Auditing Book Gobind Kumar Jha

Gobind Kumar Jha 9874411552
Unit – 1
Concept, Need and Purpose of Audit
Introduction of Auditing:
The term Audit is derived from the Latin Word ‘Audire’ which means to hear.
In old days whenever proprietor suspected of any fraud or error. Certain people were appointed to
hear verbal evidence of transaction (Barter System).
Audit can be defined as the independent examination of the financial statement of the entity whether
profit oriented or not with a view to express the opinion whether they shows true or fair view or not.
Basic Principles of Governing an Audit:
The auditor should comply with the following basic principles while carrying out his audit assignment:
1. Integrity, Objectivity and Independence: The auditor should be straight forward, honest and
sincere in his work. He should have the ability to act with integrity and he should maintain
impartiality during his audit.
2. Confidentiality: During the course of his audit work, whatever information the auditor has
gathered should not be divulged to any third party without prior approval of his client, unless there
is a legal or professional duty to make such disclosure. He should maintain the confidentiality of the
information obtained during his audit work.
3. Skill and Competence: The auditor should perform his job with due professional care. The audit
work should be undertaken by a person with adequate training, experience and competence. He
should be aware of the legal provisions and the pronouncements of ICAI required in the course of
his audit.
4. Work performed by others: The auditor can rely on the work of others, but he shall continue to be
responsible for the opinion on the financial statements. Therefore, when the auditor is relying on
the work performed by others, he should exercise reasonable skill and care to satisfy himself that
the work performed by others is adequate for the purpose of his audit.
5. Documentation: The auditor should properly document all matters relating to his audit work. Such
documents are known as working papers of the auditor. The working papers are maintained to
demonstrate that the audit has been conducted by following the basic principles.
6. Planning: The auditor should plan his audit work in an effective and timely manner. The plan
should be made based on the knowledge of his clients business. If the circumstances so demand,
the plan should be further developed and revised.
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7. Audit Evidence: The auditor should obtain sufficient and adequate evidence through the
performance of the compliance and substantive procedures which will enable him to draw a
reasonable opinion on the financial statements.
8. Accounting system and internal control: The internal control system should ensure that the
accounting system is adequate and that all accounting information which should be recorded has
actually been recorded.
9. Audit conclusion and reporting: The auditor should review the conclusions draw from the audit
evidence obtained by him so that he can express an opinion on the financial statements impartially.
Objectives of Audit:
1. Primary Objective
 The primary objective of an auditor is reporting. The audit of financial statements, aims to
enable the auditor to form an opinion on such financial statements.
 The auditor should report whether the financial statements reflect true and fair view of the
state of affairs of the company.
 As per Section 129(1) of the Companies Act, 2013, the financial statements shall reflect a true
and fair view of the state of affairs of the company.
 According to Section 143(2) of the Companies Act, 2013, the auditor shall report to the
members of the company, whether to the best of his information and knowledge, the financial
statements examined by him are in conformity with the generally accepted accounting
principles and gives a true and fair view of the state of the company’s affairs as at the end of its
financial year as well as profit or loss and cash flow for the year.
 According to SA 200, Overall Objectives of the Independent Auditor and the Conduct of an
Audit in Accordance with Standards on Auditing issued by ICAI “the overall objectives of the
auditor are:
a) To obtain reasonable assurance about whether the financial statement 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”.
2. Secondary Objective
 The auditor is expected to provide an opinion on the true and fair view of the financial
statements. He shall not be able to express such an opinion if there is a possibility of fraud and
error in the financial statements. Thus, the detection of misstatement becomes the secondary
objective of the audit.
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 SA 240, The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial Statements

issued by ICAI states “the objectives of the auditor are:
a) To identify and assess the risks of material misstatement in the financial statements due to
fraud;
b) To obtain sufficient appropriate audit evidence about the assessed risks of material
misstatement due to fraud, through designing and implementing appropriate responses;
and
c) To respond appropriately to identified or suspected fraud”.
 According to Section 143(12) to (15) of the Companies Act, 2013, the auditor should report to
the Central Government if he has reason to believe that a fraud is committed or likely to be
committed against the company by the officers of the company.
Limitations of Audit:
The audit process suffers from some inherent limitations which the auditor cannot avoid in spite of
planning his audit procedure with due care and diligence. According to SA 200, Overall Objectives of the
Independent Auditor and the Conduct of an Audit in Accordance with Standards on Auditing, inherent
limitations of an audit means that ‘The auditor is not expected to, and cannot, reduce audit risk to zero
and cannot therefore obtain absolute assurance that the financial statements are free from material
misstatement due to fraud or error.’ The users of the financial statements should bear this in mind while
using the financial statements. The following are the inherent limitations of audit:
1. Exercise judgement: the nature and extent of the audit procedure to be performed depends on the
judgement of the auditor. The financial statements are prepared based on reasonable estimates
made by the management on which the auditor needs to exercise his judgement. Thus the
conclusions made by the auditor are more subjective rather than conclusions arrived through any
scientific process.
2. Inconclusive audit evidence: The auditor has to obtain evidence for the transactions through proper
verification. Mostly, the evidence which the auditor gathers is more persuasive rather than
conclusive. As a result, the auditor can draw only reasonable conclusion based on such evidence.
3. Time constraint: The auditor is generally required to conduct the audit within limited time. Thus,
the auditor is always under pressure to complete the assignment within the limited time.
4. Nature and audit procedure: It is almost impossible for the auditor to check and every transaction
due to the time limitation and the cost involved in such process. As a result, with the audit evidence
obtained by the auditor it may not be possible to detect intentional misstatement. So there is
always a chance that frauds and errors might remain undetected even after audit.
5. Conceptual restriction: In audit the main thrust is on audit procedure and technique rather than
development of a sound theoretical framework which can substantiate the audit process.
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6. Post-mortem examination: Auditing is a post mortem activity since the audit is undertaken only
after the close of the accounting year. Therefore, the auditor cannot prevent any fraud and error.
His job is restricted only to detection of fraud and error.
Difference between Fraud and Error:
Point of Difference Error Fraud

1. Intention It is unintentional mistake in the It is intentional mistake which has a
measurement or preparation of material effect on the financial
financial statement. statement.
2. Auditor’s duty It is the duty of the auditor to The auditor should assess the effect
ensure adjustment of the errors of fraud on the financial statements.
detected. He should discuss it with the
appropriate level of management. If
the situation demands he should
withdraw from the engagement.
3. Chance of detection More chance of detection as it is Difficult to detect as it is intentional.
not intentional.
4. Level Mainly committed by lower level Committed both by upper level
employees. management and lower level
employees.
5. Effect No serious damage is caused other Serious impact as it involves
than misstatement. misappropriation of assets or
falsification of accounts.
6. Liability Involves civil liability for the party Involves criminal liability for the
committing error. party committing fraud.
Classification of Audit:
Types of Audit
Organization Structure Objective Periodicity Technique
Statutory Audit Internal Audit Periodical Audit Balance

Non-statutory Audit Independent Continuous Audit Sheet Audit
Financial Audit Interim Audit Standard Audit
Final Audit System Audit
EDP Audit
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Difference between Statutory Audit and Non-statutory Audit:
Point of Difference Statutory Audit Non-statutory Audit

1. Statutory It is compulsory as per the law to It is done voluntarily by the
Requirement conduct the audit. interested parties, e.g. sole
proprietorship.
2. Rights & Duties The rights and duties of the auditor The rights and duties are determined
are governed by the statute. The as per the agreement of the auditor
articles of association cannot with the parties conducting the
restrict such rights and duties audit.
[Newton vs. Birmingham Small Arms
Co. Ltd.]
3. Qualification The qualification of the auditor is There is no specific requirement for
determined by the statute. the qualification of the auditor.
4. Appointment In case of limited companies the The sole proprietor or the partners
auditor is appointed by the of the firm appoint the auditor.
shareholders at the Annual General
Meeting and in specific cases by the
Board of Directors. In case of a
government company, the auditor is
appointed by Comptroller and
Auditor General of India.
5. Remuneration The remuneration of the statutory The remuneration is determined by
auditor is generally fixed as per the the appointing authority.
guidelines of the statute.
6. Disclosure The treatment and disclosure The treatment and disclosure is to be
should be made in accordance with made as per the instruction of the
the statute. client.
7. Purpose The statutory audit is conducted It is conducted in the interest of the
keeping in mind the interest of the appointing authority.
shareholders.
8. Report The statutory auditor should submit He should submit the report in
the report to the shareholders. accordance with the terms of his
appointment.
9. Liability The statutory auditor can be help The non-statutory auditor is not
liable as per the statute he is liable under the common law of the
appointed. He can also be help country.
liable as per the common law of the
country.
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Difference between Independent Financial Audit and Internal Audit:
Point of difference Independent Financial Audit Internal Audit

1. Nature To ascertain the truthfulness & To review financial and non-financial
fairness of the state of affairs of the operations.
company.
2. Appointment Appointed by the owners or Appointed by the management. The
shareholders of the enterprise. The internal auditor is the staff of the
independent auditor is a qualified organization.
auditor.
3. Report Submission The auditor submits report to the The internal auditor submits report
owners or shareholders. to the management.
4. Duties The duties of the auditor are fixed The management decides the duties
by the statute. of the auditor.
5. Fraud & Errors Detection of fraud and error are The primary duty of Internal audit is
incidental duties of the independent prevention of errors and frauds.
auditor.
6. Periodicity It is done annually or on a It is done on a continuous basis.
continuous basis.
7. Remuneration Remuneration is fixed as per statue. Remuneration is fixed by the
management.
8. Object The object of the audit is to protect The object of this audit is to improve
the interest of the shareholders and performance, efficiency and
other stakeholders. profitability of the business.
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Distinction between Continuous Audit and Periodical Audit:
Point of Difference Continuous Audit Periodical Audit

1. Nature The audit is conducted at regular or The audit is completed after the end
irregular intervals. of the financial year in one
continuous series.
2. Fraud and Error Chances of early detection of fraud Fraud and error might be left
and error. undetected for a long period.
3. Control System Better understanding of accounting Due to time constraint the auditor’s
and other control system by the understanding with regard to
auditor. accounting and other control is less
as compared to continuous audit.
4. Suitability More suitable for big and medium More suitable for small concern.
sized organization.
5. Cost It is more expensive. It is less expensive.
6. Preparation of It helps in preparation of interim Does not prepare interim accounts.

Interim Account accounts.
7. Annual Report Annual report can be published The annual report publication gets
Publication earlier. delayed.
8. Checking Detailed checking is done by the Due to paucity of time detailed
auditor. checking is not possible.
9. Alteration of Chances of audited figures being No scope for alteration of audited
Audited Figures altered by client staff. figures.
10. Monotony The job of the auditor becomes No monotony in the audit work.
monotonous.
Difference between Audit and Investigation:
Point of Difference Audit Investigation

1. Objective To ascertain the truthfulness and To establish a specific fact.
fairness of the state of affairs of the
concern.
2. Scope The scope of audit is determined by The scope of investigation is
the standard on auditing and the determined by the terms of
relevant statute. engagement.
3. Period It is conducted yearly. It depends on the requirement of
investigation.
4. Nature of A general examination on the basis It involves detailed examination
Examination of test checking of accounts and which is both inclusive and
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records. exhaustive.
5. Inherent Limitation More due to test checking. Less as a result of detailed checking.
6. Nature of Evidence It is concerned with prima facie It requires conclusive evidence.
evidence which is sufficient and
appropriate.
7. Interest Party It is conducted on behalf of the It may be conducted on behalf of the
shareholders. In some cases it is interested party like owners,
conducted for the government. prospective buyer of the business,
etc.
8. Report General purpose reports to be Conclusive report to be submitted to
submitted to the owner. the person on behalf of whom
investigation is conducted.
9. Conducted by Conducted by Chartered Conducted by an expert team.
Whom Accountant.
Standards on Auditing:
In order to ensure that information provided in the financial statements are of high quality and are
acceptable worldwide the Auditing and Assurance Standards Board (AASB) under the council of the
Institute of Chartered Accountants have come out with few standards. These are known as Standards of
Auditing (SA) which are issued in line with the International Standards issued by the International Auditing
and Assurance Board (IAASB).
 Engagement Standards:
The standards issued by the AASB under the authority of the ICAI collectively known as engagement
standards. They include:
 Standards on Auditing (SAs) is applied in the auditing historical financial information.

 Standards on Review Engagements (SREs) are to be applied in reviewing historical financial
information.
 Standards on Assurance Engagements (SAEs) is applicable for assurance engagements other
than the audits and reviews of financial information.
 Standards on Related Services (SRSs) are to be applied for all engagements about the
application of agreed procedures to information, compilation engagements, and other related
services engagements.
 Purpose of Standard on Auditing:
 They are critical in ensuring and enhancing quality in audits of financial statements.
 Ensure information provided by the audit is of high quality and acceptable world wide.
 It provides a guide to the solution to various problems faced by the auditor in the course of his
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audit.
 It helps the auditor in documenting his work.
 It acts as a guide for the auditor in every stage of his audit.
 The confidence of the public in the audit work will increase.
 It helps in the reduction in audit risk.
 Importance of Standard on Auditing:
 Auditing Standards are mandatory to be followed by practitioners under the direction issued by
the council of ICAI.
 If the SAs are not complied while performing the Assurance Engagement, the chartered
accountant shall be held guilty of Professional Misconduct under Schedule-II of CA-Act, 1949.
 As per the Section 143(9) of Companies Act, 2013, every auditor is required to comply with the
auditing standards.
1. Do you agree with the view that there are inherent

limitations of Audit?
Besides having various benefits, there are some inherent limitations of auditing. These are as follows :
(a) Higher Cost Burden: Due to Higher Cost Burden, the auditor limits his scope of work to selective
testing or sampling thus in depth checking of books of accounts is not possible.
(b) Based on test checks. Generally an auditing exercise is based on test checking. Inferring a result
on the basis of test check always need not to be true.
(c) Insufficient Time: Generally an auditor needs to release the report up to a specified timeline.
Sometime this timeline become a constraint for an auditor in carrying out the auditing exercise
effectively. This time constraint may affect the amount of evidence that can be obtained
concerning events and transactions after the balance sheet date that may have an effect on the
financial statements. Moreover, there is a relatively short time period available for resolving
uncertainties existing at the financial statement date.
(d) Inconclusiveness of Evidences: The evidences obtained by an auditor are persuasive rather than
conclusive. For example, an architect’s certificate of valuation for a newly constructed building
of a client may not be conclusive evidence of the correct value of building.
(e) Based on Estimates: Estimates are an inherent part of the accounting process, and no one,
including auditors, can foresee the outcome of uncertainties. Estimate range from the allowance
for doubtful accounts and an inventory obsolescence reserve to impairment tests of fixed assets
and goodwill. An audit cannot add exactness and certainty to financial statements when these
factors do not exist.
Based on the Information provided by the Management: The audit opinion is based on theinformation provided by
the management. Hence, outsiders cannot fully rely on the auditor’s report.
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2. Accounting is a necessity while auditing is a luxury for a

business enterprise‘ --- do you agree? Give reasons for your
answer.
A question often arises in the minds of businessmen whether audit is luxury or not. They say accounting
is necessity and auditing is a wastage of time and money. Auditing may be luxury from the point of view
of an ordinary businessman because of following reasons:-
(a) The remuneration paid to the auditor is an unnecessary waste of funds.
(b) Too many formalities attached to auditing create difficulties for an average businessman.
(c) The businessman feels that auditing means waste of time and disturbance in routine work of the
accountant and his subordinates.
(d) Audit is not perfect method of detecting errors and frauds.
Thus, auditing for a small business may be luxury but it is a necessity for a large business organization for
thefollowing reasons:-
(a) Accounting data needs to be verified as to their reliability and accuracy.
(b) Public funds invested in the private sector of economy need to thoroughly examined as to their proper
utilization.
(c) Various social groups who are interested in affairs of a business entity need to be assured that the entity
functions are discharged efficiently and to the best advantage of social will-being.
(d) Absentee shareholders created out of widely dispersed ownership of management need to be provided
with sufficient assurance that the figures in the profit and loss account and balance sheet are fair
representations of the financial conditions of a business.
Thus, keeping in view the above, one can not say that auditing is luxury. Auditing is necessity of big
organizations. Auditing is compulsory in case of Private Limited Companies, Limited Companies,
Charitable Trusts, Societies, Banks etc. The partnership firms or proprietorship firms can also engage the
auditors to have the fair view of accounts. Auditing is not wastage of money because so many frauds can
be detected from auditing and the money paid to the auditors looks very petty amount in comparison of
the frauds detected. Auditing is not the wastage of time also. Normally, auditors do not disturb the
accounting staff. The do their own work. Very few interference is done by them with the accounting staff. The
findings or benefits of audit are more precious than wastage of little time of accounting staff. In my view,
every business firm whether it is small orbig, must avail the services of the auditors.
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3. Accountancy begins where book-keeping ends &

accountancy ends where auditing begins. Discuss
Book-Keeping, Accountancy and Auditing are the three aspects of the term `Accountancy' itself in its
widest sense.
Book-keeping:
Book-keeping is the art of recording the daily transactions in a set of financial books. It is concerned with
systematic recording of transaction in the books of original entry and their posting into ledger.
Accountancy
Accountancy begins where book-keeping ends." It means that an accountant comes into the picture only
whenthe book keeper has done his job. The functions of accountant can be classified as under :
(i) Checking the work of book-keeper.
(ii) Preparation of trial balance,
(iii) Preparation of Trading and Profit and loss Account.
(iv) Preparation of balance sheet,
(v) Passing entries for rectification of errors and making adjustments.
An accountant is supposed to be an expert in the accounting procedures as he has to examine analytically
the final accounts. But it is not necessary for him to pass the chartered Accountant's examination. He it's
not supposed to submit his report after the completion of work.
Auditing
It is said, "where accountancy ends, auditing begins." It is slightly said. An auditor has to verify the
entries passed by the accountant and the final accounts prepared by him. Thus, auditing is the checking of
the accounts of a business with the help of vouchers, documents and the information given to him and the
explanations submitted to him. An auditor has to satisfy himself after due verification and complete.
Checking of accounts as to whether the transactions entered into the books are accurate. An auditor is
required to submit his report to the effect whether or not the balance sheet is a true and fair representation
of the existing state of affairs of a business concern.
Thus, an auditor should have the proper knowledge of accounting principles. That is why he should be a
chartered Accountant. He has to express his impartial opinion in his report which he can not give unless
he satisfies himself completely with the proper recording of transactions. Thus, auditing is based on
accountancy and not accountancy on auditing. An auditor must be well familiar with the principles and
practical aspects ofaccountancy but it is not necessary for an accountant to be an expert in the audit work.
The following table makes the distinction clear among book-keeping accountancy and Auditing.
(a) Book-keeping :
(i) Journalizing.
(ii) Posting into Ledger.
(iii) Totaling of different accounts in the Ledger
(iv) Balancing,
(v) Checking the work of the Book-keeper.
(vi) Preparation of Trial Balance
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Accountancy
(i) Preparation of Trading & Profit & loss account
(ii) Preparation of Balance sheet, (Theoretical part)
(iii) Passing entries for rectification of errors and making adjustments,
Auditing
Checking the work done by the accountant. (Examination of Records) (the Analytical part)
4. ―Auditing may be defined as Accounting control

Comment
Accounting is concerned with measurement and communication of financial events based on some
established principles and procedures. Auditing, on the other hand deals with checking and confirmation of
what are recorded and to be communicated. It aims at ensuring that
(i) All transactions are undertaken in accordance with plans and procedures as laid down by the management,
(ii) Transactions are promptly and properly recorded so that financial statements is prepared timely and
presented in a fair way.
(iii) No fraud takes place so that assets of the business are safeguarded.
So, audit is the control of the accounting system of the organisation. It sees that accounting system has
been designed to prevent occurrence of errors and frauds and it can generate authentic and reliable financial
statements.Auditing is, therefore, appropriately defined as 'accounting control'.
However, the developments in the last few decades have extended the scope of audit beyond the accounting system. The
audit now a days is also concerned with operational efficiency and performance of the business. Ithas now become control
mechanism of all business activities. Accordingly the Institute of Chartered Accountants of India has recently defined auditing as
"a systematic and independent examination of data, statement, records, operations and performances (financial or otherwise)
of an enterprise for a stated purpose." So overall control andmonitoring of all business activities is now the object of audit.
Hence it has been rightly said that ―The relationship of auditing to accounting is close, yet their natures are different,
they are business associates,not parent and child"
5. Detection and prevention of errors are the main objects

of auditing- Discuss it fully and explain the duties of an
auditor in this regard
DETECTION OF FRAUD & ERRORS

The term fraud means the willful misrepresentation made with an intention of deceiving others. It is a
deliberate mistake committed in the accounts with a view to get personal gain. In accounting, fraud means
two things. a. Defalcation involving misappropriation of either cash or goods; and b. Fraudulent
manipulation of accounts not involving defalcation.
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THE AUDITOR CAN SUSPECT FRAUD UNDER THE FOLLOWING CIRCUMSTANCES.

(i) When vouchers, invoices, cheques, contracts are missing etc.
(ii) When control account does not agree with subsidiary books.
(iii) When the difference in trial balance is difficult to locate.
(iv) When there are greater fluctuation in G.P. and N.P. ratios.
(v) When there is difference between the balance and the confirmation of the balance by the parties.
(vi) When there is difference between the stock as per records and the stock physically counted.
(vii) When the explanation given by the client is not satisfactory.
(viii) When there is a overwriting of some figures.
(ix) When there is a contradiction in the explanation given by different parties.
PROCEDURE TO BE FOLLOWED TO DETECT ERRORS.

Following procedures may be adopted by the auditor to detect the errors.
(i) Check the opening balances from the balance sheet of the last year.
(ii) Check the posting into respective ledger accounts
(iii) Check the total of the subsidiary books.
(iv) Verify all the castings and the carry forwards.
(v) Ensure that the list of debtors and creditors tally with the ledger accounts.
(vi) Make sure that all accounts from the ledger are taken into accounts.
(vii) Verify the total of the trial balance.
(viii) Compare the various items from the trial balance with that of the previous year.
(ix) Find out the amount of difference and see whether an item of half or such amount is entered
wrongly.
(x) Check differences involving round figures as Rs. 1,000; Rs. 100 etc .
(xi) See where there is misplacement or transposition of figures that is 45 for 54; or 81 for 18 etc.
(xii) Ultimately careful scrutiny is the only remedy for detection of errors. 13. See that no entry of the
original book has remained unposted.
THE AUDITOR SHOULD PERFORM THE FOLLOWING DUTIES IN RESPECT OF FRAUD.

(i) Examine all aspects of the finance.
(ii) Vouch all the receipts from the counterfoils or carbon copies or cash memos, sales mart reports
etc.
(iii) Check thoroughly the salary and wages register.
(iv) Verify the methods of valuation of stocks.
(v) Check up stock register, goods inwards notes, goods out wards books and delivery challans etc
(vi) Calculate various ratios in order to detect fraudulent manipulation of accounts
(vii) Go through the details of unusual items.
(viii) Probe into the details of the problems when there is a suspicion.
(ix) Exercise reasonable skill and care while performing the duty. 1
(x) Make surprise visit to check the accounts.
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6. Distinguish between Accountancy & audit

Or
―Auditor is not an accountant – Explain
Accounting is a systematic process of recording, classifying and summarizing transactions and economic
events which affect the business. At the end of this process, accounting prepares financial
statements which should contain information useful to the management and other stakeholders for
decision making.
Auditing is concerned with verification of financial statements as prepared by the accountant and
thereby expressing opinion on their reliability and fairness. The auditor verifies the financial statements
with help of relevant documentary evidence and explanation and information given to him. So auditing
begins, where accounting ends. In other words, accounting is followed by auditing which confirms the
accuracy and fairness of the former. Unless auditing is carried out, the reliability of the financial
statements will not be ensured. Consequently, the management and other stakeholders will not find the
financial statements useful for decision making. So auditing and accounting are closely related although
they are district disciplines.
Points of difference Accountancy Audit

(a) Scope
Accountancy is concerned with the Auditing is concerned with the
preparation of final accounts and verification and examination of those
other explanations which are helpful recorded in books of account.
to the
management.
(b) Object The object of accountancy is to show The object of audit is to verify the truth
the financial position of the business and fairness of financial position and of
on a specific date and to determine the operating result of the concern and
the operating result for the specific at the same time to discover errors and
periodof time. frauds if any, in accounts.
(c) Qualification There is no hard and first rule that an In order to acquire qualification, a
accountant should be a Chartered Ac- professional auditor must be a
countant. CharteredAccountant.
(d) Status The accountant is a paid employee of An auditor is not a paid employee of
the concerned organisation and the concern. The owners for a specific
performs his functions under the purpose appoint an independent
control person
of management as an auditor.
(e) Tenure The accountant is the An auditor may not be appointed for
permanentemployee of the longtime in the same concern.
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concern.
(f) Knowledge in the An accountant may not necessarily An auditor, having no knowledge in
subject possess the knowledge of auditing. accountancy cannot perform his
func-tions of audit well.
(g) Ranking The work of accountancy has to be After the work of accountancy ends,
done at first. So, it is done before the the work of audit begins. So, without
work of audit begins. performing the work of accountancy,
auditing can not start.
(h) Time period of work The work of accountancy The work of audit may be done at the
continuesthroughout the year. end of financial year or continuously
throughout the year.
(i) Control For the work of accountancy there The work of audit is always regulated
is no scope for professional control by the rules and regulations of the
or regulation. association.
(j) Type of work The accountant takes the The auditor does not prepare
responsibility of the preparation of account, but reviews and analyses the
accounts. As such, its work is
accounts prepared by accountant. As
constructive in nature
such, his
work is analytical in nature.
(k) Submission of report The accountant after completion of The auditor after examining and
his preparation of account need not reviewing the accounts must have to
submit report to the owner or to submit a report to the owner or to
management. management.
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7. Distinguish between Internal audit & statutory

audit.
Or
"Internal Audit is no substitute for Statutory Audit."—Discuss.
Point of Difference Internal Audit Statutory Audit

(a) Appointment of The internal auditor is appointed by The statutory auditor is generally
auditor thedirectors of the company. appointed by the shareholders, but in
specific cases by die director or by the
government.
(b) Qualification of The directives of the companies act The statutory auditor must have the
auditor regarding qualification is not applicable qualification as prescribed by the companies
here act.
(c) Status of Internal auditor has no independent The statutory auditor is an independent
theauditor status as he is a paid employee of the and impartial person, not a paid employee
undertaking. of thecompany
(d) Removal of the The appointing authority i.e. the directors The shareholders in general meeting
auditor can remove the internal auditor canremove the statutory auditor.
(e) Remuneration The directors generally fix up the The shareholders in general meeting fix
amount of remuneration payable to up the remuneration payable to the
the internalauditor statutory auditor.
(f) Special right The internal auditor has no right to The statutory auditor has a right to attend
attendthe general meeting of the thegeneral meeting of the company
company.
(g) Reasons for audit Internal audit is carried out to satisfy the The statutory auditor is earned out for
directors. preservation of shareholders' interest or
thirdparty's interest.
(h) Legal obligation There is no legal obligation for Statutory audit is compulsory for the Joint
conducting internal audit. It depends Stock Company as per provisions of the
upon the intention of the directors. Companies Act.
(i) Object of audit The main object of internal audit is In case of statutory audit apart from
todetect the errors and frauds. detectionof errors and frauds, certification
of final accounts of the concern is the main
object.
(j) Pervasiveness of The internal auditor has to examine The statutory auditor may examine the
work allthe transactions of the transactions thoroughly or may adopt the
business test
thoroughly. checking.
(k) Report The internal auditor is not appointed As the shareholders appoint the statutory
by the shareholders. . So, he is not auditor, so, he is required to submit the
requiredto submit report to them. auditreport to them
[16]
8. Distinguish between continuous audit & periodic

audit.
Point of Difference Continuous Audit Periodical Audit

(a) Definition Continuous audit is that system of The system of audit which is taken up
audit under which the auditor or his after the books have been closed at the
assistant makes a detailed end of financial or accounting period and
examination of all the transactions thereafter carried on continuously until
continuously throughout the year or at completed, is called the periodical audit.
regular intervals, say weekly,fortnightly
or monthly, etc.
(b) Features The main feature of continuous audit In case of periodical audit, after the
is that recording of transactions and completion of accounting for financial
the work of verifying them are year,the work of audit begins.
carried on
simultaneously.
(c) Nature of audit As it is carried on regularly at short At the close of the accounting year, the
work intervals, all the transactions can be work of audit is taken up. So, all the
verified thoroughly. transactions in case of large concerns
cannot be examinedthoroughly.
(d) Fairness & As all the transactions are verified At the end of the financial year, the work
correctness of minutely, so if any error or fraud is begins. So, it will not be possible to verify
accounts creptin account, that can be disclosed them minutely. As such, errors or frauds
and timely steps, can be taken. maycreep in accounts.
(e) Case of necessity In case of large concerns and where Whatever may be the size of the concern
the number of transactions are and whatever may be the number of
numerous, the necessity of applying transactions,its necessity is felt everywhere.
the continuous
audit is felt.
(f) Relationship of the Under this system of audit, a close Under this system of audit, no close
auditor with the relationship is formed between the relationship is formed between the
concern auditor and the firm auditor and the firm.
(g) Scope of expendi- This system involves much expenditure. This system does not involve much
ture : So, it cannot be applied to small expenditure and as such is applicable to
concerns. alltypes of concerns.
(h) Certification of Under this system, it requires less time Under this system, it required much time
accounts : toprepare and submit the report toprepare and submit report concerning
relating to the
the certification of final accounts. certification of final accounts.
[17]
9. Distinguish between interim audit & Internal audit
Point of Difference Interim Audit Internal Audit

(a) Audit work done During the course of the financial year, Internal audit is a part of
interim audit is done at any time normaladministrative routine
work.
(b) Work carried on In case of interim audit, the work Internal auditing work is performed by
ofaudit is carried on by an outsider. thepersons of the concern itself.
(c) Objects of audit When the accounts are prepared for Internal audit is a constant review of
the part of die financial year, interim theaccounts carried on throughout the
audit is meant to check the accounts year.
as it has some interim purposes.
(d) Work of audit In interim audit, the work of audit is Internal audit goes on
pertaining to a period relating to certain date in a year continuouslythroughout the
life-time of a concern.
(e) Submission of In case of interim report, the auditor The question of reporting does not arise
report requires to submit his report. incase of internal audit.
(f) Purpose to be Interim audit is always subjected to Internal audit is a part and parcel of the
fulfilled the need. That is, it is conducted organisational and administrative
whenever there are interim purposes procedure of an undertaking.
to be fulfilled.
10. Distinguish between Balance sheet audit & Final audit
Point of Difference Balance Sheet Audit Final Audit

(i) Scope of work Here the audit work extends beginning Under this system examination begins from
from balance sheet to examination of books of prime entry and related vouchers
books of prime entry and documents. and documents continuous audited balance
sheet.
(ii) Internal control The reliable internal control and In this case it is not compulsory to
and Internal check internal check system are not introduce internal control and internal
system introduced. So, it is not possible to check system.
run these system.
(iii) Verification of There is no need of examining the In final audit examination of verification of
vouching verification of transaction, transactions, determination of balance of
determination of the balance of accounts etc. are needed.
accounts etc
[18]
11. Distinguish between investigation & audit?
Points of distinction Audit Investigation

