SAMPLING FOR EFFECTIVE

INTERNAL AUDITING
By
Mwenya P. Chitalu CIA

EXPECTED PRESENTATION OUTCOMES

Why Do Auditors Sample?
Sampling Policy
Statistical & Non-statistical Sampling

Statistical Terminologies
Statistical Sampling Plans
External Auditing Standards
Sample Selection Methods

Illustrations

DEMYSTIFYING STATISTICAL SAMPLING

The Principle (or Law) of Parsimony: That things are usually

connected in the simplest or most economical way.

Reducing ideas to small, easy-to-write symbols & saying a lot in a small

area covered by a formula.

Eliminate the Greek, Arabic & Roman language barrier in symbols & Formulae

that mystify Mathematics or Statistics.

Just like any other audit, Probe Statistical Assertions-Life can be made easy

with appropriate sampling.

If it cannot be measured, then it cannot be managed economically,

efficiently, & effectively.

Mathematics or statistics is commitment to logical thinking.
It squeezes the most learning about the population from limited sample

data.

WHY DO AUDITORS SAMPLE?

International Standards for the Professional Practice of Internal Auditing:

Guides Information should be: Sufficient, Reliable, Relevant & Useful

Acknowledges Sampling Techniques in Evidence Acquisition
Opinions are NOT ABSOLUTE GUARANTEE but REASONABLE

ASSURANCE of Accuracy
Proficiency & Due Professional Care
Cost-Benefit Considerations: The Economy, Efficiency & Effectiveness,
Corroborating Evidence for Control Processes & Account Balances

SAMPLING POLICY
Written Policy Statement
When to Sample?

Who Should Sample?

How to Sample?
Inappropriate Uses for Sampling:
When a Total is easily Audited
Inquiry & Observation Procedures
Analytical Procedures

STATISTICAL & NON-STATISTICAL SAMPLING

Three Characteristics in Common:

Both Require Auditor judgment in Planning, Implementing, &

Evaluating the Sampling Plan

Actual Audit Procedures Performed are the same
Both Non-Statistical & Statistical Techniques are Permitted by the

IPPF

STATISTICAL & NON-STATISTICAL SAMPLING

Differences between Statistical & Non-statistical Sampling

Sampling Risk is Controlled & Measurable

Technical Training & Knowledge is Required

Computer Accessibility

STATISTICAL & NON-STATISTICAL SAMPLING

In Summary, the following should be addressed:
What is the Internal Audit Departments Recommended Policy or

Procedure?
Is a Quantitative measure of Sampling Risk Desired?
What is the relative Cost & Benefit of Statistical versus Nonstatistical Sampling?
Is Technical Expertise Available?
Is Computer Software Accessible or Expertise to Write a Program?

STATISTICAL TERMINOLOGIES
Confidence Level (C): Is the Reliability Level or Degree of Belief in

the Obtained Results.

Measure of Central Tendency:
Mean (): The arithmetic average of a set of numbers.

Median: The halfway value of raw data arranged in numerical order from

lowest to highest.
Mode: The most frequently occurring value.

STATISTICAL TERMINOLOGIES
Standard Deviation (): The statistical measurement of the variability

of values in a sample (the square root of the variance).

Range: The difference between the largest and smallest values of any

group.

Population (N): The total number of items from which the sample is

drawn-Its the focus of interest comprising sampling units.

Sampling Unit: Individual items making up a Population.

Sample (n): Collection of sampling units on which audit procedures are

performed.

STATISTICAL TERMINOLOGIES
Logical Unit: Account or transaction selected to be sampled.
Expected Population Deviation Rate (): Estimate of the actual deviation

rate in the population, usually based on prior experience, inquiries, and

observations.

Precision (P): An assumed amount of possible unknown or the range of

allowable error.

Tolerable Misstatement: The auditors assessment of materiality with

respect to the population.

Upper Precision Limit: Upper limit on deviations expected in the

population.

STATISTICAL TERMINOLOGIES
Tainting: Percentage of misstatement in a logical unit in a PPS sample.
Upper Misstatement Limit (UML): Estimated maximum misstatement

existing in the population at a specified reliability in PPS sampling.

Sampling Risk: Conclusions

based on sample differing with

conclusions that could be reached if the entire population were
examined.

Non-sampling risk: Drawing incorrect conclusion for reasons other than

sampling due to poor judgment or failure to adhere to professional

standards.

