CHAPTER FOUR

THE AUDIT PLANNING PROCESS

4.1 Introduction
Every person plans, as does every organization planning is required to perform any
economic activity. Planning begins especially with an intended goal, an end result or
targeted outcome. A plan is a device for the achievement of the goal.
Thus planning is a two way function:- setting the right goals and selecting the right
means to achieve those goals. Planning in audit operations too has been considered as an
essential step as to optimum utilization of efforts. This enables an auditor to organize the
different aspects of audit work including vouching, verification, valuation, expression of
independent opinion, financial statements submission of auditor’s report in a systematic
and methodical manner. Audit planning helps in enhancing the quality of audit work. It
brings promptness and perfection in performance.
Overview of Audit Process: - Adding a new client
I Pre-contract
1. The auditor is approached by a prospective client
2. The auditor spends time obtaining knowledge about the business reputation and
integrity of the prospective client as well as the quality and completeness of the
clients records. The auditor must be careful not to select clients who do not have
integrity.
3. An engagement conference is held with the client. Agreement is rushed as to the
details of the audit and the deal will be closed. An engagement letter /Audit
contract/ is originated.
II. Before the end of the fiscal year
4. Before actually beginning the field work, some practical planning should be done
5. The engagement is planned by marking
 A preliminary assessment of overall audit risk includes an assessment of
inherent risk.
  Preliminary analytical review.
 Materiality decision for the whole and for separate accounts.
 A preliminary review of the system of internal control.
 Interim tests of internal control over transactions (compliance tests).
Attribute sampling is employed in this phase
 Preliminary detection risk (DR) is calculated. DR will be a basis deciding
for substantive tests.
Timing: - interim vs. balance sheet date
Nature:- analytical review vs. tests of details
Extent:- small sample size vs. large sample size
6. Interim tests of transactions creating financial statement balances /substantive
tests/ are performed
7. The fiscal year ends
III The audit
8. There is a final evolution of internal control, leading to the final figuring of
detection risk.
9. A program for the audit of financial statement balances (substantive tests) is
developed and implemented. Subsequent events are examined.
10. The audit report date /last day of auditing field work) occurs
IV Reporting
11. Financial statement are drafted, there is an office review of working papers, and
the audit report is drafted
12. Financial statements audit report are delivered to the client.

Consideration in Audit Planning

The auditor should plan to conduct an effective in an efficient and timely manner. Plans
should be based on the knowledge of the clients business. The auditor should obtain
sufficient appropriate audit evidence through the performance of tests of control and
substantive procedures to draw reasonable conclusions there from to base an opinion on
the financial information.
The plan should be based on the client’s accounting system policies and internal control
system may be relied upon, determination of appropriate audit procedures and co-
ordination of work. The audit plan should be revised as and when necessary.
In a nut shell, the under mentioned factors are to be considered while planning the audit.
1. complexity of audit, i.e size of the company and complexity of its operations
2. environment in which the entity operates, particularly commercial environment
3. previous experience with the client, and
4. knowledge of the client’s business besides the reporting requirements to which it
is subject to.
The above mentioned factors knowledge of client’s business is of utmost importance, as
this will help the auditor to identify the events, transactions and practices that in his
judgment may have a significant effect on the financial information.

