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Edition 1 – Nov 2022
Edition 2 – Dec 2023

CA Inter - Paper 6: Auditing and Assurance
CHAPTER WISE WEIGHTAGE - BASED ON PAST EXAM ANALYSIS (Excl. MCQs)
S. No. CHAPTER NAME May-23 Nov-22 May-22 Dec-21 Jul-21 Jan-21 Nov-20 Nov-19 May-19 Avg. of category ICAI Weightage
(excl. MCQs) (incl. MCQs)
I SA 200, 300 & 500 series
1 Nature, Objective & Scope of Audit (SA 200, 210 & 220) - 6 - 4 2 6 6 3 8 16.13 Marks 20 - 25 marks
2 Audit Strategy, Audit Planning and Audit Programme (SA 300 & 320) 3 - 2 4 4 - 4 10 7
7 Audit Sampling (SA 530) 4 3 3 5 2 4 3 2 4
8 Analytical Procedures (SA 520) 5 5 6 2 5 3 3 9 4
TOTAL 12 14 11 15 13 13 16 24 23
II Audit Documentation and Audit Evidence
3 Audit Documentation and Audit Evidence (SA 230, 500, 580, 501, 505, 510, 12 9 14 8 12 9 9 11 5 16.13 Marks 5 - 15 marks
550, 560, 570)
III Risk Assessment & Control
4 Risk Assessment & Control (SA 315, 320, 610) 11 7 4* 5 9 11 13 2 - 11.13 Marks 10 - 15 marks
6 Audit in Automated Environment 5 5 8 3 2 6 7 3 4
TOTAL 16 12 12 8 11 17 20 5 4
IV SA 240 + Company Audit
5 Fraud & Responsibility (SA 240) 3 5 9 10 5 6 4 3 6 19.38 Marks 15 - 20 marks
10 The Company Audit 10 16* 14* 15* 11 9 7 17 18
TOTAL 13 21 23 25 16 15 11 20 24
V Audit Report
11 Audit Report (SA 700, 701, 705, 706, 710) 5 6 9 3 5 6 3 - - 5.33 Marks 5 - 15 marks
VI Vouching
9 Audit of Items of Financial Statements 16 14 8 17 13 15 9 12 18* 13.25 Marks 10 - 15 marks
VII Audit of entities
12 Audit of Banks 3 4 6 4 3 4* 4 7 8* 13.86 Marks 10 - 15 marks
13 Audit of different types of Entities 13 10* 3 6* 13* 11* 14* 7* 8
TOTAL 16 14 9 10 16 11* 18 14 16
* Questions with internal choice
NOTE 1: Weightage of Optional questions has been taken in calculations; 2: MCQs are not considered in calculation. Only theory paper weightage has been taken.
INDEX
# Chapter Page No
1 Nature, Objective and Scope of Audit 1.1 - 1.30
2 Audit Strategy, Audit Planning and Audit Programme 2.1 - 2.19
3 Risk Assessment and Internal Control 3.1 - 3.47
4 Audit Evidence 4.1 - 4.59
5 Audit of Items of Financial Statements 5.1 - 5.45
6 Audit Documentation 6.1 - 6.7
7 Completion and Review 7.1 - 7.31
8 Audit Report 8.1 - 8.52
9 Special Features of Audit of Different Type of Entities 9.1 - 9.37
10 Audit of Banks 10.1 - 10.23
11 Ethics and Terms of Audit Engagements 11.1 - 11.25
NATURE, OBJECTIVE AND SCOPE OF AUDIT
Contents
• Audit Background
• Origin of Auditing
• Interdisciplinary Relationship
• Objectives of Audit
• Scope of Audit
• Inherent Limitations of Audit
• Benefits of Audit
• Meaning of Assurance Engagement
• Audit v/s Review
• Engagement and Quality Control Standards- an overview
•
1.• Audit Background – For a Company
• In a company form of organization, the Ownership and Management is different.

• Management of the company prepares financial statements and presents to the members.
• The members are not allowed to interfere in the day-to-day business of the company.
• It is also not practically possible for the members to scrutinize and get into the details of the
financial statements.
• Members of the company appoint an auditor to check the financial statements prepared by the
management of the company.
• Auditor examines and audits the books of the company, and presents an Audit report to the
members.
• The Auditor reports to the members through an Audit Report.
1.1. The Game of Auditing
1.2 ORIGIN OF AUDITING
Invest
Company &
Management Members
Audit of
Audit
Financial
Report
statements
Auditor
1FIN BY INDIGOLEARN 1.1

• Auditing has existed even in ancient times in many societies of world including India.
• The reference to auditing is found in Kautilya’s Arthshastra even in 4th century BC. It talks about
fixed accounting year, a process for closure of accounts and audit for the same.
• Concepts of periodical checking and verification existed even in those times. Even there are
references in his monumental work to misstatements in financial statements due to abuse of power
• The word “audit” originates from Latin word “audire” meaning “to hear”. In medieval times,
auditors used to hear the accounts read out to them to check that employees were not careless
and negligent.
• Coming to more recent history, the first Auditor General of India was appointed in British India in
1860 having both accounting and auditing functions.
• Later on, office of Auditor General was given statutory recognition. Presently, Comptroller and
Auditor General of India is an independent constitutional authority responsible for auditing
government receipts and expenditures.
• The Institute of Chartered Accountants of India was established as a statutory body under an Act
of Parliament in 1949 for regulating the profession of Chartered Accountancy in the country.
1.3 Meaning and Nature of Auditing
“Audit is an independent examination of financial information of any entity, whether profit

oriented or not, and irrespective of its size or legal form, when such an examination is
conducted with a view to express an opinion thereon.”
• Independent examination – implies the judgement of a person is not subordinate to the

wishes or direction of another person who might have engaged him.
• Financial information – The financial statements and accounts of the entity
• Any entity – whether profit oriented or not and irrespective of its size or legal form. It could
be firm, LLP Company etc.
• Opinion thereon (objective) – Auditing gives a reasonable assurance that the financial
statements are prepared properly, and they are not misleading.
The person conducting this task should take care to ensure that financial statements would not
mislead anybody. This he can do honestly by satisfying himself that:
▪ the accounts have been drawn up with reference to entries in the books of account
▪ the entries in the books of account are adequately supported by sufficient and appropriate
evidence
▪ none of the entries in the books of account has been omitted in the process of compilation
and nothing which is not in the books of account has found place in the statements
▪ the information conveyed by the statements is clear and unambiguous
▪ the financial statement amounts are properly classified, described and disclosed in
conformity with accounting standards; and
▪ the statement of accounts presents a true and fair picture of the operational results and
of the assets and liabilities.

1. Auditing provides assurance.
2. Its basic nature lies in providing assurance to users - providing confidence to users of
3. Such an assurance lends credibility to financial statements.
4. Audited financial statements provide confidence to users that financial information

reflected in financial statements can be relied upon.
5.
2. INTERDISCIPLINARY NATURE OF AUDITING- RELATIONSHIP WITH DIVERSE SUBJECTS
• Auditing is interdisciplinary in nature.

• It draws from diverse subjects including accountancy, law, behavioural science, statistics,
economics and financial management and makes use of these subjects.
Law
Productio
n Economics
Accountin Behaviour
g Auditing al Science
Statistics
Financial
and
Managem
Mathemat
ent
ics
Data
Processing
Auditing and Accounting: Auditing reviews the financial statements which are
nothing but a result of the overall accounting process.
Auditing and Law: An auditor should have a good knowledge of business laws
affecting the entity.
Auditing and Economics: Auditor is expected to be familiar with the overall economic
environment of the client.
Auditing and Behavioural Science: Knowledge of human behaviour is essential
for an auditor to effectively discharge his duties.

Auditing and Statistics & Mathematics: Auditor is also expected to have the knowledge of
statistical sampling for meaningful conclusions and mathematics for verification of inventories.
Auditing and Data Processing: EDP auditing in itself is developing as a discipline in itself.
Auditing and Financial Management : Auditor is expected to have knowledge about various
financial techniques such as working capital management, funds flow, ratio analysis, capital
budgeting etc.
Auditing and Production: Good auditor is one who understands the client and his business
functions such as production, cost system, marketing etc.
Conclusion
• Auditing as a discipline is also closely related with various other disciplines as there is lot of
linkages in the work which is done by an auditor in his day-to-day activities.
• The knowledge of language is also considered essential in the field of auditing as the auditor
shall be required to communicate, both in writing as well as orally, in day-to-day work.
• Auditing is also closely related with other functional fields of business such as finance,
production, marketing, personnel, and other general areas of business management.
3. Overall Objective of the Auditor
In conducting audit of financial statements, objectives of auditor in accordance with SA-200 “Overall
Objectives of the Independent auditor and the conduct of an audit in accordance with Standards on
Auditing” are: -
(a) To obtain reasonable assurance about whether the financial statements as a whole are free
from material misstatement, whether due to fraud or error, thereby enabling the auditor to
express an opinion on whether the financial statements are prepared, in all material respects, in
accordance with an applicable financial reporting framework; and
(b) To report on the financial statements, and communicate as required by the SAs, in
accordance with the auditor’s findings.
An analysis of above brings out following points clearly: -

• The opinion on financial statements which is a good indicator of the correct position of the
business entity is called appropriate audit opinion.
• The auditor is required to give an appropriate audit opinion after conducting the audit.
• To give an appropriate audit opinion, the auditor has to be
▪ Independent – The Auditor’s opinion should be unbiased.
▪ Unbiased – It is not influenced by any prior perception of the auditor. Conclusion should be
based on the evidences obtained.
▪ Knowledgeable – He should gain knowledge of the relevant business to be able to form a
correct opinion.
3.1 Reasonable Assurance

• It is the best assurance that the auditor can give. He cannot give a 100% assurance (absolute
assurance) as the audit is subject to certain inherent limitations.
• Thus, reasonable assurance is the assurance given to the best of his ability and with the
information made available.

• Reasonable assurance is to be distinguished from absolute assurance. Absolute assurance is a
complete assurance or a guarantee that financial statements are free from material
misstatements.
• However, reasonable assurance is not a complete guarantee. Although it is a high-level of
assurance but it is not complete assurance.
3.2 Material Misstatement

A significant mistake in the financial statements. An item is called material if it has the ability to
change the decision of the user. Auditor fixed materiality at the time of planning the audit.
3.3 Fraud And Error

Error is an unintentional mistake. Something which has happened inadvertently. But fraud is
deliberate and intentional mistake.
3.4 Financial Reporting Framework

• It is the format in which the financial statements should be prepared and presented. The laws
governing different types of entities will provide such format.
▪ For companies – The Companies Act 2013 prescribes the format
▪ For Banks – RBI’s regulations provide the format
▪ For Insurance companies – IRDA provides the format etc.
• Thus, the management must prepare its financial statements as per the prescribed format
only. The auditor has to report on the compliance of the same.
• There are two types of frameworks- Fair Presentation Framework and Compliance Framework
3.5 Audit Evidence

Information collected during the audit, based on which the audit opinion is formed is called audit
evidence.
3.6 Reporting
The opinion is reported and communicated in accordance with audit findings through a written
report as required by Standards on Auditing. ( SA 700 series)
An overview of Objective of Auditor

• Obtaining a reasonable assurance that financial statements as a whole are free from
material misstatement due to fraud or error
• Gaining a reasonable assurance leads to formation of opinion whether financial
statements are prepared, in all material respects, in accordance with applicable financial
reporting framework
• To report on the financial statements
• Reporting of opinion in accordance with audit findings
• Communication of reporting
• Reporting and communication in accordance with Standards on Auditing

4. Aspects, Scope of Audit & Role of Management & Auditor
Aspect of Audit: It describes the process from the beginning to end in an audit
engagement.
Acceptance of Issue an Audit

audit Report
-Plan the Audit Form an

AUDIT Appropriate Audit
-Obtain Audit FLOWCHART opinion
Evidence Using Audit
techniques
Form conclusions on
Perform audit procedures areas of financial
Examination of Sufficient & statements
Appropriate Audit Evidence
Role of Management and Auditor

• Management has certain responsibilities towards Members
Maintenance of proper books of accounts
Choosing appropriate accounting policies
Designing internal controls in line with size and nature of entity
Prevention and early detection of fraud and error
Follow fundamental accounting assumptions
Ensure that financial statements are in line with proper financial reporting framework
Safeguard the assets of the entity

• Management has certain responsibilities towards Auditors
Access to books and records of the entity
Provide information and explanation whenever asked for
• Management is primarily responsible for preparation of the Financial statements.

• The Auditor has to check whether all the responsibilities of Management have been fulfilled
or not.
• Statutory Auditor is
▪ Appointed by the Members
▪ Works for the Members
▪ Reports to the Members.
4.1 Scope of Audit

• To form an opinion the auditor should be satisfied that the accounting information is reliable
and sufficient as the basis for the preparation of the financial statements.
• All aspects of the enterprise are covered in audit.
• In forming his opinion, the auditor should decide whether the relevant information is properly
disclosed in the financial statements.
• The auditor is not expected to perform duties which are outside the scope of his
competence. For example, the professional skill required of an auditor does not include that
of a technical expert for determining physical condition of certain assets.
• Constraints on the scope of the audit that impair the auditor’s ability to express an unqualified
opinion should be set out in his report.
An Overview of Scope of Audit- what Audit Includes

• Coverage of all aspects of entity relevant to the financial statements being audited.
• Reliability and Sufficiency of financial information
• Proper disclosure of financial information
• Expression of an opinion on financial statements
What Audit does not include

• Responsibility of preparation and presentation of financial statements
• Duties outside scope of competence of auditor

• Expertise in authentication of documents
• Investigation

5. Inherent Limitations of Audit
Inherent Limitation of Audit
Timeliness
of financial
reporting
Nature of Nature of Not in
and Future
Financial Audit nature of
decrease in Events
Reporting Procedures Investigation
relevance of
information
over time
The process of audit suffers from certain inbuilt limitations due to which an auditor cannot obtain
an absolute assurance that financial statements are free from misstatement due to fraud or error.
These fundamental limitations arise due to the following factors: -
Nature of Financial Reporting
• The preparation of financial statements involves judgment by management in applying the

requirements of the entity’s applicable financial reporting framework to the facts and
circumstances of the entity.
• Sometimes auditor has to satisfy himself with alternative proofs. Hence, Audit is a process
of persuasion and not a process of proof.
• Preparations of financial statement calls for estimations in many scenarios like, provision
for doubtful debts, estimation of useful life of the asset etc.
Nature of Audit procedures
• Many financial statement items involve subjective decisions or assessments or a degree

of uncertainty, and there may be a range of acceptable interpretations or judgments that
may be made.
• There is the possibility that management or others may not provide, intentionally or
unintentionally, the complete information that is relevant
• The existence and completeness of related party relationships and transactions may be
difficult to identify.
• The auditor is not given specific legal powers, such as the power of search, which may be
necessary for such an investigation.
Not in nature of Invetsigation
• Audit is not an official investigation. Hence, auditor cannot obtain absolute assurance that
financial statements are free from material misstatements due to frauds or errors

Timelines of financial reporting and decrease in relevance of information over time
• The relevance of information decreases over time and auditor cannot verify each and every
matter. Therefore, a balance has to be struck between reliability of information and cost
of obtaining it.
Future Events
• Future events or conditions may affect an entity adversely. Adverse events may seriously
affect ability of an entity to continue its business.
• The business may cease to exist in future due to change in market conditions, emergence
of new business models or products or due to onset of some adverse events.
Therefore, it is in view of above factors, that an auditor cannot provide a guarantee that
financial statements are free from material misstatements due to frauds or errors.
6. Engagement
Engagement means an arrangement to do something. In the context of auditing, it means a formal
agreement between auditor and client under which auditor agrees to provide auditing services. It
takes the shape of engagement letter.
7. External audit engagements

• The purpose of external audit engagements is to enhance the degree of confidence of
intended users of financial statements.
• Such engagements are also reasonable assurance engagements.
• For example, in India, companies are required to get their annual accounts audited by an
external auditor.
• Even non-corporate entities may choose to have their accounts audited by an external
auditor because of benefits of such an audit.
8. Benefits of Audit
• Audited accounts provide high quality information. It gives confidence to users that
information on which they are relying is qualitative and it is the outcome of an exercise
carried out by following Auditing Standards recognized globally.
• In case of companies, shareholders may or may not be involved in daily affairs of the
company. The financial statements are prepared by management consisting of directors.
As shareholders are owners of the company, they need an independent mechanism so that
financial information is qualitative and reliable. Hence, their interest is safeguarded by an
audit.
• An audit acts as a moral check on employees from committing frauds for the fear of being
discovered by audit.
• Audited financial statements are helpful to government authorities for determining tax
liabilities.
• Audited financial statements can be relied upon by lenders, bankers for making their credit
decisions i.e. whether to lend or not to lend to a particular entity.

• An audit may also detect fraud or error or both.
• An audit reviews existence and operations of various controls operating in any entity.
Hence, it is useful at pointing out deficiencies.
9. Audit - Mandatory or Voluntary?

• It is not necessary that audit is always legally mandatory.
• There are entities like companies who are compulsorily required to get their accounts
audited under law.
• Even non-corporate entities may be compulsorily requiring audit of their accounts under
tax laws. It is also possible that some entities like schools may be required to get their
accounts audited for the purpose of obtaining grant or assistance from the Government.
• Audit is not always mandatory. Many entities may get their accounts audited voluntarily
because of benefits from the process of audit.
• Many such concerns have their internal rules requiring audit due to advantages flowing
from an audit.
10. Appointment of Auditor

• Generally, an auditor is appointed by owners or in some cases by constitutional or
government authorities in accordance with applicable laws and regulations.
• For example, in case of companies, auditor is appointed by members (shareholders) in
Annual General Meeting (AGM).
• However, in case of government companies in India, auditor is appointed by Comptroller
and Auditor General of India (CAG), an independent constitutional authority.
• There may be a situation in which auditor may be appointed by a government authority in
accordance with some law or regulation. For example, an auditor may be appointed under
tax laws by a government authority.
11. Submission of Audit Report

• The outcome of an audit is written audit report in which auditor expresses an opinion.
• The report is submitted to person making the appointment.
• In case of companies, these are shareholders- in case of a firm, to partners who have
engaged him.
12. Meaning of Assurance Engagement

Assurance engagement” means an engagement in which
• a practitioner expresses a conclusion designed to enhance the degree of confidence of

the intended users
• other than the responsible party
• about the outcome of the evaluation or measurement of a subject matter against criteria.
It means that the practitioner gives an opinion about specific information due to
which users of information are able to make confident decisions knowing well that
chance of information being incorrect is diminished.

13. Elements of Assurance Engagement
Three party relationship
Appropriate Subject matter
suitable criteria
sufficient and apporpriate audit

Evidence
Written Assurance Report
A three-party relationship involving a practitioner, a responsible party, and intended users

An assurance engagement involves abovesaid three parties.
• A practitioner is a person who provides the assurance. The term practitioner is broader
than auditor. Audit is related to historical information whereas practitioner may provide
assurance not necessarily related to historical financial information.
• A responsible party is the party responsible for preparation of subject matter.
• Intended users are the persons for whom an assurance report is prepared. These
persons may use the report in making decisions.
2. An appropriate subject matter
It refers to the information to be examined by the practitioner. For example, financial

information contained in financial statements while conducting audit of financial statements.
3. Suitable criteria
These refer to benchmarks used to evaluate the subject matter like standards, guidance, laws,
rules and regulations.
4. Sufficient appropriate evidence
The practitioner performs an assurance engagement to obtain sufficient appropriate evidence. It

is on the basis of evidence that conclusions are arrived and an opinion is formed by auditor.

“Sufficient” relates to quantity of evidence obtained by auditor.
“Appropriate” relates to quality of evidence obtained by auditor.
One evidence may be providing more comfort to auditor than the other evidence. The evidence
providing more comfort is qualitative and, therefore, appropriate. Evidence should be both
sufficient and appropriate.
5. A written assurance report in appropriate form
A written report is provided containing conclusion that conveys the assurance about the subject
matter. A written assurance report is the outcome of an assurance engagement.
14. Meaning of Review: Audit v/s Review

• Audit is a reasonable assurance engagement. It provides reasonable assurance.
However, review is a limited assurance engagement.
• It provides lower level of assurance than audit.
• Further, review involves fewer procedures and gathers sufficient appropriate evidence on
the basis of which limited conclusions can be drawn up.
• However, both “audit” and “review” are related to financial statements prepared
on the basis of historical financial information.
15. Types of Assurance Engagements- Reasonable assurance engagement vs. Limited

assurance engagement
Reasonable Assurance Engagement Limited Assurance Engagement
Reasonable assurance engagement Limited assurance engagement provides lower

provides high level of assurance. level of assurance than reasonable assurance
engagement.
It performs elaborate and extensive It performs fewer procedures as compared to

procedures to obtain sufficient appropriate reasonable assurance engagement.
evidence.
It draws reasonable conclusions on the basis It involves obtaining sufficient appropriate

of sufficient appropriate evidence. evidence to draw limited conclusions.
Example of reasonable assurance Example of limited assurance engagement is

engagement is an audit engagement. review engagement.

Types of Assurance Engagements
Assurance Engagements
Assuarnce Engagement
Reasonable Assurance Limited Assuarnce dealing with matters
Engagement Engagement other than historical
financial information
Examination of
prospective financial
Audit Review information (like forecast)
or assurance regarding
operations of controls
16. Qualities of the Auditor
• Tact, caution, firmness, good temper, integrity, discretion, industry, judgement,

patience, clear headedness and reliability are some of qualities which an auditor should
have.
• In short, all those personal qualities that go to make a good businessman contribute to
the making of a good auditor.
• He must have the highest degree of integrity backed by adequate independence.
• The auditor, who holds a position of trust, must have the basic human qualities apart
from the technical requirement of professional training and education.
• He is called upon constantly to critically review financial statements and it is obviously
useless for him to attempt that task unless his own knowledge is that of an expert.
• An exhaustive knowledge of accounting in all its branches is a must for the practice of
auditing. He must know thoroughly all accounting principles and techniques.
17. ENGAGEMENT AND QUALITY CONTROL STANDARDS: AN OVERVIEW

The following Standards issued under authority of ICAI Council are collectively known as
Engagement Standards: -
1. Standards on auditing (SAs) which apply in audit of historical financial information.

2. Standards on review engagements (SREs) which apply in review of historical financial
information.

3. Standards on Assurance engagements (SAEs) which apply in assurance engagements other
than audits and review of historical financial information.
4. Standards on Related Services (SRSs) which apply in agreed upon procedures to information,
compilation engagements and other related service engagements.
The purpose of issue of these standards is to establish high quality standards and guidance in the
areas of financial statement audits and in other types of assurance services.
Standards on Standards on
Standards on
Standards on Review Assurance
Related Services
Auditing (SA) Engagements Engagements
(SRSs)
(SREs) (SAEs)
Standards on Auditing
• Standards on Auditing apply in the context of an audit of financial statements by an

independent auditor.
• These establish high quality benchmarks and are followed by auditors in conducting audit
of financial statements.
• Standards on Auditing have been issued on wide spectrum of issues in the field of auditing
ranging from overall objectives of independent auditor, audit documentation, planning an
audit of financial statements, identifying and assessing risk of material misstatement,
audit sampling, audit evidence and forming an opinion and reporting on financial
statements
Classification of SAs
Introductory matters 100-199
General Principles and responsibilities 200-299
Risk assessment and response to assessed 300-499
risk
Audit evidence 500-599
Using the work of others 600-699
Audit conclusion and reporting 700-799
Specialized areas 800-899
Standards on Review Engagements
Standards on Review engagements are:
• SRE apply in the context of review of Financial Statements

• Review is a limited assurance engagement and it provides assurance which is lower than
that provided by audit. It is due to the fact that review involves fewer procedures as
compared to audit.
• Since a review also provides assurance to users, it also involves obtaining sufficient

appropriate evidence.
• For example, when an auditor performs review of interim financial information of an
entity.
Examples of SREs are:
• SRE 2400 (Revised): Engagements to Review Historical Financial Statements

• SRE 2410: Review of Interim Financial Information Performed by the Independent Auditor
of the Entity
SAs and SREs apply to engagements involving historical financial information.
Standards on Assurance Engagements

• Set of standards which apply in assurance engagements dealing with subject matters
other than historical financial information.
• Such assurance engagements do not include “audit” or “review” of historical financial
information.
• For example, an assurance engagement relating to examination of prospective financial
information.
• In such type of assurance engagements, examination is not of historical financial
information or engagement may relate to providing assurance regarding non -financial
matters like design and operation of internal control in an entity.
Examples of Standards on Assurance Engagements are:
• SAE 3400 The Examination of Prospective Financial Information

• SAE 3420 Assurance Engagements to Report on the Compilation of Pro Forma Financial
Information Included in a Prospectus
Standards on Related Services

• These standards apply in engagements to perform agreed-upon procedures regarding
financial information.
• An engagement in which practitioner may be called upon to assist management with the
preparation and presentation of historical financial information without obtaining
assurance on that information.
• Such type of compilation engagements fall in the category of related services and
practitioner issues a report clearly stating that it is not an assurance engagement and no
opinion is being expressed.
• These types of services are called related services and standards have been issued to
deal with practitioner’s responsibilities in this regard.
Examples of Standards on related services are:
♦ SRS 4400 Engagements to perform agreed-upon procedures regarding financial
information
♦ SRS 4410 (Revised) Compilation engagements
It is to be clearly understood that all the above standards i.e., Standards on Auditing
(SAs), Standards on Review Engagements (SREs), Standards on Assurance Engagements
(SAEs) and Standards on related services (SRSs) are collectively known as the

Engagement Standards.
Numbering of Standards
Standards
Standards on Standards on Standards on Standards on

Standards on
Quality Review Assurance related
Auditing
control Engagements Engagements services
01-99 100-899 2000-2699 3000-3699 4000-4699
18. Standards on Quality Control

• Standards on Quality Control (SQCs) have been issued to establish standards and provide
guidance regarding a firm’s responsibilities for its system of quality control for the conduct
of audit and review of historical financial information and for other ass urance and related
service engagements.
• SQC 1 has been issued in this regard. It requires auditors/practitioners to establish system
of quality control so that firm and its personnel comply with professional standards and
regulatory & legal requirements and reports issued are appropriate.
• Its basic objective is that while rendering services, to which engagement standards apply,
there should be a system of quality control with in firms to ensure complying with
professional standards/legal requirements.
• System of quality control ensures issuing of appropriate reports in the circumstances.
19. Need for Standards

• Standards ensure carrying out of audit against established benchmarks at par with global
practices.
• Standards improve quality of financial reporting thereby helping users to make diligent
decisions.
• Standards promote uniformity as audit of financial statements is carried out following
these Standards.
• Standards equip professional accountants with professional knowledge and skill.
• Standards ensure audit quality.
20. Duties in relation to Engagement and Quality Control Standards

• It is the duty of professional accountants to see that Standards are followed in

engagements undertaken by them.
• Ordinarily, these are to be followed by professional accountants.
• However, a situation may arise when a specific procedure as required in Standards would
be ineffective in a particular engagement.
• In such a case, he is required to document how alternative procedures performed achieve
the purpose of required procedure.
• Also, reason for departure has also to be documented unless it is clear. Further, his report
should draw attention to such departures.
• It is also to be noted that a mere disclosure in the report does not absolve a professional
accountant from complying with applicable Standards.
SA 200 - Overall Objectives of the Independent Auditor and the conduct of an Audit in
accordance with Standards on Auditing
20.1 Introduction
Standards on auditing are written in context of an audit of financial statements by an auditor.
Independent auditor is obliged to comply with all the SAs relevant for the audit of financial statements.
They are to be adapted if the circumstances addressed in the SAs exists in the audit.
The auditor is required to have an understanding of the complete SA, with respect to its objectives
and application.
SAs do not impose responsibilities on management or those charged with governance and do
not override laws and regulations that govern their responsibilities.
20.2 Scope of SA 200

.
• Establishing overall responsibilities of Independent Auditor when conducting an audit of
• Explains the nature and scope of an audit.
• Scope, authority & structure of Standards on Auditing
• General responsibilites which independent auditor should adhere to in all audits.
• Conduct of the audit in accordance with the Standards on Auditing (SA)

20.2.1 General Purpose Financial Statements
General Purpose
Financial
Statements
Other Statements &

Balance Sheet Profit & Loss A/c
Explanatory notes
20.2.2 Overall objectives of Independent auditor
Overall Objectives of Independent Auditor

(for conducting the audit)
Issuing an appropriate
Obtain reasonable audit opinion or
Report on the FS withdraw
assurance
• To obtain reasonable assurance about

whether the financial statements as a
whole are free from material
Reasonable assurance is a high level of
misstatement, due to fraud or error,
thereby enabling the auditor to express an assurance but is not an absolute level of
opinion on whether the financial statements assurance, because there are inherent
are prepared, in all material respects, in limitations of an audit.
accordance with an applicable financial
reporting framework;

• To report on the financial statements, and
communicate as required by the SAs, in accordance
with the auditor’s findings. Auditor expresses opinion
• Issuing an appropriate audit opinion or withdraw regarding financial health of
from the engagement, if required and legally permitted. the organisation
When reasonable assurance cannot be obtained and a qualified opinion in the auditor’s
report is insufficient, auditor can disclaim an opinion or withdraw from the engagement,
where withdrawal is legally permitted
SAs
include
Other
Objectives Requirements Application explanatory
material
These support auditor in obtaining reasonable assurance.

20.2.3 Audit of Financial Statements
Performed by
Auditor for the benefit of members/ intended users
Enhance degree of confidence of intended users in financial

Objective
statements
Opinion expressed whether or not financial statements

Outcome prepared as per financial reporting framework give true and
fair view
Auditor to ensure audit is conducted as per SAs & other ethical

Requirements
requirements

• Financial statements are prepared by the management of the entity and the auditor carries
out an audit on such financials to express an opinion whether such financial statements reflect true
and fair view of the financial condition of the entity.
Management’s Responsibility
The audit of the financial statements does not relieve management or those charged with governance
Audit is an independent examination of financial information of an entity

with a view to expressing an opinion there on.
of their responsibilities. Their main responsibilities are:

▪ Maintain adequate accounting records
▪ Select and apply appropriate accounting policies
▪ Design internal controls in line with size and nature of the entity
▪ Prevent and early detection of fraud and error
▪ Follow fundamental accounting assumptions
▪ Preparation of financial statements in accordance with applicable framework
▪ Safeguard assets
• An audit conducted in accordance with SAs and

relevant ethical requirements enables the auditor
to form an opinion that financial statements as a Audit enhances degree
whole are free from material misstatement, of confidence of
whether due to fraud or error.
intended users in the FS.

Objective - Express
Audit risk –
opinion (persuasive
Express
not conclusive)
inappropriate
opinion when
Basis of opinion FS are
Obtain Reasonable Audit
materially
assurance misstated
Requirements
FS are free from Follow SA, applicable
material misstatement financial reporting
(due to fraud or error) framework and laws
/ regulations
Obtain sufficient &

appropriate audit
evidence Reduces
• Auditor shall obtain reasonable assurance, which is the basis for his opinion. Reasonable
assurance is a high level of assurance.

• Auditors’ approach
▪ Identify and assess risks of material misstatement, whether due to fraud or error,
based on an understanding of
o the entity
o entity’s environment,
o entity’s internal control.
Identify
▪ Obtain sufficient appropriate audit evidence Risk
about whether material misstatements exist,
through designing and implementing
appropriate responses to the assessed risks. Obtain
▪ Form an opinion on the financial statements evidence
based on conclusions drawn from the audit
evidence obtained and will depend upon the
applicable financial reporting framework and Form
Opinion
any applicable laws or regulations.
• The auditor may communicate and report to users,

management or others as per SAs or applicable laws or regulations.
20.2.4 Scope of audit
• Statute governing the enterprise

• Pronouncements of ICAI like AS and SAs
• Terms of engagement.
However, terms of engagement can’t override the other two

20.3 Concept of True and Fair
The concept of true and fair is a fundamental concept in auditing. The phrase “true and fair” in the
auditor’s report signifies that the auditor is required to express his opinion as to whether the state of
affairs and the results of the entity as ascertained by him in the course of his audit are truly and fairly
represented in the accounts under audit. What constitutes a ‘true and fair’ view is a matter of an
auditor’s judgment in the particular circumstances of a case. In more specific terms, to ensure true
and fair view, an auditor has to see:
• that the assets are neither undervalued nor overvalued, according to the applicable accounting
principles,
• no material asset is omitted
• the charge, if any, on assets are disclosed
• material liabilities should not be omitted
• the profit and loss account and balance sheet disclose all the matters required to be disclosed
• accounting policies have been followed consistently and
• all unusual, exceptional or non-recurring items have been disclosed separately.
20.4 Requirements of an Auditor as per SA 200
SA 200 covers the following major aspects with respect to the requirements an auditor has to fulfil:
▪ Ethical requirements in relation to financial statements.
▪ Carry out audit with professional skepticism
▪ Exercise professional judgement wherever required.
▪ Obtain sufficient and appropriate audit evidence.
▪ Comply with Standards on Auditing.
20.4.1 Ethical Requirements of an Auditor
P O PProfessional C I
Professional
Objectivity Competenc Confidentiality Integrity
behaviour
e
• Professional behaviour- Professional relation should be maintained between client and auditor
throughout the audit and other interest should override this objective.
• Objectivity –Auditor should be independent not just outwardly, but also inwardly. Also, auditor
should be focused on the purpose of audit and discharge his duty effectively.
• Professional competence and due care – This indicate thorough professional knowledge and
its dynamic updation, coupled with its meticulous application.
• Confidentiality- Not to part with information obtained by him regarding client during the course
of audit with any person other than
▪ The client
▪ A person authorized by the client
▪ A person who legally is entitled to know this information
• Integrity – Honest and loyal behaviour of auditor towards users of financials. This gets

strengthened with high degree of independence.
20.4.2 Professional Skepticism
• Professional skepticism is necessary to the critical assessment of audit evidence, includes
Professional skepticism is an attitude of auditor which requires auditor’s

alertness towards information provided to him by the client / auditee.
being alert to ascertain sufficiency and appropriateness of audit evidence, for example, auditor needs
to be :
▪ Audit evidence that contradicts other audit evidence obtained.
▪ Information about the reliability of documents and responses to inquiries to be used
as audit evidence.
▪ Conditions that may indicate possible fraud.
▪ Circumstances that suggest the need for audit procedures in addition to those
required by the SAs.
Benefits of following professional skepticism – Minimize the risk of overlooking

• Unusual circumstances
• Using inappropriate assumptions
• Professional skepticism doesn’t mean that

auditor doubts every bit of information given by the
client. Auditor may accept records provided to him as Auditor should not doubt everything
genuine unless he has a reason to believe the contrary.
but always be alert that there is a
However, he should bear in mind that there is a
possibility of misstatement.
possibility of its misstatement and follow a cautious
approach.
20.4.3 Professional Judgement

.
Professional judgement is judgement taken by auditor out of his

professional experience in an audit situation

• Professional Judgment is necessary for audit procedures in aspects like
▪ Materiality and audit risk.
▪ The nature, timing, and extent of audit procedures used to meet the requirements of the SAs
and gather audit evidence.
▪ Evaluating whether sufficient appropriate audit evidence has been obtained, and whether
more needs to be done to achieve the objectives of the SAs and thereby, the overall objectives
of the auditor.
▪ The evaluation of management’s judgments in
applying the entity’s applicable financial reporting
framework. Auditor’s professional judgement
▪ The drawing of conclusions based on the audit should be rational, reasonable and
evidence obtained, for example, assessing the appropriate to the circumstances.
reasonableness of the estimates made by
management in preparing the financial statements.
Professional Skepticism vs Professional Judgement

Professional skepticism is necessary for high-quality professional judgment, but it is only one
component of what is necessary for the auditor to exercise sound professional judgment. For
example, skepticism without requisite accounting and auditing industry expertise is not
sufficient to obtain high-quality judgment.
20.4.4 Sufficient & Appropriate Audit Evidence
Audit evidence is cumulative in nature and is primarily obtained from audit procedures performed
during the course of the audit.
Sufficient Audit Evidence = Quantity of evidence.

(Eg. Testing the 70% of the transactions.)
Appropriate Audit Evidence = Quality of evidence. (relevance & reliability in supporting
auditor’s conclusion)
(Eg. Obtaining 3rd Party confirmations.)
In Audit both quality and quantity are equally important. This concept is elaborated in SA 500.
20.4.5 Compliance with SAs

The auditor shall comply with all SAs relevant to the audit. SA is relevant to the audit when the SA
is in effect and the circumstances addressed by the SA exist. The auditor shall have an
understanding of the entire text of a SA, including its application and other explanatory material,
to understand its objectives and to apply its requirements properly

The auditor shall not represent compliance with SAs in the auditor’s report unless the auditor
has complied with the requirements of this SA and all other SAs relevant to the audit.
20.5 Audit Risk
Audit risk is the risk that the auditor expresses an inappropriate audit
opinion when the financial statements are materially misstated.
20.5.1 Components of Audit risk

Audit risk is a function of the risks of material misstatement (i.e. Inherent Risk + Control Risk) and
detection risk.
Material misstatement is a combination of Inherent Risk and Control Risk
Inherent Control Detection

Audit Risk
Risk Risk Risk
• Inherent Risk
The susceptibility of an assertion about a class of transaction, account balance or disclosure
to a misstatement that could be material, either individually or when aggregated with
other misstatements, before consideration of any related controls.
• Control risk
The risk that a misstatement that could occur in an assertion about a class of transaction,
account balance or disclosure and that could be material; either individually or when
aggregated with other misstatements, will not be prevented, or detected and corrected,
on a timely basis by the entity’s internal control.
• Detection risk
The risk that the procedures performed by the auditor to reduce audit risk to an acceptably
low level will not detect a misstatement that exists and that could be material, either
individually or when aggregated with other misstatements.

Control Risk is inversely related to Detection Risk.
If the internal controls of an organization are effective it means the control risk is low and
auditor will perform lesser audit procedures which results in higher detection risk and vice
versa.
Auditor has to plan his procedures to minimize the audit risk after taking into consideration the three
risks.
20.5.2 Risk of Material Misstatement
Misstatement – A difference between the amount, classification,

presentation, or disclosure of a reported financial statement item and the
amount, classification, presentation, or disclosure that is required for the
item to be in accordance with the applicable financial reporting framework
Risk of material misstatement exists at two levels.
Overall financial statement level

The overall financial statement level (risks of material misstatement that relate pervasively to the
financial statements as a whole and potentially affect many assertions) and
Assertion level
The assertion level for classes of transactions, account balances, and disclosures.
SA 315 establishes requirements and provides guidance on

identifying and assessing the risks of material
misstatement at the financial statement and assertion levels. Misstatements can arise
from error or fraud.

20.5.3 Audit risk & Audit plan
Auditor has to plan his procedures to
minimize the audit risk after taking into
consideration the three risks.
Example: The inherent risk is that it's

raining, which is controlled by the nature
and has no bearing of the audit. This is
compared to the risk that misstatements
are likely to occur in Financial Statements.
Like how an umbrella can help us from not
getting wet, controls of company are
designed to avoid misstatements. The risk
that we might get wet even after using an
umbrella is control risk. Next is the
detection risk, where we did not anticipate
the rainfall or the size of the umbrella is
smaller than required is compared to audit
procedures to apply during the audit. All
the three risks together make Audit risk.
20.6 Objective Stated in Individual SAs

To achieve the overall objectives of the auditor, the auditor shall use the objectives stated in relevant
SAs in planning and performing the audit, having regard to the interrelationships among the SAs, to
• Determine whether any audit procedures in addition to those required by the SAs are
necessary in pursuance of the objectives stated in the SAs; and
• Evaluate whether sufficient appropriate audit evidence has been obtained.
20.6.1 Failure to achieve an objective

If an objective in a relevant SA cannot be achieved, the auditor shall evaluate whether this prevents
the auditor from achieving the overall objectives of the auditor and thereby requires the auditor, in
accordance with the SAs, to modify the auditor’s opinion or withdraw from the engagement.
Failure to achieve an objective represents a significant matter requiring documentation in accordance

with SA 230 (Revised).
20.7 Complying with Relevant Requirements

If the standard is applicable, it shall be complied with.
In exceptional circumstances, the auditor may judge it necessary to depart from a relevant
requirement in a SA. In such circumstances, the auditor shall perform alternative audit procedures to
achieve the aim of that requirement.
The need for the auditor to depart from a relevant requirement is expected to arise only where the
requirement is for a specific procedure to be performed and, in the specific circumstances of the audit,
that procedure would be ineffective in achieving the aim of the requirement.

20.8 Inherent Limitations of the Audit
The inherent limitations of an audit do not allow an auditor to reduce the audit risk to zero. It is
because of these limitations; the auditor gives a persuasive opinion and not a conclusive opinion.
Inherent limitations
Need for reasonable

Nature of financial Nature of audit
time & cost for
reporting procedures
conducting audit
• Nature of financial reporting

▪ Preparation financials also involves certain estimates, assumptions, assessments and
acceptable interpretations.
▪ In such cases, inherent level of variability cannot be eliminated by the application of additional
auditing procedures.
• Nature of audit procedures
▪ Management or others may not provide, intentionally or unintentionally, the complete
information that is relevant to the preparation and presentation of the financial statements.
▪ Certain carefully laid frauds might not be unearthed during the normal course of audit.
▪ Generally, test check basis is adopted, not 100% checking. So, some underlying misstatement
might remain undetected.
▪ Audit is persuasive, not conclusive.
▪ Limitations on knowledge of client’s business also poses a problem.
• Need for the audit to be conducted within a reasonable period of time and at a reasonable cost.
20.8.1 Factors affecting inherent limitations

Factors affecting inherent limitations are addressed in other auditing standards. Following are few of
the factors:
• Fraud, particularly fraud involving senior management or collusion.
• The existence and completeness of related party relationships and transactions.
• The occurrence of non-compliance with laws and regulations.
• Future events or conditions that may cause an entity to cease to continue as a going concern.
20.8.2 Inherent limitations and Auditors’ responsibility
Because of the inherent limitations of an audit, there is an unavoidable risk that some material
misstatements of the financial statements may not be detected, even though the audit is properly
planned and performed in accordance with SAs.
Accordingly, the subsequent discovery of a material misstatement of the financial statements

resulting from fraud or error does not by itself indicate a failure to conduct an audit in accordance
with SAs.

Whether the auditor has performed an audit in
accordance with SAs is determined by the audit
procedures performed in the circumstances, the The inherent limitations of an audit
sufficiency and appropriateness of the audit evidence
obtained as a result thereof and the suitability of the cannot be a justification for the
auditor’s report based on an evaluation of that auditor to be satisfied with less-
evidence in light of the overall objectives of the
auditor. than-persuasive audit evidence

AUDIT STRATEGY, AUDIT PLANNING AND AUDIT PROGRAMME
Contents
• Audit Planning and its benefits
• Planning process and its elements
• Audit Strategy and Audit Plan
• Audit Programme
• Control of quality of audit work
1. Audit Strategy and Planning
1.1 Audit Planning

• It is said, ‘Well begun is half done’. Thus, audit planning is the preparatory work done by the
auditor before he starts the audit. It is an essential step in conducting the audit. Audit flow chart
is given below
• SA-300, “Planning an Audit of Financial Statements” further emphasizes that planning is not a
discrete phase of an audit, but rather a continual and iterative process. Plans should be further
developed and revised as necessary during the course of the audit.
• Per SA- 300 the process begins shortly after (or in connection with) the completion of the previous
audit and continues until the completion of the current audit engagement.
• The auditor shall establish an overall audit strategy that sets the scope, timing, and direction of
the audit, and that guides the development of the audit plan.
1.2 Benefits of Audit Planning

1. Helping the auditor to devote appropriate attention to important areas of the audit.
2. Helping the auditor identify and resolve potential problems on a timely basis.
3. Helping the auditor properly organize and manage the audit engagement so that it is performed
in an effective and efficient manner.
4. Assisting in the selection of engagement team members with appropriate levels of capabilities
and competence to respond to anticipated risks, and the proper assignment of work to them.
5. Facilitating the direction and supervision of engagement team members and the review of their
work.
6. Assisting, where applicable, in coordination of work done by others such as experts

Appropriate
attention to
important
areas
Co-ordination Identify and

with other resolve
auditors and potential
experts problems
Benefits
of
Planning
Direction and
supervision of Efficient and
team and Effective
review of Audit
work
Selection of
team
members
2. Nature of Audit Planning- A Continuous and iterative process

i. Planning is not a discrete phase of an audit, but rather a continual and iterative process
that often begins shortly after (or in connection with) the completion of the previous audit
and continues until the completion of the current audit engagement.
ii. Planning, however, includes consideration of the timing of certain activities and audit
procedures that need to be completed prior to the performance of further audit
procedures. For example, planning includes the need to consider, prior to the auditor’s
identification and assessment of the risks of material misstatement, such matters as: -
a. The analytical procedures to be applied as risk assessment procedures.
b. Obtaining a general understanding of the legal and regulatory framework applicable to
the entity and how the entity is complying with that framework.
c. The determination of materiality.
d. The involvement of experts.
e. The performance of other risk assessment procedures.
Planning includes
Involvement of key engagement team members in planning audit

The engagement partner and other key members of the engagement team shall be
involved in planning the audit including planning and participating in the discussion

among engagement team members.
Discussion of elements of planning with entity’s management

The auditor may decide to discuss elements of planning with the entity’s management to
facilitate the conduct and management of the audit engagement. When discussing
matters included in the overall audit strategy or audit plan, care is required in order not to
compromise the effectiveness of the audit.
Planning Process- Elements of Planning
Elements of
Planning
Preliminary
Planning
Engagement
Activities
Activities
Establishment
Development
of Audit
of Audit plan
Strategy
(I) Preliminary engagement activities
The auditor considers whether relationship with client should be continued and whether
ethical requirements including independence continue to be complied with. It includes: -
• Performing procedures regarding the continuance of the client relationship (SA
220)
• Evaluating compliance with ethical requirements, including independence (SA 220)
• Establishing an understanding of terms of engagement (SA 210)
Performing procedures regarding the continuance of the client relationship (SA 220)
a) Ensure that appropriate procedures regarding the acceptance and continuance of client
relationships and audit engagements have been followed and that conclusions reached in this
regard are appropriate.
b) Obtain information considered necessary in the circumstances
➢ before accepting an engagement with a new client,
➢ when deciding whether to continue an existing engagement, and
➢ when considering acceptance of a new engagement with an existing client.
c) Matters such as integrity of principal owners and key management, competence of
engagement team to perform the audit engagement and implications of matters that have
arisen during current and previous audit engagement may need to be considered.
Evaluating compliance with ethical requirements, including independence (SA 220)
The auditor shall continuously evaluate compliance with ethical requirements including
independence.

The engagement partner shall remain alert, through observation and making inquiries as necessary,
for evidence of non-compliance with relevant ethical requirements by members of the engagement
team.
The engagement partner shall form a conclusion on compliance with independence requirements
that apply to the audit engagement. In doing so, the engagement partner shall: -
i. Obtain relevant information from the firm to identify and evaluate
circumstances and relationships that create threats to independence
ii. Evaluate information on identified breaches, if any, of the firm’s independence
policies and procedures to determine whether they create a threat to
independence for the audit engagement and
iii. Take appropriate action to eliminate such threats or reduce them to an
acceptable level by applying safeguards, or, if considered appropriate, to
withdraw from the audit engagement, where withdrawal is permitted by law
or regulation.
iv. The engagement partner shall promptly report to the firm any inability to
resolve the matter for appropriate action.
Establishing an understanding of terms of engagement (SA 210)

It is in the interests of both the entity and the auditor that the auditor sends an audit engagement
letter before the commencement of the audit to help avoid misunderstandings with respect to the
audit. It ensures that there is no confusion with the client regarding terms of the engagement
(II) Planning activities
Planning activities involve: -

• Establishing the overall audit strategy
• Developing an audit plan
Overall Audit Strategy
• The overall audit strategy and the audit plan remains the auditor’s responsibility. By no means
it can, be shared with the management. However, to coordinate some of the planned audit
procedures with the work of the entity’s personnel such discussions are necessary.
• When discussing matters included in the overall audit strategy or audit plan, care is required
in order not to compromise the effectiveness of the audit. The involvement of the engagement
partner and other key members of the engagement team in planning the audit enhances the
effectiveness and efficiency of the planning process. It is because of their experience,
expertise and insights.
• The process of establishing the overall audit strategy assists the auditor to determine:
a) The resources to deploy for specific audit areas - such as
b) The use of appropriately experienced team members for high risk areas.
c) The involvement of experts on complex matters etc.
d) The number of resources to allocate to specific audit areas - such as
e) The number of team members assigned to observe the inventory count.
f) The extent of review of other auditors’ work in the case of group audits.
g) Time of resources deployment -Example
h) Whether at an interim audit stage or at key cut-off dates.

i) How many days for internal control testing etc.
j) How such resources are managed, directed, and supervised - Example
k) When team briefing and debriefing meetings are expected to be held
l) How engagement partner and manager reviews are expected to take place (for example, on-
site or off-site).
In establishing the overall audit strategy, the auditor shall
Overall Audit Strategy
Consideration of
Ascertain the reporting Consider the resukts of Ascertain NTE of
Identify the scope of the significant factors in
objectives of the preliminary engagement resources required for
engagement directing the engagement
engagement activities the engagement
teams efforts
Identify the characteristics of the engagement that define its scope

• Number and locations or branches to be audited.
• Nature of business (E.g.: Manufacturing, service oriented etc) and number of business
segments.
• Applicable FRF
• Expected use of audit evidence obtained in previous audit
• Industry specific reporting requirements by industry regulators
• Previous experience gained about the client etc.
Ascertain the reporting objectives of the engagement to plan the timing and the nature of
the communications required -
• The entity’s timetable for reporting
• Organization of meetings to discuss of nature, timing and extent of audit work with
management
• Discussion with management regarding the expected type and
• timing of reports to be issued including the auditor’s report
• Discussion with management regarding the expected communications on the status of audit
work throughout the engagement.
• Expected nature and timing of communications among engagement team members, including
the nature and timing of team meetings and timing of the review of work performed
Consider the factors that, in the auditor’s professional judgment, are significant in
directing the engagement team’s efforts –
The auditor needs to direct efforts of engagement team towards matters that in his
professional judgment are significant. Preliminary identification of material classes of
transactions, account balances and disclosures help auditor in establishing overall audit
strategy. More energies need to be devoted to significant matters to obtain desired outcomes.
Few examples are listed as under: -

➢ Volume of transactions which may determine whether it is more efficient for
the auditor to rely on internal control
➢ Significant industry developments such as changes in industry regulations and
new reporting requirements.
➢ Significant changes in the financial reporting framework, such as changes in
accounting standards.
➢ Other significant relevant developments, such as changes in the legal
environment affecting the entity
Consider the results of preliminary engagement activities –
Considering results of preliminary engagement activities and knowledge gained from similar
engagements goes a long way in establishing sound audit strategy. Examples are listed as under: -
➢ Results of previous audits that involved evaluating the operating effectiveness
of internal control, including the nature of identified deficiencies and action
taken to address them.
➢ The manner in which the auditor emphasizes to engagement team members
the need to maintain a questioning mind and to exercise professional
skepticism in gathering and evaluating audit evidence.
Ascertain the nature, timing, and extent of resources necessary to perform the
engagement.
➢ Selection of engagement team and assignment of audit work to team members is a significant
factor in establishing overall audit strategy. Experienced team members may be assigned in
areas where there is higher risk of material misstatement.
Development of Audit plan
Once the overall audit strategy has been established, an audit plan can be developed to address the
various matters identified in the overall audit strategy, taking into account the need to achieve the
audit objectives through the efficient use of the auditor’s resources.
Understanding client’s business is one of the important principles in developing an audit plan. In fact,
without adequate knowledge of client’s business, a proper audit is not possible.
SA-300 states that auditor shall develop an audit plan that shall include description of-
• The nature, timing and extent of planned risk assessment procedures
• The nature, timing and extent of planned further audit procedures at assertion level
• Other planned audit procedures that are required to be carried out so that the engagement
complies with SAs.

3. Audit Strategy vs. Audit Plan
• In very simple terms, strategy refers to Where one wants to reach, and planning refers to how to
reach there.
• Audit strategy
• Thus, the audit planning is based on the strategic
Sets the scope, timing, and direction of
goals of the audit firm.
the audit.
• Audit strategy sets the broad overall
• Audit planning
approach to the audit whereas audit
It is the procedure to execute/achieve
plan addresses the various matters
the strategy.
identified in the overall audit strategy.
• Audit strategy determines scope, timing and direction of audit. Audit plan describes how strategy
is going to be implemented. The audit plan is more detailed than the overall audit strategy that
includes the nature, timing and extent of audit procedures to be performed by engagement team
members. Planning for these audit procedures takes place over the course of the audit as the
audit plan for the engagement develops.
• Once the overall audit strategy has been established, an audit plan can be developed to address
the various matters identified in the audit strategy
• The audit strategy and the detailed audit plan are closely inter-related since changes in one may
result in consequential changes to the other.
Establishment of Overall Audit Strategy and audit plan- Auditors responsibility

The overall audit strategy and the audit plan remains the auditor’s responsibility. By no means it can,
be shared with the management. However, to coordinate some of the planned audit procedures with
the work of the entity’s personnel such discussions are necessary.
When discussing matters included in the overall audit strategy or audit plan, care is required in
order not to compromise the effectiveness of the audit.
Changes to Planning decision during the course of audit

➢ The auditor shall update and change the overall audit strategy and the audit plan as
necessary during the course of the audit.
➢ As a result of unexpected events, changes in conditions, or the audit evidence obtained from
the results of audit procedures, the auditor may need to modify the overall audit strategy
and audit plan and thereby the resulting planned nature, timing and extent of further
audit procedures, based on the revised consideration of assessed risks.
➢ This may be the case when information comes to the auditor’s attention that differs
significantly from the information available when the auditor planned the audit
procedures.
➢ For example, audit evidence obtained through on detailed checking may contradict the
audit evidence obtained through testing internal controls.
Planning the direction, supervision and review of Work of Engagement team members
o Direction refers to giving guidance to the audit team by the engagement partner.
The guidance is given both while framing the audit plan and also while executing

it.
o Supervision and review refer to the constant overview of the plans by the superiors
and engagement partner.
o It provides a constant feedback and support mechanism to ensure the

achievement of audit goals.
o Thus, the auditor shall plan the nature, timing and extent of direction and
supervision of engagement team members and the review of their work.
o The factors that influence the nature, timing and extent of direction, supervision
and review are:
➢ The size of the audit entity.
➢ The complexity of the audit entity.
➢ The area of the audit
➢ The assessed risks of material misstatement
➢ The capabilities and competence of the individual team members performing the
audit work.
Documentation
The following should be documented:
• The overall audit strategy – It is a record of
i. Key decisions considered necessary to properly plan the audit and
ii. Communicate significant matters to the engagement team.
• The audit plan – It is a record of
i. The planned nature, timing, and extent of risk assessment procedures and
ii. Further audit procedures at the assertion level in response to the assessed risks.
• Any significant changes made during the audit engagement to the overall audit strategy or
the audit plan and the reasons for such changes – It is a record which explains
i. Why the significant changes were made,
ii. The overall strategy and audit plan finally adopted for the audit and
iii. The appropriate response to the significant changes occurring during the audit.

Additional notes on Conceptual understanding
4. Nature, Timing and Extent of Audit Planning
4.1 Nature
Refers to kind of work that needs to be done.
Nature - Kind of work that needs to be done
Compliance procedures Substantive procedures
Test of compliance Substantive

Test of Test of
with laws and analytical
controls details
regulations procedures
4.2 Timing of audit procedures

Refers to time when the audit procedures have to be performed. For e.g.: If the auditor wants to verify
the cash balance as on 31st March, then physical verification has to happen on that day itself.
Timing
Beginning of the year During the year End of the year
4.3 Extent
Refers to the scope of work to be included.
Timing
What all areas needs to be verified in How many transactions are to be verified
detail? in selected areas?

One of the important principles in developing an overall audit plan is Knowledge of the Client’s
Business. In fact, without adequate knowledge of client’s business, a proper audit is not possible.
What should the auditor know as part of knowledge of client’s business? Explain with examples.
Yes. Knowledge of client’s business is the primary requirement for audit planning. As each business
has its own risk. Only a complete knowledge of client’s business will help him in performing risk
assessment procedures.
Additional Considerations
• The auditor shall undertake the following activities prior to starting an initial audit:
▪ Performing procedures required by SA 220 regarding the acceptance of the client relationship
and specific audit engagement, and
▪ Communicating with the predecessor auditor, where there has been a change of auditors, in
compliance with relevant ethical requirements
Planning- A Continous Process
Planning
Review and
Implementing
Monitor
Make
Issues crop
necessary
up
changes
Audit Programme
Audit programme, Audit plan and Audit strategy

An audit programme is a detailed plan of applying the audit procedures in the given circumstances
with instructions for the appropriate techniques to be adopted for accomplishing the audit objectives.

It is a list of examination and verification steps to be applied and set out in such a way that the
inter-relationship of one step to another is clearly shown.
Detailed plan of With instructions for the

for accomplishing
applying the audit appropriate techniques
the audit objectives.
procedures to be adopted
Audit programme is nothing but an elaborate description of steps to execute audit plan. Thus, it
ensures the accomplishment of audit plan. And Audit plan ensures the accomplishment of audit
strategy.
The relationship between audit plan, strategy and programme can be shown as below.
Audit programme -
Audit strategy - Audit plan - Specifies
Specifies step by step
Specifies what needs to how it needs to be
procedures for
be done done
executing audit plan.
4.4 Features of an Audit programme

The following are the features of an audit programme:
5.2.1 One Audit Programme for every audit

The following factors vary from assignment to assignment.
• Nature of business, their size and composition
• Work which is suitable to one business may not be suitable to others,
• Efficiency and operation of internal controls and
• The exact nature of the service to be rendered by the auditor.
Thus, one audit programme applicable to all business under all circumstances is not practicable. We
need to draw a separate audit programme for every engagement.
5.2.2 The Assistant engaged – Be encouraged to keep an open mind

The engagement team should be instructed to
• Trust the audit programme
▪ The trust can be built by involving them in the planning phase itself.
• Keep an open mind and focused view
▪ Open mind refers to being vigilant and make necessary changes to the programme wherever
required and
▪ Focused view refers to ensuring that the procedure followed helps to meet the objective.
• Note and report significant matters coming to his notice, to his seniors or to the engagement
partners.
So long as the suggested change is not approved by the principal, every team member should stick to
the initial programme. This is only to ensure that only genuine changes are made.

Periodic Review of The Audit Programme
The auditor prepares a standard audit programme keeping in mind the
• nature, size, and composition of the business
• the dependability of the internal control
• His past experience with such engagement
• and the given scope of work.
However periodic review of the audit programme should be done to assess
• If there are any inadequacies in collecting the proper evidence.
• If there is any procedure which is redundant and need not be carried on.
• If it is relevant to the audit, based on the changed facts and circumstances.
The client’s operations and internal control should also be reviewed periodically.
If periodic review is not done -
• any change in the business policy of the client may not be adequately known.
• the auditor may have to face legal consequences for negligence of duty.
Important points for constructing an Audit programme

The following are the key factors to be kept in mind while drawing an audit programme:
i. Stay within the scope and limitation of the assignment.
ii. Determine the evidence reasonably available and identify the best evidence for
deriving the necessary satisfaction.
iii. Prepare written audit programme setting forth the procedure that are needed to
implement the audit plan
iv. Apply only those steps and procedures which are useful in accomplishing the
verification purpose in the specific situation.
v. Consider all possibilities of error.
vi. Co-ordinate the procedures to be applied to related items.
vii. Include the audit objectives for each area and sufficient details which serve as a set
of instructions for the assistants involved in audit and help in controlling the proper
execution of the work.
Determine the evidence apply only those steps

Stay within the scope
Prepare written audit reasonably available and which are useful in
and limitation of the
programme identify the best accomplishing the
assignment
evidence verification purpose
Co-ordinate the
Include audit objective Consider all possibilities
procedures to be applied
for each area of error
to related items
Audit Programme is designed to provide Audit Evidence

Audit Evidence is defined as the information collected, examined, and used by the auditor in arriving
at the conclusions on which the auditor’s opinion is based.

Used for drawing
Information collected Examined
conclusions
It can be either from an internal source or from an external source.

As per the audit flowchart (discussed in chapter 1), audit techniques are applied to obtain audit
evidence.
And audit procedures are performed to examine the audit evidence. In other words, audit procedures
are aimed at ensuring the sufficiency and appropriateness of the audit evidence. So that appropriate
opinion can be formed.
Aim of Audit procedures
To ensure audit evidence is
Sufficient Appropriate
Refers to Quantity or Refers to Quality

adequacy measured by
Reliability – means
Relevance - means
whether it is a
whether it answers
corroborative or
the specific
complimentary in
assertion in question
nature
What is best evidence is a matter of expert knowledge and experience. This is the primary task before
the auditor when he draws up the audit programme.
In all cases one procedure may not bring the highest satisfaction and thus he has to collect many
evidences for the same assertion.
Each evidence is weighed to ascertain its weight to prove or disprove the assertion.

Advantages & Disadvantages of audit programme
• Provides clear set of instructions to audit assistants.

• Provides a total perspective of the work to be performed.
• Helps in Selection of audit team on the basis of capabilities.
Advantages
• Ensures that all areas and issues relevant to audit are considered.
• Ensures accountability of audit assistants.
• Principal can control the progress of the various audits in hand.
• Serves as a guide for audits to be carried out in the succeeding year.
• Serves as evidence in the event of any charge of negligence being
brought against the auditor.
• Work may become mechanical and particular parts of the programme

may be carried out without any understanding of the object.
Disadvantages
• Programme may become rigid and inflexible.

• Incomplete audit programmes may increase the risk of material
misstatement.
• Inefficient assistants may take shelter behind the programme
• Hard and fast audit programme may kill the initiative of efficient and
enterprising assistants.
Disadvantages may be eliminated by

• Extensive supervision of the work carried on by the assistants.
• The auditor must have a receptive attitude as regards the assistants and
• The assistants should be encouraged to observe matters objectively and bring significant
matters to the notice of supervisor/principal.
5. Audit Programme - Designed to provide Audit Evidence

Following are few types of audit evidences:
• Documentary examination,
• Physical examination,
• Statements and explanation of management, officials and employees,
• Statements and explanations of third parties,
• Arithmetical calculations by the auditor,
• State of internal controls and internal checks,
• Inter-relationship of the various accounting data,
• Subsidiary and memorandum records,
• Minutes,
• Subsequent action by the client and by others.

SA 300 – Planning an Audit of Financial Statements
5.1 Introduction
The objective of auditor is to plan the audit so that it will be performed in an efficient manner.
It helps the auditor obtain sufficient appropriate evidence for the circumstances, helps keep audit
costs at a reasonable level, and helps avoid misunderstandings with the
client.
The audit plan is more
Engagement partner and other key members of the audit team shall be detailed than the overall
involved in planning the audit. audit strategy
Audit plan is a detailed programme giving instructions as to how each area of the audit will be
conducted. In other words, the audit plan details the specific procedures to be carried out obtain
sufficient appropriate evidence to implement the audit strategy and complete the audit.
5.2 Preliminary Engagement Activities
• Carrying out audit procedures as required by SA 220 “Quality Control for Audit Work “regarding
the continuance of the client relationship and the specific audit engagement
• Evaluating compliance with ethical requirements, including independence, as required by SA 220;
and
• Establishing an understanding of terms of engagement as required by SA 210, “Terms of Audit
Engagement.”
5.3 Planning
Risk Assessment procedures
Nature, timing &

extent of Assertion level audit procedures
Audit plan to
describe
Other procedures
Direction, supervision & review

of team work
5.3.1 Points considered in audit plan

• What are the deliverables?
• How to achieve the reporting objective?

• The quantum of resources required?
• The time required and the time budget available?
• What procedures and new methods to be involved?
• Review the engagement formalities
• Explain the scope of the engagement to the team.
5.3.2 Benefits of Planning

• To ensure appropriate attention is devoted to important areas of audit;
• Prompt identification and resolution of potential problems;
• Proper organization and management of audit engagement;
• Selection of appropriate engagement team members and proper assignment of work to
them.
• To facilitate direction, supervision and review of their work.
• To ensure coordination of work done by other auditors and experts.
5.3.3 Factors to be considered in Planning

• Size and complexity of entity;
• Previous experience of the key engagement team members with the entity;
• Changes in circumstances during the audit engagement.

5.4 Critical aspects of Planning
• Develop Overall Audit Strategy

1
• Develop audit plan

2
• Update & chagne overall audit strategy & plan

3
• Direct, supervise & review of work of engagement team

4
5.4.1 Overall audit strategy

Auditor has to develop an overall audit strategy that defines the scope, timing and direction of the
audit. For that auditor has to:
▪ Identify the characteristics of engagement.
▪ Ascertain the reporting objectives.
▪ Consider factors which are significant to direct the audit team.
▪ Consider results of preliminary engagement activities and experience from other
engagements
▪ Ascertain the nature, timing and extent of resources necessary to perform the
engagement.
Considerations for Overall

Audit Strategy
Identify Ascertain Consider Consider Ascertain the

characteristics reporting factors preliminary nature, timing
of the objectives significant engagement and extent of
engagement activities resources
results

5.4.2 Audit Plan
An audit plan should include detailed description of procedures to be performed by engagement team
members, which includes
• the nature, timing and extent of risk
assessment as per SA 315
• the nature timing extent of planned audit The auditor has to considering the
procedures at assertion level as per SA 330 appropriate amount of time to set
• other planned procedures to ensure aside for areas where there may be
compliance with SAs higher risks of material misstatement.
Planning the nature, timing and extent of specific further audit procedures
depends on the outcome of those risk assessment procedures.
5.4.3 Updating and improvisation.

Continuous update and change in overall audit strategy and the audit plan desiring the course of audit
as a result of unexpected events, changes in conditions or the audit evidence obtained from audit
procedures.
This may be the case when information comes to the auditor’s attention that differs significantly from
the information available when the auditor planned the audit procedures.
5.4.4 Direction, supervision and review

The auditor shall plan the nature, timing and extent Direction, supervision and review of work of
engagement team members. This depends on factors like
• Size and complexity of the entity
• Area of audit
• Assessed risks of material misstatements
• Capabilities and competence of the team members
5.5 Documentation
5.5.1 Overall audit strategy

In the form of a memorandum that contains key decisions regarding the
▪ overall scope,
▪ timing and
▪ conduct
of the audit;
5.5.2 Audit plan
In the form of standard audit programs and/or audit completion checklists.
5.5.3 Significant changes

A record of the significant changes to the overall audit strategy and the audit plan, and resulting
changes to the planned nature, timing and extent of audit procedures, explains why the significant
changes were made, and the overall strategy and audit plan finally adopted for the audit.
5.6 Additional Considerations in Initial Audit Engagements
• Perform procedures required by SA 220 regarding the accepting of client relationship;

• Communicate with predecessor audit, where there has been a change of auditors.
• Checking opening balances
5.7 Questions
1) The auditor should plan his work to enable him to conduct an effective audit in an efficient
and timely manner. Plans should be based on knowledge of the client’s business. Explain.
[RTP-Nov. 18]
2) Plans should be made to cover acquiring knowledge of the client’s accounting systems, policies
and internal control procedures. Explain. [RTP-Nov. 19]
3) Comment on the following in relation to SAs: Auditor shall establish an overall strategy that
sets the scope, timing and direction of the audit, and that guides the development of the audit
plan”. [May 11 (5 Marks)]
4) In establishing overall audit strategy, the auditor shall ascertain the reporting objectives of the
engagement to plan the timing of the audit and the nature of the communications required.
Elucidate those cases by which auditor can ascertain the reporting objectives of the
engagement. [Nov. 19 (4 Marks)]
5) State correct or not “Planning is not a discrete phase of an audit, but rather a continual and
iterative process. [RTP-May 19]
6) “The Nature, timing and extent of the direction and supervision of engagement team members
and review of their work vary depending on any factors.” Explain

RISK ASSESSMENT AND INTERNAL CONTROL
Contents
• Audit Risk- SA 315

• Risk assessment and Audit procedures
• Concept of Materiality- SA 320
• Understanding business environment
• Internal control - Background
• Types of Internal control
• What can go wrong with Internal controls?
• Components of Internal Control
• Objectives of Internal control
• Aspects of Test of controls
• Components of Internal control
• Risk that requires special audit consideration
• Evaluation of Internal control
• Automated Environment- Key features
• IT related risks
• Types of Controls in IT environment
• Data Analytics
• Internal financial controls
• Auditor’s responses to assessed risks- SA 330
▪ Audit Risk
1.1 Audit Risk & Risk of Material misstatement

▪ Audit Risk
Risk means deviation from expectation. It denotes the possibility that the objective might not be met.
Audit risk means the risk that the auditor gives an inappropriate audit opinion when the
financial statements are materially misstated.
• Audit risk does not include the risk that the auditor might express an opinion that the financial
statements are materially misstated when they are not. This risk is ordinarily insignificant.
• Further, audit risk is a technical term related to the process of auditing; it does not refer to the
auditor’s business risks such as loss from litigation, adverse publicity, or other events arising in
connection with the audit of financial statements.

Misstatement refers to a difference between the amount, classification, presentation, or
disclosure of a reported financial statement item and the amount, classification,
presentation, or disclosure that is required for the item to be in accordance with the
applicable financial reporting framework. Misstatements can arise from error or fraud.
Risk of Material Misstatement may exist at two levels
(i) The overall financial statement level: refer to risks of material misstatement that
relate pervasively to the financial statements as a whole and potentially affect many assertions.
(ii) The assertion level for classes of transactions, account balances, and
disclosures: are assessed in order to determine the nature, timing, and extent of further audit
procedures necessary to obtain sufficient appropriate audit evidence
▪ Types of Audit risk- Components of Audit Risk
Types of Audit risk
Inherent Risk Control Risk Detection Risk
The risk of material misstatement at assertion level comprises of two components i.e.,
inherent risk and control risk. Both inherent risk and control risk are the entity’s risks and they
exist independently of the audit of financial statements.
Inherent risk and control risk are influenced by the client.
These are entity’s risks and are not influenced by the auditor.
• Inherent Risk
▪ Inherent risk is the susceptibility of an assertion about a class of transaction, account balance
or disclosure to a misstatement that could be material, either individually or when aggregated
with other misstatements before consideration of any related controls as described in SA-200.
▪ There is always a risk that before considering any existence of internal control in an entity, a
particular transaction, balance of an account or a disclosure required to be made in the
financial statements of an entity have a chance of being misstated and such misstatement can
be material. This risk is known as inherent risk.
▪ Inherent risk is higher for some assertions and related classes of transactions, account
balances, and disclosures than for others. For example, it may be higher for complex
calculations.
▪ Management will decide on the level of controls based on the inherent risks identified.
▪ Inherent risks are based on size and nature of business. Thus, management is responsible for
planning and implementing controls based on the size and nature of business.
▪ External circumstances giving rise to business risks may also influence inherent risk. For
example, technological developments might make a particular product obsolete.

• Control risk
▪ It is risk of controls designed by management being weak or non-existent and thereby not
arresting inherent risk.
▪ Control risk is the risk that a misstatement that could occur in an assertion about a class of
transaction, account balance or disclosure and that could be material, either individually or
when aggregated with other misstatements, will not be prevented, or detected and corrected,
on a timely basis by the entity’s internal control.
▪ Control risk is a risk that internal control existing and operating in an entity would not be
efficient enough to stop from happening, or find and then rectify in an appropriate time.
▪ When efficiency of internal control of an entity is high, the control risk is low and when
efficiency of internal control of that entity is low, the control risk is high.
▪ Inherent risk and control risk are the entity’s risks; they exist independently of the audit of
the financial statements.
• Detection risk
▪ Risk that procedures performed by auditor to reduce audit risk to an acceptably low level will
not detect a misstatement that exist, and which could be material either individually or
when aggregated with other
misstatements.
Assessment of Risk- Matter of Professional Judgement

▪ The assessment of risks is a matter of professional judgment, rather than a matter capable
of precise measurement. The distinguishing feature of the professional judgment
expected of an auditor is that it is exercised by an auditor whose training, knowledge and
experience have assisted in developing the necessary competencies to achieve reasonable
judgments
Detection risk comprises of Sampling and Non Sampling risk
Detection Risk
Sampling risk Non Sampling risk
Risk that the auditor’s conclusion

Risk that the auditor reaches an
based on a sample may be
erroneous conclusion for any
different from the conclusion if
reason not related to sampling risk.
the entire population were
Like an auditor may reach an
subjected to the same audit
erroneous conclusion due to
procedure. It simply means that
application to some inappropriate
the sample was not
audit procedure
representative of the population
from which it was chosen.

