Auditing: Definition, Types, Principles, and How It Works

When someone in your family gets sick, you take them to a doctor. Why? Because a doctor is an expert who can examine the person, diagnose the problem, and tell you what needs to be fixed. Auditing works the same way — except instead of checking a person's health, an auditor checks a company's financial health.

Auditing is the process of independently examining a company's financial records, accounting data, and internal processes to make sure everything is accurate, complete, and in line with applicable laws and standards. It answers a critical question: Is this company's financial information trustworthy?

The people who perform audits are called auditors. They are highly trained professionals — often Chartered Accountants (CAs) or Certified Public Accountants (CPAs) — who specialize in examining financial data. Companies like Deloitte, PricewaterhouseCoopers (PwC), Ernst & Young (EY), and KPMG — collectively known as the Big Four — are the largest auditing firms in the world, each generating over $40 billion in annual revenue.

You might wonder — why would a company spend lakhs or even crores of taka on getting audited? The answer is simple: trust. Here are the key reasons auditing matters.

First, it verifies accuracy. An audit confirms that a company's financial statements — its income statement, balance sheet, and cash flow statement — are free from material misstatement. In other words, the numbers are real and not made up.

Second, it detects fraud. Auditors look for irregularities, discrepancies, and red flags that might indicate fraudulent activity. Think of the Enron scandal in 2001 — the company reported billions in fake profits. A proper, independent audit could have caught this earlier.

Third, it ensures compliance. Companies must follow tax laws, financial reporting standards (like GAAP or IFRS), and regulatory requirements. Auditing confirms that these rules are being followed.

Fourth, it builds investor confidence. When investors see that a company has been audited by a reputable firm, they trust the financial data more. This makes it easier for the company to attract investment and secure loans.

Auditing can be done in two ways — internally or externally.

Internal auditing is performed by the company's own employees or a dedicated internal audit team. These auditors work within the organization and focus on improving internal processes, identifying risks, and ensuring that company policies are being followed. Think of them as the company's own quality control team for finances.

External auditing is performed by independent firms that have no connection to the company. This is the more formal type of audit. External auditors are hired specifically to provide an unbiased, objective opinion on the company's financial statements. Their opinion carries weight because they have no incentive to sugarcoat the findings.

For example, when Bangladesh Bank or the Securities and Exchange Commission wants to verify a company's financial health, they rely on external audit reports. The independence of external auditors is what makes their findings credible.

There are many different types of audits, each serving a specific purpose. Here are some of the most common ones:

Financial Audit — The most common type. It examines whether a company's financial statements are accurate and comply with accounting standards. This is what most people think of when they hear the word audit.

Compliance Audit — Checks whether a company is following specific laws, regulations, or internal policies. For example, a compliance audit might verify that a bank is following anti-money laundering regulations.

Operational Audit — Evaluates the efficiency and effectiveness of a company's operations. It asks: Are we doing things the best way possible? Can we cut waste and improve productivity?

Forensic Audit — This is the detective work of auditing. Forensic auditors investigate suspected fraud, embezzlement, or financial crimes. Their findings are often used in court proceedings.

Tax Audit — Conducted by tax authorities to verify that a company has reported its income correctly and paid the right amount of tax. Nobody enjoys a tax audit, but it keeps the system honest.

Information Systems Audit — Reviews a company's IT systems and controls to ensure data security, system reliability, and proper access controls. In today's digital world, this type of audit is increasingly important.

Every audit is guided by a set of fundamental principles. These principles ensure that the audit is conducted properly and that the results are trustworthy.

Integrity and Independence

An auditor must be completely neutral. They cannot show bias toward the company they are auditing. If the numbers look bad, the auditor reports them as bad — no sugarcoating, no favors. Independence means the auditor has no financial interest in the company and no personal relationship that could compromise their judgment. This is the most critical principle of all.

Confidentiality

Companies share highly sensitive data with auditors — client lists, revenue figures, cost structures, strategic plans. An auditor is bound by strict confidentiality rules. They cannot share this information with anyone outside the audit process. Breaching confidentiality would destroy trust and could have serious legal consequences.

Skill and Competence

An auditor is among the highest-qualified professionals in the accounting field. They must stay up to date with new accounting standards, regulations, and industry developments. A CA or CPA undergoes years of rigorous training and examinations. The job demands not just technical knowledge, but also critical thinking and professional skepticism.

