Substantive Tests of

Transactions and
Account Balances
Agaton . Baccay . Cabezas . Elemos . Gonzales . Romen

Audit Procedures
Performed to obtain audit evidence used to draw
reasonable conclusion as to whether the financial
reports of a client follow GAAP and to support or
contradict management assertions

Types of Audit
Procedures

1.Risk-assessment procedures
2.Test of Controls
3.Substantive procedures

Substantive
Procedures
Test accounts or classes of transactions to
detect material monetary error or
misstatements in financial statement
assertions

Nature of Substantive
Procedure
Relative effectiveness of the procedure to
substantiate the particular evidence
warranted by the assertion being tested
Responsive to assessed risk of
misstatement from risk assessment
procedures
Includes analytical procedures and test of
details

Nature of Substantive
Procedure
2.Test of Details
a.Test of Balances
b.Test of Transactions
c.Test of Disclosures

Timing of Substantive
Procedures
Year-end, interim date or subsequent to year-end

Note: More assurance may be obtained by shifting

audit procedures from interim to year-end since

performance at interim date increases audit risk because
misstatements may arise in the remaining period
between date of tests and year end. This risk may be
controlled by:
a.Performing additional audit procedures that cover the
remaining periods
b.Relying on the effectiveness of internal control to
prevent misstatements

Nature of Substantive
Procedure
1.Analytical Procedures
Part of further audit procedures
Based on the result of the riskassessment
procedure

Extent of Substantive
Procedures
Risk of material misstatement
=
Needed extent of substantive procedure
Examining more items increases the extent
of substantive procedures. Therefore,
sample size must be sufficient to restrict
audit risk to a low level

Concept of Substantive
Test & Audit Program
Audit Program
List of comprehensive audit procedures to enable
the auditor to gather sufficient audit evidence to
indicate the satisfaction of audit objectives of
particular accounts
Must be concise and understandable to enable
anyone who examines the working papers to
evaluate the work performance of the auditor

Concept of Substantive
Test & Audit Program
Substantive Test
Designed to meet the audit objectives set
by the auditor and to obtain sufficient audit
evidence to provide a reasonable basis for
an opinion

Categories of Substantive
Test
1.Test of Details
a.Test of Transactions
b.Test of Balances
2.Analytical Procedures

Test of Details
Objective: detect material misstatements in the
financial statements
Common audit procedures include:
1.Inquiry
2.Comparison
3.Confirmation
4.Observation
5.Recalculation
6.Examination
a.Tracing
b.Vouching
7.Analytical Procedures

Test of Transactions
Direct test of transactions
Concerned on whether transactions are
correctly accounted, recorded and
summarized during the period and to
determine whether any monetary errors
have occurred
Focus on individual transaction cycles that
make up the balance

Test of Details
Concerned with monetary errors in the
account balances
Substantiate the ending balance of an
account

Analytical Procedures
Involve evaluations of financial statement
information by a study of relationships
among financial and nonfinancial data.
Analytical procedures are an important
part of audit process and consists of
evaluations of financial information made
by a study of plausible relationships
among both financial and nonfinancial
data.

Nature of Analytical
Procedures
Techniques used in performing analytical
procedures range in sophistication from
straightforward analysis of trends and
ratios to complex mathematical models
involving many relationships and data
from many previous years

Timing of Analytical
Procedures
At the planning stage the objective of
analytical procedure is to help the auditor
identify unusual transactions, evens or
amounts that might affect the fairness of
the financial statements.
Planning analytical procedures are also
used to increase the auditors
understanding of the clients business.

Extent of Analytical
Procedures
A primary measure of the effectiveness of
an analytical procedure is its precision.
Precision depends on a number of factors,
including the predictability of the
relationships, the technique used to
develop the expectation, and the reliability
of the underlying data used.
The reliability of the underlying data that
are used for analytical procedures may be
evaluated by considering the source of the
data

Audit Trail
In developing audit procedures, the auditor is
assisted by the organized manner in which
accounting systems record, classify and
summarize data. The flow of accounting data
begins with the recording of thousands of
individual transactions on such documents as
invoices and checks. The information recorded on
these original source documents is summarized
in journals and the amounts in the journals are
posted to ledger accounts. At the end of the year,
the balances in the ledger accounts are arranged
in the form of financial statements.