▪ Risk of Material misstatement
Risk of Material misstatement is the combined assessment of Inherent and Control Risk.
Risk of Material Misstatement (ROMM)= Inherent

Overall Audit Risk= ROMM + Detection Risk
Risk and Control Risk
There has to be an inverse relationship between ROMM and Detection risk to bring the audit
risk to an acceptable lower level.
2. Risk Assessment and Audit Procedures
Risk assessment procedure - A basis for the identification and assessment of risks of
material misstatement at the financial statement and assertion levels.
• Enquiries of management and others within the entity - helps to understand what they perceive
as the risk factors. The auditor should enquire not only the management and those charged with
governance but also internal auditors, legal counsels, and employees of all departments like
marketing and sales personnel, information system personnel etc.
• Use of analytical procedures – Implies using ratios, trends etc to see what the new risk factors are.
Analytical procedures performed as risk assessment procedures may include both financial and
non-financial information. It helps to identify the existence of unusual transactions or events, and
amounts.
• Observation and inspection – This support the inquiries of management and others. This includes
observation or inspection of:
▪ The entity’s operations
▪ The entity’s premises and plant facilities.
▪ Reports prepared by management (such as quarterly management reports and interim
financial statements) and those charged with governance (such as minutes of board of
directors’ meetings).
▪ Information obtained in prior periods – The auditor should check his working papers for all the
previous years. This will give him an information of critical areas and about the strength of the
internal control. For example, if any fraud was noticed in the last year, then the auditor has to be
more cautious in that area for the current year also.
• Discussion among engagement teams - understanding of the entity, its environment and the risk
assessment is a continuous process. So, the auditor should ensure free flow of communication
and regular discussion with the engagement team. This will help him focus on all areas involving
risk.

SA 315- Identifying and Assessing the Risks of Material Misstatement Through Understanding
the Entity and Its Environment
Contents ▪
• Risk & Risk assessment procedures

• Understanding of the Entity and its Environment
• Understanding Internal control
• Risk of Material Misstatement
• Auditor’s Responsibility
o Introduction - Risk
Auditor’s objective is to identify and assess the risks of
material misstatement in the financial statements, through Risk is deviation from
understanding the entity and its environment, including the Expectation
entity’s internal control
Inherent Risk
Control Risk Detection Risk
Audit
Risk
▪ Inherent Risk
Inherent risk is the risk of misstatement in the financial statements, arising

due to an error or omission as a result of factors other than a failure of
control.
The susceptibility of an assertion about a class of transaction, account balance or disclosure to a
misstatement that could be material, either individually or when aggregated with other
misstatements, before consideration of any related controls. Inherent risk arises on account of nature
of financial reporting & auditing.
▪ Control Risk
Risk of controls designed by Management, being weak or non-existent, and

thereby, not arresting the inherent risk, is called Control Risk
Control Risk arises on account of Inherent limitations of internal control. The risk that a misstatement
that could occur in an assertion about a class of transaction, account balance or disclosure and that

could be material, either individually or when aggregated with other misstatements, will not be
prevented, or detected and corrected, on a timely basis by the entity’s internal control entirely.
Internal control can provide only reasonable, but not absolute, assurance on account of several
inherent limitations.
▪ Detection Risk
Risk that procedures performed by Auditor to reduce Audit Risk to an

acceptable low level, will not detect a misstatement that exists, that could be
material, either individually or when aggregate d with other misstatements is
called Detection Risk
Detection risk arises on account of judgement on part of auditor, test nature of audit and nature of
audit evidences collected.
▪ Relationship between Components of Audit Risk
• Risk of Material Misstatement (RMM) and Internal & Control Risk

Management often reacts to inherent risk situations by designing accounting and internal control
systems to prevent or detect and correct misstatements and therefore, in many cases, inherent risk
and control risk are highly interrelated. In such situations, if the auditor attempts to assess inherent
and control risks separately, there is a possibility of inappropriate risk assessment.
• Risk of Material Misstatement and Detection Risk
Risk of Material Misstatements (RMM) = Inherent Risk + Control Risk.
There is an inverse relationship between detection risk and the combined level of inherent and control
risks. When inherent and control risks are high, acceptable detection risk needs to be low to reduce
audit risk to an acceptably low level. When inherent and control risks are low, an auditor can accept a
higher detection risk and still reduce audit risk to an acceptably low level.
o Important Terms
▪ Assertions
Representations by management that are embodied in the financial statements. These are used by
the auditor to consider different types of potential misstatements that may occur.

▪ Business Risk
A risk resulting from significant conditions, events, circumstances etc. This risk could adversely affect
an entity’s ability to achieve or set objectives and execute its strategies.
▪ Internal Control
The process designed, implemented and maintained by
▪ TCWG,
▪ management and Effective internal
▪ other personnel controls help achieve
to provide reasonable assurance about the achievement of
an entity’s objectives. entity’s objective
Entity's objectives
Reliability of Effectiveness & Safeguarding Compliance

financial efficiency of assets with laws &
reporting operations regulations
▪ Risk Assessment Procedures

Audit procedures performed to
▪ Obtain understanding of entity and its environment including the entity’s internal
control;

▪ To identify and assess the risks of material misstatement at the financial statement
and assertion levels.
Risk Assessment Procedures inlcude
Inquiries of management Analytical procedures (Eg: Observation & Inspection

& others within the entity Rations, Trends, etc)
Information obtained in prior periods (may provide auditor with information about matters such
as past misstatements and their correction. Nature of entity and its environment, etc.). He should
asses the relevance of such information in present period.
Discussion among the engagement team
The engagement partner and other key engagement team members shall discuss the susceptibility of
the entity’s financial statements to material misstatement, and the application of the applicable
financial reporting framework to the entity’s facts and circumstances.
▪ Significant Risk
An identified and assessed risk of material misstatement. In auditor’s judgment it requires special
Risk assessment procedures by themselves, however, do not provide sufficient

appropriate audit evidence on which to base the audit opinion.
audit consideration.
▪ Material Weakness
A weakness in internal control that could have a material effect on financial statements.
o Understanding of the Entity and its Environment, including the Entity’s Internal Control
Auditor needs to understand

▪ Entity’s nature and operations
▪ Environment in which the entity exists
▪ Entity’s Internal Control
to enable the auditor to understand the classes of transactions, account balances, and disclosures to
be expected in the financial statements
▪ Entity
Auditor has to understand the nature and functioning of the entity.

Auditor has to understant
Nature of Functioning
entity of entity
Operations Ownership & Investments & Entity's Measurement Accounting

Governance Finance objectives & & review of policies -
structure structure strategies financial selection &
performacnce application
Factor Aspects to understand

Business ▪ Nature of revenue sources, products or
operations services and market;
▪ Conduct of operations
▪ Alliances, Joint ventures and outsourcing
activities
▪ Geographic dispersion and industry
segmentation
▪ Transactions with related parties.
Investments ▪ Planned or recently executed acquisitions
and investment ▪ Investments and disposition of securities or loan
activities ▪ Capital investment activities
▪ Investments in non-consolidated entities such
as special purpose entities
Financing and • Major subsidiaries and associated entities

financing • Debt structure
activities • Beneficial owners and related parties
• Use of derivative financial instruments.
Financial • Accounting principles and industry specific
reporting practices
• Revenue recognition practices
• Accounting for fair values
• Foreign currency assets, liabilities and transactions.

▪ Entity’s Environment
Entity's Environement
includes
Relevant Industry Regulatory Other external factors

framework (including Financial
Reporting Framework
The auditor should obtain understanding the factors to assess risk
Factor Aspects to understand

Industry factors • Competitive environment
• Supplier and customer relationships.
• Technological development.
• Cyclical or seasonal activity
Regulatory • Accounting principles and industry specific

factors practices
• Regulatory framework
• legislation and regulation affect entity’s
operations
• Legislation and regulation affect entity’s
operations
• Taxation
• Government policies
External factors • General economic conditions

• Interest rates
• Availability of financing
• Inflation.

o Internal Control System
Auditor, to understand internal controls of the entity has to evaluate the design of relevant controls
and ensure they have been implemented by performing procedures SA 315 provides a useful
Most controls relevant to the audit are likely to relate to financial reporting, but
not all controls that relate to financial reporting are relevant to the audit.
Auditor uses professional judgement to decide which control is relevant
framework for auditors to consider how different aspects of internal control affect the audit.
There are five components of Internal Control System which the auditor has to understand
Internal
Control
Components
Control Risk Information & Control Monitoring

Environment Assessment Communication Activities of activities
Process
▪ Control Environment
The control environment factors lay the foundation of all other components of the internal control
system. They influence the control consciousness of its people. Auditor has to evaluate if the
management and TCWG have created and maintained such environment. These factors are:
▪ Integrity and ethical values;
▪ Commitment to competence;
▪ Management’s philosophy and operating style;
▪ Organizational structure;
▪ Assignment of authority and responsibility;
▪ Human resource policies and procedures; and
▪ Participation by those charged with governance.

▪ Risk Assessment Process
For financial reporting purposes an entity’s risk assessment process shall have
• Identification
• Analysis as to the significance
• Assessing probability of occurrence and
• management through action
of risks relevant to the preparation of financial statements in accordance with relevant accounting
principles.
The following risks may affect an entity’s ability to properly record, process, summarize and report
financial data:
▪ Changes in operating environment
▪ New personal
▪ New information systems
▪ Rapid growth
▪ New Technology
▪ New business models, products or activities
▪ Corporate restricting
▪ Foreign operations
▪ New accounting pronouncements
Auditor shall understand the existing risk assessment process of the entity, and if a misstatement is
noticed, he shall also understand why such process failed or determine deficiency in the internal
control
If there is no risk assessment process or entity has an ad hoc process, the auditor shall discuss
with management whether business risks relevant to financial reporting objectives have been
identified and how they have been addressed
▪ Information & Communication

Auditor has to understand the information system including related business processes relevant to
financial reporting
It includes the accounting systems, consisting of the methods/ procedures and records established to
record, process, correct, summarize and report entity transactions and to maintain accountability of
the related assets and liabilities.

To be effective, such a system must accomplish following
transaction related goals-
▪ Identify and record all valid The records may be in either
transactions manual or electronic form. The
▪ Describe on a timely basis
procedures may be controlled
▪ Measurement of proper value
▪ Record in the appropriate time either by automated (IT) or manual
period systems
▪ Properly present and disclose
▪ Communicate responsibilities to
employees
▪ Capture significant events or conditions (other than transactions) that
affect financial statements
▪ Communications between management and TCWG
▪ External communications. Eg: regulatory authorities
▪ Control Activities
The fourth component is composed of the various policies and procedures that help ensure that
necessary actions are taken to address risks to achieve the entity’s objectives.
These policies and procedures include.

i. Performance reviews (reviews of actual performance against budgets,
forecasts, one another, etc.)
ii. Information processing (controls that check accuracy, completeness and
authorization of transactions)
iii. Physical controls (activities that assure the physical security of assets and
records)
iv. Segregation of duties (separate authorization, record keeping and custody)
v. Response to IT risk
▪ Monitoring
Monitoring assesses the quality of internal control performance over time. It may be
▪ Ongoing monitoring (designed into recurring activities such as sales and
purchases)
▪ Separate evaluations (performed by auditors or other such internal personnel)
▪ Evaluation by external parties (e.g. payment of an invoice by a customer
corroborates the billing data generated by internal control system).
Auditor shall obtain an understanding the internal audit function in order to determine whether it is
likely to be relevant to the engagement. Auditor shall understand:
• Internal audit functions’ place in the organisational structure
• Internal auditor’s responsibilities
• Activities performed by internal auditor team

o Auditor’s Responsibility
Riskof material
misstatement Financial
Statement Level Class of
Auditor shall transactions
identify & assess
Account
Assertion Level
balances
Disclosures
▪ Audit steps
• Identify risks during the process of obtaining an understanding of the entity
and its environment.
• Assess the identified risks and determine whether these exists
misstatement at financial statement level or at assertion level.
• Identify controls that are likely to prevent or detect or correct material
misstatement at assertion level.
• Consider the likelihood of misstatement and assess its materiality.
▪ Identification of significant risk

▪ As part of risk assessment, the
auditor should identify significant
risk. Significant risks often
▪ If it exists, the auditor shall obtain an relate to significant non
understanding of the entity’s
controls, including control activities,
routine transactions
relevant to that risk.
▪ Revision of risk assessment – if during the course of audit, the audit’s
assessment of risk at ascertains level changes, he shall revise the risk
assessment and modify further planned audit procedures.
▪ No Sufficient Appropriate Audit Evidence

If it is not possible or practicable to obtain sufficient appropriate audit evidence only from substantive
procedures for some risks (e.g.: highly automated processing with little or no manual intervention),
then auditor shall obtain understanding entity’s control over such risks.
▪ Revision of Risk Assessment
If the auditor shall revise the risk assessment and modify planned audit procedures if
• obtains audit evidence from performing further audit procedures, or
• if new information is obtained, either of which is inconsistent with the audit evidence on which
the auditor originally based the assessment.
▪ Documentation
▪ Discussions with engagement team and significant decisions
▪ Key elements of the understanding of entity and its environment and its internal

control
▪ Sources of information of such understanding
▪ Risk assessment procedures performed
▪ Risks identified and assessed at both financial statement and assertion levels
▪ Risk identified and associated controls
o Auditor’s approach – Identifying & Assessing RMM
There are 5 main aspects to be addressed

▪ Assessment of Risks of Material Misstatement at the Financial
Statement level
▪ Assessment of Risks of Material Misstatement at the Assertion level
▪ The Entity’s Selection and Application of Accounting Policies
▪ Objectives and Strategies and related Business Risks
▪ Measurement and Review of the Entity’s Financial Performance
▪ Assessment of Risks of Material Misstatement at the Financial Statement level

This risk relates pervasively to the financial statements as a whole and may potentially affect many
assertions. The following are some factors which may raise doubts about the adaptability of entity’
financial statements:
▪ Management’s lack of competence and integrity
▪ Reliability of an entity’s records
▪ Weak control environment, etc.
▪ Assessment of Risks of Material Misstatement at the Assertion level

The auditor should identify such risks in order to determine the nature, timing and extent of other
audit procedures.
▪ The Entity’s Selection and Application of Accounting Policies

An understanding of the entity’s selection and application of accounting policies including the reasons
for changes therein if necessary.
▪ Objectives and Strategies and related Business Risks

The auditor’s understanding of the entity’s objectives, strategies and related business risks increases
the likelihood of identifying risks of material misstatement. Examples of such matters are-
o Industry developments
o New products and services
o Expansion of business
o New accounting requirements, etc.
o Use of IT
▪ Measurement and Review of the Entity’s Financial Performance

An understanding of entity’s performance measures assists the auditor in considering whether
pressures to achieve performance targets may result in management policies that increase the risk of
material misstatement. These measures may include-

Budgets
Employee performance measures and incentive compensation policies
Ratios and trends
Analyst’s reports
Credit rating agency reports
o Questions
• The assessment of risks is a matter of professional judgment. Explain stating clearly what is
not included in Audit Risk? [MTP-Aug. 18]
• “Risk of material misstatement consists of two components” Explain clearly defining risk of
material misstatement.
• “The SAs do not ordinarily refer to inherent risk and control risk separately, but rather to a
combined assessment of the “risks of material misstatement”. Explain.
[RTP-Oct. 19]
• Obtaining an understanding of the entity and its environment, including the entity’s internal
control, is a continuous, dynamic process of gathering, updating and analysing information
throughout the audit. Analyse and explain giving examples. [RTP-May
20]
• Internal control over safeguarding of assets against unauthorised acquisition, use, or
disposition may include controls relating to both financial reporting and operations objectives.
Explain stating clearly the objectives of Internal Control. [RTP-May
20]
• When auditor identifies deficiencies and report on internal controls, he determines the
significant financial statement assertions that are affected by the ineffective controls in order
to evaluate the effect on control risk assessments and strategy for the audit of the financial
statements. Explain. [RTP-May 20]
• As part of the risk assessment, the auditor shall determine whether any of the risks identified
are, in the auditor’s judgment, a significant risk. In exercising judgment as to which risks are
significant risks, state the factors which shall be considered by the auditor. Explain the above
in context of SA-315. [RTP-May 18]
• Discuss what is included in risk assessment procedures to obtain audit evidence about the
design and implementation of relevant controls. [RTP-May 18]
• In the context of SA 315, state the assertions used by auditor to consider the different types
of potential mis-statements that may occur w.r.t. classes of transactions and events for period
under audit. [Nov. 17 (4 Marks)]
• Discuss the following: The assertions used by auditor to consider potential misstatements
about account balances at the period end. [Nov. 15 (5 Marks)]
• Discuss in brief the types of audit risk and inter relationship of components of audit risk. [Nov.
14 (4 Marks)]
• Write short note on: Inherent Risk. [Nov. 12 (4 Marks)]
• “Risk of material misstatement at the assertion level for classes of transactions, account
balances and disclosures need to be considered”. Explain stating the different categories of
assertions used by the auditor.
• Explain the concept of Internal Control. Also state the objectives of Internal Control.

SA 320 – Materiality in Planning & Performing an Audit
Contents
• Materiality
• Performance Materiality ▪
o Materiality
The possible effect of misstatements on specific individual users, whose needs may vary widely, is not
considered only general effect on all users put together is considered.
Misstatements, including omissions, are considered to be material if they,

individually or in the aggregate, could reasonably be expected to influence the
economic decisions of users taken on the basis of the financial statements.
Materiality can be of two types – Specific materiality affected by the nature of the item (Eg: Share
capital, Reserves balances, statutory items, taxation, legal expenses) and Amount driven materiality
which is subjective computation of materiality levels.
Materiality concept may be discussed in the applicable financial reporting framework.
Materiality
concept
Discussed in Financial Not discussed in Financial

Reporting Framework Reporting Framework
Follow & implement it Use professional judgement based

on naure and size of misstatement
and circumstances
▪ Auditor’s judgement
Auditor’s judgement about materiality are affected by
▪ Surrounding circumstances; and
▪ Size and nature of misstatement
▪ Auditor’s assumptions
The auditor’s determination of materiality is a matter of professional judgment, and is affected by the
auditor’s perception of the financial information needs of users of the financial statements.
Auditor, in this regard can assume that users

• Have reasonable knowledge of business and economic activities and accounting and study
financial statements with due diligence
• Understand that financial statements are prepared, presented and audited to levels of
materiality;
• Recognize inherent limitations associated with accounting estimates and judgements of future
events
• Make reasonable economic decisions on the basis of the information
▪ Application of concept of Materiality
Application of
concept in
Planning Performing Evaluating Forming

the audit the audit effect of audit
opinion
Identified Uncorrected
Misstatements Misstatements on
on audit financial statements
In planning the audit, the auditor makes judgments about the size of misstatements that will be
considered material. These judgments provide a basis for
• Determining the nature, timing and extent of risk assessment procedures;
• Identifying and assessing the risks of material misstatement; and
• Determining the nature, timing and extent of further audit procedures
▪ Benchmark in determining overall materiality

For calculating overall materiality, auditor has to choose a benchmark. A percentage is often applied
to a chosen benchmark as a starting point in determining materiality for the financial statements as a
whole.
Factors that may affect the identification of an appropriate benchmark include the following:
▪ Elements of the financial statements (for example, assets, liabilities, equity,

revenue, expenses);
▪ Financial statement items that attract attention of users
▪ The nature of the entity, stage of entity’s life cycle, and the industry and
economic environment in which the entity operates;
▪ The entity’s ownership structure and the way it is financed
▪ The relative volatility of the benchmark.
Determining a percentage to be applied to a chosen benchmark involves the exercise of professional

judgment. There is a relationship between the percentage and the chosen benchmark, such that a
percentage applied to profit before tax from continuing operations will normally be higher than a
percentage applied to total revenue.
Examples
• profit before tax,
• total revenue,
• gross profit and
• total expenses,
• total equity or
• net asset value.
Profit before tax from continuing operations is often used for profit-oriented entities. When
profit before tax from continuing operations is volatile, other benchmarks may be more
appropriate, such as gross profit or total revenues
o Planning Materiality
Planning materiality basically refers to the misstatement
amount set by auditors at the planning stage of an audit Planning Materiality is the
based on the materiality to financial statements. adjusted overall
materiality level, after
The preliminary estimate of materiality at the financial
considering company
statement level, often called planning materiality, is the
maximum amount by which the auditors believe the statementsspecific
could berisks.
misstated, by known or
unknown error or fraud, and still not affect the decisions of reasonable financial statement users. This
estimate is only a guide and is not a specific determination of what is, and is not, material in an audit.
Performance Materiality means the amount or amounts set by the auditor at less than materiality
for the financial statements as a whole to reduce to an appropriately low level the probability that the
aggregate of uncorrected and undetected misstatements exceeds materiality for the financial
statements as a whole.

o Performance Materiality
Performance materiality is reduced in order to allow for the risk that there may be several smaller
errors or omissions that have not been identified by the auditor.
These smaller items could be material when aggregated, so the performance materiality level is set
to accommodate them.
If applicable, performance materiality also refers to the amount or amounts set by the auditor at less
than the materiality level or levels for particular classes of transactions, account balances or
disclosures
The level of performance materiality can be set at different levels for different accounts. This has a
direct bearing on sample size, since a greatly reduced level of performance materiality will call for
significantly larger sample sizes in order to reduce the risk of accepting a sample when the associated
population actually contains a material misstatement.
o Materiality vs Performance Materiality

Planning materiality is the materiality of the financial statements as a whole while Performance
materiality is generally a percentage of Planning based on risk and qualitative factors.
Once the auditor identifies and assesses the financial statements’ materiality, then the auditor sets
the performance materiality (tolerable misstatement) of financial statements. Planning materiality
must be larger than performance materiality.

Materiality Performance Materiality
• Determination of materiality is • Determination of performance

main goal of overall audit materiality is conducted for the
strategy. purpose of assessing audit risk.
• Materiality refers to the state • Performance Materiality refers
where financial information has to the amount of variation that
the ability to affect economic can exist in individual financial
decisions of users if some accounts due to errors and
information is misstated, omissions without affecting the
omitted, or not disclosed auditor’s opinion regarding the
objectivity of financial
• It is for the financial statements statements
as a whole • It is the percentage of Planning
• Materiality is based on needs materiality based on risk and
and expectations of the users of qualitative factors.
financial information (a group of • Performance materiality does
users; possible effect on specific not have to be set for all
individual users is not individual accounts as this can
considered), not those of the be done for a selected set of
auditor based on audit risk. accounts or for a particular
class of accounts.
▪ Determination of Materiality
The auditor shall determine materiality for the financial statements as a whole when establishing
overall audit strategy.
But for any class of transactions, account balances or disclosures misstatements of lesser amounts
than the materiality determined overall can influence economic decisions of users, the auditor can
determine different materiality levels for those.
▪ Determination of Performance Materiality

The auditor shall determine performance materiality for purposes of assessing the risks of material
misstatement and determining the nature, timing and extent of further audit procedures.

▪ Computation
Usually, a single base such as the higher of total revenues or total assets is selected for the financial
statements taken as a whole and multiplied by a percentage factor, to compute the Planning
materiality. Next, a percentage factor based on risk at the financial statement level is multiplied with
planning materiality amount to determine performance materiality, which is the maximum amount
of known error and likely error an auditor can accept in the financial statements without adjustment.
▪ Revision as Audit progresses

The auditor shall revise materiality for the financial statements as a whole or at individual item, if
required as and when there is any information to the contrary that he believed while determining
materiality initially.
Accordingly, if lower materiality is determined as appropriate, then auditor shall revise performance
materiality.
o Documentation
Auditor shall document the amounts and the factors considered in determination of:
• Materiality for the financial statements as a whole
• If applicable, the materiality level or levels for particular classes of transactions, account
balances or disclosures
• Performance materiality and
• Any revision of materiality amounts and performance materiality
o Questions
• Materiality for the financial statements as a whole may need to be revised as a result of a
change in circumstances that occurred during the audit. Explain with the help of example.
[MTP-Oct. 19]
• Write short note on: Audit Planning and Materiality. [May 13 (4 Marks)]
• Materiality for the financial statements as a whole (and, if applicable, the materiality level or
levels for particular classes of transactions, account balances or disclosures) does not need
any revision.
• State the factors which are to be considered in determining materiality. [Nov. 15 (4 Marks)]
• Explain concept of materiality and factors which act as guiding factors to this concept. [Nov.
09 (6 Marks)]
• State the factors which are to be considered in determining materiality. [Nov. 15 (4 Marks)]
• Write short note on: Factors affecting the identification of an appropriate benchmark in
determining materiality.
• “Determining materiality involves the exercise of professional judgment”. Discuss stating the
factors that may affect the identification of an appropriate benchmark. Also give examples.
[RTP-May 18]
• With reference to SA 320 indicate the factors which may affect the identification of an
appropriate benchmark in determining materiality for the financial statements as a whole.
[Nov. 15 (5 Marks)]
• Materiality for the financial statements as a whole may need to be revised as a result of a
change in circumstances that occurred during the audit. Explain with the help of example.
[MTP-Oct. 19]

Internal control
• As per SA-315, “Identifying and Assessing the Risk of Material Misstatement Through
Understanding the Entity and its Environment”,
o the internal control may be defined as
o “the process designed, implemented and maintained
o by those charged with governance, management and other personnel
o to provide reasonable assurance
o about the achievement of an entity’s objectives with regard to
o reliability of financial reporting, effectiveness and efficiency of operations,
safeguarding of assets, and compliance with applicable laws and regulations
CARE
C: Complaince with laws and Regulation
A: Safegurading of Assets
R: Reliability of Financial Reporting
E: Effectiveness and Efficiency of Operations
3. Purpose of Internal Control:
Internal control is designed, implemented and maintained to address identified business risks that
threaten the achievement of any of the entity’s objectives that concern:
(i) Identifying types of potential misstatements;
(ii) Identifying factors that affect the risks of material misstatement, and
(iii) Designing the nature, timing, and extent of further audit procedures.
4. Benefits of Understanding Internal Control
An understanding of internal control assists the auditor in: -
(i) Identifying types of potential misstatements;
(ii) Identifying factors that affect the risks of material misstatement, and
(iii) Designing the nature, timing, and extent of further audit procedures.
Limitations of Internal Control
▪ Internal control can provide only reasonable assurance

Internal control, no matter how effective, can provide an entity with only reasonable
assurance about achieving the entity’s financial reporting objectives. They do not provide
absolute assurance. Inbuilt control for unforeseen event is not possible.

▪ Human judgment in decision-making
Human judgment in decision-making can be faulty. Human error may result in breakdowns
in internal control. The possibility of biased decision cannot be ruled out.
▪ Lack of understanding the purpose
The operation of a control may not be effective, such as where information produced for the
purposes of internal control (for example, an exception report) is not effectively used because
the individual responsible for reviewing the information does not understand its purpose or
fails to take appropriate action.
▪ Collusion among People
Controls can be circumvented by the collusion of two or more people. Inappropriate
management may also override of internal control. For example, management may enter into
side agreements with customers that alter the terms and conditions of the entity’s s tandard
sales contracts, which may result in improper revenue recognition.
▪ Judgement by Management
In designing and implementing controls, management may make judgments on the nature and
extent of the controls it chooses to implement, and the nature and extent of the risks it chooses
to assume. Management choices can be sub-optimal.
▪ Limitations in case of Small Entities
Smaller entities often have fewer employees due to which segregation of duties is not
practicable. In a small owner-managed entity, the owner-manager may be able to exercise
more effective oversight than in a larger entity. However, the owner-manager may be more
able to override controls because the system of internal control is less structured.
Controls relevant to the Audit

There is a direct relationship between an entity’s objectives and the controls it implements to
provide reasonable assurance about their achievement.
The entity’s objectives, and therefore controls, relate to financial reporting, operations, and
compliance.
However, not all of these objectives and controls are relevant to the auditor’s risk assessment.
Factors relevant to the auditor’s judgment about whether a control, individually or in combination
with others, is relevant to the audit includes the following:
• Principles of Materiality.
• The significance of the related risk.
• The size of the entity and the nature of the entity’s business, including its organization and
ownership characteristics.
• The diversity and complexity of the entity’s operations.
• Applicable legal and regulatory requirements.
• The circumstances and the applicable component of internal control.
• The nature and complexity of the systems that are part of the entity’s internal
control, including the use of service organizations.
• Whether, and how, a specific control, individually or in combination with others, prevents, or
detects and corrects, material misstatement.
The auditor will delve deep into the following types of control:

5. Controls over the completeness and accuracy of information
Controls over the completeness and accuracy of information produced by the entity is relevant to
the audit. For example, in auditing revenue by applying standard prices to records of sales volume,
the auditor considers the accuracy of the price information and the completeness and accuracy of
the sales volume data. Controls relating to operations and compliance objectives may also be
relevant to an audit.
6. Internal control over safeguarding of assets

• Internal control over safeguarding of assets against unauthorized acquisition, use, or
disposition may include controls relating to both financial reporting and operations
objectives.
• The auditor’s consideration of such controls is generally limited to those relevant to the
reliability of financial reporting. For example, use of access controls, such as passwords,
that limit access to the data and programs that process cash disbursements may be
relevant to a financial statement audit.
• Safeguarding controls relating to operations objectives, such as controls to prevent the
excessive use of materials in production, generally are not relevant to a financial statement
audit.
7. Controls relating to objectives that are not relevant to an audit

• An entity generally has controls relating to objectives that are not relevant to an audit and
therefore will not be considered by the auditor. For example, an entity may rely on a
sophisticated system of automated controls to provide efficient and effectiv e operations
such as an airline’s system of automated controls to maintain flight schedules, but these
controls ordinarily would not be relevant to the audit.
• Further, although internal control applies to the entire entity or to any of its operating units
or business processes, an understanding of internal control relating to each of the entity’s
operating units and business processes may not be relevant to the audit.
• In certain circumstances, the statute or the regulation governing the entity may require the
auditor to report on compliance with certain specific aspects of internal controls as a result,
the auditor’s review of internal control may be broader and more detailed.
8. Nature & Extent of the understanding of relevant controls

• The auditor has to understand the nature and extent of the relevant Controls.
• Evaluating the design of a control involves considering whether the control, individually or in
combination with other controls, is capable of effectively preventing, or detecting and correcting,
material misstatements.
• Implementation of a control means that the control exists and that the entity is using it.
• Risk assessment procedures to obtain audit evidence about the design and implementation
of relevant controls may include-
Inquiring of entity personnel.
Observing the application of specific controls.
Inspecting documents and reports.
Tracing transactions through the information system relevant to financial reporting.
• Inquiry alone, however, is not sufficient for such purposes. He has to personally check if the

controls are effectively operating.
• Obtaining an understanding of an entity’s controls is not sufficient to test their operating
effectiveness, unless there is some automation that provides for the consistent operation of the
controls.
Components of internal control
Control
Environment
Monitoring Entity’s risk

of controls assessment
process
Components of
internal control
Control Information
activities system
▪ Control environment
• The auditor shall obtain an understanding of the control environment. As part of obtaining
this understanding, the auditor shall evaluate whether:
• Management has created and maintained a culture of honesty and ethical behaviour and
• The strengths in the control environment elements collectively provide an appropriate
foundation for the other components of internal control.
• The control environment includes:
• the governance and management functions and
• the attitudes, awareness, and actions of those charged with governance and management.
• the control environment sets the tone of an organization, influencing the control
consciousness of its people.
• Elements of the control environment that may be relevant when obtaining an understanding
of the control environment include the following:
▪ Communication and enforcement of integrity and ethical values

These are essential elements that influence the effectiveness of the design, administration and
monitoring of controls.
▪ Commitment to competence
Management’s consideration of the competence levels for particular jobs and whether right
persons with requisite skill and knowledge are appointed.
▪ Participation by those charged with governance

It included attributes of those charged with governance such as:
▪ Their independence from management.
▪ Their experience and stature.
▪ The extent of their involvement and the information they receive, and the scrutiny of activities.
▪ The appropriateness of their actions, including the degree to which difficult questions are
raised and pursued with management, and their interaction with internal and external
auditors.
▪ Management’s philosophy and operating style
It includes Characteristics such as management’s:
• Approach to taking and managing business risks.
• Attitudes and actions toward financial reporting.
• Attitudes toward information processing and accounting functions and personnel.
▪ Organizational structure
The framework within which an entity’s activities for achieving its objectives are planned,
executed, controlled, and reviewed.
▪ Assignment of authority and responsibility
Matters such as how authority and responsibility for operating activities are assigned and how
reporting relationships and authorization hierarchies are established.
▪ Human resource policies and practices
Policies and practices that relate to, for example, recruitment, orientation, training, evaluation,
counselling, promotion, compensation, and remedial actions.
Impact of Satisfactory Control environment
• The existence of a satisfactory control environment can be a positive factor when the auditor
assesses the risks of material misstatement.
• However, although it may help reduce the risk of fraud, a satisfactory control environment is
not an absolute deterrent to fraud. Conversely, deficiencies in the control environment may
undermine the effectiveness of controls, in particular in relation to fraud.
• The control environment in itself does not prevent, or detect and correct, a material
misstatement. It may, however, influence the auditor’s evaluation of the effectiveness of other
controls and thereby, the auditor’s assessment of the risks of material misstatement.
▪ Entity’s Risk Assessment Process
▪ The entity’s risk assessment process forms the basis for the risks to be managed.
▪ If that process is appropriate, it would assist the auditor in identifying risks of material
misstatement. Whether the entity’s risk assessment process is appropriate to the
circumstances is a matter of judgment.
▪ Risks can arise or change due to factor such as new technology, new business models,
products or activities, changes in operating environment etc. Whether the entity’s risk
assessment process is appropriate to the circumstances is a matter of judgment.
▪ The auditor shall obtain an understanding of whether the entity has a process for:
1. Identifying business risks relevant to financial reporting objectives
2. Estimating the significance of the risks
3. Assessing the likelihood of their occurrence and

4. Deciding about actions to address those risks.
▪ Information system
The auditor shall obtain an understanding of the following:
• The classes of transactions in the entity’s operations that are significant to the financial
statements.
Transactions can be divided into categories or classes and then accordingly traced their reporting
in financial statements. For example – Based on geographic locations (domestic/ international)
based on nature (sales/ purchases), based on means of recording (digital/manual) etc.
• The procedures by which those transactions are initiated, recorded, processed, corrected as
necessary, transferred to the general ledger and reported in the financial statements.
This refers to the trail of transactions from beginning to end i.e., from its originating source to
ultimately appearing in financial statements.
Grouping in Financial
Journal entry Ledger posting
trial balance statements
Understand the controls at each of the above level.
• The related accounting records, supporting information and specific accounts in the financial
statements that are used to initiate, record, process and report transactions.
This refers to the various supporting documents that gets generated at each level of recording the
transaction. For example – For an inventory, the various supporting documents are Purchase
order, Invoice, Goods receipt note, Gate pass etc. The auditor has to understand that there is not
only a supporting document at each level but also that such document is approved by an
authorized person. This can either be under a manual system or an electronic system.
• How the information system captures events and conditions that are significant to the financial
statements
This refers to capturing of all that information which needs to be disclosed as part of financial
statement as a result of compliance to any applicable law. Every information which is required to
be disclosed as a matter of statutory compliance should be captured properly.
• The financial reporting process used to prepare the entity’s financial statements.
This refers to the process of preparing the financial statements from the books of accounts is
strong and effective to ensure that there is no possibility of errors. This is a control at the last
step i.e., the step at which financial statements are prepared. For example, how information
from branches is incorporated in the financial statements.
• Controls surrounding journal entries
The primary mode of recording a transaction is journal entry. Thus, from journal entry, any
transaction will reach the financial statements. Thus, the auditor has to understand all the
controls at the point of recording journal entries to ensure they are
• Recorded by authorized persons
• Recorded in proper manner
• Verified by a senior
• Approved by a senior.

▪ Control activities
▪ An auditor requires an understanding of only those control activities related to significant class
of transactions, account balance, and disclosure in the financial statements and the assertions
which he finds relevant in his risk assessment process.
▪ Control activities are those policies and procedures laid by the management to ensure that
significant transactions are accounted properly.
▪ Control activities, whether within IT or manual systems, have various objectives and are
applied at various organizational and functional levels.
▪ Thus, control activities relevant to audit are:
▪ Control activities that relate to significant risks and those that relate to risks for which
substantive procedures alone do not provide sufficient appropriate audit evidence or
▪ Those that are considered to be relevant in the judgment of the auditor.
• Specific control activities for any significant transaction include the following:
One will initiate the transaction; one will verify it and a

Physical controls
concerned authority will approve it.
Segregation of The record keeping function and the custodian function

duties should not be with the same person.
Authorization The safeguarding of physical documents and files.
Performance
If the processes and procedures are operating effectively
review
Information How the information is flowing across the organization

processing through these control activities
▪ Auditor assessing control risk

▪ When making control risk assessments, the auditor considers:
• The control environment’s influence over internal control. A control environment that
supports the prevention, and detection and correction, of material misstatements allows
greater confidence in the reliability of internal control and audit evidence generated within
the entity.
• Evaluations of the related IT processes that support application and IT-dependent manual
controls.
• The expectation of the operating effectiveness of controls based on the understanding of
entity’s processes.
▪ When auditor identifies deficiencies and reports on internal controls, he determines the
significant financial statement assertions that are affected by the ineffective controls.
▪ The auditor concludes that they support a ‘rely on controls’ risk assessment, if he thinks
it is appropriate. Otherwise he will change control risk assessment to ‘not rely on
controls.’

▪ When control deficiencies are identified and auditor identifies and tests more than one control
for each relevant assertion, he evaluates control risk considering all of the controls he has
tested.
▪ Monitoring of controls
• The auditor shall obtain an understanding of the major activities that the entity uses to
monitor internal control over financial reporting.
• Monitoring of controls is a process to assess the effectiveness of internal control
performance over time. It helps in assessing the effectiveness of controls on a timely basis.
• It involves assessing the effectiveness of controls on a timely basis and taking necessary
remedial actions. It includes considering whether controls are operating as intended and
that they are modified as appropriate for change in conditions.
• Management accomplishes monitoring of controls through ongoing activities, separate
evaluations, or a combination of the two. Ongoing monitoring activities are often built into
the normal recurring activities of an entity and include regular management and
supervisory activities.
• Management’s monitoring activities may include using information from communications
from external parties such as customer complaints and regulator comments that may
indicate problems or highlight areas in need of improvement
9. Significant risks
• Significant risks are inherent risks with both a higher likelihood of occurrence and a higher
magnitude of potential misstatement.
• Significant risks often relate to significant non- routine transactions or judgmental matters.
• Non-routine transactions are transactions that are unusual, due to either size or nature, and that
therefore occur infrequently.
• Judgmental matters may include the development of accounting estimates for which there is
significant measurement uncertainty.
• Risks of material misstatement may be greater for significant non-routine transactions
arising from matters such as the following:
• Greater management intervention to specify the accounting treatment.
• Greater manual intervention for data collection and processing.
• Complex calculations or accounting principles.
• The nature of non-routine transactions, which may make it difficult for the entity to implement
effective controls over the risks.
• Risks of material misstatement may be greater for significant judgmental matters that require
the development of accounting estimates, arising from matters such as the following:
• Accounting principles for accounting estimates or revenue recognition may be subject to
differing interpretation.
• Required judgment may be subjective or complex, or require assumptions about the effects
of future events, for example, judgment about fair value.

Risk that require Special Audit consideration
In exercising judgment as to which risks are significant risks, the auditor shall consider at least the
following:
• Whether the risk is a risk of fraud
• Whether the risk is related to recent significant economic, accounting, or other developments like
changes in regulatory environment, etc., and, therefore, requires specific attention
• The complexity of transactions
• Whether the risk involves significant transactions with related parties
• The degree of subjectivity in the measurement of financial information related to the risk,
especially those measurements involving a wide range of measurement uncertainty; and
• Whether the risk involves significant transactions that are outside the normal course of business
for the entity, or that otherwise appear to be unusual.
Evaluation of Internal Control
The auditor needs reasonable assurance that the accounting system is adequate and that all the
accounting information which should be recorded has in fact been recorded. Internal control normally
contributes to such assurance.
Thus, the examination and evaluation of the internal control system is an indispensable part of the
overall audit programme.
Benefits of Evaluation of Internal Control:

• whether errors and frauds are likely to be located in the ordinary course of operations of the
business.
• whether an internal control system is in use, is it adequate, and operating as planned by the
management.
• whether an effective internal auditing department is operating. Internal Control = Internal
• whether the controls adequately safeguard the assets. check + Internal Audit
• how far and how adequately the management is discharging its function in so far as correct
recording of transactions is concerned.
• how reliable the reports, records and the certificates to the management can be.
• the extent and the depth of the examination that he needs to carry out in the different areas of
accounting.
• what would be appropriate audit technique and the audit procedure in the given circumstances.
• what are the areas where control is weak and where it is excessive
• whether some worthwhile suggestions can be given to improve the control system.
10. Formulating Audit Programme
• The auditor can formulate his entire audit programme only after he has had a satisfactory
understanding of the internal control systems and their actual operation. If he does not
care to study this aspect, it is very likely that his audit programme may become unwieldy
and unnecessarily heavy and the object of the audit may be altogether lost in the mass of
entries and vouchers

• It is also important for him to know whether the system is actually in operation. Often,
after installation of a system, no proper follow up is there by the management to ensure
compliance. The auditor, in such circumstances, may be led to believe that a s ystem is in
operation which in reality may not be altogether in operation or may at best operate only
partially.
• the extent and the nature of the audit programme is substantially influenced by the
internal control system in operation.
• A proper understanding of the internal control system in its content and working also
enables an auditor to decide upon the appropriate audit procedure to be applied in
different areas to be covered in the audit programme.
• In a situation where the internal controls are considered weak in some areas, the auditor
might choose an auditing procedure or test that otherwise might not be required; he might
extend certain tests to cover a large number of transactions or other items than he
otherwise would examine and at times he may perform additional tests to bring him the
necessary satisfaction.
11. Methods to evaluate the internal controls

• A review of the internal control can be done by a process of study, examination and evaluation
of the control system installed by the management.
• The first step involves determination of the control and procedures laid down by the
management.
• By reading company manuals, studying organisation charts and flow charts and by making
suitable enquiries from the officers and employees, the auditor may ascertain the character,
scope and efficacy of the control system.
• In many cases, very little information is available in writing; the auditor must ask the right
people the right questions if he is to get the information he wants.
• It would be better if he makes written notes of the relevant information and procedures
contained in the manual or ascertained on enquiry.
• 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 tools.
Narrative
records
Flow charts Methods Checklist
Questionnaire

▪ 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:
• The system in operation is quite difficult to comprehend.
• To identify weaknesses or gaps in the system.
• To incorporate changes arising on account of reshuffling of manpower, etc.
▪ Check List
• This is a series of instructions and/or questions which a member of the auditing staff must
follow and/or answer.
• 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.
• The complete check list is studied by the Principal/Manager/Senior to ascertain existence of
internal control and evaluate its implementation and efficiency.
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 inventory control accounts maintained by persons who have nothing to do with
custody of work, receipt of inventory, inspection of inventory and purchase of inventory?
▪ Internal Control Questionnaire

▪ This is a 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 organization.
▪ An important advantage of the questionnaire approach is that oversight or omission of
significant internal control review procedures is less likely to occur with this method.
▪ With a proper questionnaire, all internal control evaluation can be completed at one time or
in sections.
▪ The review can more easily be made on an interim basis.
▪ In the questionnaire, generally questions are so framed that a ‘Yes’ answer denotes
satisfactory position and a ‘No’ answer suggests weakness. Provision is made for an
explanation or further details of ‘No’ answers. In respect of questions not relevant to the
business, ‘Not Applicable’ reply is given.
▪ The 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 with the client’s employees for a clear picture.
▪ The concerned auditor then prepares a report of deficiencies and recommendations for

improvement.
Examples of Extracts of Internal Control Questionnaire in respect of purchases, and fixed
assets
A. Purchases
(1) Are purchases centralised in the Purchase Department?
(2) (a) Are purchases made only from approved suppliers?
(b) Is a list of approved suppliers maintained for this purpose?
(c) Does the master list contain more than one source of supply for all important materials?
(3) Are the purchase orders based on valid purchase requisitions duly signed by authorised
persons in this behalf?
(4) Are purchases based on competitive quotations from two or more suppliers?
(5) Are purchase orders pre-numbered?
(6) Are purchase orders signed only by employees authorized in this behalf?
(7)Are all materials received only in the Receiving Department?
B. Fixed Assets
(1) Are budgets for capital expenditure approved?
(2) Is the authority to incur capital expenditure restricted to specified officials?
(3) Are purchases of capital expenditure subject to same controls as applicable to purchases of
raw materials, stores etc.?
(4) Is there proper check to see that amounts expended do not exceed the amount authorized?
(5) Are fixed assets verified periodically?
(6) Is there a written procedure for such verification?
(7) Are reports prepared on such verification?
(8) Do such reports indicate damaged/obsolete items of fixed assets?
(9) Are discrepancies disclosed by such reports investigated?
(10) Are the records and financial accounts corrected with appropriate authority?
▪ A Flow Chart
• It is a graphic presentation of each part of the company’s system of internal control.
• A flow chart is considered to be the most concise way of recording the auditor’s review of the
system.
• It minimizes the amount of narrative explanation and thereby achieves a consideration or
presentation not possible in any other form.
• It gives bird’s eye view of the system and the flow of transactions and integration and in
documentation, can be easily spotted and improvements can be suggested.
• 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.
Best tool – Each tool has its share of advantages and disadvantages so the auditor has to use his
profession judgement to decide which tool can be used based on the requirement of information.

11.1 Testing of controls
• After assimilating 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 is done 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 done by application of procedural tests and auditing
in depth.
• Test of controls are performed to obtain audit evidence about the effectiveness of the
▪ Design of the accounting and internal control system i.e., Whether they are designed to
prevent, detect, and correct material misstatements. And
▪ Operation of internal controls throughout the period.
• Some of the procedures performed to obtain the understanding of the accounting and internal
control systems may not have been specifically planned as tests of control but may provide audit
evidence about the effectiveness of the design and operation of internal controls relevant to
certain assertions.
• Test of controls may include:
• Inspection of documents supporting transactions and other events.
• 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 involves the auditor’s independent execution of procedures or controls for
example, reconciliation of bank accounts, to ensure they were correctly performed by the
entity.
• Testing of internal control operating on specific computerized applications or over the overall
information technology function, for example, access or program change.
Automated Environment
Meaning of Automated Environment

• A business environment where the processes, operations, accounting and even decisions are carried
out by using computer systems – also known as Information Systems (IS) or Information Technology (IT)
systems. Nowadays, it is very common to see computer systems being used in almost every type of
business.
• The fundamental principle of an automated environment is the ability to carry out business with less
manual intervention and more system driven. The complexity of a business environment depends on
the level of automation i.e., if a business environment is more automated, it is likely to be more complex
Key features of Automated Environment

• Enables faster business operation
• Accuracy in data processing and computation
• Ability to process large volume of transactions
• Integration amongst business operations
• Better security and controls
• Less prone to human errors Provides latest information
• Connectivity and networking capability

Understanding and Documenting Automated Environment
Auditor should consider to obtain an understanding of the company’s automated environment in following matter
• Information systems being used (one or more application systems and what they are)
• Their purpose (financial and non-financial)
• Location of IT systems - local vs global
• Architecture (desktop based, client-server, web application, cloud based)
• Version (functions and risks could vary in different versions of same application).
• Interfaces within systems (in case multiple systems exist).
• In-house vs Packaged.
• Outsourced activities (IT maintenance and support).
• Key persons (CIO, CISO, Administrators).
The understanding of a company’s IT environment that is obtained should be documented.
Risks arising from use of IT Systems

• Inaccurate processing of data, processing inaccurate data, or both.
• Unauthorized access to data.
• Direct data changes (backend changes).
• Excessive access / Privileged access (super users).
• Lack of adequate segregation of duties.
• Unauthorized changes to systems or programs.
• Failure to make necessary changes to systems or programs.
• Loss of data.
Impact of IT related risks
On substantive audit On controls On Reporting
Impact on substantive checking

• Inability to address above discussed risks may lead to non-reliance of data obtained from systems.
• In such a case, all information, data, and reports would have to be tested thoroughly for their
completeness and accuracy.
• It could lead to increased substantive checking i.e., detailed checking.
Impact on controls
• It can lead to non-reliance on automated controls, system calculations and accounting procedures built
into applications.
• It may result in additional audit work.
Impact on reporting
• Due to regulatory requirements in respect of internal financial controls in case of companies, it may lead
to modification of auditor’s report in some instances.

12. Types of Controls in an automated environment
Controls in an automated environment can be categorized as under: -
(A) General IT controls
(B) Application controls
(C) IT-dependent controls
General IT Control
Application
Control
IT dependent
Control
General IT Control
General IT controls are policies and procedures that relate to many applications and support the effective
functioning of application controls. General IT-controls that maintain the integrity of information and security of
data commonly include controls over the following:
• Data centre and network operations

• Program change
• Access security
• Application system acquisition, development, and maintenance (Business Applications)
These are IT controls generally implemented to mitigate the IT specific risks and applied commonly across
multiple IT systems, applications and business processes. Hence, General IT controls are known as “pervasive”
controls or “indirect” controls.
(a)Controls over Data centre and network operations

• The objective of controls over Data centre and network operations is to ensure that production systems
are processed to meet financial reporting objectives.
• These include activities such as
o overall management of computer operation activities,
o preparing, scheduling and executing of batch jobs,
o monitoring, storage and retention of backups.
o Such controls also help in performance monitoring of operating system, database and
networks.
o Matters such as BCP (Business continuity plan) and DRP (Disaster recovery plan) which deal
with recovery from failures are also taken care of by such type of controls.

(b)Program Change
• The objective of program change controls is to ensure that modified systems continue to meet financial
reporting objectives.
• It includes activities such as
o change management process,
o recording, managing and tracking change requests,
o making and testing changes etc.
(c)Access Security
• The objective of controls over access security is to ensure that access to programs and data is authenticated and
authorized to meet financial reporting objectives.
• It includes activities such as
o security organization & management,
o security policies & procedures,
o application security,
o data security,
o operating system security,
o network security,
o physical security etc.
(d)Application system acquisition, development, and maintenance
▪ The objective of such controls is to ensure that systems are developed, configured and implemented
to meet financial reporting objectives.
▪ It includes
o overall management of development activities,
o project initiation,
o analysis & design,
o construction,
o testing & quality assurance etc
Application Controls
1. Application controls include both automated or manual controls that operate at a business process level.
2. Automated Application controls are embedded into IT applications viz., ERPs and help in ensuring the
completeness, accuracy and integrity of data in those systems.
3. Examples of automated applications include
a. edit checks and validation of input data,
b. sequence number checks,
c. user limit checks,
d. reasonableness checks,
e. mandatory data fields.
IT dependent Controls
▪ IT dependent controls are basically manual controls that make use of some form of data or
information or report produced from IT systems and applications.
▪ Though the control is performed manually, the design and effectiveness of such controls
depends on the reliability of source data.
▪ Due to the inherent dependency on IT, the effectiveness and reliability of automated
application controls and IT dependent controls require the General IT controls to be
effective.
General IT Controls vs. Application Controls
▪ These two categories of control over IT systems are interrelated.

▪ The relationship between the application controls and the General IT Controls is such that

General IT Controls are needed to support the functioning of application controls, and
both are needed to ensure complete and accurate information processing through IT
systems.
13. Testing methods in an automated environment
• There are basically four types of audit tests that should be used.
• These are inquiry, observation, inspection and reperformance.
• Inquiry is the most efficient audit test but it also gives the least audit evidence. Hence, inquiry should
always be used in combination with any one of the other audit testing methods. Inquiry alone is not
sufficient.
• Reperformance is most effective as an audit test and gives the best audit evidence. However, testing
by reperformance could be very time consuming and least efficient most of the time.
• Applying inquiry in combination with inspection gives the most effective and efficient audit evidence.
• The auditor should document the nature of test (or combination of tests) applied along with the
judgements in the audit file.
• When testing in an automated environment, some of the more common methods are as follows:
o Obtain an understanding of how an automated transaction is processed by doing a
walkthrough of one end-to-end transaction using a combination of inquiry, observation and
inspection.
o Observe how a user processes transactions under different scenarios.
o Inspect the configuration defined in an application.
14. CHARACTERISTICS OF MANUAL AND AUTOMATED ELEMENTS OF INTERNAL CONTROL

RELEVANT TO THE AUDITOR’S RISK ASSESSMENT
• An entity’s system of internal control contains manual elements and often contains automated
elements. The characteristics of manual or automated elements are relevant to the auditor’s risk
assessment and further audit procedures based thereon. The use of manual or automated
elements in internal control also affects the manner in which transactions are initiated, recorded,
processed, and reported:
o Controls in a manual system may include such procedures as approvals and reviews of
transactions, and reconciliations and follow-up of reconciling items. Alternatively, an entity may
use automated procedures to initiate, record, process, and report transactions, in which case
records in electronic format replace paper documents.
o Controls in IT systems consist of a combination of automated controls (for example, controls
embedded in computer programs) and manual controls.
o Further, manual controls may be independent of IT, may use information produced by IT, or may
be limited to monitoring the effective functioning of IT and of automated controls, and to handling
exceptions
15. Manual elements vs automated elements in entity’s internal control

Manual elements in internal control may be more suitable where judgment and discretion
are required such as for the following circumstances
• Large, unusual or non-recurring transactions.
• Circumstances where errors are difficult to define, anticipate or predict.
• In changing circumstances that require a control response outside the scope of an existing
automated control.
• In monitoring the effectiveness of automated controls.

Manual elements in internal control may be less reliable than automated elements in
circumstances like
▪ High volume or recurring transactions, or in situations where errors that can be anticipated or
predicted can be prevented, or detected and corrected, by control parameters that are automated.
▪ Control activities where the specific ways to perform the control can be adequately designed and
automated.
16. AUDIT APPROACH IN AN AUTOMATED ENVIRONMENT
Test for
Risk Understand
Operating Reporting
Assessment and Evaluate
Effectiveness
• Risk Assessment:
o Identify significant accounts and disclosures
o Qualitative and Quantitative characteristics
o Relevant FS Assertions
o Identify likely sources of Misstatements and
o Consider Risk arising from use of IT systems
• Understand and Evaluate:
o Document understanding of business process using flowcharts/Narratives
o Prepare risk and control matrices (RCM)
o Understand design of controls by performing walkthroughs of end-to end process
o Process wide considerations for entity level controls, Segregation of duties and
o IT general controls and Application Controls
• Test for operating effectiveness
o Assess NTE of control testing
o Assess reliability of source data and completeness of population
o Testing of key reports and spreadsheets
o Sample testing and
o Consider competence and independence of staff/ team performing control testing.
• Reporting
o Evaluate control deficiencies
o Significant deficiencies and material weaknesses
o Reconciliation of Control weaknesses
o Internal control memo (ICM) of Management Letter and
o Auditors Report
17. Data Anaytics
▪ The amount of data and information that exists in these systems is enormous.
▪ The combination of processes, tools and techniques that are used to tap vast amounts of electronic
data to obtain meaningful information is called data analytics.
▪ The tools and techniques that auditors use in applying the principles of data analytics are known
as Computer Assisted Auditing Techniques or CAATs in short. Data analytics can be used in testing
of electronic records and data residing in IT systems using spreadsheets and specialised audit tools
viz., IDEA and ACL to perform the following
▪ Check completeness of data and population that is used in either test of controls or

substantive audit tests.
▪ Selection of audit samples – random sampling, systematic sampling.
▪ Re-computation of balances – reconstruction of trial balance from transaction data.
▪ Reperformance of mathematical calculations – depreciation, bank interest calculation.
▪ Analysis of journal entries
▪ Fraud investigation.
▪ Evaluating impact of control deficiencies.
Digital Audit
• Entities are embracing digitization as part of their operations to keep pace with changing times. New
technologies are helping companies revamp their operations and rethink the way business is conducted.
Companies are restructuring their business models driven by technology. Automation is key to digitization.
• In such a business environment, use of digital technology is being made by auditors right from planning to
expression of final opinion.
• Auditors are making use of artificial intelligence, data analytics and other latest technologies to help
understand business processes in a better way. By using such tools, auditors can conduct audit in a better
way and devote more attention to areas requiring greater focus.
• Digital audit is helping auditors to better identify risks making use of technology.
18. Internal Financial Control & Reporting

Meaning of Internal Financial controls
Internal Financial Controls (IFC) basically refers to the policies and procedures put in place by
companies for ensuring
▪ Reliability of financial reporting
▪ Effectiveness and efficiency of operations
▪ Compliance with applicable laws and regulations
▪ Safeguarding of assets
▪ Prevention and detection of frauds
Reporting Requirements
Sec 134(5)(e) In case of listed Companies, the Directors’
responsibility statement shall state that the
Directors had laid down Internal financial
controls to be followed by the company and
that such Internal financial controls are
adequate and were operating effectively
Section 143(3)(i) of the Act The auditor’s report shall state whether the
company has adequate Internal financial
controls system in place and also on the
operating effectiveness of such controls.
This requirement shall not apply to a private
company which –
(i) is One Person Company or a small
company; or

(ii) has turnover less than ₹ 50 crore as per
latest audited Financial Statements; and
which has aggregate borrowings from banks
or financial institutions or any body
corporate at any point of time during the
financial Year for less than ₹
25 crore.
Section 177(4)(vii) of the Act Every audit Committee shall act in
accordance with the terms of reference
specified in writing by the Board which shall,
inter alia, include - evaluation of internal
financial controls and risk management
systems
As per Section 149(8) of the Act The company and independent directors
shall abide by the provisions specified in
Schedule IV which lays down the Code for
independent Directors. As per this code, the
role and functions of independent directors
include that they shall satisfy themselves on
the integrity of financial information and
that financial controls and the systems of
risk management are robust and defensible.
19. DOCUMENTING THE RISKS

The auditor shall document:
(a) The discussion among the engagement team and the significant decisions reached
(b) Key elements of the understanding obtained regarding each of the aspects of the
entity and its environment and of each of the internal control components, the sources of information
from which the understanding was obtained; and the risk assessment procedures performed
(c) The identified and assessed risks of material misstatement at the financial statement
level and at the assertion level and
(d) The risks identified, and related controls about which the auditor has obtained an
understanding.
20. ASSESS AND REPORT AUDIT FINDINGS
▪ At the conclusion of each audit, it is possible that there will be certain findings or exceptions
in IT environment and IT controls of the company that need to be assessed and reported to
relevant stakeholders including management and those charged with governance viz., Board
of directors, Audit committee .
Consideration while assessing the findings
▪ Are there any weaknesses in IT controls?

▪ What is the impact of these weaknesses on overall audit?
▪ Report deficiencies to management – Internal controls memo or
Management letter.
▪ Communicate in writing any significant deficiencies to those Charged with governance.

▪ The auditor needs to assess each finding or exception to determine impact on the audit
and evaluate if the exception results in a deficiency in internal control.
▪ A deficiency in internal control exists if a control is designed, implemented or operated in such
a way that it is unable to prevent, or detect and correct, misstatements in the financial
statements on a timely basis; or the control is missing.
▪ Evaluation and assessment of audit findings and control deficiencies involves applying
professional judgement that include considerations for quantitative and qualitative measures.
▪ Each finding should be looked at individually and in the aggregate by combining with other
findings/deficiencies.
SA 330 - The Auditor’s Responses to Assessed Risks
Contents
• Auditor’s response
• Test of Controls
• Substantive Procedures
Auditor’s objective
Obtain sufficient appropriate audit evidence about the assessed risks of material misstatement and
accordingly, design and implement appropriate responses to those risks.
Audit steps to achieve such objective can be broadly classified into
• Compliance Procedures
▪ Test of compliance with laws and regulations
▪ Test of controls
• Substantive Procedures
▪ Test of details
▪ Substantive analytical procedures
20.1 Important Terms
SA 315 – Identify risks

SA 330 – How the auditor should respond to such risks
20.1.1 Substantive Procedure

An audit procedure designed to detect material misstatement at the assertion level. These comprise:
• Tests of details (e.g. vouching and verification)
• Substantive analytical procedures.
20.1.2 Test of Controls

An audit procedure designed to evaluate the operating effectiveness of controls in preventing, or
detecting and correcting material misstatements at the assertion level.

20.2 Auditor’s Overall Responses
Auditor shall design and implement overall responses to address the assessed risk of material
misstatement at financial statement level. Auditor shall design further audit procedures which depend
on the overall responsiveness to the assessed risks.
An overall response includes:
• Ensuring high degree of professional skepticism amongst audit team members
• Assigning more experienced staff or those with special skills or using experts
• Providing more supervision
• Incorporating element of surprise into the audit.
• Making suitable changes to nature, timing and extent of audit procedures.
• Emphasis on substantive procedures or may use tests of controls as well as substantive
procedures.
20.2.1 Audit procedures responsive to the assessed risks of material misstatement at the
assertion level
• To address the assessed risk of material misstatement at the financial statement level, the auditor
should design overall responses such as providing more supervision, assigning more experienced/
skilled staff, etc.
• The auditor shall consider the reasons for the assessment given to a risk including the related
inherent risk and control risk.
• Higher the assessment of risk, more persuasive audit evidence should be obtained.
20.3 Test of Controls
A test of controls is an audit procedure to test the effectiveness of a control used by a client entity to
prevent or detect material misstatements.
Depending on the results of this test, auditors may choose to rely upon a client's system of controls
as part of their auditing activities. However, if the test reveals that controls are weak, the auditors will
enhance their use of substantive testing, which usually increases the cost of an audit.
20.3.1 Application
The auditor shall design and perform test of controls to obtain sufficient appropriate audit evidence
only when:
• controls are effective; or
• Substantive procedures and tests of controls are to be used together.
The auditor may design tests of control to be performed concurrently with test of details on same
transaction.
20.3.2 Nature & extent

• The auditor shall use other audit procedures such as
▪ inspection or
▪ performance (how, by whom, consistency) in combination with
▪ inquiry

to obtain audit evidence or to test about the operating effectiveness of controls.
• If the auditor needs more persuasive audit evidence, he may increase the extent of tests of
control.
• Determine whether the controls to be tested depend upon other controls and if so, the auditor
should test the operating effectiveness of these indirect controls.
20.3.3 Timing
The auditor shall test controls pertaining only to a point in time or over a period of time.
The objective is to provide an appropriate basis for the reliance auditor needs to place on the internal
control.
The timing for test of controls also depends on usage of audit evidence obtained about operating
effectiveness of controls during the interim period or from previous audit
20.3.4 Using audit evidence obtained during an interim period

Obtain audit evidence about significant changes to those controls subsequent to interim period.
Determine additional evidence to be obtained for the remaining period
20.3.5 Using audit evidence obtained in previous audit about
• Controls in general
The auditor may increase or decrease the expected audit evidence to be obtained in current period
about the operating effectiveness of the controls after considering
▪ the effectiveness of other elements of internal control, including the control environment,
the entity’s monitoring of controls, and the entity’s risk assessment process;
▪ Risk from controls depending on automation of the control
▪ The effectiveness of general IT-controls;
▪ The effectiveness of the control and its application by the entity, including the nature and
extent of deviations in the application of the control noted in previous audits, and whether
there have been personnel changes that significantly affect the application of the control;
▪ Whether the lack of a change in a particular control poses a risk due to changing
circumstances; and
▪ The risks of material misstatement and the extent of reliance on the control
• Specific Controls
The auditor has to check the continuing relevance of the evidence by obtaining further evidence
considering the significant changes occurred since previous audit. The procedure followed to obtain
such further evidence may include:
▪ If there are any changes, test the controls in the current audit
▪ If there are no changes, test controls at least once in every third audit and shall test some
controls in each audit
When the auditor plans to rely on controls over a risk the auditor has determined to be a
significant risk, the auditor shall test those controls in the current period.

20.3.6 Evaluating operating effectiveness of controls
• If misstatements detected by substantive procedures

▪ If the auditor has detected a material misstatement, it may indicate the existence of a material
weakness in operating effectiveness of controls.
▪ He should communicate such material weaknesses in internal control identified during the
audit on a timely basis to appropriate level of management.
No misstatements detected by substantive procedures does not mean that controls related to
the assertion being tested are effective.
• If deviations from controls detected

Auditor shall make specific inquiries to understand potential consequences and shall ensure
▪ Effectiveness of test of controls to provide evidence to rely on controls
▪ Additional tests required
▪ Potential misstatements are addressed using substantive procedures.
20.4 Substantive Procedures

Irrespective of the assessed risk of material The auditor shall consider whether
misstatement, the auditor shall design and perform
external confirmation procedures
substantive procedures for each material class of
are to be performed as substantive
transactions, account balance and disclosure.
audit. procedures.
20.4.1 Substantive procedures related to financial statements closing process

• Auditor shall agree or reconcile the financial statements with the underlying accounting records
• Auditor shall examine material journal entries and other adjustments made during the course of
preparing financial statements
20.4.2 Substantive procedures responsive to significant risks
When auditor has determined that an assessed risk of material misstatement at the assertion level is
a significant risk, perform substantive procedures that are specifically responsive to that risk, such
procedures shall also contain test of details.
20.4.3 Timing of substantive procedures
When substantive procedures are performed at an interim date, he shall cover the remaining period.
20.4.4 Evaluating the sufficiency and appropriateness of audit evidence

• The assessment of the risks of material misstatement at the assertion level remain appropriate
• sufficient appropriate audit evidence has been obtained
• sufficient appropriate audit evidence is not obtained, he shall express a qualified opinion or a
disclaimer of opinion or a disclaimer of opinion

20.4.5 Conclusion
The auditor has to ascertain whether sufficient appropriate audit evidence has been obtained, if not
express qualified / disclaimer.
20.5 Documentation
The auditor shall document:

• Overall responses to address the assessed risks of material misstatement at financial statement
level;
• Nature, timing and extent of audit procedures performed at the financial statement level and at
the assertion level;
• Results of audit procedures and whether financial statements agree or reconcile with the
underlying accounting records and audit evidence about the operating effectiveness of controls
obtained in previous audit, if relying upon

Audit Evidence
Chapter Overview
Audit Evidence- SA 500
Using the work of Internal auditor- SA 610
Audit Sampling- SA 530
Audit Evidence- Specific considerations for selected items- SA 501
External confirmations- SA 505
Initial Audit Engagements- opening balance- SA 510
Related Parties- SA 550
Anaytical Procedures (SA 520)
SA 500 – Audit Evidence
Contents
• Audit Evidence
• Sufficiency & Appropriateness of Audit Evidence
• Audit procedures for obtaining evidence
• Techniques of obtaining audit evidence
• Relevance & Reliability of evidence
1.1 Introduction
Audit evidence includes both information contained in the accounting records underlying the
financial statements and other information.
Audit Evidence - Information used by the auditor in arriving at the conclusions

on which the auditor’s opinion is based.
1.2 Audit Evidence and Auditor’s objective
1.2.1 SA 200
The auditor’s objective is to give an opinion on the financial statements and for that
• The auditor should obtain sufficient appropriate audit evidence through the performance of
compliance and substantive procedures to enable him to draw reasonable conclusions and
then the opinion on the financial information"
• The auditor should review and assess the conclusions drawn from the audit evidence
obtained and from his knowledge of business of the entity as the basis for the expression of
his opinion on the financial information.

Hence from the above we can conclude that auditor's opinion should be supported by reasonable
conclusions and reasonable conclusions should be backed by sufficient and appropriate audit
evidences.
1.2.2 SA 330
SA 330 requires the auditor to conclude whether sufficient appropriate audit evidence has been
obtained.
1.2.3 SA 500
The auditor shall design and perform audit procedures that are appropriate in the circumstances
for the purpose of obtaining sufficient appropriate audit evidence.
1.3 Important Terms
1.3.1 Accounting Records

The records of initial accounting entries and supporting records, such as checks and records of
electronic fund transfers; invoices; contracts; the general and subsidiary ledgers, journal entries
and other adjustments to the financial statements that are not reflected in journal entries; and
records such as work sheets and spreadsheets supporting cost allocations, computations,
reconciliations and disclosures.
1.3.2 Management’s Expert

An individual or organisation possessing expertise in a field other than accounting or auditing,
whose work in that field is used by the entity to assist the entity in preparing the financial
statements.
1.4 Significance of Audit Evidence
• The auditor applies his professional judgment to the

evidence gathered and obtained during the audit
Audit evidence is a
process.
fundamental constituent of
• He forms his opinion as to the truthfulness and fairness
an audit process.
of financial statements on the basis of review of such
evidence and expresses his opinion through an audit
report.
Audit evidence can be any document, record or information, which is available to

substantiate any assertion made in financial statements or transactions recorded in the
books of account.

1.5 Sufficiency and Appropriateness of Audit Evidence
The auditor shall design and perform audit procedures that

are appropriate in the circumstances for the purpose of
obtaining sufficient appropriate audit evidence The persuasiveness of
evidence is far more
important than its
Determinants of conclusiveness.
Persuasiveness of
Audit Evidence
Sufficiency Appropriateness
Quantum of evidence Relevance Reliability

(Enough to be (Pertinent to the (Trustworthy &
representative) matter being tested) Persuasive)
The auditor places more importance on persuasive evidence than conclusive evidence because
• cost of obtaining conclusive evidence may exceed the usefulness of evidence obtained and
• it is widely accepted that audit is designed to provide reasonable not absolute assurance
about management’s assertions in financial statements.
1.5.1 Sufficiency of Audit Evidence

The measure of the quantity of audit evidence. The quantity of the audit evidence needed is
affected by the auditor’s assessment of the risks of material misstatement and also by the quality
of such audit evidence. viz. at least two evidences are required to conclude about the balance in
bank - copy of Bank Statement and bank reconciliation statement);
1.5.2 Appropriateness of Audit Evidence

The measure of the quality of audit evidence; that is, its relevance and its reliability in providing
support for the conclusions on which the auditor’s opinion is based. (Copy of bank statement
should be duly certified by the bank manager and BRS shall be passed by Managers account and
corresponding entries required have been made in books of accounts).
1.5.3 Professional Judgement
Sufficient Audit Evidence = Quantity of evidence.

(Eg. Testing the 70% of the transactions.)
Appropriate Audit Evidence = Quality of evidence. (relevance & reliability in supporting
auditor’s conclusion) (Eg. Obtaining 3rd Party confirmations.)

