subject to test checking,
There should not be test checking for opening as
well as closing entries,
Bank reconciliation statement cannot be checked
by adopting this technique.
Presentation and disclosure of information in the
balance sheet and the profit and loss account
should not be subjected to test checking.

ROUTINE CHECKING:

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
Routine checking is a total process of accounting
control, which includes
Examination of the totalling and balancing of the
books of prime entry,
Examination of the posting from the primary
books to the ledger accounts,
Examination of totalling and balancing of the
ledger accounts and of the trial balance prepared
with those balances and
Overall examination of writing up the transactions
properly.

Advantages

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
It is the simplest form of audit work.
Detection of errors and frauds of simple nature
can be very easily detected.
The books of accounts can be thoroughly
checked.
It is the basis of checking the final account as it
helps in checking castings and postings.
Arithmetical accuracy of all the transactions can
be confirmed by this method.
It offers an opportunity to train the new entrants to
the profession.


Disadvantages

By Prof Nishant Ghuge, KCES's IMR, Jalgaon
It is not generally considered as an important part
of audit work where self-balancing system is
maintained.
As the audit staffs are engaged in same type of
work, the possibility of becoming monotonous is
there, in this system.
Negligence of work and lacking the advantage of
internal check system are frequent.
It fails to detect errors and frauds arising from the
fraudulent manipulation in accounting principles.