The Auditor follows some basic

steps in using analytical
procedure during the audit
examination:
Identify the account balance or ratio of
interest
Develop an expectation for the account
balance or ratio
Compare the recorded (unaudited)
account balance or ratio to the expectation
Investigate any significant differences

General Audit
Procedures
The following are frequently used audit
procedures. Because they are in general
form, each procedure in an audit program
should specify the account balance or
transaction to which it applies.
1. Consider internal control, assess
control risk.
2. Evaluate whether transactions are
properly recorded in conformity
with GAAP.

3. Reconcile detail records and data with the

general ledger.
4. Confirm and observe for proper segregation
of duties and actual practice.
5. Test posting from the journals to the ledgers.
6. Compare an accounts beginning balance with
the ending balance from the previous period.
7. Scan the accounts for unusual items.
8. Investigate unusual items.
9. Test for proper authorizations.
10. Vouch source documents.
11. Inquire significant accounts and events.
12. Test for adequate disclosures.

Audit Trail
a trail of evidence that links the thousands
of individual transactions composing a
years business activity with the summary
figures in FS
consists of source documents, journal
entries and ledger entries.

Relationship Between TOC

and ST
TOC provide auditors with evidence as to
whether prescribed controls are in use and
operating effectively.
The results of these tests assist the
auditors in evaluating the likelihood that
material misstatements have occurred.

Relationship Between TOC

and ST
Substantive procedures are designed to
detect material misstatements if they exist
in the FS.

The amount of substantive testing done by

the auditors is greatly influence by their
assessment of the likelihood that material
misstatements exist.

SUBSTANTIATION OF
ACCOUNT BALANCES

Substantiation of Account
Balances
The main purpose of the auditors risk
assessment process, including the
assessment of control risk, is to determine
the nature, timing, and extent of the audit
work necessary to substantiate the
account.

Existence

The auditor selects from items contained in

the accounting records and obtains
evidence that supports them.

Existence
Cash on hand, Marketable Securities, and
Inventories - May be verified by physical
observation or inspection, and by vouching
Assets in custody of others - May also be
done through direct confirmation with third
parties
Intangible Assets - Gather evidence that
costs have been incurred and these costs
represent future economic benefits

Rights To The Assets

The auditor must ascertain that the assets
and liabilities are owned/controlled by the
client.
However, with other assets, such as PPE
and inventories, physical examination
establishes existence but not ownership
To verify the rights to plant assets,
auditors must inspect documentary
evidence such property tax bills,
purchase documents, and deeds

Rights to the Assets

Same procedures that verify existence
also establish the companys rights to the
asset
Example:
Confirming balances in bank accounts
establishes existence of cash and the
companys ownership rights to that cash.

Completeness
The auditor identifies evidence indicating items
that should be included in the account.
In here, the auditor is looking for assets
acquired but not recorded
Tracing is one of the tests for
completeness
Observation and physical examination
may also be done
Audit Procedures

Completeness
Many tests for unrecorded assets involve tracing
from the source documents created when the
assets were acquired to entries recording the
assets in the accounting records.
Example:
To test for unrecorded AR, for example, the
auditors might select a sample of shipping
documents issued during the year and trace the
details to recorded sales transactions.

Verifying The Cut-of

Refers to the process of determining the
transactions occurring near the balance sheet
date are assigned to the proper accounting period
Impact of cut-off errors varies with the nature of
the error
Auditor must review transactions recorded shortly
before and after the balance sheet date to
ascertain that these are assigned to the proper
period
Review checks, receiving reports and
shipping documents

Valuation and
Allocation
The auditor considers the appropriateness
of the basis of the valuation of the assets
or liability.
The auditor must not only establish that
the accounting method used to value a
particular asset is generally accepted, but
also determine that the method of
valuation is appropriate and properly
applied in the circumstances.

