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.
purpose of this unit 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.
At the end of this unit, 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 organisation, 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 true and fair view of the state of affairs of the business;
- that the accounts have been properly prepared and are inaccordance with the provisions of the Companies and Allie Matters Act (CAMA) of 1990 as amended.
3.1.2 Nature of Auditing
The auditor must consider and report on the followings.
- Whether proper accounting records have been kept by thebusiness in the opinion of the auditor. These records mustinclude:(i) a record of purchases and sales of goods in sufficient details toidentify the goods and their sellers and buyers (except in normalretail trade).(ii) day-to-day payments and receipts of cash.(iii) details of assets and liabilities.(iv) statement of stock and supporting stocktaking schedule.
- Whether proper returns adequate for audit purposes, have beenreceived from branches not visited by them.
- Whether profit and loss accounts and balance sheet are in agreement with the other records.
- 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., 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 AuditBasically, there are two types of audit, and these are:
- statutory audit
- 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.
- Operational audit:This is referred to as internal audit, which purpose is to assess management’s effectiveness in achieving the organisational goals and objectives.It deals with evaluation of compliance with some set of specifications.
- Pre-audit:Also known as administrative audit, this speaks to an examination of financial transactions prior to their completion
- Post audit:This covers financial transactions that have been fully completed at the end of an accounting period.
- General audit:General audit covers all financial transactions and records of a government unit, and is made after the close of financial period.
- Special audit:This is an audit that is restricted to some segments of the unit’s financial transactions.
- Limited audit:This is one in which the mathematical accuracy, legality, propriety and completeness of a governmental unit’s financial transactions were determined by examining only a sample of selected transactions
- 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 unit 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:
- the expression of an opinion on the financial statements to showwhether the statements are true and fair as required by the CAMA of 1990.
- to give credibility on the statements audited in accordance with the terms of the auditor’s appointment.
- to produce a report, 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:
- gives confirmation of the actual financial position of the organisation being audited;
- gives credibility to the financial statements;
- makes it easy to negotiate for insurance claims;
- brings up-to-date the financial records of an organisation; (e) reveals some of the internal control weaknesses;
- gives assurance to shareholders and users of financial statements that the accounts are true and fair
- ensures that accounts are produced according to the bestpractices;
- helps to improve the system of internal control;
- applications for loans are greatly enhanced if supported by audited accounts;
- facilitates the admission of new partners into a business.
SELF-ASSESSMENT EXERCISE 2
- Why is auditing necessary?
- Audit gives credibility to the financial statements. Explain. 3.3 Distinction between Accounting and Auditing
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 United 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.
SELF-ASSESSMENT EXERCISE 4
Trace the history of growth and development of auditing in Nigeria.
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;
(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 characterised 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.
- Shareholding in a client’s company.
- Making of loans to, or by clients.
- Presence of personal ties or blood relationships in the company being audited.
- Involvement in a managerial capacity in the client’s business. (v) Provision of a number of services to the same client.
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 endeavour to improve competence and the quality of services. The confidence of the public in his work depends on his competence.
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:
- he knows or suspects his client to have committed the offence of treason or treasonable felony when the duty to disclose is obligatory.
- the disclosure is reasonably necessary to protect the interest of members (of the professional body).
- he is required to disclose by due legal process or the interest ofthe 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.
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 unit, will serve as a springboard for the study of the entire course.
In this unit, 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 possess, and the components of financial statements.
TO SELF-ASSESSMENT EXERCISE 1
- According to Messier, 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 the assertions and established criteria and communicating the results to interested users
- The primary function of an auditor is to express his opinion on the truth and fairness of the accounts.