UNIT-III VOUCHING
Meaning • Vouching is concerned with examining documentary evidence to ascertain the authenticity of entries in books of entries in books of accounts. It is an inspection by the auditor of an evidence supporting and substantiating the transaction made in the books. It is a technique used by the auditor to judge the truth of entries appearing in the books of accounts. All accounting entries must be supported by a document. It is not only examining the documentary evidence but sometimes auditor has to go behind recorded evidence to eliminate any possibility of fraud. DEFINITION • “Vouching is the examination of the evidence offered in substantiation of entries in the book including in such examination the proof, so far as possible, that no entries have been omitted from the books” -Taylor and Perry.
OBJECTIVES OF VOUCHING • To ensure recording of all transactions. • To verify that all transactions recorded in the books of accounts are supported by a documentary evidence. • To verify the validity of the vouchers which support the entries and to ascertain whether these are authentic, addressed to the business and properly dated. • To verify that no fraud or error has been committed while recording the transactions in the books of accounts.
• To ensure that the vouchers have been processed carefully through various stages of internal check system. • To verify whether every transaction recorded has been adequately authenticated by a responsible person. • To know that while recording the transaction whether distinction has been made between capital and revenue items. • To ensure whether accuracy has been observed while totaling, carrying forward and recording and amount in the account. • To verify that all the transactions connected with the business have been recorded in the books of accounts. • To check vouchers which support entries are legal, valid, authentic, addressed to the business and properly dated. • To have greater precision in reporting the financial information as true and fair. • To ensure reliability of figures entered in the books of accounts. • To confirm that no transaction has been recorded in the books of accounts which are not related to the entity under audit.
POINTS TO BE NOTED WHILE VOUCHING 1. Auditor must verify the authenticity of transactions, accuracy of amount recorded and proper classification of account. 2. All the vouchers are numbered serially and dated. To avoid wasting of time in locating a voucher, they have to be arranged serially. 3. The voucher checked by the auditor should be stamped or tick marked with a special sign, to avoid its use again. 4. The amount in the receipt must be shown in words and figures. If there is a difference, it should be investigated.
5. The receipt should indicate the period for which the payment has been made. It will show the payments made in advance. 6. If the voucher is in the personal name of the partners, manager, director or any other person, it should be properly treated in the books of accounts. 7. The auditor should proceed cautiously and use special ticks for the vouchers which are doubtful. 8. Every voucher should be certified by a responsible officer of the business. 9. All expenses pertaining to the business should be examined by the auditor. 10. A receipt obtained from a party for Rs.20/- or more should bear the revenue stamp. 11. The auditor should see that proper account is debited or credited and proper classification of accounts has been done. 12. Distinction is made between capital and revenue items while vouching. 13. Alterations in the vouchers must be supported by the concerned officer’s initials. 14. Auditor should use specific ticks for vouching cash payments, receipts, purchases, sales etc.
A) VOUCHING OF TRADING TRANSACTIONS
1. VOUCHING OF PURCHASE BOOKS. 1. The main aim of vouching of purchases book is to see that all purchases invoices are entered in purchases book and the goods are entered in the purchases book are actually received by the business. 2. Payment is made for only those goods which are delivered by the supplier. 3. Vouching normally depends on the frequency of purchases, size of the organization and the staff employed. 4. If the internal control system for purchases is inadequate, the auditor has to exercise a greater care in vouching the purchase transactions.
Auditor’s Duties While Vouching Credit Purchases 1. a) There should be proper record for all the purchase orders. A duplicate copy of order is kept in the office for record. b) A copy of purchase order shall be sent to Accounts Department. c) All goods received should be recorded on goods received note; a copy of it should be sent to Accounts Department. d) Payment of supplier is made only after verification of receipt of goods and the price quoted in purchase order. 2) The auditor should see that only credit purchases of goods are recorded in purchase book. 3) The purchases book can be verified from purchase invoices, copies of orders placed, goods received note, goods inward book, copies of challans from suppliers. 4) The quantity mentioned in the invoice must be the same as in shown in the Purchase order. 5) The price charged by the supplier must be as per quotation/price list of supplier. 6) The supplier bill must in the name of the business and for the period under audit. 7) The goods purchased must not be for the personal use of Directors or officers. 8) While vouching the purchase vouchers, each voucher should be stamped or initiated after examination, so that it cannot be produced again. 9) The totaling and casting of purchases book should be verified. It should also be seen that all Taxes, octroi, and freight are added to the purchases and trade discounts allowed are deducted. 10) In certain cases, statement from the suppliers may be obtained to verify his purchases records. 11) The auditor should be more careful while vouching the purchases made in the first and the last month of the accounting period, because sometimes the purchases of the last year may be included in the purchases of first month of the current year or purchases of the last month of the current year may be recorded in the next. 12) Duplicate invoices must not be entered in the purchases book if original invoices have already been recorded
2. VOUCHING OF PURCHASE RETURNS Sometimes the purchased goods are returned back to the supplier for the various reasons. The goods purchased may not correspond to the quality or the specifications ordered. The auditor should see that there exists a proper system to record such returns. In such cases, the purchaser sends back the invoice or alternatively a credit note may be obtained from the supplier. The credit note should include the amount which was originally included in the invoice. A separate returns book is maintained to record the returns. If the supplier replaces the goods returned, the information must be sent to both departments.
AUDITOR’S DUTY o He should see that a Debit note has been sent to the supplier or Credit note has been received from the supplier. o The quantity returned must correspond with the store-keeper’s record, return outward register and gatekeeper’s outward register. o The amount shown in Credit note should be verified. o The auditor should be careful about the recording of purchases return in the current year. Sometimes the profits of current year may be manipulated by recording current year’s purchases returns in the subsequent years. o The purchases return of the first month and last month of the accounting year should be vouched carefully, to detect any manipulation of amounts.
3. VOUCHING OF CREDIT SALES In big organizations sales are made on credit basis. The client himself prepares the sales invoices and records credit sales in the sales book. The auditor can depend on sale invoices, and internal control system for credit sales in operation. INTERNAL CONTROL OF CREDIT SALES • Any order received or booked should be recorded in a separate register, giving full details of the goods ordered. The details are: a) Name of the customer b) Quantity ordered c) Selling Price d) Reference number e) Date of delivery f) Mode of delivery g) Particulars regarding sales tax, excise duty and insurance. • After receiving the order, a copy of the same is sent to dispatch section, where the clerk will keep the goods separate for the purpose of dispatch. • Another clerk will prepare the list of goods and verify the goods dispatched with the customer’s order. • Three copies of the challan should be prepared giving the full details of goods dispatched. One copy will be kept by the dispatch Department and other two copies will be sent along with the goods. • One copy will be received back duly receipted, which serves as the proof of dispatch of goods. The original copy of invoice is sent the customer, and another copy to Accounts Department.
• If the orders are received through agent, a copy of sales invoice will be sent to the agent for sales commission and execution of sales order. • If agent collects the payment from customers, necessary information shall be provided. • For collection of amount of Sales Invoice either Sales or Accounts Department may make cautious efforts to collect the amount after expiry of credit period. • Up-to-date record shall be maintained by Departments.
AUDITOR’S DUTIES
• He should examine the internal control system to assess the efficiency of the system by test checking. If not satisfied, thorough vouching will be necessary. • The sales register should be examined with copies of sales invoices. The sale of capital items shall not be recorded in the sales book. • Test checks should be applied on the calculations made in sales invoices. • The totaling and castings of sales book should be verified. • The sales tax, duties collected through sales invoices must be recorded under separate accounts. • It should be verified that all sales invoices are prepared on the basis of challans and entered in the respective accounts. No sales invoice should be left unrecorded. • Sales made in the current year must be recorded under that year only. Similarly sales of the preceding or subsequent years shall not be recorded as sales of the current year. • All cancelled sales invoices must be kept together for verification by auditor, and see that they are properly treated in the books of accounts. • Trade discounts allowed to the customers should be checked. No separate entry for discount should be passed in the books. If the trade discounts are high, the possible reasons should be located. 4. VOUCHING OF SALES RETURNS
They are the returns made by the customers, on which a credit note is issued only after obtaining sanction from the responsible officer. Before a Credit note is issued, return inward register and stores records should be verified. If sales returns occur frequently, it is preferable to use separate sales return book in returns will be recorded. The auditor should be careful about the sales return in the beginning of the year to detect the fictitious sales. The quality and quantity of goods returned must be verified by the person preparing return note. Sometimes the customer sends a Debit note on returning the goods; it should be taken as external information for verification and duplication in recording of sales returns. The auditor should pay special attention while vouching sales returns: • Date on which the goods are actually returned. • Credit or Debit Note of sales returns. • Gate-keeper’s receipt book. • Stores Records. • Corresponding entry for the return of goods in customer’s account. • Goods returned should form the part of closing stock at cost price or market price whichever is less.
