ALLAMA IQBAL OPEN UNIVERSITY ISLAMABAD

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Semester: Autumn 2023

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Assignment no: 02

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Course Code: 5417

 Assignment-02

Q.1 What is verification? Explain the importance of

verification in audit and its basic techniques. (20)

ANSWER: Verification :

Verification in auditing refers to the process of confirming

the accuracy, validity, and completeness of information
presented in an organization's financial statements or
records. The objective of verification is to provide assurance
to stakeholders that the financial information is reliable, free
from material misstatement, and in accordance with
applicable accounting standards and regulations. Verification
involves examining supporting evidence, such as documents,
records, and transactions, to validate the assertions made by
management in the financial statements.

Importance of Verification in Audit :

1. Ensuring Accuracy and Reliability : Verification helps

auditors ensure the accuracy and reliability of financial
information presented in the organization's financial
statements. By independently verifying the information
through examination of supporting evidence, auditors can
provide stakeholders with confidence in the integrity and
accuracy of the financial reporting process.
2. Detecting Errors and Fraud : Verification plays a crucial
role in detecting errors, irregularities, or fraudulent activities
in the financial statements. By scrutinizing transactions and
documentation, auditors can identify discrepancies,
inconsistencies, or deviations from established policies and
procedures that may indicate potential errors or fraudulent
behavior.

3. Enhancing Credibility and Transparency : Verification

enhances the credibility and transparency of financial
reporting by providing independent assurance that the
financial information is free from material misstatement.
Stakeholders, such as investors, creditors, regulators, and the
public, rely on auditors to verify the accuracy and
completeness of financial information, thereby promoting
trust and confidence in the organization's operations and
performance.

4. Facilitating Informed Decision-Making : Verification

enables stakeholders to make informed decisions based on
reliable and accurate financial information. By verifying the
completeness and accuracy of financial data, auditors help
stakeholders assess the organization's financial position,
performance, and prospects, allowing them to make sound
investment, lending, and business decisions.

5. Compliance with Legal and Regulatory Requirements :

Verification ensures that the organization's financial
statements comply with relevant legal and regulatory
requirements, such as accounting standards, tax laws, and
corporate governance guidelines. Auditors verify compliance
with these requirements by examining financial records,
disclosures, and transactions to ensure adherence to
applicable laws and regulations.

Basic Techniques of Verification :

1. Examination of Documents : Auditors examine

supporting documents, such as invoices, contracts,
agreements, bank statements, receipts, and vouchers, to
verify the accuracy, authenticity, and validity of transactions
recorded in the financial statements.

2. Confirmation : Auditors obtain direct confirmation from

external parties, such as customers, suppliers, banks, and
creditors, regarding the accuracy and completeness of
specific transactions or balances. Confirmation responses
provide independent and reliable evidence to support the
assertions made in the financial statements.

3. Physical Inspection : Auditors physically inspect assets,

inventory, and other tangible items to verify their existence,
condition, and valuation as reported in the financial
statements. Physical inspection ensures that assets are
properly accounted for and accurately reflected in the
organization's records.

4. Reconciliation : Auditors reconcile accounting records,

such as bank statements, ledger accounts, and subsidiary
records, to external sources or independent records to ensure
consistency and accuracy. Reconciliation helps identify
discrepancies, errors, or omissions in the financial
statements and facilitates the detection of irregularities or
fraud.

5. Analytical Review : Auditors perform analytical

procedures to assess the reasonableness and consistency of
financial data and identify unusual trends, fluctuations, or
anomalies. Analytical review involves comparing financial
information with expectations based on industry
benchmarks, historical trends, budgeted amounts, or other
relevant criteria.

By employing these basic techniques of verification, auditors

can systematically examine and validate the information
presented in an organization's financial statements, thereby
enhancing the credibility, reliability, and transparency of
financial reporting.

Q.2 What do you understand by events? Explain the

events occurring after the balance sheet date. (20)

ANSWER: Events :

In accounting, events refer to transactions, occurrences, or

changes that impact an organization's financial position,
performance, or cash flows. Events may include both
internal and external factors that affect the entity's
operations, such as business activities, economic conditions,
regulatory changes, and other developments. Events are
recorded and reported in the financial statements to provide
stakeholders with relevant and timely information about the
organization's financial status and performance.

