LECTURE 1:

INTERNATIONAL AUDITING OVERVIEW

Learning objectives
After studying this lecture, students should be able to:
 Understand the basic definition of auditing in an international
context.
 Differentiate the different types of audits.
 Distinguish between the types of auditors
 Name the standards set by International Auditing and Assurance
Standards Board.
 Give the components of the audit process model.

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 1.1. THE IMPORTANCE OF AUDITING

 Investors and creditors may have different objectives than

management
=> Investors and creditors must depend on fair reporting of the
financial statements.
 To give them confidence in the financial statements, an
auditor provides an independent and expert opinion on the
fairness of the reports, called an audit opinion.
 By the audit process, the auditor enhances the usefulness
and the value of the financial statements, but he also
increases the credibility of other non-audited information
released by management.

1.1. THE IMPORTANCE OF AUDITING

 Currently:
Audit of annual report, financial statements, notes
 Future audit:
• Audit of director’s report on corporate governance
(including effectiveness of internal control systems,
going concern, and adherence to best practice), and
presumably an environmental management report.
• Auditing is spreading to audit of non-financial, textual
and electronic data such as emails, phone messages,
social media, human resources, intellectual capital,
brand valuation and management, and other intangibles.
• Audit of more and more prospective information 4

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 1.2. AUDIT DEFINITION

“An audit is a systematic process of objectively obtaining

and evaluating evidence regarding assertions about
economic actions and events to ascertain the degree of
correspondence between these assertions and established
criteria and communicating the results to interested users.”

1.2. AUDIT DEFINITION

Components of the Audit Definition

 An audit is a systematic approach:

The audit follows a structured, documented plan
(audit plan).
 An audit is conducted objectively:
An audit is an independent, objective and expert
examination and evaluation of evidence. Auditors are fair
and do not allow bias to override their objectivity. They
maintain an impartial attitude.

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 1.2. AUDIT DEFINITION

Components of the Audit Definition (cont.)

 The auditor obtains and evaluates evidence:
The auditor assesses the reliability and sufficiency of the
information contained in the underlying accounting records and
other source data by:
 studying and evaluating accounting systems and internal
controls; and
 carrying out such other tests, inquiries and other verification
procedures of accounting transactions and account balances.
Assertions are representations by management, explicit or
otherwise, that are embodied in the financial statements.

1.2. AUDIT DEFINITION

Components of the Audit Definition (cont.)

 The auditor ascertains the degree of correspondence

between assertions and established criteria:
The audit programme tests most assertions by
examining the physical evidence of documents, confirmation,
inquiry, and observation. The auditor examines the evidence for
the assertion presentation and disclosure to determine if the
accounts are described in accordance with the applicable
financial reporting framework, such as IFRS, local standards or
regulations and laws.

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 1.2. AUDIT DEFINITION

Components of the Audit Definition (cont.)

 The goal, or objective, of the audit is communicating the

results to interested users: The audit is conducted with the
aim of expressing an informed and credible opinion in a
written report.

1.3. General Principles Governing an Audit of Financial

Statements

 Requirements of a Financial Statement Audit

• An auditor is required to comply with relevant ethical

requirements - Code of Ethics for Professional
Accountants issued by IFAC.
• An auditor should conduct an audit in accordance with
International Standards on Auditing.

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 1.3. General Principles Governing an Audit of Financial
Statements (cont.)

 Objective of a Financial Statement Audit

the overall objectives of the auditor are:

• to obtain reasonable assurance about whether the
financial statements as a whole are free from material
misstatement, whether due to fraud or error; and
• to report on the financial statements, and communicate as
required by the ISAs, in accordance with the auditor’s
findings.

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1.3. General Principles Governing an Audit of Financial

Statements (cont.)

 Purpose of a Financial Statement Audit

The purpose of an audit is to enhance the degree of

confidence of intended users in the financial statements.

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 1.3. General Principles Governing an Audit of Financial
Statements (cont.)