STATISTICAL SAMPLING
Advantages

Disadvantages

May yield desired results from

Can be costly and time-

minimum number of items

Yields quantified data
Includes measures of sampling

risk, confidence level, and

precision
Is adaptable to computer testing
Lends credibility to audit

conclusions/recommendations

consuming
May require training and
software costs
May preclude experienced
auditors insights

NON-STATISTICAL SAMPLING
Advantages

Disadvantages

Flexibility

Results not statistically valid

Use of internal auditors

No objective measure of

judgment
Allows reasonable reliability
at reasonable cost

sampling risk provided

Chance of wrong sample size
Effectiveness depends upon
auditors skill

STATISTICAL SAMPLING PLANS

1.

ATTRIBUTES SAMPLING (TESTS OF CONTROLS)

Concerns binary, yes/no, or error/non-error populations
It tests the effectiveness of controls.

2.

VARIABLES SAMPLING (SUBSTANTIVE TESTS)

Concerns monetary amounts & other measures.
It assesses materially misstated account balances & ...

3.

THE PPS SAMPLING ( THE CAV SAMPLING)

Concerns primary engagement objective of few overstatements & not
understatement.
Difference & Ratio Estimations may not be efficient.

EXTERNAL AUDITING STANDARDS

Internal & External Audit Work Coordination & Recognition:

Statement on Auditing Standards (SA) No. 39: Audit Sampling & SAS
No. 47: Audit Risk & Materiality in Conducting an Audit AICPA.
Audit Risk Model:

Audit Risk

= Inherent Risk x Control Risk x Detection Risk

Audit Risk: Issuing unmodified opinion on financial statements that are

materially misstated.
Inherent Risk: Material misstatement occurring in the absence of
appropriate controls.
Control Risk: Controls ineffective & fails to prevent or detect material
misstatement in a timely manner.
Detection Risk: Substantive procedures failing to detect a material
misstatement.

EXTERNAL AUDITING STANDARDS

Sampling risk impacts the Efficiency & Effectiveness of an audit

Components of Sampling Risk

Audit Test
Tests of
Controls

Audit Efficiency
Risk of Assessing Control Risk
Too High (i.e., not depending
upon effective controls)

Substantive
Tests

Risk of Incorrect Rejection (i.e., Risk of Incorrect Acceptance

rejecting a materially correct
(i.e., accepting a materially
balance)
incorrect balance)

Statistical Term Alpha Risk ()

Audit Effectiveness
Risk of Assessing Control Risk
Too Low (i.e., depending upon
ineffective controls)

Beta Risk ( )

EXTERNAL AUDITING STANDARDS

Non-sampling Risk

The audit failing to detect an internal control weakness or material

misstatement for reasons other than the fact that sampling was used.
Application of an inappropriate audit procedure
Failure to recognize an error condition
Omission of an essential audit step

Materiality: Amount of difference tolerated by the auditor & concluding the

assertion tested as reasonable:

Tolerable deviation rate for tests of control

Tolerable misstatement for substantive testing

Materiality is inversely related to sample size

Materiality assessment must be a cost versus benefit decision

SAMPLE SELECTION METHODS

Methods Appropriate for Both Statistical & Non-statistical Sampling:
Simple Random Sampling: Items with equal chance of selection.
Systematic Sampling: nth item selection with random start within the n

interval. PPS uses systematic sampling.

Methods Used Only for Non-statistical Sampling:

Haphazard Selection: Selecting sample items without intentional bias.
Block Selection: Audit of a group of contiguous transactions like delivery

notes for March or invoices in a sequence.

Block Amount: Whole amount is audited.

Other Considerations in Sample Selection:

Void Items: Select additional sampling units for voided items.
Missing Items: Must be treated as an error condition- In attributes,

control is not effective & in substantive testing, audited value is ZMK 0.00

ATTRIBUTE SAMPLING
When to use

.
Size of sample (n)

Statistical table
specifications

To estimate the number of times a certain

characteristic may occur in a population

Based on judgment about probability that errors

(or other characteristics) will occur or based on
statistical tables

=

Population size (N)

Confidence level (C)
Precision (P)
Expected rate of errors () &q=100-

Attributes Sampling Illustrations

.ITEM
1
2
3
4
5
6

ACCOUNTS RECEIVABLES AS AT 31ST DECEMBER 2013

Population Size of Accounts Receivable
Confidence Level
Confidence Coefficient
Tolerable Deviation Rate (TDR)
(Based on Prior Years of Findings or Pilot Sample)
Planned Risk of Assessing Control Risk Too Low (Beta Risk)
Planned Risk of Assessing Control Risk Too High (Alpha Risk)
Desired Precision = Beta x TDR/Alpha

