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Audit Practice Manual(Revised)
Volume 2
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CONTENTS
PRE ENGAGEMENT PHASE 1
1. Prospective Client Acceptance Memorandum 1
2. Existing Client Continuation/ Retention Memorandum 6
Part A Client relating matters 6
Part B Professional risk related matters 6
Conclusion 7
PLANNING PHASE 8
3. Suggested Engagement Letter 8
4. Audit Strategy and Planning Document 11
I Client Overview 12
(a) Client History and Background 12
(b) Client Business Objectives and Related Business Strategies 12
(c) Client Business Components 13
II External Business Forces 15
III Strategic Management Process 20
IV Business Control Environment 21
V Computer Information Systems (CIS) 24
VI Financial Reporting Environment 25
VII Critical Audit Areas / Significant Financial Statement Components 27
VIII Involvement of specialists and other parties 31
IX Audit programme overview 34
X Logistical plan 40
XI Management Span 42
XII Audit Materiality 43
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5. Control Overview and Risk Assessment Document 45
I Introduction 45
II Risk 45
(a) Control environment 46
(b) Entitys risk assessment process 50
(c) Information system, and business processes for financial reporting, andcommunication 51
(d) Control activities 52
(e) Monitoring of controls 55
6. Fraud Risk Assessment Document 57
I Introduction 57
(a) Fraud 57
(b) Responsibilities 58
II Discussions with Management 58
(a) Results of enquiries of management 59
(b) Discussions with those charged with governance 60
III Fraud Risk Factors and Response 61
(a) Audit Team Discussions 61
(i) Fraudulent financial reporting 62
(b) Overall consideration 66
(c) Consideration at the account balance, class of transaction and assertion level 67
(d) Specific responses- Fraudulent financial reporting 67
(e) Specific responses- Misappropriation of assets 68
IV Procedures when Circumstances Indicate a Possible Misstatement 69
(a) Circumstances that may indicate the possibility of fraud or error 69
(b) Audit procedures 71
V Evaluation and Disposition of Misstatements 71
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7. Computer Information Systems Questionnaire 72
I. Level of Dependence the Entity has on Computer Information Systems(include a list of the entitys computer information systems) 72
II. Application Controls (ERP, Supply Chain, CRM, Logistics) 73
III. Computer information systems skills and resources 74
VI. Information Security 75
V. Reliability of Computer Information Systems 77
VI. Degree and Rate of Change in Computer Information Systems 80
VII. Dependence on External Computer Processing 81
VIII. Direction and Operation of Computer Information Systems 82
8. General Purpose CIS Checklist 84
I Purpose 84
II Preparation and Staffing 84
III Questions 84
IV Conclusion 85
(a) Organisation and Management Policies 85
(b) Segregation of Duties 88
(c) Logical Access Controls 90
(d) Physical Access Controls 92(e) Systems Development and Program Change Controls 93
(f) Business Continuity and Computer Operations 96
(g) User Management e.g. Finance Director / Financial Controller / ChiefAccountant 99
V CIS Control Reliance 100
9. Analytical Review Ratio Analysis 104
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10. Review of Financial Performance of the Client 108
Suggested Format of Financial Performance Review 109
(a) Summary Financial Data Period Ending (Indicate) 109
(b) Profitability of Operations 109
(c) Financial Leverage 109
(d) Asset Turnover 110
(e) Liquidity 110
11. Internal Audit Function Evaluation 111
Section IPreliminary assessment of the internal audit function 113
Section IIEvaluate and test the work of internal auditing 114
(a) Evaluate 114
(b) Test 115
Section IIIObtaining direct assistance 116
Conclusion 117
12. Using the Work of Another Auditor 118
Section I 119
Professional competence of the other auditor 119
Professional competence of the other auditor 120
Section II - Main areas of judgment 121
(a) Critical audit objectives and significant audit areas 121(b) Significant features of the years results 122
(c) Evaluation of internal control 123
(d) Errors and exceptions 125
(e) Matters of judgment brought to the partners attention 125
(f) Matters giving arise to a qualification in the audit report 126
(g) Other items attesting the accounts / disclosures 126
13. Minimum Hourly Charge Out Rates For Audit Work By PracticingMembers 128
ATR 14 (Revised) 128
14. Staff Planning and Time Allocation 131
15. Time Sheet 134
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16. Client Profile 135
17. List of Authorised Signatories 136
18. Notes of Meeting With Client 137
Agenda for Meeting 138
19. Notes of Review of Correspondence File 144
20. Points Forward to Next Year 145
Assess Client Satisfaction and Team Debriefing 146
EXECUTION PHASE 147
21. General Instructions for Documentation of Audit Execution File 147
22. Sampling 148
I Definition of sampling 148
II Importance of sampling 148
III Risks 149
(a) Appropriateness of sample to the objective 149
(b) Completeness of sample population 149
IV Planning The Sample 149
(a) The Audit Objectives 149
(b) The Population 149
(c) The Sampling Unit 150
(d) Defining Tolerable Error 150
(e) Setting the sample size for substantive tests of transactions and balances 150
V Sampling methodology 151
VI Sampling techniques 151
(a) Statistical sampling 152
(b) Judgemental sampling 153
VII Using Sampling in Auditing 153
(a) Some Precautions before Undertaking Statistical Sampling 153
(b) Worksheet for Evaluation of Statistical Sample for Attributes 156
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23. Sample Audit Programs 157
I Balance Sheet Assets 159
(a) Fixed assets (tangible, intangible & CWIP) 160
(b) Investment properties 169
(c) Investments (subsidiaries, associates, and others) 177
(d) Long term loans and advances 185
(e) Long term deposits and prepayments 191
(f) Stores, spares and stock-in-trade 196
(g) Advances, Deposits, Prepayments & Other receivables 203
(h) Trade debts 209
(i) Cash and bank balances 213
II Balance Sheet Liabilities 218
(a) Accrued Expenses 219(b) Contingencies & Commitments 231
(c) Deferred Liabilities 235
(d) Direct Taxation 240
(e) Dividend Payable 244
(f) Equity 246
(g) Liabilities Against Assets 256
(h) Long Term Debt 261
(i) Long Term Deposit 271
(j) Payables 273
(k) Short Term Borrowings 287
(l) Surplus on Revaluation 297
III Profit & Loss 302
(a) Sales 303
(b) Cost of Sales 306
(c) Admin Expense 309
(d) Financial Charges 312
(e) Other Income 315
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IV Others 318
(a) WWF / WPPF 319
(b) Laws and Regulations 321
24. Leads 326
25. Leads Schedule 327
26. Format of Confirmation 328
I Bank Confirmation 328
II Debtors / Creditor Confirmation 332
III Lease Confirmation 333
IV Legal Confirmation 334
V Loan Confirmation 336
VI Tax Confirmation 338
27. Inventory Count Attendance Programe 339
I Guidelines for observation of physical inventories 339
II Production Costs and Inventories 342
(a) Observation of Physical Inventory Count Checklist 342
(b) Conclusions 345
28. Going Concern Assessment 347
29.