1. Objective Audit is undertaken to ascertain Investigation is undertaken for
whether accounts have been properly somespecific purpose, say, to ascertain:
drawn up and whether they disclose a i. Financial position of the firm
true and fair view of financial position ii. Earning capacity of the firm
and results of the iii. Extent of fraud committed etc.
business.
2. Scope It deals with entire area of books of As it is conducted for some specific
accounts. So the auditor has no alter purpose, it involves thorough
– native but to resort to test – examination in some selected areas.
checking orsample checking.
3. Nature The auditor is required to express his The investigator proves into the
opinion about generally reliability and matter and looks for substantive and
fairness of accounts. He, therefore, conclusive evidence to establish the
relies on persuasive or prima – facie fact. He is a blood hound and takes
evidence to support his findings. He is everything as suspicious unless proved
only a watch dog and takes everything otherwise.
as correct in the
absence of suspicion.
4. Time Span Time span of audit is generally financial It has got no fixed time span. It is
year which may extend to 15 months undertaken covering any time period
in some special cases. It is a regular depending upon cases. It is not
matter undertaken compulsorily in case regularbut occasional.
of jointstock company.
5. Interested party Audit is conducted on behalf of the An investigation is done
owners or shareholders and in some i. On behalf of owners;
cases for Central Government. ii. On behalf of prospective
buyersor would be owners;
iii. On behalf of incoming partners;
iv. On behalf of Central Govt. at
the request of shareholders.
6. Adjustment of profit An auditor is not required to adjust the The investigator may have to adjust
netprofit as ascertained by accountant. the net profit as calculated by
accountant to arrive at the actual
profit earningcapacity.
[19]
7. Use of GAAP The auditor is required to ensure that The investigator does not bother
accounts have been prepared in about the compliance of generally
conformity with generally accepted accepted accounting principles. He
accounting practices and relevant is not concerned with whether
accounting standard. He is required to accounting policy of the company is
be well versed in accountancy and being followedor not. He may belong
generally to accounting
becomes a Chartered Accountant. profession or other profession.
8. Reporting The report of auditor is stereotyped and The report of the investigator is made
as per format prescribed by the in detail and refers to (a) the
Companies Act and SA700, ‗Forming an instructions given to him; (b) method
Opinion and Reporting on Financial of approach followed by him; (c)
Statements‘. documents reliedupon; (d) his findings
and observations;
and (e) his recommendation to his client.
12. What do you mean by standards on auditing (SA)? Discuss

the importance/Purpose of standards on auditing.
Meaning:
Standards on auditing refer to a set of systematic guidelines used by auditors while conducting audit of
company‘s accounts. These guidelines are generally prescribed by the professional bodies of
accountants based on collective deliberation and views of different segments of society and interested
groups such as regulators, industry and academies. These standards provide principles and techniques of
auditing which help the auditors ensure performing his duties most efficiently and effectively. They are a
set of ideas which serves as a framework for auditing.
Importance/Purpose:
The importance of standards of auditing can be summarized as below:
1. Guidance for audits: Standards on auditing provide high quality auditing standards and guidance for
financial statement audits and other types of assurance services. Thus, quality of audit is much improved.
2. Reducing audit risk: By rely on standards on auditing auditors can minimize the probability of missing
material information. So the extent of audit risk is reduced. The auditor can defend himself against
allegation of negligence by establishing that he has performed audit according to standards.
3. Prevention of scams and accounting scandals: The standards on auditing educate the professional
auditors about their role and responsibility in performing audit. So they always remain careful and
cautious while performing audit. This mindset of auditors goes a long way towards detection of scams
and accounting scandals.
[20]
4. Public confidence in the auditing profession: As standards on auditing enhance the quality of audit, the
public confidence on audit profession which has been shattered due to recent wide spread scams and
accounting scandals, will be strengthened.
Reduction of investor’s risk: If there is any discrepancy between what the audit report states and the actual situation, it
will have a disastrous impact on the risk perception of the investors. The cost ofcapital will then rise and the firm
will find it difficult to raise finance. It is expected that standards on auditing can play a significant role in reducing the risk
perception of the investors as they can rely on audit conducted in a fair and uniform manner.
[21]
Unit – 2
Audit Procedures and Techniques
Audit Engagement [SA 210]:
Before accepting an audit assignment of an organization the auditor should determine whether the
preconditions for an audit are present and confirming that there is a common understanding between the
auditor and management and where appropriate, those charged with governance of the terms of the audit
engagement. [Objective – as per SA 210 para 3]
Audit Engagement Letter:
Audit engagement letter is a communication issued by auditor to the client expressing therein the fact of
acceptance of his audit engagement, the objective and scope of his audit, auditor’s and managements
responsibilities, application of accounting principles, standards and audit fees. As per SA 210 – “Agreeing
the terms of Audit Engagements” – the agreed terms of the audit engagement shall be recorded in an
audit engagement letter or other suitable form of written agreement.
Audit Planning:
This area of study should be made in accordance with SA 300- “Planning an Audit of Financial Statements.”
This standard on auditing deals with the auditor’s responsibility to plan an audit of financial statements.
According to SA 300 Audit Planning is not a discrete phase of an audit, but rather a continual and iterative
process than often begins shortly after or in connection with the completion of the previous audit and
continues until the completion of the current audit engagement.
Audit Programme:
It is always advisable that the auditor should frame an audit programme for each audit and it is utmost
necessary to prepare audit programme before starting a considerably big audit. As per definition given by
ICAI – “An audit programme consists of a series of verification procedures to be applied to the financial
statements and accounts of a given company for the purpose of obtaining sufficient evidence to enablethe auditor
to express an informed opinion on such statements.”
[22]
Advantages and Disadvantages of Audit Programme:
 Advantages:
a. Provides clear set of instructions to the assistant regarding the work to be done.
b. It focuses on total perspective of the work to be done.
c. Audit programme helps to plan the audit work rationally – enables the auditor to select
bestassistants dedicated to the work.
d. Under a properly framed audit programme, the work is conducted systematically
withoutignoring or overlooking important areas.
 Disadvantages:
(i) There is a possibility that the work may become mechanical without understanding the objects
of auditing by the assistants.
(ii) A strict audit programme may kill the innovativeness of the staff while conducting the audit.
(iii) Old and repetitive audit programme if followed by the current audit team may be obsolete and
useless.
Developing an Effective Audit Programme:
In order to develop an effective audit programme the auditor should initiate for:
a) Written audit programme: It is important to have a written audit programme which is to be

distributed to the assistants and being useful for a documentary evidence and review mechanism.
b) Audit Planning: The planning of audit should be incorporated in audit programme. The steps of
planning should be reflected in audit programme in order to frame overall audit strategy.
c) Audit Objectives: The programme should contain audit objectives covering each area of audit and
should have sufficient instructions for the assistants in order to conduct the audit fruitfully.
d) Timeframe of audit procedures: The audit programme may highlight the time frame for conduction
of individual and distinct audit areas. This will be helpful for the audit assistants to complete the
audit on a time scale.
e) Reliance on Internal Control: In preparing an audit programme the audit may or may not rely on the
accounting system and related internal control mechanism followed by the entity. The degree of
reliance should be reflected in framing the audit programme. Other factors like time limit
programme, other factors like time limit, number of assistants, audit fees, clients assistance and co-operation
etc. also influence the framing of audit programme.
[23]
Audit Documentation:
SA 230 deals with the auditor’s responsibility to prepare audit documentation for an audit of financial
statements. Audit documentation refers to the working papers prepared and maintained by the auditor to
show that the work has been done as per the standard on auditing.
Examples of Audit Documents:
Audit documentation may be recorded on paper or on electronic form. Some examples are:
a) Copy of audit programme.
b) Analysis sheets
c) Summaries of significant matters
d) Checklists
e) Letters of confirmation representation
f) Correspondence (including email) concerning significant matters
g) Copies of significant contracts and agreements.
Audit Working Papers:
As per SA 230 (Revised) “Audit Documentation” Audit working papers are the record of audit procedures
performed, relevant audit evidence obtained, and conclusions the auditors reached. They are the
a) Evidence of the auditor’s basis for a conclusion about the achievement of the overall objective of
the auditor, and
b) Evidence that the audit was planned and performed in accordance with SAs and applicable legal
and regulatory requirements.
Utility of Working Papers:
According to SA 230 on “Audit Documentation” working papers helps in planning and performance of the
audit, supervision and review of the audit work and provide evidence of the audit work performed to
support the auditor’s opinion. Besides, audit working papers serve a number of additional purposes such
as:
(i) Helps the audit team to plan and perform the audit.
(ii) Assists members of the engagement team responsible for supervision to direct and supervise the
audit work and to discharge their view responsibilities in accordance with SA 220.
(iii) Enable the engagement team to be accountable for its work.
(iv) Retain a record of matters of continuing significance to future audits.
[24]
Ownership of Working Papers:
Standard on Quality Control (SQC) I, “Quality Control for Firms that perform audits and reviews of
historical financial information and other assurance and related services engagements” issued by the
institute, 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 such disclosure does not undermine the validly of the work performed or in
the case of assurance engagement the independence of the auditor or of his personnel.
Therefore, working papers are the property of the auditor and he may, at his discretion make portions
of or extracts from his working papers to his client.
Custody of Working Papers:
The auditor should adopt reasonable case for safe custody and confidentiality of his working papers.
Retention of Working Papers:
SA 230 prescribes that audit documentations should be retained for a minimum period of even years. The
Chartered Accountants Act 1949 and regulations made there under, prescribe the minimum period of
retention of working papers as seven years.
Audit File:
Audit file refers to one or more folders or other storage media, in physical or electronic form, containing
the records that comprise the audit documentation for a specific engagement.
Therefore, audit file is maintained for record keeping of specific areas of audits like audit of purchasers,
sales or tax audit.
Types of Audit File:
Audit file are of two types – permanent audit file and current audit file.
The contents of permanent audit file are:
(i) Information regarding legal and organizational structure of the entity.

(ii) Record of the study and evaluation of the internal controls related to the accounting system.
(iii) Copies of important legal documents, agreements and minutes relevant to the audit.
(iv) Copies of audited financial statements of previous years.
(v) Analysis sheets of significant ratios and trends.
(vi) Notes regarding significant accounting policies followed by the entity.
(vii) Significant audit observations of earlier years.
(viii) Record of communication with the retiring auditor, if any, before acceptance of the appointment as
auditor.
Permanent audit files are to be maintained by the auditor when he/she is conducting audit in the same
entity for years or may conduct audit in future year.
[25]
Contents of Current Audit File:
(i) Correspondence relating to acceptance of annual reappointment.

(ii) Extracts of important matters in the minutes of board meeting.
(iii) Analysis of transactions related to interested parties.
(iv) Current planning evidence and audit programme.
(v) Copies of communications with other auditors, experts and other third parties.
(vi) A record of the nature, timing and extent of auditing procedures performed and the results of
such procedures.
(vii) Conclusions reached by the auditor concerning significant aspects of the audit.
(viii) Letters of representation received from the client.
(ix) Evidence of work performed by the assistants and supervision report.
(x) Copies of the financial information being reported. Current audit file is mainly concerned with the
issues related to current audit assignment.
Advantages of Audit File:
(i) It helps to increase the efficiency of audit procedures.

(ii) It provides ready reference to different items of audit necessary for the purpose of field work in
audit engagement.
(iii) It is useful in organizing the audit work effectively.
Audit Memorandum:
An audit memorandum is a statement containing all useful information regarding client’s business,
operations, policies and organization which are prepared by the auditor for the smooth conduct of the
audit work. The objective to prepare this is to record the general information of the business which may
help him in conducting the work of audit and to prepare the audit report. Audit memorandum generally
include audit manual, audit programme, audit file, internal control questionnaire etc.
The contents of audit memorandum in case the audit made for the first time may include:
a) A brief history of the organization

b) Location of plant and office
c) Principal kinds of products
d) Nature of ownership and control of the business
e) Names of responsible offices and types of their responsibilities.
f) Accounting policies and related issues
g) Investment details, tax returns, advertising methods, government reports, etc.
h) Specific problems raised by the management and their prospective solutions.
i) Types of subsidiary companies and their control.
[26]
Audit Evidence:
 Concept:
The concept of audit evidence is based on the explanations given in SA 500 which is named as
audit evidence. This standard on auditing explains what constitutes audit evidence in an audit of
financial statements and deals with the auditor’s responsibility to design and perform audit
procedures to obtain sufficient appropriate audit evidence to be able to draw reasonable conclusions
on which to base the auditor’s opinion.
 Definition of Audit Evidence:

As per SA 500 an audit evidence is “the information used by the auditor in arriving at the
conclusions on which the auditor’s opinion is based. “Audit Evidence includes both information
contained in the accounting records underlying the financial statements and other information.
Other information which the auditor may use as audit evidence includes, for example minutes of the
meetings, written confirmation from trade receivables and trade payables, manuals containing
details of internal control etc.
 Need to obtain Audit Evidence:

As auditing is a logical process, the auditor is expected to give an expert opinion about the truth
and fairness of the accounts of the client under audit after assessing the actualities of the situation
and reviewing the statements of accounts. He is not able to do this unless he obtains appropriate
audit evidence for arriving at his judgement. An opinion founded on a rather reckless and negligent
examination and evaluation may expose the auditor to legal action with consequential loss of
professional reputation and goodwill.
 Classification of Audit Evidence:
Audit evidence may be classified in two broad categories:

(i) Appropriate Audit Evidence
(ii) Sufficient Audit Evidence
(i) Appropriate Audit Evidence: Appropriateness is the measure of the quality of audit evidence; i.e. its
relevance and its reliability in providing support for the conclusions on which the auditor’s opinion is
based. The reliability of evidence is influenced by its source and by its nature, and is dependent on the
individual circumstances under which it is obtained.
(ii) Sufficient Audit Evidence: Sufficiency is the measure of the quantity if audit evidence. Therefore,
sufficient audit evidence emphasizes what volume or quantity of audit evidence is being obtained by
the auditor.
[27]
Routine Checking:
Routine checking is the work performed by an auditor in order to see whether the transactions recorded in
the books of accounts are proper and whether scientific method has been followed in recording the
transactions. It is checking of certain records and books carried on by an auditor as a matter of routine
work.
Routine checking involves performance of following functions:
(i) Checking the posting from the books of original entry to the ledger accounts.
(ii) To check the correctness of balances and other works relating to the recording of transactions.
(iii) The posting from the books of original entry to the ledger accounts are checked.
(iv) Verification is made regarding the principles followed in preparation of trial balance.
(v) Inspection of various documents in support of specific transactions.
Objectives of conducting Routine Checking are:
a) Detection of errors and frauds

b) Examination of posting of ledger accounts
c) Verifying the ledger balances in trial balance
d) Examination of correctness of figures.
Advantages and Disadvantages of Routine Checking:
Advantages:
(i) The books and entries can be thoroughly checked and errors and frauds can be easily detected.
(ii) It is the basis of checking the final accounts.
(iii) Arithmetical accuracy of the transactions can be checked.
(iv) It is the simplest form of audit.
Disadvantages:
(i) In modern computerized auditing environment routine checking has lost in relevance. In present
days entries are checked by modern auditing software where arithmetical accuracy are
automatically confirmed.
(ii) This audit technique is not capable of detecting sophisticated fraud or errors in principle.
Auditor’s Duty:
As routine checking is simplest form of audit work, generally it is done by a junior staff. Simple errors and
frauds may be detected by applying this technique. Therefore, the auditor should decide the volume of
transactions to be checked depending upon time factor and reliability of internal check and internal
control in operation in the concern.
[28]
Test Checking:
 Concept and Definition:

In large organizations where columnous transactions occur during an accounting year, it is not
possible for the auditor to go through each and every business transaction in details. It is expensive,
time consuming and to some extent not feasible. Therefore, test checking is a substitute for detailed
checking. The auditor has to rely on some test checking mechanism which involves selecting and
checking only a few transactions for the purpose of arriving at the final judgement. This test checking
is traditionally known as selective verification or sampling process.
 Advantages and Disadvantages of Test Checking:
Advantages:
(i) Time saving and cost minimization

(ii) Ensuring the speed of audit work by minimizing the volume of transaction check.
(iii) If the samples are selected carefully, the audit work will be equally effective like intensive
audit.
Disadvantages:
(i) Test checking fails where internal control and check system of the organization is inoperative
or not in force.
(ii) Test checking is based on selection of representative transactions. Therefore, it is not possible
to detect all errors or frauds.
(iii) Sample selection is most important in order to make test checking successful. Defective
sample selection enables failure of test checking.
Analytical Procedure:
 Concept and Definition:
Evaluations of financial information through analysis of plausible relationships among both

financial and non-financial data. Analytical procedures also encompass such investigation as is necessary of
identified fluctuations or relationships that are inconsistent with other relevant information or that differ
from expected values by a significant amount.
[29]
 Purpose of Analytical Procedures:
Analytical procedures are used for the following purpose:

(i) Helps the auditor to plan his audit.
(ii) To obtain relevant and reliable audit evidence when using substantive analytical procedures.
(iii) Enables the auditor to form conclusion or opinion on the financial statements.
 Timing of Analytical Procedures:
Analytical procedures may be applied in the planning phase as well as testing phase and during the
completion phase.
 Substantive Analytical Procedures:

Substantial analytical procedures are based on the auditor’s judgement about the expected
effectiveness and efficiency of the available audit procedures to reduce audit risk.
Techniques/Forms of Substantive Analytical Procedures
Ratio Analysis: It is an useful tool for analysing the relationships between assets and liabilities, revenues
and expenses within financial statements.
Trend Analysis: This is a technique where comparison is made between current data and prior period data
or with a trend in two or more prior period balances.
Reasonable Tests: Reasonableness refers to the factor whether the account balances which have
relationship with other account balances are acceptable in nature. Unlike trend analysis, this analytical
procedure does not rely on events of prior periods, but upon non-financial data for the audit period under
consideration.
Comparison Method: This method compares the current year items with previous year’s items to find
whether there is any significant variation. This variation may measured through any structural modeling
like linear regression.
Investigation Results of Analytical Procedures: If analytical procedures performed in accordance with this
standard of auditing 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 by:
a) Inquiry from management and obtaining appropriate audit evidence relevant to management’s
responses
b) Performing other audit procedures as necessary in the circumstances.
[30]
Analytical Review: SA 500 on Audit Evidence defines analytical review as those tests of details which
consist of studying significant ratios and trends and investigating unusual fluctuation and items.
Audit of Educational Institutions, Hospitals and Hotels
Audit of Educational Institutions:
Introduction: Educational institutions include schools, colleges, universities, institutes of various types like
training institutes, management institutes, coaching institutes etc. Though the purpose of imparting
education is based on non-profit seeking motive but in present days running educational institutions is a
good business. Therefore, the auditor should have a clear understanding of nature of educational
institutions i.e. private or government and the motives of the trustees who run the institutes i.e. whether
they run the institution under audit in order to earn profit or not.
It this perspective the auditor should examine the following aspects of educational institutions under
audit:
a) Going through the relevant act, statute or regulations under which the educational institution has
been established:
The auditor should examine:

(i) The statute of a university
(ii) Trust deed if the school or college is under a trust
(iii) Relevant act framed by the government like Board of Secondary Education Act under which
the school is governed
(iv) Rules and regulations under the act or statute which affect the accounts of the said institution.
b) Understanding the accounting system of the institution:
The auditor should enquire regarding the system of maintenance of accounts. For this, the auditor
should go through the minutes book and copy of resolutions passed in the Executive Councils (EC)
meeting of a university or college. The decisions relating to accounting, finance and auditing taken by
governing body or trustees or board of governors or managing committee are to be examined
thoroughly. The reason for change of accounting method from cash to actual or vice-versa if any are ti
be undergone and to be satisfied by the auditor.
c) Enquiry of financial structure, decision making people and budget preparation mechanism:
The auditor should be acquainted of key decision making people regarding financial matters, their
responsibility areas, should obtain copies of budget of number of year and get familiarized with
different heads of incomes and expenditures of the institutions.
[31]
d) Vouching and verification of various items relating to receipts and payments:
(i) Verification of fee structure and fee collection mechanism:
(ii) Examination of fee concession and scholarships:
(iii) Verification of the details of various bank accounts and the reconciliation statements:
(iv) Verification of donations and endowment funds received for providing fee concession and
scholarships:
(v) Verification of other fees, grants, dues etc.:
(vi) Verification of Purchase Procedures:
(vii) Maintenance of purchase records:
(viii) Accounting of provident fund, taxes and other statutory provisions:
(ix) Verification of assets and liabilities of the institution:
(x) Other Verification:
[32]
Audit of Hospital:
Hospitals are operated mostly by the governments with the objective of providing medical and nursing
services to common public on non profit basis. Therefore, the system of accounting of hospitals is almost
similar to charitable institutions or government organization. On the other hand nursing homes are mostly
runned by private entrepreneurs and operated on profit motive. Following points to be noted while
conducting hospital audit.
General Considerations:
(i) Inquire about the trust deeds, rules and regulations and memorandum and articles.
(ii) The auditor should be acquainted with the government accounting system and audit procedures
following in case of government hospital.
(iii) He should assess the degree of effectiveness of internal control and internal check system already
implicated in the hospital.
(iv) He should examine different registers and published statements in the hospital.
Audit of Transactions related to Income and Expenditure Income:
Income:
(i) Verify the total number of hospital beds and tally bed charges on a periodic basis in order to satisfy
himself that receipts from bed charges are accurate.
(ii) To verify different government grants along with the allotment letters issued from health
department and to ensure the grants have been utilized against providing utilization certificates to
the government.
(iii) Donations or legacy received should be shown properly in the books of accounts of the hospital. He
should examine whether any funds received for specific purpose have been utilized for that
purpose only.
(iv) Check collection from patient party by reference to copies of the bills, cash book and patient
register.
(v) Sale of medicines, medical accessories and canteen sales should be verified by vouching the
documents of related accounts and tallying with the total receipts in the cash book.
(vi) The auditor should verify the receipts from other sources like interest, rent, dividends, consultancy
fees from clinic services etc. against specific vouchers and confirm that these have been properly
accounted for.
Expenditure:
a) The auditor should ensure that all expenses have been allocated into capital and revenue according
to their nature.
[33]
b) In case of government hospital, the spending has to be made under different heads. The auditor
should satisfy himself the expenditure has been made as per classification of heads maintained by
the system.
c) If the medicine stock purchase is permitted locally then auditor should verify the limit of purchase
and ensure the purchase has been made within limit.
d) The auditor should ensure that all expenses should be properly authorized by competent authority
and has been properly shown in the books of accounts.
e) The salary payment should be verified against authorized staff strength and ensure that there
should be no overpayment. Provident fund should be deducted as per existing law.
Audit of Hotels:
Any medium and big hotel generally has major departments i.e. housekeeping and restaurant services.
The auditor should be aware of the operating system of a hotel business and plan his audit accordingly.
Following areas should be attended by him during audit:
General Considerations:
(i) The auditor should examine the degree of reliance of the internal control mechanism and internal
check system of the hotel, specially control on daily purchase of stock, the system of keeping
accounts of the boarders and preventive measures taken to check wastage and misappropriation of
goods.
(ii) The auditor should be familiar with the methods of accounting adopted in the organization.
Transactions relating to Income and Expenditure:
Income:
(i) Online booking confirmation should be tallied with the receipts generated in the system along with
ledger and guest registers. Booking cancellation fees should be verified against correspondence
from the guests.
(ii) The auditor should verify that all dues have been properly realized from the permanent boarders
for fooding and lodging. He should vouch the cash received from visitors from the cash book in the
window ledger.
(iii) In case of any advance received from the boarders, the auditor should ensure that the advance has
been properly adjusted with the amount of dues.
(iv) Hiring charges of conference hall or banquet hall realized should be vouched with reference to
contract forms and counterfoils of receipts.
(v) If restaurant services provided by the hotels are separately accounted for then individual accounts
for each restaurant should be checked by the auditor.
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Expenditure:
(i) The auditor understand the method of purchase made by the hotel. The payment made for
purchase of food, drink and other articles should be vouched with the help of original invoice, order
copy, receipts, counter foils and purchase book.
(ii) He should ensure that all expenditure heads have been properly classified and expenses incurred
during the year have been allocated between capital and revenue expenses.
(iii) Salaries, wages, perks, allowances, etc. paid to different categories of staff are to be verified
according to standard procedures.
(iv) The assets purchased during the accounting year should be properly vouched.
(v) If discounts are paid to guests or boarders the authority of granting discount should be checked
and to ensure that discounts are duly accounted for.
Other Considerations:
(i) There might be certain specifications conferred on star hotels like heritage hotel or ISO 9001
certified hotel etc. In many situations the statutory auditor needs to certify certain documents to
confirm such certification. The auditor should verify the prerequisites before certifying the required
documents.
(ii) The auditor should verify assets, liabilities and stock of the extent physically which are shown in the
balance sheet.
(iii) The auditor should ensure that adequate depreciation has been charged to the assets and stocks of
food articles, drinks etc. are properly valued.
1. What do you mean by the term of audit engagement? Why

is it necessary to issue an engagement letter?
Audit engagement
When a company has to go through the audit process, an auditor may use the term "audit engagement."
This can mean different things, so it is important that the auditor clarify what he means when he uses the
term. Regardless of which definition the auditor follows, however, the auditor always follows specific
procedures and guidelines for handling the engagement.
Accepted Definitions
An audit engagement very loosely refers to an audit that an auditor performs. More specifically, it refers
only to the initial stage of an audit during which the auditor notifies the client he has accepted the audit
work and clarifies his understanding of the audit's purpose and scope. Even more specifically, the term
audit engagement can refer to the written letter by which the auditor formally notifies the client he will
engage in audit services.
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Full Engagements
When referring to the audit as a whole, audit engagements encompass several distinct steps, which are
organized into planning, testing of controls, substantiation or fieldwork and exit or finalization.
The first is sending a letter to the client alerting him of the audit.
After this initial contact, the client and auditor meet to pinpoint further how, when and why the audit will
happen, as well as the resources the auditor will have at his disposal. The auditor then conducts primary
surveys to understand the company and the controls in place.
The next step is testing the controls and gathering as much information as possible. Based on the results,
the auditor constructs a draft of the formal audit report, which he shares with the client. Auditors
complete the audit by following up with the client, normally within six months.
Initial Audit Step

Viewed as only as the first step of the audit process, the intent of an audit engagement is to get the client
and the auditor on the same page. The client describes exactly what he needs the auditor to do. This helps
the auditor decide whether the audit is feasible and how to approach it. The audit engagement by itself
does not produce any viable results or findings -- auditors do this during fieldwork -- but it allows the
auditor to know how, when and why to get those findings. During this initial stage of the audit, the auditor
is concerned with understanding the client and the risks that might produce inaccurate audit results.
Why is it necessary to issue an engagement letter?
Auditors generally provide audit engagement letters as one of the final steps in the audit planning stage.
The letter summarizes all the information the auditor has gained about the client, the client needs and
audit objectives, as well as the scope of the audit and what the client is responsible for doing.
Additionally, audit engagement letters clearly indicate the auditor assigned to the audit. They also may
indicate additional information the auditor will need during the audit,, the auditor's fees, people with
whom the auditor will need to speak and how much time the auditor has to finish his work. Also
sometimes included are relevant financial and accounting regulations to which the auditors must adhere.
A good audit engagement letter also recognizes that not all clients are familiar with audit procedures and
therefore outlines those procedures for clarification. Audit engagement letters are very similar to work
contracts in the way they are constructed in that they define duties and relationships, but based on their
wording, they are not necessarily legally binding the way a formal contract is.
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2. What is audit planning? What are the benefits of Audit

Planning?
Audit planning refers to establishing the overall audit strategy to conduct an effective audit in an
efficient and timely manner. As per SA 300 ‗Planning an audit of Financial Statements’, audit
planning involves following activities:
(i) Acquiring knowledge of the client’s accounting system, policies and internal control procedures.
(ii) Establishing the desired degree of reliance that can be placed on internal control.
(iii) Setting the scope, timing and extent of audit procedures to be applied.
(iv) Deciding the analytical procedures to be applied.
(v) Obtaining a general understanding of the legal and regulatory framework applicable to the entity and
how the entity is complying with that framework.
(vi) Determining the resources to be deployed for specific audit areas, such as the use of appropriately
experienced team members for high risk areas or involving of experts on complex matters.
(vii) Determining the amount of resources to be allocated to specific audit areas.
(viii) Deciding how such resources are managed, directed and supervised.
(ix) Setting of materiality levels for audit process SA300, “Planning an Audit of Financial Statements” states
that audit planning is a continuous process that often begins shortly after the completion of the
previous audit and continues until the completion of the current audit engagement.
Advantages of Audit Planning:
SA 300 points out the following benefits of audit planning:
(i) It helps the auditor to devote appropriate attention to important areas of the audit.
(ii) The potential problems can be identified and resolved on a timely basis.
(iii) The auditor can properly organize and manage the audit engagement so that it can be performed in an
effective and efficient manner.
(iv) Audit planning can assist in the selection of engagement team members with appropriate levels of
capabilities and competence to respond to anticipated risks.
(v) It facilitates the direction and supervision of engagement team members and the review of their work.
(vi) It assists, where applicable, in the co-ordination of work done by other auditors and experts.
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3. What is audit working papers? Discuss its objectives

Audit Working Papers
Working papers are those papers which consist of details about accounts which are under audit so that the
auditor may not have again to go over the accounts of his client if he wants to refer to them later on
during the course of audit. Working papers consist of working trial balances, adjusting entries, account
analysis, schedules of debtors and creditors, particulars of investment and of depreciation, copies of
correspondence between auditors and debtors, creditors, and banks etc. -previous audit reports, important
quarries with explanations completed audit programme etc.
According to SA 230 ―Audit Documentation‖, audit working papers are written records of evidence
obtained by the auditor in the course of audit. They also document methods and procedures followed by
the auditor and the conclusions he has arrived at. The summary of important matters identified by the
auditor which require exercise of judgement together with the auditor‘s conclusions are included in
working papers.
Objects of working Papers :

(a) To show the extent to which accounting principles and auditing standards have been followed.
(b) To support the audit report.
(c) To serve as an evidence in case of any suit against the auditors for negligence in the performance of
his duties.
(d) To enable the auditor to know the weaknesses of the internal control system and give advise to his
client to avoid such weaknesses.
(e) To serve as a means to provide training to the audit clerks about the ways of summarising the work
done by them.
(f) To help the auditor to plan for the subsequent years.
(g) To enable the auditor to prepare the report to be issued without any dealy.
(h) To assign the unfinished work of one clerk to another without dislocation, duplication and omission of
any work in case changes and transfer of staff are very frequent.
Characteristics of good working papers
(a) They should be complete in all respects. In other words, they should contain all the essential
information so that they may be of maximum utility.
(b) Working papers should be properly organised and arranged so that one may not find any difficulty in
locating a particular matter.
(c) Paper used for working papers should be of good quality and of convenient and uniform size so that it
may not be damaged by frequent handling.
Protection and ownership or Working Papers
The working papers are highly confidential papers and therefore, must be kept in safe custody. They are
not to be shown to any party which might make misuse of them. With regard to the ownership of these
papers, there is a controversy as to whether these papers belong to the client or to the auditor. The client
claims that since the auditor is his agent, he has no line on these papers. On the other hand, the auditor
claims these papers to be his property on the basis that he has collected the information for the purpose of
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discharging his duties. Actually these papers come to the help of the auditor in future in case the client
files a suit against the auditor for negligence etc. it is also argues that the outgoing auditor should hand
over these papers to incoming auditor but he should not do so if there is some kind of suspicion or doubt
in his mind. In many cases, it was held that these papers belonged to the auditor and not to the client.
4. What is Audit File? What are the contents of Audit

File?
The File in which the auditor preserves audit papers is known as audit file. So it is the archive of audit
papers which are generated and obtained by the auditor in the cause of audit. To the auditor, the
importance of audit file is enormous. In the subsequent audit of the same client, he can use it as reference.
He can also use it as proof of defence, if any charge of negligence is levelled against him in future. For
the sake of convenience, the audit file should be classified into permanent audit file and current audit file.
(1) Permanent Audit File:

A permanent audit file normally includes
(a) Information concerning the legal and organisational structure of the entity. In the case of a company,
this includes the Memorandum and Articles of Association. In the case of a statutory corporation, this
includes the Act and Regulations under which the corporation functions.
(b) Extracts or copies of important legal documents, agreements and minutes relevant to the audit.
(c) A record of the study and evaluation of the internal controls related to the accounting system. This
might be in the form of narrative descriptions, questionnaires or flow charts, or some combination
thereof.
(d) Copies of audited financial statements for previous years.
(e) Analysis of significant ratios and trends.
(f) Copies of management letters issued by the auditor, if any.
(g) Record of communication with the retiring auditor, if any, before acceptance of the appointment as
auditor.
(h) Notes regarding significant accounting policies.
(i) Significant audit observations of earlier years.
(2) Current audit file.
The current file normally includes
(a) Correspondence relating to acceptance of annual reappointment.
(b) Extracts of important matters in the minutes of Board Meetings and General Meetings, as are relevant to
the audit.
(c) Evidence of the planning process of the audit and audit programme.
(d) Analysis of transactions and balances.
(e) A record of the nature, timing and extent of auditing procedures performed, and the results of such
procedures.
(f) Evidence that the work performed by assistants was supervised and reviewed.
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(g) Copies of communications with other auditors, experts and other third parties.
(h) Copies of letters or notes concerning audit matters communicated to or discussed with the client,
including the terms of the engagement and material weaknesses in relevant internal controls.
(i) Letters of representation or confirmation received from the client.
(j) Conclusions reached by the auditor concerning significant aspects of the audit, including the manner in
which exceptions and unusual matters, if any, disclosed by the auditor‘s procedures were resolved or
treated.
(k) Copies of the financial information being reported on and the related audit reports.
5. What is audit note book?

Audit Note book:
Audit note book is a diary or register maintained by audit staff to note errors, doubtful quarries and
difficulties. The purpose is to note down the various points which need to be either clarified with the
client or the chief editor. The Audit note book is used for recording important points to be included in the
auditor‘s report.
Contents of an Auditor’s Note Book:
(a) A list of books of accounts maintained.
(b) The names, duties and responsibilities of principal officers.
(c) The particulars of missing receipts and vouchers.
(d) Mistakes and errors detected.
(e) The points which need clarifications and explanations.
(f) The points deserving the attention of the auditor.
(g) Various totals and balances.
(h) The Points to be a part of auditor’s report.
Advantages of Audit Note book:
Some of the advantages of the audit note book are.
(a) It ensures the uniformity and helps in knowing the amount of work performed.
(b) Important matters relating to the audit work may be easily recalled.
(c) Facilities and preparation of the audit report.
(d) In case of the assistant in charge is changed, no difficulty is faced in continuing the incomplete work.
(e) The responsibility of the errors undetected can be fixed on clerk concerned.
(f) The audit note book shows the extent of the interest and pain taken by the audit staff. It helps in their
appraisal.
(g) It ensures that the audit programme has been sincerely followed. Deviations can be noticed.
(h) It is reliable evidence in the court of law, If an auditor has to defend himself.
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6. What is Audit Memorandum?

An audit memorandum a Statement containing all useful information regarding the business of the client.
It indicates the method of operation, policies as to the different aspects of the business. It should also
contain all the conditions in respect of audit. The object of preparing the memorandum is to record the
general information of the business which may be of real use to him while carrying on the work of audit.
If it is a first audit, it will have to be prepared thoroughly so that it covers the various aspects of the
concern. But where the audit work was carried out earlier, only changes, if any, concerning various items
should be noted. The term 'audit memorandum', though not commonly used, covers different aspects,
like audit manual, audit programme, audit file and internal control questionnaire, etc.
The contents of audit memorandum as prescribed by Eric. L. Kohlar are as follows:
i. The plant and office location.
ii. Ownership and control and the nature of re-organization having taken place in recent year.
iii. Adequacy of manufacturing facilities, various products manufactured and their market
potentiality.
iv. Sources of raw-material and their price trend.
v. Names of responsible officers and nature of their responsibility.
vi. The adequacy of books of account maintained by the client.
vii. A brief resume of net worth of the firm.
viii. Types of subsidiary companies and how they are operated and controlled.
ix. Different policies of the company as to advertisement, costing methods, effectiveness of
internal control system.
x. Investment policy, adequacy of reserve and the purposes of contingency reserve.
7. Explain the concept of audit evidence.

