KC Lim & Associates Audit Procedures

2 AUDIT

2.1 Introduction

Annual statutory audit of companies and other entities (e.g. solicitors, charities etc) are common type of work undertaken by the firm. Some common procedures, which form the foundation for the work is essential both to control risks and to improve efficiency.

2.1.1 Aims

It is important to consider the aim of this category of work in order to control it adequately and reduce any risks inherent in it.

The intention when carrying out this type of work is to express our opinion on the financial statements and also on whether proper maintenance of statutory records and/or books required to be kept by the Companies Act, 1965.

2.1.2 Risk areas

The major risk is that we express an inappropriate opinion on the financial statements for example, the financial statements contain errors that are or with omissions that are material but we issued a “clean” or “unqualified” report. Materiality in the context of audit is based upon the principle where true and fair view of the subject of audit is used as the benchmark against which materiality is judged.

Such risk of us issue our auditors’ report with incorrect opinion can be managed by:-

1. Ensure the staff in charge of audit have the required experience i.e. competence to carry out such assignment and have gained a proper understanding of the client’s business and significant events occurred during and after the year end
2. Appropriate review processes in place; and
3. Obtain proper declarations from the client.

2.1.3 Terms of engagement

Use of letter of engagement that sets out the terms and conditions of work is an important step in reducing risk. It is also the indication that all parties understand what is covered and the respective responsibilities of each party, both the client and the firm.

Letter of engagement should be reviewed at least annually to ensure that all the terms and conditions set forth in the letter are still valid and whether additional terms are required. The ideal time to do this would be during the meeting with the client to discuss and finalise current year audit. This is the right time to formalise following year’s engagement terms as most client is more receptive to discuss and finalise terms of next year’s work while approving current year’s audit.

2.1.4      Objectivity, independence and interaction with other services

A1.1.3 Audit Assignment Acceptance and Continuance Form.doc

Common entities that require audit include small private companies and listed companies. Our firm does not meet the requirements to audit a listed entity as our firm is not registered with the Audit Oversight Board. For private companies, the accounts prepared are subject to annual statutory audit because of legal requirements (Companies Act 1965 and Income Tax Act 1967), and some of the unincorporated entities that are subject to audit, such as a charity or Friendly Society, due the requirements of law or their own constitution (e.g. Cooperative Societies Act, Articles of Association etc.) or voluntarily.

Where our firm has produced accounts that we are also to audit, careful consideration needs to be given to Ethical Standards to ensure that the firm is in the position to perform the audit and, where applicable, appropriate safeguards have been put in place.

The SP must be made aware of all non-audit services at the beginning of the audit period so that auditor independence can be reviewed and protected. In some cases, firms will have to decide whether they wish to continue to provide non-audit services or perform the audit.

In the event of an existing audit client requesting accounts preparation services for the first time, again this must be cleared through the SP before any work can commence. Conversely, careful consideration and planning will be needed where a previously non-audit client will be coming into audit.

The assignment acceptance form (see A1.1.3) should be completed prior to commencing all jobs to evidence the firm’s consideration of the objectivity and independence ethical issues and their eligibility to perform the work.

2.2 Planning and control

Planning for all companies, including dormant and or inactive companies must be done. Planning for pre-final audit must also be done.

2.2.1 Client Background Information Sheet

Prepare or update the client background information sheet (please refer to A2.18 Background Information.doc) and make sure it is filed in PAF.

2.2.2 Audit Planning Memorandum

Audit planning memorandum (two types i.e. dormant/semi-dormant company and active company)

