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<p>APPENDIX</p> <p>Question 1 What are accounting estimates according to Auditing and Assurance Standards18 (SA 540)? Give examples. (8 Marks) ( PE-II Nov 2004) Answer According to AAS 18 (SA 540), Audit of Accounting Estimates accounting estimate means an approximation of the amount of an item in the absence of a precise means of measurement. Some examples are: (i) Allowances to reduce inventory and accounts receivable to their estimated realizable value. (ii) Provisions to allocate the cost of fixed assets over their estimated useful lives. (iii) Accrued revenue. (iv) Provision for taxation. (v) Insurers liability for outstanding claims. (vi) Provision for loss from a lawsuit. (vii) Losses on construction contract in progress. (viii) Amortisations of certain items like goodwill and deferred revenue expenditure. (ix) Provision to meet warranty claims. (x) Provision for retirement benefits in the financial statements of employers. Question 2 What are the meaning and purposes of Sampling? light of AAS 15 (SA 530), Audit Sampling? (8 Marks)(PE-II May 2006) Explain in the</p> <p> .2</p> <p>Auditing</p> <p>Answer Meaning of Audit Sampling: Audit Sampling means the application of audit procedures to less than 100% of the items within an account balance or class of transaction to enable the auditor to obtain and evaluate audit evidence about some characteristic of the items selected in order to form or assist in forming a conclusion concerning the population. There are two major methods in which the size of the sample and the selection of individual items of the sample are determined. These methods are : (1) judgmental sampling; and (2) statistical sampling. Under Judgmental Sampling the sample size and its composition are determined on the basis of the personal experience and knowledge of the auditor. The judgmental sampling is criticised on the grounds that it is neither objective nor scientific. The expected degree of objective cannot be assured in judgmental sampling because the risk of personal bias in selection of sample items cannot be eliminated. The closeness of the qualities projected by the sample results with that of the whole population cannot be measured because the sample has not been selected in accordance with the mathematically based statistical techniques. However, it may be stated that the auditor with his experience and knowledge of the clients business can evaluate accurately enough the sample findings to make audit decision and the mathematical proof of accuracy in some cases may be a luxury which the auditor cannot afford. In judgmental sampling the auditors opinion determines the sample size but it cannot be measured how far the sample size would fulfill the audit objective. In statistical sampling, the sample results are measurable as to the adequacy and reliability of the audit objectives. Statistical sampling is a method of audit testing which is more scientific than testing based entirely on the auditors own judgment because it involves use of mathematical laws of probability in determining the appropriate sample size in varying circumstances. Statistical sampling has reasonably wide application where a population to be tested consists of a large number of similar items and more in the case of transactions involving compliance testing, debtors confirmation, payroll checking, vouching of invoices and petty cash vouchers. Whatever may be the method, judgmental or statistical sampling, the sample must be representative. This means that it must be closely similar to the whole population although not necessarily exactly the same. The sample must be large enough to provide</p> <p>Appendix</p> <p> .3</p> <p>statistically meaningful results. Question 3 Write a short note on - the Initial Engagements. Marks)( PE-II May 2006) Answer Initial Engagement: As per AAS 22 (SA 510), Initial Engagements Opening Balances, initial audit engagements mean: (i) When the auditor is engaged to carry out the audit of Financial Statements of an entity for the first time; or (ii) When the financial statements of the entity for the preceding period were audited by another auditor. The situation mentioned in (i) above arises when the auditor is appointed to take up the audit for the first-time or no audit was carried out of the financial statements of the entity for the immediately preceding period. The situation mentioned in (ii) above arises whenever there is a change of auditor. For initial audit engagements, the auditor should obtain sufficient appropriate audit evidence that: (a) the closing balances of the preceding period have been correctly brought forward to the current period; and (b) appropriate accounting policies are consistently applied. Question 4 What is meant by external confirmation? Mention four situations where external confirmation may be useful for auditors. (6 Marks)( PE-II Nov 2006) Answer External confirmation: It is the process of obtaining and evaluating audit evidence through a direct communication from a third party, who is not related to the entity in response to a request for information about a particular item affecting assertions made by management in the financial statements. The auditor should determine whether the use of external confirmation is necessary to obtain sufficient appropriate audit evidence to support certain financial statement assertions. Following are examples of situations where external confirmations may be useful. (i) Bank balances and other information from bankers (4</p> <p> .4</p> <p>Auditing</p> <p>(ii) Account receivables balances (iii) (iv) Stock held by third parties Account payable balances.