PPA Notes Module 1

Principles and Practice of Auditing Y R Kavyareddy Mcom (PhD) Asst.
professor
Principles and Practice of Auditing Module 1 – Introduction to Auditing

A. Origin of Auditing
The origin of auditing may be traced back to the 18th century when the practice of large-scale
production was developed as a result of Industrial Revolution. It is found that some systems of
checks and counter checks were applied for maintaining accounts of public institutions, as early
as the days of the ancient Egyptians, the Greek and the Romans.
The growth of Accounting profession in India is of a quite recent origin. It was an outcome of the
Indian companies Act, 1913 which prescribed for the first time the qualifications of an auditor.
Due to rapid growth in the size of business firms, it has become necessary that the accounts must
be checked and audited by an independent person, known as auditor especially in case of joint-
stock companies where the shareholders are drawn from far off places. That is why it becomes
necessary to assure them that their investment is safe and that the directors and the managing
directors etc. handling capital and accounts, have presented true and correct accounts.
The original objective of auditing was to detect and prevent errors and frauds. Auditing evolved
and grew rapidly after the industrial revolution in the 18th century with the growth of the joint
stock companies the ownership and management became separate. The shareholders who were the
owners needed a report from an independent expert on the accounts of the company managed by
the board of directors who were the employees. The objective of audit shifted and audit was
expected to ascertain whether the accounts were true and fair rather than detection of errors and
frauds. The companies Act.1913 also prescribed for the first time the qualification of auditors.The
International Accounting Standards Committee and the Accounting Standard board of the Institute
of Chartered Accountants of India have developed standard accounting and auditing practices to
guide the accountants and auditors in the day to day work The later developments in auditing
pertain to the use of computers in accounting and auditing. In conclusion it can be said that auditing
has come a long way from hearing of accounts to taking the help of computers to examine
computerized accounts
B. Definition
The word “audit” is derived from the Latin word “audire” which means “to hear”. In olden times,
whenever the owners of, a business suspected fraud they appointed certain persons to check the
accounts. Such persons sent for the accountants and “heard” whatever they had to say in connection
with the accounts. Since then there have been lot of changes in the scope and definition of audit.
The following are some of the definitions of audit given by some writers:
According to Spicer and Pegler, “An audit may be said to be such an examination of the books,
accounts and vouchers of a business as will enable the auditor to satisfy himself that the balance
sheet is properly drawn-up, so as to give a true and fair view of the state of the affairs of the
business, and whether the profit and Loss Accounts gives a true and fair view of profit or loss for
the financial period, according to the best of his information and the explanations given to him and
as shown by the books and if not, in what respect he is not satisfied”
Nagarjuna Degree College Page 1

Principles and Practice of Auditing Y R Kavyareddy Mcom (PhD) Asst. professor
R.B. Bose has defined as audit as “the verification of the accuracy and correctness of the books
of account by independent person qualified for the job and not in any way connected with the
preparation of such accounts.”
M.L. Shandily has defined auditing as “inspecting, comparing, checking, reviewing, vouching
ascertaining scrutinising, examining and verifying the books of account of a business concern with
a view to have a correct and true idea of its financial state of affairs”.
From a closed scrutiny of the definitions given by various writers, it would be evident that these
are different methods of saying a particular thing but still there is a lot of similarity therein.
Audit may be defined as :
1. an intelligent and a critical examination of the books of account of a business which,
2. is done by an independent person or body of persons qualified for the job,
3. With the help of vouchers, documents, information and explanations received from the
authorities, so that,
4. the auditor may satisfy himself with the authenticity of financial accounts prepared for a fixed
term and ultimately report that,
(i) the Balance Sheet exhibits a true and fair view of the state of affairs of the concern,
(ii) the Profit and Loss Account reveals the true and fair view of the profit or loss for the financial
period, and
(iii) the accounts have been prepared in conformity with the law. In short, an audit implies an
investigation and a report. Difference between
Standard Auditing practices (SAP 2) issued by ICAI states that “the objective of an audit of
financial statement prepared within aframework of recognized accounting policies andprocedures
and relevant statutory requirements, is to enable an auditor to express an opinion on such financial
statements”
C. Accountancy and Auditing
The difference between Accountancy and Auditing
1. Accountancy is mainly concerned with the preparation of summary and analysis of the records
prepared by the book-keeper for this, an accountant has to prepare trial balance and then annual
accounts. On the other hand, Auditing means the verification of book entries and accounts to
find out their accuracy. So the auditor’s work is to find out whether the final accounts exhibit
a true and fair view of the state of affairs of the concern or not and to report his findings to the
shareholders.
2. An accountant is an employee of the business while an auditor is an independent outsider.
3. As an employee of business, an accountant draws his monthly salary regularly from the business
itself while an auditor is paid a remuneration agreed upon between him and his client.
4. An accountant is not expected to have a knowledge of auditing but for an auditor, it is very
essential to possess a thorough knowledge of accountancy.
5. An auditor can be changed from year to year but an accountant is not, as he is usually a
permanent employee of the business.
D. Differences Book-Keeping, Accountancy and Auditing
• Book-Keeping, Accountancy and Auditing are the three aspects of the term ‘Accountancy’
itself in its widest sense. 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. A person with the knowledge of rules of
journalizing and posting can very easily do the job. In some countries like Africa & England,
this work is done by machines.
• Accountancy- Accountancy begins where book-keeping ends.” It means that an accountant
comes into the picture only when the book keeper has done his job. 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 explanationsubmitted to him. An auditor has to satisfy
himself after due verification andcomplete. 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 of accountancy 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.
Book-keeping Accountancy Auditing
1. Journalizing. (Recording & 1.Checking the work of the 1. Checking the work done
Balancing) Book-keeper. by the accountant.
2. Posting into Ledger. (the 2. Preparation of Trial (Examination of Records)
Practical Part) Balance (the Analytical part)
3. Totaling of different accounts 3.Preparation of Trading &
in the Ledger Profit & laws account,
4. Balancing, 4.Preparation of Balance
sheet,

5.Passing entries for

rectification of errors and
making adjustments,
E. Objectives of an Audit
(1) The primary objective of auditing is to verify the accounts and records and to report to the
owners of the business whether the profit and loss account and the Balance sheet have been
properly drawn up according to the requirements of law, and whether they exhibit a true and fair
view of the profit and the financial position of the business.
To ensure that the primary objective of audit is achieved, an auditor must:
(a) Examine the Internal Control and Internal Check.
(b) Verify whether all the books of accounts as required by law are kept.
(c) Verify whether proper accounting principles and procedures are followed.
(d) Check the arithmetical accuracy of the books of accounts.
(e) Verify the authenticity and validity of the transactions.
(f) Confirm the existence and the values of the assets and liabilities by physical verification.
(g) Find out whether the financial statement is properly drawn up.
(h) Report whether the profit and loss gives a true and fair view of the profit or loss for the year
and Balance sheet gives a true and fair view of the financial position of the business at the end of
the financial year.
(2) Secondary objectives
(1) Detection and prevention of errors.
(2) Detection and prevention of frauds.
The difference between an error and fraud is that error generally arises out of the innocence
or carelessness on the part of those responsible for the preparation of accounts, while fraud
involves some intention to gain out of manipulating records.
(3) Other Objectives
There are other specific objective in respect of each type of specific audits. For example, in the
cost audit the work of the auditor is to check the cost records of the entity in order to make a report
on the proper ascertainment of cost of production of goods or services. Depending upon the nature
of specific audit, there may be different objective in respect of each specific audit.
F. Errors and Frauds
Types of Errors