Valuation of Assets
Common procedures used:
For assets valued at cost, vouch the acquisition cost of
assets to paid checks
If asset is subject depreciation/amortization, auditor
must evaluate the reasonableness of the cost
allocation program and verify computation of
unallocated cost
For assets valued at fair value, fair values are audited
by comparison to prices on existing markets, or by
examination of valuation models used to develop the
values
Auditor must test the clerical accuracy of underlying
records to determine that they accumulate to the
totals appearing in the general ledger, thus, also the
financial statements

Financial Statement
Presentation and
Disclosure

The auditor must perform procedures to

ensure that the FS presentation conforms
to the requirements of authoritative
accounting pronouncements and the
general principle of adequate disclosure.

Financial Statement
Presentation and
Disclosure
Procedures falling into this category include:
Review of subsequent events
Search for related party transactions
Investigation of contingencies
Review of needed disclosures

Substantive Audit of
Cash

Typical Substantive Audit

Procedures for Cash
Review disclosures for compliance with GAAP
Inquire on management concerning compensating
balance agreements and restrictions on cash
Send confirmation letters to financial institutions
The form requests information on deposits
and loans
Know that the form is designed to
substantiate evidence primarily on the
existence assertion, and not to discover or
provide assurance about accounts not listed on
the form

Typical Substantive Audit

Procedures for Cash
Count cash on hand at year end
Prepare a bank transfer schedule for the last
week of the audit year and the first week of the
following year to disclose misstatements
resulting from kiting
A bank transfer schedule shows the dates
of all transfers of cash among the
clients
various bank accounts
Prepared by using bank statements for the
periods before and after year-end and
by
using the firms cash receipts and
disbursements journal

Typical Substantive Audit

Procedures for Cash
Review the cut-off of cash receipts and
disbursements around year end
Review bank statements
Perform analytical procedures
May include comparison to prior year
cash balances
These procedure help verify the
existence and completeness of
cash transactions

Typical Substantive Audit

Procedures for Cash
Review year-end bank reconciliations
Auditors generally prepare either a 2 or 4-column
bank reconciliation for the difference
between
the cash per bank and per books
When the level of control risk is assessed as:
Low : substantive procedures might be
confined to
scanning the client
reconciliations and comparing
balances per bank to bank
confirmations
High: the auditor extends the substantive procedures
in testing the clients reconciliation by examining the
individual details of reconciling items

Typical Substantive Audit

Procedures for Cash
Obtain a cut-off bank statement
A bank statement for the first 8-10 business
days
after year-end
Primary purpose of which is to help auditors
verify reconciling items on the yearend
bank reconciliation
Statement is sent by the bank to the auditor
Foot summary schedules of cash and agree their total
to the amount which will appear on the financial
statements
Reconcile summary schedules of cash to the general
ledger
Test translation of any foreign currencies

Substantive Audit for

Receivables

Typical Substantive Audit

Procedures for Receivables
Review disclosures for compliance with
GAAP
Inquire of management about pledging, or
discounting of receivables
Review loan agreements for pledging and
factoring receivables

Typical Substantive Audit

Procedures for Receivables
Extent and method of confirmation is
determined by:
Effectiveness of internal control
Possibility of disputes, inaccuracies, and fraud in
accounts
Expected degree of cooperation by the debtors
Probability that debtor will be able to confirm the
amounts involved
Materiality of amounts involved

Typical Substantive Audit

Procedures for Receivables
Two types:

Positive form once debtor has been selected,

auditor must obtain evidence and ask debtor to
respond whether or not they agree with information
as to amount owed in request. There will be followup procedures such as second request and
checking invoices to shipping documents to prove
sale for any non-response.
Negative form requests debtor to respond
when they disagree with amount shown.
Alternative procedures to debtors confirmations
include examining evidence of subsequent cash
receipts and examining sales and shipping
documents.