Related Party Transactions Checklist 35530. Companies Ordinance Compliance Checklist 360
I. Secretarial Formalities 360
II. Disclosure and Other Requirements Under The Companies Ordinance, 1984 364
31. Income Tax Provision Checklist 367
32. Labour Laws Compliance Checklist 393
I Gratuity 394
II Workers Profit Participation Fund 39733. Tax Position 403
34. Adjusting Entries 404
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REPORTING PHASE 405
35. Financial Statements 405
36. Working of Cash Flow Statement 406
37. Final Analytical Review Procedures 407
38. Reclassification Entries 409
39. Manager Review Notes & Queries 410
40. Partner Review Notes & Queries 411
41. Audit Issues Control Document 412
42. Points for Next Year 415
43. Assess Client Satisfaction and Team Debriefing 416
44.
Summary Review Memorandum 41745. Audit Completion and Reporting 420
46. Audit Completion Checklist Part I 423
I Engagement Partner Sign-off 424
II Computer Information System (CIS) Specialist Sign-off 427
III Considerations and Procedures 428
47. Audit Completion Checklist Part II 440
48. Subsequent Events Review Checklist 443
49. Format of Representation Letter 448
50. Exceptions and Control Weaknesses 455
51. Suggested Letter to the Board of Directors (BOD) 460
52. Auditors Report To The Members - Form 35A 461
53. Auditors Report To The Members or Directors in Case of Branches ofForeign Banks - Form 35B 463
54. Auditors Report To The Members of a Non-Life Insurance Company 466
55.
Auditors Report To The Members of a Life Insurance Company 46856. Auditors Report To The Certificate Holders - Form No. XI 470
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57. Auditors Report To The 1Trustees / Board of Governors / ManagementCommittee 472
58. Auditors Report To The 1Trustees / Board of Governors / ManagementCommittee 473
59.
Auditors Report on Consolidated Financial Statements - Form 35C 474
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PRE ENGAGEMENT PHASE
Prospective Client Acceptance Memorandum WP Ref.:
Prepared by:Date:
Client:
Period
Purpose
The purpose of the prospective client acceptance memorandum is to assess whether the client is
one with which the auditor wishes to associate and to document a consideration of the issues
influencing the decision to accept or reject an invitation to act as auditor. The prospective clientevaluation process seeks to determine this through an examination of the professional risk that
may result from providing services to a client. The evaluation also seeks to identify higher-riskclients.
This memorandum should be filled and signed before accepting all new audit engagement.
i. Prospective client identity and source (consider following questions)
What has been auditors experience with the client or member of the same group?
Has the work been referred by a long-standing professional contract?
Is the prospective client a foreign-office referral?
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ii. Background information on the business (consider following questions)
What is known about the prospective business client?
What is known about the parties associated with the business?
What is the reason of auditor selection?
What is the business reputation of the prospective client, its owners, and its
management?
How capable is management?
What is known about the integrity of the principal owners and management ?
What is the financial status of the prospective client (particularly liquidity and
viability)?
What is known about the industry in which the prospective client operates and the
risks it presents?
What is the prospective clients relationship with other professional audit
firms/auditors?
Has the auditor contacted the predecessor auditor for information including any
reason for the change?
iii. Results of inquiries with third parties
Enter details of discussions with third parties.
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iv. Auditors association with the prospective client (consider following questions)
Are there any relationship that may impair auditors objectivity or ability to meet
any relevant independence requirements?
Are there any potential conflict of interest affecting auditors ability to accept the
engagement?
Does the auditor has sufficient information about the clients expectations form
the engagement?
Are the relevant skills to carry out the work available with the auditor?
Have any relevant statutory or other regulatory provision been identified,
including any implications on the auditors ability to act for the client?
Consider that no conflict of interest arise in respect of services being provided as
a result of accepting audit of a listed company in view of listing regulations.
1. Conflicts of interest
Enter details of issues that might lead to potential conflict of interest.
2. Expertise
Enter details of the skills and experience the auditor has that makes it a suitable
for this client.
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3. Fee recovery
Enter details of estimated fees, and confirm that an acceptable level of recovery is
expected.
4. Other services
Comment on the potential for providing other services to the client and suggest
actions for taking advantage of these.
v. Initial assessment of risk associated with the prospective client
Specify the areas of concern that the client presents and explain how the risk will be
managed.
vi. Result of enquiries with predecessor auditor
Document the results of enquiries with predecessor auditor and comment on the same.
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vii. Other
Enter details of any other areas of concern or issues for consideration.
viii. Conclusion
On the basis of the above, we conclude that there is no reason to believe that the overalllevel of risk associated with__________________________-is sufficient to prevent the
client from being accepted and there are no other circumstances of which we are aware
associated with __________ _________________that suggest that the client should notbe accepted.
