Auditing and Assurance - Mining Industries WORD

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EASTERN VISAYAS STATE UNIVERSITY

TACLOBAN CITY, LEYTE


A.Y 2020 – 2021

PrE 304 – Auditing & Assurance: Specialized Industries


AUDITING IN MINING INDUSTRY

Group 4 Members
Cercado, Arnold
Dacumos, Carlito
Losadio, Mary Leslie
Mobilla, Jorey
Quintero, Faith
Santos, Hannah Camille

May 2021
I. INTRODUCTION

I.A. Definition and Nature of Mining Entities


Mining Entities
 are companies involved in the extraction of valuable non-renewable resources like
fossil fuels and minerals from the Earth which are strictly regulated by the
government/ state where it operates.
 There are three classifications of mining entities based on their size and financial
capacity namely: Major Companies, Intermediate Companies and Junior
Companies.
 What is mining?
 It is the process of extracting minerals, coal, ore and other geological materials which
can’t be fabricated using artificial means below or on the Earth’s surface.

Four Major Types of Mining Operations


1. Surface Mining
 This type of mining operations involves removal of plant life, soil and potentially
bedrock to be able to access resource deposits. It is normally used for fairly shallow,
non-precious deposits.
2. Underground Mining
 It is relatively costly and frequently used to get to deeper deposits. It involves digging
down into the earth and creating tunnels and shafts that reach the deposits of
resources. With underground mining, the surface remains intact and workers and
machines remove the minerals through the tunnels or shafts.
3. Placer Mining
 This type of mining operations uses water to excavate, transport, concentrate, and
recover heavy minerals from alluvial or placer deposits. It is commonly used in
mining gold and platinum.
4. In-Situ Mining
 It involves leaving the ore where it is in the ground, and recovering the minerals from
it by dissolving them and pumping the pregnant solution to the surface where the
minerals can be recovered. This type of operation is common in mining uranium.

Mine Life Cycle


EXPLORATION DEVELOPMENT PRODUCTION CLOSURE

1. Exploration
 It usually begins with field studies and mapping. In this phase, initial information about the
probability of mineral ore deposit is collected with the help of experts like geologists. If this
initial information is promising, companies may apply for exploration licenses with which they
can conduct further research, usually including some drilling and extraction of core samples is
necessary before starting a mining project.
2. Development
 The development phase commences after the mineral ore exploration proves that there is a large
enough mineral ore deposit, of sufficient grade. This phase is divided into two stages: Feasibility
stage and Construction Stage. Feasibility stage includes the site investigation, determining what
type of mine is required, the design and the assessment of cost to perform these actions while the
Construction stage includes the construction of access roads for the heavy equipment, delivery of
supplies to the site and transportation of extracted minerals, and site preparation and clearing.
3. Production
 During this phase, the company extracts the minerals from the ground and often rinses or
separates some of the minerals from the ore.
4. Closure
 It is the last phase in the mining cycle wherein the extraction company has a responsibility to
close the mine. During the closure and rehabilitation phase, the company often has to make the
area around the mine safe, including securing the waste piles produced by the mine.
I.B. Relevant Accounting Standard
PFRS 6 EXPLORATION FOR AND EVALUATION OF MINERAL RESOURCES

 Scope of PFRS 6
 This standard shall apply to exploration and evaluation expenditures incurred. It does not apply
to expenditures incurred:
- before the exploration for and evaluation of mineral resources
- after the technical feasibility and commercial viability of extracting a mineral resource
are demonstrable.
Definition of Terminologies
 Exploration for and Evaluation
 It refers to the search for mineral resources, including minerals, oil, natural gas and similar
non-regenerative resources after the entity has obtained legal rights to explore in a specific
area, as well as the determination of the technical feasibility and commercial viability of
extracting the mineral resource.
 Exploration and Evaluation Expenditures
 Exploration and evaluation expenditures are expenditures incurred by an entity in connection
with the exploration for and evaluation of mineral resources before the technical feasibility
and commercial viability of extracting a mineral resource are demonstrable.
Examples:
1. Acquisition of rights to explore
2. Exploratory Drilling
3. Expenses related to the conduct of technical feasibility and commercial viability

