OVERVIEW OF

AUDITING
PrE1-001
 PHILOSOPHY OF AN AUDIT
Dependable financial information is essential to our
society. We often rely upon information provided by
others in making economic decisions. The need of
various users for more reliable financial information
has created a demand for an independent audit of
financial statements.
 PHILOSOPHY OF AN AUDIT
The primary function of an independent audit is to
lend credibility to the financial statements prepared by
an entity. The auditor’s opinion enhances the value
and usefulness of the financial statements. By attaching
a report to the financial statements, the auditor provides
increased assurance to users that the financial statements
are reliable.
 AUDITING DEFINED
The Philippine Standards on Auditing
(PSA) defines auditing by stating the
objective of a financial statement audit, that is,
to enable the auditor to express an opinion
whether the financial statements are prepared,
in all material respects, in accordance with an
identified financial reporting framework.
 AUDITING DEFINED
This definition confines the audit to
examination of the financial statements.
Although the great majority of audit work
today deals with audit of financial statements,
operational and compliance auditing are
becoming more and more important.
 AUDITING DEFINED
A more comprehensive definition of auditing is
given by the American Accounting Association
(AAA):
“An audit is a systematic process of objectively
obtaining and evaluating evidence regarding
assertions about economic actions and events to
ascertain the degree of correspondence between
these assertions and established criteria and
communicating the results to interested users.”
 AUDITING DEFINED
This definition conveys the following
thoughts:

