1.0
INTRODUCTION
Auditing is a process
of examining and reviewing the accounting transactions in order
to give assurance that the financial statements present the financial
position of the firm fairly, as at a particular period.
We can also refer to
auditing as attestation to the true and fair view of financial statements
of a business.
The relevance of auditing in the business world of
today needs no emphasis as the solution to the
problem of
credibility in reports and accounts lies in appointing an independent person,
called an auditor, to examine and report on his findings.
The purpose of this note
is to give you an overview of auditing with emphasis on the meaning, nature and
origin of audit, types, purpose and advantages of audit, distinction between
accounting and auditing, as
well as the
development and growth of auditing in Nigeria. In addition, the qualities of a
good auditor and the components of financial statements will be discussed.
2.0
OBJECTIVES
At the end of this note,
you should be able to:
· define
auditing and explain its nature and origin
· identify
the types, purpose and advantages of audit
· distinguish
between accounting and auditing
· trace
the development and growth of auditing in Nigeria
· enumerate
the qualities of a good auditor
· identify
the components of financial statements.
3.0
MAIN CONTENT
3.1
Meaning, Nature and Origin of Audit
3.1.1
Meaning of Auditing
According to Messier
(1999), “Auditing is a systematic process of objectively obtaining and
evaluating evidence regarding assertions about economic actions and events to
ascertain the degree of correspondence
between those
assertions and established criteria and communicating the
results to interested
users”.
Wikipedia (2006),
defines audit as an evaluation of an organization, system, process, or product.
It is performed by competent, objective, and unbiased persons, known as
auditors.
The American
Accounting Association (AAA,1973), in a study entitled, "A Statement of
Basic Auditing Concepts”, defined auditing as, "A systematic process of
objectively obtaining and evaluating evidence
regarding assertions
about economic actions and events; to ascertain the degree of correspondence
between those assertions and established criteria and , communicating the results
to interested users."
From the above, one
can deduce that auditing is an independent examination of, and the expression
of opinions, on accounts of a business (be it a sole proprietorship,
partnerships, company or public
enterprises) as
presented by the management by a duly appointed auditor in pursuance of that
appointment, and in keeping with the relevant legislations and other
requirements whether in his opinion the accounts show:
(a) a true and fair
view of the state of affairs of the business;
(b) that the accounts
have been properly prepared and are in accordance with the provisions of the
Companies and Allied Matters Act (CAMA) of 1990 as amended.
3.1.2
Nature of Auditing
The auditor must
consider and report on the followings.
(a) Whether proper
accounting records have been kept by the business in the opinion of the
auditor. These records must include:
(i) a record of
purchases and sales of goods in sufficient details to identify the goods and
their sellers and buyers (except in normal retail trade).
(ii) day-to-day
payments and receipts of cash.
(iii) details of
assets and liabilities.
(iv) statement of
stock and supporting stocktaking schedule.
(b) Whether proper
returns adequate for audit purposes, have been received from branches not
visited by them.
(c) Whether profit
and loss accounts and balance sheet are in agreement with the other records.
(d) Whether he has
received all information and explanations for the
purpose of his audit.
In consideration of
the above, essentially, the main function of an auditor is to express an
opinion on the truth and fairness of the accounts laid before him and not the
detection of fraud and errors which are
essentially
secondary.
3.1.3
Origin of Auditing
Prior to the medieval
times, auditing was referred to as a process of public hearing in which
financial statements or financial records were read aloud. The auditor was
referred to as someone who has sole
authority to hear and
comment on the readings.
In medieval times,
audit was made to determine whether the persons in positions of fiscal
responsibilities in governments were acting and reporting in good faith or in
an honest manner.
However, auditing has
taken a new dimension in our society today, and it will continue to be improved
upon as a result of growth and expansion
of businesses.
3.2
Types, Purpose and Advantages of Audit
3.2.1
Types of Audit
Basically, there are
two types of audit, and these are:
i. statutory audit
ii. non-statutory
audit.
(a)
Statutory audit
This is an expression
of an opinion on the financial statements by an independent chartered
accountant. This is governed by the provisions of the Companies and Allied
Matters Act of 1990.
It states that “the
financial statements are true and fair”. It is referred to as statutory because
it is an audit required by law, and is conducted under the terms set out by the
legal regulations.
(b)
Non-statutory audit
This can be
classified under the following.
(i)
Operational audit
This is referred to
as internal audit, which purpose is to assess management’s effectiveness in
achieving the organizational goals and objectives.
It deals with
evaluation of compliance with some set of specifications.
(ii)
Pre-audit
Also known as
administrative audit, this speaks to an examination of financial transactions
prior to their completion.
(iii) Post audit
This covers financial
transactions that have been fully completed at the end of an accounting period.
