Audit Procedures: Audit Procedures

downloaded from

Scholarfriends

https://scholarfriends.com

Downloaded by: writerforacademic@gmail.com | https://scholarfriends.com/singlePaper/314883/audit-procedures-audit-procedures Distribution of this document is illegal.

🚥

Audit Procedures Property

@July 10, 2022 9:07 PM

If the risk assessment shows that the client has…

An effective control environment: allows the auditor to have more confidence in internal control and reliability of audit evidence overall response could include some audit procedures being performed at an interim date rather than at period end.

An ineffective control environment (Deficiencies Exist) Require the auditor to perform additional work such as: Assigning more experienced staff Conducting audit procedures at year end rather than at interim dates Obtaining more extensive audit evidence from substantive procedures Making changes to the nature, timing, or extent of audit procedures to be performed.

Financial Statement Assertions Assertions made by management, explicit or otherwise

Audit Procedures

1

Audit Procedures The means for obtaining sufficient audit evidence to satisfy financial statement assertions and support audit opinion on the fairness of the financial statements Detailed instructions for the collection of a particular type of evidence that is to be obtained during the audit Audit Procedures are performed to gather necessary, but not all, corroborative evidence to achieve audit objectives

Audit Standards - measure of quality of audit performance, set by the AASC, remain the same from one engagement to another Audit Procedures - performed to meet audit standards; determined by the auditor → vary from audit to audit

Audit Procedures

2

Audit Techniques - methods used by the auditor or the details of the audit procedures → also vary from audit to audit

CATEGORIES OF AUDIT PROCEDURES 1. Risk Assessment Procedures → Evidence to support assessed risks 2. Overall Responses → to address assessed Risk of Material Misstatement at the FS level 3. Further audit procedures → evidence that will reduce audit risk to acceptably low level

An Appropriate Audit Approach This will be based on the assessment of the identified risks at both the financial statement level and the assertion level.

Audit Procedures

3

Note: in smaller entities, reliable control activities may not exist or may be very limited.

In these cases, a primarily substantive approach may be the only alternative.

NATURE, TIMING, EXTENT OF AUDIT PROCEDURES Nature refers to: its purpose (i.e. test of controls or substantive procedures) its type (i.e. inspection, observation, inquiry, confirmation, recalculation, reperformance, or analytical procedures) Timing when to perform the audit procedure period or date to which the audit evidence applies Extent quantity to be performed or the extent of testing number of items to be examined

Audit Evidence Audit evidence consists of underlying accounting records and corroborating evidence

UNDERLYING ACCOUNTING RECORDS

Audit Procedures

4

Consists of records of initial entries and any supporting records Ex: checks, records of electronic fund transfers, invoices, contracts, ledgers, journal entries, and worksheets.

The auditor tests these through analytical procedures and substantive tests → retracing procedural steps, recalculation, and reconciliation Note: accounting records alone do not provide sufficient support for the audit opinion. Internal consistency among the accounting records provides some evidence that the FS are presented fairly

CORROBORATING EVIDENCE Provides additional support and gives validity to the recorded accounting data minutes of meetings, confirmations, industry analysts’ report, data about competitors, and information obtained through observation, inquiry, and inspection

EVIDENCE IN ELECTRONIC FORM While electronic evidence may be initially available, it may not be retrievable indefinitely. The auditor should therefore consider the time during which information exists or is available in determining the nature, extent, and timing of auditing procedures.

Evaluation of Audit Evidence Take intro consideration the achievement of audit objectives.

The auditor must be unbiased, considering all evidence regardless of whether it conflicts with the financial statements.

If the auditors have doubts about a material assertion, they are required to gather sufficient evidence to eliminate the doubt or they must express a qualified opinion or disclaimer of opinion.

