Audit Planning And Analytical Procedures For Banks

Risk areas for bank audits

The banks in Australia are governed by the Banking Act, 1959 and Reserve Bank Act, 1959. Apart from that the provisions of Corporations Act, 2001 is also applicable for established entities. The objective of conducting an audit of a bank is different from the objectives of auditing an ordinary entity under the Corporations Act, 2001.  Apart from independent verification of financial information auditor of a bank also requires to verify the operations and activities of the bank to make a compliance report (Zhang, 2017).

The new auditor of a bank or for that matter any other entity must consider the legal and other implications of accepting an audit engagement. In this case the auditor of Sustainable Bank Limited, here in after to be mentioned as SBL in the document, must consider the following factors before starting the audit:

• Firstly, the new auditor must communicate the appointment with the previous auditor. In case the previous auditor questions that such appointment should not be accepted or is not valid then the new auditor must ask his predecessor the reasons of his objection to the appointment.
• In case there is any reasonable justification behind the objection of the previous auditor the same must be verified and dealt with (Furnham and Gunter, 2015).
• The auditor should not accept the appointment in case the remuneration of the previous auditor is due and still unpaid or the previous auditor has been forced to resign from his position due to undue pressure from the management.
• The different legislations that apply to the audit of the bank.
• The banking regulations that must be followed in auditing the SBL.
• The minimum Statutory and Time deposit that the bank must maintain as per the instruction and guidelines of Reserve Bank of Australia (Ettredge, Xu and Yi, 2014).
• Other specific banking regulations that apply to the audit of SBL.

Taking into consideration the facts provided about the operations and functions SBL in the case study it is amply clear that the bank mainly serves the small and medium businesses and clients by providing them financial assistance as per their requirements. SBL has 100 retail branches in all across the country with extended network of Automated Teller Machines (ATMs). The money disbursements to 100 retail branches along with filling of ATMs involve significant amount of risks. Thus, the auditor will have to carry out extensive substantial procedures on processes and methods followed by the bank while disbursing cash to retail branches and ATMs (Brown, Preiato and Tarca, 2014). Considering that the risk of defaults have increased significantly subsequent to the downturn in Economy the auditor of SBL must also conduct a thorough verification of the borrowers, both existing and potential, i.e. applicants who have applied for loans. It is important to ensure that the management of bank has taken all necessary precautions before approving loan applications of borrowers. Only those applicants that have fulfilled the required criterions should be given loans. Thus, the area of loan disbursement should also be scrutinized to ensure that a standard procedure has been followed by the bank. Use of IT experts’ services to verify the risk in information and technological area of the bank. Since most of the transactions are now a days are carried out on internet it is important that the system within the bank is fully protected against the possible threats (Alles, 2015). The auditor must use the services of an IT expert to ensure that the system is working properly and there is no apparent risk of failure. However, since February 29, 2018 when a computer malfunction caused havoc in the bank and its system it would extremely important for the auditor to take all necessary actions to ensure there is no risk of failure of the system in the future (Alzeban and Gwilliam, 2014).

Apart from the above the financial reports of the bank shall be independently verified to assess whether the financial information as provided in financial reports of the bank correctly discloses the operating performance and position of the bank as on a particular date. Analytical procedures shall be conducted by the auditor to identify possible areas in financial reports of SBL that could include material error of fraud. As per the financial statements of the bank as provided in the spreadsheet let’s calculate the analytical ratios to identify the areas of possible misstatements in financial reports (Bierstaker, Janvrin and Lowe, 2014).

Audit planning memorandum

Taking into consideration the financial information of the bank a detailed analytical procedures shall be carried out on the financial information of the bank (Mahzan and Lymer, 2014).

	2018	2017	2016
	$m	$m	$m
Profit before income tax expense	203.3	271.1	297.6
Total income after interest expense	747.8	722.1	718.6
Rate of profit before income tax	27.1864	37.5433	41.4139
Net interest income	449.9	446.0	468.0
Total income after interest expense	747.8	722.1	718.6
Percentage of net interest income to total revenue	60.1631	61.7643	65.1266
Total bad and doubtful debts on loans and receivables	11.4	9.6	9.0
Net interest income	449.9	446.0	468.0
Percentage of bad debt to net interest income	2.5339	2.15247	1.92308
Total expenses excluding interest expense	544.5	451.0	421.0
Total income after interest expense	747.8	722.1	718.6
Percentage of total expenses to total income	72.8136	62.4567	58.5861
Net profit for the period	141.6	196.4	211.5
Total income after interest expense	747.8	722.1	718.6
Net profit ratio	18.9355	27.1984	29.4322