Events Occurring After the Balance Sheet Date :

Events occurring after the balance sheet date, also known as

post-balance sheet events or subsequent events, are events
that take place between the balance sheet date and the date
of the financial statements' issuance. These events may have
a material impact on the organization's financial position or
require disclosure to ensure that the financial statements are
complete and accurate. Post-balance sheet events are
classified into two categories:

1. Adjusting Events :
Adjusting events are events that provide additional
evidence of conditions that existed at the balance sheet date
and require adjustments to the financial statements.
Adjusting events are recognized and reflected in the
financial statements if they are material and relate to
conditions that existed at the balance sheet date. Examples of
adjusting events include:
- Settlement of a legal dispute or litigation that confirms a
liability existing at the balance sheet date.
- Receipt of information about the impairment of assets
that existed at the balance sheet date.
- Discoveries of fraud or errors in the financial statements
that existed at the balance sheet date.
 - Changes in the fair value of financial assets or liabilities
that existed at the balance sheet date.

Adjusting events are reflected in the financial statements

by adjusting the carrying amounts of assets and liabilities
and updating related disclosures. They are recognized in the
financial statements of the reporting period in which they
occur.

2. Non-Adjusting Events :
Non-adjusting events are events that occur after the
balance sheet date and do not relate to conditions that existed
at the balance sheet date. Non-adjusting events are disclosed
in the notes to the financial statements if they are material
and provide relevant information to users. Examples of non-
adjusting events include:
- Business combinations or acquisitions completed after
the balance sheet date.
- Loss of a major customer or supplier after the balance
sheet date.
- Natural disasters or significant changes in economic
conditions occurring after the balance sheet date.
- Issuance of debt or equity securities after the balance
sheet date.

Non-adjusting events do not result in adjustments to the

financial statements but are disclosed in the notes to provide
users with information about significant events that occurred
after the balance sheet date but before the financial
statements were issued.
Overall, events occurring after the balance sheet date require
careful consideration and evaluation to determine their
impact on the organization's financial statements and
disclosures. By recognizing and disclosing post-balance
sheet events appropriately, organizations can ensure that
their financial statements provide users with relevant and
reliable information for decision-making purposes.

Q.3 What do you know about verification of assets?

Explain the verification of stock with assessment of
internal control. (20)

ANSWER: Verification of Assets :

Verification of assets is a critical aspect of the auditing

process that involves confirming the existence, ownership,
valuation, and condition of an organization's assets. Assets
represent resources owned or controlled by the entity and are
essential for carrying out its operations and generating
revenues. The verification of assets ensures that the financial
statements accurately reflect the organization's financial
position and that assets are properly safeguarded and
accounted for. Assets may include tangible assets such as
property, plant, and equipment, as well as intangible assets
such as patents, trademarks, and goodwill.

Verification of Stock with Assessment of Internal Control :

Stock, also known as inventory, represents goods held by an
organization for sale or production. Inventory verification is
a crucial aspect of the auditing process, particularly for
businesses that deal with significant levels of inventory. The
verification of stock involves confirming the existence,
valuation, and ownership of inventory items and assessing
the effectiveness of internal controls over inventory
management and valuation. Here's how the verification of
stock is conducted with an assessment of internal control:

1. Planning the Inventory Count :

- The auditor begins by planning the inventory count,
including determining the timing, scope, and procedures for
inventory verification. The auditor selects a sample of
inventory items for physical inspection and ensures adequate
coverage of different inventory categories, locations, and
valuation methods.

2. Physical Count of Inventory :

- The auditor conducts a physical count of inventory items
by visually inspecting and counting the quantities of goods
on hand. The physical count is compared to the inventory
records maintained by the organization to identify any
discrepancies or variances.

3. Observation of Internal Controls :

- While conducting the physical count, the auditor
observes the organization's internal controls over inventory
management and valuation. Internal controls may include
procedures for receiving, storing, issuing, and recording
inventory transactions, as well as controls over access to
inventory storage areas and segregation of duties.