 Limitations of the Audit

There are certain inherent limitations in an audit that affect

the auditor’s ability to detect material misstatements.
These limitations result from:
• the use of testing,
• the inherent limitations of any accounting and internal
control system
• the fact that most audit evidence is persuasive rather than
conclusive.
• the work performed by an auditor to form an opinion is
permeated by judgement.
=> an audit is no guarantee that the financial statements are
free of material misstatement. 13

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1.4. TYPES OF AUDIT

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 1.4. TYPES OF AUDIT (Con.t)

 Audits of Financial Statements

 Audits of financial statements examine financial

statements to determine if they give a true and fair
view or fairly present the financial statements in
conformity with specified criteria.
 The criteria may be IFRS, or GAAP in the USA

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1.4. TYPES OF AUDIT (Con.t)

 Operational Audits
• Operational audits review all or part of the organisation’s
operating procedures to evaluate effectiveness and efficiency
of the operation.
+ Effectiveness is a measure of whether an organisation
achieves its goals and objectives.
+ Efficiency shows how well an organisation uses its
resources to achieve its goals.
• Operational reviews may not be limited to accounting. They
may include the evaluation of organisational structure,
marketing, production methods, computer operations or
whatever area the organisation feels evaluation is needed.
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 1.4. TYPES OF AUDIT (Con.t)

 Operational Audits (cont.)

• Recommendations are normally made to management for

improving operations.

• Because the criteria for effectiveness and efficiency are

not as clearly established as accepted accounting
principles and laws, an operational audit tends to require
more subjective judgement than audits of financial
statements or compliance audits.

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1.4. TYPES OF AUDIT (Con.t)

 Compliance Audits
• A compliance audit is a review of an organisation’s procedures
to determine whether the organisation is following specific
procedures, rules or regulations set out by some higher
authority.
• A compliance audit measures the compliance of an entity with
established criteria.
• The performance of a compliance audit is dependent upon the
existence of verifiable data and of recognised criteria or
standards, such as established laws and regulations, or an
organisation’s policies and procedures.
• Results of compliance audits are generally reported to
management within the organisational unit being audited.
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 1.4. TYPES OF AUDIT (Con.t)

Each of these types of audit has a specialist auditor

o Independent auditor is mainly concerned with financial
statement audits,
o Internal auditor concentrates on operational audits, and
o Governmental auditor is most likely to determine
compliance.
However, given information technology developments, the
different processes are becoming more and more integrated,
and as a consequence the split between these categories may
become theoretical.

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1.5. TYPES OF AUDITOR

Independent
Internal Governmental
external
auditors auditors
auditors

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 1.5. TYPES OF AUDITOR

 Internal Auditors

• Internal auditors are employed by individual companies

to investigate and appraise the effectiveness of company
operations for management. Much of their attention is
often given to the appraisal of internal controls.
• A large part of their work consists of operational audits;
in addition, they may conduct compliance audits.

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1.5. TYPES OF AUDITOR

 Internal Auditors (cont.)

• The internal audit department reports directly to the

president or board of directors.
• An internal auditor must be independent of the
department heads and other executives whose work he
reviews.

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 1.5. TYPES OF AUDITOR

 Internal Auditors (cont.)

• Internal auditors have two primary effects on a financial

statement audit:
o Their existence and work may affect the nature,
timing and extent of audit procedures.
o External auditors may use internal auditors to provide
direct assistance in performing the audit. If this is the
case the external auditor must assess internal auditor
competence (education, experience, professional
certification, etc.) and objectivity (organisational
status within the company).

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1.5. TYPES OF AUDITOR

 Independent External Auditor

• Independent auditors have primary responsibility to the

performance of the audit function on financial
statements.
• Independent auditors are typically certified either by a
professional organization or a government agency.

