Exploring the relationship between Auditing and non-profit organizations

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This report is for the assignment 1 of auditing, the topic of this report is about non-profit organization. This report will describe the relationship between auditing and non-profit organization with following steps: first it will explain concepts of these two things and relevant information, then it will come up with three current issues in non-profit organization's audit, and there are analyse around two cases with suggestions, after that, according to the above information the report will give a conclusion and expand thinking about the non-profit organization.

2. Background:

As we know, non-profit organization has two characters different from profit organization: one is non-profit organization not for the business purpose and most of them are shown as charity organization or public organization like hospital, art centre and so on. As non-profit organization, usually they have founds from donations or other benefit from society. The other difference is that the earnings of non-profit organization are not benefit to its employees and shareholders, so its purpose is not for maximise the profits of its shareholders. Actually, founds and earnings of non-profit organization is for its future development like expansion and use it for the original belief.

There are events in the recent years caused by the auditing problem like bankruptcy of Aron Company, scandal of MIC World Com and Xerox Company; all these events would knock people that auditing is a key process within an organization. compare with profit company, the finance situation is extremely important in non-profit organization, because shareholders and employees are not ranked in the first position, maybe there are some fraud activities or corruption, audit its cash circle is significant, here we need a strong auditing system to supervise it. Besides, the demand of non-profit organization auditing is increased and the audit performance becomes various to examine if the organization's operation reach a satisfied objective.

3. Non-profit organization and auditing

As the committee on basic auditing concepts has mentioned that "Auditing is a systematic process of objectively gathering and evaluating evidence relating to assertions about economic actions and events in which the individual or organization making the assertions has been engaged, to ascertain the degree of correspondence between those assertions and established criteria, and communicating the results to users of the report in which the assertions are made''. Usually, audits can be classified that three types: financial statement audits, compliance audits and operational audits. And next this report will introduce the specific relationship between auditing and non-profit organization.

3.1Auditing definition to Non-profit organization

As auditing has been mentioned before that it has a important position in a non-profit organization, when the auditor follow his duties to check a organization, he should keep his independence and make the auditing process is transparency as well as the expenditure method of a non-profit organization.

3.2 how a auditors act in a non-profit organization

Normally, the auditor work for a non-profit organization is internal auditor which can audit within a wide range or a narrow focus, and usually the auditors are the entity's own employee or the third party from other social source. And they may need to not just audit the internal operation but also supervise the regulation of this organization. And the common characteristics of auditing performance are that examine and evaluate the recorded files of organization and then to communicate based on the results of examination, and the process can be specified as four stages: planning, executing, reporting and following up. All of these should comply with the existed relevant auditing standards.

3.3 current issue of non-profit auditing

For this report, we found three issues that have adverse effect on non-profit auditing; there are weak internal communication, insufficient application of internal control and insufficient staffing.

3.3.1 Internal communication

Internal communication is a function part in the operation within a organization and it connect the employers and employees together to talk to each other and find useful information from it, as long as to do this to encourage the development of a organization.

And weak internal communication will bring some bad effects, and the main three effects are as follows:

First, it will hurt the reliability of organization's financial statement. Because weak internal communication will cause the mistake can not be invoiced in time and the overseers can not correct the information in time as well; and employees may ignore some details of their contracts or the contracts has not been recorded; all the situations like this will make the financial statement is not reliable that information is not accurate in the financial statement, so the figure will effect decision making of the header of the organization.

Secondly, weak internal communication will bad for the competiveness of the organization, because weak internal control usually reflect that the structure of the organization and restriction management. If there is no serious regulation to bond the employees' activity and the management is too friable, the donators will think about the cash circle of this organization and worry about if expenditure way of their money is reasonable, so they may choose different organization by compare the internal management of this.

Thirdly, weak internal communication encourage fraud risk in some degree, similar as the reasons mentioned before , if the organization has no serious restrictions and strong communication between employers and employees, the risk of mistakes on financial reporting will increased.

3.3.2 Insufficient application of internal control

Similar with internal communication, insufficient internal control also can increase the risk of a non-profit organization. Internal control as a key part within a organization, it bear the responsibility that make sure the internal policies under control; check and promise the accuracy and completeness of organization's transition records; safeguard the organization's assets; prevent and detect fraud activity and error; arrange the time to prepare reliable financial statement. As we can see that internal control have so many important effects in control a organization, when internal control suffered danger, the organization in danger as well.