1. Clerical Errors : Clerical errors are those which result on account of wrong posting that is
posting an item to a wrong account, totalling and balancing. Such errors may again be subdivided
into:
(i) Errors of Omission : An error of omission takes place when a transaction is completely or
partially not recorded in books of account. For example, goods purchased from Narendra Kumar
were not recorded any where in account books. This error will not affect the agreement of Trial
Balance. But if posting is not done in one of the accounts, this will affect the agreement of Trial
Balance.
(ii) Errors of Commission : Errors of commission take place when some transaction in incorrectly
recorded in books of account. Following are the examples of such errors :
• Error in the books of Original Entry.
• Debiting or crediting one account instead of the other.
• These two errors do not affect the agreement of Trial Balance,
• Wrong balancing of an account.
• Error in writing amount in an account. For example, debiting Prem Chand’ s Account with Rs.
107- instead of Rs. 100/-.These errors affect the agreement of Trial Balance.
(iii) Compensating Errors :- Compensating errors arise when an error is counter balanced or
compensated by any other error so that the adverse effect of one on debit (or credit) side is
neutralized by that of another on credit (or debit) side. For example e Rani’s account was to be
debited with Rs. 10, but it was debited with Rs. 100 similarly Shyam’s account was debited with
Rs. 10 instead of Rs. 100. Both these errors compensate each other’s deficiency and will not affect
the agreement of the Trial Balance.
(iv) Error of duplication: These errors occur when the same transaction has been recorded twice.
They could be recorded in the journal twice or ledger twice. These are unintentional and may be
my mistake or lack of knowledge. These are difficult to trace as they cannot be identified in the
trial balance. They are located on the basis of relevant attached documents.
2. Errors of principle :
Errors of Principle take place when a transaction is recorded without having regard to the
fundamental principles of book-keeping and accountancy. For example a capital expenditure, say
expenses incurred in constructing a godown, may be treated as a revenue expenditure or vice versa,
Sometimes adjustments are not taken into consideration while preparing Final Accounts. These
are errors of principle. These errors, however, do not affect the agreement of the Trial Balance.
• Wrong allocation of expenditure between capital and revenue
• Wrong posting of revenue item
• Treating revenue expenditure as personal expenditure
• Wrong valuation of assets
• Ignoring depreciation
• Ignoring outstanding expenses

• Treating good debts as bad debts

Detection of Errors
Although it is not the duty of the auditor to trace and locate errors in the books which he is required
to check and audit as this is the work of an accountant but in many cases the auditor is frequently
asked to discover the errors, specially so, when the accountant is unable to locate such errors.
While locating errors, the auditor should take note of following devices :
1. Check the totals of the trial balance.
2. Compare the names of the accounts in the ledger with the names of the accounts as have been
recorded in the trial balance.
3. Total the list of debtors and creditors and compare them with the trial balance.
4. If the books are maintained on the self-balancing system, see that the total of different accounts
agrees with the total of these accounts with the balance of accounts as recorded in the1 trial
balance.
5. Compare the items of the trial balance with the items of the trial balance of the previous year to
see if any item have been omitted.
6. Whatever the difference is in the trial balance, see if there is any item of this amount. This is
done to avoid the putting of the debit balance on the credit side of the trial balance
or vice versa.
7. It is possible that the totals of some subsidiary books, e.g. Cash book, Sales book etc. might not
have been transferred to the trial balance. Recheck the totals of these books.
Detection and Prevention of Fraud
Fraud means false representation or entry made intentionally or without being in its truth with a
view to defraud somebody. Detection of fraud is considered to be one of the important duties of
an auditor.
Fraud may be of three types
1. Misappropriation of Cash : It is easier to misappropriate cash, therefore the auditor will have
to pay particular attention towards cash transaction. Cash may be misappropriated by,
(a) Omitting to enter any cash which has been received; or
(b) Entering less account than what has been actually received; or
(c) making fictitious entries on the payment side of the cash book; or
(d) entering more amount on the payment side of the Cash Book than what has been actually paid.
In order to discover fraud under (a) and (b) above, the auditor should check the debit side of the
cash book with rough cash book, salesmen’s reports, counterfoils of the receipt books, agent’s

returns and other original records while the fraud under (c) and (d) can be discovered by reference
to the vouchers, wage sheets, salary book invoices, etc.
Misappropriation of cash could be done by
• Inflating Payments
• Suppressing receipts
2.Misappropriation of Goods :- This type of fraud is very difficult to detect especially when the
goods are less bulky and are of higher value. Proper methods of keeping accounts in regard to
purchases and sales, stock, taking, periodical checking of stocks, comparing the percentage of
gross profit to sales of two periods, necessity for collusion will help to avoid misappropriation of
goods.
3. Fraudulent Manipulation of Accounts : This type of fraud is more difficult to discover as it
is usually committed by directors or managers or other responsible officials. That is why the
auditorshould be very careful in detecting such frauds. He should carry out the routine checking
and vouchingmost carefully and make searching, tactful and intelligent enquiries.
Such a fraud is committed with the following two objects :(a) Showing more profits than what
actually they are so as to increase the commission payable on the basis of profits, borrow money
by showing a better position, to attract more subscribers for the sale of the shares of the company
etc. or (b) Showing less profits than what actually they are so as to purchase shares in the market
at a lower price ; or to reduce or avoid the payment of income tax or to mislead a prospective buyer
of the business etc.
The accounts may be manipulated in a number of ways which are as follows:
1. by not providing any depreciation or less depreciation or more depreciation; or
2. by under valuation or over-valuation of assets and liabilities; or
3. by showing fictitious sales or purchases or returns in order to show more profits or less profits
whatever the case may be ; or
4. by showing revenue expenditure to capital account or vice versa.
5. by the utilization of secret reserves during a period when the concern has made less or no profit
without disclosing that fact to the shareholders etc.
Auditor’s duty with regard to detection and prevention of frauds and errors. The legal perception
of auditor’s duty with regard to detection and prevention of frauds and errors has undergone
various charges.
“Auditor is a watchdog, not a blood hound” This statement implies - In case of a limited
company, an auditor is appointed by the shareholders. Thus, he is expected to play the role of a
watch do on their behalf and should look after their interests. Unlike a blood bound the duty of the
auditor is verification and not detection. If he finds out something suspicious during the course of
audit, he should enquire the matter in detail and inform the shareholders about it. But if he does

not discover any such suspicious matter, he is fully justified in trusting and relying an
representations made by the employees of the company. In briefly, in case of errors and frauds,
the auditor has a duty of reasonable care only. In recent years, auditor’s duty has been extended in
some cases, besides shareholders, to third parties. But the condition is that his negligence is proved.
This is in recognition of public pressure on auditors to take more responsibility for detection of
fraud in pursuance of their role of lending credibility to financial statements.
G.Features of Auditing/ qualities and qualification of auditor/ Audit process
a. Audit is a systematic and scientific examination of the books ofaccounts of a business;
b. Audit is undertaken by an independent person or body of personswho are duly qualified for the
job.
c Audit is a verification of the results shown by the profit and lossaccount and the state of affairs
as shown by the balance sheet.
d. Audit is a critical review of the system of accounting and internal control.
e. Audit is done with the help of vouchers, documents, information andexplanations received from
the authorities.
Qualities and Qualifications of an Auditor
An efficient auditor must possess certain general qualities besides statutory qualification, so that
he can carry out his work efficiently and smoothly. The qualities of an auditor as classified below.
1. Professional Qualification - In case of auditors of joint stock companies, the auditor must
pass Chartered Accountant (C.A) examination conducted by the Institute of Chartered
Accountants of India (ICAI)
2. Professional Qualities |
1. The auditor must have a complete and thorough knowledge of the principles, theory and practice
of accountancy. The auditor must be familiar with the different system of accounting and their
aspects.
2. He should have a thorough knowledge in various legislation regulating business such as
Companies Act, the Indian Partnership Act,the Indian Contract Act, etc.
3. The auditor should have a thorough knowledge of the techniques of auditing. He should be fully
aware of new changes and developments in the principles and practice of auditing.
4. The auditor must be familiar with the computer accounting and other automatic machine devices
used in the office.
5. In addition to the knowledge of commercial laws, an auditor should have a thorough knowledge
of the various provisions relating to income tax wealth tax, VAT, gift tax, etc.

6. The auditor should be familiar with the principles of economics and economic laws because a
business has to work, within some specific economic laws and social environment and its influence
is visible into business.
7. The auditor should have knowledge in statistics and mathematics, which will help him to deal
with complicated problems.
8. He must study important judgements in audit cases, which will help him to define the duties,
responsibilities, and liabilities of an auditor.
9. An auditor should have a good knowledge in business organization and financial administration,
and industrial management.
10. The auditor should have knowledge on the technical details of business under audit.
11. Personal qualities – Honesty, Tactful, Ability to Work Hard, Impartial, Cautious and Vigilant,
Methodical, Ability to Trace out Facts and Figures, Always Inquisitive, Courage, Ability to
Maintain Secrets, Ability to Communicate, has to observe certain code of conduct and professional
ethics.
Audit Process -An auditor has to be assured about the accuracy of the books of accounts, to report
authentically about the actual financial position and working results of the organization.
1. Examine the system of internal check
2. Check the numerical accuracy of books of accounts by balancing etc
3. Verify the authenticity and validity of transactions entered in the books with sufficient
support documents
4. Ascertain proper difference between revenue and capital items
5. Confirm the existence of assets and liabilities
6. Verify whether all statutory requirements and all regulations duly complied with.
H. Advantages of Auditing
It is of great importance to get accounts audited in a proprietary concern to see that business is
running efficiently, in a partnership firm to ensure healthy relations among partners and especially
to decide questions like valuation of goodwill at the time of entry, retirement and death of a partner
and in joint stock company in which shareholders invest their money and presume their capital
intact if accounts of such a company are audited by some qualified auditor. Audit is made
compulsory also under the companies Act.
The advantages of audit can be grouped into the following categories :
For Business
1. The accounts of a business and its financial position can be examined by an independent and
qualified auditor.
2. Quick discovery of errors and frauds—Errors and frauds are located very easily and at early
stage. Therefore, chances of their repetition are reduced to the minimum.

