Chapter 5

Tracing

(Completeness) Source Document to Journal/Ledger

Vouching

(Occurrence) Journal/Ledger to Source Document

Sufficiency/Appropriateness of Audit Evidence

***Sufficiency - the measure of the quantity of audit evidence. -Greater risk of misstatement requires higher quantity of audit evidence. -Higher quality audit evidence results in a lower quantity of audit evidence. ***Appropriateness - the measure of the quality of audit evidence. -Relevance: is it relevant? -Reliability: is it reliable? Inverse relationship between sufficiency and appropriateness.... high appropriateness... low sufficiency. Low appropriateness... high sufficiency.

Audit Procedures for Obtaining Audit Evidence

-Inspection of records or documents -Inspection of tangible assets -Observation -Inquiry -Confirmation -Recalculation -Re-performance -Analytical Procedures -Scanning

Types of Audit Evidence

-Records or initial entries and supporting records -Spreadsheet supporting allowance calculations -Invoices -General and Subsidiary ledgers -Contracts -Results of inquiries -Worksheets -Reconciliations

Assertions about account balances at the period end (4):

1. Existence 2. Rights and obligations 3. Completeness 4. Valuation and allocation

Reliability 5 Sources

1. Independent Source outside the entity - Viewed as more reliable than evidence obtained solely from within the entity. 2. Effectiveness of Internal Control: If internal control is considered low risk, evidence generated by that accounting system is viewed as reliable. 3. Auditor's Direct Personal Knowledge: Evidence obtained directly by the auditor is generally considered to be more reliable. ex: auditor's physical inspection of the entity's inventory... considered reliable. 4. Documentary Evidence: more reliable when it exists in documentary form, whether paper, electronic, or other medium. 5. Original Documents: Original documents better than photocopies...

Assertions about classes of transactions and events for the period under audit (6)

1. Occurrence 2. Completeness 3. Authorization 4. Accuracy 5. Cutoff 6. Classification

Assertions about presentation and disclosure (4):

1. Occurrence and rights and obligations 2. Completeness 3. Classification and understandability 4. Accuracy and Valuation

Valuation and Allocation (Period End/Balance Sheet)

Address whether assets, liabilities, and equity interests included in the financial statements are at appropriate amounts and any resulting valuation or allocation adjustments are appropriately recorded.

Audit Evidence

All information, from whatever source, used by the auditor in arriving at the conclusions on which the audit opinion is based. Includes the accounting records and other info.

Audit Procedures for Obtaining Audit Evidence (3 types)

Audit Procedures for Obtaining Audit Evidence: Specific acts performed by the auditor to gather evidence about whether specific assertions are being met. 1. Risk Assessment Procedures 2. Tests of Controls 3. Substantive Procedures

List and define the assertions about account balances at the period end.

Audit evidence is the information used by the auditor in arriving at the conclusions on which the audit opinion is based, and includes the information contained in the accounting records underlying the financial statements and other information. Accounting records include the records of initial entries and supporting records, such as checks and records of electronic fund transfers; invoices; journal entries, and other adjustments to the financial statements that are not reflected in formal journal entries; and records such as work sheets and spreadsheets supporting cost allocations, computations, reconciliations, and disclosures. Many times the entries in the accounting records are initiated, recorded, processed, and reported in electronic form. Other information is audit evidence that includes minutes of meetings; confirmations from third parties; industry analysts' reports; comparable data about competitors (benchmarking); controls manuals; information obtained by the auditor from such audit procedures as inquiry, observation, and inspection; and other information developed by, or available to, the auditor that permits the auditor to reach conclusions through valid reasoning.

Explain why the auditor divides the financial statements into components or segments in order to test management's assertions.

Auditors typically divide the financial statements into components or segments in order to make the audit more manageable. A component can be a financial statement account or a business (transaction cycle) process. This approach allows the auditor to gather evidence by examining the processing of related transactions through the accounting system from their origin to their ultimate disposition in the accounting journals and ledgers. Thus, the auditor can examine an accounting transaction from the time it is initiated by the entity until its final recording in the financial statement accounts.

Observation (Audit Procedures)

Consists of looking at a process or procedure being performed by others.

Inspection of Records or Documents (Audit Procedures)

Examination of internal or external records or documents that are in paper form, electronic form, or other media.

List and define the assertions about classes of transactions and events for the period under audit.

Existence Assets, liabilities, and equity interests exist. Rights and Obligations:The entity holds or controls the rights to assets, and liabilities are the obligations of the entity. Completeness: All assets, liabilities, and equity interests that should have been recorded have been recorded. Valuation and Allocation: Assets, liabilities, and equity interests are included in the financial statements at appropriate amounts and any resulting valuation or allocation adjustments are recorded appropriately.

