Introduction to Auditing

Prescribed Learning
Material:
1.SAICA Volume 2A(1) ISA
200
2. Auditing notes chapter 1

Introduction What is an auditor and

why is there a need for
to auditing auditors?

Understanding
assurance
engagements and the
audit process
 • 1. Role of the auditor in society
• 2. Types of assurance engagements
• 3. ISA 200 requirements in conducting an
Introduction audit
to Auditing • 4. Audit risk and evidence
• 5. Inherent limitations of an audit
• 6. Auditing postulates
• 7. Different stages of the audit process
WHAT IS AN AUDITOR?
An auditor is an independent party, engaged to provide assurance
on the fairness of information presented. The auditor inspires
confidence in the information being prepared.

FOR EXAMPLE

Intaba Lodge (Pty) Ltd approaches BigMoney Bank to request a loan. The Bank
tells Intaba Lodge to provide audited financial statements before the loan can
be granted.

The bank is in fact telling Intaba Lodge that it requires some assurance from an
independent source that the financial information provided is fair. This will add
to the companies credibility and the bank will be more comfortable about
relying on the information provided. This is where the auditor comes in.

Without the audit being conducted the company could manipulate its financials to
deceive the bank into granting the loan.
TYPES OF
AUDITORS
1. Registered
(external) auditors
2. Internal auditors
3. Government
auditors
4. Forensic auditors
5. Special purpose
auditors
 • Express and audit opinion on whether the
financial statements of a company fairly present the
financial position and results.
• Not an employee of the company
REGISTERED
(EXTERNAL) • Enhances confidence of the users of the financials

AUDITORS
• Offer their service to the public – “in public practice”

• Must be registered with the Independent Regulatory

Board for Auditors (IRBA)
 • Perform independent assignments on behalf of the
Board of Directors
• Evaluates internal controls and whether systems are
INTERNAL functioning as intended and that risks are being
assessed and addressed
AUDITORS • Can be an employee of the company, but independent
of the department being assessed
• Not required to be registered with a professional
body but may choose to register with the Institute for
internal auditors.
 OTHER Government auditors
Evaluate the financial affairs of government departments, reporting
AUDITORS their findings to senior government. Auditor General is a government
employee, but independent of departments under audit. Registration
with a professional body is not required.

Forensic auditors
Investigate and gather evidence where there has been alleged theft, fraud
or financial mismanagement. Should be independent of the entity under
investigation which would increase the confidence of the court or
investigating body on the evidence presented.

Special purpose auditors

For example environmental or VAT auditors.
 INDEPENDENCE – THE COMMON
DENOMINATOR

• External auditor – independent of the company; internal auditor

– independent of the department.

• In the earlier example, if the auditor employed by SmallBusiness

(Pty) Ltd was not independent, the bank would consider their
opinion on the fairness of the financial information worthless.

• If the person performing the audit is not independent of the

entity being audited the assurance given would be worthless.
 AUDIT DEFINED IN THE
AUDITING
PROFESSIONS ACT
The examination of, in accordance with applicable auditing standards:
(i)financial statements with the objective of expressing an opinion as
to their fairness or compliance with financial reporting framework or
applicable statutory requirements, or
(ii)Financial and other information prepared in accordance with
suitable criteria with the objective of expressing an opinion on the
information.
Why there is a need for auditors?

The split between ownership and management

▪ The owner-managed businesses now have become entities which are owned by people who
manage them.
▪ The owners provider finance and appoint the managers to run the business.
▪ Since owners are not involved in the business, they need managers to report on how they use their
finances(stewardship).
▪ Then appoint independent auditors to evaluate the management reports.
 Shareholders

Auditors

Company

Board of Directors
Why there is a need for auditors?

Confidence in financial statements

• To ensure that those who invest in companies maintain confidence in the information provided to
them.
• The assurance is required that the financial information produced by entity is reliable and credible
and it is the auditor that provides this assurance.
Accountability
• In businesses, Directors are held accountable for the way they run the businesses, government is
held accountable for the way it spends the taxpayer’s money, etc.
• This has created a need for the wider ‘auditing’ profession to provide an independent service,
which evaluates whether Directors, government meet their responsibilities and be held
accountable.
Specific theories – Auditing and business

Agency theory – Principle: Explains the relationship between principals(shareholders/owners) and

their agents(directors)
Legitimacy theory – Principle: An entity to continue to exist, it must act in consensus with society’s
values, norms and interest.
Stakeholder theory – Principle: Focus is on the effect that an entity and its activities have on all the
stakeholders, as opposed to focusing only to shareholders.
Ubuntu – Principle: This stems from the African philosophy which expresses compassion and
humanity. This requires corporations to serve not only its shareholders, but wider range of
stakeholders.
Utilitarian theory – Principle: Ethical choices should be based on that which will produce ‘ the
greatest good for the greater number’
Virtue ethics – Principle: Entity should focus on what type of entity it wants to be and should practice
acting in a morally sound way.
Assurance engagements and expectation gap

The expectation gap

• This a term used to describe the difference between what the society expects from the auditing
profession and what the auditor in actual fact provides.
• The expectations that the public holds may include fraud detection and other non audit services as
well as specific technical knowledge.