5. VOUCHING OF GOODS ON SALE OR RETURN BASIS
A separate record should be maintained for goods sold on approval basis. It should not be treated as sales unless the customer has sent his approval or after the expiry of the time limit. On the receipt of approval from customer or expiry of time limit, sales invoice will be prepared, a copy of which will be sent to the customer. If the customer informs about the return of goods, necessary arrangement should be made to get back the goods. The goods sent on sale or return basis should be taken in the closing stock as stock with customer. The auditor should get a statement from customer that goods are lying with him on approval basis.
6. VOUCHING OF GOODS SENT ON CONSIGNMENT BASIS
• The goods sent on consignment basis by the principal to his agent should not be considered as sale. • Only when such goods are sold by the consignee, entry for sale should be made in the books. • The goods sent on consignment still lying with the consignee should be taken into closing stock. • A Separate book should be maintained to show the record of goods sent on consignment basis. • At the end of the year, an account sale is received from consignee, indicating the goods sold by him and balancing of closing stock of goods sent on consignment basis. • The auditor should verify the goods sent on consignment basis from proforma invoices, goods outward register correspondence with consignee and account sales.
(B) VOUCHING OF CASH TRANSACTIONS
INTRODUCTION: Cash book is maintained to account for receipts and payments of cash. Auditor should see that all receipts have been recorded in cash book and no fictitious payment appears on the payment side of cash book. The auditor should study the internal control in existence and verify its effectiveness and adequacy. He should find out chances of frauds in the system and the circumstances for concealment of incomes, introduction of fictitious payments, manipulation of accounts etc. He should look into the accounting routines and financial authority of different officials. Vouching must be arranged in serial and chronological order. If any voucher is in the personal name of an official, it should be verified that it related to the organization.
AUDIT OF CASH TRANSACTIONS:
1) INTERNAL CONTROL SYSTEM EVALUATION: It should have the characteristics like: a) It shall not leave any cash receipts unaccounted for and permit any cash payment without goods and services being received. b) The person authorizing the payment must have financial power. It should be verified under what conditions it can be exercised. c) All receipts shall be immediately recorded and acknowledged. d) All cheques must be crossed “Account payee only” immediately on receipt. e) Cash receipts issued and amount credited to debtors shall be reconciled daily. 2) CORRECTNESS OF ACCOUNTING RECORDS: It involves checking of records to verify that entries have been made as per the accounting system which is regularly followed. The checking of records may disclose mistake or manipulations e.g.
a) Omission or commission of a transaction which may be accidental or incidental. b) Errors of principle c) Compensating errors.
I. VOUCHING OF CASH RECEIPTS The auditor should keep in mind the following points in regard to risk of errors, frauds or manipulation while vouching the cash receipts; ▪ False particulars of cash deposited in bank may be entered in counterfoils of pay-in- slips. ▪ Cash received may not be entered in cash book particularly bad debts recovered, sale of assets, over payments to creditors. ▪ Duplicate receipts may show sum less than the original receipts. ▪ Cheques received from customer may be deposited in bank without being entered in cash book and later on an equivalent amount may be withdrawn. ▪ Incorrect totaling of cash book and thereafter false bank statements may be prepared. ▪ Overstatement of discount allowed and excess of cash received may be misappropriated. ▪ Cash in hand may include personal cheques without any intention to deposit these cheques into bank for collection. ▪ Cheques received may be credited to suspense account and then later on cash may be withdrawn and misappropriated.
The vouching of cash receipts will depend to a large extent on the strength of internal control system. Test checks can be applied to the audit of cash receipts if internal control system is satisfactory and adequate. Auditor may check a few receipts at random if everything is in order.
VOUCHING OF VARIOUS CASH RECEIPTS (DEBIT SIDE)
• OPENING BALANCE: Closing cash balance of the last year becomes opening cash balance of the current year. It can be verified from the last year’s audited balance sheet. • CASH SALES: There are more misappropriation of cash sales. In vouching cash sales, cash register should be fully checked with carbon copies of cash memos. The auditor should verify the daily deposits of cash received in the bank. • Dates of cash memos and date on which the receipts are recorded in cash book must be same • If cash memos are cancelled, all copies including the original copy duly cancelled, should bekept in the book. • If the company has a discount policy, it must be approved by a responsible officer. • (Vouchers-Duplicate cash memo, Salesman’s abstracts, Cashier summaries).
CASH RECEIVED FROM DEBTORS When cash is received from customers, a cash memo is issued; a counterfoil is retained by the receiving clerk. Sometimes shortage is concealed, by delaying the recording of receipts of cash from a debtor. Sometimes payment received from a customer is misappropriated without making entry in his account and later on when cash is received from another customer, it is posted to the account of former customer. This is known as “teeming and lading”. • The auditor should verify amount received from debtors from the counterfoils issued to customers. • All receipts should be serially numbered.] • Amount should be entered in the cash book on the day when received. • Discount allowed to customers should be authorized by a responsible officer. (Vouchers-Counterfoils, Correspondence etc). Loans All business concerns have to borrow, from banks or other financial institutions. Auditor should enquire whether the client is empowered borrow. A company is required to maintain a separate register for the public deposits accepted and should follow legal provisions imposed by the Companies Act. While vouching the received, the terms and conditions contained in the agreement should be verified. If the loan is secured it has to be disclosed in the Balance Sheet.
BILLS RECEIVABLE • It may be verified because the various details regarding bills matured and discounted are available in it. • Auditor should check the amount received with bank statement. • An enquiry may be made from party regarding due amounts and dishonor of bills. It may lead to detection of a fraud, as the amount may be received and misappropriated by the cashier. • A verification of the bills discounted should be made. Such bills be entered and appeared as contingent liability in the Balance Sheet; if the date of maturity is after the date of Balance Sheet. • (Vouchers-Bill receivable Book, Cash Book, Pass Book)
RENT RECEIVABLE The auditor has to examine the following points: • Terms and conditions of agreement and lease deed. • Rent received should be compared with the list of properties maintained. If the rent is collected by agent, then it should be compared with the account submitted by the agent. • Check the counterfoils of receipts issued to the tenants. • In case of heavy arrears of rent outstanding, auditor should confirm the arrears from tenants with the consent of client. • Auditor should obtain a certificate from the responsible officer regarding the period for which the property remained vacant. • (Vouchers-Lease Deed and Agreement, Counterfoils, Correspondence)
SALE OF INVESTMENTS • The auditor should examine the bank advice to know the various details about the investments sold through broker. • Broker’s Sold Note or Commission Note should be examined to verify the sale proceeds and commission charged by the broker. • If the investments are sold at cum-dividend price, auditor should see that proper apportionment has been made between capital and revenue receipt. • If the investments are made against specified funds, they must be transferred to Profit or Loss Account. (Vouchers-Bank Advice, Broker’s Sold Note)
INCOME FROM INTEREST AND DIVIDEND • The auditor should check dividend warrant counterfoil land covering letter received along with the cheques. • If the dividend is collected through bank, amount should be verified with the bank statement. • If the dividend warrant has been received and is not yet collected, it should show as yet to be collected. • Interest received on the securities can be vouched from covering letters and schedule of securities. • Interest on fixed deposits can be verified from the bank pass book and interest on loan granted can be checked from the agreement made and counterfoil of receipt issued. • It should be ensured that al interest received and accrued have been accounted for in the books and properly shown in the balance sheet. (Voucher-For dividend counterfoils, Dividend warrants, Pass Book. For Interest-Pass Book-Agreement, Counterfoils). COMMISSION RECEIVED The following points should be examined by the auditor: • Study the agreement for receiving commission. • Verify the commission received with counterfoils of receipts. • Check the calculations of commission according to the terms of agreement. • List of names of the parties should be verified from whom the commission is receivable. • In case of commission received on sale of goods on consignment basis, amount of commission should be verified form the copy of account sale sent to consignor. (Voucher-Agreement, Counterfoils)
PROCEEDS FROM THE SALE OF FIXED ASSETS • It should be vouched with minute book of Board of Directors, Correspondence, agents sale account and sale contract. • It should be credited in proper account. • Any profit arising on the sale of asset shall be credited to revenue account which is not available for distribution of dividends. • If any expense on the sale assets is paid, the amount should be reduced and balance should be credited to asset account. • Sale of fixed assets is to be sanctioned by the authorized person or committee. (Voucher-Sale Deed, Broker’s Sold Note, Correspondence)
INSURANCE CLAIMS • It can be vouched with copy of insurance claim lodged, correspondence with the insurance company counterfoil of the receipt issued. • It should be verified that insurance claim recovered has been recorded in the proper account. (Vouchers-Accounts, Correspondence)
II VOUCHING OF CASH PAYMENTS (CREDIT SIDE) • The internal control system for payments should be evaluated before vouching credit side of cash book. • While vouching various payments auditor should see that: ▪ Payment is made to right person. ▪ Payment is for the purpose of business ▪ Amount recorded in the cash book is the amount appearing in the voucher. ▪ Payment is duly sanctioned by the authorized officer. ▪ Proper account has been debited with the payment. ▪ Provisions of Companies Act has been complied with while recording the payment. ▪ Rough cash book should be compared with the cash book to locate the fictitious payment. i) CASH PURCHASES • In emergency, cash purchases may be made. • Purchases of stores and stationery are made usually on cash basis. • An adequate internal control system will be helpful in controlling manipulation of cash purchases. • It should be seen that goods purchased are actually received by the store-keeper. • Cash memos can be compared with goods inward book to verify the goods received. • Only the net amount should be entered in the books (after trade discount). (Vouchers-Cash Memos, Goods Inward Note). ii) BIILS PAYABLE • If honored on the date of maturity and are returned by the payee after receiving the payment. • These bills should be cancelled after being paid. • Bills payable paid can be vouched with bills book. • If the payment is made by bank, bank statement or pass book can be examined to verify the payment of bill. (Vouchers-Receipts, Bills Payable Returned, Pass Book, Bills Payable Book)
iii) WAGES • There are many chances of fraud and misappropriation in wages payment. • The auditor should study the system of internal control in operation. • Fraud and misappropriation in wage payment can arise in the following ways: a) Inclusion of dummy workers in the workers’ register. b) Payment of wages for the time or the work for which worker was not present at the work place. c) Payment of wages at higher rate than allowed. d) Including in the records the name of those workers who have left the organization. e) Less amount of deductions is taken for calculation of wages. iv) SALARIES • Auditor should see that salaries bill is prepared with the sanction of responsible officer. • He should also check attendance records, salary bill of earlier months and appointment letters of new employees. • If there is an abnormal increase in salaries of a month over the salaries of previous month, he should inquire into the reasons for such change.