4. Documentation Review :
- The auditor reviews supporting documentation related to
inventory, such as purchase orders, receiving reports, sales
invoices, and inventory records. The auditor assesses the
accuracy, completeness, and reliability of inventory
documentation and evaluates compliance with organizational
policies and procedures.

5. Testing of Internal Controls :

- The auditor performs tests of internal controls to evaluate
their effectiveness in preventing or detecting errors, fraud, or
misstatements related to inventory. Tests of internal controls
may include inquiries, observations, inspections of
documentation, and re-performance of control procedures.

6. Assessment of Inventory Valuation :

- In addition to verifying the existence of inventory items,
the auditor assesses the accuracy and appropriateness of
inventory valuation methods used by the organization. The
auditor evaluates the consistency of inventory valuation
policies, the application of cost flow assumptions (e.g.,
FIFO, LIFO), and the measurement of inventory at lower of
cost or net realizable value.

7. Evaluation of Audit Findings :

- Based on the results of inventory verification and
assessment of internal control, the auditor evaluates the
overall reliability of inventory balances reported in the
financial statements. The auditor considers any
discrepancies, weaknesses in internal controls, or
deficiencies in inventory management practices when
forming their audit opinion.

Overall, the verification of stock with an assessment of

internal control ensures the accuracy, completeness, and
reliability of inventory balances reported in the financial
statements and helps identify opportunities for enhancing
inventory management practices and internal control
procedures.

Q.4 Define shares and describe verification of share

capital in detail. (20)

ANSWER: Shares :

Shares represent units of ownership in a company or

corporation. When individuals or entities purchase shares of
a company, they become shareholders and acquire rights to a
portion of the company's assets and profits. Shares are
typically issued by companies to raise capital for business
operations, expansion, or other purposes. Shareholders may
receive dividends as a return on their investment and may
also have voting rights in corporate decision-making
processes, depending on the type of shares held.
 Verification of Share Capital :

Verification of share capital is a process conducted by

auditors to confirm the accuracy and completeness of the
share capital recorded in a company's financial statements.
Share capital represents the total value of shares issued by
the company and reflects the amount of capital contributed
by shareholders to the company's equity. The verification of
share capital involves several steps, which are described in
detail below:

1. Review of Articles of Association and Shareholders'

Agreements :
- The auditor begins by reviewing the company's articles
of association and any shareholders' agreements to
understand the rights, obligations, and restrictions associated
with the issuance and ownership of shares. These documents
outline the company's authorized share capital, types of
shares, rights attached to each class of shares, and
procedures for issuing and transferring shares.

2. Examination of Share Register and Share Certificates :

- The auditor examines the company's share register,
which contains details of all issued shares, including the
names of shareholders, the number and class of shares held,
and any transfers or changes in share ownership. The auditor
verifies the accuracy of the share register by comparing it to
share certificates, which are issued to shareholders as
evidence of their ownership of shares.

3. Confirmation of Share Transactions :

 - The auditor confirms share transactions, such as
issuances, transfers, repurchases, or cancellations, by
examining supporting documentation, such as board
resolutions, share subscription agreements, stock transfer
forms, share certificates, and payment records. The auditor
ensures that share transactions are properly authorized,
recorded, and reported in accordance with applicable laws,
regulations, and accounting standards.

4. Evaluation of Share Issuance Procedures :

- The auditor evaluates the company's procedures for
issuing new shares, including the authorization process,
valuation of consideration received, compliance with
regulatory requirements, and proper recording of share
issuances in the company's accounting records. The auditor
verifies that shares are issued at their fair value and that any
premiums or discounts are appropriately accounted for.

5. Assessment of Share Capital Structure :

- The auditor assesses the structure of the company's share
capital, including the types of shares issued (e.g., ordinary
shares, preference shares), the rights and privileges attached
to each class of shares, and any restrictions on share
transfers or dividends. The auditor ensures that the share
capital structure complies with legal requirements and is
accurately disclosed in the financial statements.

