DOCUMENTATION

The skill of an accountant can always be ascertained by an inspection of his working

papers.Robert H. Montgomery, Montgomerys Auditing, 1912
Meaning of Documentation
The word document is used to refer to a written or printed paper that bears
the original, official, or legal form of something and can be used to furnish decisive
evidence or information. Documentation refers to the act or an instance of the
supplying of documents or supporting references or records.
Documentation refers to the working papers prepared or obtained by the
auditor and retained by him, in connection with the performance of the audit.
Concept of Internal Audit
Internal audit is a review of operations and records undertaken within a business
by specially assigned staff. It is a post-transaction review to evaluate the correctness of
records and the effectiveness of operations on a continuous basis in an organization by
the paying staffs. The term 'internal audit' has been defined as the independent
appraisal of activity within an organization for the review of accounting, financial and
other business practices as a protective and constructive arm of management. It is a
type of control which functions by measuring and evaluating the effectiveness of other
types of controls. Internal audit deals primarily with accounting and financial matters,
but it may also properly deal with matters of an operating nature.
The work of internal auditor is more or less the same as that of external or
professional auditor. Being the employee of the organization, s/he has to see that there
is no waste and inefficiency in the organization. An auditor has to ensure that the
organization incurs liabilities in respect of its valid and legitimate activities. S/he has to
make efforts to find out the weakness of the internal control and internal check system
followed in the organization and suggest necessary improvements.
Many large organizations have a system of internal audit within the organization
as a integral part of internal control. Internal auditing is a staff function rather than a
line function and the internal auditor does not exercise direct authority over other
persons in the organization.
Objectives of Internal Audit
The objectives of the internal audit can be summarized as follows:
1. To verify the correctness, accuracy and authenticity of the financial accounting and
statistical records presented to the management.
2. To confirm that the liabilities have been incurred by the organization in respect of
its valid and legitimate activities.
3. To comment on the effectiveness of the internal control system and the
internal check system in force and to suggest ways and means to improve these
systems.
4. To facilitate the early detection and prevention of frauds.
5. To examine the protection afforded to company's assets and use of them for
business purpose.
6. To identify the authorities responsible for purchasing assets and other items as well
as disposal of assets.
7. To ensure that the standard accounting practices which have to be followed by the
organization are strictly followed.
8. To undertake special investigation for the management.
9. To assist management in achieving the most efficient administration of the
operation by establishing procedures by complying with company's operating
policies.
Advantages of Internal Audit
The advantages of internal audit are as follows:
1. Staffs remain alert because their work shall be checked by the internal auditor.
So, accountingremains correct.
2. Internal audit helps to detect errors and frauds and provides suggestions to improve
them which helps the management to take corrective action.
3. Internal audit detects the misuse of resources in time which helps to reduce
unnecessary expenses.
4. Internal audit checks the efficiency of staffs which helps to increase the efficiency of
them.
5. Internal audit checks the books of accounts, detects errors and frauds and helps in
its correction which makes the act of final auditor easier.
6. Internal audit increases the morale of honest staff because evaluation of
performance of any staffs will be made at any time.
AUDIT SAMPLING
The process of using auditing procedures to test less than 100% of various items
in a companys account balance such that each unit may have an equal opportunity of
being selected. It is used to conduct test of control and substantive test.
Need and Importance of Sampling
The need for audit sampling arises from
The increasing complexities in business,
Auditors time involved and
The volume of transactions involved in the business
The purpose of audit sampling is
to obtain an evidence,
to detect an error and any material misstatement,
to show or as a prove that auditor has done his work,
to fulfill the audit objectives set by the auditor
Audit Sampling
To summarize:
Audit sampling is defined as applying an audit procedure to less than 100
percent of the items in a population to make some conclusion about that
population.
Auditors may use statistical or non-statistical sampling to perform tests of
controls or substantive tests. Statistical sampling allows the auditors to measure
and control sampling risk. Sampling risk is the risk that the auditors will make an
incorrect conclusion from the sample results because the sample is not
representative of the population.
The major type of statistical sampling plan for tests of controls is attributes
sampling, which can provide the auditors with an estimate of the extent of the
deviations from a prescribed internal control policy or procedure.
The two aspects of sampling risk for tests of controls include the risk of assessing
control risk too high, which relates to the efficiency of the audit, and the risk of
assessing control risk too low, which is critical because it relates to the
effectiveness of the audit.