In vouching the payment of salaries, following points are important: a) Auditor should check salary register with the entries made in cash book. b) He should examine carefully alterations in the amount of deductions on account of fines, funds, loans, insurance etc. (Voucher-Salary Registers, Counterfoils, Appointment Letters) v) INSURANCE PREMIUM The auditor should examine the following for the vouching of the insurance premium: a) Insurance policy or the cover note issued by the insurance company. b) Insurance policies in case the policies are more than one. c) Insurance premium receipts.
vi) TRAVELLING EXPENSES • The staff of the company is paid travelling expenses according to the rules. • The voucher and receipt of travelling expenses will serve as an evidence for vouching these expenses. • If the allowance is fixed as per rules, auditor can verify the amount from the rules. • If actual expenses are reimbursed, the calculation of travelling expenses should be verified. • The Bill of travelling expenses should be sanctioned by a responsible officer. (Vouchers-Receipts, Bills) vii) PETTY CASH BOOK
▪ Verification of actual cash balance with the balance appearing in Petty cash book. ▪ Whether the internal control system is effective in detection of frauds and misappropriations. ▪ Determining the validity and accuracy of transactions recorded in the Petty Cash Book. • All vouchers are serially numbered and sanctioned by a responsible officer. • Petty cash received from the head cashier is recorded on the same day on which it is actually received. • Appropriate expense account is debited. • All the payments must be verified from the supporting evidence viii) LOANS
• He should see that the loan voucher should be supported by the receipt given by the party. • Details regarding terms and conditions of loan can be verified from the loan agreement. • It should be seen that instalments of loan along with interest are received on time. • Mortgage deeds, other documents should also be examined. ix) Freight, carriage, Customs duty
• Freight-- Heavy goods transported through ship/train/truck/aircraft for which charges are collected called as freight charges. • To check freight invoice • Consignment note if any given by transporter, which gives you an evidence of the amount paid and whether actual transport is happened or not. • Whether transporter has PAN or not. • If freight is subjected to TDS and no PAN is submitted, then TDS to be charged @20%. • If payment is through cash –cash book, vouchers to be verified. • If payment is through bank- cheque register, bank statement to be verified. • Also bills, validity, mileage, duplicate payments, and use of correct tariffs. • Carriage --Verify carriage inward voucher with delivery challan. • Verify mode of payment- cash or bank. • Bills received immediately to be recorded properly. • In some case companies adopt self-billing process to pay freight bills. • Customers calculate their freight costs and instruct the freight forwarder to invoice using credit notes. • If still auditor is unable to calculate because of software usage and no knowledge can ask for third party experts. • Customs duty –Tax imposed on imports and exports of goods, rates are either specific or based on value of goods. • If customs duty is directly paid, auditor should check receipt bill entry. • Checking of monthly accounts and bill entry. • To see that all charges are treated as capital or revenue items. • Orders • Accounting ledgers • Bills of lading • Airway bills • Permits • Invoices • Contracts • Packing list • Correspondence • Evidence of payment made or received.
Sources: Any document based upon which a financial transaction is recorded in books of accounts is known as ‘source document’. 1. Cash memo 2. Cheques 3. Invoices and bills 4. Credit note 5. Debit note 6. Pay- in –slip 7. Receipt 8. Miscellaneous
Importance: Vouching is the act of checking evidential documents to find out errors and frauds and to know the authenticity, accuracy and reliability of books of accounts. Thus, it is important for an auditor due to the following reasons:
1. Vouching Is the Backbone of Auditing Main aim of auditing is to detect errors and frauds for proving the true and fairness of results presented by income statement and balance sheet. Vouching is only the way of detecting all sorts of errors and planned frauds. So, it is the backbone of auditing.
2. Vouching Is the Essence of Auditing Auditing not only checks the accuracy of books of accounts but also checks whether the transactions are related to business or not. All the transactions are performed after the prior approval of concerned authority or not, transactions are real or not because an accountant may include fictitious transactions to commit frauds. All these facts can be found with the help of vouching. So, vouching is essential for auditing.
3. Vouching Is Important to See Whether Evidences Are Correct or Not An auditor checks the books of accounts to detect errors and frauds. Frauds may be committed presenting duplicate vouchers. All the small and big amounts of frauds can be detected with the help of vouching. So, all the evidential documents and records are to be checked carefully and in detail by an auditor which is the scope of vouching.
Therefore, it can be said that vouching is the heart of auditing because without the work of vouching, the work of auditing cannot be performed.
UNIT-IV
VERIFICATION AND VALUATION OF ASSETS AND LIABILITIES
Meaning of Verification Verification means proving the correctness. One of the main works of auditor is verification of assets and liabilities. Verification is the act of assuring the correctness of value of assets and liabilities, title and their existence in the organization. An auditor should be satisfied himself about the actual existence of assets and liabilities appearing in the balance sheet is correct. While verifying the assets, an auditor should consider the following points:
* Ensuring the existence of assets. * Acquiring the assets for business. * Ensuring the proper valuation of assets. * Ensuring that the assets are free from any charge.
Meaning of Valuation Valuation is the act of determining the value of assets and critical examination of these values on the basis of normally accepted accounting standard. Valuation of assets is to be made by the authorized officer and the duty of auditor is to see whether they have been properly valued or not. For ensuring the proper valuation, auditor should obtain the certificates of professionals, approved values and other competent persons. Auditor can rely upon the valuation of concerned officer but it must be clearly stated in the report because an auditor is not a technical person. An auditor should consider the following points regarding the assets while making valuation off assets:
* Original cost * Expected working life * Wear and tear * Scrap value
Audit of Land and Building Assets like land, building, etc. can be divided into two categories such as
1. Freehold Property, and 2. Leasehold Property. Audit of Freehold Property – Verification Procedure As land is a non-depreciable asset, it is better if it is shown separately in the Balance Sheet. In other words, it should not be shown along with buildings because building is a depreciable asset whereas land is a non-depreciable asset. The verification procedure is as follows: 1. The auditor should examine the title deeds in order to ensure that they are in the name of the client.
2. In case the property is mortgaged, he should obtain a certificate from the mortgagee or his solicitor to the effect that the title deeds are in their possession. He should also enquire whether there is any second or subsequent mortgage or not.
3. If it is purchased, correspondence and broker’s note should be examined. If the purchase is effected through auction the auctioneer’s account should be checked.
4. If the client has constructed the building, the auditor should examine the certificates received from the builder, contractor, architect and other necessary papers and documents.
5. If the building is a newly purchased one, the value of building can be ascertained by vouching the amount paid to the contractor. If it is partly constructed, by obtaining architect’s certificate, its value can be determined. 6. If the client’s own staff members are also engaged in its construction, the auditor should see that a reasonable basis of allocation of wages, supervisor charges, etc. has been adopted.
2. Audit of Leasehold Property – Verification procedure If the land or building is acquired by the business for a fixed duration on lease, the property is said to be leasehold. Auditor should see that separate accounts are maintained both for freehold and leasehold properties.
