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SQC 1sqc SQC - 1

TY CONTROL FOR FIRMS THAT PERFORM AUDITS AND REVIEWS OF Purpose To establish standards and provides guidance regarding the firms system of quality control, which is to be designed to provide it with reasonable assurance that the firm complies with all professional and regulatory requirements, and the reports issued are appropriate in the circumstances. Definitions Engagement documentation the record of work performed, results obtained, and conclusions the practitioner reached (terms such as working papers or work papers are also sometimes used). The documentation for a specific engagement is assembled in an engagement file. Engagement Partner the partner or other person in the firm who is a member of the Institute of Chartered Accountants of India and is in full time practice and is responsible for the engagement and its performance, and for the report that is issued on behalf of the firm, and who, where required, has the appropriate authority from a professional, legal or regulatory body. Engagement quality control review a process designed to provide an objective evaluation, before the report is issued, of the significant judgments the engagement team made and the conclusions they reached in formulating the report. Engagement quality control reviewer a partner, other person in the firm, suitably qualified external person, or a team made up of such individuals, with sufficient and appropriate experience and authority to objectively evaluate, before the report is issued, the significant judgments the engagement team made and the conclusions they reached in formulating the report. However, in case the review is done by a team of individuals, such team should be headed by a member of the Institute. Engagement team all personnel performing an engagement, including any experts contracted by the firm in connection with that engagement. Firm a sole practitioner/ proprietor, partnership, or any such entity of professional accountants, as may be permitted by law. Inspection in relation to completed engagements, procedures designed to provide evidence of compliance by engagement teams with the firms quality control policies and procedures.

Listed entity an entity whose shares, stock or debt are quoted or listed
on a recognized stock exchange, or are traded under the regulations of a recognized stock exchange or other equivalent body. Monitoring a process comprising an ongoing consideration and evaluation of the firms system of quality control, engagements, designed to enable the firm to obtain reasonable assurance that its system of quality control is operating effectively. Network firm an entity under common control, ownership or management with the firm or any entity that a reasonable and informed third party having knowledge of all relevant information would reasonably conclude as being part of the firm nationally or internationally. Partner any individual with authority to bind the firm with respect to the performance of a professional services engagement. Personnel partners and staff. Professional standards engagement standards, as defined in the AASBs Preface to the Standards on Quality Control, Auditing, Review, Other Assurance and Related Services, and relevant ethical requirements as contained in the Code. Reasonable assurance in the context of this SQC, a high, but not absolute, level of assurance. Staff professionals, other than partners, including any experts which the firm employs. Suitably qualified external person an individual outside the firm with the capabilities and competence to act as an engagement partner, for example a partner or an employee (with appropriate experience) of another firm. Para-3 The firm should establish a system of quality control designed to provide it with reasonable assurance that the firm and its personnel comply with professional standards and regulatory and legal requirements, and that reports issued by the firm or engagement partners are appropriate in the circumstances. Key Elements of the system of quantity control Leadership responsibilities Ethical requirements Acceptance and continuance of client relationship Human resources Engagement performance Monitoring All the above-mentioned key elements should be addressed while formulating a quality control policy and should be communicated to the firms personnel. Leadership responsibilities

The firms CEO or Managing Partner should assume ultimate responsibility for the firms system of quality control. The importance of a quality oriented work culture is to be emphasized by all levels of firms management in order to ensure compliance with professional and regulatory standards and to ensure effective reporting appropriate to circumstances. The firms quality consideration should not be overridden by commercial consideration and business strategies. The person who is assigned the responsibility for the firms quality control system by the CEO or Managing partners should possess sufficient and appropriate experience and the necessary authority to assume that responsibility. Ethical requirements Ethical considerations established in the Code of Conduct includes: Integrity Objectivity Professional competence Confidentiality Professional behavior Independence Acceptance and continuance of client relationship On acceptance of client relationship or on deciding on the continuance of existing relationship, the following factors are to be considered : Clients integrity tested through various sources Competence to perform the engagement, like regulatory and industry knowledge in regard to the engagement. Availability of time and resources Compliance with ethical requirements If the firm obtains information at a later date that would have caused a decline of engagement at an earlier date the firm should discuss with the appropriate level of clients management and consider withdrawal from the engagement. Human resources An effective system of quality control in a firm should consider the following: Recruitment process to select individual of integrity Firms performance evaluation, compensation and promotion procedures to recognize personnel who are competent and committed to ethical principles. Development of capabilities, competence through professional education and continuous training Career development and estimation of personnel needs The firm should assign responsibility for each engagement to an engagement partner and ensure that Identity and role of engagement partner are communicated The engagement partner has competence and authority The responsibilities are clearly defined and communicated to that partner Engagement performance

The firm should establish a system of quality control that provides reasonable assurance that the engagements are performed in accordance with professional standards and regulatory and legal requirements. The following factors are to be considered: Understanding the requirements of the engagement and objective of work Process for compliance with applicable engagement standards Supervising the progress of the engagement Reviewing the responsibilities of team members and firm personnel Consultation with appropriate personnel within or outside the firm or experts Dealing with differences of opinion within the engagement team or between engagement partner and engagement quality control reviewer. The report shall not be issued without resolving the conflict. Monitoring The system of quality control shall establish policies and procedures to monitor the effectiveness of engagement performance and ongoing evaluation of the quality control system. The ongoing evaluation shall consider: Design, effective implementation and appropriate application of quality control system Analysis of new developments in professional standards and legal standards. Corrective actions and improvements to be made in the system and communication of weaknesses identified. Inspection of completed engagements that shall include at least one engagement for each partner over the inspection cycle of not more than 3 years. The deficiencies identified should be communicated to the engagement partner along with the remedial action that would require changes in quality control policy. The complaints and allegations against the firm as regards to the non-compliance of professional standards or allegations of non-compliance of firms system of quality control shall be dealt with either as per legal regulations or by taking appropriate remedial action. Documentation The firm should establish policies and procedures requiring appropriate documentation to provide evidence of the operation of each element of its system of quality control. The firm may use electronic databases or use of simple checklists, manual notes and forms depending on : The size of the firm and the number of offices. The degree of authority both personnel and offices have The nature and complexity of the firms practice and organization. The firm shall retain the documentation as per the firms policy or in compliance with the requirements of laws or regulations.

SA -2OO(Revised) Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with Standards on Auditing
Q.1 What are Overall Objectives of an Independent Auditor? According to SA 200 Revised The overall objectives of the auditor are: (a) To obtain reasonable assurance about whether the financial statements as a whole are free from material misstatement, resulting from either due to fraud or error, by this means enabling the auditor to express an opinion on whether the financial statements are prepared, in all material respects, in accordance with an applicable financial reporting framework; and (b) To report on the financial statements, and communicate as required by the SAs, in accordance with the auditors findings. For example:- if the auditor is appointed under section 224 of the Companies Act, 1956 his objective will be to obtain reasonable assurance that whether Financial Statement of the company are giving true and fair view or not . Financial statement are said to be giving true and fair view only when they are complying with requirements of companies Act 1956 like schedule VI , Companies Accounting Standard Rules 2002, Schedule XIV, etc. Further Auditor has to report to members of the company in a manner specified in Section 227. Q.2 What will be consequences if auditor fails to achieve his objective? According to SA 200 if auditor is unable to obtain sufficient appropriate audit evidences to support his conclusions or we can say he is unable to obtain reasonable assurance he should either give a disclaimer of opinion or should withdraw from engagement if permitted by law. For example :- If auditee has provided auditor Photocopies of books of accounts and evidences for audit as original books of accounts and evidences are ceased by Income tax department in such case auditor should either give a disclaimer of opinion that he is unable to form and express opinion on financial statement or he may decide to withdraw from engagement if permissible. Q.3 Briefly explain the requirements of SA-200 ? There are 5 requirements an auditor has to fulfill according to SA-200 - Ethical Requirements relating to an audit of financial statements

- Requirement to have an attitude of Professional Skepticism - Requirement to exercise Professional Judgement - Requirement to obtain Sufficient and Appropriate Audit Evidences - Requirement to follow all Standards of Auditing Q.4 What do you mean by Ethical Requirements? Every member of the ICAI is subject to ethical behaviour as described in CODE of ETHICS issued by ICAI. This Code of ethics requires that auditor shall subject to following ethical requirements while discharging his duties as an independent Auditor. (a) Integrity means Honest behaviour, Loyal attitude towards users of financial statements; (b) Objectivity :- This could be achieved only by having independence of mind and independence is appearance of an auditor. (c) Professional competence and due care; :- This could be achieved by acquainting himself with the latest developments in the field of accounting and auditing . (d) Confidentiality:- Should keep all information received from client and should not disclose the same unless it is not legal or professional requirement to do so. (e) Professional behaviour : There must be professional relation between auditor and auditee. There must not be any other interest to override the objectivity. Further SQC-1 and SA220 have suggested ways and means to achieve such independence and objectivity of Auditor. Q.5 What do you mean by attitude of Professional Skepticism ? Professional Skepticism is nothing but an attitude of the auditor which requires auditors alertness towards information provided to him from the auditee. It should not be understood as doubt but should be taken as vigilant attitude. For example auditor should always be alert towards Audit evidence provided by client that contradicts other audit evidence obtained by the auditor himself . Information that brings into question the reliability of documents and responses to inquiries to be used as audit evidence. Conditions that may indicate possible fraud. Circumstances that suggest the need for audit procedures in addition to those required by the SAs. By adopting such an attitude auditor may minimise the risk of overlooking unusual circumstances. Over generalising when drawing conclusions from audit observations.

Using inappropriate assumptions in determining the nature, timing, and extent of the audit procedures and evaluating the results thereof. Does it mean that auditor should place doubt over each record ,information or document provided by theclient to him? Answer to this question is addressed in SA200 revised according to it auditor may accept records and documents as genuine unless the auditor has reason to believe the contrary. Nevertheless, the auditor is required to consider the reliability of information to be used as audit evidence In cases of doubt about the reliability of information or indications of possible fraud (for example, if conditions identified during the audit cause the auditor to believe that a document may not be authentic or that terms in a document may have been falsified), the SAs require that the auditor investigate further and determine what modifications or additions to audit procedures are necessary to resolve the matter. Even if a belief that management and those charged with governance are honest and have integrity does not relieve the auditor of the need to maintain professional skepticism or allow the auditor to be satisfied with less-than-persuasive audit evidence when obtaining reasonable assurance. For Example :- As Mr A is auditor of Y ltd from last 3 years and every year after due examination he found financial statement true and fair and found management as honest and ethical does not mean that he should have a blind faith in audit of current year over all the information provided by them. Q.6 What is requirement of professional Judgement as per SA 200 (Revised) Professional judgement means a judgment taken by the auditor out of his professional experience in a audit situation . According to SA 200 revised Professional judgment is essential to the proper conduct of an audit. This is because interpretation of relevant ethical requirements and the SAs and the informed decisions required throughout the audit cannot be made without the application of relevant knowledge and experience to the facts and circumstances. Professional judgment is necessary in particular regarding decisions about: Materiality and audit risk. The nature, timing, and extent of audit procedures .

