Write short note on Environmental audit (4 marks) (Final Nov 2002)

Answer
Environmental Audit: Environmental reporting deals with the disclosure by an entity of environmentally
related data, regarding environmental risks, environmental impacts, policies, strategies, targets, costs,
liabilities or environmental performance to those who have an interest in such information as an aid to
enabling/enriching their relationship with the reporting entity via either the annual report; a stand-alone
corporate environmental performance report; or some other medium (e.g. staff newsletter, video, CD
ROM, internet site). The reports that are generated after such audits can be either compliance-based
reporting or impact-based performance reporting.
Environmental audit deals with verification of information contained in such reports with
a view to expressing an opinion thereon. Environmental audit can be performed by
external agencies or internal experts (including internal auditors). In practice,
environmental audit is not done by a single agency but by various agencies who are
experts in the field. Since the subject matter of environmental audit involves multi-
disciplinary knowledge and skill, it is preferable to form a team of persons drawn from
different disciplines who may assist the chartered accountant in performing the task in an
effective manner, generally environmental audits are not required by any statute but are
sometimes done at the request of the management to address issues like compliance with
environmental laws and regulations, etc.

What are the key functions of an Energy Auditor? (8 marks) (Final May 2004)
Answer
Key functions of Energy Auditor
Energy auditing is defined as an activity that serves the purposes of assessing energy use pattern of a
factory or energy consuming equipment and identifying energy saving opportunities. In that context,
energy management involves the basis approaches reducing avoidable losses, improving the
effectiveness of energy use, and increasing energy use efficiency. The function of an energy auditor
could be compared with that of a financial auditor. The energy auditor is normally expected to give
recommendations on efficiency improvements leading to monetary benefits and also advise on energy
management issues. Generally, energy auditor for the industry is an external party. The following are
some of the key functions of the energy auditor:
(i) Quantification of energy costs and quantities
(ii) To correlate trends of production or activity to energy cost.
(iii) To devise energy database formats to depict to correct picture – By product, department or
consumer.

(a) Mr. Rahul, a locally based Chartered Accountant, accepted an audit assignment at a fee lower
than that charged by the previous auditor, who was stationed in another town and had to spend a
lot of money on travel for which he did not charge separately. (4 Marks)

Undercutting of fees: The case of Mr. Rahul should be analysed in the light of clause 12 of Part I of
First Schedule to the Chartered Accountants Act, 1949. Clause 12 of the said Schedule deems a
Chartered Accountant in practice to be guilty of professional misconduct “if he accepts a position
as auditor previously held by some other chartered Accountant or a restricted state auditor in

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 such conditions as to constitute undercutting’’. In considering whether variation in fees charged
would constitute undercutting the following factors should be considered:
- the quantum of work;
- incidental and out of pocket expenses and
- other terms of appointment.
Since the previous auditor was stationed in another town and therefore, had to incur higher cost
on account of conveyance, and the previously the fee was decided on a composite basis inclusive
of traveling expenses of the auditor, it cannot be said that Mr. Rahul has accepted an audit
assignment based on under cutting of fees. Accordingly, Clause 12 will not be attracted.

Role of Computer Assisted Audit Techniques in EDP Environment

Computer Assisted Audit Techniques (CAATs) refer to those auditing techniques that take
assistance of a computer for being applied to an audit in a computer environment. The use of
computer-assisted audit techniques may be required because:
(i) the absence of input documents (e.g. order entry in on-line systems), or the generation of
accounting transactions by computer program (e.g. automatic calculation of discounts) may
preclude the auditor from examining documentary evidence;
(ii) the lack of a visible audit trail will preclude the auditor from visually following transactions
through the computerised accounting system; and
(iii) the lack of visible output may necessitate access to data retained on files readable only by
the computer.
The auditor may, however, decide to take advantage of the fact that much of the information is
available in a form, which can be tested electronically. Alternatively, the auditor could be forced to
abandon manual tests because there is no visible audit trail. In either case, the auditor must use
either software or specially prepared audit data to test the inner workings of the company's
system. This is known as auditing 'through the machine'. The methods by which this is done are
known as 'computer assisted audit techniques' (CAATs).
CAATs enable the auditor to save time by examining data stored on computer media rather than
on print-outs or other documents and, in some cases, to conduct tests which cannot be done
manually because there is no visible evidence or audit trail. CAATs can be used for both
compliance and substantive testing.
CAATs may be used in performing various auditing procedures, including:
(i) Tests of details of transactions and balances for example the use of audit software to test all
(or a sample) of the transactions in a computer file.
(ii) Analytical review procedures - for example, the use of audit software to identify unusual
fluctuations of items.
(iii) Compliance test of general EDP controls - for example, the use of test data to test access
procedures to the program libraries.
(iv) Compliance tests of EDP application controls - for example, the use of test data to test the
functioning of a program procedure.
The most common types of CAA Ts used for audit purposes are discussed below:

