ZHRC/HTI Financial Management Training

Session 4: Auditing

Learning Objectives

• By the end of this session, participants will be able to:• Define auditing• Describe internal and external audits• Explain the roles and functions of internal

auditors in the ZHRCs/HTIs• Describe internal controls • Describe types of substantive tests for asset

and stores management

What is an Audit?

• An independent examination of records, procedures and activities of an organization, resulting in a report on the findings

Why do Organizations Need an Audit?

• An audit demonstrates a commitment to transparency and accountability and brings credibility to an organization

• In most countries, it is also a legal requirement to have the financial statements reviewed by an independent auditor once a year

Auditing in ZHRCs/HTIs

• Tanzania National Audit Office (NAO) is the responsible organization for auditing the government and all entities

• NAO was established under Article 143 of the Constitution of United Republic of Tanzania (URT)

• Statutory duties and responsibilities of Controller and Auditor General (CAG) are given in Public Finance Act (PFA) No. 6 of 2001 Section 30 (1) and 37 (1). Section 31 (2) d and 33 (i) of the PFA No 6 (2001) empowers the CAG to conduct Value for Money audits in ministries, departments and local government authorities

Legal Framework for Auditing

• Legal and statutory authorities which stipulate the need for ZHRCs/HTIs to have an Internal Audit Function (IAF) are: • Public Finance Act No 6 of 2001• Treasury Financial Memorandum and circulars• The Public Finance Regulations (2001)

Types of Audit

Internal Audit •Main purpose: to evaluate the effectiveness of systems, procedures and internal controls

•Also called Compliance Audit or Operational Audit

External Audit •Main purpose: to verify that the annual financial statements provide a true and fair view of the organization

•Also called Financial Audit

Definition of Internal Audit (1)

• 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 in evaluating and improving effectiveness of risk management, control, and governance processes

Definition of Internal Audit (2)

• Involves a structured review of an organization’s systems and procedures• It reviews the adequacy of the design of financial

controls and processes • Checks whether the procedures and controls are

implemented appropriately • Internal audit report highlights the findings and

makes recommendations for corrective action• Internal audit findings and reports are usually

presented to management and the governing body

Key Issues in the Definition

• The definition points out the following key issues of Internal Audit Function (IAF): • It is an objective activity• It is an assurance and consulting activity• Its scope is not just financial but is concerned

with key issues in control, risk management and governance

Internal Auditing Flow Chart

Roles and Functions of Internal Auditors in ZHRCs/HTIs (1)

• Review and report on controls over revenue, custody of receipts and utilization of financial resources

• Assess compliance with financial and operational policies and procedures

• Review the reliability and integrity of financial and operating data

Roles and Functions of Internal Auditors in ZHRCs/HTIs (2)• Review and report on the systems in place for

the safeguarding assets • Review and report on operations and

programmes of ZHRC/HTI compared with budgets

• Review and report on actions by Heads of Departments (HoDs) on audit reports

• Review and report on controls over computerized operations

Why Internal Controls Interest the Internal Auditor

• Internal audit’s objective is to review the organization's system of internal control and provide assurance to Finance, Administration and Planning Committees and Management

• Therefore, internal auditors have to check: • That controls in place are adequate to guard

against risks • The controls are operating effectively

Categories and Types of Internal Controls

• Preventive Controls• Prevent risks from occurring

• Detective Controls• Detect if problems have occurred

• Corrective Controls• Address problems that have occurred

Characteristics of an Effective Internal Control System• Honest, capable employees in place• A clearly defined formal plan of operation• Separation or segregation of operations

(authorization, custody and recording)• An appropriate system of authorization• Sound accounting practices• Adequate physical controls over assets and

records• Independent checks on performance

Limitations on the Effectiveness of Internal Controls

• Controls will not perform as expected if:• Management sees that cost of implementing a

control is far greater than its benefits (cost versus benefits)