Evaluating whether sufficient appropriate audit evidence has been obtained. The evaluation of managements judgments in applying the entitys applicable financial reporting framework. The drawing of conclusions based on the audit evidence obtained. It is required that auditors professional Judgement should be reasonable and rational. Consultation on difficult or contentious matters during the course of the audit, both within the engagement team and between the engagement team and others at the appropriate level within or outside the firm, assist the auditor in making informed and reasonable judgments. Further the auditor is required to prepare audit documentation relating to such reasonable professional judgements. Q.7 Explain the requirements of sufficient and appropriate Audit Evidences ? According to SA 200 revised Audit evidence is necessary to support the auditors opinion and report. It is cumulative in nature and is primarily obtained from audit procedures performed during the course of the audit. It may, however, also include information obtained from other sources like experience from previous audit, information provided and prepared by employees, management and those charged with governance of the auditee. The sufficiency and appropriateness of audit evidence are interrelated. Sufficiency is the measure of the quantity of audit evidence and appropriateness means quality of Audit evidence (posers are given in previous chapter). Whether sufficient appropriate audit evidence has been obtained to reduce audit risk to an acceptably low level, and thereby enable the auditor to draw reasonable conclusions on which to base the auditors opinion, is a matter of Professional judgment. Q.8 Does the auditor expected to, reduce audit risk to zero and can obtain absolute assurance that the financial statements are free from material misstatement due to fraud or error? The answer is in negative. According to SA 200 Revised The auditor is not expected to, and cannot, reduce audit risk to zero and cannot therefore obtain absolute assurance that the financial statements are free from material misstatement due to fraud or error. This is because there are inherent limitations of an audit. Inherent limitations means limitations which can not be overcome and which are with the subject since the inception or evolution of the subject. Following are contributors to inherent

limitations to audit 1. Most of the audit evidence on which the auditor draws conclusions and bases the auditors opinion being persuasive rather than conclusive. 2. The nature of financial reporting :- If in financial statement some items are valued only on the basis of managements estimates which are highly subjective in those cases audit procedures are insufficient to find the reasonableness of such judgements. 3. The nature of audit procedures:- For example Fraud may involve sophisticated and carefully organised schemes designed to conceal it. Therefore, audit procedures used to gather audit evidence may be ineffective for detecting an intentional misstatement that involves, for example, collusion to falsify documentation which may cause the auditor to believe that audit evidence is valid when it is not. The auditor is neither trained as nor expected to be an expert in the authentication of documents. Further auditor has no legal power to search forcefully, which may be necessary for such an investigation. 4. The need for the audit to be conducted within a reasonable period of time and at a reasonable cost.
Because of the inherent limitations of an audit, there is an unavoidable risk that some material misstatements of the financial statements may not be detected, even though the audit is properly planned and performed in accordance with SAs. Accordingly, the subsequent discovery of a material misstatement of the financial statements resulting from fraud or error does not by itself indicate a failure to conduct an audit in accordance with SAs.

Q.9 What are the requirements of SA 200 revised to Conduct of an Audit in Accordance with SAs?
Auditor is required to follow SAs during his audit. He is required to determine the nature timing and extent of his audit procedures according to requirements of SAs. According to SA 200 Revised The requirements of the SAs are designed to enable the auditor to achieve the objectives specified in the SAs, and thereby the overall objectives of the auditor. SA 230 (Revised) establishes documentation requirements in those exceptional circumstances where the auditor departs from a relevant requirement. If there is any conflict between the law with which the auditee is subject to and SA, the law would prevails.

Q.10 What is Scope of an audit of Financial Statements?

Scope of audit means an area of work for the auditor. Scope of audit is primarily determined by following factors

- Terms of engagement of the auditor - Requirements of legislation - Standards on Auditing and other guidance by ICAI. It should be noted that terms of engagement can not have an verriding effect over the scope decided by the legislation or SAs. Following is not within the scope of auditor it is within the scope of Management and those charged with governance:1. Maintenance of books of accounts and records 2. Formulation and Implementation of Internal Control system 3. Selection and application of accounting policies 4. Estimation of accounting estimates 5. Preparation and presentation of financial statement. It is important to note that Auditors opinion is not an assurance about the future viability of the entity and neither it is an assurance about the future efficiency and effectiveness of the management. It is just an opinion about financial position up to the date and period covered under audit.ER ASSURANCE AND RELATED SERVICE ENGAGEMENTS

SA 210 (R) - AGREEING THE TERMS OF AUDIT ENGAGEMENTS


Q . How an Auditor will decide whether to accept the engagement as an auditor or not? According to SA 210 Revised The objective of the auditor is to accept or continue an audit engagement only when the basis upon which it is to be performed has been agreed, through: (a) Establishing whether the preconditions for an audit are present; and (b) Confirming that there is a common understanding between the auditor and management and, where appropriate, those charged with governance of the terms of the audit engagement. Q. What do you mean by preconditions to an audit and how auditor establishes it? According to SA 210 Revised Preconditions for an audit means The use by management of an acceptable financial reporting framework in the reparation of the financial statements and the agreement of management and, where appropriate, those charged with governance to the premise on which an audit is conducted. In order to establish whether the preconditions for an audit are present, the auditor shall:

(a) Determine whether the financial reporting framework to be applied in the preparation of the financial statements is acceptable; and (b) Obtain the agreement of management that it acknowledges and understands its responsibility: (i) For the preparation of the financial statements in accordance with the applicable financial reporting framework, including where relevant their fair presentation; (ii) For such internal control as management determines is necessary to enable the preparation of financial statements that are free from material misstatement, whether due to fraud or error; and (iii) To provide the auditor with: a. Access to all information of which management is aware that is relevant to the preparation of the financial statements such as records, documentation and other matters; b. Additional information that the auditor may request from management for the purpose of the audit; and c. Unrestricted access to persons within the entity from whom the auditor determines it necessary to obtain audit evidence. Q.What should be auditors course of action if limitation on Scope have been imposed Prior to Audit Engagement Acceptance If management or those charged with governance impose a limitation on the scope of the auditors work in the terms of a proposed audit engagement such that the auditor believes the limitation will result in the auditor disclaiming an opinion on the financial statements, the auditor shall not accept such a limited engagement as an audit engagement, unless required by law or regulation to do so. Q. What is Audit Engagement Letter and what it contains ? According to SA 210 Revised The auditor shall agree the terms of the audit engagement with management or those charged with governance, as appropriate. The agreed terms of the audit engagement shall be recorded in an audit engagement letter or other suitable form of written agreement and shall include: (a) The objective and scope of the audit of the financial statements; (b) The responsibilities of the auditor; (c) The responsibilities of management; (d) Identification of the applicable financial reporting framework for the preparation of the financial statements; and (e) Reference to the expected form and content of any reports to be issued by the auditor and a statement that there may be circumstances in which a report may differ from its expected form and content. According to SA240 It is in the interests of both the entity and the auditor that the auditor sends an audit engagement letter before the commencement of the audit to help avoid misunderstandings with respect to the audit. .Usually once the terms are determined auditor shall not agree to a change in the terms of the audit engagement where there is no reasonable justification for doing so, or that conveys a lower level of assurance. SA 230 (R) Audit Documentation.

Q.1What is Audit Documentation? According to SA-230 Audit documentation refers to the record of audit procedures performed, relevant audit evidence obtained, and conclusions the auditor reached terms such as working papers or work papers are also sometimes used for the same. When ever auditor is in process of obtaining sufficient and appropriate audit evidences he prepares some working papers like audit plan, program, significant observations, query, on the other hand he obtains schedules, lists, confirmations from the management. Process of collecting and preparing working paper is known as Documentation. Q.2Why Documentation? According to SA-230 Audit documentation serves a number of additional purposes, including the following: _Assisting the engagement team to plan and perform the audit.:- If plan is well documented than the chances of leaving an important area under auditing will be less, on the contrary with the help of documented plan one could perform the task in a sequential and coordinated manner. _Assisting members of the engagement team responsible for supervision to direct and supervise the audit work :- As per SA-200 the work of the assistants and employees should be supervised and reviewed time to time by the auditor. If the observations, findings, objections are documented by the staff the auditor can supervise the process of audit more conveniently and on the basis of it he can issue further direction to staff on audit. _Enabling the engagement team to be accountable for its work. :- Documents prepared and signed and filed by engagement team make the accountable for how they executed the planned procedure . _Retaining a record of matters of continuing significance to future audits:For Example documentation relating to estimates of future earnings relating to an asset for its revaluation or impairment are relevant for future period audit. _Enabling the conduct of quality control reviews and inspections in accordance with SQC-1 _Enabling the conduct of external inspections in accordance with applicable legal, regulatory or other requirements.:- If auditor has sufficient documentation regarding any of his observation resulting in a conclusion, these documents are known as audit evidence. Hence most of the audit evidences are in form of documentary evidences. In external inspections if auditor required to explain evidences in support of his conclusion documentation will a great help for him. Q.3When Documentation? According to SA 230 The auditor shall prepare audit documentation on a timely basis. Now the question arises whether preparing documentation during the audit is more effective or we can document the matters once the audit is over. According to SA230 Documentation prepared after the audit work has been performed is likely to be less accurate than documentation prepared at the time such work is performed. Hence we can conclude that working papers shall be prepared during the audit process itself. Q.4What matters are required to be documented? According to SA 230 The auditor shall prepare audit documentation that is sufficient to enable an experienced auditor, having no previous connection with the audit, to understand (a) The nature, timing, and extent of the audit procedures performed to comply with the SAs and applicable legal and regulatory requirements; In

documenting the nature, timing and extent of audit procedures performed, the auditor shall record: The identifying characteristics of the specific items or matters tested:- For example Cash Sales , to what extent checked, what was the sample size, what supportive documents were verified etc. Who performed the audit work and the date such work was completed; and Who reviewed the audit work performed and the date and extent of such review. (b) The results of the audit procedures performed, and the audit evidence obtained; and (c) Significant matters arising during the audit, the conclusions reached thereon, and significant professional judgments made in reaching those conclusions. Some other important matters an auditor should document are as follows (a) Discussions of significant matters with management, those charged with governance, and others, including the nature of the significant matters discussed and when and with whom the discussions took place. (b) If the auditor identified information that is inconsistent with the auditors final conclusion regarding a significant matter, the auditor shall document how the auditor addressed the inconsistency. (c) If, in exceptional circumstances, the auditor judges it necessary to depart from a relevant requirement in a SA, the auditor shall document how the alternative audit procedures performed achieve the aim of that requirement, and the reasons for the departure. (d) If, in exceptional circumstances, the auditor performs new or additional audit procedures or draws new conclusions after the date of the auditors report, the auditor shall document the same. Q.5Shall auditor assemble the Working paper file during the Audit or he may assemble later on? According to SA-230 auditor shall assemble the audit documentation in an audit file and complete the administrative process of assembling the final audit file on a timely basis ( SQC-1 defined within 60 days )after the date of the auditors report. Q.6Can Auditor modify, delete or discard such assembled documents ? Further it is provided that the auditor shall not delete or discard audit documentation so assembled before the end of its retention period. If subsequently auditor want to modify the assembled documentation he can do so but in doing so regardless of the nature of the modifications or additions, document: (a) The specific reasons for making them; and (b) When and by whom they were made and reviewed. The retention period for audit engagements ordinarily is not shorter than ten years from the date of the auditors report ( group auditors report if any ). Q.7 Whose property these working papers are ? Does client have any right over them? Standard on Quality Control (SQC) 1, Quality Control for Firms that Perform Audits and Reviews of Historical Financial Information, and Other Assurance and Related Services Engagements, issued by the Institute, provides that, unless otherwise specified by law or regulation, audit documentation is the property of the auditor. He may at his discretion, make portions of, or extracts from, audit documentation available to clients, provided such disclosure does not undermine the validity of the work performed, or, in the case of assurance engagements, the independence of the auditor or of his

After the WorldCom and Enron debacle of United state in 2002, and in 2008 Satyam fiasco in India the auditing profession all over the world is in the eyes of users of financial statements and regulatory authorities. All auditing bodies are redefining and re interpreting the auditors duties and responsibilities.

SA240(R)

THE AUDITORS RESPONSIBILITIES

RELATING TO FRAUD IN AN AUDIT OF FINANCIAL


What is a Fraud? Intentional mistakes to get unjust advantage are commonly known as fraud. Fraud as defined by SA 240 is An intentional act by one or more individuals among management, those charged with governance, employees, or third parties, involving the use of deception to obtain an unjust or illegal advantage. Although fraud is a broad legal concept, for the purposes of the SAs, the auditor is concerned with fraud that causes a material misstatement in the financial statements. Two types of intentional misstatements are relevant to the auditor misstatements resulting from fraudulent financial reporting and misstatements resulting from misappropriation of assets. e.g. To reflect a good financial position deliberately purchase is suppressed. Here suppression of purchase is used for deception, which is done intentionally by management and employees with the directions of those charged with governance. As a result of this by showing inflated profit the entity will enjoy unjust or illegal advantage of fictitious financial health. Hence we can conclude that Frauds are planned. A person responsible for fraud has a knowledge of what he is doing. Frauds are committed with due care. Fraud will always result in loss to aggrieved party. Frauds are deliberately concealed. Usually errors are rectified and ratified but frauds should be reflected in financial statements. *** Those charged with governance means : persons charged supervising, controlling, and directing responsibility (include management only when they perform managerial persons) viz. Audit committee under a company can be termed as committee of persons those charged with governance Illustrate by way of some example how Fraudulent Financial Reporting and Misappropriation of Asset can be done? Examples of FFR Manipulation, falsification (including forgery), or alteration of accounting records or supporting documentation from which the financial statements are prepared.

