What is Auditing?

An audit is a systematic and independent check of books, accounts, bills, legally required books, documents, or vouchers of organizations to determine the extent to which financial and non-financial documents provide a reliable picture of reality.

Auditing is defined as the verification activity performed by auditors, such as inspection or investigation, to ensure that the requirements for the above matters are met. An audit can be performed on an entire organization, but also on a function, process, or sub-process.

Audits can serve a variety of administrative purposes, such as preparing audit documents, risk reports, and performance reviews. Auditing also checks whether organizations have carried out corrective actions.

The word audit is derived from the Latin word audire, which means to hear. Audits were carried out as far back as the Middle Ages. Moyer argued that an auditor’s main job was to detect fraud.

What is the primary purpose of auditing?

The term auditing is generally used for the audit of a financial statement. Other forms of auditing, such as operational audits and strategic audits are explained in this article. Any form of auditing is performed to determine whether it complies with the stated principles and organizational and legal requirements. Compliance with legal standards and regulations has traditionally been the main reason organizations have their financial statements audited.

Audits provide external stakeholders with assurance that an audited aspect is free from misstatements and conflicts of interest. The examination is an objective evaluation of usually financial statements, resulting in an audit opinion as to whether the information provided is fair and in accordance with the applied accounting framework, such as GAAP or IFRS. Judging the reliability of the information increases the credibility of the statements among users, such as creditors and investors. For example, based on a positive assessment, there is a greater chance that credit and financing will be provided.

What is the difference between internal and external audits

What are external audits?

An audit performed by external parties is very helpful in dispelling suspicions of possible bias in assessing the status of a company, unit, or process. A clean audit report provides the users of the statements with confidence that the data is both accurate and complete. External audits, therefore, better empower stakeholders to make better decisions regarding the audited company. Another advantage of external auditors over internal auditors is that they can be open and honest without affecting day-to-day working relationships within a company.

External auditors according to standards that differ from the company’s own standards.

What are internal audits?

Internal auditors are employed by the company or organization for which they are auditing. The audit report is then provided directly to management or shareholders. Often, financial statements are audited internally before an external auditor examines them. The benefit of this is that it gives management the opportunity to identify and resolve deficiencies in the statements before they are reviewed by external auditors.

What are the different types of audits?

In general, an audit is an examination of an existing system, report, or entity. There are a number of types of audits that can be performed, including the following:

1. Compliance check (compliance audits)

This form of auditing concerns the policies and procedures of an organization or department to see whether they are in accordance with both internal and legal standards and rules. This audit is used in regulated industries or educational institutions.

2. Bouw audit (construction audits)

A construction audit is an analysis of the costs for a specific project in construction. The activities in a construction audit include analysis of the contracts awarded to contractors, invoices paid, overheads, change orders, and the timeliness of completion. The purpose of a construction audit is to show that the costs of a project are reasonable and acceptable.

3. Financial audits (financial audits)

A financial audit is an analysis of information that shows whether an organization’s financial statements conform to specified criteria. Normally, these criteria are international standards for annual accounts, for example. The auditor gathers as much information as possible to form an opinion on the financial statements that are material or otherwise.

4. Operationele audits (operational audits)

Operational auditing is a comprehensive analysis of the goals, planning, procedures, and results of a company’s activities. The audit can be performed internally or by an external entity. The result is an evaluation of the activities, probably with a recommendation for optimization.

5. Belasting audits (tax audits)

This is an analysis of the tax returns filed by an individual or business entity to see if the tax information and resulting payment of tax are valid. These audits often focus on tax returns that result in underpayment of tax to see if an additional assessment can be made.

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Example of the auditing process

Several forms of auditing have emerged in this article. Each type of audit is tailored to the needs of the organization, and different audit areas require different approaches. However, the general approach for a successful audit is the same and is explained below. This example assumes a financial statement audit.

The sisters Daniela and Laura have a chain of three stores in Amsterdam with sportswear. The retail chain is called SportNeeds, and it is the best-selling sporting goods store in the region. The chain is growing fast, and the sisters both have the desire to expand the chain again. Opening new stores also mean a new investment round. Laura tells Daniela that she wants to make sure that their financial information is correct and that she does not want to risk being caught for errors or omissions. An audit of these financial data is necessary to gain investor confidence. The audit process is one way to ensure that all statements for the company are prepared in accordance with applicable accounting principles.

The audit process for sisters Daniela and Laura includes the following steps:

Phase 1: plan and design approach

Daniela then contacts an audit firm and discusses the need for an audit/audit. The firm would like to know exactly what they need so that they can draw up a plan detailing the scope of the audit. The sisters indicate that they want to be assured of the correctness of the financial statements and that they would like accounts to check whether the figures on the profit and loss account and the balance sheet, are correct.

The auditor is then sent a complete description of the chain, including an overview of all functions, locations, and managers. After determining the strategy and scope of the audit, the audit firm sends a formal letter to the sisters stating the strategy and the start date of the audit.

Fase 2: tests

In turn, the audit firm wants to be sure that they have access to all internal control processes, store locations, warehouses, and the accounting system. They also want to know how all sales transactions are tracked, and how the purchasing process works at suppliers (procurement). In addition, information is required about the cash management system, and who has access to the financial data.

Phase 3: performing analytical procedures

When the auditors arrive, they start planning interviews with employees and the sisters themselves. During the introductory meeting they learned about the SportsNeeds working method, and now they want to hear from employees how they perform their tasks, and whether they follow the procedures drawn up by management. Auditors observe and record what is being said in these conversations, and if they notice that procedures are not being followed or are not being followed accurately, they will perform an additional check or audit on the company’s records.

Subsequently, the sales figures are checked for agreement with the data on the profit and loss account and the balance sheet. A physical count is also carried out in the warehouses and stores, and it is determined whether the data on this is actually correct. In addition, purchase invoices are studied and it is determined whether all orders have been received. The auditors are also likely to contact customers to verify that the accounts receivable accounts are correct.

Phase 4: Completion and preparation of audit report

All data obtained is checked and an audit report is drawn up on the basis of this. The audit report contains a summary of all identified findings and is sent to management. The report also includes issues that need to be resolved.

Phase 5: follow recommendations

The final step in the audit process is called the corrective action process. This step is performed to ensure identified issues are resolved in a timely manner. Management of the audited company will work with the auditors and communicate when all agreed actions have been completed. Once these actions have been taken, no further audit actions are required, and sisters Laura and Daniela’s financial statements are deemed accurate and reliable.

Now it’s your turn

What do you think? Do you recognize the explanation about auditing? Are your organization’s financial statements reviewed internally or externally? Which other business units are audited in your work environment? Do you have any tips or comments?

Share your knowledge and experience in the comment box at the bottom of this article.

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