7
8

Sample Size
Expected Number of Errors (From Statistical Tables)
Assuming Control Procedures Anticipated Deviation Rate = Zero
Upper Precision Limit (UPL) from the Statistical Tables
(And is Less than Tolerable Deviation Rate=5%)

Assuming 2 Actual Control Procedure Errors:

Upper Precision Limit (from the Tables)

N
C

P
n

UPL

4,000 Accounts
90%
1.64
5%
5%
10%
2.50%
204 Accounts
5
0%
1.50%

2
3.20%

10

And UPL <

Conclusion???

11

CONCLUSION

Controls are Effective

Attributes Sampling Variations

Stop-or-Go Sampling: The Auditor guards against selecting an

unnecessarily large sample.

Discovery Sampling: The Auditor targets discovering at least one

deviation if the percentage of deviations in the population is at or

above a specified level, e.g. Fraud, Substantial mistake or
Compliance failure.

VARIABLES SAMPLING

When to use

When size matters; e.g., amount of a

discrepancy in monetary or weight terms

Size of sample (n)

Statistical table
specifications

Population size (N)

Confidence level/Coefficient (C)
Precision (P)
Standard deviation ()

Variables Sampling Illustration

ITEM ACCOUNTS RECEIVABLES AS AT 31ST DECEMBER 2013

1
2
3
4
5
6

8
9

Recorded Amount of Accounts Receivable (N)

Tolerable Misstatement
Planned Risk of Incorrent Acceptance (Beta Risk)
Planned Risk of Incorrect Rejection (Alpha Risk)
Number of Accounts Receivable (N)
Estimated Population Standard Deviation
(Based on Prior Years of Findings or Pilot Sample)
Confidence Level
Confidence Coefficient
Desired Precision = Beta x TM/Alpha
Precision per-item basis (Desired Precision/N)

Sample Size

RM
TM

C
P
n

360,000 ZMK
18,000 ZMK
5%
10%
4,000 Accounts
8.68 ZMK
90%
1.64
9,000 ZMK
2.25 ZMK
40 Accounts

Three Types of Variables Sampling

Mean-per-unit Estimation: Estimates the total monetary amount of the

population by calculating a sample mean & multiplying by the number of items

in the population.

Difference Estimation: Estimates the total error in the population.

Useful only if population contains enough errors to generate a reliable sample

estimate & the differences are not proportional to the book values.

Ratio Estimation: Estimates the total monetary amount of the population

by calculating the ratio between the audited & book values in the sample and
using this ratio to make the estimate.
Useful when differences between book & sample values are proportional to book

values.

Variables Sampling:
Mean-per-Unit Estimation
Case example
Population:
4,000 Accounts
Total book value:
ZMK 360,000.00
Sample size:
40 Accounts
Sample book value:
ZMK 3,600.00
Sample audit value:
ZMK 3,400.00

Step 1: Calculate average audit value (i.e., mean-perunit value for audited samples).

K3,400.00/40 = K85.00 / Account.

Step 2: Multiply mean-per-unit value by number of
accounts in the population.
K85.00 4,000 Accounts = K340,000.00
Over-count = K20,000.00
(K340,000.00 K360,000.00)

Variables Sampling:
Difference Estimation
Case example
Population:
4,000 Accounts
Total book value:
ZMK 360,000.00
Sample size:
40 Accounts
Sample book value:
ZMK 3,600.00
Sample audit value:
ZMK 3,400.00

Step 1: Calculate average difference between audit value and

book value for the sample.
(K3,400.00 K3,600.00)/40 Accounts = (K5.00)
Step 2: Determine the difference estimate for the
population.
(K5.00) 4,000 accounts = (K20,000.00)

Step 3: Estimate actual value by adding the difference

estimate and book value for the population.
(K20,000.00) + K360,000.00 = K340,000.00

Book value is Overstated by K20,000.00

Variables Sampling:
Ratio Estimation
Case example
Population:
4,000 Accounts
Total book value:
ZMK360,000.00
Sample size:
40 Accounts
Sample book value:
ZMK3,600.00
Sample audit value:
ZMK 3,400.00

Step 1: Audit value for sample = K3,400.00

Step 2: Book value for sample = K3,600.00
Step 3: Find ratio of audit value to book value:
K3,400.00 / K3,600.00 = 0.94
Step 4: Estimate actual population value by multiplying
ratio by population book value:

0.94 K360,000.00 = K338,400.00

Book value is Overstated by K21,600.00

PROBABILITY-PROPORTIONAL-TO-SIZE (PPS) SAMPLING

When to use

Size of sample (n)

When auditing
account balances for few
.
overstated items; e.g., in inventory,
receivables, disbursements, etc.