The amount of premium paid in order to acquire the lease, the expenses incurred on the improvement of the building, etc. should be capitalized and written off over the life of the lease.
The royalty paid every year should be treated as revenue expenditure and debited to the Profit & Loss Account. The cost of leasehold property should be written off on straight line basis.
The auditor should take the following steps to verify the leasehold property:
1. The auditor should inspect the lease agreement to find out value of the property and its duration. He should see that the lease agreement is registered with the Registrar and certificate testifying the validity of the same has been obtained from the client’s legal advisor. 2. He should see that the terms and conditions of the lease are duly complied with.
3. The annual charge for depreciation will be arrived at by dividing the total cost by the term of the lease. The auditor should see whether amount written off is sufficient to provide for depreciation at the end of the term. 4. If the property is sub-let, the auditor should examine the agreement entered into with the sub-lessee. 5. If the asset is of building, the tax paid, and repair expenses made for it should be treated as operating expenditure. The auditor should see whether they are treated so.
2. Plant and Machinery A plant is an asset with a useful life of more than one year that is used in producing revenues in a business’s operations. Plant is recorded at cost and depreciation is reported during their useful life.
Auditor's Duty
1. When the machines are purchased in the current accounting period, the invoices and the agreement with the vendors should be verified.
2. The auditor should ` examine the plant register in which particulars about the cost, records about sales, provision for depreciation, etc., are available.
3. He should prepare a list of each machine from the plant register and should get the list certified by the works manager as he is not a technical person and therefore he has to depend upon the advice of the works manager regarding their valuation, etc.
4. He should see that plant and machinery account is shown in the Balance Sheet at cost less depreciation after making proper adjustment for purchases and sales during the year under audit.
5. In case any plant and machinery has been scrapped, destroyed or sold, he should ascertain that the profit or loss arising thereon has been correctly determined.
3. Furniture, Fixtures and Fittings They are items of movable equipment that are used to furnish an office. Examples are chairs, desks, shelves, book cases, filing and other similar items.
Auditor's Duty 1. Verify Invoices: When assets have been acquired during the current accounting period, the auditor should examine the purchase invoice of the dealers. 2. Verify Furniture Stock Register: He should verify furniture stock register and ask the management to prepare an inventory to reconcile it with the stock register. 3. Verify Schedule of Previous Year: He should compare furniture schedule of previous year with that of current year to ascertain the existence, purchase or sales of asset during the year. 4. Disclosure of Profit or Loss on Sale: He should examine that any profit or loss on sale of furniture during the year is properly disclosed in books of accounts.
VALUATION OF FIXED ASSETS
1. Valuation of Land: Land which does not have depreciated value, is valued at cost price.
2. Valuation of Other Fixed Assets: Other fixed assets like Buildings, Plant, machinery, office equipment, furniture and fixtures should be valued at going concern value.
3. Depreciation: Auditor should ensure that adequate amount of depreciation has been provided, taking into account the working life and usage of the asset.
4. Disclosure in Balance Sheet: He should verify that furniture, fittings and fixtures are disclosed in Balance Sheet at cost less depreciation. Verification and Valuation of Current Assets
We will now discuss the verification and valuation of a few important current assets, cash and bank balance and sundry debtors.
Cash-in-hand
Cash-in-hand is verified by actual counting of cash. Cash-in-hand should be verified at the close of the business or on the date of the balance sheet. Counting of cash must be done in the presence of cashier. If physically verification of cash is not feasible for an Auditor due to branch located abroad or in remote area, the Auditor should ask the cashier to deposit all his Cash-in-hand in bank account on the last date. It is the primary duty of an Auditor to verify the cash-in-hand and in case of non verification, the Auditor will be held responsible for breach of his duty. If there is heavy cash balance in hand at any time, the Auditor should immediately inform the management beforehand. If the cashier is made accountable for payment to employees or others, the Auditor should carefully verify the same.
Cash at Bank
The Auditor needs to consider the following points for verification of cash at bank −
• The Auditor should prepare a bank reconciliation of account as on date. With the help of it, the Auditor will clearly come to know the status about the cheque issued but not yet presented in the bank and cheques deposited in the bank but not yet cleared. There are many kinds of frauds which are detectable through preparation of bank reconciliation of account. • The Auditor should obtain different certificates from banks for different types of accounts like current account, fixed deposit account, savings account, overdraft account or cash credit account, etc.
• The Auditor should obtain a letter of confirmation of bank balances directly from banks.
• The Auditor should compare the bank balance as per the bank book and the pass book.
• If payments are deposited in foreign banks under exchange control regulation it should be verified by the Auditor.
Sundry Debtors
The Auditor is concerned with obtaining sufficient audit evidence to corroborate the management’s assertion regarding the following −
• All amounts are recorded in respect of outstanding debtors as at date of Balance sheet.
• Valuation of debtors is appropriate and properly applied.
• That all the debtors are disclosed, classified and described in accordance with recognize accounting policies and practices. The verification process of the debtors involves the following −
Examination of Records
• Auditor should satisfy himself about the validity, accuracy and recoverability of debtors’ balance.
• Excessive discount allowed or bad debts written off should be verified.
Direct Confirmation Procedure
• Direct communication with debtors is the best way to ascertain whether the balances are accurate, genuine and undisputed.
• Debtors from whom confirmation of balances is required, the method of requesting confirmation is to be determined by the Auditor.
• Confirmation procedure may be carried out within a reasonable period from the end of the year.
• Replies received from debtors should be carefully gone through and in case, where balances do not agree, client should be asked to investigate.
• The Auditor must pay special attention to those balances for which confirmation is not received. They might be fictitious or made to conceal a fraud.
Steps for Verification • Book debts can be verified by the books of accounts and those should be supported by sale documents.
• Book balances should be sent to debtors directly for confirmation. It will establish the existence of book debts.
• Ownership of book debts can be verified with the sales documents and the sales ledger.
• Debtors should enquire about any type of dispute with customers about discount, claim etc.
Steps for Valuation
• Debtor’s ledger should be supported by sales ledger.
• Auditor should obtain list of book debts, bad debts written off and for provision for doubtful debts.
• Sundry debtors should be valued at realizable value.
• Confirmation of balances shows that valuation of debtors is correct. Verification and Valuation of Liabilities
Let us now understand the verification and valuation of liabilities −
Trade Creditors
Auditor should take the following important steps for the verification and valuation of Trade Creditors −
• Auditor should collect schedule of creditors and that should tally with ledger balances.
• Purchase ledger should be checked and verified with purchase register, purchase invoices and debit notes etc.
• Auditor should verify the discount received or receivable from creditors.
• Auditor should minutely check the purchase of first month and last month of the financial year to avoid any possibility of booking purchases of current year to next year or last year purchase to current financial year.
• Auditor should pay special attention on any unpaid amount stands in ledger of creditor since long. It might be possible that amount has misappropriated by the any official and balance stands as it is in books of accounts.
• Confirmation of balances should be done directly by the Auditor and if there is any kind of discrepancy that might be sorted out.
• Auditor should carefully study the hire purchase agreement to verify the purchases made on the basis of Hire-Purchase. Loans
The Auditor should verify the following important points for verification and valuation of Loans −
• The Auditor should verify the amount of loan, type of loan, rate of interest and repayment terms, etc.
• He should collect and examine the agreement and certificate from bank in case loan is granted by any Bank or financial institutions.
• He should obtain balance confirmation from party from whom loan is accepted by the organization other than bank.
• Interest calculation should be duly checked by the Auditor according to agreement.
• Amount of interest due but not paid during the current financial year should be duly accounted for in books of accounts and should be shown as current liabilities.
• In case of company, the Auditor examines the borrowing power, register of charges and created charge should be registered with the Registrar of Companies. Stock Goods are easily subject to misappropriation and manipulation. Very often firms use stock in trade as one of the methods to inflate or deflate profit by understating or overstating the value of stock. Stock- in- trade – verification procedure The audit procedure, which the auditor should follow while verifying the stock-in-trade, is as follows:
1. The auditor should examine the internal check system in operation.
2. He should study and make himself familiar with the stock taking system followed in the organization. He should also see whether the system is proper.
3. He should check the Stock Sheets with the Stock Registers.
4. He should examine how the management controls the receipts and issues of stock. 5. He should check the prices of stock with the help of catalogues, invoices, and price lists.
6. He should check the totals, balances, and extensions of stock sheets.
7. He should get a copy of the physical stock taking instructions given by the client beforehand and see whether they are proper and possess adequate safeguards against possible errors or frauds.
8. If possible he can send one of his staff to observe the physical stock taking.
9. He should see whether the job of stock sheet preparation is allotted to a responsible official of the organization and also should insist that a top-level executive like director should sign it.
10. If there is any alteration in stock sheet, he should see whether the responsible official attests such alteration. Besides, he should also find out the intention for such alteration.
11. He should test check some of the items of the stock with the stock records with regard to their quantity and value. If there is any material difference it must be enquired into.
