Auditing Theory and Practice

1-3 1-5 To do an audit, there must be information in a verifiable form and some standards ( criteria ) by which the auditor can evaluate the information. Examples of established criteria include generally accepted accounting principles and the Internal Revenue Code. Determining the degree of correspondence between information and established criteria is determining whether a given set of information is in accordance with the established criteria. The information for Jones Company's tax return is the federal tax returns filed by the company. The established criteria are found in the Internal Revenue Code and all interpretations. For the audit of Jones Company's financial statements the information is the financial statements being audited and the established criteria are generally accepted accounting principles. 1-6 The primary evidence the internal revenue agent will use in the audit of the Jones Company's tax return include all available documentation and other information available in Jones’ office or from other sources. For example, when the internal revenue agent audits taxable income, a major source of information will be bank statements, the cash receipts journal and deposit slips. The internal revenue agent is likely to emphasize unrecorded receipts and revenues. For expenses, major sources of evidence are likely to be cancelled checks and electronic funds transfers, vendors' invoices, and other supporting documentation. 1-7 This apparent paradox arises from the distinction between the function of auditing and the function of accounting. The accounting function is the recording, classifying and summarizing of economic events to provide relevant information to decision makers. The rules of accounting are the criteria used by the auditor for evaluating the presentation of economic events for financial statements and he or she must therefore have an understanding of accounting standards, as well as auditing standards. The accountant need not, and frequently does not, understand what auditors do, unless he or she is involved in doing audits, or has been trained as an auditor. 1-4 1-8 OPERATIONAL AUDITS COMPLIANCE AUDITS AUDITS OF FINANCIAL STATEMENTS PURPOSE To evaluate whether operating procedures are efficient and effective To determine whether the client is following specific procedures set by higher authority To determine whether the overall financial statements are presented in accordance with specified criteria (usually GAAP) USERS OF AUDIT REPORT Management of organization Authority setting down procedures, internal or external Different groups for different purposes — many outside entities NATURE Highly nonstandard; often subjective Not standardized, but specific and usually objective Highly standardized PERFORMED BY: CPAs Frequently Occasionally Almost universally GAO AUDITORS Frequently Frequently Occasionally IRS AUDITORS Never Universally Never INTERNAL AUDITORS Frequently Frequently Frequently 1-9 Five examples of specific operational audits that could be conducted by an internal auditor in a manufacturing company are: 1. Examine employee time records and personnel records to determine if sufficient information is available to maximize the effective use of personnel. 2. Review the processing of sales invoices to determine if it could be done more efficiently. 3. Review the acquisitions of goods, including costs, to determine if they are being purchased at the lowest possible cost considering the quality needed.

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