AUDIT CYCLE

By
Prof. Dr Safdar Ali Butt

Audit Cycle
Essentially an external audit takes the
following course:
Appointment of an external auditor
The Audit File
Assessment of Internal Controls
Audit Programs
Audit work and techniques
Audit Report
2

Appointment

Mode of appointment
Eligibility for appointment
Initial inquiries
Acceptance or Engagement Letter

Mode of Appointment

Shareholders appoint the external auditors

at Annual General Meeting.
Auditors name is proposed and seconded
by shareholders. If more than one name is
proposed, an election takes place.
Before an audit firms name is proposed,
their prior consent should be taken by the
proposer.
4

Who can be appointed

an external auditor?

Must have a practicing license. This means

he should be a qualified chartered
accountant or equivalent.
In Pakistan, most external audits of
companies are performed by auditing
firms rather than individuals.
SBP and SECP have rated/classified audit
firms according to their strength and
experience, etc.
5

Who cannot be appointed

an external auditor?

An employee or director of the company.

A person who is a spouse, partner or servant of
an employee of the company.
A debtor or a beneficiary of the company.
A company.
A person who has been for any legal reason
disqualified from being the auditor of the
company, or any of its subsidiary or holding
company.
6

Appointment by
Partners or sole traders

The sole trader can appoint the external

auditor himself.
In case of partnership, the majority of
partners can appoint the external auditor.

Rights of an auditor

Access to all books and records of the

company, where ever they may be.
Raise queries or ask for any information
needed by him and get it.
Attend and speak at AGMs.

Removal of Auditor

Resignation or voluntary
Forced removal:

Only at General Meeting of shareholders.

Permission of SECP
Auditor has a right to make a representation
at shareholders meeting.

Acceptance of Appointment

Upon passing of the resolution of his

appointment, the external auditor is
notified.
Some negotiation on terms and fees etc
must take place before the external
auditor gives his preliminary consent.
The external auditor takes certain steps
before he formally accepts the
appointment.
10

Initial Steps

Study the relevant laws and statutes.

Study the relevant legal documents like
Articles and Memorandum of the
company.
Ascertain the general nature of the
companys business.
Get a list of all books of accounts and
supporting records, manuals, charts, etc.
11

Initial Steps: continued

Seek confirmation from previous external auditor

where applicable.
Get a copy of published accounts, supporting
schedules and audit reports of previous few
years.
Review his own resources to handle the job.
Having taken the above steps, the external
auditor gets into a position to decide whether or
not to accept the appointment.

12

Engagement Letter

No appointment letter is issued to an

external auditor.
Instead, the external auditor issues an
Engagement Letter outlining the scope
and terms of his assignment.
The company must accept the
Engagement Letter and abide by its
provisions.
13

Audit Files

Permanent file
Current file

14

Permanent Audit File

Statutory documents of the company e.g.

articles and memorandum of association.
General description of the companys
business.
List of accounting records, responsible
officers, organizational chart, etc.
Internal control manuals
Any other document that has long term
importance to the audit.
15

Current Audit File

Engagement letter
Current accounts, ratios and supporting
schedules
Completed ICQs
Record of queries raised and answers
obtained during the audit
Minutes of relevant meetings
Any other document of importance
relating to current years audit.
16

Audit Note Book

Each employee assigned to the audit is
provided an Audit Note Book in which he
records whatever steps or acts he
personally takes in the course of the audit,
e.g. queries raised, answers received,
daily progress, significant totals and
balances, stage of audit reached at the
end of each day or week, minutes of
meeting held with clients staff, etc.
17

Audit Working Papers

The contents of the Current File and Audit

Note Books are called Auditing Working
Papers.
They provide a detailed record and
reference to audit work carried out.
Form basis of auditors fee is based on
hourly charge.
Keep track of audit staffs performance
Ensure comprehensive coverage.
18

Assessing Internal Control

Before the audit commences, the external auditor
evaluates the internal control system of the
company. In this regard:
The first step is to find out what internal controls
exist. This is done by preparing Internal Control
Questionnaires.
The second step is to assess how effectively the
system is actually enforced. This is done by test
checking the answers to ICQs.
19

Internal Control Questionnaires

An ICQ is simply a list of short questions,

capable of being answered in only a few words,
prepared to find out how a company handles a
particular part of its accounting work or records.
A large number of ICQs are prepared to ensure
complete coverage of all aspects of all
accounting records.
ICQ are prepared by senior managers and
answers to the questions are completed by
junior audit staff.
Completed ICQ are reviewed by a senior
manager before Audit Programs are drawn up.
20

Audit Program
An Audit Program is an actual plan of audit work.
A large number of APs are prepared to cover the
various activities of the company, as one AP
covers only one aspect. It contains:
The list of tasks to be performed by audit
workers;
Instructions on how to perform them;
Depth and breadth to which audit work must be
done.
How to record the findings.
21

Using Audit Programs

AP is prepared by senior audit managers after

reviewing the findings of ICQs.
The actual audit work is done by junior audit
staff.
Completed APs are reviewed by audit seniors
and further test checks may be made by them to
ensure their validity.
Standard Audit Programs (SAPs) may be used
for routine, common aspects of accounting
records and tasks.
22

Advantages of APs

Clear set of instructions to audit staff.

Comprehensive coverage of audit work.
Work is done in organized, systematic manner.
Record and proof of work done.
Pin point responsibility of who did what part of
the audit work.
Better handling of audit staff
Training of audit staff.

23

Disadvantages of APs

Make work mechanical.

Rigidity and inflexibility
May inhibit efficient audit staff.
Inefficient staff simply aim at completing
the AP and hide behind it.
If clients staff gets to know about
contents of AP, they can rig records.

24

Detailed Audit Work

Once APs have been prepared, actual

checking work commences. Audit staff
start doing work according to APs.
Audit senior keep reviewing the work of
juniors through checks and notes books.
Completed APs are studied by seniors.
If deemed necessary further checks may
be carried out.
25

Completion of Audit Work

Once detailed audit work has been done,
the audit seniors form an opinion on the
work done. This is communicated to the
client in two ways:
Audit Report
Management Letter

26

Audit Report
It states that:
Auditor has gone through the financial statements and
related records
He has obtained all necessary information needed for his
work.
The accounting records have been kept in accordance
with relevant laws.
Financial statements are correctly based on accounting
records.
Financial statements reflect a true and fair view of the
profit or loss made by the company and the companys
financial position at the balance sheet date.
27

Management Letter

Sent to Management of the Company.

Lists weaknesses of the internal control
systems.
May also give suggestions for
improvements.
It does not absolve the auditor of his basic
responsibility.

28

Audit Committee

Required by code of corporate

governance.
Formed by Board of Directors to oversee
all internal and external audit matters.
External auditor deals with the company
through the chairman of audit committee.
Internal auditor also reports to chairman
of audit committee.
29

Thank you

30