	2018	2017	2016
	$m	$m	$m
Total current assets	20,125.30	19,902.50	17,631.30
Total current liabilities	18,076.20	18,176.20	15,853.10
Current ratio	1.11	1.09	1.11

	2018	2017	2016
	$m	$m	$m
Due to other financial institutions	1,000.0	725.0	625.0
Total equity	2,162.1	2,039.4	1,939.8
Debt to equity ratio	0.4625133	0.3555	0.3222

The analytical procedures help the auditor to identify the possible area of material misstatement in the financial reports. Generally the significant fluctuations in profitability, liquidity or solvency ratios would indicate presence of material misstatements in the books of accounts. Thus, taking into consideration the above ratios for 2018 the auditor should compare these with the same ratios of the bank for the previous two years (Shamsuddin et. al. 2015)). In case any ratio shows significant fluctuations without any specific reason to justify such fluctuation the auditor should use extensive audit procedures to verify those areas to corroborate necessary audit evidence to come to specific conclusion on such areas of financial statements.   

Net income ratio in 2018 has decreased to 18.94% from 27.20% of 2017 and 29.43% of 2016. The auditor must verify the reason for such reduction in net profitability of the bank by using substantive audit procedures. The liquidity ratio has improved despite the decrease in profitability suggests that the bank has managed its liquidity position better in 2018. The current ratio of the bank in 2018 increased to 1.113 times from 1.094 times 2017. However, the auditor must conduct necessary audit procedures to ensure that the current assets and current liabilities have been correctly reported in the books of accounts (Sharon, 2014). Debt to solvency ratio has deteriorated in 2018 with 0.46 compared to 0.36 and 0.32 of 2017 and 2016 respectively. The reason for such significant deterioration in solvency position of the bank must be verified by the auditor by using appropriate audit procedures.     

In order to ensure that the cash disbursement in retail branches has occurred under strict internal security and controls the auditor must conduct a thorough check of the entire process followed by the bank while disbursing cash to retail branches (Byrnes et. al. 2018).  

Cash disbursement to ATMs:

The company has large network of ATMs throughout the country. The auditor must ensure that the cash filling in ATM machines are safe and secure and there is no possibility of embezzlement of cash. The mode of transportation used for transporting cash from central office of the bank to different ATMs must have probationary officer, presence of security guards. The cash transportation should be strictly as per the rules and regulations of Reserve Bank guidelines.

IT system evaluation:

The auditor must use the services of an IT expert to evaluate the information and technology systems in place within the banks and in different regional branches of the bank. The auditor preferably carry out transactions of different kind in different systems to verify that the systems are working properly. It is important to ensure that the systems have worked effectively throughout the period. Even a slimiest of error in IT system could led to huge financial losses a bank and its customers. Thus, all necessary supports from experts shall be taken by the auditor to document the findings of IT system verification.

Substantial procedures for cash and loan disbursements

Loan application processing:

The auditor should firstly verify the standard procedure followed by the bank to process loan applications. The standard procedure of the bank must be in accordance with the standard guidelines issued by the RBA. In case any of contraventions of the standard guidelines of RBA the same shall be mentioned in the audit report of the bank after asking for justification for such contravention. The auditor needs to verify that whether the loan applications that have been granted have all fulfilled the minimum required criterions set by the bank and RBA in general. In case of contravention in loan application processing the same must be reported in the audit report of the auditor (Hall, 2015).

Reporting the amount of revenues and expenditures as per the accounting standards:

The banks and organizations in Australia are subjected to the provisions of accounting standards (AASBs) issued by Australian Accounting Standards Board. The auditor needs to verify the accounting policies and principles followed by SBL while recording the transactions in the books of accounts of the bank. The entries must be recorded in the books of accounts following double entry system of accounting and using the three fundamental accounting assumptions, these are going concern, accrual basis and consistency (Kim, Mannino and Neumann, 2018). The auditor must verify the books of accounts of the bank and check whether the entries have been correctly posted in the books of accounts (Christ et. al. 2015). The expenditure vouchers and supporting documents should be checked and verified with accounting entries recorded in the books of accounts. The vouchers and supporting documents must be checked using sampling technique to ensure that each and every single payment vouchers will have equal opportunity selection while conducting the verification.  The reason for reduction in the net profitability of the bank in 2018 from 2017 has to be assessed by taking into consideration the expenditures insured and reported. Also whether revenues earned have been correctly reported by the bank is to be evaluated by verifying the revenue generation and recording process (Raiborn et. al 2017).