1. Auditing is a systematic process

Auditing proceeds by means of an ordered and
structured series or steps.
 AUDITING DEFINED
2. An audit involves obtaining and
evaluating evidence about assertions
regarding economic actions and events
Assertions are representations made by an
auditee about economic actions and events. The
auditor’s objective is to determine whether these
assertions are valid. To satisfy this objective, the
auditor performs audit procedures and gathers
evidence that corroborates or refutes assertions.
 AUDITING DEFINED
3. An audit is conducted objectively
The auditor should conduct the audit without
bias. Impartial attitude must be maintained by
the auditor when evaluating evidence and
formulating his conclusion.
 AUDITING DEFINED
4. Auditors ascertain the degree of correspondence
between assertions and established criteria
Established criteria are needed to judge the validity of the
assertions. These criteria are important because they
establish and inform the users of the basis against which
the assertions have been evaluated or measured. In an
audit, the auditor determines the degree by which
assertions conform to the established criteria. For
example, when auditing financial statements, the auditor
judges the fair presentation of the financial statements
(assertions) by comparing the statements with an identified
financial reporting framework (criteria).
 AUDITING DEFINED
5. Auditors communicate the audit results
to various interested users
The communication of audit findings is the
ultimate objective of any audit. For the audit
to be useful, the results must be communicated
to interested users on a timely basis.
 MAJOR TYPES OF AUDIT
Based on primary audit objectives, there are three major
types of audit- financial, compliance and
operational audits.
 MAJOR TYPES OF AUDIT
A. Financial Statement Audit
This is an audit conducted to determine whether the
financial statements of an entity are fairly presented in
accordance with an identified financial reporting
framework.
 MAJOR TYPES OF AUDIT
B. Compliance Audit
Compliance audit involves a review of an organization’s
procedures to determine whether the organization has adhered
to specific procedures, rules or regulations. The performance
of compliance audit is dependent upon the existence of
verifiable data and recognized criteria established by an
authoritative body. A common example of this type of audit is
the examination conducted by BIR examiners to determine
whether entities comply with tax rules and regulations.
 MAJOR TYPES OF AUDIT
C. Operational Audit
An operational audit is a study of a specific unit of an
organization for the purpose of measuring its performance.
The main objective of this type of audit is to assess entity’s
performance, identify areas for improvements and make
recommendations to improve performance. This type of
audit is also known as performance audit or management
audit.
 MAJOR TYPES OF AUDIT
It should be noted that, although there are different types of
audit, all audits possess the same general characteristics. They
all involve:
1. Systematic examination and evaluation of evidence which
are undertaken to ascertain whether assertions comply with
established criteria; and
2. Communication of the results of the examination, usually
in a written report, to the party by whom, to the party by whom,
or on whose behalf, the auditor was appointed.
 MAJOR TYPES OF AUDIT
Unlike compliance and financial statements audit, where
the criteria are usually defined, criteria used in
operational audit to evaluate the effectiveness and
efficiency of operations are not clearly established.
 GENERAL TYPES OF AUDIT
I. Independent Financial Statements Audit
Independent audit consist of methodical
review and objective examination of financial
statements prepared by an enterprise (auditee)
to determine if such statements have been
prepared in conformity with financial
reporting practices that are appropriate for the
auditee.
 GENERAL TYPES OF AUDIT
I. Independent Financial Statements Audit
The financial statements are the product and
property of the auditee and the independent
auditor merely audits and expresses an
opinion on them. The expression of the
opinion by the independent auditor is known
as the “attest function”.
 GENERAL TYPES OF AUDIT
I. Independent Financial Statements Audit
Overall Objectives of the Auditor
i. To obtain reasonable assurance about whether the
financial statements as a whole are free from material
misstatement, whether due to fraud or error, thereby
enabling the auditor to express and opinion on whether the
financial statements are prepares, in all material respects, in
accordance with an applicable financial reporting
framework; and
ii. To report on the financial statements, and communicate
as required by the PSAs, in accordance with the auditor’s
findings.
 GENERAL TYPES OF AUDIT
I. Independent Financial Statements Audit
Scope of Independent Audit
The term “scope of an audit” refers to the
audit procedures deemed necessary in the
circumstances to achieve the objective of the
audit.
 GENERAL TYPES OF AUDIT
I. Independent Financial Statements Audit
Scope of Independent Audit
The procedures required to conduct an audit
in accordance with PSAs should be
determined by the auditor having regard to
the requirements of PSAs, relevant
professional bodies, legislation, regulations
and, where appropriate, the terms of the audit
engagement and reporting requirements.
 GENERAL TYPES OF AUDIT
I. Independent Financial Statements Audit
Reasonable Assurance
The auditor’s opinion on the financial statements is not a
guarantee that the financial statements are dependable. An
audit in accordance with PSAs is designed to provide
reasonable assurance that the financial statements taken as
a whole are free from material misstatement. Reasonable
assurance is a concept relating to the accumulation of the
audit evidence necessary for the auditor to conclude that
there are no material misstatements in the financial
statements taken as a whole. Reasonable assurance relates
to the whole audit process.
 INDEPENDENT FINANCIAL STATEMENTS AUDIT

In every audit, there are always inherent limitations that

affect the auditor’s ability to detect material misstatements.
These limitations results from such factor as:
 INDEPENDENT FINANCIAL STATEMENTS AUDIT

*The use of testing/Sampling risk

For practical reasons, auditors do not examine all
evidence available. Many audit conclusions are made by
examining only sample of evidence. Whenever a sample is
taken, there is always a possibility that the auditor’s
conclusion, based on the sample, may be different from the
conclusion that would have been reached if the auditor
examines the entire population.
 INDEPENDENT FINANCIAL STATEMENTS AUDIT

*Error in application of judgment/Non-sampling risk

The work undertaken by the auditor to form an opinion is
permeated by judgment. Human weakness can cause
auditors to commit mistakes in the application of audit
procedures and evaluation of evidence.
 INDEPENDENT FINANCIAL STATEMENTS AUDIT

*Reliance on management’s representation

Some evidence supporting the financial statements must be
obtained by obtaining oral or written representations from
management. For example, it is difficult for the auditor to
determine the proper valuation of accounts receivable without
management’s honest assessment. If the management lacks
integrity, management may provide the auditor with false
representations causing the auditor to rely on unreliable
evidence.
 INDEPENDENT FINANCIAL STATEMENTS AUDIT

