Handling an External Audit

1. Introduction

An external audit is an independent examination of the financial statements prepared by the organization. It is usually conducted for statutory purposes (because the law requires it).

An audit results in an audit opinion about whether the financial statements give a ‘true and fair’ view of them:

  • state of affairs of the organization and
  • operations for the period

2. Appointment

An external audit can be conducted either as part of the annual review of accounts or as a special review by a donor agency. It is conducted by a registered firm of accountants with recognized professional qualifications, such as CPA, ACA, or ACCA.

Auditors are appointed by the Board of Trustees (or Annual General Meeting) or by a donor for a special audit. They are independent of the organization engaging them. Being independent means that the auditor must not have been involved in keeping the accounting records and is not personally connected in any way with the organization being audited.

3. Purpose

The purpose of an external audit is to verify that the annual accounts provide a true and fair picture of the organization’s finances; and that the use of funds is in accordance with the aims and objects as outlined in the constitution.

It is not the prime role of the audit to detect fraud, although this may of course come to light during the checks that take place.  Auditors have thus been described as ‘watchdogs not bloodhounds’.

4. What is involved?

Auditors only have a limited time in which to complete their work, so they concentrate on testing the validity of a sample of transactions and results rather than vigorously checking everything.

Although an auditor’s independence must be respected and observed at all times, they are nonetheless providing a service for a fee – you have a right to expect value for money.

The audit should be a positive experience and not one to be feared; it is an opportunity to receive feedback on strengths and weaknesses in systems. Use your auditor to discuss ways of improving your accounting systems and procedures and always encourage the submission of a Management Letter, which summarises findings, highlights weaknesses, and makes recommendations for improvements.

5. The audit report

An audit results in a report which gives an ‘audit opinion’ about whether the financial statements give a ‘true and fair’ view of the state of affairs of the organization and operations for the period.

‘True’ means that the transaction did take place and that an asset exists.

‘Fair’ means that a transaction is fairly valued and that assets and liabilities are fairly stated.

If the auditors do not agree that the accounts give a true and fair view, they can give a variety of other opinions…

 

Auditor Opinion Comment
1 Unqualified

‘The accounts give a true and fair view’

The opinion everyone wants to see
2 Qualified – disagreement

Except for the effects of …., the accounts give a true and fair view’

There are specific misstatements, such as an incorrect accounting policy, debtors which are not recoverable, an undisclosed fraud, or an insider loan.
3 Qualified – limited scope

Except for the possible effects of …., the accounts give a true and fair view

There are specific issues which are uncertain, such as particular documents not being available for review, an internal control flaw that could result in income not being recorded.
4 Adverse

‘These accounts do not give a true and fair view’

There are so many misstatements in the accounts that they are overall wrong.
5 Disclaimer

‘We are not able to express an opinion’

The auditor may only sign his report after the Board has signed and approved the financial statements.

6. What does the auditor need?

An auditor will need a quiet place to work where the checks can take place without interruption. If individual staff members are to be interviewed, then a private room where confidential discussions can take place will also be required. Depending on the type of audit taking place, the auditor will usually give advance notification of the records needed.

Ensure that all the records are up-to-date and properly filed as this will facilitate the routine checks and cause minimal disruption for the organization. This will also help to save on audit fees.

A list of records and other documentation which might be requested by the auditor follows.

 

A.Primary records of account:
  • Bank Book and Petty Cash Book completely up to date to the year-end
  • File of invoices/vouchers for all items of expenditure
  • File or book of receipts for moneys received
  • Bank statements, paying in slips and cheque books
  • Wages book and records
  • General Ledger, if kept
B.Summaries and reconciliation statements
  • A Trial Balance and/or a summary of all receipts and payments by budget category
  • Bank reconciliation statements for all bank accounts at the year-end date
  • Petty cash reconciliation statement at the year-end date
  • Stock sheets
C.Schedules:
  • Schedule of Creditors (money owed by the organization)
  • Schedule of Debtors (money owing to the organization)
  • Schedule of Grants Due
  • Schedule of Grants Received in Advance
  • Fixed Assets Register
D.Other information:
  • A letter from bankers to confirm balances [this will be requested by the auditors themselves]
  • Constitution of the organization
  • List of Committee members and staff
  • Minutes of Board meetings
  • Donor agencies funding agreements and audit requirements