A-3

Techniques for substantive testing

-Confirmations -analytical procedures

the sample size in attribute sampling is affected by 3 things:

-allowable risk of assessing control risk too low -tolerable deviation rate -expected deviation rate

Techniques for assessing control risk:

-inquiry -observation -inspection -re-performance

substantive procedures include:

-test of details -analytical procedures

If an auditor's risk assessment is based on the effective operation of controls, the auditor will:

1) identify specific IC's relevant to specific assertions 2) perform test of such controls to evaluate their effectiveness

upper deviation rate

= sample deviation rate + allowance for sampling risk

Audit Risk = IR x CR x DR

Assessed risk of material misstatement (RMM) = Inherit Risk (IR) x Control Risk (CR)

objective of substantive testing

Detect material misstatement in the financial statements.

substantive procedures are necessary for all relevant assertions related to material transaction classes

Remember, regardless of control risk an auditor will perform some Substantive Tests to restrict detection risk for significant transaction classes ie. the need for some substantive tests of transactions is never eliminated

The acceptable level of detection risks affects the nature, timing, and extent of ...

Substantive procedures. NOT control tests

Substantive vs control testing

Substantive testing - completeness and accuracy of financial information (data) controls testing- verify the operating effectiveness of controls

Control Risk (CR)

The risk that material misstatement is not being prevented or detected by the client's internal controls *assessed in terms of Financial Statement assertions

the risk of incorrect acceptance (Ie the acceptable level of risk)

can be thought of as another margin for error. -as Acceptable level of risk increases, than sample size decreases. -as Acceptable level of risk decreases, than sample size needs to increase

The assessed level of inherent risk exists independently from and bears no direct relationship to...

control risk

Substantive vs control testing

control testing happens first. The knowledge provided by tests of controls effect the extent of substantive testing

An auditor uses assessed control risk to

determine the acceptable level of detection risk for financial statement assertions.

objective of Controls testing

evaluation of the operating effectiveness of contols

auditor generally focuses on testing the Existence/Occurrence when testing Revenue Rev is more likely to be overstated

generally focuses on Completeness when testing Expenses Expenses are more likely to be overstated

auditor generally focuses on Existence when testing Assets Assets are more likely to be overstated

generally focuses on Completeness when testing Liabilities Liabilities are more like to be Understated

the auditor may fail to identity an existing problem

incorrect acceptance and assessing control risk too low -relate to effectiveness

the auditor may falsely identify a problem where none actually exists

incorrect rejection or assessing control risk too high -relate to efficiency

control risk deals with....

internal controls NOT account balances

RMM (risk of material misstatement)

inversely related to detection risk (DR) directly related to assurance provided by Substantive Tests

Lower assessed level of control risk

means greater reliance on controls. So more assurance gathered that controls are operating effectively.

Detection Risk

risk that auditor concludes no material misstatement exists when there actually is one ie. risk that the practitioner will not detect a material mistatement *can be changed at the auditor's discretion

If the assessed level of control risk is high, the auditor should plan to perform more ______________ procedures.

substantive testing -NOT test of controls

Inherent Risk

the susceptibility that an error/omission will occur problems due to factor OTHER THAN internal controls