INTRODUCTION TO AUDITING CASE STUDY Nature of Audit Evidence Most of the auditor's work in forming an audit opinion consists of obtaining and evaluating audit evidence. CAS 500 explains that audit evidence is information used by the auditor in arriving at conclusions upon which the audit opinion is based. Evidence includes information generated by the auditor, third parties, and the client. Audit Evidence Decisions NATURE: Which audit procedures to use? EXTENT: Which items to select for testing? TIMING: When to perform the procedures? Audit Procedures What is an audit procedure? It is the detailed instructions for the collection of audit evidence-that is, the actual task that you do to obtain evidence with respect to an audit objective: for example, when you count inventory, you note the quantity, location, tag number, unit of measure and condition. Audit procedures fall into three categories: Risk assessment procedures-performed by the auditor to obtain information for identifying and assessing risks of material misstatement in the financial statements due to fraud or error. Tests of controls-designed to evaluate the operating effectiveness of controls at the assertion level. Substantive procedures-designed to detect material misstatements in accounts which include tests of details and analytical procedures Sufficient Appropriate Evidence in Auditing Accounting records are evidence, but are not sufficient appropriate evidence for an audit opinion. Corroborating evidence needs to be obtained. Appropriateness of Evidence Appropriate evidence is relevant and reliable. Relevant: relates to management assertions. Reliable: depends on nature and source. Hierarchy of evidence can be used to judge reliability. Reliability combined with relevance determine the persuasiveness of evidence. Sufficiency of Evidence How much appropriate evidence is enough. No official standard, auditors must use professional judgement.INTRODUCTION TO AUDITING CASE STUDY Timeliness The timeliness of audit evidence can refer to either when it was accumulated or the period covered by the audit. For balance sheet accounts, evidence is more persuasive when it is obtained as close to the balance sheet date as possible. For income statement accounts, evidence is more persuasive if it covers the entire period under audit rather than only a part of the period. Evidence Gathering Audit Procedures - CAS Audit Evidence Audit Technique Types of Audit Evidence Inspection Documents prepared by independent parties Documents prepared by the auditee Physical inspection of tangible assets Observation Auditors observations Confirmation Statements by independent parties Recalculation/reperformance Auditors calculations or performance Analysis Data interrelationships Inquiry Statements by auditee personnel Evidence Gathering Audit Procedures: Inspection Inspection: Looking at records, documents, or assets having physical substance Reliable evidence for existence, supports valuation Documents can be prepared by independent outside parties as either formal authoritative or ordinary documents Documents can also be prepared by the entity under audit Evidence Gathering Audit Procedures: Inspection - Particular Techniques Vouching Information is selected from an account or other summary of information and the auditor goes back through the control system to find the source documentation Vouching supports existence Source documents + vouch -- Account/other summary Tracing Auditor selects source documents and proceeds forward through the controlINTRODUCTION TO AUDITING CASE STUDY system to the final recording of the transaction Tracing supports completeness Source documents + Vouch + Account/other summary Source documents - Trace - Account/other summary Scanning An eyes-open approach of looking for anything unusual Does not produce direct evidence, but can raise questions. Computers can be used to scan electronic data files. Scanning can be used to reduce sampling risk by scanning the items not selected. Evidence Gathering Audit Procedures: Observation Observation: Looking at the application of policy or procedures by others Reliable evidence as to performance at the time of observation Procedures a general awareness of events Evidence Gathering Audit Procedures: External Confirmation External Confirmation: Consists of (written) enquiry to verify accounting records. Confirmation with independent parties is used widely for a variety of transactions and balances. Confirmation can produce evidence regarding existence, ownership, valuation and cut-off. Confirmation procedures: Confirmations should be printed on the client's letterhead, signed by a client officer. Auditor needs to ensure that the address on the confirmation is legitimate. The recipient should be able to provide the information. The auditor must mail the confirmations. Responses must be returned directly to the auditor. Forms of confirmations: Positive confirmations: request a reply in all cases. Follow-up is required for all exceptions reported, and for all unreturned confirmations. Negative confirmations: request a reply only where information is incorrect. Only exceptions need to be followed up Evidence Gathering Audit Procedures: Recalculation/Reperformance Recalculation / Reperformance Performing independent calculations or recalculating the client's calculations. Computation produces highly reliable mathematical evidence. Computation addresses existence and valuation for calculated amounts. Reperformance is applied in control testing, the auditor independently executesINTRODUCTION TO AUDITING CASE STUDY an internal control procedure Evidence Gathering Audit Procedures: Analysis Analysis: Evaluation of financial items in determining other audit programs and performing analytic procedures that compare recorded amounts to expectations. Analysis is the "other" category in the list of audit techniques. Analytical procedures are both important and effective. Analysis is used in planning, execution, and completion of the audit. Evidence Gathering Audit Procedures: Analysis - Analytic Procedures Per CAS 520.4, analytical procedures are evaluations of financial information through analysis of plausible relationships among financial and nonfinancial data. They may be performed throughout the engagement: In audit planning During the risk response During the completion Some typical analytic procedures: Compare current year to prior year. Compare current year to budget. Evaluate current year balances against other current year balances. Compare financial ratios to industry standards. Study relationship of balances and non-financial information Using Analytical Procedures as Substantive Tests CAS 520 describes the process of developing substantive analytical procedures: navalan on indanandant nunnstationINTRODUCTION TO AUDITING CASE STUDY CAS 520 describes the process of developing substantive analytical procedures: Develop an independent expectation Define a significant difference Compute the difference Investigate significant differences The degree of precision of the analytical procedures is dependent on a number of different factors. Evidence Gathering Audit Procedures: Inquiry Inquiry Involves the collection of oral evidence from the client and independent third parties. Evidence from inquiry requires corroboration. Evidence from inquiry is important in understanding the client's business. Audit standards now put more reliance on inquiry as a means to understanding strategy and risks and controls. DocumentationINTRODUCTION TO AUDITING CASE STUDY Exercise 1: Depict your understanding of the Auditing concepts you have learned so far on a PPT. Complete The Below Exercise 1. Check Your Progress 1. Define internal control 2. Distinguish between accounting control and administrative control. 3. State whether each of the following is true or false: a) Internal control is different from internal check. b) Internal control does not include accounting control c) Internal control is compulsory in all business organisation d Internal control include quality control and time and motion studies. e) An effective internal control system helps external auditor to design suitable audit.INTRODUCTION TO AUDITING CASE STUDY iii) State whether the following statements are true or false. a) Auditing of accounts is compulsory in a partnership firm. b) Auditing of accounts is undertaken to detect fraud in the books of accounts. C) A professional auditor cannot take up the work of preparing the accounts of a company. d) Investigation is taken up only on behalf of the owner of the entity. e) Investigation of accounts is not compulsory but audited by the qualified professional accountant. f) In ancient period the audit was confined to cash audit and not to locate fraud. g) Audit of company accounts is compulsory under the Chartered Accountants Act, 1949.INTRODUCTION TO AUDITING CASE STUDY 4. Fill in the blanks with the appropriate word given in the bracket: a) when two or more errors are committed in such a way that the result of these errors on the debits and credits is nil, they are known as (error of omission/compensating error) b) are always committed deliberately and intentionally to defraud the proprietors of the organisation (error/fraud) c ) the main objective of -is to avoid or reduce the tax liability.(window dressing/secret reserves) d) to determine and judge the reliability of the financial statements and the supporting accounting records for a particular financial period is -of an audit .(primary objective/secondary objective)