Auditor shall use professional judgment to ascertain whether Sufficient and Appropriate audit
evidences have been obtained or not.
It all depends upon how much the item concerned is material, whether risk of misstatement is
there or not relating to any item of financial statement, nature and complexity of financial
information etc.
1.6 Sources of Audit Evidence

• Some audit evidence is obtained by performing audit procedures to test the accounting
records
• The auditor may determine whether the accounting records are internally consistent and
agree to the financial statements.
• Consistency of audit evidence enhances the audit comfort (i.e. relevance and reliability)
1.7 Audit procedures for obtaining audit evidence
• Auditors’ Opinion shall be an outcome of

▪ Risk assessment procedures performed;
▪ Tests of controls, when required by the SAs or when the auditor has chosen to do so;
and
▪ Substantive procedures, including tests of details and substantive analytical
procedures
• The nature and timing of the audit procedures to be used may be affected by the fact that
some of the accounting data and other information may be available only in electronic form
or only at certain points or periods in time.
• Certain electronic information may not be retrievable after a specified period of time, for
example, if files are changed and if backup files do not exist.
Accordingly, the auditor may find it necessary as a result of an entity’s data retention policies
to request retention of some information for the auditor’s review or to perform audit
procedures at a time when the information is available.
1.8 Techniques of Audit Evidence
1.8.1 Inspection
• Inspection refers to the examination of records and of documentary evidence such as lease
deeds, investment certificates, whether originating from the third parties or the entity and held
by either.
• It also indicates physical examination of tangible assets to ensure their actual existence.
• The various records and documents provide evidence of varying degree of reliability
depending on their nature and source and effectiveness of internal controls over their
processing.
• Inspection of tangible assets may provide reliable audit evidence with respect to their
existence, but not necessarily about the entity’s rights and obligations or the valuation of the
assets.
• Inspection of individual inventory items may accompany the observation of inventory
counting.
1.8.2 Observation
• Observation consists of looking at a process or procedure being performed by others, for

example, the auditor’s observation of inventory counting by the entity’s personnel, or of the
performance of control activities.
• Observation provides audit evidence about the performance of a process or procedure but is
limited to the point in time at which the observation takes place, and by the fact that the act
of being observed may affect how the process or procedure is performed.
1.8.3 External Confirmation

• An external confirmation represents audit evidence obtained by the auditor as a direct written
response to the auditor from a third party (the confirming party), in paper form, or by
electronic or other medium.
• External confirmation procedures frequently are relevant when addressing assertions

associated with certain account balances and their elements.
• However, external confirmations need not be restricted to account balances only.
1.8.4 Recalculation
Recalculation consists of checking the mathematical accuracy of documents or records.
Recalculation may be performed manually or electronically.
1.8.5 Reperformance
Reperformance involves the auditor’s independent execution of procedures or controls that were
originally performed as part of the entity’s internal control.
1.8.6 Analytical Procedures

• Analytical procedures consist of evaluations of financial information made by a study of
plausible relationships among both financial and non-financial data.
• Analytical procedures also encompass the investigation of identified fluctuations and
relationships that are inconsistent with other relevant information or deviate significantly from
predicted amounts.
1.8.7 Inquiry
• Inquiry consists of seeking information of knowledgeable persons, financial and non- financial,
within the entity or outside the entity.
• Inquiries may be formal written inquiries or informal oral inquiries.
• Evaluating responses to inquiries is an integral part of the inquiry process. Responses to
inquiries may provide the auditor with information not previously possessed or with
corroborative audit evidence.
• Alternatively, responses might provide information that differs significantly from other
information that the auditor has obtained, for example, information regarding the possibility
of management override of controls.
• In some cases, responses to inquiries provide a basis for the auditor to modify or perform
additional audit procedures
• Although corroboration of evidence obtained through inquiry is often of particular importance,
in the case of inquiries about management intent, the information available to support
management’s intent may be limited.
• In these cases, understanding management’s past history of carrying out its stated intentions,
management’s stated reasons for choosing a particular course of action, and management’s
ability to pursue a specific course of action may provide relevant information to corroborate
the evidence obtained through inquiry

• In respect of some matters, the auditor may consider it necessary to obtain written
representations from management and, where appropriate, those charged with governance
to confirm responses to oral inquiries
1.9 Relevance & Reliability of Information Reliability of audit evidence is

When designing and performing audit procedures, the influenced by its source and by
auditor shall consider the relevance and reliability of the its nature,and is dependent on
information to be used as audit evidence. the individual circumstances
under which it is obtained.
1.9.1 Relevance
• Relevance deals with the logical connection with, or bearing upon, the purpose of the audit
procedure and, where appropriate, the assertion under consideration. The relevance of
information to be used as audit evidence may be affected by the direction of testing
• Obtaining audit evidence regarding a particular assertion, for example, the existence of
inventory, is not a substitute for obtaining audit evidence regarding another assertion, for
example, the valuation of that inventory. On the other hand, audit evidence from different
sources or of a different nature may often be relevant to the same assertion.
• Tests of controls are designed to evaluate the operating effectiveness of controls in preventing,
or detecting and correcting, material misstatements at the assertion level.
• Designing tests of controls to obtain relevant audit evidence includes identifying conditions
(characteristics or attributes) that indicate performance of a control, and deviation conditions,
which indicate departures from adequate performance.
• The presence or absence of those conditions can then be tested by the auditor.
• Substantive procedures are designed to detect material misstatements at the assertion level.
1.9.2 Reliability
• In the existence of effective internal controls, reliability of
internal evidence increases
Evidence from
• Audit evidence obtained directly by the auditor is more
independent external
reliable than audit evidence obtained indirectly or by
source is more reliable
inference.
than that from internal
• Written evidence more reliable than oral.
source
• Following is the level of reliability based on the source of
information (external or internal source to the entity) and the
destination (external destination means received by the auditor directly) of the information:
Type of Audit evidence Example Ranking of

reliability
External Source – External Destination Debtor balance 1
confirmation
External source – Internal Destination Purchase Invoice 2
Internal Source – External Destination Sales Invoice 3
Internal Source – Internal Destination Goods receipt note 4

1.10 Using Management’s Expert opinion as evidence
When information to be used as audit evidence has been prepared using the work of a
management’s expert, the auditor shall, to the extent necessary, having regard to the significance
of that expert’s work for the auditor’s purposes ensure the following:
1.10.1 Evaluate competence, capabilities and objectivity of the expert

• Personal experience with previous work of that expert
• Discussions with that expert
• Discussions with others who are familiar with that expert’s work.
• Knowledge of that expert’s qualifications, membership of a professional body or industry
association, license to practice, or other forms of external recognition.
• Published papers or books written by that expert.
When evaluating the objectivity, determine any interests and relationships that may create
threats to the expert’s objectivity, and evaluate whether the safeguards are adequate. Interests
and relationships creating threats may include:
• Financial interests.
• Business and personal relationships.
• Provision of other services.
1.10.2 Obtain understanding of the work of the expert

• Whether that expert’s field has areas of specialty within it that are relevant to the audit
• Whether any professional or other standards, and regulatory or legal requirements apply
• What assumptions and methods are used by the management’s expert, and whether they are
generally accepted within that expert’s field and appropriate for financial reporting purposes
• The nature, scope and objectives of that expert’s work;
• The respective roles and responsibilities of management and that expert;
1.10.3 Evaluate appropriateness of that expert’s work as audit evidence for the relevant
assertion
• The relevance and reasonableness of that expert’s findings or conclusions, their consistency
with other audit evidence, and whether they have been appropriately reflected in the financial
statements;
• If that expert’s work involves use of significant assumptions and methods, the relevance and
reasonableness of those assumptions and methods; and
• If that expert’s work involves significant use of source data, the relevance, completeness, and
accuracy of that source data.
1.11 Information produced by the entity used by Auditor
When any information is produced by the entity which becomes the audit evidence, the auditor
shall ensure
• Accuracy and completeness of evidence
• Evaluating whether information is precise and detailed for the auditor’s purpose

1.12 Test of Controls
In designing and performing test of controls, the auditor shall:

• Perform other audit procedures in combination with inquiry to obtain audit evidence about the
operating effectiveness of the controls, including:
▪ How the controls were applied at relevant times during the period under audit.
▪ The consistency with which they were applied.
▪ By whom or by what means they were applied.
• Determine whether the controls to be tested depend upon other controls (indirect controls),
and if so, whether it is necessary to obtain audit evidence supporting the effective operation of
those indirect controls.
1.12.1 Extent of Test of Controls

Matters the auditor may consider in determining the extent of test of controls include the
following:
• The frequency of the performance of the control by the entity during the period.
• The length of time during the audit period that the auditor is relying on the operating
effectiveness of the control.
• The expected rate of deviation from a control.
• The relevance and reliability of the audit evidence to be obtained regarding the operating
effectiveness of the control at the assertion level.
• The extent to which audit evidence is obtained from tests of other controls related to the
assertion.
1.12.2 Timing of Test of Controls

The auditor shall test controls for the particular time, or throughout the period, for which the
auditor intends to rely on those controls in order to provide an appropriate basis for the auditor’s
intended reliance.
1.13 Selecting items for Testing for obtaining Audit Evidence
When designing tests of controls and tests of details, the auditor shall determine means of
selecting items for testing that are effective in meeting the purpose of the audit procedure.
In selecting items for testing, the auditor is required to determine the relevance and reliability and
sufficiency of information to be used as audit evidence.
The means available to the auditor for selecting items for

testing are:
• Selecting all items (100% testing) 100% examination is unlikely in
• Selecting specific items – Targeted Testing the case of tests of controls
• Audit Sampling but it can be used for test of
The application of any one or combination of these means details
may be appropriate depending on the particular
circumstances.
1.13.1 100% Testing

100% examination may be appropriate when, for example:
• The population constitutes a small number of large value items;

• There is a significant risk and other means do not provide sufficient appropriate audit
evidence; or
• The repetitive nature of a calculation or other process performed automatically by an
information system makes a 100% examination cost effective.
1.13.2 Selecting Specific Items

The judgmental selection of specific items is subject to non-sampling risk. Specific items selected
may include:
• High value or key items.
• All items over a certain amount.
• Items to obtain information.
1.13.3 Audit Sampling

Audit sampling is designed to enable conclusions to be drawn about an entire population on the
basis of testing a sample drawn from it.
1.14 Specific Enquiries by auditor when deviations from controls are detected
When deviations from controls upon which the auditor intends to rely are detected, the auditor
shall make specific inquiries to understand these matters and their potential consequences, and
shall determine whether:
• The test of controls that have been performed provide an appropriate basis for reliance on the
controls;
• Additional test of controls is necessary; or
• The potential risks of misstatement need to be addressed using substantive procedures.
1.15 Substantive Procedures

Substantive procedure may be defined as an audit procedure designed to detect material
misstatements at the assertion level. Substantive procedures comprise:
• Tests of details (of classes of transactions, account balances, and disclosures), and
• Substantive analytical procedures.

Audit procedures
Risk assessment procredures Other procedures
Substantive Test of
procedures controls
Analytical
Test of Details
procedures
Test of Substantive
controls procedures
1.16 Using Audit Evidence obtained in Previous Audits
In determining whether it is appropriate to use audit evidence about the operating effectiveness
of controls obtained in previous audits, and, if so, the length of the time period that may elapse
before retesting a control, the auditor shall consider the following:
• The effectiveness of other elements of internal control, including the control environment, the
entity’s monitoring of controls, and the entity’s risk assessment process;
• The risks arising from the characteristics of the control, including whether it is manual or
automated;
• The effectiveness of general IT-controls;
• The effectiveness of the control and its application by the entity, including the nature and extent
of deviations in the application of the control noted in previous audits, and whether there have
been personnel changes that significantly affect the application of the control;
• Whether the lack of a change in a particular control poses a risk due to changing circumstances;
and
• The risks of material misstatement and the extent of reliance on the control.

1.17 Inconsistency in, Doubts over Reliability of Audit Evidence
The auditor shall determine what modifications or additions to audit procedures are necessary to
resolve the following:
• audit evidence obtained from one source is inconsistent with that obtained from another; or
• the auditor has doubts over the reliability of information to be used as audit evidence
Auditor shall consider the effect of the matter, if any, on other aspects of the audit.
1.18 Financial Statement Assertions
Management makes the assertions and the auditor verifies by obtaining sufficient and appropriate
audit evidence.
Assertion Example of Audit Evidence
Existence • Existence of inventory may be tested through the auditor’s

observation of inventory items
• Physical verification of Fixed Assets
• Debtors may be tested through the auditor’s observation
of inventory items
Rights &Obligation • Ownershipof inventory can be verified
through examining the documents as to title and
inquiring about consignment activity
• Examine the debt instrument giving rise to liability for
testing obligation assertion
Accuracy • Confirming that the amount in the voucher / invoice is
correctly recorded in the books of account
Occurrence • Sales may be tested for occurrence by examining the
invoices and cancelled cheques supporting them. These
documents indicate that sales are results of exchange of
goods or services for a valid asset
Completeness • Completeness of accounts payable is usually tested by
confirmations with the creditors and by tracing payments
to creditors made after year- end to corresponding initial
recording of the debt
Valuation • Debtors should be shown in the balance sheet at net
realization value i.e. Gross debtors less provision for bad
and doubtful debts to meet the valuation assertion.
Measurement • As per measurement assertion, interest earned on
debentures must be allocated to the accounting period it
was earned in, whether it has actually been received or not
Presentation & • Assets pledged as collateral for a debt should be disclosed
Disclosure in the financial statements.
• Similarly, AS- 18, requires the disclosure of related party
transactions in the financial statements.

1.19 Question
1) Audit evidence includes both information contained in the accounting records underlying
the financial statements and other information. Discuss. [RTP-
May 18]
2) Auditing is a logical process. An auditor is called upon to assess the actualities of the
situation, review the statements of account and give an expert opinion about the truth and
fairness of such accounts. This he cannot do unless he has examined the financial
statements objectively. He needs evidence to obtain information for arriving at his
judgment. Discuss explaining clearly the detailed meaning of audit evidence.
[RTP-Nov. 19]
3) Most of the auditor’s work in forming the auditor’s opinion consists of obtaining and
evaluating audit evidence. Explain. [RTP-Nov. 18]
4) Audit evidence is necessary to support the auditor’s opinion and report. It is cumulative in
nature and is primarily obtained from audit procedures performed during the course of
the audit. Most of the auditor’s work in forming the auditor’s opinion consists of obtaining
and evaluating audit evidence. Explain. [RTP-Nov. 19]
5) What do you mean by sufficient appropriate audit evidence? State various factors that help
the auditor to ascertain as to what is sufficient appropriate audit evidence.
[Nov. 10 (6 Marks)]
6) State various factors that help the auditor to ascertain as to what is sufficient and
appropriate audit evidence. [Nov. 17 (4 Marks)]
7) The quantity of audit evidence needed is affected by the auditor’s assessment of the risks
of misstatement. Auditor’s judgment as to sufficiency may be affected by few factors.
Explain. [RTP-May 18]
8) The quantity of audit evidence needed is affected by the auditor’s assessment of the risks
of misstatement (the higher the assessed risks, the more audit evidence is likely to be
required) and also by the quality of such audit evidence (the higher the quality, the less
may be required). Obtaining more audit evidence, however, may not compensate for its
poor quality. Analyse and Explain stating clearly the factors affecting the auditor’s
judgement as to sufficiency of audit evidence.
[RTP-May 19]
9) What are the audit procedures to obtain audit evidence? Mention the same in brief.
10) Explain various methods to obtain audit evidence. [May 11 (8 Marks)]
11) Write short note on: Methods to obtain audit evidence. [May
15 (4 Marks)]
12) Mr. A was appointed statutory auditor of P Ltd. but he was not able to gather the sufficient
audit evidences. Discuss how he should proceed to gather more audit evidences.
[Nov. 15 (6 Marks)]
13) Discuss the following: Inquiry is one of the audit procedure to obtain audit evidence.
[May 13 (5 Marks)]
14) Evaluating responses to inquiries is an integral part of the inquiry process. Explain. [RTP-
May 18]
15) Distinguish between: Internal Evidence and External Evidence. [Nov. 08 (6 Marks)]
16) With reference to SA 500, "Audit Evidence", discuss the different sources and their
reliability, of audit evidence. [May 17 (6 Marks)]
17) “Even when information to be used as audit evidence is obtained from sources external to
the entity, circumstances may exist that could affect its reliability”. Explain. Also state
clearly generalisations about the reliability of audit evidence.
[RTP-May 18]

SA 610 – Using the Work of Internal Auditor
Contents
• Internal Audit and Internal Auditor

• Internal Auditor vs External Auditor
• Using Work of Internal Auditor
Introduction
Internal audit function is a function of an entity that performs assurance &

consulting activities designed to evaluate and improve the effectiveness of
the entity’s governance, risk management and internal control processes.
Internal Audit is an independent management function of examination of
• financial,
• operational and
• administrative aspects
The objectives and scope of an internal audit function, the nature of its responsibilities and its
organizational status, including the function’s authority and accountability, vary widely and
depend on the size and structure of the entity and the requirements of management and, where
applicable, those charged with governance.
Objectives of Internal Audit

The objectives and scope of internal audit functions typically include assurance and consulting
activities designed to evaluate and improve the effectiveness of the entity’s governance processes,
risk management and internal control
• Monitoring and evaluation of Internal Controls

Objectives of internal audit
• Review financial and operational information
and external audit are
• Review the efficiency of operational activities
• Review compliance with laws and regulations different, though scope and
• Facilitates risk management – identification and procedures of work may be
mitigation of significant exposures to risk and improve similar.
risk management and internal control including
effectiveness of financial reporting process
• Assess overall governance process with respect to accomplishment of objectives on ethics and
values, accountability and communication risk to appropriate areas of the organisation

Statutory Requirement of Internal Auditor
As per Section 138 of Companies, Act, 2013 such class or classes of companies as may be
prescribed shall be required to appoint an internal auditor.
As per Rule 13 of Companies (Accounts) Rules, 2014, following companies must appoint Internal
Auditor:
• Every listed company;

• Every unlisted public company having-
▪ paid up share capital of 50 crore rupees or more during the preceding financial year; or
▪ turnover of 200 crore rupees or more during the preceding financial year; or
▪ outstanding loans or borrowings from banks or public financial institutions exceeding 100
crore rupees or more at any point of time during the preceding financial year; or
▪ outstanding deposits of 25 crore rupees or more at any point of time during the preceding
financial year; and
• Every private company having-
▪ turnover of 200 crore rupees or more during the preceding financial year; or
▪ outstanding loans or borrowings from banks or public financial institutions exceeding 100
crore rupees or more at any point of time during the preceding financial year.
Qualification of Internal Auditor

As per Sec. 138 of Companies Act, 2013 read with Rule 13 of
Companies (Accounts) rules, 2014, internal auditor shall
Internal Auditor may or may
either be
not be an employee of the
• a chartered accountant (whether in practice or not) or company.
• a cost accountant, or
• such other professional
as may be decided by the Board to conduct internal audit of the functions and activities of the
company.

Internal Auditor vs External Auditor
Internal Auditor External Auditor
Objective – Review of controls and systems

Objective – Review and give an opinion on
to facilitate management in better
governance
Internal auditor is not independent from the External auditor is independent authority,
entity separate from the entity.
Role, scope and responsibility determined by Role, scope and responsibility determined by
management or TCWG the engagement terms.
Auditor to ensure audit is conducted as per Auditor to ensure audit is conducted as per
SAs & other ethical requirements SAs & other ethical requirements
External auditor has sole responsibility for expression of an opinion on the financial statements
and such responsibility is not reduced by external auditor relying on the work of internal auditor.
SA 315 vs SA 610
SA 315
SA 315 establishes that
• the external auditor can understand the entity and its environment and identification and
assessment of risks of material misstatement from the knowledge and experience of the
internal audit function
• effective communication between the internal and external auditors also creates an
environment in which the external auditor can be informed of significant matters that may
affect the external auditor’s work
SA 600
SA 600 determines the external auditor’s responsibilities
• if external auditor decides to rely on internal auditor’s work based on the preliminary
understanding of the internal audit function obtained as a result of procedures performed
under SA 315
• if external auditor uses internal auditors to provide direct assistance under the direction,
supervision and review of the external auditor.

Scope of SA
External Auditor’s Responsibilities

External auditor’s responsibilities when he determines that Internal auditors work is relevant for
the audit and decides to rely on the work of internal auditor.
Situations not addressed

• If the entity does not have an internal audit function.
• The responsibilities and activities of the Internal Audit function are not relevant to the audit;
• The external auditor does not expect to use the work of Internal Auditor
Objectives of the External Auditor
• To determine whether the work of the internal audit function or direct assistance from internal
auditors can be used, and if so, in which areas and to what extent; and
• If using the work of the internal audit function, to determine whether that work is adequate
for purposes of the audit; and
• If using internal auditors to provide direct assistance, to appropriately direct, supervise and
review their work.
Using work of Internal Auditor
Evaluation of Internal Audit Function

Auditor shall determine whether the work of the internal auditor is adequate for the purpose of
the audit. While doing so he shall consider
▪ Objectivity of the internal audit function

▪ Technical competence of the internal auditors
▪ Whether internal auditor exercised due professional care
▪ Effective communication between Internal and external auditor exists
The external auditor shall not use the work of the internal audit function if:
• lack of objectivity of internal auditors;
• function lacks sufficient competence; or
• function does not apply a systematic and disciplined approach, including quality
control.

Determination of the nature and extent of work of Internal Audit Function that can be
used
The external auditor shall consider
• the nature and scope of the work that has been performed, or is planned to be performed, by
the internal audit function and
• its relevance to the external auditor’s overall audit strategy and audit plan.
External auditor shall plan to use less of the work of the function and perform more of the
work directly where
• more judgment is involved in like planning, evaluating audit evidence:
• there is high risk of material misstatement at the assertion level, especially for
significant risks
• low objective status of the internal auditors; and
• low level of competence of the internal audit function.
The external auditor shall communicate with TCWG how the external auditor has planned to use
the work of the internal audit function.
Using Work of the Internal Auditor
If the auditor determines that the work of the auditor is adequate and it can be used, auditor shall
determine the planned effect of internal auditor’s work on the nature, timing and extent of audit
procedures to be conducted by the auditor.
For determining such effect, auditor shall consider
▪ Nature and scope of specific work performed by internal auditor

▪ Relevance of internal audit function for the audit strategy and audit plan
▪ Assessed risk of material misstatement at assertion level for particular class of
transactions, account balances and disclosures
▪ Level of competence
▪ Degree of subjectivity involved in evaluating audit evidence gathered by internal auditor
Auditor shall carry out the following audit steps:
• Discuss the planned use of the work

• Read internal audit function reports
• perform sufficient audit procedures on the body of work of the internal audit function as a
whole to ensure
▪ work has been properly planned, performed, supervised, reviewed and documented
▪ sufficient audit evidence has been obtained
▪ exceptional items disclosed by internal auditor are resolved
▪ conclusions reached are appropriate
▪ reports are consistent with results

Using Internal auditors to provide Direct Assistance
Direct assistance – The use of internal auditors to perform audit procedures

under the direction, supervision and review of the external auditor.
• the external auditor shall evaluate

▪the existence and significance of threats to
objectivity and The external auditor may be
▪ the level of competence of the internal auditors prohibited by law or regulation
who will be providing such assistance
from obtaining direct assistance
• The external auditor shall not use internal auditors to
from internal auditors.
provide direct assistance to perform procedures that:
▪ Involve making significant judgments in the audit;
▪ Relate to higher assessed risks of material
misstatement where the judgment required is high
▪ Relate to work with which the internal auditors have been involved and which has already
been reported to management or TCWG by the internal audit function;
• Prior to using the direct assistance of internal audit function, the external auditor must obtain
written agreement from
▪ the entity stating that the internal auditor would be allowed to follow the instructions of
external auditor.
▪ The internal auditor regarding confidentiality & objectivity
The external auditor shall direct, supervise and review the work performed by internal auditors
on the engagement in accordance with SA 220.
The external auditor shall not use internal auditor for direct assistance if there are threats of
objectivity or if the internal auditor lacks competence.
Documentation
Use work of the Internal Auditor

When the external auditor uses work of the internal auditors, the external auditor shall
document
• evaluation regarding objectivity of internal auditor, level of competence of the function and
systematic and disciplined approach applied by the function
• nature and extent of the work used and the basis for that decision; and
• audit procedures performed by the external auditor to evaluate the adequacy of the work
used.

Use internal auditor to provide Direct Assistance
When the external auditor uses work of the internal auditors as direct assistance, the external
auditor shall document
• Nature& description of work assigned, basis for the decision regarding nature and extent
of the work performed by internal auditor
• Associated risks and their mitigation
• conclusions regarding the evaluation of internal auditors for
▪ adequacy of the work,
▪ objectivity of the internal auditor
▪ level of competence and
• Evidence collected by Internal Auditor
• the audit procedures (review) performed by the external auditor on that work
• written agreements
• working papers of the internal auditor
• Observations by the Internal Auditor and how they are dealt with
Factors to be considered by Auditor for evaluation
Objectivity
• The status of the internal audit function within the entity and the effect such status has on the
ability of the internal auditors to be objective.
• Whether the internal audit function reports to those charged with governance or an officer
with appropriate authority, and whether the
• internal auditors have direct access to those charged with governance.
• Whether the internal auditors are free of any conflicting responsibilities.
• Whether those charged with governance oversee employment decisions related to the internal
audit function.
• Whether there are any constraints or restrictions placed on the internal audit function by
management or those charged with governance.
• Whether, and to what extent, management acts on the recommendations of the internal audit
function, and how such action is evidenced.
Technical Competence
• Whether the internal auditors are members of relevant professional bodies.
• Whether the internal auditors have adequate technical training and proficiency as internal
auditors.
• Compliance with the mandatory/ recommendatory Standards on Internal Audit (SIAs) issued
by Internal Audit Standards Board of the Institute of Chartered Accountants of India (ICAI).
• Whether there are established policies for hiring and training internal auditors.
Due Professional Care

• Whether activities of the internal audit function are properly planned, supervised, reviewed
and documented.
• The existence and adequacy of audit manuals or other similar documents, work programs and
internal audit documentation
Communication
• Meetings are held at appropriate intervals throughout the period;
• The external auditor is advised of and has access to relevant internal audit reports and is

informed of any significant matters that come to the attention of the internal auditors when
such matters may affect the work of the external auditor; and
• The external auditor informs the internal auditors of any significant matters that may affect
the internal audit function
Matters to be agreed between Internal Auditor and External Auditor
• The timing of such work;

• The extent of audit coverage;
• Materiality for the financial statements as a whole (and, if applicable, materiality level or
levels for particular classes of transactions, account balances or disclosures), and
performance materiality;
• Proposed methods of item selection;
• Documentation of the work performed; and
• Review and reporting procedures
Questions
1) Explain the meaning, objectives and scope of internal audit functions as per SA 610. Also
discuss who can be appointed as Internal Auditor? [RTP-May 19]
2) In the course of the statutory audit of Z Ltd, its statutory auditors, having determined that the
work of internal auditor is likely to be adequate for the purpose of statutory audit, wanted to
use the work of internal auditor in respect of physical verification of fixed assets. How an
evaluation of this specific work done by the internal auditor can be done? (Nov-15)
3) CA. Amboj, a practicing-chartered accountant has been appointed as an internal auditor of
Textile Ltd. He conducted the physical verification of the inventory at the year-end and handed
over the report of such verification to CA. Kishor, the statutory auditor of the Company, for his
view and reporting. Can CA. Kishor rely on such report?
SA 530 – Audit Sampling
Contents
• Audit Sampling
• Sampling risk
• Steps in Sampling
• Type of Sampling
1.20 Introduction
Auditor uses statistical and non-statistical sampling as part of the audit procedures during:
• Designing and selecting the audit sample
• Performing tests of controls and tests of details and
• Evaluating the results from the sample

1.20.1 Reason for Sampling
Audit in 70’s to 80’s meant checking every transaction to get
confidence known as Traditional approach. But in the age of
real time transaction processing and occurrence of million It is also not obligatory that
transactions per second, time is a major constraint to check every the auditor must adopt the
transaction. sampling technique.
The concept of Audit sampling was introduced, where less than

100% of the population is tested to get reasonable reliance on the
population. Introduction of formal internal controls are being introduced in the management of
affairs of organisations, due to which the possibilities of routine errors and frauds have greatly
diminished.
The present-day approach for auditing is more of Risk based approach.
1.21.1 Audit Sampling
Audit sampling is the process of applying audit procedures to less than

hundred per cent of a population of audit relevance such that all sample
units have a chance of selection, in order to provide the auditor with
reasonable basis to draw conclusions about entire population.
Risk that the sample may not be a representative of the population is the
Sampling Risk.
1.21.2 Sampling Risk
Sampling risk is the risk that auditor’s conclusion based on a

sample may be different from the conclusion he would reach
if the same audit procedures were applied to the entire The lower the risk the
population. auditor is willing to
Sampling risk can lead to two types of erroneous conclusions: accept, the greater the
sample size will need to
• In the case of a test of controls, that controls are more
be.
effective than they actually are, or in the case of a test of details, that a material misstatement
does not exist when in fact it does. The auditor is primarily concerned with this type of
erroneous conclusion because it affects audit effectiveness and is more likely to lead to an
inappropriate audit opinion.
• In the case of a test of controls, that controls are less effective than they actually are, or in the
case of a test of details, that a material misstatement exists when in fact it does not. This type
of erroneous conclusion affects audit efficiency as it would usually lead to additional work to
establish that initial conclusions were incorrect.

Error In case of test of In case of test of Effect of this erroneous
type controls details conclusion
Type I That controls are That a material This affects audit
more effective than Misstatement doesn’t effectiveness, and is more likely
they actually exist, to lead to an
are. when in fact it inappropriate audit opinion
does
Type II That controls are That a material This affect audit efficiency, as it
less effective misstatement does would lead to additional work to
than they exist, when in fact establish that initial
actually are. it doesn’t conclusions were incorrect
Sampling Units
Sampling units are individual auditable elements that constitute the
population.
1.21.3 Non-Sampling Risk

The risk that auditor reaches an erroneous conclusion for any reason not related to sampling risk.
1.21.4 Statistical Sampling
An approach to sampling that has the following
characteristics Non-statistical sampling
• Random selection of the sample items and approach does not have
• Use of probability theory to evaluate sample results for characteristics of random
measurement of sampling risk selection and use of
probability theory.
The expected degree of objectivity cannot be assured in non-statistical sampling because the
risk of personal bias in selection of sample items cannot be eliminated

1.21.5 Stratification
The process of dividing a population into sub-populations, each of which is a group of sampling
units, which have similar characteristics.
The objective of stratification is to reduce the variability of items within each stratum and
therefore allow sample size to be reduced without increasing sampling risk.
Assuming or concluding that the sample selected represents the rest of the population is called
Extrapolation.
1.21.6 Tolerable Misstatement

A monetary amount set by the auditor in respect of which the auditor seeks to obtain an
appropriate level of assurance that the monetary amount set by the auditor is not exceeded by
the actual misstatement in the population.
The maximum amount of known error and likely error an auditor can accept in the financial
statements without adjustment.
Objective of determining tolerable misstatement is to address the risk that the aggregate of
individually immaterial misstatements may cause the financial statements to be materially
misstated and provide a margin for possible undetected misstatements.
Tolerable misstatement is the application of performance materiality, as defined in SA 3202, to

a particular sampling procedure. Tolerable misstatement may be the same amount or an
amount lower than performance materiality.
1.21.7 Tolerable Rate of Deviation

A rate of deviation from prescribed internal control procedures set (a threshold) by the auditor in
respect of which the auditor seeks to obtain an appropriate level of assurance that the rate of
deviation set by the auditor is not exceeded by the actual rate of deviation in the population.
1.21.8 Expected Error vs Tolerable Error
If the deviation rate is higher than this threshold value, then the auditor cannot rely upon the
control.

• Expected error is the expected level of deviation, which is ok or acceptable.
• Tolerable Error is the cut-off level beyond which, deviation will not be acceptable.
1.22 Requirements of SA
Auditor shall consider

• Auditor while performing audit sampling, shall consider
▪ purpose of audit procedure and
▪ characteristics of the population from which the sample will be drawn.
• Objective of determining a sample size is to reduce sampling risk to an acceptably low level.
• Auditor shall ensure that each sampling unit in the population has a chance of selection.
1.23 Stage of Audit to do Sampling
When to do
Sampling
Test of Test of Details

Controls Stage Stage
To check if controls are To ensure transactions are

effective recorded properly
1.23.1 Timing of Sampling and Type of Risk
1.24 Targeted Testing vs Sampling
Since the auditor cannot make sampling risk as zero, auditor may take up targeted testing.
Targeted testing can be used to test high value transactions and sampling can be used for the rest
of the transactions.
1.25 Considerations for conducting Audit Sampling

1.26 Steps in Sample Selection
• Design & select audit

Step 1 sample
Step 2 • Perform Audit Procedures
• Investigate nature & cause of

Step 3
deviation and mis-statement
• Project Mis-
Step 4 statement
• Evaluate
Step 5 Sample
Results
1.26.1 Design & select audit sample

When designing an audit sample, the auditor shall
• Consider the purpose of the audit procedure and the characteristics of the population from
which the sample will be drawn
• Determine a sample size sufficient to reduce sampling risk to an acceptably low level. Sample
Sample need to be representative of entire population, irrespective of

approach non-statistical or statistical sampling. Samples must be closely
similar to the whole population although not necessarily exactly the same.
size will depend on the degree of

▪ Sampling risk,
▪ Tolerable misstatement range of the auditor and

▪ Expected error.
More the sampling risk and expected errors, bigger shall be the sample size
and vis a vis. More the tolerable misstatement range of the auditor lesser will
be the sample size and vis a vis.
Here tolerable misstatement means a monetary amount set by the auditor in respect of which
the auditor seeks to obtain an appropriate level of assurance that the monetary amount set
by the auditor is not exceeded by the actual misstatement in the population
• Select items for the sample in such a way that each sample unit in the population has a chance
of selection
1.26.2 Performing Audit Procedures

• The auditor shall perform audit procedures, appropriate to the purpose, on each item selected
• If the audit procedure is not applicable to the selected item, the auditor shall perform the
procedure on a replacement item.
• If the auditor is unable to apply the designed audit procedures, or suitable alternative
procedures, to a selected item, the auditor shall treat them as a
▪ Deviation from the prescribed control, in the case of tests of control
▪ A misstatement in the case of test of details
1.26.3 Investigate nature and cause of deviation and misstatement

• The auditor shall investigate the nature and cause of any deviations or misstatements
identified, and evaluate their possible effect on the purpose of the audit procedure and on
other areas of the audit
• In the extremely rare circumstances when the auditor considers a misstatement or deviation
discovered in a sample to be an anomaly, the auditor shall obtain a high degree of certainty
that such misstatement or deviation is not representative of the population.
• The auditor shall obtain this degree of certainty by performing additional audit procedures to
obtain sufficient appropriate audit evidence that the misstatement or deviation does not affect
the remainder of the population.
Auditor may communicate any deviations to the management as per SA 260

1.26.4 Project Mis-statement
For tests of details, the auditor shall project misstatements found in the sample to the population
For tests of controls, no explicit projection of deviations is necessary since the sample deviation
rate is also the projected deviation rate for the population as a whole.
1.26.5 Evaluation results of audit sampling

The auditor shall evaluate
• The results of the sample; and
• Whether the use of audit sampling has provided a reasonable basis for conclusions about the
population that has been tested.
If the auditor concludes that audit sampling has not provided a reasonable basis for conclusions
about the population that has been tested, the auditor may:
• Request management to investigate misstatements that have been identified and the
potential for further misstatements and to make any necessary adjustments; or
• Tailor the nature, timing and extent of those further audit procedures to best achieve the
required assurance.
If any error or misstatement identified, auditor shall after management’s investigation into its
nature and cause, evaluate their possible effect on the purpose of the audit procedure and on
other areas of the audit.
1.26.6 Documentation
Auditor shall document sampling techniques used. That shall include
• How sample was selected?
• How was the sample analysed?
• What was the result of sampling?

1.27 Sample Selection Methods
There are many methods of selecting samples. The principal methods are as follows:
1.27.1 Random Selection

Applied through random number generators, for example, random number tables.
1.27.2 Systematic Selection/ Interval Selection

• The number of sampling units in the population is divided by the sample size to give a sampling
interval, for example 50, and having determined a starting point within the first 50, each 50th
sampling unit thereafter is selected.
• Although the starting point may be determined haphazardly, the sample is more likely to be
truly random if it is determined by use of a computerized random number of generator or
random number tables.
• When using systematic selection, the auditor would need to determine that sampling units
within the population are not structured in such a way that the sampling interval corresponds
with a particular pattern in the population.
1.27.3 Monetary Unit Sampling

It is a type of value-weighted selection in which sample size, selection and evaluation results in a
conclusion in monetary amounts.
1.27.4 Haphazard Selection

• The auditor selects the sample without following a
structured technique.
• Although no structured technique is used, the auditor Haphazard selection is
would nonetheless avoid any conscious bias or not appropriate when
predictability (for example, avoiding difficult to locate using statistical sampling.
items, or always choosing or avoiding the first or last procedures.
entries on a page) and thus attempt to ensure that all
items in the population have a chance of selection.
1.27.5 Block Selection

• It involves selection of a block(s) of contiguous items from within the population.
• Block selection cannot ordinarily be used in audit sampling because most populations are
structured such that items in a sequence can be expected to have similar characteristics to
each other, but different characteristics from items elsewhere in the population.
• Although in some circumstances it may be an appropriate audit procedure to examine a block
of items, it would rarely be an appropriate sample selection technique when the auditor
intends to draw valid inferences about the entire population based on the sample.
Cluster Sampling vs Block Sampling

Dividing the population into groups of items is known as Cluster sampling.
Block sampling involves the selection of a defined block of consecutive items.

1.28 Sampling Not Suitable in Certain Circumstances
• Population too small

• Heterogeneous population
• Improper maintenance of population data
• Certain transactions like
▪ Opening and closing entries
▪ Bank reconciliation statement
▪ Balance sheet items
▪ Mattes involving computation
▪ Transactions that may be small in number but important and material
▪ Transactions which are not recognized by law to be looked into by the auditor carefully
▪ Seasonal industry, where test checking is carried out on annual basis
▪ Transactions of non-recurring nature or exceptional transactions
1.29 Advantages of Statistical Sampling
• The amount of testing (sample size) does not increase in proportion to the increase in the size
of the area (universe) tested.
• The sample selection is more objective and thereby more defensible.
• The method provides means of estimating the minimum sample size associated with a
specified risk & precision.
• It provides a means for deriving a "calculated risk" and corresponding precision (sampling
error) i.e. the probable difference in result due to the use of a sample in lieu of examining all
the records in the group (universe), using the same audit procedures.
• It may provide a better description of a large mass of data than a complete examination of all
the data, since non-sampling errors such as processing and clerical mistakes are not as large.
1.30 Stratification vs Value Weighed Sampling
In considering the characteristics of the population from which the sample will be drawn, the
auditor may determine that stratification or value-weighted selection is appropriate.
1.30.1 Stratification
Stratification may be defined as the process of dividing a population into sub-populations, each of
which is a group of sampling units which have similar characteristics (often monetary value).
Every such group so divided is called strata. Each stratum is treated as if it were a separate
population and proportionate items are selected from each of the stratum. The groups into which
the whole population is divided is determined by the auditor on the basis of his judgement.
Eg:
S.No Strata Details of Purchase vouchers Items selected for
checking
(a) Vouchers above ₹10,00,000 100%
(b) Vouchers between ₹2,50,000 and ₹10,00,000 50%
(c) Vouchers below ₹2,50,000 25%

The reasoning behind the stratified sampling is that for a highly diversified population, weights
should be allocated to reflect these differences. This is achieved by selecting different proportions
from each strata.
1.30.2 Value weighed selection
• When performing tests of details, it may be efficient to identify the sampling unit as the
individual monetary units that make up the population.
• One benefit of this approach to defining the sampling unit is that audit effort is directed to the
larger value items because they have a greater chance of selection and can result in smaller
sample sizes.
• This approach may be used in conjunction with the systematic method of sample selection
and is most efficient when selecting items using random selection.
1.31 Factors affect extent of Checking
1.31.1 Checking for Test of controls

An increase in the extent to which the auditor’s risk assessment takes into account relevant
controls will increase the sample size.
(ii) An increase in the tolerable rate of deviation, will decrease the sample size.
An increase in the expected rate of deviation of the population to be tested, will increase the
sample size.
(iv) An increase in the auditor’s desired level of assurance that the tolerable rate of deviation is not
exceeded by the actual rate of deviation in the population will increase the sample size.
1.31.2 Checking for Test of Details

An increase in the auditor’s assessment of the risk of material misstatement will increase the
extent of checking.
(ii) An increase in the use of other substantive procedures directed at the same assertion will
decrease the extent of checking.
(iii) An increase in the auditor’s desired level of assurance that tolerable misstatement is not
exceeded by actual misstatement in the population will increase the extent of checking.
(iv) An increase in tolerable misstatement will decrease the
extent of checking.
(v) An increase in the amount of misstatement the auditor expects to find in the population will
increase the extent of checking.
(vi) Stratification of the population when appropriatewill decrease the extent of checking.
1.32 Questions
1) There is a growing realisation that the traditional approach to audit is economically

wasteful because all efforts are directed to check all transactions without exception.
Explain. [RTP-Nov. 19]
2) The extent of the checking to be undertaken is primarily a matter of judgment of the
auditor.
It is in the interest of the auditor that if he decides to form his opinion on the basis of a
part checking, he should adopt standards and techniques which are widely followed.
Explain. [RTP-Nov. 19]
3) What is the meaning and purposes of sampling. Explain in the light of SA 520 “Audit
Sampling”. [Nov. 06 (8 Marks)]
4) Whatever may be the approach non-statistical or statistical sampling, the sample must be

representative. Discuss explaining Statistical and Non-Statistical sampling approaches.
[RTP-May 18]
5) Write short note on: Advantages of Statistical Sampling. Nov. 11, May 14 (4 Marks)]
6) While planning the audit of S Ltd, you want to apply sampling techniques. What are the
risk factors you should keep in mind. [RTP-Nov. 18, MTP-April 19]
7) “Sampling risk can lead to erroneous conclusion”. Justify. [May
19 (4 Marks)]
8) Discuss the following: With reference to SA 530, meaning of audit sampling and
requirements relating to sample design, sample size and selection of items for testing.
[May 16 (5 Marks)]
9) Write short note on: Stratified sampling. [May 11 (5 Marks)]
10) XYZ Ltd is engaged in trading of electronic goods and having huge accounts receivables.
For analysing the whole accounts receivables, auditor wanted to use sampling technique.
In considering the characteristics of the population from which the sample will be drawn,
the auditor determines that stratification or value-weighted selection technique is
appropriate. SA 530 provides guidance to the auditor on the use of stratification and value-
weighted sampling techniques. Advise the auditor in accordance with SA 530.
[RTP-May 18, MTP-Oct. 19]
11) Discuss the following: The level of sampling risk that the auditor is willing to accept affects
the sample size required. The lower the risk the auditor is willing to accept, the greater the
sample size will need to be. Explain Stating the examples of factors that the auditor may
consider when determining the sample size for tests of controls. [MTP-March 18]
12) The sample size can be determined by the application of a statisticallybased formula or
through the exercise of professional judgment. When circumstances are similar, the effect
on sample size of factors will be similar regardless of whether a statistical or non-statistical
approach is chosen. Explain Stating the examples of factors that the auditor may consider
when determining the sample size for tests of controls. [MTP-Oct. 18]
13) Discuss the factors that should be considered for deciding upon the extent of checking on
a sampling plan. [RTP-May 19]
14) Write short note on: Random Sampling. [May 12, May 15 (4 Marks), May 17 (6 Marks)]
15) Write short note on: Haphazard sampling. [Nov. 17 (4 Marks)]
16) Explain the sampling method which involves selection of a block(s) of contiguous items
from within the population. Also give example. [RTP-
May 20]
17) The auditor is required to project misstatements for the population to obtain a broad view
of the scale of misstatement. Explain.
[RTP-May 19]
18) The auditor is required to project misstatements for the population to obtain a broad view
of the scale of misstatement but this projection may not be sufficient to determine an
amount to be recorded. Explain. [RTP-May 20]

SA501 Audit Evidence – Specific Considerations for Selected Items
Contents
Evidence for
• Inventory
• Litigations & Claims
• Segment Information
1.33 Scope of SA
The objective of the auditor under this SA is to obtain sufficient appropriate audit evidence
regarding the:
• Existence and condition of inventory.
• Completeness of litigation and claims involving the entity; and
• Presentation and disclosure of segment information in accordance with the applicable
financial reporting framework.
1.34 Inventory – Existence & Condition
When inventory is material to the financial statements, the auditor shall obtain sufficient
appropriate audit evidence regarding the existence and condition of inventory by
• Attendance at physical counting
• Performing audit procedures on final inventory records
1.34.1 Physical Count – Attendance

Auditor shall attend physical inventory counting, unless impracticable, and shall:
• Evaluate management’s instructions and procedures for recording and controlling the results
of the entity’s physical inventory counting;
• Observe the performance of management’s count
procedures; Management shall carry out
• Inspect the inventory; and inventory counting at least
• Perform test counts; and once in every year.
Test counts should be two way, for example by tracing items selected from management’s
count records to the physical inventory and tracing items selected from the physical inventory
to management’s count records.

Attending physical verification of inventory involves
• ascertaining their condition (slow-moving, non-moving, obsolete or good),
• verifying compliance with management’s instructions and
• addressing other risk factors identified in this regard
If the auditor is unable to attend physical inventory counting due to unforeseen

circumstances, the auditor shall make or observe some physical counts on an alternative date,
and perform audit procedures on intervening transactions.
If needed, the auditor may use the

If attendance at physical inventory counting is
work of an expert to verify the
impracticable, the auditor shall perform alternative
existence and condition of the
audit procedures to obtain sufficient appropriate audit
inventory.
evidence regarding the existence and condition of
inventory. If it is not possible to do so, the auditor shall
modify the opinion in the auditor’s report
appropriately.
1.34.2 Audit procedures on final inventory records

Auditor shall perform audit procedures over the entity’s final inventory records to determine
whether they accurately reflect actual inventory count results.
1.34.3 Factors affecting attendance of physical inventory counting

Matters relevant in planning attendance at physical inventory counting include:
• Nature of inventory.
• Stages of completion of work in progress.
• The risks of material misstatement related to inventory.
• The nature of the internal control related to inventory.
• Instructions issued for physical inventory counting.
• Whether adequate procedures are expected to be established for counting
• The timing of physical inventory counting.
• Whether the entity maintains a perpetual inventory system.
• The locations at which inventory is held
• Whether the assistance of an auditor’s expert is needed.
1.34.4 Evaluating management’s instructions

Management should include the following while issuing instructions:

• Application of appropriate control activities
• The accurate identification of the stage of completion of work in progress, of slow moving,
obsolete or damaged items and of inventory owned by a third party, for example, on
consignment.
• The procedures used to estimate physical quantities E.g. Quantity of a coal pile
• Control over the movement of inventory between areas
• The shipping and receipt of inventory before and after the cut-off date.
1.34.5 Observance of Counting Procedure

Auditor shall observe the performance of management’s count procedures to obtaining audit
evidence that management’s instructions and count procedures are adequately designed and
implemented.
Auditor may obtain copies of cut off information, such as details of the movement of inventory, to
assist the auditor in performing audit procedures over the accounting for such movements at a
later date.
1.34.6 Inventory counting is conducted at a date other than the date of the financial
statements
If physical inventory counting is conducted at a date other than the date of the financial
statements, the auditor shall, in addition to the above procedures, perform audit procedures to
obtain audit evidence about whether changes in inventory between the count date and the date
of the financial statements are properly recorded by using either
• Roll back process (if counting date is before financial statement date)
• Roll forward process (if counting date is after financial statement date)
Auditor shall determine:

• Whether the perpetual inventory records are properly adjusted and their reliability.
• Reasons for discrepancies noted in physical verification
1.34.7 Inventory under custody or control of third party

If inventory is under the Custody and Control of a third party and is material, auditor shall
• Request confirmation from the third party as to the quantities and condition of inventory
held on behalf of the entity. AND / OR
• Perform inspection or other audit procedures appropriate in the circumstances
1.35 Litigations and Claims -Completeness
Litigation and claims involving the entity may have a material effect on the financial statements
and thus may be required to be disclosed or accounted for in the financial statements.
The auditor shall design and perform audit procedures in order to identify litigation and claims
involving the entity which may give rise to a risk of material misstatement.
1.35.1 Audit Procedures

Such procedures shall include
• Inquiry of management and, where applicable, others within the entity, including in-house
legal counsel or external confirmation of lawyer;

• Review minutes of meetings of those charged with governance and correspondence between
the entity and its external legal counsel; and
• Review legal expense accounts
• Such other alternative audit procedures as appropriate like seeking direct communication with
entity’s legal counsel.
1.35.2 Communication with Entity’s External Legal Counsel

Direct communication with the entity’s external legal counsel helps in knowing whether there are
any potentially material litigation and claims and it also determines the reasonableness of
management’s estimates of the financial implications, including costs.
Auditor may seek direct communication with the entity’s external legal counsel through a letter of
general inquiry or specific inquiry
Specific inquiry includes

• List of litigation and claims
• Management’s assessment of the litigations and claims
• Auditor’s request to the counsel to confirm
▪ Confirm management’s assessment.
▪ Provide information if list is incomplete
1.35.3 Modification of Audit Report

The auditor shall modify the opinion in the auditor’s report if
• management refuses to give the auditor permission to communicate or meet with the entity’s
external legal counsel, or
• the entity’s external legal counsel refuses to respond appropriately to the letter of inquiry, or
is prohibited from responding; and
• the auditor is unable to obtain sufficient appropriate audit evidence by performing alternative
audit procedures.
1.35.4 Written Representation
Auditor shall obtain from those charged with governance a written representation indicating that
litigations and claims have been disclosed in accordance with applicable financial reporting
framework
1.36 Segment Information – Presentation & Disclosure
Depending on the applicable financial reporting framework, the entity may be required or
permitted to disclose segment information in the financial statements.
The auditor shall obtain sufficient appropriate audit evidence regarding the presentation and
disclosure of segment information in accordance with the applicable financial reporting
framework i.e AS 17.

• Obtain an understanding of the methods used by management in determining segment
information,
• Evaluating whether such methods are likely to result in disclosure in accordance with the
applicable financial reporting framework; and
• Where appropriate, test application of such methods; and

• Perform analytical procedures or other audit procedures appropriate in the circumstance
1.37 Questions
1) Explain the procedures to be performed by auditor to obtain sufficient and appropriate
audit evidence regarding the existence and condition of inventory.
2) How would an auditor proceed to obtain sufficient appropriate audit evidence regarding
the existence and condition of inventory? Also, state reporting requirements in this
respect.
3) ABC Ltd is engaged in manufacturing of different type of yarns. Ongoing through its
financial statements for the past years, it is observed that inventory is material to the
financial statements. You as an auditor of the company wanted to obtain sufficient
appropriate audit evidence regarding the existence and condition of the inventory as
appearing in the financial statements. Discuss, how would you proceed as an auditor.
[MTP-March 18]
4) Explain the auditor’s procedures w.r.t. determination of existence and condition of
inventory under the following circumstances:
(a) Inventory count conducted at a date other than balance sheet.
(b) To attend the inventory is impracticable.
5) State true or false “The Statutory Auditor is required to verify inventory physically. [Nov.
14 (2 Marks)]
SA 505 – External Confirmations
Contents
• Auditor’s objective
• External confirmation
• Responses and outcomes to Confirmation Request
• Management’s refusal to obtain confirmation
1.38 Objective of Auditor
The objective of the auditor, when using external confirmation procedures, is to design and
perform such procedures to obtain relevant and reliable audit evidence.
1.39 Characteristics of Audit Evidence
• Audit evidence is more reliable when it is obtained from independent sources outside the
entity.
• Audit evidence obtained directly by the auditor is more reliable than audit evidence obtained
indirectly or by inference.
• Audit evidence is more reliable when it exists in documentary form, whether paper, electronic
or other medium.

1.40 Importance of External Confirmation
• SA 500 - External Confirmations are the most reliable source of audit evidence as they are from
independent source which increase the auditor’s assurance from accounting records.
• SA 330 requires auditor to consider whether external confirmation procedures are to be
performed as substantive audit procedures.
• SA 330 also insists to obtain more persuasive audit evidence whenever there is high
assessment of risk and external confirmation is the most reliable persuasive audit evidence.
• SA 240 - Auditor shall design confirmation requests to obtain additional corroborative
information as a response to address the assessed risks of material misstatement, whether
due to fraud at the assertion level.
1.41 Important terms
1.41.1 External Confirmation
Audit evidence obtained as a direct written response to the auditor from a

third party (the confirming party), in paper form, or by electronic or other
medium.
External confirmations are confirmations given by parties external to Management, to the Auditor
of the entity.
1.41.2 Positive Confirmation Request

A request that the confirming party respond directly to the auditor indicating whether the
confirming party agrees or disagrees with the information in the request or providing the
requested information.
A response to a positive confirmation request ordinarily is expected to provide reliable audit

evidence. There is a risk, however, that a confirming party may reply to the confirmation request
without verifying that the information is correct.
1.41.3 Negative Confirmation Request

A request that the confirming party respond directly to the auditor only if the confirming party
disagrees with the information provided in the request.
1.41.4 Non-Response
A failure of the confirming party to respond, or fully respond, to a positive confirmation request,
or a confirmation request returned undelivered.
1.41.5 Exceptions
A response that indicates a difference between information requested to be confirmed, or
contained in the entity’s records, and information provided by the confirming party

1.42 External Confirmation Procedure
It is a process of obtaining and evaluating a direct communication from a

third party in response to a request for information about a particular item
affecting financial statements / assertions.
1.42.1 Process
The process includes
• Determining the information to be confirmed or requested
• Selecting the appropriate confirming party
• Designing the confirmation requests,
• Ensuring requests are properly addressed and contain return information for responses to be
sent directly to the auditor,
• Sending requests to the confirming party
• Sending follow-up requests to the confirming party when applicable
1.42.2 Designing confirmation request

Factors to be considered while designing confirmation requests include
• Layout & Form
▪ The layout and presentation of the confirmation request.
▪ The method of communication
• Content
▪ The assertions being addressed.
▪ Specific identified risks of material misstatement, including fraud risks.
• Others
▪ Prior experience on the audit or similar engagements
▪ Management’s cooperation
▪ The ability of the intended confirming party to confirm or provide the requested
information
1.43 Management’s Refusal to Allow the Auditor to send a Confirmation Request

If management refuses to allow the auditor to send a confirmation request, the auditor shall:
• Inquire into and seek reasonableness of Management’s Refusal (E.g. Ongoing litigation with
the party etc.,)
• Evaluate effect of refusal on the auditor’s assessment of
• the relevant risks of material misstatement,
• the risk of fraud, and on the nature, timing and extent of other audit procedures; and
• Perform alternative audit procedures designed to obtain relevant and reliable audit evidence
(E.g. Subsequent period transactions verification, etc.)
1.43.2 Auditor’s approach

If the auditor concludes that

• management’s refusal to allow the auditor to send a confirmation request is unreasonable, or
• the auditor is unable to obtain relevant and reliable
audit evidence from alternative audit procedures,
The auditor also shall determine
the auditor shall communicate with those charged with the implications for the audit and
governance in accordance with SA 260 (Revised). the auditor’s opinion
1.44 Outcome of External Confirmation Requests
If auditor has any doubts on the evidence so obtained E.g.

• Received by the auditor indirectly; or
• Appeared not to come from the originally intended
Doubtful
confirming party or
about the
• Appears to be falsified / tampered
reliability
Auditor shall perform additional procedures to resolve
those
If auditor concludes that the evidence not reliable,

the auditor may need to revise the assessment of the
Evidence not risks of material misstatement at the assertion level and
reliable modify planned audit procedures accordingly, in
accordance with SA 315.
For example, an unreliable response may indicate a fraud
risk factor that requires evaluation in accordance with SA 240
(Revised).
The auditor shall perform alternative audit procedures
Non-
like subsequent period transactions verification etc., to
responses
obtain relevant and reliable audit evidence
If auditor doesn’t obtain positive confirmation when he

Positive
opined that it is necessary to gain sufficient appropriate audit
Confirmation
evidence, he shall determine the implications for the
Request is
audit and the auditor’s opinion in accordance with
essential
applicable standards
The auditor shall investigate exceptions to determine whether or not they are
indicative of misstatements.

1.45 Negative Confirmations
Auditor shall not use negative confirmation requests as the sole substantive audit procedure to
address an assessed risk of material misstatement at the
assertion level unless all of the following conditions are
fulfilled: Negative
• The auditor has assessed the risk of material misstatement confirmations provide
as low and has obtained sufficient appropriate audit less persuasive audit
evidence regarding the operating effectiveness of controls
evidence than positive
relevant to the assertion;
• The population of items subject to negative confirmation confirmations.
procedures comprises a large number of small, homogeneous, account balances, transactions
or conditions;
• A very low exception rate is expected; and
• The auditor is not aware of circumstances or conditions that would cause recipients of negative
confirmation requests to disregard such requests.
1.46 Evaluate the Evidence Obtained
The auditor shall evaluate
• Whether the results of the external confirmation procedures provide relevant and reliable
audit evidence, or
• Whether performing further audit procedures is necessary.
1.47 Balance Confirmation – Sample
Debtor / Creditor Balance confirmation
Dear sir Date and ref.

no…………………
Records of our client PQR Ltd show a debit balance / credit balance of
Rs____at the close of business as on 30th September 2011. To ensure an
independent verification of this balance, we shall appreciate if you will
kindly check this balance with your records and send your confirmation
directly to us R&Co, the Statutory Auditors of PQR Ltd, by completing the
form below for which an addressed postage paid envelop is enclosed. Your
prompt response to this request will be appreciated.
Yours faithfully

Questions
1) Define the following:

(i) Positive confirmation request
(ii) Negative confirmation request
(iii) Non-response
(iv) Exception [RTP-May 20]
2) What is meant by external confirmation? Mention four situations where external
confirmation may be useful for auditors.
3) Explain the process of External Confirmation. Give some examples where external
confirmation may be used as audit evidence. [Nov. 11 (8 Marks)]
4) When using external confirmation procedures, the auditor shall maintain control over
external confirmation requests including sending the requests, including follow-up
requests when applicable, to the confirming party. Explain the other points as to when
using external confirmation procedures, the auditor would be required to maintain control
over external confirmation requests. [RTP-May 20]
5) What are the factors to be considered while designing a confirmation request?
[Nov. 12 (8 Marks)]
6) The auditor of H Ltd. wanted to obtain confirmation from its creditors. But the
management made a request to the auditor not to seek confirmation from certain
creditors citing disputes. Can the auditor of H Ltd. Accede to this request?
7) Write short note on: Reliability of external confirmations. [Nov. 10 (4 Marks)]
SA 510 Initial Audit Engagements – Opening Balances
Contents
• Opening Balances
• Predecessor Auditor
• Auditor’s responsibilities
• Misstatements in Opening Balances
• Audit Conclusions & Reporting
1.48 Scope
This standard deals with the auditor’s responsibility relating to Opening Balances when
conducting an Initial engagement.
1.49.1 Initial Engagement

An engagement in which the financial statements for the previous or prior period, were either
audited (by a predecessor auditor) or not audited at all.

1.49.2 Opening Balances
Opening balances refer to that account balance which exists at the beginning
of the period.
Opening balances reflect the effect of transactions, events and accounting

policies applied in the preceding period.
Opening balances are the closing balances of the preceding period brought forward to the current
period.
1.49.3 Predecessor Auditor

The auditor from a different audit firm, who audited the financial statements of the entity in the
prior period and who has been replaced by the Current auditor
1.50 Auditor’s Approach
1.50.1 Reading of Financial Statements

The auditor shall read the most recent financial statements and the predecessor auditor’s report
thereon for information relevant to Opening balances, including disclosures.
1.50.2 Obtain Audit evidence

The auditor shall obtain sufficient appropriate audit evidence about whether the opening balances
contain misstatements that materially affect the current period’s financial statements by ensuring
that:
• The closing balances of the preceding period have been correctly brought forward to the
preceding period have been correctly brought forward to the current period;
• The opening balances do not contain material misstatements; and
• Appropriate accounting policies are being consistently applied and are reflected in the opening
balances
The above can be ensured by performing the following:

• perusing the copies of the audited financial statements including the other relevant
documents relating to the prior period financial statements;
• evaluating whether audit procedures performed in the current period provide evidence
relevant to the opening balances; or
• specific audit procedures to obtain evidence regarding the opening balances.
1.51 Misstatement in Opening Balances
1.51.1 Additional Audit Procedures

If the auditor obtains audit evidence that the opening balances contain misstatements that could
materially affect the current period’s financial statements, the auditor shall perform such
additional audit procedures as are appropriate in the circumstances to determine the effect on
the current period’s financial statements.

1.51.2 Communication of misstatements
If the auditor concludes that such misstatements exist in the current period’s financial
statements, the auditor shall communicate the misstatements with the appropriate level of
management and those charged with governance in accordance with SA 450.
1.52 Additional Audit Procedures
If the prior period’s financial statements were audited by a predecessor auditor, the auditor may
be able to obtain sufficient appropriate audit evidence regarding the opening balances by
perusing the copies of the audited financial statements including the other relevant documents
relating to the prior period financial statements such as supporting schedules to the audited
Ordinarily, the current auditor can place reliance on the closing balances contained in the financial
statements for the preceding period, except when during the performance of audit procedures
for the current period the possibility of misstatements in opening balances is indicated.
Following Audit procedures may be applied if previous year FS were unaudited or if audited
auditor still wishes to apply additional procedures: -
1.52.1 Current assets and liabilities

Evidence about opening balances may be obtained as part of the current period’s audit
procedures. For example, the collection (payment) of opening accounts receivable (accounts
payable) during the current period will provide some audit evidence of their existence, rights and
obligations, completeness and valuation at the beginning of the period.
1.52.2 Inventories
The current period’s audit procedures on the closing inventory balance provide little Audit
evidence regarding inventory on hand at the beginning of the period. Therefore, additional audit
procedures may be necessary, and one or more of the following may provide sufficient
appropriate audit evidence:
• Observing a current physical inventory count and reconciling it to the opening inventory
quantities.
• Performing audit procedures on the valuation of the opening inventory items.
• Performing audit procedures on gross profit and cut-off.
1.52.3 Non-current Assets & Liabilities

In case of property plant and equipment, investments and long-term debt, some audit evidence
may be obtained by examining the accounting records and other information underlying the
opening balances.
In certain cases, the auditor may be able to obtain some audit evidence regarding opening
balances through confirmation with third parties, for example, for long-term debt and
investments. In other cases, the auditor may need to carry out additional audit procedures.
1.53 Special Duties of Auditor
1.53.1 Consistency of Accounting Policies

The auditor shall obtain sufficient appropriate audit evidence about

• Whether the accounting policies reflected in the opening balances have been consistently
applied in the current period’s financial statements and
• Whether changes in the accounting policies have been properly accounted for and adequately
presented and disclosed in accordance with the applicable financial reporting framework
1.53.2 Modified Opinion in Predecessor’s Report

If the prior period’s financial statements were audited by a predecessor auditor and there was a
modification to the opinion,
• The auditor shall evaluate the effect of the matter giving rise to the modification in assessing
the risks of material misstatement in the current period’s financial statements in accordance
with SA 315.
• If that modification remains relevant and material to the current period’s financial statements,
the auditor shall modify the auditor’s opinion on the current period’s financial statements in
accordance with SA 705(Revised) and SA 710
1.54 Audit Conclusions and Reporting
Audit Conclusion Report to be issued
Unable to obtain sufficient appropriate evidence regarding Qualified or Disclaimer

opening balance of opinion,
as appropriate
If the auditor concludes Qualified or Adverse
• Opening balances contain material misstatements whose opinion, as appropriate
effect has not been reflected / disclosed and
• The effect of the misstatement is not properly
accounted for or not adequately presented or disclosed
If the auditor concludes that Qualified or Adverse

• The current period’s accounting policies are not opinion, as appropriate
consistently applied in relation to opening balances in
accordance with the applicable financial reporting
framework or
• a change in accounting policies is not properly
accounted for or not adequately presented or
disclosed in accordance with the applicable financial
reporting framework
If the predecessor auditor’s opinion regarding the prior period’s Modified opinion
financial statements included a modification to the auditor’s
opinion that remains relevant and material to the current
period’s financial statements

Questions
1) Write short note on: Initial audit Engagement. [May 12 (4 Marks)]

2) Discuss the objective of Auditor with respect to Opening balances – in conducting an initial
audit engagement.
3) Discuss with reference to SA ‘510’ Initial Audit Engagements - Opening Balances", the
procedures the auditor should undertake in respect of opening balances for a new audit
engagement. [May 17 (5 Marks)]
4) What are the audit procedures to be followed by a statutory auditor in the audit of opening
balances if the financial statements for the preceding year were audited by another
auditor?
5) M/s Pankaj & Associates, Chartered Accountants, have been appointed as an auditor of
ABC Limited. CA Pankaj did not apply any audit procedures regarding opening balances.
He argued that since financial statements were audited by the predecessor auditor
therefore, he is not required to verify them. Is CA Pankaj correct in his approach? [Nov. 18
(5 Marks)]
6) Auditors of M/s Tender India (P) Ltd. were changed for the accounting year 2019-20. The
closing inventory of the company as on 31.3.2019 amounting to Rs. 100 lacs continued as
it is and became closing inventory as on 31.3.2020. The auditors of the company propose
to exclude from their audit programme the audit of closing inventory of Rs. 100 lacs on the
understanding that it pertains to the preceding year which was audited by another auditor.
[MTP-Oct. 19]
SA 550 – Related Parties
Contents
• Related party
• Related party transactions
• Auditor’s Responsibilities for Disclosures
1.55 Related Party (RP)
1.55.1 Relevant Financial Reporting Framework defines

As given in the framework. For example, a Company has to follow AS 18 for Related party
Transactions.
As per AS 18, Related party means “at any time during the year, one party has
an ability to:
• Control (through ownership; control over composition of board of
directors or governing body; substantial interest in voting power) the
other party
• Exercise significant influence over the other party in making financial
and/or operating decisions

1.55.2 Relevant Financial Reporting Framework doesn’t define
• A person or other entity that has control or significant influence, directly or indirectly through
one or more intermediaries, over the reporting entity;
• Another entity over which the reporting entity has control or significant influence, directly or
indirectly through one or more intermediaries; or
• Another entity that is under common control with the reporting entity through having:
▪ Common controlling ownership;
▪ Owners who are close family members; or
▪ Common key management.
Entities that are under common control by a state (i.e., a national, regional or
local government) are not considered related unless they engage in significant
transactions or share resources to a significant extent with one another.
1.56 Related Party Transactions (RPT)
The nature of related party relationships and transactions may, in some circumstances, give rise
to higher risks of material misstatement of the financial statements than transactions with
unrelated parties.
The high risks can be attributed to

• Complex relationship structures
• Ineffective information systems
• Transactions are not conducted under normal market terms and conditions;
1.56.1 Management’s Responsibility

Identifying, appropriate accounting and making disclosures of related party transactions is the
responsibility of the management.
1.56.2 Auditor’s Responsibility

Identifying risks of material misstatement with respect to related party transactions and
evaluating the effect of such risk on financial statements and ensuring adequate disclosures are
made is the responsibility of the auditor

1.57 Auditor’s Responsibilities
1.57.1 Financial Reporting Framework provides regulations

Where the applicable financial reporting framework establishes requirements for accounting and
disclosure, the auditor has a responsibility to perform audit procedures as per such framework.
For eg: For Companies, AS 18 provides regulations.
1.57.2 Financial Reporting Framework does not provide any guidance

The auditor nevertheless needs to
• obtain an understanding of the entity’s related party relationships and transactions.
• conclude whether the financial statements, insofar as they are affected by those relationships
and transactions:
▪ Achieve a true and fair presentation; or
▪ Are not misleading (for compliance frameworks).
1.57.3 Any Scenario

The auditor has to evaluate whether one or more fraud risk factors are present as required by SA
2404 because fraud may be more easily committed through related parties.
In the context of related parties, the potential effects of inherent limitations on the auditor’s ability
to detect material misstatements are greater for such reasons as the following:
• Management may be unaware of the existence of all related party relationships and
transactions
• Related party relationships may present a greater opportunity for collusion, concealment or
manipulation by management leading to Risk of Management’s Override of Controls.
1.58 Objectives of Auditor
• Obtain an understanding of related party relationships and transactions

• Recognise fraud risk factors, if any, arising from related party relationships and transactions
that are relevant to the identification and assessment of the risks of material misstatement
due to fraud; and
• Conclude whether the financial statements are true and fair and are not misleading
• Related party transactions are identified, accounted for and disclosed as per the relevant
financial reporting framework
1.59 Arm’s Length Transaction
A transaction conducted on such terms and conditions as between a willing

buyer and a willing seller who are unrelated and are acting independently of
each other and pursuing their own best interests.
1.60 Audit Procedures
The auditor should perform the audit procedures with the objectives of obtaining sufficient
appropriate audit evidence regarding:

• Identification and adequacy of disclosures of
related parties; and
• Identification and adequacy of disclosures of Auditor shall treat identified
material transactions with related parties. significant related party
• Understand motivation for such related party transactions outside the entity’s
transactions normal course of business as
• Assess the re liability of audit giving rise to significant risks.
evidence (e.g. management
representations);
1.61 Risk Assessment Procedures
Risk as per SA 550
RPTs may be done at terms Information systmes to identify,

which are not normal market summarise or disclose RPTs
terms may be ineffective
• Discuss and consider possible fraud / error aspects resulting in misstatement due to RPTs
▪ Fraud Risk Factors Associated with a RP with Dominant Influence through a single person
or small group without compensating controls
In the presence of other risk factors, the existence of a related party with
dominant influence may indicate significant risks of material misstatement due
to fraud.
• Preliminary enquiries regarding identity of RPs, nature and purpose of RPTs and transactions
during the period
• Understanding the management controls to identify, account and disclose RPs and RPTs and
their authorization.
• Understand management controls to authorise and approve significant transactions and
arrangements outside the normal course of business.
• Maintain alertness / professional skepticism in reviewing records and documents. In particular,
the auditor shall inspect the following:
▪ Bank, legal and third-party confirmations obtained
▪ Minutes of meetings of shareholders and of TCWG; and
▪ Such other records or documents as the auditor considers necessary in the circumstances
of the entity.
• Inquire regarding unusual transactions (transactions outside the normal course of business)
with respect to
▪ nature of these transactions; and
▪ whether related parties could be involved
• Information regarding RPs and RPTs obtained shall be shared with other team members

1.62 Responses to Risk of RMM associated with RP and RPTs
1.62.1 Identify previously unidentified or undisclosed RP or significant RPTs

• Communicate to the team of such RPs
• Request management to identify all transactions with
newly identified RPs
• Inquire why controls failed to identify such RPs If the non-disclosure by
• Perform appropriate substantive audit procedures management appears
• Reconsider and reassess risk and perform additional audit intentional evaluate
procedures if required implications for the
• Re-evaluate the reliability of management’s responses overall audit.
1.62.2 Identify Transactions outside entity’s normal course of business

Auditor shall, for identified significant related party transactions outside the entity’s normal course
of business, the auditor shall:
• Inspect underlying contracts/agreements and evaluate whether:
▪ Business rationale (or lack thereof) suggests that transactions entered to engage in
fraudulent financial reporting or to conceal misappropriation of assets.
▪ Terms of transactions consistent with management’s explanations.
▪ Transactions appropriately accounted for/disclosed in accordance with FRF.
• Obtain evidence that transactions have been appropriately authorised & approved.
1.63 Examination & Evaluation of RPTs
1.63.1 Examination
Examine identified related party transactions by obtaining evidence to ensure such transactions
have been properly recorded and disclosed and perform additional audit procedures, if necessary.
Substantive audit procedures that the auditor may perform when the auditor has assessed a
significant risk include:
• Confirming or discussing specific aspects of the transactions with intermediaries such as
banks, law firms, guarantors, or agents, where practicable and not prohibited by law,
regulation or ethical rules.
• Confirming the purposes, specific terms or amounts of the transactions with the related
parties
• Where applicable, reading the financial statements or other relevant financial information, if
available, of the related parties for evidence of the accounting of the transactions in the related
parties’ accounting records.
1.63.2 Evaluation
Evaluation of accounting and disclosure of identified related party relationships and transactions-
In forming an opinion on the financial statements as per SA 700, the auditor shall evaluate:
• Whether the identified RP relationships and RPTs have been appropriately accounted for and
disclosed in accordance with the applicable financial reporting framework and
• Whether the effects of the RP relationships and RPTs
▪ Prevent financial statements from achieving true and fair presentation or
▪ Cause the financial statements to be misleading

1.64 Identification of Related Parties
• Refer to prior year’s working papers to identify related parties.

• Assess the adequacy of company’s procedures.
• Inquire about the affiliation of directors and key management
personnel, officers with other entities.
• Review the register of shareholders to identify significant shareholders.
• Review memorandum of association, articles of association, and minutes of the meetings of
shareholders and board of directors and other records like 301 register etc.,
• Review entity’s income-tax returns and other information filed with regulatory authorities
• Review material investment transactions.
• Management representation
1.65 Identification of Related Party Transactions
• Consider the adequacy of entity’s control procedures over authorization and recording of
related party transactions.
• Assess the reliability of management representations as to identification and disclosures of
such transactions through –
▪ Substantive testing.
▪ Reviewing the minutes of meetings of board of directors and shareholders
▪ Reviewing the entity’s income-tax returns and other information filed with regulatory
authorities.
▪ Review material investment transactions.
▪ Examine confirmations of loans receivable/payable for information of guarantee received
or given.
▪ To identify previously unidentified relationships, the auditor should review accounting
records for large, unusual or non-recurring transactions or balances such as
o Transactions which have abnormal terms of trade (e.g. borrowing at rates of interest
above/below market price)
o Transactions lacking apparent logic (e.g. sale of fixed assets at below/above market
price)
o Transactions where substance differs from form (e.g. exchange of assets)
o Transactions processed in unusual manner (e.g. loans granted in absence of scheduled
repayment terms)
o Transactions, which have occurred but have not being given accounting recognition
People within the entity who can have knowledge RPs or RPTs:
• Those charged with governance;
• Personnel in a position to initiate, process, or record transactions that are
both significant and outside the entity’s normal course of business, and
those who supervise or monitor such personnel;
• Internal auditors;
• In-house legal counsel; and
• The chief ethics officer or equivalent person.

(e.g. receiving or providing any service free of cost).
1.66 Indicators of dominant influence exerted by a RP include:

• The related party has vetoed significant business decisions taken by management or those
charged with governance.
• Significant transactions are referred to the related party for final approval.
• There is little or no debate among management and those charged with governance regarding
business proposals initiated by the related party.
• Transactions involving the related party (or a close family member of the related party) are
rarely independently reviewed and approved.
• Dominant influence may also exist in some cases if the related party has played a leading role
in founding the entity and continues to play a leading role in managing the entity.
1.67 Management Representation
Where the applicable financial reporting framework establishes related party requirements, the
auditor shall obtain written representation from management as per SA 580 and those charged
with governance that
• They have disclosed to the auditor the identity of the entity’s RPs and RPTs of which they are
aware and
• They have appropriately accounted for and disclosed such relationships and transactions in
accordance with the requirements of the financial reporting framework
1.68 Assertions that relate to RPTs were done as per Arm’s Length Transaction
Management is responsible for the substantiation of an assertion that a related party transaction
was conducted on terms equivalent to those prevailing in an arm’s length transaction.
There may be a risk that management’s assertion that a related party transaction was conducted
on terms equivalent to those prevailing in an arm’s length transaction may be materially misstated.
Auditor can
• Compare terms of RPTs with similar transactions or known market terms
• Considering the appropriateness of management’s process for supporting the assertion.
• Verifying the source of the internal or external data supporting the assertion, and testing the
data to determine their accuracy, completeness and relevance.
• Evaluating the reasonableness of any significant assumptions on which the assertion is based.
1.69 Communication
The auditor shall communicate with those charged with governance significant matters arising
during the audit in connection with the entity’s related parties as per SA 260.
1.70 No sufficient appropriate audit evidence
• If the auditor is unable to obtain sufficient

appropriate evidence or in his opinion disclosures
are not adequate, he should give a disclaimer of Before doing the same, the
opinion or a modified opinion, as necessary. auditor shall communicate the
same with TCWG.