Signed
Engagement partner Date
Senior partner Date
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Existing Client Continuation/ Retention Memorandum
Instructions
This section has to be completed by the engagement partner. However, the engagement partner
may delegate some of the evaluation procedures to other partner or professional staff. In case ofyes attach details.
Part A Client relating matters
1. Is there a significant change in the circumstances of the client or in the termsor conditions of the engagement? Yes/No
2. Is there a request by another partner for re-evaluation of the engagement? Yes/No
3. Is there any new legal, regulatory or professional requirements that alter thereporting responsibilities and the nature, timing or extent of the auditprocedures? Yes/No
4. Is there a significant change in the nature, size or structure of the client'sbusiness? Yes/No
5. Is there a significant change in management or other personnel? Yes/No
Part B Professional risk related matters
1. Is there any reason to question or be concerned about the reputation, character,or integrity of management and/or the owners of the prospective client? Yes/No
2. Would the member or representative firm's association with the client be likelyto affect the firm's image adversely either currently or in the future? Yes/No
3. Are there any features of the business generally or the way the particular clientoperates which present unacceptable professional risks or call for specialattention if the engagement is continued? Yes/No
4. Is there any known problem of independence by reason of activities orrelationships of partner or professional staff in relation to the client? Yes/No
5. Is there any potential for adverse publicity? Yes/No
6. Is the client involved in any significant current or possible litigation? Yes/No
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Conclusion
I believe the firm should / should not continue our client engagement and I have considered all the factors
mentioned.
Engagement Partner ________________________________________ _________(Signature) (Date)
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PLANNING PHASE
Suggested Engagement Letter
Addressee (To the Board of Director or appropriate
Senior Management Person)
Date
Dear Sir
Sub: Audit for the year ending _____________
You have requested that we audit the financial statement of ________ comprising of balance
sheet as at ________, and the related profit and loss account, cash flow statement and statementof changes in equity for the year then ending together with the notes forming part thereof. We
are pleased to confirm our acceptance and our understanding of this engagement by means ofthis letter. Our audit will be made with the objective of our expressing an opinion on the
financial statements.
At the outset you agree that the responsibility for the preparation of financial statements
including adequate disclosure is that of the management of the company. This includes themaintenance of adequate accounting records and internal controls, the selection and applicationof accounting policies, and the safeguarding of the assets of the company. Our responsibility is
to express an opinion on these financial statements based on our audit.
We will conduct our audit in accordance with International Standards on Auditing as applicable
in Pakistan with the objective of expressing an opinion whether the financial statements conformwith approved accounting standards as applicable in Pakistan, and, give the information requiredby the Companies Ordinance, 1984, in the manner so required and respectively give a true and
fair view of the state of the Corporations affairs as at ------ and of the profit, its cash flows and
changes in equity for the year then ended. Those standards require that we plan and perform theaudit to obtain reasonable assurance about whether the financial statements are free of material
misstatements. An audit includes examining, on a test basis, evidence supporting the amountsand disclosures in the financial statements. An audit also includes assessing the accountingprinciples used and significant estimates made by management, as well as evaluating the overall
financial statement presentation.
Because of the test nature and other inherent limitations of an audit, together with the inherent
limitations of any accounting and internal control system, there is an unavoidable risk that evensome material misstatements may remain undiscovered.
In addition to our report on the financial statements, we expect to provide you with a separateletter concerning any material weaknesses in accounting and internal control systems, whichcome to our notice during the course of our normal audit work. We are not required by auditing
standards to make an examination of internal controls beyond that which we make in
determining the nature, extent and timing of our other audit procedures, and we have not beenengaged to report on the company's internal control structure. As part of our audit process, we
will request from management written confirmation concerning representations made to us inconnection with the audit.
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As part of our audit, we are also required by the Companies Ordinance, 1984 to form our opinionon whether:
a) proper books of account have been kept by the company as required by the CompaniesOrdinance, 1984;
b) the balance sheet and profit and loss account together with the notes thereon have beendrawn up in conformity with the Companies Ordinance, 1984 and are in agreement with
the books of account and are further in accordance with accounting policies consistently
applied;
c) the expenditure incurred during the year was for the purpose of the companys business;
d) the business conducted, investments made and the expenditure incurred during the yearwere in accordance with the objects of the company; and
e) zakat deductible at source under the Zakat and Ushr Ordinance, 1980, was deducted by thecompany and deposited in the Central Zakat Fund established under section 7 of that
Ordinance.
In addition, International Standard on Auditing ISA 240, The Auditor's Responsibility to
consider Fraud and Error in an Audit of Financial Statements, requires that we obtain specificwritten representations from management that:
it acknowledges its responsibility for the implementation and operations of accounting andinternal control systems that are designed to prevent and detect fraud and error,
it believes the effects of those uncorrected financial statements misstatements aggregated by
us during the audit are immaterial, both individually and in the aggregate, to the financialstatements taken as a whole,
it has disclosed to us all significant facts relating to any frauds or suspected frauds known tomanagement that may have affected the entity, and
it has disclosed to us the results of its assessments of the risk that the financial statementsmay be materially misstated as a result of fraud.
These specific items will be included in our request for written confirmation concerning
representations made to us in connection with the audit. In addition to the above management
also is responsible for identifying and ensuring that the Company complies with laws andregulations applicable to its activities.
If you require us to complete our work under this engagement contract or, any part of it, by aspecific date or time, you will inform us in writing of your requirement. Whilst we will make
every effort to complete such work by the date specified, you acknowledge that meeting any
such requirement will rely on you providing reasonable notice of your requirement and thetimely provision of such information, as we may need to complete the work concerned.
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We agree that we will treat as such all confidential proprietary information obtained from you
and will not disclosed such information to others, except to those persons engaged in providingservices to you, or use such information except in connection with the performance of theservices agreed to this letter. This undertaking shall not apply to any of the information that we
are required by law or by the requirements of any regulators or by specific professional standardsto disclose, that is in, or hereafter enters the public domain. We wish to inform you that ourworking papers files for the audit of the financial statements of your company would be subject
to review by the Institute of Chartered Accountants of Pakistans Quality Control ReviewCommittee without any further reference to you.