(n1: AM=0, & n2:

AM>=1)

Statistical
specifications

or

= ( )

Recorded Amount of the Account (RM)

Reliability Factor (RF)
Tolerable Misstatement (TM)
Anticipated Misstatement (AM)
Expansion Factor (EF)

PPS ILLUSTRATION
ACCOUNTS RECEIVABLE AS AT 31ST DECEMBER 2013

.Recorded Amt of A/C Receivables

Tolerable Misstatement
Anticipated Misstatement
Risk of Incorrect Acceptance
AMT
A/C No. ZMK
ACT0001
ACT0002
ACT0003
ACT0004
ACT0005
ACT0006
.
.
.
ACT4000

CUM
AMT

9,450
9,450
480
9,930
2,800
12,730
5,106
17,836
2,100
19,936
8,000
27,050
.
.
.
.
.
.
6,000 360,000

TOTAL

360,000
18,000
0
5%

Kw acha Sampling Observed Tainting Sampling

Projected
Selected
Unit
Amount
%
Interval Misstatement
9,000

9,450

7,875

1,575

18,000
27,000
.
.
.
360,000

2,100
8,000
.
.
.
6,000

0
8,000

100%
0

9,000
9,000

9,000
0

4,500

25%

9,000

2,250

360,000

Basic Precision(SI x RF = K9,000 x 3)

Total Projected Misstatment
Allowance for Precision Gap Widening:
(4.75-3.00-1.00) x K9,000
(6.30-4.75-1.00) x K2,250
Upper Misstatement Limit (UML)>TM
CONCLUSION

RM
TM
AM

12,825
ZMK
ZMK

27,000
12,825

ZMK
ZMK
ZMK

6,750
1,238
47,813

Accounts Receivable Materially Overstated

CONCLUSION/RECOMMENDATIONS

It is Concluded & Recommended that Internal Auditors comply with

the Proficiency & Due Professional Care IIA Standards by Appropriate
Application of both Statistical & Non Statistical Sampling to
Reasonably Assure that Opinion Evidence is: Sufficient, Reliable,
Relevant and Useful.

REFERENCES FOR FURTHER READING

1.

Sampling for Internal Auditors:Text-based Self Study CourseThe Institute of Internal Auditors by Barbara Apostolou, PhD,
CPA, DABFA.

2.

Internal Audit Practice-Part 1:The IIAs CIA Learning

System by The Institute of Internal Auditors.

3.

Internal Audit Practice-Part 1: Gleim CIA Review by

Professor Irvin N. Gleim, PhD, CPA, CIA, CMA, CFM.

COMMENTS, REMARKS & QUESTIONS

Confidence coefficient, C,
Based on the Risk of Incorrect
Rejection
Risk of
Incorrect
Rejection
20%
10%
5%
1%

Confidence
Level
80%
90%
95%
99%

Confidence
Coefficient
1.28
1.64
1.96
2.58

Attributes Sample Size Statistical Tables

For Tests of Controls
Five Percent (5%) Risk of Assessing Control Risk Too Low
(Number of Expected Errors in parentheses)

.Expected
Population
Deviation
Rate (%)
0.00
0.25
0.50
0.75
1.00
1.25
1.50
1.75
2.00
2.25
2.50
2.75
3.00
3.25
3.50
3.75
4.00
5.00
6.00
7.00

2%
149(0)
236(1)
*
*
*
*
*
*
*
*
*
*
*
*
*
*
*
*
*
*

3%
99(0)
157(1)
157(1)
208(2)
*
*
*
*
*
*
*
*
*
*
*
*
*
*
*
*

4%
74(0)
117(1)
117(1)
117(1)
156(2)
156(2)
192(3)
227(4)
*
*
*
*
*
*
*
*
*
*
*
*