*Inherent limitations of the client’s accounting and

internal control systems
Although the auditor performs procedures to detect
material misstatements, when auditing financial
statements, such procedures may not be effective in
detecting misstatements resulting from collusion among
employees or management’s circumvention of internal
control.
 INDEPENDENT FINANCIAL STATEMENTS AUDIT

*Nature of evidence
Evidence obtained by the auditor does not consist of “hard
facts” which prove or disprove the accuracy of the financial
statements. Instead, it comprises pieces of information and
impressions which are gradually accumulated during the
course of an audit and which, when taken together, persuade
the auditor about the fairness of the financial statements.
Thus, audit evidence is generally persuasive rather than
conclusive in nature.
 Responsibility for the Financial Statements

While the auditor is responsible for forming

and expressing an opinion on the financial
statements, the responsibility for preparing
and presenting the financial statements is
that of the management of the entity. The
audit of financial statements does not relieve
management of its responsibilities.
 Responsibility for the Financial Statements

The auditor’s responsibility is to form and

express an opinion on auditee’s financial
statements based on his audit. Hence, it is
management’s responsibility to adopt and
implement adequate accounting and internal
control systems that will help ensure, among
others, the preparation of reliable financial
statements.
 REQUIREMENTS FOR AN EFFECTIVE
FINANCIAL STATEMENTS AUDIT

The following is a comprehensive list of the

relevant qualities an auditor must possess:
i.The auditor must have a thorough
understanding of the entity being audited and
the industry of which it is a part.
ii.The auditor must have a comprehensive
knowledge of Financial Reporting Standards in
order to audit effectively.
 REQUIREMENTS FOR AN EFFECTIVE
FINANCIAL STATEMENTS AUDIT

iii. The auditor must have a solid grasp of the

concepts of internal control and competence
in reviewing and evaluating the client’s
underlying system of internal control.
iv. The auditor must also be knowledgeable in
the area of evidence gathering and evaluation.
 GENERAL PRINCIPLES GOVERNING THE
AUDIT OF FINANCIAL STATEMENTS

1. The auditor should comply with the “Code of Professional

Ethics for Certified Public Accountants” promulgated by
the Board of Accountancy (BOA).
2. The auditor should conduct an audit in accordance with
Philippine Standards of Auditing
3. 3. The auditor should plan and perform the audit with an
attitude of professional skepticism recognizing that
circumstances may exist which may cause the financial
statements to be materially misstated.
 Need for an independent financial statement
audit

1. Conflict of interest between management and users

of financial statements
2. Expertise
3. Remoteness
4. Financial consequences
 Theoretical framework of
Auditing
The audit function operates within a theoretical framework. Below
are selected postulates, assumptions or ideas that support many
auditing concepts and standards.
 Audit function operates on the assumption that all
financial data are verifiable.
 The auditor should always maintain independence with
respect to the financial statements.
 Theoretical framework of
Auditing

 There should be no long-term conflict between the

auditor and the client management.
 Effective internal control system reduces the possibility
of errors and fraud affecting financial statements.
 Consistent application of generally accepted accounting
principles (GAAP) or the Philippine Financial Report
Standards (PRFS) results in fair presentation of financial
statements.
 Theoretical framework of
Auditing

 What was held true in the past will continue to hold true
in the future in the absence of known conditions to the
contrary.
 An audit benefits the public.
 GENERAL TYPES OF AUDIT
II. Internal Audit
Internal Auditing is an independent, objective
assurance and consulting activity designed to
add value and improve an organization’s
operations. It helps an organization accomplish
its objectives by bringing a systematic,
disciplined approach to evaluate and improve
the effectiveness of risk management, control
and government processes.
 GENERAL TYPES OF AUDIT
II. Internal Audit
Objective and Scope
The objective of internal auditing is to assist all members
of management in the effective discharge of their
responsibilities, by furnishing them with analyses,
appraisals, recommendations, and pertinent comments
concerning the activities reviewed. The internal auditor is
concerned with any phase of business activity where he or
she can be of service to management. This involves going
beyond the accounting and financial records to obtain a
full understanding of the operations under review.
 GENERAL TYPES OF AUDIT
II. Internal Audit
Responsibility and Authority
The internal auditor’s responsibilities should be:
* To inform and advise management and to
discharge this responsibility in a manner that is
consistent with the Code of Ethics of the Internal
Auditors.
* To coordinate activities with others so as to best
achieve audit objectives and the objectives of the
organization.
 INTERNAL AUDITING APPROACH AND
TECHNIQUES