3. Moral check on the Employees—Through auditing, the staff maintaining accounts become more
alert and careful in keeping future accounts up-to-date.
4. Loans and credit can easily be obtained from banks and other money lenders on the basis of
properly audited accounts.
5. The business itself enjoys better reputation due to audited accounts.
6. In case of Advice to the management—regular audit, the auditor can come into close touch with
the working of the business & thus, can give suggestions the management to improve it in case he
is asked to do so.
7. Audit is useful in case of a business managed by some agent or representative of its owner.
8. Uniformity in accounts if the accounts have been prepared on a uniform basis, accounts of one
year can be compared with other years and if there is any discrepancy, the cause may be enquired
into.
For the owners of Business
1. If the business is owned by a sale trader, he can rely well on the audited and on his accounts
clerks who are responsible for maintaining accounts.
2. In case of partnership firm, its partners can utilize the audited accounts to settle their disputes in
regard to adjustment of capital and valuation of goodwill at the time of admission, retirement and
death of a partner.
3. In case of a joint stock company. Shareholders living at distant places can rely on audited
accounts and can be sure of their investment being sage with the company.
4. In case of a trust, its trustees can easily make their position clear before others by getting the
accounts audited by an outside auditor.
For others
1. Filling of Income Tax Return—Income Tax authorities generally accept the profit & loss
account that has been prepared by a qualified auditor and they do not go into details of accounts.
2. Settlement of Insurance claim—In case of fire, flood and the like unexpected happenings, the
insurance company may settle the claim for loss or damages on the basis of audited accounts of
the previous year.
3. Sales Tax payments—The audited books of accounts may generally be accepted by the sales tax
authorities.
4. Payment of wealth-tax, expenditure-tax etc.—The taxation authorities can also rely on audited
accounts for the purpose of imposing wealth tax, expenditure-tax etc.
5. Actions against Bankruptcy and insolvency—The audited accounts of a business can be
produced in support of a legal case before the court. It forms a basis to determine action in
bankruptcy and insolvency cases.
6. Future trends of the business—The future trends of the business can be assessed with certainty
from the audited books of accounts.
I. Disadvantages /Limitations of Auditing
Truly speaking an audit should have no limitation of its own. It is designed to protect the interest
of all parties who are interested in the affairs of the business. If these is any short coming arising
there from, it may be due to its narrow scope of application in its related field of operations and
un-extended designation of the concept.
The audit has following limitations.
1. Lack of complete picture—The audit may not give complete picture. If the accounts are prepared
with the intention to defraud others, auditor may not be able to detect them.
2. Problem of Dependence—Sometimes the auditor has to depend on explanations, clarification
and information from staff and the client. He may or may not get correct or complete information.
3. Existence of error in the audited accounts—Due to time and cost constraints, the auditor can not
examine all the transactions. He uses sampling to check the transactions. As a result, there may be
errors & frauds in the audited accounts even after the checking by the auditor.
4. Exercise of judgement—The nature, timing and extent of audit procedures to be performed is a
matter of professional judgement of the auditor. The same audit work can be done by two different
auditors with difference in sincerity & personal judgement.
5. Diversified situations—Auditing is considered to be a mechanical work. Auditors may not be
in a position to frame audit programme which can be followed in all situations.
6. Lack of Expertise—In some situations, an auditor has to take opinion of experts on certain
matters on which he may not have expert’s knowledge. The auditor has to depend upon such
reports which may not be always correct.
7. Limitations of internal control—The auditor can only report on the truth and fairness of the
financial statements. But other problems relating the management and control may not be possible
to be covered by the auditor. Examples of such problems or limitations of internal control are cast-
ineffectiveness, manipulations by management, etc.
8. Influence of management on the auditor—This is also come of the limitations of the audit that
the auditor is influenced by the doings of those in management. The reason is that he is appointed
by the share holders and directors who pay him remuneration or fee.
J. Classification of Audit
Audit may be classified into two categories mainly ; -
(a) according to organizational structure of a business; and
(b) from practical point of view or conduct of business
(a) According to Organizational Structure of a Business
1. Statutory Audit
In case of many undertakings, audit is made compulsory under statute because these undertakings
are established by statute. The audit of their accounts is termed as statutory audit. The following
are the examples of such an audit:
(i) Company Audit:
The audit of joint stock companies compulsory under the companies act. For the first time the
Indian Companies Act, 1913, made it legally compulsory for joint-stock companies in India to get
their accounts audited by an independent professional accountant, but now, the companies Act,
1956 and subsequent amendments have made tremendous changes in the rights, duties, powers
etc., of an auditor.
(ii) Audit of Trusts :-
Trust are usually created for the benefit of the weak and helpless persons like widows, minors etc.,
who are not in a position to have access to and understand the accounts of such trusts. Therefore
the trustees are made responsible to look after the property and to maintain accounts. But in a large
number of cases, the trustees either do not maintain accounts at all or if they are forced to do so,
such accounts are very often misleading. To avoid such a situation specific provisions are
sometimes made in the trust deed for the appointment of auditors to check the accounts of the
trusts. In some of the state in India, Public Trust Acts, (for example, the Bombay Public Trust Act,
1950 etc.) have been enacted which provide for compulsory audit of the accounts of trust by
qualified auditors.
(iii) Audit of other institutions :
There are other corporate bodies such as electricity and gas companies which has been formed
under their respective statutes. There is another set of public bodies in the name of public
corporations, for example, Reserve Bank of India, Industrial Financial Corporation, etc.; Which
work according to the various Acts passed for the purpose. All these institutions fully recognise
the significance of a professional audit which is compulsory for them. The powers, duties and
liabilities of auditors are also well defined and fixed by statues.
2. Private Audit
The institutions which are private in character also get their accounts audited by some qualified
auditors. As such an audit is not required by statute, it is known as private audit. There may be
three types of such institutions which are as follows :
(i) Audit of the accounts of Sole Trader :- The appointment of an auditor in case of a proprietary
concern rests absolutely on the proprietor. His rights, duties and nature of work will depend upon
the terms given in the agreement. Such an auditor must get clear instruction in writing by his client
as to what he has to do and how he has to proceed so that he can be held responsible for any charge
of negligence and by producing the agreement, he can protect himself against such a charge.

(ii) Audit of the Accounts of partnership Firms :- In case of a partnership firm, the auditor is
appointed by agreement between the partners. His rights, duties and liabilities are also defined by
mutual agreement and can be subjected to modification.
(iii) Audit of the accounts of other individuals and institutions :- There are other individuals,
e.g., rent collectors, estate managers, etc., who have large income and huge expenditure. The
qualified auditors are appointed by these individuals in order to verify various accounts prepared
by the accountants.
3. Government Audit
The Government maintains a separate department in the name of accounts and audit department
which performs the audit of its different departments and offices. This department is headed by
the Comptroller and Auditor General of India who is assisted by different officials at various levels.
The duties and liabilities of such auditors are not defined by statue. They are not public auditors
and hence can not be appointed auditors for public concerns. They are meant for Government
departments and as such, they work according to departmental rules and instructions.
4. Internal Audit
By virtue of the organizational pattern, some business institutions appoint auditors who are made
responsible to have a constant and regular review of their accounts. Such auditors are of a
permanent nature and are known as internal auditors. Such auditors, besides checking the accounts
are required to report also as to how the system of accounting can be improved and the system of
internal check be made economical and efficient. They can not be appointed as public auditors or
external auditors and hence are not required to submit their reports in the manner in which external
auditors do.
In short internal audit is the examination of books of account which is conducted by the salaried
officials of a business known as internal auditors throughout the year. The scope of internal audit
is a bit different. It is more closely related to managerial functions than to accounting duties.
(b) From Practical Point of View :
All those forms in which audit is often conducted practically by business houses are as follows :
1. Continuous Audit or Detailed Audit
2. Periodical audit or Final Audit or complete Audit.
3. Interim Audit.
4. Occasional Audit.
5. Partial Audit.
6. Balance Sheet Audit.
7. Cash Audit.
8. Cost Audit.
9. Tax Audit
10. Management Audit
1. Continuous Audit or Detailed Audit :

