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H, , I, , SHIVAJI UNIVERSITY, KOLHAPUR, CENTRE FOR DISTANCE EDUCATION, , Advanced Accountancy, Paper-II (Auditing), Paper - DSE A-II, , For, , M. Com. Part-I, Semester - I, , K, , (From Academic Year 2020-21), , J

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Copyright ©, , Registrar,, Shivaji University,, Kolhapur. (Maharashtra), First Edition 2020, , Prescribed for M. Com. Part-I, All rights reserved, No part of this work may be reproduced in any form by mimeography, or any other means without permission in writing from the Shivaji University, Kolhapur, (MS), , Copies : 1,000, , Published by:, Dr. V. D. Nandavadekar, Registrar,, Shivaji University,, Kolhapur-416 004, , Printed by :, Shri. B. P. Patil, Superintendent,, Shivaji University Press,, Kolhapur-416 004, , ISBN- 978-93-89327-68-7, , H, , Further information about the Centre for Distance Education & Shivaji University may be, obtained from the University Office at Vidyanagar, Kolhapur-416 004, India., , (ii)

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Preface, It gives us immense pleasure to bring forward the Self Instructional Material (SIM) of, Advanced Accountancy Paper-II (Auditing). This book has been written keeping in mind the, requirements of students of distance education to a large extent though the students of regular, programme and teachers may use the same for reference., The book has been devided into four units. The first unit elaborates the basic concepts of, audit. It introduces the concept of audit and elaborates the scope of audit. The feature of this, unit is the comprehensive explanation about the concept of 'true and fair view' in audit. This, unit also discusses the concept of independence of auditor, basic principles of audit and, difference between audit and investigation., The second unit describes the concept of dividend and divisible profit. It throws light on, some operational aspects like methods of payment of dividend, provisions about unpaid dividend, and failure to distribute dividend and corporate dividend policy. It also discusses the financial,, legal and policy considerations in dividend decision., The third unit comprehensively discuss various types of audit. As the scope of audit is, determined by its types, like cost audit, tax audit, management audit and social audit. Similarly, this unit also covers the details about audit of insurance companies, educational institutes and, limited companies. The concepts of adverse and disclaimer of opinion as well as audit of, computerised accounting have been explained with illustrations in this unit., The fourth unit throws light upon the important Auditing and Assurance Standards. The, standards relating to objectives, documentation, audit evidence, risk assessment, planning,, materiality, sampling and anditor's report have been discussed in this unit., As far as possible, an attempt has been made to keep the language simple and apply 'teach, yourself' technique. The illustrations have also been provided wherever necessary. Each unit, has been annexed with long answer questions, short notes as well as objective type of questions., We are thankful to the authors who have contributed significantly in this book. We are also, thankful to the office bearers of the University as well as the Centre for Distance Education, for facilitating this book to readers. We hope that the stakeholders find this book useful. We, also welcome the suggestions from readers to improve the quality in future., n, , Editors, , Prof (Dr.) S. S. Mahajan, , n, , Dr. K. V. Marulkar, , Department of Commerce and Management, Department of Commerce & Management,, Shivaji University, Kolhapur, Shivaji University, Kolhapur, , (v)

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M. Com. Part-I, SIM IN ADVANCED ACCOUNTANCY (AUDITING), , INDEX, Unit No., , Topic, , Page No., , Semester-I, 1., , Basic Concepts of Audit, , 1, , 2., , Dividend and Divisible Profit, , 20, , 3., , Types of Audit and Audit of various Entities, , 47, , 4., , Auditing and Assurance Standards, , (vii), , 131

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Each Unit begins with the section objectives Objectives are directive and indicative of :, 1. what has been presented in the unit and, 2. what is expected from you, 3. what you are expected to know pertaining to the specific unit,, once you have completed working on the unit., The self check exercises with possible answers will help you, understand the unit in the right perspective. Go through the possible, answers only after you write your answers. These exercises are not to, be submitted to us for evaluation. They have been provided to you as, study tools to keep you in the right track as you study the unit., , Dear Students, The SIM is simply a supporting material for the study of this paper., It is also advised to see the new syllabus 2019-20 and study the, reference books & other related material for the detailed study of the, paper., , (viii)

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Unit-1, Basic Concepts of Audit, Index :, 1.0 Objectives, 1.1 Introduction, 1.2 Presentation of Subject Matter, 1.2.1 Meaning of Audit, 1.2.2 Scope of Audit, 1.2.3 True and Fair View, 1.2.4 Basic Principles of Governing Audit (AAS-1), 1.2.5 Independence of Auditor, 1.2.6 Difference between Audit and Investigation, 1.3 Summary, 1.4 Terms to Remember, 1.5 Answers to Check your progress, 1.6 Exercise, 1.7 Reference for further study, , 1.0 Objectives:, 1., , To understand the basic concept of audit and its scope., , 2., , To describe the true and fair view., , 3., , To understand the basic principles of governing audit (AAS-1)., , 4., , To distinguish between audit and investigation., , 1.1 Introduction:, Audit in the present form came into existence after the Industrial Revolution, during the 18th century when age of large scale production commenced. The, 1

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organization of business was limited to sole proprietor activities, however, after the, Industrial Revolution, due to large scale production, scope of business organization, enhanced and many stakeholders involved especially investors. Such stakeholders are, interested to know what happen with their resources involved in the specific business, organization, hence, audit become important. In new forms of organization like a, company, owners (shareholders) and management (board of directors and managers), are different. Here, the management who is handling capital and accounts of a, company. It is not possible to every shareholder to check the accounts of the, company. So they appoint a person, on their behalf, who will check the accounts,, here is a need of auditor and auditing by him. Luca Pacialo who first published his, treatise on double entry system of book-keeping for first time in 1494, he described, the duties and responsibilities of an auditor., , 1.1.1 Principles of Auditing:, Auditing is of recent origin as compared to accounting. Auditing principles are, not comparable to the accounting principles. The elementary principles of auditing, are independence, objectivity, full disclosure and materiality which are given below, in brief:, 1), , Principle of Independence: The work of auditing should be separate and, independent from work of accounting. Accounts should be examined in an, independent and unbiased manner, in the audit., , 2), , Principle of Objectivity: The work of auditing should be based on the related, evidences and should be done in an unbiased manner., , 3), , Principle of full disclosure: Auditor should examine material transactions as, well as probable frauds and errors in much greater depth., , 4), , Principle of Materiality: Client should provide the auditor with all available, records, evidences and explanations. The auditor should also declare the result, of his examination in clear and unambiguous manner., , There are some other principles of auditing such as Integrity, Confidentiality,, Skill and Competence, reliance on work performed by others and documentation., , 1.1.2 Objectives of Auditing:, As per SA 200 "Overall Objectives of the Independent Auditor", in conducting, an audit of financial statements, the overall objectives of the auditor are:, 2

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(a) To obtain reasonable assurance about whether the financial statements as a, whole are free from material misstatement; and, (b) To report on the financial statements, and communicate as required by the SAs,, in accordance with the auditor's findings., , 1.2.1 Meaning of Audit:, At the beginning, let us see the meaning of audit. The word "audit" is derived, from the Latin word "audire" which means "to hear". As the changes took place in, duties and responsibilities of auditor, the change in the meaning of audit came and, hence, various definitions of audit are given by distinct authors, thinkers and, organizations which we are going to see in this section., According to Spicer and Pegler, an audit is 'such an examination of the books,, accounts and vouchers of a business, as will enable the auditor to satisfy himself that, the Balance Sheet is properly drawn up, so as give a true and fair view of the state of, affairs of the business, and whether the Profit and Loss Account gives a true and fair, view of the profit earned or loss suffered for the financial period, according to the, best of his information and the explanations given to him and as shown by books,, and if not, in what respects he is not satisfied.", L. R. Dicksee has defined an audit in the words "An audit is an examination of, accounting records undertaken with a view to establish whether they correctly and, completely reflect the transactions to which they puport to relate. In some instance it, may be necessary to ascertain whether the transactions are supported by proper, authority.", As per the opinion of F. R. M. de Paula, the term "Audit denotes something, much wider, namely, the examination of a balance sheet and profit and loss account, prepared by others. As a result of his examination of the books, accounts, vouchers, etc. and of his inquiries, the auditor must satisfy himself that such balance sheet and, profit and loss account are properly drawn up so as to exhibit true and fair view of, the state of affairs and of the earnings of a particular concern.", The Institute of Chartered Accountants of India has said about auditing that "It is, a systematic and independent examination of data, statements, records, operations, and performances (financial or otherwise) of an enterprise for a stated purpose. In, any auditing situation, the auditor perceives and recognizes the propositions before, 3

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him for examination, collects evidence, evaluates the same and on this basis, formulates his judgment which is communicated through his audit report.", According to Montegomery, "Auditing is a systematic examination of books and, records of a business or other organization, in order to ascertain or verify, and to, report upon, the facts regarding its financial operations and results thereof.", J. R. Batliboi has defined auditing as "an intelligent and a critical scrutiny of the, books of account of a business with the documents and vouchers from which they are, written up, for the purpose of ascertaining whether the working results for a, particular period, as shown by the Profit and Loss Account, as also the exact, financial condition of that business, as reflected in the balance sheet are truely, determined and presented by those responsible for their compilation.", On the basis of analysis of all the definitions of auditing we can come to the, conclusion that the auditing has the following characteristics:, 1., , It is a systematic and independent examination of financial data, , 2., , It ensures the correctness of Trading, Profit and Loss Account and Balance, Sheet which makes a verification of true and fair view presented in financial, statements., , 3., , An examination of books of accounts with motive is to detect errors and frauds, in the books of accounts and financial statement., , 4., , An intelligent and a critical scrutiny of the books of account., , 5., , Through process of audit, an auditor collect the evidences, vouchers for, transactions., , 6., , Auditor express an opinion on the quality of financial statements after ensuring, the compliance of financial statements with the accounting standards., , 7., , Auditing concludes with audit report., , We can conclude on the basis of above definitions and characteristics of auditing, that the audit means a critical and intelligent examination of facts-financial or, otherwise, to give in the form of certificate or report an attestation, an expert opinion, or an expert advice., , 4

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1.2.2 Scope of Audit:, The scope of audit is determined by the auditor having regard to following: (a), Terms of the Audit Engagement, (b) Requirement of Relevant Statute and (c), Pronouncements of the ICAI. However, the terms of engagement cannot supersede, the requirements of statute or pronouncements of ICAI., According to ICAI, the following points are merit considerations as far as scope, of audit is concerned:, 1., , Audit should cover the examination of all aspects of an entity relevant to, financial statements being audited., , 2., , 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., , 3., , In forming his opinion, the auditor should also decide whether the relevant, information is properly disclosed in the financial statements subject to statutory, requirements, where applicable., , 4., , The auditor assesses the reliability and sufficiency of the information contained, in the underlying accounting records and other source data by:, (a) making a study and evaluation of accounting systems and internal controls, and, (b) carrying out such other tests, enquires and other verification procedures of, accounting transactions and account balances as he considers appropriate in, the particular circumstances., , 5., , 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 assess the selection and, , 5

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consistent application of accounting policies, the manner in which the, information has been classified, and the adequacy of disclosure., 6., , The auditor is not expected to perform duties which fall outside the scope of his, competence. For example, the professional skill required of an auditor does not, include that of a technical expert for determining physical condition of certain, assets., , 7., , Constraints on the scope of the audit of financial statements that impair the, auditor's ability to express an unqualified opinion on such financial statement, should be set out in his report, and a qualified opinion or disclaimer of opinion, should be expressed as appropriate., , Check Your Progress-1, (A) Choose the appropriate alternative from given alternatives below the statement:, 1), , Principle of Independence is the elementary principle of auditing which, refers to the following ..........., (a) The work of auditing should be based on the related evidences and, should be done in an unbiased manner., (b) Auditor should examine material transactions as well as probable, frauds and errors in much greater depth., (c) The work of auditing should be separate and independent from work of, accounting. Accounts should be examined in an independent and, unbiased manner, in the audit., (d) Client should provide the auditor with all available records, evidences, and explanations. The auditor should also declare the result of his, examination in clear and unambiguous manner., , 2), , The scope of audit is determined by the auditor having no regard to which, following point?:, (a) Relation with client, (b) Terms of the Audit Engagement,, (c) Requirement of Relevant Statute and, (d) Pronouncements of the ICAI., 6

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(B) State whether the following statement is true or false:, 1), , Audit is not an intelligent and a critical scrutiny of the books of account, it, is simple verification of transactions., , 2), , Audit should cover the examination of all aspects of an entity relevant to, financial statements being audited., , 3), , The auditor should determine whether relevant information is disclosed in, financial statements., , 1.2.3 True and Fair View:, The financial performance can be understood by financial statements and, financial statements are outcome of maintaining accounts throughout the accounting, year. The accounts are maintained by the owner or management of business., However, users want to know whether these financial statements are prepared with, true and fair view. They want to confirm that financial results and financial position, shown by accounts are true and fair. It is expected that the auditor should confirm, this matter., We can say "Accounts are true and fair” when:, 1., , Financial Statements :, The financial performance shown by financial statements is true and fair. In, other words, we can say when (a) profit and loss shown in Profit and Loss, Account and (b) the value of assets and liabilities shown in balance sheet are, true and fair., The concept or scope of 'true and fair' is not defined by any law. Following, may be considerations in respect of true and fair view:, (a) Conform to accounting principles: The books of accounts must be kept, according to the Generally Accepted Accounting Principles such as the, entity concept, matching concept, periodicity concept, accrual concept or, dual aspect concept etc., (b) No window dressing or secret reserves: There should not be overstatement, or understatement either in financial position or in profit or loss. There, should not be window dressing or secrete reserves. Window dressing is an, act of showing accounts a much better than the actual condition. It is, 7

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expected to show the accounts with actual financial results and actual, financial condition. Such accounts are to show true and fair view., To reflect a true and fair view in accounts, the auditor should ensure that:,
, , The financial statements match with the books of accounts., ,
, , The charging depreciation is properly done or appropriate provision is made, for depreciation., ,
, , The physical verification of the closing stock is made and its valuation is, properly done., ,
, , Intangible assets are properly written off. Such intangible assets include, goodwill, patents, preliminary expenses or other deferred revenue expenses., ,
, , Proper provision is made for bad and doubtful debts., ,
, , Capital expenses is not treated as revenue expenses and vice versa., ,
, , Capital receipts are not treated as revenue receipts., ,
, , Effect of changes in rate of foreign exchange on value of assets and, liabilities is recorded properly in the books of accounts., ,
, , Contingent liabilities are not treated as actual liabilities and vice versa., ,
, , Provision is made for all known losses and liabilities, ,
, , A reserve is not shown as a provision and vice versa, ,
, , Cut off transactions are recorded properly, so that all sales invoices are, matched with goods delivered and all purchase invoices are matched with, goods received., ,
, , Accrual basis accounting has been adopted to record the transactions. Such, transactions may be outstanding expenses, prepaid expenses, income, accrued and advance income etc. They are recorded properly., ,
, , Expected or anticipated gains are not credited to the profit and loss account., ,
, , Effect of events after the balance sheet date on the value of an asset and, liability is disclosed properly in the books of accounts., ,
, , The exceptional or non-recurring transactions are disclosed separately in, the accounts., 8

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2., , Disclose all material facts: All the material facts regarding revenue, expenses,, assets and liabilities must be disclosed in the books of accounts. Material means, significant. The disclosure of significant information in the accounts assists the, users in taking business decisions. There should be neither suppression of vital, facts nor mis-statements., , 3., , Legal requirements: In case of limited company the account must disclose the, matters required to be disclosed under the Companies Act. The final accounts, must be in the format prescribed under Schedule III of the Companies Act,, 2013. Special companies such as banks, insurance, electricity supply companies, prepare accounts as prescribed under special acts or regulations. A co-operative, society, a trust etc. must also prepare the accounts as per their individual, statutory requirement., , 4., , Requirements of Institute of Chartered Accountants of India: The accounts, must also be maintained in accordance with the various guidelines issued by the, ICAI., , 1.2.4 Basic Principles of Governing Audit (AAS-1):, This Auditing and Assurance Standard was the first standard on auditing issued, by the Institute. This Standard describes the basic principles which govern the, auditor’s professional responsibilities and which should be complied with whenever, an audit is carried out. An audit is the independent examination of financial, information of any entity, whether profit oriented or not, and irrespective of its size, or legal form, when such an examination is conducted with a view to expressing an, opinion thereon. Other Auditing and Assurance Standards to be issued by the, Institute (taken in other unit) will elaborate on the principles set out herein to give, guidance on auditing procedures and reporting practices. Compliance with the basic, principles requires the application of auditing procedures and reporting practices, appropriate to the particular circumstances., These principles are, namely, integrity, objectivity and independence,, confidentiality, skills and competence, work performed by others, documentation,, planning, audit evidence, accounting system and internal control, and, finally, audit, conclusions and reporting., 9

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1., , Integrity, Objectivity and Independence:, , The auditor should be straightforward, honest and sincere in his approach to his, professional work. He must be fair and must not allow prejudice or bias to override, his objectivity. He should maintain an impartial attitude and both be and appear to be, free of any interest which might be regarded, whatever its actual effect, as being, incompatible with integrity and objectivity., 2., , Confidentiality:, , The auditor should respect the confidentiality of information acquired in the, course of his work and should not disclose any such information to a third party, without specific authority or unless there is a legal or professional duty to disclose., 3., , Skills and Competence:, , The audit should be performed and the report should be prepared with due, professional care by persons who have adequate training, experience and competence, in auditing. The auditor requires specialized skills and competence which are, acquired through a combination of general education, technical knowledge obtained, through study and formal courses concluded by a qualifying examination recognized, for this purpose and practical experience under proper supervision. In addition, the, auditor requires a continuing awareness of developments including pronouncements, of ICAI on accounting and auditing matters, and relevant regulations and statutory, requirements., 4., , Work Performed by Others:, , When the auditor delegates work to assistants or uses work performed by other, auditors and experts, he will continue to be responsible for forming and expressing, his opinion on the financial information. However, he will be entitled to rely on work, performed by others, provided he exercises adequate skill and care and is not aware, of any reason to believe that he should not have so relied. In the case of any, independent statutory appointment to perform the work on which the auditor has to, rely in forming his opinion, such as in the case of the work of branch auditors, appointed under the Companies Act, 1956, the auditor’s report should expressly state, the fact of such reliance. The auditor should carefully direct, supervise and review, work delegated to assistants. The auditor should obtain reasonable assurance that, work performed by other auditors or experts is adequate for his purpose., 10

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5., , Documentation:, , The auditor should document matters which are important in providing evidence, that the audit was carried out in accordance with the basic principles., 6., , Planning:, , The auditor should plan his work to enable him to conduct an effective audit in, an efficient and timely manner. Plans should be based on a knowledge of the client’s, business. Plans should be made to cover, among other things:, (a) acquiring knowledge of the client’s accounting system, policies and internal, control procedures;, (b) establishing the expected degree of reliance to be placed on internal control;, (c) determining and programming the nature, timing, and extent of the audit, procedures to be performed; and, (d) coordinating the work to be performed., Plans should be further developed and revised as necessary during the course of the, audit., 7., , Audit Evidence:, , The auditor should obtain sufficient appropriate audit evidence through the, performance of compliance and substantive procedures to enable him to draw, reasonable conclusions there from on which to base his opinion on the financial, information. Compliance procedures are tests designed to obtain reasonable, assurance that those internal controls on which audit reliance is to be placed are in, effect. Substantive procedures are designed to obtain evidence as to the, completeness, accuracy and validity of the data produced by the accounting system., They are of two types:, a), , tests of details of transactions and balances;, , b), , analysis of significant ratios and trends including the resulting enquiry of, unusual fluctuations and items., , 11

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8., , Accounting System and Internal Control:, , Management is responsible for maintaining an adequate accounting system, incorporating various internal controls to the extent appropriate to the size and nature, of the business. The auditor should reasonably assure himself that the accounting, system is adequate and that all the accounting information which should be recorded, has in fact been recorded. Internal controls normally contribute to such assurance., The auditor should gain an understanding of the accounting system and related, internal controls and should study and evaluate the operation of those internal, controls upon which he wishes to rely in determining the nature, timing and extent of, other audit procedures. Where the auditor concludes that he can rely on certain, internal controls, his substantive procedures would normally be less extensive than, would otherwise be required and may also differ as to their nature and timing., 9., , Audit Conclusions and Reporting, , The auditor should review and assess the conclusions drawn from the audit, evidence obtained and from his knowledge of business of the entity as the basis for, the expression of his opinion on the financial information. This review and, assessment involves forming an overall conclusion as to whether:, (a) the financial information has been prepared using acceptable accounting, policies, which have been consistently applied;, (b) the financial information complies with relevant regulations and statutory, requirements;, (c) there is adequate disclosure of all material matters relevant to the proper, presentation of the financial information, subject to statutory requirements,, where applicable., The audit report should contain a clear written expression of opinion on the, financial information and if the form or content of the report is laid down in or, prescribed under any agreement or statute or regulation, the audit report should, comply with such requirements. An unqualified opinion indicates the auditor’s, satisfaction in all material respects with the matters dealt with in paragraph 21 or as, may be laid down or prescribed under the relevant agreement or statute or regulation,, as the case may be., , 12

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When a qualified opinion, adverse opinion or a disclaimer of opinion is to be, given or reservation of opinion on any matter is to be made, the audit report should, state the reasons therefor., (Effective Date: This Auditing and Assurance Standard becomes operative for all, audits relating to accounting periods beginning on or after April 1, 1985)., Check your progress-2:, (A) Fill in the blanks:, 1), , ................. is an act of showing accounts a much better than the actual, condition., , 2), , The books of accounts must be kept according to the ............. Accounting, Principles., , 3), , Auditor must be fair and must not allow prejudice or bias to override his, .........., , 4), , The auditor should obtain sufficient appropriate ................. through the, performance of compliance and substantive procedures to enable him to, draw reasonable conclusions there from on which to base his opinion on the, financial information., , (B) State whether the following statement is true or false:, 1), , We can say the accounts are true and fair when the financial performance, shown by financial statements is true and fair., , 2), , If window dressing is found in the financial statements and accounts, it, means they are presented with true and fair view., , 3), , For reflecting a true and fair view in accounts, it is not necessary to match, value of stock in the books and its value according to physical verification., , 4), , All the material facts regarding revenue, expenses, assets and liabilities, must be disclosed in the books of accounts., , 1.2.5 Independence of Auditor:, Only competent and independent person carries out the audit. The auditor, should be straightforward, honest and sincere in his approach to his professional, work. He must be fair and must not allow prejudice or bias to override his, 13

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objectivity. He should maintain an impartial attitude and both be and appear to be, free of any interest., Independence implies acting without any fear or favour. In order to protect the, independence of the auditors, enactments contain various provisions. For example, Section 141 (3) of Companies Act 2013 lays down that the following persons cannot, be appointed as auditor of a company even they are otherwise qualified:, (a) a body corporate other than a limited liability partnership registered under the, Limited Liability Partnership Act, 2008 (6 of 2009);, (b) an officer or employee of the company;, (c) a person who is a partner, or who is in the employment, of an officer or, employee of the company;, (d) a person who, or his relative or partner and so on., The independence of auditor is maintained and protection is given to the auditor, in that respect. If the auditor gives adverse opinion, it has been laid down in the Act, that an auditor cannot be removed without prior approval of central government. An, auditor who is sought to be removed, has the right to present his stand point before, shareholders. Unless and until the independence of auditor is maintained properly,, auditor cannot perform his duties rightly., , 1.2.6 Difference between Audit and Investigation:, Sometime students have impression that auditing and investigation are one and, the same. There is lot of difference between them. Now we will try to understand, what is the difference between audit an investigation., Sr. Audit, No., 1, , Investigation, , Audit is a systematic and independent, examination of data, statements,, records, operations and performances, (financial or otherwise) of an, enterprise for a stated purpose., , 14, , Investigation is a process of searching, enquiry into the profit-earning capacity, or the financial position of a concern or, to find out the extent of the fraud if, there is any suspicion about it and so, on.

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2, , Audit is conducted on behalf of Investigation is carried out on behalf of, owners i.e. shareholders or proprietor outsiders. Such outsiders may be, potential buyer of the business or, etc., banker or money lenders to know the, earning capacity or the financial, position of the firm. Sometime on, behalf of owner also it can be carried, out when they suspect any fraud., Sometime it is carried out by the, Government in the interest of, shareholders or at the instance of the, court., , 3, , According to Companies law, audit is Investigation is not compulsory., compulsory., , 4., , It once audit is done, accounts are not Investigation may be conducted even, again audited. The exception is only though accounts are already audited., of special audit., , 5., , The audit of accounts is done for a Investigation may cover a period of, year or six months., over three to seven years., , 6., , The accounts are audited with a view, to ascertaining whether or not the, Profit and Loss Account and Balance, sheet are drawn up as per law and, they exhibit a true and fair view of the, state of affairs of a business., , Investigation is conducted with a, particular object in view for e.g.- to, know the financial position of the, concern or its earning capacity etc., , 7., , Audit is a kind of test checking., , Investigation is a thorough examination, of the books of accounts for a particular, year or a number of years., , 8., , Audit includes an examination of the Investigation is not only an examination, of accounts but it is also an inquiry into, books of accounts of a business., other factors affecting the business such, as the extent of fraud, who committed it, 15

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or the causes of the fall in the profits., 9., , The report of auditor is sent to the The report of the investigator is sent to, managing director/chairman of the the party which has appointed him., company who put it before the, shareholders., , 10., , The report of the auditor is, stereotyped except when he mentions, the points on which he is not satisfied, with regard to the accounts of the, client., , 11., , The auditor is concerned with The investigator is not concerned with, accounting policies adopted by the accounting policies followed by the, concern and he states the fact about it. firm., , The report of the investigator is in, detail and refers to (a) the instructions, given to him, (b) the method of, approach, (c) the work carried out, (d), the documents relied upon, and (e) his, findings and often his recommendations, to the client., , Check your progress-3:, (A) Fill in the blanks:, 1), , ................ implies acting without any fear or favour., , 2), , .................... is a process of searching enquiry into the profit-earning, capacity or the financial position of a concern or to find out the extent of, the fraud if there is any suspicion about it and so on., , 3), , Investigation may cover a period of over ....... to ............. years., , (B) State whether the following statement is true or false:, 1), , For the purpose of independence of auditor, protection to auditor in respect, of audit is must., , 2), , Employee of a company who is chartered accountant and eligible for, making audit of any company, can carry out audit of the company where he, is employee., , 3), , Investigation is compulsory according to Companies Act., 16

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1.3 Summary:, Audit is a systematic and independent examination of data, statements, records,, operations and performances of an enterprise for a stated purpose. The auditor, perceives and recognizes the propositions before him for examination, collects, evidence, evaluates the same and on this basis formulates his judgment which is, communicated through his audit report. The elementary principles of auditing are: (a), Principle of Independence, (b) Principle of Objectivity, (c) Principle of full, disclosure and (d) Principle of Materiality. There are some other principles of, auditing such as Integrity, Confidentiality, Skill and Competence, reliance on work, performed by others and documentation., The objectives of auditing are (1) to obtain reasonable assurance about whether, the financial statements as a whole are free from material misstatement and (2) to, report on the financial statements, and communicate as required by the SAs, in, accordance with the auditor's findings. Independence implies acting without any fear, or favour. Unless and until the independence of auditor is maintained properly,, auditor cannot perform his duties rightly., The scope of audit has been described in this unit. One of the important concepts, used in accounting and auditing is 'true and fair view'. This unit has highlighted this, concept in lucid manner. Auditing and Assurance Standard-1 is entitled as "Basic, Principles of Governing Audit" which describes the basic principles which govern, the auditor’s professional responsibilities and which should be complied with, whenever an audit is carried out., As far as the difference between audit and investigation is concerned, a lot of, difference is there which we have observed in the last part of this unit. If simply we, see meaning of these two concepts, we can refer the difference between them. Audit, is a systematic and independent examination of data, statements, records, operations, and performances (financial or otherwise) of an enterprise for a stated purpose., Investigation is a process of searching enquiry into the profit-earning capacity or the, financial position of a concern or to find out the extent of the fraud if there is any, suspicion about it and so on., , 17

