PART D – AUDIT EVIDENCE

SESSION 15
 Financial Statement Assertions
 ISA 500 - Audit Evidence
 ISA 501 Audit Evidence – Specific Considerations For Selected
Items
 ISA 505 - External Confirmations
 ISA 530 - Sampling
 ISA 540 Accounting Estimates
 Substantive Procedures
 Auditing for Smaller Entities

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 SESSION 15 – AUDIT EVIDENCE

FINANCIAL STATEMENT ASSERTIONS

Financial statement assertions are the representations by

management, explicit or otherwise, that are embodied in the financial
statements, as used by the auditor to consider the different types of
potential misstatements that may occur

Assertions are tools used by auditors for transactions, balances and

disclosures to ensure that they have collected sufficient evidence.

The types of transactions that can be seen in the financial

statements can be categorised into 3 –

1. Transactions and Events:

Generally this means the items that are shown in the statement of
profit and loss. It basically includes events.

2. Account Balances at the Year End:

These are basically the items that are presented in the statement
of financial position.

3. Presentation and Disclosure:

These items involves the things that are presented in the financial
statements and the disclosures presented in the notes to financial
statements.

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 FS ASSERTIONS

TRANSACTIONS ACCOUNT
AND EVENTS BALANCES

OC ER
ACCP ACCP

TRANSACTIONS & EVENTS ACCOUNT BALANCES

OCCURANCE- Transactions & EXISTENCE- Assets, liabilities

events recorded & disclosed and equity interests exist
actually occurred & pertain to the
entity RIGHTS & OBLIGATIONS- Entity
holds or controls the assets and
CUT OFF- Transactions & events liabilities are the obligations of the
recorded in the correct accounting entity
period
ACCURACY- Assets, liabilities
ACCURACY- Amounts and other and equity interests recorded
data recorded appropriately appropriately

COMPLETENESS- Transactions COMPLETENESS- Assets,

& events that should have been liabilities & equity interests that
recorded have been recorded should have been recorded have
been recorded
CLASSIFICATION- Transactions
& events have been recorded in CLASSIFICATION- Assets ,
proper accounts liabilities and equity interests have
been recorded in proper accounts
PRESENTATION- Transaction &
events are aggregated or PRESENTATION- Account
disaggregated and clearly balances are aggregated or
described in context of AFRF disaggregated and clearly
described in context of AFRF

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 ISA 500 - AUDIT EVIDENCE

The objective of auditor in terms of gathering evidence is ‘to design and

perform audit procedures in such a way as to enable the auditor to
obtain sufficient appropriate audit evidence to be able to draw
reasonable conclusions on which to base the auditor’s opinion.’

SUFFICIENT APPROPRIATE
Quantity Quality

Relevant Evidence :
Logical connection with the
purpose of the audit procedure
and the assertion under
consideration
Having enough Evidence.
Reliable Evidence :
 Not too much  Evidence from external
 Not too less source is more of an
independent nature
 Directly by auditor
 Written rather than oral
 Original rather than copy

WHAT IS SUFFICIENT EVIDENCE?

Sufficiency of evidence is actually a matter of professional judgement.

The following factors should be taken into consideration to exert
professional judgement –
 The materiality of the item
 The auditor's knowledge and experience of the business
 The risk of material misstatement
 The nature of accounting and internal control systems
 The results of controls tests
 The size of a population being tested

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  The size of the sample selected to test
 The reliability of the evidence obtained.

WHAT IS A WASTE OF TIME?

 Too much poor quality evidence on a material item
 Too much high quality evidence on an immaterial evidence

SUFFICIENT AND APPROPRIATE

The evidence should reflect the risk of the particular item being tested
on. If the item we are testing has a high risk, then we need more
evidence to reflect this risk.