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 (a) Audit Software: Audit software consists of computer program used by the auditor as a part of
his auditing procedure to process data of audit significance. It may consist of:
(i) Package programs: These are generalised computer programs designed to perform
data processing which includes reading computer files, selecting information,
performing calculations, creating data files and printing reports in a format as specified
by the auditor.
(ii) Purpose written programs: These are computer programs designed to perform audit
tasks is specific circumstances. These programs may be prepared by the auditor, by
the organisation or by an outside programmer engaged by the auditor. In some cases,
the programs existing in the organisation may be used by the auditor in their original or
in a modified state because it may be more economical and effective than developing
independent program.
(iii) Utility programs: These are used by the organisation to perform common data
processing functions, such as sorting, creating and printing files. These programs are
generally not designed for audit purposes and therefore may not contain such features
as automatic record counts or control totals.
(b) Test Data: Test data techniques are used in conducting audit procedures by entering data
into the computer system of the organisation and comparing the results obtained with pre-
determined results. For example:
(i) Test data used to test specific controls in computer programs, such as, on line
password and data access controls.
(ii) Test transactions selected from previously processed transactions preferably historical
data or data treated by the auditor to test specific processing characteristics of the
organisation's computer system. Such transactions are generally processed separately
from the entity's normal processing.
(iii) Test transactions used in an integrated test facility where a 'dummy' unit is established
and to which test transactions are posted during the normal processing.
When test data is processed with the organisation's normal processing the auditor should
ensure that the test transactions are subsequently eliminated from accounting records of the
organisations.

What are the steps to be taken by an auditor for the audit of re-insurance ceded?
(8 Marks)(Final Nov 2005)
Answer
Steps in Audit of Reinsurance ceded:
(i) Evaluate internal control system in the area of reinsurance ceded to ensure determination of
correct amount for reinsurance ceded, proper valuation of assets and liabilities arising out of
reinsurance transaction and adherence to legal provisions and regulations.
(ii) Ascertain whether adequate guidelines and procedures are established with respect to
obtaining reinsurance.
(iii) Reconcile reinsurance underwriting returns received from various units with the figures of
premium, claims paid and outstanding claims for the company as a whole.

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 (iv) Examine whether commission on reinsurance ceded is as per the terms of the agreement
with the re-insurers.
(v) Examine the computation of profit commission for automatic treaty arrangements in the light
of the periodic accounts rendered and in relation to outstanding loss pertaining to the treaty.
(vi) Examine whether loss recoveries have been claimed and accounted on a regular basis.
(vii) Examine whether outstanding losses recoverable have been confirmed by re-insurers.
(viii) Examine whether remittances to foreign re-insurers are as per foreign exchange regulations.
(ix) Examine whether confirmations have been obtained regarding balances with re-insurers.
(x) Review individual accounts of re-insurers to evaluate whether any provision/write off or write
back is required.

Substantive Procedures: AAS- 1 on “Basic Principles Governing an Audit”, lists ‘audit evidence’ as one
of the basic principles governing an audit of financial statements. AAS-1 requires that an auditor
should perform audit procedures, viz., compliance procedures and substantive procedures to obtain
sufficient and appropriate evidence.
As per AAS- 1, substantive procedures are designed to obtain evidence as to the completeness,
accuracy and validity of the data produced by the accounting system. These procedures comprise
tests of details of transactions and balances and analysis of significant ratios and trends including the
resulting investigation of unusual fluctuations and items.
Obtaining audit evidence from substantive procedures is intended to reasonably assure the auditor in
respect of the following assertions:
Existence - that an asset or a liability exists at a given
date.
Rights and Obligations - that an asset is a right of the entity and a
liability is an obligation of the entity at a given
date.
Occurrence - that a transaction or event took place which
pertains to the entity during the relevant
period.

Completeness - that there are no unrecorded assets, liabilities

or transactions.
Valuation - that an asset or liability is recorded at an
appropriate carrying value.
Measurement - that a transaction is recorded in the proper
amount and revenue or expense is allocated
to the proper period.

Presentation and Disclosure - an item is disclosed, classified, and described

in accordance with recognised accounting
polices and practices and relevant statutory

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 requirements, if any.

The extent and nature of substantive procedures to be performed will vary with respect to each of the
above assertions. Obtaining evidence relevant to one of the above assertions will not compensate for
failure to do so with respect to another matter concerning the same item, e.g., existence of inventory
and its valuation.
Substantive procedures are classified in two categories, viz., tests of detail and analytical procedures.
Tests of details involve vouching which primarily deals with transactions and verification normally deals
with balances contained in the balance sheet. By performing analytical procedures which aim at
calculation of ratios, trends, etc. also aim to provide the auditor with substantive evidence to validate
the items contained in financial statements. Such procedures are normally conducted after the auditor
has conducted compliance procedures and will be affected by the following factors:
 Results of the compliance procedures
 Responses to inquiries as to whether the internal system is functioning
 Auditors’ evaluation of the internal control environment, especially supervisory controls
 Nature and amount of the transactions or balances involved