 Accounting Treatment
 An entity’s treatment of the exploration and evaluation expenditures for each area of interest
shall be either:
i. expensed as incurred, or
ii. partially or fully capitalized and recognized as an exploration and evaluation asset if the
following conditions are met:
a. the rights to tenure of the area of interest are current, and
b. at least one of the following two conditions is also met:
i. the exploration and evaluation expenditures are expected to be recouped
through successful development and exploitation, or by sale; or
ii. exploration and evaluation activities in the area of interest have not at the date
reached a stage of reasonable assessment to determine the recoverable reserves,
but active operations are continuing
 Measurement At Recognition
 If the entity opts to capitalize exploration and evaluation expenditures as assets, it shall
measure them at cost. The assets shall be classified as tangible or intangible according to
the nature of the assets acquired.
Examples:
• Tangible Assets: vehicles and drilling rigs
• Intangible Assets: drilling rights
 Subsequent to recognition, the exploration and evaluation assets shall be measured using
the cost model or the revaluation model.
 Derecognition
 An exploration and evaluation asset shall no longer be classified as such when the
technical feasibility and commercial viability of extracting a mineral resource
are demonstrable. The assets shall be assessed for impairment before the accounting for
reclassification, and the impairment loss shall be recognized in profit or loss.

PAS 36 IMPAIRMENT OF ASSETS


 General Concept
 an asset must not be carried in the financial statements at more than the highest amount to
be recovered through its use or sale. If the carrying amount exceeds the recoverable
amount, the asset is described as impaired.

 Impairment of Exploration and Evaluation Assets


 Impairment testing shall be undertaken when facts and circumstances suggest that the
carrying amount of the exploration and evaluation asset may exceed its recoverable
amount. The impairment loss shall be measured, presented and disclosed in accordance
with IAS 36.
 Facts and Indicators to test exploration and evaluation asset for impairment:
a. the period for which the entity has the right to explore in the specific area has expired
during the period or will expire in the near future, and is not expected to be renewed;
b. substantive expenditure on further exploration for and evaluation of mineral resources
in the specific area is neither budgeted nor planned;
c. exploration for and evaluation of mineral resources in the specific areas have not led to
the discovery of commercially viable quantities of mineral resources and the entity has
decided to discontinue such activities in the specific area; or
d. sufficient data exist to indicate that, although a development in the specific area is
likely to proceed, the carrying amount of the exploration and evaluation assets is unlikely
to be recovered in full from the successful development or by sale.

II. AUDIT PROCESS


II.A. Pre-Engagement
 The initial step of the audit process inclusive in the planning phase.
 Evaluating the suitability of both the auditor and prospective audit client.
 Decision making basis of the auditor for prospective client selection and acceptance.
Preliminary Engagement Activities
Prior to the commencement of audit activity, the auditor performs series of pre-engagement
acceptance or continuance procedures.
1. Performing procedures regarding the continuance of the client relationship and the
specific audit engagement.
 Competence assessment
 Knowledge and understanding of the business and its industry
 Time and resources needed
2. Evaluating compliance with relevant ethical requirements, including independence.
 Relevant ethical requirements in accordance with Code of Professional Ethics:
- Integrity
- Objectivity
- Professional Competence
- Confidentiality
- Professional Behavior
- Independence
 Independence of the audit firm as a whole (auditor and all audit team members)
should be considered by examining potentially significant threats that might
impair the auditor’s professional judgment or independence.
- Self-interest
- Self-review
- Advocacy
- Familiarity
- Intimidation
 Integrity of the client
a. Conducting inquiries about the prospective client
b. Communicating with the predecessor auditor
Note: The determination of compliance with the relevant ethical requirements shall not only be
limited during preliminary engagement activities but as well be maintained all throughout the
audit process.
3. Establishing an understanding of the terms of the engagement.
 Once the pre-engagement assessment is complete, preparation and issuance of
engagement letter follows.
 Both parties should agree with the following terms inclusive:
- Engagement objectives, scope and limitations;
- Management’s responsibilities;
- Auditor’s responsibilities;
- Responsibility for other adjustments; and
- Other matters, such as fees
II.B. Audit Planning
Audit Planning
 The planning phase involves acquiring knowledge of business, assessing risks and
conducting analysis in order to determine the audit focus and set the stage to prepare a
detailed audit plan that will include the audit objective(s), criteria, evidence collection
methods, and analytical techniques.

