Chapter 9 - Internal Audit

Question 1

What is the internal audit function?

Answer 1

Internal audit is an appraisal activity established to examine, evaluate, and monitor the adequacy and effectiveness of internal control within an organisation.

Part of 5 part internal control system - crimE - E for Environment

Question 2

What are the main objectives of internal audit?

Answer 2

To help directors safeguard company assets, review operational efficiency and effectiveness, assess internal controls (especially in financial reporting), and ensure compliance with laws and regulations.

Question 3

What is the primary reason for external audit?

Answer 3

To conduct a reasonable assurance engagement and provide an opinion on the financial statements

Question 4

Who does internal audit report to?

Answer 4

Internal audit typically reports to those charged with governance, ideally the audit committee (non-exec directors), but sometimes to the finance director.

Question 5

Who does external audit report to?

Answer 5

External audit reports to shareholders through the auditor’s report and to the board via the management letter.

Question 6

What areas of work does internal audit focus on? (5)

Answer 6

Internal audit focuses on
1. internal controls
2. financial reporting issues
3. efficiency of operations
4. May provide assistance to the external auditor doing tests of controls and substantive testing
5. value-for-money audits (economy, efficiency, and effectiveness).

Question 7

What areas does external audit focus on?

Answer 7

External audit focuses primarily on the financial statements of the company.

Question 8

What is the relationship of internal audit with the company?

Answer 8

Internal audit is often conducted by employees, which may impact objectivity, though it can be outsourced for greater independence.

Question 9

What is the relationship of external audit with the company?

Answer 9

External audit must always maintain independence from the company.

Question 10

What are the key activities of the internal audit function? (6)

Answer 10

1. examining financial and operating information
2. reviewing compliance with laws and regulations
3. monitoring internal controls
4. reviewing operational efficiency and effectiveness
5. assessing significant risks
6. conducting special investigations like fraud detection.

Question 11

How does internal audit help in examining financial and operating information?

Answer 11

By ensuring accuracy and reliability of financial data and monitoring the effectiveness of reporting processes.

Question 12

What is the role of internal audit in reviewing compliance?

Answer 12

Internal audit reviews compliance with laws, regulations, and other external requirements to ensure the company is operating within legal and regulatory frameworks.

Question 13

How does internal audit monitor internal controls?

Answer 13

By assessing the adequacy and effectiveness of internal control systems and identifying areas for improvement.

Question 14

What does internal audit do to evaluate the economy, efficiency, and effectiveness of operations?

Answer 14

Internal audit assesses operational processes to ensure resources are used efficiently and effectively to achieve organisational goals.

Question 15

How does internal audit help in risk assessment?

Answer 15

Internal audit evaluates significant exposures to risk and recommends improvements where necessary to mitigate these risks.

Question 16

What type of special investigations might internal audit perform?

Answer 16

Internal audit may conduct investigations into suspected fraud or other irregularities to safeguard company assets and integrity.

Question 17

What should internal audit NOT get involved with?

Answer 17

Internal audit should avoid identifying or developing controls, designing or implementing controls, and authorising transactions to maintain objectivity.
Identifying risk re operational matters

Question 18

What can internal audit get involved with? (5)

Answer 18

MATER

Monitoring
Accouting advice
Testing
Examining
Reviewing

Internal audit can engage in examining, reviewing, monitoring, testing, and providing accounting advice, as long as it does not compromise independence.

Question 19

Lightening plc has an organisational structure which includes accounting, human resources, internal audit and audit committee. Which department should not be involved in determining pay rises?
A Accounting
B Human resources
C Internal audit
D Audit committee

Answer 19

C Internal audit

A Accounting - do we have enough in the budget
B Human resources - is this person within their band
C Internal audit
D Audit committee - pay numeration for directors

pay rise is a management decision

Question 20

1 The scope and objectives of the internal audit function vary widely and depend on the size and structure of the entity and the requirements of its management.
Which two of the following functions could internal audit perform and still operate effectively?
A Examination of financial and operating information
B Review of the company’s compliance with laws and regulations
C Authorisation of unusual transactions
D Development of internal control systems

Answer 20

A Examination of financial and operating information
B Review of the company’s compliance with laws and regulations
Authorising unusual transactions and developing internal control systems are part of the accounting function in an entity. In order for the internal audit function to operate objectively and independently, it should not be involved in these activities.

