Auditing Concepts and Standards

BY PATRICK J. COSTELLO, CPPM, CF, SHAMROCK CHAPTER

exchanges of information, which often make the proper

T
his is the first in a series of articles addressing
Auditing in general and Auditing as a function of recording of transactions and allocations of costs difficult
Property Management. The second article will to track.
address the System Analysis process. The third article will The physical remoteness of the system increases the
look at the role professional organizations play in the field likelihood both of intentional or unintentional error and
of auditing. of demand for an independent party to examine the
records.
Understanding Audits Bias and motives of the provider create a demand for
This article offers the reader an opportunity to under- an independent party to lend credibility to the company’s
stand audits and system analysis processes. In a broad con- financial or property system statements. For example,
text, audits and system analysis are “kissing cousins” – sys- management may be more optimistic about the status of
tem analysis being a subset of audits that relates to govern- the property system than the Government. The optimism
ment contracting, compliance, and property issues. The may be based on accurate or inaccurate statements of the
general category of audits covers a broad range of audit property department. The property department may have
types, most of which relate to financial issues (e.g., real a vested interest in presenting an optimistic picture of the
estate, financial portfolio, tax-related audits, or accounting system.
practice business audits). Audits are complex processes that Consequences associated with the reliability of infor-
are defined by the relationship of the auditor to the author- mation are cause for verification when the information is
ity requesting the audit and the entity being audited. used for costly business decisions, such as buy-outs, new
Today we see the discipline of auditing under fire contracts, stock evaluation, market pricing, etc.
because some major auditing and consulting firms have To understand the auditing process, you should
shown themselves lacking in compliance with industry- become familiar with the definitions that are important to
established ethics codes of conduct. The media is ripe with auditing.1
news describing the conflict generated by the Definition of Auditing: A systematic process of (1)
consultants/auditors when they ignored the principles of objectively obtaining and evaluating evidence regarding
their profession and advised clients to misrepresent them- assertions about economic actions and events to ascertain
selves to the public. They created an inter-dependence the degree of correspondence between those assertions and
between their customers and their firms that enriched both established criteria and (2) communicating the results to
entities at the expense of the employees and stockholders. interested users.
Auditors are required, by the nature of their profession, to Systematic Process: As a systematic process, auditing is
render opinions (attestations) based upon valid evidence a logical, purposeful, structured approach to decision-mak-
relating to the condition of their customers’ accounting ing; it is not an unplanned, haphazard process.
practices. The auditor is liable for the accuracy of the opin- Objectively Obtaining and Evaluating Evidence:
ion rendered. This liability is a constant reminder of the Auditing involves the collection of evidence. Evidence rep-
extensive responsibilities entrusted to a person identified as resents the information collected by the auditor that will
an auditor. Responsibilities are not to be taken lightly by affect the auditor’s decision process. Although evidence
people who conduct audits or desire to become auditors. A itself may be more or less conclusive in nature, the process
plaintiff may bring suit against an auditor under common, of collecting and evaluating evidence should be objective.
statutory, or both common and statutory law.1 Assertions about Economic Actions and Events:
Auditing is a serious discipline. Auditors must be the Assertions are related to the financial statements of the
most experienced, knowledgeable, professionally qualified organization being audited. The auditor is given informa-
individuals in a discipline. National Property Management tion and statements from the auditee. These statements
Association represents the greatest potential for finding represent the auditee’s assertions about actions and events
individuals uniquely qualified to be auditors in the disci- and include not only the statements themselves but also
pline of Personal Property (Asset) Management. the accounting system and process. (This statement looks,
at first glance, to relate only to economic issues and finan-
The Role of Auditing: cial statements. However, if you understand that property
The demand for auditing is a result is in fact a function of economic values and that financial
statements include statements of assets and inventories,
of four underlying factors:
you can see where property issues fit.)
The complexity of the system refers to the activity in an
The Degree of Correspondence between Assertions
institution or business, along with the interaction of the
and Established Criteria: Correspondence here means the