Audit Focus
The first step in the audit planning process is to determine what exactly should be audited
in the mining sector (that is, the audit focus). The make this happen, the auditors will need to
undertake two initial research and analysis tasks.
1. Acquire knowledge about the business by gathering and analyzing relevant
information on the mining sector and on government responsibilities in regulating,
monitoring, and overseeing the sector.
2. Identify and assess risk factors that could prevent the government from carrying out
its responsibilities in this sector effectively and meeting its objectives.
At this stage, the auditors can also view performance audits on the mining sector that
have been previously published by their office or other jurisdictions, as well as the work that
financial auditors have conducted as part of their audits of the public accountants. This may help
audit teams to complete their list of potential issues to examine and to identify risk factors that
they might not yet have considered.

Detailed Audit Planning


For an instance, they decided to focus the audit on examining revenues from the
extraction of minerals and/or of financial assurances for site remediation. The auditors can begin
detailed planning work to further define their audit focus and audit procedures.
Detailed planning involves deciding which programs and controls to audit. To make these
decisions, the auditor will need to complete three tasks:
1. Acquire further knowledge of the business, by gathering and analyzing relevant
information on the different types of revenues or financial assurances that the
government is collecting and managing, and on the systems and practices it uses to do
so.
2. Identify and assess risk factors that could prevent the government from collecting all
the revenues it is entitled to or all the financial assurances it needs to ensure that
decommissioned mines will be properly remediated.
3. Consider the work done by financial auditors in assessing the design and
implementation of the controls in place for revenues, environmental liabilities, and
financial assurances.
Equipped with the required information, audit teams will be able to determine which revenue or
financial assurance programs and controls to audit. once, these decisions are made, auditors will be able
to draft their audit objectives, select their audit criteria, and prepare plans with detailed audit procedures.

Drafting Audit Objectives


All performance audits need clearly stated objectives that are worded in a manner that allows
auditors to conclude against them. Audit objectives should be realistic and achievable and give sufficient
information to audited organizations about the focus of the audit.
An audit can have one or several objectives depending on its breadth. Office practice will also
influence the number of objectives and whether or not sub-objectives are used. Sub-objectives can be
included in audit plans (for example, one for each line of inquiry), but auditors who decide to do so will
still be expected to conclude on their main audit objectives.
The objective of an audit that will look at the completeness of revenues from the extraction of
minerals (and related questions) will depend on whether that is the sole focus of the audit.
Other examples of Audit Objectives
1. Audit Focus: The audit will broadly examine the development of the mining sector, including
the collection of royalties or other fees.
Audit Objective: To determine whether the responsible organizations have taken steps to ensure
that gold mining activities are developed in accordance with government policy and objectives.
2. Audit Focus: The audit has a compliance focus.
Audit Objective: To determine whether the department has managed mineral resources in
compliance with the Mining Act and applicable regulations.
3. Audit Focus: The audit is strictly about the collection of revenues from the extraction of
minerals.
Audit Objectives: To determine whether the government has designed and implemented control
systems that provide assurance that it is collecting all mining royalties payable from producers.