Evidence in Auditing
Auditing is concerned with the verification and examination of accounting data. In this process an auditor
collects and evaluates evidence to establish facts and to draw conclusions and inferences. It is an accepted
standard of auditing that "sufficient competent evidential matter is to be obtained through inspection
observation, inquiries and confirmation to afford a reasonable basis for an opinion regarding the financial
statements under examination". There an auditor should understand the nature and type of evidence
available in various auditing situations. Further he should" be able to evaluate the sufficiency which refers
to adequacyof such evidence and the competency which refers to the quality or reliability of evidence.
Concept of audit evidence

The concept of evidence is fundamental to auditing. All audit techniques and procedures are derived from
it. It helps the auditor in perceiving the types of evidence available in an audit situation, collecting it
through the various audit techniques and evaluating its sufficiency and competency to support accounting
data.
According to Mautz and Sharaf development of this concept contains the following steps :-
(a) Recognition of the Propositions to be Proved First of all, the auditor is to perceive and recognise what
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he is trying to prove. In other words, he must be clear about the propositions in support of which evidence
is required. The accounting statements, which an auditor reviews, consist of a series of propositions. For
example one of the propositions in balance sheet is that the enterprise has fixed assets, debtors cash etc.
(b) Evaluation of Propositions After the propositions behind accounting data being identified they must be
evaluated according to their significance or materiality. In other words, various propositions may be
classified into those which are very significant, those which are moderately material, and those which are
not so material. Materiality is a relative concept and depends upon the size and nature of an item. It is
natural that an auditor must collect quantitatively more compelling evidence in case of significant
propositions, than in case of propositions which are not so material. Therefore, there is a direct link
between the materiality of a proposition and the quality of evidence required to support it.
(c) Collection of Evidence By applying various audit techniques an auditor collects different types of
evidence to support the propositions made in the accounting data. The audit programme lists the manner
in which such evidence is to be collected within the constraints of time and cost.
(d) Evaluation of Audit Evidence After the evidence being collected the auditor must evaluate it critically
with regard to its usefulness. Auditor, like historians and mathematicians must develop professional
standards to such an extent that they can be used to evaluate audit evidence.
(e) Formation of judgement: The last steps is to form an opinion about the various propositions by the
auditor after he has identified the propositions behind the accounting data, evaluated them according to
their significance, collected evidence through the audit techniques, critically reviewed the evidence as
regards, it validity. In forming his judgemnt the auditor is not looking for absolute proof. He has to find
evidence which assures that the accounting data under report fairly represent the reality as far as it can be
determined.
8. What is routine checking? Discuss the objectives of

routine checking?
The checking of books which are carried on by the auditor as a matter of routine work is known as routine
checking. In other words, the work performed by auditor in order to see whether the transactions recorded
in the books of account are proper and whether scientific method has been followed in recording the
transactions, is called the routine checking.
It involves the consideration of the following functions:

Following works are included in the scope of routine checking:
i. Whether correct amount has been recorded from voucher.
ii. Whether appropriate accounts have been debited and credited for each transaction in the books of
original entry.
iii. To check the casting, sub-casting, carry forward, extension and other calculations in the books of
original entry.
iv. To check the posting from the books of original entry to ledger.
v. To check the opening balances of all personal accounts and real accounts.
vi. To check the total and carry forward to next page of the ledger account.
vii. To check whether balancing in all accounts have been correctly done.
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viii. To see that whether all balances have been transferred to appropriate column in the trial balance.
ix. To check whether balances of all nominal accounts have been transferred to Income Statements.
x. To see whether balances of all real and personal accounts have been properly recorded in the
respective site of Balance Sheet.
Objectives of Routine Checking

(a) Detection of errors and frauds : Detection of errors and frauds can be easily done. They can be
prevented with ease.
(b) Examining the correctness of figures : The correctness of the figures of transactions which are
recorded in the books of original entry are examined.
(c) Examination of posting to ledger accounts : It requires to examine whether the transactions have been
posted to the respective ledger accounts from the books of original entry.
(d) Examining the balances of different ledger accounts : It needs to examine whether the balances of
different ledger accounts have been properly drawn up.
(e) Verifying the ledger balances in trial balance : It certainly requires to verify whether the different
ledger balances have been correctly shown in the trial balance and examining the state of affairs, as
revealed by the profit and loss account and the balance sheet prepared from the trial balance.
(f) Not to alter the figures in the books : Provision should be made for not altering the figures in the
books of original entry and ledgers after once audited.
Advantages of Routine Checking

Advantages derived from routine checking are as follows:
1. Detection of error: Since all the aspects of recording transactions are checked thoroughly,
there is at least possibility of error being left undetected.
2. Detection of fraud: Fraud of minor nature committed by the accounting clerk can be detected
by routine checking.
3. Moral pressure: Since routine checking involves thorough checking, the accounts clerk
become more cautious and careful while recording transactions. Their venture to commit
fraudis also minimized.
4. Increasing reliability and fairness of financial statements: By keeping the books of
accounts free from errors and frauds as far as possible, it makes significant contribution
towards increasing the reliability and fairness of financial statements.
5. Economy: Routine checking can be got done by ordinary clerks. So it is not much expensive.
Disadvantages of routine Checking

Disadvantages of routine checking are as follows:
1. Monotonous: Routine checking is a mechanical process of comparing entries with vouchers
and ticking the figures. So audit clerks may get bored with his job.
2. Inability to detect all types of errors and frauds: Errors of principle or compensating errors
are unlikely to be detected by mere routine checking.
3. Inability to detect planned fraud: Routine checking cannot detect the planned fraud
committed by the top management.
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9. What is test checking? What are the Precautions to be

taken in Adopting Test Checking Techniques?
Or
Test checking is based on presumption. What is that
presumption?
TEST CHECKING
Test checking refers to the process of selection and examination of a few sample transaction out of large
number of similar transaction. It is presumed that selected transaction represent other transaction not
considered for verification. It is selective verification of transaction. An auditor can form his opinion on
financial statement by conducting verification of either cent percent transaction or only a few
representative transactions from each category. However, his opinion is unlikely to differ even if he
verifies only a few transactions provided his selection of transaction is judicious and rational.
As per SA 530 ―Audit Sampling‖, the auditor should select sample item in such a way that the sample
can be expected to be representative of the population. It should be ensured that all items in the population
have an equal opportunity of being selected. Test checking is adopted to avoid unnecessary exercise of
going through each and every transaction. Based on the result of verification of a few representative
transaction only, the auditor forms his opinion about the fairness of financial statements.
Precautionary measures before the application of test checking
As the adoption of test checking is fully dependent on the judgement of the auditor, he should be very
careful in this respect. The following are the precautionary measures to be taken by the auditor before he
applies test checking for audit.
(a) Covering every book of prime entry: Representative transactions should be so selected as far
as possible, as to cover the whole of the period under audit. It should cover every book of
prime entry and ledger.
(a) Clerks of organisation checked: The selection of transactions should be distributed in such a way that
the work of almost all the clerks of the organisation is checked.
(b) Reviewing the internal control system etc: The auditor must review the system of internal check,
internal control and internal audit thoroughly. If he views that the prevalent internal control system is
either defective or ineffective, he should not apply it.
(c) Items be representative: The selection of the items should be made at random and should be as far as
possible be representative in character.
(d) No element of biasness: There should be no element of biasness or arbitrariness in the selection of
sample.
(e) Number of transactions pre-determined: The number of transactions to be selected for each test
check should be pre-determined.
(f) Transactions selected to be large number: The transactions selected for test checking must include a
fairly large number of transactions for the period.
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(g) Entries for first and last months be checked: The entries pertaining to the first and the last months of
the year should be thoroughly checked as fraudulent manipulations are usually made during these
months.
(h) Test checking not to be applied for Cash Book and Pass Book: Test checking should not be applied
for Cash Book and Pass Book which are to be thoroughly checked.
(i) Review the results of test checking: The auditor must always review the results of test checking for
determining whether there is any further scope of checking records. The nature of errors detected
throughout test checks may reveal this if they are reviewed carefully and thoroughly.
(j) Checking the different portions of the work: In case of selection of entries and accounts for applying
test checks, proper care should be taken to check the different portions of the work at each audit
(k) No consultation with the staff of the client: No consultation should be made with the staff of the
client as regards the selection of transactions for test checking. This is absolutely his job and is to be
treated with utmost secrecy.
10. What do you mean by auditing in depth?

Meaning:
Audit in depth refers to the step by step examination of selected transactions from their beginning to their
conclusion. Under this technique the auditor reviews all operational and accounting aspect of the
representative transactions from origin to end. Based on his findings of thorough examination of a few
selected transactions of a particular category he forms his opinion about the propriety and correctness of
rest of the transactions of that category. This technique is adopted by the auditor when the number of
transactions is numerous and it is not possible for him to check each and every transactions. Therefore, he
select a few representative transactions of a particular category and starts checking vertically step by step
For example, audit in depth of purchase will involve following steps:

i. Selecting a few purchase invoices of material importance.
ii. Verifying that they are backed by purchases orders.
iii. Examining that purchase orders have been raised as per established procedure and norms of
propriety.
iv. Checking that invoices have supporting challans duly certified by receiving Deptt. and stores Deptt.
v. Ensuring that purchases have been recorded correctly in the books.
vi. Seeing that payments have got the approval of competent authority and have been correctly
recorded in the book.
If the auditor is sure that there is no irregularity at any stage of those transactions, he can presume that
there is also no irregularity in any stage of other transactions of this category left unchecked.
One thing that should be carefully noted is that audit in depth is not the substitute of test checking. Rather, it
makes the Test Checking more effective.
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Advantages:
Following are the advantages of audit in depth:
i. Effectiveness of audit: Audit in depth makes the audit more effective. In fact in depth review of some
representative transactions provides the auditor with better audit evidences than superficial
examination of all transactions.
ii. Timely completion of Audit: It is possible to complete audit very quickly.
iii. Reduction of cost of Audit: Cost of Audit can be reduced as only a few representative transactions of
each category are thoroughly checked.
iv. Avoidance of monotony: The audit staff do not feel monotonous as they are to check only
representative transactions of varied nature.
v. Creating moral pressure: There is moral pressure on accounts clerk, in as much as any transaction may
be selected for in depth study.
vi. Assessment of propriety: This technique is very suitable for propriety study with regard to transaction
of material importance.
vii. Fair assessment of Position: Since only items of material importance are selected for verification,
there is least possibility off any error on the part of auditor in assessing position of the company.
viii. Scope of development: Since audit in depth is conducted analytically, the auditor finds scope to
develop new thoughts and techniques for future improvement of audit.
Disadvantages:
Following are the disadvantages of audit in depth:
i. Risk: The auditor cannot avoid risk since all transactions are not considered for in-depth
examination.
ii. Chance of improper selection of Transactions: This technique will not be very effective, if the
transactions are not properly selected for verification.
iii. Inappropriate audit opinion: If some errors and frauds remain in transaction not selected for
examination, the financial statement will not reflect a true and fair view. So, there will be
inappropriate audit opinion.
iv. Chance of Brand: Since only items of material importance are selected, the accounts clerk may
become prone to commit fraud in less important transactions the cumulative effect of which may
be enormous.
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11. Discuss how the application of analytical procedure is

done in audit?
Or
What are the methods of analytical procedure?
Analytical procedure may be conducted in the following ways:
i. Comparison with last year data: Comparison of entity’s financial information with comparable
information of last year can enable the auditor to identify some serious mistakes or frauds in
accounts. For example, by inquiring into the reasons of fall of gross profit ratio from that of last
year, it may be possible to detect pilferage of stock or overcharging of consumption of material or
misappropriate of a part of sale proceeds.
ii. Comparison with budgets: Comparison of actual results with anticipated results such as budgets or
forecasts. If the differences are found to be material, the auditor will investigate the reason of the
difference.
iii. Comparison with Industry average: Comparison of entity’s financial information with that of the
industry may help the auditor unearth fraud and error. For example the investigation into the
unusual difference of the entity’s ratio of sales to accounts receivables from that of entities of
comparable size in the same industry or industry average may probably enable the auditor to
detect ‘paper’ book debt.
iv. Examination of relationship among data: The auditor may look into the relationship among
financial data that are expected to conform to a predictable pattern based on the entity’s
experience. The study of sales to raw material consumption ratio may reveal under charging of
raw-material consumption.
v. Study of relationship between financial and non-financial data: The study of relationship between
financial and non-financial information, such as employment cost to number of employees may
throw some light about the veracity of the employment cost shown in the income statement.
12. What factors are to be considered in analytical procedures

for substantive testing?
Substantive testing refers to the test of the validity and propriety of the information produced by the
accounting system. This can be carried out either by test of details (i.e., vouching and verification) or by
analytical procedure or by both. Analytical procedure means evaluations of financial information through
analysis of plausible relationships among both financial and non-financial data. While designing and
performing analytical procedure for substantive testing, the auditor should consider the following matters
in accordance with SA330 ―The Auditors’ Responses to Assessed Risks”
1. Suitability of the procedure: He should determine the suitability of particular substantive analytical
procedures for given assertions. He should take into account the assessed risks of material
misstatement and the results of test of details, if conducted for these assertions.
2. Reliability of data and information: He should evaluate the reliability of data and information to be
used for analytical procedure. For this the auditor is to take into consideration the source,
comparability, and nature and relevance of information available and control over their
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preparation.
3. Development of expected values: The auditor shall develop an expectation of recorded amounts
ofratios. For developing expectation of recorded values, the auditor should consider the following:
i. The degree of accuracy with which the expected results of substantive analytical
procedures can be predicted. For example, the auditor may expect greater consistency in
comparing gross profit ratio from one year to another than discretionary expenses like
travelling or advertisement.
ii. The degree of which information can be disaggregated. For example, substantive analytical
procedure is more effective when applied to segment information than composite
information.
iii. The availability of the information both financial and non-financial. For example, if financial
information such as budgets and non-financial information such as number of units
produced or sold is available, analytical procedure for substantive testing can be effectively
designed.
4. Necessity of further investigation: The auditor will determine whether the difference between
recorded amounts and expected values is material enough to warrant further investigation.
13. What special steps are involved in conducting the audit

ofan Educational Institution?
Educational institutions like school, colleges are usually run under the Societies Registration Act, 1960 or
Public Trust Act of the state, if any. The audit of accounts of an educational institution is carried out
according to the provisions of the Regulation or Trust Deed or the Act governing the concerned
educational institution. The audit process of an education comprises of the following aspects:
A. Preliminary Matters
1. Study the Trust Deed or Regulations in the case of school or college and note all the provisions
concerning the accounts of the institution. In case of a university, the Act of Legislature and the
Regulation framed there under should be carefully studied.
2. Evaluate the internal control system involving maintenance of records and documents,
safeguarding of assets, acquisition of assets, authorization of transactions, segregation and rotation
of duties etc.
3. Go through the minutes of the meetings of the managing committee or governing body and note
down resolutions concerning accounts. See that they have been duly complied with.
B. Income
1. Check names entered in the Student’s Fee Register with respective class registers and verify that
there operates a system of internal check ensuring that defaulting students are identified and
served with notice in time.
2. Check fees received by comparing counterfoils of fees book with the collection recorded in the Fee
Register and trace the entries in the Cash book to confirm that revenue under this head has been
properly accounted for.
3. Examine whether all concessations have been granted as per rules.
4. See that arrear fees which are irrecoverable have been written off under the sanction of
appropriate authority.
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5. Check admission fees with the admission forms duly signed by the head of the institution or other
authorized person and see that the amount has been credited to Capital Fund unless the other
decision is taken in this regard by the Managing Committee or Governing Body.
6. Confirm that late fines have been either collected or waived under proper authority.
7. If the Institute is having hostel facility, then examine the statement reconciling the total hostel
charges recoverable with the amounts actually received.
8. Verify receipts of rent for premises let out by the institute with reference to copies of agreements
with the relevant parties.
9. Examine the entries in the cash book in respect of donations and legacies with reference to the
counterfoils of receipts issued to doners.
10. Verify interest and dividends received during the year with reference to the securities in which
investments have been made.
11. Verify the grants received with reference to the sanction letters and examine whether conditions
specified therein have been duly complied with.
C. Expenditure
1. Examine whether salaries and allowances paid are as per the terms and conditions of appointment
of each category of staff.
2. Check the computation of gross salary payable and deduction in respect of provident fund, income
tax etc. See that income tax and provident fund deducted from salaries have been deposited with
the authorities in time.
3. Vouch the payment of salaries with reference to acknowledgement from employees and entries in
the bank statement.
4. Examine that scholarships to students have been granted as per rules and under proper
authorization.
5. Vouch all capital expenditures confirming that established norms have been followed in their
incurrence and they have the sanction of competent authority.
6. Vouch in the usual manner all establishment expenses and enquire into any heavy expenditure
under any head.
7. Examine the payments on account of expenditure on hostel facilities including those on repairs,
maintenance, electricity, water charges etc. in the usual manner. Similarly, examine the payment
relating to purchase, consumption, stock of food grains etc.
8. Examine payments made out of various grants received from Government/U.G.C. with reference to
supporting vouchers, entries in the cash book, minutes of the Governing Body and utilization
certificates, if any, furnished to authorities.
D. Assets and Liabilities
1. Conduct physical verification of fixed assets as shown in the assets Register.
2. Examine whether adequate depreciation has been properly charged on fixed assets.
3. Carry out physical verification of investments.
4. Examine arrear student fees by reconciling total fees received during the year and total fees
receivable as per the applicable fee structure.
5. Confirm that the refund of taxes deducted from the income from investment has been duly
claimedsince the institutions are generally exempted from payment of income tax.
6. See all the liabilities in respect of purchase of assets, maintenance expenses, food grains and
provisions have been duly provided.
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E. Statement of accounts
The annual statements of accounts of an Educational Institution generally consist of Income &
Expenditure Account and Balance Sheet. Confirm that they have been prepared as per
generally accepted accounting principles. Also see that separate statement of accounts have
been prepared as regards Poor Boys Fund, Games Fund, and Capital Fund etc.
14. Draft a suitable audit programme to conduct the audit of1

an College Hostel.
A college hostel provides boarding and lodging facilities to the students of college. It is run by the college
authority on no profit no loss or subsidised basis. Generally a cash book is maintained to record daily
receipts and disbursement of cash. At the end of the year a Receipts and Payments statement is prepared
and in case of a big hostel an Income and Expenditure Account is also prepared to know the results of
operation. The programme of auditing the accounts of big College hostel will cover following special
points..
1. Study the rules and regulations of hostel.
2. Check the number of seats in the hostel and verify whether only eligible students are. accommodated
in the hostel.
3. Vouch the receipt of hostel fees with the register of students.
4. See whether arrear hostel fees have been properly recorded and reflected in Income and Expenditure
Account.
5. See that advance hostel fees have been properly recorded and reflected in accounts.
6. Check that suitable action is taken against students who are regular defaulter in payment of hostel fees.
7. Check the system of internal control for procurement of foodstuff. If it is procured through contractor,
see that selection procedure is appropriate.
8. Vouch the payment against contractor's invoices. See that bill is duly certified by the storekeeper and
hostel superintendent.
9. Check the stock register of various main items of foodstuff like rice, wheat, mustard oil etc. See that
all entries of issue are supported by stores requisition duly signed by head cook and authorised by
hostel superintendent.
10. Vouch the petty expenses and see all vouchers are duly sanctioned by hostel superintendent.
11. Check the asset register and see whether there is any discrepency in physical verification.
12. See that adequate depreciation is being provided on all items of assets in the Income and expenditure
Account,
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15. Draft a suitable audit programme to conduct the audit of

an Medical College.
A medical College is run with the twin objectives of imparting medical education and rendering medical
services to general public. It is generally established by the Government and run with budget allocation
out of Government exchequer. Now a day, however, Corporate bodies are also coming forward to
establish Medical College with the main object of earning profit. Whatever may be the nature of Medical
College, the auditor must consider the following points:
1. The rules, regulations and bye-laws of institution should be studied by the auditor to acquaint himself
with its functioning.
2. The internal control system for procurement of food, medicine etc. and their issue should be studied to
determine its adequacy or otherwise.
3. The minute book containing resolutions of Governing Body should be studied.
4. The system of procurement of assets, medical equipment and other accessories should be studied and it
should be examined whether the system as prescribed is being duly complied with.
5. See that proper stock register is maintained and issue of medicine is based on requisition duly
approved by doctor. He should physically verify the stock of some high value medicine to compare the
same with book balance.
6. Monthly fee from students should be vouched from fee register and carbon copies of receipt issued. If
fee collection is entrusted with a bank, the same should be confirmed from bank statement. He should
note that —
(a) Fees received in advance is duly carried forward.
(b) Outstanding fees have been duly adjusted.
(c) Fee other than tution fee have been duly credited to respective heads.
7. Income from endowment if any should be vouched separately and the auditor will see that income is
used for the purpose for which the endowment is made.
8. Check the charges and collection received from patients with Register of patients, copies of bills and
cash book.
9. Check donation from public if any and see it is used for the purpose for which it is received.
10. Vouch the payment of salaries in usual manner.
11. Grants from Governments, if any, should be properly verified. This should be classified as capital
grant, maintenance grant etc.
12. See that expenditure have been properly classified as revenue and capital and methods and rates of
depreciation on capital assets are reasonable.
13. Ensure that wage payment system is sound and there is no loophole for defalcation.
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.
16. Prepare an audit programme in respect of a Nursing
Home/Hospital.
A hospital is established with the objective of providing service to the society. There are some hospitals
which are run and funded by Government or Local Authority. They are usually non – profit seeking.
Hospitals established and run by private bodies are mostly profit seeking. Now a days many hospitals are
found to be running on the basis of public – private partnership. So, keeping in mind the nature of
hospital to be audited, the auditor will look into the following matters:
A. Preliminary Matters:
1. Enquiry about the nature of hospital: The auditor should first study the relevant
documents to ascertain its ownership pattern, nature i.e., whether profit seeking or not,
capacity, different types of activities performed etc.
2. Evaluation of internal control: The auditor will evaluate internal control system involving
maintenance of records and documents, safeguarding of assets, purchase of assets,
authorisation of transactions, division and rotation of duties etc.
3. Study of the minute book: He should go through the minutes of meetings of Board of
Directors or the Managing Committee and note down resolutions concerning financial
matters such as acquisition of assets, engagement of staff, investment, fees, expansion of
facility for treatment etc.
4. Study of accounting system: The accounting system maintained should be studied and
audit procedure to be followed should be decided.
B. Receipts:
1. Vouching of collection from patients: The auditor should check the collection from
patients as entered in the cash book with reference to Patient Register, receipt counterfoils
and other evidences. The auditor will check the bill register to see whether all charges have
been computed correctly as per rate chart, period to stay of patient, category of bed,
medicine used, time taken by patient in the operation theatre, medical materials used etc.
2. Free bed facility: The auditor will see that free bed facility has been provided to deserving
patients as per rules and regulations.
3. Reimbursement from Insurance Company: The auditor will vouch the reimbursement of
medical expenses from the insurance company in case of cash less admission health
insurance. He will also vouch the collection from patient over the limit sanctioned by TPA
with reference to necessary supporting documents.
4. Legacies and donations: All the legacies and donation will be vouched with reference to
letters, counterfoil of receipts etc. the auditor will also see that donations received for
some specific purposes have been utilised accordingly.
5. Receipt of Grant: The auditor will verify grants received from Government with reference
to the sanction letters and examine whether conditions specified therein have been duly
complied with.
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6. Other incomes: The auditor should check collection of other income by way of rent from
properties, dividend, interest on securities etc. with reference to agreements, Properties
and Investment Register etc.
C. Expenditure:
1. Vouching of salaries: The auditor should vouch salaries and allowances with references to
terms and conditions of appointment of each category of staff namely doctors, nurse,
medical staff, administrative staff and other categories of employees of the hospital.
2. Accounting of various deductions: The auditor will see that deductions from salary
towards provident fund, income tax, group insurance etc. have been properly accounted
and deposited with the concerned authorities in time.
3. Capital Expenditure: Vouching of all capital expenditures should be done confirming that
established norms have been followed and they have the sanctions of competent
authority.
4. Established Expenses: He will vouch in the usual manner all establishment expenses. He
will compare the different heads of expenses with budgets and figures of last year. Any
unusual variation should be enquired into.
5. Purchase of Provisions: Examine the payment relating to purchase of medicines, foodstuff,
and different medical items etc.
D. Assets and liabilities:
1. Verification of cash and investment: The auditor will carry out physical verification of
cash and various investments as laid down in the investment register.
2. Verification of fixed assets: The auditor will conduct physical verification of fixed
assetsas shown in the assets register.
3. Depreciation: The auditor will see that depreciation at appropriate rate has been
written off against all fixed assets.
4. Examination of stock: He will see whether the stock of medicine, foodstuff and other
materials are properly maintained. He will ensure that any difference found in physical
verification from stock records has been properly adjusted.
5. Provisioning of liability: The auditor will ensure that all the liabilities in respect of
purchase of assets, medicines, maintenance expenses, foodgrains etc. have been duly
provided.
6. Verification of capital: Capital introduced during the year by partners or by
shareholders by way of subscribing shares should by checked based on various
documents like agreement, board’s meeting etc.
E. Financial statement:
The auditor will see whether financial statements comprising of income and
expenditure account or statement of profit and loss, balance sheet and cash flow
statement have been prepared properly and according to the generally accepted
accounting principles.
F. Submission of audit report:
At the end, the auditor will submit his report expressing opinion about the reliability
and fairness of financial statements.
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17. Prepare an audit programme in respect of a Hotel

An Auditor should consider the following points while conducting Audit of Hotels −
(A) Detail of Applicable Law
For audit of hotels, it is very crucial and important for an Auditor to go through the laws normally
applicable to the hotel industry .
The Companies Act, 2013 may also be applicable to hotels in case if the status of hotel is like a company.
Whereas, the Income Tax Act, 1961 will be levied in all the cases irrespective of whatever the status of
that hotel is.
(B) Preliminary Matters:

 An Auditor should determine the scope of his audit from his letter of appointment. It should be seen
whether he is asked to express his opinion on financial statements only or some additional
responsibility being assigned to him.
 An Auditor should obtain list of books of accounts, documents and registers maintained by hotel.
 He should see whether relevant hotels have independent status or a part of chains of hotels.
 An Auditor should study the Memorandum of Articles and the Memorandum of Association.
 He should obtain the title deed and other related documents to verify the land and building.
 He should also obtain Minutes of meeting of the Board of Directors to note down the important
decisions relating to accounts, finance and audit.
(C) Receipts:
In order to conduct audit of a hotel, an Auditor should study, verify and vouch books of accounts, keeping
in mind the different points of sale.
(a) Revenue from Room Rent
(b) Revenue from Food & Beverages (Restaurants)
(c) Revenue from Food & Beverages (Room Service)
(d) Food & Beverages Revenue from Minibar
(e) Revenue from Banquets
(f) Revenue from Business Centre
(g) Arcade Revenues
(h) Revenue from Car Hire
(i) Revenue from Telephone & Internet
(j) Revenue from Housekeeping
(k) Revenue from Laundry
(l) Revenue from Beauty Parlors and Health Clubs
(m) Revenue from Sale of Scrap and Disposal of Empties
(D) Audit of Expenses

An Auditor needs to consider the following points and verify the Revenue from Expenses −
(a) An Auditor should verify the appointment letter, policy of increment, time record, salary register,
cash book and bank book to verify the salary payments of employees.
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(b) He should verify all purchases through requisition slip, quotations, purchase order, inward register,
quality control verification record and stock ledger.
(c) Every purchase should be passed by appropriate authority in this regard.

(d) Vouching should be done properly and should be verified with documentary evidences.
(e) At times, there may be a contract between a seller and a buyer (hotel) to sell a particular product
at the same rate for a specific period like a week or a month, especially in case where the supply of
material is done on daily basis like milk, bakery products, fresh vegetables, etc. The Auditor should
verify purchases on the basis of such agreement.
(f) An Auditor should apply all other precautions and experience to audit the expenses as he does in
any other industries.
(g) Verification of purchases, consumption and stocking is very crucial in hotel industry and it is a real
challenge for an Auditor to verify all these very carefully. An Auditor should apply all his experience
and knowledge to do audit of it.
(E) Assets and liabilities:

(a) Verification of cash and investment:
(b) Verification of fixed assets:
(c) Depreciation:
(d) Examination of stock:
(e) Provisioning of liability:
(f) Verification of capital:
(F) Financial statement:

The auditor will see whether financial statements comprising of income and expenditure account or
statement of profit and loss, balance sheet and cash flow statement have been prepared properly and
according to the generally accepted accounting principles.
(G) Submission of audit report:

At the end, the auditor will submit his report expressing opinion about the reliability and fairness of
financial statements.
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Unit – 3
Internal Control System
Audit Risk:
The risk of the auditor giving an inappropriate opinion when the financial statements are materially
misstated is known as audit risk. Thus, it is the risk that the auditor fails to express an appropriate opinion
during his audit engagement.
Audit risk has three components:
1. Inherent risk
2. Control risk
3. Detection risk
1. Inherent Risk: It is the vulnerability of an assertion about an account balance or a class of transaction
or disclosure to any misstatement which could be material either individually or with other
misstatements, before the consideration of any related control.
Sources of Inherent Risk:

(i) Complex business transaction.
(ii) Transactions which require a high level of judgement which leads to audit risk not being
identified.
(iii) Frequent change in technology in the industry may expose the entity to technological
obsolescene risk.
(iv) An entity which has mis-reported any figures in the past may likely to misreport it again.
2. Control Risk: It is the risk that the misstatement occurs in an assertion about an account balance or a
class of transaction or disclosure which could be material either individually or with other
misstatements shall not be prevented or detected or corrected by the internal control system of the
company on a timely basis.
Sources of Control Risk:

(i) Failure on the part of the management to install the proper system of internal control of
financial reporting.
(ii) Failure to segregate the duties amongst the employees responsible for financial reporting.
(iii) Lack of proper documentation and filing.
3. Detection Risk: The risk that the audit procedure performed by the auditor to reduce the audit risk to
an acceptable low level, which shall not detect an existing misstatement which is material either
individually or with other misstatements.
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Internal Control System:
SA 315, Identifying and Assessing the Risks of Material Misstatement Through Understanding the Entity
and its Environment, defines internal control as “the process designed, implemented and maintained by
those charged with governance, management and other personnel to provide reasonable assurance about
the achievement of an entity’s objectives with regard to reliability of financial reporting, effectiveness and
efficiency of operations, safeguarding of assets, and compliance with applicable laws and regulations. The
term “controls” refers to any aspects of one or more of the components of internal control.”
Objectives of Internal Control System:
Every organization has its present goals. The system of internal control system helps to achieve these
present goals. Apart from meeting the objective of achieving the desired goal, the internal control system
plays a very vital role in the functioning of the organization. The primary objectives of the internal control
system may be stated as follows:
(i) All transactions are made under the general or specific authorization of the management.
(ii) To prevent the unauthorized access and use of the entity’s assets.
(iii) Comparison of the assets recorded in the books with the existing assets from time to time and take
proper action in case of difference.
(iv) To ensure immediate recording of all transactions for timely preparation of the financial
statements within the framework of the generally accepted accounting principles and relevant
statutory requirement.
(v) Help the organization to achieve its performance and profitability targets, as well as prevention of
loss of resource.
(vi) To promote the effectiveness and efficiency of operations.
(vii) Its serves as an aid to the management to formulate plans and policies for the business.
(viii) To provide security to the customers, employees and assets of the organization.
(ix) Maintain proper control over the business activities to increase the level of efficiency.
(x) Delegation of duties amongst the employees such that all members of the organization work
cohesively.
(xi) Ensure that financial planning has been done correctly.
(xii) Optimum utilization of the available resources.
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Internal Check:
An internal check is an integral part of the internal control system. It is one of the ways to execute internal
control. It is a method by which the duties of different members of the organization is arranged in such a
way that the work of one person is automatically checked by another and the chances of fraud and error
are maintained to a great extent unless there is collusion amongst the members of the organization. For
example, in case of cash sales, the cash receipt is recorded by one person, the ledger posting is done by
another person and the statement issued to the party is made by another person and so on. Therefore, if
any fraud or error is committed by one staff of the organization, it is automatically checked by another
staff. This system minimize the possibility of error and frauds unless the members of the organization team
up to cheat the organization.
Objectives of Internal Check:
The objectives of internal check are as follows:
(i) The internal check system helps to distribute the duties and responsibilities amongst different
members of the organization.
(ii) In the system of internal check, the work of one person is automatically checked by another,
thereby reducing the chances of committing errors and frauds and ensuring reliability on the
system.
(iii) Internal check help to detect fraud and error at an early stage.
(iv) It helps to improve the efficiency of the functioning of the organization.
(v) Internal check system divides the work in such a way that different aspects of a transaction are
recorded by different person. This helps in the reduction of errors.
(vi) In the system of internal check, the accounting system is designed in such a way that it helps in
prompt preparation of the accounts.
(vii) The system acts as a moral check on the employees of the organization.
(viii) An efficient system of internal check reviews the accounting records and the work of
employees who record the transaction.
(ix) Internal check increases the reliability of the accounting records of the business.
Internal Audit:
Internal control is the exercise in the form of internal check and internal audit. Internal check is the
arrangement of duties in such a way that automatic checks are3 carried out as the transaction occurs. On
the other hand, internal audit is the independent review of operations and records. Any deviations from
the normal functioning of an internal check system are pointed out through internal audit
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Provisions of Companies Act relating to Internal Audit:
 Section 138(1) of the Companies Act, 2013 states that such class or classes of companies as may be
prescribed shall be required to appoint an internal auditor. According to rule 13 of the Companies
(Accounts) Rules, 2014 the following class of companies are required to appoint an internal auditor
or a firm of internal auditors, namely: -
a) Every listed company;

b) Every unlisted public company having: -
(i) Paid up share capital of fifty crore rupees or more during the preceding financial year; or
(ii) Turnover of two hundred crore rupees or more during the preceding financial year; or
(iii) Outstanding loans or borrowings from banks or public financial institutions exceeding
one hundred crore rupees or more at any point of time during the preceding financial
year; or
(iv) Outstanding deposits of twenty five crore rupees or more at any point of time during the
preceding financial year; or
c) Every private company having: -

(i) Turnover of two hundred crore rupees or more during the preceding financial year; or
(ii) Outstanding loans or borrowings from banks or public financial institutions exceeding
one hundred crore rupees or more at any point of time during the preceding financial
year.
 According to Section 138 of the Companies Act, 2013 an internal auditor shall either be a chartered
accountant or a cost accountant, or such other professional as may be decided by the Board to
conduct an internal audit of the functions and activities of the company. The internal auditor may be
an employee of the company.
Objectives & Scope of Internal Audit:
As per SA 610 (Revised), ‘Using the work of Internal Auditor’ the objective and scope of internal audit
depend on the size and structure entity and as per the necessity of the management. As per SA 610, the
Scope of Internal audit functions are as follows:
1. Supervising of Internal Control: The internal control may be assigned the role of the supervision of
internal control. Specifically, he is entrusted with the responsibility to review controls, assess their
operations and suggest improvement to it.
2. Examination of financial and operating information: The internal auditor may be delegated to
examine the means used to collect and report financial and operating information. He may also
require to test transactions, balances and procedures relating to specific items.
3. Review of operating activities: The internal auditor may be required to review the economy,
efficiency and effectiveness of operating and non-financial activities.
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4. Review of compliance with laws and regulations: The internal auditor may be assigned to review
compliance with laws, regulations and other external and internal requirements.
5. Functions relating to Risk Management: The internal auditor may assist the concern by identifying
and evaluating significant exposure to risk. The internal auditor may help the management to
improve its risk management and control system.
6. Governance: The internal auditor may evaluate the governance process in fulfillment of the entity’s
objectives on ethics and values, performance management and accountability, communicating risk
and control information to appropriate areas of the organization and effectiveness of
communication amongst those charged with governance.
Distinction between Internal audit and Internal Check:
Point of Internal Audit Internal Check

Difference
1. Meaning It is an independent review of It is duty which is arranged in such a
operations and record. manner that the work of one is
automatically checked by another.
2. Objective Detection of fraud and error. Prevention of fraud and error.
3. Special Staff It is carried out by staff specially No specialized staff is engaged.
trained for this purpose. Services of
Professional may be used.
4. Timing Internal audit function starts after the Internal check begins along with the
completion of a transaction. finalization of a transaction and ends
when all aspect of the transaction is
complete.
5. Reporting The internal auditor submits the Under the system of internal check, the
report to the top management. statement relating to all transactions of
the department are submitted to the
departmental manager.
6. Focus It is concerned with the assessment of It is concerned with the effectiveness
the work done. and efficiency of the work done.
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Distinction between Internal Audit and Internal Control:
Point of Internal Audit Internal Control

Difference
1. Responsibility It is the responsibility of the internal It is the responsibility of management
auditor who works independently. staff who works as per the established
policies and procedure.
2. Timing Internal Audit function starts after the Internal control system run
completion of a transaction. automatically along with the execution
of a transaction.
3. Reporting The internal audit report is submitted Reporting of all daily transactions and
to the top management. operations are made to the
departmental manager.
4. Meaning It is an independent review of It comprises of the whole system of
operations and record. control established by the management
for running the business.
5. Objective Detection of fraud and error. Tries to achieve objectives like following
policies and procedure formulated by
the management, safeguarding assets
and timely presentation of reliable
financial records.
6. Department A separate department is formed to There is no separate department for
conduct an internal audit. The internal control. Internal control system
department is headed by the internal exists at all department and the
auditor who is responsible for the departmental staffs are responsible for
proper functioning of this proper implementation of the system.
department.
1. What is Audit risk? What are its different types?