The major factors that affect the required sample size for an attributes sample
are the risk of assessing control risk too low, the tolerable deviation rate, and
the expected deviation rate in the population.
The two aspects of sampling risk for substantive tests include the risk of incorrect
rejection and the risk of incorrect acceptance. The risk of incorrect acceptance is
the critical risk, because if the auditors accept a materially misstated account
balance, they may issue an inappropriate audit opinion.
When a classical variables sampling plan is used, the required sample size is
determined by the risk of incorrect acceptance, the risk of incorrect rejection, the
amount of tolerable misstatement for the account, and the standard deviation of
the items in the account.
Classical variables sampling methods include mean-per-unit estimation,
difference estimation, and ratio estimation.
In evaluating the results of a classical variables sampling plan, the auditors
compute an acceptance interval; if the client's book value falls within the
interval, it is accepted as being materially correct. Otherwise, the auditors
generally must perform additional testing to determine whether the client's
balance is actually misstated or the sample was not representative. 10. Many
CPA firms use structured approaches to nonstatistical sampling for substantive
tests. Such approaches increase the consistency of sampling decisions by various
staff members within the firms.
Consideration for Designing of the Sample
The following should be considered in the design of the sample.
1. Audit Objectives
2. Population
3. Stratification
4. Sample Size
5. Sampling Risk
1. Audit objectives: The specific audit objectives and audit procedures to accomplish
those objectives should be determined.
2. Population: The population is the entire set of data from which the auditor wishes
to sample in order to reach a conclusion. The auditor will need to determine that
the population from which the sample is drawn is appropriate for the specific audit
objective.
For example, if the auditors objective were to test for overstatement of
accounts receivable, the population could be defined as accounts receivable testing.
On the other hand, when testing for understatement of accounts payable the
population would not be the accounts payable listing, but rather subsequent
disbursements, unpaid invoices, suppliers statements, unmatched receiving reports
or other populations that would provide audit evidence of understatement of
accounts payable.
3. Stratification: Stratification is the process of dividing a population into
subpopulations, each of which is a group of sampling units, which have similar
characteristics
The strata need to be explicitly defined so that each sampling unit can belong
to only one stratum. This process reduces the variability of the items within each
stratum. Stratification therefore, enables the auditor to direct audit efforts towards
the items which for example contain the greatest potential monetary error.
For e.g. the auditor may direct attention to larger value items for accounts
receivable to detect overstated material misstatements.
4. Sample Size: While determining the sample size the auditor should consider
sampling risk the tolerable error and the expected error.
Sampling size is affected by the level of sampling risk the auditor is willing to
accept from the results of the sample. The lower the risk the auditor is willing to
accept, the greater the sample size will need to be
5. Sampling Risk: It arises from the possibility that the auditors conclusion, based on a
sample, may be different from the conclusion that would be reached if the entire
population were subjected to the same audit procedure.
 Techniques for Audit Sampling
There are certain important sampling techniques that can be adopted by an
auditor. These include:
Haphazard sampling
The haphazard sampling technique is the one adopted by the auditor in cases
where the sample does not follow a structured technique. Haphazard sampling is,
however, not appropriate during the use of statistical sampling. Besides, it is also
important for the auditor to always ascertain that haphazard sampling is not
doctored in a way that by design avoids sampling items which, for instance, are
difficult to locate. All items in the population should get a chance of being selected.
Stratified sampling
This sampling technique involves the auditor to split items included in a sample
into their different sections. For instance, in a payroll sample the auditor might divide
the sample in full-time males, full-time females, part-time males, and part-time females
thus working out the percentage of sections in the population.
Systematic sampling
The systematic sampling is also referred as interval sampling. This sampling
technique involves the auditor to take the number of sampling units in the population
and segregate this into the sample size so as to provide a sampling interval. In a sales
invoice, for example, where the sampling interval is 25, the auditor will determine an
initial point for sampling and subsequently sample every 25th sales invoice.
Block sampling
Block sampling is a sampling technique wherein the auditor applies measures to
such items which occur in the same block of sequence or time. However, the block
sampling technique should be used with caution as valid references cannot possibly be
made beyond the examined period or block.
Judgment
This sampling technique allows the auditor to use his judgment in making
selection of samples. The basic issues influencing the selection of sample are:
value of the items
relative risk involved
representativeness of the sample
Selection of Sample
The selection of sample items should be in such a way that it can be expected to
be representative of the population. This requires that all items in the population have
an opportunity of being selected.