Verification of statutory reserve maintained by the bank for time and demand liabilities:

Banks in Australia must maintain a minimum statutory reserve for meeting the time and demand liabilities in case of emergency. RBA has strictly instructed each banks to maintain the minimum amount of statutory reserve for time and demand liabilities (Pedrosa and Costa, 2014). The Auditor in order to verify whether the bank has followed the guidelines of RBA of maintaining minimum statutory reserves throughout the financial year must follow the following procedure:

1. Should select number of days to check the balances maintained with the RBA for time and demand liabilities.
2. On these dates the actual amount of time and demand liabilities of bank shall be checked.

• Necessary computations shall be made to evaluate whether the statutory reserve maintained by the bank with RBA for time and demand liabilities is as per the minimum requirements set by the RBA (DeZoort and Harrison, 2018).

1. It is not feasible to conduct such analysis for each and every day thus, fortnight or other such criterions shall be used to select number of days to analyses the statutory reserves of SBL maintained with RBA for time and demand liabilities (Griffith, Hammersley and Kadous, 2015).      

In addition to the above procedures for six risks areas identified in the audit of SBL it is important for an auditor to conduct a thorough evaluation of internal controls and securities within the bank to decide whether to rely on these controls and securities. The extent of audit procedures both analytical as well as substantive procedures would increase significantly if an auditor finds that the internal controls and securities within an organization are not commensurate to the size of the organization (Trotman, Bauer and Humphreys, 2015). The effectiveness and efficiency of these controls and securities would reduce the extent of audit work for an auditor thus, the correct evaluation of these controls and securities is equally important for the auditor of SBL. The auditor should follow the following procedures to evaluate the internal controls and securities (Carcello et. al. 2017).

IT system verification

Internal controls and securities within the banks should be evaluated:

The internal controls and securities within the banks including accounting controls to ensure each and every single transaction is recorded in the books of accounts must be evaluated to ensure these are effective and worked accordingly, throughout intended period of reliance. In case the internal controls and securities of the bank are effective and have worked effectively in the entire period then the auditor can place significant reliance on these controls while conducting the audit (Capper and Young, 2015). 

Computer assisted audit techniques help an auditor to conduct an audit by using information and technology and various system. The income statement below (assumed) of SBL for 2018 shall be used for CAAT purposes. In case of income statement the changes in each items of revenue and expenditures in 2018 has been calculated by using a spreadsheet. 

The yellow column highlights the changes in items of revenue and expenditures in 2018 from 2017. This would help the auditor to identify the significant changes in different items of revenue and expenditures in 2018.

From the active data of SBL of its customers opening balances the highest and smallest amount of opening balances have been identified with the help of spreadsheet function of max and min.  

Use of Max and Min functions in Spreadsheet	Amount of  customers
Max amount	37500
Minimum amount	84

On each item of the income statement of the bank the auditor should use specialized software by taking into consideration the specific software used by the bank for recording the transactions in the books of accounts. For example an organization using Tally to record accounting entries can use the special feature in Tally that allows an auditor to get exceptional report from the software. CAATs help an auditor to make quick assertion about particular account balances and class of transactions (Silverman, 2016). This is not possible in manual and traditional auditing system. The audit efficiency and effectiveness would increase multiple folds provided an auditor can make best use of CAATs in an audit of financial statements.

Using excel to calculate different ratios of the bank is also part of CAATs as such ratio analysis helps an auditor to identify possible areas in financial reports where there could be error or fraud. The analytical procedure where the different ratios of the bank has been calculated to identify possible material misstatements is also part of CAATs.

Business intelligence is another software that is used in conducting an audit efficiently. Business intelligence is a software that has the knowledge of different experts to provide advice on different circumstances and scenarios for an organization. The auditor in this case should use Business intelligence to evaluate the IT systems within the bank.

Conclusion: 

An audit of a bank is completely different compare to the audit of any other entity. An auditor of bank is not only to provide his opinion on the financial reports of the bank as to their true and fair nature but shall also report on the functions and operations of the bank. As can be seen in this case that in order to conduct the audit of SBL it is important to make effective use of analytical procedures to determine the extent of substantive procedures. Also the use of CAATs is also important to discharge the responsibilities of an auditor.  

Analyzing bad debts

References: 

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