What is Audit risk?
Risk is a fundamental concept when performing an audit. It forms the basis for how the auditor will
complete the audit engagement and drives the amount and type of work that will be performed.
The definition of ‗audit risk‘ is the risk that the auditor gives the wrong opinion on the financial
statements and so, ultimately, this is what the auditor is trying to avoid.
To support this, audit risk should be reduced to an acceptably low level. To help actually achieve this when
completing an audit, we split audit risk into three components, as shown below:
Audit Risk = Inherent Risk x Control Risk x Detection Risk

Inherent Risk
Inherent risk is the susceptibility of a financial statement account to a material misstatement, irrespective
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of related internal controls. Therefore, this risk is assessed by understanding the entity and is the driver
behind much of the work performed at the acceptance and planning stages of the audit.
To effectively complete an audit, the auditor must thoroughly understand the entity that they are to give
an opinion on. This understanding will allow for the inherent risks to be identified, which means the
auditor can focus their attention towards areas more likely to contain errors.
Control Risk
This is the risk that the entity‘s controls will not prevent / detect and correct a material misstatement in
the financial statements on a timely basis.
In order to assess this risk, the auditor must understand the key business processes in place at the client
and whether the controls over these processes are designed effectively, as well as assessing the overall
control systems at the entity.
The auditor can then test the controls to assess whether they have operated effectively during the year,
and therefore, will reduce the likelihood of a misstatement occurring in the financial statements.
This work will be completed after the planning work, as part of the systems and controls analysis stage of
theaudit.
Detection Risk
Detection risk is the risk that the auditor‘s procedures will not detect a material misstatement that exists
in the financial statements. It is the only risk that can be controlled by the auditor as it will depend on the
level of procedures performed by the auditor.
The level of detection risk will depend on the inherent risk and control risk that the auditor has already assessed, and it
will drive the amount of work that is performed at the substantive testing stage of the audit.
Points of Distinction Internal Control Internal Audit

1. Meaning Internal control is the whole system Internal audit is an independent
of control instituted in the continuous and critical appraisal and
organization for the purpose of review of accounting, financial and
running the business in an orderly other operations of the undertaking.
manner, safeguarding its assets,
increasing the productivity and
ensuring reliability and fairness of
financial records.
2. Scope The coverage of internal control is Internal audit is an important part
vast. It is the accounting and of the internal control system. Its
administrative devices controlling all function is to see that organization‘s
the areas of the organization so that system of internal control is
the ultimate objective of the maintained appropriately and
organization is attained. management instructions and policies
in relation to various operations are
being carried out correctly.
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3. Existence Internal control system exists in all To carry out internal audit, a separate
the departments of the department is formed. The internal
organization. All the employees of auditor who heads this department is
each department are responsible responsible for continuous and
for proper implementation of independent review of books of
internal control system. accounts and appraisal and
evaluation
of effectiveness of other controls.
4. Responsibility To implement the internal control is To carry out internal audit is the
the responsibility of the responsibility of the internal auditor
management staff who work who works independently.
according to established policies
and procedures.
5. Nature Internal control system runs It does not work automatically. It is
automatically and concurrently with undertaken after the transactions take
the execution of transactions. place.
6. Reporting system It involves regular reporting of daily The internal audit reports about the
transactions and operations of the operational efficiency and reliability of
department to the departmental financial records and reports are
manager. sent
to the top management.
2. In a good system of Internal check, the work of one is

checked indirectly by the work of another" — Explain and
discuss the statement with examples.
Internal Check
Internal check is a method of organising the accounts system of a business concern or a factory where
the duties of different clerks are arranged in such a way that the work of one person is automatically
checked by another and thus the possibility of fraud, or error or irregularity is minimised unless there is
collusion betweenthe clerks. For example, the receipt of cash is entered by the cashier on the debit side
of the cash book; this entry is carried to the ledger by another clerk; the statement of account relating to
this transaction is sent to the customer by a third clerk and so on. Thus the same transaction has passed
through three different hands and the work of one is checked automatically by the other. It is a kind of
division of labour. This minimises the possibilities of frauds and errors unless all the three join hands in
defrauding their employer.
According to the special committee on Terminology, American Institute of Accountants, 1949 "Internal check-
a system under which the accounting methods and details of an establishment are so laid out that the
accounts procedures are not under the absolute and independent control of any person - that, on the
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contrary, the work of one employee is complementary of that of another, and that a continuous audit of
the business is made by theemployees."
The essential elements of an internal check are :
(a) Instituting of checks on day-to-day transactions.
(b) These checks operate continuously as a part of routine system.
(c) Work of each person is made complementary to the work of another.
The objective of such allocation of the duties is that no one has an exclusive control over any transaction.
An example of internal check is the system of encashment of cheque in bank. When a cheque is
presented to bank for encashment, one person issues a token, then he verifies the balance in the ledger
book and makes entry. One officer then verifies the signature and authorises payment. The cashier then
makes payment. Thus the entire system is so designed that no single person can verify record and make
payment.
Sometimes to enhance the efficacy of Internal check system duties among staff members are
interchanged. They are also encouraged to go on leave so that in the absence of an individual frauds and
errors, if committed by him, can be brought to light.
On the basis of the above, it may be concluded that the internal check means a system by
which the work is divided among the employees in such a manner that not a single individual
is allowed to carry on the whole function from the beginning to the end and the work of an
individual is automatically checked by another.
3. Internal audit can not replace internal check-Explain.

Or
Distinguish between internal check system & internal audit
system.
Internal audit is an independent and continuous appraisal and review of accounting, financial and other
operations of the undertaking.
Internal check on the other hand is the division of work amongst various staff members in such a way that
work of one person is instantly and automatically checked by the work of other staffs. So, their difference can
be summarised as follows
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Points of Distinction Internal check System Internal audit System
(i) Nature It is an inbuilt system and once It does not work automatically. It is
introduced it runs automatically and under taken after the transaction takes
concurrently with the execution of place.
transaction.
(ii) Function It is an arrangement of allocation of It is an independent and continuous
duties in such a way that work of one review of operations and records.
employee is automatically checked by
the work of another employee.
(iii) Results It prevents occurrence of errors and As it is undertaken after the work is
frauds or if they are committed, it can complete, it cannot prevent
detect them almost instantaneously. occurrenceof error or fraud..
(iv) Formation To run the internal check system, no To carry out internal audit, a separate
separate set of staff is required. It only department is formed. This
represents arrangement of duties among departmentconsists of people both of
staff. accounting and technical profession.
(v) Objective The objective of this system is Detection of errors and frauds is the
preventionand early detection of errors secondary objective of internal
and frauds. audit,Its thrust mainly is, on
operational efficiency.
(vi) Subject matter An internal check system is concerned It is concerned with the appraisal of
with carrying out work efficiently and work done and ascertaining the reli-
effectively. ability of records and reports.
(vii) Reporting system It involves regular reporting of daily The internal audit report about the
transactions of the department to the operational efficiency and reliability of
departmental manager. financial records and report are sent
to
the top management.
4. Distinguish between internal Control & internal audit

system.
Points of Distinction Internal Control Internal Audit

1. Meaning Internal control is the whole system of Internal audit is an independent
control instituted in the organization continuous and critical appraisal
for the purpose of running the business and review of accounting, financial
in an orderly manner, safeguarding its and other operations of the
assets, increasing the productivity and undertaking.
ensuring reliability and fairness of
financial records.
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2. Scope The coverage of internal control is vast. Internal audit is an important

It is the accounting and administrative part of the internal control system.
devices controlling all the areas of the Its function is to see that
organization so that the ultimate organization‘s system of internal
objective of the organization is control is maintained appropriately
attained. and management instructions and
policies in relation to various
operations are being carried out
correctly.
3. Existence Internal control system exists in all the To carry out internal audit, a
departments of the organization. All separate department is formed.
the employees of each department are The internal auditor who heads this
responsible for proper implementation department is responsible for
of internal control system. continuous and independent
review of books of accounts and
appraisal and evaluation of
effectiveness of
other controls.
4. Responsibility To implement the internal control is To carry out internal audit is the
the responsibility of the management responsibility of the internal
staff who work according to auditorwho works independently.
establishedpolicies and procedures.
5. Nature Internal control system runs It does not work automatically. It is
automatically and concurrently with undertaken after the transactions
theexecution of transactions. take place.
6. Reporting system It involves regular reporting of daily The internal audit reports about
transactions and operations of the the operational efficiency and
department to the departmental reliability of financial records and
manager. reports are sent to the top
management.
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Unit – 4
Vouching, Verification and Valuation
Vouching:
Concept and definition: Vouching is the specific technique of auditing where verification of the
authenticity and accuracy of the transactions are done with the help of available documentary evidences.
The dictionary meaning of the term ‘vouching’ are the acts of supporting. It is an important technique as
success of its application authenticates “true and fair” view of the state of affairs of the business.
“Voucher is a documentary evidence by which the accuracy of books entries may be substantiated.”
Voucher may be both internal and external. Internal vouchers refer to those which may be available from
within the organization. For example, material requisition slip, minutes book etc.
External vouchers are those which are collected from outside the organization. These vouchers are
obtained from outside parties. For example – statement received from banks, mortgage deeds etc.
Following points to be considered while examining a voucher:

a) The date of voucher should fall within the accounting period.
b) The voucher is prepared in the client’s name.
c) Voucher should be duly authorized.
d) The voucher should be complete in all respect.
After the vouching is over each voucher should be either impressed with a rubber stamp or initiated so
that it may not be presented again in support of another entry.
Objectives of vouching:
Following are the objectives of vouching:
a) To protect the investor’s right in the ownership of the business.

b) To authenticate the correctness of transactions.
c) To minimize frauds and errors.
d) To authenticate ‘true and fair’ view of the state affairs of the business.
e) To ensure the reliability of the figures presented in the books of accounts.
f) To earn confidence of the shareholders and third parties.
Vouching and routine checking:
It is to be noted that vouching and routine checking are two different techniques of auditing. Routine
checking is the part of vouching. It is concerned with ascertaining the arithmetical accuracy of casting,
posting and carry forward. On the other hand vouching includes routine checking, checking of all totals,
carry forward, posting and checking of all ledger accounts. Vouching is done by senior audit clerk while
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routine checking is done by junior audit clerk. Therefore, routine checking and vouching are not similar in
nature and neither complementary to each other.
Vouching procedure of various items:
1. Purchase of goods: Cash purchases should be verified by reference to cash memos or receipted
invoices issued by suppliers. Payments made against credit purchases should be vouched with the
receipts issued by suppliers, and the credit to their accounts on the basis of invoices entered in the
Purchases Day Book. There must be also an evidence of the goods having been received – an entry in
the Goods Inward Book or Stock-Ledger.
2. Travelling expenses: Travelling expenses are normally payable to staff according to rules approved by
directors or partners. Where no rules exist, the auditor should recommend that these been framed
for controlling the expenditure. In the absence of TA Rules, the expenditure should be vouched on the
basis of actual expenditure incurred. A voucher should be demanded for all items of expenses
incurred, except those which are capable of independent verification.
As regards travelling expenses claimed by directors, the auditor should satisfy himself that
these were incurred by them in the interest of the business and that the directors were entitled to
receive the amount from the business.
The voucher of travelling expenses should normally obtain the undermentioned information:
(i) Name and designation of the person claiming the amount.

(ii) Particulars of the journey.
(iii) Amount of railway or air fare.
(iv) Amount of boarding and lodging expenses or daily allowance along with the dates and times of
arrival and departure from each station.
(v) Other expenses claimed, e.g., porterage, tips, conveyance, etc.
3. Salaries and Wages: Payments on account of salaries and wages need to be vouched carefully, since
amounts which were either not due or in excess of those due may have been paid by the client. The
evidence in support of such payments generally is internal. It can, therefore, be relied upon only if it
has been produced In the normal course of business and there exists an efficient system of internal
control which could be expected to prevent it from being fabricated.
Therefore, before proceeding to verify payment made on account of salaries and wages, the
auditor should examine the internal control procedures as regards the following:
a) Appointment, promotion, transfer and discharge of employees.
b) Recording attendance of workers, engaged on the time basis, as well as particulars of jobs
performed by piece workers.
c) Arrangement for the preparation of wages and salaries bills and their analysis.
d) Sanctioning the disbursement of wages and salaries.
e) Arrangement for disbursement of wages and salaries for workers and employees not present
on the day.
f) Custody of the wages records.
4. Investments: Shares, Government Bonds and other securities usually are purchased through stock
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brokers, who submit a “Bought Note” to the purchaser specifying, among other things, the price per
unit and the amount of brokerage. The Bought Note, therefore, should be inspected (except when
shares or debentures have been acquired upon issue being made by the company). The total amount
paid, including the commission payable to the broker, should be adjusted as cost of the security.
Government securities and debentures, according to a convention, are quoted on the Stock Exchange
at prices which are ex-interest, i.e., these do not include the interest which has accrued thereon since
it was last paid. Therefore, interest has to be paid to the seller over and above their purchase prices.
The amount of interest is debited to the Interest Account since it will be recovered at the time the
next installment of interest shall fall due for payment.
5. Payment to creditors: For vouching payments to creditors following documents to be vouched:
a) Counter foil of cheques

b) Details of online payment transactions to creditors from bank statements
c) Receipt
d) Copies of contract
e) Statement of accounts
6. Advertisement expenses: Following documents to be vouched:
a) Newspaper cutting of the advertisements

b) Proof of online advertisements, copies of the advertisement given in any brochure or
souvenie.
c) Photographs of the bill boards where advertisement is given.
d) Contract papers between the advertisement agency and the client.
e) Payment vouchers, counter foil of the cheque or online transfer of funds.
Auditor’s Duty:
a) The occurrence of prepaid expenses are often found in case of rent, rates, taxes, insurance,
interest, discount, commission, etc.
b) The auditor should verify the basis on which this type of expenditure has been allocated to more
than one financial year.
c) He should vouch such expenses with the help of receipts, demand note, copies of contract, nominal
account, etc.
d) He should confirm that proper adjustments in relation to prepaid expenses have been made in the
books of accounts and the balance have been carried forward in correct figures.
7. Cash Sales: Primarily, the system of internal check should be checked with the objective of finding out
loopholes therein, if any, whereby cash sales could be misappropriated. Further, the practice followed
in the matter of issuing cash memos should be ascertained. For, if cash memos are issued not only for
cash sales but also for credit sales, the amount where of is collected long after, there would be no
guarantee that all the amount of cash sales has been collected before the close of year or that some
of the amounts collected have not been misappropriated.
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8. Receipt from customers: Receipts of cash from the customers against price of goods sold are checked
with the counterfoils of receipts issued to them. At the time, it is also verified that there is a system of
internal check in operation which acts as a safeguard against amounts collected being
misappropriated.
9. Sale of assets: In this case also, as in the case of sales or investments the authority for sale is most
important. It is, therefore, a matter which should receive the attention of the auditor. Another
important aspect which requires consideration is the basis of sale, whether by auction or by
negotiation, for determining that the asset was sold at the maximum price that could be obtained for
it and that the sale proceeds of the asset have been fully accounted for. It should further be
confirmed that sale proceeds have been credited to an appropriate head of account and the amount
of profit arising out of it has been segregated between revenue profits and capital profits, if any, and
accordingly appropriate accounts are created; where there is a loss, the same should be written off.
10. Travelling salesman’s commission and expenses:
(i) The agreement with the travelling salesman or the relevant rules should be examined to
ascertain the actual basis for payments of commission and the expenses. In particular, it
should be seen whether he is entitled to commission on sales returned or in respect of
unrealized sales values. It should also be seen whether the salesman is entitled to draw money
from customers against his expenses.
(ii) The statements submitted by the travelling salesman should be examined. The figures of sale
given in the statements should be checked at random with sales records. The commission and
the expenses due should be checked. Also, it should be seen whether full account of the
moneys collected by the salesman has been rendered.
(iii) The receipts signed by the travelling salesman should be checked.
(iv) It should be ensured that no commission is paid on sales booked but not executed by the year
end.
11. Preliminary Expenses: The expenditure incidental to the creation and floating of a company includes
stamp duties, registration fees, legal costs, accountants’ fees, costs of printing, seal, etc. These should
be vouched as indicated below:
(i) The auditor should examine the contracts relating to preliminary expenses. If preliminary
expenses that were incurred by promoters have been reimbursed to them by the company,
the resolution of the board of directors and the power in the articles to make such
reimbursement should be seen. Care must be taken to see that the company is charged only
with those expenses which are appropriately payable by it.
(ii) The bills and statements supporting each item of preliminary expenses should be checked. It
should be seen that no expenses other than which constitute preliminary expenses are booked
under this head.
(iii) The auditor can cross check the amount of preliminary expenses with that disclosed in the
prospectus, (or the statement in lieu of prospectus) statutory report and the balance sheet.
Any amount paid in excess of the amount disclosed in the prospectus should have been
approved by the shareholders.
(iv) Expenditure in connection with the preliminary expenses so far it has not been written off
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should be shown as a separate item in the balance sheet under the heading “miscellaneous
expenditure.”
(v) Underwriting commission and brokerage on shares and debentures should not be included
under the head preliminary expenses.
Difference between Vouching and Verification:
Verification Vouching
a) In verification the auditor must satisfy himself a) Vouching is the examination of documentary
by physical inspection or by suitable evidence in order to establish the accuracy
documentary evidence that the assets exist, and authenticity of entries in the books of
that they are owned by the client, properly account.
valued and recorded as per accepted
b) The scope of verification is wider than b) The scope of vouching is comparatively
vouching as it examines not only narrow.
documentary evidences but also other
factors.
c) Verification is much more important than c) Vouching is generally done by junior staff.
vouching and sometimes it is done by the
auditor himself.
d) After vouching verification is done. d) Before verification, vouching is done.
e) Verification of assets and liabilities are one of e) Vouching is a part of verification. It is done to
the most important mechanism of auditing. satisfy the auditor that the documents of
With the help of this, the auditor ensure true transactions are valid.
and fair view of the state of affairs of the
business.
Verification of assets:
General Principles:
1. Where a company or a partnership has taken over the assets of a going concern, the agreement of
sale should be inspected and the amount paid for them ascertained. It should be further verified
that the allocation of the total cost among the various assets is fair and reasonable.
2. The cost of assets acquired piecemeal should be verified with their invoices, purchase agreements
or ownership rights and the receipt of the sellers in respect of the price paid. It should be verified
that expenditure on assets newly acquired and that on the renewal and replacement of old assets
have been correctly recorded, consistent with the method that has been generally followed in the
past.
3. When an asset is sold, its sale proceeds should be vouched by reference to agreement, containing
the terms and condition of sale, counterfoil of the receipt issued to the purchaser or any other
evidence which may be available. If the sale of a fixed asset has resulted in capital profit, it should
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be transferred to Capital Reserve. However, the profit limited to the original cost or a loss should be
transferred to the Profit & Loss Account.
4. It is now obligatory for a company to provide for depreciation out of profits in accordance with the
provisions under sub-section (1) of Section 205, before any profits can be distributed as dividend.
The law requires that depreciation should be provided in one of the ways specified in Section 205(2)
of the Companies Act.
5. The existence of fixed assets, where practicable, should be verified by a physical inspection and or
by comparing the particulars of asset, as are entered in the schedule attached to the balance sheet,
with the Plant or Property Register and reconciling their total value with the General Ledger
balances.
6. Wherever possible, all the securities and documents of title, cash, negotiable instruments, etc.
representing the assets, should be inspected at the close of the last day of the accounting period. If
this be not practicable and the examination is undertaken at the latter date, a careful scrutiny of
transactions subsequent to the date of the balance sheet must be made to ensure that the changes
in their balances that have subsequently taken place are bona fide and are supported by adequate
evidence.
7. It should be ascertained that no unauthorized charge has been created against an asset and all the
charges are duly registered and disclosed. When shares or securities are lodged with a bank to
secure a loan or an overdraft, a certificate should be obtained from the bank showing the nature of
the charge, if any.
8. Where assets, e.g., government securities, share scrips and debenture bonds are in the custody of a
third party, other than a bank, these must be inspected.
Verification of Non-current Assets:
1. Land and Buildings
a) Ensure that land and buildings are shown separately in the balance sheet.
b) Examine the title deeds of land and buildings to see whether the client company holds the title
on the balance sheet date.
c) Verify that appropriate depreciation has been provided against the buildings. No depreciation
should be provided on loan. In case no depreciation is provided on the buildings, a note for the
purposes should be entered in the profit and loss account.
d) If the land or building is leasehold, see the appropriate lease-deed to ascertain the cost,
amortization, etc. Also ensure that all the covenants in the lease deed have been fulfilled by the
company.
e) See that the land and buildings have been valued at cost less depreciation. If any revaluation has
taken place, see the basis of revaluation and ensure that the disclosure, necessary under Part 1
of Schedule VI of the Companies Act, has been made.
f) See that the relevant particulars of the land and building have been entered in the fixed assets
record maintained by the company.
g) Investment in shares.
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h) Obtain a list of shares held as investment on the balance sheet date with particulars such as the
distinctive number, nominal value, book value, cost, quoted price, if any, and the year of
purchase.
2. Goodwill
a) When the company has acquired a running business and has paid for it an amount in excess of
the book-value of its net assets.
b) When the company has written up the values of its assets on a revaluation of the whole of its
assets and has raised a Goodwill Account in its books. Such cases would be rare.
c) When the goodwill acquired by a company that has been written off is later brought back in the
books to write off the debit balance in the Profit & Loss Account or a capital loss that the
company has subsequently incurred.
Investments in shares and securities:
(i) Verify the Register of Shares and Securities.

(ii) Examine the banker’s lodgment certificates.
(iii) Obtain confirmations from the banks of the shares and securities held by them on the client’s year
ending day, on behalf of the client.
(iv) If considered necessary, carry out a physical verification of the shares and securities held by banks
on the client’s year-ending day, after an arrangement for the physical verification is made by the
client.
(v) Trace the receipts of dividend and interest on the shares and securities, pertaining to the year
under audit in the subsequent period.
1. What is vouching? What are the objectives of vouching?
Vouching is the act of authenticating a transaction recorded in the books of accounts with reference to its
documentary evidence. It is the essence of auditing and in fact, the whole structure of auditing rests upon
it. It is not routine checking. In other words, it is not mere comparison of entries recorded in the books of
accounts with relevant vouchers. Rather, the auditor has to go beyond the books to substantiate propriety
of transactions. So, vouching requires intelligence and tactfulness on the part of the auditor. He will apply
professional skepticism i.e., alertness and judgement in his work. While conducting vouching, he will collect
evidence judiciously in support of transactions, evaluate credibility and truthfulness of evidence and then
form his judgement about the propriety of transactions.
According to Spicer and Peglar, “Vouching may be defined as the examination by the auditor of all
documentary evidence which is available to support the authenticity of transactions entered in the clients’
records”.
According to Dicksee, “vouching consists of comparing entries in books of account with documentary
evidence in support thereof”.
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Objectives of Vouching
The objectives of vouching may be discussed in the following way:
(a) Correction of vouchers: The work of vouching involves correction of vouchers and related evidences.
(b) Evaluation of evidences and voucher: Its involves the evaluation of collected evidences and vouchers.
(c) Examination of vouchers: It is concerned with the examination of vouchers or documents in such a manner the
auditor may satisfy himself as to the authenticity and validity of the recording of transactions.
(d) Nothing unrecorded : It refers to finding out that nothing pertaining the business has been left unrecorded,
(e) Finding out the transactions recorded: It involves finding out whether entries relating to transactions have
been properly recorded in the books of account or not.
(f) Recording of transactions not concerned with: It refers to finding out that no transaction which is not
concerned with the business has been recorded in the books of account.
(g) Recording of transactions in the books: It is concerned with examining whether all the transactions relating to
the business have been recorded in the books and whether those transactions are pertaining to the period under
audit.
(h) Basis for final conclusion: It forms the basis for final conclusion to be drawn by the auditor.
2. How do you vouch the following items
(i) Director‘s remuneration
This refers to the amount paid to directors for their services rendered to the company and for attending Board
meeting. While checking this term of expense, the auditor should have the following information:
i. Total number of Executive Directors and Non-executive Directors.

ii. Types of remunerations and perquisites to which directors are entitled and other terms and
conditions of their appointment.
iii. Whether directors are entitled to get fees for attending Board meeting and if executive
directors get any such fess, whether specific approval has been taken from Department of
company Affairs, Govt. of India.
iv. Whether director’s remuneration has been separately shown in the profit & Loss A/c as
required under the Companies act.
v. Whether the net profit on which commission is paid or payable to Directors has been
computed in pursuance to sec. 309 of the Companies Act, 1956.
vi. Whether the ceiling of maximum managerial remuneration as stipulated under section 198 of
the Companies Act, 1956 has been adhered to.
vii. Whether any increase in remuneration is as per sec. 310 of the Companies
Act.Following documents should be examined for the above information:
i. Articles of Association to know the details of remuneration payable to Directors.
ii. Agreement with directors or appointment letters,
iii. Directors’ minute book or attendance register to vouch the director fees.
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iv. Statement showing details of calculation of commission.

v. Directors’ receipts etc.
(ii) Travelling Expenses****

For vouching of traveling expenses, the auditor should have following information:
i. business travel rules as formulated by management,
ii. Whether every tour has got approval of competent authority.
iii. Whether the tour expenses are within the prescribed limit.
iv. Whether personal A/cs of the employees taking business travel advance have been correctly
debited.
v. Whether debit balances of personal A/cs of employees have been duly regularized through
submission of travelling vouchers.
vi. Whether foreign travel has got Reserve Bank of India’s permission, if necessary for withdrawing
foreign exchange. The auditor should also check whether the amount of foreign exchange
spent has been separately disclosed in the accounts as per requirement of Part I of Schedule VI
to Companies Act.
To satisfy himself with the above information, the auditor should go through following documents:
i. Business Travel Rules of the company.
ii. Business Travel Vouchers as submitted by employees.
iii. Personal accounts of employees.
iv. Board’s Resolution etc.
(iii) Preliminary Expenses

Expenses incurred in connection with the promotion of a new company are known as preliminary
expenses. This expenditure includes stamp duties, registration fees, legal cost, accountant‘s fees, cost of
printing, etc. while vouching these expenses, the auditor should require following information:
i. Whether the expenses shown as preliminary expenses are actually connected with the
formation of the company.
ii. Whether the expenses incurred have got due sanction from the competent authority.
iii. Whether the amount of expenses is justified from propriety angle. In other words, the auditor
should enquire into the rightness of the amount of expenses.
iv. Whether the amount of expenses is within the sanctioned limit. If it exceeds the limit, the
auditor should enquire into whether approval from shareholders has been obtained in this
regard.
v. Whether preliminary expenses have been written off in the year in which they are incurred as
required under AS 26, Accounting for Intangible Assets.
In order to gather the above information, the auditor should go through following documents,
(a) Invoices, bills etc. to ensure that expenses pertain to formation of the company,
(b) Contracts, agreement, purchase order etc. to ensure authorisation of expenses.
(c) Correspondence with various suppliers, their quotations, price comparative statement etc. to ensure Tightness of
expenses,
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(d) Board's Resolution, Prospectus etc. to see that amount is within limit,
(e) Agreement with promoters to see the terms and conditions of reimbursement of expenses to them.
(iv) Payment of dividend

The following points must be considered while vouching the payment of dividend in case of a public company
andprivate company which is a subsidiary of a public company –
(a) Examine special provisions, if any, in the Memorandum and Articles of Association regarding payment of
dividends.
(b) See that in declaring dividends, provisions of the Companies (Transfer of Profits to Reserves) Rules, 1975 have
been complied with.
(c) Examine the Board‘s minutes regarding rate of dividends.
(d) Examine the company‘s procedure for payment of dividends including unclaimed dividends and ensure that
they are not paid without adequate safeguards as to identification of the payee, checking of the payee‘s claims
etc. In this connection, internal control of the company should be examined.
(e) Verify the shareholders‘ register and ensure that the names of all shareholders who are entitled to receive
dividends have been included.
(f) Check the computation of dividends with reference to rate of dividends and number of shares held.
(g) See counterfoils of cheques for amounts paid to shareholders.
(h) Examine, whether all the conditions for payment and source of dividend as specified on section 205, 205A and
205B, have been complied with. It may be noted that the Institute has issued a Guidance Note on Audit of
Payment of Dividends.
(v) Interest & dividend received

The following points must be considered while vouching the receipt of interest & dividend in case of a public
company and private company which is a subsidiary of a public company –
(a)
The auditor should examine the separate ledger accounts kept for each investment or loan given.
(b)
The dates on which dividends or interest payments generally fall due should also be noted.
(c)
The counterfoil of dividend warrants should be seen. These should be tallied with the records of investment.
(d)
Where investments are sold ex-dividend, it should be seen that the dividends are subsequently received.
(e)
Similarly when a purchase is on cum dividend basis, the receipt of dividend should be checked.
In case of interest on deposit with banks, verification should be done by reference to the bank‘s statement and the
(f)
agreed rate of interest.
(g) The receipts of dividends and interest should be addressed to the bank statement for encashment.
(h) It should be ensured that the interest and dividend received are credited to the respective account in full i.e., before
deduction of tax at source and the tax deducted at source should be debited to an appropriate account.
(i) It should be further seen that the certificate for tax deducted at source exists in each case.
Documents to be verified:
(a) The documents to be verified for interest received are (a) Loan agreement (b) Fixed deposit or debenture
certificate (c) Interest warrant for debenture (d) Mortgage deed (e) Bank pass book etc.
(b) The documents to be verified in connection with dividend are (a) Dividend warrant (b) Investment Register (c)
Bank pass book. For checking the interest, the auditor should
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(vi) Rent received: -

The following points must be considered while vouching the rent received:
(a) Before proceeding to vouch rental receipts, copies of bills issued to tenants should be test checked by reference to
copies of tenancy agreements and bills of charges paid by the landlord on behalf of the tenants, i.e., house tax,
water tax, electricity consumed, etc.
(b) The entries in the Rental Register in respect of rents accrued afterwards should be verified by reference to copies
of rental bills.
(c) The amounts collected from tenants on account of rent should be checked by reference to receipts issued to them.
These afterwards should be traced into the Rental Register.
(d) At the end, the register should be scrutinized to find amount or rents which have not been recovered
and are considered bad or irrecoverable, for deciding whether these should be written off or as provision against
the same should be made.
(e) An overall check over rental receipts is also necessary. For this purpose, particulars of total
accommodationavailable for being let out, in different buildings, belonging to the client, should be ascertained.
(f) It should be verified that every available accommodation has been let out and rental income has been duly
accounted for.
(g) If it is reported that one or more tenements have remained vacant a certificate in respect thereof should be obtained
from the client.
(vii) Vouching of cash sales

Fraud frequently occurs in the areas of cash sales. So the auditor should be very careful while vouching
cash sales. He will adopt following procedures for this purpose:
i. To check the internal check to assess its efficacy in preventing fraud.
ii. To verify each sale with copies of cash memos. If the number of transactions is large, a cash
sales summary book is maintained from which the daily total of cash sales is recorded in the
cash book. So cash memos will be traced in cash sales summary book and daily totals of
summary book are traced in the cash book. He will see that dates of cash memos tally with the
dates of entry in the cash book.
iii. To verify the calculations of price of goods sold on selective basis and to check the price with
reference to the price list.
iv. To ensure that there is proper authorization of discount and rebate.
v. To see that cancelled cash memos have signature of responsible officer.
vi. To make sure that total cash sales of the day is deposited into bank next day. Pay-in-slips
should be verified in this respect.
vii. To see that proper sales tax declaration forms have been obtained from customers for charging
sales tax at reduced rate.
3. What do you mean by Verification of Assets? Distinguish

between vouching & verification.
MEANING OF VERIFIACTION OF ASSESS
According to Spicer and Pegler, verification of asses to an ―enquiry into the value, ownership and title,
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existence and possession and the presence of any charge on the assets‖.
Verification is a process by which an auditor satisfies himself about the accuracy of the assets and
liabilities appearing in the Balance Sheet by inspection of the documentary evidence available.
Verification means proving the truth, or confirmation of the assets and liabilities appearing in the Balance
Sheet.
Difference between Vouching and Verification
Points of distinction Vouching Verification

1. Meaning It refers to the examination of Verification refers to the
all documentary evidences in examination of disclosure of assets
supportof transactions recorded and liabilities inthe balance sheet.
in the books of accounts.
2. Objective Vouching is carried out with the Verification is done for confirming the
objective of establishing the ownership, existence, possession
authenticity, genuineness and and valuation of assets as stated in
correctness of transactions the balance sheet.
recorded in the primary books of
accounts.
3. Level of Enterprise Vouching is usually done by junior Verification is done by senior level
level audit clerks with sound audit clerks or the auditor himself as
knowledge in accounting principles. it requires expertise not only in
account- ting principles but also in
various compliance and
substantive audit procedures and
statutory requirements.
4. Point of Review Vouching involves examination of Verification of assets and liabilities is
transactions at their point of origin. carried out at the Financial
Statementsstage.
5. Nature of Items Vouching is concerned with all Verification is concerned only with
items of Statement of Profit and items of Balance Sheet.
Loss and with those Balance sheet
items undergoing change during
theyear.
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6. Aspects under Review Vouching verifies— For Assets: It involves enquiry into the
(i) Date of voucher; value, ownership, existence, charge
(ii) Existence of proper and proper disclosure in Financial
authorization of the Statements.
transactions; For Liabilities: To see whether they are
(iii) Supporting evidence truly owed by the entity and
i.e., Bill, challan, disclosedat correct amounts.
inspection report, etc.;
(iv) Propriety of
transactions;
(v) Completeness;
(vi) Proper accounting
4. How would you verify the following assets &

liabilities
(a) Stock
As the correctness of the profit of a business depends to a great extent on the accuracy of the
valuation placed on the closing stock, it will be readily appreciated that the verification of this asset forms
one of the most important part of an auditor‘s duty. While verifying the stock-in-trade the auditor has the
following duties –
(a) Ascertain the method of stock-taking and the basis of valuation.
(b) Ensure that the stock-sheets have been subjected to a good internal check, e.g. they are certified as
to have taken prices, extension and additions while determining the stock and also generally
approved as correct by managing director.
(c) Check calculations and additions.
(d) Check a few of the important items with actual invoices as to prices.
(e) Examine some of the quantities in stock-sheets with those shown by the stock books, if such stock
books are kept.
(f) Ascertain that the stock is valued on the same basis as in the previous year.
(g) Ascertain that obsolete and unsalable stock is shown at fair market prices.
(h) Compare the percentage of gross profit on turnover with that of the previous period and also
enquire into the cause of any notable fluctuation.
(i) Ensure that the goods entered as sold and not delivered are not included.
(j) Ensure that the goods bought and not entered in the invoice book are included.
(k) (i) Ascertain that the value of unfinished goods is taken at actual cost and the basis of valuation is the
cost of the materials consumed and the wages spent thereon upon the date of the Balance Sheet.
Sometimes a percentage is added in the above to cover the factory cost, such as foreman’s wages,
fuel, power, lighting, heating, depreciation of plant etc. (ii) In case of finished goods, a reasonable
percentage in respect of office cost has also to be added to the works cost.
(l) See that the goods sold on approval basis are properly included in closing stock.
(m) See that the stock held does not include goods held on consignment as an agent.
(n) Examine carefully the stock sheets and ensure that the stock includes only the goods dealt with by
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the client and does not include any asset purchased.

