What are the Primary and Secondary Objectives of Auditing?
We know that auditors examine financial information of books of account to determine their accuracy and to submit a report thereon. While carrying out this examination of the various books, relevant documents and evidence, they may come across certain errors and frauds. Despite such a possibility, the detection of errors and fraud is an incidental object of the audit. However, in layman’s terms, people always associate the detection of errors and fraud as the main objective of an auditor which is not true. In this blog post, we have discussed the primary as well as secondary objectives of auditing.
What are the Overall Objectives of Auditing as per SA?
SA 200 titled “Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with Standards on Auditing” specifies that in the conduct of an audit of financial statements, the auditor’s objectives are:
A) To obtain a reasonable assurance that the financial statements are free from misstatements resulting from fraud and errors.
As a result, this will enable the auditor to provide an opinion on whether the financial statements are prepared in conformity with an applicable financial reporting structure in all material respects.
B) To submit a report on the client’s financial statements.
The auditor is required to submit a report and communicate his findings in accordance with the Standards on Auditing (SAs).
Dividing the Objectives of Auditing into Primary and Secondary
If we go in a simpler way, broadly the objectives of auditing are classified into two: Primary objectives and secondary objectives.
Primary Objectives of Auditing
The primary objective of an audit is to establish if the financial statements (Balance Sheet and P/L Account) offer a fair representation of a company’s financial status and financial performance during the period under review.
The Balance Sheet depicts the company’s financial condition on a specific date (for example, the last day of the fiscal year), whereas the Profit and Loss Account depicts the company’s financial performance throughout that time period (i.e., income and expenditure during the whole financial year).
According to Section 143 of the Companies Act 2013, the auditor of a company must indicate if the financial statements truly reflect the state of the company’s affairs at the conclusion of its fiscal year, as well as the profit and loss for the fiscal year.
This opinion by the auditor increases the credibility and reliability of the company’s financial statements.
Thus, the examination of books of account to form an opinion as to the truthfulness of financial statements is the primary objective of the auditor.
At the same time, it is also the duty of the auditor to disclose how far the accounting system adopted in the company is adequate and appropriate for recording the various transactions as well as the weaknesses in the internal control system if any.
Further, to examine the books of account and to report on the financial condition of the business, the auditor should:
- Evaluate the effectiveness of accounting systems and internal control mechanisms operating in the client’s company
- Check whether entries in the books are supported by sufficient and appropriate evidence
- Check that none of the transactions are omitted from being recorded and nothing which is not in the books has found a place in the financial statements
- Ensure that the company complies with its legal requirements and applicable regulations
- Check whether the financial statements are prepared in conformity with the applicable financial reporting standards and sound accounting policies
- Ensure that there is proper classification and disclosure of amounts in the financial statements
Secondary Objectives of Auditing
There is also a secondary objective of auditing which is incidental to the satisfaction of the main objective.
This includes:
1. Detection and prevention of fraud
2. Detection and prevention of errors
The detection of material frauds and errors as an incidental objective of financial auditing flows from the primary objective of establishing whether or not the financial statements present a true and fair view.
An auditor should always bear in mind the possibility of the existence of frauds or errors in the accounts under audit because the existence of them may cause the financial position of the client to be misstated.
Thus, to fulfill the primary objective of expressing an opinion, the auditor is also responsible for detecting frauds and inaccuracies in the client’s books of account and financial records.
In addition, there is another reason why this is called the secondary objective. The detection of frauds and errors is referred to as the secondary objective of auditing because the primary duty for preserving business assets rests with the management.
If the auditor suspects that there are material misstatements or defalcations in the records of the business, he is expected to investigate the matter further by employing various audit procedures to satisfy himself regarding their existence or non-existence. He is also required to report on the existence and severity of such misstatements in his audit report.
Let us look into more detail.
1. Detection and prevention of fraud
Fraud is defined as a deliberate misrepresentation of financial facts with the purpose to deceive. Manipulation of accounts through window dressing or secret reserves, misappropriation of cash, and misappropriation of goods are some instances through which fraud takes place. It can be committed by the top management or by the employees to get money illegally from the organization or the proprietor or to conceal the true financial position from tax authorities, competitors, shareholders, etc.
If it remains undetected, it will distort the opinion of the auditor on the working results of the organization. Hence, it is of utmost importance for the auditor to detect any frauds and prevent them from occurring again.
2. Detection and prevention of errors
Errors are unintended mistakes in financial information that may be caused by ignorance of accounting principles, referred to as errors of principle, or may arise on account of the negligence of accounting personnel, referred to as clerical errors.
Errors of principle
These types of errors may occur if while recording a transaction, the fundamental rules & principles of accounting are not followed correctly. Some instances of such errors include overvaluation of closing stock or wrong allocation of expenditure or receipt between capital and revenue.
Such errors will have no effect on the trial balance but will have an impact on the Profit and Loss Account. These could occur owing to a lack of awareness of sound accounting concepts/conventions, or they can be done on purpose to mislead the accounts. To detect such inaccuracies, the auditor must carefully examine the books of account.
Clerical errors
Such errors may occur as a result of the incorrect posting of entries to the ledger. For example, a clerical error occurs when money received from Microsoft is mistakenly credited to the Siemens account. Even if the account was incorrectly posted, the trial balance will still agree because the amount was posted to the correct side, i.e., credit.
Clerical errors may fall into three types:
- Errors of omission (when the transactions are not recorded in the books of original entry or posted to the ledger)
- Errors of commission (when there is wrong posting either wholly or partially in the books of original entry or ledger accounts or wrong calculations, wrong totalling, wrong balancing of subsidiary books, etc.)
- Compensating errors (when two or more errors are committed in such a way that the result of these errors on the debits and credits is nil)
To read more on the types of errors and their impact on Trial Balance, please refer to this link.
Wrapping up
The primary objective of auditing is to determine and assess the reliability of financial statements and supporting accounting records for a particular financial year. Now, to express an opinion and report on the financial state of the client’s business, the auditor has to review the books of accounts and relevant documents. In that process, he may come across several errors and fraud. This lays down the secondary objective of auditing, i.e., detection of fraud and errors. Unless the auditor takes reasonable steps to detect inaccuracies where situations warrant them, he can’t express his opinion on the truthfulness of financial results.
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