We look forward to full cooperation with your staff and we trust that they will make available tous whatever records; documentation and other information including minutes of all management,board of directors, committees and shareholders meetings are requested in connection with our
audit. We shall request sight of all documents or statements, including the Chairmans statement
and directors report (if any) required to be issued with the financial statements.
Our fees, which will be billed as work progresses, are based on the time required by theindividuals assigned to the engagement plus out-of-pocket expenses. Individual hourly rates varyaccording to the degree of responsibility involved and the experience and skill required.
This letter will be effective for future years unless it is terminated, amended or superseded.Unless we hear from you to the contrary, we will assume your concurrence with the contents of
this letter.
Please sign and return the attached copy to indicate that it is in accordance with your
understanding of the audit arrangements.
Yours truly
Firms Name
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Audit Strategy and Planning Document WP Ref.:Prepared by:
Date:
Client:Period:
Purpose
The purpose of this working paper is to obtain an understanding of the entitys business. It
documents:
the entitys objectives, strategies and the components of its business (i.e., markets,
products/services, customers, alliances)
the entitys relevant external business drivers (i.e., general business environment, specificindustry characteristics and managements response to the expectations of significantconstituencies).
how the entity formulates and implements its objectives and strategies (strategicmanagement process)
the business control environment management has created to support its objectives andstrategies
how computer information systems facilitate business processes and are utilised by theentity
the financial reporting environment
Critical Audit Areas / Significant Financial Statement Components
Involvement of specialists and other parties
Logistical plan
This understanding will assist in understanding business risks that threaten the entitysobjectives. Such as understanding should be reviewed with the entitys management.
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I Client Overview
(a) Client History and Background
Provide a description of relevant client background
(b) Client Business Objectives and Related Business Strategies
Management responds to external business drivers by developing objectives and
strategies to achieve those objectives. Provide a summary of the objectives,strategies and method of implementing the strategies.
Business Objectives Related Business Strategies
1.
2.
3.
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(c) Client Business Components
Feasible objectives and strategies need to reflect a clients existing circumstances
and take into account its markets, products and services, relationship with customers
and alliances (including relationship with suppliers). Provide a description of thesecomponents
(i) Major Markets
(ii) Major Products and Services
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(iii) Major Customers
(iv) Major Competitors
(v) Alliances (including suppliers) and other relationships
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(vi) SWOT Analysis (entity's and competitors')
Entity Competitors
Strengths
Weaknesses
Opportunities
Threats
II External Business Forces
External business drivers are forces created by a clients:
general business environment (PEST) and specific industry characteristics (PortersFive Forces);
significant stakeholders.
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General business environment and specific industry characteristics (PEST and Porters
Five Forces)
Provide a discussion of current forces facing the client that may have an impact on the
client achieving its objectives and the relevance of those aspects of the environment to the
client, given its chosen strategies. Consider the following forces in analysing the generalbusiness environment and specific industry characteristics
PEST - political, economic, social, and technology forces;
Porters Five Forces - threat of new entrants, bargaining power of suppliers,
bargaining power of buyers, substitute products or services, rivalry amongstexisting competitors.
General Business Environment (PEST Analysis)
1. Political
Forces Relevance to the Client
2. Economic
Forces Relevance to the Client
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3. Social
Forces Relevance to the Client
4. Technological
Forces Relevance to the Client
Specific Industry Characteristics (Porter's Five Forces)
1. Threat of New Entrants
Forces Relevance to the Client
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2. Bargaining Powers of Suppliers
Forces Relevance to the Client
3. Bargaining Powers of Buyers
Forces Relevance to the Client
4. Substitute Services/ Products
Forces Relevance to the Client
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5. Rivalry Among Existing Competitors
Forces Relevance to the Client
Significant Constituencies
Management may have incentives to manipulate the results of the business and theimpression given by the financial statements considering significant stakeholders.Provide a discussion of individual stakeholders that management perceives as
significant and discuss how management responds to expectations of significantstakeholders.
Constituency/Stakeholders
Management Response to the Expectations
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III Strategic Management Process
When analysing the clients strategic management process understand how management:
sets the overall direction for the client;
monitors the external environment and assesses the strategic implications of potential
opportunities and threats;
monitors the extent to which strategies have been implemented;
understands the strategies and capabilities of the major competitors;
analyses the clients strengths and weaknesses;
allocates resources, including capital, people and facilities to its business processes;
aligns process objectives with strategic objectives.
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IV Business Control Environment
When analysing the business control environment understand the clients:
business structure;
culture and ethics;
remuneration management;
personnel profiles;
communication of information;
risk assessment process;
control environment
monitoring and control activities
Business structure
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Culture and ethics
Remuneration management
Personnel profiles
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Communication of information
Risk Assessment Process
Control Environment
Monitoring and Control Activities
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V Computer Information Systems (CIS)
Business processes are often facilitated by computer information systems. Obtain an
understanding of the:
level of dependence the client has on computer information systems (include a list
of the clients computer information systems);
computer information systems personnel structure and skills;
security of computer information systems;
reliability of computer information systems;
degree and rate of change in computer information systems;
dependence on external computer processing;
direction and operation of computer information systems.
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VI Financial Reporting Environment
Financial reporting environment involves understanding what management does to bring
together financial information to prepare the financial statements. Obtain anunderstanding of the:
accounting policies applied by the entity and applied within the industry;
potential impact of managements reporting strategy upon specific aspects of the
financial statements.
Financial Reporting Issues
Consider the following for identification of financial reporting issues to beaddressed while carrying out research or consulting with coleagues, experts:
client's accounting practices and policies;
new accounting pronoucements;
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the going concern assumption;
legal and regulatory changes
Financial reporting issue Reason for identification
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VII Critical Audit Areas / Significant Financial Statement Components
Critical audit areas are generally those where judgment is involved and significantestimation is used. The approach to those areas and resulting impact on thefinancial statements relating to the audit is documented. It also includesconsideration of previous years brought forward issues. Following are some of thecritical areas for only guidance purposes. Other critical areas may be included inthis section as per the auditor's assessment.
