Introduction to phase II

Gathering and Evaluation

of Evidence
 Audit Evidence
• Information obtained by the auditor in
arriving at the conclusions on which audit
opinion was based;
• Any factual matter available to the auditor
from which he may know or infer the related
truth or falsity of the assertions in the
financial statements;
• It is persuasive rather than conclusive.
 What constitute Audit
Evidence
•Records of initial entries
•Supporting records

Accounting
Records

•Direct information obtained by the auditor through physical

examination, observation, inspection and recomputation;

Corroborating •Documentary material

•Written documentations and verbal information obtained from
knowledgable people within and outside the client’s organization

Evidence •Other information developed by the auditor or available to him which

permits him to form rational conclusions on the validity of financial
statement figures and representations
 Categories of Assertions

Classes of
Presentation and
Transactions and Account Balances
Disclosure
Events
• Occurrence • Existence • Occurrence and
• Completeness • Rights and Rights and
• Accuracy Obligations Obligations
• Cutoff • Completeness • Completeness
• Classification • Valuation and • Classification and
allocation understandability
• Accuracy and
valuation
 Sufficient Appropriate
Evidence
Factors
• Assessment of inherent risks –
FS level and AB or class of
transaction level
• Nature of accounting and
internal control systems and
the assessment of control risk
• Materiality of item being
examined
• Experience gained during
previous audit
• Results of audit procedures,
including fraud or error
• Source and reliability of
information available
Aspects in obtaining evidence
using tests of controls
• Design
• operation
Sources of reliability of audit
evidence
• Obtained from independent
sources outside the entity are
more reliable
• Generated internally is more
reliable when the related
controls imposed by the entity
are effective
• Obtained directly by the
auditor (observation) is more
reliable than obtained directly
or by inference (inquiry)
• Exists in documentary form
• Provided by original
documents is more reliable
than audit evidence provided
by photocopies or facsimiles
 Other matters to be
considered in gathering
evidence
• Audit evidence is more persuasive when items
of evidence from different sources or of a
different name are consistent;
• Consider the relationship between the cost of
obtaining audit evidence and the usefulness of
the information obtained;
• Express a qualified opinion or a disclaimer of
opinion if he is unable to gather evidence.
 Competence or
Appropriateness of Evidence
• Relevance of the evidence to the particular
assertion being tested
• Objectivity of the evidence
• Qualifications of the provider of evidence
• Timeliness of the evidence
 Hierarchy of Evidential
Matter (as to competence)
1. An auditor’s direct personal knowledge obtained through physical
observation and his own mathematical computations (most
competent)
2. Documentary evidence obtained directly from independent
external sources (external)
3. Documentary evidence has originated outside the client’s data
processing system but which has been received and processed by
the client (external-internal)
4. Internal evidence consisting of documents that are produced,
circulated and finally stored within the client’s information system
(low competence)
5. Verbal and written representations given by the client’s officers,
directors, owners and employees (least competent)
 Procedures for Obtaining
Audit Evidence
Inspection of records or documents
• Inspection of internal and external documents (documents used by client and its supporting
documents)
• Verification of inventory, cash, fixed tangible assets, securities and notes receivable.
Observation
• Looking at the process or procedures being performed by others
Confirmation
• Obtaining a representation directly from a third party
Inquiry
• Seeking information both financial and non-financial of knowledgeable persons inside and
outside the entity through the client’s representation letter (management’s representation)
Recalculation
• Checking the mathematical accuracy of source documents and accounting records or of
performing independent calculations.
Reperformance
• Independent execution of procedures or controls that were originally performed as a part of
internal control, either manually or using CAATs.
Analytical procedures
• Evaluation of financial information made by a study of plausible relationships among both
financial and non-financial data.
 Types of Confirmation
Positive Confirmation
• Assessed control risk is high
• Large number of larger
balances is involved
• Substantial number of
errors are expected
Negative Confirmation
• Assessed control risk is low
• Large number of smaller
balances is involved
• Substantial number of
errors are not expected
• Auditor has no reason to
believe that respondents
will disregard these
requests
 Audit Procedures and
Evidence for Accounting
Estimates
Nature of Accounting Estimates
• Determination of accounting estimates may be simple or complex
depending upon the nature of the item
Audit Procedures
• Review and test the process used by management to develop the
estimate like evaluation of data and consideration of assumptions on
which the estimate is based, tests the calculations involved in the
estimate and compare estimates made or prior periods with actual
results of those periods;
• Use an independent estimate for comparison with that prepared by
management
• Review subsequent events which confirm the estimate made
 Audit Working Papers
Nature of Working Papers
• Records kept by the auditor of the procedures applied, tests
performed, information obtained and pertinent conclusions
reached in the engagement.

