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MODERN AUDITING 7th Edition

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Presentation on theme: "MODERN AUDITING 7th Edition"— Presentation transcript:

1 MODERN AUDITING 7th Edition
William C. Boynton California Polytechnic State University at San Luis Obispo Raymond N. Johnson Portland State University Walter G. Kell University of Michigan Developed by: Dr. Raymond N. Johnson, CPA John Wiley & Sons, Inc.

2 CHAPTER 6 AUDIT EVIDENCE, AUDIT OBJECTIVES, AUDIT PROGRAMS, AND WORKING PAPERS
Top-Down vs. Bottom-Up Audits Important Decisions About Audit Evidence Audit Assertions Audit Evidence, Corroborating Information, and Audit Procedures Electronic Data Processing and Audit Procedures Audit Programs Working Papers

3 Top-Down Versus Bottom-Up Audits
Top-down audit evidence focuses the auditor’s attention on obtaining an understanding of: 1. the business and industry, 2. management’s goals and objectives, 3. how management uses its resources to attain those goals, 4. the organization’s competitive advantage in the marketplace, 5. core business processes, and 6. the earnings and cash flow that result. Theory: Use knowledge of the business, industry and business risks to develop expectations of financial statements.

4 Top-Down Versus Bottom-Up Audits
Bottom-up audit evidence focuses on directly testing: transactions, account balances, and the systems that record the transactions and resulting account balances. Theory: The whole is the sum of the parts.

5 Top-Down vs. Bottom-Up Audit Procedures Figure 6-1

6 Important Decision About Audit Evidence
When planning the audit, the auditor must make 4 important decisions about scope and conduct of the audit. These include: 1. The nature of tests to be performed 2. The timing of tests to be performed 3. The extent of tests to be performed 4. The assignment of staff to perform audit tests

7 Proposed SAS Audit Evidence

8 Proposed SAS Audit Evidence
Audit evidence is all the information used by the auditor in arriving at the conclusions on which the audit opinion is based. Accounting records (Not Sufficient to Draw a Conclusion!!) Other information Minutes of meetings Confirmations Analysts’ reports Comparable data about competitors Control manuals Information obtained by audit procedures (inquiry, observation, inspection) Information that permits conclusions through valid reasoning

9 Proposed SAS Audit Evidence
Assertions - Assertions are the subject about which auditors collect evidence. Assertions about classes of transactions Occurrence: Transactions and events that were recorded for the period have occurred and pertain to the entity. Completeness: All transactions and events that should have been recorded have been recorded. Accuracy: Amounts and other data relating to the recorded transactions and events have been recorded accurately. Cutoff: Transactions and events have been recorded in the correct accounting period. Classification: Transactions and events have been recorded in the proper accounts.

10 Proposed SAS Audit Evidence
Assertions - Assertions are the subject about which auditors collect evidence. Assertions about account balances Existence: Recorded assets, liabilities, and equity interest 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 include din the financial statements at appropriate amounts and any resulting valuation adjustments are appropriately recorded.

11 Proposed SAS Audit Evidence
Assertions - Assertions are the subject about which auditors collect evidence. Assertions about presentation and disclosure Occurrence and rights and obligations: Disclosed events and transactions have occurred and pertain to the entity. Completeness: All disclosures that should have been included in the financial statements have been included . Understandability: Financial information is appropriately presented and information in disclosures is understandable to users. Accuracy and Valuation: Financial and other information is disclosed accurately and at appropriate amounts.

12 Proposed SAS Audit Evidence
Sufficiency is a measure of quantity of audit evidence. Affected by the risk of material misstatement Quality of audit evidence Competence is a measure of quality of audit evidence. Relevance – relevant to assertions Reliable evidence is influenced by Its source Its nature Dependent upon the individual circumstances under which it is obtained.

13 Proposed SAS Audit Evidence
Generalizations about reliable evidence Audit evidences is more reliable when it is obtained from independent sources outside the entity. Audit evidence that is generated internally is more reliable when the related controls imposed by the entity are effective. Audit evidence obtained directly by the auditor is more reliable than evidence obtained indirectly or by inference. Audit evidence is more reliable when it exists in documentary form, whether paper, electronic, or other medium. Audit evidence provided by original documents is more reliable than audit evidence provided by photocopies or facsimilies

14 Effects of Circulation on Reliability of Documentary Evidence Figure 6-5

15 Proposed SAS Audit Evidence
Audit procedures for obtaining evidence Risk assessment procedures: Obtaining an understanding of an entity and its environment, including internal control to assess risks of material misstatement Tests of controls: Testing the operating effectiveness of internal controls Substantive procedures: Supporting assertions or detecting misstatements at the assertion level. Includes tests of details of classes of transactions, account balances, and disclosures, and substantive analytical procedures.

16 Proposed SAS: Audit Evidence Audit Procedures
Inspection of records and documents Vouching Tracing

17 Directional Testing — Vouching and Tracing Figure 6-6

18 Proposed SAS: Audit Evidence Audit Procedures
Inspection of records and documents Vouching Tracing Inspection of tangible assets Observation Inquiry Confirmation Recalculation Reperformance Analytical procedures (Note: where the information is in electronic form the auditors may carry out these procedures thru CAATs.)