Audit Procedures

5

Substantive Procedures are either tests of of details or substantive analytical procedures 1. Test of Details consist of audit procedures used to gather evidence to support the account balances as reflected in the FS Tests of details are performed on ending balances, the details of transactions, or a combination of the two If an account has a high turnover rate with many transactions occurring during the year, the auditor generally will concentrate more on the ending balance total. (prior to using this approach, the auditor has to be satisfied with the client’s internal control) Test of details of transactions is employed when the account being substantiated has relatively few transactions occurring during the year (e.g., an account for land or treasury stock) One approach need not be used exclusively, and a combination of the two might be appropriate.

Ex: during an audit of the sales revenue account, the auditor might use procedures to substantiate the ending balance while also performing extensive procedures on samples of transactions and related accounts (e.g., cash receipts and accounts receivable). i. DIRECTIONAL TESTING Refers to testing either forwards or backward.

Tracing forward from source documents to journal entries provides evidence of completeness Ex: if the auditor was gathering evidence relative to completeness assertions for sales, the auditor would want to verify that all sales were being recorded on the income statement. The auditor would focus attention on sales invoices and supporting documents such as customer purchase orders and client shipping documents, and then trace forward through the accounting system up to the income statement.

Audit Procedures

6

Vouching backward from journal entries to source documents provides evidence of existence.

Ex: possibility of overstated sales (existence assertion), the auditor would focus attention on the income statement (all recorded sales) and then vouch backward through the ledger and journals and ultimately to the supporting source documents (customer purchase orders and related shipping documents) ii. STANDARD AUDITING PROCEDURES Footing, Cross-footing, Recalculation Verify the mathematical accuracy of statements and schedules by: adding down (footing), adding across (cross-footing), or recomputing amounts included therein The auditor may substantiate the valuation of financial accounts and allocation of items such as depreciation, amortization, and accruals by recomputing those items Inquiry consists of requesting information from knowledgeable parties both internally and externally Ex: inquiries about pending litigation or pledged or obsolete inventories inquiry alone is generally considered insufficient, it is most often used in conjunction with other audit procedures Vouching Directional testing in which the auditor examines support for what has been recorded in the records and statements, going from financial statements back to supporting documents Objective: to gather evidence regarding possible overstatement errors (existence or occurrence assertions)

Audit Procedures

7

Examination/Inspection Generally provides evidence about the existence assertion, rather than about ownership, rights, obligations, or valuation.

Also provides evidence of the exact terms of contracts, loans, and commitments.

Ex: reading the minutes of the BOD’s meeting for authorization of treasury stock transactions.

Confirmation specific type of inquiry that involves obtaining representations from independent third parties about account balances and transactions or events Controlled by the auditor in that the auditor selects the parties to be contacted, prepares and mails the confirmation requests, and receives the responses.

Ex: bank confirmation, customer confirmation Analytical Procedures consist of evaluations of financial information made by a study of meaningful relationships among data help highlight unusual fluctuations that could be the result of errors or fraudulent omissions or overstatements Scanning may also be considered as an analytical procedure, as the auditor uses professional judgement to search for large, significant, or unusual items in the accounting records.

Reperformance when an auditor independently performs procedures or controls that were originally performed as part of an entity's internal control.

Reconciliation substantiates the existence and valuation of accounts

Audit Procedures

8

involves comparing financial amounts from two independent sources for agreement Ex: reconciling the physical inventory count with the perpetual inventory records; reconciling the cash balance per the books with the balance per bank; reconciling lead schedules to general ledger amounts.

Observation Ex: at the beginning of an audit, the auditor may tour the client's facilities to gain an understanding of the client's business; observe the client's employees taking a physical inventory to obtain firsthand knowledge regarding ending inventory.

Note: while observation provides the auditor with direct personal knowledge, the evidence provided applies only to the point in time during which the observation occurred. The auditor should be aware that the process or procedure may be performed differently when the client is aware that the auditor is observing.

Tracing Tracing is looking for coverage in the opposite direction from vouching Starts with the source documents and traces forward to provide assurance that the event is given proper recognition in the books and records.

Objective: gather evidence regarding possible understatement errors (the completeness assertion) Subsequent events review Evidence not available at the close of the period often becomes available before the auditors complete their fieldwork and write their report.