Misrepresentation in or intentional omission from, the financial statements of events, transactions or other significant information. Intentional misapplication of accounting principles relating to amounts, classification, manner of presentation, or disclosure. Recording fictitious journal entries, particularly close to the end of an accounting period, to manipulate operating results or achieve other objectives. Inappropriately adjusting assumptions and changing judgments used to estimate account balances. Omitting, advancing or delaying recognition in the financial statements of events and transactions that have occurred during the reporting period. Following are the examples of MOA Embezzling receipts (for example, misappropriating collections on accounts receivable or diverting receipts in respect of written-off accounts to personal bank accounts). Stealing physical assets or intellectual property (for example, stealing inventory for personal use or for sale, stealing scrap for resale, colluding with a competitor by disclosing technological data in return for payment). Causing an entity to pay for goods and services not received (for example, payments to fictitious vendors, kickbacks paid by vendors to the entitys purchasing agents in return for inflating prices, payments to fictitious employees). Using an entitys assets for personal use, (for example, using the entitys assets as collateral for a personal loan or a loan to a related party). Who is responsible to prevent and detect Fraud? According to SA-240 The primary responsibility for the prevention and detection of fraud rests with both those charged with governance of the entity and management. Management through internal control places a strong emphasis on fraud prevention, which may reduce opportunities for fraud to take place, How much Auditor is responsibilities for detection of Fraud? According to SA-240 An auditor conducting an audit in accordance with SAs is responsible for btaining reasonable assurance that the financial statements taken as a whole are free from material misstatement, whether caused by fraud or error. Owing to the inherent limitations of an audit, there is an unavoidable risk that some material misstatements of the financial statements will not be detected, even though the audit is properly planned and performed in accordance with the SAs. What are Inherent Limitations of Audit? Inherent limitations means limitations obtained by the subject in inheritance i.e. since its evolution, which cannot be overcome. As per SA-240 An auditor cannot obtain absolute assurance that material misstatements in the financial statements will be detected. Due to the inherent limitations of an audit, there is an unavoidable risk that some material misstatements of the financial statements will not be detected, even though the audit is properly planned and performed in accordance with the auditing standards generally accepted in India. Followings can be listed as inherent limitation of audit. The use of judgment (about materiality, sufficiency and appropriateness of audit evidence) The use of testing (not extending deep audit procedures to a group of immaterial items), The inherent limitations of internal control (defined in SA-330) and

The fact that much of the evidence available to the auditor is persuasive rather than conclusive in nature. (Debtors confirmation is not conclusive evidence that he is good and will not result in bad in future, it can only persuade the auditor to believe the existence of debtor)) The risk of not detecting a material misstatement resulting from fraud is higher than the risk of not detecting a material misstatement resulting from error The risk of the auditor not detecting a material misstatement resulting from management fraud is greater than for employee fraud, because those charged with governance and management are often in a position that assumes their integrity and enables them to override the formally established control procedures. As far as auditor s responsibility is concerned as per SA240 When obtaining reasonable assurance, the auditor is responsible for maintaining an attitude of professional skepticism throughout the audit. What is Professional Skepticism? Professional skepticism means vigilant attitude. Auditor should not accept all the representations, explanations as it is without a vigilant look over the same. Unless the auditor has reason to believe the contrary, the auditor may accept records and documents as genuine. If conditions identified during the audit cause the auditor to believe that a document may not be authentic or that terms in a document have been modified but not disclosed to the auditor, the auditor shall investigate further. At the planning stage it required to communicate to the engagement team members that how and where the entitys financial statements may be susceptible to material misstatement due to fraud, including how fraud might occur. The discussion shall occur notwithstanding the engagement team members beliefs that management and those charged with governance are honest and have integrity. What is objective of auditor as far as concerned with fraud in financial statement? According to SA-240 the objectives of the auditor are: (a) To identify and assess the risks of material misstatement in the financial statements due to fraud; (b) To obtain sufficient appropriate audit evidence about the assessed risks of material misstatement due to fraud, through designing and implementing appropriate responses; and (c) To respond appropriately to identified or suspected fraud. PART-A Identifying and assessing the risk of material misstatement due to fraud Following steps are required to be considered when auditor is assessing the risk of material misstatement due to fraud:1. Understanding the entities business :- According to SA315 auditor before planning the audit procedure should understand the entities business which helps him to identify fraud risk prone areas. 2. Enquiries trough management :- According to SA240 The auditor shall make inquiries of management regarding a)Managements assessment of Fraud risk Factor :- Auditor shall enquire that what is managements assessment of the fraud risk and how frequently management assesses the same . further auditor shall evaluate the managements process for identifying and responding to the risks of fraud in the entity. Auditor shall also enquire how management communicated such assessment to those charged with governance and employees so that the ethical behaviour can be established. b)Knowledge about actual or suspected or alleged fraud:- The auditor shall make inquiries of management, those charged with governance and

others within the entity as appropriate, to determine whether they have knowledge of any actual, suspected or alleged fraud affecting the entity. 3. Enquiries with Internal Auditor :- According to SA240 the auditor shall make inquiries of internal audit (if engaged bu entity)to determine whether it has knowledge of any actual, suspected or alleged fraud affecting the entity, and to obtain its views about the risks of fraud. 4. Result of Auditors Analytical Procedures :- At planning stage auditor applies certain analytical procedures (i.e. ratio analysis, trend analysis ) over the financial statement . When auditor applies such procedures he should evaluate the result of such procedures that whether unusual or unexpected relationships that have been identified in performing analytical procedures, including those related to revenue accounts, may indicate risks of material misstatement due to fraud. PART-B Obtain sufficient appropriate audit evidence about the assessed risks of material misstatement due to fraud. As in Part A we have seen how auditor assesses the Fraud Risk in financial statement now we will understand how auditor will respond through his audit procedure to address the Fraud Risk Factors. Auditor will have two kind of responses to such risks 1. Overall Response :- Overall response means collective impact of all fraud risk factors over the financial statement as a whole. In determining overall responses to address the assessed risks of material misstatement due to fraud at the financial statement level, the auditor shall depute adequately skilled and experienced engagement team which has knowledge of significant engagement responsibilities and the auditors assessment of the risks of material misstatement due to fraud for the engagement. Further Auditor shall evaluate whether the selection and application of accounting policies by related to subjective measurements and complex transactions. Auditor shall incorporate an element of unpredictability in the selection of the nature, timing and extent of audit procedures. 2. Auditors Response to Assertion Level :In accordance with SA 330, the auditor shall design and perform further audit procedures whose nature, timing and extent are responsive to the assessed risks of material misstatement due to fraud at the assertion level. As we know management is in a position to override the internal controls according to SA240 auditor shall apply following procedure to satisfy himself that management had not misused it s position to give a room for fraud to take place. (a) Test the appropriateness of journal entries recorded: Enquire employees involved in the financial reporting process about inappropriate or unusual activity relating to the processing of journal entries and other adjustments; Select journal entries and other adjustments made at the end of a reporting period; and Consider the need to test journal entries and other adjustments throughout the period. (b) Review accounting estimates involved: - As we know risk of fraud is greater where the estimates are involved auditor shall evaluate whether accounting estimates are appropriate and not biased. In performing this review, the auditor shall Evaluate whether the judgments and decisions made by management indicate a possible bias on the part of the entitys management that may represent a risk of material misstatement due to fraud. If so, the auditor shall reevaluate the accounting estimates taken as a whole; and Perform a retrospective review of management judgments and assumptions related to significant accounting estimates reflected in the financial statements of the prior year8.

After above response to audit risk by applying audit procedures audit will obtain sufficient and appropriate audit evidences. Now it is required for auditor to evaluate the audit evidence obtained through above procedure. PART-C Response to identified or suspected fraud 1. Audit Evidences showing that there is a misstatement :- As auditor found a misstatement in Financial Statement , the auditor shall evaluate whether such a misstatement is indicative of fraud. If there is such an indication, the auditor shall evaluate the implications of the misstatement in relation to other aspects of the audit, particularly the reliability of management representations, recognizing that an instance of fraud is unlikely to be an isolated occurrence. If the auditor identifies a misstatement, whether material or not, and the auditor has reason to believe that it is or may be the result of fraud and that management (in particular, senior management) is involved, the auditor shall re-evaluate the assessment of the risks of material misstatement due to fraud and its resulting impact on the nature, timing and extent of audit procedures to respond to the assessed risks. The auditor shall also consider whether circumstances or conditions indicate possible collusion involving employees, management or third parties when reconsidering the reliability of evidence previously obtained. When the auditor confirms that, the financial statements are materially misstated as a result of fraud the auditor shall evaluate the implications. The implications may be that either he issue a qualified opinion and if the magnitude of the fraud is extremely significant auditor may issue an adverse opinion. 2. Auditor unable to conclude whether or not misstatement exist or not In such cases auditor may issue a reservation of opinion or if magnitude of suspected fraud is extremely significant auditor shall issue a reservation of opinion or disclaimer of opinion. Can auditor may decide to withdraw from his engagement. According to SA 240 If, as a result of a misstatement resulting from fraud or suspected fraud, the auditor encounters exceptional circumstances that bring into question the auditors ability to continue performing the audit, the auditor shall: (a) Determine the professional and legal responsibilities applicable in the circumstances, including whether there is a requirement for the auditor to report to the person or persons who made the audit appointment or, in some cases, to regulatory authorities; (b) Consider whether it is appropriate to withdraw from the engagement, where withdrawal from the engagement is legally permitted; and (c) If the auditor withdraws: (i) Discuss with the appropriate level of management and those charged with governance, the auditors withdrawal from the engagement and the reasons for the withdrawal; and (ii) Determine whether there is a professional or legal requirement to report to the person or persons who made the audit appointment or, in some cases, to regulatory authorities, the auditors withdrawal from the engagement and the reasons for the withdrawal. What kind of Representation by Management required under SA-240? According to SA240 The auditor shall obtain written representations from management that: (a) It acknowledges its responsibility for the design, implementation and maintenance of internal control to prevent and detect fraud; (b) It has disclosed to the auditor the results of its assessment of the risk that the financial statements may be materially misstated as a result of fraud; (c) It has disclosed to the auditor its knowledge of fraud or suspected fraud affecting the entity involving: (i) Management;

(ii) Employees who have significant roles in internal control; or (iii) Others where the fraud could have a material effect on the financial statements; and (d) It has disclosed to the auditor its knowledge of any allegations of fraud, or suspected fraud, affecting the entitys financial statements communicated by employees, former employees, analysts, regulators or others. What are the Auditors responsibilities of communication of fraud or Suspected fraud? According to SA240 - If the auditor has identified a fraud or has obtained information that indicates that a fraud may exist, the auditor shall communicate these matters on a timely basis to the appropriate level of management . The auditor shall communicate these matters to those charged with governance also on a timely basis. Is it required for the auditor to communicate to Regulatory and Enforcement Authorities? In India presently it is not required by any law to communicate the instance of fraud to regulatory or enforcement authorities but SA240 has a provision that if law requires such reporting auditor should report accordingly. Although the auditors professional duty to maintain the confidentiality of client information may preclude such reporting, the auditors legal duty may have an overriding effect over the same. Give some Examples of circumstances that Indicate the Possibility of Fraud? The following are examples of circumstances that may indicate the possibility that the financial statements may contain a material misstatement resulting from fraud. Transactions that are not recorded in a complete or timely manner or are improperly recorded as to amount, accounting period, classification, or entity policy. Unsupported or unauthorized balances or transactions. Last-minute adjustments that significantly affect financial results. Evidence of employees access to systems and records inconsistent with that necessary to perform their authorized duties. Tips or complaints to the auditor about alleged fraud. Missing documents. Documents that appear to have been altered. Unavailability of other than photocopied or electronically transmitted documents when documents in original form are expected to exist. Significant unexplained items on reconciliations. Unusual balance sheet changes, or changes in trends or important financial statement ratios or relationships, for example, receivables growing faster than revenues. Inconsistent, vague, or implausible responses from management or employees arising from inquiries or analytical procedures. Unusual discrepancies between the entity's records and confirmation replies. Large numbers of credit entries and other adjustments made to accounts receivable records. Unexplained or inadequately explained differences between the accounts receivable sub-ledger and the control account, or between the customer statements and the accounts receivable sub-ledger.