(o) Confirm that stock has been valued at cost or market price, whichever is less.
(p) Obtain from a responsible officer of the organization a certificate regarding the procedure followed
in valuation of stock.
(q) Obtain a certificate from client certifying that :
i. Physical verification of stock is done.
ii. All goods included in the stock are property of the company.
iii. Cut off procedure is properly followed. (Cut off is a transaction which separates one
accounting year from the next accounting year. Last document nos. of goods 193 received
notes, goods accepted notes, debit and credit notes etc. should be obtained at the time of
stocktaking).
iv. The basis of valuation is the same as was followed in the previous year.
(b) Investment
Investment may be a share certificate, government bond certificate, government loan certificate, debenture
certificate, etc. For verification of such securities, the following procedure is adopted.
(a) Obtain a schedule of investments in hand at the beginning of the audit period. Obtain the details of
description of investments together with distinctive number of face value, date of purchase, book
value, market value, rate of interest, date of payment of interest or, date around which dividend is
declared, etc., with also the details of interest or dividend received along with tax deducted at source.
(b) Add to the above list, purchase made during the year and delete the investments sold during the year
with all the above details.
(c) Balance this schedule and compare the balance with general ledger and Balance sheet.
(d) Check the market value of investments with reference to stock exchange quotations or other suitable
method, on Balance Sheet date and see that the values are disclosed in the Balance sheet.
(e) Inspect the certificates or securities physically on the Balance Sheet date.
(f) Compare the income received with amount due and adjust the accrued income.
(g) Confirm the uncalled liability on partly paid shares held as investment shown as contingent liability by
way of a note to the Balance Sheet.
(h) See that adequate provision is made for any shortfall in the book value of investment shown in the
Balance Sheet.
(i) See that, regarding the investment in subsidiaries, disclosure requirement of the Companies Act, 2013
are complied with.
(j) For investment in the capital of partnership, the partnership deed and copy of accounts of partnership
firms, is to be verified. Also adjust the share of profit and loss for the partnership period.
(k) Investments which stand in the name of persons other than that of the company are to be confirmed
with appropriate sanction.
(l) For investment lodged with others as security or lying with banks or share brokers, obtain a certificate
from the parties concerned.
(m) In case of application money paid for shares which are still to be allotted, that fact is to be specially
disclosed in the Balance Sheet.
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(c) Debtors:
Sundry Debtors represents the amount recoverable from the customers for sale of goods or rendering of
services.
(a) The under mentioned procedure should be applied for verification of `Book Debts’ or `Sundry
Debtors’ after receiving a schedule or list of debtors from the client.
i. Direct confirmation of balances from debtors by sending confirmatory letters.
ii. Year-end Scrutiny of ledgers.
iii. Verification of the position of debts considered bad or doubt ful. (d) Compliance with
legal requirement or presentation.
(b) The auditor should arrange to send the letter of confirmation of balances by the client as per
client’s records and see that the reply of confirmation is forwarded to his office directly. Usually
this should be sent within 15 or 20 days of close of the year under the supervision of the audit staff.
After the reply is received, the same should be tallied with the balances shown in the Debtors
Ledger and difference properly reconciled.
(c) After the said procedure is carried out, he should carry out a thorough scrutiny of the debtor’s
individual accounts. Wherever the number of debtors is very large, Test Checks can be applied.
(d) While scrutinizing the ledger, the auditor should focus the light on discounts, returns, cash
received, rebates allowed, goods returned etc.
(e) On ascertaining the balances of the debtors as genuine and correct, the auditor has to verify the
debtors to find out bad or doubtful debts to make a provision for the same.
(f) After ascertaining the position of bad or doubtful debts, he should see that the legal requirements
of Schedule III to the Companies Act, 2013 are complied with. For this purpose, the debtors are to
be classified as : (a) Outstanding for a period of more than six months ; and (b) Other debts.
(g) Over and above this, other requirements like debts considered as good and which are fully secured,
debts due from the officers, directors, managers of the company, etc., are to be ascertained for
disclosure.
(h) If the customers have purchased the goods on hire purchase system and some of the instalments
are not due, the same is not to be shown as `stock out on hire purchase’.
(i) Likewise, if the goods are sold on `return or approval’ basis, such customer cannot be shown as a
debtor at the close of the year.
(j) Further, whenever there are credit balances in some debtors account, the same are not to be
deducted from other debtors debit balances and net balance is not to be shown in the assets side,
but former is to be shown as Sundry Creditors.
(d) Leasehold Property :

Normally the lease or right to use the property is granted for certain number of years. At the expiry of the
period of lease, the rights go back to the original lessor. Various steps involved in the verification of
leasehold rights are stated below.
(a) Inspect the lease agreement to ascertain the amount of premium paid, period of lease, other terms
and conditions, like maintenance, insurance, etc.
(b) See that the lease is properly registered with the Registrar because a lease for a period exceeding
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one year is not valid unless it has been granted by a registered document.
(c) Ascertain those conditions, the failure of which might result in the forfeiture or cancellation of lease,
and see whether they have been properly complied with.
(d) See whether sub-lease is valid as per lease agreement, in case if it is granted, by referring to sub-
lease agreement.
(e) See that the premium paid and acquisition expenses of lease are being amortised (written off) over
the period of lease adopting a suitable basis.
(f) In case, any provision is to be made under the dilapidation clause for payment on the expiry of the
term of lease, see that the same is properly and continuously provided.
(g) In case of leasehold land, if any building is constructed by the lessee, see the position and ascertain
the correct method of presentation of such expenditure for disclosure in the Balance Sheet
(e) Plant & Machinery:

(a) Now-a-days as per provision of the Companies Act, 2013 every company is required to maintain a
Fixed Asset Register showing full particulars including cost, location, depreciation, details of purchase,
expenses capitalised, etc. Therefore, the auditor should ask for such a register maintained by the client
and see that all items of plant and machinery are recorded properly giving full details.
(b) As per the provision of the same section, all fixed assets are required to be physically verified by the
management. Therefore, the auditor should enquire whether such physical verification was
undertaken or not. If yes, he should ask for necessary papers pertaining to the same. If there is any
discrepancy, reasons for the same should be asked.
(c) Any new purchase made during the year are to be verified with reference to purchase invoice and
other papers regarding installation of the same.
(d) Total value of plant and machinery as shown by Fixed Asset Register should tally with ledger account
maintained in the financial books.
(e) Where any item of plant and machinery is sold, scrapped or transferred the auditor should check
relevant entries for the same and verify that they are removed from the Fixed Assets Register.
(f) The auditor should verify that adequate depreciation is provided on all items of plant and machinery
and method of depreciation is consistently followed from year to year.
(g) Auditor should see that the entire plant and machinery stands in the name of the client and are free
from any charge or encumbrances. If plant and machinery is mortgaged, then he has to verify that the
documents are properly executed and mention of mortgage is made in the Balance Sheet.
(h) He will ensure that plant & machinery have been disclosed under Non-Current assets as Fixed Assets
as per Schedule III Companies Act, 2013.
(f) Goodwill:
The duty of an auditor regarding verification of goodwill is stated below:
(a) Whenever the company has purchased or acquired a running business and has paid for it an amount, in
excess of the book value of its net assets, the excess is called `Goodwill’. It can be verified from the
vendor’s agreement and the auditor has to see whether there is a specific sum which is paid or
whetherit is the excess of price paid over the tangible assets and see that it is properly recorded.
(b) When the company has written up the values of all its assets on a revaluation and has raised a Goodwill
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Account in the books, the Goodwill appears in the Balance Sheet. In this case, the auditor has to see
thebasis of valuation and get satisfied about the same. If he is not satisfied, the fact should be reported
to the shareholders.
(c) He has to see that such excess is credited to a Capital Reserve or Revaluation Reserve and no dividend
is being declared from it.
(d) He has also to see the disclosure requirement of Schedule VI and ensure that the fact are disclosed for
5 years subsequent to the date of revaluation.
(e) Sometimes, Goodwill which is written off earlier may be brought back in the books of account to adjust
the debit balance of Profit and Loss account. In this case, the auditor should investigate the fact and
satisfy in full before approving such method of creating Goodwill. He should also refer to the board
resolution. In case he is not satisfied, the fact should be reported to the shareholders.
(f) If Goodwill has been created by any other means, the auditor should see that all relevant facts are
properly disclosed and are supported by documentary evidence.
(g) Patent and Trade Mark:

(a) The ownership of patent rights is verified by inspection of certificate issued for grant of patent, by the
prescribed authority.
(b) If it has been purchased, the agreement surrendering it in favour of the client should be examined.
(c) If there are a number of patents held by the client, obtain a schedule giving the full details thereof or
verify with reference to the register maintained by the client.
(d) It must be verified that patent rights are alive and legally enforceable and renewal fees have been paid
on due dates and charged to Revenue Account. The last renewal receipt should be examined to
ascertain that the patent has not lapsed.
(e) See that the patents are properly registered in the name of the client only.
(f) See that the cost of patent is being written off over its useful period of life.
(g) In case the patent is acquired, cost paid for the same and all relevant expenses are to be capitalized.
(h) If the patent is created by the client by the research experiments and laboratory work, only the actual
expenses incurred for it in the process are to be capitalised.
(h) Copyright:
(a) The auditor has to examine the written agreement of assignment along with the royalty paid to the
authors etc., for such copyrights.
(b) He has to see that such assignments are properly registered.
(c) If the client is the owner of many copyrights, the auditor should ask the client to prepare a schedule of
copyrights and get the detailed information to confirm that the same is shown in the Balance Sheet.
(d) Regarding the value of copyrights, it should be remembered that this asset has no value in the long run.
Hence, value is determined on revaluation basis and period of copyrights.
(e) If any copyrights does not command the sale of any books, then the same should be written off in such
year. The auditor has to verify the same in detail.
(i) Cash in hand:
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(a) Special care is necessary with regard to verification of cash balances. There can be no certainty that the
cash produced for inspection was in fact held by the custodian.
(b) For this reason, the cash should be checked not only on the last day of the year, but also checked again
sometime after the close of the year without giving notice of the auditor‘s visit either to the client or to
his staff.
(c) If there is more than one figure for cash balance e.g. when there is a cashier, a petty cashier, a branch
cashier and in addition, there are imprest balance with employees, all of them should be checked
simultaneously, as far as practicable, so that the shortage in one balance is not made good by transfer of
amount from the other.
(d) It is desirable for the cashier to be present while cash is being counted and he should be made to sign
the statement prepared, containing details and the cash balance counted. If he is absent at the time the
cash is being verified, he may subsequently refute the amount of actual cash on hand which may put the
auditor in an embarrassing position.
(e) If the auditor is unable to check balance on the date of the Balance Sheet, he should arrange with his
client for all the balance to be banked and where this cannot conveniently be done on the eve of the
close of the financial year, it should be deposited the following morning. The practice should also be
adopted in the case of balance at the factory, depot or branch where cash cannot be checked at close of
the year.
(f) Should this not be possible, the auditor should verify the receipts and payments of cash upto the date he
counts the cash. This should be done soon after the cash balances have been counted. The cash book of
the day on which the balance is verified should be signed by the auditor to indicate the stage at which
the cash balance was checked.
(g) If any cheques, or drafts are included in cash balance the total there of should be disclosed.
(h) If there is any rough Cash Book or detail of daily balance are separately kept, the auditor should test
entries from the rough Cash Book with those in the Cash Book, to prove that, entries in the Cash Book
are correct.
(i) If the auditor finds any slip, chit or I.O.U‘s in respect of temporary advances paid to the employees,
included as part of the cash balance, he should have them initialed by a responsible official and debited
to appropriate accounts.
(j) Bank Balance:

(a) To verify cash at bank, the auditor should examine the bank pass book and compare it with the balance
as shown by the bank column of the cash book.
(b) Check bank reconciliation statement with bank statement / pass book of subsequent period.
(c) The auditor should get a certificate regarding the balance at the bank directly from the bank.
(d) Ensure that the balance as shown by the cash book is brought into the balance sheet as `Cash and Bank‘
and not `Balance as shown by the pass book‘.
(e) The auditor should also see that the `cheque outstanding‘ and `cheques not yet collected‘ are genuine
and not made up in order to conceal the deficiency. If some of these cheques are more than six months
old, he should make inquires, and have them reversed in the books of accounts.
(f) Cash in Fixed deposits with the bank can be verified by examining the deposit receipt, or getting a
certificate from the banker.
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(g) If there are more than one bank account such as `Dividend Account‘. ―Interest Account‘ etc. all such
accounts should be checked and the balances should be verified upon the same date. Information
regarding their balance should also be obtained from the bank directly.
(h) If the bank account shows an adverse balance and the client has deposited any security for the overdraft,
the auditor should enquire from the bank the particulars of the security and the amount of the interest
charged.
(k) Secured loan:

Verification of secured loan may be carried out by employing the following procedures:
i. The auditor should examine the Article of Association and Memorandum of Association to
know the power of the company to raise loan and its limit.
ii. He is required to go through the minutes of Board to see whether there is authorization of
raising loan.
iii. The auditor should enquire into the purpose of taking loan and whether the amount of loan
hasbeen utilized for that purpose.
iv. The loan agreement entered into between the client and borrower should be examined to
know whether terms and conditions are in the interest of the company.
v. The auditor will see whether there is fixed charge or floating charge on assets for taking
secured loan. In case of fixed charge, the particular asset placed as security for loan should be
clearly stated in the balance sheet.
vi. He will verify whether terms and conditions of taking loan have been duly complied with.
vii. The auditor will obtain certificate from lenders to confirm the validity of the amount of loan
standing on the balance sheet data and any outstanding interest thereon.
viii. He will see that secured loan has been properly disclosed in the balance sheet as per Schedule
III of the Companies Act, 2013.
(l) Creditors:
(a) The auditor should ask for a schedule of creditors and check the same with the purchase ledger as that is
already examined by him.
(b) He should ensure that all purchase made during the year especially at the end of the year are included in
the accounts of the creditors.
(c) In case of suspicion about any creditors, the auditor with the consent of the client can ask the statement
of account to be sent and verify the same by scrutinizing ledger accounts.
(d) He should see the various debits given for discount, goods returned etc, and confirm that the same are
genuine.
(e) The auditor should ask for the reason for not paying any overdue creditors.
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(m) Contingent liability:

Contingent liabilities are those liabilities which may or may not arise in the future for payment. The
auditor‘s duty is to see that all known and unknown liabilities have been brought into the accounts at the
date of the Balance Sheet and have been shown in the Balance Sheet separately as such.
Examples:
(a) Liabilities on Bills Receivable discounted and not matured
(b) Liabilities for calls on partly paid shares :
(c) Liability under a guarantee :
(d) Liability for cases against the company not acknowledged as debts :
(e) Liability in respect of arrears of Dividend on Cumulative preference Shares :
Auditor’s duty :
(a) The auditor should very carefully check the various contingent liabilities named above. There may be
some such liabilities for which no provision has been made in the books but merely a note has been
made at the foot of the Balance Sheet, e.g. Bills Receivable which have been discounted and which
have not matured at the date of the Balance Sheet, arrears of fixed cumulative dividends, etc.
(b) For liabilities in respect of which provision has to be made in the Balance Sheet, viz a suit, etc., the
auditor should examine such cases and ascertain the amount to be specifically reserved for the
purpose.
(c) The auditor should examine the Director’s Minute Book, correspondence made with the legal advisers
and the information obtained from the officials of the business.
(d) He has to ensure that proper provision has been made for all such liabilities and if he is not satisfied,
he should mention the fact in his report.
(e) It is to be remembered that the requirements of the Companies Act regarding the contingent liability
should be complied with in the Balance Sheet on the liabilities side.
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Unit – 5
Company Audit
Eligibility for appointment of Auditor:
Section 141 of the Act lays down the eligibility of appointment of a Company Auditor.
Qualification of an Auditor:
The following persons are eligible for appointment of company auditor:
 Individual: A person who is a Chartered Accountant holding certificate of practice.

 Firm: A firm where all partners are Chartered Accountants holding certificate of practice.
 Limited Liability Partnership (LLP): An LLP can be appointed as company auditor where the persons
authorized to sign on behalf of the firm are Chartered Accountants.
Auditor’s Disqualification:
Section 141(3) of the Act does not allow the following persons to be appointed as auditor:
(i) Body Corporate other than LLP;
(ii) An Officer or Employee of the Company;
(iii) A person who is a partner or who is in employment of an officer or employee of the company;
(iv) A person or his relative or a partner who is indebted to the company in excess of Rs. 5,00,000 or is
holding security or interest in the company in excess of Rs. 1,00,000 or has given a guarantee or
provided any security in connection with the indebtedness of any third person in excess of Rs.
1,00,000;
(v) Any person who has business relation either directly or indirectly with the company or its
subsidiary or its holding company or associate or subsidiary of such holding or associate company.
(vi) A person whose relative is a director of the company or employed by the company as a director or
key management personnel in the company;
(vii) Any person who is employed elsewhere or is an auditor of more than 20 companies.
(viii) A person who is convicted of fraud by a court and a period of ten years has not elapsed from
the date of such conviction.
(ix) A person who directly or indirectly provides non audit services to the company or its holding or
subsidiary company on the date of such appointment.
Definition of “relative” [Section 2(77)]
“Relative”, with reference to any person, means anyone who is related to another, if –
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(i) They are members of a Hindu Undivided Family;

(ii) They are husband and wife; or
(iii) One person is related to the other in such manner as may be prescribed.
Rule 4 of the Companies [Specification of definitions details0 Rules, 2014, a person shall be deemed to
be the relative of another, if he or she is related to another in the following manner, namely:
1. Father (including step-father)

2. Mother (including step-mother)
3. Son (including step-son)
4. Son’s Wife
5. Daughter
6. Daughter’s Husband
7. Brother (including step-brother)
8. Sister (including step-sister)
Disqualification of Auditor Subsequent to Appointment:
A person shall automatically vacate his office as an auditor after his appointment if he is disqualified on
account of any of the provisions under section 141(3). Such vacancy would be treated as a casual vacancy.
Appointment of Auditor:
Section 139 of the Act lays down the provision relating to the appointment of auditors of all companies
(both listed and unlisted).
Appointment of Auditors of Companies (Other than Government Companies):
First Auditor [Section 139(6)]
 First auditor is appointed within 30 days of registration of the company by the board of directors.
 If the board fails to appoint the first auditor with 30 days, the board shall inform the members who
will appoint the first auditor within 90 days by convening an Extra Ordinary General Meeting (EGM).
 The first auditor shall hold office till the conclusion of the first Annual General Meeting (AGM).
Subsequent Auditors [Section 139(1)]
 Every company shall appoint an auditor in the first AGM.

 The auditor so appointed at the first AGM shall hold office till the conclusion of sixth AGM and there
after till the conclusion of every sixth AGM.
 The company shall obtain a written consent and certificate from the auditor that he has fulfilled the
criteria provided in Section 141.
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 The company shall inform the auditor about his appointment and also file notice with the registrar
about the appointment within 15 days of the meeting in which the auditor is appointed.
Casual Vacancy [Section 139(8)]
 Any casual vacancy caused shall be filled in by the board of directors within 30 days.
 If the casual vacancy is due to resignation of the auditor then the members shall fill in the vacancy
within 3 months at the recommendation of the board in the general meeting. The auditor so
appointed shall hold office till the conclusion of the next AGM.
Appointment of Auditors of Government Company:
A company is a ‘Government Company’ if it is owned or controlled by the Central Government or State

Government or pertly Central Government and partly by one or more State Governments and includes
those companies which are subsidiary of such government company.
First Auditor [Section 139(7)]
 The first auditor of the government company is appointed by the Comptroller and Auditor General
(CAG) of India within 60 days of registration of the company.
 If the CAG fails to appoint the first auditor within 60 days the board shall in that case appoint the
auditor within next 30 days.
 In case of failure by the board to appoint the auditor within 30 days, the board shall inform the
members of the company. The members shall appoint the auditor within 60 days at an EGM.
 The first auditor shall hold office till the conclusion of the first AGM.
Subsequent Auditor [Section 139(5)]
 The CAG shall appoint a duly qualified person as an auditor for every financial year within 180 days
from the commencement of the financial year.
 The auditor appointed by CAG shall hold office till the conclusion of the AGM.
Casual Vacancy [Section 139(8)]
 Any casual vacancy arising in the office of the auditor shall be filled in by CAG within 30 days.
 If the CAG does not fill in the vacancy within 30 days then the board shall fill in the vacancy within
next 30 days.
 The auditor so appointed shall hold office till the conclusion of the next AGM.
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Rotation of Auditor
Applicability of Rotation of Auditor [Section 139(2)]:
Companies (Audit and Auditors Rule), 2014 (CAAR) states the ‘Class of companies’ for which Section 139(2)
shall be applicable. ‘Class of companies’ means the following companies other than one person companies
or small companies:
1. All unlisted Public Companies having paid up share capital of Rs. 10 crores or more;
2. All Private Limited Companies having paid up share capital of Rs. 50 crores or more;
3. All companies having paid up capital below the limit (mentioned in point 1 & 2) but having public
deposits of Rs. 50 crores or more.
Manner of Rotation:
Individual Auditor:
 No individual shall be appointed as an auditor of a company for more than one term of five years.
 An individual on completion of his term as an auditor of five years shall not be eligible for
reappointment for the same company for a period of five years from the completion of his term.
Firm as an Auditor:
 An audit firm shall not be appointed as a company auditor for more than two consecutive terms of
five years.
 A firm which has completed its two terms of five years shall not be eligible for reappointed for five
years from the completion of its term.
Restriction on common partner: A firm which has completed its two consecutive term of five years in a
company may have one or more common partners in another firm; the other firm shall not be eligible for
appointment as an auditor in the company for another period of five years.
Role of Audit Committee: All companies which are required to constitute an Audit committee under
Section 177 of the Act shall appoint an auditor including filling up of the casual vacancy after taking into
consideration the recommendations of the Audit Committee.
Reappointment of Retiring Auditor:
As per Section 139(9) a retiring auditor may be reappointed in the AGM, if:
a) He is not disqualified for reappointment.
b) He has not given a written notice for his unwillingness for reappointment.
c) A special resolution has not been passed at the meeting –
(i) Appointing some other auditor, or
(ii) Providing expressly that he shall not be reappointed
Section 139(10) states that, if any auditor if not appointed or reappointed at the AGM, the existing auditor
shall continue to be the auditor of the company.
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Removal of Auditor
Removal of Auditor before expiry of his term [Section 140(1)]:
 An Auditor appointed under Section 139 may be removed from his office before the expiry of his
term by a special resolution of the company.
 Prior approval of the Central Government is required in this regard and the following conditions as
per Rule 7 of CAAR, 2014 are to be fulfilled:
a) An application with prescribed fees shall be made to the Central Government in Form ADT-2.
b) The application shall be made within 30 days of passing the boards resolution.
c) A general meeting must be held by the company within 60 days of receipt of approval of the
Central Government for passing the special resolution for such removal.
 The auditor must be given a reasonable opportunity of being heard before taking any action of his
removal.
Removal of Auditor by tribunal [Section 140(5)]:
The tribunal may on its own (suo moto) or on application made to it by the Central Government or by any
other person concerned may direct the company to change its auditor if it is satisfied that the auditor has
acted fraudulently.
Resignation of Auditor [Section 140(2) & 140(3)]
Filing of Statement [Section 140(2)]
 The auditor who has resigned must file a statement in prescribed form (ADT-3) with the company
and the registrar of companies within 30 days of his registration indicating the reasons and other
relevant facts with regard to his registration.
 In case of a Government Company, the auditor must submit such statement with the CAG.
Fine for non-filing [Section 140(3)]
 Failure to file the statement under Section 140(2) shall be punishable with a fine of not less than Rs.
50,000/- or remuneration of the auditor, whoever is less but such fine may extend up to Rs.
5,00,000/-.
Appointment of new auditor in place of a retiring auditor [Section 140(4)]
Section 140(4) of the Act has laid down the following procedure for appointment of a new auditor in place
of the retiring auditor:
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a) Special Notice: A special notice shall be required for resolution at the AGM: (a) appointing a person
as an auditor other than the retiring auditor, (b) expressing that the existing auditor shall not be re-
appointed
b) Copy to retiring auditor: On receipt of notice of the resolution the company shall immediately send
the copy of the notice to the retiring auditor.
c) Right to make representation: The retiring auditor has the right to make a representation against his
removal in writing to the company and request it to be notified to the members. The company shall
notify to its members unless the notification is received too late.
d) Right to being heard: If the representation of removal of auditor could not be notified then the
auditor has the right to have the representation read at the meeting. He has the right to be heard
orally.
e) Curtailing of auditor’s right: The company or any aggrieved person can make an application that the
auditor has abused the rights conferred to him under section 140(4). The copy of the notice need not
be circulated or read out at the meeting if the tribunal is satisfied that the auditor has abused his
rights.
After complying the above procedure the company can appoint a new auditor in its AGM.
Audit Committee [Section 177]
Role of Audit Committee:
According to Section 177, where a company is required to constitute an audit committee, all appointment
of auditor (including casual vacancy) shall be made after considering the recommendations of the
committee.
Requirement of Audit Committee:
All listed companies shall constitute an Audit Committee. Apart from the listed public companies the
following types of companies must constitute an audit committee:
(i) All public companies with a paid up capital of Rs. 100 crores or more;
(ii) All public companies having a turnover of Rs. 100 crores or more;
(iii) All public companies having outstanding loans or borrowing or debentures or deposits aggregation
Rs. 50 crores or more.
 For the above purpose the figures on the date of last audit financial statements are to be considered.
Comparison of Audit Committee:
The audit committee shall consist of the following:

a) At least 3 directors of which majority of them are independent directors.
b) Majority of the members of the committee including the chairperson shall have the ability to
understand the financial statements.
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Functions of the committee:
The audit committee shall function as within the scope specified by the board in writing. However, it
should include: -
(i) The recommendation for appointment, remuneration and terms of appointment of the company
auditor;
(ii) Review and monitor of the auditors independence and performance, review of the effectiveness of
effectiveness of the audit process;
(iii) Examination of financial statements and audit report;
(iv) Approval or Subsequent modification of transactions of the company with related parties;
(v) Security of inter-corporate loan and investments;
(vi) Valuation of the undertaking or assets of the company whenever necessary;
(vii) Evaluation of international financial control and risk management system;
(viii) Monitoring the final use of fund raised through public offer.
Powers of the committee:
The audit committee may exercise the following powers, whenever necessary:
a) To call for comments from the auditors about internal control system, scope of audit and
observations of the auditor.
b) Power to review the financial statements before they are submitted to the board and also to have
discussions relating the financial statements with internal and statutory auditors and the company
management.
c) Power to investigate any above mentioned matters or any other matter referred to it by the board.
The committee has the power to avail professional advice from external source for this purpose.
d) The auditor and key management personnel shall have the right to be heard in the audit committee’s
meeting where the auditor’s report is considered.
Remuneration of Auditor [Section 142]
Section 142 of the Companies Act provides the following:

 The remuneration of the first auditor appointed by the Board of Directors is fixed by the board.
 The remuneration of the auditor appointed by the shareholders in the general meeting os fixed in the
said meeting or fixed in such a manner as decided by the members in the meeting.
 The remuneration shall in addition to the fees payable may include:
(i) Any expenses incurred by the auditor in connection with the audit, and
(ii) Any facility provided to him.
The remuneration shall not include any remuneration paid to him on account of any other services
rendered by him at the request of the company.
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Ceiling on number of Audit:

