AUDIT EVIDENCE

OVERVIEW

Objective

To identify sources of evidence and its relationship to critical audit objectives.

AUDIT
EVIDENCE Basic principle
Definition
Sources "ideas list"

SUFFICIENT APPROPRIATE

Factors Relevance
Reliability

HOW OBTAINED
Two types
Examples

Tests of Substantive
controls procedures

PROCEDURES
ISA 500
Practical skills

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1 AUDIT EVIDENCE [ISA 500]

1.1 Basic principle

Sufficient appropriate audit evidence should be obtained, from which reasonable

conclusions can be drawn, as a basis for the audit opinion.

1.2 Definition

Audit evidence is the information obtained by the auditor.

1.3 Sources “ideas list”

It includes:

source documents;
accounting records; and
corroborating information from other sources, eg:

− tangible assets
− client management
− third parties (eg customers, legal advisers).

Documentary evidence may be:

generated and provided to auditors by a third party (ie independent

of entity);
generated by a third party and held by the entity;
generated and held by the entity.

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Example 1

Use the following ideas list to generate examples of sources of evidence relevant to the
audit of tangible non-current assets.

1.2.1 Nature of evidence 1.2.2 Examples

Accounting systems Internal – written (ie

documented)

Documentation Internal – written

Tangible assets Physical

Management & employees Internal – oral or written

Customers & suppliers External – oral or written

Other third parties Independent – oral/written

(eg banks, solicitors)

Analytical procedures Auditor-generated

2 SUFFICIENT

2.1 Factors to consider

Nature and level of inherent risk

Nature of accounting and internal control systems
Control risk assessment
Auditors’ (cumulative) knowledge & experience (“CAKE”)
Materiality of items
Audit findings (eg fraud or error)
Source and reliability of information (ie persuasiveness).
Difficulty or expense is not a valid reason for omitting a necessary procedure. If audit
evidence not sufficient, the implications for the audit opinion must be considered.

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3 APPROPRIATE

Appropriateness is inter-related with sufficiency and has two aspects in the context of
audit evidence.

APPROPRIATE

RELEVANT RELIABLE

3.1 Relevance

3.1.1 Financial statement assertions

Evidence is required to support financial statements assertions, ie:

Assertions by management, explicit or otherwise, that are embodied in the financial

statements.

Completeness – there are no unrecorded assets, liabilities, transactions or

events

Occurrence – a transaction or event took place which related to the entity

during the period

Measurement – a transaction or event is recorded at the proper amount and

revenue or expense is allocated to the proper period

Presentation and disclosure – an item is disclosed, classified and described in

accordance with the applicable financial reporting framework

Appropriate carrying value – concerns recording of valuation of assets and

liabilities

Rights and obligations – an asset or liability relates to the entity at a given

date

Existence – an asset or a liability exists at a given date

⇒ Mnemonic COMPARE

Audit evidence is obtained for each financial statement assertion. That is

C, P, A, R & E for assets and liabilities

C, O, M & P for transactions and events

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3.1.2 Direction of testing

The assertion(s) for which evidence is sought influences the source of

evidence and direction of testing. For example:

completeness of recording sales transactions – trace from goods

movement outward into accounting records;

existence of plant and equipment – trace from recorded asset (eg in

plant register) to physical asset.

Illustration – Sales cycle

Testing sales for Sales system Testing receivables

completeness for existence
Order

Goods Despatch Note

Invoice

Sales Day Book (Journal)

Ledger account(s)

3.2 Reliability

3.2.1 General presumptions

External source is more reliable than the entity (internal).

Entity’s records are more reliable when accounting and internal controls
systems are effective.
Auditor obtained is more reliable than entity obtained.
Documentary/written is more reliable than verbal/oral.

3.2.2 Consistency

Consistency increases persuasiveness (ie provides cumulative assurance).

Any inconsistency creates doubt (giving rise to further work) until resolved.

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Example 2

Rank the following items of audit evidence concerning the ownership of land, using a
scale of 1 (for worst) to 4 (for best).

Solution

Rank
(a) Ask management if the client company owns the land.
(b) Phone bank and ask if they hold title deeds on client’s behalf.
(c) Visit bank and examine title deeds.
(d) Ask bank for written confirmation that they hold deed.

4 HOW OBTAINED?

4.1 Two types

Audit evidence is obtained from an appropriate mix of “tests of control” and

“substantive procedures”.

TESTS OF SUBSTANTIVE
CONTROL PROCEDURES

. . . suitability of . . . to detect material

design and effective misstatements in
operation . . . financial statements . . .

Tests may be “dual purpose”.

4.1.1 Tests of control

Sufficiency and appropriateness should be considered in the context of supporting the

assessed level of control risk.