1.71 Documentation
The auditor shall include in the audit documentation with respect to

• The name of the identified RPs and
• Nature of RP relationships and RPT
• Audit procedures used to identify and ensure disclosures
1.72 Questions
1) The nature of related party relationships and transactions may, in some circumstances, give
rise to higher risks of material misstatement of the financial statements than transactions with
unrelated parties. Explain with the help of at least three examples. [RTP-May 20]
2) There are specific accounting and disclosure requirements for related party relationships,
transactions and balances to enable users of the financial statements to understand their
nature and effects on the financial statements. Analyse and explain stating the responsibility of
auditor in this regard. [RTP-May 19]
3) Write short note on: Identification of significant related party transaction outside business.
[Nov. 13 (4 Marks)]
Discuss the following: With reference to SA 550 “Identification of significant related party
transaction outside the entity’s normal course of business.
[May 16 (5 Marks)]
SA 520 Analytical Procedures
Contents
• Analytical Procedures
• Benefits and types of Analytical Procedures
• Methods of Analytical Procedures
• Steps to be followed
• Timing and Purpose
1.73 Auditor’s Objective
To design and perform analytical procedures near the end of the audit that assist the auditor when
forming an overall conclusion as to whether the financial statements are consistent with the
auditor’s understanding of the entity.
1.74 Analytical Procedures
Analytical procedures are part of substantial analytical procedures. It consists of evaluations of

financial information made by a study of relationships among both financial and non-financial
data.
Analytical procedures as per SA 520 means the analysis of significant ratios and
trends.

It also includes investigation into fluctuations from predicted amounts and into relationships that
are inconsistent with other relevant information.
Analytical procedures may help identify the existence of unusual transactions or events, and
amounts, ratios, and trends that might indicate matters that have audit implications.
Analytical procedures consider two methods

• comparison of financial data (with prior period, with budgets, with industry benchmarks)
• study relationships of financial information (among other elements of financial statements or
with relevant non-financial information)
1.75 Benefits of Analytical Procedures
• To assist the auditor in planning the nature, timing and extent of audit procedures.
• As a substantive procedure when their use can be more effective or efficient than tests of
details in reducing detection risk for specific F.S. assertions; and
• As an overall review of the F.S. in the final review, stage of the audit."
1.76 Auditor’s Responsibilities
• Determine the suitability of particular substantive analytical procedures for given assertions,
taking account of the assessed risks of material misstatement and tests of details, if any, for
these assertions
• Evaluate the reliability of data from which the auditor’s expectation of recorded amounts or
ratios is developed
• Develop an expectation of recorded amounts or ratios and
• Evaluate whether the expectation is sufficiently precise to identify a misstatement
• Determine the amount of any difference of recorded amounts from expected values that is
acceptable without further investigation
The auditor shall design and perform analytical procedures near the end of the
audit that assist the auditor when forming an overall conclusion.
1.77 Factors that affect the reliability of data on which analytical procedures are to be
performed
1.77.1 Sources of information

Information may be more reliable when it is obtained from independent sources outside the
entity.
1.77.2 Comparability of the information available

Bench mark data from industry or competitors may need to be supplemented to be comparable
to that of an entity that produces or provides services and sells specialised products.

1.77.3 Nature and relevance of the information available
Budgets when are results expected are relevant for analysis but they are unrealistic projections
then such data cannot be used.
1.77.4 Controls over the preparation of the information

Controls over the preparation of information are designed to ensure its completeness, accuracy
and validity, only then can such information be used for analytical procedures.
1.78 Types of Analytical Procedures
Analytical
Procedures
Comparativ Predictive Key non-

Trend
e Data estimate financial
Analysis Financial
Analysis Inter firm Analysis ratios
ratio
analysis
analysis
1.78.1 Trend Analysis
Comparison of the entity’s financial information with prior periods.
1.78.2 Comparative Data Analysis

Comparisons of entity’s financial information with anticipated results, such as budgets or
forecasts.
1.78.3 Predictive Estimate Analysis

Relationship with predictive estimates prepared by the auditor, such as an estimation of
depreciation charge for the year.
1.78.4 Inter-Firm Analysis

Comparison of key financial ratios of the entity with other firms of similar size in the industry and/
or with the overall industry average.
1.78.5 Financial Ratio Analysis

Relationships among elements of financial information e.g. Gross profits, Turnover ratios etc.,
1.78.6 Key non-financial Ratios

Relationships among elements of financial and relevant non-financial information E.g. Payroll
costs to number of employees, Sales per employee etc.
1.79 Nature of Analytical Procedures
Analytical procedures encompass two types of procedures broadly.

Analytical Procedures
Comparisons of financial Relaionship of financial data

data items with financial and
non-financial data
1.79.1 Comparison of entity’s financial information
• With similar prior – period date

▪ Example: An inventory turnover ratio might indicate that a particular product line had a
turnover of three times for past four years but only two times this year but only two times
this year. The change may indicate potential obsolescence or errors in accounting records.
• With client –determined expected results

▪ Most companies prepare budgets for various aspects of their operations and financial
results. Since budgets represent the client’s expectations for the period, an investigation
the most significant areas in which differences exist between budgeted and actual results
may indicate potential misstatements.
• With auditor – determined expected results

▪ Example: Moving average of the provision for bad debts as a percent of debtors is applied
to the balance of debtors at the end of the audit
▪ year to determine an expected value for current allowance by the auditor.
• With industry data
▪ Industry data provides evidence of how aggregated industry – wise data is affected by
conditions in the industry such as declining demand and constrained profit margins.
▪ Example: The average collection period for accounts receivable in an industry is 43 days,
but the client’s average collection period is 65 days. This might indicate problems with
product quality or credit risk.
1.79.2 Relationship of financial data items with financial and non-financial data
Relationsip between
Items of financial data Financial data and non-financial data

(eg: sales and cost of sales) (eg: payroll cost and number of
employees)
1.80 Application of Analytical Procedures
The application of analytical procedures is based on the expectation that relationships among data
exist and continue in the absence of known conditions to the contrary.

The presence of these relationships provides audit evidence as to the completeness, accuracy and
validity of the data produced by the accounting system.
The procedures can range from simple comparisons to use of sophisticated computer software
for advanced statistical techniques such as multiple regression analysis.
1.81 Timing and Purpose of Analytical Procedures
Analytical procedures should be applied at planning stage and the year-end overall review. The
auditor may use it at substantive testing phase also.
1.81.1 Planning Phase

• The main purpose to use analytical procedures is to determine the nature, timing and extent
of other audit procedures.
• It directs attention to potential risk areas.
▪ Example: A decline in gross margin percentage over a period of time may indicate
increasing competition in the company’s market area and the need to consider inventory
pricing during audit.
• It indicates important aspects of business.
▪ Example: Operating profit for the business has declined. It may be due to labor problems,
industry downturn, dropping of a product line, etc.
1.81.2 Substantive Testing Phase

• When used as substantive tests, the objective of analytical procedures is to accumulate
evidence supporting the validity of a specific account balance.
▪ Example 1: If average interest rate is applied to average debt outstanding, it provides
evidence supporting the amount of interest expense,
• Analytical procedures are used with or without tests of detail to reduce specific detection risk.
▪ Example 2: Instead of verifying individual write-offs in a low-risk credit sales system by
obtaining direct confirmation (test of detail), an auditor can test provision for bad and
doubtful debts by comparing management’s estimate to an independent estimate based
on prior-year actual and current year sales volume; and write-offs and payment history.
• Level of reliance that an auditor can obtain form analytical review will depend on:
▪ Availability, reliability, relevance, independence and comparability of information being
used;
▪ Nature of the entity and degree to which information can be disaggregated;
▪ Adequacy of controls over preparation of information;
▪ Risk of non-detection of material misstatements;
▪ Materiality of item involved;
▪ Extent to which assurance from other sources can be obtained;
▪ Accuracy with which figures can be predicated;
▪ Assessment inherent and control risks; and
▪ Prior knowledge of client and accounting adjustments made in prior periods.

Audit Steps
• Assess the reliability of

Step 1 data
• Develop an independent
Step 2 expectation
• Define significant
Step 3
difference or threshold
• Compute the
Step 4 difference
• Investigate
Step 5 differences
and conclude
1.81.3 Overall Review Phase

• As part of overall review phase, the auditor evaluates the reasonableness of audited financial
statements i.e., assertions regarding transactions and balances.
• Knowledge of the client’s business combined with effective analytical procedures helps to
corroborate the conclusions drawn for individual elements/components of financial
statements and in determining sufficiency and appropriateness of audit evidence.
• Example: The auditor has audited inventories. At the overall review stage, he may estimate the
closing inventory using historical gross profit rates. If the estimated inventory is nearly the
same amount as audited inventory, it would vary, the auditor may have to resolve the reason
for disparity.
• Analytical procedures at overall review stage also help to identify possible oversights in an
audit and unusual transactions.
▪ Example: Sales of the client have decreased in the current period by forty percent. An
auditor may expect debtors to decrease by a comparable percent. If this does not happen,
it may indicate that sales might have been understated or accounts receivable might be
overstated.

1.82 Investigating Results
If analytical procedures performed in accordance with this SA identify fluctuations or relationships

that are inconsistent with other relevant information or that differ from expected values by a
significant amount, the auditor shall investigate such differences.
1.82.1 Unreasonable or Inconsistent Results

• Inquire with management and consider the need to corroborate management replies through
additional procedures such as expanded substantive procedures; and
• Evaluate the reasonableness of management’s replies in relation to the auditor’s knowledge
of the client’s business and information obtained during the audit.
• Performing other audit procedures as necessary in the circumstances
1.83 Questions
1) Explain what do you mean by Analytical procedures. How such procedures are helpful in
auditing?
2) While auditing purchases which types of analytical procedures will be performed by the
auditor to obtain audit evidence as to overall reasonableness of purchase quantity and
price. [May 19 (4 Marks)]
3) Discuss the audit procedure to be considered by an auditor while performing analytical
procedure to obtain audit evidence as to overall reasonableness of purchase quantity and
price. [Nov. 19 (3 Marks)]
4) Routine checks cannot be depended upon to disclose all the mistakes or manipulation that
may exist in accounts, certain other procedures also have to be applied like trend and ratio
analysis. Analyse and Explain stating clearly the meaning of analytical procedures.
[RTP-Nov. 19]
5) Analytical procedures use comparisons and relationships to assess whether account
balances or other data appear reasonable. Explain stating the purpose of analytical

procedures. [RTP-May 18]
6) Give examples of Analytical Procedures having consideration of comparisons of the entity’s
financial information. [RTP-Nov. 19]
7) Use of substantive Analytical Procedures requires consideration of many factors. Explain
those factors.
8) When designing and performing substantive analytical procedures, either alone or in
combination with tests of details, as substantive procedures in accordance with SA 330,
the auditor shall determine the suitability of particular substantive analytical procedures
for given assertions, taking account of the assessed risks of material misstatement and
tests of details, if any, for these assertions. Explain the other relevant points in this context.
[RTP-May 20]
What are the factors that determine the extent of reliance that the auditor places on results of
analytical procedures? Explain with reference to SA-520 on “Analytical procedures”.

AUDIT OF ITEMS OF FINANCIAL STATEMENT
Contents
• Introduction
• Assertions- Income Statement and Balance Sheet
• Audit of Balance Sheet items
• Audit of Profit and Loss Account Items
1. Introduction
A financial statement audit is the examination of an entity’s financial statements which consists of
Balance Sheet, Profit & Loss Account, Cash Flow Statement, Notes to account and accompanying
disclosures. The purpose of a financial statement audit is to add credibility to the reported
financial position and performance of a business.
Each financial statement purports to present something as a whole in addition to its component
details. For example, an income statement purports to present “the results of operations” a
balance sheet purports to present “financial position”.
The auditor’s opinion is typically directed to these overall representations. But to formulate and
offer an opinion on the overall truth of these statements he has first to inquire into the truth of
many specific assertions that makes up each of these statements. Out of his individual judgements
of these specific assertions he arrives at a judgement on the financial statement as a whole.
This chapter discusses the various audit procedures that an auditor can perform in order to verify
the various assertions appearing in the financial statements.
ASSERTIONS
DEFINITION OF ASSERTION: It refers to the representations by management, explicit or

otherwise, that are embodied in the financial statements, as used by the auditor to consider the
different types of potential misstatements that may occur.
In preparing financial statements, company’s management makes various implicit or explicit

claims (i.e. assertions) regarding:
• completeness;
• cut-off;
• existence/ occurrence;
• valuation/ measurement;
• rights and obligations; and
• presentation and disclosure

of Assets, Liabilities, Equity, Income, Expenses and Disclosures in accordance with the applicable
EXAMPLE: If Company X’s balance sheet shows Building with carrying amount of ` 50 lakh, the auditor shall assume that
the management has claimed/ asserted that:
• The building recognized in the balance sheet exists as at the period- end (existence assertion);
• Company X owns and controls such building (Rights and obligations assertion);
• The building has been valued accurately in accordance with the measurement principles (Valuation assertion);
• All buildings owned and controlled by Company X are included within the carrying amount of ` 50 lakh (Completeness
assertion).
2. ASSERTIONS USED IN FINANCIAL STATEMENTS
Income
Statement
Presentation
Occurrence Completeness Cut off Measurement
and Disclosure
Balance
Sheet
Presentation
Completenes Rights and
Existence Cut off Valuation and
s Obligations
Disclosure
3. Income Statement Assertions

Occurrence Transactions recognized in the financial
statements have occurred and relate to the
entity.
Completeness All transactions that were supposed to be
recorded have been recognized in the financial

statements. Transactions have not been
omitted.
Cut off Whether all income and expenses are
reported in the- correct accounting period.
Cut-off is a separate assertion because the
substantive procedures to verify it are typically
different from those applied to the other
components of completeness
Measurement Transactions have been recorded accurately at
their appropriate amounts in the financial
statements. There have been no errors while
preparing documents or in posting
transactions to ledger. The figures and
explanations are not misstated.
Presentation and Disclosure Transactions have been classified and

presented fairly in the financial statements.
Transactions and events are appropriately
segregated or disaggregated. Presentation
and disclosure assertions are considered
during the course of the audit to determine
that the disclosures are complete and
accurate.
4. Income Statement Assertions
Existence Assets, liabilities and equity balances exist as

at the period end.
Completeness All assets, liabilities and
equity balances that were
supposed to be recorded
have been recognized in
the financial statements.
Cut off Whether all assets and liabilities are reported

in the appropriate period.
Valuation Assets, liabilities and equity balances have

been valued
appropriately i.e. the amounts at which they
are recorded are appropriate. There has been
no overstatement or understatement
Rights and Obligations Entity has the right to assets i.e. (whether the
entity has ownership and legal title to assets)
and the liabilities recognized in the financial
statements represent all the entity’s
obligations to repayment as at a given date.

Presentations and Disclosure Whether particular items in the financial
statements are properly classified, described
and disclosed. Presentation and disclosure
assertions are considered during the course of
the audit to determine that disclosures are
complete and accurate
5. Audit of Share capital
Every company’s lifecycle starts with raising of capital. The receipt of applications for shares and
allotment of shares are two important aspects of every issue of capital as these constitute the legal
basis of the transactions related to purchase of shares. Therefore, an auditor should be careful
while doing the verification process.
Audit procedures while auditing share capital are as follows:
• Ledger A/c
• Tally the opening balance of share capitals to the previous year audited financial
statements.
• Check the additions and deletions to share capital through fresh issue or bonus issue and
reduction in the share capital.
• Test of Compliance with laws & regulations

• Check the provisions of companies Act regarding:
▪ Whether the authorized Capital of the company is as per capital clause of
Memorandum of association
▪ Verify the terms related to fresh issue mentioned in the prospectus has been complied
by the company.
▪ Check the compliance of
• Section 52- in case of shares issued at premium,
• Section 53 - when the shares are issued at discount,
• Section 54- in case of Sweat equity shares of the Companies Act.
▪ Examine whether the provisions for forfeiture of shares are followed by the company.
▪ In case of Reduction of capital verify whether board resolution has been passed along
with a special resolution passed in the member meeting. Also verify that the
memorandum of association of the company has been suitably altered.
• Check the Registrar of companies (RoC) provisions regarding-
▪ Whether form PS 3 & PS 4 is filed with RoC
▪ Whether FCGPR form is filed with RBI (in case of foreign shareholders).
▪ Check whether fee for the increase in authorized capital is paid to Registrar of
company.
• Check whether the compliance officer has followed appropriate procedures for issuing
shares.
• Ascertain that there exists an internal check on receipt of amounts along with the
application and that the same throughout has continued to function satisfactorily.
• Analytical Procedure
• Check whether the Stamp duty paid is in accordance to the increase in authorized capital.
• Apply analytical procedures for share premium provisions.

• Test of Details
• Verify the Following assertions
Assertions Audit Procedures
Check the forms filed with Roc, Memorandum of company and bank
Existence
statements in order to verify the existence of share capital.
• Check the register of members for allotment of shares.

Occurrence
• Check the prospectus, bank statements, various forms etc.
Extract balances of shareholder’s account contained in the share register

Accuracy
and tally their total with the balance in the share capital.
Check whether all the aspects related to shares issues have been properly
Completeness
accounted.
• Obtain a written confirmation from company secretary that there

were no changes to entity’s capital structure during the year.
• In case there is change, obtain the certified copies of relevant
Valuation
resolution passed at the board meeting.
• Verify whether the paid-up capital as at the period- end is within the
limits of authorized capital.
• Verify the board resolution for allotment.

Rights & Obligation
• Verify the share certificates and resisters of members.
Ensure where the following disclosure as per Schedule III of the Companies
Act, 2013 are made-
• Whether Authorized capital, Issued and subscribed capital and
unpaid capital are separately shown.
• Whether the unpaid capital it should be shown as Calls in arrears.
• Whether Shares issued in consideration other than cash are
separately disclosed.
• Disclosure for shares held in company by the following entities:
Presentation & ▪ Holding company
Disclosure ▪ Ultimate Holding company
▪ Subsidiaries of the Holding company
▪ Associates of the Holding company
▪ Subsidiaries of the Ultimate Holding company
▪ Associates of the Ultimate Holding company
• Details of each shareholder (name, no of Shares & %) with more than
5% stake.
Above disclosure should have been made for a period of five years
immediately preceding the balance sheet date.

6. Audit of Reserves and Surplus
Amount payable
Quantified & Accurately Quantified with

determined estimation
Liability Provision
Reserves are the amount appropriated out of the profits that are not intended to meet any
liability, contingency, commitment, or diminution in the value of asset known to exist as at the
date of the balance sheet.
Provision is an amount that you put in aside in your accounts to cover a future liability. It is created
as a charge against the profit which means it is created irrespective of the sufficiency of the
profit.
Ex: - Provision for tax, Provision for doubtful debts etc.
Revenue reserve represents profits that are Capital Reserve represents a reserve which
available for distribution to shareholders as does not include any amount regarded as free for
dividends. distribution through the statement of profit and
loss.
Share premium: When a company has issued its shares at amount in excess of the nominal
value of shares it is called shares issued at premium. The company has to transfer the amount
received through premium to security premium account. The company can use this amount
only for the purpose specified in section 52 of the Companies Act 2013.
6.1 Securities Premium

Securities Premium reserve can be utilized for the following purposes
• Write off preliminary expenses
• Write off expenses related to issue of securities
• Premium on redemption of Debentures or redeemable Preference shares
• Issue fully paid up bonus shares
• Buy back of shares.
6.2 Audit procedures while auditing Reserves & Surplus
• Ledger A/c
• Tally the opening balance of reserves and surplus to the previous year audited financial
statements.
• Check for addition/utilization from the current year profit /loss Account and appropriation
account if any.

Auditor’s responsibility
• Compliance with laws and regulation is not to ensure
• Check the minutes of the board of directors and ensure
compliance but to check
that the profits are appropriated as per the decision
taken by directors. and report if
• Verify whether the requirements of articles of management has
association regarding the appropriation of profit to complied with
general or special reserves are duly followed by the regulations or not.
company.
• Check whether the management has complied with the required provisions of Companies
Act while utilizing any part of the general reserve for payment of dividend.
• Check whether the required entries are duly passed and approved by competent
authority.
• Check whether the board approval is taken wherever required.
• Substantive analytical procedures

Substantive analytical procedures are applicable in case of only Capital redemption reserve.
(CRR).
• Check whether CRR is created only under following situations:
▪ In case of redemption of preference shares the nominal value of the shares to be
redeemed is put to capital redemption fund.
▪ When a company buys its own shares.
▪ In case of fresh issue of equity or preference share in order to redeem the old
preference share, the difference between the face value of preference shares and fresh
shares issued will be transferred to CRR.
• Verify that this fund is utilized only for issuing fully paid bonus shares. No dividend is
distributed out of this fund.
• Check the calculation for the amount of CRR.

• Test of Details:
The following assertions needs to be verified
Check whether any additions/ utilization to /from the reserve and surplus
Occurrence
have actually occurred.
Verify that the reserve and surplus balances that were supposed to be
Completeness
recorded have been recognized in the financial statements.
Check whether the provisions regarding dividend declaration and share

Valuation
premium have been complied.
Ensure the disclosure requirements under part I of Schedule III to the

Companies act has been made regarding
• Opening balances, additions, Deduction & closing balances of the
reserves and surplus.
• Reserve and Surplus shall be classified as:
▪ Capital Reserves
▪ Capital Redemption Reserve
▪ Securities Premium Reserve
Presentation &
▪ Debenture Redemption Reserve
Disclosure
▪ Revaluation Reserve
▪ Share Options Outstanding Account
▪ Other Reserves – (specify the nature, amount, and purpose of
each reserve)
Surplus i.e. balance in Statement of Profit and Loss disclosing allocations
and appropriations such as dividend, bonus shares and transfer to/from
reserves etc. (Additions and deductions since last balance sheet to be
shown under each of the specified heads).
7. Audit of Loans and Long-term Borrowings
Liabilities are the financial obligations of an enterprise other than owner’s fund. Liabilities include
loans/ borrowings, trade payables and other current liabilities.
Verification of the loans and borrowings will be done as follows:
• Ledger A/c
• Check the opening balance with the previous year’s audited closing balances.
• Check any addition or deletion to Loan (i.e. any loan taken or repaid).
• Test of Compliance
• Whether the company is authorized to raise the loans as per its Memorandum.

• Whether the board approval is there by passing the board resolution for loan. (check the
minutes of board meeting)
• Wherever necessary the member’s approval is taken in the general meeting.
• There is compliance of section 180, section 185 and 186 of the Companies Act on the
borrowings of company.
• In case of foreign currency loan whether compliance with RBI requirement is there.
• Check whether the loan documents are signed by competent authority.
• Check whether there is proper utilization of loan. Short term borrowings cannot be used
for long term borrowings.
• Substantive analytical procedures

• Check the computation of interest on loan by using substantive procedures.
• Examine relevant records and documentation supporting the validity and accuracy of
loans.
• Test of Details: - Verify the following Assertions
• Confirm loans and borrowings outstanding and interest

payable on them by obtaining direct confirmation from the
lender.
• Examine the loan agreement for rate of interest and other
Existence terms of loan. Verify that borrowing limits imposed by
occurrence and agreements are not exceeded.
Accuracy • Examine reconciliation of the book balances with statement of
lenders.
• Agree details of lease and hire purchase creditors recorded to
underlying agreement.
• Check the arithmetic correctness of the loan amount.
• Verify that the total amount of loan amount has been reflected
in the financial statements.
Completeness • Obtain a schedule of short term and long-term borrowing
showing beginning and ending balances and repayments
during the year.

• Agree loan balance and loan payables to loan agreement.
• Check computation of the amortization of premium or discount.
Valuation
• For foreign currency loans, agree the closing exchange rates used and
test the translation calculations.
• Examine documents evidencing any charge created in respect of

loans and advances. Specially examine the requirements of the
applicable statue regarding creation and registration of charges.
• Verify that the secured loans are shown separately. Where the
Rights and
market value of an asset offered as a security against loan has fallen
Obligations
below the amount of loan outstanding ensure that the loan is
classified as secured only to the extent of market value of
security. (Details of the securities should be mentioned).
• Check balances are confirmed by external sources. (SA-505)
• Check whether the interest payable as on balance sheet is accounted

appropriately.
Cut off
• Ensure whether the closing balance of the loan is same as balance
confirmation received.
• Examine whether the instalments of long-term loans falling due

within next twelve months have been disclosed in the balance sheet
as a footnote.
• Ensure whether the following disclosures required under Companies
Act under the heading of long-term borrowings have been complied
with:
Presentation and ▪ Sub –classification as, Non-Current and Current Loan, secured and
Disclosure unsecured, Rupee loan and Forex loan.
▪ For secured borrowings, nature of security separately disclosed.
▪ Where loans are guaranteed by directors or others are
separately disclosed.
• For default in repayment of borrowing or interest on the balance
sheet date disclosure regarding Period & Amount of should be made.
Audit of Trade Receivables/Sundry Debtors
Trade receivables are an essential part of any organization’s balance sheet. These are monies
which are owned to an organization by a customer. Ex: - sales made on credit.
In order to check the authenticity for receivables following procedures should be performed by
Auditor: -
• Ledger A/c
• Check the opening balance with the previous period’s audited closing balances.
• Check additions & deletions – Credit sales, Amount recovered & Bad Debts.

• Check whether there are controls in place to ensure that invoices cannot be recorded
more than once.
• Ensure that all the invoices are accounted and approved by the authorized person.
• Substantive Analytical Procedures

Auditor should make comparison of:
• Current year ageing schedule with that of the previous year.
• Significant ratio and trends pertaining to debtors.
• Budgeted figures with actual figures.
• Closing balances of current year with those of previous year.
• Other ratios and analytical procedures relevant and applicable to the enterprise.
• Test of Details
Verify the following Assertions:
• Check Invoices, Bank Statements & obtain Balance Confirmation to

ensure that the trade receivable exists.
Existence
• Follow up all the balance disagreements and non –replies to the
receivables’ confirmation.
• Obtain a schedule of debtors duly signed by responsible officer and

Occurrence examine it with reference to individual debtors account.
• Inspect underlying documents (such as invoice, credit memos etc.).
Ensure whether the balances shown in the ledger accounts are

Accuracy
consistent with balances as per control accounts.

• Ensure all sales, cash receipts and sales adjustment transactions
occurred during the period have been recorded.
Completeness
• Ensure accounts receivables includes all claims on customers at the
balance sheet date.
• Assess the allowance for doubtful accounts. Review the process

followed by the company to derive an allowance for doubtful debts.
• Scrutinize and identity those debts which appear doubtful, discuss
with management their reasons if any of these debts are not included
Valuation in the provision for bad debts.
• Assess bad debt write-offs.
• Prepare schedule of movements on bad debts, provision accounts
and debts written off and compare the proportion of bad debt
expense to sales for the current year in comparison to prior years.
• Check through balance confirmation whether the amount is

Rights and
receivable to the company.
Obligation
• Debtor as a charge for working capital loan should be disclosed.
• Verify the year-end transactions and balances to ensure whether

Cut Off
the cut –off procedures are appropriately followed.
• Check that the restatement of foreign currency trade receivables

has been done properly.
• Verify that the split between more than 6 months and less than 6
months has been done from the due date instead of sales invoice
date.
• Check that the classification of the amount due is properly disclosed
as:
Presentation and ▪ Secured
Disclosure ▪ Unsecured
▪ Doubtful
• Verify that proper disclosure has made for the amounts due from
▪ Directors or Other officers of the company
▪ By firms
▪ By private companies in which any director is a partner or director
or member.
• Ensure all the transactions with related parties are properly reported
in CARO.

Audit of Cash & Cash Equivalents
Cash and Cash equivalent in the form of cash in hand, balances held with bank in current
accounts/margin money accounts, fixed deposits, cheques in hand etc. represent the most liquid
asset of an enterprise. Utmost professional skepticism needs to be exercised while auditing such
balances.
7.1 Audit of Cash balances
• Ledger A/c
• Check the opening balance with the previous period’s audited closing balances.
• Check the inflows and outflows of cash during the year.
Check whether cash payments are under the limit of income tax act.
• Check whether Cash is handled by responsible officer.
• Ensure that cashier should not make entries in the books of accounts.
• Carry out surprise verification of cash during the year particularly when the entity is
consistently maintaining unduly large cash balance.
• Test of Details
• Carry out a physical verification of cash in hand at the end of the year
• Carry out surprise checks anytime during the year.
Existence
• Examine all items of Cash Balance like Main cash balance, petty cash
balance, imprest cash with employees etc., simultaneously.
• Examine the Cash Vouchers and Cash Book.

Occurrence
• Examine all the other supporting documents such as cash receipts.

Verify mathematical accuracy of recorded cash balance
• Trace total to the general ledger and to year end bank reconciliations
Accuracy
prepared by the client.
• Test cash on hand, as necessary.
• Obtain and review or prepare year-end bank reconciliation.

• Obtain a bank cut-off statement directly from the bank to ascertain
Completeness
whether the items on the year –end reconciliation have cleared from
the bank and therefore were valid.
The auditor should ensure that all bank account holding foreign currency
Valuation
have been restated at the closing exchange rates.
Rights and Verify ownership of cash by carrying out simultaneous physical verification
Obligation of cash at multiple locations to prevent fraudulent entry for cash.
• Check whether the inflows and outflows are accounted in the relevant
Cut off
accounting period.
• Ensure disclosure of cash in the financial statements as per recognized

practices and relevant statutory requirements.
• Ensure that temporary advances given are not classified under
Presentation &
Cash balances.
Disclosure
• If postage and revenue stamps exist in a substantial manner towards
the year end, they should be shown separately and not included in
the Cash in Hand.
A cash certificate should be prepared on the verification date, which should be signed
both by the auditor and cashier, each retain a copy of the same.
7.2 Audit of Bank Balances

Following Audit Procedures are required to verify the bank balances: -
• Ledger A/c
Check the opening balance with the previous year audited financial statements and the
deposits and withdrawals during the year
• Test of Compliance of Laws & Regulations

Check whether the provisions of Negotiable Instruments Act regulation and RBI regulations
wherever required are duly complied.
• Test of control
• Authorisation for opening, operating, and closing bank accounts

• BRS prepared regularly & verified.
• Compare the entries in the ledger of the client with entries in cash
book/bank statement.
• Examine fixed deposit receipts and bank advises for verification of
fixed deposits made.
• Cash in transit should be verified with reference to their subsequent
credit in bank account.
Verify Existence,
• In case of stale cheques, the auditor should ensure suitable
Occurrence,
adjustments have been made in books of account.
Completeness,
• Examine the bank reconciliation statement to ascertain the
accuracy, and
differences.
valuation.
• Verify the total number of bank accounts maintained by the entity.
New account opening requires Board resolutions. Hence verify the
same.
• Obtain balance confirmation from the banker.
• In case of foreign currency account conversions rates should be
checked.
Rights &
• Bank accounts to be in the name of Company & check for Lien.
Obligations
Cut-off procedures • Check for year-end (pre & post) transactions. Check BRS.
• Presentation and Disclosures for Cash and Cash Equivalents

Ensure whether the following disclosures as required under Ind AS compliant Schedule III to
Companies Act, 2013 have been made:
• Cash and Cash equivalents shall be classified as:
▪ Balance with banks
▪ Cheques, drafts on hand
▪ Cash on hand
▪ Others (specify nature)
• Earmarked balances with banks (for example, for unpaid dividend) shall be separately
stated.
• Balances with banks to the extent held as margin money or security against the
borrowings, guarantees, other commitments shall be disclosed separately.
• Repatriation restrictions, if any, in respect of cash and bank balances shall be separately
stated.
• Bank deposits with more than 12 months maturity shall be disclosed separately.

8. Audit of Inventories
Inventories are the tangible property held for -

• Sale in the ordinary course of business or
• in the process of production for such sale or
• For consumption in the production of goods or services for sale.
Verification for inventories will be done as follows:
• Ledger Account
• Check the opening balance of inventory with the previous year’s audited closing balance.
• Check for the purchases and issue of inventory during the year through stock registers.
Check for the compliance of AS-2 (valuation of inventories) for the following:
• Recording inventory movement
• Valuation of inventory issued
• Valuation of closing balance. (Cost or Net realizable value whichever is less).
• Test of controls
• Ensure inventory custody & issues are done by authorized person.
• Verify stores and other material ledgers including purchase, issue and closing balance.
• Review the instructions for stock take and physically attend the stock take.
• Ensure whether the stock records are updated by the management on continuous basis.
• Analytical procedures
Conduct analytical procedures for: -
• Quantitative reconciliation of input-output
• Previous year Vs. Current year comparison
• Ratio Analysis
• Comparison with industry standards and budgets.

• Test of Details - Verify
• Conduct the physical verification of inventories to check: -

▪ Existence of inventory
▪ Condition of inventory.
• Management is responsible for the physical verification of
inventory; auditor has to verify whether management has conducted
the same.
• Ensure the method of physical verification is fool proof (tag to floor
Existence and floor to tag)
• Ensure the physical verification sheets are signed by both
management and auditor.
• Pick samples randomly to ensure all items and aspects for
verification are covered.
• Ensure outside party stocks are not included in the company’s
inventory list.
• Physical verification should be done at the end of the financial year.
Check Delivery challans and gate passes, and goods received notes, bin
Occurrence
card details etc. to check whether transaction has actually been occurred.
• Verify the clerical and arithmetical accuracy of inventory listings.

Accuracy • Reconcile physical counts (FIFO or Weighted average) with general
ledger control total.
• Examine non- financial information related to inventory, such as

weights and measures.
Completeness
• With respect to tagged inventory, perform tests for omitted
transactions and test for invalid transactions.

• Examine the method adopted by the management for inventory
valuation (FIFO, LIFO, or weighted average system)
Valuation
• Ensure that the valuation of inventory is as per AS-2 and the condition
of inventory is recognized in their valuation.
• Vouch recorded purchases to underlying documentation. (purchase

requisition, purchase order, vendor invoice
• Evaluate the consigned goods. Examine client correspondence, sales
and receivables records, purchase documents.
• Review consignment agreements.
Rights & obligation
• Examine invoices for evidence of ownership
• Obtain a declaration from the third party duly signed by the
authorized personnel in case inventory is held by third party
confirming that the inventory belongs to the entity and is held by the
third party on behalf of the entity.
• Check invoices, gate passes, delivery challahs, GRN’s etc.

• Perform purchase and sale cut- off tests. Trace shipping documents
Cut Off
(bill of lading and receiving reports, inventory records) to inventory
records immediately before and after year-end.
Ensure whether the following disclosures as required under In AS

compliant Schedule III to companies Act, 2013 have been made-
• Whether mode of valuation has been stated separately for each class
of inventory.
• Whether inventory has been classified as-
▪ Raw materials
Presentation and ▪ Work-in –progress
Disclosure ▪ Finished goods
▪ Stock in trade
▪ Stores and spares
▪ Loose tools
▪ Others (specify nature)
• Whether goods in transit have been disclosed separately under each
sub-head of inventory
9. Audit of Fixed Assets
Fixed assets may be defined as an asset

• which is held with the intention that it will be used for the production or provisions of goods
and services and
• not for sale in the normal course of business and
• Such use shall have the potential to give future economic benefits to the enterprise.

Fixed asset can be further classified as Tangible Fixed Assets and Intangible Fixed Assets.
Fixed Assets Tangible includes Land, Building, Plant & Equipment, Furniture & Fixture, Vehicles,
Office Equipment, and Computers etc.
For the audit of Tangible Fixed Asset, we need to understand the difference between Revenue
Expenditure and Capital Expenditure.
• Revenue Expenditure
An expenditure, the benefits of which shall be exhausted in the process of earning revenue within
a short span of time, maximum period being one year are classified under Revenue Expenditure.
Revenue expenditure are charged to P/L Account Example: - Cost of raw material and stores
consumed in the process of manufacture/ production, Rent, rates and taxes, Power and Fuel,
Repairs, maintenance and renewals of fixed Assets, Legal and professional charges etc.
• Capital Expenditure
An expenditure incurred for the following purpose will be classified under capital expenditure -
• Acquiring fixed assets, which are held not for resale but for the use within the business, whose
benefits will last for multiple of accounting period.
• Making additions / enhancements to the existing fixed assets with the intent to increase
earning capacity of the business.
• Minimizing the cost of production.
All such expenditures are added to the cost of assets.
Expenses which are essentially of revenue nature, if incurred for creating an asset or adding to
its value for increasing productivity are also regarded as of Capital Nature.
9.1 Audit of Fixed Assets (Tangible)
• Ledger Account
• Check the opening balances of fixed assets with the previous year’s audited closing
balances.
• Check any addition & deletion in the fixed assets account through the fixed asset register.
• Check whether all the accounting standard related to fixed assets have been complied.
• Verify whether the board approvals have been obtained for purchase of assets.
• Check Board & Members resolution for major sale as per companies Act.
• Test of Control
• Check whether the purchase of fixed asset is made by the authorized person on behalf of
the entity.
• Physical verification is done regularly

Apply Substantive analytical procedures for depreciation (SA 520).

• Test of Details
• Conduct physical verification of fixed assets. Management is

responsible for the physical verification of fixed assets; auditor has
to verify whether management has conducted the same.
Existence • Review client’s plan for performing physical verification, whether
done by own staff or third party and the interval for verification.
• Verify the discrepancies noted based on physical verification and
manner in which such discrepancies are dealt.
In order to ensure that the fixed asset exists vouch all the supporting
Occurrence documents related to fixed assets such as, vendor invoices, purchase
agreements, Sale deeds, RCs etc.
Verify the movement in the fixed assets schedule complied by the

Accuracy management i.e. Opening+ Additions- Deletions= closing and tally the
closing balance to the entity’s book of account.
Ensure that all the incidental costs to acquisition of the assets are
Completeness
capitalized along with the asset.

• Ensure that the valuation of the fixed assets is done in line with the
applicable accounting standards.
Valuation • In order to arrive at the closing balance of assets, the provision for
depreciation has followed (whether SLM or WDV).
• Verify whether any asset damaged is written off.
• Verify that all purchase invoices are in the name of the entity that
entitles legal title to the ownership to the respective entity.
• Obtain copies of conveyance deed/ sale deed for all the additions to
land and building to ensure that the entity is the legal and valid owner.
Rights and
• Ensure that the title deed is in the custody of owners.
Obligation
• In case of mortgage obtain a certificate from mortgagee or his lawyer
confirming the possession of the title deed.
• Also verify the register of charges, available with the entity to assess
the fixed assets that has been given as security to any third parties.
Check whether the transaction occurred during the period has been
Cut off
recorded in the current accounting period.
Ensure whether the following disclosures as required under Ind AS

compliant Schedule III to companies Act,2013 have been made:
• Whether all items of property, plant and equipment have been
classified as
▪ Land
▪ Buildings
▪ Plant and Equipment
▪ Furniture and fixtures
▪ Vehicles
Presentation & ▪ Office equipment
Disclosure ▪ Other (Specify nature)
• Whether the entity has disclosed asset “under lease” both whether
operating and finance lease separately under each class of asset.
• For each class of property whether the entity has disclosed a
reconciliation of the gross and net carrying amounts at the beginning
and end of the reporting period showing separately: -
▪ Opening balance of gross carrying amount
▪ Additions
▪ Acquisitions through business combinations
▪ Disposals

▪ Disposals through demergers
▪ Other adjustments (Borrowing cost capitalized)
▪ Closing balance of gross carrying amount.
• For each class of property, plant, and equipment, whether the entity
has disclosed:
▪ Opening accumulated depreciation
▪ Charge for the year
▪ Deduction/other adjustments for depreciation
▪ Closing accumulated depreciation
• For each class of property, plant, and equipment, whether the entity
has disclosed:
▪ Opening accumulated impairment losses
▪ Impairment losses
▪ Impairment reversals
• Closing accumulated impairment losses.
9.2 Audit of Intangible Assets

Intangible assets are those assets: -
• Which do not have a physical identity but are used by the
enterprise for production or supply of goods or for retails to Goodwill internally
other or for the purpose of administration. generated is not
• Such assets do not have physical existence but their presence recognized as an asset
in the business is pointed out with a value placed there on. and not covered under
• These assets include the rights and benefits to the owners AS 26.
subject to their utility. For Ex: patent, copyright, trademark etc.
Closing balance to be arrived after providing for depreciation appropriately for the
period based on consistent policy (Valuation).
Auditor has to obtain legal opinion whenever required with respect to ownership related
issues (Rights & Obligations).
Audit Procedures for the verification of Intangible Fixed asset are as follows: -
• Ledger Account
• Check the opening balances of intangible fixed assets with the previous year’s audited
closing balance.
• Additions to intangible through internally generated or through amalgamations should be
checked.
• Check whether principles of AS 26 are complied with which says that purchase of
intangible asset should include stamp duty, legal charges etc. to arrive at the cost of
intangible.
• Check whether the internally generated intangible asset meets the criteria of recognition.
In case of: -

▪ Research phase: - No intangible asset arising from research shall be recognized.
Expenditure on research shall be recognized as an expense and charge off.
▪ Development phase- Expenditure incurred during this phase should be capitalized if
product is successful commercially otherwise it should be charge off if conditions of
AS -26 are not fulfilled.
• See whether board approval has been taken for the purchase of intangible assets.
• Test of control
• Check whether authorized personnel has approved and executed purchase and sale of
intangibles.
• Verify if proper internal processes and procedures like inviting competitive quotations
were followed prior to finalizing the vendor.
• Substantive Analytical procedures

• Check whether the entity has charged the amortization on all intangibles.
• Verify that the amortization method used reflects the pattern in which the asset’s future
economic benefits are expected to be consumed by the entity.
• Also verify that the management has undertaken an impairment assessment to determine
whether an intangible asset is impaired.

• Test of details
Verify the following assertions in relation to intangibles: -
• Verify documents related to asset.

Existence • Obtain confirmation letters from client’s legal adviser as to the validity
and existence of intangibles asset. (SA 620 work of an expert)
• Check the documents related to purchase of asset, bank statements,

and board approvals.
Occurrence
• If the assets have been transferred ensure whether the rights have
been transferred related to assets.
• Ensure that all the components related to the cost of assets are taken
into consideration for arithmetic accuracy
Obtain list for all additions during the period under audit. And for all
Accuracy material additions verify if such expenditure meets recognition criteria.
• Verify the movement in the intangible assets schedule complied by the
management i.e. Opening+ Additions- Deletions= closing and tally the
closing balance to the entity’s book of account.
Assess whether for an internally generated intangible asset meets the

criteria for recognition, an entity classifies the generation of assets into:
Completeness
➢ Research phase
➢ Development Phase
• Verify that Amortization principle as per AS 26 has been complied

Valuation
• Check that Impairment provisions has been followed as per AS 28
Rights and Check various agreements and minutes of board meetings regarding
Obligation Intangible Assets
Ensure that accounting for the Intangible Assets is done by following the
Cut off
Periodicity concept of Accounting.

Ensure whether the following disclosure as required under Ind AS
compliant Schedule III to Companies Act, 2013 have been made: -
• For Goodwill whether the entity has disclosed a reconciliation of the
gross and net carrying amounts at the beginning and end of the
reporting period showing separately: -
▪ Additions
▪ Disposals
▪ Impairments
▪ Other adjustments
• Whether all items of intangible assets have been classified as:
▪ Brands/ Trademarks
▪ Computer Software
▪ Mining rights
▪ Copy rights and patents and other intellectual property rights,
▪ Licenses and franchise
▪ Of Other (specify nature)
• For each class of intangibles, whether the entity has disclosed a
Presentation & reconciliation of the gross and net carrying amounts at the beginning
Disclosure and end of the reporting period showing separately:
▪ Additions
▪ Acquisitions through business combinations
▪ Disposals
▪ Disposals through demergers
▪ Other adjustments
▪ Borrowing cost capitalized
▪ Closing balance of gross carrying amount.
• For each class of intangibles, whether the entity has disclosed: -
▪ Opening accumulated amortization
▪ Charge for the year
▪ Deduction/ other adjustments for amortization
▪ Closing accumulated amortization
• For each class of intangibles, whether the entity has disclosed: -
• Opening accumulated impairment losses
• Impairment losses
• Impairment reversals
• Closing accumulated impairment losses
The auditor must verify requirements required by CARO in respect of Fixed Assets.

10. Audit of Trade Payables and Other Current Liabilities
Liabilities in addition to borrowing include trade payables and other current liabilities. Trade
payables are the liabilities owned to suppliers for purchases or services rendered. Verification of
liabilities is important to ensure whether any liability is not understated or overstated.
Audit Procedures for the verification of trade payables are as follows: -
• Ledger Account
• Check the opening balances of Trade payables with the previous year’s audited closing
balances.
• Check the expenses incurred and payment made during the year.
Check whether all the requirements under Micro, Small and Medium Enterprises
Development Act, 2006 (MSME) has been complied regarding the payments made to such
parties having MSME registration.
• Test of Control
• Check whether the management has adequate internal control regarding recording of
purchases, invoices are not recorded twice, purchases are for business purpose only.
• Ensure whether the payments are approved by the authorized person.
• Test checks few bills for payments made during the period.
• Related party transactions to be verified carefully as risk of fraud are more.

Apply substantive procedures to calculate-
• Creditor Turnover Ratio
• Creditor to credit purchases
• Average payment period
Also obtain the list of vendors with whom company has disputes and any claims from
customers, under litigation and compare with previous year.

• Test of details
• Obtain Balance confirmation from Creditor.

Existence
• Vouch Subsequent payments to the creditors.
• Inspect documents underlying purchases such as invoices receiving

reports purchase order etc. and verify individual creditor’s accounts
Occurrence balance against these documents.
• Check the invoices raised by the vendors to the company.
• Ensure there is no duplicate invoice.
Verify that the total of the creditor’s balance in the schedule agrees with
Accuracy the balances of the total account relating to the bought ledger in the
general ledger.
• Verify whether all the transactions related to purchase & services

received are accounted and there is no unrecorded liability.
Completeness
• Verify whether all the statutory dues and consider CARO 2020
reporting requirement are properly recorded in books of accounts.
Assess the old outstanding liability balances-Review the process

followed by the company to identity any creditors/ liability needs to be
written back.
• Match ledger balances with direct balance confirmations from the
Valuation creditor and ensure that both are reconciled.
• Perform subsequent period bank statement verification if there are no
replies from the creditors for balance confirmation.
• Check that the restatement of foreign currency trade payables has
been done properly.
Rights and
Check the direct confirmation obtained by the creditors.
Obligation
Verify the balance confirmations obtained, BRS, Reconciliation for

Cut off difference in balances to confirm that transaction occurred during the
periods are recorded in the current period.

compliant Schedule III to Companies Act, 2013 have been made:
• Whether the Company has classified a payable as a trade payable if it
is in respect of the amount due on account of goods sold or services
rendered in the normal course of business.
• Whether the Company has disclosed the following details relating to
micro enterprises and small enterprises in the notes:
▪ The principal amount and the interest due thereon (to be shown
separately) remaining unpaid to any supplier at the end of each
accounting year.
The amount of interest paid by the buyer in terms of section
16 of the Micro, Small and Medium Enterprises Development Act,
2006, along with the amount of the payment made to the supplier
beyond the appointed day during each accounting year.
▪ The amount of interest due and payable for the period of delay
Presentation & in making payment (which have been paid but beyond the
Disclosure appointed day during the year) but without adding the interest
specified under the Micro, Small and Medium Enterprises
Development Act, 2006.
▪ The amount of interest accrued and remaining unpaid at the
end of each accounting year.
▪ The amount of further interest remaining due and payable even
in the succeeding years, until such date when the interest dues
above are actually paid to the small enterprise, for the purpose of
disallowance of a deductible expenditure under section 23 of the
Micro, Small and Medium Enterprises Development Act, 2006.
• Whether the amount disclosed under other current liabilities are
classified as below:
▪ Revenue received in advance
▪ Other advances (specify nature)
▪ Other current liabilities (specify nature)
• He shall prepare a complete list of all statutory dues and consider his
reporting requirements under CARO
11. Audit of Loans and Advances, Other Current Assets.
Loans means money advanced to related or other parties with or without interest while advances
include amounts recoverable either in cash or in kind or for value to be received accrued interest,
e.g., rates, taxes and insurance paid in advance/ prepaid.
Other current assets primarily include accrued interest on loans/ fixed deposits held, balances
with statutory/ governments etc.
• Ledger A/c
• Check the opening balances of Loans & advances, with the previous year’s audited closing
balance.
• Check the additions and deletions in the loans & advances and current assets.

• Check whether any loans or advances granted is as per the Memorandum and Articles of
Association.
• Inspect the minutes of meeting of board of directors to confirm if all material loans and
advances were approved by board of directors.
• In case of related party loans and advances check whether they are properly authorized,
and the value of such transactions were reasonable. And whether provisions of companies
act, and disclosure requirements of accounting standard are complied.
• Check whether loans given are approved by the authorized person.
• Ensure that the securities against loans are periodically reviewed.
• All the documents related to loans and advances are in safe custody.

• If there are interest on loans carry out substantive audit procedures.
• Obtain the list of loans and advances under litigation and compare with previous period.
• Scrutinize and analyze those loans and advances that appear doubtful and discuss the
reasons with management for the same.

• Test of Details
For establishing existence of loans and advances, account receivables

Existence
obtain direct confirmation from the parties who receive that loan.
Verify the bank statements, loan agreement, and letter from statutory
Occurrence
authority from deposits made.
Obtain list of all advances and other current assets and compare them with
Accuracy
balances in the ledger
• Check whether all the advances given have actually been recorded
Completeness • Inspect loan agreements and acknowledgements of parties in respect
of outstanding loans.
• Assess the allowance for doubtful accounts. Review the process

followed by the company to identity doubtful accounts needs to be
written off.
• Obtain ageing report of loans and advances, split between current,
Valuation
less than 30 days old, 30-60 days old, 60 -180 days old, 180 -365 days
old and more than 365 days old
• Check that the restatement of foreign currency loans and advances
has been done properly.
• Check that in the loan deed the name of the company exists.
Rights and
• In case of deposits with statutory authorities, name of the company
Obligation
should be existing.
• Verify the balance confirmations obtained, BRS, Reconciliation for

Cut off difference in balances to confirm that transaction occurred during the
periods are recorded in the current period.

compliant Schedule III to companies Act,2013 have been made:
• Whether loans have been classified as: -
▪ Security deposits
▪ Loans to related parties (give details)
▪ Other loans (specify nature)
• Whether all the above loans have been further classified as: -
▪ Secured
▪ Unsecured
Presentation & ▪ Doubtful
Disclosure • Whether allowance for bad and doubtful loans has been disclosed
separately for each category of loans.
• Check whether separate disclosure is made in case of loans due from:
-
▪ Director(s) of the company
▪ Director(s) of the company jointly with other persons.
▪ Other Officer(s) of the company.
1FIN BY INDIGOLEARN
▪ Other Officer(s) of the company jointly with other persons. 5.30
▪ Firm(s) in which director is a partner.
▪ Private company (ies) in which director is a director or member.
• Other Current Assets.
1. Advances other than capital advances which are further sub
–classified as: -
▪ Security Deposits
▪ Advances to related parties (give details)
▪ Other advances (specify nature)
2. Other current assets (specify nature)
For advances, whether separate disclosure has been made
Presentation &
for amounts due by: -
Disclosure
▪ Director(s) of the company
▪ Director(s) of the company jointly with other persons
▪ Other officer(s) of the company
▪ Other Officer(s) of the company jointly with other
persons.
▪ Firm(s) in which director is a partner
▪ Private company (ies) in which director is a director or a
member.
12. Audit of Provisions and contingent liabilities
12.1 Provision
• Provision is a present obligation of the entity arising from the past events,
• the settlement of which is expected to result in an outflow from the entity of resources
embodying economic benefits.
• a reliable estimate cannot be made of the amount of obligation.
Example: - Provision for litigation, provision for warranties, provision for employee benefit
expenses etc.
12.1.1 Audit Procedures for provisions

• Make the best estimate of the provision required using the given information.
For this check: - records, agreements, legal cases etc.
• Use the work of the expert to ensure that provisions are reasonably made (SA 620). Example
Actuary, Lawyer
• Check reversals or additions to provisions and the same are accounted for.
• Ensure the compliance of the applicable accounting standards. Ex AS 29, AS 15.
• Check the legal register to know the legal cases & disputes pending against the company. And
also check & verify BOD minutes to know the updates for the same.
• Check expert opinions and computations.
• Ensure that the presentation & Disclosure as per Schedule III of the companies Act,2013 have
been made: -
▪ Whether Current/ Non-current provision is split.
▪ Disclosure is made for each class of provision. (Opening balance & Closing balance)

▪ Additional provision increased/ decreased this year.
▪ Brief disclosure to be made for each class of asset, specifying
▪ (Nature of obligation, expected timing of outflow of resources)
▪ Indication of uncertainties of amount and time of provisions.
▪ Amount of any expected disbursement.
12.2 Contingent Liability

Contingent liabilities refer to-
• Obligations relating to past transactions or other events or conditions that may or may not
arise in future.
• The possibility of a contingent liability crystal ling into an actual liability thus depends upon
happening/ non happening of an event.
Example- Pending litigation against the entity, discounted bills receivable, Guarantees of third-
party obligations etc.
12.2.1 Audit Procedures to verify Contingent liabilities are as follows:-

• Obtain a certificate from the client that all known contingent liabilities have been included
and properly disclosed in the financial statements.
• Review the minutes of meeting of board of directors to discover contingency commitments
if any.
• Obtain list of pending legal cases and check the legal status of pending cases with help of
experts.
• Assess the provision made or contingent liability disclosed, is in line with AS 29.
• Whether as per Schedule III of the companies Act,2013 disclosure in the notes to accounts in
the following manner-
▪ Whether Contingent Liability have been classified as-
• Claims against the company not acknowledged as debt
• Guarantees
• Other money for which the company is contingently liable
▪ Whether the amount of any guarantees given by the entity on behalf of the directors or
other officers of the company has been stated.
13. Audit of Sale of Products and Services

Audit procedure
• Identify the control points over sales.
• Tests the identified controls to determine how strong and reliable they are. If controls are
assessed as strong, the auditor can reduce the amount of substantive testing.
• Selects a random sample of transactions and examines the related customer purchase orders,
invoices and customer statements.
• Performing substantive audit procedures like vouching and Substantive Analytical Procedure
(SAP). SAP will consist of sales trend analysis, comparison of sales figures with previous accounting
period etc.
• Verification of revenue may be carried out by employing the following procedures:
a) Examination of records;
b) Analytical review procedures.

Assertions to be evaluated
Occurrence
Ensure that sales recorded represent goods shipped/services performed during the period.
Completeness
Ensure that all sales made during the period were recorded and there in no understatement or
overstatement.
Measurement
Ensure that all sales are accurately measured as per applicable accounting standards and correctly
journalized, summarized, and posted.
Presentation and Disclosure
Ensure that required disclosures for sales have been appropriately made
Audit procedure to establish Occurrence

1. To ensure that revenue is not overstated, auditor is required to perform the following audit
procedures:
• Check whether a single sales invoice is recorded twice or a cancelled sales invoice could also be
recorded.
• Test check few invoices with their relevant entries in sales journal.
• Obtain confirmation from few customers to ensure genuineness of sales transaction.
• Whether any fictitious customers and sales have been recorded.
• Whether any shipments were done without the consent and agreement of the customer,
especially at the year end to inflate the sales figure.
• Whether unearned revenue recorded as earned.
• Whether any substantial uncertainty exists about collectability.
• Whether customer obligations are contingent on other actions (financing, resale, etc.).
2. Review sequence of sales invoices.
3. Review journal entries for unusual transactions.
4. Calculate the ratio of sales return to sales and compare it with previous year and enquire for
the reasons for increase/decrease.
5. Check the sales return with sales invoice, challan, credit note, stock register, etc.
Audit procedure to establish Completeness

1. Perform cut-off procedures to ensure that revenues are recognized in the current accounting
period and sales were not tampered towards the period end.
2. Cut-off errors, will usually arise when companies recognize revenue based on the date on which
the sales invoices are generated rather than the date on which the risks and rewards are
transferred to the buyer.
3. Verify the credit notes issued after the accounting period. Sometimes sales team or sales
personnel can make fictitious sales before the year-end to meet performance target and cancel
out those sales with a post year end credit note.

4. Trace from the shipping documents to the sales journal.
5. Check whether quantity is appearing in sales register or not and check reconciliation of total
sales/goods dispatched as per stock records and financial records and statutory records like GST.
6. Review GST tax and GST returns and ensure that the same are reconciled with revenue reported
in the profit and loss account.
Audit procedure to establish Measurement
1. Trace a few transactions from inception to completion. (Examination in depth)
E.g.: Take few sales transaction, and check from the receipt of sales order to the payment of
receivable balance, every underlying document to ensure if it is properly recorded at every stage
and measured accurately taking into consideration all the incentives, discounts, if any.
2. If the client is engaged in export sales, then compliance with AS 11 shall be ensured.
3. Auditor must understand client's operations and related GAAP issues e.g. point of sale revenue
recognition vs. percentage of completion, wherever applicable.
4. Compare the rate of sales affected with related parties and review them for collectability, as well
as whether they were properly authorized and the value of such transactions were reasonable
and at arm's length.
Audit procedure in specific cases
Consignment sales
1. Verify terms of agreement between consignor and consignee to ascertain terms & conditions
regarding commission & other expenses.
2. Ensure that the goods consigned are not treated as ordinary sales.
3. Ensure that gross sale proceeds as mentioned in account Sales has been credited to
Consignment a/c and debited to consignee's a/c.
4. Ascertain that credit has been taken only for profit on the goods sold through the consignee
before the year end.
5. Ensure that stock lying with the consignee at the end should be taken in balance sheet at cost
and credited to Consignment A/c to arrive at the result of the consignment transactions.
6. Obtain confirmation of balance from the consignee.
7. In case, goods are consigned at invoice price, ensure that the necessary adjustments to remove
the loading have been made.
8. Examine the adjustments made at the year end in respect of the goods not yet sold, commission
and the expense incurred by consignee.
Good Sent out on Sale or Return basis
a) Check maintenance of separate memoranda records of goods sent out on sale or return. Only
after approval from customer, personal account of customer is debited and the sales account is
credited.
b) Ensure that price of such goods is unloaded from the sales account and the debtor's record
before the approval from customer.

c) In respect of goods for which approval period has expired, ensure that either goods have been
received back or customer's account have been debited.
d) In respect of goods for which approval period has not expired till the close of the year and lying
with the party, ensure that cost of such goods has been included in the closing stock.
Disclosure Requirements of Schedule III

Company shall disclose separately by way of notes on face of the Statement of Profit and Loss.
a) In respect of a company other than a finance company: Revenue from Operations Revenue
from.
i. Sale of products
ii. Sale of services
iii. Other operating revenues
Less: Excise duty.
b) In respect of a finance company: Revenue from Operations Revenue from
i. Interest; and
ii. Other financial services.
c) Brokerage and discount on sales other than usual trade discount to be disclosed separately.
d) Transactions with related parties to be disclosed appropriately in notes to accounts.
14. Audit of other Incomes (interest, Dividend, Profit/Loss on sale of Investments etc.)
Recognition of Income
Interest on Fixed Deposits
Interest income on fixed deposits is recognized on a time proportion basis taking into account
amount outstanding and the applicable interest rate.
Dividend
Dividends are recognized in the statement of profit and loss only when:
i. the entity's right to receive payment of the dividend is established;
ii. it is probable that the economic benefits associated with the
dividend will flow to the entity; and
iii. the amount of the dividend can be measured reliably.
Gain (Loss) on investments
Gain/ (loss) on sale of investment is recorded as other income on transfer of title from the entity
and is determined as the difference between the redemption price and carrying value of the
investments.
Assertions to be examined
Occurrence
Recorded other income was earned during the period.
Completeness

Other income earned during the period was appropriately recorded and there in no
understatement or overstatement.
Measurement
Other income has been measured appropriately as per the applicable accounting standards.
Required disclosures for other income have been appropriately made.
Audit Procedures - Interest on Fixed Deposits
• Obtain a list of all fixed deposits exist at the beginning of the year and newly made during the
audit, along with applicable interest rate and the number of days for which the deposit was made.
•Verity arithmetical accuracy of interest calculation by multiplying the deposit amount with the
applicable rate and number of days during the period under audit.
•For deposits outstanding as at the year end, obtain direct confirmation from the respective bank/
financial institution.
• Obtain a confirmation of interest income from the bank and verify that the interest income as
per bank reconciles to the calculation shared by the entity.
• Obtain a copy of Form 26AS (TDS) and reconcile the interest reflected therein to the calculation
shared by client.
Audit Procedures Dividend
Verify that the dividend is recognized in the statement of profit and loss only when the entity's
right to receive payment of the dividend is established, provided it is probable that the economic
benefits associated with the dividend will flow to the entity and the amount of the dividend can be
measured reliably.
Audit Procedures Gain (Loss) on sale of investment in Mutual Funds
• Verify that Gain/(loss) on sale of investment in mutual funds is recognized as other income only
on transfer of title from the entity and is determined as the difference between the redemption
price and carrying value of the investments.
• Obtain the mutual fund statement and trace the gain/ loss as recorded in the books of account
to the gain/loss as reflected in the statement.
Classification of Other Income
Other income shall be classified as:
I. Interest Income (except for a finance company)
II. Dividend Income
III. Net gain/loss on sale of Investments
IV. Other Non-0perating Income (net of expenses directly attributable to

such income)

Disclosure of Undisclosed Income
Company shall give details of any transaction not recorded in the books of account that has been
surrendered or disclosed as income during the year in the tax assessments under the Income-tax
Act, 1961 (such as, search or survey), unless there is immunity for disclosure under any scheme
and also shall state whether the previously unrecorded income and related assets have been
properly recorded in the books of account during the year.
15. Audit of Purchases

Audit Procedure
• Identify the control points over purchases.
• Tests the identified controls to determine how strong and reliable they are. If controls are
assessed as strong, the auditor can reduce the amount of substantive testing.
• Selects a random sample of transactions and examines the related purchase orders, Goods
received Note (GRN), purchase invoices, inward gate entry register and vendor reconciliation/
statements.
• Performing substantive audit procedures like vouching and Substantive Analytical Procedure
(SAP). SAP will consist of purchase trend analysis, comparison of purchase figures with previous
accounting period etc.
• Verification of revenue may be carried out by employing the following procedures:
a) Examination of records;
b) Analytical review procedures.
Occurrence
Ensure all purchases recorded in books of account represent goods actually received/ services
availed during the period.
Completeness
Ensure all purchases made during the period were recorded and there in no understatement or
overstatement.
Measurement
Ensure all purchases have been measured appropriately.
Ensure that required disclosures for purchases have been appropriately made.
Audit Procedure to establish Occurrence
Ensure purchases are not understated/overstated by performing following audit procedures:
1. Whether any fictitious vendors have been booked or purchases have been recorded by
reviewing vendor selection process followed by the entity and also performing procedures to
ensure existence of the vendors.
2. Whether the goods were received at the factory gate and whether there exists an entry in the
security gate inward register.
3. Whether quality inspection of goods was done.
4. Whether a goods receipt note was prepared and signed by an appropriate client personnel.

5. Whether the purchase invoice was approved as per delegation of authority.
6. Whether stock record has been updated by the store's personnel.
Special considerations during audit of purchases

1. Purchase invoice received should be the "Original" copy" against which the entity has recorded
the purchase in its books of account.
2. Purchase invoice should have been booked only once risk and reward incidental to ownership
has been transferred to the entity.
3. Purchase invoice should be in the name of entity.
4. Input tax component should have been booked in the input tax ledger.
5. In case of purchases made from related parties, verify if requisite approval from Board of
Directors has been obtained and verify the selected samples and perform analytical procedures
in relation to price of goods to confirm that price charged is at arm's length.
Audit Procedures to establish Completeness

1.Perform cut-off test to ensure that purchases are recognized in the correct accounting period.
For the purpose, the auditor should examine material inward records, say, last 5 transactions at
the period end to check that all corresponding invoices have been duly entered in the Purchases
book and none have been omitted.
2. Ensure correct accounting treatment of goods-in-transit as per the agreed terms with the
vendor regarding transfer of risk and reward of ownership in goods.
3. Obtain WR from the management that all the purchases that took place during the year have
been properly recorded in the books.
4. Perform analytical procedures to obtain audit evidence as to overall reasonableness of
purchase quantity and price.
Analytical Procedures
Analytical procedures to obtain audit evidence as to overall reasonableness of purchase quantity
and price may include:
I. Consumption Analysis: Examine consumption of raw material from

manufacturing account and compare the same with previous years with
closing stock and ask for the reasons from management for any
significant variations noticed.
II. Stock Composition Analysis: Collect reports from management for

composition of stock i.e. raw materials as a percentage of total stock &
compare the same with previous year and ask for reasons from
management for any significant variations noticed.
III. Ratios: Compare the creditor’s turnover ratios and stock turnover ratios
of the current year with previous years.
IV. Quantitative Reconciliation: Review quantitative reconciliation of

closing stocks with opening stock, purchases and consumption.

Ensure whether the following disclosures as required under Schedule III (Division 1) to Companies
Act, 2013 have been made:
1. Whether purchases of stock-in-trade have been specifically disclosed.
2. Whether changes in inventories of finished goods, stock-in-trade and work- in-progress have
been specifically disclosed.
3. Whether the transactions with related parties are appropriately disclosed in notes to accounts.
16. Audit of Employee Benefit Expense

Obtaining understanding as to hiring, appraisal and retirement process
a) Tests the controls the entity has set around employee benefit payment process to determine
how effective they are. If they are effective, auditor can reduce the substantive testing. Common
internal controls include maintaining attendance records, employee master, authorization of
monthly payroll processing and disbursement, computation of employee deductions like payroll
taxes, accrual of other benefits like gratuity, leave encashment, bonus etc.
b) Auditor selects a random sample of transactions and examines the related appointment letters,
appraisal letters, attendance records, HR policies, employee master etc.
c) Performing substantive audit procedures. Substantive analytical procedure will consist of
monthly expense reasonability, comparison with previous accounting period, setting an
expectation in relation to the expense incurred during the period under audit and compare that
with the client's business operations and overall trend in the industry.
Occurrence
Ensure employee benefit expenses recorded in books of account were actually incurred during
the period.
Completeness
Ensure that employee benefit expenses pertaining to the period have been recorded
appropriately and there in no understatement or overstatement.
Measurement
Ensure that employee benefit expenses have been measured appropriately.

Ensure that required disclosures for employee benefit expenses have been appropriately made.
Audit Procedure
• Obtain an understanding of process of recording employee attendance.
• Obtain a list of employees along with a monthly movement split between new hires, leavers and
continuing employees.
• In case of new employees, select few cases on random basis and obtain the appointment letter
and verify whether the salary for first month and subsequent months was processed as per the
agreed terms.

• In case of employees who resigned, select few cases on random basis and obtain their full and
final computation and verify whether all their dues including post-retirement benefits like gratuity,
leave encashment have been paid and whether the respective employee's acknowledgement on
final computation has been obtained.
• Obtain the monthly salary registers for complete year. Compile a monthly payroll reasonability
by calculating the average salary per employee per month and compare with the previous year
and preceding month.
• Verify whether provision has been made for all employee benefits and obligations like bonus,
gratuity, leave encashment.
• In case Provident Fund (PF), Employee State Insurance (ESI) are applicable to the entity.
Determine a reasonable amount by applying the rate to the basic wages and comparing to the
amount recorded in books and analyze reasons for variance, if any.
• Perform analytical procedures to obtain audit evidence as to overall reasonableness of employee
benefit expense.
Ensure whether employee benefit expense has been classified as:
• Salaries and Wages
• Contribution to Provident and Other Funds
• Expense on Employee Stock Option Scheme (ESOP) & Employee Stock Purchase Plan (ESPP)
• Staff Welfare Expenses
17. Audit of Depreciation and Amortisation

Attributes to be considered
Auditor needs to consider following attributes while verifying for depreciation and amortisation
expenses:
➢ Obtain understanding of entity's accounting policy related to depreciation & amortization.
➢ Ensure the Company policy for charging depreciation and amortisation is as per the
relevant provisions of Companies Act/applicable ASs.
➢ Accounting policy has been applied consistently. Change has been adequately disclosed.
➢ Whether depreciation has been calculated after making adjustment of residual value from
cost of the assets.
➢ Whether depreciation and amortisation charges are valid.
➢ Whether depreciation and amortisation charges are accurately calculated and recorded.
➢ Whether all depreciation and amortisation charges are recorded in appropriate period.
➢ Ensure the parts (components) of each item of PPE that are to be depreciated separately.
Occurrence
Recorded depreciation and amortisation expenses were actually incurred -during the period.
Completeness
Depreciation and amortisation expenses pertaining to the period have been recorded
appropriately and there in no understatement/ Overstatement

Measurement
Depreciation and amortisation expenses have been measured appropriately.

Required disclosures for depreciation and amotisation have been appropriately made.
Audit procedures
1. Obtain an understanding of entity's process of charging depreciation and amortization.
2. Obtain the fixed asset register maintained by the entity. Check the nature of asset from fixed
asset register; physically verify the fixed assets, at least the ones that are material in value.
3. Select sample of assets from the Fixed Assets Register, on materiality considerations and verify
the rates of depreciation and depreciation calculations.
4. Obtain the list of all the components identified by the management.
5. Ensure Intangible assets like patents, goodwill, copy rights have been properly amortized over
the period.
6. Ensure depreciation is charged on the assets from the date when it is ready to use and not from
the date of actual usage.
7. Ensure depreciation on revalued amount has been properly accounted from revaluation
reserve.
8. Perform analytical procedures to obtain audit evidence as to overall reasonableness of
depreciation and amortisation expense.
9. Ensure that the depreciation and amortization has been charged as per the useful lives of PPE
and intangible assets.
10. Ensure that residual values have been properly verified as that impacts the computation of
depreciation.
Disclosure Requirements
Ensure whether the following disclosures as required have been made:
a) accounting policy for depreciation and amortization.
b) Useful lives of assets as per Schedule II to the Companies Act, 2013.
c) Residual value of assets.
d) Depreciation method.
18. Audit of Other Expenses (Power & Fuel, Rent, Repairs, Insurance, Travelling etc.)
Attributes to be examined while vouching Expenses
➢ Whether the expenditure pertained to current period under audit;
➢ Whether the expenditure qualified as a revenue and not capital
expenditure;
➢ Whether the expenditure had a valid supporting documents like travel
tickets, insurance policy, third party invoice etc.;

➢ Whether the expenditure has been classified under the correct expense
head;
➢ Whether the expenditure was authorized as per the delegation of authority
matrix;
➢ Whether the expenditure was in relation to entity's business & not a
personal expenditure.
Occurrence
Recorded other expenses were actually incurred during the period.
Completeness
Other expenses pertaining to the period have been recorded appropriately and there in no
understatement or overstatement.
Measurement
Other expenses have been measured appropriately.
Presentation & Disclosure
Required disclosures for other expenses have been appropriately made.
Audit Procedures for Rent Expense
• Obtain a month wise schedule of rent payment along with the rent agreements.
• Examine whether rent expense has been recorded for all 12 months and whether the rent paid
is as per the underlying agreement.
• Whether agreement contains any escalation clause, if yes, verify whether rent has been
increased/adjusted during the period only as per escalation clause.
• Verify whether the agreement is in the name of the entity.
• Verify whether expense pertains to premises used for running business operations.
Audit Procedures for Power and fuel expense
• Obtain a month wise expense schedule of payment along with the power bills.
• Examine whether the expenses have been recorded for all 12 months.
• Compile a month wise summary of power units consumed and applicable rate and check the
arithmetical accuracy of the bill raised on monthly basis.
• Analyze monthly power units consumed by linking it to units of finished goods produced and
investigate reasons for variance in monthly trends.
Audit Procedures for Insurance expense
• Obtain a summary of insurance policies taken along with their validity period.

• Verify whether expense has been correctly classified between prepaid and expense for the
period based on number of days.
Audit Procedures for Legal and professional expenses
• Obtain a month wise and consultant wise summary.

• In case of monthly retainer ship agreements, verify whether expenditure for all 12 months has
been recorded correctly.
• For non-recurring expenses, select a sample on random basis and vouch for the attributes.
• Special focus should be given while vouching for legal expenses as the same may highlight a
dispute for which the entity may not have made any provision and the matter may also not have
been discussed/highlighted to the auditor for his specific consideration.
Audit Procedures for Travel, Repair & Maintenance, Printing & stationery, Misc. expenses
• Select a sample on random basis and vouch for the occurrence, completeness, measurement
and appropriate disclosure.
• Wherever possible, auditor should try and prepare a summary of expenditure on monthly basis
and then analytically compare the trends.
• In addition, auditor should perform analytical procedures to obtain audit evidence as to overall
reasonableness of other expense which may include expenditure per unit produced.
• Auditor should analyse expense per unit produced and compare the same with previous years
and prevent industry trends and ask for the reasons from Management If any significant variations
are found.
Disclosure Requirements
Ensure other expense have been classified under:
a) Rent
b) Insurance
c) Power and fuel
d) Repairs and maintenance -Building, Plant and machinery, others
e) Legal and professional
f) Printing and stationary
g) Travel expenses
h) Miscellaneous expenses

0ther Miscellaneous Provisions
19. Disclosure of CSR activities

Where the company is covered u/s 135 of the Companies Act, 2013, following shall be disclosed
with regard to CSR activities:
a) amount required to be spent by the company during the year,
b) amount of expenditure incurred,
c) shortfall at the end of the year,
d) total of previous years shortfall,
e) reason for shortfall,
f) nature of CSR activities,
g) details of related party transactions, e.g., contribution to a trust controlled by the company in
relation to CSR expenditure as per relevant AS,
h) Where a provision is made with respect to a liability incurred by entering into a contractual
obligation, movements in the provision during the year should be shown separately.
20. Details of Crypto Currency or Virtual Currency

Where the Company has traded or invested in Crypto currency or Virtual Currency during the
financial year, the following shall be disclosed:
a) profit or loss on transactions involving Crypto currency or Virtual Currency,
b) amount of currency held as at the reporting date,
c) Deposits or advances from any person for the purpose of trading or investing in Crypto
Currency/ virtual currency.
21. Details of Benami Property held

Where any proceedings have been initiated or pending against the company for holding any
benami property under the Benami Transactions (Prohibition) Act, 1988 and the rules made
thereunder, the company shall disclose the following:
a) Details of such property, including year of acquisition,
b) Amount thereof.
c) Details of Beneficiaries,
d) If property is in the books, then reference to the item in the Balance Sheet,
e) If property is not in the books, then the fact shall be stated with reasons,
f) Where there are proceedings against the company under this law as an abetter of the
transaction or as the transferor then the details shall be provided,
g) Nature of proceedings, status of same and company's view on same.
22. Relationship with Struck off Companies

Where the company has any transactions with companies struck off u/s 248 of the Companies Act,
2013, Company shall disclose the following details:

Name of struck off Nature of transactions with Balance Relationship with
Company struck off Company outstanding the Struck off
company, if any,
to be disclosed
Investment in Securities
Receivables
Payables
Shares held by struck off

company
Other outstanding balances

(to be specified)
23. Ratios
Following Ratios to be disclosed:
a) Current Ratio,
b) Debt-Equity Ratio,
c) Debt Service Coverage Ratio,
d) Return on Equity Ratio,
e) Inventory turnover ratio,
f) Trade Receivables turnover ratio,
g) Trade payables turnover ratio,
h) Net capital turnover ratio,
i) Net profit ratio,
j) Return on Capital employed,
k) Return on investment.
The company shall explain the items included in numerator and denominator for computing the
above ratios. Further explanation shall be provided for any change in the ratio by more than 25%
as compared to the preceding year.