• Principal activities and history must be checked and confirmed with appropriate staff level of client. Check consistency of descriptions with that disclosed in the latest annual return. DO NOT SIMPLY COPY FROM PREVIOUS YEAR’S AUDITED FINANCIAL STATEMENTS AND ASSUME NO CHANGES. Take note that no change in principal activities or changes (e.g. extension into new field, new work or new activities) will set forth our general audit direction as to the type of revenue and costs and or expenditure expected to have been reflected in the financial statements of the client, in the course of our audit.
• Note major products and/or services, major customers and major suppliers. Take note that these are the matters/items that we expect to note and see in the course of audit. Investigate if matters/items are not noted in the course of our audit.
• A list of analysis, detailed breakdown or reports that we require the client to prepare and provided to us must be prepared and handed over to the client as early as possible, preferably before commencement of audit fieldwork. (Please refer to Appendix 2)
• Note any reporting issues including but not limited to the following:-
  • Going concern (capital deficiency, net current liabilities position)
  • Indication of impairment of significant/material assets
  • Compliance with other law and/or reporting to any other government agencies e.g. housing development act, co-operative societies act etc.
  • Adoption of new accounting standards during the year.
  • Indication of allowance for doubtful debts, diminution in value of investments, allowance for slow-moving and/or obsolete inventories for material items

2.2.3 Letters/confirmations to be sent

• Bank confirmations (different letters for fixed deposits and hire purchase confirmations).
• Solicitors’ confirmations.
• Directors’ interest in shares of the Company and related corporations confirmation to Company Secretary (consult Supervisor if you are not certain as to whether to send this)
• Debtors and creditors confirmations
• Group audit instructions and audit questionnaires to auditors of subsidiary/associated/joint venture companies audited by other audit firms.

2.2.4 Issues/matters highlighted in previous year’s audit

• Some issues/matters arose in previous year’s audit may still be applicable this year. Refer to the following documents for these issues/matters and ensure audit steps are formulated to address these in this year audit:
• Summary of audit findings
• Signed audited financial statements
• Letter of representation
• Management letter
• List of outstanding matters
• Review points/review queries

2.2.5 Management accounts

Balance sheet and detailed income statement with analysis of variance (both in amount and %). Discuss with supervisor as to items to be investigated for significant fluctuations and setting of appropriate materiality level. If unsure, discuss with manager.

2.2.6 Group audit if we are principal auditors

2.2.7 Group audit if we are not principal auditors

2.2.8 Check outstanding bills

• Check as to whether the client has outstanding fee owing to our organisation. Seek clearance to commence audit if there is outstanding balances.

2.2.9 Use Audit Progress Report

Audit Progress Report (Please refer to Appendix 3)

• Indicate audit to be conducted in-house or at client’s premise
• Name of staff in charge of audit and other team members with position clearly indicated. All staff to sign off.
• Date accounts ready for audit must be indicated. (to be signed off by job planner as confirmation)
• Date of commencement of fieldwork must be indicated
  • Date file expected to be submitted to supervisor for review must be indicated (to be signed off by job planner as confirmation). This must be done at audit planning stage.
  • Extension of date No. 1 (to complete Extension of Deadline Form)
  • Extension of date No.2 (to complete Extension of Deadline Form)
  • To add further extensions as necessary
  • Indicate actual date of file submitted
• Date file expected to be submitted to manager for review must be indicated (to be signed off by manager as approval). To be done when file is submitted to supervisor for review.
  • Extension of date No. 1 (to complete Extension of Deadline Form)
  • Extension of date No.2 (to complete Extension of Deadline Form)
  • To add further extensions as necessary
  • Indicate actual date of file submitted

2.3.1 Statutory Records Audit

2.3.1.1 Experience staff to conduct statutory records audit

To be carried out by experienced staff. A senior must guide new staff when carry out work.

2.3.1.2 Use audit program

Audit program must be completed and signed off and handed over to Supervisor(s) in charge together with work papers.

2.3.1.3 Use of appropriate audit ticks

Summary of directors, directors’ shareholdings, members & etc must be indicated with audit tick representing agreement to the respective register books.

2.3.1.4 Inspection of annual return

Inspect copy of annual return to ensure lodgement is up to date and review the information reflected in the latest annual return for overall accuracy of information including:

• Evidence of lodgement
• The return is properly signed
• address of registered office (check to disclosure in audited financial statements)
• address of principal place of business (check to disclosure in audited financial statements)
• descriptions of principal nature of business (check to disclosure in audited financial statements)
• summary of share capital and shares (check to disclosure in audited financial statements)
• Particulars of indebtedness (check to register of charges/mortgages)
• Particulars of directors, managers, secretaries and auditors and list of shareholders (check to the respective register books ENSURE DETAILS OF OUR FIRM AS AUDITORS ARE CORRECT)
• Any discrepancies or findings must be investigated, followed up and discharged satisfactorily and also reported to the respective Supervisor(s) in charged. Notify the Company Secretary accordingly. Take note that the information reflected on the annual return is as at the date of the return.

