Understanding the IT environment of the entity

Session objectives Defining contours of financial accounting in

an IT environment and its characteristics Assessing the impact of IT on financial audit Identifying controls in IT systems Explaining objective and scope of Financial

Audit in IT environment Checking effectiveness of controls Designing audit procedures Explaining the importance of electronic

documentation

Financial Audit in an IT environment

The Auditing Standards of the Comptroller and Auditor General of India require that “Where accounting or other

information systems are computerized, the auditor should determine whether internal controls are functioning properly to ensure the integrity, reliability and completeness of the data.”

Contours of Financial Accounting in IT Environment Financial Accounting software and

hardware of the entity Other business Application Systems of

the entity e – Commerce, EDI, EFT, Office Automation

systems, ATM Purchase Accounting system Inventory Control systems Pay roll systems Accounts receivables and payables systems

Controls and risks in the IT environment of the entity

Management and Organisation People Management Change and Technology

Management Focus on best practices Security Outsourcing Data Management

Contours of Financial Accounting in IT Environment II

Characteristics of IT Systems

Concentration of functions and knowledge Concentration of computer programs and data Absence of input documents Lack of visible transaction trail Lack of visible output Accessibility of data and programs – Risk

involved Consistency of performance Vulnerability of data and program storage

media

Impact of IT on Financial Audit

Financial Audit Objective in an IT Environment – Changed Risk Perception

Understanding of system essential for Planning

Identifying Internal Controls in an IT Environment a must for audit

Changed data retrieval methods and Substantive Tests in audit

Use of Advanced Auditing Techniques CAATs, Simulation, Test Data

Identifying controls in an IT system I

Controls reflect the policies, procedures, practices and organizational structures designed to provide reasonable assurance that the intended objectives of the entity will be achieved.

They ensure effectiveness and efficiency of operations, reliability of financial reporting and compliance with the rules and regulations.

However, computer systems are efficient only if they function in the manner they are designed to and the controls provided are effective.

Identifying controls in an IT system II

Thus it is important for the Auditor to verify that not only adequate controls exist, but that they also function effectively.

Such controls should also be commensurate with the risk assessed so as to reduce the impact of identified risks to acceptable levels.

Objectives of computer controls Achieving effective organizational control over

functions related to data processing by clearly defining organizational objectives

Achieving effective management control over development of data processing resources in conformity with organizational objectives

Adopting practices related to data processing activities in accordance with statutory requirements and prescribed administrative procedures

Adhering to policies, standards and procedures in respect of all data processing functions

Assuring efficiency and effectiveness of the data processing systems geared towards achievement of the desired objectives

General controls General controls are controls over

data centre operations, system software acquisition and maintenance, access security, and application system development and maintenance

General Controls create the environment in which the application systems and application controls operate e.g.

IT policies, standards, and guidelines pertaining to IT security and information protection, application software development and change controls,

segregation of duties, service continuity planning, IT project management, etc.

Application Controls Application controls pertain to

specific computer applications and include controls that help to ensure proper authorization, completeness, accuracy and validity of transactions, maintenance; and other types of data input

Application controls Examples include

system edit checks to help prevent possible invalid inputs

system-enforced transaction controls that prevent users from performing transactions that are not part of their normal duties

the creation of detailed reports and transaction control totals that can be balanced by various units to the source data to ensure that all transactions have been posted completely and accurately.

Financial Audit in an IT environment The overall objective and scope of an audit remains

same in an IT environment. The processing, storage, retrieval and

communication of financial information changes, which may affect the accounting and internal control systems employed by the auditee organization.

Thus IT environment may affect: the procedures followed by the auditor in obtaining a

sufficient understanding of the accounting and internal control systems

the auditor’s evaluation of inherent risk and control risk through which the auditor arrives at the risk assessment

the auditor’s design and performance of tests of control and substantive procedures appropriate to meet the audit objective

Financial Audit in an IT environment

While determining the effect of the IT environment on the financial audit, the auditor should evaluate,

the extent to which the IT environment is used to record, compile and analyze accounting information;

the system of internal control in existence in the auditee organization with regard to

flow of authorized, correct and complete data to the processing center

processing, analysis and reporting tasks undertaken in the installation

the impact of computer-based accounting system on the audit trail that could otherwise be expected to exist in an entirely manual system.

To check effectiveness of controls Effectiveness of controls over the information

technology processes that have a direct impact on the processing of financial information could be judged by the following procedures: determine the scope of audit analysis of the

information technology processes by identifying how they support important business processes and the processing of financial information;

obtain background information about the auditee organization’s IT environment, including information about and applications supporting the critical business processes, together with the underlying platforms and those to which they are networked;

To check effectiveness of controls

Conduct a walk-through of those information technology processes deemed to have a direct and important effect on the processing of financial information to confirm the auditor’s understanding of the process design and related controls; and

Based upon the understanding of the information technology processes, evaluate the effectiveness of the design of each of the major information technology processes and related internal controls.

To evaluate reliability of accounting and controls

The auditor should check whether the systems: ensure that authorised, correct and complete data is

made available for processing; provide for timely detection and correction of errors; ensure that in case of interruption in the working of

the IT environment due to power, mechanical or processing failures, the system restarts without distorting the completion of the entries and records;

ensure the accuracy and completeness of output; provide adequate data security against fire and other

calamities, wrong processing, frauds etc.; prevent unauthorized amendments to the programs;

and provide for safe custody of source code of application

software and data files.

Audit procedures The auditor should consider the IT environment

in designing audit procedures to reduce audit risk to an acceptably low level. He should check whether:

adequate procedures exist to ensure that the data transmitted is correct and complete; and

cross-verification of records, reconciliation statements and control systems between primary and subsidiary records do exist and are operative and that accuracy of computer compiled records is not assumed.

The methods of applying audit procedures to gather evidence may be influenced by the methods of computer processing.

Audit procedures The auditor can use manual audit procedures,

or computer-assisted audit techniques, or a combination of both to obtain sufficient evidence.

The IT Systems can help the auditor in using analytical procedures (for analyzing ratios and trends, identifying unusual items, etc.) and in using sampling techniques and generating random samples. IT Systems can facilitate the application of Monetary Unit Sampling, which is widely used in financial audit.

The auditor can also extract the relevant records required by him using IDEA or other package.

Documentation The auditor should document the audit

plan, the nature, timing and extent of audit procedures performed and the conclusions drawn from the evidence obtained.

If audit evidence is in the electronic form, the auditor should satisfy himself that such evidence is adequately and safely stored and is retrievable in its entirety as and when required.

The authenticity of the audit evidence should be ensured beyond all reasonable doubt.