12 NPMA Volume 15, Issue 6 – 2003

comparison of the assertions of the audi- through inspection, observation,
tee to the established criteria. The estab- inquiries, and confirmation to afford a
lished criteria may include, but are not reasonable basis for an opinion regard-
limited to, the following sources: Gener- ing the statement under consideration.
ally Accepted Accounting Practices Internal Control (SAS No. 1, The
(GAAP), Federal Acquisition Regula- Auditor’s Study and Evaluation of
tions (FAR), State or Municipal Regula- Internal Control): Internal controls
tions, and Corporate Policies and Proce- consist of the plan of an organization
dures. and all of the coordinate methods and
Communicating Results to Inter- measures adopted within a business to
ested Users: The communication of the safeguard its assets, check the accuracy
auditor’s assurance or information is and reliability of its accounting data,
referred to as attestation, or the attest function. Attestation promote operational efficiency, and encourage adherence to
is a communicated statement of opinion (judgment) based the prescribed managerial policies. Internal controls repre-
upon convincing evidence by an independent, competent, sent the means by which a company processes its account-
authoritative person concerning the degree of correspon- ing transactions so that reliable financial information can be
dence in all material respects of accounting information generated and safeguards its assets.2
communicated by an entity with established criteria. Sufficient Competent Evidential Matter: Competent
matter demands that the evidence is valid and relevant.2
Professional Standards An auditor must exercise professional judgement in deter-
Auditing standards represent a measure of the quality of mining the relevance of specific pieces of evidence and the
audit work performed. They are broad conceptual guide- objectivity, timeliness, and relationship to conclusions as to
lines that serve as a model for all auditors and should the overall fairness of the statements drawn from the audit.
remain relatively stable over time.
Generally Accepted Auditing Standards (GAAS) are Standards of Reporting
standards published by the American Institute of Certified The report shall either contain an expression of opinion
Public Accountants (AICPA). The Auditing Standards regarding the financial statements, taken as a whole, or an
Board issues pronouncements entitled Statements of assertion to the effect that an opinion cannot be expressed.
Auditing Standards (SASs). When an opinion cannot be expressed, the reasons should
Auditing procedures, on the other hand, represent spe- be stated.
cific audit tasks to be performed. For example, to comply In all cases the report should contain a clear-cut indica-
with an auditing standard that requires audits to be prop- tion of the character of the auditor’s examination and the
erly planned, the auditor may perform the specific audit degree of responsibility he/she is taking.
procedure of holding a preliminary planning meeting with
client personnel. Suggested Code of Professional
Ethics (Taken in part from the AICPA Code of Ethics)1
General Standards Independence – Integrity – Objectivity: An auditor
The examination is to be performed by a person or per- should maintain integrity and objectivity and, when
son having adequate technical training and proficiency as engaged in the practice of property management, be inde-
an auditor. In all matters relating to the assignment, the pendent of those served.
auditor must maintain an independent mental attitude. General and technical standards: An auditor should
(Public Confidence)2 observe the profession’s general and technical standards
Due professional care is to be exercised in the perfor- and strive continually to improve competence and quality
mance of the examination and the preparation of the of services.
report. (Prudent Practitioner)2 Responsibilities to clients: An auditor should be fair
and candid with clients and serve them to the best of the
Standards of Fieldwork auditor’s ability, with professional concern for their best
Audits must be adequately planned and properly super- interests, consistent with the auditor’s responsibilities to
vised. Proper planning must be undertaken to insure effec- the public.
tive results. Planning must include the requirements for Responsibilities to colleagues: An auditor should con-
personnel and the logistics to support the personnel under- duct himself/herself in a manner that will promote cooper-
taking audits. Existing internal controls must be studied ation and good relations among the members of the pro-
and evaluated to define the tests to be applied to the sub- fession.
ject audit. Other responsibilities and practices: An auditor
Sufficient competent evidential matter is to be obtained should conduct himself/herself in a manner that will