In accordance with ISA 500, auditors have 3 options for selecting items
for testing –

a) Testing all 100% of items

 This is usually done when the population is small

 It is done on areas of significant risk and items that are material
by nature.

b) Testing specific items with certain characteristics

Only the items with the specific characteristics have a chance of
selection unlike sampling where all items in the population have a
chance of selection

c) ISA 530 – Sampling

Sampling is basically selecting a portion of the population from the entire
population.

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 ISA 501 AUDIT EVIDENCE – SPECIFIC CONSIDERATIONS FOR
SELECTED ITEMS

Sufficient and Appropriate Evidence regarding:

 Existence and condition of inventory
 Completeness of litigations & claims involving the entity
 Presentation & disclosure of segment information

ISA 505 - EXTERNAL CONFIRMATIONS

External confirmations are audit evidence obtained as a direct written

response to the auditor from a third party (the confirming party), in paper
form, or by electronic or other medium.
The standard provides us with guidelines regarding the process of
obtaining evidence from third parties. This involves areas such as –
● Receivables
● Payables
● Banks
● Lawyers
● Third party inventory

RECEIVABLE CONFIRMATION / CIRCULATION LETTERS

This letter is prepared by the client. However, the preparation and

dispatch of the letter is supervised by the auditor. It should be
specifically mentioned that the reply should be sent directly to the
auditor.

Positive confirmation request

The debtor will have to provide a reply for the letter to the auditor
regardless of the fact as to whether they agree to disagree to the
information.

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 Negative confirmation request
For this letter, the debtor will only communicate directly with the auditor,
if there is a disagreement with the provided information.
Whether to use Positive or Negative confirmation letter will depend upon
the following aspects –

● The level of risk of the item

● The operating effectiveness of the internal control systems relating

to the item

● Volume of transactions

● Level of exception rate

● Whether or not the auditor is aware of circumstances or conditions

that would cause customers to disregard the requests.

Exception
When there is a disagreement by the confirming party about the
information sent on a confirmation letter. There can be said be an
exception between the information sent to the confirming party and the
information sent by the confirming party.
The cause for exceptions can be stated as follows:

● Dispute between client and customer

● Cut off problem

● Goods in transit

● Money received may have been posted to wrong accounts

● Cash in transit

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 ● The customers can also be the supplier as well, therefore they can
net off balances

● Fraudulent activities – teeming and lading, stealing money, etc.

PAYABLE CONFIRMATION

Positive confirmation request (blank\zero balance)

This is a request to the creditor of the client. It does not show the
amount that is owed to the creditor, instead it requires the supplier to
declare the amount owed to them at the year end and to provide a
detailed statement of account.

BANK CONFIRMATION

The responsibility for the content and dispatch of confirmation requests

to the banks, lies with the auditors. But this should be authorized by the
client. The reply of the letter should be sent directly to the auditor.
Listing balance and other information- This is when we request the
bank for the details regarding the accuracy and completeness of the
bank balance and other information.
Requesting details of balance and other information, which is then
compared to the client records

LITIGATIONS AND CLAIMS:

The letter is prepared by the management and sent by the auditors. The
reply is directly received by the auditors.
Letter of general inquiry- Request the external legal adviser to inform
the auditor the following details:
● Details of any litigation and claims

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 ● Lawyer’s estimate of financial impact on the company including
costs

● Lawyer’s assessment of the outcome of the litigation & claims

Special inquiry – If the auditor believes that the client’s legal adviser
will not reply appropriately to the letter of general enquiry, then they will
prepare and send a letter of special enquiry to the management seeking
direct confirmation.
This will include:
● List of litigation and claims

● Management’s assessment of the outcome of the litigation &

claims

● Management’s estimate of financial implication including costs

● Request external legal adviser to confirm the reasonableness of

management’s assessment

● Provide further information if the legal adviser considers the list to

be incomplete or incorrect

ISA 530 – SAMPLING

The application of audit procedures to less than 100% of items within a

population of audit relevance such that all sampling units have a chance
of selection in order to provide the auditor with a reasonable basis on
which to draw conclusions about the entire population.
It’s impossible to test every item in an accounting population because of
costs and time involved.

