Introduction to Internal Audit

1
Northern India Regional Council of Institute of
Chartered Accountants of India
REPORTING REQUIREMENTS OTHER THAN
CARO,2003

• CA Vinod Jain,
• B. Com (H), FCA, FCS, FCWA, LLB, DISA
• Central Council Member, ICAI
• Mobile [phone]
• E mail vinodjainca_at_gmail.com

4th August 2007
2
DRAFTING OF AUDITORS REPORT
3
Reporting Requirements
Reporting Requirements
Statutory Requirements
Auditing Assurance Standards
Statement of Qualifications in Auditors Report
4
Statutory Requirements
Statutory Requirements
Companies Act
Banking Regulations/RBI Act
IRDA Regulations
Others like SCRA, Electricity Act
5
Statutory Requirements - Companies Act
Companies Act
Section 227(1A)
Section 227(4A)
Section 227(2)
Section 227(3)
Report by Auditor
Enquiry by Auditor
In case of negative finding
6
Statutory Requirements- Companies Act
Loans Advances - Whether Secured - Terms
Conditions, not prejudicial
Section 227(1A) Companies Act
Whether Transactions represented by book
entries are not prejudicial
In case of Company other than investment or
banking Company- Securities sold below the
purchase price
7
Statutory Requirements- Companies Act
Whether Loans Advances - shown as deposits
Section 227(1A) Companies Act
Whether personal expenses charged to revenue
account
Whether cash received in respect of allotment,
if not, whether position in B/S not misleading
8
Statutory Requirements - Companies Act
State of Affairs
True Fair View
Section 227 (2) Companies Act
Profit or Loss
9
Statutory Requirement-Companies Act
He has obtained necessary information
explanations
Proper books of account has been kept
Report of the Branch Auditor received and how
dealt with

B/S and P L A/c comply with accounting
standards
B/S and P L A/c in agreement with the books
of Account etc.
Section 227(3)
Cess payable u/s 441A has been paid, if not,
amount not paid
Disqualification of director u/s 274(1)(g)
Adverse comment in thick type or italics
10
Books of Account Section 209 of Companies Act

• Every company shall keep at its registered office
  proper books
• If not at registered office, notice to RoC
  within 7 days in From 23AA
• Accrual basis of accounting is mandatory

11
Compliance with AccountingStandards - Section
211(3C)

• Accounting Standards of accounting recommended by
  ICAI as may be prescribed by the Central Govt. in
  consultation with the National Advisory Committee
  on Accounting Standards
• At present Accounting Standards issued by ICAI
  are the Standards referred to in section 211(3C)
• Accrual basis of accounting is mandatory

12
Adverse Comments - In thick type or italics -
Section 227(3)(e)

• Observations of Auditor which have any adverse
  effect on the functioning of the company needs to
  be given in bold or italics.
• No definition of phrase adverse effect on the
  functioning of the company in the Companies Act.
• Any special comments on matter given in section
  227(1A) may be given in bold or italics.

13
Disqualification of Directors - type or italics
- Section 227(3)(f)

• Whether any director is disqualified from being
  appointed as a director under section 274(1)(g).
• Disqualification to be considered ONLY at Balance
  Sheet date.
• Not applicable where directors are directors in
  PVT. LTD. Companies ONLY
• Auditor should obtain a written representation
  form the Company as well as Directors.

14
Cess Payable Section 441A of Companies Act

• Whether the Cess payable u/s 441A has been paid
  and if not, the details of amount of Cess not so
  paid has to be reported by the Auditor.
• No Rules promulgated so far by the Central Govt.
  in relation to Cess

15
Statutory Requirements - Companies Act
Section 227(4A) Companies Act
Companies (Auditors Report) Order, 2003
16
Auditing Assurance Standards
Report should state that Financial Statements
are the responsibility of the entitys management
AAS - 28 The Auditors Report on Financial
Statements
Report should describe the scope of the audit
stating that audit was conducted in
accordance with auditing standards
17
Auditing Assurance Standards
Report should include a statement that audit
was planned and performed to obtain reasonable
assurance whether financial statements are free
of material misstatement
AAS - 28 The Auditors Report on Financial
Statements
Report should include a statement that the audit
provides a reasonable basis for his opinion
18
Auditing Assurance Standards
Report should clearly indicate the financial
reporting framework used to prepare the
financial statements and state the opinion on
true and fair view.
AAS - 28 The Auditors Report on Financial
Statements
Report should describe the limitation on the
scope of Auditors work which leads to a
Modified Opinion
19
Auditing Assurance Standards
Limitation imposed by entity
AAS 28 Limitation on Scope
Limitation imposed by circumstances