</p> <p>Question 5 How the work of an expert should be evaluated before accepting the same as an Audit evidence? (8 Marks) (PE-II Nov 2006) Answer Using the work of an expert: As per AAS 9 (SA 620), when the auditor intends to use the work of an expert he should evaluate the following before accepting the same as audit evidence: (i) Professional qualification of the expert; (ii) Experience and reputation of expert in related field; (iii) Independence and objectivity of the expert; (iv) The objectives and scope of the experts work; (v) Experts relationship with the client, if any; (vi) The source data used; (vii) Assumptions and method used; (viii) the results of the experts work in the light of auditors overall knowledge of the business and of the result of his audit procedures. Question 6 Write a short note on - Accounting Estimates. II Nov 2006) Answer Accounting Estimates: It means an approximation of the amount of an item in the absence of a precise means of measurement. Accounting estimates are made in conditions of uncertainty and involve the use of judgement. The use of reasonable estimates is an essential part of the preparation of financial statements. An estimation requires revision when the circumstances on which the estimation was based got changed. Estimation of accounting information is the responsibility of the management. The auditor has to asses reasonableness of accounting estimates made by the management. Following are some of the examples of accounting estimates: (4 Marks) (PE-</p> <p>Appendix</p> <p> .5</p> <p>(i) Allowances to reduce inventory and accounts receivables to their estimated realisable value. (ii) Provision to allocate the cost of fixed assets over their estimated useful life i.e. depreciation. (iii) Accrued income. (iv) Provision for taxation. (v) Provision to meet warranty claims. (vi) Provision for retirement benefits in the financial statements of employers. Question 7 Write a short note on - Audit of Incomplete records. (4 Marks) (PE-II Nov 2008) Audit of Incomplete Records: Audit of incomplete Records generally required under two circumstances. (i) When accounts have been maintained on single entry basis or (ii) Accounting record may be destroyed by fire, flood etc. or seized by government authorities. The auditor may be required to follow extensive procedures, which include: (a) obtain list of records available (b) Ensure that management reconstructs/compile records to the extent possible. (c) Perform compliance procedure to assess whether internal control system is in operation. (d) Vouch transactions in books of accounts with appropriate evidence. (e) Examine system of custody of cash receipts, cheque book etc. (f) Conduct surprise verification of cash &amp; inventory. (g) Verify fixed assets by physical verification. (h) Formulate appropriate audit opinion. A disclaimer of opinion may be necessary if any restriction on scope of audit is enforced.</p> <p>1NATUREOF</p> <p>AUDITING</p> <p> .6</p> <p>Auditing</p> <p>Question 1 Comment on the Auditor is entitled to rely on work performed by others. (4 Marks)(Intermediate-May 2000) Answer Relying on work performed by others Context : AAS 1 (SA 200) AAS 1 (SA 200) on, Basic Principles Governing an Audit envisages manifold circumstances when an auditor would have to depend upon the work performed by others. Such other parties may be experts, other auditors including branch auditors or his own assistants. Discussion : Overall Responsibility AAS 1 (SA 200) while laying down Work Performed by Others as one of the basic principle governing an audit makes it clear that in cases where the auditor is required to delegate a part of his work to his assistants or use the work performed by other auditors/experts, he continues to remain responsible for expressing his opinion on the financial statements. Thus, he can rely on work performed by others provided he exercises reasonable skill and care and he has no reason to believe that he should not have so relied. The auditor should carefully direct, supervise and review work delegated to assistants. The auditor should obtain reasonable assurance that work performed by other auditors or experts is adequate for his purpose. Disclosure of Such Reliance In case of statutory assignments, like relying on audit report of branches conducted by other auditors, he should expressly state the fact of such reliance.