Definition
A systems-based audit is an audit approach that emphasizes understanding and evaluating an organization’s internal control system to form an opinion about the quality of its accounting system. The quality of the internal controls dictates the extent of substantive testing needed for auditing the financial statements. Although this method was popular in the past due to its systematic nature, it has become less prevalent because it does not adequately address audit risk. The risk-based audit approach, which is generally considered more flexible, efficient, and effective, has largely supplanted the systems-based audit.
Examples
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Internal Controls Review: An auditor might review the processes and controls surrounding cash handling to determine if the systems in place prevent fraud and ensure accuracy in financial reporting.
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Inventory Management: By evaluating a manufacturing company’s controls over inventory management, such as periodic inventory counts and variance analysis, an auditor can decide on the extent to which detailed checks on inventory levels and valuations are needed.
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Purchasing Controls: Reviewing purchase order approvals and vendor checks to ensure controls are in place can help the auditor minimize the need for extensive testing of expenditures.
Frequently Asked Questions (FAQs)
Q1: What does a systems-based audit primarily assess? A1: A systems-based audit primarily assesses an organization’s internal control systems to determine the reliability and accuracy of its accounting system.
Q2: Why has the popularity of systems-based audits declined? A2: Systems-based audits have declined in popularity because they do not adequately focus on audit risk. This has led to the adoption of risk-based audits, which are more adaptable, effective, and efficient.
Q3: What is the main advantage of a systems-based audit? A3: The main advantage is its structured approach to evaluating internal controls, providing a clear basis for determining the scope of substantive testing needed.
Q4: What are substantive tests? A4: Substantive tests are procedures that auditors use to gather evidence to support or refute the assertions made in financial statements.
Q5: How does a systems-based audit differ from a risk-based audit? A5: A systems-based audit focuses on the internal control systems to determine testing levels, whereas a risk-based audit assesses overall audit risks to tailor audit procedures accordingly.
Related Terms
- Internal Control: Mechanisms, rules, and procedures implemented by an organization to ensure the integrity of financial and accounting information, promote accountability, and prevent fraud.
- Substantive Tests: Audit procedures designed to detect material misstatements in the financial statements.
- Audit Risk: The risk that an auditor may unknowingly fail to appropriately modify their opinion on financial statements that are materially misstated.
- Risk-Based Audit: An audit approach that focuses on identifying and assessing risks of material misstatement and designing audit procedures to address those risks effectively.
Online References and Resources
- American Institute of CPAs (AICPA)
- Institute of Internal Auditors (IIA)
- International Federation of Accountants (IFAC)
- PCAOB Standards
Suggested Books for Further Studies
- “Principles of Auditing & Other Assurance Services” by Ray Whittington and Kurt Pany
- “Auditing and Assurance Services: An Integrated Approach” by Alvin A. Arens, Randal J. Elder, and Mark S. Beasley
- “Internal Auditing: Assurance & Consulting Services” by Urton Anderson, Michael Head, and Steve Lydenberg
- “Auditing: A Risk-Based Approach” by Karla M. Johnstone, Audrey A. Gramling, Larry E. Rittenberg
Accounting Basics: “Systems-Based Audit” Fundamentals Quiz
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