5%
59(0)
93(1)
93(1)
93(1)
93(1)
124(2)
124(2)
153(3)
181(4)
208(5)
*
*
*
*
*
*
*
*
*
*

Tolerable Deviation Rate

6%
7%
8%
49(0)
42(0)
36(0)
78(1)
66(1)
58(1)
78(1)
66(1)
58(1)
78(1)
66(1)
58(1)
78(1)
66(1)
58(1)
78(1)
66(1)
58(1)
103(2)
66(1)
58(1)
103(2)
88(2)
77(2)
127(3)
88(2)
77(2)
127(3)
88(2)
77(2)
150(4) 109(3)
77(2)
173(5) 109(3)
95(3)
195(6) 129(4)
95(3)
*
148(5) 112(4)
*
167(6) 112(4)
*
185(7) 129(5)
*
*
146(6)
*
*
*
*
*
*
*
*
*

9%
32(0)
51(1)
51(1)
51(1)
51(1)
51(1)
51(1)
51(1)
68(2)
68(2)
68(2)
68(2)
84(3)
84(3)
84(3)
100(4)
100(4)
158(8)
*
*

10%
29(0)
46(1)
46(1)
46(1)
46(1)
46(1)
46(1)
46(1)
46(1)
61(2)
61(2)
61(2)
61(2)
61(2)
76(3)
76(3)
89(4)
116(6)
179(11)
*

15%
19(0)
30(1)
30(1)
30(1)
30(1)
30(1)
30(1)
30(1)
30(1)
30(1)
30(1)
30(1)
30(1)
30(1)
40(2)
40(2)
40(2)
40(2)
50(3)
68(5)

20%
14(0)
22(1)
22(1)
22(1)
22(1)
22(1)
22(1)
22(1)
22(1)
22(1)
22(1)
22(1)
22(1)
22(1)
22(1)
22(1)
22(1)
30(2)
30(2)
37(3)

Attributes Sample Evaluation Tables

For Tests of Controls
Upper Limits at Five Percent (5%) Risk of Assessing Control Risk Too Low
Sample
Size .
25
30
35
40
45
50
55
60
65
70
75
80
90
100
125
150
200

0
11.3
9.5
8.3
7.3
6.5
5.9
5.4
4.9
4.6
4.2
4.0
3.7
3.3
3.0
2.4
2.0
1.5

1
17.6
14.9
12.9
11.4
10.2
9.2
8.4
7.7
7.1
6.6
6.2
5.8
5.2
4.7
3.8
3.2
2.4

2
*
19.6
17.0
15.0
13.4
12.1
11.1
10.2
9.4
8.8
8.2
7.7
6.9
6.2
5.0
4.2
3.2

Actual Number of Deviations Found

3
4
5
6
7
*
*
*
*
*
*
*
*
*
*
*
*
*
*
*
18.3
*
*
*
*
16.4
19.2
*
*
*
14.8
17.4
19.9
*
*
13.5
15.9
18.2
*
*
12.5
14.7
16.8
18.8
*
11.5
13.6
15.5
17.4
19.3
10.8
12.6
14.5
16.3
18.0
10.1
11.8
13.6
15.2
16.9
9.5
11.1
12.7
14.3
15.9
8.4
9.9
11.4
12.8
14.2
7.6
9.0
10.3
11.5
12.8
6.1
7.2
8.3
9.3
10.3
5.1
6.0
6.9
7.8
8.6
3.9
4.6
5.2
5.9
6.5

8
*
*
*
*
*
*
*
*
*
19.7
18.5
17.4
15.5
14.0
11.3
9.5
7.2

9
*
*
*
*
*
*
*
*
*
*
20.0
18.9
16.8
15.2
12.3
10.3
7.8

10
*
*
*
*
*
*
*
*
*
*
*
*
18.2
16.4
13.2
11.1
8.4

Reliability Factors (RF) for Overstatements

Number of
Overstatements

0
1
2

Risk of Incorrect Acceptance

1%
4.61
6.64
8.41

5%
3.00
4.75
6.30

10%
2.31
3.89
5.33

15%
1.90
3.38
4.72

20%
1.61
3.00
4.28

PPS Sampling Expansion Factors

For Expected Misstatements
.

Risk of Incorrect
Acceptance (%)
1
5
10
15
20
25
30
37
50

Expansion
Factor
1.90
1.60
1.50
1.40
1.30
1.25
1.20
1.15
1.10