3.3.3 Insufficient staffing

Insufficient staffing normally refer to the situation is that a person responsible to several duties within a organization, which is means that sometimes the person have over pressure in his personal work that cause the risk increased. This situation is usually can be found in some small charities, because the non-business nature of these kind organization, the employee may work for different position of the organization, for the low efficient work, there are mistake overlooked by the employee or they have no time to correct the problem has been found which will encourage the potential fraud activity of the organization.

In order to minimise the mistake occurs in the financial statement, there is a suggestion should be notice seperate duty of authorize transactions, supervision of assets and files should be recorded and classified must be apportioned to different employees. As a non-profit organization, it should arrange the employees' reasonable work and ask help from outsource when necessary.

4. Case study of non-profit organizations' audit

As mentioned before, the auditing in a non-profit organization may suffer some problems; here are some examples to help to understand the current situation of non-profit organization.

4.1 example of non-profit hospital

There is a example relates to the weak internal communication, which is about a non-profit hospital. The hospital is a charity nature hospital and its purpose is to provide service to help the poor people to get health. There were three people made a survey among the hospital to exam the internal communication within this hospital, and main interviewed people include the leader team, managers, professional staff like nurse, doctor. According to the survey, they noticed that the hospital in a weak internal communication situation which show that the lower level employees just do the things the managers let them do; and the lower level employees can not reflect the problems they found to their header in time; most decision are just go through by the header of department, other employees have little change to make a suggestion and join the process. These situations have consisted of a serious weak internal communication.

Direct to this situation, the author suggest this organization should perfect the internal restriction of the hospital that act as a more democratic way to make decision and better the planning of the communication within employees, the higher level managers should receive the suggestions from lower level of employees in time that make sure the hospital know the need of its staff, besides, the internal auditor should connect with them in time as well because auditor can tell them the problems have been found and the overseers can check and correct it in time that to make sure the organization runs positively.

4.2 Event of Arthur Anderson

Arthur Anderson is a large audit company in USA, which is found by Anthur Anderson and Clarence Delaney in 1913, and then according to their effort the company start to gain very good goodwill by follow the auditor's professional ethic, and after that, since Lonard Spacek become the header of Anderson, the company reach a pear of its auditing business because of its spirit of fair is higher than profit. But with the world is a changed, internal department of Anderson having some difference, and some managers argue some aspects for the profit point. Finally, the past largest auditing service agent was asked to quit the audit world due to the bankruptcy of Aron, actually it has a serious of scandals before, which includes an event related the fraud of non-profit organization called Baptist Foundation, which is the largest non-profit organization bankruptcy case in American..

Baptist Foundation of Arizona was a non-profit organization was founded in 1948 in USA with the belief to develop region career, they sold promissory notes to American church and individuals to collect money and advise their customers to invest them as a high return and low risk way. The organization come to a wrong way because they invested large money to invest in real estate in 80s 20 century, but the estate's price decreased later that their capital decreased in a short time, for that they want to hide the truth by providing unreliable financial report . Besides, because the overhead of their foundation cost, they began to persuade their old customer to invest more and more money into it when they knew that the money would not get any return. Obviously, it was a fraud.

Later on, some employees found there are something wrong in the financial statement and they reflect the problem to managers but managers were not give them a satisfy answer, for that, several employees include one internal auditor resign the job of the foundation.

And in this process, the auditor of Anderson for this foundation had never give useful opinion of the false report and they refused the suggestions of employee from Baptist foundation.

From this case, we can consider from two sides: one of the foundation and one of Anderson. As the foundation aspect, there are three problems:

Weak internal communication

When their employees had found there was something wrong in the financial statement and they communicate to their managers in time, but managers were not have them a reasonable answer of it , this is the performance of weak internal communication, meanwhile, some internal auditors in this foundation also suggested Anderson to check the financial report carefully and collect adequate evidence, but there was no satisfied reply as well.

Weak internal control

There is lack of restriction within this organization, which reflects that the shareholders and managers start to cheat their customers and report wrong figures that no one can stop them. Finally, the foundation becomes a fraud organization completely.

Against standard of non-profit organization

The foundation as anon-profit organization, it went against the standard that not for business purpose because their shareholders used fraud act to cheat the donators and keep their own benefit.

There are many evidence can be caught after some time later, Anderson audit helped the foundation to hide some bad finance situation and published unreliable report, the main problem in Anderson audit is as follows:

Against auditors' professional ethics

As the resigned employees said that, in the early time Baptist foundation just hide their bad finance and provide dummy information in the financial information, but Anderson as a large audit service didn't find it out, even it gang up with the foundation with fraud activity, Anderson service has not keep its professional care and professional scepticism.