According to Spicer and Pegler “A continuous Audit is one where the auditors staff is occupied
continuously on the accounts the whole year round, or where the auditor attends at intervals, fixed
or otherwise, during the currency of the financial year, and performs an interim audit; such audits
are adopted where the work involved is considerable, have many points in their favour, although
they are subject to certain disadvantages.” Thus, a continuous audit involves the conducting of
audit of accounts throughout the year at regular intervals, fixed or otherwise, of say, one month or
months. The accounts in such a case are subjected to audit as and when they are prepared. Such an
audit is necessary only for big business houses.
Continuous Audit is applicable in case of following business concerns:
(i) where final accounts are prepared just after the close of the financial year.
(ii) where the transactions are many in number and thus it becomes necessary to get them audited
at regular intervals.
(iii) where the system of internal check in operation is not satisfactory.
(iv) where the statements of accounts are prepared after every month or quarter to be presented to
the management.
(v) where sales effected are very large.
Advantage of Continuous Audit :
1. Easy and quick discovery of Errors and frauds: Errors and frauds can be discovered easily and
quickly as the auditor checks the accounts at regular intervals and in details.
2. Helps the auditor in making valuable suggestions: since the auditor remains more in touch with
the business, he is in a position to know the technical details of it and hence can be of great help
to his clients by making valuable suggestions.
3. Quick presentations of accounts: As the checking work is already performed during the year,
the final audited accounts can be presented to the share-holders soon after the close of the financial
year at the annual general meeting.
4. Keeps the client’s staff regular: As the auditor visits the clients at regular intervals, the clerk
will be very regular in keeping the accounts up-to-date.
5. Moral cheek on the clients staff: If the auditor pays surprise visits, it will have a considerable
moral check on the clerks preparing the accounts.
6. Efficient Audit: As the auditor has more time at his disposal, he can check the accounts with
greater attention and in detail and his work will be more efficient.
7. Preparation of Interim Accounts : If the directors of a company wish to declare an interim
dividend. Continuous audit will help in the preparation of the interim accounts without much delay,
8. Audit staff can be kept busy: The audit staff may be sent to other clients after having finished
the work for one client and thus can be kept busy throughout the year.

Disadvantages of Continuous Audit

1. Alteration of figures: Figures in the books of account which have already been checked by the
auditor at his previous visit, may be altered by a dishonest clerk to defraud the accounts.
2. Dislocation of client’s work: As the auditor visits frequently, it may dislocate the work of his
client and cause inconvenience to the latter.
3. Expensive: It is an expensive system of audit as such an audit is carried on throughout the
financial year at regular intervals.
4. Queries may remain outstanding : As there may be a long interval between the two visits, the
audit clerk may lose the link between the past and present work and the queries which he wanted
to-make may remain outstanding.
5. Mechanical work: Under such an audit, the work of the auditors becomes mechanical and his
frequent visits may also cause boredom to him.
Precautions to guard against its disadvantages :
1. The auditor should issue clear instructions to the effect that the audited figures should not be
changed without bringing itto his notice. If some alteration is necessary it should be done by
passing rectification entries in the journal.
2. He should try to check the accounts of similar nature in one and continuous sitting as far as
possible and if not possible he should check the transaction up to a particular date. He should also
note important totals and balances up to that date in his diary and compare them at his next visit,
3. The auditor should prepare an exhaustive programme to prevent any loop-holes.
4. The explanations of important questions which he finds unsatisfactory should be noted in his
note-book and efforts should be made to get the matters settled.
5. He should go through the past work and alterations, if any, before he begins his work.
6. The checking of impersonal accounts should be undertaken at the time of final audit because
the fraud in personal accounts can easily be made by passing false entries in the impersonal
accounts,
7. Special ticks should be used by the auditor while checking altered figures, 8. He should pay
surprise visits so that the clerks of the client may not know the exact date of the visit of the auditor.
2. Periodical of Final or Complete Audit:-
That system under which the auditor takes up his work of checking the books of account and other
related documents, only at the end of the accounting period when the transactions for the whole
period are completely recorded, balanced and a Trading profit and Loss Account and the Balance
Sheet have been prepared, is known as periodical or final audit, He would complete his audit work
in one continuous session or without any interval, In other words the auditor visits his client only

once a year and goes on checking the accounts and other related documents until the audit work
for the whole of the period is completed.
Advantages of Final Audit
1. The Work of audit does not present any inconvenience and dislocation in the work of the concern
as the auditor comes only once a year.
2. It is less expensive and more useful for small business concerns than continuous audit.
3. In periodical audit the work of the auditor can be finished quickly and within a reasonable time.
4. The audit work does not become mechanical for the auditor. 5. Undue collusion is not
established between the auditor and the clerks.
Disadvantages of Final Audit
1. In periodical audit, detailed checking of accounts is not possible.
2. There is a greater chance of errors and frauds in accounts as the auditor visits his client only
once a year and not at regular intervals.
3. If such a audit is undertaken in large concerns it takes more time to complete the audit and hence
presentation of auditor’s report to the shareholders is delayed. But shareholders are usually very
anxious for the dividends which cannot be declared until the final accounts have been prepared
and audited. Therefore, such an audit is not practicable for big concerns.
Difference between Continuous Audit and Final Audit
1. Under continuous audit, the auditor or his staff, for the purpose of checking the accounts, visits
his client’s at regular or irregular interval during the financial year. On the other hand, in case of
final audit, he visits the cilent only at the end of the accounting period.
2. In continuous audit, the audit work is carried on almost simultaneously with the recording of
transactions, while in final audit, accounts are audited much after their recording.
3. Continuous audit is commenced and carried on before the close of the financial period to which
it is related. While final audit is undertaken when all the accounts have been recorded, balanced
and a Trading and Profit and Loss Account and the Balance Sheet have been prepared.
3. Interim Audit :-
Interim audit is one which is conducted in between the two annual audits for some interim purpose,
say, to enable a company to declare an interim dividend. This kind of audit involves a complete
checking of the accounts prepared by a company for a part of the year to the date set of interim
accounts, say, quarterly or half-yearly accounts.
Advantages of Interim Audit
1. This audit is helpful when the publication of interim figures becomes necessary.
2. With interim audit, the final audit can be completed easily and within short period of time.

3. Errors and frauds can be more quickly found and detected during the course of the year.
4. Since the interim audit is performed during the course of a year, it helps in exercising moral
check on the staff of the client.
Disadvantages of Interim Audit
1. There is greater possibility of altering figures in the accounts which have already been audited.
2. Interim audit involves additional work as the audit staff will have to prepare notes after finishing
the interim audit.
Distinction between Continuous Audit and Interim Audit
1. In case of continuous audit, the auditor undertakes the audit work for the whole financial year
at intervals according to cilent’s own need and convenience, while in interim audit, the audit, work
is done only up to a definite date.
2. Under continuous audit, verification of Assets and Liabilities is done at the close of the financial
year, but under interim audit, this work is done at the time of audit.
3. When continuous audit is done, the trial balance is not to be prepared necessarily at intervals,
but in case of interim audit, the trial balance has to be prepared.
4. The auditor has to give the report at the close of financial year when continuous audit is done,
but in case of interim audit, such a report is to be submitted at the time of audit.
4. Occasional Audit
An audit which is conducted occasionally, that is, once a while whenever the need arises and the
client desires it to be undertaken. For instance, the audit is not compulsory in case of sole
proprietorship and partnership business but whenever the need arises, the owners can get the
accounts audited.
5. Partial audit:
Under partial audit, an auditor is asked to check some of the records and books for a part or whole
of the period. For example, auditor may be instructed to audit only the payment side of the cash
book because he himself receives cash and cheques on behalf of his business. Such an audit is not
permitted in case of private or public limited companies
6. Balance Sheet Audit
Under such an audit, the auditor checks capital, reserves, assetsr liabilities, etc., given in the
Balance Sheet. Those items of Trading and Profits and Loss Account are also checked which have
a bearing on the Balance Sheet items. For example, the purchase of goods on credit will increase
the liabilities to creditors, increase the stock and will be shown in the Trading Account as an
increase in purchases and closing stock. So this item will have to be verified. This type of audit
can be successful in those business concerns where efficient system of internal check and control
is in operation. Such an audit is popular in U.S.A.