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 1.5. TYPES OF AUDITOR

 Independent External Auditor

Certification of the Auditor

 Certified Public Accountant (CPA)
(E.g. In USA, Australia, Japan, Korea, Malaysia, Malawi, Myanmar,
Philippines, Singapore,…)
 Chartered Accountant (CA)
(E.g. In Canada, the UK, New Zealand, Hungary, India, Jamaica,…)
 Contador Público (CP)
(E.g. Argentina, Brazil, Chile, Columbia…)
 Other titles
(E.g. Licensed Accountant (LA) in Iraq, Sworn Financial Advisor
(SFA) in Turkey…)

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1.5. TYPES OF AUDITOR

 Governmental auditors
• Governmental auditors take both the functions of internal
and external auditor.
• Governmental auditors maintain and examine records of
government agencies and of private businesses or
individuals performing activities subject to government
regulations or taxation.
• Auditors employed through the government ensure
revenues are received and spent according to laws and
regulations.
• They detect embezzlement and fraud, analyze agency
accounting controls, and evaluate risk management.
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 Choose the best response.

One objective of an operational audit is to

A) determine whether the financial statements fairly present
the entity's operations.
B) determine if the auditee is in compliance with GAAP.
C) make recommendations for improving performance.
D) report on the entity's relative success in attaining profit
maximization.

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Choose the best response.

An examination of part of an organization's procedures and

methods for the purpose of evaluating efficiency and
effectiveness is what type of audit?
A) operational audit
B) compliance audit
C) financial statement audit
D) production audit

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 Choose the best response.

An audit to determine whether an entity is following specific

procedures or rules set down by some higher authority is
classified as a(n)
A) audit of financial statements.
B) compliance audit.
C) operational audit.
D) production audit.

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Choose the best response.

In a financial statement audit, the auditor

A) gathers evidence to determine whether the statements
contain material errors or other misstatements.
B) must have a thorough understanding of the entity and its
environment.
C) determines whether the financial statements are stated in
accordance with specified criteria.
D) all of the above.

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 Choose the best response.
Operational audits generally have been conducted by internal
auditors and governmental audit agencies but may be
performed by certified public accountants.
A primary purpose of an operational audit is to provide
(1) a means of assurance that internal accounting controls are
functioning as planned.
(2) a measure of management performance in meeting
organizational goals.
(3) the results of internal examinations of financial and
accounting matters to a company’s top-level management.
(4) aid to the independent auditor, who is conducting the
audit of the financial statements.

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Choose the best response.

Which of the following best describes the operational audit?
(1) It requires the constant review by internal auditors of the
administrative controls as they relate to the operations of
the company.
(2) It concentrates on implementing financial and accounting
control in a newly organized company.
(3) It focuses on verifying the fair presentation of a
company’s results of operations.
(4) It concentrates on seeking aspects of operations in which
waste could be reduced by the introduction of controls.

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 Choose the best response.
Compliance auditing often extends beyond audits leading to
the expression of opinions on the fairness of financial
presentation and includes audits of efficiency, economy,
effectiveness, as well as
(1) accuracy.
(2) adherence to specific rules or procedures.
(3) evaluation.
(4) internal control

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1.6. AUDITING THROUGH WORLD HISTORY

 Scribes (Accountants) of Ancient Times

 Auditors existed in ancient China and Egypt.

 They were supervisors of the accounts of the Chinese
Emperor (King) and the Egyptian Pharaoh.
 The government accounting system of the Zhao (1046–221
BC) dynasty in China included an elaborate budgetary
process and audits of all government departments.

 In Egypt (3000 BC): Egyptian Pharaohs were very severe

with their auditors. Each royal storehouse used two
auditors. One counted the goods when they came in the
door and the second counted the goods after they were
stored.
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 1.6. AUDITING THROUGH WORLD HISTORY (cont.)

 Profit Maximisation and Double Entry

 The attitude of profit maximisation emerged at the end of the
Middle Ages, with the emergence of large merchant houses
in Italy. The system of double entry bookkeeping was first
described in Italy in 1494.
 Modern auditing has its roots in the formation of the modern
corporation at the beginning of the Industrial Revolution..
 In 1853, the Society of Accountants was founded in
Edinburgh.
 Several other institutes emerged in Great Britain, merging in
1880 into the Institute of Chartered Accountants in England
and Wales (ICAEW).
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1.6. AUDITING THROUGH WORLD HISTORY (cont.)