Advantages and importance of audit planning

Planning is part and parcel of efficient management. Audit planning is necessary for an
effective, efficient and timely audit. Satisfactory audit planning has the following
advantages
1. establishes the right means to achieve the objectives of audit
2. ensures that appropriate attention is paid to important areas of management
3. ensures that potential problems are promptly identified
4. ensures that work is completed expeditiously
5. assists to co-ordinate the work done by auditors and experts
6. helps in enhancing the quality of audit work and finally
7. brings overall promptness and perfection in performance of audit work
4.2 DEVELOPING AN AUDIT PLAN
An audit plan will not only help the auditor to understand the expected scope of audit i.e.
area of operations but also facilitates conduct of audit. The auditor should consider the
under mentioned matters while developing the overall audit plan.
1. The terms of his engagement and any statutory responsibilities
2. The nature and timing of reports or other communication
3. The relevant legal or statutory requirements
4. The accounting policies adopted by the client and changes therein
5. The effect of new accounting or auditing pronouncements on the audit
6. The identification of significant audit areas.
7. The conditions requiring special attention e.g. possibility of material error or Fraud, or
transactions with outsiders in whom directors are interested
8. The degree of reliance, the auditor should place on accounting system and internal
control prevailing in the organization
9. The possible rotation of emphasis on specific audit areas
10. The nature and extent of audit evidence to be obtained
11. The work of internal auditors and the extent of their involvement, if any, in the audit.
12. The involvement of other auditors in the audit of subsidiaries or branches of the
client.
13. The involvement of experts
14. The allocation of work between joint auditors and the procedures for its control and
review.
15. Establishing and coordinating staffing requirements.

The overall plan should be documented as well. The form and extent of documentation
vary deriving upon the size and complexity of the audit work
4.3 PREPARATIONS BEFORE AUDIT
Preparation before audit refers to preliminary preparations by the auditor with regard to
auditing. An auditor must prepare well before he actually conducts audit. Upon being
appointed an audit for the first time, the auditor will have to plan out the steps he would
take before commencing the actual work. Before commencing a new audit, an auditor has
to undergo seven stages.
 1. The agreement with the client
2. Ascertain the scope of audit work
3. Knowledge about the client’s business
4. Knowledge of the accounting system in use
5. Information about client’s staff
6. Ascertain technical details
7. Information from client and instructions to
A brief discussion of each of the above is given in the following sections
1. Agreement with the client:- The auditor of a joint stock company limited by shares or
guarantee, is appointed by the directors or by the shareholder and in certain cases by
the central government. The auditor should ensure that his appointment in case of a
joint stock company is an accordance with the provisions of the companies act,
otherwise he will be held liable.
He mist obtain the letter of his appointment or engagement or he should get a copy of
resolution passed by the shareholder or directors in connection with this appointment.
2. Ascertain the scope of audit work:- Generally the letter of engagement contains the
scope of audit work and the requirements of the client. What is more important is he
letter of engagement must spell out scope of audit work in unambiguous terms an
enabling the auditor to be well prepared accordingly.
3. Knowledge about the client’s business:- The auditors should have adequate
knowledge of the client’s business and should acquaint himself with the nature of
various business transactions. An auditor should also acquaint himself with the
management of client’s business.
4. Knowledge of the accounting system in use:- The auditor should examine the
accounting system followed by the company. He should obtain a complete list of
books maintained and in use, those who maintain them and their specimen signatures.
Where there is a definite system of internal control, an auditor should ask for a written
statement in this regard and evaluate its effectiveness.
5. Information about client’s staff:- The auditor should collect a list of the different
 principal officials of the company together with the particulars of the work controlled
by them, the scope of their authority and their specimen signature.
6. Ascertain technical details:- in case the client’s business is of a technical nature with
which the auditor is in familiar, he should visit the work place and acquire some
technical knowledge to develop familiarity with the nature of the operation. The
auditor is not expected to be a technical expert, but he must acquaint him self as for as
possible with the technical aspects of the business of his clients
7. Information from client and Instructions to Client
I. Information from client: - The auditor should procure under mentioned information
from his client.
Nature of business
A. Historical background of business
B. Places or location of business
C. Details of products manufactured or good traded in (in the case of trading
company) or services rendered
D. Details of raw materials used
Organization and personnel
A. The chart of the organization
B. The list of directors/ partners and their specimens signature
C. Various departments and their functions
D. Extent of authority which can be exercised by each key personnel and
E. Work done at different locations or departments, etc.
Books of account, records, etc
A. List of various books of account maintained by the client
B. Copy of the audited balance sheet of the previous years to ensure that the opening
balance of the current year tally with the closing balances of the last year.
C. Auditor’s report of the previous year
D. Copies of minutes of the resolution passed at the board meeting concerning
accounting matters of the company.
II. Instruction to the client:- After the above knowledge has been acquired, the auditor
will instruct the client to keep all the books of account ready for audit in particular he
should issue clear and precise instructions to his client with regard to the following:-