Work Performed by Others

Large companies cannot be audited by a single person. An audit engagement may involve dozens of team members. The lead auditor can delegate work to junior staff or other specialists, but they remain ultimately responsible for the quality and accuracy of the entire audit. They must review and verify the work done by others on their team.

Documentation

An auditor does not rely solely on technology. They maintain detailed notes, working papers, and documentation for every step of the audit process. This documentation serves as evidence of the work performed and supports the conclusions reached. If the audit is ever questioned, the documentation tells the story of how the auditor arrived at their opinion.

Audit Evidence

An auditor needs sufficient, appropriate evidence to support their conclusions. This evidence can be collected in two ways — through inspection (reviewing physical documents, records, and assets) and through inquiry (interviewing company staff and management). The more reliable the evidence, the stronger the audit opinion.

Planning

Every audit starts with a plan. The auditor assesses the company's size, complexity, industry, and risk factors to determine the scope and approach of the audit. A manufacturing company's audit plan will look very different from a tech startup's. Good planning ensures that the audit is thorough, efficient, and focused on the areas that matter most.

Internal Control

The company being audited must cooperate by providing access to all records, systems, and personnel. The auditor evaluates the company's internal controls — the processes and procedures the company uses to safeguard its assets, ensure accurate reporting, and prevent fraud. Strong internal controls make the auditor's job easier and increase confidence in the financial statements.

Reporting

After the audit is complete, the auditor issues a formal report. This report includes their opinion on whether the financial statements present a true and fair view of the company's financial position. The report typically covers: the scope of the audit, the standards followed, any significant findings or concerns, and the auditor's final opinion — which can be unqualified (clean), qualified (with reservations), adverse (significant issues), or a disclaimer (insufficient evidence).

Complete System Examination

The auditor performs a top-to-bottom examination of the company's financial and accounting data. This is the basic check — reviewing all major accounts, transactions, and records to understand how money flows through the organization.

Internal Control Assessment

The auditor evaluates whether the company has adequate internal controls. If a company has weak controls — for example, if one person handles both receiving cash and recording transactions without any oversight — that is a major red flag for potential fraud or errors.

Accuracy of Records

Chartered Accountants are called specialists in the accounting field for a reason — they can spot errors and inconsistencies that others would miss. The auditor checks mathematical accuracy, proper classification of transactions, and correct application of accounting standards to ensure the books are error-free.

Accounting Principles Compliance

The auditor verifies that financial statements — income statements, balance sheets, and cash flow statements — have been prepared in accordance with applicable accounting standards like GAAP or IFRS. If a company deviates from these standards without proper disclosure, the auditor will flag it.

Asset Verification

Every asset the company claims to own must be verified. The auditor examines legal documents, certificates, official statements, and physical evidence to confirm that the assets are real, properly valued, and legally owned by the company. For example, if a company claims to own a piece of land, the auditor will check the deed and registration documents.

Liability Verification

Just as assets are verified, liabilities must also be checked. Companies typically carry debt through loans, bonds, and other obligations. The auditor confirms that all liabilities are properly recorded, correctly valued, and disclosed in the financial statements. Hidden or understated liabilities are a common area where financial manipulation occurs.

Vouching

Every financial transaction should have a supporting document — an invoice, a receipt, a contract, or a bank statement. The process of tracing transactions back to their source documents is called vouching. The auditor checks these documents to verify that every recorded transaction actually happened and was recorded correctly.

Legal Compliance

External auditors also check whether the company is following government regulations and international laws. This includes tax compliance, labor laws, environmental regulations, and industry-specific rules. If a company is evading taxes or hiding information from regulators, the auditor has a responsibility to report it.

In simple terms, an audit is a certificate for a company — one that tells the outside world this business is healthy, its books are clean, and its financial information can be trusted. Without auditing, there would be no way for investors, banks, regulators, or the public to know whether a company's financial claims are real or fabricated.

Whether it is an internal team checking day-to-day processes or a Big Four firm conducting a full-scale financial audit, the purpose is always the same — accuracy, transparency, and trust. In a business world where financial scandals can wipe out billions of dollars overnight, auditing remains the most important safeguard we have for keeping companies honest and markets stable.