Ex: the bankruptcy of the client’s customer after balance sheet date; settlement of a lawsuit (means that a real, not a contingent, liability existed at year end)

Audit Procedures

9

Used in making judgements about the valuation of assets and liabilities on the balance sheet date.

Other Procedures a. Performing a cutoff review of year-end transactions, especially inventory, cash, purchases, sales, and accruals; b. Auditing related accounts simultaneously, such as auditing long-term liabilities with interest expense, capital additions to plant and equipment with repairs and maintenance expense, and investments with dividend and interest income; c. Requesting a comprehensive management representation letter; and d. Reading pertinent information, such as the minutes of the board of directors' meetings, shareholder meetings, and management committee meetings.

Matching Audit Procedures to Specific Assertions

Audit Procedures

10

2. Analytical Procedures evaluations of financial information made by a study of plausible relationships among both financial and nonfinancial data generally involve comparisons of recorded amounts to independent expectations developed by the auditor.

Ratios, percentages, comparisons of actual to budget, and other comparisons may be used to establish expected relationships, and the auditor then looks for

Audit Procedures

11

unusual relationships, discrepancies, or variances.

The auditor must use analytical procedures for planning and overall review in all audits, and also may decide to use analytical procedures as substantive tests.

The following chart summarizes the use of analytical procedures: Phase

Required?

Purpose To assist the auditor in planning the nature, timing, and extent of other auditing procedures. Used for risk

Planning

Yes

measurement to alert the auditor to problem areas requiring attention. This serves as a vital planning function.

As a substantive test to obtain audit evidence about

Substantive Procedures

Final Review

No

specific management assertions related to account balances or transactions. The evidence is circumstantial and generally, additional corroborating evidence (such as documentation) must be obtained.

Yes

To assist the auditor in the final review of the overall reasonableness of account balances.

Analytical Procedures 1. Comparisons of Financial Data Review of current and prior year’s FS and the current year budget Make comparisons between the current year’s actual and budgeted FS Also compare current year actual FS with prior year actual FS Compare current year FS for internal consistency → net income on the income statement should agree with the increase in retained earnings on the statement of retained earnings.

2. Auditor Expectations The auditor also develops independent expectations for comparison to recorded amounts. These expectations may be developed based on: Financial information for comparable prior periods;

Audit Procedures

12

Anticipated results from budgets and forecasts; Relationships among data within the current period; Industry norms; and Relationships of financial data with nonfinancial information

Analytical Procedures USED AS SUBSTANTIVE TESTS In certain situations, analytical procedures are a more effective means of gathering evidence than tests of details, and in those cases, analytical procedures may be used as substantive tests.

1. Efficiency and Effectiveness of Analytical Procedures (are based on the ff. factors) a. Nature of the assertion being tested Analytical procedures are most effective and efficient for assertions in which potential misstatements are not apparent from an examination of the detailed evidence or when such detail is unavailable. b. Plausibility and Predictability of the Data Relationship In order to use analytical procedures as a substantive test, the auditor must have a clear understanding of the relationships among data. It is possible that data may appear to be related when in fact they are not, and failure to properly understand such situations may lead to erroneous conclusions.

In order to provide an appropriate level of assurance, analytical procedures should be based on predictable relationships More predictable relationships are provided by: data generated in a stable, rather than dynamic environment involving income statement rather than just balance sheet accounts involving transactions that are less subject to management discretion c. Availability and Reliability of Data Used to Develop the Expectation

Audit Procedures

13

Data used by the auditor to develop expectations should be both readily available and reliable.