• Where any limitation on scope requires
  expression of a qualified opinion or disclaimer
  of opinion, the auditor should
• describe the limitation, and
• indicate the possible adjustments to financial
  statements that might have been determined to be
  necessary had the limitation not existed.

20
Auditing Assurance Standards
Limitation on Scope Qualified Opinion
We did not observe the counting of the physical
inventories as at 31st March, 2005 since that
date was prior to the time we were appointed
auditors of XYZ Ltd. Owing to the nature of the
entitys records, we were unable to satisfy
ourselves as to inventory quantities by other
audit procedures. In our opinion and to the best
of our information and according to the
explanations given to us, subject to the effects
of such adjustments, if any, as might have been
determined to be necessary had we been able to
satisfy ourselves as to physical inventory
quantities, the financial statements give a true
and fair view.
21
Auditing Assurance Standards
Limitation on Scope Disclaimer of Opinion
We were not able to observe all physical
inventories and confirm account receivable due to
limitations placed on the scope of our work by
the entity. Because of the significance of the
matters discussed in the preceding paragraph, we
do not express an opinion on the financial
statements.
22
Auditing Assurance Standards
AAS 28 Disagreement with Management
Inappropriate Accounting Method
Disagreement on Accounting Policies
Inadequate Disclosures
23
Auditing Assurance Standards
Disagreement on Accounting Policies -
Inappropriate Accounting Method - Qualified
Opinion
As stated in Note X of schedule . to the
financial statements, hire purchase sales have
been treated as outright sales by the entity and
contrary to accepted accounting practice, the
entire profit thereon has been taken into
account. This has resulted in the profit for the
year, inventories and reserve and surplus being
overstated by Rs.. In our opinion and to the
best of our information and according to the
explanations given to us, subject to the effect
on the financial statements of the mater referred
to in the preceding paragraph, the financial
statements give a true fair view.
24
Auditing Assurance Standards
Disagreement on Accounting Policies -
Inadequate Disclosure - Qualified Opinion
On 20th December, 2004, ABC Ltd.issued
debentures worth Rs. 50 crores for the purpose of
financing plant expansion. The debentures
agreement restricts the payment of future cash
dividends to earnings after 31st March, 2007. In
our opinion, disclosure of this information is
required by In our opinion and to the best of
our information and according to the explanations
given to us, subject to the omission of the
information included in the preceding paragraph,
the financial statements give a true and fair
view..
25
Auditing Assurance Standards- Other Important
Requirements
As per AAS 28, an auditor report should -
bear an appropriate title - be appropriately
addressed (usually to the appointing
authority) - bear the date on which the report
expressing opinion is expressed - bear name
specific location, where the report has
been signed
26
Auditing Assurance Standards- Other Important
Requirements
- signed by auditor in personal name - in case
of firm's appointment, sign to be in personal
name of the auditor and in the name of the
firm - mandatory to mention Membership
No.
27
Qualification in Auditors Report

• In case opinion is other than unqualified,
  following to be included in the report
• Clear description of all the substantive
  reasons for such opinion
• Quantification of all possible effects
  individually and in aggregate, on the financial
  statements, unless impracticable to do so
• Note Any modifications are to form part of the
  main body of the report

28
Qualification in Auditors Report
Subject matter of Qualification
NOT SO MATERIAL to affect the truth and
fairness of whole of accounts
SO MATERIAL that affects the overall truth and
fairness
It is appropriate for the Auditor to express
true and fair view SUBJECT to the qualifications
It would not be appropriate for the Auditor to
express true and fair view SUBJECT to the
qualifications
29
Qualification in Auditors Report
MATERIALITY
NOT SO MATERIAL to affect the truth and
fairness of whole of accounts
SO MATERIAL that affects the overall truth and
fairness
Issue Audit Report SUBJECT to qualifications
Either Adverse Opinion OR Disclaimer of Opinion
30
AUDITING ASSURANCE STANDARD - 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
31
Donts in relation to Qualification in
Auditors Report

• Qualifying Report by reference to a report made
  in
• an earlier year because all the shareholders may
  
• not have access to such reports.
• The position of advance to M/s PQ Ltd. to Rs. 5
• crores remain the same as explained in our last
• Report.