Typical Substantive Audit

Procedures for Receivables
Confirm accounts and notes receivables
by direct communication with debtors
Confirmation of AR is a GAAP
procedure therefore, nonperformance of which must
document the reason
Confirmation requests must be
always
mailed by the auditor and
responses must be received
by
the auditor

Typical Substantive Audit

Procedures for Receivables
Inspect notes on hand and confirm those not on
hand by direct communication with holders
Vouch receivables to customer orders, sales
orders, invoices, shipping documents and credit
memos
Review the cut-off of cash receipts and sales
around year-end
A sale is properly recorded when title
passes on the items being sold. Be careful
with FOB Shipping Pt. and FOB Destination.

Typical Substantive Audit

Procedures for Receivables
Foot the accounts and notes receivable subsidiary ledger
Reconcile subsidiary ledgers to general ledger control
accounts
Examine cash receipts subsequent to year-end
Age accounts receivable
Aging schedule is used to address the receivable
valuation assertion
Discuss adequacy of the allowance for doubtful accounts
with management and credit department and compare it
to historical experience
Consider changes in economy

Typical Substantive Audit

Procedures for Receivables
Inquire about factoring of receivables
Perform analytical procedures
Typical ratios include:

Gross profit rate

Accounts receivable turn-over
Ratio of accounts receivable
Rate of accounts receivable written-off

Ratio of interest revenue to notes

receivable

Substantive Audit of Fixed

Assets

Typical Substantive Audit

for Fixed Assets
Perform search for unrecorded retirements and obsolete
equipment
Review any leases for proper accounting
Review minutes of the board of directors (and
shareholders)
Perform analytical procedures
Comparison of total cost of PPE and divided by
cost of goods sold
Comparison of repairs and maintenance on a
monthly and annual basis
Comparison of acquisitions and retirements for the
current year with prior years

Typical Substantive Audit

for Fixed Assets
Review disclosures for compliance with GAAP
Inquire from management concerning any liens and
restrictions on PPE
Review loan agreements for liens and restrictions on
PPE
Inspect major acquisitions of PPE
Vouch additions and retirements to PPE
Disposals may occur due to retirement or theft of
PPE items
Simple retirements of equipment are often difficult
to detect since no journal entry may have
been
recorded to reflect the event

Typical Substantive Audit

for Fixed Assets
Unrecorded retirements may be discovered
through
Perform search for unrecorded and retirements
and obsolete equipment

Examination of changes in insurance policies

Consideration of the purpose of the recorded acquisition
Examination of property tax files
Discussions
Observation
Examination of debits to accumulated depreciation and
credits to miscellaneous revenue accounts
Inquiry of plant manager

Typical Substantive Audit

for Fixed Assets
Obtain or prepare an analysis of repairs
and maintenance expense and vouch
transactions
Foot PPE summary schedules
Reconcile summary PPE schedules to the
general ledger
Recalculate depreciation
Consider any conditions that indicate that
assets may be impaired

Long-term Investment

Simultaneous
Verification
Because of the liquid nature of securities,
the auditors inspection is generally
performed at year-end simultaneously with
the audit of cash, bank loans, and other
related items.

Desirable Client
Controls
The treasurer should authorize purchases and
sales up to a certain value. After that value has
been reached, transactions should be
authorized by the board of directors
Two individuals should be present when access
to securities is necessary
Recorded balances for investments should
periodically be compared with the actual
securities held by individuals independent of the
function.

Substantive Testing of
Long-term Investment

Assertion

Audit Objective

Audit Procedures

A.Existence
or
Occurrence

-To determine that

investment in
securities (shares,
bonds, notes)
physically exists and
in loans and
advances exist.