Internal auditing is oriented towards activities

and programs. Three distinct types of internal
auditing can be identified, each possessing
unique characteristics. These three types of
internal auditing are as follows:
 INTERNAL AUDITING APPROACH AND
TECHNIQUES

1. Operational Audit- evaluation of the

management of operational activities
controlled by top-, middle- and lower-level
management for the purpose of improving
organizational profitability and increasing the
attainment of the other organizational
objectives.
 INTERNAL AUDITING APPROACH AND
TECHNIQUES

2. Management Audit- evaluation of the

activities of all levels of management for the
purpose of improving organizational
profitability and increasing the attainment of
other organizational objectives.
 INTERNAL AUDITING APPROACH AND
TECHNIQUES

3. Financial Audit- historically oriented,

independent evaluation for the purpose of
ensuring the fairness, accuracy, and reliability
of the financial data.
 GENERAL TYPES OF AUDIT
III. Government Audit
Government auditing involves the determination
of whether government funds are being handled
properly and in compliance with existing laws and
whether the programs are being conducted
efficiently and economically. Recognizing the
need for independence, governments have
developed internal audit staffs (Commission on
Audit) which report to the highest practicable
official within their governmental bodies.
 GENERAL TYPES OF AUDIT
III. Government Audit
SCOPE OF GOVERNMENT AUDITING

i. Financial and Compliance Audit

Determines whether financial operations are
properly conducted, the financial reports of an
audited entity are presented fairly, and the
entity has complied with applicable laws and
regulations.
 GENERAL TYPES OF AUDIT
III. Government Audit
SCOPE OF GOVERNMENT AUDITING

ii. Economy and Efficiency Audit

Determines whether the entity is managing and
utilizing its resources economically and efficiently,
the causes of inefficiencies or uneconomical
practices and whether the entity has complied with
laws and regulations concerning matters of
economy and efficiency.
 GENERAL TYPES OF AUDIT
III. Government Audit
SCOPE OF GOVERNMENT AUDITING

iii. Program Results

Determines if the desired results and benefits are
being achieved, if the objectives established by the
legislative or other authorizing body are being met
and if the agency has considered alternatives
which might yield results at a lower cost.
 GENERAL TYPES OF AUDIT
IV. Special Audits: Other Audits or
Limited Assurance Engagements
There are other types of audit services that fall
within the auditing standards but not audits of
historical financial statements in accordance
with PFRS. Some of the more important of
these services include:
 GENERAL TYPES OF AUDIT
IV. Special Audits: Other Audits or Limited
Assurance Engagements
a) Audits of financial statements prepared on other
comprehensive basis of accounting;
b) Audits of specified elements, accounts or items in
a financial statement;
c) Audits of information accompanying the basic
financial statements;
d) Compliance with contractual agreements; and
e) Summarized financial statements
 TYPES OF
AUDITORS
Auditors can be classified according to their affiliation
with the entity being examined.
 External Auditors
These are independent CPAs who offer their professional
services to different clients on a contractual basis. External
auditors are the ones who generally perform independent
financial statement audits.
 TYPES OF
AUDITORS
 Internal Auditors
Internal auditors are entity’s own employees who
investigate and appraise the effectiveness and efficiency of
operations and internal controls. The main function of
internal auditors is to assist the members of the
organization in the effective discharge of their
responsibilities. Internal auditors usually perform
operational audits.
 TYPES OF
AUDITORS
 Government Auditors
These are government employees whose main concern is to
determine whether persons or entities comply with
government laws and regulations. Government auditors
usually conduct compliance audit.