CHAPTER 1: INTRODUCTION TO INTERNAL Functions of Internal Audit

AUDITING
1. Assurance Function – Internal audit
According to the Institute of Internal Auditors, provides independent assurance that
internal auditing is an independent and systems, controls, and procedures are
objective assurance and consulting activity working properly.
designed to ass value and improve an • Examples:
organization’s operations. o Checking if cash collections
are properly recorded.
Key Functions:
o Reviewing whether purchases
1. Risk Management are approved.
2. Internal Control Evaluation o Testing whether inventory
3. Governance Improvement records are accurate.
4. Fraud Prevention o Evaluating whether company
5. Process Improvement policies are followed.
Internal Auditor vs. Detective • Assurance provides independent
evaluation of whether controls and
TASK IA D processes are working.
Investigates why inventory keeps • Assurance must be independent and
disappearing.
objective.
Evaluates whether controls are
eMective. • Assurance requires evidence, not
Looks for clues. mere verbal confirmation.
Arrests suspects. • Assurance must be independent and
objective.
When a management has a lot of excuses, the 2. Risk Management Function – Internal
internal auditor is responsible to explain why the audit helps identify and evaluate risks
excuse is week and what controls are needed. that may prevent the organization from
Internal auditors are not hired because achieving its objectives.
companies expect failure; they are hired • Examples of risks:
because good governance requires independent o Fraud risk
assurance, eMective controls, and continuous o Cash theft
improvement. o Cybersecurity risk
o Compliance risk
CHAPTER 2: DEFINITION AND FUNCTIONS OF o Operational failure
INTERNAL AUDIT o Financial reporting errors
Definition of Internal Audit • Risk management helps identify
possible problems before they
Internal auditing is an independent and objective become actual losses.
assurance and consulting activity designed to
• Internal audit evaluates whether risks
add value and improve an organization’s
such as IT failure and cyberattacks are
operations.
properly managed.
It helps the organization achieve its objectives by
• Risk management helps
evaluating and improving governance, risk
organizations anticipate fraud, errors,
management, internal controls, compliance,
and operational weaknesses.
and operations.
 • Internal audit helps ensure that risks properly reported to those charged
are identified. with governance.
3. Internal Control Evaluation – internal 5. Compliance Function – internal audit
audit examines whether internal controls checks whether the organization follows
are properly designed and operating laws, regulation, contracts, and internal
eMectively. policies.
• Examples of controls: • Examples:
o Segregation of duties o Compliance with tax rules
o Approval procedures o Compliance with labor laws
o Bank reconciliation o Compliance with procurement
o Inventory count policies
o Password protection o Compliance with company
o Supervisory review code of conduct
• Internal audit evaluations whether o Compliance with data privacy
duties are properly segregated. policies
• Internal audit checks whether • Internal audit checks whether the
controls are properly designed and organization complies with applicable
consistently followed. laws, rules, and regulations.
• Internal audit evaluates access • Compliance must be consistent, not
controls and data security. temporary.
• Internal audit tests whether physical • Internal audit evaluates whether
controls and recordkeeping compliance requirements, such as
procedures are eMective. tax filings and government reports, are
4. Governance Function – internal audit met on time.
supports good governance by helping • Internal audit ensures that internal
management and the board ensure policies and procedures are properly
accountability, transparency, and ethical followed.
behavior. 6. Fraud Risk Review – internal audit helps
• Focus areas: detect fraud risks and control
o Board oversight weaknesses.
o Management accountability • Examples:
o Ethical leadership o Ghost employees
o Clear policies and o Missing inventory
responsibilities o Fake suppliers
o Proper reporting of risks o Unauthorized payments
• Internal audit supports governance by o Duplicate reimbursements
helping ensure proper oversight, o Altered receipts
accountability, and transparency. • Internal audit reviews fraud risks such
• Good governance requires clear as ghost employees and unauthorized
responsibility and accountability. payroll payments.
• Internal audit evaluates whether • Internal audit examines possible
governance policies are actually fraud risks in purchasing, bidding, and
implemented. supplier selection.
• Internal audit helps ensure that
significant risks and control issues are
 • Internal audit helps identify red flags • Internal audit provides advisory
involving cash theft or services to help improve processes,
misappropriation. controls, and risk management.
• Internal audit reviews unusual • Internal audit may advise
documents, altered records, and management on better control design
suspicious transactions that may before problems occur.
indicate fraud. • Internal audit may give
7. Operational Improvement Function – recommendations, but management
internal audit recommends must still make and own the final
improvements in economy, eMiciency, decision.
and eMectiveness. • Internal audit advisory work is more
• Questions asked by internal auditors: useful when used early to prevent
o Are resources being wasted? weaknesses, not only after damage
o Are processes too slow? happens.
o Are activities duplicated?
CHAPTER 3: INTERNAL AUDIT ETHICAL
o Are employees following
STANDARDS
procedures?
o Are operations achieving their Meaning of Ethics
objectives?
Ethics refers to principles and values that guide
• Internal audit helps identify slow,
individuals in determining what is right and
unnecessary, and ineMicient
wrong and in behaving responsibly and
processes.
professionally.
• Internal audit evaluates whether
activities are properly coordinated • Honesty
and not duplicated. • Fairness
• Internal audit recommends • Integrity
improvements to workflow, • Responsibility
documentation, and record • Accountability
management.
Importance of Ethics
• Internal audit supports operational
improvement by recommending Ethics builds credibility, promotes integrity,
preventive controls and better supports sound decision-making, protects
procedures. stakeholders, prevents fraud and misconduct.
8. Consulting or Advisory Function –
Public Trust
internal audit may provide advice to
improve systems and processes, but it Public trust is the confidence that society places
should not take over management in professionals to act honestly, objectively, and
responsibilities. competently.
• Examples: Why Public Trust Matters?
o Recommending stronger
approval procedures • Investors rely on financial reports.
o Suggesting better • Governments rely on accurate
documentation information.
o Advising on risk assessment • Employees rely on fair compensation.
o Improving internal control • Society relies on professional
design integrity.
Professional Responsibilities Fraud Triangle

