Lecture 6- The search for audit evidence

One quality of audit evidence is [blank_start]external[blank_end]. Audit evidence from [blank_start]external[blank_end] sources more reliable than from [blank_start]internal[blank_end] sources

Another quality of audit evidence is [blank_start]auditor[blank_end]. Evidence obtained directly by [blank_start]auditors[blank_end] more reliable than if obtained [blank_start]indirectly[blank_end]

Third quality of audit evidence is [blank_start]entity[blank_end]. Evidence from [blank_start]entity’s[blank_end] records is more reliable when [blank_start]control[blank_end] system operates effectively

Fourth quality of audit evidence is [blank_start]written[blank_end]. Evidence in [blank_start]documents[blank_end] or [blank_start]written[blank_end] representations more reliable than [blank_start]oral[blank_end] representations

Fifth quality of audit evidence is [blank_start]originals[blank_end]. [blank_start]Original[blank_end] documents are more reliable than [blank_start]photocopies[blank_end] or [blank_start]faxes[blank_end]

Audit trail- Examination of [blank_start]accounting records[blank_end] of all transactions that are carried out by [blank_start]business[blank_end]/[blank_start]company[blank_end] during an audit. It starts by looking at [blank_start]financial statements[blank_end], then [blank_start]trial balance[blank_end], then [blank_start]general ledger[blank_end] & finally [blank_start]individual systems[blank_end]

Internal control test looks to determine whether [blank_start]control[blank_end] that is meant to ensure that an [blank_start]assertion[blank_end] is correct is properly [blank_start]designed[blank_end] & has operated [blank_start]effectively[blank_end]

Substantive test looks to gather [blank_start]evidence[blank_end] that [blank_start]assertion[blank_end] is correct. It can either be test of [blank_start]detailed transactions[blank_end] or [blank_start]balances[blank_end] or an [blank_start]analytical review[blank_end]

Risk arising from sales on credit is there may be [blank_start]late[blank_end] or [blank_start]non-payment[blank_end]. Therefore, [blank_start]credit control[blank_end] function is required to ensure that [blank_start]credit[blank_end] is only extended to right customers & that payment is received in accordance with agreed [blank_start]credit terms[blank_end]

When looking at receivables auditor can get [blank_start]external[blank_end] confirmations. This is audit evidence obtained as [blank_start]direct[blank_end] written response to auditor from [blank_start]third party[blank_end] in paper form or by electronic or other medium. This is useful as it provides audit evidence for [blank_start]existence[blank_end] & [blank_start]rights[blank_end] & [blank_start]obligations[blank_end]. Also, it provides good audit evidence as it is from [blank_start]independent[blank_end] source & in [blank_start]documentary[blank_end] form

Confirmation letter is written by client but sent by [blank_start]auditor[blank_end] with response directly to auditor. Auditor requests [blank_start]positive[blank_end] confirmation but can also request [blank_start]negative[blank_end] confirmation. However, this would not be [blank_start]strong[blank_end] audit evidence. Client may refuse permission to send to some customers but [blank_start]auditor[blank_end] must validate reasons & seek audit evidence of reasonableness of disclosure

Auditor sends confirmation letter to [blank_start]sample[blank_end] of accounts receivable based on [blank_start]complete list[blank_end]. Auditor needs to pay special attention to [blank_start]old[blank_end], [blank_start]unpaid[blank_end] accounts, accounts [blank_start]written-off[blank_end] during period under review, accounts with [blank_start]credit[blank_end] balances, accounts settled by [blank_start]round sum[blank_end] payments, accounts with [blank_start]nil[blank_end] balances & finally accounts which have been [blank_start]paid[blank_end] by date of audit examination

One exception on trade receivables confirmations is there may be [blank_start]dispute[blank_end] between [blank_start]client[blank_end] & [blank_start]customer[blank_end]. [blank_start]Auditor[blank_end] needs to investigate & consider need for [blank_start]provision[blank_end]

Another exception on trade receivables confirmations is [blank_start]cut-off[blank_end] problems. This is [blank_start]difference[blank_end] in year of recognition of [blank_start]sale[blank_end]. Consider extending [blank_start]cut-off testing[blank_end]