SA 250 (R) - Consideration

of Laws and Regulations in an Audit of Financial Statements

Q. What is the term Noncompliance with laws and regulation means? Non-compliance means acts of omission or commission by the entity, either intentional or unintentional, which are contrary to the prevailing laws or regulations. Non-compliance does not include personal misconduct (unrelated to the business activities of the entity) by those charged with governance, management or employees of the entity. Q. What is Auditors Duty in relation to the same ? Following are the Duties of auditor as per SA250 1. Duty to understand the entities Environment and to obtain general understanding about (a) The legal and regulatory framework applicable to the entity and the industry or sector in which the entity operates; and (b) How the entity is complying with that framework. 2. Duty to obtain sufficient appropriate audit evidence The auditor shall obtain sufficient appropriate audit evidence regarding compliance with the provisions of those laws and regulations generally recognised to have a direct effect on the determination of material amounts and disclosures in the financial statements. 3.Duty to perform procedures The auditor shall perform the following audit procedures to help identify instances of non-compliance with other laws and regulations that may have a material effect on the financial statements: (a) Inquiring of management and, where appropriate, those charged with governance, as to whether the entity is in compliance with such laws and regulations; and (b) Inspecting correspondence, if any, with the relevant licensing or regulatory authorities. 4. Duty to Remain Alert :The auditor shall remain alert to the possibility that other audit procedures applied may bring instances of non-compliance or suspected non-compliance with laws and regulations to the auditors attention. 5.Duty to obtain Representations by Management :The auditor shall request management and, where appropriate, those charged with governance to provide written representations that all known instances of noncompliance or suspected non-compliance with laws and regulations whose effects should be considered when preparing financial statements have been disclosed to the auditor. . Q. What Audit Procedures required to applied by the auditor when NonCompliance is Identified or Suspected ? If the auditor becomes aware of information concerning an instance of noncompliance or suspected non-compliance with laws and regulations, the auditor shall obtain: (a) An understanding of the nature of the act and the circumstances in which it has occurred; and (b) Further information to evaluate the possible effect on the financial statements. If the auditor suspects there may be non-compliance, the auditor shall discuss the matter with management and, where appropriate, those charged with governance. If management or, as appropriate, those charged with governance do not provide sufficient information that supports that the entity is in compliance with laws and regulations and, in the auditors judgment, the effect of the suspected non-

compliance may be material to the financial statements, the auditor shall consider the need to obtain legal advice. If sufficient information about suspected noncompliance cannot be obtained, the auditor shall evaluate the effect of the lack of sufficient appropriate audit evidence on the auditors opinion. Q What are reporting responsibility of the Auditor for non compliance with the laws and regulations by the entity under audit? In case where those charged with governance are not directly involved in the management of the business auditor shall communicate with those charged with governance matters involving non-compliance with laws and regulations that come to the auditors attention during the course of the audit. If, Auditor finds that noncompliance is believed to be intentional and material, the auditor shall communicate the matter to those charged with governance as soon as practicable. If the auditor suspects that management or those charged with governance are involved in noncompliance, the auditor shall communicate the matter to the next higher level of authority at the entity, if it exists, such as an audit committee or supervisory board. Where no higher authority exists, or if the auditor believes that the communication may not be acted upon or is unsure as to the person to whom to report, the auditor shall consider the need to obtain legal advice. Q. What shall be effect of Non Compliance on Auditors Report? 1. When Auditor has Sufficient and Appropriate Audit evidence that non compliance exist:If the auditor concludes that the non-compliance has a material effect on the financial statements, and has not been adequately reflected in the financial statements, the auditor shall, in accordance SA-700 express a qualified or adverse opinion on the financial statements. 2. When auditor has limitations on scope of Audit :If the auditor is precluded by management or those charged with governance from obtaining sufficient appropriate audit evidence regarding non-compliance the auditor shall express a qualified opinion or disclaim an opinion on the financial statements on the basis of a limitation on the scope of the audit in accordance with SA-700 Furhter , If the auditor has identified or suspects non-compliance with laws and regulations, the auditor shall determine whether the auditor has a responsibility to report the identified or suspected non-compliance to parties outside the entity.

SA- 260 (Revised) - Communication with Those Charged with Governance

What do you mean by Those Charged with Governance? According to SA 260 Those charged with governance refers to person(s) or organisation(s) (e.g.,a corporate trustee) with responsibility for overseeing the strategic direction of the entity and obligations related to the accountability of the entity. This includes overseeing the financial reporting process. For some entities those charged with governance may include management personnel, for example, executive members of a governance board of a private or public sector undertakings or an owner-manager. In some cases, those charged with governance are responsible for approving the entitys financial statements (in other cases management has this responsibility). On the other hand the word

management refers to person(s) with executive responsibility for the conduct of the entitys operations. What is Objective of auditor to communicate with those charged with governance? According to SA-260 -The objectives of the auditor are to: (a) Communicate clearly with those charged with governance the responsibilities of the auditor in relation to the financial statement audit, and an overview of the planned scope and timing of the audit; (b) Obtain information relevant to the audit from those charged with governance; (c) Provide timely significant observations arising from the audit relevant to oversee the financial reporting process for those charged with governance. (d) Promote effective two-way communication between the auditor and those charged with governance. What matters are required to be communicated? 1. The Auditors Responsibilities in Relation to the Financial Statement Audit The auditor shall communicate that he is responsible for forming and expressing an opinion on the financial statements that have been prepared by management with the oversight of those charged with governance; and the audit of the financial statements does not relieve management or those charged with governance of their responsibilities. 2.Planned Scope and Timing of the Audit The auditor shall communicate an overview of the planned scope and timing of the audit. 3. Significant Findings from the Audit a)The auditor shall communicate his views about significant qualitative aspects of the entitys accounting practices, including accounting policies, accounting estimates and financial statement disclosures. (b) Significant difficulties, if any, encountered during the audit; (c) Unless all of those charged with governance are involved in managing the entity: (i) Material weaknesses, if any, in the design, implementation or operating effectiveness of internal control that have come to the auditors attention and have been communicated to management as required by SA 315 or SA 330; (ii) Significant matters, if any, arising from the audit that were discussed, or subject to correspondence with management; and (iii) Written representations the auditor is requesting; and (d) Other matters, if any, arising from the audit that, in the auditors professional judgment, are significant to the oversight of the financial reporting process. In Case of Listed entities what are additional communication auditor is required to do? According to SA260 In the case of listed entities, the auditor shall communicate with those charged with governance that the engagement team and others in the firm as appropriate, the firm and, when applicable, network firms have complied with relevant ethical requirements regarding independence; and all relationships and other matters between the firm, network firms, and the entity that, in the auditors professional judgment, may reasonably be thought to bear on independence. This shall include total fees charged during the period covered by the financial statements for audit and nonaudit services provided by the firm and network firms to the entity and components controlled by the entity. These fees shall be allocated to categories that are appropriate to assist those charged with governance in assessing the effect of services on the independence of the auditor; and The related safeguards that have been applied to eliminate identified threats to independence or reduce them to an acceptable level. What other consideration are required under this SA260 1. The auditor shall communicate in writing with those charged with governance when, in the auditors professional judgment, oral communication would not be adequate. Where matters required by this SA to be communicated are communicated orally, the auditor shall document them, and when and to whom they were communicated. Where matters have been

communicated in writing, the auditor shall retain a copy of the communication as part of the audit documentation. 2. The auditor shall communicate with those charged with governance on a timely basis. 3. The auditor shall evaluate whether the two-way communication between the auditor and those charged with governance has been adequate for the purpose of the audit.Inadequacy may lead auditor to suspicion about existence of misstatement.

SA 265 (Newly issued) COMMUNICATING DEFICIENCIES IN INTERNAL CONTROL TO THOSE CHARGED WITH GOVERNANCE AND MANAGEMENT
NOTE:- Students shall note that usually this kind of communication is known as Letter of Weakness What should be the objective of Auditor according to this SA265 According to SA265 - The objective of the auditor is to communicate appropriately to those charged with governance and management deficiencies in internal control that the auditor has identified during the audit and that, in the auditors professional judgment, are of sufficient importance to merit their respective attentions. What do you mean by deficiency in Internal Control According to SA 265 -. Deficiency in internal control This exists when a control is designed, implemented or operated in such a way that it is either unable to prevent, or detect and correct, misstatements in the financial statements on a timely basis; or it is missing. What are the requirements under this SA265? According to SA265 The auditor shall determine whether, he has identified one or more deficiencies in internal control. If yes he shall determine whether, individually or in combination, they constitute significant deficiencies. If auditor concludes that deficiencies are significant , he shall communicate in writing significant deficiencies in internal control identified during the audit to management and those charged with governance on a timely basis. It is further explained in SA265 that The auditor shall give full description of the deficiencies and an explanation of their potential effects so that to enable those charged with governance and management to understand the context of the communication. Further it is required that auditor shal explain that the purpose of the audit was for the auditor to express an opinion on the financial statements; and the audit included consideration of internal control relevant to the preparation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of internal control.

SA-450 EVALUATION OF MISSTATEMENTS IDENTIFIED DURING THE AUDIT

What is Auditors objective in this SA? The objective of the auditor is to evaluate: (a) The effect of identified misstatements on the audit; and (b) The effect of uncorrected misstatements, if any, on the financial statements. What do you mean by misstatement and uncorrected misstatements? Misstatement refers to A difference between the amounts, classification, presentation, or disclosure of a reported financial statement item and the amount, classification, presentation, or disclosure that is required for the item to be in accordance with the applicable financial reporting framework. Misstatements can arise from error or fraud. On the other hand uncorrected misstatements refer to Misstatements that the auditor has accumulated during the audit and that have not been corrected. Requirements Step-1 Consideration of Identified Misstatements as the Audit Progresses The auditor shall determine whether the overall audit strategy and audit plan need to be revised if: (a) The nature of identified misstatements and the circumstances of their occurrence indicate that other misstatements may exist that, when aggregated with misstatements accumulated during the audit, could be material; or (b) The aggregate of misstatements accumulated during the audit approaches materiality determined in accordance with SA 320 (Revised). If, at the auditors request, management has examined a class of transactions, account balance or disclosure and corrected misstatements that were detected, the auditor shall perform additional audit procedures to determine whether misstatements remain. Step-2 Communication and Correction of Misstatements The auditor shall communicate on a timely basis all misstatements accumulated during the audit with the appropriate level of management, unless prohibited by law or regulation5.The auditor shall request management to correct those misstatements . If management refuses to correct some or all of the misstatements communicated by the auditor, the auditor shall obtain an understanding of managements reasons for not making the corrections and shall take that understanding into account when evaluating whether the financial statements as a whole are free from material misstatement. Step-3 Communication with Those Charged with Governance The auditor shall communicate with those charged with governance uncorrected misstatements and the effect that they, individually or in aggregate, may have on the opinion in the auditors report, unless prohibited by law or regulation. The auditors communication shall identify material uncorrected misstatements individually. The auditor shall request that uncorrected misstatements be corrected. The auditor shall also communicate with those charged with governance the effect of uncorrected misstatements related to prior periods on the relevant classes of transactions, account balances or disclosures, and the financial statements as a whole. Step-5 Written Representation The auditor shall request a written representation from management and, where appropriate, those charged with governance whether they believe the effects of uncorrected misstatements are immaterial, individually and in aggregate, to the financial statements as a whole. A summary of such items shall be included in or attached to the written representation. Step-5 Documentation 15. The audit documentation shall include: (a) The amount below which misstatements would be regarded as clearly trivial

(b) All misstatements accumulated during the audit and whether they have been; and (c) The auditors conclusion as to whether uncorrected misstatements are material, individually or in aggregate, and the basis for that conclusion.