AUDIT DOCUMENTATION
Chapter Overview
Audit Documentation – SA 230
Completion Memorandum
Retention of Working papers- SQC 1
SA 230 – Audit Documentation
Contents
• Nature & Purpose of Audit documentation

• Form, Content & Extent of Audit documentation
• Time limit, ownership and retention of working papers
• Permanent and Current Audit Files
1.1 Introduction
The auditor shall prepare audit documentation of the audit procedures performed and audit
evidence obtained on a timely basis.
Audit documentation – The record of audit procedures performed, relevant audit evidence
obtained, and conclusions the auditor reached (terms such as “working papers” or
“workpapers” are also sometimes used).
Documentation is synonymous with working papers. Audit working papers constitute all
documents
• prepared
• obtained
Audit done but not
• retained
documented is audit
by the auditor during the course of audit and the audit conclusions.
not done
Audit file contains the records (physical or electronic form) that
comprise the audit documentation for a specific engagement.
1.2 Nature & Purpose of Audit Documentation
Audit documentation mainly serves as an evidence:

(a) Evidence of the auditor’s basis for audit report; and
(b) Evidence that the audit was planned and performed in accordance with SAs and applicable
legal and regulatory requirements.

Audit
Documentation
answers
What did the How was the What are the What are the
Auditor do? audit done? observations? conlucsions?
1.2.1 Additional Purposes

• Assisting the engagement team to plan and perform the audit.
• Assisting members of the engagement team responsible for supervision to direct and
supervise the audit work.
• Enabling the engagement team to be accountable for its work.
• Retaining a record of matters of continuing significance to future audits.
• Enabling the conduct of quality control reviews and inspections.
• Enabling the conduct of external inspections in accordance with applicable legal,
regulatory or other requirements.
1.3 Form, Content & Extent
The form, content and extent of audit documentation depend on factors such as:
• size and complexity of the entity.
• nature of the audit procedures to be performed.
• identified risks of material misstatement.
• significance of the audit evidence obtained.
• nature and extent of exceptions identified.
• need to document a conclusion or the basis for a conclusion not readily determinable from the
documentation of the work performed or audit evidence obtained.
• audit methodology and tools used.
1.3.1 Form
Form
Physical Electronic
1.3.2 Content
What should be
documented?
Who
NTE of Audit Observations Conclusions performed,
verified &
reviewed

The auditor shall prepare audit documentation that is sufficient to enable an experienced auditor
to understand:
• The nature, timing, and extent of the audit procedures; (NTE)
• The results / observations of the audit procedures performed, and the audit evidence obtained;
and
• Significant matters arising during the audit and the conclusions reached thereon.
Experienced Auditor
An individual (whether internal or external to the firm) who has practical audit experience, and
a reasonable understanding of:
• Audit processes
• SAs and applicable legal & regulatory requirements
• Business environment in which entity operates
• Auditing and financial reporting issues
Auditor shall also record:

• The identifying characteristics of the specific items
If the auditor identified
or matters tested;
inconsistent information, the
• Who performed the audit work and the date such
auditor shall document how the
work was completed;
auditor addressed the
• Who reviewed the audit work performed and the date inconsistency.
and extent of such review?
1.3.3 Departure from SAs

If, in exceptional circumstances, the departures from SA, the auditor shall document the reasons
for the departure and alternative procedures performed.
1.3.4 Matters arising after the Date of the Auditor’s Report

If, in exceptional circumstances, the auditor performs new or additional audit procedures or draws
new conclusions after the date of the auditor’s report, the auditor shall document:
• The circumstances encountered;
• The new or additional audit procedures performed, audit evidence obtained, and conclusions
reached, and their effect on the auditor’s report; and
• When and by whom the changes to audit documentation were made and reviewed.
1.4 Time limit for Documentation
Auditor should, ideally document contemporaneously. That means as the work is being done,
documentation should happen simultaneously.
The auditor shall finally assemble the audit

documentation in an audit file and complete the
administrative process of assembling the final audit
file on a timely basis after the date of the auditor’s SQC 1 suggests maximum period of
report. 60 days from the date of auditor’s
report for completion of assembly of
Assembly of final audit file: audit files
SQC-1 requires firm to establish policies and
procedures for timely completion of assembly of audit files.
Preparation Period ➔ Within 60 days from the date of audit period.

Retention Period ➔ Minimum 7 years from the date of audit period.
After the assembly, the auditor shall not delete audit documentation before the end of its
retention period.
1.5 Ownership of Audit Documents
Auditor owns audit documents but he can make copies available to the client or to any person
authorized by the client.
Auditor is prohibited from disclosing confidential client information without management

consent.
The auditor’s property rights are subject to

limitations of the Chartered Accountants Act, 1949,
As per SQC – 1, unless otherwise
which prohibits disclosure of confidential client
specified by law or regulation, Audit
information without the managements consent except
when required by the law. documentation is the property of
the auditor.

1.6 Retention of Audit Documentation
There are no explicit rules relating to the retention of working papers. They should be retained as
long as the auditor opines them to be useful in servicing the client or to comply with legal or
professional requirements.
SQC 1 requires retention of working papers to be at least for 7 years from the date of auditor’s
report.
1.7 Filing of working papers
Although audit of each entity is unique in itself, a general approach to the arrangement/
organization of working papers can be adopted.
Audit Files
Recurring Audit One time Audit
Permanent Audit File

Audit File Current File
Information relevant for Relevant for currrent

subsequent periods also period only
1.7.1 Permanent Audit File

Permanent audit file should contain information, which is of continuing interest and relevance to
succeeding audits.
Much of the information contained in this file is collected in the first audit and
is updated for each subsequent audit.
Contents of Permanent Audit File

• Information regarding legal and organizational structure of the entity (e.g. partnership deed in
case of a partnership firm).
• Extracts or copies of important legal documents, agreements and minutes relevant to the audit
(e.g. lease agreement, contracts with major suppliers and so on).

• Record of study and evaluation of internal controls related to accounting system (e.g. flow
charts, questionnaires, narrative descriptions and observations concerning the strengths,
weaknesses and action taken by the company to eliminate weaknesses).
• Copies of audited financial statements for previous years.
• Analysis of significant ratios and trends (e.g. changes in ratios such as gross profit, current
ratio and rate of return on shareholder’s equity helps the auditor in identifying areas where
there are unusual changes during the year, and which require special attention).
• Copies of management letters issued by the auditor, if any (e.g. management letter).
• Record of communication with the retiring auditor, if any.
• Notes regarding significant accounting policies.
• Significant audit observations of earlier years.
1.7.2 Current File

Current audit file contains information relating to and relevant to the audit of current period. The
following information may be filed in the current audit file:
• Correspondence relating to acceptance of annual re-appointment.
• Extracts of important matters in the minutes of the board meetings and general meeting as
are relevant to audit (e.g. minutes relating to declaration of dividend).
• Audit plan and audit program.
• Analysis of transactions and balances (e.g. age- wise analysis of debtors).
• Record of audit procedures and their results (e.g. test checking of purchase invoices to
vouch payments for purchases).
• Evidence regarding the supervision and review
of the work of assistants.
• Copies of communication with other auditors
It is not necessary to document
(e.g. branch auditor), experts (e.g. lawyers,
separately compliance with SAs if it is
architects) and other third parties (e.g. banks,
demonstrated by documents included
debtors).
within the audit file.
• Copies of letters or notes concerning audit
matters communicated to or discussed with
client.
• Management representations.
• Auditor’s conclusions regarding significant matters.
• Copies of financial statements being reported on and the related audit report.
Documentation of the professional judgments made explain the auditor’s conclusions and
are required for
(i) reviewing audit documentation,

(ii) subsequent audits, when reviewing matters of continuing significance
1.7.3 Audit Completion Memorandum

It is a summary of audit approach planned and performed including the results and conclusions.
It helps auditors to consider whether the conclusions reached are appropriate and backed with
appropriate supporting.

1.8 Audit Note Book
Audit Note Book contains information regarding day-to-day work performed by the audit staff on
any particular date. It is maintained by the audit staff to record important points observed, errors,
doubtful queries, explanations and clarifications to be received from the clients.
Audit note book should contain General information & current information.
1.8.1 General Information

• Nature of business
• Important provisions of MOA & AOA
• Structure of organisation
• List of books of accounts
• Name of principal officers, duties and responsibilities
• Particulars of accounts and internal controls, financial policies
• Significant contracts
1.8.2 Current Information

• Audit queries not cleared
• Mistakes or irregularities observed
• Unsatisfactory book-keeping arrangements
• Important information about company, not forming part of the accounts
• Special points requiring consideration at the time of verification of final accounts
• Important matters for future reference.
Completion Memorandum or Audit Documentation Summary
i. The auditor may consider it helpful to prepare and retain as part of the audit documentation a summary
(sometimes known as a completion memorandum) that describes-
• the significant matters identified during the audit and
• how they were addressed.
ii. Such a summary may facilitate effective and efficient review and inspection of the audit documentation,
particularly for large and complex audits.
iii. The preparation of such a summary may assist auditor’s consideration of the significant matters.
iv. It may also help the auditor to consider whether there is any individual relevant SA objective that the
auditor cannot achieve that would prevent the auditor from achieving the overall objectives of the
auditor.
Ownership of Audit Documentation
• Standard on Quality Control (SQC) 1 provides that, unless otherwise specified

by law or regulation, audit documentation is the property of the auditor.
• He may at his discretion, make portions of, or extracts from, audit documentation available to
clients, provided:
(i) such disclosure does not undermine the validity of the work performed, or,
(ii) in the case of assurance engagements, the independence of the auditor or of his
personnel.

Chapter 7
Completion and Review
Introduction
After the auditor has done the substantive testing, there are still many procedures that need to be performed
before they can sign the auditor’s report.
Evalualtion of misstements ( SA
Subsequent Events ( SA 560) Going concern (SA 570)
450)
Communicating deficiences in
Written Representation (SA Communication with TCWG (SA
internal control to TCWG (SA
580) 260)
265)
SA 560 – Subsequent Events
1.1 Important Dates
1.1.1 Date of Financial Statements

The date of the end of the latest period covered by the financial statements.
1.1.2 Date of approval of Financial Statements

The date on which financial statements, including the related notes, have been prepared and those
with the recognised authority have asserted that they have taken responsibility for those financial
statements i.e. in case of a company the date board of directors sign and adopt the accounts.
1.1.3 Date of the Auditor’s Report

The date the auditor dates the report on the financial statements in accordance with SA
700(Revised).
1.1.4 Date the Financial Statements are issue

The date that the auditor’s report and audited financial statements are made available to third
parties.
31 Mar 20 Board
Year End Meeting AGM
Financial 
Year FS FS Approval Audit Report FS Issue
(2019-20) Date Date Date Date

1.2 Subsequent events
Events occurring between the date of the financial statements and the date of
the auditor’s report, and facts that become known to the auditor after the date
of the auditor’s report.
Financial Statements are prepared for a particular period after the period ends and are issued to
members for adoption at a later date and in between the management adopts them and auditor
authenticates them.
Subsequent events are during the date of financial statements to date of authentication by the
auditor. The subsequent events as per AS 4 is slightly different from that given under SA 560

Subsequent Events as
per AS 4
Type 1 Type 2
Events which provide additional

No circumstances existing on the
evidence to circumstances
balance sheet date. These events
already existing on the balance
are fresh occurences
sheet date
Do they affect
Going Concern?
Yes No
Material Not Material
Adjust financial Adjust financial

Diclose Ignore
statements Statements
1.2.1 Auditor’s Objective

• Obtain sufficient appropriate audit evidence about subsequent events that require
adjustment of, or disclosure in, the financial statements are appropriately reflected in those
financial statements; and
• Respond appropriately to facts that become known to the auditor after the date of the
auditor’s report, that, had they been known to the auditor at that date, may have caused the
auditor to amend the auditor’s report.
1.3 Auditor’s Scope
The auditor is not expected to perform additional audit procedures on matters

to which previously applied audit procedures have provided satisfactory
conclusions.
Financial reporting frameworks ordinarily identify two types of events:

• Those that provide evidence of conditions that existed at the date of the financial statements;
and
• Those that provide evidence of conditions that arose after the date of the financial statements.
1.4 Audit Procedures
• Obtain an understanding of the procedures through which management has identified

subsequent events.
• Inquiring of management as to occurrence of Subsequent events which affect the financial
statements.

• Read minutes of management meetings that have been held after the date of the financial
statements.
• Read the entity’s latest subsequent interim financial statements, if any.
• If auditor identifies events that require adjustment or disclosure in the financial statements,
the auditor should determine whether each such event is appropriately reflected in the
• Obtain management Representation
1.5 Revision of Financial Statements by Management
Revision of
Financial Statements
After Issue of
Before Audit Report After Audit Report Financial
Statements
Reopening of
Audit Report on
Dual Dated Financial
Revised financial New Audit Report
Report Statements if
statements
permitted by law
1.6 Events between FS Date and Audit Report Date
1.6.1 Identification of Subsequent Events

• The auditor shall perform audit procedures designed to obtain sufficient appropriate audit
evidence that all events occurring between the date of the financial statements and the date
of the auditor’s report that require adjustment of, or disclosure in, the financial statements
have been identified.
• The auditor is not expected to perform additional audit procedures on matters to which
previously applied audit procedures have provided satisfactory conclusions
1.6.2 Specific Procedures

• Understand the procedure for identification of Subsequent events
• Inquire with management regarding subsequent events
• Reading minutes of meetings of board and general meetings that have taken place after the
balance sheet date
• Reading the entity’s latest subsequent interim financial statements, if any.
1.6.3 Financial Statement Review

Review FS to ascertain events requiring adjustment or disclosures in accounts.
1.6.4 Management Representation

Written representation shall be obtained from management regarding appropriate identification
and treatment of subsequent events

1.7 Facts which become known to the Auditor after Audit Report Date but before FS
Issue date
1.7.1 Discussion with Management

If auditor comes to know of a fact after the date of the
auditor’s report but before the date the FS are issued,
and had it been known to the auditor at the date of the The auditor has no obligation to
auditor’s report, may have caused the auditor to amend perform any audit procedures
the auditor’s report, then the auditor shall regarding the FS after the audit
• Discuss the matter with management and, where report date.
appropriate, those charged with governance.
• Determine whether the financial statements need amendment and
• If so, inquire how management intends to address the matter in the financial statements.
1.7.2 Amendment of FS and Issue of new audit report

If management amends the financial statements, the auditor shall
• Carry out the audit procedures necessary in the
circumstances on the amendment.
• If amendment prohibited or not allowed or by law or The new auditor’s report
regulation: shall not be dated earlier
▪ Extend the audit procedures referred to above to the than the date of approval of
date of the new auditor’s report; and the amended FS
▪ Provide a new auditor’s report on
the amended financial statements.
1.7.3 Dual Dating of new para in audit report

When law, regulation or the financial reporting framework does not prohibit management from
restricting the amendment of the financial statements to the effects of the subsequent events or
events causing that amendments and those responsible for approving the financial statements
are not prohibited from restricting their approval to that amendment i.e. amendment on account
of subsequent events is permitted auditor’s shall
• Amend the auditor’s report to include an additional date restricted to that amendment E.g.
“(Date of auditor’s report), except as to Note Y, which is as of (date of revised report)”; or
• Provide a new or amended auditor’s report that includes a statement in an Emphasis of Matter
paragraph or Other Matter

1.7.4 Management doesn’t amend as law does not provide but auditor believes they need
to be amended
Auditors' Apporach
Audit Report not Audit report

yet given to entity already given
Modify opinion FS issued without FS not issued yet

amendments
Take appropriate Notify TCWG not to

action, to seek to issue the financial
prevent reliance on statements
the auditor’s report
1.8 Facts, which become known to the Auditor after FS issue date
1.8.1 Discussion with Management

When, after the financial statements have been issued, a
fact becomes known to the auditor that, had it been
known to the auditor at the date of the auditor’s report, After the FS have been issued,
may have caused the auditor to amend the auditor’s the auditor has no obligation
report, the auditor shall to perform any audit
i. Discuss the matter with management and, where procedures.
appropriate, those charged with governance
ii. Determine whether the financial statements need amendment and, if so,
iii. Inquire how management intends to address the matter in the financial statements.
1.8.2 Amendment to FS by management

• Carry out the audit procedures necessary in the circumstances on the amendment.
• Review the steps taken by management to ensure that anyone in receipt of the previously
issued financial statements together with the auditor’s report thereon is informed of the
situation.
• Unless the Dual dating procedure applies:
▪ Extend the audit procedures to the date of the new auditor’s report, and the date the new
auditor’s report no earlier than the date of approval of the amended financial statements;
and
▪ Provide a new auditor’s report on the amended financial statements.
• When the circumstances in Dual dating para apply, amend the auditor’s report, or provide a
new auditor’s report.
1.8.3 Emphasis of Matter paragraph or Other Matter(s) paragraph

The auditor shall include in the new or amended auditor’s report an Emphasis of Matter paragraph
or Other Matter(s) paragraph referring to a note to the financial statements that more extensively
discusses the reason for the amendment of the previously issued financial statements and to the
earlier report provided by the auditor.

1.8.4 Special Control Action when Management not in agreement with Auditor
• If management does not take the necessary steps to ensure that anyone in receipt of the
previously issued financial statements is informed of the situation and does not amend the
financial statements in circumstances where the auditor believes they need to be amended,
the auditor shall notify management and,
• If, despite such notification, management or TCWG do not take these necessary steps, the
auditor shall take appropriate action to seek to prevent reliance on the auditor’s report.
1.9 Written Representation
The auditor shall request the management or TCWG to provide a written representation that all
events occurring subsequent to the date of the financial statements and requires adjustment or
disclosure have been adjusted or disclosed.
1.10 Specific Inquiries
The auditor is required to obtain sufficient & appropriate audit evidence to ensure that events
which require adjustments or disclosure in the financial statements have been identified.
For this purpose, auditor is required to inquire the management as to occurrence of Subsequent
events which affect the financial statements.
Specific inquiries include the following:

• new commitments, borrowings or guarantees have been entered into.
• sales or acquisitions of assets have occurred or are planned.
• increases in capital or issuance of debt instruments, such as the issue of new shares or
debentures, or an agreement to merge or liquidate has been made or is planned.
• assets appropriated by government or destroyed, for example, by fire or flood.
• any developments regarding contingencies.
• unusual accounting adjustments made or are contemplated.
• events occurred or are likely to occur that affect the
▪ appropriateness of accounting policies used in the financial statements or
▪ going concern assumption.
▪ measurement of estimates or provisions made in the financial statements.
▪ relevant to the recoverability of assets.
1.11 Questions
1) Explain the meaning of term “Subsequent Events” as used in SA 560. Should all types of
subsequent events be considered by the auditor in attest functions.
[May 12 (8 Marks)]
2) “The auditor should consider the effect of subsequent events on the financial statements
and auditor’s report according to SA 560”. Comment.
[MTP-Oct. 19]
3) The auditor shall perform audit procedures designed to obtain sufficient appropriate audit
evidence that all events occurring between the date of the financial statements and the
date of the auditor’s report that require adjustment of, or disclosure in, the financial
statements have been identified. Explain. [RTP-May 19]
4) The auditor has no obligation to perform any audit procedures regarding the financial
statements after the date of the auditor’s report. However, when, after the date of the
auditor’s report but before the date the financial statements are issued, a fact becomes

known to the auditor that, had it been known to the auditor at the date of the auditor’s
report, may have caused the auditor to amend the auditor’s report. Explain the auditor’s
obligation in the above situation. [RTP-May 20]
5) Enquiry from management is helpful for auditor to evaluate subsequent events. Discuss
specific enquiries in reference of SA 560, which might have effect on the financial
statements. [Nov. 14 (5 Marks)]
6) In the context of SA 560 “Subsequent events”, state specific enquiries on matters by an
auditor which may have effect on Financial Statements.
[Nov. 17 (5 Marks)]
SA 450 - Evaluation of Misstatements Identified During the Audit
Introduction
Auditor’s Objective is to evaluate:

• The effect of identified misstatements on the audit; and
• The effect of uncorrected misstatements, if any, on the financial statements
After applying the provisions of SA 700 and SA 320.
Important Terms
Misstatement
A difference between the amounts, classification, presentation, or
disclosure of a reported financial statement item and the amount, Misstatements can
classification, presentation, or disclosure that is required for the item arise from error or
to be in accordance with the applicable financial reporting fraud.
framework.
Misstatements also include those adjustments of amounts, classifications, presentation, or

disclosures that, in the auditor’s judgment, are necessary for the financial statements to give a
true and fair view or present fairly, in all material respects.
Misstatements may result from:
• An inaccuracy in gathering or processing data

• An omission of an amount or disclosure; Misstatements can be by
• An incorrect accounting estimate arising from overstating or understating of
overlooking, or clear misinterpretation of facts; and account balances through
• Judgments of management concerning accounting fraud or error.
estimates which are unreasonable or
inappropriate.

Uncorrected Misstatements
Misstatements that the auditor has accumulated during the audit and that
have not been corrected.
Identified Misstatements
Accumulation
The auditor shall accumulate misstatements identified during the audit, other than those that are
clearly trivial.
Revision of audit strategy & audit plan

The auditor shall determine whether the overall audit strategy and audit plan need to be revised
if
• The nature of identified misstatements and the circumstances of their occurrence indicate that
other misstatements may exist that, all such identified and probable misstatements together
could be material or
• The aggregate of misstatements accumulated during the audit approaches materiality.
Additional Procedures
If management, on auditor’s request has
• examined a class of transaction, account balance or disclosure and

• corrected misstatements that were detected;
then the auditor shall perform additional audit procedures to determine whether misstatement
remains
Communication and Correction of Misstatements
Communication
The auditor shall communicate on a timely basis all misstatements, accumulated during the audit,
with the appropriate level of management, unless prohibited by laws or regulation.
Misstatments to be
communicated as
Factual Judgemental Projected
Appropriate level of management is the one that has responsibility and

authority to evaluate the misstatements and to take the necessary action.

Correction
The auditor shall request management to correct those misstatements. If management refuses to
correct some or all the misstatements communicated by the auditor, the auditor shall obtain an
understanding of management’s reasons for not making the corrections.
Accumulation
Communication
Auditor shall
communicate all Correction
Auditor shall
identified communicate on a
misstatements Audito shall request
timely basis to the management to
appropriate level of correct identified
manangement misstatment and if
management refuses
auditor shall obtain
reasons for the same
Evaluating the Effect of Uncorrected Misstatements
Reassess Materiality
Prior to evaluating the effect of uncorrected
misstatements, the auditor shall reassess materiality
determined in accordance with SA 320 to confirm The auditor shall determine
whether it remains appropriate in the context of the whether uncorrected
entity’s actual financial results misstatements are material,
individually or in aggregate.
In making this determination, the auditor shall consider
• The size and nature of the misstatements, both in relation to particular item and the financial
statements as a whole and
• The effect of uncorrected misstatements related to prior periods on the relevant account
balance and the financial statements as a whole.
Communication with Those Charged with Governance
The auditor shall communicate (unless prohibited by law or regulation) with those charged with
governance
• Material uncorrected misstatements (individually) and
• the effect that they individually or in aggregate, related to
▪ current period
▪ prior periods

Written Representations
• The auditor shall request a written representation from management and where appropriate,
those charged with governance, whether they believe the effects of uncorrected
misstatements are immaterial, individually and in aggregate, to the financial statements as a
whole
• A summary of such items shall be included in or attached to the written representation
Documentation
• The amount below which misstatements would be

regarded as clearly trivial
• Summary of differences - All misstatements Clearly trivial is not another
accumulated during the audit expression for “not
• Communications made to the management material”.
Matters that are “clearly trivial” are matters that are clearly inconsequential, whether taken
individually or in aggregate and whether judged by any criteria of size, nature or circumstances.
When there is any uncertainty about whether one or more items are clearly trivial, the matter is
considered not to be clearly trivial
• Responses received from management

• Whether misstatements communicated have been corrected / resolved or not and the
reasons for not resolving
• The auditor’s conclusion as to whether uncorrected misstatements are material, individually
or in aggregate, and the basis for that conclusion.
• The effect of uncorrected misstatements on the Audit Report.
SA 570 – Going Concern
1.12 Going Concern basis of Accounting
Under the going concern basis of accounting, the financial statements are
prepared on the assumption that the entity is a going concern and will
continue its operations for the foreseeable future.
As per AS-1 “Disclosure of Accounting Policies, financial statements are prepared on the basis of
three assumptions
• Going Concern
• Consistency

• Accrual.
An entity’s continuance as a going concern for a

foreseeable future is assumed in the preparation of Special purpose financial
general purpose financial statements in the absence of statements may or may not be
information to the contrary. prepared based on going
concern basis of accounting.
When the use of the going concern basis of accounting
is appropriate, assets and liabilities are recorded on the
basis that the entity will be able to
• realize its assets and
• discharge its liabilities If this assumption is
in the normal course of business. unjustified, the value of assets
and liabilities may need
adjustment.
1.12.1 Responsibility of assessment for Going Concern
Assumption
It is management’s responsibility to assess the
applicability and appropriateness of Going concern
Management’s assessment of the
assumption to the entity and make appropriate
disclosures, whether the financial reporting entity’s ability to continue as a
framework explicitly requires the management to do going concern involves making a
so or not. judgment
1.12.2 Factors relevant for the assessment

The following factors are relevant to that judgment:
• The degree of uncertainty associated with the outcome of an event or condition
• The size and complexity of the entity, the nature and condition of its business and the degree
to which it is affected by external factors
• Information available at the time of the judgment
1.12.3 Auditor’s Responsibilities

• Obtain sufficient appropriate audit evidence regarding the appropriateness of management’s
use of the going concern basis
• Conclude that no material uncertainty exists about the entity’s ability to continue as a going
concern.
The absence of any reference to a material uncertainty about the entity’s ability to continue as
a going concern in an auditor’s report cannot be viewed as a guarantee as to the entity’s ability
to continue as a going concern.
1.13 Objectives of the Auditor
• Whether management has appropriately addressed going concern issue in financial

statements?
• Is there any audit evidence to render going concern assumption inappropriate?
• Implications of going concern questionability on Auditors report

1.14 Risk Assessment Procedures
1.14.1 Events or Conditions affecting entity’s ability to continue

Auditor shall review whether there are any events or conditions that may cast significant doubt on
the entity’s ability to continue as a going concern.
Auditor can know about such events or conditions through the following:
• Analysing and discussing cash flow, profit and other relevant forecasts with management.
• Analysing and discussing the entity’s latest available interim financial statements.
• Reading the terms of debentures and loan agreements and determining whether any have
been breached.
• Reading minutes of the meetings of shareholders, those charged with governance and
relevant committees for reference to financing difficulties.
• Inquiring of the entity’s legal counsel regarding the existence of litigation and claims and the
reasonableness of management’s assessments of their outcome and the estimate of their
financial implications.
• Confirming the existence, legality and enforceability of arrangements to provide or maintain
financial support with related and third parties and assessing the financial ability of such
parties to provide additional funds.
• Evaluating the entity’s plans to deal with unfilled customer orders.
• Performing audit procedures regarding subsequent events to identify those that either
mitigate or otherwise affect the entity’s ability to continue as a going concern.
• Confirming the existence, terms and adequacy of borrowing facilities.
• Obtaining and reviewing reports of regulatory actions.
• Determining the adequacy of support for any planned disposals of assets
1.14.2 Preliminary Assessment

In doing the review, the auditor shall determine whether management has already performed a
preliminary assessment of the ability to continue as a going concern
Preliminary Assessment
Performed by Not performed by

Management Management
• Preliminary Assessment performed by management

▪ Discuss the assessment with management and
▪ Determine whether management has identified
events or conditions that may cast significant doubts Assessment should have been
on the entity’s ability to continue as a going concern. done for a minimum of 12
▪ If so, understand management’s plan to address them months from the date of
financial statements
• Preliminary Assessment NOT performed by
management
▪ Discuss with management the basis for the intended use of going concern assumption and
▪ Inquire of management whether events or conditions exist that may cast significant doubt
on the entity’s ability to continue as a going concern
• The auditor shall remain alert throughout the audit for audit evidence of events or conditions

that may cast significant doubt on the entity’s ability to continue as a going concern
1.14.3 Evaluation of management’s assessment

• Assessment should have been done for a minimum of 12 months from the date of financial
statements. If laws governing enterprise mandate a period in excess of 12 months, the same
shall be verified.
If management is unwilling to make or extend its assessment when requested to do so by the

auditor, the auditor shall consider the implications for the auditor’s report.
• Auditor shall consider whether management’s assessment includes all relevant information of
which the auditor is aware as a result of the audit.
Period beyond management’s assessment

The auditor shall inquire of management as to its knowledge of events or conditions beyond
the period of management’s assessment that may cast significant doubt on the entity’s ability
to continue as going concern
1.15 Additional Audit Procedures
Auditor shall perform additional audit procedures when events or conditions that may cast
significant doubt on entity’s ability to continue as going concern are identified
• Obtain sufficient appropriate audit evidence whether there is any material uncertainty
• Request management to make its assessment if not made yet
• Evaluate management’s plans for future actions in relation to its going concern assessment,
whether the plans are feasible
• Whether the entity has prepared cash flow forecast and, in that regard,
▪ Evaluating the reliability of the underlying data generated to prepare the forecast
▪ Determine whether there is adequate support for the assumptions underlying the
forecast.
• Considering whether any additional facts or information have become available since the date
on which management made its assessment.
• Request for management representation regarding future actions and the feasibility of such
plans
1.16 Auditor Conclusions
Auditor shall conclude whether a material uncertainty exists related to events or conditions that
may cast significant doubt on the entity’s ability to continue as a going concern
If yes, and auditor believes that its potential impact and likelihood of occurrence is such that it
requires appropriate disclosure of the nature and implications of the uncertainty to ensure:
• fair presentation of the financial statements, or
• financial statements not to be misleading.

Auditor's Evaluation
(of Managment's Assessment of Going Concern Assumption)
Assumption is not Assumption is

appropriate Appropriate
Material Material
Uncertainty doesnt Uncertainity Exists
exist
Adequate Adequate
Disclosure not Disclosure made
made in FS in FS
1.17 Going Concern appropriate but material uncertainty exists
1.17.1 Auditor’s Approach

When the auditor concludes that the use of the going concern assumption is appropriate in the
circumstances, but a material uncertainty exists, the auditor shall determine whether the financial
statements:
• Adequately describe
▪ the principal events or conditions and
▪ management’s plans to deal with these events or conditions; and
• Disclose clearly that

▪ there is a material uncertainty related to events or conditions that may cast significant
doubt on the entity’s ability to continue as a going concern and,
▪ it may be unable to realize its assets and discharge its liabilities in the normal course of
business.
1.17.2 Reporting Requirements

• Adequate Disclosure made in FS
The auditor shall express an unmodified opinion and include an Emphasis of Matter paragraph in
the auditor’s report to:
▪ Highlight the existence of a material uncertainty relating to the event or condition that may
cast significant doubt on the entity’s ability to continue as a going concern; and
▪ Draw attention to the note in the financial statements
• Adequate Disclosure not made in FS

▪ Express a qualified or adverse opinion, as appropriate, and
▪ State in his report that there is a material uncertainty that may cast significant doubt about
the entity’s ability to continue as a going concern
1.18 Going Concern Appropriate

If the financial statements have been prepared on a going concern basis but, in the auditor’s
judgment, management’s use of the going concern assumption in the financial statements is
inappropriate, the auditor shall express an adverse opinion.
1.19 Communication with TCWG
The auditor shall communicate with those charged with governance events or conditions
identified that may cast significant doubt on the entity’s ability to continue as a going concern.
Such communication shall include the following:
• Whether the events or conditions constitute a material uncertainty;
• Whether the use of the going concern assumption is appropriate in the preparation and
presentation of the financial statements; and
• The adequacy of related disclosures in the financial statements
1.20 Significant Delay in the Approval of Financial Statements
When there is significant delay in the approval of the financial statements by management or
those charged with governance after the date of the financial statements, the auditor shall
• inquire as to the reasons for the delay
• perform additional audit procedures necessary if the auditor believes delay could be due
to events relating to the going concern assessment
• consider the effect on the auditor’s conclusion regarding the existence of a material
uncertainty.
ICAI has clarified vide general clarification that the auditor should comment on going concern
of those companies who have not complied with the amended Sec 3 of the Companies Act
1956 regarding minimum paid up capital of Rs. 1Lakh for private and Rs.5 Lakhs for public
companies
1.21 Implication on Audit reports in different scenarios
Going Concern
Assumption
Appropriate Not appropriate
Material Uncertainity Material Uncertainty

doesn't exists exist
Adequare disclosure Adequare disclosure

made not made
Unmodified Unmodified Qualified/ Adverse

Opinion opinion & Adverse Report
Emphasis of Opinion
Matter

1.22 ICAI Clarification
ICAI has clarified vide general clarification that the auditor should comment on
going concern of those companies who have not complied with the amended
Sec.3 of the Companies Act 1956 regarding minimum paid up capital of Rs.
1Lakh for private and Rs.5 Lakhs for public companies
1.23 Indicators of potential Going concern problem
The entity’s inability to continue as a going concern may be indicated by indicated by

various factors. Some potential indicators
1.23.1 Financial Indicators

• Net liability or net current liability position.
• Fixed-term borrowings approaching maturity without realistic prospects of renewal
• Indications of withdrawal of financial support by creditors.
• Negative operating cash flows indicated by historical or prospective financials
• Adverse key financial ratios.
• Substantial operating losses or significant deterioration in the value of assets used to generate
cash flows.
• Arrears or discontinuance of dividends.
• Inability to pay creditors on due dates.
• Inability to comply with the terms of loan agreements.
• Change from credit to cash-on-delivery transactions with suppliers.
• Inability to obtain financing for essential new product development.
1.23.2 Operating Indicators

• Management intentions to liquidate the entity or to cease operations.
• Loss of key management without replacement.
• Loss of a major market, key customer(s), franchise, license, or principal supplier(s).
• Labour difficulties.
• Shortages of important supplies.
• Emergence of a highly successful competitor.
1.23.3 Other Indicators

• Non-compliance with capital or other statutory requirements.
• Pending legal or regulatory proceedings against the entity that may, if successful, result in
claims that the entity is unlikely to be able to satisfy.
• Changes in law or regulation or government policy expected to adversely affect the entity.
• Uninsured or underinsured catastrophes when they occur
1.24 Case Study
• Case
A company has eroded its net worth and it also has high debts and received a waiver from bank
for interest payments.

• Management’s Response
The banks have confidence in our ability as a going concern, hence the waiver. The banks certainly
are not going to grant a waiver to a company it feels does not have ability to pay its debts.
• Evaluation
Though there is a risk of going concern for the organization, but if the banks weren’t confident
enough that the company will make profits and repay loan, they would not have sanctioned a
waiver.
This is one of the examples of getting comfort over going concern risk mitigation.
1.25 Questions
1) On the basis of which assumption, the financial statements of a company are prepared.
Explain. Also describe the objectives of the auditor regarding going concern. [RTP-May 19]
2) When the use of the going concern basis of accounting is appropriate, assets and liabilities are
recorded on the basis that the entity will be able to realize its assets and discharge its liabilities
in the normal course of business. Explain stating also the objective of the auditor regarding
going concern. [RTP-Nov. 19]
3) Write short note on: Procedures to be performed by the auditor in expressing opinion on
‘going concern’ assumption. [Nov. 10 (4 Marks)]
4) Explain with reference to relevant SA: Appropriateness of going concern assumption.
5) Explain going concern assumption with reference to SA 570. State some financial events or
conditions that may case doubt about going concern assumption. [May 12 (8 Marks)]
6) Discuss with reference to SAs: Operating conditions that may case doubt going concern
assumption. [May 14 (5 Marks)]
SA 580 – Written Representations
1.26 Written Representation
Written statement by management provided to the auditor to confirm

certain matters or to support other audit evidence.
Preparation and presentation of financial

statements in accordance with applicable financial
reporting framework is the responsibility of the Written representations in this
management. context do not include financial
statements, the assertions therein or
Written representations are necessary information supporting books and
that the auditor requires in connection with the audit, records.
hence they are recognised as audit evidence as a
response to inquiries.

Although written representations provide necessary audit evidence, they do not provide sufficient
appropriate audit evidence on their own about any of the matters with which they deal.
Auditor requires the written representation from the management to support other audit
evidence relevant to the Financial Statements. or specific assertions in the Financial Statements
1.26.1 Essential Features
Written
Representations
Given by Given to Why When Mode
Assurance Before
Management Auditor (audit issuance of Written
evidence) audit report
2.
2.1 Areas in which Written Representations are required
2.1.1 Management’s Responsibility
• All transactions have been recorded and reflected in financial statements
• Financial statements are prepared as per relevant financial reporting framework
• Information in this regard given to auditor as per the engagement terms
Management’s responsibilities shall be described in the written representations in the manner

in which these responsibilities are described in the terms of the audit engagement.
2.1.2 As required by SAs

In various other standards, auditor is asked to obtain written representation from management
as additional / corroborative audit evidence. They include:
▪ Selection and application of accounting policies are appropriate

▪ Recognition, measurement, presentation and disclosure of the following are in
accordance with the financial reporting framework:
o Plans or intentions that may affect the carrying value or classification of assets and
liabilities;
o Title to, or control over, assets, the liens or encumbrances on assets, and assets
pledged as collateral
o Accounting policies followed by client
o Laws and regulations are duly complied with
If auditor opines that representation is required to provide additional audit evidence about any
specific aspects, he may obtain the same

2.1.3 Deficiencies in Internal Control
The auditor may consider it necessary to request management to provide a written representation
that it has communicated to the auditor all deficiencies in internal control of which management
is aware.
2.2 Auditor’s Objective
• To obtain written representations from management that management believes that it has
fulfilled the fundamental responsibilities that constitute the premise on which an audit is
conducted;
• To support other audit evidence relevant to the financial statements or specific assertions in
the financial statements by means of written representations, if determined necessary by the
auditor or required by other SAs; and
• To respond appropriately to written representations provided by management or if
management does not provide the written representations requested by the auditor.
2.3 Date and period covered by written representation
2.3.1 Date
The date of representation shall be as near as practicable to, but not after, the date of the
auditor’s report on the financial statements
2.3.2 Period
The written representations shall be for all financial statements and periods referred to in the
Auditor’s Report.
2.4 Form of Written Representation
• It shall be addressed to the auditor

• If as per a law governing the enterprise, the management is required to make a written public
statement of its responsibilities on financial statement that would have otherwise been taken
from the management in the form of written representation; the auditor may rely on such
statement as a part of audit evidence
2.5 Considerations w.r.t Written Representations
The expression of management’s responsibilities as required under any law or

regulation is also not a substitute for the requested written representations.
When obtaining evidence about, or evaluating, judgments and intentions, the auditor may
consider one or more of the following:
• The entity’s past history in carrying out its stated intentions.
• The entity’s reasons for choosing a particular course of action.
• The entity’s ability to pursue a specific course of action.
• The existence or lack of any other information that might have been obtained during the
course of the audit that may be inconsistent with management’s judgment or intent.

2.6 Unreliable written representations
• If the auditor has concerns about the competence, integrity, ethical values or diligence of
management, or about its commitment to or enforcement of these, he shall determine the
effect that such concerns may have on the reliability of
representations (Oral / Written) and audit evidence
in general.
• If inconsistencies remain unresolved, he shall If written representations are
determine the effect that such concerns may have inconsistent with other audit
on the reliability of representations (Oral / Written) and evidence, the auditor shall perform
audit evidence in general audit procedures to attempt to
• The auditor shall disclaim an opinion on the financial resolve them.
statements in accordance with SA 705
If auditor opines that audit evidence is unreliable, he shall determine its impact
on the Auditor’s report
2.7 Management doesn’t provide Written Representation
If the management does not provide one or more of the requested written representation, the
auditor shall:
• Discuss the matter with management and
• Re-evaluate the reliability and integrity of management.
• Take appropriate action including the determining the possible effect on the opinion.
• Under these circumstances the auditor shall issue a disclaimer of opinion.
2.8 Overall Auditor’s Approach for written representations other than management’s
responsibilities

Evidence
Available Not Available
Reliable Not reliable &

not sufficient
Auditor may ask Management

for written representation
Management gives Management doesn’t

representation give representation
Evaluate Re-evaluate integrity &

representation reliability of management
Reliable Unreliable or
inconsistent
No Consider it as Auditor can

representation valid evidence issue disclaimer
required of opinion

2.9 Sample

11.8 Questions
1) Explain clearly meaning of Management Representation and objective of the auditor regarding
written representation.
2) Explain clearly objective of the auditor regarding written representation. [RTP-Nov. 19]
3) Audit evidence is all the information used by the auditor in arriving at the conclusions on which
the audit opinion is based. Written representations are necessary information that the auditor
requires in connection with the audit of the entity’s financial statements. Accordingly, similar
to responses to inquiries, written representations are audit evidence. Explain stating clearly
objectives of the auditor regarding written representation. [RTP-May 20]
4) “Although written representations provide necessary audit evidence yet they do not provide
sufficient appropriate audit evidence on their own about any of the matters with which they
deal”. Discuss.
5) The auditor P of PAR and Co., a firm of Chartered Accountants is conducting audit of AB
Industries Ltd. The auditor requests management to provide Banker’s certificate in support of
Fixed deposits whereas management provides only written representation on the matter.
Analyse how would you deal as an auditor. [RTP-May 18]

6) Discuss with reference to SAs: What do you mean by “Written Representations”? As an auditor,
how would you deal if management does not provide requested written representations? [May
14 (5 Marks)]
SA 260 – Communication with those charged with governance
2.10 Communication
2.10.1 Requirement
Communication with those charged with governance will help auditor with
• Understanding matters related to audit better
• Obtaining relevant information for audit
• Reducing risk of material misstatement
2.10.2 Responsibility
Auditor and Management both are responsible for communicating with those charged with
governance. If any law or regulation prohibits such communication the auditor may consider
obtaining legal advice.
Communication by the auditor does not relieve management of this responsibility.

Communication by the management does not relieve auditor of this responsibility.
2.11 Objective of Auditor

The objectives of the auditor while communicating with those charged with governance are:
• communicate clearly auditor’s responsibilities overview of the planned scope and timing of
the audit;
• obtain relevant information to the audit
• provide timely & significant observations arising from the audit
• promote effective two-way communication
2.12.1 Those Charged With Governance (TCWG)
TCWG - Persons who are entrusted with the responsibility to supervise,

control and direct an entity e.g. management and audit committee.
‘TCWG’ means the person(s) with responsibility for overseeing

• the strategic direction of the entity and
• obligations related to the accountability of the entity.
• the financial reporting and disclosure process.
• approving the financial statements (in other some cases)

2.12.2 Management
The person(s) with executive responsibility for the conduct of the entity’s operations.
‘Management’ comprises of officers and others who also perform senior managerial functions.
Management includes TCWG only in those instances when they perform such functions.
2.12.3 Audit matters of governance Interest

Matters which have come to the knowledge of the auditor through audit procedures during the
course of audit and are important for those charged with governance to discharge their function.
2.13 Identification of TCWG
2.13.1 Factors to be considered

Factors to be considered for such identification:
• Governance structure of the entity.
• Circumstances of the engagement.
• Legal requirement.
• Importance and relevance of the audit matter of governance interest.
2.13.2 Identification not possible

If identification is not possible, he should come to an agreement with the entity about how such
matters are to be communicated.
2.14 Matters to be Communicated
2.14.1 What to communicate

Communicate only those matters, which have come to his notice during the course of audit and
are of importance to those charged with governance. These matters may include
• Auditor’s responsibility in relation to the Financial statement audit
• Overall scope of the audit including timing;
• Adoption of or changes in significant accounting policies;

• Significant discussions with management and representations sought.
• Issues to be communicated under any law and regulation
• Issues which affect form and content of audit report
▪ Important accounting adjustments;
Communication on governance
▪ Material uncertainties give rise to going concern
related matters does not
doubt;
substitute the similar
▪ Material weaknesses in internal control system;
requirements under other laws
▪ Suspected fraud and error;
and regulations.
▪ Expected modifications to the auditor’s report.
• Compliance with auditor’s independence in case of listed
companies
A communication matter, which may result in a modified report, to those

charged with governance, is no substitute to communication with shareholders
through audit report.
2.14.2 How to communicate

Preferably in writing. Especially if in auditor’s professional Compliance with respect to
judgement oral communication would be inadequate. auditor’s independence has to
be in writing.
Planning Matters Early in audit engagement.
Material weakness in internal As soon as possible

control
Legally obliged matters Within time limit specified in the
relevant law
Whenever threat to independence
Independence of Auditor
is perceived (in writing)
Accounting practices – qualitative

Concluding discussions
issues
When to communicate

2.14.3 Inadequacy of the Communication Process
If auditor feels that the communication with TCWG is not adequate for the purpose of the audit,
he shall
• Evaluate effect on
▪ assessment of risk of material misstatement
▪ ability to obtain sufficient appropriate audit evidence
• Take appropriate action
2.14.4 Documentation
Documentation may be in the form of minutes of the discussion between auditor and those
charged with governance and in certain cases, a confirmation in writing may be obtained by the
auditor of any oral communication from TCWG.
• If communication done orally – Make note of when and to whom communicated.

• If communication done in written – retain copy.
If all of TCWG are involved in managing the entity, i.e not much difference between
management team and TCWG team, then no separate communication to TCWG is required.
2.15 Questions
1) What audit matters of governance interest need to be communicated to the relevant persons?
2) What are significant difficulties encountered during the Audit?
What matters need to be communicated to those charged with governance?
SA 265 – Communicating Deficiencies in Internal Control to Those Charged

with Governance and Management
2.16 Objective
The auditor is required to obtain an understanding of internal control relevant to the audit when
identifying and assessing the risks of material misstatement.
The auditor has to communicate appropriately to TCWG and management deficiencies in internal
control of sufficient importance, that the auditor has identified during the audit
2.17.1 Deficiency in Internal Control

If a control exists but is unable to prevent, or detect and correct, misstatements in the financial
statements on a timely basis; or
If a control to prevent / detect / correct misstatement does not exist.

Control to prevent /
detect / correct
misstatement
Exists but fails

(Inadequate or Doesn't exist
Inefficienty)
2.17.2 Significant deficiency in Internal Control
A deficiency or combination of deficiencies in internal control that, in the

auditor’s professional judgment, is of sufficient importance to merit the
attention of those charged with governance.
2.18 Requirements
2.18.1 Identify Deficiencies

The auditor shall determine whether, on the basis of the audit work performed, the auditor has
identified one or more deficiencies in internal control.
2.18.2 Recognise significant deficiencies

If the auditor has identified one or more deficiencies in internal control, the auditor shall
determine, on the basis of the audit work performed, whether, individually or in combination, they
constitute significant deficiencies.
2.18.3 Communicate significant deficiencies

• To TCWG - in writing significant deficiencies in internal control identified during the audit on a
timely basis, in writing (LETTER OF WEAKNESS).
• To Management - at an appropriate level of responsibility on a timely basis
▪ Significant deficiencies communicated to TCWG
▪ Other deficiencies in internal control not communicated to TCWG

2.18.4 Matters to be included in written communication
• A description of the deficiencies and an explanation of their potential effects; and
• Sufficient information to enable TCWG and management to understand the context of the
communication and its potential impact on financials and audit report.
2.19 Examples of matters to be considered in determining whether deficiencies are

significant.
• The likelihood of the deficiencies leading to material misstatements in the financial statements
in the future.
• The susceptibility to loss or fraud of the related asset or liability.
• The subjectivity and complexity of determining estimated amounts, such as fair value
accounting estimates.
• The financial statement amounts exposed to the deficiencies.
• The volume of activity that has occurred or could occur in the account balance or class of
transactions exposed to the deficiency or deficiencies.
• The importance of the controls to the financial reporting process; for example:
▪ General monitoring controls (such as oversight of management).
▪ Controls over the prevention and detection of fraud.
▪ Controls over the selection and application of significant accounting policies.
▪ Controls over significant transactions with related parties.
▪ Controls over significant transactions outside the entity’s normal course of business.
▪ Controls over the period-end financial reporting process (such as controls over non-
recurring journal entries).
2.20 Examples of indicators of significant deficiencies in internal control
• Evidence of ineffective aspects of the control environment, such as:

▪ Indications that significant transactions in which management is financially
interested are not being appropriately scrutinized by those charged with
governance.
▪ Identification of management fraud, whether or not material, that was not
prevented by the entity’s internal control.
▪ Management’s failure to implement appropriate remedial action on significant
deficiencies previously communicated.
• Absence of a risk assessment process within the entity where such a Communicating
Deficiencies in Internal Control process would ordinarily be expected to have been
established.
• Evidence of an ineffective entity risk assessment process, such as management’s failure to
identify a risk of material misstatement that the auditor would expect the entity’s risk
assessment process to have identified.
• Evidence of an ineffective response to identified significant risks (e.g., absence of controls
over such a risk).
• Misstatements detected by the auditor’s procedures that were not prevented, or detected
and corrected, by the entity’s internal control.
• Disclosure of a material misstatement due to error or fraud as prior period items in the
current year’s Statement of Profit and Loss.
• Evidence of management’s inability to oversee the preparation of the financial statements.

2.21 Questions
1) When auditor identifies deficiencies and report on internal controls, he determines the
significant financial statement assertions that are affected by the ineffective controls in
order to evaluate the effect on control risk assessments and strategy for the audit of the
financial statements. Explain. [RTP-May 20]
2) SA 265 provides that auditor shall not report on the deficiencies but only check its
effectiveness whereas Section 143(3)(i) mentions that its the responsibility to check a well
as report on the same? Practically how to deal with this contradiction?
3) What is the auditor’s role with respect to deficiencies in internal controls?
4) What should be the contents of deficiency to be communicated by the auditor?

AUDIT REPORT
Chapter Overview
• Forming an opinion and reporting on Financial Statements

• To express clearly an appropriate modified opinion
• Communicate key audit matters in the independent auditor’s report
• Emphasis of matter paragraph and Other Matter paragraphs in the Independent Auditors
report
• Branch Audit- Sec 143(8) of Companies Act,2013
• Joint Audit- SA 299
• Reporting under Companies Act, 2013
• CARO, 2020
1. Introduction
• An audit report is an opinion drawn on the entity’s financial statements to make sure that the
records are true and fair representation of the transactions they claim to represent.
• This involves considering whether the financial statements have been prepared in accordance
with an acceptable financial reporting framework applicable to the entity under audit.
• It is also necessary to consider whether the financial statements comply with the relevant
statutory requirements.
• The main users of audit report are shareholders, members and all other stakeholders of the
company.
2. SA 700 - Forming an Opinion and Reporting on Financial Statements

• Audit Report
• Financial Reporting Framework
• Opinion – Unmodified and Modified
• Consideration for forming an opinion
• Audit Report Elements
• Draft Audit Report
Introduction
An Audit report is an opinion drawn on the entity’s financial statements to make

sure that the records are true and fair representation of the transactions they
claim to represent.
Management is responsible for preparation of Financial Statements. Auditor provides further

confidence to intended users through Audit Report.

In order to form that opinion, the auditor shall conclude as to whether the auditor has
obtained reasonable assurance about whether the financial statements as a whole are free
from material misstatement, whether due to fraud or error.
Scope of SA
• The auditor’s responsibility to form an opinion on the financial statements to ensure financial
statements reflect a true and fair representation
• The form and content of the auditor’s report issued as a result of an audit of financial statements.
This SA applies to
• an audit of a complete set of general-purpose financial statements and is written in that context
• audits for which SA 800 or SA 805 apply.
General purpose financial statements – Financial statements prepared in

accordance with a general-purpose framework.
This SA promotes consistency in the auditor’s report, but recognizes the need for flexibility to
accommodate particular circumstances of individual jurisdictions.
Objective of the Auditor
The objectives of the auditor are:
• To form an opinion on the financial statements based on an

evaluation of the conclusions drawn from the audit evidence
obtained; and The auditor’s report
• To express clearly that opinion through a written report. shall be in writing
Financial Reporting Framework
Financial Reporting
Framework
Fair Presentation Complaince

Framework Framework
Fair Presentation Framework

Fair presentation framework requires compliance with the requirements of the framework and to
make financial statements not misleading, requiring management to
• provide additional disclosures or

• depart from any material requirement of the reporting framework (exceptional cases)

Compliance Framework
Compliance framework refers to compliance of requirements to framework, without reference to
additional disclosures and departures mentioned above.
Form an Opinion
Auditor’s objective is to form an opinion on the financial statements after performing audit
procedures. The auditor may express an unmodified opinion or a modified opinion
Unmodified Opinion
Unmodified opinion – The opinion expressed by the auditor when the

auditor concludes that the financial statements are prepared, in all material
respects, in accordance with the applicable financial reporting framework.
Unmodified or unqualified opinion indicates that
• FS are prepared on generally accepted accounting principles and comply with relevant statutory
requirements
• Adequate disclosures are made
Modified Opinion
Modified Opinion is given if the auditor
• concludes that, based on the audit evidence obtained, the financial statements as a whole are
not free from material misstatement; or
• is unable to obtain sufficient appropriate audit evidence to conclude that the financial statements
as a whole are free from material misstatement, the auditor shall modify the opinion in the
auditor’s report in accordance with SA 705.
Fair Presentation Framework – If financial statements do not achieve fair

presentation, auditor may, if necessary, give modified opinion after discussing
with management
Compliance Framework – If financial statements are misleading, auditor shall
determine how to communicate in the auditor’s report after discussing with
the management.
Considerations to form an opinion on Financial Statements
The auditor shall form an opinion on whether the financial statements are prepared, in all material
respects, in accordance with the applicable financial reporting framework.

Preparation of Financial Statements
While ensuring that the financial statements are prepared, in all material respects, in accordance
with the applicable financial reporting framework, auditor shall evaluate:
• Adequate disclosure of accounting policies, including notes to account are made

• Appropriateness of accounting policies
• Consistency in following accounting policies
• Reasonableness of accounting estimates made by management
• Information presented in the financial statements is relevant, reliable, comparable and
understandable
• Effect of material transactions and events has been adequately disclosed
• Appropriate terminology is used
• Adequate reference to applicable financial reporting framework
When the financial statements are prepared in accordance with a fair

presentation framework, evaluate whether the financial statements achieve
fair presentation. procedures.
Reasonable Assurance
Obtain reasonable assurance about whether the financial statements as a whole are free from
material misstatement and in this regard shall consider:
• Whether sufficient appropriate evidence has been obtained.

• Whether uncorrected misstatements are material either individually or in aggregate.
Elements of Audit Report
The auditor’s report includes the following basic elements:
Title
Audit Report should have a title clearly stating that it is a report of an independent auditor.
Addressee
Audi Report is normally addressed to those for whom Audit Report is prepared, i.e. shareholders or
TCWG.
Opinion
This section states the auditor’s opinion on true and fair view of financial statements. Opinion
Section of the Auditor’s Report shall also cover the following:
• Identify the entity whose FS have been audited.

• State that Financial Statements have been audited.
• Identify title of each statement that comprises F.S.
• Refer to the notes, including the summary of significant accounting policies; and
• Specify date of period covered by each Financial Statement.

Basis for Opinion
The auditor’s report shall include a section, directly following the Opinion section, with the heading
“Basis for Opinion”, that:
• States that the audit was conducted in accordance with SA;

• Refers to the section of the auditor’s report that describes the auditor’s responsibilities under the
SAs;
• Includes a statement that the auditor is independent of the entity in accordance with the relevant
ethical requirements relating to the audit, and has fulfilled the auditor’s other ethical
responsibilities in accordance with these requirements. The statement shall refer to the Code of
Ethics issued by ICAI
• States whether the auditor believes that the audit evidence the auditor has obtained is sufficient
and appropriate to provide a basis for the auditor’s opinion.
Going Concern
Where applicable, the auditor shall report in accordance with SA 570.
Key Audit Matters

The auditor shall communicate key audit matters in the auditor’s report in accordance with SA 701
• for audits of complete sets of general-purpose financial statements of listed entities,

• for communications of key audit matters as per law or regulation
Other Information
Where applicable, auditor shall report in accordance with SA 720.
Responsibilities of Management for the Financial Statements

• Preparing the financial statements in accordance with applicable financial reporting framework.
• Such internal control as management determines necessary to
enable the preparation of financial statements that are free
from material misstatements and error. This section will also
• Assessing the ability of the entity to continue as a going identify those responsible
concern.
for governance i.e. Those
• Whether the use of the going concern assumption is appropriate.
Charged with Governance
For Fair presentation framework, the auditor’s report with respect to

management responsibilities shall refer to “the preparation and fair
presentation of these financial statements” or “the preparation of financial
statements that give a true and fair view,”

Auditor cannot conclude that management has
provided with all relevant information agreed in the
terms of the audit engagement agreement without If those who signed engagement letter
confirming with management whether such information are no more in the entity, new people
has been provided. in management can give the
representations with respect to going
Auditor’s Responsibility concern.
It shall state the auditor’s objectives to
• obtain reasonable assurance about whether the financial statements as a whole are free from
material misstatement, whether due to fraud or error; and
• Issue an auditor’s report that includes the auditor’s opinion.
This section also enumerates the auditor’s responsibilities as prescribed under different Standards on
Auditing.
The auditor shall also mention that assurance is a high level of assurance but
is not a guarantee that an audit conducted in accordance with SAs will always
detect a material misstatement when it exists.
• The auditor shall state that, as part of an audit in accordance with SAs, the auditor exercises
professional judgment and maintains professional scepticism throughout the audit and
• Describe an audit by stating that the auditor’s responsibilities are to
▪ Identify and assess risks of material misstatements
▪ Design and perform audit procedures responsive to such risks
▪ Obtain sufficient appropriate audit evidence
▪ Risk of not detecting material misstatement is higher for fraud than error
▪ Obtain understanding of internal control for designing audit procedures but not for forming
opinion on their effectiveness
▪ Evaluate appropriateness of accounting policies and reasonableness of accounting
estimates
▪ Conclude on appropriateness of management’s use of going concern basis
▪ Evaluate overall presentation, structure and content of the financial statements for fair
presentation framework
• The auditor shall describe the responsibilities in a group audit by stating the extent to which
financial information of components have been audited by other auditors.
• The auditor shall also state the manner in which the auditor communicated with those charged
with governance with respect to
▪ Planned scope and timing of the audit
▪ Significant audit findings
▪ Significant deficiencies in internal controls.
• The matters communicated as Key Audit Matters are those matters which the auditor considers
to be of most significance out of the matters which are communicated to those charged with
governance.

Location of the Description of Auditor’s Responsibilities
The description of the auditor’s responsibilities shall be included
• within the body of the auditor’s report or
• within an appendix to the audit report (with reference to the same in the
auditor’s report) or
• on a website of an appropriate authority if law permits (with specific
reference in the audit report).
Other Reporting Responsibilities

If the auditor addresses other reporting responsibilities in the auditor’s report on the financial
statements that are in addition to the auditor’s responsibilities under the SAs, these other
reporting responsibilities shall be addressed in a separate section in the audi tor’s report with a
heading titled “Report on Other Legal and Regulatory Requirements”
Signature of the Auditor

Audit report to be signed in auditor’s (engagement partner) The partner/proprietor signing
personal name. Where firm appointed as auditor, report is the audit report also needs to
signed in personal name of the auditor and in the name of audit mention the membership
firm. number assigned by the ICAI
Place of Signature
It is ordinarily the city where audit report is signed i.e. the Corporate office of the entity.
Date of Auditor’s Report

It should not be earlier than the date on which auditor has obtained sufficient appropriate audit
evidence (on which auditor’s opinion is based) that:
• financial statements, including the related notes, have been prepared; and
• those with authority have acknowledged that they have taken responsibility for those financial
statements.
Audit Reports prescribed by Law
If the auditor is required by law or regulation to use a specific layout, or wording of the auditor’s
report, the auditor’s report shall refer to Standards on Auditing only if the auditor’s report includes, at
a minimum, each of the following elements:
• Title
• Addressee
• Opinion

• Identification of entity’s financial statements
• Statement on auditor’s independence
• Going Concern issue, where applicable (SA 570)
• Key Audit Matters (SA 701)
• Auditor’s Responsibilities (SA 720)
• Responsibilities of Management for preparation of Financial Statements (SA 700)
• Reference to SAs
• Auditor’s Responsibilities
• Auditor’s Signature
• Place & Date of Audit Report
Audit Report for audits conducted in accordance with SAs issued by ICAI and International
SAs
The auditor’s report may refer to SAs in addition to the International SAs or auditing standards of such
other jurisdiction only if:
• No conflict between SAs and ISAs leading to formation of different opinions or including Emphasis
or Other Matters paragraph
• The auditor’s report includes the minimum elements in the report.
When the auditor’s report refers to both the ISAs and SAs issued by ICAI, the
auditor’s report shall clearly identify the same including the jurisdiction of
origin of the other auditing standards.
Supplementary information presented with the Financial Information
Supplementary
Information
Integral part of the Not an Integral part of

Financial Statements the Financial Statements
Shall be covered by the auditor's Identify the unaudited supplementary

opinion information and explain in the
auditor’s report that such
supplementary information has not
been audited.

Format of an Audit Report
To the Members of ABC Company Limited
Report on the Audit of the Standalone Financial Statements
Opinion
We have audited the standalone financial statements of ABC Company Limited (“the
Company”), which comprise the balance sheet as at 31st March 20XX, and the statement
of Profit and Loss, (statement of changes in equity)2 and statement of cash flows for the
year then ended, and notes to the financial statements, including a summary of
significant accounting policies and other explanatory information [in which are included
the Returns for the year ended on that date audited by the branch auditors of the
Company’s branches located at (location of branches)].
In our opinion and to the best of our information and according to the explanations
given to us, the aforesaid standalone financial statements give the information required
by the Act in the manner so required and give a true and fair view in
conformity with the accounting principles generally accepted in India, of the state of
affairs of the Company as at March 31, 20XX, and profit/loss, (changes in equity)4 and
its cash flows for the year ended on that date.
Basis for Opinion
We conducted our audit in accordance with the Standards on Auditing (SAs) specified
under section 143(10) of the Companies Act, 2013. Our responsibilities under those
Standards are further described in the Auditor’s Responsibilities for the Audit of the
Financial Statements section of our report. We are independent of the Company in
accordance with the Code of Ethics issued by the Institute of Chartered
Accountants of India together with the ethical requirements that are relevant to our audit
of the financial statements under the provisions of the Companies Act, 2013 and the
Rules thereunder, and we have fulfilled our other ethical responsibilities in
accordance with these requirements and the Code of Ethics. We believe that the audit
evidence we have obtained is sufficient and appropriate to provide a basis for our
opinion.

Key Audit Matters
Key audit matters are those matters that, in our professional judgment, were of most
significance in our audit of the financial statements of the current period. These matters
were addressed in the context of our audit of the financial statements as a whole, and
in forming our opinion thereon, and we do not provide a separate opinion on
these matters.
[Description of each key audit matter in accordance with SA 701.]
Management’s Responsibility for the Standalone Financial Statements
The Company’s Board of Directors is responsible for the matters stated in section 134(5)
of the Companies Act, 2013 (“the Act”)4 with respect to the preparation of these
standalone financial statements that give a true and fair view of the financial position,
financial performance, (changes in equity)5 and cash flows of the Company in
accordance with6 the accounting principles generally accepted in India, including the
accounting Standards specified under section 133 of the Act. This responsibility also
includes maintenance of adequate accounting records in accordance with the provisions
of the Act for safeguarding of the assets of the Company and for preventing and detecting
frauds and other irregularities; selection and application of appropriate
implementation and maintenance of accounting policies; making judgments and
estimates that are reasonable and prudent; and design, implementation and
maintenance of adequate internal financial controls, that were operating effectively for
ensuring the accuracy and completeness of the accounting records, relevant to the
preparation and presentation of the financial statement that give a true and fair view
and are free from material misstatement, whether due to fraud or error.
In preparing the financial statements, management is responsible for assessing the

Company’s ability to continue as a going concern, disclosing, as applicable, matters
related to going concern and using the going concern basis of accounting unless
management either intends to liquidate the Company or to cease operations, or has no
realistic alternative but to do so.
Those Board of Directors are also responsible for overseeing the Company’s financial
reporting process.

Auditor’s Responsibilities for the Audit of the Financial Statements
Our objectives are to obtain reasonable assurance about whether the financial
statements as a whole are free from material misstatement, whether due to fraud or
error, and to issue an auditor’s report that includes our opinion. Reasonable assurance
is a high level of assurance, but is not a guarantee that an audit conducted in accordance
with SAs will always detect a material misstatement when it exists. Misstatements can
arise from fraud or error and are considered material if, individually or in the
aggregate, they could reasonably be expected to influence the economic decisions of
users taken on the basis of these financial statements.
Other Matter
We did not audit the financial statements/ information of (number) branches

included in the stand alone financial statements of the Company whose financial
statements/financial information reflect total assets of Rs ______as at 31st March 20XX
and the total revenue of __________for the year ended on that date, as considered in the
standalone financial statements/information of these branches have been audited by
the branch auditors whose reports have been furnished to us, and our opinion in so
far as it relates to the amounts and disclosures included in respect of branches, is based
solely on the report of such branch auditors.
Our opinion is not modified in respect of these matters.

Report on Other Legal and Regulatory Requirements
As required by the Companies (Auditor’s Report) Order, 2016 (“the Order”), issued by the
Central Government of India in terms of sub-section (11) of section 143 of the Companies
Act, 2013, we give in the Annexure a statement on the matters specified in paragraphs 3
and 4 of the Order, to the extent applicable.
As required by Section 143(3) of the Act, we report that:
(a) We have sought and obtained all the information and explanations which to the
best of our knowledge and belief were necessary for the purposes of our audit.
(b) In our opinion, proper books of account as required by law have been kept by
the Company so far as it appears from our examination of those books [and proper
returns adequate for the purposes of our audit have been received from the branches
not visited by us]
(c) [The reports on the accounts of the branch offices of the Company audited under
Section 143(8) of the Act by branch auditors have been sent to us and have been properly
dealt with by us in preparing this report.]
(d) The Balance Sheet, the Statement of Profit and Loss, and the Cash Flow Statement
dealt with by this Report are in agreement with the books of account [and with the
returns received from the branches not visited by us].
(e) In our opinion, the aforesaid standalone financial statements comply with the
Accounting Standards specified under Section 133 of the Act, read with Rule 7 of the
Companies (Accounts) Rules, 2014.
(f) On the basis of the written representations received from the directors as on 31st
March, 20XX taken on record by the Board of Directors, none of the directors is
disqualified as on 31st March, 20XX from being appointed as a director in terms of
Section 164 (2) of the Act.
(g) With respect to the adequacy of the internal financial controls over financial
reporting of the Company and the operating effectiveness of such controls, refer to our
separate Report in “Annexure A”.

(h) With respect to the other matters to be included in the Auditor’s Report in
accordance with Rule 11 of the Companies (Audit and Auditors) Rules, 2014, in our
opinion and to the best of our information and according to the explanations given to
us:
(i) The Company has disclosed the impact of pending litigations on its financial
position in its financial statements – Refer Note XX to the financial statements; [or the
Company does not have any pending litigations which would impact its financial
position]
(ii) The Company has made provision, as required under the applicable law or
accounting standards, for material foreseeable losses, if any, on long- term contracts
including derivative contracts – Refer Note XX to the financial statements; [or the
Company did not have any long-term contracts including derivative contracts for
which there were any material foreseeable losses.]
(iii) There has been no delay in transferring amounts, required to be transferred, to

the Investor Education and Protection Fund by the Company {or, following are the
instances of delay in transferring amounts, required to be transferred, to the Investor
Education and Protection Fund by the Company or there were no amounts which were
required to be transferred to the Investor Education and Protection Fund by the
Company.
For XYZ & Co
Chartered Accountants (Firm’s Registration No.)
Signature
(Name of the Member Signing the Audit Report)
(Designation)
(Membership No. XXXXX)
Place of Signature:
Date:
Questions
1) State correct or not

• Where the firm of appointed as an auditor of the entity the audit report is signed only in the
name of audit firm. [May 19 (2 Marks)]
• Any partner of an LLP, who is appointed as an auditor of a company, can sign the audit
report. [Nov. 18 (2 Marks)]
2) In order to form the audit opinion as required by SA 700, the auditor shall conclude as to
whether the auditor has obtained reasonable assurance about whether the financial
statements as a whole are free from material misstatement, whether due to fraud or error.
Explain the conclusions that the auditor shall take into account. Also explain the objective of
auditor as per SA 700. [MTP-Aug. 18]
3) “An auditor is required to make specific evaluations while forming an opinion in an audit
report.” State them. [Nov. 18 (5 Marks)]
4) The auditor’s report shall include a section with a heading “Responsibilities of Management
for the Financial Statements.” SA 200 explains the premise, relating to the responsibilities of
management and, where appropriate, those charged with governance, on which an audit in
accordance with SAs is conducted. Explain. [RTP-Nov. 18, MTP-April 19]
5) When does an auditor issue unqualified opinion and what does it indicate? [May 08 (4
Marks)]
6) The Auditor is fully satisfied with the audit of an entity in respect of its systems and
procedures and wants to issue a report without any hesitation. What type of opinion can be
given and give reasoning? [MTP-April 19]
7) State any six elements of the Auditor’s Report. [Nov. 12 (6 Marks)]
8) The auditor’s report shall include a section, directly following the Opinion section, with the
heading “Basis for Opinion”. Explain what is included in this “Basis for Opinion” section.
[RTP-Nov. 19]
9) The first section of the auditor’s report shall include the auditor’s opinion, and shall have the
heading “Opinion.” The Opinion section of the auditor’s report shall also Identify the entity
whose financial statements have been audited. Apart from the above, explain the other
relevant points to be included in opinion section. [RTP-May 20]
3. SA 701- Communicating Key Audit Matters in the Independent Auditor’s Report
• Key Audit Matters

• Communication of Key Audit Matters
• Reporting Key Audit Matters
• Documentation
Introduction
This SA deals with the auditor’s responsibility to communicate key audit matters in the auditor’s
report.
• It is intended to address both the auditor’s judgment as to what to communicate in the auditor’s
report and the form and content of such communication.
• Communicating key audit matters provides additional information to intended users of the

financial statements (“intended users”) to assist them in understanding those matters that, in the
auditor’s professional judgment, were of most significance in the audit of the financial statements
of the current period.
Objectives of Auditor under this SA

The objectives of the auditor are to determine key audit matters and, having formed an opinion on
the financial statements, communicate those matters by describing them in the auditor’s report.
Applicability of SA
• This SA applies to audits of complete sets of general-purpose financial statements of listed entities
and circumstances when the auditor otherwise decides to communicate KAM in the auditor’s
report.
• This SA also applies when the auditor is required by law or regulation to communicate KAM in the
auditor’s report.
SA 705 (Revised) prohibits the auditor from communicating KAM when the
auditor disclaims an opinion on the financial statements, unless such reporting
is required by law or regulation
Key Audit Matters (KAM)
Key Audit Matters - Those matters that, in the auditor’s professional

judgment, were of most significance in the audit of the financial statements
of the current period. Key audit matters are selected from matters
communicated with those charged with governance.
Determination of KAM
The auditor shall determine, from the matters communicated with TCWG, those matters that required
significant auditor attention in performing the audit. In making this determination, the auditor shall
consider the following:
• Areas of higher assessed RMM, or significant risks identified as per SA 315;

• Significant auditor judgments that involved significant management judgment, including
accounting estimates that have been identified as having high estimation uncertainty.
• The effect on the audit of significant events or transactions that occurred during the period.
The auditor shall determine which of the matters so determined above were of most significance in
the audit of the F.S. of the current period and therefore are the key audit matters.