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1.4 Terms to Remember:, 1., , Audit: Audit is a systematic and independent examination of data, statements,, records, operations and performances of an enterprise for a stated purpose. The, auditor perceives and recognizes the propositions before him for examination,, collects evidence, evaluates the same and on this basis formulates his judgment, which is communicated through his audit report., , 2., , True and Fair View: Accounts are true and fair when the financial performance, shown by financial statements is true and fair. It is auditor's prime duty to verify, whether financial statements represent true and fair view., , 3., , Window dressing: It is an act of showing accounts a much better than the, actual condition., , 4., , Independence of Auditor: Independence implies acting without any fear or, favour. Unless and until the independence of auditor is maintained properly,, auditor cannot perform his duties rightly., , 5., , Investigation: It is a process of searching enquiry into the profit-earning, capacity or the financial position of a concern or to find out the extent of the, fraud if there is any suspicion about it and so on, , 1.5 Answers to Check your progress:, Check Your Progress-1, (A) 1) - (c),, , 2) - (a), , (B) 1) False,, , 2) True,, , 3) True, , Check Your Progress-2, (A) 1) Window dressing, 2) Generally Accepted,, 3) objectivity, 4) audit evidence, (B) Answer: 1) True, 2) False, 3) False, 4) True, Check Your Progress-3, (A) 1) Independence, (B) 1) True,, , 2) Investigation, 3) three, seven;, 2) False,, , 3) False, , 18

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1.6 Exercise:, 1), , What is audit? Describe the scope of audit., , 2), , Explain the basic principles governing an audit according to Auditing and, Assurance Standard-1., , 3), , Distinguish between audit and investigation., , 4), , Write short notes on:, (a) True and Fair View., (b) Independence of auditor., (c) Investigation., , 1.7 Reference for further study:, 1., , Tandon, B. N., Handbook of Practical Auditing, S. Chand and Compay Ltd.,, New Delhi., , 2., , Aruna Jha, Student’s Guide to Auditing & Assurance, Taxmann Publications, Pvt. Ltd., New Rohtak Road, New Delhi., , 3., , S. D. Sharma, Auditing Principles & Practice, Taxmann Publications Pvt. Ltd.,, New Rohtak Road, New Delhi., , 4., , Anand G. Srinivasan, Auditing, Taxmann Publications Pvt. Ltd., New Rohtak, Road, New Delhi., , 5., , S. K. Basu, Fundamentals of Auditing, Pearson India, 2009., , 6., , O. Ray Whittington and Kurt Pany, Principles of Auditing., , 7., , Contemporary Auditing: Kamal Gupta, Tata McGraw Hill Education., , 8., , ICSI, Fundamentals of Accounting and Auditing, The Institute of Company, Secretaries of India, New Delhi., , 9., , Companies Act 2013, , 10. The Institute of Chartered Accountants of India, http://www.icai.org, 11. Government of India,, http://www.mca.gov.in/, , Website, , of, , Ministry, , of, , Corporate, , Affairs,,


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Unit-2, Dividend and Divisible Profit, Index, 2.0 Objectives, 2.1 Introduction, 2.2 Presentation of Subject Matter, 2.2.1 Concept of Dividend and Divisible Profit, 2.2.2 Methods of Payment of Dividend, 2.2.3 Types of Dividends, 2.2.4 Financial, Legal and Policy Considerations in Dividend Decision, Declaration of Dividend (Section 123), 2.2.5 Unpaid Dividend Account (Section 124), 2.2.6 Punishment for Failure to Distribute Dividends (Section 127), 2.2.7 Dividend Policy of Companies, 2.3 Summary, 2.4 Terms to Remember, 2.5 Answer to check your progress, 2.6 Exercises, 2.7 References for further study, , 20

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2.0 Objectives:, After studying this unit students will be able:,
, ,
, ,
, , To understand the rules and regulations for declaring and paying dividend at the, end of the financial year and in between the financial year., To describe types of dividend and to calculate profit, which can be distributed to, the shareholders as dividend i.e. divisible profit., To understand financial, legal and policy considerations in dividend decision., , 2.1 Introduction:, Auditor is responsible to check whether the financial statements are being, prepared to show true and fair view along with the compliance of all the statutory, provisions of various applicable acts, such as companies Act 2013, Accounting, standards etc., In this chapter, we will see the rules and regulations of payment of divided and, calculation of divisible profit for the payment of dividend, which auditor has to, follow while auditing the financial statements of the company., , 2.2 Presentation of Subject Matter, 2.2.1 Concept of Dividend and Divisible Profit:, a), , Dividend:, , A dividend is a payment made by a company to its shareholders, usually as a, distribution of profits i.e. a portion of profits earned and allocated as payable to the, shareholders yearly or whenever declared. A dividend is allocated as an amount, (generally in % of face value) per share, with shareholders receiving a dividend in, proportion to their shareholding. Section 2(35) of the Companies Act, 2013, simply, states that “dividend” includes any interim dividend. The general understanding of, interim dividend is the dividend paid during the year and the dividend which is paid, after the end of financial year is called as final dividend., e.g. If dividend is paid on 20th December 2019 for the financial year 2019-2020, then, this is called as Interim dividend (Because it is paid during the financial year) and If, , 21

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dividend is paid after 31st March 2020 for the financial year 2019-2020, then it is, called as final dividend ( Because it is paid after the end of financial year)., b) Divisible profit:, The portion of the profit which can legally distributed to the shareholders of the, company by way of dividend is called divisible profit., That means out of profit so earned by the company whatever portion is being, distributed to the shareholders in proportion of their holdings in the company is, considered to be the divisible profit that means distributable profits which, shareholders are liable to take up in the form of dividend is known as divisible, profits., Check your progress-1, State whether the following statement is true or false :, 1), , Interim dividend is paid only if company earns profit., , 2), , Final dividend is paid as a percentage of market value of share, , 3), , As per section 2(35) of Company Act 2013, Dividend includes Interim dividend., , 4), , Dividend is paid to banks for giving loans, , 5), , Payment of Dividend is compulsory., , 2.2.2 Methods of payment of dividend:, A dividend is allocated as a fixed amount per share. Therefore, a shareholder, receives a dividend in proportion to their shareholding., a), , Cash:, , Cash dividends are those paid out in currency, usually via electronic funds, transfer or printed paper cheques. Such dividends are a form of investment income, and are not taxable to the recipient (As per Income Tax Act – table is given below for, the reference). This is the most common method of sharing corporate profits with the, shareholders of the company. For each share owned, a declared amount of money is, distributed. Dividends paid are not classified as an expense, but rather, a deduction of retained earnings., , 22

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Table No. 2.1 Cash Dividend, Source of Dividend, Income, , Tax Rate for Individuals/HUFs, , Income Tax, Section, , -if aggregate dividend, income received during, the year is less than Rs., 10 lakh, , Nil, , Section 10(34), , -if aggregate dividend, income received during, the year is more than Rs., 10 lakh, , 10%, , Section, 115BBDA, , Foreign Company, , As per the marginal tax rate, applicable to the tax payer, , Section, 115BBD, , Domestic Company, , b) Stock:, Stock or scrip dividends are those paid out in the form of additional stock shares, of the Company in the form of bonus shares. They are usually issued in proportion to, shares owned. For example, for every 100 shares owned, a 5% stock, dividend will yield 5 extra shares., c), , Property:, , Property dividends or dividends in "in kind" are those paid out in the form of, assets from the issuing company, but they are relatively rare., d) Interim Dividends:, Interim dividends are dividend payments made before a company's annual, general meeting and final financial statements. This declared dividend usually, accompanies the company's interim financial statements., e), , Other:, , Other dividends can be used in structured financial assets with a known market, value, can be distributed as dividends; warrants are sometimes distributed in this, 23

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way. For large companies with subsidiaries, dividends can take the form of shares in, a subsidiary company. A common technique for "spinning off" a company from its, parent is to distribute shares in the new company to the old company's shareholders., The new shares can then be traded independently., Check your progress-2, State whether the following statement is true or false :, 1), , Dividend is paid only in cash., , 2), , Bonus shares are given to debt holders., , 3), , Dividend income is fully taxable in the hands of investor., , 4), , Dividend paid by foreign company is fully taxable, , 5), , Payment of Dividend by Saraswat co-op bank is taxable., , 2.2.3 Types of Dividends:, The classification or types of dividend can be taken into consideration as (a), dividend payable on the basis of time and (b) dividend payable on the basis of nature, of shares., a), , Dividend payable on the basis of Time (When declared), , Interim Dividend: When the Board of Directors declare dividend between two, annual general meetings of the company, such dividend is known as Interim, dividend., Final Dividend: When the dividend is declared at the annual general meeting of the, company, it is known as Final dividend., All the provisions applicable on dividend are also applicable on interim dividend., , Dividend, , Interim, , Final, , Figure 2.1 Dividend based on time, 24

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b) Dividend payable on the basis of Nature of shares, Shares can be classified into two categories- Preference shares and equity, shares. The manner of payment of dividend is dependent upon the nature of, shares., (i), , Preference Shares: According to section 43 of the Companies Act, 2013, persons holding preference shares, called preference shareholders, are assured, of a preferential dividend at a fixed rate during the life of the company., Dividend is generally cumulative in nature and need not be paid every year in, case of deficiency of profits., Types of Preference Shares on the basis of payment of dividend, , Preference shares’ classification on the basis of payment of dividend, (a) Cumulative Preference Shares: A cumulative preference share is one that, , carries the right to a fixed amount of dividend or dividend at a fixed rate. Such, a dividend is payable even out of future profit if current year’s profits are, insufficient for the purpose. This means that dividend on these shares, accumulates unless it is paid in full and, therefore; the shares are called, Cumulative Preference Shares., , Preference, Shares, , Shares, , Equity, Shares, , Cumulative, Preference, Shares, , Dividend accumulates, unless it is paid in full, , Noncumulative, Preference, Shares, , No arrears of dividend, in future, , Dividend dependent on dividend policy and, the availability of profits after satisfying the, rights of prererence shareholders., , Figure 2.2 Dividend based on nature of shares, (b) Non-cumulative Preference Shares: A non-cumulative preference share, , carries with it the right to a fixed amount of dividend. In case no dividend is, 25

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declared in a year due to any reason, the right to receive such dividend for that, year expires. It implies that holder of such a share is not entitled to arrears of, dividend in future., (ii) Equity Shares: Equity shares are those shares, which are not preference, , shares. It means that they do not enjoy any preferential rights in the matter of, payment of dividend or repayment of capital. The rate of dividend on equity, shares is recommended by the Board of Directors and may vary from year to, year. Rate of dividend depends upon the dividend policy and the availability of, profits after satisfying the rights of preference shareholders., , 2.2.4 Financial, Legal and Policy Considerations in Dividend Decision, Declaration of Dividend [Section 123], 2.2.4.1 Dividend shall be declared or paid by a company for any financial, year only—, (a) out of the profits of the company for that year arrived at after providing, , for depreciation in accordance with the provisions of section 123(2), or, (b) out of the profits of the company for any previous financial year or years, , arrived at after providing for depreciation in accordance with the, provisions of that sub-section and remaining undistributed, or, [Note: Such depreciation shall be provided in accordance with the, provisions of Schedule II.], (c) out of both (a) and (b); or, (d) out of money provided by the Central Government or a State Government, , for the payment of dividend by the company in pursuance of a guarantee, given by that Government., 2.2.4.2 Transfer to reserves:, A company may, before the declaration of any dividend in any financial year,, transfer such percentage of its profits for that financial year as it may consider, appropriate to the reserves of the company. Therefore, the company may transfer, such percentage of profit to reserves before declaration of dividend as it may, consider necessary. Such transfer is not mandatory and the percentage to be, transferred to reserves is to be decided at the discretion of the company., 26

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Illustration 1:, Radha limited proposes to transfer more than 10% of the profits of the, company to the reserves for the current year, before the declaration of dividend @, 12%. Is Radha Limited allowed to do so?, Solution:, The amount to be transferred to reserves out of profits for a financial year has, been left at the discretion of the company acting through its Board of Directors., Therefore, the company is free to transfer any part of its profits to reserves as it, deems fit., Illustration 2:, Siya Limited has earned a profit of Rs. 1,000 crores for the financial year, 2018-19. It has proposed a dividend @ 9 %. However, it does not intend to transfer, any amount to the reserves of the company out of the profits earned. Can Siya, Limited do so?, Solution:, The amount to be transferred to reserves out of profits for a financial year has, been left at the discretion of the company acting through its Board of Directors., The company is free to transfer any part of its profits to reserves as it deems fit., There is no restriction to transfer any specific amount (i.e. even no amount can be, transferred) to the reserves before declaration of dividend., 2.2.4.3 Declaration of dividend out of accumulated profits:, Where a company, owing to inadequacy or absence of profits in any financial, year, proposes to declare dividend out of the accumulated profits earned by it in, previous years and transferred by the company to the reserves, such declaration of, dividend shall be made only in accordance with prescribed rules. [Second Proviso, to section 123(1)], Exemption: The above proviso shall not apply to a Government Company in, which the entire paid up share capital is held by the Central Government, or by any, State Government or Governments or by the Central Government and one or more, State Governments., , 27

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2.2.4.4 Declaration of dividend from free reserves:, Dividend shall be declared or paid by a company only from its free reserves., No other reserve can be utilized for the purposes of declaration of such dividend., 2.2.4.5 Declaration of dividend by set off of previous losses and depreciation, against the profit of the company for the current year:, No company shall declare dividend unless carried over previous losses and, depreciation not provided in previous year or years are set off against profit of the, company for the current year., For declaration of dividend out of accumulated profits, the Ministry of, Corporate Affairs has provided Rule 3 of the Companies (Declaration and, Payment of Dividend) Rules, 2014. Thereby, when there is inadequacy or absence, of profits in any year, a company may declare dividend out of free reserves., However, the following conditions shall be fulfilled before declaring dividend out, of reserves:, (e) The rate of dividend declared shall not exceed the average of the rates at which, , Rate of Dividend ≤ (RD1 +RD2 + RD3)/3, Where, RD1, RD2, RD3 are rates at which dividend was declared by it in the 3, years immediately preceding that year., dividend was declared by it in the 3 years immediately preceding that year:, However, this rule will not apply if a company has not declared any dividend, in each of the 3 preceding financial years., (f), , The total amount to be drawn from such accumulated profits shall not exceed, one- tenth of the sum of its paid-up share capital and free reserves as appearing, in the latest audited financial statement., , Therefore,, Total amount that can be drawn, 1/10 of (Paid up share capital +, ≤, from accumulated profits, Free reserves), (g) The amount so drawn shall first be utilised to set off the losses incurred in the, , financial year in which dividend is declared before any dividend in respect of, equity shares is declared., 28

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(h) The balance of reserves after such withdrawal shall not fall below 15% of its, , paid up share capital as appearing in the latest audited financial statement., Illustration 3:, A Public Company has been declaring dividend at the rate of 25% on equity, shares during the last 3 years. The Company has not made adequate profits during, the year ended 31st March, 2019, but it has got adequate reserves which can be, utilized for maintaining the rate of dividend at 25%. Advise the Company as to, how it should go about if it wants to declare dividend at the rate of 25% for the, year 2018-19, as per the provisions of the Companies Act, 2013., Solution:, In the given case, the company has made adequate profits for the current year., However, it can declare dividend out of accumulated profits. Hence, the company, can declare a dividend of 25% provided it has the required residual reserve (after, such payment) of 15% of its paid up capital and free reserves as appearing it its, latest audited financial statement. The company should have the dividend, recommended by the Board and put up for the approval of the members at the, Annual General Meeting as the authority to declare dividend lies with the members, of the company., Illustration 4:, Due to inadequacy of profits during the year ended 31st March, 2019, Anisha, Ltd. proposes to declare 10% dividend out of general reserves. From the following, particulars, ascertain the amount that can be utilized from general reserves, according, to the Companies (Declaration of dividend out of Reserves) Rules, 2014:, 17,500 9% Preference shares of ` 100 each, fully paid up, , 17,50,000, , 8,00,000 Equity shares of ` 10 each, fully paid up, , 80,00,000, , General Reserves as on 1.4.2018, , 25,00,000, , Capital Reserves as on 1.4.2018, , 3,00,000, , Revaluation Reserves as on 1.4.2018, , 3,50,000, , Net profit for the year ended 31st March, 2019, , 3,00,000, , 29

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Average rate of dividend during the last five year has been 12%., Solution:, Amount that can be drawn from reserves for 10% dividend, 10% dividend on ` 80,00,000, , 8,00,000, , Profits available, Current year profit, , 3,00,000, , Less: Preference dividend, , (1,57,500), , Amount which can be utilized from reserves, , (1,42,500), 6,57,500, , Conditions as per Companies (Declaration of dividend out of Reserves) Rules,, 2014:, Condition I, Since 10% is lower than the average rate of dividend (12%), 10% dividend can, be declared., Condition II, Maximum amount that can be drawn from the accumulated profits and reserves, should not exceed 10% of paid up capital plus free reserves i.e. ` 12, 25,000 [10% of, (80, 00,000+17, 50,000+25, 00,000)], Condition III, The balance of reserves after drawl `18,42,500 (` 25,00,000 - ` 6,57,500), should not fall below 15 % of its paid up capital i.e. ` 14,62,500 (15% of, ` 97,50,000], Since all the three conditions are satisfied, the company can withdraw, ` 6,57,500 from accumulated reserves. (As per Declaration and Payment of Dividend, Rules, 2014.), 2.2.4.6 Depositing of amount of dividend:, In terms of section 123(4), the amount of the dividend, including interim, dividend, shall be deposited in a scheduled bank in a separate account within 5, days from the date of declaration of such dividend., 30

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This sub-section shall not apply to a Government Company in which the entire, paid up share capital is held by the Central Government, or by any State, Government or Governments or by the Central Government and one or more State, Governments or by one or more Government Company., 2.2.4.7 Interim Dividend:, According to section 123(3), the Board of Directors of a company may declare, interim dividend during any financial year out of the surplus in the profit and loss, account and out of profits of the financial year in which such interim dividend is, sought to be declared., However, in case the company has incurred loss during the current financial, year up to the end of the quarter immediately preceding the date of declaration of, interim dividend, such interim dividend shall not be declared at a rate higher than, the average dividends declared by the company during the immediately preceding, three financial years., If loss is there, Rate of Interim Dividend ≤ (RD1 +RD2 + RD3)/ 3, Where, RD1, RD2, RD3 are rates at which dividend was declared by it in, the 3 years immediately financial years preceding that year., The Board of directors may declare interim dividend and the amount of, dividend including interim dividend shall be deposited in a scheduled bank in a, separate bank account within 5 days from the date of declaration of such dividend., Illustration 5:, Spruha Limited is facing loss in business during the current financial year, 2018-19. In the immediate preceding three financial years, the company had, declared dividend at the rate of 12%, 13% and 14% respectively. To maintain the, goodwill of the company, the Board of Directors has decided to declare 14%, interim dividend for the current financial year. Is the act of Board of Directors, valid?, , 31

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Solution:, Interim dividend shall not be declared at a rate higher than the average, dividends declared by the company during the immediately preceding three, financial years [i.e. (12+13+14)/3 =39/3=13%]. Therefore, decision of Board of, Directors to declare 14% of the interim dividend for the current financial year is, not valid.. They can declare a maximum 13% interim dividend., 2.2.4.8 Payment of dividend: According to section 123(5):, (i), , Dividends are payable in cash. Dividends that are payable to the, shareholder in, cash may be paid by cheque or warrant or in any, electronic mode., , (j), , Dividend shall be payable only to the registered shareholder of the share, or to his order or to his banker., , (k) This sub-section shall apply to the Nidhi company, subject to that any, , dividend payable in cash may be paid by crediting the same to the account, of the member, if the dividend is not claimed within 30 days from the date, of declaration of the dividend., (l), , Nothing in sub-section 5 of section 123, shall prohibit the capitalization of, profits or reserves of a company for the purpose of issuing fully paid-up, bonus shares or paying up any amount for the time being unpaid on any, shares held by the members of the company., , Illustration 6:, The Director of Hrihaan Limited proposed dividend at 12% on equity shares, for the financial year 2018-19. The same was approved in the annual general, meeting of the company held on 20th September, 2019. The Directors declared the, approved dividends., Mr. Kaustubh was the holder of 1,000 equity shares on 31st March, 2019, but, he has transferred the shares to Mr. Arvind, whose name has been registered on, 20th May, 2019. Who will be entitled to the above dividend., Solution:, According to section 123(5), dividend shall be payable only to the registered, shareholder of the share or to his order or to his banker. Facts in the given case state, 32

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that Mr. Kaustubh, the holder of equity shares transferred the shares to Mr. Arvind, whose name has been registered on 20th May 2019. Since, he became the registered, shareholder before the declaration of the dividend in the Annual general meeting of, the company held on 20th September 2019, so, Mr. Arvind will be entitled to the, dividend., 2.2.4.9 Prohibition on declaration of dividend: The Act by virtue of Section 123, (6) specifically provides that a company which fails to comply with the provisions, of section 73 (Prohibition on acceptance of deposits from public) and section 74, (Repayment of deposits, etc., accepted before the commencement of this Act) shall, not, so long as such failure continues, declare any dividend on its equity shares., 2.2.4.10 Prohibition on section 8 companies: According to section 8(1), the, companies having licence under Section 8 (Formation of companies with, Charitable Objects, etc.] of the Act are prohibited from paying any dividend to its, members. Their profits are intended to be applied only in promoting the objects, of the company., 2.2.5 Unpaid Dividend Account [Section 124], The provisions related to Unpaid Dividend Account are given under section, 124 of the Companies Act, 2013, which are as follows:, 2.2.5.1 Declared dividend not paid or claimed to be transferred to the special, account:, Where a dividend has been declared by a company but has not been paid or, claimed within 30 days from the date of the declaration to any shareholder entitled, to the payment of the dividend, - the company shall, within 7 days from the date, of expiry of the said period of 30 days, transfer the total amount of dividend which, remains unpaid or unclaimed to a special account to be opened by the company in, that behalf in any scheduled bank to be called the Unpaid Dividend Account., 2.2.5.2 Preparing of statement of particulars of the unpaid dividend:, The company shall, within a period of 90 days of making any transfer of an, amount under sub-section (1) of section 124 to the Unpaid Dividend Account,, prepare a statement containing the names, their last known addresses and the, unpaid dividend to be paid to each person and place it on the web-site of the, company, if any, and also on any other web-site approved by the Central, 33

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Government for this purpose, in such form, manner and other particulars as may, be prescribed., 2.2.5.3 Default in transferring of amount:, If any default is made in transferring the total amount referred to in section, 124(1) or any part thereof to the Unpaid Dividend Account of the company,- it shall, pay, from the date of such default, interest on so much of the amount as has not, been transferred to the said account, at the rate of 12 per cent per annum and the, interest accruing on such amount shall ensure to the benefit of the members of the, company in proportion to the amount remaining unpaid to them., 2.2.5.4 Apply for payment of claimed amount:, Any person claiming to be entitled to any money transferred under section, 124(1) to the Unpaid Dividend Account of the company may apply to the company, for payment of the money claimed., 2.2.5.5 Transfer of unclaimed amount to Investor Education and Protection, Fund (IEPF):, Any money transferred to the Unpaid Dividend Account of a company in, pursuance of this section which remains unpaid or unclaimed for a period of 7 years, from the date of such transfer shall be transferred by the company along with, interest accrued, if any, thereon to the Fund established under section 125(1) and, the company shall send a statement in the prescribed form of the details of such, transfer to the authority which administers the said Fund and that authority shall, issue a receipt to the company as evidence of such transfer., 2.2.5.6 Transfer of shares to IEPF:, All shares in respect of which dividend has not been paid or claimed for 7, consecutive years or more shall be transferred by the company in the name of, Investor Education and Protection Fund along with a statement containing such, details as may be prescribed:, Provided that any claimant of shares transferred above shall be entitled to claim the, transfer of shares from Investor Education and Protection Fund in accordance with, such procedure and on submission of such documents as may be prescribed., , 34

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Explanation—For the removal of doubts, it is hereby clarified that in case any, dividend is paid or claimed for any year during the said period of 7consecutive, years, the share shall not be transferred to Investor Education and Protection Fund., 2.2.5.7 In case of contravention:, If a company fails to comply with any of the requirements of this section, the, company shall be punishable with fine which shall not be less than five lakh rupees, but which may extend to twenty-five lakh rupees and every officer of the company, who is in default shall be punishable with fine which shall not be less than one lakh, rupees but which may extend to 5 lakh rupees., , 2.2.6 Punishment for Failure to Distribute Dividends [Section 127], Section 127 of the Companies Act, 2013 deals punishment for failure to, distribute dividend on time. According to this section:, (i), , Where a dividend has been declared by a company but has not been paid or the, warrant in respect thereof has not been posted within 30 days from the date of, declaration to any shareholder entitled to the payment of the dividend, every, director of the company shall, if he is knowingly a party to the default, be, punishable with imprisonment which may extend to two years., , (ii) He shall also be liable for a fine which shall not be less than 1,000 rupees for, , every day during which such default continues., (iii) The company shall also be liable to pay simple interest at the rate of 18% p.a., , during the period for which such default continues., (iv) However, the following are the exceptions under which no offence shall be, , deemed to have been committed:, (a), , where the dividend could not be paid by reason of the operation of any law;, , (b), , where a shareholder has given directions to the company regarding the, payment of the dividend and those directions cannot be complied with and the, same has been communicated to him;, , (c), , where there is a dispute regarding the right to receive the dividend;, , (d), , where the dividend has been lawfully adjusted by the company against any, sum due to it from the shareholder; or, 35

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(e), , where, for any other reason, the failure to pay the dividend or to post the, warrant within the period under this section was not due to any default on the, part of the company., , Exemption: This section shall apply to the Nidhis company, subject to that where, the dividend payable to a member is 100 rupees or less, it shall be sufficient, compliance of the provisions of the section, if the declaration of the dividend is, announced in the local language in one local newspaper of wide circulation and, announcement of the said declaration is also displayed on the notice board of the, nidhis for at least 3 months., Illustration 7:, Mr. Suchit, holding equity shares of face value of ` 10 lakhs has not paid an, amount of ` 1 lakh towards call money on shares. Can the same be adjusted against, the dividend amount payable to him?, Answer: Yes, as per law, where the dividend is declared by a company and, there remains a call in arrears and any other sum due from a member, in such case, the dividend can be lawfully adjusted by the company against any sum due to it, from the shareholder., Thus, company can adjust sum of ` 1 lakh due towards call money on shares, against the dividend amount. Payable to Mr.Suchit., Check your progress-3, A) Choose the most appropriate alternative :, 1), , In case of insufficient profits, interim dividend to be paid can not be more than, an average of last _______years, a) 4, , 2), , c) 5, , d) 2, , Final dividend is paid as a percentage of __________ Value, a) Market Value, , 3), , b) 3, , b) Cost, , c) Par value, , d) Application money, , Unpaid dividend account is to be opened in ______________ ., a) SEBI, , b) Co-operative bank, , c) NBFC, , d) Scheduled bank, , 36

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4), , After declaration of dividend, it has to be deposited in bank account within, ________ day, a) 5, , 5), , b) 10, , c) 15, , d) 12, , The balance of reserves after withdrawal shall not fall below ______% of its, paid up share capital as appearing in the latest audited financial statement., a) 5, , b) 10, , c) 15, , d) 12, , B) State whether the following statements are true or false:, , 1) Company can pay dividend using reserves, 2) It is mandatory to transfer dividend amount in bank account within 10 days from, the declaration of dividend, , 3) It is mandatory for Government Company to deposit the amount in bank account, within 5 days from the date of declaration of dividend., , 4) Company can not pay interim dividend if its in losses, 5) Company formed for charitable purpose can not declare dividend, C) Fill in the Blanks, 1), , If Dividend is not claimed by shareholder within __________ days then it has to, be deposited in special account opened with ____________ bank within, _______ days., , 2), , If company fails to transfer amount in unpaid dividend account, then it is liable, to pay interest @ _________ % p.a., , 3), , If dividend is not claimed by shareholder within _________ years , then the, amount has to be transferred to IEPF, , 4), , The rate of dividend declared shall not exceed the average of the rates at which, dividend was declared by it in the _____ years immediately preceding that, year, , 5), , The total amount to be drawn from accumulated profits shall not exceed, ____________ of the sum of its paid-up share capital and free reserves as, appearing in the latest audited financial statement., , 37