19 Computer-Assisted Audit Techniques
The auditor can use computer audit software to do the following: 1. Perform the calculations and comparisons used in analytical procedures. 2. Select a sample of accounts receivable for confirmation. 3. Scan a file to determine that all documents in a series have been accounted for. 4. Compare data elements in different files for agreement. 5. Submit test data to the client’s programs to determine that computer aspects of internal controls are functioning. 6. Reperform a variety of calculations such as totaling the accounts receivable subsidiary ledger or inventory file.

20 Important Decision About Audit Evidence
When planning the audit, the auditor must make 4 important decisions about scope and conduct of the audit. These include: 1. The nature of tests to be performed 2. The timing of tests to be performed 3. The extent of tests to be performed 4. The assignment of staff to perform audit tests

21 Audit Risk Model and Decisions About Audit Evidence
Inherent Risk: High vs. Low Nature: Risk assessment procedures must be performed to understand the nature of the risk of material misstatement. No default of IR at the maximum without understand the drivers of risk of material misstatement. However, the lower the assessed level of inherent risk the more persuasive the evidence needs to be from risk assessment procedures. Timing: Risk assessment procedures will usually be performed at interim and updated at the end of the year. Extent: A lower assessed level of inherent risk will usually be supported by more reliable evidence rather than more extensive evidence. Staffing: Risk assessment procedures are usually performed by more experienced staff.

22 Audit Risk Model and Decisions About Audit Evidence
Control Risk: High vs. Low Nature: When control risk is assessed as low the auditor will perform tests of controls. A low control risk assessment for programmed controls often requires testing several types of controls (e.g., computer general controls, application controls, and manual follow-up). Timing: Tests of controls will usually be performed at interim and updated at the end of the year. Extent: A lower assessed level of control risk will usually be supported by more extensive tests of controls rather than less extensive tests of controls. Staffing: Some tests of controls may be performed by audit staff with relatively little experience while other tests of controls require significant experience. Depending on the nature of the test of controls, a computer audit specialist may be needed. Audit staff with more experience would normally evaluate the control environment.

23 Audit Risk Model and Decisions About Audit Evidence
Detection Risk: High vs. Low Nature: The auditor may choose among analytical procedures, tests of transactions and tests of balances. The auditor would normally use more reliable evidence when when detection risk is lower. Timing: If detection risk is low substantive tests are normally performed on year-end balances. If detection risk is moderate or high, substantive tests may be performed on balances at an interim date. Extent: A lower assessed level of detection risk will usually be supported by more extensive substantive tests rather than less extensive substantive tests. Staffing: Assertions with a higher degree of professional judgment usually require more experienced staff.

24 Audit Challenges in the Information Technology Environment
Accounting data and corroborating evidential matter are available only in electronic from. EDI Image processing systems vs. documents

25 Electronic Data Processing and Audit Procedures
Effect on Material Account Balance and Transaction Classes: Need to identify transaction classes with significant use of IT Effect on Nature of Audit Tests: The auditor may need to obtain evidence to support a low control risk assessment Effect on Timing of Audit Tests: The auditor may want to inspect documents before they are destroyed. Effect on Extent of Audit Tests: The auditor can use computer technology to screen every transaction. Effect on Audit Staffing: The need for computer audit specialist as a member of the audit team.

26 SAS 41 describes working papers as the records kept by the auditor of:
1. the procedures applied, 2. the tests performed, 3. the information obtained, and 4. the pertinent conclusions reached in the audit.

27 Working Papers Working papers provide:
1. The principal support for the auditor’s report. 2. A means for coordinating and supervising the audit. 3. Evidence that the audit was made in accordance with GAAS.

28 Integrated Working Papers for Cash Figure 6-11

29 Preparing Working Papers
The following essential techniques of good working paper preparation should always be observed: Heading Each working paper should contain the name of the client, a descriptive title identifying the content of the working paper, and the balance sheet date or the period covered by the audit. Index number Each working paper is give an index or reference number, for identification and filing purposes. Cross-referencing Data on a working paper that is taken from another working paper or that is carried forward to another working paper should be cross-referenced with the index numbers of those working papers.

30 Preparing Working Papers
Tick marks Tick marks are symbols (or numbers) that are used on working papers to indicate that the auditor has performed some procedure on the item to which the tick mark is affixed, or that additional information about the item is available elsewhere on the working paper. Signatures and dates Upon completing their respective tasks, both the preparer and reviewer of a working paper should initial and date it.

31 Copyright Copyright 2001 John Wiley & Sons, Inc. All rights reserved. Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the express written permission of the copyright owner is unlawful. Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc. The purchaser may make backup copies for his/her own use only and not for distribution or resale. The Publisher assumes no responsibility for errors, omissions, or damages, caused by the use of these programs or from the use of the information contained herein.


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