What do you mean by Audit Evidences? Audit evidence Information used by the auditor in arriving at the conclusions on which the auditors opinion is based. Audit evidence includes both information contained in the accounting records underlying the financial statements and other information. What is duty of an auditor regarding audit evidences? As per SA-200 " The auditor should obtain sufficient appropriate audit evidence through the performance of compliance and substantive procedures to enable him to draw reasonable conclusions there from on which to base his opinion on the financial information" further under point no. 9 of SA-200 Audit conclusion and reporting, it is concluded that the auditor should review and assess the conclusions drawn from the audit evidence obtained and from his knowledge of business of the entity as the basis for the expression of his opinion on the financial information. Hence from the above we can conclude that auditor's opinion should be supported by reasonable conclusions and reasonable conclusions should be backed by sufficient and appropriate audit evidences. According to SA500 The auditor shall design and perform audit procedures that are appropriate in the circumstances for the purpose of obtaining sufficient appropriate audit evidence. What is Phenomenon of Sufficient and Appropriate Audit Evidence? SA 500 defined the term Sufficient and Appropriate as followsSufficiency of audit evidence The measure of the quantity of audit evidence. The quantity of the audit evidence needed is affected by the auditors assessment of the risks of material misstatement and also by the quality of such audit evidence. viz. at least two evidences are required to conclude about the balance in bank - copy of Bank Statement and bank reconciliation statement); Appropriateness of Audit Evidence :- The measure of the quality of audit evidence; that is, its relevance and its reliability in providing support for the conclusions on which the auditors opinion is based. (Copy of bank statement should be duly certified by the bank manager and BRS shall be passed by Managers account and corresponding entries required have been made in books of acounts). It is auditors professional judgement whether he obtained S&A audit evidences or not. It all depends upon how much the item concerned is material, whether risk of misstatement is there or not relating to any item of financial statement, nature and complexity of financial information etc. What are the sources of Audit Evidences? According to SA500 (revised) Audit evidences can be obtained by the auditor from sources within the entity (generally known as internal sources) viz. bank reconciliation statement, and Sources independent from the entity (generally known as external sources ) viz. Copy of bank statement duly signed by the manager of the bank. Evidences obtained from internal sources commonly known as Internal audit evidences and evidences obtained from source independent of entity is commonly known as external audit evidences. As far as nature of the audit evidences concern they may be documentary (viz. registry of land) , oral (viz. oral confirmation by management )or visual ( viz. Physical Verification by management). What are the Audit Procedures prescribed under SA500? According to SA-500 As required by, and explained further in, SA 315 and SA 330, audit evidence to draw reasonable conclusions on which to base the auditors opinion is obtained by performing: (a) Risk assessment procedures; and

(b) Further audit procedures, which comprise: (i) Tests of controls (previously known as Compliance Procedures), when required by the SAs or when the auditor has chosen to do so; and (ii) Substantive procedures, including tests of details and substantive analytical procedures. (a) As Risk Assessment procedures are defined in SA 315 and SA330 let us understand What are test of control and Substantive procedures

SA 500 Revised Audit Evidence


What do you mean by Audit Evidences? Audit evidence Information used by the auditor in arriving at the conclusions on which the auditors opinion is based. Audit evidence includes both information contained in the accounting records underlying the financial statements and other information. What is duty of an auditor regarding audit evidences? As per SA-200 " The auditor should obtain sufficient appropriate audit evidence through the performance of compliance and substantive procedures to enable him to draw reasonable conclusions there from on which to base his opinion on the financial information" further under point no. 9 of SA-200 Audit conclusion and reporting, it is concluded that the auditor should review and assess the conclusions drawn from the audit evidence obtained and from his knowledge of business of the entity as the basis for the expression of his opinion on the financial information. Hence from the above we can conclude that auditor's opinion should be supported by reasonable conclusions and reasonable conclusions should be backed by sufficient and appropriate audit evidences. According to SA500 The auditor shall design and perform audit procedures that are appropriate in the circumstances for the purpose of obtaining sufficient appropriate audit evidence. What is Phenomenon of Sufficient and Appropriate Audit Evidence? SA 500 defined the term Sufficient and Appropriate as followsSufficiency of audit evidence The measure of the quantity of audit evidence. The quantity of the audit evidence needed is affected by the auditors assessment of the risks of material misstatement and also by the quality of such audit evidence. viz. at least two evidences are required to conclude about the balance in bank - copy of Bank Statement and bank reconciliation statement); Appropriateness of Audit Evidence :- The measure of the quality of audit evidence; that is, its relevance and its reliability in providing support for the conclusions on which the auditors opinion is based. (Copy of bank statement should be duly certified by the bank manager and BRS shall be passed by Managers account and corresponding entries required have been made in books of acounts). It is auditors professional judgement whether he obtained S&A audit evidences or not. It all depends upon how much the item concerned is material, whether risk of misstatement is there or not relating to any item of financial statement, nature and complexity of financial information etc. What are the sources of Audit Evidences? According to SA500 (revised) Audit evidences can be obtained by the auditor from sources within the entity (generally known as internal sources) viz. bank reconciliation statement, and Sources independent from the entity (generally known as external sources ) viz. Copy of bank statement duly signed by the manager of the bank. Evidences obtained from internal sources commonly known as Internal audit evidences and evidences obtained from source independent of entity is commonly known as external audit evidences. As far as nature of the audit evidences concern they may be documentary (viz. registry of land) , oral (viz. oral confirmation by management )or visual ( viz. Physical Verification by management). What are the Audit Procedures prescribed under SA500?

According to SA-500 As required by, and explained further in, SA 315 and SA 330, audit evidence to draw reasonable conclusions on which to base the auditors opinion is obtained by performing: (a) Risk assessment procedures; and (b) Further audit procedures, which comprise: (i) Tests of controls (previously known as Compliance Procedures), when required by the SAs or when the auditor has chosen to do so; and (ii) Substantive procedures, including tests of details and substantive analytical procedures. (a) As Risk Assessment procedures are defined in SA 315 and SA330 let us understand What are test of control and Substantive procedures (b) Further Audit Procedures (i)Test of Controls (Previously known as Compliance Procedure in old version of SA500):-Tests of controls are designed to evaluate the operating effectiveness of controls in preventing, or detecting and correcting, material misstatements at the assertion level. to obtain relevant audit evidence that indicate o performance of a control, and o deviation conditions which indicate departures from adequate performance. The presence or absence of those conditions can then be tested by the auditor. Example of Test of Control :-Following is the conversation between the auditor of X ltd. and accountant of the X. Ltd. on 31.03.2005 Auditor : Do you prepare bank reconciliation statements Accountant : Yes Auditor : Please show me the latest BRS Accountant : This is latest BRS prepared as on 30.10.2009 Auditor : What's this? You have not given any effect to the pending entries from August and September 09. What is your frequency to prepare BRS? Accountant : Half yearly. From the above we can conclude that although internal control over the bank operations is in existence but it is neither effective and nor continuously in operation over the period of reliance to be placed on it. (ii)Substantive Procedures :- Substantive procedures are designed to detect material misstatements at the assertion level. They comprise tests of details and substantive analytical procedures. Designing substantive procedures includes identifying conditions relevant to the purpose of the test that constitute a misstatement in the relevant assertion. If auditor applies substantive procedure over and item of financial statement like building we can correlate the observations under substantive procedure mentioned above nce Physical verification of the building. Rights and Obligations Whether the building is in the name of the company. Occurrence Whether it is purchased during the year, modified or renovated during the year or it is an opening balance. Completeness Whether it is properly recorded in fixed asset register. Valuation that an asset is recorded at an appropriate carrying value. Measurement it is recorded in the proper amount and revenue or expense related to insurance and depreciation is allocated to the proper period.

Presentation and Disclosure an item is disclosed, classified, and described in accordance with recognised accounting policies (AS per Accounting Standards) and practices and relevant statutory requirements (schedule VI in case of company), if any. What are the various other assisting audit procedure available to the auditor when he want to obtain sufficient and appropriate audit evidence by applying audit procedures risk assessment procedure , test of control or substantive procedure? The audit procedures described as Following may be used as risk assessment procedures, tests of controls or substantive procedures, depending on the context in which they are applied by the auditor. 1. Inspection 2. Observation 3. External Confirmation 3. Recalculation 4. Re-performance 5. Analytical Procedures 6 Enquiry and Confirmation Inspection Inspection involves examining records or documents, whether internal or external, in paper form, electronic form, or other media, or a physical examination of an asset. An example of inspection used as a test of controls is inspection of records for evidence of authorisation. Observation Observation consists of looking at a process or procedure being performed by others, for example, the auditors observation of inventory counting by the entitys personnel, or of the performance of control activities. External Confirmation An external confirmation represents audit evidence obtained by the auditor as a direct written response to the auditor from a third party (the confirming party), in paper form, or by electronic or other medium. External confirmation procedures frequently are relevant when addressing assertions associated with certain account balances and their elements. Recalculation Recalculation consists of checking the mathematical accuracy of documents or records. recalculation may be performed manually or electronically. Re-performance Re-performance involves the auditors independent execution of procedures or controls that were originally performed as part of the entitys internal control. Analytical Procedures Analytical procedures consist of evaluations of financial information made by a study of plausible relationships among both financial and non-financial data. For example computation and anlysis of Gross Profit Ratio, Net Profit Ratio, Debt Equity Ratio etc. Analytical procedures also encompass the investigation of identified fluctuations and relationships that are inconsistent with other relevant information or deviate significantly from predicted amounts. Inquiry Inquiry consists of seeking information of knowledgeable persons, both financial and non- financial, within the entity or outside the entity. Responses to inquiries may provide the auditor with information not previously possessed or with corroborative audit evidence. In respect of some matters, the auditor may consider it necessary to obtain written representations from management and, where appropriate, those charged with governance to confirm responses to oral inquiries. We will discuss the same in later chapter on SA 580 (Revised).

How an auditor establishes Relevence and Reliability of Audit Evidences? According to SA500 Revised - When designing and performing audit procedures, the auditor shall consider the relevance and reliability of the information to be used as an audit evidence. Now the question is - what is relevance and reliability and how it is established by the auditor. Relevance of Audit evedence According to SA500 revised Relevance deals with the logical connection with, or bearing upon, the purpose of the audit procedure and, where appropriate, the assertion under consideration. The relevance of information to be used as audit evidence may be affected by the direction of testing. For example, If we are verifying the existence of building and ownership of building the experts valuation report of the building is irrelevant but registry of the land and approved map of the building in the name of the owner are relevant. On the other hand if we are verifying the value of the building approved map is irrelevant but experts valuation report is relevant. A given set of audit procedures may provide audit evidence that is relevant to certain assertions, but not others. For example, obtaining audit evidence regarding a particular assertion, for example, the existence of inventory, is not a substitute for obtaining audit evidence regarding another assertion, for example, the valuation of that inventory. Reliability of Audit Evidence Unless auditor obtains reliable audit evidence he can not draw reasonable conclusions . Reliability of audit evidence is depending upon Nature and source of Audit Evidences. While recognising that aome exceptions may exist, the following generalisations about the reliability of audit evidence may be useful: The reliability of audit evidence is increased when it is obtained from independent sources outside the entity ( that means external audit evidences are more reliable than internal audit evidences). For example Copy of certified bank statement is more reliable evidence than a Bank reconciliation prepared within the entity. The reliability of audit evidence that is generated internally is increased when the related controls, including those over its preparation andmaintenance, imposed by the entity are effective. For example - Bank reconciliation statement will be more reliable than otherwise (not more reliable than copy of bank statement) if the internal control is effective. Audit evidence obtained directly by the auditor (for example, observation of the application of a control) is more reliable than audit evidence obtained indirectly or by inference (for example, inquiry about the application of a control). Audit evidence in documentary form, whether paper, electronic, or other medium, is more reliable than evidence obtained orally (for example, Oral confirmation of a decision in board meeting is less reliable than copy of that resolution obtained by the auditor). Audit evidence provided by original documents is more reliable than audit evidence provided by photocopies or facsimiles, or documents that have been filmed, digitised or otherwise transformed into electronic form, the reliability of which may depend on the controls over their preparation and maintenance. The auditor gains increased assurance when he obtains audit evidences from different sources or of different nature giving consistent results of observations according to SA-500. If an Audit evidence is prepared by managements expert what extra care has to be taken by the auditor of the entity? According to SA500 revised, When information to be used as audit evidence has been prepared using the work of a managements expert, the auditor shall, to the extent necessary, having regard to the significance of that experts work for the auditors purposes,: (a) Evaluate the competence, capabilities and objectivity of that expert; (b) Obtain an understanding of the work of that expert; and