4.1.2 Substantive procedures

Sufficiency and appropriateness should be considered in relation to:

evidence from tests of control (if any); and

financial statement assertions.

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4.2 Examples

TESTS OF SUBSTANTIVE
CONTROL PROCEDURES

Two types

Tests of detail Analytical

procedures

Check bank reconciliation Agree general ledger expense See Session 15

initialled as approved by chief a/c totals to purchase day book
accountant. (PDB)

Observe buyer checking goods Check (a sample of) casts and

received note (“GRN”) and extensions in the PDB.
invoice before authorizing
cheque for payment. Agree (a sample of) quantities
on purchases invoices to
GRNs.

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5 PROCEDURES

5.1 ISA 500

Five procedures are identified:

Inspection
Observation
Inquiry and Confirmation
Computation
Analytical procedures.

Example 3

Distinguish between and give examples of the following procedures.

Description/Examples

Inspection (1)
(2)
(3)

Observation

Inquiry (or Enquiry)

confirmation

CompUtation (1)
(2)

also Analytical procedures (see Session 15) ⇒ mnemonic AEIOU.

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5.2 Practical skills

5.2.1 Financial statement assertions

Consider “relevant” audit evidence

Example 4

Suggest audit evidence for additions to plant and equipment.

“Prompt” ⇒ COMPARE

Completeness –

Occurrence –

Measurement –

Presentation & disclosure –

Appropriate carrying value –

Rights (& obligations) –

Existence –

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5.2.2 Direction of testing

Consider the flow of accounting information.

Example 5

Suggest audit tests for a factory payroll expense.

Financial statements –

–
Ledger account(s)
–

–
Payroll/payslips
–

–
Clockcards
–

5.2.3 “T” a/c

Consider the accounting entries

Illustration
Disposal of a tangible asset.

“Prompt” ⇒

Disposal a/c
$ $
Asset (cost) x Depreciation provision x
ßal = Profit (Transfer I&E a/c) x Sale proceeds x
ßal = Loss (Transfer I&E a/c) x
_ _
x x
_ _

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5.2.4 ISA 500 procedures

Example 6

Suggest audit procedures for trade receivables.

“Prompt” ⇒ AEIOU

Analytical procedure –

Enquire –

Inspect –

Observe –

compUte –

FOCUS

You should now be able to

identify and describe sources of evidence

explain the financial statement assertions and distinguish between the testing
of transactions and balances

evaluate the relative merits of different types of evidence available

describe procedures for obtaining audit evidence.

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EXAMPLE SOLUTIONS

Solution 1 – Sources of evidence for tangible assets

Examples

Accounting systems

Documentation

Tangible assets

Management & employees

Customers & suppliers

Other third parties

Analytical procedures

Solution 2 – Ranking evidence

Rank
(a) internal oral. 1
(b) external oral 2
(c) auditor obtained (on originals) 4
(d) external documentary 3

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Solution 3 – Procedures

Description/Examples

Inspection (1) Records/documents

(2) Employees
(3) Tangible assets

Observation Of a process/procedure (eg mail opening, physical

inventory count)

Enquiry Of knowledgeable persons – written or oral/inside

or outside (eg bank request)
&
Response to enquiry to corroborate info (eg
confirmation
confirmation of trade accounts receivable by
communication with credit customers)

Computation (1) Checking arithmetical accuracy (eg source

documents & accounting records)
(2) Performing independent calculations

Solution 4 – Additions to plant and equipment

Completeness – Review repairs & renewals a/cs in general ledger (for

expense of capital nature)

Occurrence – Invoice (date of supply)

Measurement – Purchase invoice (amount – for depreciation thereof)

Presentation & disclosure – IAS 16

Appropriate carrying value – Depreciation policy – rates & calculations

Rights [& obligations] – Invoice (addressee)/Cash book payment

Existence – (physical) Inspection

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Solution 5 – Factory payroll

Financial statements – Agree to nominal/(general) ledger a/cs (via trial balance)

– Check casts/balance
Ledger account(s)
– Agree to payroll summaries

Payroll/payslips – Check (a sample of) casts/calculations

– Agree hourly rate to personnel records

– Agree hours worked to clockcards

Clockcards – Confirm authorised

– Check total hours

Solution 6 – Trade receivables

Analytical procedure – Calculate and compare average collection period (monthly)

Enquire – Ask credit controller “What problems are being experienced

in collecting amounts receivable?”

Inspect – Sales orders/sales invoices/remittance advices/cash book

receipts

Observe – Goods despatch to customers/mail opening procedures

compUte – Sales’ ledger balance (and control account balance)

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