(iv)
General audit
General audit covers
all financial transactions and records of a government note, and is made after
the close of financial period.
(v)
Special audit
This is an audit that
is restricted to some segments of the note’s financial transactions.
(vi)
Limited audit
This is one in which
the mathematical accuracy, legality, propriety and completeness of a governmental
note’s financial transactions were determined by examining only a sample of
selected transactions.
(vii)
Complete audit
Complete audit is
also referred to as general audit. It is an examination of the details of all
financial transactions by a governmental note during an account period.
3.2.2
Purpose of Audit
Scott (2003), stated
that the purpose of audit is to verify that the subject
of the audit was
completed or operated according to approved and
accepted standards,
statutes, regulations, or practices. It also evaluates
controls to determine
if conformance will continue. Auditing is a part of
some quality control
certifications such as ISO 9000. Audit evaluates
conformance now and
in the future. An inspection evaluates
conformance in the
past. Both are important parts of management.
Basically, the
purpose of audit includes the following:
(a) the expression of
an opinion on the financial statements to show
whether the
statements are true and fair as required by the CAMA
of 1990.
(b) to give
credibility on the statements audited in accordance with
the terms of the
auditor’s appointment.
(c) to produce a
report.
However, the
following can be regarded as secondary purposes:
(a) to detect errors
and fraud.
(b) to prevent errors
and fraud.
3.2.3
Advantages of Audit
Let us highlight the
advantages of audit as follows:
(a) gives
confirmation of the actual financial position of the
organization being
audited;
(b) gives credibility
to the financial statements;
(c) makes it easy to
negotiate for insurance claims;
(d) brings up-to-date
the financial records of an organization;
(e) reveals some of
the internal control weaknesses;
(f) gives assurance
to shareholders and users of financial statements
that the accounts are
true and fair;
(g) ensures that
accounts are produced according to the best
practices;
(h) helps to improve
the system of internal control;
(i) applications for
loans are greatly enhanced if supported by
audited accounts;
(j) facilitates the
admission of new partners into a business.
3.3
Distinction between Accounting and Auditing
Here, let us attempt
to differentiate between accounting and auditing
based on their
specific concerns and requirements.
The above
distinctions notwithstanding, it is necessary to find out where
accounting ends and
where auditing begins. Strictly speaking, an
auditor can only
commence auditing when necessary accounting work
had been completed.
In practice, however,
especially in the case of non-statutory and small
company clients, the
distinction between auditing and accounting work
is not clearly
appreciated. The confusion usually arises between the
bookkeeping and
accounting capabilities of those individuals who run
small businesses, and
it is always tempting to the auditor to complete the
preparation of the
accounts which is not part of his work. Accountancy
work is clearly
different from auditing, and when the two are undertaken
by the same person,
integrity of records is put in doubt.
It has been viewed,
and strongly too, that an independent audit is
impossible if the
auditor has been very well involved in the preparation
of the accounts
audited. A separate fee for each is normally negotiated
when an accountant
undertakes both the accounts and audit work.
3.4
Development and Growth of Auditing in Nigeria
In Nigeria, the
Institutions of Public Auditors was established in 1888.
Until 1910, history
has it that it remained a part of the Noteed
Kingdom’s
Auditor-General’s office. The control of the office passed
on to the Colonial
Office. It was from the Colonial Audit Department
that the Federal
Audit Department grew.
The then Controller
of Audit (now Auditor-General) was given the
discretion to accept
as correct, vouchers which had been examined and
certified correct by
the Audit Department, and the audit took the form of
an examination of the
system of departmental internal control together
with test-checks to
ascertain the level of efficiency and dependence.
From 1956, the audit
of most public accounts in Nigeria became the
responsibility of the
Director of Audit. Also, in 1956, the first state
authority for audit
came with the publication of the Audit Ordinance.
The Ordinance was
superseded by the constitutional provisions when
Nigeria became
independent in 1960.
The growth of audit
in the private sectors arose as a result of the
formation of the
Institute of Chartered Accountants of Nigeria (ICAN)
by the Parliamentary
Act of 1965, the requirements of the then
Companies Decree of
1968 (now CAMA of 1990 with amendments) as
well as the Income
Policy Guidelines of 1987, that is, the Productivity,
Prices and Income
Board Guidelines (PPIBG).
Under the CAMA of
1990 (as well as the Companies Decree of 1968),
every public limited
liability company is required by law to have its
financial records
audited by external auditors annually. Today,
therefore, the
following have made impact on the growth and
development of audit
in Nigeria.
(a) The
activities/relevance of professional accounting bodies,
notably, ICAN (The
Institute of Chartered Accountants of
Nigeria) and ANAN
(Association of National Accountants of
Nigeria);
(b) The relevant
provisions of the law (CAMA, 1990 etc.);
(c) Stipulations and
adherence to the relevant statement on auditing
standards.