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2.2.7 Dividend Policy of Companies, Every company has its own dividend policy. In this section, we can understand, the dividend policy adopted by IDFC Ltd. and RIL., 2.2.7.1 Dividend policy of IDFC Limited:, 1., , Background:, , This policy sets out principles to determine the amount that can be distributed to, equity shareholders as dividend. IDFC Limited proposes to have a dividend, distribution policy that balances the dual objectives of appropriately rewarding, shareholders through dividends and retaining capital in order to maintain a healthy, capital adequacy to support its future capital requirements., 2., , Need and Objective of Dividend Distribution Policy:, , SEBI has made it mandatory for the top 500 listed entities to formulate a, Dividend Distribution Policy (“the Policy”) and disclose the Policy in their annual, reports and on their website. The dividend distribution policy is based on the, following parameters: a) the circumstances under which the shareholders may or may, not expect dividend; b) the financial parameters, internal and external factors, considered while declaring dividend; c) policy as to how the retained earnings will be, utilized; and d) parameters that will be adopted with regards to various classes of, shares., 3., , Utilisation of retained earnings:, , In any given financial year the retained earnings of the company are expected to, be used for the following: Additional capital requirements, Inorganic growth,, General corporate purposes, including contingencies, 4., , Eligibility criteria for declaration of dividend as per RBI:, a), , Every applicable NBFC shall maintain a minimum capital ratio consisting, of Tier I and Tier II capitalϖ which shall not be less than 15 percent of the, aggregate of its on-balance sheet risk weighted assets and the risk adjusted, value of its off-balance sheet items., , b), , The Tier I capital in respect of applicable NBFCs (other than NBFC-MFI, and IDF-NBFC), at any pointϖ of time, shall not be less than 10% by, March 31, 2017., 38

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5., , c), , IDFC is subjected to statutory transfers under section 45(IC) of RBI Act, (20% of profit after tax)ϖ before declaring dividend., , d), , The proposed dividend should be paid only out of current year’s profit, , e), , If the Company does not meet all of the above criteria, it cannot declare any, dividend for thatϖ particular year., , Circumstances under which shareholders may not receive dividends or may, receive reduced dividends:, , The Board may choose not to recommend any dividend or may recommend a, lower payout for a given financial year, if:, , 6., , a), , The company has reported a net loss for the year, , b), , Cash flow from operations is negative, , c), , The capital adequacy metrics of the company are weak, , d), , The company has been prohibited from declaring dividends by any, regulatory authority, , e), , The company has implemented, or intends to implement, a share repurchase, (buy-back) scheme or, , f), , any other alternative profit distribution measures Any other extraordinary, circumstancesϖ, , Factors affecting the Company’s approach to dividend payout:, , The Board will consider the following factors before making any, recommendation for the dividend, a), , Profits earned during the financial year, , b), , Future capital requirements, , c), , Cash flow position, , d), , Amount available for distribution after setting aside regulatory transfersϖ, Past dividend trends, , e), , Reinvestment opportunities, , 39

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7., , Parameters that will be adopted with regards to various classes of shares:, , The company has only one class of equity shareholders. Therefore, the dividend, declared will be distributed equally among all shareholders, based on their, shareholding on the record date., 8., , 9., , Procedure:, a), , The Chief Financial Officer, in consultation with the MD & CEO of the, Company, shall recommend any amount to be declared/ recommended as, dividend to the Board of Directors of the Company., , b), , The Agenda for the Board of Directors of the Company where dividend, declaration or recommendation is proposed shall contain the rationale for, the proposal., , c), , Pursuant to the provisions of the applicable laws and this Policy, the Board, may declare interimϖ dividend(s) as and when they consider it fit, and, recommend final dividend to the shareholders for their approval in the, general meeting of the Company and any final dividend recommended by, Board of Directors, will be subject to the shareholders’ approval, at the, ensuing Annual General Meeting of the Company., , d), , The Company shall ensure compliance of provisions of all applicable laws, in relation to dividendϖ declared by the Company., , Recommendations:, , The company being an Investment NBFC, its dividend payout will largely, depend upon the dividends it receives from its subsidiaries., The Company shall maintain a consistent dividend policy that balances the dual, objective of appropriately rewarding shareholders through dividends and retaining, capital in order to maintain a healthy capital adequacy ratio to support the future, growth., It is recommended that the Company will pay out as dividends between 70% to, 100% of its distributable profits after transferring to statutory and other reserves and, after setting aside cash for its business requirements (inclusive of taxes). Special, dividends, if any, will be declared in addition to the regular dividend payout., , 40

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2.2.7.2 Dividend policy of RIL, The Board of Directors (the “Board”) of Reliance Industries Limited (the, “Company”) at its meeting held on April 24, 2017 has adopted this Dividend, Distribution Policy (the “Policy”) as required by Regulation 43A of the SEBI, (Listing Obligations and Disclosure Requirements) Regulations, 2015 (the “Listing, Regulations”)., 1., , Objective of Dividend Policy :, , The objective of this Policy is to establish the parameters to be considered by, the Board of Directors of the Company before declaring or recommending dividend., The Company has had an uninterrupted dividend payout since listing. In future,, the Company would endeavor to pay sustainable dividend keeping in view the, Company’s policy of meeting the long-term growth objectives from internal cash, accruals., 2., , Circumstances under which the shareholders may or may not expect, dividend:, , The Board of Directors of the Company, while declaring or recommending, dividend shall ensure compliance with statutory requirements under applicable laws, including the provisions of the Companies Act, 2013 and Listing Regulations. The, Board of Directors, while determining the dividend to be declared or recommended, shall take into consideration the advice of the executive management of the Company, and the planned and further investments for growth apart from other parameters set, out in this Policy., The Board of Directors of the Company may not declare or recommend, dividend for a particular period if it is of the view that it would be prudent to, conserve capital for the then ongoing or planned business expansion or other factors, which may be considered by the Board., 3., , Parameters to be considered before recommending dividend:, , The Board of Directors of the Company shall consider the following financial /, internal parameters while declaring or recommending dividend to shareholders:, a), , Profits earned during the financial year, , b), , Retained Earnings, 41

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c), , Earnings outlook for next three to five years, , d), , Expected future capital / liquidity requirements, , e), , Any other relevant factors and material events, The Board of Directors of the Company shall consider the following external, parameters while declaring or recommending dividend to shareholders:, , f), , Macro-economic environment - Significant changes in macro-economic, environment materially affecting the businesses in which the Company is, engaged in the geographies in which the Company operates, , g), , Regulatory changes – Introduction of new regulatory requirements or material, changes in existing taxation or regulatory requirements, which significantly, affect the businesses in which the Company is engaged, , h), , Technological changes which necessitate significant new investments in any of, the businesses in which the Company is engaged, , 4., , Utilisation of retained earnings:, , The Company shall endeavor to utilise the retained earnings in a manner which, shall be beneficial to the interests of the Company and also its shareholders., The Company may utilize the retained earnings for making investments for, future growth and expansion plans, for the purpose of generating higher returns for, the shareholders or for any other specific purpose, as approved by the Board of, Directors of the Company., 5., , Parameters that shall be adopted with regard to various classes of shares:, , The Company has issued only one class of shares viz. equity shares. Parameters, for dividend payments in respect of any other class of shares will be as per the, respective terms of issue and in accordance with the applicable regulations and will, be determined, if and when the Company decides to issue other classes of shares., 6., , Conflict in policy:, , In the event of any conflict between this Policy and the provisions contained in, the regulations, the regulations shall prevail., , 42

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7., , Amendments:, , The Board may, from time to time, make amendments to this Policy to the, extent required due to change in applicable laws and regulations or as deemed fit on, a review., , 2.3 Summary, In this chapter, we discussed about the Meaning of dividend, Methods of, payment of dividend, types of dividend. Later part was related to the statutory, requirements to be complied with while paying the dividend, then we discussed the, provisions related to the transfer of dividend amount is special account, to be opened, in scheduled bank called as unpaid dividend account, if shareholders do not claim the, dividend amount in stipulated time. Then we saw the provisions related to transfer of, dividend amount from unpaid dividend account to IEPF, if the dividend is not, claimed by shareholder within 7 years from unpaid dividend account., , 2.4 Terms to Remember:, 1), , Final Dividend - When dividend is paid for any financial year , after the end of, that financial year, then it is called as final dividend., , 2), , Interim dividend - When the Board of Directors declare dividend between two, annual general meetings of the company, such dividend is known as Interim, dividend., , 3), , IEPF – Investors education and protection fund, where the amount is deposited, if the shareholders do not claim their dividend within 7 years from the unpaid, dividend account., , 2.5 Answers to Check your Progress:, Check your progress-1, 1 – False, 2- False, 3- True, 4- False, 5- False, Check your progress-2, 1 – False, 2- False, 3- False, 4- True, 5- True, Check your progress-3, (A) 1 – b, 2- c, 3- d, 4-a , 5- c, 43

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True or False:, (B) 1 – True, 2- False, 3- False, 4- False, 5- True, (C) 1., , 30 days, Scheduled bank, 7 days, , 2., , 12%,, , 3., , 7 years,, , 4., , 3 years,, , 5., , one tenth, , 2.6 Exercise, 1., , Write Short notes, a), , Interim dividend, , b), , Final dividend, , c), , IEPF, , d), , Unpaid dividend account, , e), , Types of preference share capital with reference to payment of dividend, , 2., , Write the meaning of dividend and methods of payment of dividend, , 3., , Write the provisions of declaration of dividend as per section 123, , 4., , What are the conditions to be fulfilled if company wants to pay dividend out of, reserves?, , 5., , Give the highlights of dividend policy of IDFC Ltd., , 6., , Give the highlights of dividend policy of RIL., , 7., , State the provisions related to interim dividend, , 8., , Give the provisions related to unpaid dividend account and IEPF as per section, 124 and section125, , 9., , Explain the consequences for failure to distribute dividends as per section 127, , 44

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10. Due to inadequacy of profits during the year ended 31st March, 2019, Kruttika, Ltd. proposes to declare 12% dividend out of general reserves. From the, following particulars, ascertain the amount that can be utilized from general, reserves, according to the Companies (Declaration of dividend out of Reserves), Rules, 2014:, 7,500 9% Preference shares of ` 1000 each, fully paid up, , 75,00,000, , 10,00,000 Equity shares of ` 10 each, fully paid up, , 1,00,00,000, , General Reserves as on 1.4.2018, , 25,00,000, , Capital Reserves as on 1.4.2018, , 4,00,000, , Revaluation Reserves as on 1.4.2018, , 4,50,000, , Net profit for the year ended 31st March, 2019, , 4,00,000, , Average rate of dividend during the last five year has been 14%., 11. Arvind Ltd. has been declaring dividend at the rate of 22% on equity shares, during the last 3 years. The Company has not made adequate profits during the, year ended 31st March, 2019, but it has got adequate reserves which can be, utilized for maintaining the rate of dividend at 22%. Advise the Company as, to how it should go about if it wants to declare dividend at the rate of 22% for, the year 2018-19, as per the provisions of the Companies Act, 2013., 12. Prabha Limited is facing loss in business during the current financial year, 2018-19. In the immediate preceding three financial years, the company had, declared dividend at the rate of 10%, 12% and 14% respectively. To maintain, the goodwill of the company, the Board of Directors has decided to declare, 14% interim dividend for the current financial year. Is the act of Board of, Directors valid?, 13. The Director of Swara Limited proposed dividend at 12% on equity shares for, the financial year 2018-19. The same was approved in the annual general, meeting of the company held on 20th August, 2019. The Directors declared, the approved dividends., Mr. Mangesh was the holder of 1,000 equity shares on 31st March, 2019, but, he has transferred the shares to Ms. Vedika, whose name has been registered, on 20th July, 2019. Who will be entitled to the above dividend?, , 45

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2.7 References for further study, 1., , Tadon B. N. – Handbook of Practical Auditing, S. Chand and Sons., , 2., , Gupta Kamal – Contemporary Auditing, Tata McGraw Hill (E)., , 3., , Basu S. K. – Fundamentals of Auditing, Pearson (India) Publishers., , 4., , Srinivasan – Auditing – Taxmann Publications Pvt. Ltd., , 5., , CA Tapan – Audit & Assurance – Bharat Publications., , , 46

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Unit-3, Types of Audit and Audit of various Entities, Index, 3.0 Objectives, 3.1 Introduction, 3.2 Presentation of Subject Matter, 3.2.1, , Cost audit, , 3.2.2, , Tax audit, , 3.2.3, , Management audit, , 3.2.4, , Social audit, , 3.2.5, , Audit of insurance companies, , 3.2.6, , Audit of educational institutions, , 3.2.7, , Audit of limited companies, , 3.2.8, , Adverse opinion and disclaimer of opinion, , 3.2.9, , Audit of computerized accounting, , 3.3 Summary, 3.4 Terms of Remember, 3.5 Answers to check your progress, 3.6 Exercise, 3.7 References for further study, , 3.0 Objectives, After studying this unit, students shall be able to:
, , Understand various types of audit such as cost audit, tax audit, management, audit, audit of companies., ,
, , Describe the concepts of adverse and disclaimer of opinion., ,
, , Understand the audit of computerized accounting, 47

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3.1 Introduction, At operational level, scope of audit largely depends on types of audit as well as, type of entities for which audit is conducted. The present unit deals with various types, of audit., Cost audit is prescribed for the companies engaged in production, processing,, manufacturing or mining activities. Similarly it is expected to verify the utilization of, material, labour and overheads. In the earlier companies Act, 1956, section 233 B was, introduced for governing cost audit. As per the companies Act, 2013, section 148, provides the areas of maintenance of cost records., Tax audit is conducted in respect of business or profession from the point of view, of income tax. Section 44AB of Income Tax Act, 1961 gives the provisions pertaining, to tax audit. Particularly this type of audit is for ascertaining correctness of taxes paid, and returns field by the assesses., Management audit is conducted with a view to check the adherence to the policies, of management. This is internally conducted and does not have any legal requirement., This audit assesses methods and policies of an organization and use of its resources., Social audit is generally conducted to verify the social performance of an, organizations. This is also a review of company’s code of conduct regarding corporate, social responsibility. Corporates are also subject to the principle of public disclosure, which is also assessed in social audit., Audit of insurance companies is different from that of other entities in respect its, scope and procedure. Insurance Act, 1938 is the act on the basis of which all the, insurance companies are governed. Recently, IRDA has been established for regulating, insurance business in India. Auditor has to consider the relevant provisions of these, legislations to conduct audit of insurance companies., Audit of educational institutions is generally concerned with audit of books of, accounts of schools, colleges, universities, research institutes etc. Most of these entities, are run as societies or trusts. Hence, verification of truth and fairness of their accounts is, an important activity. Societies Registration Act, 1860 and Bombay Public Trust Act, are the two important acts which are followed for verifying performance of educational, institutes., , 48

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Companies Act has been thoroughly revised recently and as per Companies Act,, 2013 audit of limited companies has also been revised through the provisions. Chapter, X (Sections 139 to 148) governs the audit of limited companies. Company audit is, conducted to assess and verify each and every aspect of company right from, incorporation to liquidation., Audit report is expression of auditor’s opinion on the financial statements as well, as books of accounts. This report can be clean, qualified or disclaimer. While clean, report states that the financial statements present a true or fair view, the qualified report, gives certain descripancies subject to which the statements are proper. In some cases, auditor is unable to give his opinion, even after trying his level best. In that situation, he, can give disclaimer of opinion., In the recent development, most of the organizations are using computerized, systems for following methods/procedures as well as for maintaining books of accounts., Therefore, risk in computerized accounting as well as knowledge of CAAT (Computer, Assisted Auditing Techniques) has become important. This has largely changed the, way in which audit has been conducted traditionally. More and more use of technology, is being made in audit now a days., , 3.2.1 Cost Audit, Cost audit, as a statutory provision was introduced in 1965 by an amendment to, the Companies Act 1956, which empowered the Central Government to direct any, company to maintain proper cost records in the prescribed manner. In 1968, the, Companies Act was again amended empowering the government to order for a cost, audit. The Companies Act, 1956 was further amended by the Companies, Amendment Act, 1974 introducing section 233B empowering the Central, Government to order audit of cost accounts for which maintenance of Cost Accounts, was prescribed relating to utilization of material, labour or other items of cost in, respect of companies engaged in production, processing, manufacturing or mining, activities under section 209(1) (d)., The Companies Act, 2013 empowers the Central Government to make rules in, the areas of maintenance of cost records by the companies engaged in specified, industries, manufacturing of goods or providing services and for getting such records, audited under section 148 of Companies Act, 2013., , 49

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3.2.1.1 Meaning of Cost Audit, The cost audit is conducted in addition to the financial audit. The Cost Audit, represents the verification of cost accounts and a check on the adherence of Cost, Accounting Standards. Cost audit is concerned with the verification of the, correctness of the cost records maintained in a business concern., The terminology issued by the CIMA defines Cost Audit as “the verification of, the correctness of cost accounts and of the adherence to the cost accounting plan”., The Institute of Cost & Works Accountants of India defines cost audit as “an, audit of efficiency of minute details of expenditure, while work is in progress and not, a post-mortem examination. Cost Audit is mainly a preventive measure, a guide for, management policy and decision, in addition to being a barometer of performance”., The Institute of Cost and Management U K has defined Cost Audits as “the, verification of the correctness of cost accounts and a check on the adherence to, the cost accounting plan”., According to Smith and Day, Cost-Audit is detailed checking of the costing, system, techniques and accounts to verify their correctness and to ensure adherence, to the objective of cost accounting”., Cost Audit is a system of audit for the review, examination and appraisal of the, cost accounting records and added information required to be maintained by the, specified industries., Cost audit is the detailed checking as well as the verification of the correctness, of costing techniques, systems and cost accounts in any manufacturing concern or in, a service organisation, to compute the correct cost to be charged to the customers., In short, Cost Audit is a critical review undertaken for the purpose of, verification of the correctness of cost accounting records, such as cost accounts, cost, reports, cost statements, cost data and costing techniques and examining these, records to ensure that they adhere to the cost accounting principles, plans, procedures, and objectives., The cost audit is conducted in addition to the financial audit and only if the, Central Government makes an order for a particular year and for a specified, company. It provides useful information to the management regarding regulating, 50

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production, economical method of operations, reducing cost of operations and, reformulating Cost accounting plans., , 3.2.1.2 Objectives of Cost Audit, The principal object of the audit is to see that the cost data placed before the, management are verified and reliable and they are prepared in such detail as will, serve the purpose of the management in taking appropriate decisions. It aims to, identify the undue wastage or losses and ensure that costing system determines the, correct and realistic cost of production. The subsidiary objectives are1., , Verification of the arithmetical accuracy of cost books., , 2., , Ensuring that the cost accounts are maintained as per costing principles, predetermined norms and concepts of Cost Accounting., , 3., , Confirming that the management is using all cost data for decision-making., , 4., , Detection of errors and frauds., , 5., , Making internal control more effective., , 6., , Verification of the adequacy of the books of accounts and the accounting, system., , 7., , Correct valuation of work-in-progress and finished goods., , 8., , Verification of the total cost of each product, process, operation and job., , 9., , Verification of inter-company and intra-company transactions and transfers., , 10. Verification of statistical statements and other records to be submitted to the, Directorate General of Technical Development and Central Excise., 11. Providing assistance to the management by bringing out the deficiencies to its, notice and advising on the alternative courses of action., 12. Ensuring efficient utilization of resources., 13. Protection of the interest of the investors and shareholders., 14. Overall improvement in the quality of the functioning of the concern., , 51

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3.2.1.3 Scope of Cost Audit, From the practical point of view, the scope of cost audit is much wider than the, financial audit. The cost audit includes verification and checking of the following 1., , Utilization of materials, power, fuel, water, steam, electricity etc., , 2., , Employment records such as wages and salaries, allocation of work, attendance,, overtime, idle time etc., , 3., , Works overheads, office & administration overheads and selling & distribution, overheads, allocation of joint overheads, reconciliation of the cost records with, that of financial records, overhead recovery rates, basis for allocation of cost, between fixed and variable etc., , 4., , Fixed assets register with quantitative details, physical existence, method of, calculating depreciation, allocation of depreciation in respect of the common, assets etc., , 5., , Production reports, comparison with past records and budgeted targets, normal, and abnormal losses, work in-progress etc., , 6., , Work records such as job cards, work order, cost ledger, valuation of materials,, work-in-progress, finished goods etc., , 7., , Inventory records of stock of materials, work-in-progress, finished goods, spares, and stores, tools, etc. and their values, issue procedure and balances., , 8., , Utilization of Capacity - standard capacity, expected capacity and actual, capacity utilized, available hours, standards hours, planned hours and actual, hours worked etc., , 9., , Other Records such as company policies, productivity, bottlenecks in the, production process, internal control, internal audit, cost control techniques,, inter-company and intra-company transactions, royalty payments, inventory, management, etc., , 3.2.1.4 Types of Cost Audit –, Cost Audit is classified on the basis of appointment of cost auditor, i), , Cost Audit on behalf of Management - The main object of this type of cost audit, is to make available accurate, relevant and prompt information to management, 52

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to assist it in taking managerial decisions. A cost auditor suggests ways to, control the cost of production and to make an improvement in the cost, accounting plan., ii) Cost Audit on behalf of the Government – A cost auditor may be appointed to, ascertain correct cost of certain units when Government has to protect or, providing financial assistance, and to fix reasonable prices of certain items of, production so as to prevent undue profiteering., iii) Cost Audit on behalf of a Customer - Cost audit may be conducted on behalf of, a customer to establish correct cost so that the price will be charged on the basis, of agreed margin of profit., iv) Cost Audit on behalf of Trade Association - A cost audit may be conducted to, ascertain comparative profitability, to determine minimum price to avoid cut, throat competition among its members and to maintain prices at a certain level, so as to prevent undue profiteering., v), , Cost Audit on behalf of Tribunals - Labour Tribunals may direct the cost audit, to settle trade disputes. Income-Tax Tribunals may also direct the audit to assess, correct profit for assessment purposes., , vi) Cost Audit under Statute - The Central Government may, under the Companies, Act, 2013, order to certain classes of companies which are required to maintain, proper records regarding materials consumed, labour and other expenses to, ascertain the relationship of costs and prices., 3.2.1.5 Appointment of Cost Auditor, 3.2.1.5.1 Qualifications and Disqualifications of Cost Auditor, Qualifications of Cost Auditor - The Cost Auditor can be appointed from the, following., (i) Any person who is according to Cost and Works Accountant Act is a Cost, Accountant and whole time practicing., (ii) Any person who is a Charted Accountant according to Charted Accountants Act, and is a whole time practicing., (iii) A firm of Cost Accountants or Chartered Accountants can be appointed as a cost, auditor., 53

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Disqualifications of Cost Auditor, (i) A person cannot be appointed as Cost Auditor who according to any provisions, of Company’s Act 2013 is not qualified to be appointed as Cost Auditor., (ii) Any person who is appointed as Auditor of a company cannot be appointed as, Cost Auditor of the same company., 3.2.1.6 Important Points regarding Appointment of Cost Auditor, •, , Who can appoint the Cost Auditor and fix the Remuneration – Board of, Directors makes an appointment and fixes the remuneration on the, recommendation of Audit Committee. Later, this remuneration shall be, approved by shareholders., , •, , Information to Cost Auditor - Cost Auditor shall inform of his appointment, within 30 days of Board Meeting in which resolution for appointment has, passed and his / its written consent to such appointment and a certificate from, him or it, as provided in sub-rule (1A), shall be obtained, , •, , Information to Registrar of Companies - The Company should inform to the, Registrar of Companies regarding the appointment of cost auditor within 30, days of passing of resolution in Board Meeting OR within 180 days of the, commencement of financial year, whichever is earlier., , •, , Appointment of Cost Auditor in case of Casual Vacancy - Any casual vacancy, in the office of a cost auditor whether due to resignation, death or removal, shall, be filed by the Board of Directors within 30 days of such vacancy., , •, , Rights, Duties and obligations of Cost Auditor - The rights, duties and, obligations of Cost Auditor / Firm of Cost Auditor are same as applicable to, Statutory Auditors., , •, , Removal of Cost Auditor - The cost auditor may be removed from his office, before the expiry of his term, through a resolution in board meeting after giving, a reasonable opportunity of being heard to the Cost Auditor and recording the, reasons for such removal in writing., , 54

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3.2.1.7 Applicability of Cost Audit For the purpose of cost audit, the companies are classified into two categories,, Item A and Item B. Applicability of cost audit is determined according to the class of, company., Item A - i. Every company having annual turnover from all its products and, services in the immediately preceding financial year of ` 50 Crore or more and, ii. The aggregate turnover of the individual product or products or service or services, of ` 25 Crore or more., Item B - i. Every company having annual turnover from all its products and, services in the immediately preceding financial year of ` 100 Crore or more and, ii. The aggregate turnover of the individual product or products or service or, services of ` 35 Crore or more., However the requirement of Cost Audit shall not apply to a company in the, following circumstances:i., , If whole revenue of the company from exports, in foreign exchange,, exceeds 75% of its total revenue, or, , ii., , If the company is operating from a special economic zone, or, , iii., , If the company is engaged in generation of electricity for captive, consumption through Captive Generating Plant., , 3.2.1.8 Cost Audit Report Rules 1996, 3.1.8.1 The important provisions of the Rules, •, , The company shall make available the Cost Accounting records to the Cost, Auditor for the purpose of Cost Audit within 90 days from the end of the, financial year., , •, , Cost Auditor is required to report whether he has obtained all information and, explanation, whether proper Cost Accounting Records are kept by the company,, whether in his opinion the cost records give true and fair view of the cost etc., , •, , An annexure to the Cost Audit Report is to be given containing report on cost, accounting system, financial position, production, each elements of cost etc., 55

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•, , The important points that Cost Audit Report shall include -, , (a) Matters which appear to be clearly wrong in principle or apparently unjustifiable,, (b) Cases where the company’s funds have been used in a negligent or inefficient, manner,, (c) Factors which could have been controlled but have not been done,, (d) Peculiar features or undue benefits in contracts or agreements and, (e) The adequacy of budgetary control system., •, , The Cost Auditor shall suggest measures for improvements in performance, , •, , If the Cost Auditor qualifies his report, he should indicate the extent to which he, has qualified the report and the reasons there for., ,
, ,
, ,
, , The Cost Auditor shall submit the Cost Audit Report along with his or its, reservations or qualifications, if any, in Form CRA-3 to the Board of Directors, of the company within a period of 180 days from the closure of the financial, year. The cost statements and other necessary statements, approved by the Board, of Directors, are to be annexed to the cost audit report., The Board of Directors shall consider and examine such report, particularly any, reservation or qualification contained therein., The company shall forward a copy of Audit Report to the Registrar of, Companies within 30 days of receipt of the Audit Report along with the full, information and explanation on every qualification or reservation, if any, in, Form CRA-4 with specified fees., , According to Section 143(12) of the Act, if the Cost Auditor, during the course, of his duties as Cost Auditor, has reason to believe that, an offence involving fraud, has been or is being committed against the Company by its officers or employees, he, shall immediately report the matter to the Central Government., 3.2.1.9 Punishment on contravention of the Rules, If company contravenes any of the above mentioned provisions then company, shall be punishable with fine of ` 25,000 to ` 5,00,000 and every officer of the, , 56

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company who is in default shall be liable for fine of ` 10,000 to ` 1,00,000 or, imprisonment for a term which may extend to 1 year., If Cost Auditor contravenes any of the above mentioned provisions, unknowingly then he shall be punishable with fine of ` 25,000 to ` 5,00,000., Whereas, he contravenes any of the above mentioned provisions knowingly then he, shall be punishable with fine of ` 1,00,000 to ` 25,00,000 along with imprisonment, for a term which may extend to 1 year. Further, he shall be liable to refund the, remuneration and pay damages to company. In case of an audit firm, the criminal, liability other than fine shall devolve only on the concerned partner who acted in, fraudulent manner., , 3.2.1.10 Advantages of a Cost Audit, The main advantage of cost audit is that, it ensures the accuracy of cost accounting,, on the basis of which management takes major decisions., •, , It ensures that the organization keeps a close check on wastages and misuses of, materials, labour, stores etc. as well as, points out such wastages if any. When, such wastages are discovered the company can take corrective steps., , •, , It helps in pointing out inefficiencies in every cost centre and uneconomic, activities., , •, , It reveals irregularities and frauds in cost records., , •, , Comparison of actual expenditures with the standards enables to know, favourable and unfavourable variances. This helps management to know reasons, behind these variances and can take appropriate actions., , •, , A cost audit actually helps the statutory auditor. A statutory auditor can rely on, audited costing data., , •, , Helps in fixing individual responsibility of higher or lower performance., , •, , Provides all necessary information for immediate actions and decisions,, especially in respect of manufacturing., , •, , Facilitate Budgetary Control and Standard Costing technique., , •, , Ensures valuation of inventory, work-in-progress and finished goods., , •, , Useful for cordial relation between employees and top management., 57