Third exception on trade receivables confirmations is [blank_start]cash in transit[blank_end]. This involves [blank_start]validating[blank_end] by reference to [blank_start]date[blank_end] of receipt of cash

Fourth exception on trade receivables confirmations is [blank_start]customers[blank_end] who are suppliers net-off balances [blank_start]owed[blank_end] & [blank_start]owing[blank_end]. Check whether this is [blank_start]allowed[blank_end]

Fifth exception on trade receivables confirmations is [blank_start]teeming[blank_end] & [blank_start]lading[blank_end]. This involves stealing [blank_start]monies[blank_end] & [blank_start]incorrectly[blank_end] posting amounts. There needs to be [blank_start]detailed[blank_end] audit of cash receipts

One step for non-response to confirmation requests is to check [blank_start]address[blank_end] & [blank_start]person[blank_end] to send letter to

Another step for non-response to confirmation requests is to [blank_start]verify[blank_end] by phone with request that [blank_start]written confirmation[blank_end] is then sent

Third step for non-response to confirmation requests is to adopt [blank_start]alternative[blank_end] procedures by reviewing [blank_start]subsequent[blank_end] cash receipts, shipping [blank_start]documentation[blank_end] & [blank_start]sales[blank_end] near period end

With valuation assertion, risk of [blank_start]bad debts[blank_end] is key concern. Analytical review is powerful tool by looking at [blank_start]debtor[blank_end] days outstanding, [blank_start]year-on-year[blank_end] changes & [blank_start]bad debts[blank_end] as percentage of turnover. Auditor can also compare with [blank_start]industry[blank_end] data. Also, auditor needs to review [blank_start]aged debtors[blank_end] report as it is key piece of audit evidence. Also, they need to look at [blank_start]correspondence[blank_end] with customers & solicitors

Auditors need to make sure when doing audit of [blank_start]trade payables[blank_end], suppliers would be expected to provide [blank_start]invoices[blank_end] & monthly statements which provide strong form of [blank_start]reliable[blank_end] independent evidence. If controls are [blank_start]weak[blank_end] then statements might not be available & hence like [blank_start]receivables[blank_end] confirmation process maybe undertaken. Also, auditor needs to look at [blank_start]cut off[blank_end] data to make sure goods received notes & invoices either side of year end date are correctly [blank_start]disclosed[blank_end]

When looking at audit of provisions/contingencies, [blank_start]auditors[blank_end] need to obtain details of all [blank_start]provisions[blank_end] in accounts & disclosed [blank_start]contingencies[blank_end], obtain details of [blank_start]opening[blank_end] balances & [blank_start]movements[blank_end], review [blank_start]correspondence[blank_end] relating to item with solicitors, banks customers, insurance company etc, send letter to [blank_start]solicitor[blank_end] requesting his view if appropriate, discuss with [blank_start]directors[blank_end] (see whether they have created [blank_start]valid[blank_end] expectation in other party that they will discharge [blank_start]obligation[blank_end]), consider likelihood of [blank_start]reimbursement[blank_end] via insurance or third party & finally consider whether item has been properly disclosed as [blank_start]liability[blank_end] or [blank_start]contingency[blank_end]

Key assertions for testing inventory include [blank_start]occurrence[blank_end] & [blank_start]existence[blank_end], [blank_start]completeness[blank_end], [blank_start]rights[blank_end] & [blank_start]obligations[blank_end], [blank_start]accuracy[blank_end], [blank_start]classification[blank_end] & [blank_start]valuation[blank_end], [blank_start]cut off[blank_end], [blank_start]presentation[blank_end] & [blank_start]disclosure[blank_end], [blank_start]substantive[blank_end] tests of valuation & [blank_start]disclosure[blank_end] & finally [blank_start]observation[blank_end] of counts

Key assertions relating to trade receivables are [blank_start]occurrence[blank_end] & [blank_start]existence[blank_end], [blank_start]completeness[blank_end], [blank_start]rights[blank_end] & [blank_start]obligations[blank_end], [blank_start]accuracy[blank_end], [blank_start]classification[blank_end] & [blank_start]valuation[blank_end] & finally [blank_start]cut off[blank_end]