32
Donts in relation to Qualification in
Auditors Report

• Vague statements, the effect of which upon the
• accounts is not ascertainable
• The debit balances are subject to confirmation
• OR
• We have accepted the certificate signed by the
• Managing Director that stocks are realisable at
  the
• Value stated in the balance sheet.

33
Donts in relation to Qualification in
Auditors Report

• Qualification in the Report which do not contain
• any real objection on the part of the Auditor.
• No provision for taxation has been made in view
• of the net loss shown in the profit loss
  account.
• OR
• No depreciation has been provided as the factory
  
• has not yet gone into production.
• The above statements are statements of facts only
• and may be given in notes to accounts.

34
QUALIFICATIONS IN AUDITORS REPORT of CORPORATE
INDIA
35
DABUR INDIA LIMITED 2004-2005 AUDITORS G. BASU
CO.
Notes to Accounts - Schedule P (Note B4) The
Companys investments in the joint venture, M/s
Dabon International Pvt. Ltd. have not been
accounted for in accordance with AS-27 as the
same is being held for disposal in the
foreseeable future. Consequently, no provision is
deemed necessary for diminution in the value of
investments under AS-13. Auditors
Report .subject to Note No. B(4) in Schedule P
, Balance Sheet and Profit Loss Account have
been prepared in due compliances of Accounting
Standards referred to in sub section (3C) of
Section 211 of Companies Act, 1956.
36
SALORA INTERNATIONAL LTD 2004-2005 AUDITORS K.
PRASAD COMPANY
Notes to Accounts - Schedule U (Note No. 7) The
process for ascertainment of impairment of assets
pursuant to AS-28 which is applicable first time
w.e.f. 1.4.2004 is underway. This being the first
year and process requires a lot of exercise and
technical evaluation to arrive at conclusion as
to which asset that may be impaired. No effect
has been given for impairment loss, in the
accounts which will not be material according to
view of technical experts and management
also. Auditors Report .In our opinion the
Balance Sheet, Profit Loss Account and Cash
Flow Statement dealt with by this report comply
with accounting Standards as referred to in sub
section (3C) of Section 211 of Companies Act,
1956 except of AS-28 of Impairment of Assets as
given in Note No. 7 in Schedule U of Notes to
Account.
37
ASSAM COTTON MILLS LTD 2004-2005 AUDITORS SINGHI
CO.
Notes to Accounts - Schedule 14 Note No. IIA
(viii) The Company has not provided interest of
Rs. 510000/- (till date Rs. 1050000/-) on loan
taken from its holding company, Kesoram
Industries Ltd. for the year ended 31st March,
2005.
38
ASSAM COTTON MILLS LTD 2004-2005 AUDITORS SINGHI
CO.
Auditors Report .Attention is invited to Note
No. IIA(viii) of Schedule 14 of Note on Accounts
regarding non provision of interest amounting to
Rs. 1050000/- upto 31st March, 2005 (for the
year Rs. 510000/-) on loan taken from Kesoram
Industries Ltd., had the provision been made in
the accounts, loss for the year would have been
Rs. 2771967/- (as against Rs. 1721967/- shown in
the accounts) debit balance in the Profit Loss
Account would have been Rs. 11767705/- (as
against Rs. 10717705/- shown in the accounts) and
interest accrued and due would have been Rs.
1055688/- (as against Rs. 5688/- shown in the
accounts) . We report that in our opinion and to
the best of our information and according to the
explanations given to us, the said accounts
subject to para ------above, give the
information.
39
JADOONET LTD. 2004-2005 AUDITORS S.S. KOTHARI
COMPANY
Notes to Accounts - Schedule P (Note No.
4) Valuation in respect of accessories has been
made based solely on management estimates,
since, no active market exists for such
inventory. Auditors Report In view of the
absence of active market of inventory, the
valuation of the inventories has solely been
made on the management estimates and hence we
are unable to verify its responsibility (refer
to Note 4 of Schedule P).
40
AUDITING ASSURANCE STANDARD - 10 USING WORK
Of ANOTHER AUDITOR

