Audit Procedures

Audit Procedures are steps performed by auditors to get all the information regarding the quality of the financials provided by the company, which enable them to form an opinion on financial statements whether they reflect the true and fair view of the organization's financial position.

They are identified and applied at the planning stage of the audit after determining the audit objective, scope, approach, and risk involved. Depending on risk assessment, the auditor applies audit procedures. These help an auditor plan an audit and invest time in obtaining audit evidence accordingly. Audit opinion, still, is subjected to inherent limitations of an audit.

Audit Procedures are a series of steps/processes/ methods applied by an auditor to obtain sufficient audit evidence for forming an opinion on financial statements, whether they reflect the true and fair view of the organization's financial position. It is mainly of two types – substantive audit procedures and analytical audit procedures.

They involve some specific activities and tests which the auditors need to perform. Through these steps the auditors gather important proofs to assess the financial statements and the internal control system of the business. In this way they get reasonable assurance that the financial statements are not misstated but are fairly presented as per the accounting framework of the organization.

With changes in the business environment and business models, the auditor needs to ensure changes in predefined audit procedures. Since the change in environment, these procedures have also become obsolete. For example, with the increased automation, an auditor needs to implement audit procedures keeping in mind the computerized environment involved. An audit without a system audit may be incomplete and may form the wrong audit opinion.

During the preliminary assessment process, an auditor is required to identify and ascertain the amount of risk involved and accordingly develop an audit plan. The audit plans should define these steps, which the auditor will apply to obtain audit evidence.

They can be divided into two types:

#1 - Substantive Audit Procedures

Substantive procedures are processes, steps, and tests performed by auditors, which create conclusive evidence regarding accuracy, completeness, existence, disclosure, rights, or valuation of assets/ liability, books of accounts, or financial statements. For any procedure to be concluded, the auditor should collect enough audit evidence so that another competent auditor makes the same conclusion when applying the same procedure to the same documents. The substantive audit procedures can be regarded as complete checking. Auditor usually uses this procedure when he believes the audit area includes a high frequency of risk.

#2 - Analytical Audit Procedures

The analytical audit procedures can be defined as tests/studies/ evaluations of financial information through analysis of plausible relationships among both financial and non-financial data. In simple language, certain checks/tests are conducted by auditors based on study/ knowledge/ previous year figures to check and form an opinion on financial statements. Depending on the audit area, the analytical audit procedure may differ. For example, the auditor may compare two sets of financial statements of the same entity about two different financial years or sometimes may compare two separate entities' financial data for obtaining audit evidence.

#3 – Test Of Control

In this, the auditor assesses how dependable and strong the internal control system of the company is. They do so by testing the design, process followed and effectiveness of the process. They look for any deviation between plans and achievements to determine whether the control systems is working for the business or not.

#4 – Sampling

The auditors can also collect samples of transaction or balances for testing purpose. These samples provide a good level of assurance and help them to draw a conclusion of regarding the entire population.

#5 – Physical Inspection

The auditor physically go to inspect the assets of the company to look at their condition and existence and then evaluate them.

#6 – Inquiry

They may interview people of the company, who may be from finance department or not, an obtain the necessary information and explanation regarding any doubt. They may also send request for information to third parties like bank, customers, etc to get clarity.

#7 – Reconciliation

The auditors also go through the reconciliation reports and analyse them in details and get reasonable assurance regarding the authenticity of the transactions.

However, the above methods internal audit procedures may vary depending on the type of business, organizational process, etc. The auditors use their professional judgement and knowledge for the same.

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1. Auditing I: Conceptual Foundations of Auditing
2. Auditing II: The Practice of Auditing

There are various types of audit processes followed in the organization. Some of them are listed below.

• Inspection - Inspection is the most commonly used method. Under this, the auditor checks every transaction/ document against written steps and procedures to ensure accuracy.
• Observation - Under this audit technique, the auditor usually tries to inspect others doing/ performing a particular process. E.g., An auditor may observe steps followed in processing GRN against goods purchased.
• Confirmation - This type is applied to ensure the correctness of financial statements either from internal sources within the auditee organization or from external sources.
• Recalculation - Under this audit method, the auditor usually crosses the checks information presented by the client. It is generally used in case of checking mathematical accuracy.
• Reperformance - Using this procedure, the auditor re-performs the entire process performed by the client to find gaps, audit findings, etc.

Let us try to understand the concept of internal audit procedures with the help of some suitable examples.