3.5
Qualities of a Good Auditor
In fact, the word
“audit” is a Latin word which means “to hear”. The
word was derived in
this way because in the ancient time, the accounts
of an estate were
checked by having them read out by those who had
compiled them to
those in authority. At that time, the auditor’s
objective was merely
to ascertain the correctness of the sums of money
received and
expended.
In those days, the
basic qualification for the position of an auditor was
his reputation. A
person was known for his integrity and independence
of mind, and the
matter of technical ability was entirely secondary.
Today, however, the
position is reversed: the auditor must be a
professionally
qualified individual and one who abides by the code of
conduct of the
professional body.
The ethical guides
that currently regulate audit practice are as follows.
(a) Professional
independence;
(b) Competence;
(c) Confidentiality;
(d) Morality involved
in determining fees and restriction of
competition among
members.
3.5.1
Professional Independence
Professional
independence is essentially an attitude of the mind
characterized by
integrity and objective approach to professional work.
An auditor is
expected to check the work of others and to express his
opinion thereon.
Therefore, it is necessary that he is independent of
those who appointed
him.
In auditing,
therefore, independence means the possession of integrity,
ability to be
self-reliant and honest, freedom from bias and the
avoidance of
relationships which, to a reasonable observer, would
suggest a conflict of
interest on the auditor’s part. It also means the
avoidance of any
relationship which might impair the auditor’s
objectivity in
expressing his opinion. In a nutshell, the auditor must
have the independence
of mind. He must not only be independent, he
must be seen to be
independent.
However, situations
can arise that may lead to a loss or impairment of
the auditor’s
independence. Let us note that there are significant
relationships which
can appear to compromise an auditor’s
independence. These
are as follows.
(i) Shareholding in a client’s company.
(ii) Making of loans
to, or by clients.
(iii) Presence of
personal ties or blood relationships in the company
being audited.
(iv) Involvement in a
managerial capacity in the client’s business.
(v) Provision of a
number of services to the same client.
3.5.2
Competence
This is the
application of technical knowledge. It is the ability to apply
knowledge to a
particular engagement, supervise and evaluate the work
performed by the
staff members. The auditor must observe the
profession’s general
technical standards and endeavor to improve
competence and the
quality of services. The confidence of the public in
his work depends on
his competence.
3.5.3
Confidentiality
An auditor should
respect the confidentiality of information of his client
and should not
disclose any such information to the third party without
permission from his
client unless:
(i) he knows or
suspects his client to have committed the offence of
treason or
treasonable felony when the duty to disclose is
obligatory.
(ii) the disclosure
is reasonably necessary to protect the interest of
members (of the
professional body).
(iii) he is required
to disclose by due legal process or the interest of
the public by the
order of a court.
3.5.4
Components of Financial Statements
Today, through the
process of stewardship accounting, whereby the
managers of a
business account or report to the owners of the business,
financial statements
are produced. Financial statements can take many
forms. The best known
are the profit and loss accounts and the balance
sheets of businesses.
In the specific case
of limited liability companies, financial statements
are produced annually
and take the form of an ‘Annual Report and
Accounts’ which
include: a profit and loss account and balance sheet, as
well as other
statements including the director’s report and a cash flow
statement.
Summarily, the
components of financial statements are as follows:
(i) Balance sheet –
shows assets and liabilities of a business;
(ii) Profit and loss
accounts – shows whether the business is making
profit or loss;
(iii) Statement of
sources and application of funds – shows the
financing activities
represented as inflows of funds or sources of
funds, and investing
activities as outflows of funds or uses of
funds;
(iv) Notes to the
accounts – shows explanatory notes to figures in the
financial statements;
(v) Value-added
statement – represents additional wealth created and
its allocation
between employees, government and re-investment
for the future;
(vi) Historical
financial summary – summarizes major financial
figures on the
audited accounts.
4.0
CONCLUSION
Auditing is
systematic. It has techniques that you need to be conversant
with in order to
function effectively as an auditor. Professional
independence,
competence and confidentiality are ethical values of an
auditor. The overview
of auditing, as you have seen in this note, will
serve as a
springboard for the study of the entire course.
5.0
SUMMARY
In this note, you
have been able to have an overview of auditing. You
are now conversant
with the meaning, nature and origin of auditing.
You have learnt the
types, purpose and advantages of audit. Also, you
can now distinguish
between accounting and auditing – while
accountants balance
the books and prepare financial statements, auditors
express opinion as to
the truth and fairness of financial statements.
In addition, you are
now familiar with the development and growth of
auditing in Nigeria,
where it was seen that the formation of professional
accounting bodies had
contributed so much to the growth and
development of
auditing.
Finally, you can now
identify the qualities a good auditor should
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