Internal auditors are responsible for: Fraud usually becomes possible when three
factors are present:
• Integrity – doing what is right.
• Objectivity – avoiding bias. Elements Meaning Example
• Confidentiality – protecting Pressure Reason or Debt, family
information. motivation needs,
to commit lifestyle
• Competence – maintaining fraud. pressure.
professional knowledge. Opportunity Weak No
• Accountability – accepting control that segregation
responsibility for actions. allows fraud. of duties.
Rationalization Excuse used “I will pay it
Threats to Ethical Behavior to justify back later.”
fraud.
• Self-Interest Threat – personal gain
aMects decisions.
• Familiarity Threat – relationship Types of Fraud
impairs independence. 1. Asset Misappropriation
• Intimidation Threat – pressure from • Cash theft
management. • Inventory theft
• Advocacy Threat – promoting client • Fake reimbursements
interests.
• Unauthorized payments
• Self-Review Threat – auditing one’s
2. Financial Statement Fraud
own work.
• Overstating revenue
Ethical Decision-Making • Understating expenses
• Manipulating inventory
Steps in Ethical Decision-Making
• Concealing liabilities
1. Identify the problem. 3. Corruption
2. Gather facts. • Bribery
3. Evaluate alternatives. • Kickbacks
4. Apply ethical principles. • Conflict of interest
5. Make the decision. • Bid manipulation
6. Document the action. 4. Payroll Fraud
CHAPTER 4: FRAUD RISKS • Ghost employees
• Unauthorized salary increases
Meaning of Fraud Risk
• Falsified overtime
Fraud Risk – refers to the possibility that an • Paying resigned employees
individual or group may intentionally deceive the 5. Procurement Fraud
organization for personal gain, resulting in • Fake suppliers
financial loss, asset misappropriation, false • Overpricing
reporting, legal exposure, or reputational • Collusion with vendors
damage. • Split purchases to avoid approval
Addressing fraud risk is a shared responsibility limits
throughout the organization and that fraud risk Fraud happens when a person has a reason,
can aMect asset protection, eMiciency, sees a chance, and convinces himself or herself
compliance and reputation. that it is acceptable.
Role of Internal Audit in Fraud Risk Review

Internal audit does not guarantee that all fraud

1. Assessing fraud risks.