An auditor who has been appointed or re-appointed under section 139 of the Companies Act, 2013 shall
adhere to the ceiling on the number of audit as laid down Section 143(3)(g)
Individual: The ceiling on number of audits for an individual stands at 20.
Partnership Firm: The ceiling on number of audits for a firm stands at 20 per partner. However, a partner
who is in full time employment elsewhere shall not be considered while calculating the audit ceiling for the
firm.
Example: If a firm has 5 partners then the overall ceiling will be 100 (5 X 20) company audits.
Joint Audit: When more than one individual or firm is appointed as the statutory auditor of a company it is
known as joint audit. Any joint audit held by an auditor shall be counted as one unit for the purpose of
calculating the ceiling of the number of audits held by him.
Part Audit: If an audit is appointed to audit even a part of the company’s accounts, it shall be counted as
one audit.
Rights of Auditor:
The companies act has laid down several rights of a company auditor. The principal rights provided by the
act are discussed below:
1. Right to access books and vouchers: Section 143(1) of the act provides the auditor with the right to
access the books of account and vouchers of the company at any time. He has the right to access
books and vouchers kept at the registered office of the company or elsewhere. He also has the right
to access all books and vouchers of the subsidiary and associate company which may be required for
consolidation of the financial statements of the company with its subsidiaries and associates.
2. Right to obtain information: The auditor has the right to seek any information and explanation from
the officer of the company which he may consider necessary for performing the duties of an auditor.
3. Right to receive notice and attend general meeting: The auditor has been entitled with the right to
attend the general meeting and receive all notices and communications of the general meeting which
the members are entitled to receive. He has the right to be heard in the meeting regarding any
matter which concerns him as an auditor (Section 146).
4. Right to report: The auditor shall make a report to the members of the company of all accounts
examined by him and all financial statements which are to be placed before the members in the
general meeting.
5. Right to get a report on branch accounts: The branch auditor shall examine the accounts of the
branch and he shall prepare a report based on such examination. He shall send the said report to the
company’s auditor who shall deal with it is such a manner as he thinks necessary.
6. Right to remuneration: The auditor has the right to get his agreed remuneration at the completion of
his job. However, if the services of the auditor are terminated by the client before the expiry of his
term, the auditor shall be entitled to full remuneration for the term.
7. Right to access to records of subsidiaries: An auditor of a company, which is a holding company,
shall have the right to access the records of all its subsidiaries required for consolidation of its
financial statements with that of the subsidiaries.
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8. Right to attend meetings of Audit Committee: The auditor shall have the right to attend the audit
committee’s meeting and the right to be heard in the committee’s meeting where the auditor’s
report is considered. The auditor, however, shall have no right to vote.
Auditor’s Lien
In accordance with the general legal principle, any person having lawful possession of others property on
which he has worked can retain such property for non-payment of his dues for the work done by him on
such property. Based on this principle, an auditor can exercise lien of books and documents kept at his
possession by his client for non-payment of fees for the work done on those books and documents.
Duties of Auditor:
Section 143 of the act identities the duties of the auditor which are summarized below:
a) Duty to inquire: It is the duty of the auditor to inquire into the following matter:
(i) Whether loan and advances made by the company are secured and the terms of loan are not
against the interest of the company.
(ii) Whether transaction represented by book entries are not prejudicial to the interest of the
company.
(iii) Whether personal expense has been shown as revenue.
(iv) Whether loans and advance have been shown as deposit.
b) Duty to report: As per section 143(2) of the act, the auditor shall make a report to the members of
the company. He shall report on the accounts examined by him and the financial statements which
are required to be placed in the general meeting.
c) Duty to sign the report: As per Section 145 of the Act it is the duty of the auditor to sign the auditor’s
report and also sign or certify other documents as required under the provisions of section 141(2) of
the act.
d) Duty to comply with Auditing Standards: Section 143(9) of the Act states that it is the duty of the
auditor to comply with the auditing standards during the audit procedure.
e) Duty to report on certain matters: As per Section 143(3), the auditor’s report shall state:
(i) Whether he has obtained all the information and explanations required for the purpose of the
audit;
(ii) Whether the company’s financial statements are in agreement with the books of accounts;
(iii) Whether the report of a branch audit done by some other person have been forwarded to
him and how he has dealt with such report;
(iv) Whether any director is disqualified from being appointed as a director;
(v) He should report any qualification, reservation or adverse remark relating to the maintenance
of accounts and any other matter concerned.
(vi) The report should disclose any observation by the auditor which is likely to have an adverse
impact on the functioning of the company.
f) Duty to report on Frauds: If the auditor believes that a single fraud of rupees one core or more has
been committed by any company’s officer or employee, it is the duty of the auditor to report the
matter to the central government within such time and manner prescribed.
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g) Duty to comply with direction by CAG: The audit report in case of government companies should
include:
(i) The direction, if any, issued by CAG regarding the manner in which the accounts are required
to be audited.
(ii) The actions taken on such direction and the impact of such action on the financial statement
of the company.
Joint Audit
When more than one individual or firm is appointed as the statutory auditor of a company it is known as
joint audit. In joint audit the expertise of two or more firms is pooled together to perform the audit. It is
common practice in large companies having diverse activities to appoint more than one chartered
accountant as joint auditor.
Advantages:
Joint Audit has the following advantages:

a) It secures pooling and sharing of expertise of more than one auditor.
b) Joint Audit ensures work performance of better quality.
c) The joint auditors enjoy the privilege of mutual consultation.
d) It improves the quality of the services provided to the client.
e) The work load of individual auditor is reduced.
f) It lowers the cost of conducting the audit work.
g) Joint audit ensures healthy competition amongst the auditors leading to better performance.
Disadvantages:
Joint Audit suffers from the following disadvantages:

a) Co-ordination problem may arise during the audit work.
b) Often there is lack of clear definition of responsibility.
c) In joint audit the areas of common concern are often neglected.
d) Sharing of audit fees.
e) There is uncertainty amongst the auditors about the liability of their work done.
f) Since more than one auditor is involved, there can be problem due to different standings of joint
auditors.
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Principle for Effective Conduct of Joint Audit:
SA 299 ‘Responsibility of Joint Auditors’ issued by ICAI lays down the guidelines in respect of joint audit.
Division of Work
In case of joint audit, the auditors so appointed shall have mutual discussion to divide the work between
them. They may divide the work in the following manner:
 The division of work may be in terms of identifiable units or specified area.
 Where division of work is not possible o to the basis of identifiable units due to the nature of
business of the entity, the work may be divided on the basis of items of assets or liabilities or
income or expenditure or with reference to time period.
 Some important areas of work or certain areas which are not divisible must be undertaken by the
auditors jointly.
 The specific areas of work which shall be carried out individually and that area which shall be
carried out jointly must be documented and communicated to the entity.
Co-ordination
 In course of audit, if one auditor comes across certain matter which is relevant to the area of other
joint auditor then he should inform the other auditor in writing.
 Such communication should be done either by a report or a note prior to finalization.
 If such matter is brought to the notice after submission of audit report, then the other joint auditor
shall not be responsible for such matter.
Responsibility of joint auditor
 Each auditor is individually responsible for the work allocated to him.

 On the other hand, they are jointly and severally responsible –
(i) For audit work which were not divided.
(ii) For matters which were brought to the notice of the joint auditors by anyone of them.
(iii) For decisions taken by the auditors jointly.
(iv) For examination of whether the financial statements of the concern and the audit report
are in compliance with the relevant statutory disclosure requirement.
Reporting Responsibility
 Joint auditors, in general, arrive at an agreed report.

 If the joint disagree with the report, they must express their opinion through a separate report.
 A joint auditor is not bound by the opinion of the majority of other auditors. In case of such
disagreement, he should express his opinion by a separate report
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1. What are the qualifications & disqualifications of an

auditor?
Qualification
(a) According to Provisions of Section 141(1) of the Companies Act, 2013 “a person shall be eligible for
appointment as an auditor of a company only if he is a chartered accountant within the meaning of
Chartered Accountants Act, 1949 and holds a valid Certificate of Practice.
(b) It has been further provided that the firm shall also considered to appointed by its firm name
whereof majority of partners practising in India are qualified for appointment as auditor of a
company.
(c) According to Provisions of Section 141(2) of the Companies Act, 2013, a firm including limited
liability partnership who are chartered accountants shall be authorised to act as auditor and sign on
behalf of the such limited liability partnership or firm.
Disqualification
As per section 141(3), following persons shall not be eligible for appointment as an auditor of a company:
1. A body corporate other than a limited liability partnership registered under the Limited Liability
Partnership Act, 2008;
2. An officer or employee of the company;
3. A person who is a partner, or who is the employment, of an officer or employee of the
company;
4. A person who, or his relative or partner—
i. Is holding any security of or interest in the company or its subsidiary, or if its holding or
associate company or a subsidiary of such holding company, of face value exceeding
rupees one lakh;
ii. Is indebted to the company, or its subsidiary, or its holding or associate company or a
subsidiary of such holding company, in excess of rupees five lakhs;
iii. Has given a guarantee or provided any security in connection with the indebtedness of
any third person to the company, or its subsidiary, or its holding or associate company
or a subsidiary of such holding company, in excess of rupees one lakh;
5. a person or a firm who, whether directly or indirectly, has business relationship with the
company, or its subsidiary, or its holding or associate company or subsidiary of such holding
company or associate company of such nature as may be prescribed;
6. a person whose relative is a director or is in the employment of the company as a director or
key managerial personnel;
7. a person who is in full time employment elsewhere;
8. a person or a partner of a firm who holds appointment as auditor of more than twenty
companies;
9. a person who has been convicted by a court of an offence involving fraud and a period of ten
years has not elapsed from the date of such conviction;
10. a person whose subsidiary or associate company or any form of entity is engaged on the date
of appointment in consulting and specialized services as provided in section 144 of the 2013
Act.
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2. State the provisions of the companies act regarding the
appointment of an auditor? [Section 139]
(1) Appointment of 1st auditors [Section 139]:

Subject to the provisions of this Chapter, every company shall, at the first annual general meeting, appoint
an individual or a firm as an auditor who shall hold office from the conclusion of that meeting till the
conclusion of its sixth annual general meeting and thereafter till the conclusion of every sixth meeting
and the manner and procedure of selection of auditors by the members of the company at such meeting
shall be such as may be prescribed:
(a) Provided that the company shall place the matter relating to such appointment for ratification by
members at every annual general meeting:
(b) Provided further that before such appointment is made, the written consent of the auditor to
such appointment, and a certificate from him or it that the appointment, if made, shall be in
accordance with the conditions as may be prescribed, shall be obtained from the auditor:
(c) Provided also that the certificate shall also indicate whether the auditor satisfies the criteria
provided in section 141:
(d) Provided also that the company shall inform the auditor concerned of his or its appointment, and
also file a notice of such appointment with the Registrar within fifteen days of the meeting in
which the auditor is appointed.
(2) Reappointment of auditors

No listed company or a company belonging to such class or classes of companies as may be
prescribed, shall appoint or re-appoint—
(a) an individual as auditor for more than one term of five consecutive years; and
(b) an audit firm as auditor for more than two terms of five consecutive years:
Provided that—
(a) an individual auditor who has completed his term under clause (a) shall not be eligible for re-
appointment as auditor in the same company for five years from the completion of his term;
(b) an audit firm which has completed its term under clause (b), shall not be eligible for re-
appointment as auditor in the same company for five years from the completion of such term:
(c) Provided further that as on the date of appointment no audit firm having a common partner or
partners to the other audit firm, whose tenure has expired in a company immediately preceding
the financial year, shall be appointed as auditor of the same company for a period of five years:
(d) Provided also that every company, existing on or before the commencement of this Act which is
required to comply with provisions of this sub-section, shall comply with the requirements of this
sub-section within three years from the date of commencement of this Act:
(e) Provided also that, nothing contained in this sub-section shall prejudice the right of the company to
remove an auditor or the right of the auditor to resign from such office of the company.
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(3) Casual vacancy:

Any casual vacancy in the office of an auditor shall—
in the case of a company other than a company whose accounts are subject to audit by an auditor
appointed by the Comptroller and Auditor-General of India, be filled by the Board of Directors within
thirty days, but if such casual vacancy is as a result of the resignation of an auditor, such appointment
shall also be approved by the company at a general meeting convened within three months of the
recommendation of the Board and he shall hold the office till the conclusion of the next annual general
meeting;
3. State the provisions under companies act 2013 regarding

removal of an auditor
Removal of auditor before expiry of term as per Companies Act, 2013 [sec. 140(1)]
An auditor appointed under section 139 may be removed from his office before the expiry of his term if
following conditions are fulfilled:
i. An application to the Central Government for removal of auditor shall be made;
ii. The application shall be made to the Central Government within thirty days of the resolution
passed by the board;
iii. The company shall hold the general meeting within sixty days of receipt of approval of the
Central Government for passing the special resolution;
iv. The auditor must be given a reasonable opportunity of being heard.
Appointing a new auditor in place of the retiring auditor as per companies act, 2013 [sec.140(4)] Section
140(4) of the Companies Act, 2013 has laid down following provisions for appointment of newauditor
in place of retiring auditor at an annual general meeting:
i. Special Notice: A special notice has to be given for a resolution at the annual general meeting
for appointing as auditor a person other than a retiring auditor or providing expressly that a
retiring auditor shall not be reappointed.
This provision is not obviously applicable where the retiring auditor has completed a
consecutive tenure of five years or ten years as the case may be.
ii. Intimation to auditor: On receipt of such notice, the company shall forthwith send a copy
thereof to the retiring auditor.
iii. Representation by the auditor: The retiring auditor proposed to be replaced by a new auditor
has right to make a representation to the company against his removal.
The representation shall be in writing with a reasonable length. He may request the
company to circulate the representation to the members of the company.
Removal of auditor by tribunal [sec.140 (5)]
i. Removal for Fraud: The Tribunal may, either suo motu or on an application made to it by the
Central Government or by any person concerned, directs the company to change its auditors
if it is convinced that the auditor has acted fraudulently.
ii. Appointment of New Auditor by Central Government: If the application is made by the
Central Government and the Tribunal makes an order removing the existing auditor for fraud,
the Central Government may appoint another auditor in his place.
iii. Liability of the Auditor being removed: An auditor, whether individual or firm, against whom
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final order has been passed by the Tribunal under this section, shall not be eligible not be
appointed as an auditor of any company for a period of five years from the date of passing of
the order and the auditor shall also be liable for action under section 447.
4. How is the remuneration of a company auditor

determined?
Remuneration of auditors [Section 142]—
1. The remuneration of the auditor of a company shall be fixed in its general meeting or in such manner
as may be determined therein:
Provided that the Board may fix remuneration of the first auditor appointed by it.
2. The remuneration under sub-section (1) shall, in addition to the fee payable to an auditor, include
the expenses, if any, incurred by the auditor in connection with the audit of the company and any
facility extended to him but does not include any remuneration paid to him for any other service
rendered by him at the request of the company.
5. What are the right (Power) and duties of an auditor under

the companies act?
Rights of an Auditor
1. Right of access to books and vouchers: Section 143(1) of the Companies Act, 2013 states that an
auditor of a company has a right of access at all times to the books, account and vouchers of the
company whether kept at the head office or anywhere else. The term ‘vouchers’ include any
document supporting the transactions in the financial statements. Similarly ‘books’ means financial,
costing, statutory and statistical books.
The right of access ‘at all times’ implies that the auditor can inspect the books and accounts
and vouchers at any time during the tenure of his appointment and during normal business
hours. The proviso to sub-section(1) of section 143 has also, given right to the auditor of a
holding company to have access to the records of all its subsidiaries in connection with
consolidation of its financial statements.
2. Right to obtain information and explanations: As per section 143(1) of the Companies Act, 2013,
the auditor can ask for any information and explanation which he consider necessary for the
performance of his duties as auditor.
3. Right to get a report on branch accounts: According to section 143(8) of the Companies Act, 2013,
the branch auditor shall send a report on the account of the branch of the Company’s auditor who
shall deal with it in his report in such a manner as he considers fit.
4. Right to receive notices and to attend General Meeting: Section 146 of the Act, 2013 has given right
to the auditor to have notice of and to attend every general meeting. He has also right to be heard
in the meeting on matters concerning himself.
5. Right to have audit report read at AGM: As per section 143 of 2013 Act, the auditor has the right to
have the audit report read before the company in the General Meeting and the same shall be open
to inspection by any member of the company.
6. Right to be indemnified: The auditor has right to be indemnified for any expenses incurred by him in
defending himself while the Court’s judgement goes.
7. Right to take legal and technical advice: According to judgement in London and General Bank
(1895) case, an auditor can take legal, expert or technical advice while conducting audit. However,
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he must always give his own opinion in the report.

8. Right to remuneration: On completion of the job he is assigned with, the auditor has right to get his
agreed remuneration. If his service is terminated by the client before the expiry of the term, he will
be entitled to remuneration of the full term.
9. Right to sign the audit report: Under Section 145 of Companies Act, 2013 the auditor has right to
sign the audit report and the balance sheet and profit & loss account including the documents
annexed.
10. Right to attend the meetings of Audit Committee: The auditor shall have the right to attend the
meetings of the Audit Committee and right to be heard in the meeting when the Committee
considers the Auditor’s report. But he shall not have right to vote *Sec. 177(7)+
Duties of An Auditor
According to Companies act, 2013, the duties of an auditor may be described as below:
1. Duty to make report on financial statements: According to Sec. 143(2) of the Companies Act,
2013 the statutory auditor is required to submit a report on the accounts audited by him to the
shareholders of the company. It is to be noted that he might have been appointed by directors.
But he is always required to submit his report to shareholders and not to the directors.
2. Duty to make enquiry: The auditor shall also inquire, under section 143(1), into various matters
such as:
i. Whether loans and advances made by the company are properly secured and whether
the terms of loans and advances are against the interest of the company.
ii. Whether the transactions which are merely represented by book entries are prejudicial
to the interest of the company.
iii. Whether shares, debentures and other securities have been sold of a price less than cost
price.
iv. Whether personal expenses have been charged to the revenue A/c.
v. Whether loans and advances made by the company have been shown as deposits.
vi. Whether cash has actually been received in respect of shares allotted for cash as stated
in the books and if no cash has actually been so received, whether the position as stated
in the account books and balance sheet is correct, regular and not misleading.
3. Matters to be stated in the report: According to Sec. 143(3), of Companies Act, 2013 he has to
clearly state in his report that
i. Whether he has sought and obtained all the information and explanations relating
to the accounts which to the best of his knowledge and belief were necessary for
the purpose of audit.
ii. Whether proper books of account as required by law have been kept by the
company.
iii. Whether proper returns have been received from the branch not visited by him.
iv. Whether the report on the accounts of any branch office of the company audited
by the branch auditor has been sent to him and the manner in which he has dealt
with it in preparing his report.
v. Whether the Company’s balance sheet and profit and loss account dealt within the
report are in agreement with the books of account and returns.
vi. Whether applicable accounting standards have been followed in the preparation
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and presentation of financial statements.

vii. Observation or comments on financial transactions or matters which have any
adverse effect on the functioning of the company.
viii. Whether any director is disqualified from being appointed as a direction under sub-
section (2) of section 164.
ix. Any qualification, reservation or adverse remark relating to the maintenance of
accounts and other matters connected therewith.
x. Whether the company has adequate internal financial controls system and whether
it is effective in operation.
4. Reasons for negative remark/Qualification: In case of negative remark or qualification in any
reporting matters, the auditor should state the reasons therefore in his report.
5. Compliance with C & AG direction: In case of a Government Company, the auditor’ report
include:
 The direction, if any issued by the C & AG regarding manner of audit of accounts;
 The action taken on such direction and the impact thereof on the company’s financial
statements=0. [Sec. 143(5)]
6. Duty to intimate the Central Govt. about fraud: If the auditor, in course of audit, comes across
any fraud involving such amount as may be prescribed, he shall immediately report the matter
to the Central Government within such time and in such manner as may be prescribed. In case
of fraud involving lesser than the specified amount, the auditor shall report the matter to the
Audit Committee or the Board within such time and in such manner as may be prescribed.
[Sec.143 (12)] as amended by Section 13 of the Companies (Amendment) Act, 2015. Section 13
of the Amendment Act has not been notified till 31.07.2015.
7. Duty of cost accountant and company secretary: The provisions of section also apply to the cost
auditor conducting cost audit under section 148 of 2013 Act and the Company secretary
conducting secretarial audit under section 204 of 2013 Act. [Sec. 143 (14)]
8. Duty to pay penalty: If the auditor fails in his duty to report any fraud he shall be punishable
with fine which shall not be less than one lakh rupees but which may extend to twenty-five lakh
rupees. [Sec.143(15)]
9. Mandatory Compliance with auditing standard: It is the duty of the company auditor to comply
with auditing standards in course of audit. [Sec. 143(9)]
10. Duty to make comments as sought by Audit Committee: It is obligatory on the part of the
auditor to make comments about internal systems, the scope of audit, including his observation
and review of financial statements, if sought by the Audit Committee. [Section 177(5)].
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6. State the provisions of companies act 2013 regarding

declaration & payment of dividend.
The important provisions of company law pertaining to dividend are described below:
1. Source of Dividend: As per section 123(1), dividend can be paid out of following sources:
i. Current profit after providing for depreciation;
ii. Past reserves created out of profits of credit balance in the profit and loss account brought
forward after providing for depreciation.
iii. Money provided by the Central Government or a State Government.
2. Mode of payment: Section 123(5) has expressly allowed a company to make payment of dividend
through electronic mode along with the conventional mode of payment by cheque or dividend
warrant as usual.
3. Provision for Depreciation: Section 123(1) has also made it mandatory for the company to make
provision for depreciation before declaration of dividend out of profit.
However, unlike 1956 Act, the new Act has not given any power to the Central Government
to permit declaration of dividend without providing for depreciation.
4. Arrear of Depreciation: The Companies (Declaration and Payment of Dividend) Amendment Rules,
2014 has stipulated that no company shall declare dividend out of profit unless depreciation not
provided in previous years or years are set off against profit of the company of the current year.
5. Setting the past loss: The Company is required to set off the entire amount of accumulated loss
against the current profit before declaration of dividend as per the Companies (Declaration and
Payment of Dividend) Amendment Rules, 2014.
6. Transfer of profit to Reserve: The Company may before declaration of dividend in any financial
year, transfer such percentage of profit as it may consider appropriate to the reserve of the
company.
7. Use of the past Reserve: As per the second proviso to subsection (1) of Section 123 in the event of
inadequacy or absence of profit in any year, a company may declare dividend out o free reserves
subject to fulfillment of prescribed conditions.
i. Restriction on rate: The rate of dividend shall not exceed the average of the rates at which
dividend was declared by the company in the three preceding years.
The rule has further stated that it will not be applicable to the company which has
not declared any dividend in each of the three preceding financial year.
ii. Restriction on amount: The total amount to be drawn from the past reserve shall not
exceed one-tenth of the sum of its paid-up share capital and free reserve.
iii. First utilization of amount drawn: The amount drawn from the past reserve shall first be
utilized to set off the loss incurred in the financial year before declaration of dividend on
equity shares for that year.
iv. Maintenance of minimum reserve: The balance of reserves after such withdrawal shall not
fall below fifteen percent of paid up share capital.
8. Debenture Redemption Reserve: The Companies (Share Capital and Debentures) Rules, 2014
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requires a company which has issued debentures to create a Debenture Redemption Reserve out of
profit available for dividend for an amount not less than 25% of the value of debentures issued.
9. Failure to comply with provisions of acceptance or repayment of deposits: As per Section 123(6)
of 2013 Act, if accompany fails to comply with provisions of sections 73 and 74 regarding
acceptance and repayment of deposits, it shall not declare any dividend on equity shares so long
such failure continues.
10. Unclaimed dividend: Section 124(6) of 2013 Act states that all shares in respect of which unpaid or
unclaimed dividend has been transferred to the Investor Education and Protection Fund shall also
be transferred by the company to the fund along with a statement with certain specified details.
11. Deposit in a separate account in a Scheduled Bank: Subsection 4 of section 123 has mandated that
the company shall deposit the amount of dividend including interim dividend in a separate account
in any schedule bank within five days from the date of declaration of such dividend.
7. Can dividend be paid out of Capital? Justify

Payment of dividend out of capital means return of capital to shareholders in disguise. In other words, a
partof the capital invested by the shareholders is paid back to them in the form of dividend.
The legality of payment of dividend out of capital can be discussed under the following heads:
1. Judicial Announcement: It was decided in the case of Verner Vs. General and Commercial
Investments Trust Ltd. (1894) that dividend cannot be paid out of capital. If the Memorandum of
Articles of Association gives such power, it should be considered as invalid and ultravires.
Consequences of payment of dividend out of capital as upheld in various cases are:
i. The directors who pay dividend knowing fully well that such dividends are paid out of capital
shall be personally liable to make good the losses arising from such payments – London and
General Bank, (1895).
ii. If the members receive dividends knowing fully well that such dividends are being paid out of
capital, they have to indemnify the company to the extent of the amount of dividend
received by them – Moxham V. Grant (1900).
iii. Liability of the directors for payment of dividend out of capital ceases, when the capital
having been eroded for such payment gets replenished out of subsequent profit – Boaler Vs.
The Watchmaker’s Aliance and Others (1903).
2. Provisions of Companies Act 2013: The Companies Act has not given any mandate that the capital
of a company should remain intact. But the Act has also not permitted a company to return capital
to the shareholders in the form of dividend, Section 123 (1) of the Act has specified following
sources for payment of dividend:
i. Current profits,
ii. Past profits i.e., credit balance in the profit and loss account brought forward,
iii. Fund provided by the Government for the purpose of dividend payment.
iv. Free reserve of the company after fulfilling some conditions as stipulated in the Companies
(Declaration and Payment of Dividend) Rules, 2014.
Accordingly, dividend cannot be paid out of any source other than the above as
specified by the law. If dividend is paid out of capital, the directors would commit an
offence under the Act and shall be liable to make good the amount so paid as dividend to
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the company.
3. Conclusion: Payment of dividend out of capital leads to reduction of capital. But reduction of share
capital cannot be done without observing some legal formalities as per section 66 of the Companies
Act, 2013.
Payment of dividend out of capital has not been made legally permissible for protecting
the interest of creditors who should have priority over shareholders in respect of getting
back capital. Moreover, allowing that practice would not have been in the interest of
growth and survival of the company.
8. What is capital profit? Give example. Can dividend be

paid out of Capital Profit?
Payment of dividend out of capital profits
The profit earned by a company may generally be classified into two categories namely (a) revenue profit
and (b) capital profit.
The profit which is earned in the normal course of business is called revenue profit. This profit arises out
of regular business activities in every year.
On the other hand, the profit which does not arise in the normal course of the business is called capital
profit. This profit arises out of some event which does not come under the regular activity of the business.
Transactions of capital nature generally result in such profit. This income is not regular income and arises
only occasionally. The examples of the income are (a) profit on revaluation of fixed assets (b) profit on
issue of shares at a premium (c) profit on redemption of debenture at a discount (d) profit on re – issue of
forfeited shares (e) profit prior to incorporation, etc.
Now whether capital profit can be distributed as dividend may be considered from three different angles,
these are:
1. Legal aspect: According to Section 123(1) of the Companies Act, 2013, dividend can be paid out of
‘profit’. But it is stated nowhere in the Companies Act whether capital profit is available for
distribution of dividend. The capital profit does also belong to the company. So, there is no legal
constraint for payment of dividend out of capital profit. However, the following points may be
noted in this regard.
i. The capital profit which arises due to issue of shares at the premium cannot be distributed
as dividend as per Sec. 52 of the Companies Act, 2013. In this Section the different uses to
which this profit may be applied have been categorically mentioned.
ii. The profit arising on re – issue of forfeited shares has to be transferred to capital Reserve.
iii. Similarly, the profit earned prior to incorporation cannot be considered as distributable
profit as the company has not been in existence during this period and hence no dividend
can be paid out of the same.
2. Legal Decisions: The issue of payment of dividend out of capital profit was dealt with in two
noteworthy cases i.e. Lubbock V. British Bank of South America (1892) and, Foster V. New
Trinidad Lake Asphalt Co. (1901).
The following conditions are, based on those judgements, required to be fulfilled before
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distribution of capital profit as dividend:

 The Articles of Association must authorise such distribution.
 This profit must be realised in cash on actual sale of fixed assets. The profit arising out of
mere revaluation of fixed assets is not available for dividend purpose.
 The capital profit must exist as surplus after revaluation of all assets and liabilities.
 Other capital loss, if any, must be compensated and payment of dividend out of capital profit
must not render the company unable to meet outside liability.
 It must be ensured that payment of dividend does not lead to capital erosion of the business
in any way.
3. Commercial Expediency: The earning of capital profit does not reflect the actual profitability of
the company. It is a kind of windfall gain and is not expected to recur. So, it would not be very
prudent to pay dividend out of capital profit. Rather, this profit should be kept in the business for
adjusting future capital loss, setting off loss on issue of shares and debenture of simply for
strengthening working capital position.
9. Can dividend be paid out of current revenue profit before

writing of depreciation?
Payment of dividend out of profit without writing off depreciation on fixed assets
Fixed assets are those assets which are intended to be used in the business over a long period of time.
They are not meant for resale. Now the question whether dividend can be paid out of profit without
providing for depreciation can be discussed under the following heads.
1. Judicial Pronouncements: That depreciation is a charge against profit and should be provided
before declaration of dividend was not recognized by court earlier. Thus, in Wilmer Vs.
Mcnamara& Co. Ltd (1895) case, it was held that making provision for depreciation should
be necessarily be a precondition for declaration of dividend out of current profit. In
Crabtree Vs. Crabtree(1912) case, the learned Judge declared that depreciation must be
provided on plant and machinery only when the manufacturing business is intended to be
carried on for an indefinite period of time. Thus, it implies that depreciation need not be
provided on fixed assets like building or furniture before declaration of dividend out of
current profit.
2. Provision of the Companies Act: The section 123(1) of the Act, 2013 has also made it compulsory
to make provision for depreciation before declaration of dividend.
3. Commercial Prudence: Fixed assets are used in the process of revenue generation. The service
potentiality of the fixed assets is not everlasting, rather it gradually declines while in use. So
proportionate cost of fixed asset corresponding to the service used up in the revenue generation
should be treated as expense to be matched against that revenue for income determination. Unless
the expired cost of fixed asset is considered as depreciation, the profit will be inflated and the true
worth of the business cannot be comprehended from the balance sheet as the fixed assets will
remain overvalued. So, the purpose of financial statements will be defeated. The most dangerous
consequence of non-provisioning of depreciation is the possibility of capital erosion of the business
through payment of dividend out of inflated profit. This is nothing but return of capital to
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shareholders unnoticed. The continuity of business is, therefore, threatened. So, it is always
prudent to make provision for depreciation regardless of the fact whether dividend is declared or
not.
10. Can dividend be paid out of current revenue profit before

writing of past capital/revenue losses?
Whether dividend can be paid out of current profit without setting off past losses can be discussed under the
following three heads.
1. Judicial decisions: The question was dealt in various legal cases long back. But in those cases,
somewhat lenient view was taken by the learned Judges. They did not make the writing off past
losses as the precondition for payment of dividend out of profit of current year. Thus, in the case
Ammonia Soda Company Ltd. Vs. Arthur Chamberlian and other, (1918), it was held by the court
that the company might right up its assets as a result of a bonafide revaluation and might divide
current profits without making good past losses. The same view was expressed by the learned
Judge during the course of his judgment in Stapley Vs. Read Bros. Ltd (1924)
2. Provisions of the Companies Act: As per fourth proviso of sub – section (1) of section 123 of the
Companies Act, 2013 as inserted by Sec. 10 of the Companies (Amendment) Act, 2015 notified on
29th May, 2015, no company shall declare dividend unless carried over previous losses and
depreciation not provided in the previous year or years are set off against profit of the company for
the current year.
3. Business prudence: The existence of debit balance in the profit and loss account means that capital
of the business has already eroded by that extent. So, if a company which suffers from instability in
profit earning distributes its current year’s profit regularly without setting off past losses
completely, the chance of wiping out of net-worth and consequently liquidation of the business
cannot be ruled out. Therefore, it is advisable to set off the entire amount of past loss and not just
the loss caused by depreciation before distribution of dividend out of current year’s profit.
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11. What is meant by interim dividend? What could be the

duty of an auditor in connection with such dividend?
The dividend which is paid by the company before the accounts for the year is prepared, audited and
adopted in the annual general meeting is called interim dividend. It is paid in between two annual
general meeting. As per Sub – section (35) of Section 2 of the Companies Act, 2013, interim dividend is
part of dividend and accordingly all provisions relating to ‗dividends‘ is now applicable to interim
dividend also. Hence, the depreciation for the full year has to be provided before declaring interim
dividend. Moreover, the provisions relating to transfer of profit to reserve, also apply to interim dividend.
The decision to pay interim dividend is taken by the Board subject to authorisation of Articles when it
becomes sure about the adequacy of profit for the whole year.
It is to be noted that the interim dividend, being part of dividend as per the Companies Act, will be
considered as debt and thus ‗not revocable‘ except when its distribution would amount to capital
reduction.
The amount of interim dividend must be deposited in separate bank accounts within five days from the
date of its declaration.
Section 123(3) of the Companies Act, 2013 has permitted the Board of Directors of a company to declare
interim dividend during any financial year out of the surplus in the profit and loss account and out of the
profits of the financial year in which such interim dividend is sought to be declared.
The proviso to subsection 3 specifically states that in case the company has incurred loss during the
current financial year, up to the end of the last quarter before the date of declaration of the interim
dividend, then the rate of interim dividend shall not exceed the average rate of dividends declared by the
company during the last three financial years.
Factors to be considered in a decision on interim Dividend

Interim dividend is declared and paid before the end of accounting year. The management is then yet
to know the results of operations of the business. Therefore, a great deal of care and caution should be
taken by the management before taking such decision. It has to be ensured that payment of such dividend
does not go against the interest of the company. So following points are to be considered in this
connection:
i. Whether profit earned till date from the beginning of accounting year is sufficient to justify the
payment of interim dividend. For this purpose up – to date interim accounts, should be
prepared and got audited by the auditor. It should be noted that in pursuance of Sec.
123(1), depreciation for the full year should be charged and some percentage of profit as
deemed necessary should be transferred to reserve before distributing dividend.
ii. What is the expected amount of profit to be earned during the rest of the accounting year? Any
possible occurrence of events affecting the future profitability should be considered.
iii. Whether all contingent liabilities have been duly considered.
iv. Whether any asset is required to be revalued.
v. Whether the payment of interim dividend will have any adverse effect on the working capital
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position. For this the project cash flow should be prepared for the year.
vi. What were the rates of interim dividend and final dividend during the last few years?
vii. What is shareholders’ expectation from the management regarding rate of interim dividend and
what will be the possible effect on the share price, if their expectation is not fulfilled?
viii. What should be the final rate of dividend? This point should be considered because rate of interim
dividend should always be kept lower than final rate of dividend.
12. Outline the provisions of the Companies Act relating to

branch audit.
Section 228 governs the audit of branch offices. Provisions of this section are as follows:
1. Appointment [Sec. 228(1)]: The following persons are eligible for appointment as branch auditors –
In case of local branches:
(a) The company’s Auditor u/s 224, or
(b) A person qualified for appointment as an auditor u/s 226.
In case of Foreign Branches:
(a) Apart from persons eligible to audit local branches, an accountant duly qualified to act as
an auditor in accordance with the laws of the foreign country in which the branch office is
situated can conduct audit.
In the 2013 Act, no separate section has been introduced for audit accounts of branch office. Section 143
which deals with powers and duties of auditors and auditing standards also covers branch audit.
Subsection 8 of the section 143 has made no change in the requirement of appointment of branch
auditor. Thus, the company auditor appointed u/s 139 or any other person qualified for appointment
under section141 can be appointed as branch auditor.
2. Appointment of persons other than company auditor as Branch Auditor [Sec. 228(3) (a) ]:
(a) General Meeting: The decision to appoint any person other than the Company Auditor as
BranchAuditor should be taken at a General Meeting.
(b) Authorization to Board: The General Meeting may authorize the Board of Directors to appoint
suchan auditor in consultation with Company’s Auditor.
Subsection 8 of section 143 of the 2013 Act requires that the branch auditor not being the company auditor
will be appointed in the same way as company auditor is appointed u/s 139. Thus, the new Act has not
made any provision for authorization to Board for appointment of branch auditor.
3. Rights, Powers and Duties of Branch Auditor [Sec. 228(3)]:
(a) Auditor’s Powers: He will exercise the same powers and duties in respect of branch office audit
asenjoyed by the company’s statutory auditor in respect of the company’s audit.
(b) Reporting: He will prepare a report on the accounts of branch examined by him and forward the
same to the company’s Auditor who shall deal with it in the manner required to prepare or
finalisehis report.
(c) Remuneration: He is entitled to receive such remuneration as the company in General Meeting
orthe Board may fix.
As per the Companies (Audit and Auditors) Rules, 2014, the branch auditor will have same rights and duties
as applicable to statutory auditor under subsections (1) to (4) of Sec. 143 of 2013 Act. Additionally, the
branch auditor, as per this Rules, shall be responsible for reporting of fraud to the Central Government to
the extent it relates to the concerned branch.
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4. Rights of Company Auditor [Sec. 228(2)]:

The Company Auditor shall have the following rights when the Branch accounts are audited
by another auditor:
(a) To visit Branch office, if deemed necessary for the performance of his duties, and
(b) To have access at all time to the books, accounts and vouchers maintained at the Branch Office.
(c) To have access to such copies of and extracts from the books and accounts of foreign branches
ofbanking companies as have been transmitted to the head office in India.
Neither section 143(8) of the Act, 2013 nor the Companies (Audit and Auditors) Rules, 2014 has given the
Company auditor the right to visit the Branch office and to have access to the books, accounts and vouchers
maintained at the branch office. As per section 143(8), the company auditor shall deal with the report
sentby the branch auditor in such manner as he considers necessary.
5. Exemption from audit of branch [Sec. 228(4)]:
The Central Government is empowered to make rules to exempt Branch offices from audit.
The Companies (Branch Audit Exemption) Rule, 1961 provides that a branch office is exempted
from audit if it satisfies the following conditions –
(a) The company carries on any manufacturing, processing or trading activity;
(b) The Branch office should have an “average quantum of activity” that does not exceed the higher
ofthe following two
1. Rs. 2, 00,000
2. 2% of the average of the total turnover of the company;
13. What is Joint Audit? Discuss in brief.