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•, , It recommends a reasonable price to the consumers., , •, , Highlights the good as well as the week points of organisation and suggest, corrective actions, , 3.2.1.11 Difference between cost audit and financial audit - The main differences, between cost audit and financial audit are as below., Cost Audit, , Financial Audit, , It is used mostly in manufacturing It is used in all types of organisations, organisations, The primary object is to control the cost of The primary object is to find whether, the final accounts show true and fair, output., view., It is verification of total cost, cost per unit It is verification of Profit & Loss, of output, cost of each process etc., Account and Balance Sheet, It is mainly related to cost of output, It is related to all income and, expenditures as well as assets and, process, department etc., liabilities, The main purpose is to test working The purpose is to see whether, concerned laws and principles are, efficiency of the organisation., followed or not., This audit can be done by external parties This audit is done by owners of the, such as Government, Customer, Trade organisation., Associations, Tribunals etc., Cost Audit sees that the stock is not more Financial Auditor sees whether the, than the required quantum and it is valued proper valuation of the stock is done or, at cost., not., The report is submitted to the Government The report is submitted to Shareholders., / Owner / Company Law Board by whom, the appointment is made, The Cost Audit is confined primarily to The Financial Audit, Factory / Works., confined to the office., 58, , is, , primarily

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It protects the interest of Government and It protects the interest of Shareholders., Producers., Its report not confined to any specific It is generally confined to financial, year or related to some specific period, period but related to objectives., of time., The Cost Auditor is appointed with the The Financial Auditor is appointed in, prior permission of the Central General meeting of the company., Government or by the Board of Directors., , Check your Progress-I, A) Fill in the blanks in the following sentences by choosing the most correct, alternative given below., 1., , Cost audit as a statutory provision was introduced in _______ by an, amendment to the Companies Act 1956, a) 1956, , 2., , 3., , c) 1974, , d) 1965, , The Companies Act, 2013 empowers the _______________ to make rules, in the areas of maintenance of cost records by the companies engaged in, specified industries, manufacturing of goods or providing services and for, getting such records audited, a) Registrar of Companies, , b) Board of Directors, , c) State Government, , d) Central Government, , According to Cost Audit Report Rules 1996, the company shall make, available the Cost Accounting Records to the Cost Auditor for the purpose, of Cost Audit within ___ days from the end of the financial year., a) 14, , 4., , b) 1968, , b) 30, , c) 60, , d) 90, , If company contravenes any of the provisions of Cost Audit Report Rules, 1996, then company shall be punishable with fine of ________________., a) ` 10,000 to ` 1,00,000, , b) ` 1,00,000 to ` 25,00,000, , c) ` 2,50,000 to ` 5,00,000, , d) ` 25,000 to ` 5,00,000, 59

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B) Fill in the blanks in the following sentences, 1., , According to Section ________ of the Companies Act 2013, if the Cost, Auditor, during the course of his duties as Cost Auditor, has reason to, believe that, an offence involving fraud has been or is being committed, against the Company by its officers or employees, he shall immediately, report the matter to the Central Government., , 2., , According to the classification of companies for the purpose of cost audit,, under Item A cost audit is applicable for every company having annual, turnover from all its products and services in the immediately preceding, financial year of _______ or more, , C) State the following statements are True or False, 1., , Any person who is appointed as Auditor of a company cannot be appointed, as Cost Auditor of the same company., , 2., , A partnership firm of Cost Accountants or Chartered Accountants can be, appointed as a Cost Auditor., , 3.2.2 Tax Audit, There are various laws in India that govern different kinds of audit. The Income, Tax Law requires the taxpayer to get the the accounts audited of their business or, profession from the view point of Income-tax. The provisions for an Income Tax, audit are covered under section 44AB of the Income Tax Act of 1961. This section, gives the provisions concerned to the class of taxpayers who are required to get their, accounts audited. Tax audit aims to ascertain the factual veracity of returns filed and, the accomplishment of other requirements as per applicable rules. The auditor, performing the tax audit has to submit all the findings and observations in the, prescribed form of an audit report to the Income Tax Authority., , 3.2.2.1 Definitions of Tax Audit, Tax Audit is the official examination of the tax department to the tax return that, declares by taxpayers as required by law., The audit conducted by the chartered accountant of the accounts of the taxpayer, in pursuance of the requirement of section 44AB of the Income Tax Act 1961 is, called as Tax Audit., 60

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As the name itself suggests, Tax Audit is an examination or review of accounts, of any business or profession carried out by taxpayers from an income tax viewpoint, and evaluation of the income tax returns filed by the assessee for the concerned, assessment year., Tax Audit is an examination of an individual’s or organisation’s tax returns by, any outside agency to verify that all the information regarding income, expenditure, and deductions are filed correctly and as per the rules as mentioned by the Income, Tax Act, 1961.., , 3.2.2.2 Objectives of Tax Audit, Tax Audit is conducted to achieve the following objectives:, •, , To ensure proper maintenance and correctness of books of accounts and, certification of the same by a tax auditor., , •, , To ensure that the total income and the claims for deduction are correctly and, accurately entered by the businessperson., , •, , To report findings, observations and discrepancies noted by tax auditor, , •, , To report required information and compliance of various provisions of income, tax law., , •, , To verify the correctness of income tax returns filed by the taxpayer., , •, , To check frauds and malpractices in filing income tax returns, , •, , To restricts the chance of fraudulent practices., , •, , To ascertain / derive / report the requirements of Form No. 3CA or 3CB and, 3CD., , 3.2.2.3 Applicability of Tax Audit, Tax audit is not compulsory to all types of assesses but, it is applicable to certain, classes of assesses. Section 44AB of the Income Tax Act, 1961, specifies the classes, of assesses who have to follow compulsorily the income tax audit procedures and get, their accounts audited., 1., , A businessperson whose gross receipts / turnover / sales for the previous, financial year are ` 1 crore or more., , 2., , A professional whose gross receipts for the previous financial year is ` 50 lakh, or more., 61

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3., , Assessees qualify to choose the presumptive taxation scheme under Sections, 44AD, 44AE, 44AF, 44BB and 44BBB, but claims that the profit for such, business is lower than the profits calculated in accordance with the presumptive, taxation scheme under the concerned section, , 4., , Professionals eligible under Section 44ADA claims income lower than the, prescribed limit or income exceeds the maximum amount not chargeable to, income tax, , 3.2.2.4 Appointment of Tax Auditor, Any practicing Chartered Accountant or firm of Chartered Accountants or any, other person who can be appointed as an Auditor u/s 141 of the Companies Act,, 2013, can be appointed as Tax Auditor., The Board of Directors in case of Company, Partner in the case of partnership, firm and proprietor of the business can appoint Tax Auditor., , 3.2.2.5 Forms required for Tax Audit:, Rule 6G of the Income Tax Act lists the forms that need to be used to submit, income tax audit of business / profession under Section 44AB. The Income Tax (7th, Amendment) Rules 2014 has amended the forms required for income tax audit, submission., •, , If a businessperson or professional has to audit their accounts under any law, other than the Income Tax Act, then Form 3CA (Audit Form) is to be filled and, submitted., , •, , If a businessperson or professional has to audit their accounts only under the, Income Tax Act, then they need to use Form 3CB (Audit Form)., , In case of either of the aforementioned audit reports, tax auditor must furnish the, prescribed particulars in Form No. 3CD, which forms part of audit report., , 3.2.2.6 Tax Audit Report, Any person/persons covered under the section 44AB should get their accounts, audited and should also obtain the audit reports on or before 30th September of, subsequent financial year., , 62

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If a tax payer is mandated to conduct an audit of his business under more than, one law, for example, under both the Companies Act and Income Tax Act, then the, tax payer need not perform the audit twice for the same financial year separately, under each Act. Audit is conducted for single time and the same audit report is, submitted for the relevant scrutiny under different Acts. However, if the audit is done, for different Acts in different accounting years, then a tax audit has to be conducted, again for the relevant year under the Income Tax Act., Those who are mandated for tax audit have to file their Income Tax Return, (ITR) until September 30. It is compulsory to e-file the Tax Audit report while efiling I-T Return., 3.2.2.7 Penalty for Not Auditing:, If audit is not conducted as per Section 44AB, then the assessee has to pay, penalty as per Section 271B of the Income Tax Act. The penalty for delay in, completing audit and submitting the report is 0.5% of Total Sales / Turnover / Gross, Receipts or ` 1.5 lakh, whichever is less. However, if there is a genuine reason for, delay or non-filing of audit report, then as per Section 273B, no penalty will be, applicable. Genuine reasons include –, Resignation of the tax auditor, Death or physical inability of the partner responsible for accounts, Labour issues such as strikes or lock-outs, Loss of accounts due to theft or fire or incidents that are not under the assessee’s, control, Natural calamities, , 3.2.2.8 Procedure for filing Tax Audit Report:, •, , The Chartered Accountant assigned for conducting tax audit of an individual or, an organisation has to present the tax audit report online, using his/her official, login credentials., , •, , The taxpayer also has to mention the relevant information about their Chartered, Accountant in their login platform., , •, , Once the tax audit report is uploaded by the auditor, it has to be either accepted, or rejected by the taxpayer on his login portal. If the taxpayer rejects the tax, 63

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audit report, the entire process has to be repeated until the tax audit report is, accepted by the tax payer., •, , Tax audit report has to be filed on or before the pre-determined due date of, filing income return, i.e., 30th November of the subsequent assessment year for, taxpayers who were engaged in international transactions and 30th September of, the subsequent assessment year for other taxpayers., , 3.2.2.9 Rules Governing Tax Audit, •, , A tax audit is conducted only for business or profession and not for individual, income., , •, , If an assessee is involved in more than one business, tax audit is compulsory if, the total turnover of all businesses in aggregate is more than ` 1 crore., , •, , If an assessee operates more than 1 profession, tax audit is required in case if the, gross receipts of all the professions in aggregate cross ` 50 lakh., , •, , If an assessee runs a business as well as a profession, the need of tax audit is, decided separately. It means, If turnover of business is more than ` 1 crore then, tax audit is required for the business accounts, and if the gross receipts from the, profession is more than ` 50 lakh then tax audit of the profession is needed. But,, if turnover of business is less than ` 1crore and receipts from profession are less, than ` 50 lakh, no tax audit is required for either accounts, even though the total, of both (turnover + receipts) cross ` 1 crore., , •, , Sale of fixed assets and investments as well as rental income, income from, interest that is not part of the business income and any reimbursement of, expense by the client are excluded from calculation of total turnover of a, business / gross receipts of professional, , •, , Once the tax audit report is filed online, it cannot be revised. But if the accounts, have been revised, the audit report that has been filed can also be changed., Reasons for change in audit report have to be explicitly mentioned while filing, the revised report., , Check your Progress-II, A) Choose most correct alternative given below for filling the blanks in the, following sentences., 64

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1., , The provisions for an Income Tax audit are covered under section _____ of, the Income Tax Act 1961., a) 44BA, , 2., , 3., , 4., , b) 44AB, , c) 48AB, , d) 48BA, , Tax audit is not compulsory to ________________ but, it is applicable to, certain classes of assessees., a) Individuals, , b) all types of assessees, , c) Partnership Firms, , d) Indian Companies, , Tax Audit is compulsory for a professional whose gross receipts for the, previous financial year are ` ________ or more., a) 1 crore, , b) 50 lakh, , c) 1crore 50 lakh, , d) 25 lakh, , Tax audit report has to be filed on or before _______________ of the, subsequent assessment year for taxpayers who were engaged in, international transactions and, a) 30th September, , b) 30th November, , c) 30th June, , d) 31st March, , B) Fill in the blanks in the following sentences, 1., , Tax Audit is compulsory for a businessperson whose _________________, for the previous financial year are ` 1 crore or more., , 2., , Once the tax audit report is uploaded by the auditor, it has to be either, accepted or rejected by the _____________ on his login portal., , C) State the following statements are True or False, 1., , Once the tax audit report is filed online, it cannot be revised. But if the, accounts have been revised, the audit report that has been filed can also be, changed., , 2., , The penalty for delay in completing audit and submitting the report is 0.5%, of Total Sales / Turnover / Gross Receipts or ` 1.5 lakh, whichever is less., , 65

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3.2.3 Management Audit, Management audit is a new concept in auditing. It is different from the, conventional audit. It is an audit of overall performance of management. It covers all, functions of management like planning, organizing, co-ordination, control, etc. It, aims to find out inefficiencies and weaknesses of the management as well as to detect, and diagnose the problems in the governance of an organization and suggests various, means to avoid and solve these problems. It assesses methods and policies of an, organization and the use of resources including human resources, strategic planning,, and organizational improvement. Thus, Management audit is audit of the, management of a business organisation., Management Audit does not appraise performance of individual employees but,, it critically evaluates the senior executives as a management team in its effectiveness, to work in the interests of shareholder, employees and other stakeholders and uphold, reputational standards. It is generally conducted by the independent consultant., , 3.2.3.1 Definitions of Management Audit, “Management Audit can be defined as an objective and independent appraisal of, the effectiveness of managers and the effectiveness of the corporate structure in the, achievement of company objectives and policies. Its aim is to identify existing and, potential management weaknesses within an organization and to recommend ways to, rectify these weaknesses”. CIMA Official Terminology., Management Audit is the systematic and dispassionate examination, analysis, and appraisal of management’s overall performance. It is a form of appraisal of the, total performance of the management by means of an objective and comprehensive, examination of the organization structure, its components such as department, its, plans and policies, methods of process or operation and controls, and its use of, physical facilities and human resources., Management Audit refers to the careful examination of decisions and actions of, the management in order to analyze the performance. This also involves the review, of managerial aspects like goals, objective, policies, procedures, structure, control, and other management activities of the Company., , 66

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The management audit may be defined as a comprehensive and constructive, examination of an organizational structure of a company, its plans, objectives and, operations and use of human resources and physical facilities., Thus, management audit is an analysis and assessment of the competencies and, capabilities of a company's management in carrying out corporate objectives. It is, concerned with the evaluation and appraisal of the management system of the entire, organization or its segments., , 3.2.3.2 Key Takeaways, 1., , Management Audit is an important tool for the continuous appraisal and, evaluation of the methods and performance of an enterprise., , 2., , It assists the management in managing the operations of an undertaking in the, most efficient manner practicable., , 3., , It is a systematic examination of decisions and actions of the management to, analyse the performance., , 4., , It reviews managerial aspects like organizational objective, policies,, procedures, structure, control and system in order to check the efficiency of the, management., , 5. It stresses on results, evaluates the effectiveness and suitability of rules,, procedures and methods., 6., , It is an assessment of how well an organization's management team is applying, its strategies and resources., , 7., , It evaluates whether the management team is working in the interests of, shareholders, employees, and other stakeholders., , 8., , Generally, the board of directors hires an independent consultant to conduct the, management audit., , 3.2.3.3 Objective of Management Audit, The prime objective of Management Audit is to locate defects or irregularities in, management of the organisation and to suggest possible improvements. The other, objectives of are,, , 67

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1., , To identify the weaknesses and inefficiencies of management in different, functional areas, such as production, sales, finance etc., , 2., , To analyse the different ways to overcome the inefficiencies and weaknesses., , 3., , To review critically the organization structure., , 4., , To evaluate the ways for improving the management efficiency., , 5., , To ensure optimum utilization of human resources and available physical, facilities., , 6., , To point out deficiencies in objectives, policies, procedures and planning., , 7., , To suggest improved methods of operations., , 8., , To point out weak links in organizational structure and in internal control, system and suggesting improvements., , 9., , To help management by providing early signals of sickness, ways and means to, avoid the same, , 10. To anticipate problems and suggest remedies to solve them in time., 11. To ensure optimum utilization of human resources & available physical, facilities., 12. To suggest improved method of operation., 13. To help management in setting sound and effective targets., 14. To help management in co-ordination of various departments., 15. To help in training of personnel., 16. To ensure strong relations with outsiders., , 3.2.3.4 Scope of Management Audit, The scope of Management Audit has no limitations. It includes everything, which comes under the broad purview of management such as evaluation of policies, and procedures, adequacy of the organization structure, reliability of the system of, control, adequate protective methods, causes of variances, effective utilization of, manpower and equipment, efficiency of the method of operation, weaknesses or, inefficiencies or irregularities in management system etc. The areas of review depend, on the objectives of the audit. In general, the scope of Management Audit includes 68

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•, , The suitability, practicability and present compliance of the organization with its, objects and aims., , •, , The current reputation of the organization in relation to the general public and, within its own particular industrial or commercial field., , •, , Profitability and the rate of return on capital., , •, , Relationship of the business with its own shareholders, investors, customers,, suppliers and public in general., , •, , Operating efficiency., , •, , The relationship between management and staff within the business., , •, , The effectiveness of management at its various levels., , •, , Financial policies and control relating to production, sales and distribution and, in other functions of the organization., , In general, a management audit addresses the following questions –, •, , Has the organization achieved its main objectives?, , •, , What organizational structure has been set up by management?, , •, , What is the management information system (MIS)?, , •, , What are the policies and procedures of the finance?, , •, , How effective are current risk management measures?, , •, , How does management put together its annual budget?, , •, , Is management strategically guiding the company toward its financial targets?, , •, , Is the return on capital employed reasonable?, , •, , Is the management responsive to shareholders?, , •, , How effectively human resources are used?, , •, , How effective the system of recruitment, selection, training, retention and, development of human resources?, , •, , What is the state of relations among the employees of the organization?, , •, , Is the morale of employees high?, 69

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•, , Is the communication system effective?, , •, , Are the company's IT systems kept up-to-date?, , •, , Has the organization followed properly all the concerned Laws and Acts?, , •, , What is the total share of the organization in market?, , •, , What is the relationship of the organization with external sources? etc., , 3.2.3.5 Advantages of Management Audit, •, , It helps management in framing basic policies for the organizations and to, define objectives., , •, , Helps in setting up an organizational framework to implement the plans., , •, , Assists in designing system and procedures for smooth operation of the, organization., , •, , Helps in designing and reviewing Management Information System (MIS) for, decision making and coordinating., , •, , It helps in decision making areas such as make or buy, to close or continue,, merger etc., , •, , Assess the efficiency of the executives and serves as a moral check on the, executives., , •, , Suggests ways to utilize the resources of the organization effectively., , •, , Helps in rehabilitation of sick units., , •, , Gives expert advice on various areas of management and functioning of the, organization., , •, , Helpful in achieving efficiently the set objectives of the management by, coordinating with the personnel and various departments., , •, , Helpful in creating strong communication system with outsiders and healthy, relations with the stakeholders., , •, , Evaluate the performance of management in each area including resource, management and market strategies., , •, , Elaborate duties, rights and liabilities of staff members., 70

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•, , Evaluate Budgetary Control etc., , 3.2.3.6 Limitations of Management Audit, 1., , Lack of awareness among directors and managers of the objectives of the, organization and the extent to which these are being achieved,, , 2., , Failure to define clearly the objectives and responsibilities of individual, managers., , 3., , Inadequate steps taken to provide adequate finance., , 4., , Lack of technical competence of managers., , 5., , Retaining authority by managers for matters which ought to have been, delegated., , 6., , Lack of clear and identifiable management style in the organization., , 7., , Lack of proper staff / management training., , 8., , Failure on the part of managers to measure and assess the performance of their, subordinates., , 9., , Inadequacy of the management information system., , 10. Lack of enforcement of procedures or too much wastage of time in enforcing, such procedures., 11. High cost and so suitable only to big organizations., 12. May create a fear in the minds of the executives and may curb their initiative, and innovation., 13. If management auditor has no total freedom and independence then it is, worthless., 14. As it usually pin point shortcomings of managers in action, they hesitate to take, initiative., However, it is possible to overcome these limitations. Weaknesses revealed by, Management Audit can be studied in detail to ascertain the real causes and proper, remedial action may be taken and organization can utilize it effectively to improve its, various functional areas., , 71

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3.2.3.7 Difference between Financial Audit and Management Audit, Financial Audit, , Management Audit, , 1. Meaning, , Financial, Audit, means Management Audit means, verification of true and fair evaluation of managerial, performance in establishing, view of financial statements., and executing of procedures,, policies and objectives., , 2. Period, , Conducted generally for a year No time limit, , 3. Scope, , Examination of financial and Evaluation, of, the, related records and reporting performance of management, and reporting the defects, as it is., and, suggestions, for, improvement., , 4. Compulsion, , It is compulsory for certain No such compulsion, types of organisations., , 5. To whom report Audit Report is submitted to Report is submitted, is submitted, owners (shareholders), management, 6. Who can Audit, , A Chartered Accountant, , to, , Any independent person, , 3.2.3.8 Difference between Cost Audit and Management Audit, Cost Audit, , Management Audit, , 1. Meaning, , It is the verification of cost, accounts and a check on the, adherence of Cost Accounting, Standards., , It is an analysis and, assessment, of, the, competencies, and, capabilities of a company's, management in carrying out, corporate objectives., , 2. Compulsion, , It is compulsory in certain It is not compulsory for any, cases and products., organization, , 3. Period, , It is generally done for the, accounting year, 72, , No specific period. Period is, fixed as per convenience

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4. Who can Audit, , A Charted Accountant or a Any independent person, firm of them can do cost audit need not be Charted, Accountant., , 5. To whom the The report is submitted to the The report is submitted to, report, is Central Government and its the management, submitted, copy to the company, 6., Period, Report, , of The report must be submitted No time limit for report, within a specific period, submission, , Check your Progress-III, A) Choose most correct alternative given below for filling the blanks in the, following sentences., 1., , The report of management audit is submitted to the ____________., a) shareholders in general meeting b) Central Government, c) management, , 2., , d) statutory auditor, , Management Audit is generally conducted by the _______________ ., a) Chartered Accountant, , b) Managing Director, , c) independent consultant, , d) Government Auditor, , B) Fill in the blanks in the following sentences, 1., , Management Audit is not ___________ for any organization, , 2., , The prime objective of ____________________ is to locate defects or, irregularities in management of the organisation and to suggest possible, improvements., , C) State the following statements are True or False, 1., , Management Audit does not appraise performance of individual employees, , 2., , Generally, the board of directors hires an independent consultant to conduct, the management audit., 73

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3.2.4 Social Audit, The social audit movement was first started in U.S.A. in the middle of the last, century i.e. in 1950s. Later it gathered momentum in U.K., Japan and in other, western countries. In India, it attracted the interest of public and government in the, beginning of this decade and found a place in company legislation., There is difference of opinions among the experts as to the exact meaning and, components of this concept. According to some authors, it means the public, disclosure of a company’s social performance while, some others says that it is, internal evaluation of a company’s social responsibility performance and some, authors are of the opinion that it is a comprehensive evaluation of the way a company, discharges all its responsibilities to its shareholders, customers, employees, other, stakeholders and to the community at large. However, all are of the opinion that it is, an evaluation of company’s performance for the benefit of its own and of the society, at large., 3.2.4.1 Meaning and Definition of Social Audit, Today, corporations are often expected to deliver value to consumers and, shareholders as well as meet environmental and social standards. Social audits can, help companies to create, improve, and maintain a positive public image., Social Audit is a technique to understand, measure, verify, report on and to, improve the social performance of the organization. It values the voice of, stakeholders and is taken up for the purpose of enhancing governance, particularly, for strengthening accountability and transparency., “Social Audit is a commitment to systematic assessment of and reporting on, some meaningful, definable domain of a company’s activities that have a social, impact”. Boweni, Social audit is an extension of the principle of public disclosure to which, corporations are subject., A social audit is a way of measuring, understanding, reporting and ultimately, improving an organization’s social and ethical performance., A social audit is a formal review of a company's endeavors, procedures, and, code of conduct regarding social responsibility and the company's impact on society., 74

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It is an assessment of how well the company is achieving its goals or benchmarks for, social responsibility., A social audit is an internal examination of how a particular business is affecting, society. It helps to fill narrow gaps between vision or goal and reality as well as,, between efficiency and effectiveness. It focuses on the neglected issue of social, impacts including environmental issues., 3.2.4.2 Social Accounting and Social Audit, Social Accounting is a systematic accounting and reporting on those parts of a, company’s activities, which have a social impact. It refers to the identification,, measurement, recording and reporting the information as to social activities of the, concern to its internal and external users., On the other hand, Social Audit refers to the systematic evaluation of an, organization’s social performance. It discloses the company’s involvement in, socially oriented activities, activities taken for the well-being of the employees of the, concern and activities for prevention of environment from pollution., , 3.2.4.3 Objectives of Social Audit, Objectives of social audit can be divided into two broad categories namely,, Principal objectives, and Secondary objectives., A) Principal Objectives, 1., , Making the company’s business financially sound and progressive., , 2., , Payment of a fair and regular dividend to the shareholders., , 3., , Payment of fair wages under the best possible working conditions to the, worker., , 4., , Offer best reasonable prices to the consumers., , B) Secondary Objectives, 1., , Provision of bonus to the workers., , 2., , Assist in promoting the amenities of the locality., , 3., , Assist in developing the industry in which the firm is a member., , 75

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4., , Promote education, research and development in the techniques of the, industry., , 3.2.4.4 Need for Social Audit, Each business enterprise is set up in the society and for the society, so, it is, intimately connected with external public. The modern corporations are more, powerful and command huge resources. Its activities impact largely over society. Its, performance can develop the society or affects the society badly. It can support to the, government in social development or may create problems to the Government. It is, necessary to see that the power of corporations should not be used indifferently,, irresponsibly or in an antisocial way. Thus, social audit has become the need of the, day. Prof. Galbraith says, “This is not a matter of ambition, but of necessity”., , 3.2.4.5 The Scope of a Social Audit, There is no standard for the items included in a social audit. The scope of a, social audit can vary and be wide-ranging. The assessment includes social and public, responsibilities as well as employee treatment. Some of the topics that comprise a, social audit include the following,, •, , Environmental impact resulting from the company's operations, , •, , Transparency in reporting any issues regarding the effect on the public or, environment., , •, , Accounting and financial transparency, , •, , Financial contributions for community development and charity, , •, , Activities for employees, work environment including safety, free from, harassment and equal opportunity in addition to pay and benefits, , •, , Energy use, , •, , Nondiscriminatory practices etc., , Social audit is optional. It means companies can choose whether to disclose the, results publicly or not. The scope of social audit is based on the company’s goals., The impact on a particular town to entire state, country, or throughout the globe can, be assessed., , 76

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3.2.4.6 Information to be disclosed during Social Audit, It is now widely accepted that social audit must be taken in all organizations., Prof. Robert says, ‘it should be remembered that mere undertaking of social audit is, not sufficient but what is needed is a frank and full disclosure of its working’., In this connection Dahl has rightly remarked that, “A major corporation can, influence control and even coerce people and sometimes even the nation. Hence, the, need for wide disclosure becomes inevitable”., Both financial and non-financial information should be disclosed., The financial information can be disclosed through profit and loss account,, balance sheet etc. The financial information reveals the true financial position,, liquidity, solvency, profitability etc. of a company., Non-financial information can be expressed both in qualitative and quantitative, data. National Association of Accountants, Committee on Accounting for Corporate, Social performance, Canada divided all such information into four broad categories., 1., , Community Involvement- Under this category, socially oriented activities that, are primarily of benefit to the general public are included., , 2., , Human Resources- Under this category, activities directed to the well-being of, the employees are included., , 3., , Physical Resources and Environmental Contribution- This category includes the, activities directed towards alleviating or preventing environmental deterioration., It also includes the adherence to the law, conservation of scarce resources and, the disposal of waste., , 4., , Production or Service Contribution- It is mainly concerned with the impact of, company’s product or service on society. This includes product quality,, packaging, advertising, warranty provisions and product safety., , The information disclosed by a company under social audit can benefit to all its, stakeholders as well as Financial Institutions, Academic Institutions and Consultants,, Trade Unions and Political leaders, Environmentalists and more importantly to the, Government., , 77

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Check your progress-IV, A) Choose most appropriate option, 1., , The social audit movement was first started in _________., a) U.S.A.,, , 2., , d) U.A.E., , b) Bewoni, , c) Beniwo, , d) Boniwe, , The scope of a social audit is _____________., a) wide, , 4., , c) U.S.S.R., , “Social Audit is a commitment to systematic assessment of and reporting, on some meaningful, definable domain of a company’s activities that have a, social impact”. This definition is given by _______., a) Boweni, , 3., , b) U.K., , b) narrow, , c) limited, , d) restricted, , Under social audit _____________ information should be disclosed., a) both financial and non-financial b) only financial, c) only non-financial, , d) neither financial nor non-financial, , B) Fill in the blanks, 1., , Under _________ category, socially oriented activities that are primarily of, benefit to the general public are included., , 2., , _____________ is a systematic accounting and reporting on those parts of a, company’s activities, which have a social impact., , C) State whether the following sentences are True or False, 1., , Social audit is optional., , 2., , The information disclosed by a company under social audit can benefit to, all., , 3.2.5 Audit of Insurance Companies, Insurance is a contract between the insurer and the insured under which the, insurer undertake to compensate the insured for the loss arising from the risk insured, against and in consideration, the insured agrees to pay a premium regularly., The Insurance Act 1938 is applicable to all insurance companies in India. In the, year 1956, the Government of India nationalised life insurance business by passing, 78