12. He should test check the physical existence of at least 5% of the items to determine whether records represent correctly the stock in hand.
13. He should see whether all the goods purchased during the year included in the stock.
14. He should see whether all old, and damaged stocks have not been included in the stock, and they have been written off.
Auditor's Duty in Valuation Stock-in-trade is a Current Asset and the auditor should ensure that stock-in -trade is valued at cost price or market price whichever is lower. The Institute of Chartered Accountants of India Accounting Standards - 2 (AS 2) “Valuation of Inventories” states that, stock of material is valued at cost or market price (Net Realizable Value) whichever is lower on the date of Balance Sheet. Verification of Bills Receivable by Auditor 1. The auditor should verify Bills Receivable Book with bills receivable in hand for which he should call for a certified Schedule of bills in hand.
2. The totals of the Schedule should be checked by reference to the accounts in the General Ledger. 3. He should examine each bill to see that it is properly drawn, signed by the acceptor and is also properly stamped.
4. He should verify the bills met after the close of financial year but before audit by vouching the cash received and entered in the Cash Book. 5. Bills discounted should be examined by verifying the entries made in the Cash Book with those in the Bills Receivable Book.
6. The auditor should see that a note for the contingent liability in respect of bills discounted appears on the Balance Sheet. In case bills deposited with a bank for safe custody or for security of a loan, they should be verified with the help of a certificate obtained from the concerned bank, in order to confirm their existence.
In case bills have been retired before the date of the Balance Sheet, the proceeds received there from should be checked by reference to the Cash Book.
FURNITURE & FIXTURES: VERIFICATION: 1. It should be verified with the help of invoices obtained from the supplier as personal inspection may not always be possible. 2. The auditor should check the furniture stock register, date of B/S and should check the balance is shown clearly or not. 3. Expenditure incurred for obtaining for these assets should be capitalized freight and carriage spent on bringing the furniture to the shop of factory should be charged to the furniture account but not to profit and loss account. 4. Auditor should properly inspect the stock register maintained by the firm VALUATION: 1. They are subject to heavier wear and tear and should adequately provide for. 2. The auditor should enquire into the methods of charging depreciation because amount of depreciation will depend upon use of assets. For eg: furniture used in canteen, hotel or cinema hall will require more depreciation than the furniture used in office. 3. The adequacy of depreciation on the furniture must be properly looked into by auditor MOTOR LORRIES & VANS: Its account is to be separately maintained if the no. of vehicles is very large, a separate register as plant register can be maintained. VERIFICATION: 1. It should be verified with the help of the invoices from the suppliers 2. Vehicles should be inspected by the checking the registration number. 3. He should check certificate of registration, registered no. with particulars in ledger. He should also checked insurance premium paid to ensure that all vehicles are insured. 4. Any addition made during the year should be scrutinized.
VALUATION: 1. These assets are valued at cost less depreciation. 2. The motor vehicles are written off over the mileage they are expected to run. 3. In case of carts and vans the auditor should allow depreciation at a lower rate. 4. He should see that expenditure on repairs have been charged to revenue account and not added to their cost.
GOOD WILL: It has no physical existence. It is the value of reputation of firm. It appears as an asset on balance sheet only when it is purchased. It is the difference between the total purchase price less assets acquired when a company revalues its assets, when a partner is admitted or retired or dies.
VERIFICATION: 1. G/W is brought into accounts books only when it is purchased for valuable consideration. 2. When good will is purchased along with a running business the value should be verified from the price paid for it. 3. The auditor should examine the purchase agreement or the partnership deed to ascertain the cost of good will. VALUATION: 1. The auditor should see that goodwill is never appreciated in the books of a company. 2. It is valued at cost less any amount written off. 3. The auditor should confirm himself that goodwill appearing in the balance sheet has not been shown in excess of its cost price. 4. The value changes with the changes in the earning capacity, so the auditor should be concerned with the fluctuations in its value.
PATENT: It is an official document which gives the investor exclusive right for years to make or use or sell his invention. Examples –pen with scanner, articles, any new inventions.
VERIFICATION:
1. He should verify it with the help of certificate which grants patents rights and also ensure that the patents are registered in the name of the client. 2. Original fee paid for purchase of patents must be capitalized. Renewal fees must be treated as revenue expenditure and depreciation must be written off. 3. If no. of patents is large, Auditor can ask his client to prepare a list of details mentioning dates of acquisition, registration no., and unexpired period VALUATION: 1. Patents should be valued at cost less depreciation. Causes for depreciation are: a. Lapse of time b. Obsolescence c. The patented article going out of fashion 2. They should be written off over a period of 14 yrs. after which the right automatically lapses TRADE MARK: It is a distinctive mark attached to goods offered for sale in order to distinguish them from other goods or identify them with a particular trader. They can be in any form like symbols, letters, figures, logos, marks. Examples- airtel, mc Donald’s, KFC, Nike… etc.
VERIFICATION:
1. It is verified by examining assignment deed duly endorsed by Registrar of Trade Marks. 2. In case they have been purchased from others the auditor should vouch the expenditure incurred in connection with acquisition like registration fee, payments made to designers etc. VALUATION: 1. It should be seen that trade mark is properly valued and shown in the B/S. 2. Research expenses to be capitalized. 3. Differentiation to be made between capital and revenue expenditure.
COPYRIGHT: It is an exclusive right to produce or reproduce literary works. It is a legal protection provided to author prohibiting other from publishing his work. The period of work copyright is for lifetime of an author or 60 years after his death. Examples- music, graphics, dramas, poetry, novels, songs, movies, sculptural works.
VERIFICATION: 1. The procedure is more or less same as patent rights 2. In verifying copyrights, auditors should inspect the agreement between the auditor and the publisher. 3. If there are many copyrights with a business, the auditor should call for a schedule from the client to verify them.
VALUATION: 1. The value is not stable because copyrights lose their value by passage of time. 2. In the B/S copyright must be shown at cost less amounts written off from time to time.
STOCK IN TRADE: The correct recording and auditing of stock or inventories are of paramount importance. It comprises the items such as stores and spare parts, loose tools, raw materials, scrap or by- products etc.
VERIFICATION: 1. If stock in trade is incorrectly recorded, v4rified or evaluated the result profit or loss for the period will be incorrect. It also affects the B/S and the net worth will present a wrong picture. 2. He should review and be familiar with the procedure and arrangements for the maintenance of stock records and find out discrepancy therein. 3. He should check how management controls the receipts and issues of stock and physical stock taking. 4. He should test check the physical existence of at least 5% of items to ascertain whether records correctly represent the stock in trade. 5. He should ensure that no goods belonging to the client (goods sold on consignment or sale or return basis) have been including in stock.
VALUATION: The valuation of stock is made on the basis of cost price or market price whichever is less. The valuation is of two methods: 1. Pick and choose method: it is also known as individual method. This method implies that we deal with each item of stock separately and find out the cost or market price, whichever is lower of each item. 2. Global method: under this method each item of stock is not taken separately. First the aggregate cost price of all articles and their aggregate market price is calculated. Then the lower of the two valuations becomes the basis for the valuation of stock.
TRADE DEBTORS (SUNDRY DEBTORS):
VERIFICATION:
1. Verification of the book debts involves detailed checking of the schedule of all debtors with the ledger and statements of accounts received from debtors. 2. Balance of book debts should be sent to the debtors for their confirmation, which will also establish the existence of book debts. 3. Existence of book debts can be verified by examining the books of account and satisfying that entries therein are supported by proper documents. VALUATION: 1. The auditor should call for the lists of book debts and debts written off and arrive at the conclusion about adequacy of write off and provision for doubtful debts. 2. The confirmation of balances by debtors will help establish the valuation of book debts. 3. It should be ensured by the auditor that sundry debtors are valued only at realizable value,
BILLS RECEIVABLE:
VERIFICATION: 1. The auditor should examine the B/R book and prepare a schedule of all those B/R which have not yet matured before the date of preparation of B/S. 2. The auditor should get a detailed certificate from the bank to ascertain the clear position about the bills. 3. The bills which have been dishonored before the due date of the balance sheet should not be included in B/S. 4. The bills those are discounted or endorsed but remain outstanding at the time of audit any contingent liability in respect of such bills should be maintained as a foot note of the B/S.
VALUATION: 1. The auditor should see that the bills are properly drawn, stamped and duly accepted and they are not overdue.in case of renewal he should check new bill with old bill. 2. Sometimes the bills might have matured and honored subsequent to the date of the balance sheet, but prior to the date of audit the auditor should check the cash book. 3. If the bills have been retired before the date of balance sheet the proceeds thereof should be checked by reference to the cash book.
CASH IN HAND:
VERIFICATION: 1. The auditor should verify the cash in hand with the close of the business on the date of balance sheet.2 2. As far as cash in transit is concerned, the auditor should verify this balance with help of proper documentary evidences and correspondence.
