Chapter 4Chapter 4

Audit Evidence and Audit Documentation

McGraw-Hill/Irwin Copyright © 2008 by The McGraw-Hill Companies, Inc. All rights reserved.

4-2

Relationship of AuditEvidence to the Audit Report

Management assertionsabout components offinancial statements

Management assertionsabout components offinancial statements

FinancialstatementsFinancial

statements

Auditprocedures

Auditprocedures

AuditreportAuditreport

Evidence on thefairness of the

financial statements

Evidence on thefairness of the

financial statements

LO# 1

4-3

Management Assertions

Assertions aboutclasses of transactions

and events for theperiod under audit

OccurrenceOccurrence

CompletenessCompleteness

AuthorizationAuthorization

AccuracyAccuracyCutoffCutoff

ClassificationClassification

LO# 2

4-4

Management Assertions

Assertions aboutend-of-the-periodaccount balances

Rights andObligationsRights andObligations

Valuationand allocation

Valuationand allocation

CompletenessCompletenessExistenceExistence

LO# 2

4-5

Management Assertions

Assertionsabout presentation

and disclosure

Occurrence andrights and obligations

Occurrence andrights and obligations

Classification and understandabilityClassification and understandability

Accuracy andvaluation

Accuracy andvaluation CompletenessCompleteness

LO# 2

4-6

Financial Statement Assertions(The Assurance Bucket)

Existence or OccurrenceCompletenessRights and ObligationsValuation or AllocationPresentation and Disclosure

4-7

Audit Procedures

Specific actsperformed by the auditor

to gather evidence to determineif specific assertions are

being met.

Risk assessment procedures

Risk assessment procedures

Test of controlsTest of controls

SubstantiveproceduresSubstantiveprocedures

LO# 3

4-8

Audit Procedures

ObservationDocumentationConfirmationComparisonsInquiriesTest of Data

Computation Tracing

4-9

Audit Procedures

A set of audit procedures prepared to testassertions for a component of the financial

statements is referred to as an audit program.

A set of audit procedures prepared to testassertions for a component of the financial

statements is referred to as an audit program.

Management Assertions Audit ProceduresExistence Confirm receivables.Rights and Obligations Ask if receivables have been sold.Completeness Agree controlling account with total of subsidiary accounts.

Examine sales invoices immediately before and after year-endfor proper cutoff.

Valuation or allocation Trace accounts from aged trial balance to subsidiary accounts.Test the adequacy of the allowance account.

Presentation and disclosure Look for amounts due from related parties.Evaluate receivables for footnote disclosure.

Audit Program for Accounts ReceivableManagement Assertions Audit ProceduresExistence Confirm receivables.Rights and Obligations Ask if receivables have been sold.Completeness Agree controlling account with total of subsidiary accounts.

Examine sales invoices immediately before and after year-endfor proper cutoff.

Valuation or allocation Trace accounts from aged trial balance to subsidiary accounts.Test the adequacy of the allowance account.

Presentation and disclosure Look for amounts due from related parties.Evaluate receivables for footnote disclosure.

Audit Program for Accounts Receivable

LO# 3

4-10

Audit Evidence

All the information usedby the auditor in arriving at

the conclusions on which theaudit opinion is based.

All the information usedby the auditor in arriving at

the conclusions on which theaudit opinion is based.

LO# 4

4-11

Understanding the Conduct of an Audit via AuditEvidence

Nature of audit evidenceNature of audit evidence

Sufficiency and appropriateness of audit evidence

Sufficiency and appropriateness of audit evidence

Evaluation of audit evidenceEvaluation of audit evidence

LO# 4

4-12

Nature of Audit Evidence

Records ofinitial entries and

supporting records

Records ofinitial entries and

supporting recordsInvoicesInvoices

ContractsContracts

Generaland subsidiary

ledgers

Generaland subsidiary

ledgers

Adjustmentsto financialstatements

Adjustmentsto financialstatements

WorksheetsWorksheets

Spreadsheetssupporting cost

allocations

Spreadsheetssupporting cost

allocations

Othercomputations,

reconciliations, anddisclosures

Othercomputations,

reconciliations, anddisclosures

LO# 4

4-13

Competence of Audit Evidence

Measures Quality of EvidenceMeasures Quality of Evidence

RelevantRelevant

ReliableReliable

LO# 4

4-14

Sufficiency ofAudit Evidence

Sufficiency is a measure ofthe quantity of audit evidence.Sufficiency is a measure of

the quantity of audit evidence.