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the Life Insurance Corporation Act 1956. This Act is applicable to LIC of India., Further, the Government passed the General Insurance Business (Nationalisation), Act 1972 and nationalised the general insurance business i.e. fire, marine and, miscellaneous insurance, which governs the business of all nationalised General, Insurance Companies. As a part of the LPG policy, the Government established, Insurance Regulatory and Development Authority (IRDA) by passing a special Act, namely, Insurance Regulatory and Development Authority (IRDA) Act 1999. Now, the insurance business in India is controlled and coordinated by the Insurance, Regulatory and Development Authority, popularly known as IRDA., According to section 2 of Insurance Act 1938, the sole object of the Indian, Insurance Company shall be to carry on life insurance business or general insurance, business or re-insurance business and as per Section 12 of the Act, the financial, statements i.e. Balance Sheet, Profit and Loss Account, Receipts and Payments, Account and Revenue Account of every insurer are required to be audited annually., The Insurance auditors shall examine policy and liability procedures, risk valuation,, tax documents, claims and commissions and various other financial records of, insurance. The auditor has to ensure that proper insurance rates and premiums are, implemented and followed all concerned laws., , 3.2.5.1 Legislations and Regulations, Many Legislations and Regulations are applicable to life and general insurance, companies, such as The Insurance Act 1938, The Insurance Rules 1939, Employees, State Insurance Act 1948, The Life Insurance Corporation Act 1956, The Income, Tax Act 1961, Insurance Regulatory and Development Authority (IRDA) Act 1999,, Insurance Regulatory and Development Authority (IRDA) (Preparation of Financial, Statements and Auditor’s Report of Insurance Companies) Regulation 2002, The, Companies Act 2013, and Companies (Accounts) Rules 2014. In addition to the acts, and regulations, IRDAI, which is empowered to frame regulations relating to, insurance business, issued various Guidelines on Corporate Governance for, insurance companies from time to time., , 3.2.5.2 Audit Committee, As per guidelines, insurance companies are required to form various mandatory, committees, such as, Audit Committee, Investment Committee, Risk Management, , 79

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Committee, Policyholders Protection Committee, Nomination and Remuneration, Committee, Corporate Social Responsibility Committee and Profits Committee., Every Insurer shall constitute an Audit Committee as per Section 177 of the, Companies Act, 2013. The Audit Committee,, •, , shall comprise of a minimum of three directors, majority of whom shall be, Independent Directors. The Chairperson of the Audit Committee should be an, Independent Director of the Board with an accounting /finance /audit experience, and may be a Chartered Accountant or a person with a strong financial analysis, background., , •, , shall have the oversight on the maintenance of books of account, administration, procedures, transactions and other matters having a bearing on the financial, position of the insurer., , •, , should oversee the financial statements, financial reporting, statement of cash, flow and disclosure processes, efficient functioning of the internal audit and, review its reports., , •, , shall discuss with the statutory auditors before the audit commences as well as, after audit regarding areas of concern., , •, , will additionally monitor the progress made in rectification of irregularities and, changes in processes wherever deficiencies have come to notice., , 3.2.5.3 Appointment of Auditor, The central and branch auditors of an insurance company are appointed at the, annual general meeting of the company with the prior approval of the Comptroller, and Auditor General (C & AG) of India. With the latest amendment to the Insurance, Act, 1938 and the Companies Act, 2013, IRDAI has issued the revised guidelines, that Insurers shall comply with the provisions relating to appointment of Auditors as, contained in the Companies Act, 2013. The appointment can be cancelled if found, that the appointment of auditors is not as per the guidelines., On the recommendation of the Audit Committee, the Board can appoint the, statutory auditors, subject to the shareholders’ approval at the general meeting of an, Indian insurance company., , 80

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An audit firm cannot accept the audits of more than three insurers at a time. An, insurer cannot remove its statutory auditor without the prior approval of the IRDAI., , 3.2.5.4 Primary Work –, The auditor should note the following important points before starting the audit, of an insurance company., a), , Study the related provisions of the concerned Acts and the Rules or Orders or, Directives issued by the IRDA affecting accounting and auditing procedure., , b), , Evaluate carefully the internal control system in force and determine to what, extent he can rely on the system., , c), , Ascertain the types of insurance business carrying by the insurance company, and check whether separate accounts are maintained for each type of insurance., , d), , Ensure that all the statutory registers are maintained by the insurance company, in the prescribed form., , 3.2.5.5 Important Audit Points in Revenue Account, 1., , Verification of Premium – Verification of premium is of utmost importance,, because it is the consideration for bearing the risk by the insurance company., The auditor has to see that,, •, , No Risk is assumed by the insurer without receipt of premium., , •, , All the premium collections are credited to a separate bank account and, transferred to the Regional Office or Head Office and no withdrawals are, normally permitted from that account for meeting the general expenditure., , •, , The internal controls and compliance which are laid down for collection, and recording of the premiums., , •, , Check whether Premium Registers have been maintained chronologically,, giving full particulars including GST charged as per acceptance advice on a, day -to-day basis. Cover notes are serially numbered, , •, , The figures of premium mentioned in the register tally with those in, General Ledger., , •, , Premium received and receivable have been accounted for as premium, income., 81

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2., , 3., , 4., , Verification of Claims - The claims includes the claims paid for losses incurred, and estimated or anticipated claims pending settlements under the policies., Settlement cost of claims includes all incidental charges. The auditor should•, , Determine the total number of documents required for settlement of claims, , •, , Check whether provision has been made for only such claims for which the, company is legally liable and provision made is normally not in excess of, the amount insured., , •, , Check in case of co-insurance arrangements, the company has made, provisions only in respect of its own share of anticipated liability., , •, , Check claimed paid should be duly sanctioned by the authority concerned, , Verification of Commission - The remuneration of an agent is paid by way of, commission which is calculated by applying a percentage to the premium, collected by him. Commission payable to the agents is debited to Commission, on Direct Business Account. The auditor should verify•, , Voucher disbursement entries with reference to the disbursement vouchers, with copies of commission bills and commission statements., , •, , Agents’ Register, Premium Register, Commission Rate Chart etc., , •, , Check authorization of vouchers and TDS as applicable, correctness of, amounts and proper accounting., , •, , Examine outstanding commission of last year and current year., , •, , Check no commission has been paid on the policies which are either, rejected or cancelled., , Verification of Operating Expenses - The auditor should check that the, administrative expenses are classified under 13 heads as mentioned in Schedule, IV. An auditor has to verify that,, •, , Expenses in excess of ` 5 lakhs or 1% of net premium, whichever is higher,, are specifically shown in a schedule., , •, , Direct expenses are charged to Revenue Account and indirect expenses to, Profit & Loss Account., 82

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•, , Check the allocation of aggregate expenses and confirm that it is justifiable., , •, , Check that there is no omission or duplication, over or under charge of, expenses. An auditor should get certificate in this regard signed by the, Chairman, two directors and principal officer., , •, , Check carefully expenses outstanding in the last year paid during the year, and expenses outstanding for the current year and provision made for such, expenses., , •, , Expenses not directly relating to insurance business etc. are properly, recorded., , 3.2.5.6 Important Audit Points in Balance Sheet, 1., , Investments - Major provisions of the Insurance Act 1938 to be considered in, this regard are•, , An insurance company can invest only in approved securities. However, it, can invest in other securities if such investments not exceed 25% of the, total investments and are made with the consent of board of directors., , •, , An insurer can invest in shares or debentures of Insurance or Investment, Company maximum, 10% of its own total assets or 2% of the investee’s, subscribed share capital or debentures, whichever is less., , •, , An insurance company cannot invest in shares and debentures of a private, company and outside India., , 2., , Cash and Bank Balances – The auditor should prepare bank reconciliation, statements, obtain confirmation of Bank Balances of all operative and, inoperative accounts, verify physically Term Deposit Receipts, verify the, deposits and withdrawals transactions at random and check whether the Account, is operated by authorized persons only., , 3., , Outstanding Premium and Agents’ Balance – The auditor should verify whether, agent’s balances and outstanding balances in outstanding premium account have, been listed, analyzed and reconciled, whether recoveries of large outstanding, have been made in post audit period, whether there is any old outstanding debit, or credit balances which require adjustment, agent’s balances do not include, , 83

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employees’ balances and balances of other insurance companies, no credit of, commission is given to agents for businesses directly procured etc., , 3.2.5.7 Reinsurance, Reinsurance – When one insurance company passes on a part or whole of the, risk undertaken to another insurance company, it is called as reinsurance., Reinsurance Ceded – When an insurance company passes on the risk to another, company, it is called as reinsurance ceded., Reinsurance Accepted - When an insurance company accepts the risk from, another company, it is called as reinsurance accepted, Auditor’s responsibility in this respect is –, •, , In the case of reinsurance ceded, verify the premium paid for reinsurance, and the claims recovered under these policies during the year., , •, , In the case of reinsurance accepted, verify the premium received and claims, settled., , •, , Ensure that all the commissions on reinsurance accepted or ceded have, been disclosed in the revenue account separately. Amount due to or, recoverable from are properly recorded in the books of accounts and, disclosed in the revenue account separately., , 3.2.5.8 Auditors’ Report, Auditor’s Report of Insurance Companies have been prescribed by the authority, in Regulation 3 under Schedule C of IRDA. It has four parts., A) Fact Part –, a), , That they have obtained all the necessary information and explanation., , b), , Whether proper books of accounts have been maintained., , c), , Whether proper returns from branches and other offices have been received., , d), , Whether financial statements are in agreement with the books of accounts, and returns., , e), , Whether the actuarial valuation of liabilities is duly certified by the, appointed actuary., 84

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B) Opinion Part –, a), , Whether the Balance Sheet gives a true and fair view of the insurer’s affairs, as at the end of the financial year, Revenue Account gives a true and fair, view of the surplus or deficit for the financial year, Receipts and Payments, Account gives true and fair view of the receipts and payments for the, financial year., , b), , The financial statements are prepared in accordance with the requirements, of the concerned act., , c), , Investments have been properly valued., , d), , The accounting policies selected are appropriate and are in compliance with, the Accounting Standards, Principles and Directions by the IRDA, , C) The Auditor shall further state that –, a), , They have reviewed the Management Report and that there is no an, apparent mistake or material inconsistencies., , b), , The insurer has complied with the terms and conditions of the registration., , D) Certification Part – An auditor should give certificates in respect of following, matters., a), , They have verified the cash balance and the securities., , b), , The extent to which they have verified the investments and transactions, related to any trusts undertaken., , c), , No part of the assets of the policy holder’s funds has been applied in, contravention of the provisions of the Insurance Act 1938., , Check your Progress-V, A) Choose most correct alternative from the alternatives given below of each, statement, 1., , According to section _______ of Insurance Act 1938, the sole object of the, Indian Insurance Company shall be to carry on life insurance business or, general insurance business or re-insurance business, a) 2, , b) 12, , c) 177, 85, , d) C (3)

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2., , The insurance business in India is controlled and coordinated by the, ____________________., a) Insurance Regulatory and Development Authority, b) Insurance Regulating and Development Authority, c) Insurance Regulatory and Developing Authority, d) Insurance Regulatory and Development Authorities, , 3., , The Audit Committee shall comprise of a minimum of ________ directors, a) three, , 4., , b) five, , c) two, , d) four, , Auditor’s Report of Insurance Companies have been prescribed by the, authority in Regulation 3 under _________ of IRDA., a) Schedule C, , b) Schedule A, , c) Schedule B, , d) Schedule D, , B) Fill in the blanks in the following sentences, 1., , When an insurance company passes on the risk to another company, it is, called as reinsurance _______., , 2., , Expenses in excess of ` __ lakhs or __ % of net premium, whichever is, higher, is specifically shown in a schedule., , C) State the following statements are True or False, 1., , The Insurance Act 1938 is applicable to all insurance companies in India., , 2., , An insurance company can invest in securities other than approved, securities maximum 25% of the total investments., , 3.2.6 Audit of Educational Institutions, Audit of educational institutions means audit of books of accounts of schools,, colleges, institutions of management education & research, institutions of, professional education, universities or other such institutions which are engaged in, the educational field. A large number of educational institutions are registered under, in India under Society Registration Act, 1860. The purpose behind the formation of, educational institutions is to spread education and not just earn profits., Such institutions’ Final Accounts include Receipts and Payments Account,, Income and Expenditure Account and Balance Sheet. Auditor should check these, 86

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accounts and balance sheet in order to verify and report the trueness and fairness of, results presented by these accounts and balance sheet. Generally, the procedure for, auditing is same. However, an auditor of educational institution should take into, account the following important points., , 3.2.6.1 Preliminary work –, Following points need to be considered by an Auditor before actual starting, audit of educational institutions −, •, , Confirm whether the letter of appointment is in order., , •, , Obtain a list of books, documents, register and other records as maintained by, the educational institutions., , •, , Examine the audit report of last year and should note down the observation and, qualification, if any., , •, , Go through the University Act – Universities, colleges and other institutes of, higher education are governed by the concerned universities act. Every State, may have different act, for example, Maharashtra Public Universities Act 2016., Auditor should go through the act and see carefully the provisions, rules and, regulations relating to the maintenance of accounts., , •, , Study Trust Deeds – Generally, the governing body has its Memorandum and, Article, which contains some regulations and directions regarding maintenance, of accounts., , •, , Apex Bodies – University Grants Commission (UGC), All India Council for, Technical Education (AICTE), National Council for Education, Research and, Training (NCERT) are the apex bodies which make rules and regulations for, governance of education and higher education in the country. The auditor should, study the role of such apex bodies., , •, , Funding Bodies – The bodies at national level like UGC, AICTE, RUSA and, ICSSR provides grants to the higher educational institutions for various, purposes. The auditor should obtain necessary information about these funding, bodies., , 87

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3.2.6.2 General Audit Points, •, , Resolutions passed in the meetings of governing body - It may pass resolutions, from time to time in respect to accounts. The auditor should confirm whether the, regulations and decisions of the governing body have been compiled with. He, should examine the Minutes of Meetings of the Board of Trustee or the, Governing Body for important decisions regarding the sale or purchase of fixed, assets, investments, delegation of finance power etc., , •, , Budgets - Auditor should obtain a copy of budgets to study different heads of, income and expenditure. He should check budgets are prepared properly and the, budgetary control technique is used properly., , •, , Internal Check System - If the institution is applying internal check, auditor, should assess the strength and weaknesses of the system., , •, , Control System – It is to be verified how the authority is controlling the affairs,, especially financial matters such as authorization of bills, process of purchase of, materials, stationery and consumables, maintenance of accounts and record,, system of receipts and payments, process of purchase of fixed assets and, construction of buildings, management information system (MIS) etc., , 3.2.6.3 Audit of Income, Main Sources of Income are, •, , Grant-in-aid from Government – most of the schools, colleges and universities, are receiving grant-in-aid from the Government, especially salary grant. Auditor, should examine the receipt and expenditure against grant-in-aid from the, government very carefully. Verify that the grants are properly utilized for the, purpose for which it is received., , •, , Grants from Apex Bodies and Funding Bodies – Generally, such type of bodies, provides following grants –, a), , Development Grants for construction of buildings and purchase of fixed, assets., , b), , Maintenance Grants for maintenance of premises, laboratories, libraries etc., , c), , Seed Money to start various skill oriented or vocational courses, 88

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d), , Financial support for organization of conferences etc., , e), , Financial support for conducting research, , The Auditor should study all the conditions concerning grants and see very, carefully that grants received are spent only for the purpose for which it is received, as per the conditions laid down., •, , Fees from Students – Various types of fees are paid by the students such as, admission fee, library fee, laboratory fee, gymkhana fee etc. In general, about 20, types of fees are charged. Auditor should study the fees structure and see that it, is properly authorized along with changes if any, verify receipts of fees from, students, from counterfoils or carbon copy of the receipts and see whether cash, received has been banked daily or not., , It is necessary to verify recovery of outstanding fees of previous years and fees, outstanding for current year, whether unrecovered balance is written off after, authorization of competent authority and whether concession and exemption of fees, are duly authorised by the authority., •, , Deposits from Students – Educational institutions also collects various deposits, from students such as laboratory deposit, library deposit etc. Auditor should, check that these deposits are properly accounted for, refunded by proper way or, transferred unclaimed deposits to reserves after proper authorization and as per, rules., , •, , Donations from public – Verify the donations and other subscriptions from the, various authorities have been properly accounted for and acknowledged. If the, donations are given for particular purpose, see that it is utilized for that purpose, only., , •, , Other Income - The income from property and investment, fines received, sale, of scrap etc., should be properly verified from the vouchers., , 3.2.6.4 Audit of Expenditures, Types of Expenses / Payments, •, , Salary, allowances and provident fund contribution for teaching and nonteaching staff., , •, , Expenses on sports and games, 89

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•, , Expenses on Programmes and Functions, , •, , Expenses on Cultural Activities, , •, , Hostel Expenses, , •, , Library recurring expenses, , •, , Laboratory consumables & maintenance, , •, , Repairs and maintenance, , •, , Office and administrative expenses, , The following points need to be considered by an Auditor while conducting, audit of Expenses of Educational Institutions −, 1., , Vouch the amount of salaries paid with the Salary Register, Salary Sheets, Bank, Passbook, vouchers and other records. See that all the amounts deducted from, salaries such as Professional Tax, Income Tax, Provident Fund, Life Insurance, Premiums, Bank Loan Repayments, etc. are deposited in appropriate, Government accounts or paid to concerned authorities well within time without, any default., Increments, fixation in new scale, increase in salary due to promotions,, increase in Dearness Allowances and its differences, medical reimbursements,, fixation in new pay according to pay commission rules, arrears of salary, received etc. are also to be checked., , 2., , Purchase of sports items, items required for cultural activities and trophy,, medals and other prizes should be properly verified with quotations, invoice,, purchase bills, cheque counterfoil, etc. All purchases should be authorized by, appropriate person., Expenses regarding travelling, hire charges, daily allowances, registration, fees, etc. in respect of sports and cultural activities are also to be checked, carefully., , 3., , Hostel expenses such as purchase food items, provisions, groceries, clothing,, etc. should be properly verified. Library and laboratory recurring expenses are, also verified with as many vouchers as possible., , 90

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4., , Library recurring expenses include expenditure on newspapers, journals,, magazines, binding of journals and old books, protection from white aunts,, internet charges and payments for e-journals and e-books, etc. Laboratory, recurring expenses include expenditure on chemicals, glass wares, plants,, various consumables required for experiments, etc., The auditor should examine such transactions right from the requirements, from the departments, university rules and recommendations, government rules,, purchase process and payment of bills, accounting and all records in this respect., He has to discuss with the librarian and heads of departments also if required., , 5., , Generally, educational institutions incurs considerable amount on repairs and, maintenance as it uses large building, furniture & fixtures, computers, laboratory, equipments etc. and these are used by students. Auditor has to see the policy of, repairs and maintenance of all fixed assets and other items, whether the, institution has annual maintenance contracts or it is done as per the requirement,, the decisions regarding major repairs, etc., , 6., , The office and administrative expenses such as stationery and printing,, electricity, telephone, internet charges, etc. must be carefully vouched and it, should be seen that capital expenditure has not been treated as revenue, expenditure or vice versa., , The auditor has also to see that appropriate provision should be made on account, of outstanding payments., 3.3.6.5 Audit of Receipts and Payments Account –, Auditor should check all receipts and payments very carefully with as many, vouchers as possible. The auditor has to verify that –, •, , Daily collections are recorded properly in the daily collection register and, resulting figure is taken to the cash book., , •, , All receipts are daily banked and no cash balance is kept for days together., , •, , Separate bank accounts are opened for Government Grants, Grants from, Funding Agencies and other special items., , •, , Expenditure on specific items is made from the funds generated for the purpose, and from the bank account opened for the purpose., 91

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•, , All payments are made through bank. If payments are made in cash, these are, properly authorized., , •, , No advance payments are made. If advance payment is made, check that, whether it is justifiable and properly authorised or not. Also confirm that the, completion in this regard is done in due time and no case is pending in this, respect., , •, , Advances given to the staff for various activities such as sports tournaments,, cultural competitions, laboratory experiment expenses, study tours, official, outdoor duties, etc. Whether all accounting documents in respect of concerned, activity are submitted and refunded remaining amount in the given time. No, subsequent advance is given to the staff member who has not submitted the, accounting documents of previous advance., , •, , Transfers from educational institution to governing body and vice versa are, properly made and there are justifiable reasons for that., , •, , Whether bank reconciliation statement is prepared at regular intervals and what, kind of action is taken for cheques issued or deposited but not cleared in due, time., , 3.2.6.6 Audit of Balance Sheet –, The following points need to be considered while conducting an audit of Assets, and Liabilities –, •, , All the assets and liabilities are properly exhibited in the balance sheet., , •, , Verification of Assets register - Separate register or account should be, maintained for the assets which are generated from grants received from State, Government or any other funding agency. Physical verification of furniture and, computers and laptops are very much essential. The stock of laboratory, equipments, stationary and other small items are also to be counted physically. It, is also necessary to see that obsolete and unusable items of assets which are, discarded are shown as assets., , •, , Verification of depreciation - It should be calculated and charged considering, the useful life of assets or as per the applicable Act., , 92

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•, , It is must for an auditor to check, where investments have been made, because, as per the Indian Public Trust Act, investment can be made in specific securities, only. In respect of higher educational institutions, university ask to keep specific, amount as fixed deposit as security when new course or division is started. The, auditor has to verify these fixed deposits physically and see no deposit is, withdrawn without the permission of the university. If donation is received in, the form of investment, an auditor has to check all related correspondence with, the donor., , •, , All the assets are constructed or purchased as per the requirement and as per the, concerned specifications., , •, , The reasons for outstanding expenses and amount payable to suppliers., , •, , Proper valuation of assets under construction, , Check your Progress-VI, A) Fill in the blanks in the following sentences by choosing the most correct, alternative given below., 1., , A large number of educational institutions are registered under in India, under ________________., a) Society Registration Act, 1860, b) Educational Institutions Act 1860, c) Society Registration Act, 1864, d) Maharashtra Society Registration Act 1862, , 2., , Generally, the __________ has its Memorandum and Article, which, contains some regulations and directions regarding maintenance of, accounts., a) governing body, , b) Principal / Head Master, , c) Government of Maharashtra, , d) Director of Education, , B) Fill in the blanks in the following sentences, 1., , ____________ is the main source of income of aided schools, colleges and, universities., 93

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Grant-in-aid from Government, 2., , Before actual starting the work of audit, an auditor of colleges and, universities must go through the Maharashtra Public Universities Act, _____., 2016, , C) State the following statements are True or False, 1., , Salaries and allowances of teaching and non-teaching staff is the main item, of expenses of any educational institution., , 2., , An auditor of an educational institution has right to study each and every, resolution passed by the governing body in its various meetings having, financial implications., , 3.2.7 Audit of Limited Companies as per Companies Act 2013, 3.2.7.1 Introduction, The Companies Act 2013 is an Act of the Parliament of India which regulates, companies from incorporation to liquidation. It is a rule based Act divided in 29, Chapters and 470 sections. Chapter X and the Sections 139 to 148 of the Companies, Act, 2013 deals with Audit and Auditors, , 3.2.7.2 Appointment of an Auditor (Section 139), It deals with the provisions regarding appointment of auditor. Appointment, includes re-appointment., (1) Every company shall, at the first annual general meeting, appoint an individual, or a firm as an auditor who shall hold office from the conclusion of that meeting, till the conclusion of its sixth annual general meeting and thereafter till the, conclusion of every sixth meeting. Provided that,, •, , the company shall place the matter relating to such appointment for, ratification by members at every annual general meeting,, , •, , before such appointment is made, the written consent of the auditor to such, appointment, and a certificate from him or it that the appointment, if made,, shall be in accordance with the conditions as may be prescribed, shall be, , 94

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obtained from the auditor. The certificate shall also indicate whether the, auditor satisfies the criteria provided in section 141,, •, , the company shall inform the auditor of his or its appointment, and also file, a notice of such appointment with the Registrar within fifteen days of the, meeting in which the auditor is appointed., , (2) No company shall appoint or re-appoint—, (a) an individual as auditor for more than one term of five consecutive years;, and, (b) an audit firm as auditor for more than two terms of five consecutive years:, Provided that—, •, , (i) an individual auditor who has completed his term under clause (a) shall not, be eligible for re-appointment as auditor in the same company for five years, from the completion of his term;, (ii) an audit firm which has completed its term under clause (b), shall not be, eligible for reappointment as auditor in the same company for five years, from the completion of such term:, , •, , as on the date of appointment no audit firm having a common partner or partners, to the other audit firm, whose tenure has expired in a company immediately, preceding the financial year, shall be appointed as auditor of the same company, for a period of five years:, , (3) If the audit firm is appointed, the auditing partner and his team shall be rotated, at such intervals as may be resolved by members; or the audit shall be conducted, by more than one auditor., (4) The Central Government may, by rules, prescribe the manner in which the, companies shall rotate their auditors., The word ‘firm’ shall include a limited liability partnership incorporated, under the Limited Liability Partnership Act, 2008., (5) In the case of a Government company or any other company owned or, controlled, directly or indirectly, by the Central Government, or by any State, Government or Governments, or partly by the Central Government and partly by, one or more State Governments, the Comptroller and Auditor-General of India, 95

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shall, in respect of a financial year, appoint an auditor duly qualified to be, appointed as an auditor of companies under this Act, within a period of one, hundred eighty days from the commencement of the financial year, who shall, hold office till the conclusion of the annual general meeting., (6) The first auditor of a company, other than a Government company, shall be, appointed by the Board of Directors within thirty days from the date of, registration of the company and in the case of failure of the Board to appoint, such auditor, it shall inform the members of the company, who shall within, ninety days at an extraordinary general meeting appoint such auditor and such, auditor shall hold office till the conclusion of the first annual general meeting., (7) In the case of a Government company or any other company owned or, controlled, directly or indirectly, by the Central Government, or by any State, Government, or Governments, or partly by the Central Government and partly, by one or more State Governments, the first auditor shall be appointed by the, Comptroller and Auditor General of India within sixty days from the date of, registration of the company and in case the Comptroller and Auditor-General of, India does not appoint such auditor within the said period, the Board of, Directors of the company shall appoint such auditor within the next thirty days;, and in the case of failure of the Board to appoint such auditor within the next, thirty days, it shall inform the members of the company who shall appoint such, auditor within the sixty days at an extraordinary general meeting, who shall hold, office till the conclusion of the first annual general meeting., (8) Any casual vacancy in the office of an auditor shall—, (i) in the case of a company other than a company whose accounts are subject, to audit by an auditor appointed by the Comptroller and Auditor-General of, India, be filled by the Board of Directors within thirty days, but if such, casual vacancy is as a result of the resignation of an auditor, such, appointment shall also be approved by the company at a general meeting, convened within three months of the recommendation of the Board and he, shall hold the office till the conclusion of the next annual general meeting;, (ii) in the case of a company whose accounts are subject to audit by an auditor, appointed by the Comptroller and Auditor-General of India, be filled by the, Comptroller and Auditor General of India within thirty days: Provided that, 96

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in case the Comptroller and Auditor General of India does not fill the, vacancy within the said period, the Board of Directors shall fill the vacancy, within next thirty days., (9) A retiring auditor may be re-appointed at an annual general meeting, if—, (a) he is not disqualified for re-appointment;, (b) he has not given the company a notice in writing of his unwillingness to be, re-appointed; and, (c) a special resolution has not been passed at that meeting appointing some, other auditor or providing expressly that he shall not be re-appointed., (10) Where at any annual general meeting, no auditor is appointed or re-appointed,, the existing auditor shall continue to be the auditor of the company., (11) Where a company is required to constitute an Audit Committee under section, 177, all appointments, including the filling of a casual vacancy of an auditor, under this section shall be made after taking into account the recommendations, of such committee., 3.2.7.3 Removal, Resignation of Auditor and giving of Special Notice (Section, 140), (1) The auditor appointed under section 139 may be removed from his office before, the expiry of his term only by a special resolution of the company, after, obtaining the previous approval of the Central Government in that behalf in the, prescribed manner., Provided that before taking any action under this sub-section, the auditor, concerned shall be given a reasonable opportunity of being heard., (2) The auditor who has resigned from the company shall file within a period of, thirty days from the date of resignation, a statement in the prescribed form with, the company and the Registrar, and also with the Comptroller and Auditor, General of India, indicating the reasons and other facts as may be relevant with, regard to his resignation., (3) If the auditor does not comply the above (sub-section (2)), he or it shall be, punishable with fine which shall not be less than fifty thousand rupees but which, may extend to five lakh rupees., 97