• There is collusion between staff operating separate control functions

• There is human error or carelessness

External Audit: Definition and Purpose

• An external audit is an independent examination of the financial statements prepared by the organization

• Purpose is to verify that:• The annual accounts provide a true

and fair picture of organisation’sfinances

• Use of the funds is in accordancewith organizational aims and objectives

External Audit (1)

• An audit of financial statements• It is the examination by an independent

third party of financial statements of an organization

• It results in the publication of an independent opinion on whether or not those financial statements are relevant, accurate, complete, and fairly presented

External Audit (2)

• An external audit exists to add credibility to financial transactions undertaken by the ZHRCs/HTIs

• It assures stakeholders that the financial statements fairly represent the ZHRC's/HTIs position and performance during a stated period

Appointment of External Audit Firm

• An external audit is conducted by a firm of accountants with recognized professional qualifications

• Auditors are independent of the organization employing them: • An auditor must not be involved in keeping

the accounting records • Not personally connected in any way with the

organization he or she is auditing

What is involved in an External Audit?

• Testing validity of a sample of transactions and results rather than vigorously checking everything

• An auditor’s independence must be respected, but they are nonetheless providing the organization a service for a fee• You have a right to expect value for your

money

External Audit Report (1)

• An audit results in a report which gives an audit opinion as to the true and fair view of the organization reported in financial statements

• If auditors do not agree with the financial results presented by the organization, they may issue a report stating the accounts are not satisfactory

External Audit Report (2)

Types of Audit Opinions1.Unqualified2.Qualified: Subject to 3.Qualified: Disagreement4.Qualified: Disclaimer

How Can Your ZHRC/HTI Receive a Good Audit?

• Evaluation of the ZHRCs/HTIs control systems by using the following objectives:• Completeness - is everything there?• Existence/occurrence - is it real?• Valuation/measurement - is it properly

valued?• Title - does it relate to the ZHRC/HTI?• Disclosure - is it properly described?

Group Work: Types of Audit Opinions

Auditing of Fixed Assets (1)

• Check authorization of purchases with Board minutes and capital expenditure budgets

• Check authorizations for disposal of significant assets

• Confirm existence of a fixed asset register which identifies assets and comments on their current condition

Auditing of Fixed Assets (2)

• Test evidence of reconciliation of register to physical checks of existence and condition of assets

• Check authorization of depreciation rates and changes in rates

• Examine evidence of checking correct calculations of depreciation

Auditing of Stores and Stocks (1)

• Observe physical security of stocks and the environment in which they are held

• Test procedures for recording of stock movement in and out of stock

• Test authorizations for adjustments to stock records

• Test for authorizations for write-off or scraping of stocks

Auditing of Stores and Stocks (2)

• Test controls over recording of stock movement belonging to third parties

• Test procedures for authorization for stock movements

• Check the sequence of dispatch and goods received notes for completeness

• Assess adequacy of stock taking procedures and attend physical count to ensure they are carried out

Auditing of Development Partners Funds in the ZHRCs/HTIs

• Development partners may request an independent external audit of records and activities and will appoint a qualified person to undertake a review

• The primary purpose of such a review is to check that grants are being used as intended and in accordance with the budget in original funding agreement

Group Work: Role of Internal Audit Dept. in

ZHRC/HTI

Key Points (1)

• An audit is an independent examination of records, procedures and activities of an organization, resulting in a report on the findings

• There are two types of audit: internal and external

• The main purpose of an internal audit is to evaluate effectiveness of systems, internal controls and procedures

• The main purpose of an external audit is to verify that financial statements provide a “true and fair” view of the organization

Key Points (2)

• The roles and function of internal auditors in the ZHRCs/HTIs include: • Review controls over revenue, custody of

receipts and utilization of financial resources• Assess compliance with policies and

procedures• Report on the systems for safeguarding of

assets

Key Points (3)

• Audit tests for store inventory include: • Observe physical security of stocks • Test procedures for recording movement in

and out of stock• Test authorization for adjustments to stock

records