• Reporting Considerations
• When the Principal Auditor Concludes
• that work of another cant be used, and
• Principal auditor couldnt perform sufficient
  additional procedures of the work audited by
  another auditor,
• a qualified or disclaimer of opinion should be
  given.

41
AUDITING ASSURANCE STANDARD 31 ENGAGEMENTS
TO COMPILE FINANCIAL INFORMATION

• Reporting Considerations Inclusions
• Strict compliance with Code of Ethics issued by
  the ICAI
• Status of Accountant whether independent?
• Title Accountants Report on compilation of
• Unaudited Financial statements
• (and not Auditors Report)
• Addressee Appointing Authority
• Identification of financial information
  indicating it is provided by
• the management

42
AUDITING ASSURANCE STANDARD 31 ENGAGEMENTS
TO COMPILE FINANCIAL INFORMATION

• 6. Management responsibility as to
• - completeness accuracy of data
• - maintaining adequate books of accounts
  internal control
• - compliance to applicable laws in preparation
  presentation of financial information
• - establishing controls to safeguard the assets
• Compliance with Auditing Assurance Standards in
  engagement
• Material non- compliances with Accounting
  Standards to which management disagrees (during
  normal course of engagement)

43
AUDITING ASSURANCE STANDARD 31 ENGAGEMENTS
TO COMPILE FINANCIAL INFORMATION

• 9. Statement that neither an audit nor review
  has been made
• Material departure from identified reporting
  framework, if any
• Date of Report / Place of Signature /
  Accountants Signature
• Client to be asked to sign statement of accounts
  on face of it
• Report so compiled to NOT to be prepared on
  letterhead else liable for misinterpretation as
  assurance
• Fees NOT to be defined as Auditors Fee

44
AUDITING ASSURANCE STANDARD 32 ENGAGEMENTS
TO PERFORM AGREED UPON PROCEDURES REGARDING
FINANCIAL INFORMATION

• Reporting Considerations Inclusions
• Note On same lines as AAS 31 including
  following Statements
• Procedures performed were those agreed- upon with
  the recipient
• Identification of the purpose for which such
  procedures were performed
• 3. A listing of specific procedures performed
• 4. That had the auditor performed additional
  procedures, audit or review, matters which came
  to light would have been reported

45
AUDITING ASSURANCE STANDARD 32 ENGAGEMENTS
TO PERFORM AGREED UPON PROCEDURES REGARDING
FINANCIAL INFORMATION

• Reporting Considerations Inclusions
• Note On same lines as AAS 32 including
  following Statements
• Report is restricted to parties who agreed upon
  the procedures
• 6. Where applicable, that the report relates to
  only elements, accounts, items and information
  agreed upon and not the entire financial
  statements

46
AUDITING ASSURANCE STANDARD 33 ENGAGEMENTS
TO REVIEW FINANCIAL STATEMENTS
Reporting Considerations Inclusions 1. Opening
/ Introductory Paragraph including -
Identification of Financial Statements -
Management Auditor responsibility
Statement 2. Scope Paragraph Statement
w.r.t. - Reference to AAS 33 and relevant
laws
regulations - Review being limited to
inquiries analytical procedures - Procedures
provide less assurance than audit
47
AUDITING ASSURANCE STANDARD 33 ENGAGEMENTS
TO REVIEW FINANCIAL STATEMENTS

• Reporting Considerations Inclusions
• Negative Assurance I.e., the auditors review did
  not lead to the believing that financial
  statements do not give true and fair view
• Matters that impair true and fair view, and if
  possible quantifications thereof
• Material Scope on limitations, if any
• Date of report not to be earlier than date on
  which financial statements signed or approved by
  management

48
AUDITING ASSURANCE STANDARD - 35EXAMINATION OF
PROSPECTIVE FINANCIAL INFORMATION

• Auditors Report to include
• Reference to the intended purpose/use and/or
  restricted distribution of prospective financial
  information.
• Statement that examination included examination
  of evidence supporting assumptions, amounts
  other disclosures.
• Negative assurance that whether assumptions
  provide reasonable basis for prospective
  financial information.
• Opinion as to whether prospective financial
  information is properly prepared on basis of
  assumptions and presented in accordance with
  relevant financial reporting framework.