Communication of Key Audit Matter
Audit Report
• Communicating KAM in the auditor’s report is in the
context of the auditor having formed an opinion on Key Audit Matters cannot be a
the financial statements as a whole (of the current substitute for expressing a
period). Modified Opinion
Not a Substitute
• Communicating KAM in the auditor’s report is not
▪ A substitute for disclosures in the financial statements that the applicable financial
reporting framework requires management to make, or that are otherwise necessary to
achieve fair presentation;
▪ A substitute for the auditor expressing a modified opinion when required by the
circumstances of a specific audit engagement in
accordance with SA 705 (Revised);
▪ A substitute for reporting in accordance with SA 570 Modified opinion para
(Revised) when a material uncertainty exists relating to comes before this para in
events or conditions that may cast significant doubt on
audit report.
an entity’s ability to continue as a going concern; or
▪ A separate opinion on individual matters.
Individual Description & Reference to Related Disclosures
The auditor shall describe each key audit matter, using an appropriate subheading, in a separate
section of the auditor’s report under the heading “Key Audit Matters,”
The description of each key audit matter in the KAM section of the auditor’s
report shall include a reference to the related disclosure(s), if any, in the
financial statements and shall address:
• Why the matter was considered to be one of most significance in the audit
and therefore determined to be a key audit matter; and
• How the matter was addressed in the audit
Circumstances where KAM is not communicated

The auditor shall not describe a key audit matter in the auditor’s report if:
• Law or regulation prevents public disclosure about the matter; or

• In extremely rare circumstances, the auditor determines that the matter should not be
communicated in the auditor’s report because its benefits are lesser than the possible damages.
This shall not apply if the entity has publicly disclosed information about the matter. [auditors
generally don’t apply this]

Significant matters not reported under “Key Audit Matters” but as Other Elements in the Audit
Report
A matter giving rise to a
• modified opinion in accordance with SA 705 (Revised), or

• matters raising going concern questions SA 570 (Revised), are by their nature key audit matters.
Are significant matters and can come under the description of KAM, however these matters shall not
be described in the Key Audit Matters section of the auditor’s report. Rather, the auditor shall:
• Report on these matter(s) in accordance with the applicable SA(s); and

• Include a reference to the Basis for Qualified (Adverse) Opinion or the Material Uncertainty
Related to Going Concern section(s) in the Key Audit Matters section.
No Key Audit Matters to report
If the auditor determines, depending on
• the facts and circumstances of the entity and

• the audit, When there are no KAM to
report, auditor shall state the
that there are no key audit matters to communicate, the fact in the report
auditor shall include a statement to this effect in a separate
section of the auditor’s report under the heading “Key Audit Matters.”
In case of Disclaimer of Opinion, there wouldn’t be any Key Audit Matters to

report
Communication with Those Charged With Governance
The auditor shall communicate with those charged with governance:
• Those matters the auditor has determined to be the key audit matters; or
• The fact that there is no key audit matter to communicate in the auditor’s report
Documentation
The auditor shall include in the audit documentation
• The matters that required significant auditor attention and whether it was considered as a key
audit matter or not
• Reason for not considering KAM
• Reasons why matters were considered key audit matters and
▪ why they were reported OR
▪ not reported in the audit report

Questions
1) Communicating Key Audit Matter is not a substitute for disclosure in the Financial
Statements rather Communicating key audit matters in the auditor’s report is in the context
of the Auditor having formed an opinion on the financial statements as a whole. Analyse.
[RTP-May 18]
2) Explain clearly the purpose of communicating key audit matters. [RTP-Nov. 18]
3) Mr. A was appointed as statutory auditor of X Ltd. While doing audit, Mr. A is required to
determine the key audit matters which are required to be mentioned in the audit report. You
are required to advise Mr. A about the considerations which Mr. A shall take into account while
determining key audit matters.
4. SA 705 - Modifications to the Opinion in the Independent Auditor’s Report
• Modified Opinion
• Types – Qualified, Adverse, Disclaimer
• When to issue modified opinion
Scope
Auditor needs to follow this SA if a modification is required to the opinion. This SA also specifies the
form and content
Objectives of the Auditor

Express clearly a modified opinion when
• Financial statements are not free of material misstatement

• Auditor unable to obtain sufficient appropriate audit evidence to conclude financial statements
are free from material misstatements
Audit Report
Audit Report
Modified Report
Unmodified Report
(Modified Opinion)
Disclaimer Adverse Qualifed

of Opinion Opinion Opinion

Modified opinion
A qualified opinion, an adverse opinion or a disclaimer of opinion on the

financial statements is a Modified Opinion
Types of Modified Opinion

Modified
Opinion
Qualified Adverse Disclaimer of

Opinion Opinion Opinion
Any opinion other than clean opinion is called modified – It could be Emphasis
of matter as discussed in SA 706 or it could be Qualified, Adverse and
Disclaimer as discussed in SA 705
Factors affecting the opinion

The decision regarding which type of modified opinion is appropriate depends upon:
• The nature of the matter giving rise to the modification i.e
▪ the financial statements are materially misstated or,
▪ no sufficient appropriate audit evidence leading to materially misstated financial
statements
• The auditor’s judgment about the pervasiveness of the effects or possible effects of the matter
on the financial statements
When to modify the opinion

• Auditor concludes that financial statements are not free of material misstatement
• Auditor unable to obtain sufficient appropriate audit evidence to conclude financial statements
are free from material misstatements
Persuasive
A term used, in the context of misstatements, to describe the effects or the possible effects of
misstatements (if any) on the financial statements as a whole that are undetected due to an
inability to obtain sufficient appropriate audit evidence.

Persuasive effects are those that are:
• not confined to specific elements, accounts or items of the financial statements
• If so confined, represent or could represent a substantial proportion of the
financial statements
• In relation to disclosures, such disclosures are fundamental to users’
understanding of the financial statements
Modification in the Audit Report
Auditor determines the appropriate opinion depending on how material or

pervasive the issues identified during the audit are to the reader’s
understanding of the financial statements
Nature of Matter Giving Rise Auditor’s Judgment about the Pervasiveness of the
to the Modification effects or possible effects on the Financial Statements
Material but Not Pervasive Material and Pervasive

Financial statements are Qualified opinion Adverse opinion
materially misstated
Inability to obtain Qualified opinion Disclaimer of opinion
sufficient
appropriate audit evidence
Qualified Opinion
The auditor shall express a qualified opinion when:
a. The auditor, having obtained sufficient appropriate Reasons for

audit evidence, concludes that misstatements are material,
qualification to be
individually or in the aggregate, but not pervasive, to the
financial statements; or mentioned in the
report
b. The auditor is unable to obtain sufficient appropriate
audit evidence on which to base the opinion, but the auditor concludes that the possible effects on
the financial statements of undetected misstatements, if any, could be material but not pervasive

When to Give a Qualified Opinion
• Limitation of Scope
• Disagreement with management
▪ Accounting policies or its application
▪ Disclosure
▪ Statutory Compliance
• Significant uncertainty (Other than going concern)
▪ If Material – Qualified report
▪ If not material – Emphasis of matter para
• Unable to obtain all information and explanations
• Proper books not kept in accordance with law
• Balance Sheet and profit and Loss statement not in agreement with Books of
account
• Information required by law not disclosed
• Accounts do not give true and fair view
Quantification of Impact
• Quantify the impact that qualification
would have on the Financial statements.
• If accurate quantification is not possible, the This information would be
basis and management assumptions that presented in Para preceding
went into quantification need to be Qualification Opinion para.
indicated.
Adverse Opinion
The auditor shall express an adverse opinion when the auditor, having obtained sufficient appropriate
audit evidence, concludes that misstatements, individually or in the aggregate, are both material and
pervasive to the financial statements
When to give an Adverse Opinions

• Scope of audit is restricted,
• The auditor may not have access to the books of accounts, e.g.: -
▪ books of A/c's of the company seized by IT authorities,
▪ Sometimes inventory verifications at locations outside the city bound the scope
of duties of the auditor.

Disclaimer of Opinion
The auditor shall disclaim an opinion when
• the auditor is unable to obtain sufficient appropriate

audit evidence and the auditor concludes that the
In case of Disclaimer of
possible effects on the financial statements of
Opinion, there wouldn’t be
undetected misstatements, if any, could be both
any Key Audit Matters
material and pervasive.
paragraph in the audit report
• If in case of multiple uncertainties, though sufficient
appropriate audit evidence is obtained for each uncertainty individually, it is not possible to form
an opinion on the financial statements due to the potential interaction of the uncertainties and
their possible cumulative effect on the financial statements
When the auditor disclaims an opinion due to an inability to obtain sufficient

appropriate audit evidence, the auditor shall amend the introductory
paragraph of the auditor’s report.
The auditor shall also amend the description of the auditor’s responsibility and the description of the
scope of the audit to state only the following:
“Our responsibility is to express an opinion on the financial statements based on conducting the
audit in accordance with Standards on Auditing issued by the Institute of Chartered Accountants
of India. Because of the matter(s) described in the Basis for Disclaimer of Opinion paragraph,
however, we were not able to obtain sufficient appropriate audit evidence to provide a basis for
an audit opinion”.
Reasons for Misstatement
• The appropriateness of the selected accounting policies

• The application of the selected accounting policies
• The appropriateness or adequacy of disclosures in the financial
statements.

Reasons for Inability to obtain sufficient and appropriate audit evidence
• Circumstances beyond the control of the entity

• Circumstances relating to the nature or timing of the auditor’s work
• Limitations imposed by management
▪ Auditor may resign from the audit in such case OR
▪ Issue a Disclaimer of opinion explaining scope limitation
▪ Communicate matters relating to resignation to regulatory authorities and members /
owners, if required by laws governing the enterprise
Form and Content of the Auditor’s Report for a Modified Opinion
• Include additional paragraph indicating basis / reason

for modification to the report format discussed in SA
700 For Opinion paragraph, indicate
• Such para shall be placed just before opinion paragraph heading appropriately
with an appropriate heading “Basis for Qualified ““Qualified Opinion”, “Adverse
Opinion”, “Basis for Adverse Opinion”, or “Basis for Opinion”, or “Disclaimer of
Disclaimer of Opinion” Opinion”
Quantify and indicate the impact of such modification on the financial

statements. If it is impracticable to quantify the impact of modification, indicate
the fact that the same couldn’t be quantified.
• In short, Even if the auditor has expressed an adverse opinion or disclaimed an opinion on the
financial statements, the auditor shall describe in the basis for modification paragraph the reasons
for any other matters of which the auditor is aware that would have required a modification to
the opinion, and the effects thereof
Communication with Those Charged with Governance
When the auditor expects to modify the opinion in the auditor’s report, the auditor shall communicate
with those charged with governance the circumstances that led to the expected modification and the
proposed wording of the modification.
Questions
1) What is a qualified auditor report? Under what circumstances a qualified report is

issued. [May 07 (8 Marks)]
2) What is clean audit report. Explain how it is different from qualified report affecting Auditor's
opinion. [Nov. 07 (8 Marks)]
3) State briefly the circumstances when an auditor issues a disclaimer of opinion. [Nov. 10 (4

Marks)]
4) Differentiate between `Qualified Report' and Àdverse Report'. [May 10 (5 Marks)]
5) State the circumstances which could lead to any of the following in an Auditor’s Report:
(i) A modification of opinion
(ii) Disclaimer of opinion
(iii) Adverse opinion
(iv) Qualified opinion [May 13 (8 Marks)]
6) Discuss the following: The Auditor’s Report is considered to be modified under certain
circumstances. [May 15 (5 Marks)]
7) Write short note on: Qualified Opinion. [Nov. 15 (4 Marks)]
5. SA 706 - Emphasis of Matter Paragraphs and Other Matter Paragraphs in the Independent
Auditor’s Report
• Emphasis of Matter
• Other Matters
• Emphasis of Matter vs Key Audit Matters
• Format
Reason for the paragraphs – Objective of the Auditor
Draw user’s attention to

• matters presented or disclosed in the financial statements that are fundamental to users’
understanding of the financial statements; or
• matters not presented or disclosed in the financial statements but are relevant to users’
understanding of the audit, the auditor’s responsibilities or the auditor’s report.
Emphasis of Matter
A paragraph included in the auditor’s report that refers to a matter

appropriately presented or disclosed in the financial statements that, in the
auditor’s judgment, is of such importance that it is fundamental to users’
understanding of the financial statements.
Factors affecting
The auditor shall include Emphasis of Matter only if
• It does not result in modified opinion

• It is not key audit matter
Reporting Aspects
• Include it immediately after opinion para of audit report
• Contain a heading “Emphasis of matter”
• Indicate clear reference to the disclosures of financial statements

• Indicate that the auditor’s opinion is not modified in respect to matter emphasized
Circumstances for Emphasis of Matter

• An uncertainty relating to the future outcome of an
exceptional litigation or regulatory action.
• Early application (where permitted) of a new Inclusion of an Emphasis of
accounting standard that has a pervasive effect on Matter paragraph in the
the financial statements in advance of its effective auditor’s
date. report does not affect the
• A major catastrophe that has had, or continues to auditor’s opinion.
have, a significant effect on the entity’s financial •
position.
Other Matters
Include it immediately after opinion para of audit report or any Emphasis of matter
A paragraph included in the auditor’s report that refers to a matter other than
those presented or disclosed in the financial statements that, in the auditor’s
judgment, is relevant to users’ understanding of the audit, the auditor’s
responsibilities or the auditor’s report.
Factors affecting
The auditor shall include Emphasis of Matter only if
• It is not prohibited by law or regulation

• It is not key audit matter
Communicate with Those Charged with Governance

If the auditor expects to include an Emphasis of Matter or an Other Matter paragraph in the auditor’s
report, the auditor shall communicate with those charged with governance regarding this expectation
and the wording of this paragraph.
Emphasis of Matters (EM) vs Key Audit Matters (KAM)
The use of Emphasis of Matter paragraphs is not a substitute for a description of individual key audit
matters.
There may be a matter that is not determined to be a key audit matter in accordance with SA 701 (i.e.,
because it did not require significant auditor attention), but which, in the auditor’s judgment, is
fundamental to users’ understanding of the financial statements (e.g., a subsequent event).
If the auditor considers it necessary to draw users’ attention to such a matter, the matter is included
in an Emphasis of Matter paragraph in the auditor’s report in accordance with this SA.

Requirement under SAs
Emphasis of Matters
• SA 210, Agreeing the Terms of Audit Engagements
• SA 560, Subsequent Events
• SA 800, Special Considerations—Audits of Financial Statements Prepared in Accordance with
Special Purpose Frameworks
Other Matters
• SA 560, Subsequent Events
• SA 710, Comparative Information—Corresponding Figures and Comparative Financial
Statements
Format
Emphasis of Matter
We draw attention to Note X to the financial statements, which describe the uncertainty6 related to
the outcome of the lawsuit filed against the Company by XYZ Company. Our opinion is not
qualified in respect of this matter.
Other Matters
We did not audit the financial statements of certain subsidiaries; whose financial statements
reflect total assets (net) of Rs. XXXX as at March 31, 20XX, total revenues of Rs. XXXX and net cash
outflows amounting to Rs. XXXX for the year then ended. These financial statements have been
audited by other auditors whose reports have been furnished to us by the Management, and our
opinion is based solely on the reports of the other auditors. Our opinion is not qualified in
respect of this matter
Questions
1) What is Emphasis of matter Paragraph? State the circumstances when EOM para can be
included in Auditor’s report
2) What is Modified Reports? Discuss disclosure pattern when the auditor includes an Emphasis

of Matter Paragraph in the Auditor’s Report. [May 14 (5 Marks)]
3) What is an Emphasis of Matter paragraph, when it is used and manner of its use in an audit
report? [May 17 (4 Marks)]
4) Define emphasis of matter paragraph and how it should be disclosed in the independent
auditor’s report? [May 18 (5 Marks)]
5) Define Emphasis of Matter paragraph. When the auditor shall include an Emphasis of Matter
paragraph in the auditor’s report? Also explain how the auditor would include an Emphasis of
Matter in the auditor’s report? [RTP-May
19]
6. SA 710 - Comparative Information—Corresponding Figures and Comparative Financial

Statements
• Comparative Information
• Corresponding Figures
• Comparative Financial Statements
• Audit Procedures
Comparative Information
The amounts and disclosures included in the financial statements in respect of

one or more prior periods in accordance with the applicable financial reporting
framework.
Corresponding figures
Comparative information where amounts and
other disclosures for the prior period are included as The level of detail presented in the
an integral part of the current period financial corresponding amounts and
statements, and are intended to be read only in disclosures is dictated primarily by
relation to the amounts and other disclosures relating its relevance to the current period
to the current period (referred to as “current period
figures
figures”).
Comparative Financial Statements

Comparative information where amounts and other disclosures for the prior period are included for
comparison with the financial statements of the current period but, if audited, are referred to in the
auditor’s opinion.
The level of information included in those comparative financial statements is comparable with that
of the financial statements of the current period.

Comparative Information
Corresponding Figures Comparative Financial

Approach Statements Approach
Auditor's opinion refers to each

Auditor's Report refers to the current
period for which financial statements
period
are prepared
The approach to be adopted is often specified by law or regulation but may also be specified
in the terms of engagement.
Objective of Auditor
• Obtain evidence to ensure comparative information presented as per applicable financial

reporting framework
• Report in accordance with the auditor’s reporting responsibilities
Audit Procedures
• Check whether comparative information agreed with the amounts and disclosures presented in
the prior period
• Whether accounting policies are followed consistently and if there is a change, whether they have
been disclosed by management as per AS 5
• If the auditor of current year becomes aware of
any possible misstatement in the comparative
information, he shall increase the extent of If the auditor of current year
procedures or perform such additional audit becomes aware of any possible
procedures as are necessary in the circumstances to misstatement in the comparative
obtain sufficient appropriate audit evidence to information, he shall increase the
determine whether a material misstatement exists. extent of procedures
• Also, obtain written representation from
management that all comparative information is
presented appropriately by them.
Corresponding Figures
Auditor’s report doesn’t not refer to corresponding figures generally. Auditor only has to check
whether previous year’s financial statements have been recorded in the corresponding column of the
current year’s financial statements correctly.

But if the opinion on previous period is modified, then auditor has to additional procedures.
• Modified Opinion
If the auditor’s report on the prior period, as previously issued, included a qualified opinion, a
disclaimer of opinion, or an adverse opinion and the matter which gave rise to the modification is
unresolved, the auditor shall modify the auditor’s opinion on the current period’s financial
statements.
• Basis for Modification paragraph
In the Basis for Modification paragraph in the auditor’s report, the auditor shall either
▪ Refer to both the current period’s figures and the corresponding figures in the description of
the matter giving rise to the modification when the effects or possible effects of the matter on the
current period’s figures are material;
Or
▪ In other cases, explain that the audit opinion has been modified because of the effects or
possible effects of the unresolved matter on the comparability of the current period’s figures and
the corresponding figures.
• Unqualified Opinion
If the prior period’s financials were unqualified but the present auditor believes that it should have
been modified due to possible material misstatement existing and the same remains unresolved
even in the current financial year, the auditor shall express a qualified opinion or an adverse
opinion in the auditor’s report on the current period financial statements, modified with respect to
the corresponding figures included therein
Previous Period’s Financial Statements Audited by Different Auditor

If the prior periods were audited by a different auditor, in the current year audit report, indicate
under “Other matters paragraph”,
▪ the fact that it was audited by another auditor together

▪ the type of opinion expressed by the predecessor auditor,
▪ if the opinion was modified, the reasons therefore and
▪ date of such opinion
Previous Period’s Financial Statements Not Audited

The current year’s auditor shall
• State in Other Matter paragraph in the auditor’s report that the corresponding figures are
unaudited.
• Request the management to disclose this fact on the face of the current period financial
statements with respect to the corresponding figures
• Obtain sufficient appropriate audit evidence that the opening balances do not contain
misstatements that materially affect the current period’s financial statements.

Comparative Financial Statement Approach
When reporting on prior period financial statements in

connection with the current period’s audit, if the
auditor’s opinion on such prior period financial The auditor’s opinion shall refer to
statements differs from the opinion the auditor each period for which financial
previously expressed, the auditor shall disclose the statements are presented and on
substantive reasons for the different opinion in Other which an audit opinion is
Matter paragraph in accordance with SA 706. expressed
If misstatement in prior periods noticed by the current auditor were brought

to the notice of management, and the same is revised and audit report too is
revised by the predecessor auditor, the current auditor shall report only on the
current period.
Previous Period’s Financial Statements Audited by Different Auditor
If the prior periods were audited by the predecessor auditor, in the current year audit report,
indicate under “Other matters paragraph”,
▪ the fact that it was audited by predecessor auditor

▪ the type of opinion expressed by the predecessor auditor,
▪ if the opinion was modified, the reasons therefore and
▪ date of such opinion
If the auditor concludes that Material Misstatement exists in prior period financial statements
• If predecessor audit report not modified ➔ auditor shall communicate with management
and TCWG
• If predecessor issues new report ➔ auditor shall report on current period only
Previous Period’s Financial Statements Not Audited

The current year’s auditor shall
• State in Other Matter paragraph in the auditor’s report that the corresponding figures are
unaudited.
• Obtain sufficient appropriate audit evidence that the opening balances do not contain
misstatements that materially affect the current period’s financial statements.
Questions
1) The nature of the comparative information that is presented in an entity’s financial statements
depends on the requirements of the applicable financial reporting framework. There are two
different broad approaches to the auditor’s reporting responsibilities in respect of such
comparative information: corresponding figures and comparative financial statements.

Explain clearly stating the essential audit reporting differences between the approaches. Also
define comparative information and audit procedures regarding comparative information.
[RTP-May 19]
2) What are the auditor’s responsibilities in respect of corresponding figures.
3) The extent of audit procedures performed on corresponding figures is less compared to audit
of current period figure’s reporting. Justify the statement with regard to auditor’s duties for
reporting of comparatives under SA 710. [May 10 (5 Marks)]
4) When corresponding figures are presented, the auditor’s opinion shall not refer to the
corresponding figures except in some circumstances. Explain those circumstances. [MTP-
Aug. 18]
5) When corresponding figures are presented, the auditors' opinion shall not refer to the
corresponding figures. Discuss the exceptions of the above statement when the prior period
financial statements are audited. [Nov. 19 (4
Marks)]
Quick revision
Standard on Auditing Name Matters dealt with

Forming an Opinion and • The auditor’s
Reporting on Financial responsibility to form an
Statements opinion on financial
statements.
SA 700
• The form and content
of the Auditor’s Report.
Communicating Key Audit • The auditor’s

Matters in the Independent responsibility to communicate
Auditor’s Report key audit matters in the
auditor’s report.
SA 701
• What to communicate
and the form and content of
such communication
Modifications to the Opinion • Auditor’s responsibility

in the to issue an appropriate report
Independent Auditor’s in circumstances when auditor
Report concludes that a modification
to auditor’s opinion is
SA 705 necessary.
• Three types of modified

opinion
• A Qualified Opinion
• An adverse opinion

• A disclaimer of opinion
Emphasis of Matter • Additional

Paragraphs and Other communication in the auditor’s
Matter Paragraphs in the report when the auditor
Independent Auditor’s considers it necessary to draw
Report users’ attention to a matter:
SA 706
• Presented or disclosed
in the financial statements and
which is fundamental for
the user’s
understanding.
• Not presented or
disclosed in the financial
statements and which are
relevant for the user’s
understanding
AUDIT OF BRANCH OFFICE ACCOUNTS
• As per section 128(1) of the Companies Act, 2013, every company shall prepare and keep at its
registered office books of account and other relevant books and papers and financial
statement for every financial year which give a true and fair view of the state of the affairs of
the company, including that of its branch office or offices, if any.
• The books of account aforesaid and other relevant papers may be kept at such other place
in India as the Board of Directors may decide and where such a decision is taken, the company
shall, within 7 days thereof, file with the Registrar a notice in writing giving the full address
of that other place.
• The company may keep such books of account or other relevant papers in electronic mode in
such manner as may be prescribed
• Where a company has a branch office in India or outside India, proper books of account relating
to the transactions effected at the branch office are kept at that office and proper
summarised returns periodically are sent by the branch office to the company at its
registered office or the other place as decided by the BOD.
7. Who can become a branch auditor?

Where a company has a branch office, the accounts of that office shall be audited either
• by the auditor appointed for the company i.e company auditor

• by any other person qualified for appointment as an auditor of the company under this
Act and appointed as such under section 139, or
• where the branch office is situated in a country outside India, the accounts of the
branch office shall be audited either
o by the company's auditor or
o by an accountant or

o by any other person duly qualified to act as an auditor of the accounts of the
branch office in accordance with the laws of that country
8. Duties of Branch Auditor

Branch auditor shall prepare a report on the accounts of the branch examined by him and send it to
the company auditor who shall deal with it in his report in such a manner as he considers it necessary.
Further as per rule 12 of the Companies (Audit and Auditors) Rules, 2014,
The branch auditor shall submit his report to the company’s auditor and reporting of fraud by the
auditor shall also extend to such branch auditor to the extent it relates to the concerned branch.
SA 600- Using the work of Another Auditor

• Principal auditor means the auditor with responsibility for reporting on the financial
information of an entity when that financial information includes the financial information of one or
more components audited by another auditor.
• Other auditor means an auditor, other than the principal auditor, with responsibility for
reporting on the financial information of a component which is included in the financial information
audited by the principal auditor.
• Component means a division, branch, subsidiary, joint venture, associated enterprises or

other entity whose financial information is included in the financial information audited by the
principal auditor.
Using the Work of another Auditor:

• In certain situations, the statute governing the entity may confer a right on the principal
auditor to visit a component and examine the books of account and other records of the said
component, if he thinks it necessary to do so.
• Where another auditor has been appointed for the component, the principal auditor would
normally be entitled to rely upon the work of such auditor unless there are special
circumstances to make it essential for him to visit the component and/or to examine the books
of account and other records of the said component.
• Further, it requires that the principal auditor should perform procedures to obtain sufficient
appropriate audit evidence, that the work of the other auditor is adequate for the principal
auditor's purposes, in the context of the specific assignment.
• When using the work of another auditor, the principal auditor should ordinarily perform the
following procedures:
(a) advise the other auditor of the use that is to be made of the other auditor's work and
report and make sufficient arrangements for co-ordination of their efforts at the planning
stage of the audit.
(b) The principal auditor would inform the other auditor of
• matters such as are as requiring special consideration,
• procedures for the identification of inter -component transactions that may require disclosure
and
• the time-table for completion of audit;
c. advise the other auditor of the significant accounting, auditing and reporting requirements
and obtain representation as to compliance with them.

d. The principal auditor might discuss with the other auditor the audit procedures applied or
review a written summary of the other auditor’s procedures and findings which may be in the
form of a completed questionnaire or check-list.
e. The principal auditor may also wish to visit the other auditor.
f. The nature, timing and extent of procedures will depend on the circumstances of the
engagement and the principal auditor's knowledge of the professional competence of the
other auditor.
Joint Audit
Joint audit basically implies pooling together the resources and expertise of more than one firm of
auditors to render an expert job in a given time period which may be difficult to accomplish acting
individually. It essentially involves sharing of the total work.
Where more than one firm/individuals is appointed as the Statutory Auditors of the Company, we call
it to be a joint audit performed by them.This is by itself a great advantage.
In specific terms the advantages that flow may be the following:

(i) Sharing of expertise.
(ii) Advantage of mutual consultation.
(iii) Lower workload.
(iv) Better quality of performance.
(v) Improved service to the client.
(vi) In respect of multi-national companies, the work can be spread using the expertise of the local
firms which are in a better position to deal with detailed work and the local laws and regulations.
(vii) Lower staff development costs.
(viii) Lower costs to carry out the work.
(ix) A sense of healthy competition towards a better performance.
The general disadvantages may be the following:

(i) The fees being shared.
(ii) Psychological problem where firms of different standing are associated in the joint audit.
(iii) General superiority complex of some auditors.
(iv) Problems of co-ordination of the work.
(v) Areas of work of common concern being neglected.
(vi) Uncertainty about the liability for the work done.

9. SA 299 – Joint Audit of Financial Statements
Contents
• Joint Audit
• Audit planning & Risk Assessment of Joint Audit
• Allocation & Division of work for Joint Auditors
• Relationship between Joint Auditors
• Reporting Responsibilities
Joint Audit
Joint audit refers to audit of financial statements of business by more than

one auditor. Such auditors are called Joint Auditors
Large scale operations of business entities like geographical spread or volume of operations,
necessitate appointment of joint auditors so as to finish the audit work more quickly and efficiently.
These auditors conduct audit jointly and report on the financial statements of the entity.
Scope
9.1.1 Applicability
SA 299 lays down the professional responsibility, which the auditors undertake in accepting such
appointments as joint auditors.
9.1.2 Exclusion
Branch Audit or Using work of another auditor
Audit Planning, Risk Assessment and Allocation of Work
Audit Planning
• The engagement partner and other key members of
the engagement team from each Joint auditor should
involve in planning of the audit. The joint auditors shall obtain
• The joint auditors shall jointly establish an overall audit common engagement letter and
strategy that sets common management
▪ the scope, representation letter.
▪ timing and
▪ direction of the audit,

and that guides the development of the audit plan.
• Prior to the commencement of the audit, the joint auditors shall discuss and develop a joint audit
plan. In developing the joint audit plan, the joint auditors shall
▪ Divide audit areas and identify common audit areas
▪ Ascertain reporting objectives
▪ Communicate significant matters amongst
themselves
▪ Consider results of preliminary engagement Copy of Sign of document
activities should be given to TCWG
▪ Sign off of the Audit Plan
Risk Assessment
Risks of material misstatement need to be considered and assessed by each of the joint auditors. Such
risks assessed shall be
• Communicated to all joint auditors
• Documented by all joint auditors
Documentation of risk assessment should be done by each joint auditor whether pertaining to
• the overall financial statements level or
• the area of allocation among the other joint auditors.
Allocation of Work
• The joint auditors shall discuss and document the nature, timing, and the extent of the audit
procedures for common and specific allotted areas.
• Communicate the work allocated to TCWG
Co-ordination among Joint Auditors
An effective conduct of joint audit requires proper division of work among the auditors, coordination
between them and assumption and fixation of responsibility including reporting responsibilities of
the auditor to ensure smooth and efficient flow of audit work in case of joint audit.
Manner of Division
Upon mutual discussion among themselves, joint auditors may divide work in any of the following
manner:
• In terms of identifiable units or
• Specific areas or
• Items of assets / liabilities /Incomes / Expenditures
• With reference to time period
Common coverage areas

Important audit areas should not be divided and therefore, should be covered by all joint auditors.
(For example, valuation of inventory in case of a trading company).

Documentation of division
The actual division of work should be adequately documented and, preferably communicated to the
entity also. Coordination (Communication one of the joint auditors to all other joint auditors):
• During the course of the audit work, an auditor may come across any matter, which, though
relevant to the area of responsibility of other joint auditors, is material for ascertaining the true
and fair view of state of affairs or result of operations of the entity as a whole.
• He should communicate such a matter to all other joint auditor in writing (if the impact is on
financial statements as a whole).
• Timing of communication
▪ This should be done by the submission of a report or a note before the finalization of
audit.
▪ If any such matter is brought to the attention of the entity or other joint auditors by
an auditor after the audit report has been submitted, the other joint auditor would
not be responsible for those matters.
Relationship among Joint Auditors
Jointly and Severally responsible for

The joint auditors are jointly and severally responsible in respect of the following;
• Work that is not divided and is carried out by all of them.
• Decisions taken by all the joint auditors regarding the appropriateness of the nature, timing and
extent of all audit procedures to be performed by any one of them. However, responsibility for
proper execution of audit procedures would be of the auditor who is to perform the assigned task.
• Matters that are brought to the notice of the joint auditors by any one of them but all of them
agree on it.
• Financial statements of the entity comply with the disclosure requirements of the relevant statute.
• Audit report complies with the applicable SAs and pronouncements by ICAI.
• For obtaining and evaluating information and explanations from the management (unless there
is an agreement among the joint auditors on a specific pattern of distribution of this
responsibility).
Individual Responsibility
Each of the joint auditors is individually responsible for the following;
• determine the nature, timing and extent of audit procedures to be applied in relation to the
areas of work allocated to said joint auditor
• study and evaluate the prevailing system of internal control of the work area they are
responsible to give opinion on
• assessment of risk relating to the areas of work allocated to said joint auditor.
• reviewing the audit reports/returns of the divisions or branches allocated to him and to ensure
that they are properly incorporated into the accounts of the entity.
• carrying out part of the audit work assigned to him in accordance with the generally accepted
audit procedures.
• ensuring compliance with all the legal and professional requirements regarding the disclosures to
be made and presenting a true and fair view of the state of affairs and of the working results of
the division or branch that is assigned to him for audit.

If a joint auditor comes across matters which are relevant to the areas of responsibility of other
joint auditors and which deserve their attention, or which require disclosure or require
discussion with, or application of judgment by other joint auditors, the said joint auditor shall
communicate the same to all the other joint auditors in writing prior to the completion of
the audit.
Reporting Responsibilities
Before finalizing their audit report, the joint auditors shall discuss and communicate with each other
their respective conclusions that would form the content of the audit report.
• A joint auditor is not bound by the views of the

majority of the joint auditors regarding matters to be
The joint auditors are required to
covered in the report.
give one single report, if they
agree on matters stated therein.
Where there is disagreement with regard to any matter, each one of them should express his
opinion through a separate report.
• In such circumstances, the audit report(s) issued by the joint auditor(s) shall make a reference to
the separate audit report(s) issued by the other joint auditor(s).
• Such reference shall be made under the heading “Other Matter Paragraph” as per SA
706(Revised), “Emphasis of Matter Paragraphs and Other Matter Paragraphs in the Independent
Auditor’s Report”
• Work done by other auditors is assumed to be done with due diligence
Assumptions of Joint Auditor
Joint auditors need not review the work of other joint auditors. Each joint auditor is entitled to proceed
on the basis that division / branch audited financial statements comply with all the legal and regulatory
requirements.
And joint auditor is also entitled to assume that:

• Work is carried by the other joint auditors with due diligence and as per SAs
• Departures from financial reporting framework has been brought to notice
Communication with TCWG
Joint Auditors should communicate with TCWG when the joint auditors give an audit report other than
under SA 700. If the joint auditor expects
• to modify the opinion as per SA 705 in the auditor’s report,

▪ Circumstances that led to modification
▪ Proposed wording of modification
• To include an emphasis of matter or other matter paragraph as per SA 706
▪ Details of such expectation
▪ Proposed wording
Questions
1) A joint auditor is not bound by the views of the majority of the joint auditors regarding matters
to be covered in the report. Justify this statement in the light of responsibilities of Joint Auditors
under SA 299. [May 10 (5 Marks)]
2) Explain the concept of Joint Audit. Discuss its advantages and Disadvantages. [May 11 (8
Marks)]
3) In joint Audit, “each joint auditor is responsible only for the work allocated to him”. [May 12 (5
Marks)]
4) Discuss the following: Advantages and Disadvantages of Joint Audit. [Nov. 14 (5 Marks)]
5) Mention the points/areas in which all the joint auditors are jointly and severally responsible.
Nov. 15 (5 Marks)]
6) A joint auditor is not bound by the views of the majority of the joint auditors regarding matters
to be covered in the auditor’s report. [May 17 (2 Marks)]
7) State correct or not “Joint auditor is always bound by the views of majority of the joint auditors
regarding matters to be covered in report. “ [May 19 (2 Marks)]
8) You have been appointed as an auditor of a company along with 2 other auditors. What steps
would you like to take to ensure a smooth and effective audit? To what extent do you think
you will be responsible in relation to the work performed by your co-auditors and vice versa?
9) The practice of appointing Chartered Accountants as joint auditors is quite widespread in big
companies and corporations. Explain stating the advantages of the joint audit. [RTP-Nov. 19]
10) “Before the commencement of audit, the joint auditors should discuss and develop a joint
audit plan.” Discuss the points to be considered in developing the joint audit plan by the joint
auditors. [Nov. 19 (4 Marks)]
11) Before the commencement of the audit, the joint auditors should discuss and develop a joint
audit plan. In developing the joint audit plan, the joint auditors should identify division of audit
areas and common audit areas. Explain stating the other relevant considerations in this
regard. [RTP-May 20]
Reporting Requirements under Companies Act , 2013
Section 143 of Companies Act, 2013 contains, inter alia, reporting requirements of auditor of a company in form
of duties.
(1) Reporting requirement relating to matters stated in section 143(1)

Under section 143(1), auditor shall inquire into following matters given as under: -
(a) whether loans and advances made by the company on the basis of security have been properly secured and
whether the terms on which they have been made are prejudicial to the interests of the company or its members;

(b) whether transactions of the company which are represented merely by book entries are prejudicial to the
interests of the company;
(c) where the company not being an investment company or a banking company, whether so much of the assets
of the company as consist of shares, debentures and other securities have been sold at a price less than that at
which they were purchased by the company;
(d) whether loans and advances made by the company have been shown as deposits;
(e) whether personal expenses have been charged to revenue account;
(f) where it is stated in the books and documents of the company that any shares have been allotted for cash,
whether cash has actually been received in respect of such allotment, and if no cash has actually been so received,
whether the position as stated in the account books and the balance sheet is correct, regular and not misleading.
Note: The auditor should make a report to the members in case he finds answer to any of these matters in adverse.
(2) Reporting on accounts examined- Sec 143(2)

Under provisions of Section 143(2),
• the auditor shall make a report to the members of the company

o on the accounts examined by him and
o on every financial statement which are required by or under this Act to be laid before the company
in general meeting and
• Auditor has to report whether to best of his information and knowledge, the said accounts, financial
statements give a true and fair view of the state of the company’s affairs as at the end of its financial year
and profit or loss and cash flow for the year and such other matters as prescribed under Rule 11 of the
Companies (Audit and Auditors) Rules, 2014.
Reporting on other matters u/s 143(3)

The auditor’s report shall also state
(a) whether he has sought and obtained all the information and explanations which to the best of his
knowledge and belief were necessary for the purpose of his audit and if not, the details thereof and the effect of
such information on the financial statements;
(b) whether, in his opinion, proper books of account as required by law have been kept by the company so far
as appears from his examination of those books and proper returns adequate for the purposes of his audit have
been received from branches not visited by him;
(c) whether the report on the accounts of any branch office of the company audited under sub-section (8) by
a person other than the company’s auditors has been sent to him under the proviso to that sub-section and the
manner in which he has dealt with it in preparing his report;
(d) whether the company’s balance sheet and profit and loss account dealt with in the report are in agreement
with the books of account and returns;
(e) whether, in his opinion, the financial statements comply with the accounting standards;
(f) the observations or comments of the auditors on financial transactions or matters which have any adverse
effect on the functioning of the company;
(g) whether any director is disqualified from being appointed as a director under sub- section (2) of the section
164;

(h) any qualification, reservation or adverse remark relating to the maintenance of accounts and other
matters connected therewith;
(i) whether the company has adequate internal financial controls with reference to financial statements in
place and the operating effectiveness of such controls;
However, it may be noted that the reporting requirement on adequacy of internal financial
controls (IFCs) with reference to financial statements shall not be applicable to a private
company which is a–
(i) One person company; or
(ii) Small company; or
(iii) Company having turnover less than ` 50 crore as per latest audited financial
statement and having aggregate borrowings from banks or financial institutions or
any body corporate at any point of time during the financial year less than ` 25
(j) such other matters as are prescribed in Rule 11 of the Companies (Audit and Auditors) Rules, 2014 which
crore.
are as under:-
Rule 11 of Companies (Audit and Auditors Rule, 2014)
(a) whether the company has disclosed the impact, if any, of pending litigations on its financial position in its
financial statement;
(b) whether the company has made provision, as required under any law or accounting standards, for material
foreseeable losses, if any, on long term contracts including derivative contracts;
(c) whether there has been any delay in transferring amounts, required to be transferred, to the Investor
Education and Protection Fund by the company.
(d) Omitted
(i) Whether the management has represented that, to the best of it’s knowledge and belief, other than as
disclosed in the notes to the accounts, no funds have been advanced or loaned or invested (either from borrowed
funds or share premium or any other sources or kind of funds) by the company to or in any other person(s) or
entity(ies), including foreign entities (“Intermediaries”), with the understanding, whether recorded in writing or
otherwise, that the Intermediary shall, whether, directly or indirectly lend or invest in other persons or entities
identified in any manner whatsoever by or on behalf of the company (“Ultimate
Beneficiaries”) or provide any guarantee, security or the like on behalf of the Ultimate Beneficiaries;
(ii) Whether the management has represented, that, to the best of it’s knowledge and belief, other than as
disclosed in the notes to the accounts, no funds have been received by the company from any person(s) or
entity(ies), including foreign entities (“Funding Parties”) with the understanding, whether recorded in writing or
otherwise, that the company shall, whether, directly or indirectly, lend or invest in other persons or entities
identified in any manner whatsoever by or on behalf of the Funding Party (“Ultimate Beneficiaries”) or provide any
guarantee, security or the like on behalf of the Ultimate Beneficiaries; and
(iii) Based on such audit procedures that the auditor has considered reasonable and appropriate in the
circumstances, nothing has come to their notice that has caused them to believe that the representations under
sub- clause (1) and (2) contain any material misstatement.

(e) Whether the dividend declared or paid during the year by the company is in compliance with section 123
of the Companies Act, 2013.
(f) Whether the company has used such accounting software for maintaining its books of account which has
a feature of recording audit trail (edit log) facility and the same has been operated throughout the year for all
transactions recorded in the software and the audit trail feature has not been tampered with and the audit trail has
been preserved by the company as per the statutory requirements for record retention.
While reporting, where any of the matters required to be included in the audit report is answered in the negative
or with a qualification, the report shall state the reasons therefor - Section 143(4).
Every auditor shall comply with the auditing standards -Sec 143(9).
Reporting on any other matter specified by Central Government: As per section 143(11),
The Central Government may, in consultation with the National Financial Reporting Authority, by general or special
order, direct, in respect of such class or description of companies, as may be specified in the order, that the auditor’s
report shall also include a statement on such matters as may be specified therein. (CARO,2020)
Reporting on frauds: Sec 143(12)

A. Reporting to the Central Government- As per section 143(12) of the Companies Act, 2013 read with Rule
13 of the Companies (Audit and Auditors) Rules, 2014, if an auditor of a company in the course of the performance
of his duties as auditor, has reason to believe that an offence of fraud, which involves or is expected to involve
individually an amount of ` 1 crore or above, is being or has been committed in the company by its officers or
employees, the auditor shall report the matter to the Central Government within such time and in such manner as
prescribed.
B. Reporting to the Audit Committee or Board- In case of a fraud involving lesser than the specified amount
[i.e., less than ` 1 crore], the auditor shall report the matter to the audit committee constituted under section 177
or to the Board in other cases within such time and in such manner as prescribed.
Besides, auditor has also to report matters pertaining to fraud at point (xi) of paragraph 3 of CARO,2020 which is
discussed subsequently.
Reporting Under CARO, 2020

Introduction
In exercise of the powers conferred by section 143(11) of the Companies Act, 2013, the Central
Government, after consultation with the National Financial Reporting Authority (NFRA) constituted
under section 132 of the Companies Act, 2013, has issued the Companies (Auditor’s Report) Order,
2020, (CARO, 20) dated 25th February 2020.
CARO is the additional reporting requirement u/s 143(11) of the Companies Act 2013.
The order contains four paragraphs:

CARO,2020
1.Applicability of 2.Auditor's report 3.Matters to be 4.Reasons to be

Order to contain matters included in the stated for
specified in auditor's report (21 unfavourable or
paragraphs 3 and 4 clauses) qualified answers

Applicability of the Order
The order applies to every company including a foreign company as defined in clause (42) of section
2 of the Companies Act, 2013.
Exemptions
Order specifically exempts the following classes of companies:
(i) a banking company as defined in clause (c) of section 5 of the Banking Regulation Act, 1949 (10 of
1949);
(ii) an insurance company as defined under the Insurance Act,1938 (4 of 1938);
(iii) a company licensed to operate under section 8 of the Companies Act;
(iv) a One Person Company as defined under clause (62) of section 2 of the Companies Act and a small
company as defined under clause (85) of section 2 of the Companies Act; and
(v) a private limited company,
• not being a subsidiary or holding company of a public company,
• having a paid-up capital and reserves and surplus not more than Rs.1 crore as on the balance
sheet date and
• which does not have total borrowings exceeding Rs.1 crore from any bank or financial institution
at any point of time during the financial year and
• which does not have a total revenue as disclosed in Scheduled III to the Companies Act, 2013
(including revenue from discontinuing operations) exceeding Rs.10 crores during the financial year
as per the financial statements.
*Conditions for Private Company exemption

• Should not be holding/Subsidiary  Of a public company
• Paid up capital, Reserves & Surplus  Less than Rs.1 Crore as on Balance Sheet date
• Total Borrowings  Less than Rs.1 Crore during any time during FY
• Total Revenue  Less than Rs.10 Crores during the FY
Banking Insurance
company company
Private Sec 8
Exemptions
Company* Company
Small
OPC
Company
Auditor's report to contain matters specified in paragraphs 3 and 4.

Every report made by the auditor under section 143 of the Companies Act, 2013 on the accounts of
every company audited by him, to which this Order applies, for the financial year, shall in addition,
contain the matters specified in paragraphs 3 and 4, as may be applicable.
It may be noted that the Order shall not apply to the auditor’s report on Consolidated
Financial Statements except clause (xxi) of paragraph 3.
Matters to be included in the auditor's report:

The auditor's report on the accounts of a company to which this Order applies shall include a
statement on the following matters, in 21 Clauses, namely: -
i. Property, Plant and Equipment (including Intangible)
ii. Inventory
iii. Investments, Guarantee, Security, loans and Advances
iv. Compliance with Sec 185 and Sec 186
v. Public deposits
vi. Cost records
vii. Statutory Dues
viii. Unrecorded Incomes
ix. Repayment of Dues
x. Application of money raised by public issue or Preferential allotment
xi. Fraud
xii. Nidhi Companies
xiii. Transactions with related Parties
xiv. Internal Audit System
xv. Noncash transaction with directors
xvi. Registration with RBI
xvii. Cash losses
xviii. Consideration of issues raised by Outgoing Auditor
xix. Existence of Material Uncertainty as to company’s ability to meet its liabilities
xx. Transfer of unpaid CSR amount

xxi. Qualifications or adverse remarks in CARO reports of group companies
Clause (i) Property, Plant and Equipment
c) Title Deeds of
Immovable
Properties
b) Physical d) Revaluation of
Verification Assets
PPE e) Holding Benami

a) Proper Records
(sub-clauses) Property
(a) Proper Records

(A) whether the company is maintaining proper records showing full particulars, including quantitative
details and situation of Property, Plant and Equipment.
(B) whether the company is maintaining proper records showing full particulars of intangible assets.
(b) Physical Verification
Whether these Property, Plant and Equipment have been physically verified by the management at
reasonable intervals; whether any material discrepancies were noticed on such verification and if so,
whether the same have been properly dealt with in the books of account;

Points to be noted.
• What constitutes a reasonable interval depends upon the circumstances of each case.
• The factors to be taken into consideration in this regard would include number of assets, nature of
assets, relative value of the assets, difficulty in verification, situation and geographical spread of the
location of the assets etc.
• The management may decide about the periodicity of physical verification of fixed assets considering
the above factors.
• Sometimes it may be impractical to carry out the verification of all the assets. Even in such cases the
verification program should be such that all the assets are verified at least once in every three years.
• If verification of all the assets has not been made during the year, it will be necessary for the auditor
to report the fact. But if he's satisfied regarding the frequency of verification, he should also make a
suitable comment to that effect.
(c) Title deeds of all the immovable properties

Whether the title deeds of all the immovable properties (other than properties where the company
is the lessee and the lease agreements are duly executed in favour of the lessee) disclosed in the
financial statements are held in the name of the company, if not, provide the details thereof in the
format below:
Description Gross Held in the Whether Period held – Reason for
of Property Carrying name of promoter, indicate not being
Value director or range,
their where held in name
appropriate of company
relative or
employee
*Also indicate if in dispute

Title deed: The order is silent as to what constitutes a title deed. In general, title deed means a legal deed
or document, constituting evidence of a right especially to the legal ownership of the immovable property.
Title deed could be registered sale deed, Transfer deed, conveyance deed, etc. of land, land and building
together etc. purchased, allotted, transferred by any person including any government, government
authority, body, agency Corporation, etc, to the company.
(d) Revaluation of Assets
whether the company has revalued its Property, Plant and Equipment (including Right of Use assets)
or intangible assets or both during the year and, if so, whether the revaluation is based on the
valuation by a Registered Valuer; specify the amount of change, if change is 10% or more in the
aggregate of the net carrying value of each class of Property, Plant and Equipment or intangible assets;
(e) Benami Property
whether any proceedings have been initiated or are pending against the company for holding any
benami property under the Benami Transactions (Prohibition) Act, 1988 (45 of 1988) and rules made

thereunder, if so, whether the company has appropriately disclosed the details in its financial
statements;
Clause (ii) Inventory

a) whether physical verification of inventory has been conducted at reasonable intervals by the
management and whether, in the opinion of the auditor, the coverage and procedure of such
verification by the management is appropriate; whether any discrepancies of 10% or more in the
aggregate for each class of inventory were noticed and if so, whether they have been properly dealt
with in the books of account;
(b) whether during any point of time of the year, the company has been sanctioned working capital
limits in excess of five crore rupees, in aggregate, from banks or financial institutions on the basis of
security of current assets; whether the quarterly returns or statements filed by the company with
such banks or financial institutions are in agreement with the books of account of the Company, if
not, give details;
Clause (iii) Investments, Guarantee, Security, Loans or advances

Whether during the year the company has made investments in, provided any guarantee or security
or granted any loans or advances in the nature of loans, secured or unsecured, to companies, firms,
Limited Liability Partnerships or any other parties, if so, -
(a) whether during the year the company has provided loans or provided advances in the nature
of loans, or stood guarantee, or provided security to any other entity [not applicable to companies
whose principal business is to give loans], if so, indicate-
(A) the aggregate amount during the year, and balance outstanding at the balance sheet date
with respect to such loans or advances and guarantees or security to subsidiaries, joint ventures
and associates;
(B) the aggregate amount during the year, and balance outstanding at the balance sheet date
with respect to such loans or advances and guarantees or security to parties other than
subsidiaries, joint ventures and associates;
(b) whether the investments made, guarantees provided, security given and the terms and conditions
of the grant of all loans and advances in the nature of loans and guarantees provided are not
prejudicial to the company’s interest;
(c) in respect of loans and advances in the nature of loans, whether the schedule of repayment of
principal and payment of interest has been stipulated and whether the repayments or receipts are
regular;
(d) if the amount is overdue, state the total amount overdue for more than ninety days, and whether
reasonable steps have been taken by the company for recovery of the principal and interest;
(e) whether any loan or advance in the nature of loan granted which has fallen due during the year,
has been renewed or extended or fresh loans granted to settle the overdues of existing loans given
to the same parties, if so, specify the aggregate amount of such dues renewed or extended or settled
by fresh loans and the percentage of the aggregate to the total loans or advances in the nature of
loans granted during the year [not applicable to companies whose principal business is to give loans];
(f) whether the company has granted any loans or advances in the nature of loans either repayable
on demand or without specifying any terms or period of repayment, if so, specify the aggregate
amount, percentage thereof to the total loans granted, aggregate amount of loans granted to
Promoters, related parties as defined in clause (76) of section 2 of the Companies Act, 2013;

Investments,
Guarantee, Security,
Loans or advances
Given to Repayment terms and Amount restructuring Demands

group schedule conditions overdue of loans and repayable
companies and regular are not for more advances on demand
and others receipts prejudicial than 90 or without
days specifying
period of
terms.
Clause (iv) Compliance of provisions of Sec 185 and 186
In respect of loans, investments, guarantees, and security, whether provisions of sections 185 and 186
of the Companies Act have been complied with, if not, provide the details thereof
Clause (v) Public Deposits

• in respect of deposits accepted by the company or amounts which are deemed to be deposits,
whether the directives issued by the Reserve Bank of India and the provisions of sections 73 to 76 or
any other relevant provisions of the Companies Act and the rules made thereunder, where applicable,
have been complied with, if not, the nature of such contraventions be stated;
• if an order has been passed by Company Law Board or National Company Law Tribunal or Reserve
Bank of India or any court or any other tribunal, whether the same has been complied with or not.
Clause(vi) Cost Records

whether maintenance of cost records has been specified by the Central Government under sub-
section (1) of section 148 of the Companies Act and whether such accounts and records have been so
made and maintained
Note
• The word made applies in respect of cost accounts, and the word maintained applies in respect of costs
records relating to material, labour, overheads, etc.
• The order does not require a detailed examination of such records. The auditor should, therefore,
conduct a general review of the cost records to ensure that the records as prescribed are made and
maintained. He should of course, make a reference to the records as necessary for the purpose of his
audit.
• The auditor should also obtain a list of books and records made and maintained in this regard.
• It is necessary that the extent of examination made by the auditor is clearly brought out in his report.
The following wordings are therefore suggested.
• “We have broadly reviewed the books of accounts maintained by the company pursuant to the order
made by Central Government for the maintenance of cost records under Section 148 of the Act and are
of the opinion that, prima facie, the prescribed accounts and the records have been made and maintain.

Clause (vii) Statutory dues – Undisputed & Disputed
a. whether the company is regular in depositing undisputed statutory dues including Goods and
Services Tax, provident fund, employees' state insurance, income-tax, sales-tax, service tax, duty
of customs, duty of excise, value added tax, cess and any other statutory dues to the appropriate
authorities and if not, the extent of the arrears of outstanding statutory dues as on the last day of
the financial year concerned for a period of more than six months from the date they became
payable, shall be indicated;
b. (b) where statutory dues referred to in sub-clause (a) have not been deposited on account of any
dispute, then the amounts involved and the forum where dispute is pending shall be mentioned
(a mere representation to the concerned Department shall not be treated as a dispute);
Note: A mere representation to the concerned department will not be treated as dispute.
Clause (viii) Unrecorded Income

• whether any transactions not recorded in the books of account have been surrendered or
disclosed as income during the year in the tax assessments under the Income Tax Act, 1961 (43 of
1961),
• if so, whether the previously unrecorded income has been properly recorded in the books of
account during the year.
Clause (ix) Repayment of Dues
Repaymeny of
dues
Purpose loans
Short Plege of
Repayme for which obtained to
term loan securties
nt of loan Wilful long term meet
used for held in
and defaulter loans have obligation
long term group
interest been of group
purpose companies
obtained companies
(a) whether the company has defaulted in repayment of loans or other borrowings or in the payment
of interest thereon to any lender, if yes, the period and the amount of default to be reported as per
the format below: -
Nature of borrowing Name Amount Whether No. of days Remarks,
including debt securities of not paid on principal or delay or if any
Lender*
due date interest unpaid
*Lender wise details to be provided in case of defaults to banks, financial institutions and
Government.
(b) whether the company is a declared wilful defaulter by any bank or financial institution or other
lender;

(c) whether term loans were applied for the purpose for which the loans were obtained; if not, the
amount of loan so diverted and the purpose for which it is used may be reported;
(d) whether funds raised on short term basis have been utilised for long term purposes, if yes, the
nature and amount to be indicated;
(e) whether the company has taken any funds from any entity or person on account of or to meet the
obligations of its subsidiaries, associates or joint ventures, if so, details thereof with nature of such
transactions and the amount in each case;
(f) whether the company has raised loans during the year on the pledge of securities held in its
subsidiaries, joint ventures or associate companies, if so, give details thereof and also report if the
company has defaulted in repayment of such loans raised;
Clause (x) Application of money raised by Public Offer and Preferential allotment / Private
Placement
(a) whether moneys raised by way of initial public offer or further public offer (including debt
instruments) during the year were applied for the purposes for which those are raised, if not, the
details together with delays or default and subsequent rectification, if any, as may be applicable, be
reported;
(b) whether the company has made any preferential allotment or private placement of shares or
convertible debentures (fully, partially or optionally convertible) during the year and if so, whether the
requirements of section 42 and section 62 of the Companies Act, 2013 have been complied with and
the funds raised have been used for the purposes for which the funds were raised, if not, provide
details in respect of amount involved and nature of non-compliance;
Clause (xi) Fraud

(a) whether any fraud by the company or any fraud on the company has been noticed or reported
during the year, if yes, the nature and the amount involved is to be indicated;
(b) whether any report under sub-section (12) of section 143 of the Companies Act has been filed by
the auditors in Form ADT-4 as prescribed under rule 13 of Companies (Audit and Auditors) Rules, 2014
with the Central Government;
(c) whether the auditor has considered whistle-blower complaints, if any, received during the year by
the company
Clause (xii) Nidhi Companies

(a) whether the Nidhi Company has complied with the Net Owned Funds to Deposits in the ratio of
1:20 to meet out the liability;
(b) whether the Nidhi Company is maintaining 10 % unencumbered term deposits as specified in the
Nidhi Rules, 2014 to meet out the liability;
(c) whether there has been any default in payment of interest on deposits or repayment thereof for
any period and if so, the details thereof
Clause (xiii) Related Party Relations

whether all transactions with the related parties are in compliance with sections 177 and 188 of
Companies Act where applicable and the details have been disclosed in the financial statements, etc.,
as required by the applicable accounting standards. (AS 18 and IND AS 24)

Clause (xiv) Internal Audit System
(a) whether the company has an internal audit system commensurate with the size and nature of its
business;
(b) whether the reports of the Internal Auditors for the period under audit were considered by the
statutory auditor
Clause (xv) NonCash Transactions

whether the company has entered into any non-cash transactions with directors or persons
connected with him and if so, whether the provisions of section 192 of Companies Act have been
complied with
Clause (xvi) Registration with RBI

(a) whether the company is required to be registered under section 45-IA of the Reserve Bank of India
Act, 1934 and if so, whether the registration has been obtained;
(b) whether the company has conducted any Non-Banking Financial or Housing Finance activities
without a valid Certificate of Registration from the Reserve Bank of India as per the Reserve Bank of
India Act, 1934;
(c) whether the company is a Core Investment Company (CIC) as defined in the regulations made by
the Reserve Bank of India, if so, whether it continues to fulfil the criteria of a CIC, and in case the
company is an exempted or unregistered CIC, whether it continues to fulfil such criteria;
(d) whether the Group has more than one CIC as part of the Group, if yes, indicate the number of CICs
which are part of the Group;
Clause (xvii) Cash losses

whether the company has incurred cash losses in the financial year and in the immediately preceding
financial year, if so, state the amount of cash losses;
Clause (xviii) Consideration of issues raised by outing auditor

Whether there has been any resignation of the statutory auditors during the year, if so, whether the
auditor has taken into consideration the issues, objections or concerns raised by the outgoing
auditors.
Clause (xix) Uncertainties existing for entity’s ability to continue as going concern.
• on the basis of the financial ratios, ageing and expected dates of realisation of financial assets
and payment of financial liabilities, other information accompanying the financial statements,
• the auditor’s knowledge of the Board of Directors and management plans,
• whether the auditor is of the opinion that no material uncertainty exists as on the date of the
audit report that company is capable of meeting its liabilities existing at the date of balance sheet
as and when they fall due within a period of one year from the balance sheet date
Clause (xx) Unspent CSR amount

(a) whether, in respect of other than ongoing projects, the company has transferred unspent amount
to a Fund specified in Schedule VII to the Companies Act within a period of six months of the
expiry of the financial year in compliance with sec 135(5) of Companies Act
(b) whether any amount remaining unspent under sub-section (5) of section 135 of the
Companies Act, pursuant to any ongoing project, has been transferred to special account in
compliance with the provision of Sec 135(6) of the Act.

Clause (xxi) Qualification or Adverse Remark in CARO report of Group Companies
• whether there have been any qualifications or adverse remarks by the respective auditors in the
Companies (Auditor's Report) Order (CARO) reports of the companies included in the consolidated
financial statements,
• if yes, indicate the details of the companies and the paragraph numbers of the CARO report
containing the qualifications or adverse remarks.
Reasons to be stted for unfavourable or qualified answers-

(a) Where, in the auditor's report, the answer to any of the questions referred to in paragraph 3 is
unfavourable or qualified, the auditor's report shall also state the basis for such unfavourable or
qualified answer, as the case may be.
(b) Where the auditor is unable to express any opinion on any specified matter, his report shall
indicate such fact together with the reasons as to why it is not possible for him to give his opinion on
the same.

SPECIAL FEATURES OF AUDIT OF DIFFERENT TYPES OF ENTITIES
Chapter Overview
Government Audit
Audit of NPO
Audit of
• Sole Trader
• Firm
• Educational Institution
• Hospitals
• Cinema Halls
• Club
• Hotels
• Hire Purchase and Leasing Company
• Local Bodies
• Co-operative societies
• LLP
• Trust
• Charitable Institution
GOVERNMENT AUDIT
1. Introduction
• The concept, content and scope of government audit have developed in tune with the political, social
and economic development of the countries.
• It has also responded to the needs of the administration. It aims to ensure accountability of the
executive in respect of public revenue and expenditure.
• the Parliament and in case of States, the State legislatures control all government expenditure through
insistence upon demand for grants.
• The main idea underlying this control is that no expenditure can be incurred unless it has been voted
upon by the Parliament or State Legislatures and funds for every such expenditure must be provided
from out of the Consolidated Fund of India or of the State.
• Parliamentary or Legislative control is exercised before spending and after the expenditure is actually
incurred.
2. Meaning of Government Audit

Government auditing may be defined as
• the objective, systematic, professional and independent examination

• of financial, administrative and other operations of a public entity made subsequently to their execution
• for the purpose of evaluating and verifying them, presenting a report containing explanatory comments
on audit findings together with conclusions and recommendations
• for future actions by the responsible officials
and
• in the case of examination of financial statements, expressing the appropriate professional opinion
regarding the fairness of the presentation

3. Objective of Government Audit
The objectives of Govt. Audit are
Appraisal of Base for

Accounting for Administration
Government corrective
Public funds accountability
policies actions
(a) Accounting for Public Funds: -Government audit serves as a mechanism or process for public
accounting of government funds.
(b) Appraisal of Government policies: -It also provides public accounting of the operational,
management, programme and policy aspects of public administration as well as accountability of the officials
administering them.
(c) Base for Corrective actions: -Audit observations based on factual data collection also serve to
highlight the lapses of the lower hierarchy, thus helping supervisory level officers to take corrective measures.
(d) Administrative accountability: - Government audit is neither equipped nor intended to function as
an investigating agency, to pursue every irregularity or misdemeanour to its logical end. The main objective of
audit is a combination of ensuring accountability of administration to legislature and functioning as an aid to
administration.
4. Legal Framework and Comptroller and Auditor General of India
Appointment: CAG shall be appointed by the President of India

Removal: CAG shall not be removed from office except on the ground of proven mis-behaviour or incapacity.
He can be removed only when each House of Parliament decides to do so by a majority of not less than 2/3rd
of the members of the House present and voting.
Remuneration: The Parliament is competent to make laws to determine salary and other conditions of service
and they cannot be varied to his disadvantage after his appointment. CAG should be paid remuneration
equivalent to that of SC judge.
Tenure: CAG shall hold office for 6 years or upto the age of 65 years, whichever is earlier
5. Constitutional Provisons

Constitutional
Provisions
Article 149 Article 150 Article 151
the accounts of the the reports of the

he shall perform such Union and of the C&AG relating to the
duties and exercise such States shall be kept accounts of the
powers in relation to the in such form as the Union/State shall be
accounts of Union and President may on submitted to the
State and any other body the advice of the President/Governor
prescribed by the C&AG prescribe. who shall cause them
Parliamenent to be laid before House
of Parliament/State
Legislature.
6. Duties of CAG
Duties of the C&AG:
(i) Compile and submit Accounts of Union and States - The Comptroller and Auditor General shall
be responsible for compiling the accounts of the Union and of each State and submit those
accounts to the President or Governor or Administrator.
The CAG shall, give to the Union Government, to the State Government or to the Governments
of Union Territories having Legislative Assemblies, as the case may be, such information as they
may, from time to time, require and render such assistance in the preparation of the annual
financial statements as they may reasonably ask for.
(ii) General Provisions relating to Audit:

It shall be the duty of the Comptroller and Auditor General—
a. to audit and report on all expenditure from the Consolidated Fund of India
and of each State and of each Union Territory having a Legislative Assembly
and to ascertain whether the moneys shown in the accounts as having been
disbursed were legally available for and applicable to the service or purpose
to which they have been applied or charged and whether the expenditure
conforms to the authority which governs it;
b. to audit and report all transactions of the Union and of the States relating to
Contingency Funds and Public Accounts;
c. to audit and report on all trading, manufacturing and profit and loss accounts
and balance-sheets and other subsidiary accounts kept in any department of
the Union or of a State.
(iii) Audit of Receipts and Expenditure –
Where anybody or authority is substantially financed by grants or loans from the Consolidated
Fund of India or of any State or of any Union Territory, the CAG shall, audit all receipts and
expenditure of that body or authority and to report on the receipts and expenditure audited
by him.

Meaning of Substantially financed :- Where the grant or loan to a body
or authority from the Consolidated Fund of India or of any State or of
any Union Territory in a financial year is not less than `
• 25 lakhs and
• the amount of such grant or loan is not less than 75% of the total
expenditure of that body or authority,
(iv) Audit of Grants or Loans - Where any grant or loan is given for any specific purpose from the
Consolidated Fund of India or of any State or of any Union Territory to any authority or body,
not being a foreign State or international organisation, the CAG shall scrutinise the procedures
by which the sanctioning authority satisfies itself as to the fulfillment of the conditions subject
to which such grants or loans were given.
(v) Audit of Receipts of Union or States - It shall be the duty of the CAG to audit all receipts which are
payable into the Consolidated Fund of India and of each State and of each Union Territory and
to satisfy himself that the rules and procedures in that behalf are designed to secure an
effective check on the assessment, collection and proper allocation of revenue.
(vi) Audit of Accounts of Stores and Inventory - The Comptroller and Auditor General shall have
authority to audit and report on the accounts of stores and inventory kept in any office or
department of the Union or of a State.
(vii) Audit of Government Companies and Corporations - The duties and powers of the Comptroller and
Auditor General in relation to the audit of the accounts of government companies shall be
performed and exercised by him in accordance with the provisions of the Companies Act, 2013.
(a) The Comptroller and Auditor- General of India shall appoint the auditor under section
139(5) or 139(7) (i.e., appointment of First Auditor or Subsequent Auditor) and
(b) direct such auditor the manner in which the accounts of the Government company are
required to be audited and
(c) thereupon the auditor so appointed shall submit a copy of the audit report to the CAG of
India which, among other things, include the directions, if any, issued by the Comptroller
and Auditor-General of India, the action taken thereon and its impact on the accounts
and financial statement of the company.
7. Powers of CAG
Inspection Transmission Enquiry
The C&AG Act gives the following powers to the C&AG in connection with the performance of his duties-
(a) To inspect any office of accounts under the control of the Union or a State Government including
office responsible for the creation of the initial or subsidiary accounts.
(b) To require that any accounts, books, papers and other documents which deal with or are otherwise
relevant to the transactions under audit, be sent to specified places.

(c) To put such questions or make such observations as he may consider necessary to the person in
charge of the office and to call for such information as he may require for the preparation of any account or
report which is his duty to prepare.
(d) In carrying out the audit, the C&AG has the power to dispense with any part of detailed audit of any
accounts or class of transactions and to apply such limited checks in relation to such accounts or transactions as
he may determine.
EXPENDITURE AUDIT
The basic standards set for audit of expenditure are to ensure that there is provision of funds authorised by
competent authority fixing the limits within which expenditure can be incurred. These standards are—
• That the expenditure incurred conforms to the relevant provisions of the statutory enactment and in
accordance with the Financial Rules and Regulations framed by the competent authority. Such an audit
is called as the audit against ‘rules and orders’.
• that there is sanction, either special or general, accorded by competent authority authorising the
expenditure. Such an audit is called as the audit of sanctions.
• that there is a provision of funds out of which expenditure can be incurred and the same has been
authorised by competent authority. Such an audit is called as audit against provision of funds.
• that the expenditure is incurred with due regard to broad and general principles
of financial propriety. Such an audit is also called as propriety audit.
• that the various programmes, schemes and projects where large financial expenditure has been
incurred are being run economically and are yielding results expected of them. Such an audit is termed
as the performance audit.
Expenditure
Audit
Audit against
Audit Against Audit of Performance
provision of Propriety Audit
Rules or orders Sanctions Audit
funds
Audit against Rules & Orders
It aims to ensure that the expenditure conforms to the relevant provisions of the Constitution and of the laws
and rules made thereunder. It also seeks to satisfy that the expenditure is in accordance with the financial
rules, regulations and orders issued by a competent authority.
These rules, regulations and orders against which regularity audit is conducted mainly fall under the
following categories:
(i) Rules and orders regulating the powers to incur and sanction expenditure from the Consolidated Fund
of India or of a State (and the Contingency Fund of India or of a State);
(ii) Rules and orders dealing with the mode of presentation of claims against government, withdrawing
moneys from the Consolidated Fund, Contingency Fund and Public Accounts of the Government of the India
and of the States, and in general the financial rules prescribing the detailed procedure to be followed by
government servants in dealing with government transactions; and
(iii) Rules and orders regulating the conditions of service, pay and allowances, and pensions of
government servants.

It is the function of the executive government to frame rules, regulations and orders, which are to be observed
by its subordinate authorities
It is the function of audit to carry out examination of the various rules, regulations and
orders issued by the executive authorities to see that:
(a) they are not inconsistent with any provisions of the Constitution or any laws made thereunder;
(b) they are consistent with the essential requirements of audit and accounts as determined by the
C&AG;
(c) they do not come in conflict with the orders of, or rules made by, any higher authority; and
(d) in case they have not been separately approved by competent authority, the issuing authority
possesses the necessary rule-making power.
Audit of sanctions
The auditor has to ensure that each item of expenditure is covered by a sanction, either general or special, of
the competent authority.
The audit of sanctions is directed both in respect of ensuring that
• the expenditure is properly covered by a sanction, and

• also to satisfy that the authority sanctioning it is competent for the purpose by virtue of the powers
vested.
Audit against provision of funds
Audit against provision of funds aims at ascertaining that the expenditure incurred has been
• on the purpose for which the grant and appropriation had been provided and
• that the amount of such expenditure does not exceed the appropriation made.
Propriety audit
• According to ‘Propriety audit’, the auditors try to bring out cases of improper, avoidable, or ineffective
expenditure even though the expenditure has been incurred in conformity with the existing rules and
regulations.
• A transaction may satisfy all the requirements of regularity audit insofar as the various formalities
regarding rules and regulations are concerned, but may still be highly wasteful. e.g.:- A building may be
constructed for installing a telephone exchange but may not be used for the same purpose resulting in
unproductive expenditure or a school building may be constructed but used after five years of its
completion is a case of avoidable expenditure.
• Audit against propriety seeks to ensure that expenditure conforms to these principles which have
been stated as follows:
o The expenditure should not be prima facie more than the occasion demands. Every public
officer is expected to exercise the same vigilance in respect of expenditure incurred from public
moneys as a person of ordinary prudence would exercise in respect of expenditure of his own
money.
o No authority should exercise its powers of sanctioning expenditure to pass an order which will
be directly or indirectly to its own advantage.
o Public moneys should not be utilised for the benefit of a particular person or section of the
community unless:
▪ the amount of expenditure involved is insignificant; or
▪ a claim for the amount could be enforced in a Court of law; or
▪ the expenditure is in pursuance of a recognised policy or custom; and
▪ the amount of allowances, such as travelling allowances, granted to meet
expenditure of a particular type should be so regulated that the allowances are not,
on the whole, sources of profit to the recipients.

It is the responsibility of the executive departments to enforce economy in public
expenditure. The function of audit is to bring to the notice of the proper
authorities of wastefulness in public administration and cases of improper,
avoidable and ineffective/unproductive expenditure
Performance Audit
The scope of audit has been extended to cover efficiency, economy and effectiveness audit or performance audit,
or full scope audit: -
Efficiency audit: looks into whether the various schemes/projects are executed and their operations conducted
economically and whether they are yielding the results expected of them, i.e., the relationship between goods
and services produced and resources used to produce them; and examination aimed to find out the extent to
which operations are carried out in an economical and efficient manner.
Economy audit: looks into whether government have acquired the financial, human and physical resources in
an economical manner, and whether the sanctioning and spending authorities have observed economy.
Effectiveness audit: is an appraisal of the performance of programmes, schemes, projects with reference to the
overall targeted objectives as well as efficiency of the means adopted for the attainment of the objectives.
Efficiency- cum-performance audit: wherever used, is an objective examination of the financial and operational
performance of an organisation, programme, authority or function and is oriented towards identifying
opportunities for greater economy, and effectiveness.
The procedure for conducting performance audit covers

• identification of topic,
• preliminary study,
• planning,
• execution of audit, and
• reporting.
Audit of Receipts
An audit of receipts provides for checking;
(i) whether all revenues or other debts due to government have been correctly assessed, realised and
credited to government account by the designated authorities;
(ii) whether adequate regulations and procedures have been framed by the department/agency concerned
to secure an effective check on assessment, collection and proper allocation of cases;
(iii) whether such regulations and procedures are actually being carried out;
(iv) whether adequate checks are imposed to ensure the prompt detection and investigation of
irregularities, double refunds, fraudulent or forged refund vouchers or other loss of revenue through fraud or
willful omission or negligence to levy or collect taxes or to issue refunds; and
(v) review of systems and procedures to see that the internal procedures adequately secure correct and
regular accounting of demands collection and refunds and pursuant of dues up to final settlement and to suggest
improvement.
Note:
• The extent and quantum of audit required to be done under each category of audit are
determined by the C&AG.