VALUATION: 1. If the cash in hand is not in agreement with the balance as shown in the books, it should be the duty of the auditor to call for an explanation. 2. He should also check the system of making payments. 3. In case if cash is maintained at local branches the auditor can ask bank manager to deposit the balance of cash on th balance sheet date.
CASH AT BANK:
VERIFICATION: 1. The auditor should compare the balances as shown in passbook with the balances of cash book. 2. He should prepare BRS or should check the statement prepared by the client in order to ascertain the correct bank balance. 3. He should obtain a balance confirmation certificate from the bank at the close of the year. 4. He should get separate certificates for FD account, current account and savings bank account from different banks to confirm total deposits in different banks.
VALUATION: 1. Any deposits in foreign banks under exchange control regulations the fact is to b disclosed. 2. Amounts are kept in different reserves account in the banks , in order to avail deductions under Income Tax act the fact should be disclosed. 3. In order to ascertain current position with regard to cheques issued but not yet presented or cheques deposited but not collected, the auditor should confirm through cash book and pass book figures.
VERIFCATION AND VALUATION OF LIABILITIES.
DEBENTURES: 1. The auditor should refer MOA and AOA in order to determine the extent borrowing power and to check power to issue debentures. 2. The auditor should verify the terms of prospectus complied with. 3. The auditor should examine a copy of the debenture bond to ascertain th terms and conditions on which the debentures have been issued. 4. If the debentures are mortgaged debentures, the debenture trust deed should be studied by the auditor. When issued at par but redeemable at premium: Loss is charged to P/L account. 5. When they are issued at premium: Auditors should ensure that the premium collected must be shown separately and not utilized for distribution of dividends. 6. If issued at discount: They are shown at face value in Balance sheet and deduct the amount of discount allowed. 7. If profit is made on redemption: It has to be transferred to capital reserve.
LOANS: A company can obtain loan from bank and other financial institutions based on the credibility and security provided. 1. He should scrutinize the loan account in the ledger and documents relating to fixed assets. 2. The auditor should check whether the interest due has been paid or not. If the interest is due but not paid till the date of B/S it should be shown as liability. 3. Secured and unsecured loans should be shown separately. 4. The auditor should check the MOA and AOA to examine its power of borrowing. 5. Loans should be verified with help of agreement with lenders and in case if loans or OD is taken from bank, agreement with bank and certificate to the effect should be obtained and examined.
TRADE CREDITORS (SUNDRY CREDITORS) 1. The balances should be verified with the purchase ledger balances 2. The purchase ledger should be checked with help of purchase invoices, credit notes, Goods inward and outward books etc. 3. If the client maintains provision in respect of discount on creditors he should check the same with reference to the creditors account. 4. If a debt is unpaid for a long period of time he should enquire whether there is a genuine delay or is there any misappropriation of funds. 5. He should compare the % of gross profits earned with that of previous year to trace omission of invoices if any. BANK OVER DRAFT: 1. The auditor should examine the overdraft agreement with the bank in order to ascertain the terms and conditions of overdraft and maximum limit thereon 2. The auditor should check whether interest on OD has been duly accounted for. 3. He should get confirmation from bank in respect of amount of OD at the close of the year. 4. The MOA in case of a company should be examined to ascertain the borrowing power of the company and any limitations. 5. It is to be seen whether any security was offered for the OD in terms of agreement, depending on which the OD is to be classified as secured or unsecured.
Drawings: They are money or other assets taken out of a business. This might be by the owner or partner for personal use, or as dividends if the company has been made public. 1. Auditor has to check whether the MOA or AOA of the company permits for drawings by the partners/owners. 2. He has to verify the amount of drawings and check if interest on drawings is been received and how will be the amount reverted back by the person. 3. Bank statement to be verified. 4. Authorized person to issue drawings to be verified.
Provision for taxation: 1. Auditor should ascertain the tax liability. 2.Computation of assessable taxable income. 3.Check the computation of assessable P and L account. 4.Verify past completed assessment to know how the adjustments were made. 5.To verify Any advance tax paid 6.Verify proper IT returns are filed. 7.Obtain a certificate from tax practitioner 8.To check for overall provision. (provision for the year, advance tax paid, past provision made, assessment order, pending appeals, refunds)
Bills Payable: 1. The auditor should obtain a list of outstanding obligations on account of bills payable. This should be checked with the bills payable books and bills payable account and any variation b/w two should be reconciled. 2. with the permission of his client, the auditor should obtain should the statement 3. the bills paid after the balance sheet date should be verified with the entries passed in the cash book 4. he should ensure that the bills which have been paid are not recorded as outstanding
Valuation of liabilities: Reserve fund method: They are created to strengthen the financial position of balance sheet, raise working capital, to meet future contingencies or loss. Example- general reserve, capital reserve, contingency reserve. 1. Auditor has to verify the amount is transferred and debited to p&l appropriation account. 2. It is shown on liabilities of balance sheet separately. 3. To see that fund created to be used only for ear marked purpose only. 4. To see that amount invested in reserves is in easily realizable securities.
Difference b/w Verification & valuation
Verification and valuation are interlinked and interdependent. It is a combined process by which the position of different assets appearing in the Balance Sheet is examined. Valuation and verification of assets are complementary to each other. Until and unless the valuation of assets is made, verification is impossible.
Particulars Verification Valuation Meaning Verification means proving Valuation implies critical the truth or confirmation examination and testing of determined values of assets on the basis of its utility during a particular period. Function It deals with assessment of the It deals with only the genuineness of the ownership assessment of rightness of the title methods of valuation at which different assets & liabilities are valued Scope It has broader concept which Valuation is a narrow concept includes among different as compared to verification, aspects, valuation is a part of because it is only the part of assets & liabilities the whole process of verification Objective It is to ascertain whether the It is to ensure that assets & assets & liabilities owned by liabilities of an entity are entity are correctly disclosed correctly valued by following in FS at the proper value. the prescribed norms of competent authority. Nature Nature of the work involves in It involves determines the verification process is some values of assets & liabilities as extent complicated as it per the prescribed norms & involves assessment of the guideline. ownership as well as possession of the assets by the entity Term Verification is made at the end Valuation is made throughout of the year. the year Based upon Verification is based on Valuation is based on individual check. evidence. Interdependence Without proper valuation, the Valuation is a process which verification process can’t be facilitates proper verification completed. So , verification is of A&L. without valuation , dependent on valuation verification can’t be completed Services from other experts It doesn’t require services It requires services of other from other expert by auditor experts because the auditor is not a valuer in the true sense. Certificate for the work Auditor is supposed to issue a If an experts service is sought separate certificate for for the proper valuation of verification of asset & assets & liabilities, the liabilities of an entity concerned expert is supposed to give a certificate for the valuation he has done.
UNIT-V
Auditor Qualifications and Disqualifications
Qualifications--Section 226 of the Companies Act, prescribes the qualifications and disqualifications of the company auditors. According to Section 226, “ A person shall not be qualified as auditor of a company unless he is a Chartered Accountant within the Accountant can be appointed as an auditor of a company.
A person shall be appointed as an auditor if he is Chartered Accountant within the meaning of Chartered Accountants Act, 1949 and holding valid certificate of practice and acting in capacity as
(a) Individual (b) Partnership firm (c) Limited liability partnership
Dis-qualifications--Sec 226 provides disqualifications of company auditor:
(1) A body corporate (2) An officer or employee of the company (3) Any partner or employee of the company (4) A person who himself is relative to partners holding any security or interest in the company.
The term relative as defined under the Companies Act,2013, means anyone who is related to another as Hindu Undivided Family, husband or wife, father (incl. step father), mother (incl. step mother), son (incl. step son) , son’s wife, daughter, daughter husband, brother(incl. step brother), sister(incl. step sister).
Example--Mr. ‘P’ is a practicing chartered accountant and Mr.’Q’, the relative of Mr. ‘P’ is holding securities of ABC co. having value of Rs. 90,000. Whether ‘P’ is qualified from being appointed as an auditor of ‘ABC co.?
The relative of auditor may hold the securities of interest of Rs. 100,000 face value in the ABC ltd.
In the present case, Mr.Q, relative of Mr.P an auditor is having securities of Rs.90,000. Face value in the ABC co., therefore, Mr.P will not be disqualified to be appointed as an auditor of ABC ltd.
(5) A person or firm, whether directly or indirectly has business relationship with the company, or its subsidiary or holding or associate company. (6) A person whose relative is a director or key managerial person. (7) A person who has convicted by a court of an offence involving fraud and a period of 10 years.