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(4) This sub-section explains about Special Notice., (i) Special notice shall be required for a resolution at an annual general, meeting appointing as auditor a person other than a retiring auditor, or, providing expressly that a retiring auditor shall not be reappointed, except, where the retiring auditor has completed a consecutive tenure of five years, or, as the case may be, ten years, as provided under sub-section (2) of, section 139., (ii) On receipt of notice of such a resolution, the company shall forthwith send, a copy thereof to the retiring auditor., (iii) Where notice is given of such a resolution and the retiring auditor makes, with respect thereto representation in writing to the company and requests, its notification to members of the company, the company shall,—, (a) in any notice of the resolution given to members of the company, state the, fact of the representation having been made; and, (b) send a copy of the representation to every member of the company to whom, notice of the meeting is sent, whether before or after the receipt of the, representation by the company, and if a copy of the representation is not, sent as aforesaid because it was received too late or because of the, company‘s default, the auditor may require that the representation shall be, read out at the meeting., Provided that if a copy of representation is not sent as aforesaid, a copy, thereof shall be filed with the Registrar., Provided further that if the Tribunal is satisfied on an application either, of the company or of any other aggrieved person that the rights conferred, by this sub-section are being abused by the auditor, then, the copy of the, representation may not be sent and the representation need not be read out, at the meeting., (5) The Tribunal either suo motu or on an application made to it by the Central, Government or by any person concerned, if it is satisfied that the auditor of a, company has, whether directly or indirectly, acted in a fraudulent manner or, abetted or colluded in any fraud by, or in relation to, the company or its directors, or officers, it may, by order, direct the company to change its auditors., 98

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Provided that if the application is made by the Central Government and the, Tribunal is satisfied that any change of the auditor is required, it shall within, fifteen days of receipt of such application, make an order that he shall not, function as an auditor and the Central Government may appoint another auditor, in his place., Provided further that an auditor, whether individual or firm, against whom, final order has been passed by the Tribunal under this section shall not be, eligible to be appointed as an auditor of any company for a period of five years, from the date of passing of the order and the auditor shall also be liable for, action under section 447., Explanation - In the case of a firm, the liability shall be of the firm and that of, every partner or partners who acted in a fraudulent manner or abetted or colluded in, any fraud by, or in relation to, the company or its director or officers., 3.2.7.4 Eligibility, Qualifications and Disqualifications of Auditors (Section 141), (1) A person shall be eligible for appointment as an auditor of a company only if he, is a chartered accountant., Provided that a firm whereof majority of partners practising in India are, qualified for appointment as aforesaid may be appointed by its firm name to be, auditor of a company., (2) Where a firm including a limited liability partnership is appointed as an auditor, of a company, only the partners who are chartered accountants shall be, authorised to act and sign on behalf of the firm., (3) The following persons shall not be eligible for appointment as an auditor of a, company,, (a) a body corporate other than a limited liability partnership registered under, the Limited Liability Partnership Act, 2008;, (b) an officer or employee of the company;, (c) a person who is a partner, or who is in the employment, of an officer or, employee of the company;, (d) a person who, or his relative or partner, , 99

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(i) is holding any security of or interest in the company or its subsidiary, or of its, holding or associate company or a subsidiary of such holding company:, Provided that the relative may hold security or interest in the company of face, value not exceeding one thousand rupees or such sum as may be prescribed;, (ii) is indebted to the company, or its subsidiary, or its holding or associate company, or a subsidiary of such holding company, in excess of such amount as may be, prescribed; or, (iii) has given a guarantee or provided any security in connection with the, indebtedness of any third person to the company, or its subsidiary, or its holding, or associate company or a subsidiary of such holding company, for such amount, as may be prescribed;, (e) a person or a firm who, whether directly or indirectly, has business, relationship with the company, or its subsidiary, or its holding or associate, company or subsidiary of such holding company or associate company of, such nature as may be prescribed;, (f) a person whose relative is a director or is in the employment of the, company as a director or key managerial personnel;, (g) a person who is in full time employment elsewhere or a person or a partner, of a firm holding appointment as its auditor, if such persons or partner is at, the date of such appointment or reappointment holding appointment as, auditor of more than twenty companies;, (h) a person who has been convicted by a court of an offence involving fraud, and a period of ten years has not elapsed from the date of such conviction;, (i) any person whose subsidiary or associate company or any other form of, entity, is engaged as on the date of appointment in consulting and, specialised services as provided in section 144., (4) Where a person appointed as an auditor of a company incurs any of the, disqualifications mentioned in sub-section (3) after his appointment, he shall, vacate his office as such auditor and such vacation shall be deemed to be a, casual vacancy in the office of the auditor., , 100

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3.2.7.5 Remuneration of Auditors (Section142), (1) The remuneration of the auditor of a company shall be fixed in its general, meeting or in such manner as may be determined therein., Provided that the Board may fixes remuneration of the first auditor, appointed by it., (2) The remuneration under sub-section (1) shall, in addition to the fee payable to an, auditor and the expenses, if any, incurred by the auditor in connection with the, audit of the company and any facility extended to him but does not include any, remuneration paid to him for any other service rendered by him at the request of, the company., , 3.2.7.6 Powers and Duties of Auditors and Auditing Standards (Section143), (1) Every auditor of a company shall have a right of access at all times to the books, of account and vouchers of the company, whether kept at any place and shall be, entitled to require from the officers of the company such information and, explanation as he may consider necessary for the performance of his duties as, auditor., (2) The auditor shall make a report to the members of the company on the accounts, examined by him and on every financial statement which are required by or, under this Act to be laid before the company in general meeting., The report shall state, after taking into account the provisions of this Act,, the accounting and auditing standards and to the best of his information and, knowledge, the said accounts, financial statements give a true and fair view of, the state of the company‘s affairs as at the end of its financial year., (3) The auditor‘s report shall also state—, (a) whether he has sought and obtained all the information and explanations, which to the best of his knowledge and belief were necessary for the, purpose of his audit and if not, the details thereof and the effect of such, information on the financial statements;, (b) whether, in his opinion, proper books of account as required by law have, been kept by the company so far as appears from his examination of those, , 101

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books and proper returns adequate for the purposes of his audit have been, received from branches not visited by him;, (c) whether the report on the accounts of any branch office of the company, audited by a person other than the company‘s auditor has been sent to him;, (d) whether the company‘s balance sheet and profit and loss account dealt with, in the report are in agreement with the books of account and returns;, (e) whether, in his opinion, the financial statements comply with the, accounting standards;, (f) the observations or comments of the auditors on financial transactions or, matters which have any adverse effect on the functioning of the company;, (g) whether any director is disqualified from being appointed as a director, under sub-section (2) of section 164;, (h) any qualification, reservation or adverse remark relating to the maintenance, of accounts and other matters connected therewith;, (i) whether the company has adequate internal financial controls system in, place and the operating effectiveness of such controls;, (j) such other matters as may be prescribed., (4) Where any of the matters required to be included in the audit report under this, section is answered in the negative or with a qualification, the report shall state, the reasons therefor., (5) In the case of a Government company, the Comptroller and Auditor General of, India direct auditor the manner in which the accounts of the Government, Company is required to be audited. The auditor so appointed shall submit a copy, of the audit report to the Comptroller and Auditor General of India which, include the action taken on directions issued by the Comptroller and Auditor, General of India and its impact on the accounts and financial statement of the, company., (6) The Comptroller and Auditor-General of India shall within sixty days from the, date of receipt of the audit report have a right to,, (a) conduct a supplementary audit of the financial statement of the company, for the purposes of required information or additional information, 102

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(b) comment upon or supplement such audit report. Such comment shall be, sent by the company to every person entitled to copies of audited financial, statements and also be placed before the annual general meeting of the, company at the same time and in the same manner as the audit report., (7) in case of any company covered under sub-section (5) or (7) of section 139, if he, considers necessary, by an order, cause test audit to be conducted of the, accounts of the company., (8) Where a company has a branch office, the accounts of that office shall be, audited either by the auditor appointed for the company or by any other person, qualified for appointment as an auditor of the company or where the branch, office is situated in a country outside India, the accounts of the branch office, shall be audited either by the company‘s auditor or by any other person duly, qualified to act as an auditor of the accounts of the branch office in accordance, with the laws of that country. Provided that the branch auditor shall prepare a, report on the accounts of the branch examined by him and send it to the auditor, of the company., (9) Every auditor shall comply with the auditing standards., (10) The Central Government may prescribe the standards of auditing or any, addendum thereto, as recommended by the Institute of Chartered Accountants of, India, in consultation with and after examination of the recommendations made, by the National Financial Reporting Authority., (12) If an auditor of a company, in the course of the performance of his duties as, auditor, has reason to believe that an offence involving fraud is being or has, been committed against the company by officers or employees of the company,, he shall immediately report the matter to the Central Government within such, time and in such manner as may be prescribed., Provided that in case of a fraud involving lesser than the specified amount,, the auditor shall report the matter to the audit committee constituted under, section 177 or to the Board in other cases within such time and in such manner, as may be prescribed:, Provided further that the companies, whose auditors have reported frauds, under this sub-section to the audit committee or the Board but not reported to, 103

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the Central Government, shall disclose the details about such frauds in the, Board‘s report in such manner as may be prescribed., (14) The provisions of this section shall also apply to the cost accountant in practice, conducting cost audit and the company secretary in practice conducting, secretarial audit., (15) If any auditor, cost accountant or company secretary in practice does not comply, with the provisions, he shall be punishable with fine which shall not be less than, one lakh rupees but which may extend to twenty-five lakh rupees., , 3.2.7.7 Auditor not to render certain services (Section 144), An auditor appointed under this Act shall provide to the company only such, other services as are approved by the Board of Directors or the audit committee, as, the case may be, but which shall not include any of the following services., (a) accounting and book keeping services;, (b) internal audit;, (c) design and implementation of any financial information system;, (d) actuarial services;, (e) investment advisory services;, (f) investment banking services;, (g) rendering of outsourced financial services;, (h) management services; and, (i) any other kind of services as may be prescribed:, For the purposes of this sub-section, the term directly or indirectly shall include, rendering of services by the auditor, and, (i) in case of auditor being an individual, his relative or any other person connected, or associated with such individual or through any other entity, in which such, individual has significant influence or control, or whose name or trade mark or, brand is used by such individual;, (ii) in case of auditor being a firm, either itself or any of its partners or its parent,, subsidiary or associate entity or through any other entity, whatsoever, in which, 104

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the firm or any partner of the firm has significant influence or control, or whose, name or trade mark or brand is used by the firm or any of its partners., , 3.2.7.8 Auditor to sign Audit Report, etc. (Section 145), The person appointed as an auditor of the company shall sign the auditor‘s, report or sign or certify any other document of the company in accordance with the, provisions of section 141 and the qualifications, observations or comments on, financial transactions or matters, which have any adverse effect on the functioning of, the company mentioned in the auditor‘s report shall be read before the company in, general meeting and shall be open to inspection by any member of the company., , 3.2.7.9 Auditor to attend General Meeting (Section 146), All notices of, and other communications relating to, any general meeting shall, be forwarded to the auditor of the company, and the auditor shall, unless otherwise, exempted by the company, attend either by himself or through his authorised, representative, who shall also be qualified to be an auditor, any general meeting and, shall have right to be heard at such meeting on any part of the business which, concerns him as the auditor., , 3.2.7.10 Punishment for contravention (Section 147), (1) If any of the provisions of sections 139 to 146 is contravened, the company shall, be punishable with fine which shall not be less than twenty five thousand rupees, but which may extend to five lakh rupees and every officer of the company who, is in default shall be punishable with imprisonment for a term which may extend, to one year or with fine which shall not be less than ten thousand rupees but, which may extend to one lakh rupees, or with both., (2) If an auditor of a company contravenes any of the provisions of sections 139,, 143 to 145, the auditor shall be punishable with fine which shall not be less than, twenty-five thousand rupees but which may extend to five lakh rupees., Provided that if an auditor has contravened such provisions knowingly or, wilfully with the intention to deceive the company or its shareholders or, creditors or tax authorities, he shall be punishable with imprisonment for a term, which may extend to one year and with fine which shall not be less than one, lakh rupees but which may extend to twenty-five lakh rupees., , 105

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(3) Where an auditor has been convicted under sub-section (2), he shall be liable, to—, (i) refund the remuneration received by him to the company; and, (ii) pay for damages to the company, statutory bodies or authorities or to any, other persons for loss arising out of incorrect or misleading statements of, particulars made in his audit report., (5) In case of audit of a company being conducted by an audit firm, it is proved that, the partner or partners of the audit firm has or have acted in a fraudulent manner, or abetted or colluded in any fraud by, or in relation to or by its directors or, officers, the liability, whether civil or criminal as provided in this Act or in any, other law for the time being in force, for such act shall be of the partner or, partners concerned of the audit firm and of the firm jointly and severally., 3.2.7.11 Central Government to specify Audit of items of Cost in respect of, Certain Companies (Section 148) – This section deals with the Cost Audit, which is, discussed separately in detail in the chapter., Check your Progress-VII, A) Choose the most correct alternative given below to fill in the blanks in the, following sentences., 1., , The first auditor of a company, other than a Government Company shall be, appointed by the Board of Directors within ___ days from the date of, registration of the company., a) 30, , 2., , c) 90, , d) 180, , As per Section 139(5), in the case of a Government Company, the, Comptroller and Auditor General of India shall, in respect of a financial, year, appoint an auditor, within a period of ____ days from the, commencement of financial year., a) 180, , 3., , b) 60, , b) 90, , c) 60, , d) 30, , The auditor appointed under section 139 may be removed from his office, before the expiry of his term only by a special resolution of the company,, after obtaining the previous approval of the __________________ in that, behalf, 106

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a) Central Government, b) Comptroller and Auditor General of India, c) Registrar, d) Board of Directors, 4., , The remuneration of the first auditor of a company shall be fixed, , a) by Board of Directors, , b) in the general meeting, , c) by Registrar of Companies, , d) in the special meeting, , B) Fill in the blanks in the following sentences, 1., , If an auditor of a company contravenes any of the provisions of sections, 139, 143 to 145, the auditor shall be punishable with fine which shall be `, ____________ to ` ____________., , 2., , If an auditor of a company, in the course of the performance of his duties as, auditor, has reason to believe that an offence involving fraud is being or has, been committed against the company by officers or employees of the, company, he shall immediately report the matter to the ________________, within such time and in such manner as may be prescribed., , C) State the following statements are True or False, 1., , A body corporate other than a limited liability partnership registered under, the Limited Liability Partnership Act, 2008 is not eligible for appointment, as an auditor of limited company., , 2., , The auditor have to right to attend either by himself or through his, authorised representative, a general meeting and shall have right to be heard, at such meeting on any part of the business which concerns him as the, auditor., , 3.2.8 Adverse Opinion and Disclaimer of Opinion, An auditor is required to express his opinion in respect of audit conducted and state, whether the entity prepared financial statements considering all the material aspects and, whether the financial statements are free from material misstatements, fraud or error, and state the true and fair view. The auditor expresses audit opinion on the financial, statements of an entity on the basis of the audit evidences that obtained during the, 107

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course of audit. Evaluation of financial statements includes its qualitative aspects,, accounting policies and practices, and management judgment., 3.2.8.1 Factors to be evaluated by Auditor for Audit Opinion, •, , Whether the entity appropriately follows and applies significant accounting, policies while preparing and disclosing financial statements., , •, , It follows the accounting policies on a consistent basis with the applicable, financial reporting framework., , •, , Estimates made by the management are reasonable or not., , •, , The financial statements provide relevant, reliable, easy to understand and, comparable information., , •, , Proper disclosures made for material transactions for a better understanding of, intended users., , •, , Terms used in financial statements are appropriate or not., , •, , Whether the financial statements give a true and fair view in accordance with the, financial reporting and statutory requirements., , The auditor should state whether he has obtained sufficient and appropriate audit, evidence. He should express his audit opinion on the financial statements of an entity in, relation to above factors., , 3.2.8.2 Types of Audit Opinion, •, , Unqualified opinion, , •, , Qualified opinion, , •, , Disclaimer of opinion, , •, , Adverse opinion, , Unqualified or Clean Opinion, An unqualified or "clean" opinion is the best type of report a business can get. It, is issued when an auditor determines that each of the financial records provided by, the business is free of any misrepresentations. In addition, it indicates that the, financial records have been maintained in accordance with the standards known as, Generally Accepted Accounting Principles (GAAP)., 108

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An unqualified opinion is the most common type of auditor's opinion. It is, issued if the financial statements are presumed to be free from material, misstatements. An auditor expresses an unqualified audit opinion when he concludes, that the financial statements of an entity are prepared in accordance with the applicable, financial reporting framework, considering all the material aspects and based on the, information provided to him and audit evidences obtained, considering whether the, financial statements give a true and fair view., An unqualified audit opinion assures that any changes made in the accounting, policies or method followed by the entity on a continuous basis and their effects have, been considered and disclosed in the financial statements appropriately., Qualified opinion, A qualified opinion is a reflection of the auditor’s inability to give an, unqualified or clean audit opinion. The auditor shall express a qualified opinion in, situations when a company’s financial records have not been maintained in, accordance with Generally Accepted Accounting Principles (GAAP) but no, misrepresentations are identified or when he concludes that the misstatements, individually or in aggregate are material but not pervasive as to require an adverse, opinion or the limitation of scope is not material as to require a disclaimer of opinion., The auditor should express a qualified opinion as being “subject to” or “Except for” the, effects of material items which are qualified. Qualified opinion is generally acceptable, to lenders, creditors and investors., A qualified opinion is a statement issued in an auditor’s report that accompanies, a company's audited financial statements and that suggests the financial information, provided by a company was limited in scope or there was a material issue with, regard to the application of GAAP, but that is not pervasive., A qualified opinion is a statement issued after an audit is done by a professional, auditor that suggests the information provided was limited in scope and/or the, company being audited has not maintained Generally Accepted accounting, principles., An auditor expresses a qualified opinion-, , 109

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•, , When he considers that an unqualified opinion cannot be expressed and the, misstatements individually or in aggregate are not so material and pervasive to the, financial statements of the entity., , •, , When the auditor found the financial reports essentially in conformance with, Generally Accepted Accounting Principles, except for one or a few areas where, the auditor cannot, or does not want to, assert conformance., , •, , When there was either a scope limitation, an issue discovered in the audit that, was not pervasive or an inadequate footnote disclosure., , •, , When the financial statements are fairly presented, with the exception of a, specified area., , •, , When company has inadequate disclosures in the footnotes to the financial, statements., , Disclaimer of opinion, A disclaimer of opinion is a statement by auditor that he does not express an, opinion on the financial position of a concern that he has audited. In the event that, the auditor is unable to complete the audit report due to absence of financial records, or insufficient cooperation from management, the auditor issues a disclaimer of, opinion. This is an indication that no opinion over the financial statements was able, to be determined., An auditor expresses a disclaimer of opinion in the following cases. –, •, , When he is unable to obtain sufficient and appropriate audit evidence. Another, reason is that, , •, , When he considers that the undetected misstatements could be both material and, pervasive., , •, , When he decides that he cannot be impartial or independent regarding the, company or organization audited., , •, , When he has not completed an examination of its accounts, or the examination, is not broad enough in scope to enable them to form an opinion., , 110

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Adverse opinion, If the issues discovered during the audit result in material misstatements that, would affect the decision making of the financial statement users, the opinion is, escalated to an Adverse Opinion. The adverse opinion results in the company, needing to restate and complete another audit of its financial statements. An auditor, expresses an adverse opinion when he considers that the misstatement is so material and, pervasive that a qualification of the report is not adequate to disclose such, misstatements of financial statements. The auditor shall express an adverse opinion after, obtaining sufficient and appropriate audit evidence., An adverse opinion is given, •, , When the auditor has concluded that the audited financial statements do not, fairly represent the organization's financial position or financial performance,, and that there are significant departures from GAAP., , •, , When he considers that the misstatements either individually or in aggregate are, both material and pervasive to the financial statements of the entity., , Check Your Progress-VIII, Choose most correct alternative to fill in the blanks in the following statements, 1., , 2., , 3., , The auditor expresses audit opinion on the financial statements of an entity on the, basis of the ____________ that obtained during the course of audit., a) information from the accountants, , b) audit evidences, , c) last year’s audit report, , d) ledger accounts, , _________ opinion is issued when an auditor determines that each of the, financial records provided by the business is free of any misrepresentations and, they have been maintained in accordance with the standards, a) Qualified, , b) Unqualified, , c) Disclaimer of, , d) Adverse, , A _______ opinion is a statement issued after an audit is done by an auditor, which suggests that the information provided was limited in scope and/or the, company being audited has not maintained Generally Accepted Accounting, Principles but that is not pervasive., 111

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4., , 5., , a) unqualified, , b) qualified, , c) disclaimer of, , d) adverse, , When the auditor is unable to complete the audit report due to absence of, financial records or insufficient cooperation from management, the auditor, issues a _________ opinion., a) unqualified, , b) disclaimer of, , c) qualified, , d) adverse, , ___________ opinion is given when the auditor has concluded that the audited, financial statements do not fairly represent the organization's financial position, or financial performance, and that there are significant departures from GAAP., a) An unqualified, , b) An adverse, , c) A qualified, , d) A disclaimer of, , 3.2.9 Audit of Computerised Accounting, Electronic devices, particularly Computers, Laptop, Tab, Mobile, etc. are now, being used in every sector. Computer Information System (CIS) or Electronic Data, Processing System (EDPS) is established in almost all the business and service, organizations. A large number of enterprises have switched over to computerized, accounting and the trend is continuously on. Today, even tiny business organizations, are using computerized accounting software like Tally., When computer is involved in the recording and processing of financial and, accounting information, it is called as Computerized Accounting. There may be one, or more computers of different types and sizes operated by the entity itself or outside, service providers., The use of computers changes the processing, storage, retrieval and, communication of financial information as well as accounting system. Use of, computers increased the capacity of accounting facet to receive, store, retrieve,, control, correlate, compare, modify and analyse large volume of data to suit different, requirements. It increased the speed of processing financial data with the highest, arithmetical and technical accuracy and getting results thereof which would be very, difficult to process manually. With the help of computers, any type of statements or, , 112

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analytical review or any financial result can be obtained easily, quickly and, accurately., The adoption of computer for accounting and administration lent new, dimensions to the approach of auditing. Now auditor should have sufficient, knowledge of CIS or EDPS. The computer based accounting system requires an, auditor to employ computer assisted audit technique which comprise audit software, and test data. The basic objectives and scope of an audit do not change in computer, accounting. Further, it requires more skill and competencies as it involves more risk., , 3.2.9.1 Nature of Risk in Computer Accounting, 1., , Absence of vouchers and authorisation – In a computerised accounting many, transactions may be fed directly without authorisation record in the conventional, form of vouchers. Contra entries, transfer entries, self evident entries, etc., (automatic transactions) are directly processed, without making hard copies,, with the help of programmes set in the software., , 2., , Manipulations – Computers obey the orders of the operators without thinking, whether it is right or wrong. In feeding the data there is possibility of, manipulation of record. Besides, manipulation may be done in arithmetical, calculations with the help of parameters of such arithmetic already set in the, programme., , 3., , Repetition of errors – Due to uniform processing, an error in programme or, hardware will result in errors in all such transactions., , 4., , No audit trail – In manual accounting, transactions are recorded at various, stages, creating records and the documents at each stage till the final accounts., While auditing, it facilitates visible audit trail. The computer environment may, not allow intermediary stages of recording. Feeding of basic transactions, directly results in final output. Understandable and visible audit trail may not be, available., , 5., , Storage Risk – The programme and recorded data is saved in hard disk, in discs, and USBs (Pen Drives). If these are not carefully stored and guarded, there is a, possibility of loss of such physical devices and manipulations of the recorded, data., , 113

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6., , Computer frauds – Computer frauds are of different types, such as, unauthorised, use of computers, physical manipulation of framework of the system, theft of, confidential output, taping, intercepting and edition of final output, etc. It is very, difficult to search for such frauds because, these are committed very, intelligently., , 7., , Computer virus – Computer virus is programme that affects badly the working, of target area of the computer. Due to this, the computer become sick and gives, different or absurd results or sometime becomes dead., , 3.2.9.2 Audit of Computerised Accounting, 1., , Audit Approach - The computerisation of accounting does not give any, relaxation from the duties and responsibilities of the auditor. The auditor has to, exercise his skill, competence and knowledge to ensure that the picture, presented through output of the computer accounting does not show any, distorted version of the transactions and events of the entity and is true and fair, representation of the financial results of the period under audit., , 2., , Primary work – Auditor should evaluate the computerised accounting system, and internal control system very carefully and check that whether the system –, a), , ensures correct and complete inputs, processing and output., , b), , provides for timely detection of errors and frauds and data security., , c), , prevents unauthorised changes to programme, data, reports, etc., , 3., , Audit Procedure – The auditor would need to readjust his audit procedures,, approach and technical capabilities so as to be able to form an opinion on the, accounts processed through computerisation. Auditing may be carried out by, auditing around the computers or auditing through the computers., , a), , Auditing around the computers, , When the auditor follows a substantive audit procedure, it is called as auditing, around the computers. It involves arriving at conclusion through examining the, internal control system and input and output for application system. Auditor gives, opinion about the quality of the processing carried out on the basis of the input and, output of the application system. In this method, application system processing is not, , 114

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examined directly. In other words, it means carrying out the audit in a traditional, manner by comparing the printouts generated in the system., Suitability of the auditing around the computers, •, , When the installed application system is simple, batch oriented and uses, generalised software that is well tested and used widely by many institutions., , •, , The system logic is straight forward and there are no special routines., , •, , Input transactions are batched and control can be exercised through the normal, methods., , •, , Processing mainly consists of sorting the input data and updating the master file, sequentially., , •, , There is clear audit trail and detailed reports are prepared at key processing, points within the system., , •, , The environment is more or less constant., , Advantages of the auditing around the computers, •, , It is very simple and, , •, , Requires little technical knowledge of computers to perform the audit., , Disadvantages of the auditing around the computers, •, , It has restricted suitability. It should not be used for systems having any, complexity in terms of size or type of processing., , •, , The auditor cannot audit well if the environment changes., , b) Auditing through the computers, The auditing through computer makes use of computer in auditing. It involves, audit of systems and programmes used by the concern. In this procedure, the auditor, reviews and tests general and application controls and determines their effectiveness., Duties of an auditor, •, , Gather evidences about the general control through inquiry, observation and, documentation., , •, , Test application control by using Computer Assisted Audit Techniques (CAAT), 115

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•, , Test the logic and controls existing within the system and the records produced, by the system by using computer., , Need of the Auditing through Computers – In the following circumstances the, procedure of auditing through computers must be followed., •, , The application system processes large volumes of input and produces large, volumes of output., , •, , Significant parts of the internal control system are embodied in the computer, system., , •, , The logic of the system is complex., , •, , There are large portions that facilitate use of the system for efficient processing., , •, , There are substantial gaps in the visible audit trail., , Advantages of the Auditing through Computers, •, , Computer system is effectively tested., , •, , Auditor gets confidence that the data processing is correct., , •, , Auditor can assess the system’s ability to cope with the changes in environment., , Disadvantages of the Auditing through Computers, •, , It requires high cost., , •, , Generally it requires extensive technical expertise., , 3.2.9.3 Computer Assisted Auditing Techniques (CAAT), The techniques which make use of computer system in auditing are known as, Computer Assisted Auditing Techniques (CAAT). The important techniques are –, 1., , Test Data or Test Pack – Through this test an auditor tests the effectiveness of, the programme in use. Such test can be taken by three ways –, , a) Contrived Test – Under this auditor prepares a set of input consisting, different varieties of fictitious or imaginary transactions involving valid and invalid, conditions with solutions. The results of the system are tested with the predetermined, , 116

