(a) Use of the work of the internal auditors by external auditors
Sales and ticketing
(i) The sales function is likely to be integrated with the accounting system and system of internal control used to produce the figure in the financial statements for revenue, on which the external auditor reports.
(ii) The internal auditors’ work on the ticketing system is less likely to be useful because it relates to an operational area which does not have a direct impact on the financial statements. There are, however, regulatory matters that may need to be considered by the external auditor. Ticketing may also have an indirect effect because it is likely to be integrated with the sales system and there is likely to be some crossover between the controls over ticketing and controls over sales generally. The work of the internal auditors is therefore likely to be of some use to the external auditor.
Fleet acquisition and maintenance
(iii) The internal auditors’ work on the fleet acquisition system is likely to be very relevant to the external auditors because owned aircraft and leased aircraft will constitute a substantial element of statement of financial position assets and liabilities, and depreciation and finance charges in the income statement.
(iv) Much of the internal auditors’ work is likely to relate to ensuring that company policy has been complied with. Policy will relate to the authorisation for and acquisition of aircraft, and accounting for aircraft in terms of the correct classification of leases (operating or financing) and depreciation policy, for example. Company policy is likely to be extensive and detailed for such material items and external auditors will be concerned to ensure that it is both appropriate and has been complied with.
(v) It is also possible that the internal auditors’ work may involve some verification of the income statement/statement of comprehensive income and statement of financial position entries at the year-end. Given the likely materiality of the amounts involved, this work will also be of interest to the external auditors.
(vi) It is possible that the internal auditors’ work may also relate to the quality of aircraft, and other operational aspects of fleet management. These issues may also be relevant to the external auditors, at least insofar to compliance with laws and regulations.
(vii) In relation to maintenance, the internal auditors’ work is likely to the authorisation and correct accounting for maintenance (capitalisation or expensing), and on the operational side, to the thereof, as for fleet acquisition (above). Maintenance expenditure, to the income statement/statement of comprehensive income may be material and the work of the internal auditors is therefore of interest to external auditors.
Trade payables and long-term debt financing
(viii) The extent of the external auditors’ interest in the internal auditors’ trade payables and long-term financing will depend on the materiality of amounts involved. Trade payables (for certain types of maintenance, and payables due to the service organisations, for example) may be material. Long-term debt financing is very likely to be material, as many airlines have substantial debt financing.
(ix) Internal audit work on trade payables is likely to involve ensuring that routine internal controls are effectively designed and are operating. The external auditors may well be interested in the internal auditors’ work in this area.
(x) There are substantial financial statement disclosures required for debt financing. The internal auditors’ assistance with ensuring that disclosures are properly made, as well as with ensuring that any covenants have been complied with and that the accounting for the financing is appropriate, may also be helpful to the external auditors.

(b) Quality of internal audit function: extent of reliance
(i) The quality of the internal audit function will have a significant effect on the extent of the external auditor’s reliance. If the quality of work is not adequate, reliance will not be possible, regardless of the extent or relevance of the work performed.
(ii) The firm will seek to ensure that there is an appropriate structure within the department itself, with appropriate reporting lines outside the department, preferably reporting to the audit committee.
(iii) The internal audit function has recently been expanded and there are likely to be changes in the way that it is organised. The function should have operational independence within the organisation and formal terms of reference that encompass the recent changes made.
(iv) The function should have a clearly defined set of operating procedures, as well as a work program. Proper documentation of all work performed is essential.
(v) Staff should be appropriately trained, experienced and qualified. The head of such an important department should preferably be professionally qualified.

(c) Audit evidence: outsourced functions
(i) Internal controls exercised by the company over in-flight catering and payroll must be effectively designed and operated. The firm will seek to review documentation of controls and internal auditor’s reports. It will seek to obtain evidence that controls have been applied.
(ii) A breach of regulations or deterioration in the quality of catering could both have a significant effect on the financial statements, particularly if fines were payable or adverse publicity was likely. Enquiries into both areas and a review of relevant documentation provided by, for example, food licensing authorities to the company or the service organisation, and company lawyers (in relation to passenger complaints, perhaps) will be necessary.
(iii) Evidence of controls sought by the firm will include:

• controls over the selection of the service organisations selected (by competitive tendering, for example);
• evidence relating to the completeness, accuracy and timeliness of information provided to, and received from, the payroll organisation (batch summaries and exception reports, for example);
• evidence relating to the security measures taken by the payroll organisation to ensure that confidential information is kept confidential;
• evidence relating to the security measures taken by the catering organisation to ensure that health and safety standards are maintained and that no ‘sabotage’ of the food can take place.