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                                     Compiled by: M. Sathya Kumar




Various forms of audit confirmation
"Audit confirmation is one of the substantive procedures carried
 out by the auditor in his endeavour to lend more credibility to
              the information in his possession."

An auditor has to satisfy himself about the financial statements before
expressing an opinion on such statements.

Gathering of audit evidence, its analysis and evaluation and drawing
conclusions form the crux of auditing. The auditor forms an opinion
based on such conclusions. Several procedures are carried out by the
auditor to gather such audit evidence, which can be classified as
substantive and compliance procedures.

Substantive procedures are those carried out by the auditor so as to
substantiate the transaction. One of the substantive procedures widely
accepted is confirmations.

Audit information

The auditor gathers information which may either be solicited or
unsolicited.

Unsolicited information is by way of newspaper clippings,
advertisements released by the entity, and so on, in general, and draft
accounts, schedules, and so on, in particular.

Solicited information is by way of replies to audit queries, minutes of
meetings, stock statements, returns filed by branches, etc.

Having gathered the information, the auditor should subject the same
to further examination as he deems fit in order to lay the foundation
for drawing conclusions and, thereby, forming opinions.

One such method is confirmation. Audit confirmation is one of the
substantive procedures carried out by the auditor in his endeavour to
lend more credibility to the information in his possession.

The word confirmation in general means reiterating some thing which is
already known. Once confirmed, levels of acceptability and reliability
raises significantly.

What’s to be confirmed?

It is for the auditor to decide, based on his judgment, which of the
information he would like to be confirmed and also the source from
where he can seek such confirmations.

The auditor is guided by the following factors to decide which of the
matters need to be confirmed:

• nature and complexity of the transaction;

• perceptions of the management;

• existence of internal controls in respect of such transactions and their
effectiveness;

• circumstantial evidence in support of the transaction;

• his own past experience with the entity and understanding of the
related circumstances.

Types of confirmations

These confirmations can be either from the management and are,
therefore, internal (on the lines of internal evidence) or from an
external source (external evidence).

Internal confirmations: For certain transactions where there is no
external evidence, the auditor seeks confirmations from internal
sources being the top management and, in some cases, from those
charged with governance. Seeking management representation (AAS
11) is but a procedure to seek internal confirmations from the
management.

Some examples for which internal confirmation is sought are:

a) From those charged with governance: These confirmations such as
the following are generally sought from “those charged with
governance” being heads of departments, executives and from field
officers:

i) Stocks lying in shop floors, stocks out on approval, job works,
consignments, etc.
ii) imprest lying with various departments;
iii) staff advances;
iv) response to letters of weakness;
v) production charts, valuation of work-in-progress, scrap reports;
vi) year-end procedures — provisions, depreciations;
vii) cut-off procedures, cut-off transactions;
viii) investment decisions, etc;

b) From the management: Certain items such as requirements of
compliance are secured from the management directly. Confirmations
in the matters such as the following are to be secured from the
management directly:

a) Changes in accounting policies, if any;
b) opening or closing of any areas of business activity or of branches,
etc.;
c) compliance with law and regulatory authorities;
d) requirements of Section 274(1)(g) regarding Disqualification of
Directors , due to the company has not filed the annual accounts and
annual returns for any continuous three financial years commencing on
and after the first date of April, 1999; or has failed to repay its deposit
or interest thereon on due date or redeem its debentures on done date
or pay dividend and such failure continues for one year or more.
e) proposed dividends;
f) confirmation of certain items of CARO such as physical verification of
fixed assets, verification of stock-in-trade, etc.

External confirmation: The other source of confirmation is external
confirmation. Sources of such confirmations are as follows:

a) bankers (for balances in bank accounts);
b) sundry debtors and creditors (for balances lying with them);
c) stocks lying with others such as consignees, job workers, on
approval;
d) share brokers (for investments held);
e) demat account;
f) lessees for the assets lying with them;
g) lenders for the balances due to them;
h) government agencies such as encumbrance on properties;
i) legal advisors for the likely outcome of suits pending;
j) expert opinions such valuation of assets, legal opinions, etc;
k) tax advisors (if they are a separate firm) for the tax calculations.

In certain cases, the auditor would do well to seek both internal as well
as external confirmations.

While auditing a deposit with bank, the auditor should require the
management to produce in original, the term deposit receipt issued by
the bank. This confirms the balance to the credit of the deposit account
as reflected in the ledger account.

The scepticism of the auditor should work under these circumstances. It
is also possible that the entity provides an indemnity bond to the
institution (stating that the fixed deposit receipt was misplaced) and
withdraws the deposit.

But the original deposit receipt (lying very much with the entity) is
produced in original for verification of the auditor, whereas the fact
remains that the deposit is withdrawn.

To guard from such situations, he should also seek a confirmation from
the bank on the same matter to render the ledger balance more
reliable. The auditor should seek confirmations from both internal as
well as external sources.

AAS 30: Realising the importance of such confirmations, the ICAI has
released an auditing and assurance standard (AAS 30) on audit
confirmations. The AAS does not dwell on internal and external
confirmations, but elaborates on positive and negative confirmations.

Positive and negative confirmations

AAS 30 classifies confirmations as positive and negative. Where the
auditor seeks the respondent to communicate only if he has data
different form the one communicated to him, it is called negative
confirmation. In such a case, the respondent need not communicate if
the balances match with his books. But it is not without its drawbacks.
It is possible that the data available with the respondent is different
from the one sent to him, but he may not have communicated to the
auditor for several reasons, including that he does not bother about
responding. If the auditor does not get a reply from the respondent, it
might lead to misleading conclusions.

If the respondent is required to respond irrespective of the balances
matching, it is a positive confirmation. Whether and to what extent the
respondent replies to the auditor is a debatable point.

Blank confirmations

The auditor might ask the respondent to fill up the information on a
blank format. Such a confirmation is called blank confirmation. This
type of confirmation does not, generally, evoke much response since
considerable work is required to be put in by the respondent. The
respondents might just put away the communication received from the
auditor.

It is a common experience that the postal ballot papers are not taken
seriously by the shareholders, thereby vitiating the very concept and
defeating the purpose of postal ballot scheme.

Drawbacks of such confirmations: Though such confirmations are a
useful tool to the auditor in the process of drawing audit conclusions, he
exercise caution for the following reasons:

The respondent prefers not to respond at all.
The confirmations provided by the other person are not totally
foolproof.
The replies received may not substantiate the evidence already in
possession of the auditor.
The confirmation might be pre-empted.
These confirmations may be tampered by the management.

Precautions to be taken:

The auditor has to be cautious while opting for confirmations.

He should select the person from whom he seeks a confirmation (such
as an expert) very carefully.

He should ensure that the confirmation reaches him directly and not
routed through the client.

The timing of seeking such confirmations would be important. It is
because the confirmation received may lead to further audit procedures
and the audit plan might have to be reworked.

Analysis of confirmations

The auditor should carefully analyse the confirmations so received and
draw conclusions.

He should use his judgment to decide whether and to what extent he
might accept such confirmations.

These confirmations received from a debtor or a creditor merely gives a
confirmation of the balance outstanding but there will be no information
about quality of the account balance.

Risk involved in accepting confirmations: Where the assessed
levels of inherent and control risks are low, the auditor may rely less on
the substantive procedures.

The auditor should use his judgment to decide whether these
confirmations reduce the audit risk to an acceptably low level by
considering the materiality of the account balance and his own
assessment of audit risk.

Source : The Hindu Business Line (Modified)




          sathyaakumar@gmail.com. Contact No.: +919884492226



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