Greater risk ofmisstatement requires

a higher quantityof audit evidence.

Greater risk ofmisstatement requires

a higher quantityof audit evidence.

Higher quality audit evidence results

in a lower quantityof audit evidence.

Higher quality audit evidence results

in a lower quantityof audit evidence.

LO# 4

4-15

Appropriateness ofAudit Evidence

RelevanceRelevance

ReliabilityReliability

Independent source of the evidenceIndependent source of the evidence

Effectiveness of internal controlEffectiveness of internal control

Auditor’s direct personal knowledgeAuditor’s direct personal knowledge

Documentary evidenceDocumentary evidence

Original documentsOriginal documents

LO# 4

Appropriateness is a measureof the quality of audit evidence.Appropriateness is a measureof the quality of audit evidence.

4-16

Evaluation ofAudit Evidence

Proper evaluation of evidencerequires an understanding of theProper evaluation of evidence

requires an understanding of the

Types of evidence available. Types of evidence available.

Relative reliability of available evidence.Relative reliability of available evidence.

An auditor should be thorough in searchingfor evidence and unbiased in its evaluation.An auditor should be thorough in searchingfor evidence and unbiased in its evaluation.

LO# 4

4-17

Audit Procedures forObtaining Audit Evidence

Inspectionof records and

documents

Inspectionof records and

documentsRecalculationRecalculation ObservationObservation

InquiryInquiry ScanningScanningInspectionof tangible

assets

Inspectionof tangible

assets

ConfirmationConfirmation ReperformanceReperformance AnalyticalproceduresAnalytical

procedures

LO# 5

4-18

Audit Procedures forObtaining Audit Evidence

Inspectionof records and

documents

Inspectionof records and

documents

Evidence obtained fromexternal documents is more

reliable than evidence obtainedfrom internal documents.

Evidence obtained fromexternal documents is more

reliable than evidence obtainedfrom internal documents.

LedgerSource

Documents

Vouching(Occurrence)

Tracing(Completeness)

LO# 5

Reliability of Records

Internal vs. External

4-20

Audit Procedures forObtaining Audit Evidence

Inspectionof records and

documents

Inspectionof records and

documents

In conducting inquiry, the auditor should:

• Consider the knowledge, objectivity, experience, responsibility, and qualifications of the person to be questioned.

• Ask clear, concise, and relevant questions.

• Use open or closed questions appropriately.

• Listen actively and effectively.

• Consider the reactions and responses, then ask follow-up questions.

• Evaluate the response.

In conducting inquiry, the auditor should:

• Consider the knowledge, objectivity, experience, responsibility, and qualifications of the person to be questioned.

• Ask clear, concise, and relevant questions.

• Use open or closed questions appropriately.

• Listen actively and effectively.

• Consider the reactions and responses, then ask follow-up questions.

• Evaluate the response.

InquiryInquiry

LO# 5

4-21

Audit Procedures forObtaining Audit Evidence

Inspectionof records and

documents

Inspectionof records and

documents

InquiryInquiry

ConfirmationConfirmation

Information FrequentlyConfirmed by Auditors Source of ConfirmationCash balance BankAccounts receivable Individual customersInventory on consignment ConsigneeAccounts payable Individual vendorsBonds payable Bondholders/trusteeCommon stock outstanding Registrar/transfer agentInsurance coverage Insurance companyCollateral for loans Creditors

LO# 5

4-22

Audit Procedures forObtaining Audit Evidence

Recalculation - Determining the mathematical accuracy of documents or records.

Reperformance - The auditor’s independent execution of procedures or controls that were originally performed as part of the internal control system.

4-23

Audit Procedures forObtaining Audit Evidence

Observation - The process of watching a process or procedure being performed by others.

Inspection of Intangible Assets - Physical examination of a tangible asset.

4-24

Audit Procedures forObtaining Audit Evidence

Scanning - Review of accounting data to identify significant or unusual items.

Analytical Procedures - Evaluations of financial information made by a study of plausible relationships among both financial and nonfinancial data.

4-25

Reliability of Typesof Evidence

Level Of Reliability Type of Evidence

Inspection of tangible assetsHigh Reperformance

RecalculationInspection of records and documents

Medium ScanningConfirmationAnalytical procedures

Low ObservationInquiry

Level Of Reliability Type of Evidence

Inspection of tangible assetsHigh Reperformance

RecalculationInspection of records and documents

Medium ScanningConfirmationAnalytical procedures

Low ObservationInquiry

LO# 6

4-26

Audit Documentation

The auditor’s principal record of theaudit procedures performed, evidence

obtained, and conclusions reached.