7. Cash Audit:
This audit involves the examination of cash transactions. All the cash transactions for a given
period have to be examined with cash vouchers. Cash receipts and Cash payments are separately
examined against respective documents.The auditor submits a report of his findings on cash
receipts and cash payments. This type of audit may or may note be repeated in the next financial
year and generally this type of audit is done by sole trader to identify any error or fraud in cash
transactions.
8. Cost Audit
It is a thorough examination of the cost accounting records of a company by a cost auditor to ensure
that they are accurate and they also follow to the cost accounting principles, procedures and plans.
A qualified professional cost auditor examines the cost records of a manufacturing, processing or
service firm periodically and suggests how cost records have to be maintained in accordance with
cost accounting plan of the firm. They examine the validity and authenticity of the cost records.
Definition:
Cost audit is defined as “a systematic and accurate record of detailed transactions and operations
of manufacturing, contracting, extracting, transporting etc, so as to show the actual cost of each
individual piece of work, service or separate process comprised in the operations of the business.”
Smith and Day have defined Cost audit as “a detailed checking of the costing system, technique
and accounts to verify their correctness to ensure adherence to the objective of costing”
Objectives of Cost Audit
1) Verifying the accounting entries related in the cost books.
2) To find out whether the cost records have been properly maintained.
3) To verify whether the cost accounting principles are complied with.
4) To find out whether the cost statements are properly drawn up.
5) To verify the items of cost expenditure are correctly incurred.
6) To find out the efficiency and inefficiency of handling of material, labour and other expenses
7) To check up the overall working of the cost accountant.
8) To reduce the volume of work of the external auditor.
9) To detect errors and frauds
Advantages of Cost Audit:
1. Cost audit helps in detection of errors and frauds.
2. The management gets accurate and reliable data based on which they can make day-to-day
decisions like price fixation.
3. It helps in cost control and cost reduction.
4. It facilitates the system of standard costing and budgetary control.
5. It helps the management in inter-unit / firm comparison.
6. It helps in identification of sick units and enables the Government to make relevant decisions.
7. Cost audit ensures efficient functioning of the industry. This in turn, nurtures a healthy
competition among the different companies and paves a path for fast progress.
8. Cost audit enables the Government to keep a check on undue profiteering by the manufacturers
and avoids artificial price rise due to monopolistic tendencies.
9. It keeps a close check is maintained on all wastage, material in stores, etc., and the same are
located and reported.
10. Production Inefficiency will be identified and converted into monetary terms thus leading to
optimum utilization of resources.
11. Records will be up-to-date and information made easily available for various purposes.
12. Cost Audit can bring to surface number of frauds and errors, which may not be surfaced
otherwise.
Disadvantages of Cost Audit:
1. Cost Audit can be expensive. This is because a company will often bring in an independent
auditor who are normally charging higher price.
2. It can be a long process which will likely involve more time. This extra time and effort can
impact an employee's day to day routine work.
3. Cost Audits involve a large amount of estimation and so there is the possibility that figures will
be incorrect and if record keeping from the company is not good to start with then inaccuracies
will arise.
Difference between Financial Audit and Cost Audit
Financial Audit Cost Audit
1. Financial audit is mandatory for all 1. Only in case of companies involved into
companies registered under Companies Act, manufacture or mining business and
1956. required to maintain Cost Accounts as per
Section 209.
2. The financial audit is done to report on the 2. Cost audit is done to certify after careful
financial data, consisting of a statement of examination or checking of reports on
balance sheet and profit and loss to ensure expenditure made on production of
fairness of business perspectives. intended items.
3. Financial Auditor is appointed by 3. Cost Auditor is appointed by the board of
shareholders. . directors with the previous approval of the
Central Government
4. Financial audit is mandatory to be conducted 4. Cost Audit is conducted in a year in which
every year. audit is required by the government.
5. Financial audit is done or conducted as per 5. Cost audit is done when government or
the demand of the shareholders. industrial organization proposes to make
an audit.

6. Financial auditor has to check or examine 6. In cost, audit the auditor has to see whether
carefully and in detail the exact value of there is sufficient stock maintaining in
closing the stock for the purpose of balance order to fulfill the needs of the business
sheet. concern.
7. The financial auditors have to give their 7. The cost auditors have to give their
remarks about the exact expenditures shown remarks about how correctly or wisely the
on the record. decisions have been taken in production of
items.
8. The finance auditor submits the report in 8. Cost auditor submits the report to the
annual general meeting organized by company and central government within
shareholders. 180 days from the end of financial year.
Cost Audit in India

The concept of cost audit has been explained by ICWA Institute as ‘an audit of efficiency of minute
details of expenditure, while the work is in progress and not a post-mortem examination, cost audit
is mainly a preventive measure, a guide for management policy and decision in addition to being
a barometer of performance’.
The Companies Act of 2013 makes provisions for Cost audit u/s 148, subsections 1 to 8 provide
various aspects of cost audit. The central government is empowered to inform about those
companies engaged in production of such goods or providing such services for whom cost audit is
compulsory. Sec 148 (5) provides for the qualifications, duties, rights and obligations as applicable
to the cost auditor. Cost auditor should strictly follow cost auditing standards as prescribed by
Institute of Cost and Works Accountants of India (ICWA) with approval of the central government.
All companies (cost audit records and Audit) rules 2014 u/s 148 and 469 provide for cost
audit under categories A, B, C and D
1. In Category A – production of goods in strategic sector – cost audit for all companies to be
conducted with turnover of Rs. 500 crore or more
2. In Category B –companies under central government or sectoral regulations- cost audit to
take place for companies with turnover more than Rs.50 crore
3. In Category C –companies in public interest, cost audit to be conducted for companies if
turnover is more than Rs.25 crore
4. In Category D –all foreign companies, cost audit to be conductedif turnover is more than
10 crore.
9. Tax Audit
Tax Audit refers to the independent verification of the books of accounts of the assessee to form
an opinion on the matters related to taxation compliances carried out by the assessee. While
preparing the books of accounts of the business or profession for the purpose of income tax filing,
the assessee has to comply with the provisions of Income-tax Act, 1961 particularly from section
28 to section 44DB.

The provisions in these sections deal with the income from business or profession which is
chargeable to tax, how such incomes are computed, chargeability, various allowances or
disallowances and the rate of depreciation on the various assets held by the assessee, deduction for
making investments, deductions for making donations, treatment and tax compliances on borrowed
capital, treatment and tax incidence on bad debts, statutory funds, accounting methods etc.
The tax auditor should be a Chartered Accountant or firms of Chartered Accountants. Under
Section 44AB of the Income Tax Act, 1961, persons involved in certain professions or exceeding
a certain amount in business have to get their account books audited by a chartered accountant.
Audit refers to inspection or scrutiny of accounts, in order to ensure compliance with the Income
Tax Act and other related laws, and to check fraudulent practices.
Having regard to these provisions, the process of return processing by the Income tax department
becomes a cumbersome and time-consuming task. So, to help and assist assessing officer in
computation of assessee total income in accordance with the tax laws, audit under section 44AB
of Income-tax Act, 1961 is required. Further, Tax audit is also required to ensure proper
maintenance of books of accounts in accordance with the provisions of tax laws and to ensure that
tax liability has been discharged on time and there is no concealment of income by the assessee.
Who can appoint a tax auditor
• In case of a company, the Board of directors are authorized to appoint a tax auditor, in case of
partnership the partner can appoint, in case of sole trading concern only the proprietor can
appoint a tax auditor.
• All people who are covered by the Income Tax Act can get their books audited by a tax auditor.
Charitable trusts, Research associations, Coo-operative societies have to do tax audit if their
profit is more than Rs.40 lakh per year. An NRI assessee can do tax audit, if his global business
exceeds the prescribed limit.
Section 44AB of the Income Tax Act, 1961:
Section 44AB of the Income-tax Act, 1961 contains the provisions for the tax audit of an entity.
As per these provisions, tax audit shall be conducted by a Chartered Accountant who ensures that
the taxpayers has maintained proper books of account and complied with the provisions of the
Income-tax Act.Tax audit can be conducted by a Chartered Accountant who holds the certificate
of practice and is in full-time practice. The tax auditor (CA) carries out a systematical examination
of books of account as per the formats prescribed by the department.
Every person who derives income by way of Business or profession and maintains books of
accounts and has not opted for computation of income on presumptive basis under section 44AD,
44ADA or 44AE of the Income-tax Act, 1961 has to get tax audit done provided his income
exceeds the prescribed threshold limit.
Section 44AB specifies that the following professionals/businesspersons need to get their accounts
audited:The following person are required to get tax audit done in the given cases.