Following are the five methods of sample selection
Five Methods of Audit Sampling Selection:
1. Random Selection: It is the type of sampling that provides an equal chance of
selection to all items or units in the total population. Random number tables are
used for selection. For example, out of 10000 items, 50 items should be
selected. The range will be fixed based on the characteristic of sample to be
tested. Out of the range, either by using software or random number tables, the
50 items will be selected. This kind of selection could use in excel or others
generating tool.
2. Systematic Selection: It is also called as interval sampling. It involves selecting
sample items using a constant interval between selections, the first interval
having a random start. For example, assume that a sample size (n) of 50 items of
retail inventory are to be selected from a population (N) of, say, 600 items. The
sampling interval is equal to N/n or 12. The first item chosen in the population is
determined by reference to random number tables (based on the first random
number selected between 1 and 12) and then after that, every 12th item is
selected
When using systematic selection, auditors must ensure that the population
is not structure in such a manner that the sampling interval corresponds with a
particular pattern in the population.
3. Haphazard Selection: The sample is selected haphazardly. No systematic
procedures are applied while selecting sample e.g. Play-win Lottery.
Haphazard selection may be an alternative to random selection provided
auditors satisfy that the sample is representative of the entire population. This
method requires care to guard against making a selection which is biased.
4. Block selection: maybe use to check whether certain items have particular
characteristics. For example, an auditor may use a sample of 50 consecutive
cheques to test whether cheques are signed by authorized signatories rather than
picking 50 single cheques throughout the year. Block sampling may; however,
produce samples that are not representative of the population as a whole,
particularly if errors only occurred during a certain part of the period, and hence
the errors found cannot be projected onto the rest of the population.
5. Monetary Unit Sampling: is a type of value-weighted selection in which sample
size, selection and evaluation results in a conclusion in monetary amounts.
Monetary unit sampling is the kind of systematic audit sampling.
Methods of Audit Sampling
Statistical Sampling
Random Sampling-selecting items from the population so that each item has an
equal chance of being selected.
 Systematic Sampling-selecting everynth item from the population after a random
start.
Non-Statistical Sampling
Haphazard Sampling -selecting items from the population without consideration to
known characteristics of the items in the population (i.e. any conscious bias in the
selection of population items).
Block Sampling-selecting items from the population in contiguous groups (or
blocks).
Directed Sampling-selecting items from the population using some pre specified
criteria (i.e., selecting accounts receivable for confirmation based on amount of
outstanding)
TEST CHECK
Big business houses have a lot of transactions. So, it is very difficult to check all
the transactions in detail. An auditor needs to prepare and present report in short
period of time. So, an auditor checks the sample transactions and prepares and
presents report to the concern authority which is known as 'Test Check'.
Test checking in Audit means checking a few transactions selected at random
from a large number of transactions. It is also known as Selective Verification or
Sampling Process.
It is a substitute for detailed checking. It involves only a partial checking. It is
based on a simple theme that
If a representative number of transactions, randomly selected by the
auditor for test checking is found to be correct, the rest might be correct
too.
In simple words in test checking a representative number of entries in the the
books of accounts of a particular time or area or class is selected and checked and, if
they are found correct, the remaining entries are also taken to be correct. If there is
any doubt, auditor checks in detail.
But if any errors or frauds are left out due to random sampling, auditor will be
responsible for such losses. So, an auditor applies test check if internal check is effective
in the organization.
Adoption of test checking methods by auditors
The decision to adopt testing methods depends entirely on the auditors
judgement and discretion depending on the individual cases and circumstances.
Test checking should be applied and carried out intelligently and carefully;
otherwise, it may lead to dangerous consequences. However, the use of test checking
depends much upon the system of internal check in operation and the intelligence of
the auditor.
Safeguards/consideration for the Application of Test Checking
While applying test checks the auditor should take the following precautions:
1. As far as possible sample transactions should be selected from every book.
2. The selection of transactions should be so distributed that the work of almost all the
clerks of the client is checked.
3. The items should be selected at random.
4. As fraudulent manipulations are common during the first and last months of the
period under audit, the entries made during these periods should be checked
thoroughly.
5. Cash book and pass book should be checked thoroughly.
6. The auditor should select the transactions on his own. He should not consult the
staff of the client while selecting the transactions.