Assurance engagement
It is an engagement in which the professional accountant “ expresses a conclusion designed to
enhance the degree of confidence of the intended users, other than the responsible party, about the
outcome of the evaluation or measurement of a subject against the criteria”.
 ELEMENTS OF ASSURANCE
ENGAGEMENTS
Element Audit Review

Three party relationship: ‐ Registered auditor ‐ Registered auditor

‐ Professional Accountant ‐ Directors responsible for the AFS ‐ Directors responsible for the AFS
‐ Responsible party ‐ Shareholders ‐ Shareholders
‐ Intended user
Subject Matter Financial Statements Financial Statements
Suitable Criteria IFRS IFRS for SME’s
Sufficient appropriate The evidence needed to form an The evidence needed to draw a
audit evidence opinion on whether the AFS are free conclusion on whether anything has
from material misstatement and come to his attention which would
presented fairly in terms of IFRS. cause him to believe that the AFS
are not presented fairly in terms of
Nature and extent of procedures IFRS for SME’s.
are more than for limited
assurance.
Written assurance report Audit opinion (reasonable assurance Review conclusion (limited assurance)
– high but not absolute)
Opinion/Conclusion Positive form Negative form
“In our opinion, the financial “Nothing came to our attention
statements present fairly…” which causes us to believe that
the financial statements do not
present fairly…”
 DIFFERENT TYPES OF ASSURANCE

TYPE OF ASSURANCE EXPLANATION

Absolute assurance • Auditors cannot provide absolute assurance due to inherent

limitations in auditing, such as the use of sampling, reliance on
representations from management, and the possibility of fraud
or error going undetected.

Limited assurance • It is lower than reasonable assurance but meaningful to users,

given when the practitioner has gathered enough evidence to
satisfy himself that the risk that he expresses an inappropriate
conclusion on subject matter is low.
Reasonable assurance • It is a high but not absolute level of assurance, given when the
practitioner has gathered sufficient appropriate evidence to
satisfy himself that the risk that he expresses an inappropriate
opinion on the subject matter is acceptably low.
 Reasonable assurance can only be given when the

Audit risk practitioner has gathered sufficient, appropriate audit

evidence to satisfy himself that the risk that he
THE RISK THAT THE AUDITOR
EXPRESSES AN expresses an inappropriate audit opinion is acceptably
INAPPROPRIATE AUDIT
OPINION low.
 Limitations of an Audit

1.Nature of audit procedures

2.Nature of financial reporting
3.Audit evidence persuasive rather than conclusive
4.The use of testing
5.Limitations of accounting and internal control
6.Timeliness of reporting and cost vs benefit

Why can we not certify or provide absolute

assurance on an audit engagement?
 The Accounting Profession

1.Nature of professional status

• The professional status is not attained merely by attaching the
label “professional” to a body of practitioner, it is achieved
when there is public acceptance that such a body of practitioner
is worthy of recognition as a profession.
2. Accounting bodies in RSA – SAICA and IRBA
SAICA- South African Institute of Chartered Accountants
- To qualify to be a member, you must complete the following:
• Matric, Degree, PGDA(CTA), ITC(IAC), APC, Complete articles,
demonstrate competencies through the articles.
 The Accounting Profession

2. Accounting bodies in RSA – SAICA and IRBA

IRBA- Independent Regulatory Board for Auditors
- To qualify to be a member, you must complete the following:
• Be registered with professional body(SAICA in RSA).
• 18 months of ADP( Audit Development programme)
 The audit of financial statements

1.Introduction
The focus is on the engagements at which external audit of an
entity’s financial statements takes place. This engagement is
referred to as an assurance engagement.
2. The public interest
The need for auditing is as a result of the needs of the society and is
therefore of the public interest.
3.The public interest score
 The public interest score

Public interest score in Company CC and owner managed

points companies
Less than 100 Review No assurance engagement
required
100 – 349 Internally compiled AFS – Internally compiled AFS –
Audit, otherwise review Audit, otherwise no
assurance engagement is
required

350 and above Audit Audit

A model of an INDEPENDENT audit
 AUDITING POSTULATES
1. No necessary conflict of interest exists between auditor and management
2. An auditor must act exclusively as auditor in order to offer an independent and
objective opinion
3. The professional status of the auditor imposes commensurate professional
obligations
4. Financial data is verifiable
5. Internal controls reduce the probability of errors and irregularities
6. Application of GAAP results in fair presentation
7. That which held true in the past will hold true in the future
8. The financial statements submitted to the auditor for verification are free of
collusive and other unusual irregularities