Critical Audit
Areas/ Objective
Reason for
identification
Management
Response
Proposed Audit
Approach
V of Receivables
VP of Investments
CEA of Taxation
VP of Definedbenefit plans
VP of Litigation &
Claims
V of Inventories
CVP of Related partytransactions
V Impairment ofassets
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Examples of other major critical areas may include:
Review of other significant estimates made
New borrowings with extra-ordinary terms and conditions
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Discontinuation of major suppliers
Acquisition of a significant asset
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Discontinuation of a major customer
Loss of a significant market share
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VIII Involvement of specialists and other parties
Description iclude a summary of the issue, why it is considered significant and its
potential financial statement effects. Depending on the phase of the audit workflow inwhich the issue is identified, the financial statement assertion to which the issue relatesmay or may not have been combined into an audit objective yet. As a result, the issue
may be included as a significant issue on the basis that the potential financial statement
effect may be a significant non-routine transaction, requires a great deal of judgement oris complex, and not necessarily that it has been confirmed as a critical audit objective.
Involvement of: Computer Information System (CIS) Specialist
Description of basis, nature, extent and conclusions related to the involvement of
CIS Specialist:
[Description]
Findings
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Involvement of: Taxation
Description of basis, nature, extent and conclusions related to the involvement of
taxation:
[Description]
Findings
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Involvement of: Other specialist or other party involved in the audit e.g.Actuary,
Valuers, Internal audit, Co-auditor
Description of significant issue and decision related to the involvement of others:
[Description]
Findings
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IX Audit programme overview
Financial
Statement
Caption
Principal
Audit
Objectives
Risk Assessment Principal substantive
procedures
IR CR ROSM
Fixed assets VOP Inspect assets & trace to
records
Vouch additions & deletions
with supporting documents.
Examine documents of title.
Recompute gain/loss on
disposals.
Check/recalculatedepreciation charge.
Check impairment.
Capital work inprogress
EAV Review board minutesregarding significant
additions.
Verify cost incurred withsupporting documents.
Borrowing cost capitalized
are directly attributable to
construction, acquisition orproduction.
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Financial
Statement
Caption
Principal
Audit
Objectives
Risk Assessment Principal substantive
procedures
IR CR ROSM
Long term loans CEAP Review agreements
Circularise direct
confirmations.
Recompute interest and
exchange loss.
Check subsequent repayment
Check disclosure.
Investments EVP Inspect securities in hand and
evidence for title of securitiesheld.
Review investments forincome reconciliation.
Vouch sale and recomputegain/loss.
Review classification and
description.
Vouch purchases made duringthe year.
Cash & Bank
Balances
CEA Perform physical cash count.
Circularize directconfirmations.
Obtain reconciliation
statements.
Review age analysis of longoutstanding cheques.
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Financial
Statement
Caption
Principal
Audit
Objectives
Risk Assessment Principal substantive
procedures
IR CR ROSM
Long termdeposits
EP Vouch deposits made duringthe year.
Review classification anddescription.
Store & Spares CEV Perform physicalcount/inspection.
Investigate reasons for anydifference between thephysical and records.
Check valuation as percompanys policy.
Identify slow moving items.
Trade Debtors CAV Circularise direct
confirmations.
Check subsequent clearance.
Perform age analysis.
Commitment andContingencies
CEA Obtain list of commitmentand contingencies
Circularise directconfirmations to legaladvisors.
Review legal fees.
Review minutes of Board ofDirectors meeting.
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Financial
Statement
Caption
Principal
Audit
Objectives
Risk Assessment Principal substantive
procedures
IR CR ROSM
Creditors CEA Circularise directconfirmations.
Check subsequent clearance.
Perform age analysis.
Loans CEAP Review agreements
Circularise directconfirmations.
Check interest and exchange
effects.
Check subsequent repayment
Check disclosure.
DeferredLiabilities-
Gratuity/ Pension
CEAP
Obtain actuarial report andassess reasonableness of
assumptions
Vouch payments during the
period to ensure completeness
Ensure disclosure requirement
of IAS 19
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Financial
Statement
Caption
Principal
Audit
Objectives
Risk Assessment Principal substantive
procedures
IR CR ROSM
Taxation-Current& deferred
CEAP Review updated tax position
Check working of provision
for taxation
Vouch payments.
Check working of deferred
taxation
Ensure disclosure with IAS12
Sales CEA Perform analytical review
Vouch sales on sample basis
Cost of sales CEA Perform analytical review
Vouch purchases on sample
basis
Ensure classification in
appropriate heads
Vouch consumptions made
during the period
Ensure calculation of
overhead on reasonable basis
Ensure appropriate treatment
of difference of actual costwith standard cost
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Financial
Statement
Caption
Principal
Audit
Objectives
Risk Assessment Principal substantive
procedures
IR CR ROSM
Admin & GeneralExpenses
CEA Perform analytical review
Ensure classification in
appropriate heads
Vouch expenses incurred
during the period
Perform reasonableness teston salary expense
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X Logistical plan
Engagement team
Engagement Partner
Engagement Manager
Job-in-Charge
Team members
Key management personnel
Chief Executive
Finance Director/CFO
Manager Finance
Factory Manager
Sales Manager
Staff and allocation ofwork
Staff Allocated area
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Key dates and deadlines
Activity Date
Kick off meeting
Initial meeting with client
Confirmation circularisation
Manager review
Partner review
Covering letter/Management Letter
Board meeting and Audit report
Reportings/ deliverables:
Location of client:Telephone:
Fax:
Email:Web site:
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XI Management Span
Board of Directors
(BOD)
President and
Chief Executive
Compliance
and InternalAudit
In-house
LegalAdvisor
GM Credit
CardO erations
GM
CentralisedO erations
Financial
Controller
IT
Executive
HR
Execut-ive
Manager
Disburse-ments
Manager
UnderwritingCentralised
Operations
Manager
CollectionsCentralised
Operations
Manager
UnderwritingCredit Cards
Operations
Manager
CollectionsCredit Crads
Operations
Manager
Payments
Finance
Manager
Planning
Manager
Manager
Operations
Manager
Administra-tion
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XII Audit Materiality
There are two aspects to materiality - Planning materiality, and Reporting materiality.