If the auditor exercises the above safeguards with care and caution, the results
are bound to be encouraging and satisfactory.
Advantages of Test Checking
Test checking enjoys the following advantages:
1. It saves time and energy.
2. If the selection of transactions is done intelligently, test checking is useful and
purposeful.
3. The volume of work is reduced. So the auditor can carry on many audit
simultaneously.
4. It helps the auditor to arrive at a definite conclusion in regard to the true and fair
view of the state of affairs of the concern.
5. It helps in reducing the cost of audit.
Disadvantages of Test Checking
Test checking suffers from the following disadvantages:
1. It is not possible to detect all the errors and fraud.
2. The clerks of the client may become careless because they know that their work will
not be checked in detail.
3. Under test checking, although the auditor checks the whole of the work through
test checking, suspicion and doubt will remain in his mind.
4. It is of no use if proper and effective systems of internal checks and controls are not
being adopted in business.
5. It is not suitable for small business concerns.
Difference between Guarantee and Warranty
The market is flooded with millions of products, of same nature, type, size and
quality, which make it hard to pick one product over the other. As a buyer, you can
specify the product of your choice by setting a standard for the manufacturing entities.
In this context, the term warranty is quite commonly used. It implies a formal
assurance given to the customer about the state of the product are true and declares
that the manufacturer will be responsible for the repair or replacement, if found
defective.
Warranty, is often confused with the term guarantee, which implies a
commitment given by the seller concerning the product quality. The main difference
between warranty and guarantee is that while the former is written, the latter is
implied.
Guarantee Vs Warranty
Comparison Chart
BASIS GUARANTEE WARRANTY
Meaning The guarantee serves as a Warranty is a written assurance
promise made by the that the facts specified in the
manufacturer, to the buyer, that product is true and genuine, but
in case the product below if they are not it will be repaired
quality, it will be repaired, or replaced.
replaced or the money deposited
will be refunded.
What is it? Commitment Assurance
Applicable to Product, service and persons. Product only.
Condition May or may not be a condition Subsidiary condition of sale, which
of sale of sale may be expressed or implied.
Validity It can either be oral or written. It is generally written and so it is
easy to prove.
Cost Free of cost The buyer has to pay for
warranty.
Term Varies from item to item Long term
Money back (in Yes No
case of default)
Definition of Guarantee
The guarantee is defined as the promise for the after-sales performance of the
product or service. It expresses that the manufacturer has given promise regarding the
content, quality or performance of the product and in case, the obligation is not
fulfilled then the manufacturer will replace or repair the product or the money paid as
consideration will be refunded. Although, it is valid up to a fixed time only. Guarantee
adds to the rights of the consumer.
 In the contract of guarantee, there are three parties, i.e. surety, the principal
debtor, creditor where the manufacturer acts as a surety, if the performance of the
product is below average.
Definition of Warranty
Warranty is defined as an assurance given by the manufacturer or seller to the
buyer that the specified facts about the product are true. It is a collateral condition to
the main objective of the contract. It specifies that the particular product is up to the
standard, i.e. quality, fitness and performance. It applies to tangible objects like
machines, electronic equipment etc.
In case if the product does not satisfy the set standards, then the manufacturer will
repair it or replace its defective part, or it will be completely replaced. There are two
types of warranty i.e. express or implied.
Key Differences Between Guarantee and Warranty
The major differences between guarantee and warranty are described below:
1. The guarantee serves as a promise made by the manufacturer, to the buyer, that
in case the product is below the specified quality, it will be repaired, replaced or
the money deposited will be refunded. Warranty is a written assurance that the
facts specified in the product are true and genuine, but if they are not it will be
repaired or replaced.
2. The guarantee is a sort of commitment made by the manufacturer to the
purchaser of goods, whereas Warranty is an assurance given to the buyer by
the manufacturer of the goods.
3. Guarantees can be oral or written, where oral guarantees are very hard to
prove. As opposed to warranty, which is usually written and so, it can be
easily proven.
4. The guarantee covers product, service, persons and consumer satisfaction while
warranty covers products only.
5. The guarantee is free of cost. On the other hand, the customer should have to
pay for the warranty to safeguard the interest.
6. A guarantee is comparatively less formal than a warranty.
7. The term of the guarantee varies from item to item. Conversely, the warranty is
for long term or any product or any part of the product.