6. Verification of Share Transactions in Financial

Statements :
- Finally, the auditor verifies the accuracy and
completeness of share capital disclosures in the company's
financial statements, including the balance sheet, notes to the
financial statements, and other relevant disclosures. The
auditor ensures that share capital balances are properly
stated, adequately disclosed, and consistent with supporting
documentation and regulatory requirements.

By conducting a thorough verification of share capital,

auditors provide assurance to stakeholders that the
company's share capital is accurately reported in the
financial statements and that share transactions are properly
authorized, recorded, and disclosed in accordance with
applicable laws, regulations, and accounting standards.

Q.5 Define the profit and loss account and also explain
the verification of income items and expenses.(20)

ANSWER: Profit and Loss Account :

The profit and loss account, also known as the income

statement or statement of comprehensive income, is a
financial statement that summarizes an organization's
revenues, expenses, gains, and losses over a specific period.
It provides stakeholders with information about the
organization's financial performance, including its ability to
generate profits or incur losses from its core business
activities. The profit and loss account typically covers a
reporting period such as a fiscal quarter or year and is
prepared using the accrual basis of accounting, which
recognizes revenues and expenses when they are earned or
incurred, regardless of when cash is received or paid.

Verification of Income Items and Expenses :

Verification of income items and expenses is a crucial aspect

of the auditing process, as it involves confirming the
accuracy, completeness, and validity of revenues and
expenses reported in the profit and loss account. Here's how
the verification of income items and expenses is conducted:

1. Income Items Verification :

- Review of Sales Transactions : The auditor examines
sales transactions, including sales invoices, contracts, sales
orders, shipping documents, and revenue recognition
policies, to verify the accuracy and completeness of revenue
recognition. The auditor ensures that sales are properly
recorded at the appropriate amount, in the correct accounting
period, and in accordance with applicable accounting
standards (e.g., revenue recognition criteria under IFRS 15
or ASC 606).
- Confirmation of Accounts Receivable : The auditor
confirms accounts receivable balances with customers to
validate the existence and accuracy of recorded sales
transactions. Confirmation requests are sent directly to
customers requesting confirmation of outstanding balances,
payment terms, and transaction details. Confirmation
responses provide independent verification of the
completeness and accuracy of recorded sales.
 - Examination of Other Income Sources : The auditor
examines other sources of income, such as interest income,
dividend income, rental income, royalties, and gains from
investments or asset disposals, to ensure they are properly
recorded, classified, and disclosed in the profit and loss
account. The auditor verifies the accuracy of income
calculations and assesses compliance with relevant
accounting standards and regulations.

2. Expenses Verification :
- Review of Expense Transactions : The auditor reviews
expense transactions, including purchase invoices, contracts,
expense reports, payment records, and accruals, to verify the
accuracy, validity, and completeness of expense recognition.
The auditor ensures that expenses are properly recorded at
the appropriate amount, in the correct accounting period, and
in accordance with applicable accounting standards (e.g.,
matching principle).
- Confirmation of Accounts Payable : The auditor
confirms accounts payable balances with suppliers to
validate the existence and accuracy of recorded expense
transactions. Confirmation requests are sent directly to
suppliers requesting confirmation of outstanding balances,
payment terms, and transaction details. Confirmation
responses provide independent verification of the
completeness and accuracy of recorded expenses.
- Assessment of Accruals and Prepayments : The auditor
assesses the adequacy and accuracy of accruals and
prepayments recorded in the profit and loss account to
ensure that expenses are recognized in the appropriate
accounting period and that the matching principle is
followed. The auditor reviews supporting documentation and
calculates accruals or adjustments as necessary to reflect
expenses accurately.
- Evaluation of Expense Classification : The auditor
evaluates the classification of expenses in the profit and loss
account to ensure that they are properly categorized and
disclosed in accordance with relevant accounting standards
and regulations. The auditor verifies the allocation of
expenses to appropriate expense categories and assesses
compliance with organizational policies and industry
practices.

By conducting a thorough verification of income items and

expenses, auditors provide assurance to stakeholders that the
profit and loss account accurately reflects the organization's
financial performance and that revenues and expenses are
properly recognized, measured, and disclosed in accordance
with applicable accounting standards and regulatory
requirements.