Appointment of auditor in a company Audit of Joint Stock Company is a statutory audit. Sec.224 of the Act deals with the appointment of a company auditor. (a) First auditor: - First auditor is appointed by directors within one month of its registration. The first auditor holds office till the first annual general meeting is held. He may or may not continue after the AGM. If he is to be removed at least 14 days’ notice has to be given to him before the meeting. If the directors don’t appoint the first auditor the shareholders may appoint him in their general meeting. (b) Subsequent auditor: - According to Sec. 224 every subsequent auditor is appointed at the Annual General Meeting(AGM). He holds office from the AGM in which he is appointed until the next AGM. The auditor has to inform his acceptance or otherwise if he doesn’t accept the offer the vacancy can be treated as neither as casual vacancy nor as vacancy resignation. The company has to appoint a new auditor in AGM. (c) Appointment by central government: - When the AGM fails to appoint an auditor the central government may appoint an auditor within 7 days of being informed by the company. (d) Appointment by special resolution: - In case of companies where more than 25% of capital is held by a nationalized bank, insurance company, government company or state government etc; the auditor of such a company must be appointed by passing a special resolution. (e) Auditors of government companies: - Auditors of all government companies are appointed by the central government on the advice of Comptroller and Auditor General of India (C&AG). In such a case the report is to be submitted to C & AG. (f) Appointment by company: Every company shall at each annual general meeting, appoint auditors to hold office from conclusion of that meeting until the conclusion of next annual general meeting. Within 7 days of appointment intimation given by company, the auditor has to intimate registrar of companies within 30 days of the receipt from the company about his acceptance or refusal of appointment.
(g) Reappointment of auditor: A retiring auditor may be reappointed at AGM by passing a resolution.
Reappointment of a retiring auditor is not automatic. A resolution at the Annual General Meeting is required.
However, a retiring auditor shall not be reappointed. (a) When he doesn’t qualify for reappointment. (b) When he is not interested or willingness to accept reappointment. (c) When a resolution is passed in the AGM appointing some other auditor requires a special resolution. (d) When opted not to reappoint him.
(h) Appointment in case of casual vacancy: Casual vacancy arises for an auditor due to disqualification, resignation, death etc; Any casual vacancy of the auditor must be filled by the Board of Directors within 30 days. If the casual vacancy is on account of a resignation of an auditor, then the appointment of the auditor must be approved at an Extra-Ordinary General Meeting convened within 3 months of the recommendation of the Board. Board of director may appoint an auditor to fill the casual vacancy. (1) Where there are more than one auditor, the remaining auditor may act as the auditor during the vacancy period. (2) Where the casual vacancy is due to resignation, the vacancy can be filled up only at a Annual General Meeting.
(i) Appointment of Auditor by Special Resolution In the case of companies mentioned below, appointment and reappointment of auditors at the annual general meeting shall be made only after passing a special resolution.
1. A company in which not less than 25% of the subscribed share capital is held as on the date of annual general meeting, jointly or singly, by,
a. a nationalized bank or a general insurance company or b. any institution, financial or otherwise, established under State or Provincial Act, in which, not less than 51% of the subscribed capital is held by the State Government or c. a central Government or a state government or a company or a public financial institution. Here, the following are to be noted:
1. Subscribed share capital includes preference share capital.
2. Special Resolution for the appointment of auditor is necessary even if a nationalized bank holds shares of the company in its name as security for loans advanced by it. . If any of the above mentioned companies fails to appoint the auditor by passing a special resolution in its annual general body meeting, the Central Government has the power to appoint the auditor of the company.
The term Public financial institution means
a. any institution constituted under any Central Act or b. any institution in which not less than 51% of the paid up share capital is held or controlled by the Central government c. The official gazette of the Central government mentioning the names of the Public Financial Institutions.
Removal of auditor--Section 140 of Companies Act deals about removal of auditor. The section seeks to provide for the provisions for removal of auditor before the expiry of his term.
The Board of Directors of the company has no power to remove an auditor (individual/ firm) appointed by the company in General Meeting before the expiry of the term. Removal only by special resolution and previous approval of the Central Government. Here a long term relationship is built for 5 years, since removal before 5 years would be considered as removal before the expiry of his term. And for removal before the expiry of an auditor’s term requires strict formalities to be followed.
Example: - M/S ABC &co.is an auditor of Tata ltd. Company wants to remove M/S ABC &co. in dec.2017, company has to obtain previous approval of Central Government and also has to follow other procedures prescribed under section 140.
(1) Company must disclose clearly indicating the grounds for removal of auditor. (2) Whether the accounts have been qualified during last three years. (3) Whether any civil or criminal proceedings are pending between the company and the concerned officers. (4) Whether any special notice has been received for removal of auditors. (5) Whether all due audit fees has been paid to the concerned auditors. (6) Details for other services been rendered by such auditors to the company. (7) Whether there is any dispute with regard to the book of accounts in the possession of auditors.
Rights of auditor
1. Right to Access to Books of Accounts The auditor has a right of access to books of account, vouchers, and relevant documents of the company at all times during his term of office. Therefore, the auditor can even pay a surprise visit and check the entries in the books of accounts. But usually the auditor does not make such visits.
2. Right to Obtain Information and Explanations The auditor has a right to obtain whatever information or explanation he requires in performing his duty. The person from whom the auditor requires such explanation must provide the same. The person may be the Managing Director, Director, Manager or any other officer or employee. If any information sought by the auditor is refused, he should report the matter to the members.
3. Right to make Suggestions to the Board The auditor is also having a right to suggest suitable modifications in the method of accounting followed by the management. The directors, if a suggestion is made, should comply with it. If not, the auditor should report the same to the members. But he has no right to make any alteration in the accounts of the company on his own accord.
4. Right to Visit Branches The auditor is also entitled to visit the branches of the company. However, if a qualified auditor audits the accounts of the branch, he can get copies of the accounts certified by the branch auditor, and always has access over such documents. The auditor has no statutory right to visit foreign branches.
5. Right to Receive Notice and Attend Meetings The auditor has a right to receive all notices and communications relating to all general meetings during his term. Even if the accounts audited by him are not discussed, the company should send a notice to the auditor. The auditor is also entitled to attend the meetings. He can also speak at the meeting if any clarification is needed from him.
6. Right to Sign the Audit Report Only the auditor can sign the Auditor’s Report. If a firm is appointed, any partner practicing in India can sign. The first auditor should sign and authenticate a particular part of the Statutory Report. Besides he has a right to sign and authenticate any other document, which the Act requires to furnish.
7. Right to Remuneration He has a right to receive the remuneration fixed by the appointing authority. In the event of winding up, he can also rank as a creditor for the amount due. However, he can claim the amount only after completing the work fully and entirely. 8. Right to be Indemnified The company under certain circumstances can take both civil and criminal proceedings against the auditor. If legal action is taken against him, he will generally defend himself against the proceedings. If the judgement goes to his favor or he is acquitted, the company should compensate the loss incurred by him in defending the suit.
9. Right to take Legal and Technical Advice The auditor has a right to take advice or opinion of legal and technical experts if there is a need for it.
Duties of Auditor Report to members [SEC. 227 (2)] - The auditor is required to make a report to the members of the company on the following matters: a. Whether in his opinion the Profit and Loss Account shows a `true and fair’ view of the profit or loss. b. Whether in his opinion the Balance Sheet is properly drawn up so as to show a `true and fair’ view of the state of affairs of the business. c. Whether he has obtained all the information and explanations, which were necessary for the purpose of audit. d. Whether proper books of accounts as required by law have been maintained by the Company. e. Whether the company’s Balance sheet and Profit and Loss Account are in agreement with books of accounts and returns. Duty as to inquiry [SEC.227 IA] - It is the duty of auditor to inquire on various points, whether the loans and advances have been properly secured , whether any personal expenses have been charged to revenue account to mis-utilise the funds of the company. The auditor is also required to see whether any investments are sold by the concern at a price lower than the purchase price. Duty to sign report (SEC.229) - It is the duty, as well as right of the auditor to sign the report prepared by him. Duty as to certify statutory report [SEC. 165(4)] - After the statutory report has been certified as correct by the required number of directors, the auditor of the company must certify it as correct to the extent it relates to: a. share allotted by the company; b. cash received in respect of such shares; c. receipts and payments of the company.
Duty to give a report upon the Prospectus (Section 56 (1) ).-The auditor is required to give his report upon the Prospectus issued by an existing company. He should also give his report on the assets, liabilities and Profit and Loss of such company. Duty to assist the Investigators (Section 240 (v) (b))- In case the affairs of the company are to be investigated, the auditor should assist the Investigators in every possible manner. He should produce his working papers relating to audit when asked for by the Investigators. Duty as to report voluntary winding up of company (sec 488(2))-Where a a company has been wound up voluntarily then a required number of directors has to make a declaration as to its solvency, such declaration will not have effect unless it is accompanied by a report of the auditor relating to profit and loss account and the balance sheet. Types of Audit Special Audit--It is the type of audit assignment and normally done by internal auditor. Special audit is done when there is problem in the organization like fraud or other special case. For example, fraud took place in the payroll department and the concerned department raises this issue to audit committee or board of director or sometime there is request from CEO to have special audit on this area. Special audit is done by internal staff of entity.