8. In the case of guarantee, money back is possible, if stated specifically, however,
this is not possible in warranty.
9. A warranty is a subsidiary condition of sale, which may be expressed or implied.
On the other hand, guarantee may or may not be a condition of sale.
Conclusion
After the deep discussion above, we can say that to some extent guarantee and
warranty resemble each other, as they both talk about the performance of the product,
but they are not the same thing.
Difference between Cost Control and Cost Reduction
One of the major concerns of the enterprise is to maximize the profit, which is
possible only through decreasing the cost of production. For this purpose, two efficient
tools are used by the management, i.e. cost control and cost reduction. Cost Control is
a technique which provides the necessary information to the management that actual
costs are aligned with the budgeted costs or not. Conversely, Cost Reduction is a
technique used to save the unit cost of the product without compromising its quality.
While cost control, regulates the action to keep the cost elements within the set
limits, cost reduction refers to the actual permanent reduction in the unit cost. At this
juncture, it would be desirable to know the difference between cost control and cost
reduction, so read out the article.
Content: Cost Control Vs Cost Reduction
Comparison Chart
BASIS FOR COST CONTROL COST REDUCTION
COMPARISON
Meaning A technique used for A technique used to economize
maintaining the costs as per the the unit cost without lowering
set standards is known as Cost the quality of the product is
Control. known as Cost Reduction.
Focus on Decreasing Total Cost Per Unit Cost
Retention of Not Guaranteed Guaranteed
Quality
Nature It is Temporary in nature It is Permanent in nature
Emphasis on Past and Present Cost Present and Future Cost
Ends when Pre-determined target achieved. No end
Type of function Preventive Corrective
Key Differences between Cost Control and Cost Reduction
The following are the major differences between Cost Control and Cost
Reduction:
1. The activity of maintaining cost as per the established norms is known as cost
control. The activity of decreasing per unit cost by applying new methods of
production in such a way that it does not affect the quality of the product is known
as cost reduction.
2. Cost Control focuses on decreasing the total cost while cost reduction focuses on
decreasing per unit cost of a product.
3. Cost Control is temporary in nature. Unlike Cost Reduction which is permanent.
4. The process of cost control is completed when the specified target is achieved.
Conversely, the process of cost reduction has no visible end as it is a continuous
process that targets for eliminating wasteful expenses.
5. Cost Control does not guarantee quality maintenance. However, 100% quality
maintenance is assured in case of cost reduction.
6. Cost Control is a preventive function as it ascertains the cost before its occurrence.
Cost Reduction is a corrective action.
Conclusion
The two techniques cost control and cost reduction are used by many
manufacturing concerns to diminish the cost of production. Cost Reduction has a larger
scope than cost control as cost reduction is applicable for all the industries, but cost
control is applicable only to the industries where pre- optimisation of the cost which is
not yet incurred is possible. Cost Control works as a road map for the organisation to
incur costs as per the set standard. On the other hand, cost reduction challenges the
established standards by decreasing the costs and increasing the profit.
Definition of Cost Control
Cost Control is a process which focuses on controlling the total cost through
competitive analysis. It is a practice which works to maintain the actual cost in
agreement with the established norms. It ensures that the cost incurred on an
operation should not go beyond the pre-determined cost.
Cost Control involves a chain of functions, which starts from preparation of the
budget in relation to the operation, thereafter evaluating the actual performance, next
is to compute the variances between the actual cost & the budgeted cost and further,
to find out the reasons for the same, finally to implement the necessary actions for
correcting discrepancies.
The major techniques used in cost control are standard costing and budgetary
control. It is a continuous process as it helps in analysing the causes for variances which
control wastage of material, any embezzlement and so on.
Definition of Cost Reduction
Cost Reduction is a process, aims at lowering the unit cost of a product
manufactured or service rendered without affecting its quality by using new and
improved methods and techniques. It ascertains substitute ways to reduce the cost of a
unit. It ensures savings in per unit cost and maximisation of profits of the organisation.
Cost Reduction aims at cutting off the unnecessary expenses which occur during
the production, storing, selling and distribution of the product. To identify cost
reduction, the following are the major elements:
Savings in per unit cost.
No compromise with the quality of the product.
Savings are non-volatile in nature.
Tools of cost reduction are Quality operation and research, Improvement in
product design, Job Evaluation & merit rating, variety reduction, etc.