Lead authors: Renzo Lavin & Carolina Cornejo (ACIJ)
Contributing authors: Sruti Bandyopadhyay (World Bank)
AUDIT 102: The audit process
Types of audits
When performing their duties—depending on their structure and mandate—SAIs carry out different types of audits. According to ISSAI number 100 on Fundamental Principles of Public-Sector Auditing, public-sector audits can be categorized into one or more of three main types: audits of financial statements, audits of compliance with authorities, and performance audits.
All public-sector audits start from objectives, which may differ depending on the type of audit being conducted. However, public-sector auditing contributes to good governance by:
• providing the intended users with independent, objective and reliable information, conclusions or opinions based on sufficient and appropriate evidence relating to public entities;
• enhancing accountability and transparency, encouraging continuous improvement a. sustained confidenceA the appropriate use of public funds and assets and the performance of public administration;
• reinforcing the effectiveness of those bodies within the constitutional arrangement that exercise general monitoring and corrective functions over government, and those responsible for the management of publicly-funded activities; • creating incentives for change by providing knowledge, comprehensive analysis a. well-founded recommendations for improvement."
A financial audit focuses on determining whether an entity’s financial information is presented in accordance with the applicable financial reporting and regulatory framework. The primary question that it addresses is, do the audited statements or reports accurately portray the financial condition and activities of the audited entity? These audits identify whether the financial information is free from material mistakes that may have occurred as a result of fraud or error. Without such audits, a clear understanding of what the government does with public resources is hard to come by because consistent documents with this information would not otherwise be published.
Because of the high technicality of financial audits, citizen engagement may be difficult to enhance in the process itself, but it can be promoted in the follow-up stage. Many CSOs use budget information to advocate for government transparency and to fight corruption. Broad information on how state agencies execute their budget may enable CSOs to devise strategies to hold public officials accountable. Also, those state agencies may summarize budget information and translate it into easily understandable formats so that other stakeholders can build upon that data for advocacy, especially when public resources are aimed at ensuring service delivery and other interventions concerning citizen welfare.
A compliance, legality, or regularity audit assesses whether activities, financial transactions, and information are in compliance with the authorities that govern the audited entity (including rules, laws and regulations, budgetary resolutions, policy, or the general principles governing sound public sector financial management and the conduct of public officials). The primary question that it examines is, did the audited entity comply with applicable laws and regulations? Without such audits, one would not know, for example, whether budgeted resources were spent on the items approved by the legislature.
ISSAI number 400 on Fundamental Principles of Compliance Auditing states the following:
Compliance auditing promotes transparency ...
...by providing reliable reports as to whether funds have been administered, management exercised and citizens’ rights to due process honoured as required by the applicable authorities.
Compliance auditing promotes accountability...
...by reporting deviations from and violations of authorities, so that corrective action may be taken and those accountable may be held responsible for their actions.
Compliance auditing promotes good governance...
...both by identifying weaknesses and deviations from laws and regulations and by assessing propriety where there are insufficient or inadequate laws and regulations.
Given that many CSOs use budget information as a key tool to influence policy decisions, compliance audits provide a valuable entry point for citizen engagement. CSOs can use audit reports to address deficiencies in budget information and possible mismanagement. Important to note is that many compliance audits are triggered by CSOs or citizens who file complaints when protocols and laws are not followed, thereby fostering engagement in the planning of audit exercises.
A value for money (VFM), management, or performance audit focuses on whether interventions, programs, and institutions are performing in accordance with the principles of economy, efficiency, and effectiveness. The primary question that it investigates is, did the audited entity use its resources and accomplish its objectives in the most effective and efficient way? VFM audits analyze performance against suitable criteria, and the causes leading to deviations from those criteria or other problems are examined to see whether improvement is possible. These audits are critical to ensuring that the budget implementation process follows policy goals to the greatest extent possible.
In many Western developed democracies (for example, the United States), the number of VFM audits seem to be increasing compared with financial and compliance audits, and a few developing countries have also started to create space for more annual VFM audits. Some people believe that SAIs should focus on financial audits because SAIs’ primary legal mandate lies in addressing and strengthening internal financial control to eventually ensure effective performance. Evidence suggests, however, that VFM audits can contribute to increasing interest in SAI work because those reports are much easier to understand by parliamentarians, the media, and the general public. In that sense, a diverse audience can be an ally to the SAI in the demand for government accountability. Similarly, fairly pragmatic approaches can be used to assess performance issues, whereas financial and compliance audits often require a higher level of technical knowledge, which the SAI may not possess.
The progressive shift toward performance auditing
Over the past few years, SAIs in developing countries have begun to move from financial or compliance audits to VFM audits as a way to improve and strengthen transparency and accountability in PFM systems. In addition, most SAIs have implemented a risk-based approach when testing areas of potential mismanagement within the internal control system, especially as the number of transactions increased and widened the scope of audit work.
In India, the Comptroller and Auditor General has emphasized performance audits over financial ones, strengthening the link between accountability and effective service delivery. That preference was reinforced by a significant reduction in the time taken for audits (from years to months) and the publishing of reports, which has contributed to bringing SAI work to the public light and getting wide media coverage, thereby increasing audit effectiveness and corrective actions.