 Economic Conditions for Audit Reports

 Companies across the world experienced growth in technology,
improvement in communications and transportation, and the exploitation
of expanding worldwide markets.
 The result has been the growth of sophisticated securities markets and
credit-granting institutions serving the financial needs of large national,
and increasingly international, corporations.
 The flow of investor funds to the corporations and the whole process of
allocation of financial resources through the securities markets have
become dependent to a very large extent on financial reports made by
company management.
 One of the most important characteristics of these corporations is the fact
that their ownership is almost totally separated from their management
=> Auditing developments
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 1.7. INTERNATIONAL ACCOUNTING AND AUDITING STANDARDS

1.7.1. International Financial Reporting Standards

 International Financial Reporting Standards (IFRS) are the

standards that are applied for financial accounting.
 IFRS were formerly called International on Accounting
Standards (IAS)
 The International Accounting Standards Board (IASB) has
accounting standard setting responsibilities for IFRS.
 The European Union (EU) has agreed to apply most of the
IFRS from 2005.

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1.7. INTERNATIONAL ACCOUNTING AND AUDITING STANDARDS

1.7.2. Auditing Standards Become International

Advantages of International Auditing Standards

 worldwide
 increases confidence in non-domestic investment
 consistent
 international investors comprehend financial statements
from different countries
 high quality
 Non-national standards encourage better quality, less
political influence

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 1.7. INTERNATIONAL ACCOUNTING AND AUDITING STANDARDS

International Auditing and Assurance Standards Board

(IAASB) issues:
 International Standards on Auditing (ISAs) as the standards to be
applied by auditors in reporting on historical financial information.
 International Standards on Assurance Engagements (ISAEs) as the
standards to be applied by practitioners in assurance engagements
dealing with information other than historical financial information
 International Standards on Quality Control (ISQCs) as the
standards to be applied for all services falling under the Standards of
the IAASB, and
 International Standards on Related Services (ISRSs) as the
standards to be applied on related services, as it considers appropriate
 International Standards on Review Engagements (ISREs) as the
standards to be applied to the review of historical financial
information.
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ISAs
100-999 International Standards on Auditing (ISAs)
100-199 Introductory Matters
120 Framework of International Standards on Auditing

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 ISAs
200-299 General Principles And Responsibilities
200 Overall Objective of the Independent Auditor, and the Conduct of
an Audit in Accordance with International Standards on Auditing
210 Agreeing the Terms of Audit Engagements
220 Quality Control for Audit Work
230 Documentation
240 The Auditor’s Responsibility to Consider Fraud and Error in an
Audit of Financial Statements
250 Consideration of Laws and Regulations in an Audit of Financial
Statements
260 The Auditor’s Communication with Those Charged with
Governance
265 Communicating Deficiencies in Internal Control
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ISAs
300-499 Risk Assessment And Response To Assessed Risks
300 Planning
310 Knowledge of the Business
315 Understanding the Entity and Its Environment and Assessing
the Risks of Material Misstatement
320 Materiality in Planning and Performing an Audit
330 The Auditor’s Procedures in Response to Assessed Risks
400 Risk Assessments and Internal Control
401 Auditing in a Computer Information Systems Environment
402 Audit Considerations Relating to Entities Using Service
Organizations
450 Evaluation of Misstatements Identified during the Audit

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 ISAs
500-599 Audit Evidence
500 Audit Evidence
501 Audit Evidence Regarding Specific Financial Statement Account
Balances and Disclosures
505 External Confirmations
510 Initial Engagements—Opening Balances
520 Analytical Procedures
530 Audit Sampling
540 Auditing Accounting Estimates and Related Disclosures (Other than
Those Involving Fair Value Measurements and Disclosures)
545 Auditing Fair Value Measurements and Disclosures
550 Related Parties
560 Subsequent Events
570 Going Concern
580 Management Representations 43

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ISAs
600-699 Using Work Of Others
600 The Audit of Group Financial Statements
610 The Auditor's Consideration of the Internal Audit Function
620 Using the Work of an Auditor’s Expert