Planning materiality is concerned with whether a misstatement, or an aggregation ofmisstatements, in an underlying financial statement item, account balance or class of
transaction, is likely to result in a material misstatement in the financial statements as a whole.
Auditors use planning materiality to determine which financial statement items, accountbalances and transactions to test and which to not test. Financial statement items, account
balances and transactions, which equal or exceed their materiality level are selected for testing.
Level of Aggregation Materiality Level Evaluation
Financial statement level A misstatement of a financial
statement item is material
when the misstatement,aggregated with
misstatements of otherfinancial statement items, islikely to equal or exceed the
level of reporting materiality.
Materiality at the financial
statement level may be
evaluated by reference to (i)reporting materiality and (ii)
the expected nature, numberand value of financialstatement items included in
the financial statements.
Account balance level A misstatement of an account
balance underlying a financial
statement item is materialwhen the misstatement,
aggregated with
misstatements in otheraccount balances underlying
the financial statement item,is likely to result in a materialmisstatement of the financial
statement item.
Materiality at the account
balance level is evaluated by
reference to (i) materiality atthe financial statement level
and (ii) the expected nature,
number and value of accountbalances underlying the
financial statement item.
Class of transaction level A misstatement of atransaction underlying an
account balance is material
when the misstatement,aggregated with
misstatements in othertransactions underlying theaccount balance, is likely to
result in the materialmisstatement of the accountbalance.
Materiality at the class oftransaction level is evaluated
by reference to (i) materiality
at the account balance leveland (ii) the expected nature,
volume and value oftransactions underlying theaccount balance.
Whereas planning materiality is primarily concerned with the judgments of the auditor,
reporting materiality is primarily concerned with the auditor's evaluation of the judgments ofusers of financial statements.
Reporting materiality refers to the extent of a misstatement.
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Reporting materiality is concerned with whether a misstatement of a financial statement item, oran aggregation of such misstatements, is likely to affect the judgments of users of financial
statements. It requires an evaluation by the auditor in both the client acceptance/ retention stageand the opinion formulation stage.
In the client acceptance stage the auditor evaluates whether, if the client is accepted or retained,
the audit risk (the risk of a materialmisstatement in the audited financial statements) can bereduced to an acceptable level. In this, the initial audit stage, "a material misstatement" refers tothe level of reporting materiality. Similarly in the final opinion formulation stage, the auditor
evaluates the likelihood of the audited financial statements containing a material misstatement.Again, this evaluation is based on the level of reporting materiality.
Auditors to assess reporting materiality use the following materiality guidelines:
Pre-tax income 5-10% Net (or after-tax) income 5-10%Gross revenue 0.5-1%Equity 5-10%
Total assets 0.5-1%
(This chart is only for guidance purposes)
Where an entity's results are expected to be "normal", then reporting materiality is based onafter tax income amounts. However, where the entity incurs losses, has potential going concernproblems or the results are in other ways unusual, materiality may be based on one or more of
the other factors referred to above. For example, if the entity is incurring losses, both before andafter tax, the auditor may use total assets or total revenue, whichever is the greater. The finalassessment of reporting materiality is subjective and depends on the auditor's perception of, forexample, what information is relevant, who the users of the financial statements are, whatdecisions the users may make and what would influence those decisions.
Note that financial statements may be materially misstated as a result of either a quantitativemisstatement (in relation to its monetary value) or a qualitative misstatement (in relation to itsaccuracy of presentation, disclosure, description).
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Planning Phase
Control Overview and Risk Assessment
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Control Overview and Risk AssessmentDocument
WP Ref.:Prepared by:
Date:
Client:
Period:
I Introduction
The purpose of this document is to:
obtain an understanding of client and its environment
document the assessment of risk of material misstatement
Documentation may be included in this working paper, or other working papers (with
cross-reference to the Control Overview and Risk Assessment Document).
Summary of our understanding of internal control
Does the control environmentappear to be satisfactory? YES NO
Does the entity's risk assessment process appear to be satisfactory? YES NO
Does the information system, and business processes for financialreporting, and communication appear to be satisfactory?
YES NO
Does control activities appear to be satisfactory YES NO
Does monitoring of controls appear to be satisfactory YES NO
II Risk
Audit risk means the risk that the auditor gives an inappropriate audit opinion when thefinancial statements are materially misstated.
Control risk is the risk that a misstatement, that could occur in an account balance or class
of transactions and that could be material individually or when aggregated withmisstatements in other balances or classes, will not be prevented or detected and correctedon a timely basis by the accounting and internal control systems.
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Planning Phase
Control Overview and Risk Assessment
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Internal control system means all the policies and procedures adopted by the managementof an entity to assist in achieving management's objective of ensuring, as far as practicable,
the orderly and efficient conduct of its business, including adherence to management
policies, the safeguarding of assets, the prevention and detection of fraud and error, theaccuracy and completeness of the accounting records, and the timely preparation of
reliable financial information.
Control procedures means those policies and procedures in addition to the controlenvironment which management has established to achieve the entity's specific objectives.
(a) Control environment
The control environment includes the attitudes, awareness, and actions ofmanagement and those charged with governance concerning the entitys internal
control and its importance in the entity. The control environment also includes the
governance and management functions and sets the tone of an organization,influencing the control consciousness of its people. It is the foundation for effectiveinternal control, providing discipline and structure.
Communication and enforcement of integrity and ethical values
Consider
What are entitys ethical and behavioral standards
How they are communicated
How they are reinforced in practice.