Selecting Audit Criteria


Audit criteria represent the standards that audited organizations are expected to meet. Audit
criteria are a key contributor to an audit’s strength and potential impact. Audit procedures focus on
determining whether criteria are met or not met. Suitable criteria are relevant, complete, reliable, neutral,
and understandable. Finding suitable criteria is a challenge for any performance audit, especially where
there is no recognized source of accepted criteria. There is no such recognized source of criteria for
auditing completeness of revenues from the extraction of minerals.

II.C. Considering the Internal Controls


Mining industries in the Philippines commonly face issues related to law compliance and proper
environmental plans. Since the revenues that can be generated from the extraction of minerals are very
significant for all parties involved, this sector has been a frequent target of fraud and corruption in many
jurisdictions, especially in developing countries. Moreover, there are three common frauds which may
internally occur in mining industry namely financial statement fraud, licensing fraud, and occupational
fraud. These possible fraudulent acts can be mitigated through a strong and healthy internal control
system.

Understanding Internal Control in Mining Industry


The following are the factors to be considered with regards to internal control systems in mining
industry:
 Physical security of assets and cashflows
 This comprises safeguarding the cashflow generated from an operational mine or a
project mining accepted by the mining company and its inventories specifically
minerals and metals. Ensuring that these assets are not inappropriately used
considering that cash and inventories are one of the assets which are highly prone to
fraud and/or error.
 Segregation of duties
 Supervision of both on-field and office operations, handling of assets, on-site
manpower should be independent from each function.
 Compliance with the law, policies and regulations
 Examine whether the mining company is in compliance with the Philippine Mining
Act specifically following the provisions of mining agreements legally and with
environmental certificate compliance. Also, considering the safety measures and
precautions implemented by the mining company in relation to their operations.
 Manpower management
 Identifying and observing the management of human workforce with its operational
activities. If they are provided with complete benefits and compensation. If the data
about its human resource are accurate and not used to hide any misappropriation of
information.
 Controls over receipt of payments and revenue
 Having proper authorization with the automated systems handling the information
about the payments and revenue of the mining company. Also, having independent
personnel for the receipt of payments and handling earnings.

Test of Controls
 Inquiry
- Inquiring to knowledgeable people with regards to the mining company, its control
environment, business operations, and implementation of guidelines and policies.
 Observation
- Observe the process of its revenue and expenditure cycle, on-site operations, and its
administrative control to manage the whole mining company.
 Inspection
- Conducting an inspection both on-site and their headquarter office with regards to the
processes that they follow with the production, extraction of minerals, documentation and
recording of transactions.
-
 Re-performance
- This involves re-performing activities which can provide evidence that the results obtained in
relation to the internal control activities can be relied upon as audit evidences. It may be
performed by the auditor itself, or a knowledgeable and competent professional expert to
mining industry.

II.D. Performing Substantive Tests


During the examination phase of a performance audit, audit teams must conduct procedures that will
yield sufficient appropriate evidence to:
 determine whether audit criteria are met
 conclude on audit objectives, and
 document and support these conclusions
Substantive Audit Procedures
1. A review of relevant documents
 Auditors need to consider everything from evidence of the rules that government
organizations and mining companies have to meet to evidence that controls have been put
in place and are functioning as intended.
Example of documents that may prove useful as audit evidence:
 Laws, regulations, and policies that govern the mining sector, including the
revenue framework
 Descriptions of the revenue framework, royalty regimes, prospecting license or
mining claims application processes, and so on
 Evidence of public consultations about the revenue framework
 Analysis supporting the development of the revenue framework
 Reports of revenue framework reviews
 Process maps and narratives
 Risk analysis of where there may be uncollected revenues or fraud
 List of mining sites in the jurisdiction, list of leaseholders
 Guidance to the industry on how to calculate royalties and other relevant
payments
 Communications to the industry about changes in laws, regulations, or processes
 Training material and guidance to staff on how to process and review payments
from mining companies
2. Interviews
While testimonial evidence is usually considered weaker than documentary evidence, interviews
can be useful to:
 Confirm information obtained from other sources of evidence (thus strengthening the
support for audit observations and conclusions),
 Confirm the absence of something that was expected to exist,
 Place documentary evidence in its proper context, and
 Open new leads in an audit and identify further sources of evidence.
3. Testing of controls and IT systems
 Walkthrough of selected controls and will often involve:
o selecting a sample of transactions or using data mining and analysis techniques to
detect anomalies in a large number of transactions
o testing the quality of datasets
 Seek the help of an IT expert
4. Site visits
 Meet many individuals who have direct knowledge of key processes
 Observe first-hand the workings of important systems