i. The final accounts:- that is trading and profit and loss account, and the balance sheet
should be kept ready
ii. The cash book and bank pass book should be complete in all respects and duly
balanced
iii. Ledger postings should be complete and all ledgers should be duly balance
iv. The vouchers should be kept serially that arranged date wise.
v. Trial balance should kept ready
vi. The statements/ schedule concerning other financial matters should be prepared
1 Statement of bad/doubtful debts
2 Schedule of debtors and creditors
3 Statement of investment including cost price and market values, etc
4 Statement of outstanding income and expenses
5 Statement of prepaid expenses
6 Stock sheet showing the value of closing stock indicating the method of valuation
of stock
7 A statement showing capital expenditure incurred during the period. Similarly a
list of deferred revenue expenditure should also be enclosed.

4.4 AUDIT PROGRAM

An audit program is a written scheme of the exact details of the work to be done by the
auditor and his staff in connection with a particular audit. Before commencing the audit,
the auditor outlines the whole procedure of the audit from beginning till its compilation,
from the preliminary stage of the audit till the finalization of audit report and his
signatures thereon. Audit program is, therefore, an outline of procedures to be followed in
order to arrive at an opinion concerning the financial statements of a company.

Salient Features of Audit Programme

1. Audit program is a set of procedures to be followed to support an opinion on the
financial statements.
2. The audit program is invariably in black and white
3. It is the auditor’s plan of action
4. It is a scheme according to which the audit work will be distributed among the
audit staff
5. It enables the auditor to delegate work to the audit
6. It enables the auditor to specify the work to be done and the manner in which it
should be completed with in the estimated time
7. It determines the various audit techniques to be adopted and applied for
conducting the audit in efficient and effective manner
Objective of Audit programs
An audit program is designed to accomplish audit objectives with respect to each major
account in the financial statements. These objectives follow directly from management
assertions that are contained in the clients’ financial statement. Recall that these
assertions are:
1. Existence or occurrence
2. completeness
3. rights and obligations
4. valuation or allocation
5. presentation and disclosure
From these assertions, general objectives may be developed for each major types of
balance sheet account, including assets, liabilities, and owner’s equity.

Relationship of financial statement assertions and the audit

Financial statements
(Following GAAP)

Existence or occurrence
Management Rights and obligations
Assertions Completeness
Valuation
Presentation & Disclosure

Audit Designed based on management

Objectives Assertions

Audit Audit program is a detailed list of

Procedures Auditing procedures

Audit Summarized in Audit working papers

Evidence

Audit prepare on
Financial statements
4.5 GENERAL OBJECTIVES OF AUDIT PROGRAMS FOR
ASSET ACCOUNT

The audit program for each financial statement account must be tailored to accomplish
the specific audit objectives for that account. The specific objectives for auditing cash are
not identical to the specific objectives for auditing accounts receivable. For example,
questions about proper net reliable value cause valuation to be bigger concerns for
accounts receivable. How ever, it is useful to realize that each audit program basically the
same general approach to verifying the balance sheet items and related income statement
amounts. To varying degrees, the substance audit program for each asset category will
need to include procedures to address the following general objectives.
Substantive Audit program for Asset Account stated in Terms of General objectives
A. Establish the existence of asset.
B. Establish that the company has rights to the asset.
C. Establish Completeness of recorded assets.
D. Determine the appropriate valuation of the asset.
E. Establish the Clerical accuracy of the under lining records.
F. Determine the appropriate financial statement presentation and discloser of the
assets.
The above objectives for asset accounts include a “clerical accuracy” Objective E.
Clerical accuracy, which is distinct aspect of the completeness, existence, and valuation
assertions, may be considered either separately or as apart of the other objective.

Substantiation of Account Balances

The central purpose of the auditors’ consideration of internal control is to assess control
risk for each major assertion about a financial statement account to determine the nature,
timing, and extent of the audit work necessary to substantive that account.