49
AUDITING ASSURANCE STANDARD - 35EXAMINATION OF
PROSPECTIVE FINANCIAL INFORMATION

• Appropriate caveats concerning achievability of
  prospective results.
• Statement that actual results are likely to be
  different from prospective financial information
  and variation could be material.
• In case of Projection, a statement that
  prospective financial information has been
  prepared using set of assumptions that include
  hypothetical assumptions about future events and
  management actions that not necessarily occur.

50
Guidance Note on Auditors Report on Revised
Accounts of Companies beforeCirculation to
Shareholders

• Whether
• All copies of the original accounts are returned
  
• to the auditor?
• 2. Adequate disclosure of the fact of revision on
  the
• accounts already approved by the Board
• reported by the Auditor appears as a specific
• note or not?

YES
NO
No further disclosure is required in the Report
Refer the fact of revision in the Report
51
Guidance Note on Audit Reports and Certificates
for Special Purposes

• Reporting Considerations
• Specific elements, accounts or items considered.
• Manner of conducting the audit
• Limitations on scope, if any, to be mentioned
• Assumptions made, to be stated
• Reference to specific information or explanations
  relied upon
• Title, whether certificate or report, to be
  clearly indicated
• Choice of appropriate words whether an opinion or
  confirmation has been made

52
Guidance Note on Audit Reports and Certificates
for Special Purposes

• Reference to general purpose financial
  statements, if relied upon
• In case of interpretation of statute, auditor to
  mention that an opinion has been expressed.
• Report / Certificate to be a self contained
  document
• Extent of responsibility assumed
• In case of audited financial statements, auditor
  to indicate
• - Figures from audited general purpose statement
  has been used
• - Reconciliation of figures between general
  purpose financial statement and his
  report/certificate.

53
Guidance Note on Profit Forecasts and / or
Financial Forecasts
Accountants Report - Inclusions
Sources of Information
Assumptions Made
Basis of Forecasts
NOTE Accountant not to give any impression as if
vouching for accuracy of forecasts
54
Guidance Note on Profit Forecasts and / or
Financial Forecasts
Addressed to Board, unless circumstances
Require otherwise
Accountants Report - Requisitions
Specify Nature, Scope, and Objectives as
agreed

Qualification in report on 1. Disagreement
With Management 2. Material Reservation
Specify Limitation of Scope, if any
Forewarning Signals, if any, For profit forecasts
55
Guidance Note on Reports in Company Prospectuses

56
Guidance Note on Reports in Company Prospectuses

• Auditors Report - Inclusions
• Figures of profit loss for the preceding 5
  years or actual whichever is higher
• Statement of assets and liabilities as on last
  date of latest financial year
• The rates of dividends, if any, paid in respect
  of each class of shares for each of 5 preceding
  years.
• Disclosure in form of note for adjustments to
  assets, liabilities, profit loss dealt with by
  the report OR Making of adjustments indication
  thereof
• Fact if any part of accounts for five years
  before three months from date of issue being
  incomplete.
• In such a case, accounts upto a date not earlier
  than six months from date of issue to be included

57
DRAFTING OF NOTES TO ACCOUNTS
58
DRAFTING OF NOTES TO ACCOUNTS

• Issues
• Notes to Accounts What to include?
• Accounting Policies Accounting Standards (AS) 1
• Disclosure under various Accounting Standards
• Changes in Accounting Policies, financial impact
• Unusual Items / transactions
• Prior period items
• Auditing Assurance Standards 16 Going Concern
  

59
Thank You
CA Vinod Jain B.Com(H),FCA, FCS, FCWA, LLB,
DISA Central Council Member, ICAI Mobile 98110
40004 Email vinodjainca_at_gmail.com