Inspection of Tangible Assets (Audit Procedures)

Physical Examination of the tangible assets.

Relevance and Reliability (Appropriateness of Audit Evidence)

Relevance of audit evidence refers to its relationship to the assertion being tested. Reliability of evidence refers to whether a particular type of evidence can be relied upon to signal the TRUE state of an assertion.

Scanning (Audit Procedures)

Review of accounting data to identify significant or unusual items.

Conducting and Inquiry... (Audit Procedures)

The auditor should: -Consider who the appropriate individual is to question -Ask clear, concise, and relevant questions. -Use open or closed questions appropriately -Listen actively and effectively -Consider the reactions and responses and ask follow-up questions -Evaluate the response

Classification Assertion

The classification assertion is concerned with whether transactions and events have been recorded in the proper accounts.

Completeness Assertion

The completeness assertion relates to whether all transactions and events that occurred during the period have been recorded. ***Opposite of occurrence assertion... failure to complete is to leave an account understated... Someone has left something out on purpose.

Cutoff Assertion

The cutoff assertion relates to whether transactions and events have been recorded in the correct accounting period. Ex: the auditor may want to test proper cutoff of revenue transactions at Dec 31, 2015...

Occurence Assertion

The occurrence assertion relates to whether all recorded transactions and events HAVE OCCURRED and pertain to the entity. Ex: all revenue transactions are valid transactions... no BS.

Observation (Audit Procedures)

Watching a process or procedure being performed by others.

Completeness Assertion (Balance Sheet/Period End)

Whether all assets, liabilities, and equity interests that should have been included as ending balances on the financial statements have been included.

Occurrence and Rights and Obligations (Presentation and Disclosure)

address whether disclosed events, transactions, and other matters have occurred and pertain to the entity.

Accuracy and valuation (Presentation and Disclosure)

address whether financial and other information is disclosed fairly and in appropriate amounts.

Rights and Obligations Assertion (Period End/Balance Sheet)

address whether the entity holds or controls the rights to assets included on the financial statements, and that liabilities are the obligations of the entity.

Classification and Understandability (Presentation and Disclosure)

address whether the financial information is appropriately presented and described, and disclosures are clearly expressed.

Accuracy Assertion

addresses whether amounts and other data relating to recorded transactions and events have been recorded appropriately. ***Use GAAP

Existence Assertion (Period End/Balance Sheet)

addresses whether ending balances of assets, liabilities, and equity interests included in the financial statemens ACTUALLY EXIST at the date of the financial statements.

Confirmation (Audit Procedures) + Info Frequently Confirmed by Auditors

audit evidence obtained by the auditor as a direct written response to the auditor from a third party (the confirming party) in paper form or by electronic or other medium. Frequently Confirmed...Source of Info Cash Balance...Bank A/R Balance...Individual Customer Inventory on Consignment...Consignee N/P...Lending Institution Insurance Contract...Insurance Company

Recalculation (Audit Procedures)

checking the mathematical accuracy of documents or records... can be performed manually or through the use of information technology...

Inquiry (Audit Procedures)

consists of seeking information of knowledgeable persons (both financial and nonfinancial) within the entity or outside the entity.

Analytical Procedures (Audit Procedures)

evaluations of financial information through analysis of plausible relationships among both financial and non-financial data.

Assertions

expressed or implied representations by management regarding the recognition, measurement, presentation, and disclosure of information in the financial statements and related disclosures.

Nature of Audit Evidence

refers to the form or type of information, which includes accounting records and other available information.

Completeness (Presentation and Disclosure)

relates to whether all disclosures that should have been included in the financial statements have been included... no material disclosures have been OMITTED from the footnotes...

Authorization Assertion

relates to whether all transactions have been properly authorized. Ex: purchase of a new manufacturing facility should be approved by the board of directors.

Reperformance (Audit Procedures)

the independent execution by the auditor of procedures or controls that were originally performed by company personnel. --Viewed as highly reliable... auditor is reperforming

Substantive Procedures (Audit Procedures for Obtaining Audit Evidence)

used to detect material misstatements at the relevant assertion level. Substantive procedures include tests of details and substantive analytical procedures.

Risk Assessment Procedures (Audit Procedures for Obtaining Audit Evidence)

used to obtain an understanding of the entity and its environment, including its internal control, to assess the risks of material misstatement at the financial statement and relevant assertion levels.

Tests of Controls (Audit Procedures for Obtaining Audit Evidence)

used to test the operating effectiveness of controls in preventing, or detecting and correcting, material misstatements at the relevant assertion level.