EVOLUTION OF AUDITING
The term audit is derived from the Latin term ‘audire’, which means to hear. In early days a person used to listen to the accounts read over by an accountant in order to check them. He was known as auditor. Auditing is as old as accounting and there are signs of its existence in all ancient cultures such as Mesopotamia, Greece, Egypt, Rome, U.K. and India. Arthasashthra by Kautilya detailed rules for accounting and auditing of public finances. The original objective of auditing was to detect and prevent errors and frauds. Auditing evolved and grew rapidly after the industrial revolution in the 18th century with the growth of the joint stock companies the ownership and management became separate. The shareholders who were the owners needed a report from an independent expert on the accounts of the company managed by the board of directors who were the employees. The objective of audit shifted and audit was expected to ascertain whether the accounts were true and fair rather than detection of errors and frauds.
In India the Companies Act, 1913 made audit of company accounts compulsory. With the increase in the size of the Companies and the volume of transactions the main objective of audit shifted to ascertaining whether the accounts were true and fair rather than true and correct. Hence the emphasis was not on arithmetical accuracy but on a fair representation of the financial efforts.
The Companies Act, 1913 also prescribed for the first time the qualification of auditors. After the independence in year 1956, Companies Act, 1956 was implemented and detailed provisions were made in act regarding audit and auditors. This act provides provisions regarding compulsory statutory audit of companies, auditor appointments, auditor disqualifications, cost audit, appointment of cost auditors, government audit, special audit etc. The Companies Act, 1956 has been replaced with the Companies Act, 2013. Chapter X of the Companies Act, 2013 (Sections 139-148) deals with the provisions related to Audit & Auditors.
Question for Nature, Scope and Significance of Auditing - Auditing Concepts, Auditing & Secretarial Practice
Try yourself:What was the original objective of auditing?
Explanation
The original objective of auditing was to detect and prevent errors and frauds. In the early days, auditors would listen to the accounts read over by an accountant in order to check them. They were responsible for ensuring the accuracy and integrity of the financial records. However, with the growth of joint stock companies and the separation of ownership and management, the objective of audit shifted to ascertaining whether the accounts were true and fair, rather than solely focusing on error and fraud detection.
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DEFINITIONS OF AUDITING
It is a bit difficult to give a precise definition of word audit in a word or two, originally its meaning and use was confined merely to cash audit and the auditor had to ascertain whether the person responsible for the maintenance of accounts had properly accounted for all the cash receipts the payment on behalf of his principle. But the word, audit, had a wide usage and it now means a through scrutiny of the books of accounts and its ultimate aim is to verify the financial position disclosed by the balance sheet and the profit and loss account of a company.
The following are the some of the definitions of audit given by some writers:
(i) Lawrence R. Dicksee: ‘‘An audit is an examination of accounting records undertaken with a view to establishing whether they correctly and completely reflect the transactions to which they purport to relate.”
(ii) Taylor and Perry: “Audit is defined as an investigation of some statements of figures involving examination of certain evidence, so as to enable an auditor to make a report on the statement.
(iii) F.R.M De Paula: “An audit denotes the examination of Balance Sheet and Profit and Loss Account prepared by others together with the books of accounts and vouchers relating there to in such a manner that the auditor may be able to satisfy himself and honestly report that, in his opinion, such Balance Sheet is properly drawn up so as to exhibit a true and correct view of the state of affairs of the particular concern according to the information and explanations given to him and as shown by the books”.
(iv) Prof. Montgomery: “Auditing is a systematic examination of the books and records of business or other organization, in order to ascertain or verify and to report upon the facts regarding its financial operations and the result thereof.
(v) Spicer & Pegler: “Audit such an examination of the books of accounts and vouchers of a business, as will enable the auditor to satisfy himself that the Balance Sheet is properly drawn up, so as to give a true and fair view of the state affairs of the business, and whether the profit and loss account gives a true and fair view of the profit or loss for the financial period according to the best of his information and explanations given to him and as shown by the books, and if not, in what respect he is not satisfied”.
Institute of Chartered Accountants of India (ICAI) defines Auditing as:
“Auditing is defined as a systematic and independent examination of data, statements, records, operations and performance of an enterprise for a stated purpose. In any auditing situation, the auditor perceives and recognizes the propositions before him for examination, collect evidence, evaluates the same and on this basis formulates his judgment which is communicated through his audit report”
In the close scrutiny of the different definitions we found that there are different ways of expressing the concept auditing but having lot of similarity therein.
The meaning of an Audit contains:
(i) An intelligent and critical examination of the books of accounts of business.
(ii) It is done by an independent qualified person.
(iii) It is done with the help of vouchers, documents, information and explanations received from the clients.
(iv) The auditor satisfies himself with the authenticity of the financial accounts prepared for a particular period.
FEATURES OF AUDITING
- Audit is a systematic and scientific examination of the books of accounts of a business.
- Audit is undertaken by an independent person or body of persons who are duly qualified for the job.
- Audit is a verification of the results shown by the profit and loss account and the state of affairs as shown by the balance sheet.
- Audit is a critical review of the system of accounting and internal control.
- Audit is done with the help of vouchers, documents, information and explanations received from the authorities.