When more than one Firm/Individual are appointed to conduct a statutory audit, it is called Joint Audit. In
other words joint audit implies statutory audit of a firm conducted by more than one statutory auditor.
It is the usual practice of big companies and corporations with divergent and widespread activities to
appoint several Chartered Accountants as joint auditors. Joint audit ensures pooling together the resources
and expertise of more than one firm of auditors in conducting audit which is otherwise very difficult or
impracticable for a single firm. The Companies Act, 1956, is silent about joint audit. However, SA 299,
“Responsibility of Joint Auditors”, has laid down principles in respect of joint audit.
Advantages of Joint Audit:
1. Joint audit ensures pooling and sharing of expertise of two or more auditors.
2. The quality of performance in joint audit becomes much better.
3. The joint auditors can mutually consult in respect of critical issues in the course of audit. So, the
auditbecomes more effective.
4. It reduces workload of the auditors.
5. The client is assured of the improved performance from joint auditors.
6. In respect of multi-national companies, the audit work can be spread using the expertise of local
firmswhich are in a better position to deal with detailed work and the local laws and regulations.
7. The audit can be carried out with much lower costs.
Disadvantages of Joint Audit:

1. There may arise co-ordination problems between auditors in conduct of work.
2. Joint audit may lead to psychological problem when firms of different standing are involved.
3. The superiority complexes of some auditors may invite problems in the conduct of audit.
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4. There may be lack of clear definition of responsibility in joint audit.

5. Areas of common concern may be neglected.
6. Uncertainty about the liability for the work done may crop up.
7. The fees are to be shared by the joint auditors.
8. Difference of opinion among the joint auditor may cause delay in submission of audit report.
Principles to be followed in joint audit
The SA299, ―Responsibility of Joint Auditors‖, as issued by ICAI has laid down following principles
in respect of joint audit:
A. Division of work among the joint auditors
1. Manner of division: The joint auditor should, by mutual discussion, divide the work among
themselves.
2. Common areas: Certain areas which cannot be logically divided would be covered by all joint
auditors.
3. Documentation: The division of work among Joint Auditors as well as the areas of work to be
covered by all of them should be properly documented and preferably communicated to the
entity.
B. Co-ordination
When a Joint auditor comes across matters which are relevant to the areas of responsibility of
other joint auditors and should deserve their attention, he should communicate the same to all
other joint auditors in writing.
C. Responsibility of the Joint Auditor
i. In respect of audit work divided among the joint auditors, each joint auditor is responsible
only for the work allocated to him.
ii. Proper execution of audit procedure is the separate and specific responsibility of the joint
auditor concerned.
iii. When the audit work is not divided among the joint auditors and is carried out by all, the
joint auditors are jointly and severally responsible.
iv. When some decision in respect of audit is taken by all the joint auditors, they will be all
jointly and severally responsible for the appropriateness of that decision.
v. All the joint auditors are jointly and severally responsible for examining that the financial
statements of the entity comply with the disclosure requirements of the relevant statute.
D. Reliance on other joint auditor’s work
Each joint auditor is entitle to rely upon the other joint auditors for bringing to his notice
any departure from generally accepted accounting principles or any material error notice
in the course of audit.
E. Reporting Responsibilities
Normally, the joint auditors are able to submit one audit report agreed and signed by
all. Where the joint auditors are in disagreement with regard to any matters to be covered
by the report, each one of them should express his own opinion through a separate report.
A joint auditor is not bound by majority view.
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Unit – 6
Audit Report and Certificate
Report vs. Certificate:
The difference between Audit report and Audit certificate are as follows:
Point of Difference Audit Report Audit Certificate
Meaning It is the expression of independent It is a written confirmation of the
opinion of the auditor on the ‘true accuracy of facts stated therein but
and fair view’ of the financial does not involve any estimates or
statements. opinion.
Scope If covers the total financial matter of a It is furnished by the auditor to
concern during an accounting period. confirm the accuracy of certain
facts like import figures of a
company.
Nature It is the opinion of the reliability of It is a guarantee of accuracy and
the financial statements prepared by correctness of the information
the concern. contained in the certificate.
Responsibility The auditor is responsible to render The auditor is responsible for the
his opinion with reasonable skill and accuracy of the facts stated in the
care. certificate.
Concerned Parties The audit report is prepared for the Audit certificate is sought by
stakeholders of the company. external parties.
Submission Audit report is generally submitted at Certificate is submitted as and
the end of the financial year. when required.
Elements of Audit Report:
1. Title: The auditor’s report should have a title clearly indicating that it is the report of an
independent auditor.
2. Addressee: The report should be properly addressed based on the circumstance of the
engagement.
3. Opening or Introductory paragraph: As per AS 700 Revised, the introductory paragraph should
include the following:
a) Identify the entity whose financial statements have been audited;
b) State that the financial statements have been audited;
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c) Identify the title of each statement comprising the financial statements;

d) Refer to the notes, including the summary of significant accounting policies; and
e) Specify the date of, or period covered by, each financial statement comprising the financial
statements.
4. Management’s responsibility for financial statements: This section of the auditor’s report
describes the responsibility of those people who are responsible for the preparation of the
financial statements in accordance with the applicable financial reporting framework.
5. Auditor’s responsibility: The auditor’s repost shall state that the responsibility of the auditor is to
express an opinion on the financial statements based on the audit work conducted by him.
6. Auditor’s opinion: While expressing an unmodified opinion on the financial statements, the
auditor’s opinion shall state that the financial statement discloses a true and fair view.
7. Signature of the auditor: The audit report shall be signed by the auditor.
8. Date of the auditor’s report: The audit report shall be dated. The date shall not be earlier than the
date on which the auditor has obtained sufficient evidence on which he has formed his opinion on
the financial statements.
9. Place: The audit report shall state the place in which the auditor maintains his office.
Characteristics of a good Audit Report:
The following are the characteristics of a good Audit Report:

1. Based on facts: The audit report should be based on facts and not on presumptions of the auditor.
If the auditor is unable to gather any information, he should clearly state that in his report.
2. Unambiguous: The audit report should not be unambiguous. It should be clear cut and precise.
3. Simple: The report should be presented in a simple manner so that the users of the report can
easily understand it.
4. Relevant: All material information should be disclosed to the users of the financial statements.
The audit report should comprise of all such relevant information which is not contained in the
disclosures of the financial statements.
5. Highlighting Misstatement: All material misstatement which is likely to have an impact on the
users of the financial statements should be highlighted.
6. Brief: The audit report should not be unnecessarily lengthy. It should be brief and to the point.
7. Reference to the auditing standards: The audit report should mention that the auditing standards
have been complied with in the course of the audit. This assures the users that the audit has been
conducted in accordance with the relevant standards and practices.
8. Critical: The audit report should clearly point out the weak areas of the organization. But such
criticism should be in the form of constructive criticism so that the organization may improve in its
area of weaknesses.
9. Addressee: The audit report should be properly addresses to the person who has given an
appointment to the auditor. However, in the case of a company, the audit report must be
addressed to the shareholders even though the board of directors might have appointed the
company auditor.
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10. Date, Signature & Place: The audit report should be signed along with date by the auditor. The
report should contain the place of the office of the auditor.
Types of Audit Report:
Based on the type of opinion of the auditor, the audit report may be classified into the following types:
1. Clean or unqualified report

2. Qualified Report
3. Adverse Report
4. Report with Disclaimer of Opinion
5. Piecemeal Report
1. Clean or Unqualified Report: The auditor issues a clean report when he concludes that financial
statements are prepared in all material respects according to the applicable financial reporting
framework. The auditor makes a clean or unqualified report when he is satisfied with the following
matters:
a) The financial statements have been prepared in accordance with the generally accepted
accounting policies;
b) The selected accounting policies are consistent with the applicable financial reporting
framework.
c) The financial statements reflect true and fair summary of the financial transactions of the
company;
d) The management has made reasonable accounting estimates;
e) The information presented in the financial statements is relevant, reliable, comparable and
understandable;
f) Adequate disclosures have been made in the financial statements.
g) All terminology used in the financial statement is appropriate.
2. Qualified Report: When the auditor in his report states that the financial statements reflects a true
and fair view but subject to certain reservations, he is said to have given a qualified report. When
the auditor issues a qualified report, it means that the auditor cannot express an unqualified
opinion, but the disagreement with the management is not so material or pervasive that requires
an adverse opinion. A qualified opinion is generally expressed as ‘subject to’ or ‘except for’ relating
to effects of the matter to which the qualification relates. For example, if the auditor disagrees with
the management regarding the treatment of an item of compensation due from an insurance
company which is not yet received, he may quality his report stating ‘subject to the above, we state
the balance sheet shows a true or fair view .......... ’
The auditor shall quality his report only if the matter of qualification is material. The report
should not be qualified unless the amount of the matter is significant. The audit report should
clearly state the reasons for qualification under the heading ‘Basis of Qualified Opinion’.
3. Adverse Report: The auditor shall issue an adverse report when the effect of his disagreement with
management is so material and pervasive to the financial statements that the auditor feels a
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qualified report is inadequate to disclose the misleading or incomplete nature of the financial
statements. While giving an adverse opinion the auditor should expressly state that the financial
statements do not give a ‘true and fair view’, the auditor may issue an adverse report in case of
extreme non-provisioning of depreciation or huge loss which was uninsured, but the company
failed to disclose it in the Profit 7 Loss Statement.
4. Report with Disclaimer: Sometimes the auditor is unable to express his opinion relating to the
matters concerning his report, or the client has laced some restriction on the scope of his audit
work as a result of which he is unable to express his opinion. In such a circumstance, the auditor
shall be forced to state in his report that he is unable to express his opinion on the truthfulness and
fairness of the financial statements. Such a report is known as ‘report with disclaimer’.
5. Piecemeal Report: The auditor on his examination of the financial statements finds partially true
and fair view, he may state in his report that he is unable to express his opinion on certain items in
the financial statements relating to which he is not satisfied. The auditor may issue a piecemeal
report under such circumstances. A piecemeal report is such a report where an auditor gives a split
opinion relating to the matter he is satisfied and those matters he is not satisfied. The auditor shall
state the reasons for issuing a piecemeal report.
Modified Report:
According to Standard of Auditing (SA) 705; Modification to the Opinion in the Independent Auditor’s
Report. A modified report is issued by an auditor when he expresses a qualified opinion or adverse
opinion or a disclaimer of opinion.
Qualified Report by an Auditor Instead of a Clean Report:
As per SA 705, ‘Modification to the Opinion in the Independent Auditor’s Report’ an auditor in the
following circumstances shall express a qualified opinion:
a) The auditor, having obtained sufficient appropriate audit evidence, concludes that
misstatements, individually or in aggregate, are material, but not pervasive, to the financial
statements, or
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.
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Distinction between Qualified Opinion, Adverse Opinion and Disclaimer of Opinion:
Basis Qualified Opinion Adverse Opinion Disclaimer of Opinion

Nature of matter The subject matter of Misstatements are both Inability to obtain
reservation is (may be) material and pervasive. sufficient appropriate
material but not pervasive. audit evidence the effect
of which may be material
and pervasive.
True and fair The auditor believes that the That auditor believes that The auditor is not able to
view financial statements reflect the financial statements express his opinion
true and fair view but subject do not reflect true and regarding the true and
to certain reservations. fair view. fair view of the financial
statements due to
insufficient audit
evidence.
Generally There is a deviation from the The financial statements The auditor is not able to
accepted generally accepted are significantly misstated satisfy himself whether
accounting accounting principles in the as per the generally the financial statements
principles financial statements, but the accepted accounting are presented in a fair
auditor still has faith in the principles. manner.
fairness of such financial
statements.
Reporting Requirement u/s 143:
Every company is required to get its accounts by a qualified auditor under the Companies Act. The
auditor after examination of the books and accounts of the company is required to prepare his report.
The said report is to be placed in the annual general meeting for the consideration of the shareholders.
Section 143 of the Act stipulates the matter to be disclosed by the auditor in his report. The provisions
of Section 143 are as follows:
1. True and Fair View of the state of affairs of the company [Section 143(2)]: The auditor is required
to prepare a reports to the members of the company based on the examination of the accounts
and on any statements which are necessary to be placed at the general meeting. The auditor is
required to state in his report that to the best of his knowledge and information the said accounts
and the financial statements give a true and fair view regarding the state of affairs of the company,
the position of profit or loss and cash flow for the year.
2. Information and Explanation necessary for audit [Section 143(3)(a)]: The auditor shall state in his
report if he obtained all necessary information and explanation which, according to him, is required
for the audit. If the auditor is not able to receive all such information, he shall state that and its
effects on the financial statement in his report.
3. Maintenance of proper books of accounts [Section 143(3)(b)]: The auditor’s report shall state if
according to him, the company has kept proper books of accounts as required by the law. His
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report shall also state that he has received appropriate returns adequate for his audit from the
company’s branch, which he has not visited.
4. Branch auditor’s report [Section 143(3)(c)]: If a branch auditor is appointed separately, he shall
examine the accounts of the branch and prepare a report based on such examination. He shall send
the said report to the company’s auditor. The company’s auditor shall state in his report if he has
received the report from the branch auditor and the manner in which he has dealt with suchreport.
5. Books and Financial statements [Section 143(3)(d)]:
6. Compliance with Accounting Standards [Section 143(3)(e)]:
7. Adverse observations or comments p[Section 143(3)(f)]:
8. Disqualification of Director [Section 143(3)(g)]:
9. Remarks on accounts [Section 143(3)(h)]:
10. Internal financial control [Section 143(3)(i)]:
11. Reasons for negative or adverse opinion [Section 143(4)]:
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Companies Auditor Report Order (CARO) Rules, 2016:
The Ministry of Corporate Affairs (MCA) has issued the Companies (Auditor’s Report) Order, 2016 (CARO
2016), to be applicable for reporting financial statements of the companies whose financial year starts from
1st April 2015 and thereafter. CARO 2016 is applicable from the financial year 2015-16 and the matters
specified in the order shall be included in the audit report under Section 143 of the Companies Act, 2013 on
the accounts of every company where such order is applicable.
Applicability of CARO, 2016:
CARO 2016 applies to every company, including a foreign company as defined in clause (42) of Section 2 of
the Companies Act, 2013. However, certain class of companies has been specifically exempted from the
application of this order. The type of companies where CARO 2016 is not applicable is:
a) Banking company as defined in clause (c) of Section 5 of the Banking Regulation Act;
b) Insurance company as defined under the Insurance Act, 1938;
c) Company licensed to operate under Section 8 of the Companies Act (companies formed with
charitable objective);
d) A One Person Company as defined under Section 2(62) of the Companies Act;
e) A Small Company as defined under Section 2(85) of the Companies Act; and
f) A private limited company which satisfies all the following four conditions:
(i) It should not be a subsidiary or holding company of a public company,
(ii) Its paid up capital and reserves and surplus not more than rupees one crore as on the last
balance sheet date,
(iii) Total borrowings exceeding rupees one crore from any bank or financial institution at any
point of time during the financial year.
(iv) Total revenue (as disclosed in schedule III to the Companies Act, 2013 and includes revenue
from discontinued operations) exceeding rupees ten crore during the financial year as per the
financial statements.
Matters to be reported under CARO 2016:
The Central Government has issued CARO 2016 in pursuance with the Companies Act, 2013 for the inclusion
of certain matters specified in CARO in the auditor’s report. The auditor’s report on the accounts of a
company to which CARO 2016 applies shall include a statement on the following matters:
 Fixed Assets [Clause 3(i)]
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 Inventories [Clause 3(ii)]
 Loans given by the company [Clause 3(iii)]
 Loans to directors and investment by the company [Clause 3(iv)]
 Deposits [Clause 3(v)]
 Cost Records [Clause 3(vi)]
 Statutory Dues [Clause (vii)]
 Payment of Due [Clause 3(viii)]
 Utilization of funds [Clause 3(ix)]
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 Reporting of Fraud [Clause 3(x)]
 Approval of managerial remuneration [Clause 3(xi)]
 Nidhi Company [Clause 3(xii)]
 Related Party Transaction [Clause 3(xiii)]
 Private Placement of Shares [Clause 3(xiv)]
 Non Cash Transaction [Clause 3(xv)]
 Register under RBI Act, 1934 [Clause 3(xvi)]
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1. Distinguish between Auditor’s report and Auditor‘s

certificate.
Point of Distinction Audit Report Audit Certificate

1. Meaning An audit report is an expression A certificate is a written
ofopinion made by the auditor on confirmation of the accuracy of
the the facts stated therein and does
―true and fair view‖ of financial not involve any estimate or
statements. opinion. It vouch safes certain
facts or matters.
2. Scope The audit report covers the entire The certificate is sought for
financial matters of the entity for a some specific matters like raw-
particular accounting period. The material consumption, stock
scope of audit report is statutorily valuation, value of import, work
determined and vast. load distribution etc. The
certificate may not be made for
an
accounting period.
Nature Audit report is an independent and In certification the auditor has to
unbiased opinion expressed by the verify certain exact facts. As heis
auditor on the reliability and concerned primarily with
fairness of financial statements. He arithmetical accuracy, there is
has to consider numerous very limited scope to apply logic
professional pronouncements and and judgement.
apply logic and judgement on
several subjective issues concerning
economic matters of the entity to
arrive at his
conclusion.
3. Responsibility The auditor may not be held Certification gives guarantee
responsible for what has been about the correctness or
opined by him in his exercised otherwise of the statement. The
reasonable skill and care in his audit auditor will be held responsible
work. ifthere is any mistake in the
certification.
4. Parties Concerned Audit report is meant for all the Certificate is usually sought by
stakeholders of the entity namely external parties namely
shareholders, management, Government and loan providers.
bankers,
creditors, Government etc.
5. Criticism The audit report may contain In certification, the auditor has
criticisms as well as suggestions of to state categorically whether
the auditor. the statement is true or false.
Here, neither any suggestion
nor
criticism is made.
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6. Time of Submission Generally, audit report is submitted A certificate is submitted as

by the auditor after the expiry of andwhen required.
financial year.
2. What are the characteristics of a good audit report?

A good audit report should have following characteristics:
(a) Simplicity: Simplicity is considered as one of the characteristics of an audit report. The language used in
the report should be clear and understandable so that concerned parties cannot face any difficulty to
comprehend it.
(b) Information based: The audit report should be based on factual information and not on any guesswork
or presumption. If any information is not available to him, he will state the fact clearly.
(c) Firmness: The scope of the work i.e. types of work done by the auditor should be clearly mentioned in
the report. Moreover, the auditor should clearly state whether the books of account exhibit a true and
fair view of the state of affairs of the business.
(d) Unambiguous: The report should be clear-cut and precise. It should always avoid any word with
double-meaning.
(e) Unbiased: The opinion expressed by the auditor in the audit report should be free from influence of any
quarter.
(f) Logic based : His assertion regarding any matter should be based on logic and not on mere hypothesis
(g) Objectivity: It is needless to say that the report should be based on objective evidence. Opinions
formed on the basis of information and evidence not measurable in terms of money should not be placed
in the audit report.
(h) Relevant: The report should disclose all relevant informations which are supposed to be known by the
users but are not contained in the financial statements disclosures.
(i) Consistency: Consistency in presenting accounting information should be observed. An audit report will
be considered good if it takes into consideration as to the consistency in adopting the method of
valuation of assets.
(j) Mention of condition: If the report is a qualified one, the reasons for qualifications should be clearly
expressed in the audit report.
(k) Accepted principles: The audit report should be based upon the facts and figures that are kept in
accordance with generally accepted principles of accounting.
(l) Pointing mistakes: The report should highlight all material misstatements appearing in the financial
statements,
(m) Brief: The audit report should be brief and to the point. However, conciseness should not be at the cost
of clarity.
(n) Critical and not reprimanding : The auditor should critically refer to the weak areas of the organisation,
but such criticism should be always constructive and not reprimanding in tone,
(o) Addressee: The report should address the person or persons who appointed him to conduct the audit. In
case of company, however, the report should always be addressed to shareholders even when he might
be appointed by Board of Directors.
(p) Signature, address and date: The report should be signed by the auditor with date stating the location of
his office.
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3. What are the different types of audit report?

Based on the opinion expressed by the auditor, the auditor‘s may be of two types namely:
i. Clean or unmodified audit report, and
ii. Modified audit report
Modified audit report may be of following types—
 Qualified audit report
 Adverse audit report
 Disclaimer of opinion report
 Audit report with an ‘Emphasis of matter’ paragraph and ‘other matter’ paragraph.
There is another type of audit report namely partial or piecemeal audit report which is,
however, very uncommon.
1. Clean or Unqualified Report:

When an auditor gives his positive opinion in his report about the reliability and fairness of financial
statements without any reservation, his report is called clean or unqualified report. It is generally written
as
‗in our opinion and to the best of our information and according to the explanations given to us, the
balance sheet, profit and loss account and cash flow statement give a true and fair view of the state of
affairs, working results and cash flows…‘ An auditor makes a clean or unqualified report when he is
satisfied with various matters such as,
i. He has got reasonable evidence in support of all material transactions;
ii. All entries have been passed according to generally accepted accounting principles and
relevant accounting standard;
iii. The financial statements correspond to the books of accounts;
iv. The accounting estimates made by management are reasonable;
v. The information presented in the financial statements is relevant, reliable, comparable and
understandable;
vi. All relevant information have been disclosed.
2. Qualified Audit Report:

When an auditor expresses is opinion in his audit report subject to some reservations he is said to have
qualified his report. In other words, his assertions in the qualified report regarding fairness of financial
statements depend upon some conditions. As for example, if the auditor does not agree with his client
regarding treatment of an item such as subsidy or gratuity, he may qualify the report stating ‗subject to
the above, we report balance sheet shows a true and fair view…‘While qualifying his report, the auditor
should keep in mind the materiality of the matter. Unless the amount is significant, the auditor need not
qualify his report. The reason of qualification should always be clearly stated in the report under the
heading ―Basis for Qualified opinion‖. When the auditor gives qualified opinion, he should use the
heading ―Qualified opinion‖ for the opinion paragraph. ―Basis for Qualified opinon‘ and ―Qualified
opinion‖ paragraphs should be in italics under Sec. 227(3)(e) of the Companies Act.
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|3. Adverse Report:

An adverse report is the report in which the auditor categorically states that profit and loss account and
balance sheet do not exhibit a true and fair view of the state of affairs and working results of the
company. Generally extreme cases like non-provision or under provision of depreciation, taking fictitious
sales etc. compel the auditor to give negative or adverse report. An adverse report should be given by the
auditor, only
when he has strong and convincing evidence to support his conclusion. He should disclose all the reasons
of adverse report.
4. Report with Disclaimer:
Very often it may not be possible for a statutory auditor to collect all informations which are necessary
for expressing an opinion on the financial statements. This situation may arise because of incomplete
accounts submitted by the client or reluctance of client to furnish requisite informations or explanations as
sought by him. When the auditor is to submit such inconclusive audit report because of reasons beyond
his control, such report is called a report with disclaimer. When the auditor is to submit a report with
disclaimer he should give the justification for such disclaimer in his report.
5. Compartmental or Piecemeal Opinion or Report:
When the auditors fails to report on the working results and the state of affairs of the entity in totality and
consequently restricts his opinion to certain matters only, it is called piecemeal audit report. For example,
an auditor may be unable to give an opinion on whether the accounts of the entire concern are true and
fair, but he may be able to give an opinion that the branch accounts are true and fair on the basis of the
branch audit reports. The reason of giving such partial report should be indicated in the audit report.
4. Discuss the elements of auditor‘s report as specified by

Standard on Auditing.
According to SA 700 (revised), ―Forming an opinion on the Financial Statements‖, the auditor‘s report
shall be in writing. It has mentioned the following elements of Audit Report.
1. Title: The auditor’s report shall have a title that clearly indicates that it is the report of an
independent auditor.
2. Addressee: The auditor’s report shall be addressed as required by the circumstances of the
engagement.
3. Introductory paragraph: The introductory paragraph in the auditor’s report shall:
i. Identify the entity whose financial statements have been audited;
ii. State that the financial statements have been audited;
iii. Identify the title of each statement but comprises the financial statements;
iv. Refer to the summary of significant accounting policies and other explanatory information;
and
v. Specify the date or period covered by each financial statement comprising the financial
statements.
4. Management’s responsibility for the financial statements: This section of auditor’s report
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describes the responsibility of the management for the preparation of the financial statements in
accordance with the applicable financial reporting framework.
5. Auditor’s responsibility: The auditor’s report shall state that responsibility of the auditor is to
express opinion on the financial statements based on the audit.
6. Auditor’s opinion: When expressing an unmodified opinion on financial statements, the auditor’s
opinion shall state that the financial statement give a true and fair view.
7. Signature of the auditor: The auditor’s report is signed by the auditor in his personal name
mentioning the membership number assigned by ICAI. Where the firm is appointed as the auditor,
the report is signed in the personal name of the auditor and in the name of the audit firm stating
the registration number of the firm.
8. Date of the Auditor’s Report: Auditor’s report shall be dated. It informs the users of the auditor’s
report that the auditor has considered the effect of events and transactions of which the auditor
become aware and that occurred up to that date.
9. Place: The report shall name a specific location, which is generally the city where the audit report is
signed.
5. Discuss the content of auditor‘s report as specified by

companies act.
Every limited company is under obligation to get their accounts audited by a qualified auditor as per
Companies Act, 2013. The auditor, after examining the books of accounts prepares his audit report which
is submitted in the Annual General Meeting for perusal and consideration of shareholders. Sec. 143 of the
Act has stipulated in details the matters required to be stated by the auditor in his report. These provisions
are as follows:
1. True and Fair View of Financial Statements [Sec. 143(2)]: Section 143 (2) requires the auditor to
state in his report whether in his opinion and to the best of his information and according to
the explanation given to him, the accounts give a true and fair view:
i. In the case of balance sheet, of the state of affairs of the company as at the end of the year;
ii. In the case of Profit and Loss Account, of the profit or loss for the year;
iii. In the case of the cash flow statement, of the cash flow for the year.
2. Information and Explanation [Sec. 143 (3)(a)]: The auditor’s report shall state 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 and the effect of such
information on the financial statements.
3. Proper Books of Account [Sec. 143(3)(b)]: The auditor’s report shall state 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 purpose of his adult have been
received from branches not visited by him.
4. Branch Auditors Report [Sec. 143(3)(c)]: The auditor’s report shall state whether the report on the
accounts of any branch office audited by a person other than the company’s auditor has been
forwarded to him and how he has dealt with the same in preparing his audit report.
5. Books and Financial Statements [Sec. 227(3) (d)]: The auditor’s report shall state whether the
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company’s balance sheet and profit and loss account dealt with in the report are in agreement with
the books of account and returns.
6. Compliance with Accounting Standards [Sec. 143(3)(e)]: Whether in his opinion, financial
statements comply with the accounting standards.
7. Adverse comments [Sec. 143(3)(f)]: The auditor’s report shall state, the observations or comments
of the auditor, which have any adverse effect on the company’s functioning.
8. Director’s Disqualification *Sec. 143(3)(g)+: The auditor’s report shall state whether any Director is
disqualified from being appointed as Director u/s 164(2).
9. Adverse remark on maintenance of accounts [Sec. 143(3)(h)]: The auditor shall state in his report
any disqualification, reservation or adverse remark relating to the maintenance of accounts and
other matters connected therewith.
10. Comment on the inadequacy of financial control system [Sec. 143(3)(i)]: The auditor’s report will
state whether the company has adequate internal financial controls system and comment on the
operating effectiveness of such system.
As per Notification dated 14th October, 2014, issued by Ministry of Corporate Affairs, this
requirement will be applicable for the financial years commencing on or after 1st April,
2015. However, the auditor of a company may voluntarily include this statement in his
report for the year commencing on or after 1st April, 2014 and ending on or before 31st
March, 2015.
11. Reasons of negative reply [Sec. 143(4)]: If any of the matter referred to in Sec. 143(2) & 143(3) are
answered in negative or with qualifications he must mention the reasons in his report.
12. Compliance with C & AG direction [Sec. 143(5)]: In case of a Government company, the auditor’s
report shall include:
i. The direction, if any, issued by the C & AG regarding the manner of audit of accounts;
ii. The action taken on such direction and the impact thereof on the company’s financial
statements.
13. CARO Matters *Sec. 141(11)+: The auditor’s report shall include a statement on the matters
prescribed under the Companies (Auditor’s Report) Order (CARO) 2015.
14. Other matters to be included in the auditor’s report: As per Rule 11 of the Companies (Audit and
Auditors) Rules, 2014, the auditor’s report shall also include the auditor’s views and comments on
the following matters, namely.
i. Whether the company has disclosed the impact, if any, of pending litigations on its financial
position in its financial statement;
ii. Whether the company has made provision, as required under any law or accounting standards,
for foreseeable losses, if any, on long term contracts including derivative contracts;
iii. Whether there has been any delay in transferring the required amounts to the investor
Education and Protection Fund by the Company.
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6. Explain the concept of true & fair view.

Section 129(1) of the Companies act, 2013 requires that Balance sheet and profit & Loss A/c of a
company should reflect a true and fair view of the state of affairs and profit & Loss of the company
respectively. However, the term ―True and fair view‖ has not been defined in the Act. It is supposed that
Financial Statements will reflect a true and fair view when they are prepared according to generally
accepted accounting principles and they are disclose all relevant information as required by Schedule III
of the Companies Act, 2013. It is to be noted that disclosure requirement as per Schedule III is minimum.
The objective of Financial Statements is to cater to the information needs of various groups of people. So,
if any information seems vital and is likely to influence the judgement and decision of the user of the
Financial Statements, it should be disclosed in the Financial Statements though it may not be legally
required to do so. Therefore, what will constitute ―True and Fair view‖ will depend upon circumstances of
cases.
In this connection it may be mentioned that the phrase ‗true and fair‘ was inserted in the Act by replacing
the phrase ―true and correct‖. The term ‗true and correct‘ was used to mean that Financial Statements
should be only arithmetically correct and they should correspond to figures in the books of accounts.
Thus, the auditor could without dispute accept the fact of over depreciation or under – depreciation if they
were correctly recorded in the books and Financial Statements were prepared accordingly. So the auditor
would be spared even though the Financial Statements did not give a true and fair view in this case.
Another extreme view was that ―true and correct‖ indicated exactitude or precision of figures. This was,
however, untenable as some items of the Balance Sheet is based on estimates e.g., the amount of
depreciation is based on estimates only. To do away with this incongruity, the amount of depreciation is
based on estimates only. To do away with this incongruity, the phrase ―True and Correct‖ was
justifiably replaced by
―True and Fair‖. It is now the duty of auditor to go beyond the mere verification of arithmetical accuracy.
Factors determining ―True and Fair‖ view

i. Financial Statements of the company have been drawn up in conformity with the requirements of
Companies Act.
ii. Relevant information have been properly disclosed.
iii. Financial Statements disclose fairly the actual financial position and working results, i.e. there is
neither a overstatements nor a understatement; there is neither window – dressing of balance
sheet, nor secret reserve in the balance sheet.
iv. All unusual, exceptional and non – recurring items have been clearly disclosed.
v. Financial Statements have been prepared and presented in conformity with generally accepted
vi. Accounting principles and procedures which were followed in the previous years have also been
followed in the current year.
vii. Events occurring after the balance sheet date but before submission of audit report have been duly
considered in financial statements when they are likely to influence the decision of users.
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viii. Financial Statements are conveying information unambiguously. As has been held in many legal
cases Financial Statements should give information and not means of information.
So, the phrase ―True and Fair View‖ has extended the duty of an auditor to a great extent. He will not
conduct mere mechanical comparison of items in the financial statements with the entries in the books of
account. Rather, he should conduct audit more analytical to ensure that Financial Statements as prepared
by management can really cater to the information needs of outside users sincerely and fairly.
7. Explain the concept of Materiality.