The auditor’s principal record of theaudit procedures performed, evidence

obtained, and conclusions reached.

Audit documentation (working papers) have two functions: To provide support for the audit report. To aid in the conduct and supervision of the audit.

Audit documentation (working papers) have two functions: To provide support for the audit report. To aid in the conduct and supervision of the audit.

LO# 7

4-27

Content of AuditDocumentation

Audit documentation should:Audit documentation should:

Demonstrate how the audit complied with auditing and related professional practice standards.Demonstrate how the audit complied with auditing and related professional practice standards.

Support the basis for audit conclusions concerningevery material financial statement assertion.Support the basis for audit conclusions concerningevery material financial statement assertion.

Show that the underlying accounting recordsagreed with the financial statements.Show that the underlying accounting recordsagreed with the financial statements.

LO# 8

4-28

Content of AuditDocumentation

Audit documentation should:Audit documentation should:

Include a written audit program detailing auditingprocedures necessary to accomplish audit objectives.Include a written audit program detailing auditingprocedures necessary to accomplish audit objectives.

Enable a knowledgeable and experienced reviewer to:Enable a knowledgeable and experienced reviewer to:

Understand the nature, timing,extent, and results of audit

procedures, evidence obtainedand conclusions reached.

Understand the nature, timing,extent, and results of audit

procedures, evidence obtainedand conclusions reached.

Determine who performedand reviewed the work,

as well as the datesof the work and reviews.

Determine who performedand reviewed the work,

as well as the datesof the work and reviews.

LO# 8

4-29

Content of AuditDocumentation

Most public accounting firms maintainaudit documentation in two types of filesMost public accounting firms maintain

audit documentation in two types of files

Permanent filesPermanent files Current filesCurrent files

Corporate charter Important contractsChart of accounts Internal control documentationOrganization chart Terms of stock and bond issuesAccounting manual Prior years’ analytical procedures

Corporate charter Important contractsChart of accounts Internal control documentationOrganization chart Terms of stock and bond issuesAccounting manual Prior years’ analytical procedures

LO# 8

4-30

Content of AuditDocumentation

Most public accounting firms maintainaudit documentation in two types of filesMost public accounting firms maintain

audit documentation in two types of files

Permanent filesPermanent files Current filesCurrent files

Audit plan, audit report Adjusting journal entriesAudit programs Reclassification journal entriesWorking trial balance Current financial statementsMinutes of meetings Working papers supporting accounts

Audit plan, audit report Adjusting journal entriesAudit programs Reclassification journal entriesWorking trial balance Current financial statementsMinutes of meetings Working papers supporting accounts

LO# 8

4-31

Format of Audit Documentation

HeadingHeading

Indexing andcross-referencing

Indexing andcross-referencing

Tick marksTick marks

Client nameTitle of the working paper

Client’s year-end date

Client nameTitle of the working paper

Client’s year-end date

Notations that provide a trailfrom financial statements to

audit documents.

Notations that provide a trailfrom financial statements to

audit documents.

Notations made next towork paper items indicating

auditor/reviewer actions.

Notations made next towork paper items indicating

auditor/reviewer actions.

LO# 8

4-32

Audit Documentation

Audit documentation should be organized sothat audit team members and others can find

evidence supporting financial statement accounts.

Audit documentation should be organized sothat audit team members and others can find

evidence supporting financial statement accounts.

All audit documentation is the property of theauditor, including documents preparedby the client at the auditor’s request.

All audit documentation is the property of theauditor, including documents preparedby the client at the auditor’s request.

The Sarbanes-Oxley Act of 2002 requiresaudit documentation to be retained for seven

years from the completion date of the engagement.

The Sarbanes-Oxley Act of 2002 requiresaudit documentation to be retained for seven

years from the completion date of the engagement.

LO# 8

4-33

Audit Documentation

Audit PlanAudit Programs

Working Trial Balance Written memos

Audit PlanAudit Programs

Working Trial Balance Written memos

Account AnalysisLead Sheet

Detail

Account AnalysisLead Sheet

Detail

Adjusting EntriesReclassification Entries

Adjusting EntriesReclassification Entries

LO# 8

4-34

Workpaper Index

4-35

End of Chapter 4