In the United States, performance audits have been conducted since the mid-1960s, but not until 2004 did the Government Accountability Office (GAO; formerly the General Accounting Office) acquire additional duties related to program evaluations and policy analysis so that it could assess whether federal interventions target social needs and meet their objectives in terms of efficiency, economy, and effectiveness. Today, VFM audits make up more than 90 percent of GAO’s workload.
In Korea, performance audits have been conducted since 2002. Acknowledging changing audit needs and emerging challenges, the role of the SAI has undergone major reform, and the scope of control has been extended from regularity audits (financial and compliance) to VFM exercises, which now represent more than 90 percent of SAIs’ work.
In the United Kingdom, the National Audit Office (NAO) has commended performance audits by acknowledging the significant role they play in identifying barriers to effective public policy development and implementation. Most important, the NAO sees in VFM audits an opportunity to ensure effective service delivery to citizens, envisioning them as users, consumers, and clients and also considering their special needs. In that sense, the audit processes have taken a citizen-focused perspective, which is reflected both at the planning stage—so that topics of social interest are covered by audit exercises—and in the drafting and dissemination of reports—by encouraging informed public discussion about services through propagation of findings beyond formal accountability processes.
In Canada, the Office of the Auditor General´s move toward performance audit was part of a general shift toward a new system of financial administration, which privileged economy, efficiency and social equity as an underlying goal for Public Administration. The development of VFM audits entail a move away from line-item budgeting toward program budgeting, introducing rationality, planning and advanced management techniques into the financial administration process.
Type of audit report
What is it useful for?
To evaluate whether the financial statements of an entity are free from material misstatement, whether caused by fraud or error.
To detect fraud or inefficiency in the management of public resources.
IRELAND. The Comptroller and Auditor General of Ireland audited the Bord na gCon’s development of Limerick greyhound racing stadium and found that borrowings had increased significantly since 2007. Although the Board approved a sum of €1.4 million to bid on a site for construction of the stadium in 2005, by completion of the project total expenditure exceeded €21 million, leading to a substantial debt increase.
Report Here Summary More information
To assess whether the activities of public-sector entities are in accordance with the applicable rules governing those entities.
To detect whether public funds have been correctly administered or a public program has been implemented according to the applicable rules.
To report deviations and violations of the law so that corrective action may be taken and those accountable may be held responsible for their actions.
To detect mismanagement of public property or services by private entities when they are recipients of public grants or subsidies.
To assess whether the budget allocated to a public entity or to a particular program has been executed accordingly.
UNITED STATES. The Government Accountability Office audited the Consumer Product Safety Commission’s (CPSC’s) response to emerging safety risks from new or existing consumer products. Based on a review of current product laws and regulations, the GAO found that the time the CPSC took to address a safety hazard—during which injuries and fatalities can continue to occur—leads to serious hurdles and challenges.
Report Here More information
To evaluate whether public interventions, programs, and institutions are performing in accordance with the principles of economy, efficiency, and effectiveness.
To know whether an audited entity uses its resources and accomplished its objectives in the most effective and efficient way.
To ensure that the budget implementation process followed policy goals to the greatest extent possible.
INDIA. High-impact performance reports of India SAI:
1. ”Coalgate.” The Comptroller and Auditor General of India (CAG) performance audit report in 2012 showed that a lack of transparency in the allocation of coal mining licenses between 2004 and 2011 cost 1.86 trillion rupees ($34 billion).Report Here
Opposition parties demanded that the coal minister (current Prime Minister) resign. The findings led to an investigation by the Central Bureau of Investigation.
2. 2G Telecom Licenses. In its November 2010 performance audit report, the CAG condemned the telecommunications ministry’s allocation of mobile telephone spectrum licenses, which allegedly lost more than $38.9 billion.Report Here
The findings of the report led to the resignation of the Telecommunications Minister, who was then arrested. The Supreme Court canceled all 122 licenses allocated to nine telecom companies.More Information
VFM audits provide an outstanding opportunity for citizens to engage in public oversight. As beneficiaries of policy interventions, citizens can add significant value to the audit process by offering input to the planning, evidence at the development stages, and even monitoring of state compliance with SAI recommendations.
According to ISSAI number 300 on “Fundamental Principles of Performance Auditing,” “the main objective of performance auditing is constructively to promote economical, effective and efficient governance. It also contributes to accountability and transparency”:
Performance auditing promotes accountability...
...by assisting those with governance and oversight responsibilities to improve performance. It does this by examining whether decisions by the legislature or the executive are efficiently and effectively prepared and implemented, and whether taxpayers or citizens have received value for money. It does not question the intentions and decisions of the legislature, but examines whether any shortcomings in the laws and regulations or their way of implementation have prevented the specified objectives from being achieved.
Performance auditing focuses on areas in which it can add value for citizens and which have the greatest potential for improvement. It provides constructive incentives for the responsible parties to take
Performance auditing promotes transparency...
....by affording parliament, taxpayers and other sources of finance, those targeted by government policies and the media an insight into the management and outcomes of different government activities. It thereby contributes in a direct way to providing useful information to the citizen, while also serving as a basis for learning and improvements. In performance auditing, SAIs are free to decide, within their mandate, what, when and how to audit, and should not be restrained from publishing their findings.
2015 Copyright - World Bank Institute & ACIJ
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