1. A person carrying on business if the total sales/ turnover exceeds Rs. 1 crore during the previous
year relevant to assessment year.
2. A person carrying on profession if the Gross receipts exceeds Rs. 50 lakhs during the previous
yearrelevant to assessment year.
3. Persons covered under Sections 44AD, 44AE, 44AF, 44BB and 44BBB, who are declaring
lower profits from business than what is estimated.
The following points are of note with regard to Tax Audit:
• If you are involved in more than 1 business, you will be liable to audit your accounts if the
total turnover of all your businesses is more than Rs. 1 crore.
• If you operate more than 1 profession, you have to audit your account books in case the gross
receipts of all the professions cumulatively cross Rs. 50 lakh.
Tax audit under various sections
• Sec 35 E specified the manner in which deductions are allowed
• Sec 35 D specifies the type of expenditure to be amortized
• Sec 80 HH, 80 HHA, 80 HHC, 80 HHD, 80 HHF- indicates that when the turnover of all
businesses exceeds 1 crore, separate reports have to be submitted to claim deductions.
• Sec 80 HH – income derived from new industry, hotel in backward area
• Sec 80 HHA – newly established small-scale industry
• Sec 80 HHC – income earned by exports
• Sec 80HHD – income earned by hotels serving foreign tourists
10. Management Audit
It is the critical examination, scrutiny and appraisal of plans, policies, procedures, objectives,
means and operational area of the organization. It is the audit of managerial actions and decisions.
It is the audit of activities of various level of the managers.
Management audit is a method of independent and systematic evaluation of the management
activities at all levels of management to ascertain the functions, efficiency and achievement of' the
management (i.e. policies) as compared to standards set by the company.
According to L. R. Howard, "Management audit is an investigation of business from the highest
level downward in order to ascertain whether sound management prevails throughout, thus
facilitating the most effective relationship with outside world and smooth running of internal
organization."
As per Taylor and Perry; "Management auditing is a method to evaluate the efficiency of
management at all levels throughout the organization, or more specifically, it comprises the
investigation of a business by an independent body from the highest executive level downwards,
in order to ascertain whether sound management prevails through and to report as to its efficiency
or otherwise with recommendations to ensure its effectiveness where such is not the case."

Scope of Management Audit: The scope of management audit is much wider than financial audit
because management audit evaluates not only financial audit but also other aspects of the business.
It is the method of evaluating the total efficiency of the management from the top level to the
lowest level. Therefore, the main scope of management audit is:
1. Evaluate the Efficiency of the Management: Management· audit evaluates and appraises the
efficiency of the management at all levels.
2. Implementation of Principles and Policies of the Management: Management audit review
whether principles and policies formulated by the management have been successfully
implemented or not.
3. Find Variances: It detects the variances in efficiency with the standards set by the management.
4. Analyze the Reasons for Variances: Management audit analyze the reasons for inefficiencies of
the management for not fulfilling the targets.
5. Recommend Suggestions for Improvement: It gives suggestions for improvement in the areas
e.g. production, sales, purchase, finance, human resources, administration etc.
Objectives of Management Audit:
Management audit is the total audit of the management i.e. reviews how the policies of the
management have been implemented and its efficiency to execute the policy. Therefore, the scope
is much greater than financial audit, as it examines the all aspects of the management.
1. Verifying the Efficiency: Management audit aims at to assess the efficiency at all levels of
management and implementation of policies.
2. Gives Suggestion for Increase in Efficiency: Management audit highlights the inefficiencies in
different areas of management and gives his valuable suggestions and means to improve the
efficiencies.
3. Asses the Effectiveness of Planning and Policies: Management audit examine and evaluates the
plans and policies and judge whether planning and policies are properly implemented.
4. Helps to Increase Profitability: Management audit helps the management to increase
profitability by giving remedies to maximize the organization's resources in an efficient way.
5. Helps to Co-Ordinate Activities: Management audit detects the interrelationship among the
activities, evaluates the authority and responsibility and gives valuable suggestions for
improvement of coordination among the activities and the employees.
6. Gives Valuable Advice: By scanning the management efficiency and detecting the weak spots
of different levels of management, the management auditor gives valuable advice to the top
management regarding different policies and future course of action.
7. To identify the overall objectives of an organization.

8. To pinpoint the deficiencies and defects in functional areas and suggest remedies for
improvement.
9. To help the management in achieving coordination among the various departments.
10. To ensure that management objectives are achieved.
Qualities of Management Auditor
A management auditor should have the following specific qualities:
(i) Ability to understand and gauge business problems.
(ii) General understanding of the organisation.
(iii) Expert knowledge on the principle of delegation of authority, management by objective,
management by exception, management planning and control and the different budgetary systems,
and those of internal control devices.
(iv) Sufficient knowledge and experience in preparing various reports for presen-tation.
(v) General understanding of different laws—general laws, company law, tax laws FERA, MRTP,
etc. that affect the functioning of the whole of the organisation.
(vi) Background knowledge about—Engineering, Statistics, Costing, Management accounting,
Financial accounting, Industrial psychology, Managerial economics, etc.
(vii) Tactfulness, perseverance, and lastly—pleasing and dynamic personality.
Advantages or Importance of Management Audit:
There are several advantages of conducting management audit of an organization. When an
organization grows in its volume and activities, there is a need for management audit for evaluating
efficiency and effectiveness of the management at all levels of the organization. The advantages
and importance of management audit are discussed below:
1. Evaluates Efficiency of the Management: Management audit is a method of independent and
'systematic evaluation of the management activities at all levels of management to ascertain the
functions, efficiency and achievement of the management (i.e. policies) as compared to standards
set by the company.
2. Scrutiny of the Plans, Policies and Procedure: Management audit helps to determine how the
management has implemented their plans, policies and procedure to reach the organizations goal.
3. Helps for Correction of Plans, Policies and Procedure: Through management audit, it is possible
to change or revise the plans, policies and procedure as per needs of the company.
4. Aids for Decision Making: Management audit asses the ability of the managers to take important
decisions and helps them to rectify the defects.

5. Helps to Get Loan: Financial institutions who gives huge loan to the organizations are interested
to know the efficiency of the management and the profitability. Management audit certainly gives
a guide to them.
6. Helps to Get Subsidy: Before granting subsidy by the government, to any entity they are
interested to know the efficiency and functioning of the management. Management audit helps in
this matter.
7. Helps to Increase Profitability: Management audit helps the management to increase
profitability by giving remedies to maximize the organization's resources in an efficient way.
Limitations of Management Audit:
1. The management audit is audit of the management, by the management, and for the
management. The management auditors are selected by the management itself. Such auditors may
or may not be able to handle the job assigned to them.
2. The management auditors are generally familiar with the organization and the staff and
employees. The personal aspects cannot be overlooked in such audits. Some may use this audit to
level the score with someone while other may utilize it to favour someone.
3. They are more likely to take the facts for granted and may not probe into depth to investigate
the matter any further.
4. Time and cost constraints may limit the scope, operation and extent of such audits.
5. The management audit team as selected by the management may not look, act and work as a
team. Conflicting interests, attitude and inclination may jeopardize the entire objective of the audit.
5. Suggesting ways and means for the attainment of management goals.
6. Management audit may discourage the managers from undertaking tasks which are useful to the
organization.
K. Audit procedure
Definition:
Audit procedures are the processes and technique that auditors perform to obtain audit evidences
which enable them to make conclusion on the set audit objectives and express their opinion.
Auditors design audit procedures to detect all kind of risks that they identified and ensuring that
the required audit evidence are obtained sufficiently and appropriately.Audit procedures might be
different from client to client, and period to period. This is because internal control over financial
reporting is different from one client to another and the control might be change from time to
time.Auditor might need to update audit procedures from time to time event thought current
financial statements had been audited by its firm or team.
Basic audit procedure involves two important phases
1. Audit Planning