- The auditor has to satisfy himself with the authenticity of the financial statements and report that they exhibit a true and fair view of the state of affairs of the concern.
- The auditor has to inspect, compare, check, review, scrutinize the vouchers supporting the transactions and examine correspondence, minute books of share holders, directors, Memorandum of Association and Articles of association etc., in order to establish correctness of the books of accounts.
OBJECTIVES OF AUDITING
The objectives of auditing may be classified into two parts:
(a) The primary objective
(b) The secondary or incidental objective.
Primary Objective: The primary objective of the auditors is to report to the owners whether the balance sheet give a true and fair view of the company’s state of affairs and the correct figure of the profit or loss for the financial year.
Secondary objective: It is also called the incidental objective as it is incidental to the satisfaction of the main objective. The incidental objectives of auditing are:
(i) Detection and prevention of frauds, and
(ii) Detection and prevention of errors.
Detection of material frauds and errors as an incidental objective of independent financial auditing flows from the main objective of determining whether or not the financial statements give a true and fair view. The statement on auditing practices issued by the Institute of Chartered Accountants of India states, an auditor should bear in mind the possibility of the existence of frauds or errors in the accounts under audit since they may cause the financial position to be mis-stated.
Fraud refers to intentional misrepresentation of financial information with the intention to deceive. Frauds can take place in the form of manipulation of accounts, misappropriation of cash and misappropriation of goods. It is of great importance for the auditor to detect any frauds, and prevent their recurrence. Errors refer to unintentional mistake in the financial information arising on account of ignorance of accounting principles i.e. principle errors, or error arising out of negligence of accounting staff i.e. clerical errors.
Question for Nature, Scope and Significance of Auditing - Auditing Concepts, Auditing & Secretarial Practice
Try yourself:
What was the original objective of auditing?Explanation
The original objective of auditing was to detect and prevent errors and frauds. In the early days, auditors would listen to the accounts read over by an accountant to check for any discrepancies or fraudulent activities. However, with the growth of joint stock companies and the separation of ownership and management, the objective of audit shifted towards ascertaining whether the accounts were true and fair, rather than solely focusing on error detection.
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SCOPE OF AUDITING
Audit scope determines the time involved in audit exercise, depth of auditing, aspects to be covered etc. Audit scope depends on nature of audit, objectives of audit & terms of engagement, requirement of applicable legislations and auditing standard. However the terms of engagement cannot, restrict the scope of an audit in relation to matters which are prescribed by legislation or by the auditing standard.
The audit should be organized to cover adequately all aspects of the enterprise as far as they are relevant to the audit objectives.
Example: while carrying out the statutory audit, to form an opinion on the financial statements; the auditor should be reasonably satisfied as to whether the information contained in the underlying accounting records and other source data is reliable and sufficient as the basis for the preparation of the financial statements. Informing his opinion, the auditor should also decide whether the relevant information is properly disclosed in the financial statements subject to statutory requirements, where applicable.
The auditor assesses the reliability and sufficiency of the information contained in the underlying accounting records and other source data by:
Making a study and evaluation of accounting systems and internal controls on which he wishes to rely and testing those internal controls to determine the nature, extent and timing of other auditing procedures and Carrying out such other tests, inquiries and other verification procedures of accounting transactions and account balances as he considers appropriate in the particular circumstances.
The auditor determines whether the relevant information is properly disclosed in the financial statements by:
(a) Comparing the financial statements with the underlying accounting records and other source data to see whether they properly summarize the transactions and events recorded therein; and
(b) Considering the judgments that management has made in preparing the financial statements accordingly, the auditor assesses the selection and consistent application of accounting policies, the manner in which the information has been classified, and the adequacy of disclosure.
The term audit is derived from the Latin term ‘audire’, which means to hear. In early days a person used to listen to the accounts read over by an accountant in order to check them. He was known as auditor. Auditing is as old as accounting and there are signs of its existence in all ancient cultures such as Mesopotamia, Greece, Egypt, Rome, U.K. and India. Arthasashthra by Kautilya detailed rules for accounting and auditing of public finances. The original objective of auditing was to detect and prevent errors and frauds. Auditing evolved and grew rapidly after the industrial revolution in the 18th century with the growth of the joint stock companies the ownership and management became separate. The shareholders who were the owners needed a report from an independent expert on the accounts of the company managed by the board of directors who were the employees. The objective of audit shifted and audit was expected to ascertain whether the accounts were true and fair rather than detection of errors and frauds.
It is a bit difficult to give a precise definition of word audit in a word or two, originally its meaning and use was confined merely to cash audit and the auditor had to ascertain whether the person responsible for the maintenance of accounts had properly accounted for all the cash receipts the payment on behalf of his principle. But the word, audit, had a wide usage and it now means a through scrutiny of the books of accounts and its ultimate aim is to verify the financial position disclosed by the balance sheet and the profit and loss account of a company.
Audit scope determines the time involved in audit exercise, depth of auditing, aspects to be covered etc. Audit scope depends on nature of audit, objectives of audit & terms of engagement, requirement of applicable legislations and auditing standard. However the terms of engagement cannot, restrict the scope of an audit in relation to matters which are prescribed by legislation or by the auditing standard.