</p> <p>Appendix</p> <p> .7</p> <p>Question 2 Comment on the An opinion expressed by the auditor is neither an assurance as to the future viability of the enterprise nor the efficiency or effectiveness with which management has conducted the affairs of the enterprise. (6 Marks) (Intermediate-May 2000) Answer Context : AAS 2 (SA 200A) According to AAS 2 (SA 200A) on Objective and Scope of the Audit of Financial Statements states that the objective of an audit of financial statements is to enable an auditor to express an opinion on such financial statements. Further, the AAS states that such an opinion expressed by the auditor is neither an assurance as to the future viability of the enterprise nor the efficiency or effectiveness with which management has conducted affairs of the enterprise. Discussion It is not possible for an auditor to provide absolute assurance in relation to the future viability, efficiency and effectiveness on account of the following: The objective of an audit is to enable an auditor to express his opinion on the financial statements. The auditors opinion helps in determining the true and fair view of the financial statements and the operating results of an enterprise. The objective of the audit process is not to examine transactions from the view points of efficiency, effectiveness or the future viability. The audit process cannot confirm the viability of the operating effectiveness as the subject matter of audit i.e. financial statements itself are outcome of several judgements and accounting estimates on the part of the enterprise. It must also be appreciated that the process of auditing suffers from certain inherent limitations, i.e. the limitation which cannot be overcome irrespective of the nature and extent of audit procedures. It may however be noted that over a period of time, the scope of audit extended quite considerably by inclusion of certain matters of proprietory nature in Section 227(1A) and MAOCARO issued under</p> <p> .8</p> <p>Auditing</p> <p>Section 227(4A) of the Companies Act, 1956 as well as international regulations such as Sarbannes Oxley Compliance. The auditor has been primarily concerned with carrying out what may be termed as verificatory audit. Thus, the auditor did not sit on judgement on management decisions, policies or the commercial prudence of transactions. However, with the introduction of aforesaid provisions, the auditor is required to express opinion on certain aspects of management decisions involving propriety aspects as well.</p> <p>Appendix</p> <p> .9</p> <p>Question 3 What are the basic principles governing an audit as laid down in AAS 1 (SA 200)? (10 Marks)(Intermediate-Nov 2000) Answer Basic Principles Governing an Audit: The Auditing and Assurance Standard 1 (SA 200) on Basic Principles Governing an Audit issued by the Institute of Chartered Accountants of India describes the basic principles which govern the auditors professional responsibilities and which should be complied with whenever an audit of financial information of an entity is carried out. The basic principles as stated in this statement are: (i) Integrity, Objectivity and Independence: The auditor should be straightforward, honest and sincere in his approach to his professional work. He should maintain an impartial attitude and both be and appear to be free of any interest which might be regarded, whatever its actual effect on being incompatible with integrity and objectivity. (ii) Confidentiality: The auditor should respect the confidentiality of information acquired in the course of his work and should not disclose any such information to a third party without specific authority or unless there is a legal or professional duty to disclose. (iii) Skill and Competence: The audit should be performed and the report prepared with due professional care by persons who have adequate training, experience and competence in auditing. (iv) Work Performed by Others: When the auditor delegates work to assistants or uses work performed by other auditors and experts, he will be entitled to rely on work performed by others provided he exercises adequate skill and care and is not aware of any reasons to believe that he should not have so relied. The auditor should carefully direct, supervise and review work delegated to assistants and obtain reasonable assurance that work performed by other auditors or experts is adequate for his purpose since he will continue to be</p> <p> .10 Auditing</p> <p>responsible for forming and expressing his opinion on the financial information. (v) Documentation: The auditor should document matters which are important in providing evidence that the audit was carried in accordance with the basic principles. (vi) Planning: Planning enables the auditor to conduct and effective audit in an efficient and timely manner. Primarily, planning should be based on the knowledge of the clients business. Plans should be further developed and revised as necessary during the course of the audit. (vii) Audit Evidence: The auditor should obtain su...</p>