2. Real Audit work

1. Audit Planning: is the first phase of auditing. In this phase he prepares himself for audit by
a. Understanding the organization
b. Understanding the policies, procedures and internal control system adopted in the organization
c. Preparing an audit programme involving nature, timing and the extent of audit procedure to be
performed
d. Coordination of audit work to complete the audit work on time
2. Real Audit Work: is the second phase in audit procedure. This involves
a. Vouching: is the examination of books of accounts in detail with supporting documents. Any
type of accounting error or fraud committed has to be detected at this stage. This ensures the final
accounts depict the true and fair financial status of the organization
b. Valuation and Verification of assets and liabilities: This involves a detailed examination of
all assets and liabilities of the organization. This helps the auditor to differentiate between fixed,
floating and fictitious assets etc. and valuate them. Four important aspects are examined to
ascertain the authenticity of assets and liabilities – physical existence, valuation. Ownership and
real worth. When assets are promptly valued and adjusted for depreciation or appreciation only
then the final accounts show a true and fair financial position.
c. Reporting; is the final activity of the audit procedure. He has to present the audited Trading.
Profit and loss account and Balance Sheet to the concerned authorities. He should also give his
comments on the maintenance of books of accounts, various deviation of policies and procedures
and corrective measures to be adopted in future, change in accounting or financial policies etc. The
audit report is certified by the auditor and the owners of the organization.
L. Preparations and Considerations by the Auditor before commencement of Audit
• Verification of Appointment – Auditor has to confirm whether his appointment is properly made
or not. If appointment is not proper, he can claim remuneration, if he is appointed by shareholders,
he has to see whether the procedure specified under Section 224, is properly followed or not. If he
is appointed by directors he has to go through the resolution made by the court.
• Verification of Memorandum – It deals with external affairs of the company.
• Verification of Articles – It deals with internal affairs of the company.
• Verification of Prospectus – Auditor should refer this to obtain information relating to minimum
subscription, preliminary expenses, underwriters commission and terms of issue.
• Verification of Contract Deeds –Auditor should refer to these contract deeds to know about
names of parties to the contract, contract prices and other terms of contract.
• Verification of Certificate of Incorporation and Certificate of Commencement of Business
• Verification of Internal Check System – ICS means arrangement of staff in such a way where
work done by one clerk automatically gets checked by the other staff.
• Verification of List of Key Positions – Auditor should refer to organizational chart of the
company and obtain names, rights, duties of members employed at such key positions.
• Verification of List of Offices – Auditor has to obtain and verify the list of offices or branches
situated at various locations along with complete address for communication.
• Verification of List of Books – Auditor should obtain the list of books maintained by the company
- Cost records and financial reports.
• Verification of Financial Statement – Auditor should get copies of previous 2 or 3 years financial
statements long with Audit Reports. By going through them, he will get an idea with respect to
profitability, financial position and previous Auditor’s opinion.
• Verification of Central Government Permission – In certain cases, company has to obtain
permission from central government for carrying out audits.
Preparation to be done by the client before the Audit
1. Keep all books, schedules, agreements, vouchers etc ready to be inspected
2. Check all cash receipts and payments
3. Verify the trial balance, nominal ledgers, personal ledgers.
4. Check the statement of Debtors and schedules of bill receivable
5. Verify the schedule of investments and check the investments purchased and disposed
6. Verify the schedule of Fixed assets, details of depreciation, purchase and sale of assets
7. Check the Valuation and list of inventories
8. Verify all outstanding and prepaid expenses and incomes
9. Verify the borrowings of the company
10. Finally verify all contracts and agreements for the financial year.
M. Audit Programme
Before starting an audit, a programme of the work to be done on the audit, known as audit
programme, is generally drawn by the Chief Auditor. He outlines a programme according to the
requirement of each case as to what work is to be done by senior and junior staff and the time by
which the work is to be finished. While preparing the audit programme of each audit, the auditor
should keep in mind the nature of internal control and its extent as well as the size and composition
of the business.
According to Professor Meigs, “An Audit Programme is a detailed plan of the auditing work to be
performed, specifying the procedures to be followed in verification of each item in the financial
statements and giving the estimated time required.” An audit programme provides a guide in
arranging and distributing the work and in checking against the possibility of omissions.
Features of Audit programme
1. It involves Planning of audit work
2. It shows division of audit work among audit staff.

3. It represents an outline of procedure to be followed to support an opinion on financial

statements.
4. It is the auditor’s plan of action and it is specifically designed for each audit.
5. It provides a plan of the work of examination and a set of audit procedures.
6. It indicates what work is to be done by senior or junior staff and the time by which the work is
to be finished.
7. After preparation of audit program, audit work can be commenced.
Advantages of Audit Programme
1. It provides assistants with a set of clear instructions about their duties.
2. It enables the auditor to keep constantly in touch with the work done and the general progress
of the audit.
3. It serves as an evidence in case of a charge of negligence against the auditor in the performance
of his duties.
4. The chance of work being over-looked is considerably reduced. In case an audit assistant goes
on leave, the portion of work done by him can easily be located and the unfinished work can be
resumed by another without any difficulty.
5. In case any fraud or error has remained undetected, the responsibly for negligence can be fixed
on the clerk performing that work as his initials are put on the audit programme.
6. A uniformity of work can be obtained- same programme can be followed at subsequent audits.
7. It serves as a guide to the duty for a new clerk.
8. It facilitates the final review before the report is signed.
9. It provides for systematic audits routine and therefore eliminates inefficiency.
10. It is useful basis for planning the programme for the subsequent years.
Limitations of Audit programme
1. The work may became too mechanical and the clerks do not get enough opportunities to show
their intelligence and initiative as they have to follow a predetermined programme.
2. It is not proper to frame a rigid programme for cash type of business because each business may
have different problems and procedures.
3. An audit programme, which may be detailed and well drawn up may no cover everything that
might come up during the course of audit.
4. The programme may be subjected to amendment due to changes in work or procedures. Actually
the audit programme for each new audit should be an improvement over previous one.
5. It would be unnecessary to prepare a programme for small business concerns.

6. Inefficient and careless auditors or audit clerks may try to conceal their weaknesses on the basis
of audit programme.
These limitations can be minimised by treating audit programme as a guidance only and making
it flexible so that audit clerks may use their initiative and intelligence during the audit, make
suggestions for improving it from time to time keeping in view the experience and changes in the
business.
N. Audit Note Book
Audit notebook is a notebook maintained by the auditor for recording various matters observed by
him during the course of his audit. It is in the form of a bound book or loose sheets. It is also known
as Audit Memoranda.
A note book which is prepared by the audit staff to note down all the unclear queries which they
may find in the course of audit and requires further clarification and explanation is known as Audit
Note Book.
Features of Audit Notebook
1. It contains information regarding day to day work performed by the audit staff
2. Notes about all types of errors, difficulties and unclear queries or points to be discussed with
the auditor or clients and the points which are to be incorporated in the report are noted down.
3. It is prepared with the objective to make the future audit work easier.
4. It serves as a proof by the auditor to get clearance over the cases if the auditor has been accused
for negligence.
Audit Note Book is divided into following two parts –
a. General information: regarding nature of business carried on by the client, ownership and
control, administrative organisation chart, principal officers and their duties and responsibilities,
particulars of internal control system, accounting and financial policies, important documents such
as Memorandum of Association, Articles of Association, Partnership Deed etc.
b. Current information: regarding current year’s audit such as queries raised, explanations
received , missing vouchers, error and frauds noticed and rectifying action taken, confirmations
and certificates regarding important items etc.
Advantages of Audit Note Book
1. Easy finalization: Audit Note Book facilities easy finalization of audit report ensures that all
important points are covered in audit and that no important area or point is missed out or left out.
2. Helps in planning: Audit Note Book helps in planning audit of the same company next year.
Auditor knows the weak areas and the strong areas regarding internal control system of the client.
It helps him in preparing audit programme of the client for next year.
3. Guide for assistants: Audit Note Book of a company’s audit acts as a guide for the audit
assistants. They get an idea about the queries rose last year. Errors and frauds discovered last year