Existence of Assets
The first step in substantiation the balance of an asset is to verify the existence of the
asset. For assets such as cash on hand, marketable securities and inventories, existence of
the asset usually may be verified by physical observation or inspection and by vouching
from the recorded entry to the documents created when the assets were acquired.

When assets are in the custody of others, such as cash in Bank and inventory on
consignment, the appropriate audit procedure may be direct confirmation with the outside
party. The existence of account receivable normally is verified by confirming with
customers the amounts receivable. To verify the existence of intangibles, the auditors
must gather evidence hat costs have been incurred and that these costs represent probable
future economic benefits.

Rights to the Assets

Usually, the some procedure that verify existence also establish the company’s rights to
the asset. For example, confirming cash balances in bank accounts established existence
of the cash and the company’s ownership rights to that cash. Similarly, inspecting
marketable securities verifies both existence and ownership because the registered
owner’s name usually appears on the face of the security certificate.
With other assets, such as plant and equipment, physical examination establishes
existence but not ownership. Plant and equipment may be rented ordered rather than
owned. To verify the client’s rights to plant assets, the auditors must inspect documentary
evidence such as property tax bills, purchase documents, and deeds(signed agreement,
about the ownership of property).

The client may not hold legal title to all assets that are appropriately included in the
financial statements. Instead, the client may own rights to use the assets conveyed by
contracts, such as leases. The ownership of these rights may be established by reviewing
the underlying contracts.

Establishing Completeness
Effective internal control provides assurance that acquisitions are recorded and helps the
auditors to establish the completeness of recorded assets. When such controls are found
to be ineffective, the scope of substantive tests must be increased, but this is often a
difficult task. When the auditors are testing the completeness of assets, they are looking
for assets that have been acquired but not recorded in the accounting records. Therefore,
analyzing recorded entries in the asset accounts will not be effective for this purpose; the
auditors must take a different approach.
Observation and physical examination are important to testing the completeness of
recorded physical assets.

Valuation of Assets
Determining the proper valuation of assets requires although knowledge of generally
accepted accounting principles (GAAP). The auditor must not only establish that the
accounting method used to value particular assets is generally accepted, they must also
determine that the method of valuation is appropriate in the circumstances. Once the
auditors are satisfied as to the appropriateness of the method, the auditors will perform
procedures to test the accuracy of the client’s application of the method of valuation to
the asset.

Clerical Accuracy of Records

The amount appearing as an asset on a financial statement is almost always the
accumulation of many smaller items. For example, the amount of inventory on a finical
statement might consist of the cost of thousands or, perhaps, hundreds of thousands of
individual products. The auditors must test the clerical accuracy of the underlying records
to determine that they accumulate to the total appearing in the general ledger and
therefore, the amount in the finical statements. The auditors often use their generalized
audit programs to perform these tests of clerical accuracy of the records.

Financial Statement Presentation and Disclosure

Even after all amounts have been substantiated, the auditors must perform procedures to
ensure that the financial statement presentation conforms to the requirements of
authoritative accounting pronouncements and the general principle of adequate
 disclosure. Procedures falling into this category include the review of subsequent events,
search for related party transactions, investigation of loss contingencies, review of
disclosure of such items as accounting polices, leases, compensating balances, and
pledged assets, and consideration of the categories and descriptions used on all of the
financial statements.

Audit Program Design

The above general objectives apply to all types of assets. Audit procedures of for a
particular asset a count must be designed to accomplish the specific audit objectives
regarding that asset. These specific objectives vary with the nature of the asset and the
generally accepted accounting principles that govern its valuation and presentation.