Reliability of data is enhanced if it is: obtained from external rather than internal sources; obtained from independent internal sources (i.e., unrelated to those who are responsible for the amount being audited) generated under effective internal controls audited previously obtained from a variety of sources d. Precision of the Expectation More precise expectations are more effective in detecting misstatements. an expectation is more precise when it is developed at a sufficiently detailed level effective identification and consideration of factors that significantly influence the relationship

2. Documentation Requirements When using an analytical procedure as a principal substantive test of a significant FS assertion, document the ff.: a. Auditor’s expectation b. Factors considered in the development of the expectation c. Results of the comparison of the expectation to recorded amounts d. Additional audit procedures performed in response to significant unexplained differences e. Results of such additional procedures Ratio Analysis In performing analytical procedures, recorded amounts are compared to expectations developed by the auditor. The auditor may also choose to compare

Audit Procedures

14

ratios developed from recorded amounts to expected ratios developed by the auditor.

Investigation of Significant Differences With any significant differences or unusual items that arise, the auditor should: reconsider the manner in which the expectation was developed make inquiries of management expand audit procedures (only if necessary) If no adequate explanations can be obtained, the auditor should obtain sufficient appropriate evidence about the related assertion by performing alternative substantive procedures.

Analytical Procedures USED AS AN OVERALL REVIEW The purpose of applying analytical procedures during the overall review stage of an audit is to evaluate the overall financial statement presentation and to assess the conclusions reached.

The auditor should determine whether adequate evidence has been gathered in response to unusual or unexpected balances identified during the audit; and consider whether additional audit procedures are warranted.

Limitations of Analytical Procedures Analytical review comparisons are based on expected plausible relationships among data DIFFERENCES DO NOT NECESSARILY INDICATE ERRORS OR FRAUD (simply indicate the need for further investigation) Changes in an account, changes in accounting principle, and inherent differences between industry norms and the client all contribute to fluctuations in expected amounts.

Test of control provides evidence that indicates a misstatement is likely to occur.

Substantive tests provides evidence about the existence of the misstatement in an

Audit Procedures

15

account.

When performing tests of control, audit evidence must support the assessed level of control risk.

When performing substantive tests, audit evidence must support the acceptable level of detection risk.

Primary purpose of audit procedures: to gather corroborative audit evidence about management’s assertions regarding the client’s financial statements.

More types of audit evidence are obtained by using what type of test than any other?

Test of details of balances

Which of the following tests commonly occur together? Substantive tests of transactions and tests of controls

Of the following procedures, which does not produce analytical evidence? a. Compare revenue, cost of sales, gross profit with the prior year and investigate significant variations. b. Examine monthly performance reports and investigate significant revenue and expense variances. c. Confirm customer’s accounts receivable and clear all material exceptions. d. Compare sales trends and profit margins with industry averages and investigate significant differences

Which of the following statements concerning analytical procedures is correct? a. Analytical review may be omitted entirely for some financial statement audits.

Audit Procedures

16

b. Analytical procedures used in planning an audit should not use non-financial information. c. Analytical procedures are usually effective and efficient for tests of controls. d. Analytical procedures alone may provide the appropriate level of assurance for some assertions.

Auditors sometimes use comparisons of ratios as audit evidence. For example, an unexplained decrease in the ratio of gross profit to sales may suggest which of the following possibilities? → Unrecorded Sales

Which result of an analytical procedure suggests the existence of obsolete merchandise? → Decrease in the inventory turnover rate.

If accounts receivable turned over 8 times in 20X1 as compared to only 6 times in 20X2, it is possible that there were unrecorded credit sales in 20X2.

An auditor compares this year’s revenues and expenses with those of the prior year and investigates all changes exceeding 10%. By this procedure the auditor is most likely to learn that the client changed its capitalization policy for small tools during the year.

You are auditing the company’s purchasing process for goods and services. You are primarily concerned with the company not recording purchase transactions. Which audit procedure below would be the most effective audit procedure in this case? a. Vouching from the accounts payable account to the vendor invoices.

Vouching is reviewing supporting documents to see if they properly support entries made in the accounting records. b. Tracing vendor invoices to recorded amounts in the accounts payable account. c. Confirmation accounts payable recorded amounts.

Audit Procedures

17

d. Reconciling the accounts payable subsidiary ledger to the accounts payable account.

Audit Procedures

18