etc. which is useful information for doing audit. They also know the flow of audit work and
important information about the client and the business of client.
4. Protects auditor: Audit Note Book acts as a proof that auditor has taken utmost care and used
due diligence while doing audit. If suit is filed in the court of law for negligence, audit notebook
protects auditor from such charges.
5. Review of audit work: Audit Note Book helps auditor to review audit work and make changes
in audit programme as per the requirements. This ensures audit of high quality and also completion
of audit in time.
Contents of audit note book
1. Technical details about the business.
2. Queries for which explanations and information have to be demanded.
3. Missing vouchers and invoices whose duplicates have to be obtained.
4. Fraud and errors found in the books during the course of audit.
5. Details to be included in audit report.
6. Notes regarding system of maintaining accounts.
7. Information to be needed in future
8. Names of officials who certify bad debts, depreciation, etc
9. Record of all important correspondence.
10. Total of important ledger accounts.
11. Progress of audit work.
12. Record of suggestions made by the audit staff.
O.Audit Working Papers
Audit working papers means a record of the audit programme or audit plan, the audit procedures
performed and the conclusions drawn from the evidence obtained. It is a written record kept by
the auditor which contains information about important facts in connection with the accounts under
audit. These working papers are the property of the auditor and he should preserve these papers
as confidential. It helps the auditor to supervise and review the audit work, plan and carry out the
audit in time, provide an evidence in the court of law that audit was conducted with due care and
efficiency, in case a suit is filed for negligence against the auditor.
Audit working papers are valuable document which should be systematically filed by the auditor.
Working paper include the following – Trial Balance, Schedules to Balance Sheet, Bank
Reconciliation Statements, Details of closing stock, confirmation letters from different parties,
certificates issued by the management, extracts from minutes books, list of audit queries and
answers received for queries etc.
Audit 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 queries with explanations completed audit programme etc.
Audit Working papers should be properly organised and arranged so that one may not find any
difficulty in locating a particular matter. 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 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.
Features of Audit Working papers
1. It is set of documents which record all audit evidence obtained during financial statements
auditing, internal management auditing, information systems auditing and investigations.
2. They are used to support the audit work done in order to provide assurance that the audit was
performed in accordance with the relevant auditing standards.
3. These papers show whether the audit was properly planned, carried out, if there was adequate
supervision, whether the appropriate review was undertaken, whether the evidence is sufficient
and appropriate to support the audit opinion.
4. They are the property of the auditor and these documents may be in the form of flow chart,
manual, narrative note, checklist or questionnaire.
Objectives of Audit working Papers
1. To show the extent to which accounting principles and auditing standards have been followed.
2. To support the audit report.
3. To serve as an evidence in case of any suit against the auditors for negligence in the performance
of his duties.
4. To enable the auditor to know the weaknesses of the internal control system and give advise to
his client to avoid such weaknesses.
5. To serve as a means to provide training to the audit clerks about the ways of summarising the
work done by them.
6. To help the auditor to plan for the subsequent years.
7. To enable the auditor to prepare the report to be issued without any delay
8. 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.

AdvantagesAudit working papers

1. Auditor can protect himself in the court of law in case of suit against him for negligence.
2. It helps in finalizing audit fast. He can go through the working papers and see that all the queries
are answered by the client and no important point is pending.
3. It helps in assessing assistant work. It also acts as a guide for new audit assistants. It fixes
responsibility on audit on staff and hence quality of audit improves.
4. It helps as a guide for future planning of audit programme.
5. Auditor can understand the weaknesses of internal control system of the clients from queries
raised during audit.
6. Auditor can modify audit programme from queries raised during audit, he can control audit work
by going through working papers.
Classification of Audit working papers
Audit working papers are broadly classified as follows –
1. Current file
In this file the auditor maintains all current audit related data- Correspondence relating to
acceptance of annual engagement. • Minutes of Board meeting relevant to current year. • Audit
program • Analyses of transactions and balances • Record of nature, timing & extent of audit
procedures carried out & their results. • Evidence that the work of assistants had been supervised
& reviewed • Copies of communication with experts, other auditors, third parties. • Copies of
letters or notes on audit matters communicated to the client, including terms of engagement /
material weakness internal control. • Conclusions reached on significant audit matters. • Copies of
financial information reported – audit reports issues, audit programme, details of audit procedures
and tests performed, queries raised and answers received to the queries in the course of audit, trial
balance, final accounts, schedules, letters of confirmation from different parties, bankers and
lenders, correspondence with different parties, extracts of important resolutions from the minutes
book, list of missing vouchers and bills, bank reconciliation statement, certificate from
management regarding closing stock, cash-in-hand and verification of fixed assets, a copy of
computation of income and income-tax , audit report etc.
2. Permanent file
In this file the auditor maintains working papers of continuing importance affecting the company
and the audit - Information concerning legal and organizational structure of the entity. • Extracts
of documents with significant matters like agreements, arrangements, minutes. • A record of study
of internal and accounting control of the entity. • Copies of management letters issued to auditors.
• Copy of communication with retiring auditors. • Copies of audited financial statements of
previous years. • Important audit observations of earlier years. • Notes on critical accounting
policies, a certified copy of the Memorandum and Articles of association in case of a company, a
list of directors, partners, other important officers and their duties and responsibilities ,

organisation chart, a list of books of account maintained , a note on the nature of business carried
on by the client, addresses of different offices and factories and branches of the company, a note
on the system of internal control, a note on the accounting policies and method of depreciation ,
method of stock valuation, method of accounting followed by the client etc.
Functions of Audit working papers
The term audit working papers and audit note book are similar. Audit working papers means a
record of the audit programme or audit plan, the audit procedures performed and the conclusions
drawn from the evidence obtained. It is a written record kept by the auditor which contains
information about important facts in connection with the accounts under audit. These working
papers are the property of the auditor and he should preserve these papers as confidential. He has
right on his working papers. Working papers help the auditor to supervise and review the audit
work, plan and carry out the audit in time, provide an evidence in the court of law that audit was
conducted with due care and efficiency, in case a suit is filed for negligence against the auditor.
Audit working papers are valuable document which should be systematically filed by the auditor.
Working paper include the following – Trial Balance, Schedules to Balance Sheet, Bank
Reconciliation Statements, Details of closing stock, confirmation letters from different parties,
certificates issued by the management, extracts from minutes books, list of audit queries and
answers received for queries etc.
P. Other aspects in Auditing
1. 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 adequacy of such evidence and the competency which
refers to the quality or reliability of 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.
(i) Physical examination of the existence of the things represented in accounts
(ii) Statements by independent third parties - sundry debtors, creditors, bills receivable, bill
payable balances with banks etc. can be verified by obtaining written statements.
(iii) Authoritative Documents : - purchase invoices, cancelled cheques, copies of sale invoices and
cash memos, counterfoils of receipts, vouchers etc

(iv) Statements by officers and employees of the company under audit

(v) Calculations performed by the auditors
(vi) Satisfactory internal control system
(vii) Subsequent actions by the company under audit
(viii) Subsidiary or detailed records- stores ledger, finished stock ledger etc. maintained properly
and regularly provide a supporting evidence -that main data supported by such records are reliable.
(ix) Inter-relationships with other data
Audit Sampling (Selective Verification) -The accounts of the large size enterprises have a large
number of transactions, it may be physically impossible for auditor to check each and every
transaction. For example, The total number of payments made by a large bank and its branches in
a year may be so large that an auditor cannot verify all of them, it would probably take him many
years to complete the audit and that too at great cost, so he undertakes selective verification.
Adoption of distinctive ticks -• Distinctive ticks of different colors should be adopted for
Additions, Postings, Ledger Balances, Carry Forwards etc. • The significance of these ticks should
not be made known to the clerks of the client, lest they know about the secret meaning and defraud
the auditor. • The same kind of tick should not be used for every firm and for the same kind of
transactions or for all the visits. • Special ticks should be used for figures which are erased or
altered. • Pencil figures entered by the clients should not be accepted by the auditor and the auditor
should refuse to commence his work.
Q. Recent trends in Auditing
Traditionally, audits were mainly associated with gaining information about financial systems and
the financial records of a company or a business. However, recent auditing has begun to include
non-financial subject areas, such as safety, security, information systems performance, and
environmental concerns.
In the field of auditing in the light of changes taking place in auditingdefinitely the auditor has to
adopt some different ways in conducting theaudit work. With the unprecedented growth in the
business fieldtrends in the audit have undergone a substantial change, the audit is notconfined to
examination of financial statements but it has got tremendous expansion to computer-based
accountingand performance audit. In the digital age, majority of the business transactions are done
on line. Accounts are maintained on computer.
The Electronic Data Processing (EDP) systems are in operation for maintenance of accounts. No
primary data are used for recording transaction. Thus the auditor has to acquire the knowledge of
EDP System. He himself must be competent to face the challenges of new digital business world
of E-Governance and E-Commerce.Increasing use of Electronic Data Processing (EDP) system
for storing and processing monetary as well as otherinformation has necessitated a change in the
approach and techniques ofauditing.The internalcontrol system of the concern has to be examined
very carefullyso that any possibilities of frauds and errors can be detected very easily. The new

trends in auditing include Cost audit, tax audit and management audit. An audit must adhere to
generally accepted standards established by governing bodies. These standards assure third parties
or external users that they can rely upon the auditor's opinion on the fairness of financial
statements.

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Principles and Practice of Auditing Y R Kavyareddy Mcom (PhD) Asst.

Principles and Practice of Auditing Module 1 – Introduction to Auditing

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5.Passing entries for

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• Treating good debts as bad debts

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Disadvantages of Continuous Audit

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Cost Audit in India

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2. Real Audit work

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3. It represents an outline of procedure to be followed to support an opinion on financial

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AdvantagesAudit working papers

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(iv) Statements by officers and employees of the company under audit

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