The concept of materiality plays a very significant role in the entries process of accounting. It is
considered in all stages from recording to classification and presentation of financial information. AS – 1
defines material items as relatively important and relevant items i.e., the items the knowledge of which
would influence the decisions of users of financial statements. Whether or not the knowledge of an item
would influence the decisions of users of financial statement depends upon the circumstances of each
case.
SA – 320 on ―Materiality in Planning and performing on Audit‖ requires an auditor to consider the
concept of materiality both in planning and performing audit. If an item is considered material, the auditor
has to depend on more reliable evidence to assess its validity. He has also to ensure that such items are
properly and distinctly disclosed in the financial statements.
Guiding factors in determining the materiality of items

The concept of materiality is a relative term. What may be material in one circumstance may not be
material in another. So it is not possible to lay down precisely, either in terms of specific items or in terms
of amounts, what could be material in all circumstances.
The following general considerations may be useful while determining the materiality of an item.
1. Relative Context: Materiality of an item can be judged in a relative context. For example, legal
expenses of Rs. 1 lakh may be a material item in a small firm but it may not be considered material
in a large firm.
2. Percentage Criterion: Percentage criterion may be applied in determining the materiality of an
item. As for example, Part – II of Revised Schedule VI to the Companies Act, 1956 requires that any
expenses exceeding one percent of total revenue of the company or Rs. 1,00,000 whichever is
higher, shall be shown as a separate and distinct item under an appropriate account head in the
statement profit and loss and shall not be combined with any other item to be shown under
miscellaneous expenses.
3. Effect on Profit and Loss: An item may be considered material if it has a significant impact on the
profit or loss of the firm. Even an item of small value will become material if its wrong treatment
converts a small loss into a profit or vice – versa.
4. Position in Relation to the Group: Materiality of an item should be judged in relation to the group
to which it belongs, for example for any item of current asset in relation to total current assets and
any item of current liability in relation to total current liabilities.
5. Comparison with Previous year’s figure: Very often comparison with previous year’s
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corresponding figure throws light about the materiality of an item. For example, other income of
Rs. 1.0 lakh this year may appear material when compared with previous year’s other income of Rs.
10 lakhs.
6. Any Deviation from Statutory Requirement: Any deviation from statutory requirement, however
minor it may be, is likely to render an item material. For example, a payment of Rs. 100 to directors
as remuneration in excess of statutory limits may be material. Similarly, a small inaccuracy may be
considered material if it creates or eliminates a prescribed solvency margin.
7. Nature of Transaction: Transaction of abnormal or non – recurring nature may be considered
material even though the amount involved is not very significant.
8. Cumulative effect of small and insignificant items: Individual non – material items might have a
significant cumulative effect. For example, a minor leniency in compliance with travelling rule of
the company in individual cases may have a material impact on total travelling expenses.
9. Estimation error in determinable amounts: If the amount of an item can be determined precisely
and objectively, even a small error in the same may be considered material. On the other hand, if
the amount of an item is subject to estimation and judgement, a minor difference from the
estimate made by the auditor may not be considered material.
Thus, several factors have to be kept in mind by the auditor to judge whether an item is
material or not in giving or distorting the true and fair view of the financial statements. An
erroneous judgement will lead to inappropriate opinion on financial statements. He has to
ensure that all material items have been properly and correctly recorded in the accounts
and disclosed separately and distinctly in the financial statements.
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Unit – 7
Other Thrust Areas
Concept and Definition of Cost Audit:
Cost Audit is an independent examination of cost statements, cost records and other related information
of an entity with a view to express an opinion. Cost auditor is being guided by cost auditing standards in
relation to audit process, audit procedures, responsibilities and reporting.
Objectives of Cost Audit:
Some of the important objectives of cost are:

a) Detection of errors and frauds.
b) Reconciliation between cost accounts and financial accounts.
c) Verification of cost accounts as per the guidelines provided in relevant cost auditing standards.
d) Ensuring that the prescribed procedures of cost accounting record rules are duly adhered to.
e) Determination of inventory valuation.
f) Creating cost consciousness amongst the stakeholders.
g) Advising management for performance improvement on the basis of inter-firm comparision of
cost records.
Difference between Cost Audit and Financial Audit:
Financial Audit Cost Audit

1. It is the examination of financial transactions 1. Cost audit refers to verification of cost
of a concern in order to certify whether the records of a business engaged in manufacture
financial statements exhibit true and fair view of goods or services.
of the state of affairs of the business during a
financial period.
2. The scope of financial audit is wider and 2. The scope of cost audit is narrow and specific.
covers all aspects of accounting records. The conduction of cost audit is not
compulsory in all situations.
3. The financial auditor is responsible to verify 3. The cost auditor is responsible to evaluate
the propriety of the business transactions the authenticity of cost records and express
shown in the books of accounts. his opinion about future record maintenance.
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Cost Audit Procedures – Relevant Provisions of the Companies Act, 2013:
In order to conduct cost audit, the cost accountant in practice will be guided by the following:
1. Section 148 of the Companies Act, 2013.

2. Cost Accounting Standards.
3. Companies (Cost Record and Audit) Rules, 2014.
Section 148 of the Companies Act, 2013:
1. Sub-section (1) of Section 148 states that the central government may, by order, in respect of such
class of companies engaged in the production of such goods or providing such services as may be
prescribed, direct that particulars relating to the utilization of material or labour or to other items of
cost as may be prescribed shall also be included in the books of accounts maintained by the
companies.
2. It the central government thinks it necessary, it may direct that the audit of cost records of class of
companies, which are covered u/s 148(1) and which have a net worth of such amount as may be
prescribed or a turnover of such amount as may be prescribed shall be conducted in the manner
specified in the order – u/s 148(2).
3. The audit u/s 148(2) shall be conducted by a Cost Accountant in practice who shall be appointed by
the Board on such remuneration as may be determined by the members in such manner as may be
prescribed.
4. An audit conducted under this section shall be in addition to the audit conducted u/s 143 – sec.
148(4).
Cost Accounting Standards:
Commonly accepted practices, procedures & requirements are being converted into documents which
are structured and have legal recognition and become ‘standards’. The institute of Cost Accountants of
India, recognizing the need of structured approach to the measurement of cost in manufacture or service
sector and to provide guidance to the user organization, regulators, academic institution etc. has
constituted Cost Accounting Standards Board (CASB) with the objective of formulating the Cost
Accounting Standards. These standards on cost auditing are best guide for the cost auditor in order to
streamline audit, better planning, documentation and implementation.
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Concept of Management Audit:
Conceptually management audit covers such areas which are not covered by other audits. It does not go
through the vouchers or similar evidences but focuses on the appraisal of management effectiveness in
different managerial operations.
The concept of management audit was developed by T G Rose as a logical system of evaluating the
performance of management. He introduced it for evaluation of 52 publicly owned companies over a
period from 1948 to 1960. Management audit examines the effectiveness of management in controlling
the total activities of the organization. Management audit covers appraisals of planning, organizing, co-
ordinating, staffing, directing, motivating and other management functions. In other words, it is holistic in
nature and goes into the details of managerial effectiveness in conducting the operations of an
organization.
Definition:
Management audit has been defined by number of academicians and institutions. According to William P
Leonard “Management audit may be defined as a comprehensive and constructive examination of an
organization structure of a company and its plans and objectives, its mean of operation and its use of
human and physical facilities.
Objectives of Management Audit:
The main objectives are:

1. To ensure optimum utilization of all resources employed.
2. To appraise the management performance at all levels.
3. To evaluate plans which are projected to meet objectives.
4. To anticipate problems and suggest remedies to solve them in time.
5. To highlights weak links in organizational structure and in control systems and suggest remedies.
6. To make roadways for future development of the organization.
Advantages of Management Audit:
In present days Management Audit is becoming popular. Many organizations adopt management audit
voluntarily due to its following benefits:
1. It helps in setting up an organizational framework to implement the plans.
2. It helps management in framing basic policies for the organization and to define objectives.
3. It assists in designing systems and procedures for smooth operation of the organization.
4. It assists in analysing SWOC (strengths, weaknesses, opportunities and challenges) of the
organization and helps to provide right navigation to the concern.
5. dia has been grossly benefited by introducing management audit to government sector like
railways as this type of audit breaks the barriers of conventional audit periphery and focuses on
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managerial weaknesses and failures. It has helped many government companies to run efficiently.
6. It helps in designing and reviewing Management Information System (MIS) for decision making.
7. It is essential where a unit is planned to be taken over or an amalgamation or merger with other
unit is proposed.
8. It can help in analysing social cost benefit analysis for public projects like power stations,
highways, etc.
9.
Management Audit Procedure:
Though Management Audit conducted for a specific organization is tailor made, but general approach to
conduct Management Audit may be outlined as follows:
1. Collect necessary data and information by making a preliminary survey in order to frame an
effective audit planning.
2. Study applicable laws, history, nature of responsibility of the assignment given and the authorities
responsible for particular decision making and action in order to conduct the audit efficiently and
effectively.
3. Study the existing system of management control and operating procedures, administrative
activities and explore all significant weaknesses inherent in the activities.
4. Start working on the issues identified by using various tools necessary for evaluating the decisions,
activities and operations under scanner.
5. Report on the findings of the audit work performed to those responsible for receiving them
together with the recommendation for improvement.
Concept and Definition of Tax Audit:
Audit under the Income Tax Act, 1961 has been done under two broad categories:
1. Tax Audit under Section 44AB

2. Audits enter Sections 12A, 35D, 35E, 80IA, 142(2A) [not included in the syllabus].
Tax Audit u/s 44AB of the Income Tax Act, 1961 has been discussed at length.
In order to prevent tax evasion by unscrupulous business and professional people, the Finance Minister of
Union of India presented a bill in the parliament in 1984. This bill was converted into act and introduced
Tax Audit under Section 44AB of the Income Tax Act. No specific definition of tax audit is given under the
act, it is different from statutory audit. It requires specific skills and knowledge on taxation matters to
conduct tax audit fruitfully. In general tax audit may be defined as specialized audit conducted for the
purpose to ensure that taxable income of the assessee has been exhibited in transparent manner and
tax has not been evaded unlawfully.
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Difference between Statutory Audit and Tax Audit:
Statutory Audit Tax Audit

1. It is conducted as per the provisions of 1. It is conducted as per the Income Tax Act,
Companies Act, 2013. 1961.
2. Audit report to be submitted in the annual 2. Tax audit report to be submitted to the
general meeting before the shareholders. appointing authority in turn who will submit
it to income tax authority.
3. The objective of conducting statutory audit is 3. The objective of conducting tax audit is to
to ensure whether the state of affairs of the ensure that there is no evasion of tax and all
entire business exhibits true and fair view for taxable incomes are transparently presented.
a given period of time.
4. Statutory audit report is normally given in 4. Tax audit report is to be given in form
statement form. 3CA/3CB 7 3CD and tax auditor is required to
upload the tax audit report directly in the e-
filing portal.
Objectives of Tax Audit:
Following are the major objectives of tax audit:
1. To prevent evasion of tax and unlawful avoidance of tax by the assessee.

2. To exhibit all taxable income transparently before the assessing officer.
3. To ensure that the assessee avails legal means of tax avoidance mechanism in order to minimize tax
burden.
4. To ensure that the assessee has complied the statutory requirements of maintenance of books of
accounts and other records.
Provisions of Section 44AB:
Section 44AB provides for the compulsory audit of accounts of certain persons carrying on business or
profession. The provision of this section are as under.
Every person:
a) Carrying on business shall, if his total sales, turnover or gross receipts, as the case may be in
business exceed or exceeds one crore rupees in any previous year.
b) Carrying on profession shall if his gross receipts, in profession exceed fifty lakhs rupees in any
previous year.
c) Carrying on the business shall if the profits and gains from the business are deemed to be the
profits and gains of such person under Section 44AE or Section 44BB or Section 44BBB as the case
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may be and he has claimed his income to be lower than the profits or gains so deemed to be the
profits and gains of his business, as the case may be, in any previous year.
d) Carrying on profession shall, if the profits and gains from the profession are deemed to be the
profits and gains of such person under Section 44ADA and he had claimed such income to be
lower than the profits and gains so deemed to be the profits and gains of his profession and his
income exceeds the maximum amount which is not chargeable to income tax in any previous
years, or
e) Carrying on business shall, if the provisions of sub-section (4) of Section 44AD are applicable in his
case and his income exceeds the maximum amount which is not chargeable to income tax in any
previous year, get his accounts of such previous year audited by an accountant before the
specified date and furnish by that date and furnish by that date the report of such audit in the
prescribed from duly signed and verified by such accountant and setting forth such particulars as
may be prescribed.
Appointment of Tax Auditor:
Following points to be considered in relation to appointment of tax auditor:

a) The tax auditor should obtain an appointment letter from the assessee for conducting tax audit u/s
44AB.
b) Before accepting the appointment he should communicate with the previous tax auditor and should
take his consent. He should find out whether there is any professional or other reasons for not
accepting the appointment.
c) The tax auditor should get the statement of particulars as required in the annexure to the audit
report, duly authenticated by the assessee.
d) The Income Tax Act does not prevent a relative or an employee of the assessee to be appointed as
tax auditor but according to Institute OF Chartered Accountants of India it is prohibited.
e) An internal auditor of the assessee cannot conduct tax audit if he is an employee of the assessee.
f) The letter of appointment should specify the remuneration of the tax auditor. SA 210 – “Agreeing
the terms of audit engagement” issued by ICAI requires that the auditor should agree with the terms
of audit engagement with management.
Penalty:
According to Section 271B of the Income Tax Act, 1961, if any person who is required to comply with
Section 44AB fails to get his accounts audited in respect of any year as required under Section 44AB, the
assessing officer may impose penalty which shall be lower of the following:
a) 0.5% of the total sales, turnovers or gross receipts, as the case may be in business, or of the gross
receipts in profession in such year or years.
b) Rs. 1,50,000
However, according to Section 273B, no penalty shall be imposed if reasonable cause for such failure is
provided.
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Tax Audit Report:
Section 44AB requires the tax auditor to submit the audit report in the prescribed forms. Rule 6G (Sub
rule I) provides that the audit report of a person required to be furnished u/s 44AB in:
1. Form 3CA:
2. Form 3CB:
3. Form 3CD:
Filing of Tax Audit Report:
As per the recent developments, the tax audit report is required to be uploaded using digital signature of
the tax auditor. The report should be uploaded on the tax portal of www.incometaxindia.gov.in. For this,
the tax auditor is required to E-Filing portal as tax professional-Chartered Accountant.
Revision of Tax Audit Report:
Normally, the report of tax auditor cannot be revised later. However, when accounts are revised in the
following circumstances, the auditor may have to revise his audit report also:
1. Revision of accounts of a company after its adoption in AGM.
2. Change in law with retrospective effect.
3. Change in interpretation of law.
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1. What is cost audit? Describe the objectives.
Cost audit is the independent verification of cost records maintained in manufacturing and mining
industries. It is conducted with a view to ascertaining whether cost records of the company are being
maintained as per cost accounting principles, plans and procedures. The cost auditor verifies cost
statements to report on true and fair view of cost of production and to highlight areas of inefficiency
and wastage, extent of underutilization of capacity and causes of production bottlenecks.
Objectives of Cost Audit:

The objects of cost audit are two folds which have been discussed as follows:
A. General objects:
i. To see whether there is any error of principle of cost accountancy and frauds committed
incost accounts.
ii. To verify the correctness and propriety of recorded events and transactions in the
costrecords.
iii. To see that value of closing finished stock and work in progress have been
correctlyascertained.
iv. To ensure that total costs of each product, process and operation have been
correctlyascertained.
v. To help the management by bringing their notice to inefficiencies and wastages in the use
of man, money, materials and machines.
vi. To see that data and information furnished to various Government Agencies are
authenticand reliable.
vii. To see whether actual costs incurred are within budget or standard and to exercise
controlover costs by analyzing the reasons of adverse variances.
viii. To see whether any undesirable practice has been adopted by the management.
ix. To provide the Government with necessary cost data and information.
x. To render suggestions to management for improvement in performance.
B. Social objects
i. Increasing national income: To enhance national income of the country by
providingnecessary counseling for increasing productivity.
ii. Price fixation and price control: To enable the Government to exercise control
overproduct price by providing necessary cost data.
iii. Better utilization scarce resources: To ensure optimum utilization of scarce resources of
the country by suggesting change in product mix.
iv. Guard against evasion of tax: To enhance the tax revenue of the Government by
preventing the tendency of undervaluing work-in-progress and stock-in-trade and
includingartificial costs in the computation of cost of production.
v. Cost consciousness: To create cost consciousness in the minds of all members of the
society engaged in the various activities of nation whether in public or private sector.
vi. Benefits of customers: To benefits the customers by helping the Governments as well
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asindustry to reduce price.

vii. Foreign Exchange Earning: To help in the earning of foreign exchange by
enablingindustries to penetrate in foreign market with goods at reduced price.
viii. Employment generation: To create new employment opportunities by ensuring
investmentof surplus fund.
2. Discuss the advantages/need/Importance of Cost Audit

from the view point of the Management.
The need for audit of cost accounts is now being growingly felt in industry. It has got vast potentiality
particularly in the context of wastage and inefficiency, under – utilization of capacity, low productivity,
corporate sickness, rising price and slow pace of economic development. In fact, the thought that the cost
audit is superfluous when financial audit is conducted in an organization, is not at all justified. While
financial audit has great role to play in its respective field, cost audits acts as an effective tool of control
in the hands of management. It also renders invaluable services to shareholders, customers, government
and to the society at large. The need for audit of cost accounts can be understood from the following
services rendered by it:
i. Increasing productivity: Cost audit highlights wastage and inefficiency in the manufacturing
operation of the business. It also emphasizes on the optimum capacity utilization. This
leads to an improvement in the productivity level of the business.
ii. Decision making: Cost audits provides vital data based on which management can take various
policy decisions such as make or buy, selection of product mix, pricing policy, etc. So managerial
efficiency is enhanced by cost audit.
iii. Utilization of resources in alternative channels: By showing the best alternative avenues for
channeling resources, cost audit increases shareholders return.
iv. Setting of standard: The audited costs can be used by associations of various industries for
compiling standard cost of the product against which the individual firm may compare their
actual cost.
v. Customer’s benefit: By ensuring efficient and effective utilization of resources, cost audit
enhances value added on input. This added value can be enjoyed by all and definitely some
portion of it can be passed on to customers by way of reduced price of product.
vi. Arresting corporate sickness: By creating cost consciousness in the minds of all employees, cost
audit can definitely go a long way reducing the magnitude of industrial sickness, now plaguing
our economy.
vii. Extending tariff protection: The government can take decisions regarding extension or abolition
of tariff protection based on audited cost structure of various companies.
viii. Control over monopolistic price: Very often it is seen that a monopoly firm fixes price of its
product at its whims ignoring customer’s interest altogether. This tendency can be curbed by
thegovernment based on the audited cost structure of that company.
ix. Earning foreign exchange: Home industry cannot penetrate into foreign market without quality
goods at reduced prices. Cost audit, by ensuring optimum utilization of resources, can help the
industry in this regard.
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x. Creation of employment opportunities: By eliminating wastage and thereby generating

additional fund, cost audit helps to make new investment which is the crying need of the
country for solving the present unemployment problem.
Cost audit has now passed its embryonic stage. Its importance is now being gradually
understood by the captains of industries and also by the Government. That is why,
government of our country has been gradually brining important manufacturing as well
as servicing industries under the purview of cost audit.
3. Distinguish between Cost Audit & Management

Audit?
Points of distinction Cost Audit Management Audit

Definition Cost audit is the verification of the Management audit is constructive
correctness of cost records and adherence and comprehensive appraisal and
to the cost accounting principles plans examination of organization structure
and procedures of concern, its plans, means of
operation and use of resources.
Auditors Qualification The cost Auditors as per Companies Act Management auditor need not
1956 must be a Cost Accountant under necessarily be a qualified accountant. A
the meaning of Cost and Works Accountant person with special ability and
Act 1959, and in case of non-availability of knowledge can conduct
cost management
accountant, must be a chartered Accountant. audit.
Objective Its main objective is to ascertain the The objective of management audit is
reliability and fairness of cost records to see whether the company is being
andcost statements. run efficiently or inefficiently,
prudently or imprudently and to
show ways and
means of improvement of performance.
Periodicity Cost audit, if ordered by the Central Management audit is not done for
Government is to be conducted for the anysuch fixed period. It may cover from
particular year specified in the order. oneto three or four years.
Statutory provision Cost audit, is conducted as per section 233 There is no such provision of
(B) of the companies Act in a management audit in the Companies
manufacturing, mining or processing Act,it is done as per requirement of
industry if specifically ordered by Central management.
Government.
Reporting Since cost audit is conducted as per order As management audits is conducted
of Central Government, its report is at the behest of management, its
submitted to the central government report is submitted to the
with a copy to management for their
management. perusal and taking corrective actions
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Coverage Cost audit is mainly concerned with Management audit may cover all
production or service function important areas of the organization
namely production function,
Administrative function, marketing etc.
4. Write a short note on tax audit

Concept of Tax Audit
Statutory audit is done primarily keeping in view the information requirements of shareholders. But
there are also other stakeholders who are interested in the financial information of the entity. One such
stakeholder is Tax Authority who wants to know the correct income of the assessee from tax-point of
view. With this objective the Income Tax Act, 1961 has contained a number of provisions requiring tax
audit of an entity.
Tax audit can be defined as ―an examination of financial records to assess correctness of calculation of
taxable profit, to ensure compliance with provisions of the Income Tax Act and also ensure fulfillments
of conditions for claiming deductions under the income Tax Act.‖
Types of Tax Audit

Tax audit under the Income Tax Act can be broadly summarized under the following three heads:
i. Compulsory tax audit under section 44AB
ii. Tax audit for various deductions and exemptions
iii. Selective tax audit under section 142(2A)
Provision of Income Tax Act, 1961 for Tax Audit u/s 44AB
The provisions for compulsory tax audit u/s 44AB are as follows:
1. Applicability: Tax audit is compulsory for the following categories of assessee:
i. Assessee carrying on any business whose total sales turnover or gross receipts exceed
Rs.1.00 crores in the previous year
ii. Assessee carrying on profession where gross receipts in the previous year exceed Rs. 25
lakhs
iii. Assessee carrying on business referred to u/s 44D, 44AE, 44AF, 44BB, 44BBB, and declaring
lower income than prescribed under those sections.
2. Qualification to conduct tax audit: The audit shall be conducted by an ‘Accountant’ as explained
u/s 288 of the Income Tax Act, 1961. This Section defines accountant as follows:
i. A Chartered Accountant within the meaning of the Chartered Accountants Act, 1949
holding certificate of practice
ii. Auditor of a company under section 226(2) of the Companies Act. It is to be noted that by
the virtue of a resolution of the council of the Institute of Chartered Accountant of India,
with effect from 1.4.2005, a member in part-time practice is not entitled to perform tax
audit.
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3. Disqualification of Tax auditor:

i. A Chartered Accountant who has written the books of the assessee
ii. A Chartered Accountant who is an employee of the assessee or of a concern under the
same management
iii. Internal auditor who is an employee of the company.
4. Removal of Tax Auditor: There is no specific procedure for removal of tax auditor u/s 44AB of the
IT Act. However he can be removed by the management for valid ground e.g. delay in submission
ofreport.
5. Filling of Tax audit report: The tax audit report along with return of income must be furnished to
income-tax authority by the specified date i.e. 31st October of relevant assessment year.
6. Penalty for non-compliance: In case of failure of an assessee to get his accounts audited as per
Section 44B or to furnish the tax audit report with return of income, a penalty equal to 0.5% of
total sales or gross receipts as the case may be, or Rs. 1.00 lakh, whichever is lower, shall
be imposed u/s 271B of the Income tax Act.
7. Ceiling on the number of audits:
i. A Chartered Accountant shall not accept more than 45 tax audit assignment in a financial
year.
ii. In case of partnership firm, the specified number of forty five tax audit assignment shall be
counted for every partner of the firm.
8. Form of Report: the audit report shall be submitted in the following forms.
Nature of person Audit report Statement particulars
A. In case of a person who carries o Form No. 3CA Form No. 3CD
business profession and who is requir
by or under any law to get his accoun
audited
B. In case of a person who carries o Form No.3CB Form No. 3CD
business or profession but not being
person referred to above
5. What is social audit? What are its objectives?
The functioning of a firm in the society involves social costs. There are some social costs or detriments to
society for which it has to make payments, e.g. cost of material, energy, labour etc. Again there are some
social costs for which it is not required to make any payment. Examples of this category of social costs
are pollution of environment, spread of diseases, dislocation of inhabitants of a locality etc. So it is but
natural to expect that firm should spend a portion of its revenue for the benefit of society. The service to
society should be commensurate with costs or detriments which it causes to the society. If the firm ignores
this duty, its existence in the society will not be justified. In the backdrop of this development, the
concept of social audit has emerged. Social audit can be defined as the assessment of the social
performance of a firm in the society to which it belongs. It verifies whether a firm is discharging its social
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obligations commensurate with social costs or detriments to the society caused by its operation. The
National Association of Accountant‘s (NAA) Committee on Accounting for Corporate Social
Performance has identified four major areas of social performance on which the auditor should compile
data and information for assessment:
(a) Community Development: Activities that are undertaken for the benefit of general public e.g., housing,
health service, eradication of illiteracy, food programmes etc.
(b) Human Resources: Activities undertaken for the well-being of the employees e.g., training programme,
improvement of work conditions, education for staff children etc.
(c) Physical Resources and Environmental Contribution: Activities directed towards prevention of
environmental pollution, spread of diseases, depletion of scarce natural resources etc.
(d) Product or service contribution: Activities such as consumer protection, product safety, warranty
provision and product quality.
Objectives of Social Audit:
Objectives of social audit are:

1. To ensure that investment of shareholders is safe and secured and they get a adequate return on their
investment.
2. To see that the company has taken reasonable steps to control pollution and to reduce environmental
hazard.
3. To see that scarce natural resources are being judiciously and optimally used in the firm.
4. To verify that Government is being properly compensated in the form of various types of taxes against
various infrastructural facilities like road, police, fire service etc.
5. To see whether the company is in continuous search of reducing the costs of production and improving
the quality of products.
6. To see that interest of consumers is duly protected.
7. To verify whether the interest of creditors and investors have been duly protected by the firm.
8. To see that safety of workers has been duly ensured and necessary arrangements have been made for
their welfare, education and training.
9. To see that employer and employee relationship is good and congenial.
10. To ensure that the company is not adopting any unfair trade practices.
11. To see that adequate compensation has been paid to the inhabitants displaced due o the
establishmentof units by the company.
12. To verify whether adequate measures for community development have been taken by the entity.
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6. What are the advantages of Social Audit?

Advantages of Social Audit:
Following are the advantages of social audit:
1. Assessment of social performance: Social audit assesses the contribution made by a firm to the society. It is
possible to determine by means of social audit whether a firm is adequately compensating the society
against the costs or detriments suffered by the society due to its operation.
2. Social awareness: Very often the adverse impact on society of the operation of the firm e.g. air, water and
noise pollution or spread of diseases etc. remain hidden. It is the social audit which brings these facts to
lightand compel the firm to take necessary measures for prevention of environmental degradation. So social
audit creates social awareness among the businessmen.
3. Prevention of unfair trade practice: The unfair trade practices, if committed by a business, will be revealed
by social audit. So, the magnitude of unfair trade practices which is so rampant in our society can be
significantly reduced by the introduction of social audit.
4. Establishing justifiability of a business: With the help of social audit, the justification of continuance of a
firm in the society can be established. If it is found that a firm is generating net social deficit i.e., its social
cost is more than its social benefits, it should not be allowed to function from macroeconomic point of view.
5. Allocation of scarce resources: To ensure effective allocation of scarce resources, evaluation of projects
should be done from the view point of their social costs and social benefits.
7. What do you mean by Environmental Audit? What are its

objectives? Discuss the advantages.
The concept of audit has undergone a sea change. It is not merely confined to accounting and finance.
It has been extended to other areas of social sciences. One such area where audit is now playing an
important role is related to environment. Environment refers to external conditions and surrounding in
which people, animals or plant live. But now this external surrounding is getting polluted day by day.
Different types of pollution which are now damaging environment are (a) Air pollution, (b) Water
pollution, (c) Soil pollution and (d) Sound pollution. Many industries are directly responsible for
pollution of air, water, soil and sound. Specially, industries like pesticide industry, tannery industry,
petro-chemical industry, thermal power generation, cement industry, Foundry industry etc. cause havoc
damage to the environment. This damage, although not completely avoidable, can be restricted to a
great extent if proper measures are taken. For this purpose, Governments of many countries have passed
several environment related legislations.
Objectives of environment audit:

he main objectives of environment audit are
(i) To ensure the introduction of eco-friendly technologies.
(ii) To see whether the social costs incurred due to manufacturing process of the firm is more than offset
by the social benefits rendered by it.
(iii) To check that costs incurred for environmental protection are not mere wastage of money but are
helping to keep the environment clean and pollution free.
(iv) To see that natural resources are not being extracted and consumed in the way detrimental to the
[144]
society.
(v) To control the costs incurred on procuring the natural resources and ensure that they have been
properly classified.
(vi) To check the compliance of existing environmental related legislation.
(vii) To ensure that standard environmental practices are being followed by the firm.
Following are the advantages that can be derived from the application of environment audit:
(1) Developing Environmental Consciousness: Environment audit keeps the management alert about the
possible hazards associated with the manufacturing process. It compels them to take necessary
precautions so that the company’s operation cannot cause damage to environment beyond an
acceptable limit.
(2) Maintenance of Ecological Balance: Very often industrial activities lead to extinction of many living
things. This is happening due to ecological disbalance caused by industrial pollution. Bhopal gas leak,
Chernobyl disaster, Oil spill off the British South Coast etc. are the examples which destroyed many
living creatures including human beings. Proper environment audit can prevent recurrence of such
disasters and ensure betterment of life.
(3) Optimum utilization of scarce resources: Very often natural resources are consumed recklessly
ignoring the interest of next generation. Environment audit can ensure proper utilization of natural
resources.
(4) Preparation of environment cost budget: It can help to prepare environment cost budget by providing
necessary information required for pollution free environment.
(5) Cost effective measures: It ensures that measures taken for environment protection are cost effective
and they are not causing drainage of money from company’s exchequer.
(6) Recording and reporting of environment cost: Environment audit can ensure proper recording and
reporting of environment cost incurred by the firm. This can help the Government to frame suitable
policy regarding environment protection.
[145]

Auditing Book Gobind Kumar Jha

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Gobind Kumar Jha 9874411552

Basic Principles of Governing an Audit:

 SA 240, The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial Statements

Difference between Fraud and Error:

Point of Difference Error Fraud

Organization Structure Objective Periodicity Technique

Statutory Audit Internal Audit Periodical Audit Balance

Difference between Statutory Audit and Non-statutory Audit:

Point of Difference Statutory Audit Non-statutory Audit

Difference between Independent Financial Audit and Internal Audit:

Point of difference Independent Financial Audit Internal Audit

Distinction between Continuous Audit and Periodical Audit:

Point of Difference Continuous Audit Periodical Audit

6. Preparation of It helps in preparation of interim Does not prepare interim accounts.

Difference between Audit and Investigation:

Point of Difference Audit Investigation

 Standards on Auditing (SAs) is applied in the auditing historical financial information.

 Purpose of Standard on Auditing:

 Importance of Standard on Auditing:

1. Do you agree with the view that there are inherent

2. Accounting is a necessity while auditing is a luxury for a

3. Accountancy begins where book-keeping ends &

4. ―Auditing may be defined as Accounting control

5. Detection and prevention of errors are the main objects

DETECTION OF FRAUD & ERRORS

THE AUDITOR CAN SUSPECT FRAUD UNDER THE FOLLOWING CIRCUMSTANCES.

PROCEDURE TO BE FOLLOWED TO DETECT ERRORS.

THE AUDITOR SHOULD PERFORM THE FOLLOWING DUTIES IN RESPECT OF FRAUD.

6. Distinguish between Accountancy & audit

Points of difference Accountancy Audit

7. Distinguish between Internal audit & statutory

Point of Difference Internal Audit Statutory Audit

8. Distinguish between continuous audit & periodic

Point of Difference Continuous Audit Periodical Audit

9. Distinguish between interim audit & Internal audit

Point of Difference Interim Audit Internal Audit

10. Distinguish between Balance sheet audit & Final audit

Point of Difference Balance Sheet Audit Final Audit

Points of distinction Audit Investigation

12. What do you mean by standards on auditing (SA)? Discuss

Audit Engagement [SA 210]:

Audit Engagement Letter:

Advantages and Disadvantages of Audit Programme:

Developing an Effective Audit Programme:

a) Written audit programme: It is important to have a written audit programme which is to be

Examples of Audit Documents:

Audit Working Papers:

Ownership of Working Papers:

Custody of Working Papers:

Retention of Working Papers:

Types of Audit File:

(i) Information regarding legal and organizational structure of the entity.

Contents of Current Audit File:

(i) Correspondence relating to acceptance of annual reappointment.

Advantages of Audit File:

(i) It helps to increase the efficiency of audit procedures.

a) A brief history of the organization

 Definition of Audit Evidence:

 Need to obtain Audit Evidence:

 Classification of Audit Evidence:

Audit evidence may be classified in two broad categories:

Objectives of conducting Routine Checking are:

a) Detection of errors and frauds

Advantages and Disadvantages of Routine Checking: