Auditing Solved Paper May’ 2018 (Semester Exam)
Dibrugarh University B.Com 4th/6th SemCBCS and Non-CBCS Pattern
a) The object of internal check is to
1) Verify the cash receipts and payments.
2) Facilitate quick decision by the management.
3) Prevent errors and frauds.
4) Control wastage of resources.
b) Interim audit refers to
1) Examination of accounts continuously.
2) Examination of accounts intermittently.
3) Audit work to find out and check interim profits of a company.
4) Conduct of audit for bonus purposes at the end of the year.
c) Which one of the following examples is not contingent asset?
1) Claim from the acceptor of bill receivable which has been discounted by the client from the bank but might be dishonoured.
2) Uncalled share capital of the company.
3) Income received in advance.
4) Claim for refund of sales tax.
d) The amount of securities premium reserve may be used only for some specific purposes as per provisions of the Companies Act, 2013 under the
1) Section 50(1)
2) Section 52(2)
3) Section 55(2)
4) Section 56
e) Auditor under management audit is accountable to the
1) Shareholders.
2) Annual General Meeting.
3) Board of Directors.
4) Board of Directors and Shareholders.
f) According to Table F of Schedule I of the Companies Act, 2013, interest on calls in advance may be paid at a rate not exceeding.
1) 5%
2) 10%
3) 12%
4) 14%
g) Profit on redemption of debenture is transferred to which Account?
1) Capital Reserve Account.
2) General Reserve Account.
3) Sinking Fund Account.
4) Statement of Profit and Loss.
h) Loss on issue of debentures is written off.
1) In the year of issue of debentures.
2) During the life of debentures.
3) Within 3 years of the issue of debentures.
4) In the year of redemption of debentures.
2. (a) Write short notes on any two of the following: 4x2=8
1) Auditing in depth.
Ans: Auditing in depth: Taylor and Perry have defined Auditing in Depth as “the examination of the system applied within a business entailing the tracing of certain transactions from their origin to their conclusion, investigating at each stage the records created and their authorization”.
Audit in depth does not mean 100% checking. It is a detailed examination of the selected transactions from the beginning to the end. Thus, it is used along with test checking. For example, if the auditor has decided to check 25% of purchase transactions, these transactions should be checked in depth. Auditor should check the Purchase Requisition, Tenders, Purchase Orders, Purchase Bills, Goods Received Note, Inspection Note, Purchase Journal, Stock Register, Bin Card and so on. Thus, the auditor should check the purchase transaction right from the beginning to the end. This enables him to evaluate the accounting system and internal controls.
2) Advantages of cost audit.
Ans: Following are the advantages of cost audit
To The Management : Cost audit helps in detection of errors and frauds. The management gets accurate and reliable data based on which they can make day-to-day decisions like price fixation.
To The Government: It enables to take decisions as to granting of subsidies, incentives and protection to various industries. It helps to take decisions as to levies, duties and taxes.
To the Society: Cost audit enables the Government to fix prices of essential commodities. This safeguards the interests of the society. Cost audit enables the Government to keep a check on undue profiteering by the manufacturers and avoids artificial price rise due to monopolistic tendencies.
To the Shareholders: Cost audit reveals whether any of the products of the company are making losses. Thus though the company making an overall profit, a loss making line may eating up the company’s profits. This is brought to the notice of the shareholders and the management is forced to take remedial measures, thereby making optimum utilisation of resources.
3) Necessity of qualified audit report.
Ans: Necessity of qualified audit report:
a) It ensures accountability of the management.
b) It helps in improving reliability of the financial statements.
c) It state that whether the company has maintained the proper books of accounts or not.
d) It helps in ensuring that whether or not financial statements gives a true and fair view of the affairs of the company or not.
4) Disadvantages of continuous audit.
Ans: Disadvantage of continuous audit: The following are the disadvantages of continuous audit:
(i) High Cost: As continuous audit is conducted throughout the year the organization has to give huge remuneration to the auditor. Therefore, a small concern cannot afford the high cost of conducting such audit.
(ii) Difficulties in accounting work. As a result of frequent visits of the auditor often it is seen that the books of accounts are checked by the audit staff and for this audit work is hampered.
(iii) Change of figures: It may so happen that the portion of accounts which have already examined by the auditor may alter the figures by the dishonest employees to achieve some personal interest.
(iv) Loss of continuity of work: As continuous audit is conducted at regular intervals, the auditor may left unchecked same audit work which was pending during his last audit work.
(b) Distinguish between any two of the following: 4x2=8
1. Vouching and verification
| Basis | Verification | Vouching |
| Meaning | Verification means to prove the ownership and title of assets. | Vouching means the process of comparing the entries in the books of accounts with reference to relevant documentary evidence. |
| Object | Verification is done to prove the existence, ownership and title to assets. | It aims to verify the accuracy, authenticity and genuineness of transactions recorded in the books of accounts. |
| Person involved | It is done by the auditor. | Vouching is usually carried on by junior clerks. |
| Timing | verification is done at the end of financial year i.e. at the time of preparation of final accounts. | Vouching is done after the entry of transactions are recorded in the books of accounts. |
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2. Continuous Audit and Periodic Audit
Difference Between Continuous Audit and Periodical Audit
| Basis | Continuous Audit | Periodical Audit |
| i. Timing of audit | Continuous audit is conducted throughout the year. | Periodical audit is conducted after the preparation of final account. |
| ii. Organisation | It is suitable for Large organization. | It is suitable for small organization |
| iii. Preparation of final accounts | As this audit is conducted throughout the whole year, it is possible to prepare final accounts i.e. Profit and Loss account and Balance Sheet just at the end of the financial year. | Since audit is conducted after the preparation of final account, it is not possible to prepare final accounts just at the end of the financial year. |
| iv. Costs | It is costly. | It is less costly as compared to continuous audit. |
| v. Detection of frauds and errors | It helps in early detection of frauds and errors. Staff do have sufficient time to manipulate accounts. | It is very hard to detect frauds and errors because audit is done only after the preparation of final accounts. |
| vi. Reliability | If continuous audit is done throughout the year, all the interested parties can rely much on the audited accounts. | It is less reliable as compared to continuous audit. |
3. Standard Audit Report and Qualified Audit Report.
Difference between clean and qualified audit report
Clean Report: It is also known as Unqualified Report. It is given by the auditor if he is satisfied with the fairness of Balance Sheet and Profit and Loss account with all the contents of the financial statements and he is satisfied with evidences, documents and explanation given by his clients.
Qualified Audit Report: A qualified report means an audit report which is not clean. In case auditor has any reservation in respect of certain methods mentioned in the financial statements he may qualify his report. A qualified opinion shall be expressed as being subject of or except for the effects of the matter to which the qualification matters. If the accounting standards issued by Institute of Chartered Accounts of India is not followed by the company the auditor may qualify his report. The company Act doesn’t lay down any specific requirement regarding the manner in which the auditor should qualify his report. It should not lead any confusion to the reader. Before submitting a qualified report he should discuss the issued with that of the management. He should see that qualified report is free from ambiguity, vague statements etc. From the above discussion, we find the following differences between clean and qualified report:
| 1. A clean report is given by the auditor if he is satisfied with the fairness of Balance Sheet and Profit and Loss account with all the contents of the financial statements | 1. A qualified report is given by the auditor if he is not satisfied with the fairness of balance sheet and profit and loss account. |
| 2. In a clean report, an auditor will state something along with the lines,” In our opinion, the financial statements give a true and fair view of the financial position.” | 2. In a qualified report, an auditor will state something along with the lines,” In our opinion, with the exceptions of some areas, the financial statements give a true and fair view of the financial position.” |
3. (a) What are the advantages of having the accounts audited by an independent professional auditor? Explain the advantages of audit to the different users. 6+8=14
Also Read:
Ans: The word audit is derived from the Latin word “AUDIRE” which means to hear. Initially auditor was a person appointed by the owners to check account whenever the suspected fraud, he was to hear explanation given by the person responsible for financial transactions. Emergence of joint stock companies changed the approach of auditing as ownership was pestered from management. The emphasis now is clearly on the verification of accounting date with a view on the reliability of accounting statement.
In the words of Montgomery, ”Auditing is a systematic examination of the books and records of a business or other organization, in order to ascertain or verify and report upon the facts regarding its financial operation and the result thereof”.
Advantages of having the accounts audited by an independent professional auditor
Business may get many advantages of conducting audit by a qualified auditor. The advantages are discussed below:
(a) True and Fair view: With the help of audit of accounts, it is possible get a true and fair view of the financial position of the business.
(b) Detection of errors and frauds: If books of accounts are audited, errors and frauds can be detected and necessary action can be taken to prevent it.
(c) Moral pressure on the employees: If audit is conducted by the organization, employees should be cautions and there should be a moral pressure on them. As a result, chances of errors and frauds will be minimized.
(d) Proper accounting control: A system of regular audit helps the organization to maintain proper books of accounts regularly and books of accounts are kept up to date.
(e) Acceptable evidence: Audited accounts are very strong financial document acceptable to many interested parties e.g. taking loan from financial institution, determination of income tax, sales tax, amalgamation of companies, determination of purchase consideration, admission, retirement, death of a partner etc.
(f) Increase in goodwill: Audit of business on a regular basis increases confidence to the interested parties and general public. As a result goodwill of the business increases.
Advantages of audit to the various users
1. To the Owner: The owners of the business are also interested to know the financial position of the business. There are discussed below:
(a) Benefit to the sole proprietor: In case of large business, the proprietor can get a true and fair view of the accounts maintained by his employees and also able to know the state of affairs and profit made by him. The proprietor is also benefited for getting loan from financial institutions, to pay income tax etc.
(b) Benefits to the partners: Shareholders are the owners of a company. With the help of audited accounts help to the partners to settle their unsettled disputed, for taking loan from financial institutions, to get off the books of accounts maintained by the employees etc.
(c) Benefits to the shareholders: Shareholders are the owners of a company. With the help of audited accounts they get a real picture of the financial position of The company and they can assure that business is running efficiently.
(d) Benefit to the non-profit seeking organizations: There are different non-profit seeking organizations e.g., charitable institution, club, religious institute, school, college etc. This organization run with public money. Whether public money is properly utilized or not can be revealed from the audited accounts.
2. To the third parties: Besides business and the owners, there are different outside interested parties who required audited accounts for different purposes: These are:
(a) Government may be interested to get the audited accounts to show the deficiency of the business for giving grant and subsidy.
(b) Financial institutions sections loan to the organization on the basis of verification of financial soundness form the audited accounts.
(c) Tax authorities may depend on audited accounts for determination of income tax, sales tax, excise duty etc.
(d) Prospective buyers who want to invest money in shares and debentures of a company may rely on audited accounts.
(e) Creditors who supply goods to the business may asses the solvency and liquidity position of the business on the basis of audited accounts.
(f) For settlement of insurance claim, insurance companies can barely on audited accounts.
Or
(b) Discuss the advantages of conducting audit in accordance with a fixed audit programme. State the contents recorded in an audit notebook. 7+7=14
Ans: Audit Programme: By an audit programme we mean a written plan containing exact details with regard to the conduct of particular audit. It is description of the work to be done which is prepared by an auditor for the guidance and control of assistants. An audit programme provides a guide in arranging and distribution of work and in checking against the possibility of the omissions. An audit programme should be elastic. An audit programme should be chalked out in such a way that if there may be any need for revision that may be carried out without any difficulty.
Advantages of audit programme
a) Audit programme is prepared to locate exactly the responsibility of every clerk in the auditor’s staff.
b) It promotes division of work in a well organized manner.
c) Since the programme takes into consideration all the details involved in the work to be followed during audit, no portion of the work is left from checking.
d) It helps the auditor to monitor the progress of the work.
e) It will be easier to fix responsibilities for omissions and commissions.
f) It serves as a valuable evidence for the work done.
g) It serves as a guide for future audit.
h) It ensures that audit process in a systematic manner.
i) It eliminates inefficiency and saves time.
j) Incase if any audit assistant goes on leave, his work can be easily continued by others.
k) Before signing the report, it is easily possible for the auditor to have the final review of the work done by him. At this stage, it may be explored whether everything has been completed or not.
l) It avoids duplication of work.
Audit Note Book
The audit clerk maintains the audit notebook. He keeps therein a record of his observations during the course of any audit work as also the points to be discussed with his senior clerk or the auditor. It is a written record of the queries made by him and the replies thereto. It is part of permanent record of the audit office, which is used by the auditor while preparing his report. It should be noted that an audit notebook is meant to record only important and strategic items. Matters, which are, or can be sorted out on the spot, or those of a trivial nature, need not be entered therein. Some of the important matters recorded in the Audit Note Book are as follows:
a) Name of the business.
b) Instructions from the management having relevance to the audit.
c) List of book of account maintained by the enterprise.
d) Accounting methods followed in the enterprise, and their defects.
e) Any irregularities in the observance of laws and notifications applicable to the enterprise.
f) List of missing vouchers and receipts.
g) Matters requiring explanation or clarification.
4. (a) (1) Explain the characteristics of sound system of internal check. 6
Ans: Internal Check (IC): The term internal check implies that the work of various members of the staff is allocated in such a way that the work done by one person is automatically checked by another. It is defined as “such an arrangement of book keeping routine where in errors and frauds are likely to be prevented or discovered by the very occupation of book keeping itself’.
Essentials of effective Internal Check
1. Sufficient Staff: The primary essential of internal check is sufficient staff. The employees can be appointed according to the workload. The overloading can creates trouble for management.
2. Division of Work: Division of work is a principle of internal check. The management can determine the total amount of work. The whole work is divided among departments. The heads of such department are responsible for completion of work according to timetable.
3. Co-Ordination: Coordination is an essential of internal check. All departmental managers are bound to coordinates with other in order to achieve organization objectives. When there is fault in one department, the work of other department suffers.
4. Rotation of Duties: Rotation of duties is an essential of internal check. The workers feel bore by doing the same work from year to year. There is a need of rotation of duties. It is in the interest of concern as well as employees.
5. Responsibility: The responsibility is an essential of internal check. The employee can enjoy recreation leave. It is necessary for mental health. He cannot commit fraud as the new employee in his place can disclose the matter. There internal check system can work in the interest of business. The weakness in of one person is disclosed due to leave.
6. Checking: The principle of internal check is to check the work of other employees. Many persons perform the work. The officers can put his signatures to verify the work done by his subordinate. In this way one work passes many hands. The chances of error and fraud are minimized due to checking and counter checking.
7. Simple: The principle of internal check is simples in working the employees can understand the working of internal check system. A person can work under the supervision of other employees. The line of authority moves from top to bottom level. All workers can understand their duties in the organization.
8. Documents Classification: The classification of documents is an essential of internal check. The business documents are prepared, collected, recorded and placed in proper files. The index is prepared to compile the data.
9. Dependent Work: Dependent work is a principle of internal check. The work of one employee is dependent upon others. One work passes in the hand of two or three persons till it is complete. Another person checks the passes done by one person. No person is all in all to start and complete the transactions.
10. Harmony: The principles of internal check are harmony among the employees and departments. The understanding is essential for business goals. The harmony is basis for successful internal check.
(2) Explain the general and specific considerations which the auditor should keep in mind while vouching cash sales and receipts from debtors. 8
Ans: VOUCHING OF CASH SALES: Cash sales can be vouched by the auditor in the following way:
1. Internal Check: Auditor should evaluate the internal check and if it is proper system then he should rely on it.
2. Checking Of Memos: Auditor should check the cash sales memos and compare it with the daily summaries of salesman and cashier.
3. Entry In Cash Book: Auditor should also check the figures of the salesman and cashier summaries entry in the cash book.
4. Checking Of Cash Register: If cash register is used, auditor should check the total daily rolls with the entries in the cash book.
5. Checking Of Cash Book: Auditor should compare the cash book with the general ledger.
6. Checking Of Price Lists: Auditor should obtain and verify it price lists and other instructions by the authorize persons regarding the cash sales.
7. Guidance To Client: If internal check system is not effective than auditor should inform the client about the dangers of frauds. He should also suggest some measures.
VOUCHING OF Collection from debtors: Collection from debtor’s can be vouched by the auditor in the following way:
1. Internal Check: Auditor should evaluate the internal check and if it is proper system then he should rely on it.
2. Checking Of Memos: Auditor should check the cash memo and compare it with the corresponding entries in debtor’s ledger.
3. Entry in Cash Book: Auditor should also check the figures of collection from debtors in the cash book.
4. Checking Of Cash Register: If cash register is used, auditor should check the total daily collection with the entries in the cash book.
5. Checking Of Cash Book: Auditor should compare the cash book with the debtor’s ledger.
6. Guidance to Client: If internal check system is not effective than auditor should inform the client about the dangers of frauds. He should also suggest some measures.
Or
(b) Discuss the objects of verification and valuation of assets. State the duties of an auditor regarding verification of stock-in-trade. 8+6=14
Ans: Verification of assets and liabilities: Verification is a process carried out to confirm the ownership valuation and existence of items at the balance sheet date. Spicer and Pegler have defined verification as “it implies an inquiry into the value, ownership and title, existence and possession and the presence of any charge on the assets”. Verification is a process by which an auditor satisfies himself about the accuracy of the assets and liabilities appearing in the Balance Sheet by inspection of the documentary evidence available. Verification means proving the truth, or confirmation of the assets and liabilities appearing in the Balance Sheet.
Valuation of Assets and Liabilities
Valuation of assets means determining the fair value of the assets shown in the Balance Sheet on the basis of generally accepted accounting principles. The valuation of assets is very important because over-statement or under-statement of the value of assets in the Balance sheet not only distorts the true and fair view of the financial position but also gives wrong position of profitability. The valuation of the assets is the primary duty of the officials of the company. The auditor is required to verify whether the value ascertained is fair one or not. For this, he may rely on the technical certificate issued by the experts in the field.
Following are the objects of verification and valuation of assets and liabilities
1. To show correct valuation of assets and liabilities.
2. To know whether the balance sheet exhibits a true and fair view of the state of affairs of the business
3. To find out the ownership and title of the assets
4. To find out whether assets were in existence
5. To detect frauds and errors, if any
6. To find out whether there is an adequate internal control regarding acquisition, utilisation and disposal of assets.
7. To verify the arithmetic accuracy of the accounts
8. To ensure that the assets have been recorded properly.
Auditor’s duties regarding verification of Stock/ Inventories
Stock is the life blood of the business. It consists of stores and spares, raw materials, work in progress, and finished goods. If stock is incorrectly recorded, verified or valued, the P&L a/c doesn’t show correct balances. It also affects the BS if stock if overvalued profit is inflated and if its understated it encourages creation of secret reserves. The objective of verifying stock is to see that it exists and is correctly valued. It may not be possible to verify the entire stock. Hence he has to go for the checks to ascertain the accuracy of stock. In the case of Kingston cotton mills co., ltd the judge observed that, “it is no part of the auditor’s duty to take stock, he must rely on other people for details of stock in trade.” It was further observed that “an auditor is not bound to b a detective. He should not start his work with a foregone conclusion that there is something wrong. He is a watch dog and not a blood hound to be a detective. He is justified in believing in trust worthy servants of the company provided it takes reasonable care”.
In another case it was decided that ‘it is certainly not the duty of the auditor to take stock. He should check the calculation with proper care’. While verifying stock:
a) He should review the procedure for maintenance of stock and records.
b) Examine the efficiency of internal check and control system.
c) See whether stock verification process contains adequate safeguards against possible errors and frauds.
d) Test check the physical existence of a part of the stock. Stock is valued at cost price/ market price whichever is lower/less.
5. (a) Discuss the provisions of the Companies Act, 2013 regarding appointment of auditors. Point out auditors’ duties in the procedure of issue of shares at a premium and at a discount. 7+7=14
Ans: Appointment of a Company Auditor: According to Section 224 of the Companies Act, every company whether private or public must appoint an Auditor or auditors to audit the final accounts. The provisions relating to the appointment of auditor are as follows:
1. Appointment of First Auditors:
(a) In case of a Non-Government Company[Sec. 139(6)]: The first auditor of the company is to be appointed by BOD within 30 days from the date of incorporation of company. Note here that this is not from the date of commencement of business. First auditor shall hold office upto the conclusion of first AGM. If BOD fails to appoint the first auditor, it shall inform the members of the company. The members of the shall within 90 days at an extraordinary general meeting appoint the auditor.
(b) In case of a Government Company [Sec. 139(7)]: In case of any government company or any other company which is owned or controlled by central or state government either directly or indirectly, the first auditor shall be appointed by the Comptroller and Auditor General (CAG) of India within 60 days from the date of registration of the company. In case the CAG does not appoint such auditor within the above period, the Board of directors of the company shall appoint such auditor within next 30 days.
2. Appointment of Subsequent auditors:
(a) In case of Non-Government Company [Sec. 139(1)]: Every company shall, at the first AGM appoint an individual or firm as an auditor who shall hold office form the conclusion of that meeting till the conclusion of its 6th AGM and thereafter till the conclusion of every 6th meeting. The following points need to be noted in this regard:
a. The company shall place the matter relating to such appointment by member at every annual general meeting.
b. Before such appointment is made, the written consent of the Auditor to such appointment and a certificate should be obtained. The certificate shall also indicate whether the auditor satisfies the criteria provided in sec. 141.
c. The company shall inform the auditor concerned of his or its appointment.
d. The company shall also file a notice of such appointment with the registrar within 15 days of such appointment.
(b) In Case of Government Companies [Sec. 139(5)]: In case of any government company or any other company which is owned or controlled by central or state government either directly or indirectly, the Comptroller and Auditor General (CAG) shall in respect of a financial year, appoint an auditor duly qualified to be appointed as an auditor of companies under this act, within a period of 180 days from the commencement of the financial year, who shall hold office till the conclusion of the AGM.
3. Filling of Casual Vacancies [Section 139(8)]:
In the case of a company other than a company whose accounts are subject to audit by an auditor appointed by the CAG of India:
(a) Any Casual Vacancy due to reasons other than resignation: Any casual vacancy in the office of an auditor shall be filled by the board of directors within 30 days.
(b) Any Casual vacancy due to resignation: Such appointment shall also be approved by the company at a general meeting convened within 3 months of the recommendation of the board and he shall hold the office till the conclusion of the next annual general meeting.
In the case of a company whose accounts are subject to audit by an auditor appointed by the CAG of India:
(a) Any casual vacancy in the office of an auditor shall be filled by the CAG of India within 30 days.
(b) In case the CAG of India does not fill the vacancy within the said period the board of directors shall fill the vacancy within next 30 days.
Issue of shares at Premium:
If Shares are issued at a price, which is more than the face value of shares, it is said that the shares have been issued at a premium. The Company Act, 2013 does not place any restriction on issue of shares at a premium but the amount received, as premium has to be placed in a separate account called Securities Premium Account.
Under Section 52 of the Company Act 2013, the amount of security premium may be used only for the following purposes:
a) To write off the preliminary expenses of the company.
b) To write off the expenses, commission or discount allowed on issued of shares or debentures of the company.
c) To provide for the premium payable on redemption of redeemable preference shares or debentures of the company.
d) To issue fully paid bonus shares to the shareholders of the company.
e) In purchasing its own shares (buy back).
Auditor’s Duties regarding Issue of Shares at a Premium
1. He must examine the Prospectus, Articles and the Directors’ Resolution in the Minute Book to verify that this is not only permissible but properly authorized also.
2. He should vouch the amount of premium received and its transference to the securities premium reserve Account.
3. He should see that this amount has been utilized only for the purposes mentioned in Sec. 78. He cannot object if the utilization is within law. If the premium is used for an unauthorized use, this amounts to reduction of capital.
4. He should see that this amount has not been credited to profit and loss account but shown as “Reserves and Surplus” on the liabilities side of the Balance Sheet.
5. He should note that provisions regarding reduction of share capital apply to securities premium reserve account as well.
Issue of shares at discount:
As per sec. 53 of the Companies Act, 2013, issue of shares at a discount is prohibited. This prohibition applies to all companies, public or private. Any issue of share at a discount shall be void. But a company can issue sweat equity shares to its directors or employees as a reward to them for their contributions. Sweat equity shares are those which are issued by a company at a discount or for consideration other than cash.
According to Section 54 of company act 2013, a company is permitted to issue sweat equity shares provided the following conditions are satisfied:
a) The issue of shares at a discount is authorised by a resolution passed by the company in its general meeting and sanctioned by the Central Government.
b) The resolution must specify the maximum rate of discount at which the shares are to be issued but the rate of discount must not exceed 10 per cent of the nominal value of shares. The rate of discount can be more than 10 per cent if the Government is convinced that a higher rate is called for under special circumstances of a case.
c) At least one year must have elapsed since the company was entitled to commence the business.
d) The shares are of a class, which has already been issued.
e) The shares are issued within two months from the date of sanction received from the Government.
Auditor’s Duties regarding Issue of Shares at a Discount
The auditor must examine compliance with requirements under Sec. 54 and its presentation and disclosure in the Balance Sheet. The auditor must ensure that discount is allowed only in case of sweat equity shares. The auditor must see that at least one year must have been elapsed since the company was entitled to commence the business and rate of discount must not exceed 10%.
Or
(b) State how you will examine the following items while auditing the accounts of a limited company: 4+5+5=14
1) Share Capital.
2) Dividends.
3) Managerial Remuneration.
Ans: 1) Share Capital Audit for a New Company / First Issue
Audit involves three stages, namely the application share capital of a new company in the first issue stage, the allotment stage and the call stage. However, the company is required to fulfill a lot of formalities before actually going for public subscription. The auditor should examine compliance of provisions.
Auditor’s Duties
1. Application stage: The auditor should undertake the following checks:
(1) Checking of the original applications with the application and allotment sheets.
(2) Checking and comparing entries in the application and the allotment books as regards deposit of money at the time of application with those in the cash book.
(3) Vouching that amounts pertaining to rejected applications, non-allotted application or any excess amount there to have been returned by comparing entries in the cash book with that of application and allotment sheets (books) or letters of regret, if any.
(4) Examining that the issue is within the limits authorized by the Memorandum and Articles of Association.
(5) Examining that the minimum subscription fee, the amount received on application being not less that 5% of the nominal value of shares, has actually been received before making the allotment.
(6) Checking the balance on the application and allotment sheets (book) and verify the total capital issued.
2. Allotment stage: Following steps may be taken in this stage.
(1) Examining the Director’s Minute Book to verify approval of allotments which may be in stages as spreading over a number of days. He should note that recording at each stage was properly initialed by at least one director. He should also see that the allotment was legally in order.
(2) Comparing copies of letters of allotment / letters of regrets with entries in the application and allotment sheets (book).
(3) Vouching money receipt on allotment by comparing the entries in the application and allotment sheets with the cash book or bank statement.
(4) Confirming the journal entries regarding allotment money, examining the ledger accounts and comparing the balances in the ledger accounts with the number of shares allotted.
(5) Verifying the entries in the Register of Members by comparing these with a separate summary of shares allotted. Verifying that the amounts of the shares allotted do not exceed the authorized or nominal capital of the company.
(6) Seeing that returns of allotment have been filed with the Registrar of Companies.
3. Calls stage: The auditor should take the following steps:
(1) Examining the Director’s Minute Books regarding decisions about calls.
(2) Seeing that the calls as resolved are within the provisions in the Articles of Association and statement in the prospectus issued by the company.
(3) Vouching amounts received against calls with the counterfoils of receipts.
(4) Checking postings of the amounts received from the calls book (for calls due) and the cash book (for cash money received) into the share register.
(5) Comparing the application and allotment books with the schedule of calls in arrears showing the difference between calls due and calls received. He should confirm that the call in arrears figure is correct.
(6) Checking the calls received in advance either in the cash book or through the journal and seeing that these are transferred to a separate account not meant up with the share capital of the company.
2) Dividends: Shareholders expect some return for the money invested by them in the company. They get the return on their investment in the form of dividends given to them from time to time. Thus, dividends are the profits of the company distributed amongst the shareholders. The company may declare dividends in general meeting, but no dividend shall exceed the amount recommended by the Board of Directors. Thus, shareholders in annual general meeting can only reduce the amount of dividends but cannot increase the amount of dividends recommended by the Board of Directors. The directors may no recommend dividend even if there are profits if they think that distribution of dividend will impair the financial position of the company.
Dividends are usually paid on the paid up value shares in the absence of any indication to the contrary in the Articles of Association. For example, if a company has share capital of 1,00,000 equity shares of Rs. 10 each, Rs. 7 per share called up, and paid up and if the rate of dividend is 15%, total dividend paid will be 15% of Rs. 7,00,000 paid up capital (i.e. 1,00,000 shares @ 7 each) i.e. Rs. 1,05,000.
Duties of auditor relating to payments of dividend
1. Rules Of Company: The auditor should check the rules of a company. He should examine that articles of association and resolution of board meeting allow the management to propose dividends out of revenue profits.
2. Rate Of Dividend: The auditor should check that rate of dividend must not be above the rate of profit. It should also not exceed the market rate.
3. Reasonable Profit: The auditor should check that amount of revenue profits is reasonable. If it is not reasonable then dividend should not be paid.
4. Account: Dividend amount is payable within 30 days. The auditor should check that dividend account is opened in the bank and amount equal to dividend must be deposited.
5. Tax: It is also the duty of the auditor to check that corporate dividend is paid by the company.
3) Managerial remunerations: Managerial remunerations consist of remuneration paid by a company to its managerial personal such as managers, whole time directors, chief financial officer. Managerial remuneration can be fixed by board of director or shareholders of the company. According to Sec. 197 (1), the total managerial remuneration payable by a public company, to its directors, including managing director and whole-time director, and its manager in respect of any financial year shall not exceed eleven percent of the net profits of that company for that financial year.
Auditor’s duties:
1) He must ensure that the provisions of Sec. 196 to 202 regarding managerial remuneration are followed.
2) He must also ensure that managerial remuneration is paid as per the provisions of MOA and AOA.
3) If managerial remuneration is paid in the form of reimbursement of expenses, he must ensure that proper vouching of these expenses are done.
6. (a) Discuss in brief about different types of audit reports. State the characteristics of an ideal audit report. What are the differences between clean and qualified audit reports? 6+4+4=14
Ans: TYPES OF AUDIT REPORT:
(1) Clean Report: It is also known as Unqualified Report. It is given by the auditor if he is satisfied with the fairness of Balance Sheet and Profit and Loss account with all the contents of the financial statements and he is satisfied with evidences, documents and explanation given by his clients.
(2) Qualified Audit Report: A qualified report means an audit report which is not clean. In case auditor has any reservation in respect of certain methods mentioned in the financial statements he may qualify his report. A qualified opinion shall be expressed as being subject of or except for the effects of the matter to which the qualification matters. If the accounting standards issued by Institute of Chartered Accounts of India is not followed by the company the auditor may qualify his report. The company Act doesn’t lay down any specific requirement regarding the manner in which the auditor should qualify his report. It should not lead any confusion to the reader. Before submitting a qualified report he should discuss the issued with that of the management. He should see that qualified report is free from ambiguity, vague statements etc.
(3) Adverse Opinion: The worst type of financial report that can be issued to a business is an adverse opinion. This indicates that the firm’s financial records do not conform to GAAP. In addition, the financial records provided by the business have been grossly misrepresented.
(4) Disclaimer of Opinion: On some occasions, an auditor is unable to complete an accurate audit report. This may occur for a variety of reasons, such as an absence of appropriate financial records. When this happens, the auditor issues a disclaimer of opinion, stating that an opinion of the firm’s financial status could not be determined.
Elements of Audit Report or Essentials of Good Audit Report
1. Title: An auditor report must have appropriate title, such as "Auditor's Report". It is helpful for the reader to identify the auditor's report. It is easy to distinguish it from other reports. The management can issue any report about the business performance. The title o the report is essential.
2. Addressee: The addressee may be shareholder or board of director of a company. The auditor can audit financial statements of any business unit as per agreement. The report should be appropriately addressed as required by engagement letter and legal requirements. The report is usually addresses to the shareholders or the board of directors.
3. Date of Report: The report should be dated. It informs the reader that the auditor considered the effect on the financial statements and in his report of events or transactions about which he become aware the occurred up to that date.
4. Identification: The audit report should identify the financial statement that have audited. The financial statement may include trading profit and loss accounts, balance sheet and statement of changes in financial position and sources and application of frauds statement. The report should include the name of the entity. Moreover the data and period covered by the financial statement are also stated in it.
5. Reference to Auditing Standards: The audit report should indicate the auditing standard or practice followed in conducting the audit. The international auditing guidelines need assurance that the audit has been conducted as per set standards.
Difference between clean and qualified audit report
Clean Report: It is also known as Unqualified Report. It is given by the auditor if he is satisfied with the fairness of Balance Sheet and Profit and Loss account with all the contents of the financial statements and he is satisfied with evidences, documents and explanation given by his clients.
Qualified Audit Report: A qualified report means an audit report which is not clean. In case auditor has any reservation in respect of certain methods mentioned in the financial statements he may qualify his report. A qualified opinion shall be expressed as being subject of or except for the effects of the matter to which the qualification matters. If the accounting standards issued by Institute of Chartered Accounts of India is not followed by the company the auditor may qualify his report. The company Act doesn’t lay down any specific requirement regarding the manner in which the auditor should qualify his report. It should not lead any confusion to the reader. Before submitting a qualified report he should discuss the issued with that of the management. He should see that qualified report is free from ambiguity, vague statements etc. From the above discussion, we find the following differences between clean and qualified report:
| 1. A clean report is given by the auditor if he is satisfied with the fairness of Balance Sheet and Profit and Loss account with all the contents of the financial statements | 1. A qualified report is given by the auditor if he is not satisfied with the fairness of balance sheet and profit and loss account. |
| 2. In a clean report, an auditor will state something along with the lines,” In our opinion, the financial statements give a true and fair view of the financial position.” | 2. In a qualified report, an auditor will state something along with the lines,” In our opinion, with the exceptions of some areas, the financial statements give a true and fair view of the financial position.” |
Or
(b) What is management audit? State the objects, advantages and disadvantages of management audit. 4+10=14
Ans: Management Audit
Management audit is a method of independent and systematic evaluation of the management activities at .all levels of management to ascertain the functions, efficiency and achievement of' the management (i.e. policies) as compared to standards set by the company.
According to L. R. Howard, "Management audit is an investigation of business from the highest level downward in order to ascertain whether sound management prevails throughout, thus facilitating the most effective relationship with outside world and smooth running of internal organization."
As per Taylor and Perry; "Management auditing is a method to evaluate the efficiency of management at all levels throughout the organization, or more specifically, it comprises the investigation of a business by an independent body from the highest executive level downwards, in order to ascertain whether sound management prevails through and to report as to its efficiency or otherwise with recommendations to ensure its effectiveness where such is not the case."
Scope of management audit: The scope of management audit is much wider than financial audit because management audit evaluates not only financial audit but also other aspects of the business. It is the method of evaluating the total efficiency of the management from the top level to the lowest level. Therefore, the main scope of management audit is:
(i) Evaluate the efficiency of the management: Management· audit evaluates and appraise the efficiency of the management at all levels.
(ii) Implementation of principles and policies of the management: Management audit review whether principles and policies formulated by the management have been successfully implemented or not.
(iii) Find variances: It detects the variances in efficiency with the standards set by the management. .
(iv) Analyze the reasons for variances: Management audit analyze the reasons for inefficiencies of the management for not fulfilling the targets.
(v) Recommend suggestions for improvement: It gives suggestions for improvement in the areas e.g. production, sales, purchase, finance, human resources, administration etc.
Objectives of management audit: Management audit is the total audit of the management i.e. reviews how the policies of the management have been implemented and its efficiency to execute the policy. Therefore, the scope is much greater than financial audit, as it examines the all aspects of the management. Management audit has some objectives. These are discussed below:
(i) Verifying the efficiency: Management audit aims at to asses the efficiency at all levels of management and implementation of policies.
(ii) Gives suggestion for increase in efficiency: Management audit highlights the inefficiencies in different areas of management and gives his valuable suggestions and means to improve the efficiencies.
(iii) Asses the effectiveness of Planning and policies: Management audit examine and evaluates the plans and policies and judge whether planning and policies are properly implemented.
(iv) Helps to increase profitability: Management audit helps the management to increase profitability by giving remedies to maximize the organization's resources in an efficient way.
(v) Helps to co-ordinate activities: Management audit detects the interrelationship among the activities, evaluates the authority and responsibility and gives valuable suggestions for improvement of co- ordination among the activities and the employees. .
(vi) Gives valuable advice: By scanning the management efficiency and detecting the weak spots of different levels of management, the management auditor gives valuable advice to the top management regarding different policies and future course of action
ADVANTAGES OR IMPORTANCE OF MANAGEMENT AUDIT: 2013
There are several advantages of conducting management audit of an organization. When an organization grows in its volume and activities, there is a need for management audit for evaluating efficiency and effectiveness of the management at all levels of the organization. The advantages and importance of management audit are discussed below:
(i) Evaluates efficiency of the management: Management audit is a method of independent and 'systematic evaluation of the management activities at all levels of management to ascertain the functions, efficiency and achievement of the management (i.e. policies) as compared to standards set by the company.
(ii) Scrutiny of the plans, policies and procedure: Management audit helps to determine how the management has implemented their plans, policies and procedure to reach the organizations goal.
(iii) Helps for correction of plans, policies and procedure: Through management audit, it is possible to change or revise the plans, policies and procedure as per needs of the company.
(iv) Aids for decision making: Management audit asses the ability of the managers to take important decisions and helps them to rectify the defects.
(v) Helps to get loan: Financial institutions who gives huge loan to the organizations are interested to know the efficiency of the management and the profitability. Management audit certainly gives a guide to them.
(vi) Helps to get subsidy: Before granting subsidy by the government, to any entity they are interested to know the efficiency and functioning of the management. Management audit helps in this matter.
(vii) Helps to increase profitability: Management audit helps the management to increase profitability by giving remedies to maximize the organization's resources in an efficient way.
LIMITATIONS OF MANAGEMENT AUDIT:
(i) The management audit is audit of the management, by the management, and for the management. The management auditors are selected by the management itself. Such auditors may or may not be able to handle the job assigned to them.
(ii) The management auditors are generally familiar with the organization and the staff and employees. The personal aspects cannot be overlooked in such audits. Some may use this audit to level the score with someone while other may utilize it to favour someone.
(iii) They are more likely to take the facts for granted and may not probe into depth to investigate the matter any further.
(iv) Time and cost constraints may limit the scope, operation and extent of such audits.
(v) The management audit team as selected by the management may not look, act and work as a team. Conflicting interests, attitude and inclination may jeopardize the entire objective of the audit.
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