Relationship of Assertions, Objectives, and procedures

Management General Audit Specific Audit objectives for
Assertions Objectives for Asset Account Receivable Example Audit Procedures

Existence or Existence of Assets All receivable exist Conformations a sample of

accordance receivable by direct
communication with debtors
Rights and Right to assets The client has rights to Vouch a sample of recorded
obligations receivable receivable to sales agreements
Completeness Completeness of All receivable are recorded Compare a sample of shipping
assets documents to related sales
invoices
Clerical accuracy of All receivable records are Obtain an aged trial balance of
records accurate and agree with the receivables, test its clerical
general ledger accuracy and reconcile to the
ledger
Valuation or valuation of assets Receivable are presented at Investigate the credit ratings
allocation net realizable values for delinquent and larger
receivable accounts
Presentation Finance statement Receivables are properly Perform procedures to identify
and disclosure presentation of presented in the balance receivables from related
assets sheet, with appropriate parties
disclosures

In designing an audit program for a specific account, the auditors test by developing
general objectives from the financial statement assertions. Then, specific objectives are
developed for the account under audit and, finally, audit procedures are designed to
accomplish each specific audit objective. The above figure provides description of this
process for accounts receivable and illustrates the relationship between management
assertion, audit objectives, and audit procedures.

Contents of Audit Program

It is quite difficult to meantion all the items to be incorporated while drafting an audit
program as it varies from company to company and depends on the type of audit work to
be carried out. A fresh audit program is required for each audit. Generally preparation for
an audit program needs the following information.
1. Name of the company
2. Nature of operations of the company
3. A reviews of the system of internal control
4. Date of commencement of control
5. Tentative period of audit exercise
6. Accounting system followed by the company for recording its financial
transactions
7. Preparation of the audit report
8. Instructions or points of caution as mentioned by previous year’s auditor in his
 audit report
9. Schedule of checking of various subsidiary books including journal proper.
10. Schedule of checking of ledger accounts including income statement and balance
sheet items

Advantages of Audit Program

1. It is one of the basic instruments to train the audit staff and can be used as a guide
for the performance of the audit job.
2. Progress of the work can be examined periodically
3. The auditor can divide the work properly amongst the staff according to their
qualifications and experience
4. Uniformity in the performance of audit work is ensured
5. It serves as a legal proof for the work done as initials of those who have performed
a particular job are to be appointed to it.
6. The responsibility for negligence can be fixed
7. It is helpful in supervising the work of the staff
8. It results in a proper audit routine. It not only saves time but also assures
adherence to the principles of auditing and accounting

3.7 SAMPLING IN AUDITING

Some people argue that to express a proper opinion, an auditor should examine all the
transactions. They feel that an auditor cannot reach valid conclusions unless he has
examined all the transactions. This view, is, however, not correct. An auditor can obtain
sufficient appropriate audit evidence even by performing his audit procedures on a
sampling basis, provided he exercises adequate skill and care. As a matter of fact,
application of sampling in auditing is recognized practice through out the world “The
audit evidence should in total, enable the auditor to form an opinion on the financial
information. In forming such an opinion, the auditor may obtain audit evidence on a
selective basis by way of judgments or statistical sampling procedures”.
Let us now discuss why sampling is recognized as an acceptable auditing practice.

Large Number of Transactions

The number of transaction in modern enterprise is enormous. Take the case of a bank
branch where thousands of transactions may take place everyday if an auditor attempts to
examine each and every transaction, it will be almost impossible for him to complete the
audit with in the stipulated time and cost budget.

Object of an Audit
As we have already seen, the objective of an audit is to enable the auditor to form and
express an opinion on the information under audit. In most auditing situations, the auditor
can draw reasonable conclusions by carrying out a selective examination of transactions,
account balances and internal controls.

Internal Control System

Generally, most of the medium and large-size enterprises have sound systems of internal
control to ensure proper accounting and information processing for example, for routine
payments of chegue, a bank normally has adequate internal controls which minimize the
possibility of frauds and errors. Once the auditor has satisfied himself that the relevant
internal control are actually in force, it would be futile for him to examine 100 percent of
the payments. Similarly, the system of self balancing ledgers and other such systems have
made it unnecessary to check 100 percent of totals. Thus, where the auditor concludes
that the internal control system is effective, he can decide to apply his audit procedures
on a sampling basis.
An auditor can carry out a selective examination by way of
a. test checking (or judgmental sampling) or
b. statistical sampling