Not collect adequate audit evidence

During the process of Anderson audit Baptist foundation, collecting evidence is a significant stage of audit process and the audit evidence means that the source they get which effect the final opinion given by auditor. There was no enough and reliable evidence for Anderson is negligence and shows Anderson was not responsible to its duty.

Not apply a test to ensure the financial report's accuracy and reliable

Except for the later fraud activity with the foundation, Anderson as an auditing agent, after it received the related financial records of Baptist, it didn't follow a normal process to test the figure if it was reliable and accurate, so this was a key point that Anderson did failed audit as well. Here we should notice why we need a reliable report? Because financial report reflects the current situation of a organization and the shareholders can accord skim the accounting data in financial report to clear the if there is errors and better decision making. As the auditor here, plays a vital role to ensure the information directors provide. Above all, unreliable financial report will effect the development of a organization adversely.

Lack of independence

An obvious character of good auditing is independence which means that the auditor provide the audit report are not influenced by the director of an entity. And independence mainly performance in three ways: programming independence, investigative independence and reporting independence.

In this case, we can see that the auditors in Anderson collude with the managers of Baptist foundation to report pretence information to their customers and indirectly to help them cheat the old donators to collect money. This action violates auditor's ethics critically and shows the auditor in Anderson lacked of independence.

According to analyse this case, we can see that failed audit within a non-profit organization can be caused by following reasons:

The auditor provide his unqualified opinion when he cannot find the false in the Audi tees' financial report and not test the truth of these evidence; the auditor's gang up with the audited organization, lack of independence, published incredible financial report; the audited organization has weak internal control and internal communication.

4.3 suggestions for the above cases from SAS

There are some suggestions can be found in the related auditing standards: American institute of CPAS. Statement of auditing standards is issued by auditing standards board, and it is part of AICPA, we can summarize some suggestions after go though SAS 112 which is communicating internal control related matters identified in an audit, and this standards require auditors should evaluate the risk of internal control and weakness things for significant; communicate in writing to management that report the deficiencies and material weakness.

In the first case, we have it has weak internal communicate problem; here we will mention the communication of an auditor. The auditor's communication represent as report formal, so when the auditor's opinion should be honest, fair and independence. For the first case, we can do the things as follows to improve the current situation of non-profit organization:

First, the employees of organization should collect the receipt of their transaction in order to check every transaction's details and ensure the assets' safe;

Second, the employees should communicate with the level of managers in time if they have any ideas of their transactions and they found wonders in business things;

Thirdly, make sure all relevant details of transactions have been recorded and separate duties to different employees to ensure the efficiency;

Lastly, strong the connection with auditors, which will help to correct mistake that ignored by supervisor and decision making.

Auditors must keep independence from the audited organization.

5. Conclusion and recommendation

In this report, we mainly describe three current issues of audit in non-profit organization, and give two cases to analyse the problem related to weak internal communication, weak internal control and the report also give the suggestions of it which are mainly in the communication and internal control: audited organization should better the internal management and have good communication with auditors, auditors should response to his duty as well.

Above all, there are still some recommendations to the audit in non-profit organization combine with the things had mentioned before. As an audit in non-profit organization, there are three aspects should be considered more to ensure the reliability of financial report: internal control of non-profit, process of auditing, and independence of auditor.

In order to improve internal control we should notice the detail from follow things:

Organization control: balance the relationship between employees and employers, communicate with each other when needed, notice if there the employees follow the exist regulation within the organization.

Process and procedure control: supervise the business process, record in time; make sure all procedure is under control without fraud activity; segregate duties on authorizing.

Document control: make sure the safe of assets according to record adequate detail of transactions.

Security control: use password system to safeguard assets when there are changes in assets; use compliance testing to exam if the internal control procedure is effective.

Compensating control: to correct errors and minimise the loss when the mistake occurs.

In the process of audit in non-profit organization, first the auditor should have a good plan with the audit work include the arrangement of time, regard the nature of organization and extent of procedure to ensure the audit work can operate efficiently, and then in the procedure of auditing, the auditors need to observe the transition' record, know the situation of the organization's business, review the non-profit organization's income money, and then auditors should check if the expense of this organization is legal and reasonable, besides, it need a ISR audit to ensure the reported information is reliable.

After that, auditor should give a fair and true opinion of the audited organization's report in the audit report, finally, the audited organization should follow up the reported opinion that make effort of deficiencies.

At last, non-profit organization's auditor should keep independence more because the special nature of the organization, they should follow the requirements to prevent their professional ethics: not influenced by individual no matter who he is; not effected by the pressure from audited organization or a third party; keep a honest, fair and truth mentality.

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