(c) Evaluate the appropriateness of that experts work as audit evidence for the relevant assertion. CURRENTLY THESE ISSUES ARE ADDRESSED IN SA620 What consideration and auditor is required to observe when he is selecting items for testing to obtain SUFFICIENT audit evidences? When designing tests of controls and tests of details, the auditor shall determine means of selecting items for testing that are effective in meeting the purpose of the audit procedure. In selecting items for testing, the auditor is required by paragraph 7 to determine the relevance and reliability of information to be used as audit evidence; the other aspect of effectiveness (sufficiency) is an important consideration in selecting items to test. Auditor may resort to any one or in combination of the following ways to selecting the items for testing: (a) Selecting all items (100% examination); (b) Selecting specific items; and (c) Audit sampling. Selecting All Items According to SA500 revised - 100% examination is unlikely in the case of tests of controls; however, it is more common for tests of details (i.e. substantive procedures). 100% examination may be appropriate when, for example: The population constitutes a small number of large value items; There is a significant risk and other means do not provide sufficient appropriate audit evidence; or The repetitive nature of a calculation or other process performed automatically by an information system makes a 100% examination cost effective. Selecting Specific Items According to SA500 Revised -The auditor may decide to select specific items from a population. In making this decision, factors that may be relevant include the auditors understanding of the entity, the assessed risks of material misstatement, and the characteristics of the population being tested. Specific items selected may include: High value or key items. The auditor may decide to select specific items within a population because they are of high value, or exhibit some other characteristic . All items over a certain amount. The auditor may decide to examine items whose recorded values exceed a certain amount so as to verify a large proportion of the total amount of a class of transactions or account balance. Items to obtain information. The auditor may examine items to obtain information about matters such as the nature of the entity or the nature of transactions. It should be noted that by this way auditor is not following rules of sampling .The results of audit procedures applied to items selected in this way cannot be projected to the entire population; accordingly, selective examination of specific items does not provide audit evidence concerning the remainder of the population. Audit Sampling Audit sampling is designed to enable conclusions to be drawn about an entire population on the basis of testing a sample drawn from it. Audit sampling is discussed in SA 530 (Revised).17 What is the Audit procedure if auditor found Inconsistency in, or Doubts over Reliability of, Audit Evidence? If: (a) audit evidence obtained from one source is inconsistent with that obtained from another; or (b) the auditor has doubts over the reliability of information to be used as audit evidence,

the auditor shall determine what modifications or additions to audit procedures are necessary to resolve the matter, and shall consider the effect of the matter, if any, on other aspects of the audit. matter.

SA 510 Revised INITIAL AUDIT ENGAGEMENTSOPENING BALANCES


Q. What is an Initial Engagement? According to SA 510(Revised) Initial audit engagement means an engagement in which either: (i) The financial statements for the prior period were not audited; or (ii) The financial statements for the prior period were audited by a predecessor auditor. Q. Define Opening Balances? According to SA 510(Revised) Opening balances means those account balances that exist at the beginning of the period. Opening balances are based upon the closing balances of the prior period and reflect the effects of transactions and events of prior periods and accounting policies applied in the prior period. Opening balances also include matters requiring disclosure that existed at the beginning of the period, such as contingencies and commitments. Q. What is Auditors duty in relation to opening Balances? Following are the duties of Auditor in SA510 Revised 1. To read the latest Audited Financial Statement:- The auditor shall read the most recent financial statements, if any, and the predecessor auditors report thereon, if any, for information relevant to opening balances, including disclosures. 2. To obtain sufficient and appropriate audit evidences:- The auditor shall obtain sufficient appropriate audit evidence about whether the opening balances contain misstatements that materially affect the current periods financial statements by: Determining whether the prior periods closing balances have been correctly brought forward to the current period or, when appropriate, any adjustments have been disclosed as prior period items in the current years Statement of Profit and Loss5; Determining whether the opening balances reflect the application of appropriate accounting policies; and Performing one or more of the following: (i) Where the prior year financial statements were audited, perusing the copies of the audited financial statements including the other relevant documents relating to the prior period financial statements; (ii) Evaluating whether audit procedures performed in the current period provide evidence relevant to the opening balances; or (iii) Performing specific audit procedures to obtain evidence regarding the opening balances. Q. Describe the other audit procedure required if previous year FS were un audited or if audited still auditor required to apply additional procedures? If the prior periods financial statements were audited by a predecessor auditor, the auditor may be able to obtain sufficient appropriate audit evidence regarding the

opening balances by perusing the copies of the audited financial statements including the other relevant documents relating to the prior period financial statements such as supporting schedules to the audited financial statements. Ordinarily, the current auditor can place reliance on the closing balances contained in the financial statements for the preceding period, except when during the performance of audit procedures for the current period the possibility of misstatements in opening balances is indicated. Following Audit procedures may be applied if previous year FS were unaudited or if audited auditor still wishes to apply additional procedures:1. current assets and liabilities:- , Evidence about opening balances may be obtained as part of the current periods audit procedures. For example, the collection (payment) of opening accounts receivable (accounts payable) during the current period will provide some audit evidence of their existence, rights and obligations, completeness and valuation at the beginning of the period. 2. Inventories:- The current periods audit procedures on the closing inventory balance provide little Audit evidence regarding inventory on hand at the beginning of the period. Therefore, additional audit procedures may be necessary, and one or more of the following may provide sufficient appropriate audit evidence: i. Observing a current physical inventory count and reconciling it to the opening inventory quantities. ii. Performing audit procedures on the valuation of the opening inventory items. iii. Performing audit procedures on gross profit and cut-off. 3. Non-current assets and liabilities:- In case of property plant and equipment, investments and long-term debt, some audit evidence may be obtained by examining the accounting records and other information underlying the opening balances. In certain cases, the auditor may be able to obtain some audit evidence regarding opening balances through confirmation with third parties, for example, for long-term debt and investments. In other cases, the auditor may need to carry out additional audit procedures. How auditor will conclude and report on Opening Balances? Following three situations can arise to conclude and report:1. If the auditor is unable to obtain sufficient appropriate audit evidence:- In such case the auditor shall express a qualified opinion or a disclaimer of opinion, as appropriate, in accordance with Proposed SA 705 2. If the auditor concludes that the opening balances contain a misstatement:- If such misstatement materially affects the current periods financial statements, and the effect of the misstatement is not properly accounted for or not adequately presented or disclosed, the auditor shall express a qualified opinion or an adverse opinion, as appropriate, in accordance with Proposed SA 705. 3.Conclusions about Accounting Policies:- If the auditor concludes that: (a) the current periods accounting policies are not consistently applied in relation to opening balances in accordance with the applicable financial reporting framework; or (b) a change in accounting policies is not properly accounted for or not adequately presented or disclosed in accordance with the applicable financial reporting framework, the auditor shall express a qualified opinion or an adverse opinion as appropriate in accordance with proposed SA 705.

SA 530 Revised Audit Sampling


What is Audit Sampling and what is objective of auditor when he is using audit sampling? According to SA530 Audit Sampling refers to the application of audit procedures to less than 100% of items within a population of audit relevance such that all sampling units have a chance of selection in order to provide the auditor with a reasonable basis on which to draw conclusions about the entire population. The objective of the auditor when using audit sampling is to provide a reasonable basis for the auditor to draw conclusions about the population from which the sample is selected. Population here means the entire set of data from which a sample is selected and about which the auditor wishes to draw conclusions. What are the steps involved in Audit Sampling ? Step-1 Designing of Sample When designing an audit sample, the auditor shall consider the purpose of the audit procedure and the characteristics of the population from which the sample will be drawn. If population is uneven stratification kind of tecqniques will be required for random selection. Step-2 Determining the sample size - The auditor shall determine a sample size sufficient to reduce sampling risk to an acceptably low level. Sample size will be depending on the degree of Sampling risk, Tolerable misstatement range of the auditor and expected error. More the sampling risk and expected errors are bigger shall be the sample size and vis a vis. More the tolerable misstatement range of the auditor lesser will be the sample size and vis a vis. Here tolerable misstatement means a monetary amount set by the auditor in respect of which the auditor seeks to obtain an appropriate level of assurance that the monetary amount set by the auditor is not exceeded by the actual misstatement in the population Step-3 Selection of items to the sample:- The auditor shall select items for the sample in such a way that each sampling unit in the population has a chance of selection. There are three commonly used methods for selection of sample Haphazard selection, Random Selection, Systematic random selection. Step-4 Performing Audit Procedures on selected sample - The auditor shall perform audit procedures, appropriate to the purpose, on each item selected. Step -5 Analysis of Nature and Cause of Deviations and Misstatements If identified - The auditor shall investigate the nature and cause of any deviations or misstatements identified, and evaluate their possible effect on the purpose of the audit procedure and on other areas of the audit. In the extremely rare circumstances when the auditor considers a misstatement or deviation discovered in a sample to be an anomaly, the auditor shall obtain a high degree of certainty that such misstatement or deviation is not representative of the population. Step-6 Projecting Misstatements :- For tests of details, the auditor shall project misstatements found in the sample to the population. Step-7 Evaluating Results of Audit Sampling The auditor shall evaluate: (a) The results of the sample; and (b) Whether the use of audit sampling has provided a reasonable basis for conclusions about the population that has been tested. What is Sampling risk and What are its type? According to SA530 Sampling risk refers to the risk that the auditors conclusion based on a sample may be different from the conclusion if the entire population were subjected to the same audit procedure. Sampling risk can lead to two types of erroneous conclusions:

(i) In the case of a test of controls, that controls are more effective than they actually are, or in the case of a test of details, that a material misstatement does not exist when in fact it does. The auditor is primarily concerned with this type of erroneous conclusion because it affects audit effectiveness and is more likely to lead to an inappropriate audit opinion. (ii) In the case of a test of controls, that controls are less effective than they actually are, or in the case of a test of details, that a material misstatement exists when in fact it does not. This type of erroneous conclusion affects audit efficiency as it would usually lead to additional work to establish that initial conclusions were incorrect.

SA

Auditing Estimates, Including Fair Value Estimates, and Related Disclosures

540

Revised

Accounting Accounting

Q. What do you mean by Accounting estimates?How many type of Accounting estimates are involved in preparation of FS? Some financial statement items cannot be measured precisely, but can only be estimated. According to SA540 (R) An approximation of a monetary amount in the absence of a precise means of measurement. Ususally tow kind of estimates are involved in preparing and presenting financial statements:1. Fair value Accounting estimates 2. Other Accounting estimates Fair value accounting estimates means where the measurement objective is expressed in terms of the value of a current transaction or financial statement item based on conditions prevalent at the measurement date, such as estimated market price for a particular type of asset or liability. Every accounting estimate other than Fair value accounting estimate is other estimate. Some financial reporting frameworks prescribe specific methods of measurement and the disclosures that are required to be made in the financial statements, while other financial reporting frameworks are less specific Q. Illustrate some examples of Fair value estimates and other estimates? Following are examples of Fair value accounting estimates: Estimate of FMV of Inventory Complex financial instruments, which are not traded in an active and open market. Share-based payments. Property or equipment retired from active use and held for disposal. Certain assets or liabilities acquired in a business combination, including goodwill and intangible assets. Transactions involving the exchange of assets or liabilities between independent parties without monetary consideration, for example, a nonmonetary exchange of plant facilities in different lines of business.