Purpose of Working Papers

• Assists the auditor in planning and performance of the audit
• Assists the auditor in the supervision and review of the audit
work
• Record the audit evidence resulting from the audit work
performed to support the auditor’s opinion
 Audit Working Papers
Consideration in the Working Papers
• The work has been adequately planned and supervised
• Sufficient understanding of ICS
• Audit evidence obtained and procedures applied provide sufficient, competent
evidential matter to afford a reasonable basis for an opinion

Types of Working Papers

• Audit administrative working papers (audit plans and programs, ICQ, flowcharts,
engagement letters and time budgets)
• Working trial balance and lead schedule (10-column, 2-sections, 4-sections, multi-
sections)
• Supporting schedules and analysis
• Adjusting and reclassification entries
• Audit memoranda and documentation of corroborating evidence (audit notes and
outside documentation)
 Division of Working Papers
Current Files
• Original draft of the report
• Audit plans and programs
• Working trial balance
• Adjusting and reclassification entries
• Lead and supporting schedules
• General information
Permanent Files
• Articles and charters
• Analysis of business industry
• Copies of contracts
• Chart of accounts
• Flowcharts and notes
• Continuing analysis of fixed assets
• Organizational charts
• Terms of capital stocks and bond issues
• Result of Analytical Procedures
• Excerpts of minutes of meetings
• Labor-management contract
• Information concerning related parties
• Description of complex business transactions and
accounting treatments
• Copies of pension plans, stock option plans and
employee bonus and profit-sharing plans
• Tax files and correspondence file
Qualities of Working Paper

 Complete
 Factual, accurate and free from clerical and
computational error
 Clearly indicates the nature and extent of
work performed
 Concise and limited only to essentials
 Prepared in a neat and orderly manner to
facilitate review of work done
 Audit Sampling
Sampling Audit Sampling Why auditors sample?

• A process whereby • Application of a • The nature and

information is gained compliance or materiality of the
concerning the substantive procedure balance or class does
characteristics of to less than 100% of not demand a 100%
population (universe the items within an audit
or field) of items by account balance or • A decision must be
means of an class of transactions made about the
examination of only a to enable some balance or class
portion of items characteristic of the • Time and cost to audit
composing that balance or class and to 100% population
population. form or assist in would be too great
forming a conclusion
concerning that
characteristic.
 Audit Sampling
Testing Procedures do
not involve Audit Sampling Risk Non-Sampling Risk
Sampling
• Tests performed on • Risk that the auditor’s • It refers to the
100% of the items conclusion based on a probability that a
within the population sample might be material error will not
• Inquiry and different from the be discovered by the
observation conclusion they would auditor in the
• Analytical procedures reach if they examined performance of
every item in the substantive tests
entire population. • Not in relation to the
• Risk of over/under size of the sample
reliance
• Risk of incorrect
acceptance / rejection
Non-statistical Sampling
Haphazard Judgmental
Block Selection
Sampling Sampling
• Consists of • Consists of all • Selection of large
sampling units items in a or unusual items
without any selected time from the
conscious bias period, population and
that is without numerical uses some other
any special sequence or judgmental
reason for alphabetical criterion for
including or sequence. selection.
omitting items
from the sample.
 Statistical Sampling

Probability- Classical Variables

Random Selection
Proportional to Size Sampling
• Every item in the • Estimate the • Uses normal
population has an maximum amount distribution
equal chance of of overstatement theory to evaluate
being selected. of a recorded selected
• Establish amount with characteristics of
correspondence measurable level a population on
between the of risk of making a the basis of a
population and decision error. sample of items
random numbers. consisting the
population.
 Statistical and Non-
Statistical Sampling

Systematic Stratified Random Probability

Random Selection
Sampling Sampling Proportional to Size
• Every item in the • Counts through • Grouping of • The probability of
population has an the population population into an item being
equal chance of and selects items sub-population or selected is
being selected. on the basis of a strata that are directly
• Establish sampling internal similar in proportional to
correspondence which is amount. its peso amount.
between the determined by
population and dividing the
random numbers. number of
physical items in
the population by
sample size.