Principles of Audit

3rd year

Lecture 2
 Auditing
 Is the accumulation and evaluation of evidence
regarding assertions about information to
determine the degree of correspondence
between the assertions and established criteria
and to report the results to interested users.
 Auditing should be done by a competent, and
independent person.
 The definition includes several key words and phrases which
we'll discuss in more details.
1) Information and Established Criteria
 To do an audit, there must be information in a verifiable form
and some standards (criteria) by which the auditor can evaluate
the information.

 Information can and does take many forms.

1. Quantifiable information, including companies’ financial
statements
2. Subjective information, such as the effectiveness of computer
systems and the efficiency of manufacturing operations.
 The criteria for evaluating information also vary
depending on the information being audited.

1. In the audit of historical financial statements by CPA

firms, the criteria may be Egyptian generally accepted
accounting principles (GAAP) or International Financial
Reporting Standards (IFRS).
2. For more subjective information, it is more difficult to

establish criteria. Typically, auditors and the entities being

audited agree on the criteria well before the audit starts.

o For example, in an audit of the effectiveness of specific

aspects of computer operations, the criteria might include

the allowed level of input or output errors.

 2) Accumulation and Evaluation of Evidence

 Evidence is any information used by the auditor to assess

whether the information being audited is stated in
accordance with the established criteria.
 Evidence takes many different forms, including:

A. Electronic and documentary evidence about transactions

B. Written and electronic communication from outsiders

C. Observations by the auditor

 3) Competent, Independent Person

 The auditor must be qualified to understand the

criteria used and must be competent to know the types

and amount of evidence to accumulate to reach the

proper conclusion after examining the evidence.

 The auditor must also have an independent mental

attitude.
 4) Reporting

The final stage in the auditing process is preparing the

audit report, which communicates the auditor’s findings
to users.
 2. Distinction between Auditing and Accounting

 Many financial statement users and members of the

general public confuse auditing and accounting.
• The confusion occurs because most auditing operations
are concerned with accounting information, and many
auditors have high experience in accounting matters.
• The confusion is increased by giving the title “certified
public accountant” (CPA) many individuals who perform
audits.
 Accounting is the recording, classifying, and summarizing of
economic events in a logical manner for the purpose of
providing financial information for decision making.
 The function of accounting is
 To provide relevant information that management and others
can use to make decisions..
 In addition, accountants must develop a system to make sure
that the entity’s economic events are properly recorded on a
timely basis and at a reasonable cost.
 When auditing accounting data, the concern lies in evaluating

whether recorded information reasonably reflects the

economic events that occurred during the accounting period.

 International accounting standards provide the criteria for

evaluating whether the accounting information is properly

recorded, auditors must understand those accounting

standards.
 3) Common Types of Audits

 There are three different types of audits

1. Financial statement audit

2. Compliance audit
3. Operational audit
1. Financial statement audit
 Is conducted to determine whether the financial
statements are stated in accordance with specified
criteria (GPPA OR IFRS)

 Auditors may conduct audits of financial statements

prepared using the cash basis or some other basis of

accounting appropriate for the organization.

2. Compliance audit
 Is conducted to determine whether the auditee is following
specific rules, or regulations set by some higher authority.
 For example:
1. Determine whether accounting personnel are following the
procedures or steps set by the company controller.
2. Review wage rates for compliance with minimum wage laws.
3. Examine contractual agreements with bankers and other lenders to
be sure the company is complying with legal requirements
3. Operational audit or a performance audit
 Evaluates the efficiency and effectiveness of any part of
an organization’s operating procedures and methods.
 At the completion of an operational audit, management
normally expects recommendations for improving
operations.
 For example: auditors might evaluate the efficiency and
accuracy of processing payroll transactions in a newly
installed computer system.
 True or False Questions
1. The primary purpose of a compliance audit is to determine
whether the financial statements are prepared in compliance with
generally accepted accounting principles
A. True
B. False

2. Information risk reflects the possibility that the information upon

which the business decision was made was inaccurate.
B. True
B. False
3. Auditing department provides quantitative
information in order for management and others to
make decisions

A. True
B. False
1. Recording, classifying, and summarizing economic events in
a logical manner for the purpose of providing financial
information for decision making is commonly called:
A) Finance.
B) Auditing.
C) Accounting.
D) Economics.

2. Which department provides quantitative information in order

for management and others to make decisions?
A) Management information systems.
B) Auditing.
C) Finance.
D) Accounting
3. In "auditing" financial accounting data, the primary concern is
with:
A) determining whether recorded information properly reflects
the economic events that occurred during the accounting period.
B) determining if fraud has occurred.
C) determining if taxable income has been calculated correctly.
D) analyzing the financial information to be sure that it complies
with government requirements.
4. The trait that distinguishes auditors from accountants is the:
A) auditor's ability to interpret accounting principles generally
accepted in the United States.
B) auditor's education beyond the Bachelor's degree.
C) auditor's ability to interpret FASB Statements.
D) auditor's accumulation and interpretation of evidence related
to a company's financial statements.
5. One objective of an operational audit is to:
A) determine whether the financial statements fairly present the
entity's operations.
B) evaluate the feasibility of attaining the entity's operational
objectives.
C) make recommendations for improving performance.
D) report on the entity's relative success in attaining profit
maximization.
6. An examination of part of an organization's procedures and methods
for the purpose of evaluating efficiency and effectiveness is what type
of audit?
A) Operational audit.
B) Compliance audit.
C) Financial statement audit.
D) Production audit.
7. An audit to determine whether an entity is following
specific procedures or rules set down by some higher
authority is classified as a(n):

A) audit of financial statements.

B) compliance audit.
C) operational audit.
D) production audit.
8. Independent auditing can best be described as
A. A branch of accounting
B. A discipline that provides assurance regarding the
results of accounting and other functional operations
and data.
C. A professional activity that measures and
communicates financial and business data
D. None of these choices.