F8: Audit and Assurance

2 Audit and Assurance Designed to give you knowledge and application of: Section A: Audit Framework and Regulation Section B: Internal audit Section C: Planning and risk assessment Section D: Internal control Section E: Audit evidence Section F: Review Section G: Reporting

3 Designed to give you knowledge and application of: Section B: Internal Audit  B1. Internal audit & corporate governance  B2.Differences between external & internal audit  B3.The scope of the internal audit function  B4. Outsourcing the internal audit department  B5. Internal audit assignments

4  The factors to be taken into account when assessing the need for internal audit. [2]  The elements of best practice in the structure and operations of internal audit with reference to appropriate international codes of corporate governance. [2] Learning Outcomes B1: Internal Audit & Corporate Governance

5 B4: Explain the advantages & disadvantages of outsourcing internal audit  The advantages & disadvantages of outsourcing internal audit. [1] Learning Outcome

6 Identification of long term objectives Identification of activities that are to be conducted to achieve the objectives Identification of potential risks involved when conducting the activities Establishing a system of internal controls that will mitigate the risks Steps involved in setting strategies Factors to be taken into account when assessing the need for internal audit Internal auditing: the function of examining & testing whether the internal control systems have been properly designed & are functioning properly. Types of Audit Internal audit External audit An assurance is provided on the reliability & effectiveness of an organisation’s risk management, internal control & corporate governance systems. An assurance is provided on the truth & fairness of financial statements. Refer to Example (Good Wood organisation) on page B1.2

7  Assess whether management has met its responsibilities.  Determine whether the organisation is in compliance with all laws & regulations.  Determine if all prescribed internal control policies & procedures are being complied with.  Determine that the size & scope of the internal control system is sufficient.  Report unidentified risks & internal control weaknesses.  Recommend any improvements to / changes in the internal control system.  Identifies weaknesses & areas for improvement  Feedback mechanism, independent assessment of departments / processes  An objective evaluation of all potential risks  Regular examination & evaluations of internal control system  Regular reviews of operational & financial performance Objectives of internal auditing Benefits of internal audit function / department

8 Scale, diversity & complexity of organisation’s activities Example: Joe’s Ice Creams is a small owner operated ice cream parlor. It does not need an internal control system. Whether any department has a history of problems Example: Second Home operates a chain of eateries. It has frequent problem of cash registers not balancing at the end of the night. It would greatly benefit from internal audit system. Probability or possibility for fraud and corruption Example: Audioplay operates a chain of stores that sell stereo equipment. It only accepts cash payments. There is a need for internal audit function as possibility of fraud is high. Role of corporate governance Example: Steel Ltd manufactures parts of a machinery. Establishing an internal audit system will lead to good corporate governance practice. Factors to be evaluated before implementing an internal audit system Continued… Costs versus benefits Example: Superfast is a very small organisation consisting of just 6 employees. It will not be feasible to set up internal audit system because its costs will be much higher than the benefits.

9 Example: All the equity shareholders of the company must have the same rights. 1Ensuring the basis for an effective corporate governance framework Example: Each country should have a securities exchange regulatory body that takes disciplinary action against unfair practices such as insider trading. 2The rights of shareholders and key ownership functions Example: Each shareholder should have one vote for each share that he owns. 3The equitable treatment of shareholders Factors of best practice in the structure & operations of internal audit with reference to appropriate international codes of corporate governance Organisation for Economic Co-operation and Development (OECD): comprises of 30 member countries (& has collaborations with more than 70 other nations) & is dedicated to helping further economic prosperity across the globe. Six Principles of Corporate Governance by OECD

10 6The responsibilities of the board Example: Each director must always be elected & re-elected by the shareholders of the organisation. 5Disclosure & transparency Example: All year end financial statements should be audited by professionally qualified accountants. 4The role of stakeholders in corporate governance Example: An organisation should not pay any employee wages that are below the legal minimum wage for the country that it operates in.  monitor managerial performance  oversee an organisation’s operations  specify acceptable types & degrees of risk  ensure integrity of organisation’s accounting & financial reporting systems e.g. internal financial reports are timely and accurate. Continued…

11 Independent structure Internal auditors report directly to the BOD / its audit committee Qualified personnel Professionally qualified internal auditors having knowledge of organisation’s operations Sufficient personnel Sufficient number of internal auditors & support staff Quality documentation Follow in-house audit manuals while conducting internal audits Regular reporting Findings of the audits should be reported periodically Periodic review Work should be periodically reviewed by other internal auditors Best practice guidelines for the structure and operations of an internal audit system

12  Higher level on efficiency as well as reduction in cost  Provides broad range of expertise at a cheap cost  Risk of employee turnover is passed on  Fixed employee costs may be replaced by variable fee for service  Improves independence of internal audit function  Access to latest technology and software  Saves time  Employee training costs are saved  Sometimes line of demarcation between external & internal audit may become blurred  Independence of internal audit function may be jeopardised e.g. if management threatens not to renew contract.  Firm’s staff may be ignorant of organisation’s objectives, culture / business  Flexibility & availability of audit personnel may be adversely affected  Risk of overlapping roles between internal & external audit  Lack of control over audit staff of outsourced firm  Increases costs of company with no added loyalty to company Advantages of outsourcing internal audit Disadvantages of outsourcing internal audit Outsourcing internal audit function Solve Q1 from QB

13  The factors to be taken into account when assessing the need for internal audit. [2]  The elements of best practice in the structure and operations of internal audit with reference to appropriate international codes of corporate governance. [2]  The advantages & disadvantages of outsourcing internal audit. [1] RECAP