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 ISAs
700-799 Audit Conclusions And Reporting
700 The Independent Auditor's Report on General Purpose
Financial Statements
701 The Independent Auditor’s Report on Other Historical
Financial Information
705 Modifications to the Opinion in the Independent Auditor’s
Report
706 Emphasis of Matter Paragraphs and Other Matter(s)
Paragraphs in the Independent Auditor's Report
710 Comparative Information-Corresponding Figures and
Comparative Financial Statements
720 Other Information in Documents Containing Audited Financial
Statements
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ISAs
800-899 Specialized Areas
800 Special Considerations-Audits of Special Purpose Financial
Statements and Specific Elements, Accounts or Items of a
Financial Statement
805 Engagements to Report on Summary Financial Statements

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 ISRE
2000-2699 International Standards on Review Engagements
(ISREs)
2400 Engagements to Review Financial Statements (Previously
ISA 910)
2410 Review of Interim Financial Information Performed by the
Independent Auditor of the Entity

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ISAE
3000-3699 International Standards on Assurance Engagements
(ISAEs)
3000 Assurance Engagements Other Than Audits or Reviews of
Historical Financial Information
3400 The Examination of Prospective Financial Information
(Previously ISA 810)
3402 Assurance Reports on Controls at a Third Party Service
Organization

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 ISRS
4000-4699 International Standards on Related Services (ISRSs)
4400 Engagements to Perform Agreed-upon Procedures Regarding
Financial Information (Previously ISA 920)
4410 Engagements to Compile Financial Information (Previously
ISA 930)

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1.8. STEWARDSHIP, AGENCY AND ACCOUNTABILITY

 Relationship between Directors and Shareholders

Stewardship

Accountability Agency

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  Stewardship
Stewardship is the practice of managing another person's
property.

Directors and other managers of an entity are responsible for

stewardship of the property of that entity, which is owned by
the shareholders.

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Suggest FIVE responsibilities of company

directors?

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 Answer:

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 Agency

An agent is an individual (or another entity) employed or

used to provide a particular service.

The individual using the agent is the principal.

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 Describe the possible agency relationships
between shareholders, directors and
auditors?

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Answer:

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  Accountability
Accountability – where one party is held responsible
(answerable) to another party for its actions.

Agents are accountable to principals.

Management (directors) are agents of shareholders, and

accountable to them.

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1.9. AUDIT PROCESS MODEL

 Phase I - Client Acceptance

 Phase II - Planning
 Phase III - Testing and Evidence
 Phase IV - Evaluation and Judgment

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 Phase I - Client Acceptance
Objective: The client acceptance phase of the audit plan, Phase
I, involves deciding whether to accept a new client or
continue with an existing one.
Procedures:
(1) Evaluate the client's background and reasons for the audit.
(2) Determine whether the auditor is able to meet the ethical
requirements regarding the client.
(3) Determine need for other professionals.
(4) Communicate with predecessor auditor;
(5) Prepare client proposal.
(6) Select staff to perform the audit, and
(7) Obtain an engagement letter.
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Phase II Planning the audit

Objective: Determine the amount and type of evidence and
review required to give the auditor assurance that there is
no material misstatement of the financial statements.
Procedures
(1) Perform audit procedures to understand the entity and its
environment, including the entity’s internal control;
(2) Assess the risks of material misstatements of the financial
statements.
(3) Determine materiality; and
(4) Prepare the planning memorandum and audit program,
containing the auditor’s response to the identified risks.

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 Phase III Testing and Evidence

 Objective: Test for evidence supporting internal controls

and the fairness of the financial statements.
 Procedures:
(1) Tests of controls;
(2) Substantive tests of transactions;
(3) Analytical procedures;
(4) Tests of details of balances.

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Phase IV, Evaluation and Reporting

Objective: Complete the audit procedures and issue an opinion.

Procedures:
(1) Evaluate governance evidence;
(2) Perform procedures to identify subsequent events;
(3) Review financial statements and other report material;
(4) Perform wrap-up procedures;
(5) Prepare Matters of Attention for Partners;
(6) Report to the board of directors; and
(7) Prepare Audit report.

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