Question 21

2 Which two of the following roles could internal audit carry out in respect of risk management and still operate effectively?
A Monitoring the company’s overall risk strategy
B Designing an internal control system in a production department
C Testing internal controls in the purchasing department
D Implementing internal controls in the sales department

Answer 21

A Monitoring the company’s overall risk strategy
C Testing internal controls in the purchasing department
The second and fourth options are not correct as they are too operational and would compromise internal audit’s monitoring role.

Question 22

4 Internal audit helps in achieving corporate objectives.
For each of the following statements, select whether or not they are true or false.
Having an internal audit function is a requirement of the UK Corporate Governance Code.
A True
B False
Internal audit can be seen as an internal control in a company.
C True
D False
Internal auditors should not get involved in operational matters.
E True
F False

Answer 22

B False
Having an internal audit function is not a requirement of the UK Corporate Governance Code but the need for directors to review the need for one annually is.
C True
E True

Question 23

5 For each of the following statements, concerning internal audit, select whether they are true or false.
Internal audit can never be independent of those on whom they are reporting, because they are employees of the company.
A True
B False
The UK Corporate Governance Code requires all listed companies in the UK to have an internal audit function.
C True
D False
Internal audit focuses on the efficiency and effectiveness of a company’s operations by testing its internal controls. They do not carry out substantive testing.
E True
F False

Answer 23

B False
D False
F False

All of the statements are false. Because independence is a concern, internal audit report to the board of directors or the audit committee. The UK Corporate Governance Code does not require listed companies to have an internal audit function per se, but requires companies to consider the need for one annually, in order to maintain an adequate system of internal controls. Internal audit uses both testing of internal controls and substantive testing, as appropriate to the task in hand

Question 24

6 Hiltson Hotels is a global group of hotels. The parent company, Hiltson Holdings plc, employs an internal audit function which carries out audits and investigations on the individual hotels in the group.
Which two of the following could the internal audit function carry out and still operate effectively?
A Secondment to the accounts department of the Singapore Hiltson to cover the maternity leave
of the financial controller
B Special investigation into the profits of the New York Hiltson where the group directors suspect a fraud may have been carried out
C Tests of the controls at the Edinburgh Hiltson as part of a routine internal audit cycle
D Identification of risks at the proposed Nairobi Hiltson, which is due to open in nine months’ time

Answer 24

B Special investigation into the profits of the New York Hiltson where the group directors suspect a fraud may have been carried out
C Tests of the controls at the Edinburgh Hiltson as part of a routine internal audit cycle

Secondment to the financial controller role and being involved in the identification of risks should not be carried out by the internal auditor. This is because these roles are operational and would compromise the ability of internal audit to provide a monitoring role. The risk assessment should be undertaken by the risk assessment committee or whomever is responsible for risk assessment.

Question 25

11 The scope and objectives of the internal audit function vary widely and depend on the size and structure of the entity and the requirements of its management.

Which three of the following functions could internal audit perform and still operate effectively?
A Examination of financial and operational information for management
B Authorisation of transactions in excess of limits set by management
C Review of accounting systems and related controls
D Advising management on cost-effective controls for systems and activities
E Routinely preparing bank reconciliations

Answer 25

A Examination of financial and operational information for management
C Review of accounting systems and related controls
D Advising management on cost-effective controls for systems and activities
Internal audit should not have operational responsibilities so should not authorise transactions or routinely prepare bank reconciliations

Question 26

Takeaways from QB
- Anything too operational can not be done by internal audit
- They operate objectively and independently
- They are a type of IC for a company
- Use IC and substantive testing
- Any risk assessments should be undertaken only by the risk assessment committee
- Internal audit reports on board of directors, audit committee

Answer 26

Takeaways from QB
- Anything too operational can not be done by internal audit
- They operate objectively and independently
- They are a type of IC for a company
- Use IC and substantive testing
- Any risk assessments should be undertaken only by the risk assessment committee
- Internal audit reports on board of directors, audit committee