Auditing is necessary for public limited companies, and governments around the globe pay strict attention to publicly trading businesses and the financial information that they put forth. If the public’s money is being misappropriated, the Securities and Exchange Commission immediately takes notice.
If the financial statements are not prepared accurately, it could lead to shareholders and investors being misled by the company. That is why auditors are responsible for publishing a report that is accompanied with the fiscal statements, thus confirming the accuracy of the accounts.
Origins of the Word
The word “audit” originally comes from the Latin word “audire,” which simply means to hear. In the ancient era, when people who were deemed to be suspicious of owning businesses and were suspected of fraud, particular individuals would be assigned to their case to inspect their accounts.
The aim was to make sure that they were not generating money through fraud. They were also asked about their income and other related questions about their business dealings. Today, however, auditing has a very broad scope and now focuses on a variety of different angles.
The Expectation Gap
But, before we talk about the objectives of auditing, it is important to highlight the expectation gap. The expectation gap is simply the gap in expectations of people who believe what auditors do, and what auditors really do. Many people are of the opinion that auditors are responsible for tracing out every last instance of material misstatement or fraud from the financial statements.
That’s not true at all. Auditors often set a materiality level before starting their work so that they do not waste time on immaterial heads or figures. Auditing has been around from the time of the ancient civilizations of Greeks, Romans, and Egyptians. The practice of auditing public institutions has been around for quite a while.
Now that you understand the basics of the expectation gap, it’s time to focus on the objectives of auditing and what they entail.
The Primary Objectives of the Audit
The main objective of an audit is to express an opinion on the financial statements of the client. The auditors are to express an opinion about whether the financial statements are free from material misstatements and errors. Their reports can be worded either positively or negatively, and depending on the findings, a disclaimer of opinion might have to be issued as well.
The main objectives, also known as the primary objectives, are the essential objectives for which an audit is being conducted. These are as follows.
Focusing on the Internal Check Systems
The first primary objective is to examine and check the internal control systems of the company. This is usually done via trial and error, and by testing it in person. The auditors may use visual observation as a technique to determine whether the system is working properly or not. The focus is on figuring out whether the company has taken appropriate steps to prevent fraud or misappropriation.
For instance, almost every company has petty cash control systems. Cash is often a high-risk category when it comes to auditing, so the auditors are responsible for making sure that it has been properly accounted for. When dealing with petty cash, they will want to check how easily the petty cash can be accessed.
The auditors are also responsible for checking the arithmetical accuracy of the books of accounts and to verify whether the balances have been accurately posted from different ledgers and have been calculated properly. To do this, the auditors may carry out several checks.
They might start by tallying all of the purchase invoices or sales invoices generated by the company and then calculating them for arithmetical accuracy. From there, they are going to check whether the balances have been accurately recorded in the purchase and sales ledger.
Finally, they will check whether these balances have been accurately recorded in the financial statements, including the balance sheet and the profit and loss account.
Verification of the Authenticity and Validity of Transactions
More importantly, auditors are concerned with whether the transactions recorded by the business are accurate or not, and more importantly, whether they exist in real life. For that to happen, the auditors will want to personally check debtor accounts for existence, and may want to call them to confirm the authenticity of different transactions.
The same goes for creditors: auditors might want to call them to confirm individual balances before making a decision about the accuracy of the figures given in the financial statements.
Distinction Between Capital and Revenue Transactions
The auditors also check whether the capital and revenue transactions carried out by the company over the course of the previous year have been properly distinguished and recorded or not. The auditors are going to check whether capital expenditure has been capitalized and is being amortized over the specific period of time.
Then, they are going to check whether revenue expenditure has been written off, and they are also going to check the treatment for the write-off as well. If transactions are not recorded accurately, it could create serious potential for fraud and could cause the financial statements to be materially misstated. These are serious issues and the auditor is responsible for making sure that they have been accurately recorded.
A significant amount of audit work goes into making sure that these objectives are met. However, while these are the primary objectives of the audit, there are secondary objectives of the audit as well that must be met. These are as follows.
The first and most obvious secondary objective is the detection and the prevention of errors. Care should be taken to understand that these are not the main objectives and auditors are not primarily responsible for focusing on these. However, during the ordinary course of their work, these are usually detected.
Similarly, the detection and prevention of fraud also becomes a major priority for auditors. Auditors do not actively search for instances of fraud in a company. That’s not their job. however, while they are carrying out their auditing duties, there is often a time when they are able to detect serious instances of fraud in the workplace.
It is thus their duty to report this fraud to those charged with governance. Auditors are responsible for highlighting these matters to the organization and then let them deal with it. If, however, the organization fails to deal with these matters, then the auditors will simply express an opinion on their audit report.
Before audit work begins, the auditors are responsible for making sure that they define the scope of audit. This is usually given in the engagement letter and the scope of audit is what the auditors adhere to during the course of the audit. It’s important to note that most of the audit evidence is simply persuasive and not conclusive, so it’s only designed to help with specific decisions taken by the company.