Following are examples of other accounting estimates: Allowance for doubtful accounts. Inventory obsolescence. Warranty obligations. Depreciation method or asset useful life. Provision against the carrying amount of an investment where there is uncertainty regarding its recoverability. Outcome of long term contracts. Financial Obligations / Costs arising from litigation settlements and judgments. Q. What is objective of auditor in this SA540(R) ? The objective of the auditor is to obtain sufficient appropriate audit evidence whether in the context of the applicable financial reporting framework: (a) accounting estimates, including fair value accounting estimates, in the financial statements, whether recognised or disclosed, are reasonable; and (b) related disclosures in the financial statements are adequate. Q. What considerations are required by the auditor when performing audit procedures over accounting estimates? Following steps are involved in audit of accounting estimates step -1 Auditor will perform risk assessment procedures and related activities in order to provide a basis for the identification of risk of misstatement step-2 Auditors shall give response to assessed risk by determining nature timing and extent of audit procedures. Auditor may apply further substantive procedures to respond to significant risks step-3 Auditor shall evaluate the reasonableness of the accounting estimates, and determining misstatements step-4 Auditor shall verify whether proper disclosures related to accounting estimates have been made. Q.How auditor will perform risk assessment procedures to assess the risk of misstatement in relation to accounting estimates? As required by SA 315, the auditor shall obtain an understanding of the following in order to provide a basis for the identification and assessment of the risks of material misstatement for accounting estimates: (a) The requirements of the applicable financial reporting framework relevant to accounting estimates, including related disclosures. (b) How management identifies those transactions, events and conditions that may give rise to the need for accounting estimates to be recognized or disclosed in the financial statements and need to revise existing,accounting estimates. (c) How management makes the accounting estimates, and an understanding of the data on which they are based, it includes: (i) The method, including where applicable the model, used in making the accounting estimate; (ii) Relevant controls; (iii) Whether management has used an expert; (iv) The assumptions underlying the accounting estimates; (v) Whether there has been or ought to have been a change from the prior period in the methods for making the accounting estimates, and if so, why; and (vi) Whether and, if so, how management has assessed the effect of estimation uncertainty. By applying above procedures auditor shall evaluate the degree of estimation uncertainty associated with an accounting estimate and in auditors judgment, any of those accounting estimates that have been identified as having high estimation uncertainty give rise to significant risks.

How auditor shall Responses to the Assessed Risks of Material misstatement in accounting estimates? Based on the assessed risks of material misstatement, the auditor shall determine: Whether management has appropriately applied the requirements of the applicable financial reporting framework relevant to the accounting estimate; and Whether the methods for making the accounting estimates are appropriate and have been applied consistently, and whether changes, if any, in accounting estimates or in the method for making them from the prior period are appropriate in the circumstances. whether events occurring up to the date of the auditors report provide audit evidence regarding the accounting estimate. Test how management made the accounting estimate and the data on which it is based. In doing so, the auditor shall evaluate whether: o The method of measurement used is appropriate in the circumstances; and o The assumptions used by management are reasonable in light of the measurement objectives of the applicable financial reporting framework. o Test the operating effectiveness of the controls over how management made the accounting estimate, together with appropriate substantive procedures. Develop a point estimate or a range to evaluate managements point estimate. For this purpose: When the auditor uses assumptions or methods that differ from managements, the auditor shall obtain an understanding of managements assumptions or methods sufficient to establish that the auditors point estimate or range takes into account relevant variables and to evaluate any significant differences from managements point estimate. When the auditor concludes that it is appropriate to use a range, the auditor shall narrow the range, based on audit evidence available, until all outcomes within the range are considered reasonable. If required, auditor may apply further substantive procedure to evaluate the accounting estimates involving significant risk. Q. how auditor will evaluate the reasonableness of the accounting estimates, and determines whether it is misstated? The auditor shall review the judgments and decisions made by management in the making of accounting estimates to identify whether there are indicators of possible management bias. Indicators of possible management bias do not themselves constitute misstatements for the purposes of drawing conclusions on the reasonableness of individual accounting estimates. Based on the audit evidence obtained, the auditor may conclude that 1. The evidences of the auditor differ from managements point estimate. In such case if the audit evidence supports a point estimate, the difference between the auditors point estimate and managements point estimate constitutes a misstatement. 2. Where management has changed an accounting estimate, or the method in making it unreasonabley :- Where management has changed an accounting estimate, or the method in making it, from the prior period based on a subjective assessment that there has been a change in circumstances, the auditor may conclude based on the audit evidence that the accounting estimate is misstated as a result of an arbitrary change by management, or may regard it as an indicator of possible management bias . How to report misstatement is given in SA450

Q. how auditor will determine that appropriate disclosures related to accounting estimates have been made? The auditor shall obtain sufficient appropriate audit evidence about whether the disclosures in the financial statements related to accounting estimates are in accordance with the requirements of the applicable financial reporting framework. For accounting estimates that give rise to significant risks, the auditor shall also evaluate the adequacy of the disclosure of their estimation uncertainty in the financial statements in the context of the applicable financial reporting framework. Q. What are the other considerations required under this sa540? Consideration as to need for written representations The auditor shall obtain written representations from management whether management believes significant assumptions used by it in making accounting estimates are reasonable. Consideration as to Documentation :-The audit documentation shall include: (a) The basis for the auditors conclusions about the reasonableness of accounting estimates and their disclosure that give rise to significant risks; and (b) Indicators of possible management bias, if any.

SA 550(REVISED) RELATED PARTIES


What do you mean by Related Parties? According to SA 550 (R) Related party means a party that is either: (i) A related party as defined in the applicable financial reporting framework; or (ii) Where the applicable financial reporting framework establishes minimal or no related party requirements: a. A person or other entity that has control or significant influence, directly or indirectly through one or more intermediaries, over the reporting entity; b. Another entity over which the reporting entity has control or significant influence, directly or indirectly through one or more intermediaries; or c. Another entity that is under common control with the reporting entity through having: i. Common controlling ownership; ii. Owners who are close family members; or iii. Common key management. However, entities that are under common control by a state (i.e., a national, regional or local government) are not considered related unless they engage in significant transactions or share resources to a significant extent with one another. What is Auditors Duty in relation to Related Parties? According to SA 550 (Revised ) auditor has following duties in relation to related parties :1. Duty to see that all Financial Statement Framwork and Statutory compliance as far as related to related party, related party transactions accounting and disclosures Where the applicable have been appropriately Complied With:- Some times financial reporting framework establishes Disclosure requirements of related party transactions or related parties the auditor has a responsibility to perform audit procedures to identify, assess and respond to the risks of material misstatement arising from the entitys failure to appropriately account for

or disclose related party relationships, transactions or balances in accordance with the requirements of the framework. 2. Duty to understanding of the entitys related party relationships and transactions Irrespective of the fact that financial reporting framework requires or not auditor shall obtain understanding of entitys related party relationships and transactions sufficient to be able to conclude whether the financial statements, insofar as they are affected by those relationships and transactions: (a) Achieve a true and fair presentation (for fair presentation frameworks); or (b) Are not misleading 3. Duty to evaluate Fraud Risk Factors in raltion to related parties:- relevant to the auditors evaluation of whether one or more fraud risk factors are present as required by SA 240 because fraud may be more easily committed through related parties. 4.Duty to have an attitude of Professional Skepticism:- Planning and performing the audit with professional skepticism as required by SA 2008 is therefore particularly important in this context, given the potential for undisclosed related party relationships and transactions. What are the requirements to be complied with by the auditor for this SA550 ? Step-1 Enquiry with management The auditor shall inquire of management regarding following: (a) The identity of the entitys related parties, including changes from the prior period; (b) The nature of the relationships between the entity and these related parties; and (c) Whether the entity entered into any transactions with these related parties during the period and, if so, the type and purpose of the transactions. Step-2 Enquiry about Controls:- The auditor shall inquire about internal controls adopted by management for following (a) Identify, account for, and disclose related party relationships and transactions in accordance with the applicable financial reporting framework; (b) Authorise and approve significant transactions and arrangements with related parties; and (c) Authorise and approve significant transactions and arrangements outside the normal course of business. Step-3 Maintaining Alertness :- During the audit, the auditor shall remain alert, when inspecting records or documents, for arrangements or other information that may indicate the existence of related party relationships or transactions that management has not previously identified or disclosed to the auditor. Step-4Sharing Related Party Information with the Engagement Team The auditor shall share relevant information obtained about the entitys related parties with the other members of the engagement team. Step-5 Designing Audit procedure on the basis of the above After applying all the above procedure if the auditor identifies fraud risk factors (including circumstances relating to the existence of a related party with dominant influence) when performing the risk assessment procedures and related activities in connection with related parties, the auditor respond to assessed risks. The auditor shall designs and performs further audit procedures to obtain sufficient appropriate audit evidence about the assessed risks of material misstatement associated with related party relationships and transactions. Step -6 Response to results of the Audit Procedures A) When auditor identified previously unidentified or undisclosed Related Parties or significant Related Party transactions:- the auditor shall: (a) Promptly communicate the relevant information to the other members of the engagement team;

(b) Where the applicable financial reporting framework establishes related party requirements: (i) Request management to identify all transactions with the newly identified related parties for the auditors further evaluation; and (ii) Inquire as to why the entitys controls over related party relationships and transactions failed to enable the identification or disclosure of the related party relationships or transactions; (c) Perform appropriate substantive audit procedures relating to such newly identified related parties or significant related party transactions; (d) Reconsider the risk that other related parties or significant related party transactions may exist that management has not previously identified or disclosed to the auditor, and perform additional audit procedures as necessary; and (e) If the non-disclosure by management appears intentional (and therefore indicative of a risk of material misstatement due to fraud), evaluate the implications for the audit. B) Identified Significant Related Party Transactions outside the Entitys Normal Course of Business:- The auditor shall: (a) Inspect the underlying contracts or agreements, if any, and evaluate whether: (i) The business rationale (or lack thereof) of the transactions suggests that they may have been entered into to engage in fraudulent financial reporting or to conceal misappropriation of assets (ii) The terms of the transactions are consistent with managements explanations; and (iii) The transactions have been appropriately accounted for and disclosed in accordance with the applicable financial reporting framework; and (b) Obtain audit evidence that the transactions have been appropriately authorised and approved. C)Conclusion about Prevailing Market Prices :- Auditor shall ascertain whether Related Party transactions were conducted on terms equivalent to those prevailing in an arms length transaction. Step-7 Audit Conclusion and Reporting :- In forming an opinion on the financial statements in accordance with SA 700, the auditor shall evaluate: (a) Whether the identified related party relationships and transactions have been appropriately accounted for and disclosed in accordance with the applicable financial reporting framework; and (b) Whether the effects of the related party relationships and transactions: (i) Prevent the financial statements from achieving true and fair presentation (for fair presentation frameworks); or (ii) Cause the financial statements to be misleading (for compliance frameworks).

Step 8 Other considerations 1. Written Representations Where the applicable financial reporting framework establishes related party requirements, the auditor shall obtain written representations from management and, where appropriate, those charged with governance that: (a) They have disclosed to the auditor the identity of the entitys related parties and all the related party relationships and transactions of which they are aware; and (b) They have appropriately accounted for and disclosed such relationships and transactions in accordance with the requirements of the framework. 2. Communication with Those Charged with Governance Unless all of those charged with governance are involved in managing the entity, the auditor shall communicate with those charged with governance significant matters arising during the audit in connection with the entitys related parties. 3. 3. 3.Documentation In meeting the documentation requirements of SA 23016 and other SAs, the auditor shall include in the audit documentation the names of the identified related parties and the nature of the related party relationships.