2.3.1.5 Inspection of register of charges/mortgages

If there are charges/mortgages, to obtain/extract information from the register. Indicate that information agrees to the register.

2.3.1.6 Minutes of meetings and resolutions

Only minutes of meetings and resolutions need to be photocopied. Letters, notices and attendance list are not required. It is important to note that the minutes/resolutions must be from the beginning of the financial year up to the day the statutory audit was carried out. Inquire the Company Secretary as to any minutes of meetings and resolutions that are in draft stage, obtain a copy and follow up with signed copies.

Any unsigned minutes or matters not updated in the registers noted are to be informed to the Company Secretary immediately and to be followed up for proper update in the respective statutory register books or records. This is important of our audit as it covers us expressing an opinion on proper keeping of statutory registers, books and records.

2.3.2 Execution of audit

2.3.2.1 Commencement of Audit Fieldwork

1. Obtain client’s management accounts and trial balance. Perform casting check n the figures reflected on the management accounts and the trial balance (Please refer to Appendix 4 for sample of Trial Balance).
2. Agree accounts shown in trial balance to the closing balances of the respective general ledger account listing
3. Agree the opening balances of general ledger account s to ensure prior year audit adjustments have been recorded correctly.
4. Agree trial balance items to the lead schedules to ensure that all accounts in the general ledger have been covered.

2.3.2.2 Lead Schedules

i. Prepare one lead schedule for balance sheet and one lead schedule for income statement in the format shown in Appendix 5 (Balance Sheet Lead Schedule) and Appendix 6 (Income Statement Lead Schedule) and perform variance analysis by investigating the variances with significant amount and significant %. Indicate the basis of selecting items e.g. variance > RM10,000 and > 10%.

ii. A lead schedule is required for every balance sheet caption. Ensure total is crossed referenced to the one lead schedule for balance sheet. (Please refer to Appendix 7)

2.3.2.3 Supporting Schedules

(Please refer to Appendix 8)

Supporting schedules must be prepared for each balance sheet and item that is selected for audit testing. Supporting schedules must also be prepared for the following items:

1. Sales
   • Monthly breakdown of sales (source: sales account in the general ledger). To obtain additional sales report e.g. sales by product, project, geographical area, branch as relevant to the business nature of the client.
   • Major sales cut-off
2. Cost of sales/Direct costs
   • Breakdown of cost of sales/direct costs into e.g. purchases, import duty, carriage/transportation inwards & etc. For each significant category of cost of sales/direct costs, prepare monthly breakdown. To obtain additional costs report e.g. by product, project, geographical area, branch as relevant to the business nature of the client.
   • Major purchases/direct costs cut-off
3. Gross profit margin
   • For gross profit margin analysis, priority is to inquire as to client’s readily available report before requesting client to prepare the analysis manually. For example, If general ledger has segregation of sales and cost of sales by product, then perform GP analysis by product. Take note that the following reasons for changes in GP% IS NOT ACCEPTABLE:-
   • i.      “Increase in GP% during the year is due to increase in sales”. Increase in volume of sales can never affect the GP% mathematically!
   • ii.      “Increase in GP% during the year is due to increase in demand of the product”. This is similar to increase in the volume of sales in i. Above!
   • iii.      “Increase in GP% during the year is due to increase in closing inventories”. Closing inventories should be analysed in the context of inventories turnover as a priority before concluding how this could affect GP%.
4. Directors’ remuneration
   • Breakdown of directors’ remuneration by name of directors showing the gross salary, fee, allowance, commission, EPF and SOCSO.
5. Staff costs and number of employees at the end of financial year
   • Breakdown of staff costs must be prepared showing the components of staff costs e.g. departmental breakdown into salary, allowance, overtime, commission, incentive, bonus, EPF, SOSSO and etc. Number of employees by department should also be prepared and confirmed this with the client and counter check to Borang A used for submission of EPF.
6. EPF reasonableness test
   • Must first identify the staff costs (e.g. salary, bonus, commission) that are subject to EPF. Then perform calculation as below:
     • [EPF / staff costs that are subject to EPF] x 100
     • The result expected is 12% (employer’s portion of EPF) or close approximates.