• Institutional mechanism provides for primary check by the auditor, test check by the
supervisor and control and direction by the group leader.
• Planning, executing and reporting of work is directed and monitored at middle and top
levels of the audit hierarchy. There are built-in arrangements within the C&AG to ensure
that the work assigned to each employee is carried out as prescribed.
• The audit is conducted both centrally where accounts and original vouchers are kept and
locally where the drawing and disbursing functions are performed depending on the
organisational and institutional arrangements obtaining.
Audit of Stores and Inventories
Audit is conducted: -
• to ascertain whether the Regulations governing purchase, receipt and issue, custody, sale and inventory
taking of stores are well devised and properly carried out.
• to bring to the notice of the government any deficiencies in quantities of stores held or any defects in
the system of control.
• to verify that the purchases are properly sanctioned, made economical and in accordance with the Rules
for purchase laid down by the competent authority.
• to ensure that the prices paid are reasonable and are in agreement with those shown in the contract
for the supply of stores, and that the certificates of quality and quantity are furnished by the inspecting and
receiving units. Cases of uneconomical purchase of stores and losses attributable to defective or inferior quality
of stores are specifically brought by the audit.
• to check the accounts of receipts, issues and balances regarding accuracy, correctness and
reasonableness of balances in inventories with particular reference to the specified norms for level of
consumption of inventory holding.
Audit of Commercial Accounts
Public enterprises are required to maintain commercial accounts and are generally
classified under three categories—
(a) departmental enterprises engaged in commercial and trading operations, which are subject to the
same laws, financial and other regulations as other government departments and agencies;
(b) statutory bodies, corporations, created by specific statutes mostly financed by government in the form
of loans, grants, etc.; and
(c) government companies set up under the Companies Act, 2013.
The audit of :-
• Departmental concerns is undertaken in the same manner as any department of government where
commercial accounts are kept.
• Statutory bodies or corporations depends on the nature and type of the statute governing the bodies
or corporations..
• Government companies is conducted by their own auditors under the statute appointed by C&AG. In
addition, the C&AG conducts a supplementary test audit of the accounts, as well as periodical financial audit and
appraisal of performance. The C&AG also issues direction to the company auditors for reporting on specific
aspects of their audit work. These are reviewed, and condensed in the audit reports to the
government/legislatures. C&AG has adopted the mechanism of an Audit Board-comprising of representatives of
the audit and nominees of government including functional specialists to process reviews or appraisals on
performance.

Role of C&AG under the Companies Act, 2013.
Role of CAG under

Companies Act
Sec 143(5) Sec 143(6) Sec 143(7)
Power to appoint Power to conduct

Power to conduct
Govt. company Suplementary
Test Audit
auditor audit
Sec 143(5): The CAG of India shall appoint the First Auditor or Subsequent Auditor and direct such auditor the
manner in which the accounts of the Government company are required to be audited and thereupon the auditor
so appointed shall submit a copy of the audit report to the Comptroller and Auditor-General of India.
Sec 143(6): The CAG of India shall within 60 days from the date of receipt of the audit report have a right to,
(a) conduct a supplementary audit under section 143(6)(a), of the financial statement of the company by
such person or persons as he may authorize in this behalf; and for the purposes of such audit, require information
or additional information to be furnished to any person or persons, so authorised, on such matters, by such
person or persons, and in such form, as the CAG may direct; and
(b)comment upon or supplement such audit report.
Any comments given by the Comptroller and Auditor-General of India upon, or supplement to, the audit report
shall be sent by the company to every person entitled to copies of audited financial statements.
Sec 143 (7): the CAG of India may, if he considers necessary, by an order, cause test audit to be conducted of the
accounts of such company and the provisions of section 19A of the Comptroller and Auditor- General’s (Duties,
Powers and Conditions of Service) Act, 1971, shall apply to the report of such test audit.
The statutory auditors shall submit a copy of their audit report to the C&AG who shall have a
right to comment upon or supplement the audit report submitted by the statutory auditors in
such manner as he may think fit. Section 134(3) of the Companies Act, 2013 imposes a duty on
the board of directors of a company to give an explanation or comments on every reservation,
or adverse remarks or disclaimer contained in the auditors’ report and secretarial audit report
of the Company Secretary in practice. In the absence of similar provisions requiring the company
to give reply on the reservation made by the C&AG, the board of directors of such a company is
not bound to give information or explanation in respect of such comments.

Reporting Procedures
• The effectiveness of an audit depends on reporting results to the proper authority so that appropriate
action may be taken to rectify the irregularities or impropriety where possible or to prevent re-
occurrence.
• Article 151 of the Indian Constitution enjoins that the C&AG shall report on the accounts of the Union
and of each of the States to the President or the Governor concern and the latter shall cause the
report to be laid before the legislatures
• The reports should not only be presented to the legislatures but thereafter also publicised adequately
in order to create a proper climate of public opinion for taking remedial action where necessary, on
the findings of the Auditor General.
• In India, the reporting is factual and the conclusions are left to be drawn by the reader. This is
presumably to ensure total objectivity.
Audit of Local Bodies
Background
Municipality can be defined as a unit of local self-government in an urban area. By the term ‘local self-
government’ is ordinarily understood the administration of a locality – a village, a town, a city or any other area
smaller than a state – by a body representing the local inhabitants, possessing fairly large autonomy, raising at
least a part of its revenue through local taxation and spending its income on services which are regarded as local
and, therefore, distinct from state and central services.
Types: Municipal Government in India covers five different types of urban local authorities:
• Municipal Corporations
• Municipal Councils
• Notified Area Committees
• Town Area Committees
• Cantonments Committees
Functions: The functions of Municipal Authorities are endowed with specific local functions
covering:
• Regulatory
• Maintenance and
• Development activities.
Sources of funds: The auditor verifies the following income with the available evidence:
• Properly taxes & Octroi
• Profession tax
• Non - mechanized vehicles tax
• Taxes on advertisements
• Taxes on animals & boats
• Tolls
• Show tax
• Different types of grants from the state
• Administration.

Application of fund: The Auditor vouches following expenditures for the accuracy &
propriety:
• General administration & revenue collection
• Public health
• Public safety
• Education, Public works etc.
Types of Grants
Local bodies may receive different types of grants from the state administration as well. Broadly, the revenue
grants are of three categories:
(a) General purpose grants: These are primarily intended to substantially bridge the gap between the
needs and resources of the local bodies.
(b) Specific purpose grants: These grants which are tied to the provision of certain services or performance
of certain tasks.
(c) Statutory and compensatory grants: These grants, under various enactments, are given to local bodies
as compensation on account of loss of any revenue on taking over a tax by state government from local
government.
Salient features of Financial Administration of Local Bodies

The salient features of Financial Administration of Local Bodies may be grouped under three heads:
Bugdetory control Expenditure Control Accounting System
Budgetary Control:
• This is geared to subserve the twin considerations of financial accountability and control of expenditure.
• The main objective is to ensure that funds are raised and moneys are spent by the executive
departments in accordance with the rules and regulations and within the limits of sanction and
authorisation by the legislature or council.
• Budget preparation is usually the occasion for determining the levels of taxation and rates and the
ceilings on expenditure.
• There is no strict separation between revenue and capital items;
(b) Expenditure Control:

• The system of financial control existing in the state and central government level is conditioned by the
fact that there is a clear demarcation between the legislature and executive.
• The integration of legislation and executive powers in the municipal council makes it difficult for its
executive to function as its inquisitorial body as well.
• Moreover the separation of executive powers and functions in municipal government cannot
accommodate the existence of an independent finance officer responsible to the municipal council or
its executive committee. This leaves the system of external audit by state government as the only
instrument of controlling municipal expenditure.
(c) Accounting System:

• Municipal accounting and budget format have been criticised as neither simple nor comprehensible,
sometimes providing inadequate information and at other times a surfeit of information.
• Both these situations are not conducive to a proper system of management information.

Objectives of Audit
• Reporting on the fairness of the content and presentation of financial statements
• Reporting upon the strengths and weaknesses of systems of financial controls
• Reporting on the adherence to legal and / or administrative requirements
• Reporting upon whether value is being fully received on money spent, and
• Detection and Prevention of error, fraud, and misuse of resources.
Audit Program
(i) APPOINTMENT: -
• The Local Fund Audit Wing of the State Govt. is generally in-charge of the audit of municipal accounts.
• Sometimes bigger municipal corporations e.g. Delhi, Mumbai etc. have power to appoint their own
auditors for regular external audit.
• The auditor should ensure his appointment.
(ii) AUDITOR’S CONCERNS: -The auditor while auditing the local bodies should report on the
• fairness of the contents and presentation of financial statements,

• the strengths and weaknesses of system of financial control,
• the adherence to legal and/or administrative requirements;
• whether value is being fully received on money spent.
His objective should be to detect errors and fraud and misuse of resources
(iii) RULES & REGULATIONS: - The auditor should ensure that the expenditure incurred conforms to the
relevant provisions of the law and is in accordance with the financial rules and regulations framed by the
competent authority.
(iv) AUTHORISATIONS: - He should ensure that all types of sanctions, either special or general, accorded by
the competent authority.
(v) PROVISIONING: - He should ensure that there is a provision of funds and the expenditure is incurred
from the provision and the same has been authorized by the competent authority.
(vi) PERFORMANCE: - The auditor should check that the different schemes, programmes and projects,
where large financial expenditure has been incurred, are running economically and getting the expected results.
Audit of NGO
Background
• NGOs can be defined as non-profit making organisations which raise funds from members, donors or
contributors apart from receiving donation of time, energy and skills for achieving their social objectives
like imparting education, providing medical facilities etc
• This definition of NGO would include religious organisations, voluntary health and welfare agencies,
charitable organisations, hospitals, old age homes, research foundations etc.
• Non-Governmental Organisations are generally incorporated as
• societies under the Societies Registration Act, 1860 or
• as a trust under the India Trust Act, 1882, or
• under any other law corresponding to these Laws enforced in any part of India.

• NGOs can also be incorporated as a company under section 8 of the Companies Act, 2013
None of the above-mentioned Act warrant a mandatory registration under them for an NGO. But if an NGO is
created as a trust and trust relates to immovable property worth more than one hundred rupees, the provision
of Section 17(1) of the Registration Act, 1908 read with Section 123 of the Transfer of Property Act, 1882 must be
complied with and the registration of trust becomes mandatory. In some states, such as the states of
Maharashtra and Gujarat, where Public Trusts Acts have been passed, such as the Bombay Public Trusts Act 1950,
all charitable trusts have to be registered under these specific Public Trusts Acts. Registration under the Income
Tax Act, 1961 and the Foreign Contribution (Regulation) Act, 2010 would also be invoked in many cases.
Sources and Applications of Funds

SOURCES OF FUNDS
• Revolving fund contribution: The aim of this fund is to revolve the amount by giving
temporary loans. The interest income earned there from is added to the fund.
• Corpus contribution: A contribution made towards the capital corpus of an NGO is known
as corpus contribution.
• Specific donations: These are acquired for specific purposes like acquiring fixed assets.
• Contributions in kind includes assets such as land, building, vehicles etc.
• Other income: Advertisement fees from members:
▪ Subscriptions
• Income from fund raising concerts.
Note:
a) Donations and grants received in the nature of promoter’s contribution are in the nature of capital
receipts and shown as liabilities in the Balance Sheet of NGO.
b) A contribution made towards the capital or the corpus of an NGO is known as corpus contribution
APPLICATION OF FUNDS
• Establishment costs.
• Maintenance expenses.
• Office and administration expenses.
• Program / Project expenses.
• Charity.
• Donation and contributions given.
Provisions Relating to Audit

• The auditors of an NGO registered under the Societies Registration Act, 1860 or the Indian
Trusts Act 1882 are normally appointed by the Management of the Society or Trust.
• The auditors of NGO registered under section 8 of the Companies Act, 2013 are appointed
by the members of the company.
• The Companies Act, 2013, Foreign Contribution (Regulation) Act 2010, Income Tax Act
1961 required that the accounts of the NGO be audited and submitted to the prescribed
authorities and failure to do so could lead to forfeiture of certain exemptions and benefits.
• The Foreign Contribution (Regulation) Act 2010 has prescribed the format and requires
that the same be furnished to the Ministry of Home Affairs within 60 days from the close
of the financial year i.e. by May 30 each year.
While planning the audit, the auditor may concentrate on the following:
(i) Knowledge of the NGO’s work, its mission and vision, areas of operations and environment in which
it operate.

(ii) Updating knowledge of relevant statutes especially with regard to recent amendments, circulars,
judicial decisions viz. Foreign Contribution (Regulation) Act 2010, Societies Registration Act, 1860, Income Tax
Act 1961 etc. and the Rules related to the statutes.
(iii) Reviewing the legal form of the Organisation and its Memorandum of Association, Articles of
Association, Rules and Regulations.
(iv) Reviewing the NGO’s Organisation chart, then Financial and Administrative Manuals, Project and
Programme Guidelines, Funding Agencies Requirements and formats, budgetary policies if any.
(v) Examination of minutes of the Board/Managing Committee/Governing Body/ Management and
Committees thereof to ascertain the impact of any decisions on the financial records.
(vi) Study the accounting system, procedures, internal controls and internal checks existing for the NGO
and verify their applicability.
(vii) Setting of materiality levels for audit purposes.
(viii) The nature and timing of reports or other communications.
(ix) The involvement of experts and their reports.
(x) Review the previous year’s Audit Report.
MATERIAL ITEMS TO BE VERIFIED

(i) Corpus Fund: The contributions / grants received towards corpus be vouched with special reference to
the letters from the donor(s). The interest income be checked with Investment Register and Physical Investments
in hand.
(ii) Reserves: Vouch transfers from projects / programmes with donors’ letters and board resolutions of
NGO. Also check transfer of gross value of asset sold from capital reserve to general reserve and adjustments
during the year.
(iii) Ear-marked Funds: Check requirements of donor’s institutions, board resolution of NGO, rules and
regulations of the schemes of the earmarked funds.
(iv) Project / Agency Balances: Vouch disbursements and expenditure as per agreements with donors for
each of the balances.
(v) Loans: Vouch loans with loan agreements, counterfoil of receipt issued.
(vi) Fixed Assets: Vouch all acquisitions / sale or disposal of assets including depreciation and the
authorisations for the same. Also check donor’s letters/ agreements for the grant. In the case of immovable
property check title, etc.
(vii) Investments: Check Investment Register and the investments physically ensuring that investments are
in the name of the NGO. Verify further investments and dis- investments for approval by the appropriate
authority and reference in the bank accounts for the principal amount and interest.
(viii) Cash in Hand: Physically verify the cash in hand and imprest balances, at the close of the year and
whether it tallies with the books of account.
(ix) Bank Balance: Check the bank reconciliation statements and ascertain details for old outstanding and
unadjusted amounts.
(x) Inventory: Verify inventory in hand and obtain certificate from the management for the
quantities and valuation of the same.
(xi) Programme and Project Expenses: Verify agreement with donor/contributor(s) supporting the
particular programme or project to ascertain the conditions with respect to undertaking the programme/project
and accordingly, in the case of programmes/projects involving contracts, ensure that income tax is deducted,
deposited and returns filed and verify the terms of the contract.

(xii) Establishment Expenses: Verify that provident fund, life insurance premium, employees state insurance
and their administrative charges are deducted, contributed and deposited within the prescribed time.
Also check other office and administrative expenses such as postage, stationery, travelling, etc.
The receipt of income of NGO may be checked on the following lines:
(i) Contributions and Grants for projects and programmes: Check agreements with donors and grants
letters to ensure that funds received have been accounted for. Check that all foreign contribution receipts are
deposited in the foreign contribution bank account as notified under the Foreign Contribution (Regulation) Act,
2010
(ii) Receipts from fund raising programmes: Verify in detail the internal control system and ascertain who
are the persons responsible for collection of funds and mode of receipt. Ensure that collections are counted and
deposited in the bank daily.
(iii) Membership Fees: Check fees received with Membership Register. Ensure proper classification is made
between entrance and annual fees and life membership fees. Reconcile fees received with fees to be received
during the year.
(iv) Subscriptions: Check with subscription register and receipts issued. Reconcile subscription received
with printing and dispatch of corresponding magazine / circulars / periodicals. Check the receipts with
subscription rate schedule.
(v) Interest and Dividends: Check the interest and dividends received and receivable with investments held
during the year.
AUDIT OF SOLE TRADER
• A sole trader is under no legal obligation to have his accounts audited.

• Many such individuals get their financial statement audited due to regulatory
requirements, such as inventory brokers or on a specific instructions of the bank for
approval of loans, etc.
APPOINTMENT OF AUDITOR
• Auditors of sole- proprietary concern shall be appointed by the sole proprietor himself.
• It is desirable that the contract of appointment of auditor in such a case should be in
writing;
• also that it should clearly define the scope of the work which the auditor is expected to
carry out. This helps to prevent misunderstanding.
• If the appointment of the auditor is not in writing, the auditor should write to his client
explaining the scope of his duties. While doing so, he should state the limitations, if any,
placed upon his work to obtain the client’s confirmation.
• The advantages and audit procedure discussed in following paragraphs of audit in case of
partnership firm would be similar in case of proprietorship. (REFER AUDIT OF
PARTNERSHIP FIRM)
AUDIT OF PARTNERSHIP FIRM
Appointment of Auditors:
• The auditor to a firm is usually appointed by the partners either on the basis of a decision
taken by them or to comply with a condition in the partnership agreement.
• His remuneration is also fixed by the partners.
• It is important that the letter of appointment should clearly state the nature and scope of
audit which is to be carried out and particulars of limitations, if any, under which he would
have to function.
• In case of change of auditor, it would be duty of incoming auditor to communicate with
the previous auditor.

• In case the firm is required to get its accounts audited under the requirements of any
statute, the auditor will have to qualify the report in case of non-compliance with the
Matters to be considered before starting audit: Also, before starting the audit, he should
examine the partnership agreement and note the provisions therein as regards the
following matters:
1. The name and style under which the business shall be conducted.
2. The duration of the partnership, if any, that has been agreed upon.
3. The amount of capital that shall be contributed by each partner—whether it will be fixed or could be
varied from year to year.
4. The period at the end of which the accounts of the partnership will be closed periodically and the
proportions in which the profit shall be divided among the partners or losses shall have to be contributed
by them; whether the losses shall be borne by the partners or whether any of the partners will not be
required to do so.
5. The provisions as regards maintenance of books of accounts.
6. Borrowing capacity of the partnership.
7. The rate at which interest will be allowed on the capitals and loans provided by partners and the rate at
which it will be charged on their drawings and current accounts.
8. Whether any salaries are payable to the partners or withdrawals are permitted against shares of profits
and, if so, to what extent?
9. Duties of the partners as regards the management of business of the firm;
10. Who shall operate the bank account of the firm? How will the surplus funds of the partnership be
invested?
Limitations and restrictions that have been agreed upon, the rights and powers of partners and on their
11. implied authority to pledge the firm’s credit or to render it liable.
Advantages of Audit of a Partnership Firm –

The advantages of audit of accounts of a partnership could be stated as follows:
(1) Disputes:- Audited accounts provide a convenient and reliable means of settling accounts
between the partners and, thereby, the possibility of occurrence of a dispute among them is mitigated.
(2) Dissolution:- On the retirement or death of a partner, audited accounts, which have been
accepted by the partners, constitute a reliable evidence for computing the amounts due to the retiring partner
or to the representative of the deceased partner in respect of his share of capital, profits and goodwill.
(3) Reliable:- Audited statement of accounts are relied upon by the banks when advancing loans,
as well as by prospective purchasers of the business, as evidence of the profitability of the concern and its
financial position.
(4) Admission:- Audited statements of account can be helpful in the negotiations to admit a
person as a partner, especially when they are available for a number of past years.
(5) Control: - An audit is an effective safeguard against any undue advantage being taken by a
working partner or partners especially in the case of those partners who are not actively associated with the
working of the firm.
Matters which should be specially considered in the audit of accounts of a partnership:

(i) Letter of Appointment: - Confirming that the letter of appointment, signed by a partner, duly
authorised, clearly states the nature and scope of audit contemplated by the partners,
especially the limitation, if any, under which the auditor shall have to function.
(ii) Partnership Documents: - Studying the minute book, if any, maintained to record the policy
decision taken by partners specially the minutes relating to authorisation of extraordinary and

capital expenditure, raising of loans; purchase of assets, extraordinary contracts entered into
and other such matters as are not of a routine nature.
(iii) Objects of Partnership: - Verifying that the business in which the partnership is engaged is
authorised by the partnership agreement; or by any extension or modification thereof agreed
to subsequently.
(iv) Books of Account: - Examining whether books of account appear to be reasonable and are
considered adequate in relation to the nature of the business of the partnership.
(v) Mutual Interest: - Verifying generally that the interest of no partner has suffered prejudicially
by an activity engaged in by the partnership which, it was not authorised to do under the
partnership deed or by any violation of a provision in the partnership agreements.
(vi) Provision for Taxes: - Confirming that a provision for the firm’s tax payable by the partnership
has been made in the accounts before arriving at the amount of profit divisible among the
partners.
(viii) Division of Profits: - Verifying that the profits and losses have been divided among the partners
in their agreed profit-sharing ratio.
Audit of LLP
Introduction
• LLP is governed by Limited Liability Partnership Act, 2008.
• Minimum of 2 Partners can form an LLP and atleast 2 partners would be Designated Partners who would
be required to take DPIN (Designated Partner Identification Number).
Small Limited Liability Partnership: Any LLP:

a) Contribution of which, does not exceed ₹ 25.00.000 or such higher amount, not exceeding ₹ 5 crore, as
may be prescribed; and
b) Turnover of which, as per the Statement of Accounts and Solvency for the immediately preceding financial
year, does not exceed ₹ 40.00,000 or such higher amount, not exceeding ₹ 50 crore, as may be prescribed.
Books of Accounts
LLP shall maintain such proper books of account which shall contain:
a) particulars of all sums of money received and expended by the LLP and the matters in respect of which
the receipt and expenditure takes place;
b) a record of the assets and liabilities of the LLP;
c) Statements of cost of goods purchased, inventories, WIP, finished goods and cost of goods sold; and
d) any other particulars which the partners may decide.
Audit of Accounts
• Accounts of LLP shall be audited in accordance with Rule 24 of LLP Rules, 2009.
• LLP whose turnover does not exceed, in any financial year, ₹ 40 Lakh, or whose contribution does not exceed
₹ 25 Lakh shall not be required to get its accounts audited.
If partners of such LLP decide to get the accounts of such LLP audited, the accounts shall be audited in accordance
with these rules.
Advantages/ Purpose/Need of Audit

• Detection of Errors: Auditing accounts helps in detecting errors & frauds & verification of financial
statements.

• Disputes: Disputes, if any between any partners in the matter of accounts can be settled with the help
of audited accounts.
• Reliability: Banks & financial institutions lend money to the firms only on the basis of audited accounts.
• Better Compliance and Management: Periodical visits & suggestions by the auditor will be helpful in
improving the management of the LLP.
• Reconstitution: For settling accounts between partners at the time of admission, death, retirement,
insolvency, insanity, etc. audited accounts are accepted by those concerned who have dealings with the LLP.
Returns to be maintained and filed by an LLP

• Every LLP Would be required to file annual return in Form 11 with ROC within 60 days of closer of
financial year. The annual return will be available for public inspection on payment of prescribed fees to Registrar.
• Every LLP is also required to submit Statement of Account and Solvency in Form 8 which shall be filed
within a period of 30 days from the end of 6 months the financial year to which the Statement of Account and
Solvency relates.
Appointment of Auditor
• Auditor may be appointed by the designated partners of the LLP:
a) At any time for the first financial year but before the end of first financial year.
b) At least 30 days prior to the end of each financial year (other than the first financial year).
c) To fill the casual vacancy in the office of auditor.
d) To fill the casual vacancy caused by removal of auditor.
Note: Partners may appoint the auditors if the designated partners have failed to appoint them.
Auditor's duty regarding Audit of LLP

a) Engagement letter: Auditor should obtain instructions in writing as to the work to be performed by him.
b) Minute Book: If minute book is being maintained, auditor shall refer it for any resolution passed
regarding the accounts.
c) LLP Agreement: Auditor should read the LLP agreement & note the following provisions
• Nature of the business of LLP
• Capital contributed by each partner
• Interest in respect of capital contributions
• Duration of partnership
• Drawings allowed to the partners
• Salaries, commission etc. payable to partners
• Rights & duties of partners
• Method of settlement of accounts between partners at the time of admission, retirement, admission
etc.
• Any loans advanced by the partners
• Profit sharing ratio
d) Reporting: Auditor should report
• Whether the records reflect true and fair view;

• Whether he obtains all information & explanation;
• Whether any restriction imposed upon him.
Audit of Charitable Institutions
In the case of audit of a charitable institution, attention should be paid to the following
matters-
General
I. Determine the constitution under which the charitable institution has been established.
II. Ensure that the institution is being managed in the manner contemplated by the law under which it has
been established.
III. Examine the system of internal check, especially as to accounting of receipts.
IV. Verifying in detail the income and ensure that the amounts received have been deposited in the bank
regularly and promptly.
Incomes
Subscriptions and donations
I. Determine whether any changes made in amount of annual or life membership subscription during the
year.
II. Ensure the following in relation to official receipts;
a. issue of official receipts
b. adequate control is imposed over unused receipt books;
c. obtain all receipt books covering the period under review;
d. test check the counterfoils with the cash book;
e. cancelled receipts to be specially looked into;
f. obtain the printed list of subscriptions and donations and agreeing them with the total collections
shown in the accounts;
g. examine the system of internal check regarding moneys received from box collections, flag days, etc.,
and
h. Verifying the total subscriptions and donations received with any figures published in reports, etc.
issued by the charity.
Other incomes
a) Legacies and Grants: Verify amounts of legacies, grants, charities etc. received by reference to
correspondence with any figures and other available information.
b) Investment Income:
• Vouch amounts received with dividend and interest counterfoils.
• Check calculations of interest received on securities bearing fixed rates of interest.
• Check that appropriate dividend has been received where any investment has been sold ex-dividend or
purchased cum-dividend.
• Compare dividend received with schedule of investments making special enquiries into any investments
held for which no dividend has been received.

c) Rental Income: If any property is given or taken on rent, the tenancy agreement should be checked to
determine the accuracy of rent received or paid.
d) Special functions: Vouching gross receipts and outgoings in respect of any special functions, e.g.,
concerts, dramatic performance, etc., held in aid of the charity with such vouchers and cash
statements as are necessary. In particular, verifying that the proceeds of all tickets issued have been
accounted for, after making the allowance for returns.
(e) Income-tax Refunds:
Where income-tax has been deducted at source from Investment income, it should be seen that a refund thereof
has been obtained since charitable institutions are exempt from payment of Income-tax. This involves:
• Vouching the refund with correspondence with the Income-tax department; and
• Checking the calculation of the repayment of claims.
Expenditures
I. If any grant is being allowed to any person, verify whether grant have been paid only for a charitable
purpose or purposes falling within the purview of the objects.
II. Verify the schedules of securities held, as well as inventories of properties both movable and immovable
by inspecting the securities and title deeds of property and by physical verification of the movable properties on
a test basis.
III. Verifying the cash and bank balances.
IV. Ascertaining that any funds contributed for a special purpose have been utilized for the purpose.
Audit of Educational Institutions (school, colleges etc )
General
1. In the case of school or college, examine the Trust Deed or Regulations, and note all the provisions
affecting accounts.
2. In the case of a university, refer to the Act of Legislature and the Regulation framed thereunder.
3. Read through the minutes of the meetings of the Managing Committee or Governing Body, noting
resolutions affecting accounts to see that these have been duly complied with, specially the decisions as regards
the operation of bank accounts and sanctioning of expenditure.
Fee from Students

1. Check names entered in the Students Fee Register and verify that there operates a system of internal
check which ensures that demands against the students are properly raised.
2. Check fees received through comparison of counterfoils of receipts issued with entries in the Cash Book.
3. Examine that fee paid in advance, if any, have been carried forward and that the arrears that are
irrecoverable have been written off under the sanction of an appropriate authority.
4. Ensure that admission fees received during the period has been credited to a Capital fund, unless the
Managing Committee has taken a decision to the contrary.
5. Check whether scholarships and concessions are granted by authorized person, having regard to the
Rules prepared by the managing committee.
6. Confirm that fines for late payment or absence, etc. have been either collected or remitted under proper
authority.
7. Confirm that hostel dues were recovered before student's accounts were closed and their deposits of
caution money refunded.

Other Receipts/ Grants & Donations
1. Verify rental income from landed property with the rent rolls, etc.
2. Vouch income from endowments and legacies, as well as interest and dividends from investment; also
inspect the securities in respect of investments held.
3. Verify any Government or local authority grant with the memo of grant. If any expense has been
disallowed for purposes of grant. Ascertain the reasons thereof.
Expenditure
1. Verify that the Provident Fund money of the staff has been invested in appropriate securities.
2. Vouch donations, if any with the list published with the annual report. If some donations were meant
for any specific purpose, see that the money was utilized for the purpose.
3. Vouch, all capital expenditure in the usual way and verify the same with the sanction for the Committee
as contained in the minute book.
4. Vouch, in the usual manner, all establishment expenses and enquire into any unduly heavy expenditure
under any head. If there was any annual budget prepared, see that any excess under any head over the budgeted
amount was duly sanctioned by the Managing Committee. If not, bring it to the Committee's notice in your
report.
5. See that increase in the salaries of the staff have been sanctioned and minute by the Committee.
Assets & Liabilities

1. Report any old heavy arrears on account of fees, dormitory rents, etc. to the Managing Committee.
2. Confirm that caution money and other deposits paid by students on admission, have been shown as
liability in the balance sheet not transferred to revenue, unless they are not refundable.
3. See that the investments representing endowment funds for prizes are kept separate and any income
in excess of the prizes has been accumulated and invested along with the corpus.
4. Ascertain that the system ordering inspection on receipt and issue of provisions, foodstuffs, clothing
and other equipment is efficient and all bills are duly authorized and passed before payment.
5. Verify the inventories of furniture, stationery, clothing, provision and all equipment etc. These should
be checked by reference to Inventory Register or corresponding inventories of the previous year and values
applied to various items should be test checked.
Compliances
1. Confirm that the refund of taxes deducted from the income from investment (interest on securities etc.)
has been claimed and recovered since the institutions are generally exempted from the payment of income-tax.
2. Verify annual statements of account and, while doing so examine that separate statements of account
have been prepared as regards Economically-weak Students Fund, Games Fund, Hostel and Provident Fund of
staff, etc.
Audit of Hospitals
The special steps involved in such an audit are stated below

1. Register of patients: Vouch the Register of patients with copies of bills issued to them. Verify
bills for a selected period with the patients' attendance record to see that the bills have been correctly prepared.
Also see that bills have been issued to all patients from whom an amount was recoverable according to the rules
of the hospital.
2. Collection of Cash: Check cash collections as entered in the Cash Book with the receipts,
counterfoils and other evidence. For e.g., copies of patient's bill, counterfoils of dividend and other interest
warrants, copies of rent bills etc.

3. Income from Investments, rent etc.: See by reference to the property and Investment Register
that all income that should have been received by way of rent on properties, dividends and interest on securities
have been collected.
4. Legacies and Donations: Ascertain that legacies and donations received for a specific purpose
have been applied in the manner agreed upon.
5. Reconciliation of Subscriptions: Trace all collections of subscription and donations from the
Cash Book to the respective Registers. Reconcile the total subscriptions due (as shown by the Subscription
Register and the amount collected and that still outstanding).
6. Authorization and sanctions: Vouch all purchases and expenses and verify that the capital
expenditure incurred only with the prior sanction of the trustees of the Managing Committee and that
appointments and increments to staff have been duly authorized.
7. Grants and TDS: Verify that grants, if any, received from Government or local authority has
been duly accounted for. Also, that refund in respect of taxes deducted at source has been claimed.
8. Budgets: Compare the totals of various items of expenditure and income with the amount
budgeted for them and report to the Trustees or the Managing Committee, significant variations which have
taken place.
9. Internal Check: Examine the internal check as regards the receipt and issue of stores,
medicines, linen, apparatus, clothing, instruments, etc. so as to ensure that purchases have been properly
recorded in the inventory Register and that issues have been made only against proper authorization.
10. Depreciation: See that depreciation has been written off against all the assets at the
appropriate rates.
11. Registers: Inspect the bonds, share scrips, title deeds of properties and compare their
particulars with those entered in the property and Investment Registers.
12. Inventories: Obtain inventories, especially of stocks and stores as at the end of the year and
check the percentage of the items physically, also compare their total values with respective ledger balances.
13. Management Representation and Certificate: Get proper Management Representation and
Certificate with respect to various aspects covered during the course of audit.
Audit of Club
The special steps involved in such an audit are stated below-
(1) Entrance Fee :- Vouch the receipt on account of entrance fees with members’ applications, counterfoils
issued to them, as well as on a reference to minutes of the Managing Committee.
(2) Subscriptions :- Vouch members’ subscriptions with the counterfoils of receipt issued to them, trace
receipts for a selected period to the Register of Members; also reconcile the amount of total subscriptions due
with the amount collected and that outstanding.
(3) Arrears of Subscriptions :- Ensure that arrears of subscriptions for the previous year have been correctly
brought over and arrears for the year under audit and subscriptions received in advance have been correctly
adjusted.
(4) Arithmetical accuracy :- Check totals of various columns of the Register of members and tally them
across.
(5) Irrecoverable Member Dues :- See the Register of Members to ascertain the Member’s dues which are
in arrear and enquire whether necessary steps have been taken for their recovery; the amount considered
irrecoverable should be mentioned in the Audit Report.

(6) Pricing :- Verify the internal check as regards members being charged with the price of foodstuffs and
drinks provided to them and their guests, as well as, with the fees chargeable for the special services rendered,
such as billiards, tennis, etc.
(7) Member Accounts :- Trace debits for a selected period from subsidiary registers maintained in respect
of supplies and services to members to confirm that the account of every member has been debited with
amounts recoverable from him.
(8) Purchases :- Vouch purchase of sports items, furniture, crockery, etc. and trace their entries into the
respective inventory registers.
(9) Margins earned :- Vouch purchases of foodstuffs, cigars, wines, etc., and test their sale price so as to
confirm that the normal rates of gross profit have been earned on their sales. The inventory of unsold provisions
and stores, at the end of year, should be verified physically and its valuation checked.
(10) Inventories :- Check the inventory of furniture, sports material and other assets physically with the
respective inventory registers or inventories prepared at the end of theyear.
(11) Investments :- Inspect the share scrips and bonds in respect of investments, check their current values
for disclosure in final accounts; also ascertain that the arrangements for their safe custody are satisfactory.
(12) Management Powers :- Examine the financial powers of the secretary and, if these have been exceeded,
report specific case for confirmation by the Managing Committee.
AUDIT OF CINEMA
The special steps involved in its audit are stated below-
(1) Verify the internal control mechanism-
(a) that entrance to the cinema-hall during show is only through printed tickets;
(b) that they are serially numbered and bound into books;
(c) that the number of tickets issued for each show and class, are different though the numbers
of the same class for the show on the same day, each week, run serially;
(d) that for advance booking a separate series of tickets is issued; and
(e) that the inventory of tickets is kept in the custody of a responsible
official.
(2) Confirm that at the end of show, a statement of tickets sold is prepared and cash collected is agreed
with it.
(3) Verify that a record is kept of the ‘free passes’ and that these are issued under proper authority.
(4) Reconcile the amount of Tax collected with the total number of tickets issued for each class and vouch
and verify the tax returns filed each month.
(5) Vouch the entries in the Cash Book in respect of cash collected on sale of tickets for different shows on
a reference to Daily Statements which have been test checked as aforementioned with record of tickets issued
for the different shows held.
(6) Verify the charges collected for advertisement slides and shorts by reference to the Register of Slides
and Shorts Exhibited kept at the cinema as well with the agreements, entered into with advertisers in this regard.
(7) Vouch the expenditure incurred on advertisement, repairs and maintenance. No part of such
expenditure should be capitalized.
(8) Confirm that depreciation on machinery and furniture has been charged at an appropriate rate.

(9) Vouch payments on account of film hire with bills of distributors and in the process, the agreements
concerned should be referred to.
(10) Examine unadjusted balance out of advance paid to the distributors against film hire contracts to see
that they are good and recoverable. If any film in respect of which an advance was paid has already run, it should
be enquired as to why the advance has not been adjusted. The management should be asked to make a provision
in respect of advances that are considered irrecoverable.
(11) The arrangement for collection of the share in the restaurant income should be enquired into either a
fixed sum or a fixed percentage of the taking may be receivable annually. In case the restaurant is run by the
Cinema, its accounts should be checked. The audit should cover sale of various items of foodstuffs, purchase of
foodstuffs, cold drink, etc. as in the case of club.
Audit of Hire Purchase and Leasing Companies
Meaning:
A Hire-purchase agreement means an agreement under which goods are let on hire and under which the hirer
has an option to purchase them in accordance with the terms of the agreement and includes an agreement
under which-
(i) possession of goods is delivered by the owner thereof to a person on condition that such
person pays the agreed amount in periodical instalments,
(ii) the property in the goods is to pass to such person on the payment of the last of such
instalments, and
(iii) such person has a right to terminate the agreement at any time before the property so passes.
Hire Purchase Companies

1. The hire purchase agreement should be in writing and be signed by all parties.
2. Hire purchase agreement should clearly specify the following:
• the hire purchase price of the goods;
• the cash price of the goods;
• the date of commencement of the hire purchase agreement;
• the number of instalments by which the hire purchase price is to be paid, the amount of those
instalments, the due date etc.;
• the description of goods involved in the hire purchase agreement;
• Procedures to be followed in case of default by the hire purchaser.
3. Check whether the payments are being received regularly as per the agreement.
Leasing Companies
1. Object clause of leasing company is to be studied to see that the goods like capital goods, consumer
durables etc. in respect of which the company can undertake such activities and to ensure that whether company
can undertake financing activities or not.
2. Whether there exists a procedure to ascertain the credit analysis of lessee like lessee's ability to meet
the commitment under lease, past credit record, capital strength, availability of collateral security, etc.
3. The lease agreement should be examined and the following points may be noted.
• The description of the lessor, the lessee, the equipment and the location where the equipment is
installed;
• the stipulation regarding the use of the equipment;

• the tenure of lease, due dates, late charges, security deposits etc.,
• Whether the equipment shall be returned to the lessor on termination of the agreement and the cost
shall be borne by the lessee;
• Whether the agreement prohibits the lessee from subletting the equipment.
4. Examine the lease proposal form submitted by the lessee requesting the lessor to provide him the
equipment on lease.
5. Ensure that the invoice is retained safely as the lease is a long-term contract.
6. Examine the acceptance letter obtained from the lessee indicating that the equipment has been
received in order and is acceptable to the lessee.
7. See Board resolution authorising a particular director to execute the lease agreement has been passed
by the lessee.
8. See that copies of the insurance policies have been obtained by the lessor for his records.
Types of Lease Agreements

As per AS-19 lease arrangements could be of 2 types i.e. Finance Lease and Operating Lease.
a. Finance Lease: An arrangement with the following attributes qualifies as a Finance Lease:
1. Lease arrangement transfers ownership of the asset to the lessee at the end of the lease term;
2. Lessee has the option to purchase the asset at a price that is expected to be sufficiently lower than the
fair value at the date the option becomes exercisable for it to be reasonably certain, at the inception of the lease,
that the option will be exercised;
3. Lease term is for the major part of the economic life of the asset even if title is not transferred;
4. At the inception of the lease, the present value of the minimum lease payments amounts to at least
substantially all of the fair value of the leased asset; and
5. Leased assets are of such a specialized nature that only the lessee can use them without major
modifications
b. Operating Lease: An arrangement that does not transfer substantially all the risks and rewards
incidental to ownership qualifies as an Operating Lease. In other words, an operating lease is a lease arrangement
"Other than finance lease".
Operating lease vs. Finance Lease
Operating Lease Financial Lease
Common examples Lease of Computers, Laptops, Lease of Land, Building, Plant and
Coffee Dispensers etc Machinery etc.
Ownership of Assets Remains with the lessor for the Ownership transfer option at end
entire period of lease. of lease period is with the lessee.
Accounting treatment Operating lease is generally Financial lease is treated like loan
treated like a renting arrangement. arrangement. Asset ownership is
Lease payments are treated as considered of that of the lessee
operating expenses and asset does and thus appears on the balance
not appear as an asset on lessee's sheet of the lessee.
balance sheet

Purchase Option . Lessee does not have any option to Lessee have a purchase option at
buy the asset during the lease less than fair market value of
period asset.
Lease Term Lease term generally extends to Lease term is generally more than
less than 75% of projected useful or equal to estimated economic
life of the leased asset. life of the asset
Operating/ running expenses. Lessee pays only monthly lease Lessee generally bears insurance,
payments. No running cost are to maintenance taxes.
be borne.
Tax benefit Operating lease is as good as Lessee can claim both interest and
renting, lease payment is depreciation expense as financial
considered as expense. No lease are treated like a loan.
depreciation can be claimed by the
lessee.
Audit of Hotels
Internal Controls
• Pilfering is one of the greatest problems in any hotel and importance of internal control cannot be
undermined. It is the responsibility of management to introduce controls which will minimize the leakage.
Evidence of their success is provided by preparation of regular trading accounts for each sales point and a
detailed scrutiny of resulting profit percentages, with any deviation from the anticipated.
• Auditor should obtain these regular trading accounts for the period under review, examine them and
obtain explanations for any apparent deviations.
• Auditor should verify a few restaurant bills by reference to K.0.T.s (Kitchen Order Tickets) or basic record.
This would enable him to ensure that controls regarding revenue cycle are in order
• Auditor should satisfy himself that all taxes collected from occupants on food and occupation have been
paid over to the proper authorities.
Room Sales & Hall Bookings
• Charge for room sales is normally posted to guest bills by the receptionist/front office. Source of these
entries is invariably the guest register and audit tests should be carried out to ensure that the correct numbers
of guests are charged for the correct period. Any difference between the charged rates used on the guests' bills
and the standard room rate should be investigated to ensure that they have been properly authorized.
• In many hotels, housekeeper prepares a daily report of the rooms which were occupied the previous
night. This report tends not to be permanently retained and the auditor should ensure that a sufficient number
of reports are available for him to test both with the guest register and with the individual guest's bill.
• Auditor should ensure that proper valuation of occupancy-in-progress at the balance sheet date is made
and included in the accounts.
• Auditor should ensure that proper records are maintained for booking of halls and other premises for
special parties and recovered on the basis of the tariff.
Inventories
• Inventories in any hotel are both readily portable and saleable particularly the food and beverage
inventories. It is therefore extremely important that all movements and transfers of such inventories should be
properly documented to enable control to be exercised over each individual store's areas and sales point. Auditor
should carry out tests to ensure that all such documentation is accurately processed.

• Areas where large quantities of inventory are held should be kept locked, key being retained by
departmental manager. Key should be released only to trusted personnel and unauthorized persons should not
be permitted in the store's areas except under constant supervision.
• Many hotels use specialized professional valuers to take and value the inventories on a continuous basis
throughout the year. Such a valuation is then almost invariably used as the basis of the balance sheet inventory
figure at the year-end. Auditor should satisfied himself that the amounts included for such inventories are
reasonable. For this purpose, auditor should consider attending the physical inventory taking and carrying out
certain pricing and calculation tests. The extent of such tests could well be limited since the figures will have
been prepared independently of the hotel.
Travel Agents & Shops
• For ledgers coming through travel agents or other booking agencies, bills are usually made on the travel
agents or booking agencies. Auditor should ensure that money are recovered from the travel agents or booking
agencies as per the terms of credit allowed.
• Commission, if any, paid to travel agents or booking agents should be checked by reference to the
agreement on that behalf.
Audit of Co-operative Societies
Background
Meaning of Co-operative Society
A business organization with a special mode of doing business, by pulling together all means of production co-
operatively, elimination of middlemen and exploitation from outside forces.
Co-operative Societies Act, 1912
Central Act, containing the fundamental law regarding the formation and working of the co-operative societies
in India and is applicable in many states with or without amendments. In many states, viz., Maharashtra, West
Bengal, Orissa, the co-operative societies are governed by specific state Acts.
Role of Chartered Accountant
Apart from audit, some other professional services could be rendered by chartered accountants such as:
1) guidance in accounts writing
2) installation of accounting system,
3) internal audit,
4) management accounting services,
5) taxation etc.
Provisions Societies Law related with Audit

Section 17 of the Co-Operative Societies Act, 1912
1) Registrar shall audit or cause to be audited by authorized person, accounts of every registered society
once at least in every year.
2) Audit shall include an examination of overdue debts, if any, and a valuation of the assets and liabilities
of the society.
3) Registrar, Collector or any person authorized shall at all times have access to all books, accounts, papers
and securities of a society, and every officer of the society shall furnish such information in regard to transactions
and working of the society as the person making such inspection may require.
Important Provisions of Co-operative Societies Law

Qualifications of Auditors
Apart from a CA within the meaning of the CA Act, 1949, some of the State Co-operative Acts have permitted
persons holding a government diploma in co-operative accounts and accountancy as also a person who has
served as an auditor in co-operative department of a government to act as an auditor.
Appointment of the Auditor
• An auditor of a co-operative society is appointed by the Registrar.

• Auditor so appointed conducts the audit on behalf of the Registrar and submits his report
to him and also to the society.
• Audit fees is paid by the society on the basis of statutory scale of fees prescribed by the
Registrar.
Books, Accounts and other records of Co-operative Societies
U/s 43(h) of Co-operative Societies Act, a state government can frame rules prescribing books and account to be
kept by a co-operative society. For example, in Maharashtra, co-operative societies are required to maintain
books of account for the following:
I. All sums of money received and expended by the society
II. All sales and purchases of goods by the society.
III. Assets and liabilities of the society
Society is at liberty to maintain such additional records according to its convenience and which it thinks fit
more useful for clarity and detailed explanation. Examples of such additional records are:
a) Daily Cash Sales Summary Register
b) Register of Collection from Debtors in case of credit sales.
c) Register of recovery of loans from salaries and directly by receipts from members in case of credit
society.
d) Loan disbursement register.
e) Any other columnar subsidiaries depending upon nature and functions.
Restrictions on share holdings
• Sec. 5 provides that in the case of a society where the liability of a member of the society is limited, no
member of a society other than a registered society can hold such portion of share capital as would exceed a
maximum of 20% of the total number of shares or of the value of shareholding to ₹ 1,000.
• Auditor will be concerned with this provision so as to watch any breach relating to holding of shares.
Restrictions on loans
• A registered society shall not make a loan to any person other than a member.
• With the special sanction of the Registrar, a registered society may make a loan to another registered
society (Sec. 29).
• State Government may further put such restrictions as it thinks fit on the loaning powers of the society
to its members or to other societies.
Restrictions on borrowings
• A registered society may accept loans and deposits from its members and others subject to the
restrictions and limits of bye-laws of the society.

• Auditor will have to examine bye-laws in this respect (Sec. 30).
Investment of funds
As per Sec. 32, a society may invest its funds in the following:
a) In the Central or State Co-operative Bank
b) In any of the securities specified in Sec. 20 of Indian Trusts Act, 1882.
c) In shares, securities, bonds or debentures of any other society with limited liability.
d) In any co-operative bank, other than a Central or State co-operative bank, as approved by the Registrar.
e) In any other moneys permitted by the Central or State Government.
Appropriation of profits
Sec. 33 states that a prescribed percentage of profits should be transferred to Reserve Fund, before distribution
as dividends or bonus to members.
Contributions to Charitable purpose
As per Sec. 34, a registered society may, with the sanction of Registrar, contribute an amount not exceeding 10%
of net profits remaining after the compulsory transfer to the reserve fund for any charitable purpose.
Investment of Reserve Fund
Some of the State Acts provide that a society may use the Reserve Fund:
a) In the business of a society, as working capital.
b) may invest as per provisions of the Act.
c) may be used for some public purposes likely to promote the object of the society
Auditor should ensure strict compliance with the State Act and Rules.
Contribution to Education Fund
• Some State Acts provide that every society shall contribute annually towards Education Fund of State
Federal Society, at appropriate rate.
• Contribution to Education Fund is a charge on profits and not an appropriation.
Special Features of Audit

Examination of overdue debts
• Overdue debts for a period from 6 months to 5 years and more than 5 years will have to be classified
and shall have to be reported by an auditor.
• A further analysis of overdue debts from viewpoint of chances of recovery will have to be made, and
they will have to be classified as good or bad.
• Auditor will have to ascertain whether proper provisions for doubtful debts is made and whether the
same is satisfactory.
Overdue Interest
Overdue interest should be excluded from interest outstanding and accrued due while calculating profit.
Certification of Bad Debts
• Bad debts and irrecoverable losses before being written off against Bad Debts Funds, Reserve Fund etc.
should be certified as bad debts or irrecoverable losses by the auditor where the law so requires.

• Where no such requirement exists, managing committee must authorize the write-off.
Valuation of Assets and Liabilities
• Regarding valuation of assets there are no specific provisions under the Act and as such due regard shall
be had to the general principles of accounting and auditing conventions and standards adopted.
• Auditor will have to ascertain existence, ownership and valuation of assets. Fixed assets should be
valued at cost less adequate provision for depreciation. The incidental expenses incurred in the
acquisition and the installation expenses of assets should be properly capitalized.
• Current assets be valued at cost or market price, whichever is lower.
• Regarding liabilities, auditor should see that all known liabilities are brought into the account, and
contingent liabilities are stated by way of a note.
Adherence to Co-operative Principles
• Auditor will have to ascertain, how far the objects, for which the co -operative organisation is set up,
have been achieved.
• Assessment is not necessarily in terms of profits, but in terms of extending benefits to members who
have formed the society.
• While auditing expenses, auditor should see that they are economically incurred and there is no wastage
of funds.
• Principles of propriety audit should be followed for the purpose.
Observations of the Provisions of the Act and Rules
• Auditor is required to point out infringement with the provisions of Cooperative Societies Act and Rules
and bye-laws.
• Financial implications of such infringements should be properly assessed by the auditor and should be
reported.
• Some State Acts contain restrictions on payment of dividends, which should be noted by the auditor.
Verification of Members Register
Examination of entries in members pass books regarding the loan given and its repayments, and confirmation
of loan balances is very much important to assure that the entries in the books of account are free from
manipulation.
Special report to the Registrar

During the course of audit, if auditor notices that there are some serious irregularities in working of society, he
may report these special matters to the Registrar. Registrar on receipt of such a special report may take necessary
action against the society.
Circumstances in which special report is required:
I. Personal profiteering by members of managing committee in transactions of society, which are

detrimental to interest of society.
II. Detection of fraud relating to expenses, purchases, property and stores of the society.
III. Mis-management.
IV. In case of urban co-operative banks, disproportionate advances to vested interest groups, such as
relatives of management, & deliberate negligence about recovery thereof
Cases of reckless advancing, where management is negligent about taking adequate security and proper
safeguards for judging the credit worthiness of the party.

Audit classification of society
• After judgment on overall performance of society, auditor has to award a class to the society. This judgment
is to be based on the criteria specified by the Registrar.
• If management is not satisfied about award of audit class, it can make an appeal to Registrar, and Registrar
may direct to review the audit classification.
• Auditor should be very careful, while making a decision about the class of society.
Discussion of Draft Report with managing committee

• On conclusion of audit, auditor should ask the Secretary of society to convene a meeting of managing
committee to discuss draft audit report.
• Audit report should never be finalized without discussion with managing committee.
Provisions of Multi State Co Operative Societies Act, 2002

Multi-State Co-operative Societies Act, 2002 applies to co-operative societies whose objects are not confined to
one State.
Books of Accounts
Every multi state co-operative society shall keep books of account w.r.t.:
a) all sum of money received & expended;
b) all sales and purchases of goods;
c) assets and liabilities;
d) In case of Multi State Co-operative Society engaged in production, processing and manufacturing,
particulars relating to utilization of materials or labour or other term of cost as specified in bye laws.
Provisions relating to Audit

Qualification of Auditors
Section 72 of the Multi-State Co-operative Societies Act, 2002 states that a
• person who is a Chartered Accountant within the meaning of the Chartered Accountants
Act, 1949 can only be
• appointed as auditor of multi-state co-operative society.
However, the following persons are not eligible for appointment as auditors of a multi-state co-operative society-
(a) A body corporate.
(b) An officer or employee of the multi-state co-operative society.
(c) A person who is a member or who is in the employment, of an officer or employee of the multi-state
co-operative society.
(d) A person who is indebted to the multi-state co-operative society or who has given any guarantee or
provided any security in connection with the indebtedness of any third person to the Multi-State co-
operative society for an amount exceeding one thousand rupees.
Appointment of Auditor - Sec. 70
First Auditor
First Auditor shall be appointed by
o BOD within one month of date of registration.

o If BOD fails, society may appoint first auditor at General meeting.

Auditor so appointed hold office till conclusion of first AGM
Subsequent Auditor
• Subsequent auditors are appointed at each AGM.
• Auditor so appointed hold office till conclusion of next AGM.
Power of Auditor - Sec. 73(1)

• Right of access at all times to the books, accounts and vouchers whether kept at the head office or
elsewhere.
• Require from the officers or other employees, such information and explanation as the auditor may
think necessary for the performance of the duties as an auditor.
Duties
Conduct Inquiry - Sec. 73 (2)
a) Whether loans & advances made on the basis of security have been properly secured and whether the
terms on which they have been made are not prejudicial to interests of the society or its members;
b) Whether transactions which are represented merely by book entries are not prejudicial to interest of
Society;
c) Whether personal expenses have been charged to revenue account: and
d) Where it is stated in the books and papers that any shares have been allotted for cash, whether cash
has actually been received in respect of such allotment, and if no cash has actually been so received, whether
the position as stated in the account books and the balance sheet is correct, regular and not misleading.
Making Report
a) Auditor shall make a report to members on:
• accounts examined by him;
• every Balance Sheet & Profit and Loss Account; &
• every other document required to be part or annexed to the balance- or profit and loss account,
which are laid before society in general meeting.
Report shall state whether, in his opinion and to the best of his information and according to explanations given
to him. Said accounts give the information required by this Act in manner so required and give a true and fair
view.
i) in case of balance-sheet, of the state of affairs as at the end of its financial year; and
ii) In case of profit and loss account, of the profit or loss for its financial year.
c) Auditor's report shall also state:
(i) Whether he has obtained all the information and explanation which to the best of his knowledge
and belief were necessary for the purpose of his audit.
(ii) Whether, in his opinion, proper books of account have been kept, so far as appears from his
examination and proper returns have been received from branches not visited by him.
(iii) Whether report on accounts of any branch office audited by a person other than auditor has been
forwarded to him and how he has dealt with the same in preparing the auditor's report.
(iv)Whether balance sheet and profit and loss account are in agreement with books of account and
return.

Powers of C.G. to order Special audit - Sec. 77
C.G. may pass an order, any time, for the special audit if they are of opinion that the:
I. affairs are not being managed in accordance with co-operative principles or prudent commercial
practices or with sound business principles; or
II. society is being managed in a manner likely to cause serious injury or damage to the interests of the
trade industry or business to which it pertains; or
III. Financial position is such as to endanger solvency of the society.
1. Central Government's Order :-The Central Government may at any time by order direct that a special
audit of the Multi-State co-operative society’s accounts for such period or periods as may be specified in the
order shall be conducted.
2. Appointment of the Auditor :-It may appoint either a chartered accountant or the Multi-State co-
operative society’s auditor himself to conduct the special audit.
3. Shareholding Restriction
C.G. shall order for special audit only if that Govt. or State Government either by itself or both hold > 51% of the
PUSC in such society.
Power and Duties
Same as covered in Sec. 73 with the exception that the audit report will be submitted to Central Government
instead of Society.
Action by the C.G.
• On receipt of report of special auditor, C.G. may take such action as it considers necessary.
• However, if no action taken within 4 months from date of its receipt, C.G. shall send to society, either a
copy of, or relevant extract from, report with its comments thereon & require it either to circulate that copy or
those extracts to members or to have such copy or extracts read before society at its next general meeting.
Expenses pertaining to Special Audit
Expenses of special audit shall be determined by the C.G. which determination shall be final and paid by the
society & in default of such payment, shall be recoverable from the Society as an arrear of land revenue.
Inquiry by Central Registrar - Sec. 78

Circumstances when inquiry may be hold or ordered
Central Registrar may, on a request rom
• a federal cooperative to which multi-state cooperative society is affiliated; or
• a creditor; or
• not less than 1/3rd of the members of the board; or
• not less than 1/5th of the total number of members of a multi-state cooperative society
hold an inquiry or direct some person authorised by him by order in writing in this behalf to hold an inquiry into
the constitution, working and financial condition of a multi-state cooperative society:
Opportunity of being heard
No inquiry shall be held unless a notice of not less than 15 days has been given to the multistate cooperative
society.
Powers of person conducting inquiry

a) Free access to books, accounts, documents, securities, cash and other properties belonging to multi-
state cooperative society;
b) Require officers of society to call a general meeting of society by giving notice of not less than 7 days at
such time & at headquarters of society to consider such matters, as may be directed by him; and where officers
refuse or fail to call such a meeting, he shall have power to call it himself;
c) Summon any person who is reasonably believed by him to have knowledge of affairs of society to appear
before him at any place at headquarters of the society or any branch thereof and may examine such person on
oath.
Follow up
Central Registrar shall, within a period of 3 months of the receipt of report, communicate the report of inquiry
to society, financial institutions, if any, to which the society is affiliated, and to the person or authority, if any at
whose instance the inquiry is needed.
Inspection - Sec. 79
When?
Central Registrar may, on a request from
• a federal cooperative to which society is affiliated; or
• a creditor; or
• not less than 1/3rd of the members of the board: or
• not less than 1/5h of the total number of members of a multi-state cooperative society
How?
By general or special order in writing, inspect or direct any person authorized by him by order in writing in this
behalf to make an inspection into constitution, working & financial condition of a multi-state cooperative society.
Opportunity of being Heard
No inspection shall be made unless a notice of not less than 15 days has been given to the multi-state cooperative
society.
Powers of person conducting inspection
I. Access to all books, accounts, papers, vouchers, securities, stock & other property of that society and
May, in the event of serious irregularities discovered during inspection, take them into custody.
II. Verify the cash balance of the society.
III. Call a meeting of board and also a general meeting of the society where such general meeting is, in his
opinion, necessary.
Inspection Report
A copy of report of inspection shall be communicated to the society within a period of 3 months from the date
of completion of such inspection.
Audit of Trust and Societies
Introduction
There are three basic legal forms of charitable entities under Indian law: trusts, societies, and section 8
companies. The legal framework governing the charitable institution will depend on the form of business
organization the charitable institution takes.

• If the charitable institution is formed as a Public Trust, it will be governed by the Public Trust Act
applicable in the relevant State. However, if no Public Trust Act exists in that state, then the applicable legislation
will be the Indian Trusts Act, 1882.
• If the charitable institution is formed as a Society, it will be governed by the Societies Registration Act,
1860.
• The charitable institution can also be formed as a non-profit company under section 8 of the Companies
Act, 2013.
• Apart from the above legislations, the Income Tax Act 1961 will be applicable to charitable institutions.
• And in the case of foreign contributions to these charitable institutions, the Foreign Contribution
(Regulation) Act, 2010 will be applicable
Books of Account
Auditor is required to report whether the Trust has maintained proper books of accounts, including the following,
namely:
a) Cash book;
b) Ledger;
c) Journal;
d) copies of bills, whether machine numbered or otherwise serially numbered;
e) original bills wherever issued to the person and receipts in respect of payments made by the person;
f) any other book that may be required to be maintained in order to give a true and fair view of the state
of the affairs of the person and explain the transactions effected.
Financial Statements
• Every year, trust has to prepare F.S. like Balance sheet and Income and expenditure statements.
• Format for preparation and presentation of F.S. is prescribed under respective state laws.
Auditor's responsibility
• Auditor should obtain list of books and records maintained by the Trust. List should be matched with
requirement for maintaining mandatory books and records as may be applicable. Auditor should then verify
records.
• Auditor is required to ensure compliance with Accounting Standards (AS) and Standards on Auditing (SA)
prescribed and made mandatory by the ICAI.
• Auditor shall use his professional skill and expertise and apply such audit tests as the circumstances may
require.
• Auditor shall conduct audit by applying generally accepted auditing procedures. He can apply test checks
depending on evaluation of internal control procedures.
• Auditor shall also keep in mind concept of materiality.
• Auditor should keep detailed notes about the evidence on which he has relied upon and also maintain all his
working papers.
Working papers should include notes on the following, amongst other matters:
a) work done while conducting the audit and by whom;
b) explanation and information given to him during audit and by whom;
c) decision on various points taken;
d) judicial pronouncements relied upon by him while drafting the audit report; and
e) Certificates issued by the client/management letters.

Audit working papers shall provide evidence that:
a) opinion expressed by the auditor is based on the examination made by him;
b) in arriving at his opinion, auditor has given due cognizance to information and explanations given by
the entity and that his opinion is not arbitrary;
c) information and explanations obtained were full and complete; and
d) Auditor did not merely rely upon information or explanations given by the entity but that he subjected
such information and explanations to reasonable tests to verify their accuracy and completeness.
Audit of Trust
The auditor has to ascertain
a) whether accounts are maintained regularly and in accordance with provisions of applicable Act and the
rules;
b) Whether receipts and disbursements are properly and correctly shown in accounts and donations
received is being applied as per objects of trust and specific direction by the donor, if any.
c) Whether all books, deeds, accounts, vouchers or other documents or records required by the auditor
were produced before him;
d) Whether manager or trustee or any other person required by the auditor to appear before him did so
and furnished the necessary information required by him;
e) Whether any property or funds of the Trust were applied for any object or purpose other than the object
or purpose of the Trust;
f) Amounts of outstanding for more than one year and the amounts written off, if any;
g) Ascertain all cases of irregular, illegal or improper expenditure and whether such expenditure was
caused in consequence of breach of trust or misapplication or any other misconduct on the part of the
trustees;
h) Whether the maximum and minimum number of the trustees is maintained;
i) Whether minute books of the proceedings of the meeting is maintained;
j) Whether anonymous donations received are properly accounted for and donations in cash are not
received by the Trust over and above the prescribed limit;
k) Whether the irregularities pointed out by the auditors in the accounts of the previous year have been
duly complied with by the trustees during the period of audit;
l) Any special matter which the auditor may think fit or necessary to bring to the notice of the Deputy or
Assistant Charity Commissioner.
Considerations while auditing a Society

a) Ascertain governing legislation of society i.e., Societies Registration act, 1860 or any applicable state law
under which it has been registered.
b) Object of society needs to be ascertained from its memorandum of association/bye laws.
c) Ascertain whether registration obtained under FCRA, 2010 in case of foreign contributions.
d) Ascertain whether it is also registered under relevant provisions of Income-tax Act which may make it
eligible for tax exemption on its income.
e) Obtain an understanding of internal control to design audit procedures with special reference to
donations and various expenditures incurred.

f) Evaluate appropriateness of accounting policies with special reference to donations and grants.
g) Ascertain, if any inquiry has been held by Registrar under applicable law in the working or financial
condition of society and its implications for auditor's opinion.
h) Ascertain all cases of irregular, illegal or improper expenditure and check whether such expenditure was
caused in consequence of breach of trust or misapplication or any other misconduct on the part of
governing body.

Audit of Banks
Chapter Overview
• Introduction to Banking Sector
• Banking operations
• Accounting system of Bank
• Bank audit approach
• Advances and their Audit
• Audit of Revenue Items
1. Introduction
• Banking sector is the backbone of any economy as it is essential for sustainable socio-economic growth
and financial stability in the economy.
• The banking sector is also crucial as it deals with mammoth amounts of public monies and is highly
sensitive to reputational risk.
• For safe and sound banking sector, one of the most important factors is reliable financial information
supported by quality bank audits.
2. Types of Banks
Commercial Regional Co-operative Payments Development

Banks Rural Banks Banks Bank Banks
Small Finance
Bank
• Commercial Bank: are the most wide spread banking institutions in India, that provide a number of
products and services to general public and other segments of economy. Two of its main functions are:-
o accepting deposits and
o granting advances.
• Regional Rural Banks: known as RRBs are the banks that have been set up in rural areas in different
states of the country to cater to the basic banking and financial needs of the rural communities.
o Examples are:- Punjab Gramin Bank , Tripura Gramin Bank , Allahabad UP Gramin Bank , Andhra
Pradesh Grameen Vikas Bank, etc.
• Co-operative Banks: function like Commercial Banks only but are set up on the basis of Cooperative
Principles and registered under the Cooperative Societies Act of the respective state or the Multistate
Cooperative Societies Act and usually cater to the needs of the agricultural and rural sectors.
o Examples are:- The Gujarat State Co-operative Bank Ltd., Chhatisgarh Rajya Sahakari Bank
Maryadit, etc.
• Payments Banks: a new type of banks which have been recently introduced by RBI. They are allowed to
accept restricted deposits but they cannot issue loans and credit cards. However, customers can open
Current & Savings accounts and also avail the facility of ATM cum Debit cards, Internet-banking & Mobile
banking.
o Examples are :- Airtel Payments Bank , India Post Payments Bank, Paytm Payments Bank , etc.
• Development Banks had been conceptualized to provide funds for infrastructural facilities important
for the economic growth of the country.
o Examples are:- Industrial Finance Corporation of India (IFCI), Industrial Development Bank of
India (IDBI), Small Industries Development Bank of India (SIDBI) , etc.
AKASH KUMAR 10.1

• Small Finance Banks have been set up by RBI to make available basic financial and banking facilities to
the unserved and unorganised sectors like small marginal farmers, small & micro business units, etc.
Examples are:- Equitas Small Finance Bank , AU Small Finance Bank , etc
2. Regulating Body- Reserve Bank of India

• The functioning of banking industry in India is regulated by the Reserve Bank of India (RBI)
which acts as the Central Bank of our country.
• RBI is responsible for:-
• development and supervision of the constituents of the Indian financial system (which
comprises banks and non-banking financial institutions)
• determining, in conjunction with the Central Government, the monetary and credit policies
keeping in with the need of the hour.
• regulating the activities of commercial and other banks
Important functions of RBI are :-
•issuance of currency;
•regulation of currency issue;
•acting as banker to the central and state governments; and
•acting as banker to commercial and other types of banks including term- lending institutions. Besides, RBI
has also been entrusted with the responsibility of regulating the activities of commercial and other banks.
No bank can commence the business of banking or open new branches

without obtaining license from RBI. The RBI also has the power to inspect
any at
3. Banking Operations - Conducted only bank
Branches
• Banking operations are conducted only at the branches, while other offices act as controlling authorities
or administrative offices that lay down policies, systems and internal control procedures for conduct of
business.
• These controlling/ administrative offices also stipulate the delegation of powers and fix responsibilities
and accountability and
• These are involved generally in effective supervision, monitoring and control over the business activities
and operations, including seeking faithful compliance of the bank’s laid down policies/
procedures/controls and deal with deviations therefrom.
AKASH KUMAR 10.2

4. Regulatory Framework
Banking
Regulation Act,
1949
Payment and
Reserve Bank of
Settlement
India Act, 1934
Systems Act, 2007
Credit
Information
State Bank of
Companies
India Act, 1955
Regulation Act,
2005
SARFAESI Act, Regional Rural

2002 Bank Act, 1976
Prevention of
Money Companies Act,
Laundering Act, 2013
2002 Information
Technoogy Act,
2000
5. Peculiarities involved in Banking Operations

• Huge volumes and complexity of transactions;
• Wide geographical spread of banks’ network;
• Large range of products and services offered;
• Extensive use of technology;
• Strict vigilance by the banking regulator etc.
6. Types of Bank Audit Reports to be issued

• The Statutory Central Auditors (SCAs) have to furnish the following reports in addition to their main
audit report:
(a) Report on adequacy and operating effectiveness of Internal Controls over Financial Reporting in
case of banks which are registered as companies under the Companies Act in terms of Section
143(3)(i) of the Companies Act, 2013 which is normally to be given as an Annexure to the main
audit report as per the Guidance Note on Audit of Internal Financial Controls over Financial
Reporting issued by the ICAI.
(b) Long Form Audit Report. (LFAR)
(c) Report on compliance with SLR requirements.
(d) Report on whether the treasury operations of the bank have been conducted in accordance with
the instructions issued by the RBI from time to time.
AKASH KUMAR 10.3

(e) Report on whether the income recognition, asset classification and provisioning have been made
as per the guidelines issued by the RBI from time to time.
(f) Report on whether any serious irregularity was noticed in the working of the bank which requires
immediate attention.
(g) Report on status of the compliance by the bank with regard to the implementation of
recommendations of the Ghosh Committee relating to frauds and malpractices and of the
recommendations of Jilani Committee on internal control and inspection/credit system.
(h) Report on instances of adverse credit-deposit ratio in the rural areas.
7. Bank Audit Approach
Control
Drawing an Engagament
Environment at
Audit Plan team discussion
the Bank
I. Drawing an Audit Plan: An audit plan should be drawn up based on :-

a. the nature and level of operations,
b. nature of adverse features,
c. level of compliance based on previous reports and
d. audit risks based on inadequacy in or breach of internal controls and the familiarization
exercise carried out
II. Control Environment at the Bank: A bank should have appropriate controls to mitigate its risks,
including
a. effective segregation of duties (particularly between front & back offices),
b. accurate measurement and reporting of positions,
c. verification and approval of transactions,
d. reconciliation of positions and results,
e. setting up limits,
f. reporting and approval of exceptions,
g. Physical security and contingency planning.
Common questions while performing control activities

Who • Who performs the control?
• Does the above person have requisite
knowledge and authority to perform
the control?
What • What evidence is available to
demonstrate /prove that the control is
performed?
When • When and with what frequency is the

control performed?
• Is the frequency enough to prevent,
detect and correct risk of material
misstatements?
Where • Where is the evidence of
performance of the control
retained?
AKASH KUMAR 10.4

• For how long is the evidence
retained?
• Is the evidence accessible/ available
for audit
Why • Why is the control being
performed?
• What type of errors are
prevented or detected
through the performance of
the control?
How • How is the control
performed? What are the
control activities? Can these
activities be bypassed?
• Can the bypass, if any, be
detected?
• How are exceptions /
deviations resolved on
identification?
• What is the time frame for
resolving the exceptions /
deviations?
III. Engagement Team Discussion:

• Engagement Team: All personnel performing an engagement, including any experts contracted by
the firm in connection with that engagement.
• ET should hold discussions to gain better understanding of banks and its environment, including
internal control, and also to assess the potential for material misstatements of the financial
statements.
• All discussions should be appropriately documented for future reference.
• Discussion should be done on the susceptibility of the bank's F.S. to material misstatements.
• These discussions are ordinarily done at the planning stage of an audit.
Matters to be discussed
a. Errors that may be more likely to occur;
b. Errors which have been identified in prior years;
c. Method by which fraud might be perpetrated by bank personnel or others within particular account
balances and/or disclosures;
d. Audit responses to Engagement Risk, Pervasive Risks, and Specific Risks;
e. Need to maintain professional skepticism throughout the audit engagement;
f. Need to alert for information or other conditions that indicates that a material misstatement may have
occurred.
Benefits of discussion
• Specific emphasis should be provided to susceptibility of bank's F.S. to material misstatement due to
fraud, that enables the ET to consider an appropriate response to fraud risks, including those related
to engagement risk, pervasive risks, and specific risks.
• Enables EP to delegate the work to experienced ET members, and to determine the procedures to
be followed when fraud is identified.
• EP may review the need to involve specialists to address the issues relating to fraud.
AKASH KUMAR 10.5

8. Income Recognition Policy
• Income from non- performing assets (NPA) is not recognized on accrual basis but is booked as income
only when it is actually received.
9. Form and Content on Financial statements

• Every banking company is required to prepare a Balance Sheet and a Profit & Loss Account in the forms
set out in Third Schedule to the Banking Regulation Act, 1949. Form A of Third Schedule contains form
of Balance Sheet and Form B contains form of P&L Account.
• Every banking company needs to comply with the disclosure requirements under the various
Accounting Standards, as notified u/s 133 of the Companies Act, 2013, in so far as they apply to banking
companies
Audit of Accounts
Sec 30 (1) of Banking Regulations Act, 1949 requires that the
• balance sheet and

• profit and loss account of a banking company
• should be audited by a person
• duly qualified under any law for the time being in force to be an auditor of companies.
ELIGIBILITY, QUALIFICATIONS AND DISQUALIFICATIONS OF AUDITOR

Same as applicable to Company Auditor
10. Appointment of Auditors

• Auditor of a banking company is to be appointed at AGM of shareholders.
• Auditor of a nationalized bank is to be appointed by bank concerned acting through its BoD.
In either case, approval of RBI is required before the appointment is made.
• Auditors of regional rural banks are to be appointed by the bank concerned with the approval of the
C.G.
11. Remuneration of Auditor

• Remuneration of auditor of a banking company is to be fixed in accordance with the provisions of Sec.
142 of the Companies Act, 2013.
• Remuneration of auditors of nationalized banks and State Bank of India is to be fixed by the RBI in
consultation with the C.G.
12. Powers of Auditors

Auditor of a banking company or of a nationalized bank, SBI or a regional rural bank has the same powers as
those of a company auditor in the matter of access to the books, accounts, documents and vouchers.
13. Auditor’s Report

Statutory Audit Report
In the case of a nationalized bank, the auditor is required to make a report to the C.G. in which the auditor should
state the following:
1. whether, in his opinion, the F.S. present a true and fair view of the affairs of the bank and in case he had
called for any explanation or information, whether it has been given and whether it is satisfactory;
2. Whether or not the transactions of the bank, which have come to the auditor's notice, have been within
the powers of that bank.
AKASH KUMAR 10.6

3. Whether or not the returns received from the offices and branches of the bank have been found
adequate for the purpose of audit.
4. Whether the profit and loss account show a true balance of profit or loss for the period covered by such
account.
5. Any other matter which the auditor considers should be brought to the notice of the Central
Government.
Report of auditors of SBI is also to be made to the C.G. and is almost identical to the auditor's report in the
case of a nationalized bank.
14. Format of Report

• Auditor should ensure that the audit report complies with the requirements of Standards on Auditing
on Audit Report.
• Auditor should ensure that not only information relating to number of unaudited branches is given but
quantification of advances, deposits, interest income and interest expense for such unaudited branches has also
been disclosed in the audit report.
• It may be noted that, in addition, auditor of a banking company is also required to state in his report
the matters covered by Sec. 143 of Companies Act, 2013. However, reporting requirements relating to the CARO
2020 is not applicable to a banking company.
15. Long Form Audit Report (LFAR)

• The long form Audit Report has to be furnished by the auditor of a bank in addition to the audit report
as per the statutory requirement.
• The matters which the banks require their auditor to deal with in the form of Long Form Audit Report
have been specified by the RBI.
• The LFAR is to be submitted before 30th June every year. To ensure timely submission of LFAR, proper
planning for completion of the LFAR is required.
• While the format of LFAR does not require an executive summary to be given, members may consider
providing the same to bring out the key observations from the whole document.
16. Reporting to RBI

• Circular issued by RBI regarding liability of accounting and auditing profession, provides that "If an
accounting professional, whether in the course of internal or external audit or in the process of institutional audit
finds anything susceptible to be fraud or fraudulent activity or act of excess power or smell any foul play in any
transaction, he should refer the matter to the regulator. Any deliberate failure on the part of the auditor should
render himself liable for action"
• While reporting such kind of matters as stated in the circular, auditor need to consider the provisions of
SA 250, "Consideration of Laws and Regulations in an Audit of Financial Statements"
• SA 240, "The Auditor's Responsibilities Relating to Fraud in an Audit of F.S." further expounds the
concept & and states that an auditor conducting an audit in accordance with SAs is responsible for obtaining
reasonable assurance that the F.S. taken as a whole are free from material misstatement, whether caused by
fraud or error.
• It must be noted that auditor is not expected to look into each and every transaction but to evaluate
the system as a whole. Therefore, if auditor while performing his normal duties comes across any instance, he
should report the matter to RBI in addition to Chairman/Managing Director/Chief Executive of the concerned
bank.
AKASH KUMAR 10.7

Conducting An Audit
Initial Consideration by the Auditor
Identifying and Assessing ROMM
Understanding Bank and its environment including Internal control
Understanding Bank's Accounting Process
Understanding Risk Management Process
Engagement Team Discussion
Establishing Overall Audit Atrategy
Develop Audit Plan
Audit planning Memorandum
Determine Audit Materiality
Consider Going concern
Assessing risk of Fraud
Assess Specific Risk
Other risks
Response to assessed Risk
Stress Testing
Basedl III Framework
Review of other Reports
AKASH KUMAR 10.8

Initial Consideration
Initial Considerations include considerations of:

• Declaration of Indebtedness: Banks, before appointing their statutory central/branch auditors, should
obtain a declaration of indebtedness.
• Internal Assignments in Banks by Statutory Auditors: Audit firms should not undertake statutory audit
while they are associated with internal assignments during the same year, like Concurrent audits.
• Planning: Auditor shall (a) Perform procedures required by SA 220, regarding the acceptance of the
client relationship; and (b) Establish understanding of terms of engagement as per SA 210
• Communication with Previous Auditor: As per Clause (8) of the Part I of the First Schedule to Chartered
Accountants Act, 1949, a CA in practice cannot accept position as auditor previously held by another CA
without first communicating with him in writing.
• Terms of Audit Engagements: SA 210 requires that the auditor should agree on the terms of the audit
engagement with the bank before beginning significant portions of fieldwork.
• Initial Engagements: Auditor needs to perform the audit procedures as mentioned in SA 510
• Assessment of Engagement Risk: Assessment of engagement risk should be done prior to the
acceptance of an audit engagement.
• Establish Engagement Team: Size and composition of ET would depend on the size, nature and
complexity of the bank's operations.
• Understanding the Bank and its Environment: As per SA 315, auditor should obtain an understanding
of entity and its environment, including its internal control, sufficient to identify and assess the RoMM
of the F.S.
Identifying and Assessing the Risks of Material Misstatements:

• SA 315 requires the auditor to identify and assess the risks of material misstatement at the financial
statement level and the assertion level for classes of transactions, account balances and disclosures to
provide a basis for designing and performing further audit procedures.
Understanding the Bank and its Environment

Auditor is required to obtain understating of:
• Bank and its Environment including Internal Control
• Bank's Accounting Process
• Risk Management Process
Understanding the Risk Management Process

An effective risk management system in a bank generally requires the following:
Identificationm,
Reliable
Involvement of measurement Control Monitoring
information
TCWG and monitoring Activities activities
systems
of risks
Involvement of TCWG
• Risk Management policies should be approved by TCWG.
• While approving the policies, TCWG should ensure that the policies should be consistent with the bank's
business objectives and strategies, capital strength, management expertise, regulatory requirements and the
types and amounts of risk it considers as acceptable.
Identification, measurement & monitoring of risks
• Risks that may significantly affect the achievement of bank's goals and objectives should be identified,
measured and monitored against pre-approved limits and criteria.
AKASH KUMAR 10.9

Control activities
Banks must have appropriate controls to manage its risks, including the following:
• effective segregation of duties,
• verification and approval of transactions,
• setting of limits, and
• Reporting and approval of exception.
Monitoring activities
Independent risk management unit should be set up which regularly assess the risk management models,
methodologies and assumptions used to measure and manage risk.
Reliable information systems
Banks must have a reliable information system that provide adequate financial, operational and compliance
information on a timely and consistent basis to management and TCWG.
Engagement Team Discussion

ET should hold discussions to gain better understanding of banks and its environment, including internal
control, and also to assess the potential for material misstatements of the financial statements.
Establish the Overall Audit Strategy

As required by SA 300, establish overall audit strategy, prior to the commencement of an audit.
Develop the Audit Plan

As required by SA 300, develop an overall audit plan which cover details of NTE of audit procedures planned to
be performed
Audit Planning Memorandum

Auditor should summarise audit plan by preparing an audit planning memorandum in order to:
a. Describe expected scope & extent of audit procedures to be performed by the auditor.
b. Highlight all significant issues and risks identified during their planning & risk assessment activities, as well
as the decisions concerning reliance on controls.
c. Provide evidence that they have planned audit engagement appropriately and have responded to
engagement risk, pervasive risks, specific risks, and other matters affecting the audit engagement.
Determine Audit Materiality:
The auditor should consider the relationship between the audit materiality and audit risk when conducting an
audit. The determination of audit materiality is a matter of professional judgment and depends upon the
knowledge of the bank, assessment of engagement risk and the reporting requirements for the financial
statements.
Consider Going Concern:

While obtaining an understanding of the bank, the auditor should consider whether there are events and
conditions which may cast significant doubt on the bank’s ability to continue as a going concern.
Assess the Risk of Fraud including Money Laundering:

• As per SA 240 “The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial Statements”, the
auditor’s objective is to identify and assess the risks of material misstatement in the financial statements
due to fraud, to obtain sufficient appropriate audit evidence on those identified misstatements and to
respond appropriately.
• The attitude of professional scepticism should be maintained by the auditor so as to recognise the
possibility of misstatements due to fraud.
AKASH KUMAR 10.10

• The RBI has framed specific guidelines that deal with prevention of money laundering and “Know Your
Customer (KYC)” norms.
• The RBI has from time to time issued guidelines (“Know Your Customer Guidelines – Anti Money
Laundering Standards”), requiring banks to establish policies, procedures and controls to deter and to
recognise and report money laundering activities.
Assess Specific Risks:

• The auditors should identify and assess the risks of material misstatement at the financial
statement level which refers to risks that relate pervasively to the financial statements as a
whole and potentially affect many assertions.
Risk Associated with Outsourcing of Activities:
• The modern day banks make extensive use of outsourcing as a means of both reducing costs
as well as making use of services of an expert not available internally.
• There are, however, a number of risks associated with outsourcing of activities by banks and
therefore, it is quintessential for the banks to effectively manage those risks.
Response to the Assessed Risks:
• SA 330 “The Auditor’s Responses to Assessed Risks” requires the auditor to design and implement
overall responses to address the assessed risks of material misstatement at the financial statement
level.
• The auditor should design and perform further audit procedures whose nature, timing and extent are
based on and are responsive to the assessed risks of material misstatement at the assertion level.
Stress Testing
• Software testing activity that determines robustness of software by testing beyond limits of normal operation.
Stress testing is particularly important for "mission critical" software, but is used for all types of software.
• RBI has required that all commercial banks shall put in place a Board approved 'Stress Testing framework' to
suit their individual requirements which would integrate into their risk management systems.
BASEL III Framework

• Basel norms or accords are the International Banking regulations issued by the Basel Committee on Banking
Supervision (BCBS)
• This framework proposed certain minimum set of criteria for inclusion of instruments in new definition of
regulatory capital. The set of agreement by the BCBS, which mainly focuses on risks to banks and the financial
system are called Basel accord.
Reliance/ Review of other Reports

Auditor should consider the adverse/qualified remarks, if any, appearing in the following:
• Previous audit reports.