• The auditor may evaluate outstanding customer balance by preparing debtors' aging schedules. The auditor may compare the same for two different audit periods and find conclusions. If there is no change in credit policy, no significant change in sales, the debtor's balance should almost be the same, etc.
• Ratio analysis: The auditor may use this method to compare the current ratio of the different reporting periods while checking the working capital. This comparison of current assets/current liabilities should be almost the same unless the organization amended its policies related to any of the working capital items.
• The auditor may check and compare the employee benefits expense accounts for the different accounting periods. This amount should be the same or rise following promotion/ incremental policies. Suppose an auditor finds a different reason for rising/declining other than policies or employee turnover. In that case, there are chances of fraudulent payments being processed to fake employees through the payroll system.
• They were cross-checking any expenses in line with the quantity and rate and matching actual figures. For example, suppose 5KGs of potatoes of $25/Kg results in 1 KG of potato chips. The auditor should check actual expenditure should be around $25 for producing 1 KG of potato chips.
• Examine a trend line of any expenses. This amount should vary from the following production. If not matching, there are chances that management may not be correctly recognizing expenses promptly.

Let us explore the above factors related to the process of going concern audit procedures:

#1 - Nature

Thus includes the various types of the process which are already elaborated above. Proper analysis as per the types is important to establish the authenticity of the financial data. However, they are influenced by the auditor’s understanding, risk and company objectives.

#2 - Timing

This relates to when the auditors perform the different auditing actions. They are done at different stages, and may also be an interim process, which is mid of the financial year or at the year end. Interim audits allow identification of problems early and find solutions on time. However, year end procedure allow sufficient time to gather evidence.

#3 - Extent

This refers to the number or quantity of items selected for testing. This is sampling process, and it is influenced by the level of risk, the volume of transactions of the business.

But all the above factors may change, depending on the type of business or specific circumstance. The auditor should use their experience, skill and understanding to do the work fast but with accuracy.

The auditors need to follow some steps to get the get the going concern audit procedures done, which are as follows:

Planning – The auditors need to understand the type of business, type of industry, type risk factors, the audit objectives and make a suitable plan for the procedure accordingly.

Risk and internal control assessment – Next, they need to identify the level of control on the risk factors that are already existing in the business. It is important to relate them because it will give an idea about the possible extent of fraud, loopholes or misstatement that they should expect to find.

Analytical process – Then they should engage in analysis and evaluation of financial data, budgets, industry averages and point out the unusual fluctuations, errors and deviations.

Gather documents – This is very important because it will help in comparison and establishing the genuineness of the auditing being performed.

Evaluation of company’s condition – The auditors, through their analysis and assessment of financial and internal control record, are now in a position to evaluate whether the company is good to continue or not, based on the financial condition, cash flow and future plans.

Reporting – At the end the auditor has to submit their report based on the observation, assessment and give their opinion regarding the true and fair view of the financial statements as well as the internal control system. This will be communicated to the management and stakeholders.

Some advantages are as follows:

• It helps an auditor obtain conclusive and substantial audit evidence to form an opinion on financial statements.
• Well-defined procedures define the quantum of time and energy which must be deployed to find audit evidence.
• Pre-established procedures help an auditor follow a defined set of steps that need to be followed to find audit evidence.
• They also help the auditor plan areas that need to be focused and decide the type of audit procedure that needs to be applied well.

Despite several audit procedures applied by an auditor, they cannot conclude whether financial statements prepared present a true and correct view. An auditor expresses an opinion that is always subjected to inherent limitations of an audit, which are described as follows:

• Human Error: Despite checking at a thorough level, there are chances of expressing an inadequate opinion due to human errors and omissions. Since there is always a person present behind any machine.
• Absence of Clear Instructions in Accounting: Auditing standards prescribe a series of steps to be followed while conducting an audit, but some situations are still undefined. Treatment needs presumptions in these cases.
• Existence of Management Fraud: There may be chances of fraud committed at high-level management or by collaborating with a group of employees. Since the auditor forms an opinion based on data shared by the auditee, the auditee may not be in a position to detect such fraud.
• Judgments: In preparing a financial statement, there are situations where management needs to make a judgment that may differ from one to another. With this change in judgments, an auditor may not depict the exact position of that business.

It is necessary for the companies to note both the advantages and limitations of every procedure they follow. Only then they will be able to identify the problems and find solution to them. Audit procedures are an important part of any organization which helps in maintaining control, identify loopholes, frauds and mismanagement to that the business can run smoothly and efficiently.  

This has been a guide to what are Audit Procedures. We explain its types with examples, nature, timing & extent, steps, methods, advantages & limitations. You can learn more about financing from the following articles –

• Compliance Audit
• Audit Objectives Types
• Audit Report Types 
• Financial Statement Audit