Joint Audit-- Practice of appointing more than one auditor to conduct the audit of large entities. Such auditors, known as Joint Auditors. Joint Auditors conduct audit jointly & report on the financial Statements.
Example: Reliance Industries Limited has three auditors namely Chaturvedi & Shah, Deloitte Haskins & Sells LLP, Rajendra & Co. These three audit firms conduct audit of Reliance Industries Limited. So Above three audit firms are known as Joint Auditors. The concept of Joint audit is very common in Nationalized banks. A typical joint audit has audit planning performed jointly and fieldwork allocated to the auditors.
Branch Audit-- Sec 143(8) says that where a company has a branch office, the accounts of that office shall be audited either by • The company’s auditor; or • Any other person, qualified to be and appointed as an auditor as per the provisions of the Act to act as branch auditor under section 139. • where the branch office is situated in a country outside India, the accounts of the branch office shall be audited either by the company’s auditor or by an accountant or by any other person duly qualified to act as an auditor of the accounts of the branch office in accordance with the laws of that country and the duties and powers of the company’s auditor with reference to the audit of the branch and the branch auditor, if any, shall be such as may be prescribed. • Duty of Branch Auditor is to prepare a report on the accounts of the branch examined by him and send it to the statutory auditor of the company who shall deal with it in his report in such manner as he considers necessary.
Audit Report
An audit report is a written opinion of an auditor regarding an entity's financial statements. The report is written in a standard format, as mandated by generally accepted auditing standards (GAAS). GAAS requires or allows certain variations in the report, depending upon the circumstances of the audit work in which the auditor engages. An audit report is an appraisal of a small business’s complete financial status. Completed by an independent accounting professional, this document covers a company’s assets and liabilities, and presents the auditor’s educated assessment of the firm’s financial position and future. Audit reports are required by law if a company is publicly traded or in an industry regulated by the Securities and Exchange Commission (SEC). Parts of Report (1) Title:- An appropriate title such auditor’s report, helps the reader to identify the report and to distinguish it from report issued by others. (2) Addressee: - The report should be appropriately addressed like in the case of statutory audit of a company, the report is addressed to the shareholders and in the case of special audit it is addressed to the government. (3) Identification of financial statements: - The financial statements can be identified by including the name of the entity and the date and period covered by the financial statements. (4) Reference to auditing standards and practises: - Such a reference ensures the compliance of the resolution of the Institute of Chartered Accountants of India and assures the readers that the accounting and auditing standards have been complied with. (5) Opinion on the financial statement: -The report should clearly state the auditor’s opinion on the entity’s financial position and operational results, i.e the financial statements give a true and fair view. (6) Signing of audit report: - Section 229, of the Act lays down that, the persons appointed as the auditor of the company, or a partner in the firm of auditors may sign the auditor’s report, or may sign the auditor’s report, or any other document of the company required by law to be signed or authenticated by the auditor. (7) Address of the auditor: -. The auditor has to mention his details of address in the audit report. (8) Dating of the report: - An auditor’s report is issued on a date later that the end of the period being reported on because it takes time for the books to be closed, financial statements to be prepared and audit to be completed. (9) Reading and inspection of auditor’s report: - Report of the auditor must be read before the shareholders in general meeting and kept open for inspection of every member of the company.
Types of report
Unqualified Opinion--Often called a clean opinion, an unqualified opinion is an audit report that is issued when an auditor determines that each of the financial records provided by the small business is free of any misrepresentations. In addition, an unqualified opinion indicates that the financial records have been maintained in accordance with the standards known as Generally Accepted Accounting Principles (GAAP). This is the best type of report a business can receive.
Typically, an unqualified report consists of a title that includes the word “independent.” This is done to illustrate that it was prepared by an unbiased third party. The title is followed by the main body. Made up of three paragraphs, the main body highlights the responsibilities of the auditor, the purpose of the audit and the auditor’s findings. The auditor signs and dates the document, including his address. Qualified Opinion--In situations when a company’s financial records have not been maintained in accordance with GAAP but no misrepresentations are identified, an auditor will issue a qualified opinion. The writing of a qualified opinion is extremely similar to that of an unqualified opinion. A qualified opinion, however, will include an additional paragraph that highlights the reason why the audit report is not unqualified.
Adverse Opinion-- The worst type of financial report that can be issued to a business is an adverse opinion. This indicates that the firm’s financial records do not conform to GAAP. In addition, the financial records provided by the business have been grossly misrepresented.
Although this may occur by error, it is often an indication of fraud. When this type of report is issued, a company must correct its financial statement and have it re-audited, as investors, lenders and other requesting parties will generally not accept it. Disclaimer of Opinion--On some occasions, an auditor is unable to complete an accurate audit report. This may occur for a variety of reasons, such as an absence of appropriate financial records. When this happens, the auditor issues a disclaimer of opinion, stating that an opinion of the firm’s financial status could not be determined.
Computer Aided Tools and Techniques(CATT)
Computer-assisted audit techniques (CAATs) or computer-assisted audit tools and techniques (CAATTs) is a growing field within the IT audit profession. CAATs is the practice of using computers to automate the IT audit processes. CAATs normally includes using basic office productivity software such as spreadsheet, word processors and text editing programs and more advanced software packages involving use statistical analysis and business intelligence tools. Now a day's these are becoming more popular throughout our profession, these tools are being used throughout the industry to assist internal auditors in their search for irregularities in data files, to help internal accounting departments with more detailed analysis and to support the forensic accountant with extrapolating large amounts of data for further analysis and fraud detection.
Applications of CATTs
• Tests of details of transactions and balances, for example , the use of audit software for recalculating interest or the extraction of invoices over a certain value from computer records. • Analytical procedures, for example, identifying inconsistencies or significant fluctuations. • Test of general controls for example, testing the set up or configuration of the operating systems or access procedures to the program libraries or by using code comparison software to check that the programme in use is approved by the management. • Sampling programs to extract data from audit testing. • Tests of application controls for example, testing the function of the programmed control
and reperforming calculations performed by the entity's accounting systems.
CATTs Techniques: They fall into two categories:
----The first involves examinations of computerised data. Within this context data files may hold either transaction data or standing data files. CATTs are not confined to accounting data alone but also used for processing non-accounting files such as journals or logs. Two types of CATTs are commonly used for reviewing file data. They are a) Data file interrogation b) Embedded audit module ----The second one involves test controls within the system . you can judge how reliable the controls are and how accurate the accounting and other records may be. Techniques used to review and verify system controls are :
a) Test data b) Integrated test facilities c) Parallel simulation d) Program code comparison e) Program code review. The first category are Data file interrogation: It is about using audit software to review information held in computer files and to use computer speed and reliability helps you to cope with the massive volumes of data often involved. It includes -selecting records that conform to particular criteria. -printing selected records for detail examination. -Printing totals and subtotals from an accounting file. -reporting on file content by value bands. -searching for duplicate transaction. -searching for gaps in sequence. -comparing the contents of two files. -sorting and merging files. Embedded Audit Modules-It's a technique that is generally used with computer system that handles very high volumes of data. as name implies it's an audit application that is permanently resident within the main processing system . it examines each transaction as it enters the system . the audit log file is periodically scanned , analysed and reports are printed for follow up. Test Data- It is generally used to confirm the operation of a new or amended program or programs that generate output that cannot be easily predicted or reconcile with input, it can be used to test and verify • input validation routine • error detection capabilities • processing logics and calculations • the accuracy of reports • any manual procedures surrounding the system advantages of this technique are : it requires limited technical knowledge ; usually fairly simple to operate ; helps the auditor learn how the system operates. Integrated test facilities- It is a technique that is sometimes used in auditing complex application system. Provides an inbuilt testing facility through the creation of dummy department within the normal accounting system . advantages are:
It allows regular comprehensive testing of live system ;
Testing can be unscheduled and unknown to other staff ;
Small operational costs are involved once it is set up;
It can be used for system testing and user training etc .
Parallel simulation application- the objective is to generate an independent program to simulate part of an application. for example : an auditor wants to prove that an interest calculation program works properly but due to excessively high data volumes you are unable to do this easily , auditor may decide that to test real data he may use his own interest calculation program . if an auditor uses simulation program against the same source data file that is submitted to the operational interest calculation , he should obtain the same result . since the program will only be concerned with one or two aspects of the operational program it will usually be smaller and less complex.
Program code comparison- utility programs are available that will compare two versions of a program and report differences between the two. this approach sometimes used by configuration managers to compare programs returned after amendment with the previous data held in definitive program libraries . configuration managers carry out similar test but between definitive versions are those in actual use
. this activity is referred to as "configuration audit" .
Program code review-it involves a detail examination of program coding. It generally involves fair degree of programming skills and a thorough knowledge of program specification.