SA 560 (REVISED) Subsequent Events

What do you mean by subsequent event? According to SA 560(R) Events occurring between the date of the financial statements and the date of the auditors report, and facts that become known to the auditor after the date of the auditors report. Here the date of the financial statements means the date of the end of the latest period covered by the financial statements and Date of approval of the financial statements means The date on which all the statements that comprise the financial statements have been prepared and those with the recognised authority have asserted that they have taken responsibility for those financial statements. For the purpose of this statement the Date of the auditors report means the date the auditor dates the report on the financial statements in accordance with SA 700 (Revised). What is auditors Objective relating to this SA? .According to SA 560(R) The objectives of the auditor are to: (a) Obtain sufficient appropriate audit evidence about whether events occurring between the date of the financial statements and the date of the auditors report that require adjustment of, or disclosure in, the financial statements are appropriately reflected in those financial statements; and (b) Respond appropriately to facts that become known to the auditor after the date of the auditors report, that, had they been known to the auditor at that date, may have caused the auditor to amend the auditors report. What Procedure are required to obtain Sufficient and Appropriate audit evidences regarding subsequent events? Step-1 Risk Assessment Procedures: - According to SA560 (R) the auditor shall take into account the auditors risk assessment in determining the nature and extent of such audit procedures, which shall include the following:

(a) Obtaining an understanding of any procedures management has established to ensure that subsequent events are identified. (b) Inquiring of management and, where appropriate, those charged with governance as to whether any subsequent events have occurred which might affect the financial statements. (c) Reading minutes, if any, of the meetings, of the entitys owners, management and those charged with governance, that have been held after the date of the financial statements and inquiring about matters discussed at any such meetings for which minutes are not yet available. (d) Reading the entitys latest subsequent interim financial statements, if any. Step-2 Audit Conclusion and Reporting :-If as a result of the procedures performed as required by the auditor identifies events that require adjustment of, or disclosure in, the financial statements, the auditor shall determine whether each such event is appropriately reflected in those financial statements. Step-3 Written Representations The auditor shall request management and, where appropriate, those charged with governance, to provide a written representation in accordance with SA 580 (Revised), Written Representations that all events occurring subsequent to the date of the financial statements and for which the applicable financial reporting framework requires adjustment or disclosure have been adjusted or disclosed. What should be the reaction of the auditor if some Facts Which Become Known to the Auditor After the Date of the Auditors Report but Before the Date the Financial Statements are Issued ? The auditor has no obligation to perform any audit procedures regarding the financial statements after the date of the auditors report. However, when, after the date of the auditors report but before the date the financial statements are issued, a fact becomes known to the auditor that, had it been known to the auditor at the date of the auditors report, may have caused the auditor to amend the auditors report, the auditor shall: (a) Discuss the matter with management and, where appropriate, those charged with governance. (b) Determine whether the financial statements need amendment (c) and, if so, Inquire how management intends to address the matter in the financial statements. If management amends the financial statements, the auditor shall after carrying out audit procedures on such amendments Provide a new auditors report on the amended financial statements. The new auditors report shall not be dated earlier than the date of approval of the amended financial statements. In some entities, management may not be required by the applicable law, regulation or the financial reporting framework to issue amended financial statements and, accordingly, the auditor need not provide an amended or new Subsequent Events auditors report. However, when management does not amend the financial statements in circumstances where the auditor believes they need to be amended, then: (a) If the auditors report has not yet been provided to the entity, the auditor shall modify the opinion as required by [proposed] SA 705 and then provide the auditors report; or (b) If the auditors report has already been provided to the entity, the auditor shall notify management and, unless all of those charged with governance are involved in managing the entity, those charged with governance, not to issue the financial statements to third parties before the necessary amendments have been made. If the financial statements are wnevertheless subsequently issued without the necessary amendments, the auditor shall take appropriate action, to seek to prevent reliance on the auditors report.

What should be the reaction of auditor for the Facts Which Become Known to the Auditor After the Financial Statements have been Issued? After the financial statements have been issued, the auditor has no obligation to perform any audit procedures regarding such financial statements. However, when, after the financial statements have been issued, a fact becomes known to the auditor that, had it been known to the auditor at the date of the auditors report, may have caused the auditor to amend the auditors report, the auditor shall: (a) Discuss the matter with management and, where appropriate, those charged with governance. (b) Determine whether the financial statements need amendment and, if so, (c) Inquire how management intends to address the matter in the financial statements. If the management amends the financial statements The auditor shall include in the new or amended auditors report an Emphasis of Matter paragraph or Other Matter(s) paragraph referring to a note to the financial statements that more extensively discusses the reason for the amendment of the previously issued financial statements and to the earlier report provided by the auditor. If management does not take the necessary steps to ensure that anyone in receipt of the previously issued financial statements is informed of the situation and does not amend the financial statements in circumstances where the auditor believes they need to be amended, the auditor shall notify management and, unless all of those charged with governance are involved in managing the entity, those charged with governance, that the auditor will seek to prevent future Subsequent Events reliance on the auditors report. If, despite such notification, management or those charged with governance do not take these necessary steps, the auditor shall take appropriate action to seek to prevent reliance on the auditors report.

SA - 570 (Revised) Going Concern


What do you mean by Going Concern assumption and what is auditors responsibility in relation to it? According to AS-1 Going concern is a fundamental accounting assumption. According to it - The enterprise is normally viewed as a going concern, that is, as continuing in operation for the foreseeable future. It is assumed that the enterprise has neither the intention nor the necessity of liquidation or of curtailing materially the scale of the operations. General purpose financial statements are prepared on a going concern basis, thiat means unless management either intends to liquidate the entity or to cease operations, or has no realistic alternative but to do so, the entity will go on. In India, Section 217(2AA) of the Companies Act, 1956 inter alia requires the directors to make a specific assertion in their Directors Responsibility Statement under this section that the directors had prepared the annual accounts on a going concern basis". Hence, it managements responsibility, to consider going concern assumption at the time of preparing and presenting financial statements. According to SA570(revised ) Auditors objective in relation to going concern are (a) To obtain sufficient appropriate audit evidence about the appropriateness of managements use of the going concern assumption in the preparation and presentation of the financial statements; (b) To conclude, based on the audit evidence obtained, whether a material uncertainty exists related to events or conditions that may cast significant doubt on the entitys ability to continue as a going concern; and

(c) To determine the implications for the auditors report. What are the steps involved in considering the Going Concern Assumption during an audit ? Step-1 :- Enquiry with management:- the auditor shall determine whether management has already performed a preliminary assessment of the entitys ability to continue as a going concern, and If management has identified events or conditions that, individually or collectively, may cast significant doubt on the entitys ability to continue as a going concern what are managements plans to address them; If management is assured about the going concern the auditor shall evaluate managements assessment of the entitys ability to continue as a going concern. Step-2 When events or conditions have been identified that may cast significant doubt on the entitys ability to continue as a going concern :- In such case the auditor shall obtain sufficient appropriate audit evidence to determine whether or not a material uncertainty exists through performing additional audit procedures, including consideration of mitigating factors. These procedures shall include: (a) Auditor shall request management to make its assessment about the going concern . (b) Auditor shall evaluating managements plans for future actions in relation to its going concern assessment, whether the outcome of these plans is likely to improve the situation and whether managements plans are feasible in the circumstances. (c) When the entity has prepared a cash flow forecast, and analysis of the forecast is a significant factor in considering the future outcome of events or conditions in the evaluation of managements plans for future action : (i) Evaluating the reliability of the underlying data generated to prepare the forecast; and (ii) Determining whether there is adequate support for the assumptions underlying the forecast. (d) Considering whether any additional facts or information have become available since the date on which management made its assessment. (e) Requesting written representations from management or, where appropriate, those charged with governance, regarding their plans for future action and the feasibility of these plans. Step-3 Audit Conclusions and Reporting Case-1 Use of Going Concern Assumption Appropriate but a Material Uncertainty Exists :- In such case auditor will require a proper disclosure in the financial statement about such uncertainty. The determination of the adequacy of the financial statement disclosure may involve determining whether the information explicitly draws the readers attention to the possibility that the entity may be unable to continue realising its assets and discharging its liabilities in the normal course of business. If such disclosure is made auditor will issue an unqualified opinion but he is required to imphasize the matter. On the other hand if above required disclosure of Material Uncertainty Is Inadequate- auditor will qualify his audit report and if appropriate an Adverse opinion can be given Case-2 Use of Going Concern Assumption Inappropriate If the financial statements have been prepared on a going concern basis but, in the auditors judgment, managements use of the going concern assumption in the financial statements is inappropriate, the auditor shall express an adverse opinion , regardless of whether or not the financial statements include disclosure of the inappropriateness of managements use of the going concern assumption. But if management discloses the fact and prepare the financial statement on liquidation basis ( bringing all the assets and liabilities to realizable value) , the auditor may be able to express an unmodified opinion on those financial statements, provided there is adequate disclosure therein but may consider it appropriate or necessary to

include an Emphasis of Matter paragraph in the auditors report to draw the users attention to that alternative basis and the reasons for its use. Step -4 Communication with Those Charged with Governance :- Unless all those charged with governance are involved in managing the entity, the auditor shall communicate with those charged with governance events or conditions identified that may cast significant doubt on the entitys ability to continue as a going concern. Such communication with those charged with governance shall include the following: (a) Whether the events or conditions constitute a material uncertainty; (b) Whether the use of the going concern assumption is appropriate in the preparation and presentation of the financial statements; and (c) The adequacy of related disclosures in the financial statements.

SA 580 (Revised) - Written Representations


Q. What do you mean by written representation? Written representations A written statement by management provided to the auditor to confirm certain matters or to support other audit evidence. Written representations in this context do not include financial statements, the assertions therein, or supporting books and records. Q.What is Objective of Auditor defined for the purpose of this SA? According to SA 580 (R) auditors objective is (a) To obtain written representations from management that management believes that it has fulfilled the fundamental responsibilities that constitute the premise on which an audit is conducted; (b) To support other audit evidence relevant to the financial statements or specific assertions in the financial statements by means of written representations, if determined necessary by the auditor or required by other SAs; and (c) To respond appropriately to written representations provided by management or if management does not provide the written representations requested by the auditor. Q. To What extent an auditor can use these representations as sufficient and appropriate audit evidences? According to SA280 written representations provide necessary audit evidence, they do not provide sufficient appropriate audit evidence on their own about any of the matters with which they deal. Furthermore, the fact that management has provided reliable written representations does not affect the nature or extent of other audit evidence that the auditor obtains about the fulfillment of managements responsibilities, or about specific assertions. Q. What considerations are required while obtaining written representations from Management? According to SA580 A . WR ABOOUT MANAGEMENTS RESPONSIBILITIES:- Auditor shall obtain WR in relation to following from management that :1. It has fulfilled its responsibility for the preparation and presentation of the financial statements as set out in the terms of the audit engagement and, in particular, by complying with the applicable financial reporting framework.

2. it has provided the auditor with all relevant information agreed in the terms of the audit engagement, and that all transactions have been recorded and are reflected in the financial statements. B. WR IN ADDITION TO REQUIRED BY ANOTHER SA:- Auditor may obtain if necessary WR from management over and above requirement of any other SA If, the auditor determines that it is necessary to obtain one or more written representations to support other audit evidence relevant to the financial statements / one or more specific assertions in the financial statements. C. DATE OF WR :-The date of the written representations shall be as near as the date of audit report but in no case after the date of the auditors report on the financial statements. It should be kept in mind that auditor shall take written representations for all financial statements and period(s) referred to in the auditors report. D.FORM OF WR:- The written representations shall be in the form of a representation letter addressed to the auditor. If law or regulation requires management to make written public statements about its responsibilities, and the auditor determines that such statements fulfils auditors requirement he need not required to take separate representation letter. E.AUDITORS DOUBT ON MANAGEMENT:- If the auditor has worry about the competence, integrity, ethical values or diligence of management, or about its commitment to or enforcement of these, the auditor shall evaluate that such worries may have effect on the reliability of representations (oral or written) and audit evidence in general. F.EVALUATION OF WR WITH OTHER AUDIT EVIDENCES:- Auditor shall evaluate the WR in the light of other audit evidences and if written representations are inconsistent with other audit evidence, the auditor shall perform audit procedures to attempt to resolve the matter. If the matter remains unresolved, the auditor shall reconsider the the reliability of representations (oral or written) and audit evidence in general. G.WR FOUND UNRELIABLE:- If the auditor concludes that the written representations are not reliable, the auditor shall take appropriate actions, including determining the possible effect on the opinion in the auditors report appropriate opinion (qualified or adverse). H.LIMITATION ON SCOPE:- . If management does not provide one or more of the requested written representations, the auditor shall: (a) Discuss the matter with management; (b) Re-evaluate the integrity of management and evaluate the effect that this may have on the reliability of representations (oral or written) and audit evidence in general; and (c) Take appropriate actions, including determining the possible effect on the opinion in the auditors report . I. AUDITORS DISCLAIMER: - The auditor shall disclaim an opinion on the financial statements if: (a) The auditor concludes that there is sufficient doubt about the integrity of management and that the written representations required are not reliable; or (b) Management does not provide the written representations