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solutions. Effectiveness of the system is checked with the result of valid transactions, and how it responds to the invalid transactions., b) Real Test – Under this, an auditor picks up certain representative transactions, from real situation of the client’s business, process these transactions manually and, then these transactions are processed through the computer system in use. The results, are compared with the predetermined solutions and thus the effectiveness of the, system is tested., c) Controlled Test – Under this, an auditor remain presents personally in the, system department of the client’s business organisation and observes the processing, of transactions. Sometime he asks to repeat the process and verify the results or, output., 2., , Special Computer Programme for Audit – Now specially devised computer, programmes are available which can be used for the purpose of audit. By using, such programmes, an auditor may obtain a print of any information, contained in, the client’s computerised accounting system, in the suitable form. Such, programmes can be used to have a routine test, checking of calculations,, verifying the results of process and also for reporting., , Advantages of CAAT, •, , It increases the effectiveness and efficiency of audit., , •, , Accounting process can be checked through repetition of the process., , •, , Unusual transactions or items can be reviewed., , •, , It saves time of the auditor., , •, , Effective test checking and detailed examination is possible., , •, , Reduces monotony of work., , •, , Enhances reliability of the audit., , •, , Reduces cost of audit., , Disadvantages of CAAT, •, , All the reports may not have in printed form. Part of the data may remain only in, machine readable form and it may exist for a limited period of time., 117

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•, , Computer programme and recorded data may be altered., , •, , Data may be entered directly into the computer system without documentary, support. For example, online transactions may not have authorisation or, documentary evidence., , •, , It requires expert knowledge of the computer system., , Though CAAT provide help to an auditor, be aware that, these are not substitute, to the professional skill and judgement of the auditor., Check your Progress-IX, A) Choose most correct alternative to fill in the blanks in the following sentences., 1., , When computer is involved in the recording and processing, ________________________, it is called as Computerized Accounting., , of, , a) Income and Expenditures,, b) Assets and Liabilities, c) Receipts and Payments, d) financial and accounting information, 2., , 3., , 4., , CIS means ______________________., a) Computer Input System, , b) Computer Information Sharing, , c) Computer Informing System, , d) Computer Information System, , The _______________ involves audit of systems and programmes used by the, concern., a) auditing around computers, , b) auditing using computer, , c) auditing by computer, , d) auditing through computer, , The audit of computerised accounting has ____ risk., a) no, , b) low, , c) equal, , B) Fill in the blanks in the following sentences, 1., , Full form of EDPS is _____________, , 2., , Full form of CAAT is ________________, 118, , d) more

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C) State the following statements are True or False, 1., , The basic objectives and scope of an audit do not change in computer, accounting., , 2., , The computerisation of accounting does not give any relaxation from the, duties and responsibilities of the auditor., , 3.3 Summary, The unit titled as ‘Types of Audit and Audit of various Entities’ is divided in 9, parts, which includes 4 types of audit, 3 entities and 2 important aspects of audit. The, unit can be summarized as below., Cost Audit - Cost Audit is a critical review undertaken for the purpose of, verification of the correctness of cost accounting records, such as cost accounts, cost, reports, cost statements, cost data and costing techniques and examining these, records to ensure that they adhere to the cost accounting principles, plans, procedures, and objectives., The principal object of the cost audit is to see that the cost data placed before the, management are verified and reliable and they are prepared in such detail as will, serve the purpose of the management in taking appropriate decisions. It aims to, identify the undue wastage or losses and ensure that costing system determines the, correct and realistic cost of production., Tax Audit - Tax Audit is an examination or review of accounts of any business, or profession carried out by taxpayers from an income tax viewpoint and evaluation, of the income tax returns filed by the assessee for the concerned assessment year., Tax audit is not compulsory to all types of assessees but, it is applicable to, certain classes of assessees. Section 44AB of the Income Tax Act, 1961, specifies, the classes of assessees who have to follow compulsorily the income tax audit, procedures and get their accounts audited, Management Audit - Management Audit is the systematic and dispassionate, examination, analysis and appraisal of management’s overall performance. It is a, form of appraisal of the total performance of the management by means of an, objective and comprehensive examination of the organization structure, its, components such as department, its plans and policies, methods of process or, operation and controls, and its use of physical facilities and human resources., 119

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It covers all functions of management like planning, organizing, coordination, control, etc. It aims to find out inefficiencies and weaknesses of the, management as well as to detect and diagnose the problems in the governance of an, organization and suggests various means to avoid and solve these problems. It, assesses methods and policies of an organization and the use of resources including, human resources, strategic planning, and organizational improvement., Social Audit - Social Audit is a technique to understand, measure, verify, report, on and to improve the social performance of the organization. It values the voice of, stakeholders and is taken up for the purpose of enhancing governance, particularly, for strengthening accountability and transparency., The modern corporations are more powerful and command huge resources., Its activities impact largely over society. Its performance can develop the society or, affects the society badly. It can support to the government in social development or, may create problems to the Government. It is necessary to see that the power of, corporations should not be used indifferently, irresponsibly or in an antisocial way., Audit of Insurance Companies – Insurance business in India is governed by, many Legislations and Regulations, such as The Insurance Act 1938, The Insurance, Rules 1939, Employees State Insurance Act 1948, The Life Insurance Corporation, Act 1956, The Income Tax Act 1961, Insurance Regulatory and Development, Authority (IRDA) Act 1999, IRDA (Preparation of Financial Statements and, Auditor’s Report of Insurance Companies) Regulation 2002, The Companies Act, 2013, and Companies (Accounts) Rules 2014. Besides, IRDAI issues various, Guidelines on Corporate Governance for insurance companies., An auditor of Insurance Company shall examine policy and liability procedures,, risk valuation, tax documents, claims and commissions and various other financial, records of insurance. The auditor has to ensure that proper insurance rates and, premiums are implemented and followed all concerned laws., Audit of Educational Institutions - Audit of educational institutions means, audit of all types of institutions engaged in the field of educational right from preprimary education to university level education and research. Auditor should check, Receipts and Payments Account, Income and Expenditure Account and Balance, Sheet of such institutions in order to verify and report the trueness and fairness of, results presented by these accounts and balance sheet., 120

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Audit of Companies under Companies Act 2013 - The Companies Act 2013, is an Act of the Parliament of India which regulates companies from incorporation to, liquidation. It is a rule based Act divided in 29 Chapters and 470 sections. Chapter X,, which includes ten sections i.e. the Sections 139 to 148 of the Companies Act, 2013, deals with Audit and Auditors. Section 139 deals with the Appointment of an, Auditor and Section 140 deals with Removal and Resignation of Auditor. The, provisions regarding Eligibility, Qualifications and Disqualifications of Auditors are, given under Section 141, whereas, Section142 specifies Remuneration of Auditors., Powers and Duties of Auditors and Auditing Standards are mentioned inSection143, and in Section 144 states the services which auditor not to render. Section 145, compels auditor to sign Audit Report and Section 146 mentions right of auditor to, attend General Meeting. Section 147 provides details of Punishment for, contravention of the provisions of the Act and Section 148 states the power of, Central Government to specify Audit of items of Cost in respect of Certain, Companies., Disclaimer of Opinion and Adverse Opinion - An auditor is required to express, his opinion in respect of audit conducted and state whether the entity prepared financial, statements considering all the material aspects and whether the financial statements are, free from material misstatements, fraud or error and state the true and fair view. Types, of Audit Opinion are four i.e. Unqualified, Qualified, Disclaimer of opinion and, Adverse opinion., An auditor expresses an unqualified audit opinion when he concludes that the, financial statements of an entity are prepared in accordance with the applicable financial, reporting framework, considering all the material aspects and based on the information, provided to him and audit evidences obtained, considering whether the financial, statements give a true and fair view. A qualified opinion is a statement issued by, auditor that suggests the information provided was limited in scope and/or the, company being audited has not maintained Generally Accepted accounting, principles. In the event that the auditor is unable to complete the audit report due to, absence of financial records or insufficient cooperation from management, the, auditor issues a disclaimer of opinion. An auditor expresses an adverse opinion when, he considers that the misstatement is so material and pervasive that a qualification of the, report is not adequate to disclose such misstatements of financial statements., , 121

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Audit of Computerised Accounting - When one or more computers of, different types and sizes operated by the entity itself or outside service providers are, involved in the recording and processing of financial and accounting information, it, is called as Computerized Accounting. The use of computers changed the processing,, storage, retrieval and communication of financial information as well as accounting, system. Use of computers increased the capacity of accounting facet to receive, store,, retrieve, control, correlate, compare, modify and analyse large volume of data to suit, different requirements with high speed of processing financial data and with the, highest arithmetical and technical accuracy., The adoption of computer for accounting and administration lent new, dimensions to the approach of auditing. Now auditor should have sufficient, knowledge of CIS or EDPS. The computer based accounting system requires an, auditor to employ computer assisted audit technique which comprise audit software, and test data. The basic process of an audit do not change in computer accounting,, furthermore, it requires more skill and competencies as it involves more risk., , 3.4 Terms to Remember, 1., , Cost Audit - It is the verification of the correctness of cost accounts and of the, adherence to the cost accounting plan., , 2., , Tax Audit - The audit conducted by the chartered accountant of the accounts of, the taxpayer in pursuance of the requirement of section 44AB of the Income Tax, Act 1961 is called as tax audit., , 3., , Management Audit – It is an objective and independent appraisal of the, effectiveness of managers and the effectiveness of the corporate structure in the, achievement of company objectives and policies. Its aim is to identify existing, and potential management weaknesses within an organization and to, recommend ways to rectify these weaknesses., , 4., , Social Audit - Social Audit is a technique to understand, measure, verify, report, on and to improve the social performance of the organization. It values the voice, of stakeholders and is taken up for the purpose of enhancing governance,, particularly for strengthening accountability and transparency., , 5., , Social Accounting - Social Accounting is a systematic accounting and reporting, on those parts of a company’s activities, which have a social impact. It refers to, 122

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the identification, measurement, recording and reporting the information as to, social activities of the concern to its internal and external users., 6., , Insurance - Insurance is a contract between the insurer and the insured under, which the insurer undertake to compensate the insured for the loss arising from, the risk insured against and in consideration, the insured agrees to pay a, premium regularly., , 7., , Reinsurance – When one insurance company passes on a part or whole of the, risk undertaken to another insurance company, it is called as reinsurance., , 8., , Reinsurance Ceded – When an insurance company passes on the risk to another, company, it is called as reinsurance ceded., , 9., , Reinsurance Accepted - When an insurance company accepts the risk from, another company, it is called as reinsurance accepted, , 10. Audit of Educational Institutions – It means audit of books of accounts of, schools, colleges, institutions of management education & research, institutions, of professional education, universities or other such institutions which are, engaged in the educational field., 11. Appointment of an Auditor - Every company shall, at the first annual general, meeting, appoint an individual or a firm as an auditor who shall hold office from, the conclusion of that meeting till the conclusion of its sixth annual general, meeting and thereafter till the conclusion of every sixth meeting., 12. Removal of Auditor - The auditor appointed under section 139 may be removed, from his office before the expiry of his term only by a special resolution of the, company, after obtaining the previous approval of the Central Government in, that behalf in the prescribed manner., 13. Powers and Duties of Auditors - Every auditor of a company shall have a right, of access at all times to the books of account and vouchers of the company,, whether kept at any place and shall be entitled to require from the officers of the, company such information and explanation as he may consider necessary for the, performance of his duties as auditor., 14. Auditor’s Report - The auditor shall make a report to the members of the, company on the accounts examined by him and on every financial statement, 123

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which are required by or under Companies Act 2013 to be laid before the, company in general meeting., 15. Unqualified or Clean Opinion - An unqualified or "clean" opinion is the opinion, of the auditor which is issued when an auditor determines that each of the, financial records provided by the business is free of any misrepresentations and, maintained in accordance with the standards., 16. Qualified Opinion - Qualified opinion is the opinion expressed by auditor when a, company’s financial records have not been maintained in accordance with, GAAP, but no misrepresentations are identified or the misstatements individually, or in aggregate are material but not pervasive or the limitation of scope is not, material., 17. Disclaimer of Opinion - A disclaimer of opinion is a statement by auditor that he, is not able to express an opinion on the financial position of a concern that he, has audited, as he is unable to complete the audit report due to absence of, financial records or insufficient cooperation from management., 18. Adverse Opinion - An Adverse Opinion is the opinion expressed by auditor when, he considers that the misstatement is so material and pervasive that a qualification, of the report is not adequate to disclose such misstatements of financial statements., 19. Computerised Accounting - When one or more computers of different types and, sizes operated by the entity itself or outside service providers are involved in the, recording and processing of financial and accounting information, it is called as, Computerized Accounting., 20. Auditing around the computers - It involves arriving at conclusion through, examining the internal control system and input - output for application system., Application system processing is not examined directly but, the audit is, conducted in a traditional manner by comparing the printouts generated in the, system., 21. Auditing through the computers - The auditing through computer makes use of, computer in auditing. It involves audit of systems and programmes used by the, concern through Computer Assisted Audit Techniques (CAAT). The auditor, reviews and tests general and application controls and determines their, effectiveness., 124

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3.5 Answers to Check your Progress, Check your progress-I, A) The alternative d) is the right answer for all., B) 1. 143(12), , 2. ` 50 Crore, , C) Both the statements are True., Check your progress-II, A) The alternative b) is the right answer for all, B) 1. gross receipts / turnover / sales, , 2. Taxpayer, , C) Both the statements are True, Check your progress-III, A) The alternative c) is the right answer for all, B) 1. compulsory, , 2. Management Audit, , C) Both the statements are True, Check your progress-IV, A) alternative a) is the right answer to all, B) 1. Community Involvement, , 2. Social Accounting, , C) Both the statements are True, Check your progress-V, A) The alternative a) is the correct alternative for all the questions., B) 1. Ceded, , 2. 5 lakhs or 1%, , C) Both the statements are True, Check your progress-VI, A) The alternative a) is the right answer for all., B) 1., 2., , Grant-in-aid from Government, 2016, , C) Both the statements are True., 125

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Check your progress-VII, A) Alternative a) is the correct answer for all the questions., B) 1. ` 25,000 to ` 5,00,000 and 2. Central Government, C) Both the statements are True, Check your progress-VIII, The alternative b) is the right answer for all., Check your progress-IX, A) alternative d) is the right answer for all., B) 1. Electronic Data Processing System, 2. Computer Assisted Auditing Techniques, C) both the statements are True., , 3.6 Exercise, 1., , What is Cost Audit? State its objectives., , 2., , What do you mean by Cost Audit? What is the scope of Cost Audit?, , 3., , Define Cost Audit and explain types of Cost Audit, , 4., , What are the advantages of a Cost Audit?, , 5., , What is the difference between Cost Audit and Financial Audit?, , 6., , What is Tax Audit? Explain its objectives., , 7., , Explain in brief applicability of Tax Audit and Rules Governing Tax Audit, , 8., , What is Management Audit? State its objectives., , 9., , Define Management Audit and give its features., , 10. Differentiate between Financial Audit and Management Audit, 11. Differentiate between Cost Audit and Management Audit, 12. State advantages and limitations of Management Audit, 13. What is meant by Social Audit? What are its objectives?, , 126

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14. What do you mean by Social Accounting and Social Audit? Explain Need, and Scope of Social Audit., 15. What information is to be disclosed in the social audit?, 17. Which Legislations and Regulations are applicable to life and general, insurance companies?, 18. Explain important audit points in audit of revenue and profit & loss, Account of an insurance company., 19. Explain important audit points in audit of balance sheet of an insurance, company., 20. Explain in brief contents of Auditor’s Report of an insurance company., 21. Explain preliminary work of an auditor of an educational institution and, general audit points., 22. As an auditor, how you will audit Receipts and Payments Account and, Balance Sheet of an educational institution., 23. State the provisions in respect of Appointment of an Auditor of limited, company under section 139., 24. State the provisions in respect of Removal and Resignation of an Auditor of, limited company under section 140., 25. Explain Eligibility, Qualifications and Disqualifications of Auditor of, limited company Que. 26. State Powers and Duties of a Company Auditor, and Auditing Standards in respect of limited company, 27. Which factors are to be evaluated by auditor for Audit Opinion?, 28. Explain Nature of Risk in Computer Accounting., 29. Explain in detail auditing around the computers, 30. Explain in detail auditing through the computers., 31. Explain Computer Assisted Auditing Techniques (CAAT), 32. Write Short Notes, (a) Cost Audit Report Rules 1996, (b) Applicability of Cost Audit, 127

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(c) Appointment of Cost Auditor, (d) Penalty for Not Auditing, (e) Tax Audit Report, (f) Procedure for filing Tax Audit Report, (g) Scope of Management Audit, (h) Audit Committee of an insurance company, (i) Appointment of Auditor of an insurance company, (j) Audit of Income of an educational institution, (k) Audit of Expenditure of an educational institution, (l) Remuneration of Auditor of limited company, (m) The services that auditor of a limited company not to render, (n) Section 145 and Section 146 of Companies Act 2013, (o) Punishment for contravention provided in section 147 of Companies, Act 2013, (p) Unqualified opinion, (q) Qualified opinion, (r) Disclaimer of opinion, (s) Adverse opinion, , 3.7 References for further study, •, , The Institute of Chartered Accountants of India, (2018), Advanced Auditing &, Professional Ethics, Final Course Study Material, Modules 1 to 3, The, Publication Department, The Institute of Chartered Accountants of India, New, Delhi, , •, , Dr. N. L Kadam (2013) M. Com. Part I, Advanced Accountancy Paper I & II,, Centre for Distance Education, Shivaji University, Kolhapur, , •, , Ravinder Kumar, Virender Sharma, (2013), Auditing Principles and Practice,, PHI Learning Private Limited, New Delhi., 128

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Unit-4, Auditing and Assurance Standards, Index, 4.0 Objectives, 4.1 Introduction, 4.2 Presentation of Subject Matter, 4.2.1 AAS 2 : Objectives and Scope of Audit of Financial Statements, 4.2.2 AAS 3 : Documentation, 4.2.3 AAS 5 : Audit Evidence, 4.2.4 AAS 6 (Revised) : Risk Assessment and Internal Control, 4.2.5 AAS 8 : Audit Planning, 4.2.6 AAS 13 : Audit Materiality, 4.2.7 AAS 15 : Audit Sampling, 4.2.8 AAS 28 : Auditor’s Report on Financial Statements, 4.3 Summary, 4.4 Terms to Remember, 4.5 Answers to Check your progress, 4.6 Exercise, 4.7 References for Further study, , 4.0 Objectives:, After studying this unit, students shall be able to
, ,
, , Understand the concept of Auditing and Assurance Standards, Demonstrate the importance of some important standards in the process of, audit, 131

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4.1 Introduction :, In 1977, the International Federation of Accountants (IFAC) was set up with a, view to bringing harmony in the profession of accountancy on an international scale., In pursuing this mission, the IFAC Board has established the International Auditing, and Assurance Standards Board (IAASB) to develop and issue, in the public interest, and under its own authority, high quality auditing and assurance standards for use, around the world. The IFAC Board has determined that designation of the IAASB as, the responsible body, under its own authority and within its stated terms of reference,, best serves the public interest in achieving this aspect of its mission. The IAASB, functions as an independent standard-setting body under the auspices of IFAC. The, objective of the IAASB is to serve the public interest by setting high quality auditing, and assurance standards and by facilitating the convergence of international and, national standards, thereby enhancing the quality and uniformity of practice, throughout the world and strengthening public confidence in the global auditing and, assurance profession. The IAASB achieves this objective by:, a), , Establishing high quality auditing standards and guidance for financial statement, audits that are generally accepted and recognized by investors, auditors,, governments, banking regulators, securities regulators and other key, stakeholders across the world;, , b), , Establishing high quality standards and guidance for other types of assurance, services on both financial and non-financial matters;, , c), , Establishing high quality standards and guidance for other related services;, , d), , Establishing high quality standards for quality control covering the scope of, services addressed by the IAASB; and publishing other pronouncements on, auditing and assurance matters, thereby advancing public understanding of the, roles and responsibility of professional auditors and assurance service providers., , The IAASB’s pronouncements govern audit, review, other assurance and related, services engagements that are conducted in accordance with international standards., They do not override the local laws or regulations that govern the audit of historical, financial statements or assurance engagements on other information in a particular, country required to be followed in accordance with that country’s national standards., In the event that local laws or regulations differ from, or conflict with, the IAASB’s, Standards on a particular subject, an engagement conducted in accordance with local, 132

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laws or regulations will not automatically comply with the IAASB’s Standards. A, professional accountant should not represent compliance with the IAASB’s, Standards unless the professional accountant has complied fully with all of those, relevant to the engagement., Auditing and Assurance Standards Board : The Institute of Chartered, Accountants of India is a member of the IFAC and is committed to work towards the, implementation of the guidelines issued by the IFAC. The Institute of Chartered, Accountants of India constituted the Auditing Practices Committee (APC) in 1982., The main function of the APC is to review the existing auditing practices in India, and to develop Statements on Standard Auditing Practices (SAPs) so that these may, be issued by the Council of the Institute. While formulating the SAPs in India, the, APC gives due consideration to the international auditing guidelines issued by the, IAPC and then tries to integrate them to the extent possible in the light of the, conditions and practices prevailing in India. While formulating the SAPs, the APC, takes into consideration the applicable laws, customs, usages and business, environment in India. In July, 2002, the Auditing Practices Committee has been, converted into an Auditing and Assurance Standards Board (AASB) by the Council, of the Institute, to be in line with the international trend. A significant step has been, taken aimed at bringing in the desired transparency in the working of the Auditing, and Assurance Standards Board, through participation of representatives of various, segments of the society and interest groups, such as, regulators, industry and, academics. The nomenclature of SAPs have also been changed to Auditing and, Assurance Standards (AASs). The AASs will apply whenever an independent audit is, carried out; that is, in the independent examination of financial information of any, entity, whether profit oriented or not, and irrespective of its size, or legal form, (unless specified otherwise) when such an examination is conducted with a view to, expressing an opinion thereon. While discharging their attest function, it will be the, duty of members of the Institute to ensure that the AASs are followed in the audit of, financial information covered by their audit reports. If for any reason a member has, not been able to perform an audit in accordance with the AASs, his report should, draw attention to the material departures therefrom, auditors will be expected to, follow AASs in the audits commencing on or after the date specified in the, statement. Remember all AASs are mandatory from the date mentioned herein and it, , 133

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is obligatory upon members of Institute to adhere to these whenever an audit is, carried out., , 4.2 Presentation of Subject Matter, 4.2.1 AAS 2 : Objectives and Scope of Audit of Financial Statements, This Standard describes the overall objective and scope of the audit of generalpurpose financial statements of an enterprise by an independent auditor. The, Standard deals with the following important aspects of an audit:, a), , Objective of an Audit: expression of opinion, the concept of true and fair view, , b), , Responsibility for Financial Statements: responsibility of the management vis-avis auditor, , c), , Scope of Audit: factors determining scope, reliability and sufficiency of audit, evidence, disclosure aspects, undiscovered material misstatements etc., , The objective of an audit of financial statements, prepared within a framework, of recognised accounting policies and practices and relevant statutory requirements,, if any, is to enable an auditor to express an opinion on such financial statements. The, auditor’s opinion helps determination of the true and fair view of the financial, position and operating results of an enterprise. The user, however, should not, assume that the auditor’s opinion is an assurance as to the future viability of the, enterprise or the efficiency or effectiveness with which management has conducted, the affairs of the enterprise. Auditor should review and assess the conclusions drawn, from the audit evidence., The main objective of the auditing is to find reliability of financial position and, profit and loss statements. The objective is to ensure that the accounts reveal a true, and fair view of the business and its transactions. That is to verify and establish that, at a given date balance sheet presents true and fair view of financial position of the, business and the profit and loss account gives the true and fair view of profit or loss, for the accounting period. It is to be established that accounting statements satisfy, certain degree of reliability. Thus, the main objective of auditing is to form an, independent judgement and opinion about the reliability of accounts and truth and, fairness of financial state of affairs and working results., The subsidiary objectives of the auditing are:, 134

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1., , Detection and prevention of fraud: One of the important subsidiary objective of, auditing is the detection and prevention of fraud. Fraud refers to intentional, misrepresentation of financial information. Fraud may involve: a. Manipulation,, falsification or alteration of records or documents b. Misappropriation of assets., c. Suppression of effect of transactions from records or documents. d. Recording, of transactions without substance. e. Misapplication of accounting policies, , 2., , Detection and prevention of errors: This is another important objective of, auditing. Auditing ensures that there is no mis-statement in the financial, statements. Errors can be detected through checking and vouching thoroughly, books of accounts, ledger accounts, vouchers and other relevant information., , The scope of audit is determined by the auditor having regard to following: (a), Terms of the Audit Engagement, (b) requirement of relevant Statute, (c), pronouncements of the ICAI. However, the terms of engagement cannot supersede, the prevailing laws. The scope of audit naturally should cover the following points., •, , Audit should cover the examination of all aspects of an entity relevant to, financial statements., , •, , Auditor should assess the sufficiency and appropriateness of the information, contained in the accounting records and other source data. For this purpose,, auditor should (a) evaluate accounting systems and internal controls (b) perform, necessary tests, enquiries and other verification procedure of accounting, transactions and account balances., , •, , To determine whether the information is properly disclosed in the financial, statements, audit may involve (a) comparing the financial statements with the, underlying records (b) considering the judgements used by management in, preparing the financial statements., , •, , Auditor is not expected to perform duties which fall outside the scope of his, competence., , Limitations, if any, on the scope of audit that impair the auditor’s ability to, express an unmodified opinion should be specified in the report., , 135

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Check your progress-I, A) Choose the correct alternative from the alternatives given below1., , 2., , Scope of audit is governed by ……………., a) terms of audit, , b) requirement of statute, , c) pronouncement of ICAI, , d) all of the above, , Expression of opinion is …………. Objective ofaudit., a) Primary, , 3., , b) Secondary, , c) subsidiary, , d) none of the above, , …………….. is mainipulation of records., a) Error, , b) Fraud, , c) Accounting, , d) Audit, , B) State whether the following statement are true or false., 1., , Auditing and Assurance Standards are issued by the ICAI., , 2., , Auditing starts when accounting ends., , 3., , Scope of audit is independent of types of audit., , 4.2.2 AAS 3 : Documentation, Auditor should document matters which are important in providing evidence, that the audit was carried out in accordance with the generally accepted auditing, standards in India. The Standard explains as to what constitute working papers as, well as need for working papers. The Standard also touches upon:, Form and Content: This includes factors affecting form and content, quantum of, working papers, permanent audit file, and current audit file., Documentation is considered the backbone of an audit. The work that the, auditor performs, the explanations given to the auditor, the conclusions arrived at, are, all evidenced by documentation. Poor documentation may depict poor performance, in an audit. The auditor may have executed appropriate audit procedures, however, if, there is no documentation to prove, it may put question on the work done, in case any, material misstatement is reported. Improper and incomplete documentation, at times,, may put the auditor in embarrassing situations. Documentation is essential because:, , 136

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•, , It supports the auditor’s basis for a conclusion about achieving the auditor’s, objectives., , •, , Provides evidence that audit was planned and performed., , •, , It assists supervision and review., , •, , It results in better conceptual clarity, clarity of thought and expression., , •, , It facilitates better understanding and helps avoid, , •, , It supports and evidences compliance with standards, applicable legal and, regulatory requirements., , Form and Content of Documentation, The form and content of audit documentation should be designed to meet the, circumstances as necessary for the particular audit. It should satisfy the requirements, of the governing standards and substantiate the conclusions arrived at by the auditor., The form and content of documentation depends on various factors such as:, •, , The size and complexity of the entity., , •, , The nature of the audit procedures to be performed., , •, , The identified risks of material misstatement., , •, , The significance of the audit evidence obtained., , •, , The nature and extent of exceptions revealed., , •, , The need to document a conclusion or the basis for a conclusion not readily, determinable from the documentation of the work performed or audit evidence, obtained., , •, , The audit methodology and tools used., , Documents are segregated into those forming part of the Permanent Audit File, and Current Audit File. Permanent audit file contains those documents, the use of, which is not restricted to one time period, and extends to subsequent audits also. E.g., Engagement letter, Communication with previous auditor, Memorandum of, Association, Articles of Association, Organization structure, List of, directors/partners/trustees/bankers/ lawyers, etc. On the other hand, a current audit, file contains those documents relevant for that time period of audit. Documentation, includes the following:, 137