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Planning Phase
Control Overview and Risk Assessment
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Commitment to competence
Consider
Managements consideration of the competence levels for particular jobs
How those levels translate into requisite skills and knowledge
Participation by those charged with governance
Consider
Independence from management
Their experience and stature
The extent of their involvement and scrutiny of activities
The appropriateness of their actions
The information they receive
The degree to which difficult questions are raised and pursued with
management
Their interaction with internal and external auditors
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Managements philosophy and operating style
Consider
Managements approach to taking and monitoring business risks
Managements attitudes and actions toward financial reporting (conservative
or aggressive selection from available alternative accounting principles, and
conscientiousness and conservatism with which accounting estimates aredeveloped)
Managements attitudes toward information processing and accounting
functions and personnel
Organizational structure
Consider
Key areas of authority and responsibility
Appropriate lines of reporting
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Assignment of authority and responsibility
Consider
How authority and responsibility for operating activities are assigned
How reporting relationships and authorization hierarchies are established.
Human resource policies and practices
Consider
Standards for recruiting the most qualified individuals
Training policies that communicate prospective roles and responsibilities
Promotions driven by periodic performance appraisals
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(b) Entitys risk assessment process
An entitys risk assessment process is its process for identifying and responding tobusiness risks and the results thereof. For financial reporting purposes, the entitys
risk assessment process includes how management
identifies risks relevant to the preparation of financial statements
estimates their significance,
assesses the likelihood of their occurrence, and
decides upon actions to manage them.
Once risks are identified, management considers their significance, the likelihood of
their occurrence, and how they should be managed. Management may initiate plans,programs, or actions to address specific risks or it may decide to accept a risk
because of cost or other considerations.
When documenting the entitys risk assessment process risks can arise or changedue to circumstances such as the following
Changes in operating environment
New personnel
New or revamped information systems
Rapid growth
New technology
New business models, products, or activities
Corporate restructurings
Expanded foreign operations
New accounting pronouncements
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(c) Information system, and business processes for financial reporting, andcommunication
An information system consists of infrastructure (physical and hardware
components), software, people, procedures, and data. Infrastructure and software
will be absent, or have less significance, in systems that are exclusively or primarilymanual.
An information system encompasses methods and records that:
Identify and record all valid transactions.
Describe on a timely basis the transactions in sufficient detail to permit properclassification of transactions for financial reporting.
Measure the value of transactions in a manner that permits recording theirproper monetary value in the financial statements.
Determine the time period in which transactions occurred to permit recording
of transactions in the proper accounting period.
Present properly the transactions and related disclosures in the financial
statements.
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(d) Control activities
Control activities are the policies and procedures that help ensure that managementdirectives are carried out. Control activities, whether within IT or manual systems,
have various objectives and are applied at various organizational and functionallevels.
Certain control activities may depend on the existence of appropriate higher-level
policies established by management or those charged with governance. For example,authorization controls may be delegated under established guidelines, such asinvestment criteria set by those charged with governance; alternatively, non-routine
transactions such as major acquisitions or divestments may require specific high
level approval, including in some cases that of shareholders
Performance reviews
Consider how management:
Reviews and analyses of actual performance versus budgets, forecasts, andprior period performance
Relating different sets of data operating or financial to one another,
Analyses of the relationships and investigative and corrective actions
Comparing internal data with external sources of information
Review of functional or activity performance
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Information processing
Controls are performed to check accuracy, completeness, and authorization of
transactions.
Application controls apply to the processing of individual applications. These
controls help ensure that transactions occurred, are authorized, and are
completely and accurately recorded and processed. Examples of applicationcontrols include checking the arithmetical accuracy of records, maintainingand reviewing accounts and trial balances, automated controls such as edit
checks of input data and numerical sequence checks, and manual follow-up of
exception reports.
General IT-controls are polices and procedures that relate to many
applications and support the effective functioning of application controls byhelping to ensure the continued proper operation of information systems.General IT-controls commonly include controls over data center and network
operations; system software acquisition, change and maintenance; accesssecurity; and application system acquisition, development, and maintenance.
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Physical controls
These activities encompass the physical security of assets, including adequate
safeguards such as secured facilities over access to assets and records; authorization
for access to computer programs and data files; and periodic counting andcomparison with amounts shown on control records (for example comparing the
results of cash, security and inventory counts with accounting records).
Segregation of duties
Ensure that following three activities are separately assigned:
authorizing transactions
recording transactions, and
maintaining custody of assets
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This would reduce the opportunities to allow any person to be in a position to bothperpetrate and conceal errors or fraud in the normal course of the persons duties.
(e) Monitoring of controls
It is management responsibility is to establish and maintain internal control on an
ongoing basis. Managements monitoring of controls includes considering whetherthey are operating as intended and that they are modified as appropriate for changesin conditions.
Examples are:
managements review of whether bank reconciliations are being prepared on a
timely basis
internal auditors evaluation of sales personnels compliance with the entityspolicies
legal departments oversight of compliance with the entitys ethical orbusiness practice policies.
Consider:
assessment and reassessment of design and operation of controls on a timely
basis
necessary corrective actions
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ongoing monitoring activities (activities are built into the normal recurringactivities)
separate evaluations
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Fraud Risk Assessment Document WP Ref.:Prepared by:
Date:
Client:
Period:
I Introduction
The purpose of this document is to:
obtain an understanding of managements assessment of the risk that the financial
statements may be materially misstated as a result of fraud, and the accounting andinternal control systems in place to address such risk and prevent and detect error
document the results of team discussions and enquiries with managementconcerning fraud and error
document the fraud risk factors identified that indicate the possibility of either
fraudulent financial reporting or misappropriation of assets, and our response
document circumstances that we have encountered that may indicate that there is amaterial misstatement in the financial statements resulting from fraud or error and
the audit procedures performed to determine whether the financial statements arematerially misstated.
Documentation may be included in this working paper, or other working papers (with
cross-reference to the Fraud Risk Document).
Preparation of this document is started when fraud risk factors are initially identifiedduring the planning phase of the audit and updated during the substantive procedures,
evaluation and reporting stage if additional fraud risk factors are identified thatcause us tobelieve that additional audit procedures are necessary.