Volume 15, Issue 6 – 2003 NPMA 13

enhance the stature of the profession and its ability to serve Policies and Procedures
the public. Operational Audits
The Auditor’s Legal Liability: We live in a litigious Effectiveness
society. The auditor today can reasonably expect his or her Efficiency
every action—regardless of how right or wrong it may be –
to be questioned in a court of law and possibly to result in Why do we need audits?
substantial damages being awarded. Discovery: A Discovery Audit is conducted to affirm
Privity of Contract is a relationship between two or or disaffirm a suspected problem.
more parties that creates a contractual duty. In an auditing Investigative Reasons: Investigative Audits are con-
context, the auditor and client have a privity or contractual ducted to determine the facts when it has already been
relationship that is usually established by a contract called ascertained that a problem exists and the answers to ques-
an engagement letter. Usually, however, third parties such tions are needed.
as investors or creditors are not parties to the contract and Risk Assessment: A Risk Assessment Audit is conduct-
are said to have a nonprivity relationship. ed to determine the risk and the magnitude of the risk.
Due professional care is the performance of, and Validation: A Validation Audit is conducted to conclu-
reporting on, a professional engagement with the degree of sively verify a finding.
care, competence, learning, and experience commonly pos-
sessed by other members of the auditing profession and The Relationship between Audits
required by professional standards.
Negligence is the failure of the auditor to perform or and System Analyses
report on an engagement with the due professional care Audits have a broader financial scope than System
and competence of a prudent auditor. The auditor is negli- Analyses in that most audits cover a spectrum of financial
gent if he or she fails to do what the ordinary, reasonable, functions that tie to corporate financial reporting rather
prudent auditor would do, or does what the prudent audi- than a focus on property management. The underlying
tor would not do. Sometimes negligence may be referred issue with audits and system analyses is the actual loss or
to as simple or ordinary. Simple negligence, ordinary negli- the risk for loss (money) associated with the system of con-
gence, and negligence are synonymous. trols established at the organization being audited.
Gross negligence (a.k.a. recklessness or constructive System Analyses are a form of Compliance Audits
fraud) is a serious occurrence of negligence tantamount to focusing on contract materials, capital type assets, and real
a flagrant or a reckless departure from the standard of due estate that are part of the contract. A financial impact is
care. These terms are frequently used interchangeably and associated with System Analyses. All of the previous discus-
are equivalent to sloppy auditing or lack of a reasonable sion of Audits is applicable to System Analyses. A System
basis for a belief. A plaintiff in establishing gross negligence Analysis is an audit of the organizational property control
must prove each of the following assertions: system.
● The auditor made a representation about a material fact
Summary
with lack of reasonable support.
I have addressed many of the basics of auditing in this
● The purpose of the representation was to induce reliance
article; however, all of us must understand that this is only
by another (for example, a client or a third-party user of a glimpse of a vast discipline. ◆
the financial statements).
● The representation was relied upon by the client or a Notes: 1 Auditing, Dan M Guy/C Wayne Alderman, Harcourt Brace
Jovanovich, 1987
third party. 2 Statement on Audit Standards (SAS) No 1, Generally Accepted
● The reliance caused damages to the client or third party. Auditing Standards (GAAS)

Fraud occurs when an auditor issues an opinion on the

financial statements knowing that the financial statements PATRICK J. COSTELLO, CPPM, CF, lives in Nashville, Georgia. He
has been a consultant for the last five years. Pat retired from the U.S.
or the audit report thereon are false. Fraud differs from Army in 1985 as a LTC after serving 31 years. He worked as a Property
gross negligence in that the auditor does not merely lack Manager with several Aerospace Corporations for thirteen years until
reasonable support for belief, but has both knowledge of he retired in 1997. Pat directed inspection teams during his military
career that audited the logistics and maintenance of military units in
the falsity and intent to deceive a client or third party. the United States and overseas. He has participated in the conduct of
hundreds of inspections and audits, external and internal, in his forty-
six years as a logistician. Pat developed and teaches a course in
Types of Audits (not an exclusive listing) Auditing/System Analysis for NPMA. He has served on the national
Audits of Financial Statements level of the NPMA as Director of Professional Development for more
Compliance Audits than six years, as Secretary of the Eastern Region, and as President of
the Nutmeg Chapter, formerly the Pioneer Valley Chapter. Pat has
Contract published numerous articles on property topics over the past seven-
Federal and State law teen years.

14 NPMA Volume 15, Issue 6 – 2003