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•, , Understanding the entity., , •, , Time and cost constraints., , •, , Audit programme., , •, , Risk assessment., , •, , Team discussion., , •, , Working papers pertaining to significant areas., , •, , Review points., , •, , Communication with those charged with governance., , •, , Basis for conclusions., , •, , Reporting and completion., , •, , Quality/Engagement quality control review., , In general, a working paper may contain the following:, •, , Risk and controls relevant to the area., , •, , Assertions to be tested and satisfied., , •, , Substantive and analytical procedures performed., , •, , Persons performing/reviewing the work., , •, , Dates on which the work was performed/reviewed., , •, , Extent of review., , •, , Documents prepared by client., , •, , Nature, type and size of the entity., , Audit documentation provides evidence that the audit complies with standard., However, it is neither necessary nor practicable for the auditor to document every, matter considered, or professional judgment made, in an audit. Further, it is, unnecessary for the auditor to document separately (as in a checklist, for example), compliance with matters for which compliance is demonstrated by documents, included within the audit file. The auditor should ensure the following points while, conducting the audit., , 138

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•, , The existence of an adequately documented audit plan demonstrates that the, auditor has planned the audit., , •, , The existence of a signed engagement letter in the audit file demonstrates that, the auditor has agreed the terms of the audit engagement with management, or, where appropriate, those charged with governance., , •, , Auditors report containing an appropriately qualified opinion demonstrates that, the auditor has complied with the requirement to express a qualified opinion, under the circumstances specified., , •, , In relation to requirements that apply generally throughout the audit, there may, be a number of ways in which compliance with them may be demonstrated, within the audit file:, , For example, there may be no single way in which the auditor’s professional, skeptic is documented. But the audit documentation may nevertheless provide, evidence. Such evidence may include specific procedures performed to, corroborate management’s responses to the auditor’s inquiries., Similarly, that the engagement partner has taken responsibility for the direction,, supervision and performance of the audit in compliance with the standard may be, evidenced in a number of ways within the audit documentation. This may include, documentation of the engagement partner's timely involvement in aspects of the, audit, such as participation in the team discussion., 4.2.3 AAS 5 : Audit Evidence, The purpose of this AAS is to establish standards on the basic principle that the, auditor should obtain sufficient appropriate audit evidence through compliance and, substantive procedures to enable him to draw reasonable conclusions therefrom on, which to base his opinion on the financial information. The AAS also explains the, concept of sufficient appropriate audit evidence, factors affecting it as also the, various types of assertions, internal vis-a-vis external evidence. The Standard also, deals with the methods of obtaining evidence, namely, inspection, observation,, inquiry and confirmation, computation and analytical review, Audit evidence is all the information used by the auditor in arriving at the, conclusions on which the audit opinion is based and includes the information, contained in the accounting records underlying the financial statements and other, 139

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information. Auditors are not expected to examine all information that may exist., Audit evidence, which is cumulative in nature, includes audit evidence obtained from, audit procedures performed during the course of the audit and may include audit, evidence obtained from other sources, such as previous audits and a firm's quality, control procedures for client acceptance and continuance.", If it is the duty of an auditor to express his independent opinion on the financial, statement furnished to him, the data produced by the accounting system alone (e.g.,, journals, ledger, manuals, worksheets) are not sufficient to base his opinion. The, accounting system itself may be defective and hence the results produced by such, accounting system shall also be defective. Therefore, before making any such, opinion he should ensure the accuracy and authenticity of the information furnished, to him. The auditor should, therefore, gather all valid evidences and verify them. The, evidence should also be complete and competent to give an idea, about the fairness, of the accounting data., It has also become a universally accepted standard for auditing to collect, sufficient, appropriate, competent and valid evidence before expressing an opinion, about the fairness of the financial statements of his client. The characteristic features, of audit evidence as follows:, •, , Evidence should be the reflection of the realities of the situation and should not, be fictitious based on imagination., , •, , Evidence should be capable of creating a definite impact on the opinion of the, auditor regarding the truthfulness of the financial data., , •, , Evidence may be direct or indirect, , Audit evidence has assumed much importance in the company audits all over, the world. Not only the shareholders but also even others can place reliance on the, audited financial statements. Banks and other financial institutions have recognized, the auditor’s opinion as true and fair. In India, the auditor of a company should make, a statement in his report whether he has obtained all the information and explanation,, which in his opinion are necessary for the conduct of the audit, and the financial, statements give a true and fair view of the state of affairs., The auditor can form an opinion or come to a conclusion only after verifying all, the competent evidences collected by him. All firms, irrespective of their, 140

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organizational form, should get their accounts audited by a qualified Chartered, Accountant, if the annual turnover of such firms exceeds ` 1 crore. Hence, the, auditing profession has become more and more responsible., Failure to get enough evidence before expressing any audit opinion shall be, considered as a professional misconduct and such auditors shall also be debarred, from practicing the profession. Therefore, to be on the safer side, the auditor should, obtain sufficient evidence. This will certainly give him a confidence sufficient, enough to enable him to be convinced of the basic truth or falsity of the financial, data., 4.2.4 AAS 6 (Revised) : Risk Assessment and Internal Control, The purpose of this AAS is to establish Standards on the procedures to be, followed to obtain an understanding of the accounting and internal control systems, and on audit risk and its components: inherent risk, control risk and detection risk., The standard also extensively deals with aspects such as meaning of audit risk and its, three components, meaning and inherent limitations of accounting and internal, control systems, control environment, control risk and its assessment, tests of control,, assessment of inherent risk and its relationship with control risk, assessment of, detection risk, audit risk in small business and communication of weaknesses., The seven internal control procedures are separation of duties, access controls,, physical audits, standardized documentation, trial balances, periodic reconciliations,, and approval authority. Risk Assessment is management's process of identifying, risks and rating the likelihood and impact of a risk event. An internal control, assessment can be performed at the same time. This takes the risk assessment and, maps internal controls to the risks to determine if there are gaps between risks and, control. Risk assessment is the identification and analysis of relevant risks to, achievement of the objectives, forming a basis for determining how the risks should, be managed. Risk management and internal controls are not objectives in themselves., The five components of the internal control framework are control environment, risk, assessment, control activities, information and communication, and monitoring., Management and employees must show integrity, What are the five steps to risk assessment?, •, , Step 1: Identify hazards, i.e. anything that may cause harm., 141

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•, , Step 2: Decide who may be harmed, and how., , •, , Step 3: Assess the risks and take action., , •, , Step 4: Make a record of the findings., , •, , Step 5: Review the risk assessment., , Following important considerations need to be given attention while applying this, standard., •, , What is Risk? An event or action that causes a possible threat to the, achievement of an organization’s/function’s objectives. Risk is just an expensive, substitute for information. Unwarranted business exposures are not risks., , •, , Risk Assessment is a three step process of risk analysis and evaluation involving, the following a) The level of impact or outcome of risk Consequence b) The, likelihood of risk getting realised probability c) The nature of the risk, , •, , The questions to be asked while assessing the risk are : • Where do you devote, considerable internal effort in order to control? • What areas receive, considerable management reporting? • Where have you devoted significant, resources? • What are the analysts and rating agencies most interested in? •, What wouldn’t you want on the front page of the newspaper? • What are key, obstacles to taking advantage of opportunities? • What is impeding growth?, •What do people complain about within the organization? judgement to the, auditor on •, , •, , Risk Management Strategies – Some tools Strategic Risks- fully managed, internally by the organisation Operations • Elimination /Termination •, Avoidance Organisation's Risks Financial Risk Capacity / Appetite Risks Cannot be managed by Organisation and needs to be transferred Compliance, Business is exposed to multiple risks Risks - Partly managed internally by the, organisation Ability to manage risk depends on Risk Appetite / capacity •, Tolerate / Acceptance • Mitigation and Monitoring • Transfer Significant portion, of risks can be transferred through contractual / insurance, , •, , Internal Control Framework Governance / Oversight Control Audit Committee,, Risk Council Administrative Controls Policies, Guidelines, SOPs Management, Controls Self Assessment, Questionnaire based Monitoring Controls On Ground, 142

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process controls MIS, KPIs, Reports, Risk Radar. Reviews IT, Access Internal, Audit, Risk Management, Compliance Predictive or Detective Whistle Blower,, Independent Forum Extended Controls Customer, Vendor, Regulat or, Bank, Controls External Controls influencing internal controls., 4.2.5 AAS 8 : Audit Planning, The basic objective of this AAS is to establish standards on the principle that the, auditor should plan his work to enable him to conduct an effective audit in an, efficient manner and that the plan should be based on the knowledge of the client’s, business. The AAS covers topics such as advantages of audit planning, sources of, obtaining knowledge of the client’s business, topics on which discussion with client, might be useful, factors to consider in development of an overall plan, developing an, audit Programme etc., In almost every branch of modern economic activity, there is a need for, planning. Planning in audit operations too has been considered as an essential step to, a productive utilisation of efforts. This gives an opportunity to organise the different, aspects of audit work including vouching, verification, valuation, expression of, opinion on financial statements and submission of auditor's report., Process of Planning, Planning is a process of doing a job in a systematic and methodical manner., Planning defines: (a) What to do? (b) How to do? (c) When to do? and (d) Who will, do? Planning is an organised approach to complete a task in minimum time at, minimum cost and with maximum efficiency. Planning is needed to coordinate the, work and complete the assignment effectively. It is schedule of activity prepared in, advance so that significant areas receive the required attend or the job' is completed, speedily, the work is allocated among the available staff properly. It ensures that, something which is relevant does not get neglected. Planning, therefore, controls, progress and assists in achieving the target on time. It also helps in enhancing the, quality of output. It is thus the way to promptness and perfection in performance., Considerations in Audit Planning, The Auditing Standards and Guidelines have placed considerable emphasis on, audit planning. It states that the auditor should adequately plan, control and record, his work at each stage of its progress. This is mainly to ensure that the audit is carried, 143

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out effectively and efficiently. The aim is to provide an efficient and economic, service within an appropriate time scale. The exact form and nature of audit, planning, however; should be governed by the following considerations:, 1., , size and complexity of the company;, , 2., , the commercial environment in which it operates;, , 3., , the method of recording transactions; and, , 4., , the reporting requirements to which it is subject to., , Importance of Audit Planning, Planning is an aid to good management. Adequate audit planning establishes the, intended means of achieving the objectives of the audit. It assists in the direction and, control of the work. It ensures that attention is devoted to critical aspects of the audit., It also ensures that the work is completed expeditiously. Thus the auditor, before, taking final decisions about the manner in which a particular audit is to be conducted,, should consider the audit approach proposed to be adopted. He has to estimate the, extent to which reliance may be placed on internal controls of the company. He has, to identify any aspects of the audit which need special attention and take note of any, additional work which has been agreed to be undertaken., Preparatory Procedures, The procedures preparatory to an audit are as follows :, a), , Review matters missed in the audit of the previous year which may have, continuing relevance in the current year., , b), , Assess the effects of any changes in legislation or accounting practice affecting, the financial statements of the company., , c), , Study interim or management accounts where these are available., , d), , Consult the management and staff of the company about the trading, circumstances, and significant changes in the business, or its management., , e), , Identify any significant changes in the accounung procedures of the company, (i.e. a new computer-based system), , f), , Ascertain the timing of significant phases of the preparation of the financial, statements., 144

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g), , See the extent to which analyses and summaries can be prepared by the, employees of the company., , h), , Estimate the relevance of any work to be done by the internal auditors of the, company., , i), , Determine the number of audit staff required, the experience and special skills, they need to possess and the timing of their audit visits., , j), , Allocate the work to be undertaken and the procedures to be followed between, the joint auditors, if any., , Considerations Prior to Commencement, The major considerations before the commencement of audit are as follows:, a), , Ensure that the appointment is in order under the provisions of law., , b), , Enquire from the retiring auditors the reasons for the changes, if the, appointment is in place of another auditor., , c), , Obtain necessary information and instructions about the nature of work, scope, of duties, expected date of completion of audit, audit fee, etc., , d), , Examine the accounting system followed by the company and identify the, weaknesses, if any., , e), , Get a list of various books maintained, those who maintain them and their, specimen signatures., , f), , Ascertain the system of internal control from the company and evaluate its ., effectiveness., , Audit Planning must consider the following activities as part of comprehensive plan.,
, ,
, ,
, , To collect the list of different officers of the company, their duties and powers, and their specimen signatures., To understand the work and acquire some technical knowledge to develop, familiarity with the nature of the operation., Ask the company to balance the books, prepare the final accounts, arrange the, vouchers in order to finalise the debtors' and creditors' schedules and file, important legal contracts, list of securities, etc., 145

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, ,
, ,
, ,
, , To procure a copy of the audited balance sheet of the previous year and ensure, that the opening balances of the current year tally with the closing balances of, the last year., To See the auditor's report of the previous year and take note of the state of, affairs or the points raised by the previous auditor., To refer to the accounting and financial provisions of the Article and, Memorandum of Association of the company and of its prospectus., To find out-if some important resolutions have been passed at the meetings of, the Board of Directors., , 4.2.6 AAS 13 : Audit Materiality, Information is material if its misstatement (i.e., omission or erroneous, statement) could influence the economic decisions of users taken on the basis of the, financial information. Materiality provides a cut off point rather than being primary, qualitative characteristics which the information must have if it is to be useful. This, AAS establishes standards on the concept of materiality and its relationship with, audit risk. Accordingly, the AAS deals with aspects such as establishment of, acceptable materiality levels, relationship between materiality and audit risk,, procedures to reduce audit risk, materiality and audit risk in evaluating audit, evidence, components of aggregate of uncorrected misstatements and auditor’s plan, of action, review of materiality level and subsequent changes therein, etc., The materiality concept refers to a situation where the financial information of a, company is considered to be material from the point of view of the preparation of the, financial statements if it has the potential to alter the view or opinion of a reasonable, person. Judgment about Materiality depends on size and nature of item, judged in the, particular circumstances of its misstatement. Thus it provides the cutoff point. The, concept of materiality recognizes some matters either individually or in the, aggregate., •, , Materiality in Planning and Performing an audit, , Auditor considers materiality at both the overall financial information level and, in relation to individual account balances and classes of transaction. Materiality can, also be influenced by other considerations, such as legal and regulatory requirements,, non-compliances which may have a significant bearing on the financial information, 146

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and consideration relating to individual account balances and relationships. The, auditor needs to consider the possibility of misstatement of relatively small amount,, cumulatively could have material effect on the financial information .e.g.month end, or periodic error which is repetitive., •, , Relationship between materiality and audit risk, , The auditor’s assessment of materiality and audit risk may be different at the, time of initially planning the engagement; at the time of evaluating the result. Hence,, assessment of materiality and audit risk may also change. There is an inverse, relationship between materiality and the degree of audit risk. Higher the materiality, level,the lower the audit risk and vice versa .e.g. The risk of particular account, balance or classes of transaction could be misstated by extremely large amount might, be very low. But the risk of misstated extremely small amount might be very high., •, , Different Types of Materiality, , Types of Materiality Calculation Significance Materiality % of chosen, benchmark (Sales, Net Profit, Net Worth, etc.), Example : Net Profit of X Ltd = Rs. 20 crores., Materiality = 5% of NP = 5% of 20 crores = Rs. 1 crore, The maximum tolerable misstatement amount which will not affect the decision of, the users of financial statements., Performance Materiality = 75% of Materiality = Rs. 75 lacs, The amount is chosen by the auditor in planning and performing the audit., Determining materiality involves the exercise of professional judgment. A, percentage is often applied to a chosen benchmark as a starting point in determining, for the financial statement as a whole. Examples of benchmarks that may be, appropriate, depending on the circumstances of the entity, include categories of, reported income such as profit before tax, total revenue, gross profit and total, expenses, total equity or net asset value., In an audit of the entities doing public utility programs/projects, total cost or net, cost (expenses less revenues or expenditures less receipts) may be appropriate, benchmarks for that particular program/activity. Where an entity has custody of the, assets, assets may be an appropriate measure., 147

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To establish a level of materiality, auditors rely on rules of thumb and, professional judgment. They also consider the amount and type of misstatement. The, materiality threshold is typically stated as a general percentage of a specific financial, statement line item., Materiality Principle or materiality concept is the accounting principle that, concern about the relevance of information, and the size and nature of transactions, that report in the financial statements. The preliminary estimate of materiality at the, financial statement level, often called planning materiality, is the maximum amount, by which the auditors believe the statements could be misstated, by known or, unknown error or fraud, and still not affect the decisions of reasonable financial, statement users, Check your progress-II, A) Choose the correct alternative from the alternatives given below., 1., , 2., , 3., , ………….. is the first step in audit., a) Audit sampling, , b) Audit planning, , c) Documentation, , d) Audit evidence, , ……………. Is information use by auditor to arrive at conclusion., a) Documentation, , b) Planning, , c) Sampling, , d) Audit evidence, , There is …………. Relationship between audit materiality and risk., a) straight, , b) inverse, , c) positive, , d) no, , B) State whether the following statements are true or false., 1., , Auditor should document only important matters., , 2., , Auditor has to collect valid evidence before expression opinion., , 3., , In risk assessment, identifying hazards is the first step., , 4.2.7 AAS 15 : Audit Sampling, "Audit Sampling" means the application of audit procedures to less than 100%, of the items within an account balance or class of transactions to enable the auditor to, 148

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obtain and evaluate audit evidence about some characteristics of the items selected in, order to form or assist in forming a conclusion concerning the population. The, purpose of this AAS is to establish standards on the design and selection of an audit, sample and the evaluation of sample results and applies equally to statistical and nonstatistical sampling. The areas covered by the AAS include design of sample, audit, objective etc. Auditor shall design and perform audit procedures in such a way as to, enable the auditor to obtain sufficient (quantity of audit evidence) and appropriate, (quality of audit evidence) audit evidence to be able to draw reasonable conclusions, on which to base the auditor’s opinion., If Audit evidence obtained –from one source is inconsistent with that obtained, from another or the auditor has doubts over the reliability of information to be sued, as audit evidence –auditor shall determine what modifications or additional to audit, procedures are necessary to resolve the matter, and shall consider the effect of the, matter if an, on other aspects of the audit., The procedures to obtain audit evidence can include Inspection, Observation,, Confirmation, Recalculation, Re-performance, Analytical procedures and Inquiry., Hence the means available to the auditor to select items for testing are –, , Figure 1 : Audit sampling, Application of audit procedures to less than 100 % of items within a population, of audit relevance such that all sampling units have a chance of selection in order to, provide the auditor with a reasonable basis on which to draw conclusions about the, entire population., This standard applies when the auditor has decided to use audit sampling in, performing audit procedures. It deals with the auditor’s use of statistical and nonstatistical sampling when designing and selecting the audit sample, performing test of, controls and test of details, and evaluating the results from the sample., , 149

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Objective of sampling, The objective of sampling for auditor when using audit sampling is to provide a, reasonable basis for auditor to draw conclusions about the population from which the, sample is selected., Requirements of Sampling, , Stratification may be appropriate in effective and efficient design of sample., “When determining sample size, auditor should consider Sampling Risk,, Tolerable error and Expected error”, , Figure 2 : Sample selection, Source :www.taxguru.com/sampling/....extracted on 22.04.2020, , 150

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Statistical Sampling, It is an approach to sampling that has the following characteristics –, Random Selection of the sample items and the use of probability theory to, evaluate sample results, including the measurement of sampling risk. Examples –, Random Selection Technique, Cluster Sampling Technique & Monetary Unit, Sampling Technique., Non – Statistical Sampling, A sampling approach that doesn’t have the characteristics stated above is, considered non statistical sampling. Examples –Haphazard Selection Sampling, Technique and Block Selection Technique., The decision whether to use a statistical or non-statistical sampling approach is a, matter for the auditor’s judgement. However, sample size is not a valid criterion to, distinguish between statistical and non-statistical approaches, Performing Audit Procedures, Auditor shall perform the procedure on a replacement item. Auditor shall treat, that item as a deviation from prescribed control (in case of test of controls) or a, misstatement (in case of test of detail).“Audit sample is to be analyzed to conclude, that a misstatement or deviation is an anomaly”., Types of error in sample, , Figure 3 : Audit Procedure, Evaluating the results of Audit Sampling, 151

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Auditor shall evaluate:, 1., , The result of the sample and, , 2., , Whether the use of audit sampling has provided a reasonable basis for, conclusion about the population that has been tested., , Advantages and disadvantages of audit sampling, a., , To sketch conclusions about a population without testing all of the transactions, or balances in the population as a whole., , b., , To focus on high risk or high value items, and to distinguish between elements, of a population which may be subject to differing internal controls., , Disadvantages of Audit sampling, a., , There is always a risk that the auditors sample is not representative of the, population as a whole. Auditor’s determine and accept the risk, and carry out, other procedures to recompense for it, but it always remains as a risk., , b., , Sampling relies on the use of judgement in relation to exceptions, materiality, and in drawing conclusion., , 4.2.8 AAS 28 : Auditor’s Report on Financial Statements, The purpose of this AAS is to establish standards on the form and content of the, auditor’s report issued as a result of an audit performed by an auditor of the financial, statements of an entity. Much of the standards laid down by this AAS can be adapted, to auditor’s reports on financial information other than financial statements. The, AAS deals extensively with the concepts such as the basic elements of an auditor’s, report, what is an unqualified opinion, the concept of modified audit report qualified opinion, adverse opinion, disclaimer opinion, matters that affect the, auditor’s opinion and matters that do not affect the auditor’s opinion, emphasis of, matter paragraphs, illustrative audit reports in each case., An auditor conducts an independent examination of the accounting information, presented by the business and issues a report thereon. An auditor’s report is the, formal statement of the auditor’s opinion of the financial statements after conducting, an audit. Audit opinions are classified as follows:, 1., , Unqualified opinion : This opinion states that the financial statements present, fairly, in all material respects, the financial position, results of operations, and, 152

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cash flows of the entity, in conformity with generally accepted accounting, principles., 2., , Qualified opinion : A qualified opinion states that, except for the effects of the, matter(s) to which the qualification relates, the financial statements present, fairly, in all material respects, the financial position, results of operations, and, cash flows of the entity, in conformity with generally accepted accounting, principles., , 3., , Adverse opinion : This opinion states that the financial statements do not present, fairly the financial position, results of operations, and cash flows of the entity, in, conformity with generally accepted accounting principles., , 4., , Disclaimer of opinion : A disclaimer of opinion states that the auditor does not, express opinion on the financial statements. A disclaimer of opinion is rendered, when the auditor has not performed an audit sufficient in scope to form an, opinion., , The typical unqualified (or clean) opinion has three paragraphs. The first, paragraph indicates the financial statements that have been audited and states that, these statements are the responsibility of the company’s management. This paragraph, indicates that the auditors have the responsibility to express an opinion on these, statements based on the audit or to disclaim an opinion., The second paragraph indicates that the audit has been conducted in accordance, with generally accepted auditing standards. Auditing standards define the required, level of audit quality. These standards are classified as to “general standards,” “field, work standards,” and “reporting standards.” The paragraph goes on to state that these, standards require the audit or to plan and perform the audit to obtain reasonable, assurance that the financial statements are free of material misstatement. The second, paragraph also includes a brief description of what is included in an audit. Further,, following description should be given as per the sequence., Heading, , Brief of contents, , Title, , Title should mention that it is an ‘Auditor’s Report’., , Addressee, , Should mention clearly as to whom the report is being given to., For example ‘Members’/ Shareholders of …..Ltd., , 153

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Management’s, Responsibility for, Financial, Statements, , It should be clearly mentioned that it is the Management’s, responsibility to Prepare the Financial Statements of the, company and auditors duty is to give his opinion on these, statement., , Auditor’s, Responsibility, , Mention that responsibility of the Auditor is to express an, unbiased opinion on the financial statements and issue an audit, report., , Opinion, , Should mention the overall impression obtained from the audit, of financial statements of the organisation where audit is, conducted., , Basis of the, Opinion, , State the basis on which the opinion as reported has been, achieved. Facts of the basis should be mentioned., , Other Reporting, Responsibility, , If any other reporting responsibility exists, the same should be, mentioned., For example Report on Legal or Regulatory requirements, , Signature of the, Auditor, , The auditor shall sign the audit report. In case of firm of, auditors, working partner has to sing the report. The seal and, membership number shall also be part of the report just below, the signature., , Place of Signature, , The city in which audit report is signed., , Date of Audit, Report, , Date on which the audit report is signed., , The third paragraph gives an opinion on the statements - that they are in, conformity with GAAP. In certain circumstances, an unqualified opinion on the, financial statements may require that the auditor add an explanatory paragraph after, the opinion paragraph. In this paragraph, the auditor may express agreement with a, departure from a designated principle, describe a material uncertainty, describe a, change in accounting principle, or express doubt as to the ability of the entity to, continue as a going concern. An explanatory paragraph may also be added to, emphasize a matter., 154

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Audit Report is a document used by the Auditors to express their opinion on the, financial statements they have audited. Auditors' opinion is that financial statements, give (or do not give) true and fair view at a specific date, For any enterprise, the audit report is a key deliverable which shows the end, results of the entire audit process. The users of financial statements like Investors,, Lenders, Customers, and others base their decisions and plans on audit reports of any, enterprise. An audit report is always critical to influencing the perceived value of any, financial statement’s audit., The auditor should be careful in issuing the audit report as there is a large, number of people placing reliance on such report and taking decisions accordingly., The report should be issued by being unbiased and objective in discharging the, functions., , 4.3 Summary, This unit describes some of the Auditing and Assurance Standards which are, useful for conducting the audit. These standards are issued by the Institute of, Chartered Accountants of India. These are mandatory standards issued by the, institute. It is possible that there is subjectivity in certain matters during the conduct, of audit. Therefore, there can be different opinions by the auditor on similar, organisations having similar accounting practices. Hence, it is important for auditors, to go through the standards before starting an audit so that the subjectivity is, removed and auditing becomes a professional exercise. Auditor must be clear about, objectives and scope of audit. He must have adequate knowledge about audit, documentation, audit planning and materiality. The auditor also needs confirmation, about risk assessment and internal control system existing in an organisation. While, conducting an audit, sampling also is an important consideration as it reduces the, routine work of auditor and he can focus more on his major work i.e. expression of, opinion. The reporting of financial statements is the task which is looked from, various stakeholders of the organisation from various perspectives. Therefore, it is, important to understand and apply the standards., , 4.4 Terms to Remember :, Audit – An independent examination of books of accounts and financial, statements with a view to express opinion thereon., 155

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Materiality – A characteristic of being influential on the economic decision of, users of information., Sampling – Application of audit procedures to less than 100% of the items of, the subject matter of audit., Risk – A statistical measure of certain misstatements which may be left out of, scope of audit., Reporting – An opinion of the auditor in the prescribed manner conveying 'true, and fair' view of financial statements., Audit Planning – An activity concerned with the important questions viz. what, to do? how to do? when to do? and who will do it?, Audit Evidence – The information used by the auditor in arriving at the, conclusions on which the audit opinion is based., Documentation – A process of keeping important matters separately and, providing them whenever necessary., Check your progress-III, A) Choose the correct alternative from the alternatives given below, i), , Primary objective of an audit is ……………., a) Detection of frauds and errors c) Expression of opinion, b) Report the irregularities, , d) All of the above, , ii) The characteristic of audit sample is that it……………………, a) represents all types of transactions c) is a part of all small transactions, b) has no relations with judgement d) none of the above, iii) Audit planning is an activity associated with…………., a) Planning various tasks of audit c) Planning important activities, b) Planning activities before starting audit d) all of the above, iv) ………………may provide audit evidence in case of dispute., , v), , a) Documentation, , b) Sampling, , c) Audit planning, , d) Materiality, , ………………helps auditor to consider the transaction which are, significant and have influence on financial statements., a), , Internal control, , b) Sampling, 156

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c), , Audit evidence, , d) Materiality, , B) State whether the following statements are true or false, i), , Audit is done only for detection of frauds and errors in accounts and, financial statements., , ii) Risk assessment involves financial risk associated in audit only., iii) Audit planning is important aspect to be considered before commencement, of the audit., iv) Current file and permanent file are important parts of documentation., v), , Sampling is selecting just few percentage of transactions randomly without, any other considerations., , 4.5 Answers to check your progress, Check your progress-1, A) 1. All of the above 2. Primary, , 3. Fraud, , B) 1. True, , 3. False, , 2. True, , Check your progress-II, A) 1. Audit planning, 2. Audit evidence, 3. inverse, B) 1. True, 2. True, 3. True, Check your progress-III, A) 1. Expression, 2. Represents all types of transactions, 3. All of the above, 4. documentation, 5. Materiality, B) 1. False, 2. False, 3. True, 4. True, 5. False, , 4.6 Exercise, 1., , Explain the process of issue of Auditing and Assurance Standards (AAS) in, India., , 2., , What are the objectives of audit?, , 3., , Explain the scope of audit., , 4., , Discuss the important of audit planning., , 5., , Explain the concept of audit evidence., , 6., , What is documentation in audit? What is its importance in audit?, 157