2.3.2.4 Adjustments

Classify all adjustments into the following category:-

1. Client late adjustments – CJEs
2. Client late reclassification adjustments – CRJEs
3. Reclassification adjustments – RJEs
4. Our audit adjustments – AJEs

All CJEs and CRJEs MUST BE SUPPORTED by signed journal vouchers from the client together with supporting documents and supporting workings.

2.3.2.5 Audit ticks/Work done

The following must be indicated clearly on work papers on audit work carried out:-

1. Basis of selection
   • Example:
     • i. Items > RM10,000; plus
     • ii. first item of each block of 10 items
2. Work done
   • Example:
     • “i. agreed to invoices
     • ii. checked for subsequent receipts
     • iii. confirmation sent”
3. Coverage
   • Example:
     • “50%”
4. Conclusion
   • Example:
     • Scenario 1: If satisfactory outcome, indicate “satisfactory”, “balance is fairly stated” or “no exceptions noted” as appropriate.
     • Scenario 2: If there are exceptions noted, indicate “Please refer to WP reference for exceptions noted”. Make sure this is highlighted in summary of audit findings as well.

Example of audit ticks which represent the respective work done:

	Work done	Ticks
1	Agreed closing balances of trial balance to general ledger	β
2	Agreed opening balances to previous year’s CAF and audited financial statements	Oβ
3	Calculation/computation checked	√c
4	Casting and cross casting	√
5	Confirmation sent	C
6	Agreed to supplier statement	S
7	Agreed to bank statement	bs
8	Agreed to cash book	cb
9	Agree to invoices	i
10	Agreed to official receipt	OR
11	Agreed to payment voucher	PV
12	Agreed to journal voucher	JV
13	Agreed to delivery order	DO
14	Agreed to goods received note	GRN

No explanation is required for the use of the above common audit ticks. A legend (explanation of audit ticks) is required for the use of any other audit ticks.

2.3.2.6 Cross referencing

All supporting documents must be cross referenced to the lead and vice versa. Cross referencing is a two way affair.

2.3.2.7 Audit programs

• To be used as the guide to carry out the relevant audit steps during audit fieldwork. Therefore, to be completed IMMEDIATELY the steps have been performed during audit fieldwork, NOT AFTER the completion of audit fieldwork.
• To be filed before the lead schedule of each section
• Conclusion on the audit of each section must be indicated on the audit programmes. Ensure all audit programmes are signed off by the respective staff conducting the audit before submitting file to the supervisors for review.
• Supervisors must sign off all audit programmes after review same for managers

2.3.2.8 Draft accounts

When preparing draft accounts, all figures are to be agreed to the lead schedules and are indicated with the appropriate cross referencing.

Please take note that the general rule is that all disclosure on the draft accounts must have the respective work papers as support. The common omission of work papers in this respect are:-

• Descriptions of terms of borrowings (repayment period, interest and securities)
• Descriptions that the respective asset caption (fixed deposit, land and building) have been pledged to bank for banking facilities.
• Descriptions of the carrying value of assets that are under hire purchase financing.
• Descriptions of capital commitments and contingent liabilities
• Components of staff costs (EPF is a mandatory disclosure) and number of employee as at the end of the financial year.
• Credit period for trade receivables and trade payables

Any changes in wordings, additional disclosures, deletions as compared to previous year’s signed accounts must be indicated clearly on the draft accounts

Draft accounts for review are to be prepared as follows:-

1^st draft

–     Prepared by staff in charge and for supervisors’ review and subsequently for manager’s review. All amended pages to be stapled together indicated with date and filed in CAF, DO NOT DISCARD these.