• Internal inspection reports.
• RBI inspection reports.
• Concurrent/Internal audit report.
• Report on verification of security.
• Any other internal reports specially related to particular accounts.
• Manager's charge-handing-over report when incumbent is changed
Advances
17. Types and Classification of Advances

Types of Advances
Funded loans
AKASH KUMAR 10.11

• Loans where there is an actual transfer of funds from the bank to the borrower.
Examples: Term loans, Cash credits, Overdrafts, Demand loans, Bills Discounted and Purchased, Interest-bearing
Staff Loans, etc.
Non-funded facilities
• Facilities which do not involve transfer of funds.
• Examples: Letters of credit, Bank guarantees, etc.
18. Disclosure Requirements

Nature wise
I. Bills purchased and discounted
II. Cash credits, Overdrafts and loans repayable on demand
III. Term Loans
Security wise
i. Secured by tangible assets
ii. Covered by Bank/Government guarantees
iii. Unsecured
Location wise
1. Advances in India:
I. Priority sectors
II. Public sectors
III. Banks
IV. Others
2. Advances outside India:
I. Due from Banks
II. Due from Others:
a. Bills Purchased and discounted
b. Syndicated loans
c. Others
19. Creation of Security

Primary security
Security offered by the borrower for bank finance or the one against which credit has been extended by the
bank.
Collateral security
It is an additional security and can be in any form i.e. tangible or intangible asset, movable or immovable asset.
Examples of Securities
a. Personal Security of Guarantor
b. Goods/Stocks/Debtors/Trade Receivables
c. Gold Ornaments and Bullion
AKASH KUMAR 10.12

d. Immovable Property
e. Plantations (For Agricultural Advances)
f. Third Party Guarantees
g. Banker's General
h. Lien Life Insurance Policies
i. Stock Exchange Securities and Other Instruments
19. Mode of Creation of Security

Security may be created by different modes like Mortgage, Pledge, Hypothecation, Lien, and Assignment.
Mortgage
• Registered Mortgage can be affected by a 'Mortgage Deed' signed by the mortgagor.
• Equitable mortgage, is affected by a mere delivery of title deeds or other documents of title with intent to
create security thereof.
Pledge
• It involves physical delivery of goods by the borrower to the lending bank with the intention of creating a charge
there on as security for the advance.
• Legal ownership of the goods remains with the pledger while the lending banker gets certain defined interests
in the goods.
Hypothecation
• Hypothecation is the creation of an equitable charge, which is created in favour of the lending bank by
execution of hypothecation agreement in respect of the movable securities belonging to the borrower.
• Borrower holds the physical possession of the goods. Neither ownership nor possession are transferred to the
bank.
• Borrower periodically submits statements regarding quantity and value of hypothecated assets (like stocks,
debtors, etc.) to the bank on the basis of which the drawing power of the borrower is fixed.
Lien
Lien is creation of a legal charge with consent of the owner, which gives lender a legal right to seize and
dispose/liquidate the asset under lien.
Assignment
• It is a transfer of an existing or future debt, right or property belonging to a person in favour of another person.
• Only actionable claims (i.e., claim to any debt other than a debt secured by a mortgage of immovable property
or by hypothecation or pledge of movable property) such as book debts and life insurance policies are accepted
by banks as security by way of assignment.
Set-Off
• Set-off is a statutory right of a creditor to adjust, wholly or partly, the debit balance in the debtor's account
against any credit balance lying in another account of the debtor.
• Right of set-off enables a bank to combine two accounts (a deposit account and a loan account) of the same
person provided both the accounts are in the same name and same right.
• For this purpose, all branches of a bank are treated as one single entity. Right of set-off can be exercised in
respect of time-barred debts also.
AKASH KUMAR 10.13

Prudential norms on Income Recognition, Asset Classification and
Provisioning pertaining to Adv
ances:
20. Classification of Assets

Non- Performing Asset:
An Advance will be classified as NPA if:
a. It ceases to generate income for a bank.
b. interest and/or installment of principal remain overdue for a period of more than 90 days in respect of a term
loan;
c. account remains 'out of order' in respect of an Overdraft/Cash Credit (0D/ CC);
d. The bill remains overdue fora period of more than 90 days in the case of bills purchased and discounted.
Overdue Any amount due to the bank under any credit facility
is 'overdue' if it is not paid on the due date fixed by
the bank.
Out of order An account should be treated as 'out of order' if:
• outstanding balance remains continuously in excess
of the sanctioned limit/drawing power or
• if there are no credits continuously for 90
days as on the date of Balance Sheet; or credits are
not enough to cover the interest debited during the
same period
Special Mention accounts

Special Mention accounts (SMA) are those accounts which are resulting signs of incipient stress leading to the
possibility that borrowers may default on debt obligations.
SMA 0 Accounts showing stress signals

SMA 1 Overdue between 31 to 60 days
SMA 2 Overdue between 61 to 90 days
Such a classification is significant as early recognition of such accounts enables banks to initiate timely remedial
actions to prevent potential slippages of such accounts into NPAs
21. Classification as per prudential norms

Standard assets Assets which do not disclose any problem and does
not carry more than normal risk
Sub-standard assets Asset which has remained NPA for a period less than
or equal to 12 months.
Doubtful assets Asset which has remained in the substandard

category for a period of 12 months
Loss assets Asset in respect of which loss has been identified by
the bank or internal auditors or the RBI inspection,
but the amount has not been written off, wholly.
22. Provisioning Requirements

Standard assets 0.40%
Sub-standard assets 15%
AKASH KUMAR 10.14

Doubtful assets Unsecured portion: 100%
Secured portion :25% to 100% depending upon the
period for which advance has remained doubtful.
• Up to one year - 25%
• More than one year but up to 3 years - 40%
• Above three years - 100%
Loss assets 100%
23. Points to be considered w.r.t NPA classification

Classification as NPA should be based on record of recovery. Availability of security or net worth of
borrower/guarantor is not to be considered for purpose of treating an advance as NPA.
Asset Classification borrower-wise • Asset classification would be borrower-

wise and not facility-wise. All facilities
including investments in securities
would be termed as NPA.
Accounts regularized near B/S date • Where it appears that an account has
inherent weakness and few credits near
the balance sheet tries to make it
regular, the account should be classified
as NPA.
• Auditor should check for sample
transactions immediately before and
after closing of financial year to get a
knowledge of objective behind the
transactions if they have any relation to
each other which might show an
arrangement to prevent Borrower
account(s) from slipping into NPA
category.
Govt. guaranteed advances • Credit facilities backed by C.G.

guarantee, though overdue will be
classified as NPA only when govt.
repudiates its guarantee when invoked.
This exemption is only for asset
classification and provisioning and not
for the purpose of recognition of
income. Interest on such advances
should not be taken to income account
unless it has been realized.
• Credit facilities backed by S.G. guarantee
should be classified as NPA in normal
way.
• Consortium advances mean advancing

Advances under Consortium loans to a borrower by two or more
Banks jointly by forming a Consortium.
Joint appraisal, control and monitoring
will facilitate for exchange of valuable
information among the Banks. Usually, a
Bank with a higher share will lead the
consortium.
AKASH KUMAR 10.15

• Classification of Consortium advances
should be based on the record of
recovery of respective individual
member banks and other aspects having
a bearing on the recoverability of the
advances.
• Where the remittances by borrower
under consortium lending arrangements
are pooled with one bank and/or where
the bank receiving remittances is not
parting with the share of other member
banks, account should be treated as not
serviced in the books of the other
member banks and therefore, an NPA.
• Banks participating in consortium, need
to arrange to get their share of recovery
transferred from the lead bank or to get
an express consent from the lead bank
for the transfer of their share of
recovery, to ensure proper asset
classification in their respective books.
Erosion in Value of Securities • In case there arise erosion in value of

security or any fraud is committed by
Borrowers, banks can directly classify
these accounts as Doubtful or Loss
Assets, irrespective of the period for
which the account has remained NPA.
• Erosion in value of securities by more
than 50% of value assessed by the bank
or accepted by RBI inspection team at
time of last inspection, would be
considered as "significant", requiring the
asset to be classified as doubtful
straightaway and provided for
adequately.
• If realizable value of security as assessed
by bank/approved valuers/ RBI is less
than 10% of outstanding in borrowal
accounts, existence of security should
be ignored and the asset should be
classified as loss asset. In such cases
asset should either be written off or fully
provided for.
Advances Against Term Deposits, NSCs • Advances against Term Deposits, NSCs
KVPs/ IVPs, etc. eligible for surrender, KVP/IVP and life
policies need not be treated as NPAs,
provided adequate margin is available in
the accounts
Agricultural Advances affected by • Where, in the wake of natural
Natural in Calamities calamities, short-term agricultural loans
are converted into term loans or there is
rescheduling of repayment period or
fresh short-term loans are sanctioned,
the term loan as well as fresh short term
AKASH KUMAR 10.16

loan may be treated as current dues and
need not be classified as NPA.
• Interest-bearing staff advances should
Advances to staff be included as part of advances portfolio
of bank. In case of housing loan or
similar advances granted to staff
members where interest is payable after
recovery of principal interest need not
be considered as overdue from the first
quarter onwards.
• Such loans/advances should be
classified as NPA only when there is a
default in repayment of instalment of
principal or payment of interest on
respective due dates.
Agricultural Advances/ Loans • Interest and/or Instalment of principal is
overdue for –
• two crop seasons, in case loans granted
for Short Duration crops,
• one crop season, in case loans granted
for Long Duration crops (i.e., more than
1 year)
Points to Remember
• Long duration crops mean the crops with crop season longer than one year.
• Short Duration Crops means the crops, other than long duration crops.
• Crop season means the period up to harvesting of the crops. as determined by the State Level
Bankers' Committee in each State.
24. Computation of Drawing Power (DP)

Meaning of Drawing Power
• DP is an important concept for Cash Credit (CC) facility availed from banks and financial institutions.
• It may be defined as the limit up to which a firm or company can withdraw from the working capital limit
sanctioned.
Sanctioned Limit vs. DP
• Sanctioned limit is the total exposure that a bank can take on a particular client for facilities like cash credit,
overdraft, export packing credit, non-funded exposures etc.
• On the other hand, DP refers to the amount calculated based on primary security less margin as on a
particular date.
Considerations
• All accounts should be kept within both DP and sanctioned limit at all times.
• Accounts which exceed the sanctioned limit or DP or are against unapproved securities or are otherwise
irregular should be brought to the notice of the Management/Head Office regularly.
Bank's Duties
• Banks should ensure that drawings in the working capital account are covered by the adequacy of the current
assets.
AKASH KUMAR 10.17

• DP is required to be arrived at based on current stock statement. However, considering the difficulties of
large borrowers, stock statements relied upon by the banks for determining drawing power should not be older
than three months.
• Outstanding in the account based on DP calculated from stock statements older than 3 months is deemed as
irregular.
Auditor's Concern
• Stock statements, quarterly returns and other statements submitted by the borrower to the bank should be
scrutinized in detail. Audited Annual Report submitted should be scrutinized properly.
• Monthly stock statement of the month for which the audited accounts are prepared and submitted should be
compared and the reasons for deviations, if any, should be ascertained.
Computation of Drawing Power
• Ensure that DP is calculated as per extant guidelines formulated by the BoD of respective bank and agreed
upon by concerned statutory auditors.
• Special consideration should be given to proper reporting of sundry creditors for the purposes of calculating
drawing power.
Stock Audit
• Stock audit should be carried out by the bank for all accounts having funded exposure of more than ₹ 5 crores.
• Auditors can also advise for stock audit in other cases if the situation warrants the same.
• Branches should obtain the stock audit reports from lead bank in the cases where the Bank is not leader of the
consortium of working capital.
• Report submitted by the stock auditors should be reviewed during the course of the audit and special focus
should be given to the comments made by the stock auditors on valuation of security and calculation of drawing
power.
Audit of Advances
Advances generally constitute the major part of the assets of the bank. There are large number of borrowers to
whom variety of advances are granted. The audit of advances requires the major attention from the auditors.
In carrying out audit of advances, the auditor is primarily concerned with obtaining evidence about the
following:
(a) Amounts included in balance sheet in respect of advances which are outstanding at the date of the
balance sheet.
(b) Advances represent amount due to the bank.
(c) Amounts due to the bank are appropriately supported by loan documents and other documents as
applicable to the nature of advances.
(d) There are no unrecorded advances.
(e) The stated basis of valuation of advances is appropriate and properly applied and the recoverability
of advances is recognised in their valuation.
(f) The advances are disclosed, classified and described in accordance with recognised accounting
policies and practices and relevant statutory and regulatory requirements.
(g) Appropriate provisions towards advances have been made as per the RBI norms, Accounting
Standards and generally accepted accounting practices.
Obtaining Evidences
Auditor can obtain sufficient appropriate audit evidence about advances by study and evaluation of internal
controls relating to advances, and by:
AKASH KUMAR 10.18

I. examining the validity of the recorded amounts;
II. Examining loan documentation.
III. reviewing the operation of the accounts;
IV. examining existence, enforceability and valuation of the security:
V. checking compliance with RBI norms including appropriate classification and provisioning; and
VI. Carrying out appropriate analytical procedures.
Evaluation of Internal control

Auditor should examine efficacy of various internal controls over advances to determine the NTE of his
substantive procedures. In general, internal controls over advances should include. Inter alia, the following:
• Advances should be made only after evaluating creditworthiness of the borrowers and obtaining
sanction from proper authorities.
• All loan documents like promissory notes, letters of hypothecation, etc. should be executed by the
parties before advances are made.
• Compliance with terms of sanction and end use of funds should be ensured.
• Sufficient margin should be kept against securities taken so as to cover any decline in the value
thereof and also to comply with RBI directives.
• If securities are in nature of shares, debentures, etc., ownership of the same should be transferred
in name of the bank and the effective control of such securities be retained as a part of
documentation.
• Securities requiring registration should be registered in the name of the bank.
• In case of physical possession of goods as security, goods should be test checked at the time of
receipts.
• Drawing Power Register should be updated every month to record value of securities hypothecated.
• Accounts should be kept within both drawing power and sanctioned limit. All accounts which exceed
sanctioned limit or drawing power or are otherwise irregular should be brought to notice of the
controlling authority regularly.
• Operation of each advance account should be reviewed at least once a year and at more frequent
intervals in the case of large advances.
Audit of Revenue Items – Profit and Loss Account
Income
The following items are included under this head:
Interest Earned
• Interest/ Discount on Advances/ Bills

• Interest Income on Investments:
• Interest on Balances with RBI and Other Inter–bank Funds:
• Others: This includes any other interest/discount income not included in the above heads
Other Income
• Commission, Exchange and Brokerage

• Profit on Sale of Investments
• Profit/Loss on Revaluation of Investments
• Profit on sale of Land, Buildings and Other Assets:
• Profit/Loss on Revaluation of Fixed Assets
• Profit on exchange transactions: This includes revaluation gains/losses on forward exchange
contracts and other derivative contracts, premium income/expenses on options, etc.
• Income earned by way of dividends, etc., from subsidiaries and joint ventures abroad/in India.
AKASH KUMAR 10.19

• Miscellaneous income.
25. Audit Approach and Procedures
Auditor’s Concern
Auditor is primarily concerned with obtaining reasonable assurance that the recorded income arose from
transactions, which took place during the relevant period and pertained to the bank, there is no unrecorded
income and the income is recorded at appropriate amount.
RBI’s Directions
RBI has advised that in respect of any income which exceeds 1% of the total income of the bank if the income is
reckoned on a gross basis or 1% of the net profit before taxes if the income is reckoned net of costs, should be
considered on accrual as per AS 9.
Materiality
If any item of income is not considered to be material as per above norms, it may be recognized when received
and auditors need not qualify their report in that situation.
Revenue Certainty
• Banks recognize income (such as interest, fees & commission) on accrual basis, i.e., as it is earned. It is an
essential condition for accrual of income that it should not be unreasonable to expect its ultimate collection.
• In modern day banking, the entries for interest income on advances are automatically generated through a
batch process in the CBS system.
Revenue Uncertainty
• In view of significant uncertainty regarding ultimate collection of income arising in respect of NPA, guidelines
require that banks should not recognize income on NPA until it is actually realized.
• When a credit facility is classified as NPA for the first time, interest accrued and credited to the income account
in the corresponding previous year which has not been realized should be reversed or provided for. This will
apply to Government guaranteed accounts also.
Income Recognition Policy

• Policy of income recognition should be objective and based on record of recovery rather than on any subjective
considerations.
• Income from NPA is not recognized on accrual basis but is booked as income only when it is actually received.
Advances against Securities

Interest on advances against Term Deposits, National Savings Certificates (NSCS), Indira Vikas Patras (IVPs), Kisan
Vikas Patras (KVPs) and Life policies may be taken to income account on the due date, provided adequate margin
is available in the accounts.
Bills Purchased
In case of bills purchased outstanding at the close of the year the discount received thereon should be properly
apportioned between the two years.
Bills for collection

• In case of bills purchased outstanding at the close of the year the discount received thereon should be properly
apportioned between the two years.
• The procedure is usually such that the customer's account is credited only after the bill has actually been
collected from the drawee either by the bank itself or through its agents, etc.
AKASH KUMAR 10.20

Renegotiations
• Fees and commissions earned by the banks as a result of re negotiations or rescheduling of outstanding debts
should be recognized on an accrual basis over the period of time covered by the re-negotiated or rescheduled
extension of credit.
• Test check the interest earned by the banks for the sample selected.
• Test check the fees and commissions earned by the banks made for commission on bills for collection, letters
of credit and bank guarantees.
26. Reversal of income

• If any advance, including bills purchased and discounted, becomes NPA as at the close of any year, entire
interest accrued and credited to income account in past periods, should be reversed or provided for if same is
not realized. This will apply to Govt. guaranteed accounts also.
• In respect of NPAs, fees, commission and similar income that have accrued should cease to accrue in
the current period and should be reversed or provided for with respect to past periods, if uncollected.
• Further, in case of banks which have wrongly recognized income in the past should reverse the interest
if it was recognized as income during the current year or make a provision for an equivalent amount if it was
recognized as income in the previous year(s).
• Furthermore, auditor should enquire if there are any large debits in Interest Income account that have
not been explained.
27. Take out Finance

• A takeout loan is a method of financing whereby a loan that is procured later is used to replace the initial loan.
More specifically, takeout financing, is long-term financing that the lender promises to provide at a particular
date or when particular criteria for completion of a project are met. Takeout loans are commonly used in property
development.
• Objectives of Take-out Finance:
a) To expand sources of Finance for infrastructure projects by facilitating participation of new entities.
b) To address sectoral/group/entity exposure issues and asset liability in mis-match concerns of tenders.
c) To boost the availability of longer tenor debt finance for projects.
• In case of take-out finance, if based on record of recovery, account is classified by the lending bank as
NPA, it should not recognize income unless realized from the borrower/taking-over institution (if the
arrangement so provides).
28. Partial Recoveries in NPAs

• In absence of a clear agreement between bank and borrower for the purpose of appropriation of recoveries in
NPAs (i.e., towards principal or interest due), banks are required to adopt an accounting policy and exercise the
right of appropriation of recoveries in a uniform and consistent manner.
• Appropriate policy to be followed is to recognize income as per AS 9 when certainty attaches to realization and
accordingly amount reversed/derecognized or not recognized in the past should be accounted.
• Interest partly/fully realized in NPAs can be taken to income. However, it should be ensured that credits towards
interest in the relevant accounts are not out of fresh/additional credit facilities sanctioned to the borrowers
concerned.
29. Income on Investments

Interest income on investments
AKASH KUMAR 10.21

This includes all income derived from Government securities, bonds and debentures of corporates and other
investments by way of interest and dividend, except income earned by way of dividends, etc., from subsidiaries
and joint ventures abroad/in India.
Profit on sale of Investments
Investments are dealt in the course of banking activity and hence the net profit or loss on sale of investments is
taken to profit and loss account.
Profit/Loss on Revaluation of Investments
In terms of guidelines issued by the RBI, investments are to be valued at periodical intervals and depreciation or
appreciation in valuation should be recognized and taken to profit and loss account.
Audit of Revenue items (Expenses)
Expenditure is to be shown under three broad heads:

(1) Interest expense
(2) Operating expense
(3) Provisions and contingencies.
Interest Expended
• Interest on Deposits
• Interest on Reserve Bank of India/Inter-Bank Borrowings
• Others
Operating Expenses
• Payments to and Provisions for Employees

• Rent, Taxes and Lighting
• Printing and Stationery
• Advertisement and Publicity
• Depreciation on Bank's Property
• Directors' Fees, Allowances and Expenses
• Auditors' Fees and Expenses
• Law Charges Postage, Telegrams, Telephones, etc.
• Repairs and Maintenance
• Insurance
• Direct Marketing Expenses
• Other Expenditure
Provisions and Contingencies
• Provisions made in respect of the NPA

• Provisions for Taxation
• Provisions for Diminution in value of investments
• Provisions for contingencies
Audit Objective
To assess the overall reasonableness of the amount of interest expense by analyzing ratios of interest paid on
different types of deposits and borrowings to the average quantum of the respective liabilities during
AKASH KUMAR 10.22

Audit Approach and Procedure
Interest Expended
a) Obtain an analysis of various types of deposits outstanding at the end of each quarter and compute a weighted
average interest rate. The rate so computed should be compared with the actual average rate and enquire into
the difference, if material.
b) Compare average rate of interest paid on deposits with corresponding figures for previous years and enquire
into the difference, if material.
c) Verify the calculation of interest and ensure the following:
• Interest has been provided on all deposits up to the date of the balance sheet.
• Interest rates are in accordance with the bank's internal regulations, RBI directives and agreements with
the depositors.
• Interest on Savings Account should be checked on a test check basis in accordance with the rules framed
by the bank.
• Interest on inter-branch balances has been provided at the rates prescribed by the head office.
d) Ascertain whether there are any changes in interest rate on saving deposits and term deposits during the
period.
Operating Expenses
• Evaluate internal control system relating to expenses, including authorization procedures in order to determine
the NTE of his other audit procedures.
• Examine whether there are any significant deviations in respect of major items of expenditure.
• Perform an analytical review for the payments and provisions on monthly basis
• Verify expenses with reference to supporting documents and check the calculations wherever required.
Provisions and Contingencies
• Ascertain compliance with the various regulatory requirements for provisioning as contained in the various
circulars.
• Obtain an understanding as to how Bank computes provision on standard assets and NPA. It includes the basis
of the classification of loans into standard, sub-standard, doubtful and loss assets.
• Obtain the detailed break up of standard loans, non-performing loans and agree the outstanding balance with
the general ledger.
• Obtain statement of computation of tax provision from the bank's management and verify the nature of items
debited and credited to profit and loss account to ascertain that the same are appropriately considered in the
tax provision computation.
• Other provisions for expenditure should be examined vis-a-vis the circumstances warranting the provisioning
and the adequacy of the same by discussing and obtaining the explanations from the bank's management.
AKASH KUMAR 10.23

Ethics and Terms of Engagement
Chapter Overview
• Meaning of Ethics
• Need for Professional Ethics
• Fundamental Principles of Professional Ethics
• Independence of Auditors
• Threats to Independence and Safeguards
• Professional Scepticism
• SA 210- Agreeing the terms of Audit Engagement
• SQC 1- Standard on Quality Control
• SA 220- Quality control for audit of Financial Statements
1. MEANING OF ETHICS
• The term “Ethics” means moral principles which govern a person’s behaviour or his conducting of an
activity.
• It is the branch of knowledge that deals with moral principles.
• Ethics is something which comes from an individual intrinsically. It has to be inculcated in the habit and
temperament of an individual, so that there is an overall culture of ethics.
• It is a state of mind to act and perform in accordance with moral principles.
• Ethics is the science of morals in human conduct.
2. NEED FOR PROFESSIONAL ETHICS
• Professions like law, medicine have their code of ethics. Auditing profession is no exception. Rather, in
profession of auditing, importance of ethics is manifold as society in general, governments, clients,
taxing authorities, employees, investors, business and financial community in particular, have reposed
tremendous trust in services rendered by CAS.
• The purpose of assurance engagements is to enhance confidence of the intended users. Therefore,
users need to trust the person who is providing such services.
• Professional ethics are based on morality. Respect and confidence enjoyed by a profession, to a great
extent, is dependent on the strictness and scrupulousness with which such ethics are adhered to by self-
discipline. Professional ethics seek to protect the interests of the profession as a whole and act as a
shield that enables us to command respect.
• A Chartered Accountant, whether in practice or in service, are required to comply with the provisions of
Code of Ethics.
• Any deviation from the ethical responsibilities brings the disciplinary mechanism into action against the
Chartered Accountants which may result into fines, suspension of membership, removal from
membership or other disciplinary actions.
3. PRINCIPLES BASED APPROACH VS RULES BASED APPROACH

• Ethical guidance may follow principles-based approach or rules-based approach.
• Essence of principles-based approach to ethics is that it requires compliance with spirit of
ethics. It requires accountants to exercise professional judgment in every situation based upon
their professional knowledge, skill and expertise. It requires that accountants should use
professional judgment to evaluate every situation to arrive at conclusions.
• However, rules-based approach to ethics strictly follows clearly established rules. It may lead
to a narrow outlook and spirit of ethics may be overlooked while strictly adhering to rules.
Rules-based approach is somewhat rigid as it may not be possible to deal with every practical
situation relying upon rules.
It is necessary that the spirit of code is followed.

4. Fundamental Principles of Professional Ethics
Fundamental principles of ethics establish the standard of behaviour expected of a professional accountant. A
professional accountant shall comply with each of the fundamental principles.
The fundamental principles of professional ethics are as under: -
Professional
Professional
Integrity Objectivity Competence Confidentiality
Behavior
and due care
INTEGRITY:
• An accountant to be straightforward and honest in all professional and business relationships.
• Integrity implies fair dealing and truthfulness.
• A professional accountant shall not knowingly be associated with reports, returns, communications or
other information where he believes that:
a. the information contains a materially false or misleading statement;
b. statements or information provided negligently or omits required information where such
omission would be misleading.
OBJECTIVITY
• An auditor not to compromise professional judgment because of bias, conflict of interest or undue
influence of others.
• A professional accountant shall not undertake a professional activity if a circumstance or relationship
unduly influences his professional judgment regarding that activity.
PROFESSIONAL COMPETENCE AND DUE CARE

Accountant is required
• to attain and maintain professional knowledge & skill at the level required to ensure that a client or
employing organization receives Competent professional service, based on current technical and
professional standards and relevant legislation; and
• act diligently and in accordance with applicable technical and professional standards.
• Diligence includes responsibility to act carefully, thoroughly and on a timely basis in accordance with
requirements of an assignment.
CONFIDENTILIATY
• Requires a professional accountant to respect the confidentiality of information acquired as a result of
professional or business relationships.
• Confidentiality serves the public interest because it facilitates the free flow of information from client
or employing organization to the accountant with the understanding that the information will not be
disclosed to a third party.
• Information may be disclosed in following circumstances:
I. When required by law; or

II. If authorized by client or employer; or
III. There is a professional duty to disclose when not prohibited by law.
PROFESSIONAL BEHAVIOUR
• It requires an accountant to comply with relevant laws and regulations and avoid any conduct that the
accountant knows or should know might discredit the profession.
• A professional accountant shall not knowingly engage in any employment, occupation or activity that
impairs or might impair the integrity, objectivity or good reputation of the profession, and as a result
would be incompatible with the fundamental principles.

INDEPENDENCE OF AUDITORS
Meaning of Independence:
• Independence implies that the judgement of a person is not subordinate to the wishes or direction of
another person who might have engaged him, or to his own self-interest.
• It is not possible to define “independence” precisely. Rules of professional conduct dealing with
independence are framed primarily with a certain objective.
• The rules, by themselves, cannot create or ensure the existence of independence.
• Independence is a condition of mind as well as personal character and should not be confused with the
superficial and visible standards of independence which are sometimes imposed by law.
Independence Independence
of mind in appearance
(a) Independence of mind – the state of mind that permits the provision of an opinion without
being affected by influences that compromise professional judgment, allowing an individual to act
with integrity, and exercise objectivity and professional scepticism; and
(b) Independence in appearance- avoidance of facts and circumstances that are so significant
that a reasonable and informed third party, having knowledge of all relevant information, including
any safeguards applied, would reasonably conclude a firm's, or a member of the assurance team's,
integrity, objectivity or professional scepticism had been compromised
Points to be considered
• Independence of the auditor has not only to exist in fact, but also appear to so exist to all reasonable
persons.
• Relationship between the auditor and his client should be such that firstly, he is himself satisfied about
his independence and secondly, no unbiased person would be forced to the conclusion that, on an
objective assessment of the circumstances, there is likely to be an abridgement of the auditors'
independence.
• Independence is dependent on the state of mind and character of a person and is a very subjective
matter. One person might be independent in a particular set of circumstances, while another person
might feel he is not independent in similar circumstances. It is therefore the duty of every Chartered
Accountant to determine for himself whether or not he can act independently in the given
circumstances of a case and quite apart from legal rules, in no case to place himself in a position which
would compromise his independence
THREATS TO INDEPENDENCE
The Code of Ethics for Professional Accountants identifies five types of threats
Self Interest Self Review Advocacy Familarity Intimidation

Threat threat threat threat threat
SELF INTEREST THREAT

• Self-interest threats occur when an auditing firm, its partner or associate could benefit from a financial
interest in an audit client. Examples include
 direct financial interest or materially significant indirect financial interest in a client;
 loan or guarantee to or from the concerned client;
 undue dependence on a client's fees and, hence, concerns about losing the engagement;
 Close business relationship with an audit client;

 potential employment with the client; and
 Contingent fees for the audit engagement.
SELF REVIEW THREAT
• It may occur when a previous judgment needs to be re-evaluated by the professional accountant
responsible for that judgment. Instances where such threats may arise are:
 when an auditor having recently been a director or senior officer of the company; and
 when auditors perform services that are themselves subject matters of audit
ADVOCACY THREAT
• It may occur when a professional accountant promotes a position or opinion to the point that
subsequent objectivity may be compromised.
• For example, an auditor dealing with shares or securities of audited company, or becomes client's
advocate in litigation & third-party disputes.
• In such situations, auditor can be perceived as backing and championing causes of auditee client and it
may lead to belief that auditor is not acting and working objectively.
FAMILARITY THREAT
It may occur when, because of relationship, a professional accountant becomes too sympathetic to the interests
of others. This can occur in many ways:
• close relative of the audit team working in a senior position in the client company,
• former partner of the audit firm being a director or senior employee of the client,
• long association between specific auditors and their specific client counterparts, and
• Acceptance of significant gifts or hospitality from the client company, its directors or employees.
Provisions in Companies Act, 2013 regarding rotation of auditors’ mainly address these very familiarity threats.
Such provisions prescribe that auditor is rotated after a certain number of years so that auditors do not become
too familiar with their clients.
INTIMADATION THREAT
• It may occur when a professional accountant may be deterred from acting objectively with an adequate
degree of professional skepticism.
• Basically, these could happen because of threat of replacement over disagreements with the
application of accounting principles, or pressure to disproportionately reduce work in response to
reduced audit fees or being threatened with litigation.
• Such threats attempt to intimidate auditors to deter them from acting objectively.
SAFEGUARD TO INDEPENDENCE
Safeguards are actions, individually or in combination, that the professional accountant takes that effectively
reduce threats to comply with the fundamental principles to an acceptable level.
To address the issue, the following guiding principles are to be applied:
a) For the public to have confidence in quality of audit, it is essential that auditors should always be and
appears to be independent of the entities that they are auditing.
b) Before taking on any work, auditor must conscientiously consider whether it involves threats to his
independence.
c) When such threats exist, auditor should either desist from the task or eliminate the threat or at the
very least. Put in place safeguards which reduce the threats to an acceptable level.
d) If the auditor is unable to fully implement credible and adequate safeguards, then he must not accept
the work.
PROFESSIONAL SKEPTICISM
• Professional skepticism refers to an attitude that includes a questioning mind, being alert to conditions
which may indicate possible misstatement due to error or fraud, and a critical assessment of audit
evidence.

• It signifies that auditor has to remain alert forever. The auditor’s attitude should be of questioning mind-
of challenging the things in light of available evidence.
• Professional skepticism includes being alert to, for example:
i. Audit evidence that contradicts other audit evidence obtained.
ii. Information that brings into question the reliability of documents and responses to
inquiries to be used as audit evidence.
iii. Conditions that may indicate possible fraud.
iv. Circumstances that suggest the need for audit procedures in addition to those required by
the SAs.
• Maintaining professional skepticism throughout the audit is necessary if the auditor is to reduce the
risks of:
i. Overlooking unusual circumstances.
ii. Over generalising when drawing conclusions from audit observations.
iii. Using inappropriate assumptions in determining the nature, timing, and extent of the
audit procedures and evaluating the results thereof.
• Professional skepticism is necessary to the critical assessment of audit evidence.
• Auditor cannot be expected to disregard past experience of honesty & integrity of entity's management
and TCWG. Nevertheless, a belief that management and TCWG are honest and have integrity does not
relieve auditor of need to maintain professional skepticism.
SA 210 Agreeing the Terms of Audit Engagements
Contents
• Terms of Engagement
• Pre-conditions of an Audit
• Factors affecting independence of audit
• Engagement Letter
• Change in terms of engagement
Introduction
AnContents
auditor has to ascertain few aspects before accepting or continuing an audit engagement.
• Ascertain whether the pre-conditions for an audit are present and
• • Terms of Engagement
Confirming that there is a common understanding between the auditor and
management of the terms
• Pre-conditions of of
anthe audit engagement.
Audit
1.1.1 Terms of Engagement (TOE)
•Terms of Engagement
Engagement Letter - The official conditions that someone must agree to
before
• Change they can
in terms start to be employed/ engaged by someone.
of engagement
Terms of Engagement - The official conditions that someone must agree to

before they can start to be employed/ engaged by someone.

The auditor shall agree the terms of the audit engagement with management or those charged
with governance, as appropriate through an engagement letter.
Prepared by – Auditor (Chartered Accountant – Proprietor or Partner of the

firm)
Signed by – Management (Those charged with governance like CEO or MD) &
Auditor
Prepared at – Start of the audit
Contains - Terms of engagement i.e. the terms agreed by the auditor with
management as to how to conduct the audit.
The following are

Prepared by the broad aspects
– Auditor included
(Chartered in the engagement
Accountant letter:
– Proprietor or Partner of the
firm)
Signed by – Management (Those charged with governance like CEO or MD) &
Auditor
Prepared at – Start of the audit
Contains - Terms of engagement
PRELIMINARY i.e. the terms agreed MISCELLANEOUS
MANAGEMENT by the auditor with
ISSUES
INFORMATION AGREEMENT
management as to how to conduct the audit. •Peer review under CA Act
•Objective and scope. TERMS 1949.
•Responsibilities (auditor •Written representations. •Provide audit working papers
& management). •To provide adequate to other parties.
•Financial Reproting information on time. •Restriction on auditors
Framework. •To inform auditors on liabilities when such
•Inherent limitatis of possibility exists.
subsequent events.
audit. •Fee and billing arrangements.
•Any other agreements
•Planning and between auditor and •Arrangements with
performance of the the entity. predecessor auditor, internal
audit, including the auditor, other auditors,
composition of audit experts, if any in the case of
team. initial audit.

1.1.2 Pre-conditions of an Audit
Pre-Conditions
Management understands Acceptability of Financial

and acknowledges its Reporting Framework
responsibility
Preparation Provide auditor Establish

of financial with books & appropriate
statements records, internal
information and controls
explanations
Aspects to be ascertained before accepting or continuing an audit:

• Reporting framework
Determine whether the financial reporting framework to be applied in the preparation of
the financial statements is acceptable (Eg. Schedule II of Companies Act, 2013 etc.,).
• Management responsibility
Obtain the agreement of management that it acknowledges and understands its
responsibility.
▪ For the preparation of the financial statements in accordance with the applicable
financial reporting framework.
▪ For placing internal control necessary for preparing financial statements which are free
from material misstatement and
▪ To provide the auditor with:
o Access to all information necessary for the purpose of audit;
o Unrestricted access to persons within the entity from whom the auditor
determines it necessary to obtain audit evidence.
Engagement Letter
• Before accepting audit, Auditor has to prepare an Audit Engagement Letter,
stating the pre-conditions of audit, which will be signed by the Auditor and
Management.
Pre-conditions of Audit
• Auditor has to confirm whether the Management understands and accepts
its repsonsibilities towards members and auditors.

1.2 Scope of SA
Auditor’s responsibilities in agreeing the terms of the audit engagement with
• management and,
• those charged with governance.
Ascertaining preconditions for the audit, which will be the responsibility of the management.
1.3 Factors affecting acceptance of Audit
1.3.1 Management doesn’t accept responsibility
Management denies its responsibility to prepare and present the financial statements (or)
1.3.2 Financial reporting framework not acceptable
If auditor determines that financial reporting framework to be applied in the preparation
of the financial statements is unacceptable (unless the same is mandated by law governing
the enterprise) (or)
1.3.3 Limitation on auditor’s scope
Management or those charged with governance impose a limitation on the scope of the
auditor’s work in proposed engagement &the auditor believes the limitation will result in
the auditor disclaiming an opinion on the financial statements, to do so.
Auditor
Is the financial reporting framework applied in presentation

of FS acceptable?
Yes No
Management
provides auditor
Management Internal
with books,
understands its Controls
records and
responsibilities Established
information /
explanations
Does not accept

If yes, Accept Audit Audit

1.4 Requirements of SA 210
Requirements
On Accepting TOE Other Requirements

Before accepting TOE
- Determine acceptability - Date of EL

of financial reporting
- Recurring Audits
framework
- Changes in TOE
- Obtain confirmation of
managment
responsibility
1.5 Engagement Letter (EL)
1.5.1 EL when Audit terms are not prescribed by any law

In case of voluntary audits, Audit terms are not prescribed by any law or regulation. (Eg. Audit of
Proprietary concern). In such cases, scope of work would be determined by the engagement letter.
Other aspects to be included in the engagement letter in such cases:

• Objective and scope of the audit of financial statements.
• Responsibility of the auditor.
• Responsibilities of management.
• Financial reporting framework for the preparation of the financial statements.
• Expected form and content of any reports to be issued by the auditor.
1.5.2 EL when Audit terms are prescribed by law and regulation

Auditor needs to mention in the engagement letter that
• the terms of audit are driven by such law or regulation and
• management understands and acknowledges its responsibilities.
Scope of work for an Auditor

Law specifies Audit terms – Law will prevail over the engagement letter
Law does not Audit terms – Engagement Letter shall prevail
Scope of work for an Auditor

Law specifies Audit terms – Law will prevail over the engagement letter
Law does not Audit terms – Engagement Letter shall prevail

1.5.3 EL for recurring audits
In case of recurring audit where the same auditor is
reappointed for subsequent years, the same Recurring audits - same EL
engagement letter would be valid unless there is any would be valid unless there
change in the existing terms. Auditor should assess
is any change in terms
whether
• Circumstances require the terms of
engagement to be revised.
• There is a need to remind the entity of the existing terms of the audit engagement.
Circumstances that require changes in EL :

• Any indication that the entity misunderstands the objective and scope of the audit
• Any revised or special terms of audit engagement
• A recent change in senior management
• A significant change in ownership
• A significant change in nature and size of the entity’s business
• A change is legal or regulatory requirements
• A change in financial reporting framework adopted in the preparation of the FS
• A change in other reporting requirements
1.6 Change in terms of audit engagement

Auditor needs to review any change in terms of engagement and cannot accept them outrightly.
Only after careful review can the auditor accept changes if they are reasonable and acceptable, in
other circumstances he can withdraw from the engagement.
Scenarios for changes
Management does not give

•Do not agree for such change.
reasonable justification for
• Withdraw if necessary
change in audit terms .
Management requests
• If reasonable - agree
auditor to limit his scope.
• If not reasonable - withdraw from engagement
during assignment
• Withdraw from audit engagement

Auditor is unable to agree
•Report matter to others like owners /members,
to the change in terms.
regulators, etc if required.
Reasons for change in

•Accept the new terms of engagement
engagement are valid.
Auditor himself proposes • Send a new engagement letter to the client to

changes in terms of communicate revision of terms and take client’s
engagement. acceptance for the same

1.7 Engagement acceptance – considerations
1.7.1 Financial reporting standards supplemented by law or regulation

If there is any conflict between standard setting organization (like ICAI) and law governing the
enterprise (like Companies Act 2013),
▪ Auditor has to discuss with management to give additional disclosures in financials to
explain the conflict and make the facts understandable.
▪ If the above is possible, auditor to determine whether it will be necessary to modify the
auditor’s opinion.
1.7.2 Financial reporting framework prescribed by law or regulation

If the auditor has determined that the financial reporting framework prescribed by law or
regulation would be unacceptable but for the fact that it is prescribed by law or regulation, the
auditor shall accept the audit engagement only if the following conditions are present:
• Management agrees to provide additional disclosures in the financial statements required to

avoid the financial statements being misleading; and
• It is recognized in the terms of the audit engagement that
▪ Auditor will issue an opinion with emphasis of matter and
▪ Auditor will not use the phrases ‘true and fair’ or ‘presently fairly in all material aspects’
while expressing an opinion, unless the same is mandated by applicable law.
1.7.3 Auditor’s report prescribed by law or regulation
Auditor shall evaluate whether
▪ users might misunderstand the assurance obtained from the audit of the financial
statements and, if so
▪ additional explanation in the auditor’s report can mitigate possible misunderstanding
• If such additional explanations also can’t mitigate the possible misunderstanding, then he shall
not accept such assignments, unless required by law.
• Auditor shall decide on whether reference to Standards on Auditing is necessary.

1.8 Format of Engagement Letter
To
The Board of Directors of ABC Company Limited.
You have requested that we audit the financial statements of ABC Company Limited,
which comprise the Balance Sheet as at March 31, 20X1, and the Statement of Profit
& Loss, and Cash Flow Statement for the year then ended, and a summary of
significant accounting policies and other explanatory information. We are pleased to
confirm our acceptance and our understanding of this audit engagement by means of
this letter. Our audit will be conducted with the objective of our expressing an opinion
We will conduct our audit in accordance with Standards on Auditing (SAs), issued by
the Institute of Chartered Accountants of India (ICAI). Those Standards require that we
comply with ethical requirements and plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free from material
misstatement. An audit involves performing procedures to obtain audit evidence
about the amounts and disclosures in the financial statements. The procedures
selected depend on the auditor’s judgment, including the assessment of the risks of
material misstatement of the financial statements, whether due to fraud or error. An
audit also includes evaluating the appropriateness of accounting policies used and
the reasonableness of accounting estimates made by management, as well as
evaluating the overall presentation of the financial statements.
Because of the inherent limitations of an audit, together with the inherent limitations
of internal control, there is an unavoidable risk that some material misstatements may
not be detected, even though the audit is properly planned and performed in
accordance with SAs.
To
The Board of Directors of ABC Company Limited.
You have requested that we audit the financial statements of ABC Company Limited,
which comprise the Balance Sheet as at March 31, 20X1, and the Statement of Profit
& Loss, and Cash Flow Statement for the year then ended, and a summary of
significant accounting policies and other explanatory information. We are pleased to
confirm our acceptance and our understanding of this audit engagement by means of
this letter. Our audit will be conducted with the objective of our expressing an opinion
We will conduct our audit in accordance with Standards on Auditing (SAs), issued by
the Institute of Chartered Accountants of India (ICAI). Those Standards require that we
comply with ethical requirements and plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free from material
In making our risk assessments, we consider internal control relevant to the entity’s
preparation of the financial statements in order to design audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an opinion on
the effectiveness of the entity’s internal control. However, we will communicate to you in
writing concerning any significant deficiencies in internal control relevant to the audit of
the financial statements that we have identified during the audit.
Our audit will be conducted on the basis that [management and, where appropriate,
those charged with governance acknowledge and understand that they have
responsibility:
A. For the preparation of financial statements that give a true and fair view in
accordance with the Financial Reporting Standards. This includes:
• The responsibility for the preparation of financial statements on a going concern
basis.
• The responsible for selection and consistent application of appropriate accounting
policies, including implementation of applicable accounting standards along with proper
explanation relating to any material departures from those accounting standards.
• The responsibility for making judgments and estimates that is reasonable and
prudent so as to give a true and fair view of the state of affairs of the entity at the end
of the financial year and of the profit or loss of the entity for that period.
B. For such internal control as management determines is necessary to enable the
preparation of financial statements that are free from material misstatement, whether
due to fraud or error; and
C. To provide us with:
• Access, at all times, to all information, including the books, account, vouchers and
other records and documentation, of the Company, whether kept at the head office of
the company or elsewhere, of which management is aware that is relevant to the
preparation of the financial statements such as records, documentation and other
matters;
• Additional information that we may request from management for the purpose of
the audit; and
• Unrestricted access to persons within the entity from whom we determine it
necessary to obtain audit evidence. This includes our entitlement to require from the
officers of the Company such information and explanations as we may think necessary
for the performance of our duties as auditor.

As part of our audit process, we will request from [management and, where
appropriate, those charged with governance], written confirmation concerning
representations made to us in connection with the audit.
We also wish to invite your attention to the fact that our audit process is subject to
'peer review' under the Chartered Accountants Act, 1949 to be conducted by an
Independent reviewer. The reviewer may inspect, examine or take abstract of our
working papers during the course of the peer review.
We look forward to full cooperation from your staff during our audit.
[Other relevant information]; [Insert other information, such as fee arrangements,
billings and other specific terms, as appropriate.]; [Insert appropriate reference to the
expected form and content of the auditor’s report.]
The form and content of our report may need to be amended in the light of our audit
findings.
Please sign and return the attached copy of this letter to indicate your
acknowledgement of, and agreement with, the arrangements for our audit of the
financial statements including our respective responsibilities.
XYZ & Co.

Chartered Accountants
(Signature)
(Name of the Member)
(Designation)
Date:
Place:
Acknowledged on behalf of ABC Company by
(Signature)
Name and Designation:
Date:

Audit Quality
• The purpose of an independent audit is to provide confidence to users of audited financial statements.
• Therefore, high audit quality is essential to maintain confidence in the independent assurance provided
by the auditors.
• It is the responsibility of auditor to maintain high audit quality.
SQC 1 and SA 220 both deal with quality control.

• Whereas SQC 1 deals with all engagements including audits, reviews and other assurance and related
service engagements
• SA 220 applies to audit engagements only.
• SQC 1 applies to entire firm. However, SA 220 applies to a particular audit engagement.
SQC 1 - Quality Control for Firms that perform Audits and Reviews of Historical Financial
Information, and Other Assurance and Related Services Engagements
Purpose of SQC
Firm should establish a system of QC designed to provide it with reasonable assurance that:
a. the firm and its personnel comply with professional standards and regulatory and legal requirements,
and
b. Reports issued by the firm or engagement partner(s) are appropriate in the circumstances.
Elements of a System Quality

Firm's system of QC should include policies and procedures addressing the following elements:
a. Leadership responsibilities for quality within the firm.

b. Ethical requirements.
c. Acceptance and continuance of client relationships and specific engagements.
d. Human resources.
e. Engagement performance.
f. Monitoring.
Quality Control policies and procedures should be documented and communicated to the firm's personnel.
3. Leadership responsibilities for quality within of the firm

• Firm should establish policies and procedures designed to promote an internal culture based on the
recognition that quality is essential in performing engagements.
• Such policies and procedures should require firm's CEO or managing partners to assume ultimate
responsibility for the firm's system of QC.
• Any person or person’s assigned operational responsibility for the firm's QC system by the firm's CEO or
managing board of partners should have sufficient and appropriate experience and ability, and the
necessary authority, to assume that responsibility.
4. Ethical requirements
• Firm should establish policies and procedures designed to provide it with reasonable assurance that the
firm and its personnel comply with relevant ethical requirements.
• The Code establishes the fundamental principles of professional ethics, which include:
o Integrity;
o Objectivity;
o Professional competence and due care;
o Confidentiality; and
o Professional behavior.

firm and its personnel maintain independence where required by the Code.
• Such policies and procedures should enable the firm to:
a) Communicate its independence requirements to its personnel
b) Identify and evaluate circumstances and relationships that create threats to independence,
and to take appropriate action to eliminate those threats or reduce them to an acceptable level
by applying safeguards, or, if considered appropriate, to withdraw from the engagement.
• There should exist a mechanism in the firm by which EPs provide the firm with relevant information
about client engagements and personnel of firm promptly notify firm of circumstances and relationships
that create a threat to independence. All breaches of independence should be promptly notified to firm
for appropriate action. Its objective is to ensure that independence requirements are satisfied.
• At least annually, the firm should obtain written confirmation of compliance with its policies and
procedures on independence from all firm personnel required to be independent in terms of the
requirements of the Code.
Acceptance and Continuance of Client Relationships and Specific Engagements

• A firm before accepting an engagement should acquire vital information about the client. Such an
information should help firm to decide about:
a) Integrity of Client, promoters and key managerial personnel.
b) Competence (including capabilities, time and resources) to perform engagement.
c) Compliance with ethical requirements.
• Firm should obtain such information as it considers necessary in the circumstances before accepting an
engagement with a new client, when deciding whether to continue an existing engagement, and when
considering acceptance of a new engagement with an existing client. Where issues have been identified,
and the firm decides to accept or continue the client relationship or a specific engagement, it should
document how the issues were resolved.
• If there is any conflict of interest between the firm and client, it should be properly resolved before
accepting engagement. Where the firm obtains information that would have caused it to decline an
engagement if that information had been obtainable earlier, policies and procedures on the continuance
of the engagement and the client relationship should include consideration of:
a) professional and legal responsibilities that apply to the circumstances, including whether there
is a requirement for the firm to report to the person or persons who made the appointment
or, in some cases, to regulatory authorities; and
b) Possibility of withdrawing from the engagement or from both the engagement and the client
relationship.
Considerations as to integrity of clients

With regard to the integrity of a client, matters that the firm considers include, for example:
1. The identity and business reputation of the client's principal owners, key management, related parties
and those charged with its governance.
2. The nature of the client's operations, including its business practices.
3. Information concerning the attitude of the client's principal owners, key management and those
charged with its governance towards such matters as aggressive interpretation of accounting standards
and the internal control environment.
4. Whether the Client is aggressively concerned with maintaining the firm's fees as low as possible.
5. Indications of an inappropriate limitation in the scope of work.
6. Indications that the client might be involved in money laundering or other criminal activities.
7. The reasons for the proposed appointment of the firm and non-reappointment of the previous firm.
Human resources
• Firm should establish policies and procedures designed to provide it with reasonable assurance that it
has sufficient personnel with the capabilities, competence, and commitment to ethical principles
necessary to perform its engagements in accordance with professional Standards and regulatory and

legal requirements, and to enable the firm or engagement partners to issue reports that are appropriate
in the circumstances.
• Such policies and procedures address the following personnel issues:
a) Recruitment;
b) Performance evaluation;
c) Capabilities;
d) Competence;
e) Career development;
f) Promotion;
g) Compensation; and
h) Estimation of personnel needs.
Engagement Performance
Consistency in quality of engagement performance is achieved through briefing of engagement teams of their
objectives, processes for complying with engagement standards, processes of engagement supervision and
training, methods of reviewing performance of work, appropriate documentation of work performed.
Consultation
• Consultation should take place in difficult matters pertaining to an engagement and includes discussion,
at appropriate professional level, with individuals within or outside the firm who have specialized
expertise, to resolve a difficult matter.
• "A firm needing to consult externally, for example, a firm without appropriate internal resources, may
take advantage of advisory services provided by other firms or professional & regulatory bodies.
Engagement Quality Control Review (EQCR)

• Significant judgments made in an engagement should be reviewed by EQC reviewer for taking an
objective view before the report is issued.
• The extent of the review depends on the complexity of the engagement and the risk that the report
might not be appropriate in the circumstances. The review does not reduce the responsibilities of the
EP.
• EQCR is mandatory for all audits of F.S. of listed entities. In respect of other engagements, firm should
devise criteria to determine cases requiring performance of EQCR.
Differences of opinion
• There might be difference of opinion within ET, with those consulted and between EP and EQC reviewer.
The report should only be issued after resolution of such differences.
• In case, recommendations of EQC reviewer are not accepted by EP and matter is not resolved to
reviewer's satisfaction, the matter should be resolved by following established procedures of firm like
by consulting with another practitioner or firm, or a professional or regulatory body.
Engagement documentation
• Firm should establish policies and procedures for ETs assembly of final engagement files on a timely
basis after the engagement reports have been finalized. Engagement files should be completed in not
more than 60 days after date of auditor's report.
• Firm should establish policies and procedures designed to maintain the confidentiality, safe custody,
integrity, accessibility and retrievability of engagement documentation.
• Unless otherwise specified by law or regulation, engagement documentation is the property of the firm.
The firm may, at its discretion, make portions of, or extracts from, engagement documentation available
to clients, provided such disclosure does not undermine the validity of the work performed, or, in the
case of assurance engagements, the independence of the firm or its personnel.
• Engagement documentation has to be retained for a period of time sufficient to permit those
performing monitoring procedures to evaluate the firm's compliance with its system of QC, or for a
longer period if required by law or regulation.
• In specific case of audit engagements, the retention period ordinarily is no shorter than 7 years from
the date of the auditor's report, or, if later, the date of the group auditor's report.

Monitoring
policies and procedures relating to the system of quality control are relevant, adequate, operating
effectively and complied with in practice.
• Such policies and procedures should include an ongoing consideration and evaluation of the firm's
system of quality control, including a periodic inspection of a selection of completed engagements.
SA 220 – Quality Control for an Audit of Financial Statements
Contents
• Pre-conditions of an Audit
1.9 Introduction
SA 220 deals with the specific responsibilities of the auditor with respect to quality control
Contents
procedures for an audit. Quality control systems, policies and procedures are the
responsibility of the audit firm. The auditor has to implement quality control procedures at the
engagement level that provide the auditor with reasonable assurance that:
• • Pre-conditions of an
Audit complies with Audit
professional standards and legal regulations
• Audit report is appropriate.
1.10 Important terms
1.10.1 Quality Control Process

The firm’s system of quality control should include policies and procedures addressing each of the
following elements:
• Leadership responsibilities for quality within the firm.
• Ethical requirements.
• Independence
• Acceptance and continuance of client relationships and specific engagements.
• Assignment of competent and capable engagement teams.
• Engagement performance.
• Monitoring.
• The quality control policies and procedures should be documented and communicated to
the firm’s personnel.
1.10.2 Engagement partner

The partner or other person in the firm who is a member of the ICAI and is in full time practice
and is responsible for
• the engagement and its performance, and
• the report that is issued on behalf of the firm.

As a part of this responsibility Engagement Partner should emphasizes the following to the
engagement Team (ET):
• Compliance with professional Standards and legal requirements.
• Compliance with firm’s Quality Control Policies and procedures as applicable.
• Issuance of appropriate audit report.
• Ability to raise concerns without fear.
• Quality is essential & indispensable in engagement performance.
1.10.3 Engagement Quality Control Review

A process designed to provide an objective evaluation, before the report is issued, of the significant
judgments the engagement team made and the conclusions they reached in formulating the
report.
1.10.4 Engagement Team - All personnel performing an audit engagement.

Engagement Team
Includes Excludes
Individuals within the client’s

internal audit function who
Experts contracted
provide direct assistance on an
audit engagement
1.11 Quality Control
Quality control of an audit can be ensured at two levels.

Quality Contol
Firm level Individual audit

level
- Professional
- Delegation of work to
requirements
assistants
- Skills & competence
- Supervision by senior
- Assignment audit assistants
- Delegation - Reveiw of work by
- Consultation equal or higher
authority
- Client evaluation
- Monitoring
1.12 Quality controls at firm level
The audit firm should implement quality control policies and procedures designed to ensure that
all audits are conducted in accordance with SAs.
• Compliance with Standards on Auditing.

• Communicating quality control policies to personnel.
1.12.1 Objectives of quality control policies

The objectives of the quality control policies to be adopted by an audit firm will incorporate the
following:
• Professional requirements: Personnel in the firm should adhere to the principles of

independence, integrity, objectivity, professional competence, confidentiality and
professional behaviour.
• Skills and competence: the engagement partner may take into consideration such
matters as the team’s:
▪ Understanding of, and practical experience with, audit engagements of a similar
nature and complexity through appropriate training and participation.
▪ Understanding of professional standards and regulatory and legal requirements.
▪ Technical expertise, including expertise with relevant information
technology and specialised areas of accounting or auditing.
▪ Knowledge of relevant industries in which the client operates.
▪ Ability to apply professional judgment.
▪ Understanding of the firm’s quality control policies and procedures.
• Assignment: Audit work is to be assigned to personnel who have the required degree of
technical training and proficiency.

• Delegation: When the work is delegated to the assistants, the auditor should carefully
direct, supervise and review the work to ensure that audit meets appropriate standards of
quality.
• Consultation: If necessary, the auditor may consult experts either within or outside the
firm.
Effective consultation on significant technical, ethical, and other matters within

the firm or, where applicable, outside the firm can be achieved when those
consulted:
• Are given all the relevant facts that will enable them to provide informed
advice; and
• Have appropriate knowledge, seniority and experience
Effective consultation on significant technical, ethical, and other matters within
the firm or, where applicable, outside the firm can be achieved when those
consulted:
• Are given all the relevant facts that will enable them to provide informed
advice; and
• Have appropriate knowledge, seniority and experience
• Client evaluation: The firm must evaluate the client and risk associated with such audit
before accepting or continuing a client engagement.
• Monitoring: The firm must monitor the adequacy and effectiveness of quality control
policies and procedures.
1.12.2 Communication of quality control policies

The quality control policies and procedures must be communicated to all partners and staff of
the firm engaged in audit practice in a manner that provides reasonable assurance that the
policies and procedures are understood and implemented.

Resources, Personnel, Skills
Plan
Communicate Quality Control Delegate

quality control Act Parameters Do Perform
requirements Process, Projects, Consult
Resources
Communicate Check
Client Evaluation & Monitor
1.13 Quality controls at individual audit level
The auditor should implement only those quality control policies and procedures of the firm, which
are appropriate to the individual audit.
Delegation
involves
Direction Supervision Review
1.13.1 Direction of work

• Depends on professional competence of each assistant.
• Involves informing assistants about their responsibilities; objectives of procedures to be
performed by them and other important matters affecting the nature, timing and extent
of their audit procedures.
• Important tools for communication are audit programs, time budgets and overall audit
plan.
1.13.2 Supervision by senior assistants

Senior assistants in the engagement team should:
• Monitor the progress of audit.
• Obtain information about significant accounting and auditing questions raised and review

the audit program to carry out necessary modifications.
• Resolve differences of professional judgment, if any, among the audit personnel.
• Identify matters for consultation or consideration by more experienced team members.
1.13.3 Review of work

Review of work done by engagement team should be done by a person of equal or higher
competence at all stages of the audit process to ensure:
• Completion of audit work as per the audit program.
• Achievement of objective of audit procedures.
• Consideration of all significant matters.
• Consistency of audit conclusions with the results of the work performed and should
support audit opinion
1.14 Review Procedures
The engagement partner shall take responsibility for reviews being performed in accordance with
the firm’s review policies and procedures. Review procedures consists of the considerations,
whether,
• the work has been performed in accordance
with professional standards and regulatory and
legal requirements; The engagement partner
• Significant matters have been raised for further need not review all audit
consideration; documentation but may do
• appropriate consultations have taken place and
so.
the resulting conclusions have been documented
and implemented;
• the work performed supports the conclusions reached and is appropriately documented;
• the evidence obtained is sufficient and appropriate to support the auditor’s report; and
• the objectives of the engagement procedures have been achieved.
• When the auditor delegates work to assistants or uses work performed by other
auditors/experts he will continue to be responsible for forming and expressing his opinion
on the financial statements.
However, he will be entitled to rely on the work performed by others, provided he

exercises adequate skill and care and is not aware of any reason to believe that he should
not have so relied.
• The auditor should carefully direct, supervise and review work delegated to assistants. He
should obtain reasonable assurance that work performed by other auditors/experts and
assistants is adequate for his purpose.
1.15 Engagement Quality Control Review
The engagement partner shall:

• Ensure appointment of engagement quality control reviewer
• Discuss significant matters with the engagement quality control reviewer;
• Issue auditor’s report only after the completion of the engagement quality control review.

1.15.1 IObjective Evaluation by the reviewer
• Discussion of significant matters with the engagement partner;
The engagement quality control reviewer shall perform an objective evaluation

of the significant judgments made by the engagement team, and the
conclusions reached in formulating the auditor’s report.
The engagement quality control reviewer shall perform an objective evaluation

of the significant judgments made by the engagement team, and the
conclusions reached in formulating the auditor’s report.
• Review of the financial statements and the proposed auditor’s report;

• Review of selected audit documentation relating to the significant judgments and the
conclusions reached; and
• Evaluation of the conclusions to ensure appropriateness of report issued.
1.15.2 Additional requirements for review of listed companies

• Firm’s independence
• Ensure appropriate consultation taken for difference of opinions and engagement team
has followed the firm’s policies and procedures for dealing with and resolving differences of
opinion
1.16 Documentation
Documentation Requirements by
Engagement Quality control

Engagement Partner
Reveiwer
1.16.1 Auditor shall document

• Issues relating to compliance with ethical requirements and how they were resolved.
• Conclusions on compliance with independence requirements including discussions with
the firm that support these conclusions.
• Conclusions reached regarding the acceptance and continuance of client relationships and
audit engagements.
• The nature and scope of, and conclusions resulting from, consultations

1.16.2 Engagement Quality Control Reviewer shall document
• Procedures have been performed as per firm’s policies
• Review has been completed before audit report date
• No unresolved matters that would cause judgements and conclusions inappropriate.

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Disclaimer

This book is designed for students pursuing CA Intermediate

24 or thereafter. Every effort has been made to avoid errors and

discrepancy may be brought to our attention by emailing us at

support@indigolearn.com and we shall fix the same in the next

edition of the book.

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© All Rights Reserved

Edition 2 – Dec 2023

1.• Audit Background – For a Company

• In a company form of organization, the Ownership and Management is different.

1FIN BY INDIGOLEARN 1.1

1.3 Meaning and Nature of Auditing

“Audit is an independent examination of ﬁnancial information of any entity, whether proﬁt

• Independent examination – implies the judgement of a person is not subordinate to the

1FIN BY INDIGOLEARN 1.2

3. Such an assurance lends credibility to financial statements.

4. Audited financial statements provide confidence to users that financial information

• Auditing is interdisciplinary in nature.

1FIN BY INDIGOLEARN 1.3

3. Overall Objective of the Auditor

An analysis of above brings out following points clearly: -

3.1 Reasonable Assurance

1FIN BY INDIGOLEARN 1.4

3.2 Material Misstatement

3.3 Fraud And Error

3.4 Financial Reporting Framework

3.5 Audit Evidence

An overview of Objective of Auditor

1FIN BY INDIGOLEARN 1.5

Acceptance of Issue an Audit

-Plan the Audit Form an

Role of Management and Auditor

Maintenance of proper books of accounts

Choosing appropriate accounting policies

Designing internal controls in line with size and nature of entity

Prevention and early detection of fraud and error

Follow fundamental accounting assumptions

Safeguard the assets of the entity

1FIN BY INDIGOLEARN 1.6

Access to books and records of the entity

Provide information and explanation whenever asked for

• Management is primarily responsible for preparation of the Financial statements.

4.1 Scope of Audit

An Overview of Scope of Audit- what Audit Includes

What Audit does not include

• Duties outside scope of competence of auditor

1FIN BY INDIGOLEARN 1.7

Inherent Limitation of Audit

Nature of Financial Reporting

• The preparation of ﬁnancial statements involves judgment by management in applying the

Nature of Audit procedures

• Many ﬁnancial statement items involve subjective decisions or assessments or a degree

Not in nature of Invetsigation

1FIN BY INDIGOLEARN 1.8

7. External audit engagements