(a) Fraud
Fraud refers to an intentional act by one or more individuals among management
(management fraud), those charged with governance, employees (employee fraud), or thirdparties involving the use of deception to obtain an unjust or illegal advantage. Two types
of intentional misstatements are relevant to the auditor's consideration of fraud (a)fraudulent financial reporting involves intentional misstatement or omission of amountsand disclosures in financial statement to deceive financial statement users (b)
misappropriation of assets involves the theft of an entity's assets.
Fraud involves (a) motivation to commit fraud; and (b) a perceived opportunity to commitfraud.
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(b) Responsibilities
The primary responsibility for the prevention and detection of fraud rests with thosecharged with governance and the management of an entity by setting the proper tone,
creating and maintaining a culture of honesty and high ethics, and establishing appropriatecontrols to prevent and detect fraud within the entity. However, systems of accounting and
internal control system may reduce but cannot eliminate the risk of misstatements caused
by fraud hence management assumes responsibility for any remaining risk.
An audit conducted in accordance with ISAs is designed to provide reasonable assurance(not absolute assurance) that the financial statements taken as whole are free from material
misstatement hence an auditor is not and cannot be held responsible for the prevention (notdetection) of fraud. An auditor plans and performs an audit with an attitude of professional
skepticism, which is necessary for the auditor to identify and evaluate matters that
increases the risk of fraud, circumstances that make the auditor suspect that the financialstatements are materially misstated and evidence obtained that brings into question thereliability of management representation. Discovery of a fraud subsequent to an audit does
not, in and itself, indicate (a) a failure to obtain reasonable assurance, (b) inadequate
planning, performance or judgment (c) absence of professional competence and due care,or (d) failure to comply with ISAs. Whether an auditor has performed an audit in
accordance with ISAs is determined by the (a) adequacy of the audit procedures performedin the circumstances and (b) the suitability of the auditor's report based on the results of
those procedures.
II Discussions with Management
During the planning phase of an audit, auditor makes enquiries of management concerning
fraud and error. We may also seek the views of those charged with governance.
Matters that may be discussed as part of these enquiries include:
whether there are subsidiary locations, business segments, types of transactions,
account balances or financial statement categories where the possibility of error may
be high, or where fraud risk factors may exist, and how they are being addressed bymanagement
the work of the entitys internal audit function and whether internal audit hasidentified fraud or any material weaknesses in the system of internal control
how management communicates to employees its view on responsible business
practices and ethical behaviour, such as through ethics policies or codes of conduct.
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If the entity has established a programme that includes steps to prevent and detect fraud,we enquire of those persons overseeing such programmes as to whether the programme
has identified fraud risk factors.
(a) Results of enquiries of management
Document the results of our enquiries below. State which member of management we
enquired of and the date of the enquiry.
Managements fraud risk assessment
Document our understanding of managements assessment of the risk that the financial
statements may be materially misstated as a result of fraud.
Accounting and internal control systems
Document the results of our enquiries of management concerning the accounting and
internal control systems management has put in place to address the risk of material
misstatement due to fraud, and to prevent and detect error.
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Fraud and error
Document the results of our enquiries to determine whether management is aware of any
known or suspected fraud and discovered any material errors.
(b) Discussions with those charged with governance
Following our enquiries, consider whether there are matters of governance interest to
discuss with those charged with governance of the entity
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III Fraud Risk Factors and Response
(a) Audit Team Discussions
During the audit, the team should discuss the susceptibility of the entity to material
misstatements in the financial statements resulting from fraud or error.
Based on these discussions, we:
consider where errors may be most likely to occur or how fraud may by perpetrated
gain a better understanding of the potential for material misstatements in thefinancial statements resulting from fraud or error in the specific areas of the auditassigned to team members
gain a better understanding of how the results of the audit procedures that areperformed may affect other aspects of the audit
decide which members of the audit team will conduct certain enquires or auditprocedures
decide how the results of our enquiries and audit procedures will be shared.
We may also discuss matters that were taken into consideration during our Client
Acceptance or Client Continuance procedures as they relate to fraud risk.
Fraud risk factors
During the audit, we consider whether events or conditions that provide an opportunity, amotive or a means to commit fraud, or indicate that fraud may already have occurred, are
present. Such events or conditions are referred to as fraud risk factors. We identify fraudrisk factors that may indicate the possibility of either fraudulent financial reporting ormisappropriation of assets.
Response
Our response to fraud risk factors is influenced by their (a) nature and (b) significance. Insome cases, our judgment may be that the audit procedures, including both tests of controland substantive procedures already planned, are sufficient to respond to the fraud risk
factors. In other circumstances we may need to modify the nature, timing and extent ofsubstantive procedures to address fraud risk factors present. In these circumstances,
consider whether the assessment of the risk of significant misstatement calls for (a) an
overall response, (b) a response specific to a particular account balance, class oftransactions or assertion, or (c) both types of responses.
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(i) Fraudulent financial reporting
Fraud risk factors
Fraud risk factors relating to fraudulent financial reporting may be grouped as
follows:
(a) Management Characteristics and Influence over the Control Environment
Significant portion of management compensation contingent upon
achieving aggressive targets etc.
Excessive interest by management in maintaining or increasing theentity's share price or earning trends through the unusual practices
Domination by single person/ small group without compensating
controls
Setting of unduly financial target and expectations for operating
personnel
Display of significant disregard for regulatory authorities
Employing ineffective accounting, IT or internal auditing staff
Participation of non-financial management in selection of accounting
principles etc.
High turnover of management staff or board members
Strained relationship with existing/ predecessor auditor including
frequent disputes, unreasonable demands, restriction on auditors and
domineering management behaviour
Weak or ineffective corporate governance structure
(b) Industry Conditions
New regulatory etc. requirements, which may impair entity's stability or
performance
Increasing competition and market saturation and declining margins/
customer demands
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Declining industry with increasing business failures
Rapid changes in in