2^nd draft

–     After manager’s review and for partner’s review. All amended pages to be stapled together indicated with date and filed in CAF, DO NOT DISCARD these.

Final draft

–           After partner’s review and for forwarding to clients for comments

Master copy

–     To be printed only when the final draft has been approved (initialled by partner)

Checking copy

–     To be prepared before arranging for the master copy of the accounts photocopied for signing

The following are to be carried out and on the 1^st draft:

• Casting checked AND checking of wordings of each paragraph, year end, directors’ names, company number, page number
• Check that the figures reflected on the balance sheet agreed to the lead schedules (indicate work paper reference)
• Check that the figures reflected on the income statement agreed to the lead schedules (indicate work paper reference)
• Check that the respective figures and descriptions of notes agreed to the lead schedules (indicate work paper reference)

Review stamp must be affixed on the front page of 1^st draft, 2^nd draft and final draft.

Major queries need to be cleared with the manager/partner and approval must be obtained from the manager/partner before sending draft accounts to the client.

2.4 Completion of audit

Audit has to be completed within the time cost budget estimated at the audit planning stage. Matters that causing a prolong time frame of audit must be highlighted to the Supervisor/Manager/SP in the Audit Progress Report and be approved for extension of time required to complete the audit. Should the matters causing the prolong time frame required to complete audit arose from client e.g. change of accounts personnel and resulted in unusual high numbers of adjustments & etc., we should request for a justifiable fee increase.

Problems/issues/exceptions encountered by audit fieldwork staff in the course of audit should be reported to the Supervisor/Manager/SP immediately so that they could be dealt with appropriately. Such problems/issues/exceptions need to be evaluated as to their effects so that all necessary changes to the Audit Plan including modification to audit steps, increase and/or change in criteria of samples selection, discovery of new risk area or reassessment of existing risk profile, extension of time etc could be made and executed accordingly.

2.4.1          Completion of audit files before submission for review

Completed current year audit file (“CAF”) together with the previous year’s CAF and updated permanent audit file (“PAF”) are to be submitted to the Supervisor/Manager/SP for review. Ensure the following are done before submitting the three files to the Supervisor/Manager/SP for review:-

First Review

CAF

1. Compliance statement
   • Duly completed, cross referenced to the respective work papers, signed off and dated.
2. Audit Planning and Audit Strategy
   • Ensure completed copy and approved by Supervisor/Manager/Partner is in the file
3. Draft accounts
   • Properly checked and referenced 1st draft accounts. (Please refer to 2.3.2.8)
4. Audit Progress Report
   • Approved and updated copy is in the file
5. Trial balance
   • Cross-referenced to the respective sections
6. Draft bill
   • Checked and casted
7. Draft management letter, if any
   • Checked and cross-referenced accordingly. Ensure workings and documents that are relevant to support the points raised are indexed, cross-referenced properly.
8. Draft client representation letter
   • Checked and cross-referenced accordingly.
9. Confirmation letters/certificate/forms that require client’s approval and signing
   • a.            Directors’ remuneration and interest in shares
   • b.            Directors’ balance confirmation
   • c.             Letter of financial support
   • d.            Cash certificate
   • e.            Inventories certificate
   • f.             Bad debts and allowance for doubtful debts certificate
   • g.            Status of project confirmation certificate
   • h.            List of adjustments
   • Ensure the draft copies of these documents are checked and cross-referenced properly.

PAF

1. Appendix 7 – New Client Checklist
   • Approved Appendix 7 – New Client Checklist is filed if this is new client.
2. Appendix 8 – Client Re-appointment Review Checklist
   • Approved Appendix 8 – Client Re-appointment Review Checklist if this is in respect of re-appointment.
3. Draft accounts
   • Properly checked and referenced 1st draft accounts. (Please refer to 2.3.8)
4. Audit Progress Report
   • Approved and updated copy is in the file
5. Trial balance
   • Cross-referenced to the respective sections
6. Draft bill