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 STATISTICAL SAMPLING NON STATISTICAL SAMPLING

Any approach that uses Any approach that doesn’t have

Random selection of samples both these characteristics and the
Probability theory to evaluate sample is selected on the basis of
sample results. judgements.

Random selection- Using Haphazard selection- Doesn’t

random number generators or follow a structured technique.
tables. Alternative to random selection.
The auditor would avoid any
Systematic selection- Constant conscious bias or predictability.
sampling interval is used and first
item is selected randomly. Block selection- selecting a
block of consecutive items from
Monetary unit selection- the population.
Selecting items based up on
monetary values Judgemental selection-Selecting
items based on the skill and
judgement of the auditor.

STRATIFICATION
Breaking down the population into sub populations of similar
characteristics and therefore allow sample sizes to be reduced without
increasing sampling risk

 Deviation – Issues identified during test of control

 Expected Misstatements – The higher the expected

misstatement of rate of deviation, the greater the sample size

 Tolerable misstatements – Looks at individually immaterial

misstatements added together. The smaller the rate of deviation,
the greater the sample size that is required

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 DESIGNING A SAMPLE

When designing a sample the auditor has to consider:

 The purpose of the procedure

 The combination of procedures being performed
 The nature of evidence sought
 Possible misstatement conditions.

ISA 540 ACCOUNTING ESTIMATES

An accounting estimate is 'an approximation of a monetary amount in

the absence of a precise means of measurement'
There are certain items in the financial statements which require a great
deal of judgement to get an approximation of the particular monetary
amount. These amounts are inherently risky as they are about the future
and so have no documentary evidence.

Management’s point of estimate

The amount selected by management for recognition or disclosure in the
financial statements as an accounting estimate

Auditor’s point estimate

The amount, or range of amounts, respectively, derived from audit
evidence for use in evaluating management's point estimate'

Examples
● Depreciation (useful life)
● Allowance for irrecoverable debt
● Provision for warranty
● Outcome from long term contract
● Provision for inventory obsolescence

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 SUBSTANTIVE PROCEDURES

ANALYTICAL PROCEDURES TEST OF DETAILS

This is used to identify plausible

Looks at the details of the item
relationships between the items in
that is being tested on.
the FS.

LIMITATIONS OF ANALYTICAL PROCEDURES

 Misstatements that cancel out each other are undetected since the
review happens on total figures

 They shall be used as a main source of substantive evidence only

if the internal controls are reliable

HOW TO WRITE SUBSTANTIVE PROCEDURES

A substantive procedure should be a clear instruction of how the audit

evidence is to be gathered. It should contain an ACTION VERB (CIRI
COREA) applied to a SOURCE DOCUMENT (D DATA) to achieve an
ASSERTION (OC/ERACCP).
An audit procedure has 2 parts to it. It is important to ensure that you
have considered both these parts for writing every substantive
procedures. The 2 parts are –
What should be done? Why should we do it?
For example,

Requirement – Write a procedure for ensuring the accuracy of

depreciation.
Procedure – Recalculate depreciation to verify arithmetical accuracy.

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 Requirement – Write a procedure for ensuring existence of
intangible assets.
Procedure – Inspect purchase documentation for purchased intangible
assets to confirm their existence

ACTION VERBS
RECALCULATION
INSPECTION of documents, records or tangible assets
CONFIRMATION (ISA 505)
CAAT
OBSERVATION
REPERFORMANCE
ENQUIRY
ANALYTICAL PROCEDURES (ISA 520)

SOURCE DOCUMENTS
The evidence is obtained from source documents.
D – Documents
D – Director’s records
A – Assets
T – Third party documents
A – Accounts and Records

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 AUDITING FOR SMALLER ENTITIES

● Direct control as owners often dominate all major aspects of the

business

● Risk may be high as there are fewer internal controls

● No segregation as there is a lack of staff

● Record keeping and documentation of systems and controls may

be informal or inadequate

● Less quantity of evidence

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