II.E. Completing the Audit


Upon the completion of the Execution phase/fieldwork, an audit summary should be prepared to
summarize the work done and conclusion reached. Subsequently, a series of procedures are generally
carried out to complete the audit. These procedures are:
 Identifying subsequent events
 Determining litigations and claims
 Acquiring written management representations
 Performing wrap-up procedures
Subsequent Events
Subsequent events are those events or transactions that occur subsequent to the financial
statement date that may affect the financial statements and auditor’s report.
 Requiring Adjustment – those that provide further evidence of conditions that existed at the
financial statement date such as:
 Settlement of litigation in excess of the recorded liability
 Requiring Disclosures – Those that are indicative of conditions that arose after the financial
statement date such as:
 Loss on inventory due to fortuitous events (flood, typhoon, etc.)
 Accounting for exploration costs and mine development
 Amortization of capitalized costs
 Issue of impairment
 Provision for costs to be incurred after mine closures
 Establish fair values in a business combination and reporting interests in joint
undertaking.

Litigations and Claims


Litigations and claims involving the entity may have a material effect on the financial
statements.
PSA 501 requires the auditor to carry out procedures in order to be aware of litigations and
claims involving the entity which may have a material effect on the financial statements. It usually
includes:
 Inquiry of management (particularly with concerns to environmental issues, safety issues,
market value of the minerals, and if the entity have lawsuits filed)
 Minutes of meeting and correspondence with lawyers
 Reviewing legal expense account

Written Management Representation


Written representations are an important source of audit evidence.
PSA 580 requires an auditor to obtain sufficient appropriate audit evidence that the entity’s
management:
 Has acknowledged that it has fulfilled its responsibility for the preparations and
presentation of fair financial statements.
 Has approved the financial statements.
Management written representation complement the audit evidence the auditor accumulates, but
they do not substitute for the performance of audit procedures designed to obtain necessary evidence for
the expression of an opinion.

Wrap-Up Procedures
Wrap-up procedures are those procedures done at the end of the audit that generally cannot be
performed before the other audit work is complete which include;
 Final analytical procedures
Analytical procedure involves analysis of significant ratios and trends, including the
resulting investigation of fluctuations and relationships that are inconsistent with other
relevant information or deviate from predicted amounts.
These analytical procedures helps auditor in assessing the risk of material
misstatements in the financial statements.
 Evaluation of the entity’s ability to continue as a going concern
The auditor is required to evaluate whether substantial doubt exists about the client
entity's ability to continue as a going concern.
 Evaluation audit findings
After evaluating the evidence obtained, the auditor should decide whether to accept
the financial statements as fairly stated or to request management to revise the statement.
Material misstatements discovered during the audit must be corrected by recommending
appropriate adjusting entries.

II.F. Post Audit Responsibilities


Post audit responsibilities include the consideration of the following:
 Subsequent discovery of facts
The auditor has no obligation to make any inquiry regarding previously issued
financial statements unless the auditor becomes aware of some material facts which a.)
existed at the date of the auditor’s report and b.) if known at the date of report, it caused the
auditor to modify the report.
 Subsequent discovery of omitted procedure
When the auditor concludes that an auditing procedure considered necessary at the
time of the audit in the circumstances then existing was omitted from his audit of financial
statements, he should assess the importance of the omitted procedure to his present ability to
support his previously expressed opinion regarding those financial statements taken as a
whole.

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