Auditing and Assurance Services

Seventeenth Edition, Global Edition

Chapter 4
Internal and Governmental Financial
Auditing and Operational Auditing

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Learning Objectives
4.1 Explain the role of internal auditors in financial auditing
4.2 Describe the auditing and reporting requirements
under Government Auditing Standards and the Single
Audit Act
4.3 Distinguish operational auditing from financial auditing
4.4 Provide an overview of operational audits
4.5 Plan and perform an operational audit

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Learning Objective 4.1
Explain the role of internal auditors in financial auditing

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Internal Financial Auditing (1 of 4)
• Internal auditing is an independent, objective assurance,
and consulting activity designed to add value and improve
an organization’s operations
• It helps an organization accomplish its objectives by
bringing a systematic, disciplined approach to evaluate
and improve the effectiveness of risk management,
control, and governance processes

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Internal Financial Auditing (2 of 4)
• Internal auditors are expected to provide value to the
organization through improved operational
effectiveness, while also performing traditional
responsibilities, such as:
– Reviewing the reliability and integrity of information
– Ensuring compliance with policies and regulations
– Safeguarding assets

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Internal Financial Auditing (3 of 4)
• The objectives of internal auditors are considerably
broader than the objectives of external auditors
• Internal auditors are responsible to management and the
board
• External auditors are responsible to financial statement
users, who rely on the auditor to add credibility to financial
statements

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Internal Financial Auditing (4 of 4)
• External auditors rely on internal auditors when using the
audit risk model to assess control risk
• External auditors typically consider internal auditors
effective if they:
– Are independent of the operating units being evaluated
– Are competent and well trained
– Apply a systematic and disciplined approach, including
quality control

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Let’s Discuss (1 of 6)
• What is the nature of the two categories of standards in
the IIA International Standards for the Professional
Practice of Internal Auditing?
• Explain the difference between the independence of
internal auditors and external auditors in the audit of
historical financial statements.
– How can internal auditors best achieve independence?

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Learning Objective 4.2
Describe the auditing and reporting requirements under
Government Auditing Standards and the Single Audit Act

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Governmental Financial Auditing
(1 of 4)

• Federal and state governments employ their own auditing

staffs to perform audits in much the same way as internal
auditors
• The primary source of authoritative literature for doing
government audits is Government Auditing Standards
(usually referred to as the Yellow Book)
• These standards are often called generally accepted
government auditing standards (GAGAS)

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Governmental Financial Auditing
(2 of 4)

• The financial auditing standards of the Yellow Book

are consistent with the principles of the AICPA
auditing standards, and also contain extensive
additional guidance, including the following:
– Materiality and significance
– Quality control
– Compliance auditing
– Reporting

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Governmental Financial Auditing
(3 of 4)

• The Single Audit Act of 1984 provides for a single

coordinated audit to meet the audit requirements of all
federal agencies
• The Single Audit Act was extended in 1990 to higher-
education institutions and other not-for-profit organizations
by the Office of Management and Budget (OMB) through
the issuance of OMB Circular A-133

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Governmental Financial Auditing
(4 of 4)

• The Single Audit Act as amended and OMB Uniform

Guidance contain requirements for the scope of the audit
• The OMB Uniform Guidance also contains reporting
requirements

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Let’s Discuss (2 of 6)
• Explain the role of internal auditors for financial auditing.
How is it similar to and different from the role of external
auditors?
• Explain how governmental financial auditing is similar to
and different from audits of commercial companies.
– Who does governmental auditing?

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Let’s Discuss (3 of 6)
• Explain what is meant by the Single Audit Act.
– What is its purpose?
• In what ways is the Yellow Book consistent with the
principles in AICPA auditing standards, and what are
some additions and modifications?

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Learning Objective 4.3
Distinguish operational auditing from financial auditing

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Operational Auditing (1 of 2)
• The purpose of operational auditing deals with the
efficiency and effectiveness of any part of an organization
• Beyond financial auditing activities, internal auditors,
government auditors, and CPAs also do operational
auditing

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Operational Auditing (2 of 2)
• There are three major differences between operational
and financial auditing:
– Purpose of the audit: operational auditing
emphasizes effectiveness and efficiency
– Distribution of the reports: operational audit reports
are intended primarily for management
– Inclusion of nonfinancial areas: operational audits
cover any aspect of efficiency and effectiveness in an
organization

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Learning Objective 4.4
Provide an overview of operational audits

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Effectiveness Versus Efficiency
(1 of 4)

• Auditors must define specific criteria for measuring

effectiveness and efficiency before an operational
audit can be performed:
– Effectiveness refers to meeting objectives
– Efficiency refers to determining the resources used to
achieve those objectives

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Effectiveness Versus Efficiency
(2 of 4)

• Management establishes internal controls to help meet its

goals
• Effective internal controls are designed and
implemented to help organizations achieve these
objectives:
– Reliability of reporting
– Efficiency and effectiveness of operations
– Compliance with applicable laws and regulations

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Effectiveness Versus Efficiency
(3 of 4)

• Operational auditors can benefit greatly from the use of

data analytic tools to identify opportunities to improve the
efficiency and effectiveness of key operations
• Auditors can use software to:
– Scan through large populations of operational data
– Search for unusual trends and outliers that may shed
insights that lead to helpful improvements in the
functioning of a core activity

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Effectiveness Versus Efficiency
(4 of 4)

• Operational audits fall into three broad categories:

– Functional
– Organizational
– Special assignments
• Operational audits are usually performed by one of
three groups:
– Internal auditors
– Government auditors
– CPA firms

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Let’s Discuss (4 of 6)
• Describe what is meant by an operational audit.
• Distinguish among the following types of operational
audits: functional, organizational, and special assignment.
– State an example of each for a not-for-profit hospital.

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Learning Objective 4.5
Plan and perform an operational audit

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Criteria for Evaluating Efficiency and
Effectiveness (1 of 2)
• Specific criteria are desirable before starting an
operational audit
• Sources of criteria:
– Historical performance
– Benchmarking
– Engineered standards
– Discussion and agreement

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Criteria for Evaluating Efficiency and
Effectiveness (2 of 2)
• The three phases in an operational audit are:
– Planning
– Evidence accumulation and evaluation
– Reporting and follow-up

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Let’s Discuss (5 of 6)
• Explain what is meant by the criteria for evaluating
efficiency and effectiveness.
– Provide five possible specific criteria for evaluating
effectiveness of an IT system for payroll.

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Let’s Discuss (6 of 6)
• Identify the three phases of an operational audit.
• Explain how planning for operational auditing is similar to
and different from financial auditing.
• What are the major differences between reporting for
operational and financial auditing?

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