-Obtain or prepare a listing of

securities and investments owned by
the company and related revenue
accounts and reconcile to the general
ledger
-Inspect securities on hand
-Obtain confirmation of securities
held by others

B.Completen
ess

-To determine that

investments that are
all included in the
statement
of
-To
determine
that
financial
position
the
company
owns

-Vouch selected purchases and sales

transactions of securities during the
year.

C.Rights
and
Obligations

D.Valuation
or Allocation

or has ownership
rights to all
investments
included in the
statement of
financial position
-To determine that
investments are

-Verify the clients cutof of

securities transactions
-Perform analytical procedures
-Compute independently
revenue from securities

-Determine that market value of

securities at statement of financial

Accounts Payable and

Purchases

Confirmation of
Payables
Confirmations may be sent to vendors
Auditors are primarily concerned about the
possibility of understated payables called
search for unrecorded liabilities

Substantive Testing of
Liabilities

Assertion

Audit Objective

E.Existence
-To verify that
or Occurrence accounts payable
represent liabilities of
the entity

F.Completen -To verify that all

ess
accounts payable
are recorded in the
proper period at
year-end. Identify
trade accounts
payable in search
for unrecorded
liabilities.

Audit Procedures
-Obtain from the client a listing of
accounts and notes payable as at
year-end and reconcile to the
general ledger
-Vouch recorded liabilities to
vendors statements
-Confirm recorded liabilities
directly with suppliers and
creditors. Investigate differences in
liabilities reported in the
confirmations with the recorded
book amounts.
-Examine book
confirmations
-Perform
purchases
cutof for
loans.
examinations
-Test for unrecorded liabilities
-Perform analytical procedures

G.Rights and
Obligations

-To verify that accounts payable

represent the entitys liabilities

H.Valuation -To verify that accounts payables are

or Allocation recorded at the proper amount

-Review
documentation
in clients files
-Examine
subsequent
payments to
creditors
-Vouch
accounts
payable
schedule
-Test
computation
of accrued or
prepaid
interest

Payroll

Special Audit
Considerations for Payroll
When control risk is assessed as low for
assertions related to payroll, substantive
test of payroll balances most likely would
be limited to applying analytical
procedures and recalculating payroll
accruals.

Substantive Testing of
Payroll

Assertion

Audit Objective

Audit Procedures

I.Existence
or
Occurrence

-To verify that salaries payable

represent liabilities of the entity

-Review payroll checks

and bank
reconciliations
-Review the payroll
register
-Examine personnel
records
-Observe the
distribution of the
paychecks on a
surprise basis

J.Completen
ess

-To verify that all salaries payable

are recorded in the proper period at
year-end. Identify trade accounts
payable in search for unrecorded
liabilities.

-Review time reports

and piecework or
commission records

K.Rights and -To verify that salaries payable

Obligations
represent the entitys liabilities

-Verify payroll
deductions
-Review accounting for
unclaimed wages
-Examine payroll cutoff

L.Valuation or
Allocation

-To verify that salaries

payables are recorded at
the proper amount

-Recomputed
payroll register
-Vouch items from
the payroll register
to employee time
cards
-Observe the use of
the time clocks by
the employees
-Compare payroll
expenses with prior
periods and
investigate
diferences
-Perform analytical
procedures
-Review the results
of audits of related
pension and profitsharing plans

Long-term Debt

Typical Substantive Audit

Procedures for Long-term
Debt

(ie. Mortgage Payable, Bonds Payable,

Notes Payable Long-term)

Substantive Testing of
Long-term Debt

Assertion

Audit Objective

Audit Procedures

M.Existence or
Occurrence

-To verify that additional

debt obtained or retired
debt actually occurred

-Obtain an analysis of
long-term debt accounts
and related interest,
premium, and discount
accounts
-Review debt agreements
and confirm with payees
the principal amount,
maturity date, interest
rate, etc.
-Inspect bonds redeemed
or surrendered during the
period

N.Completeness

-To detect unrecorded

debt

-Trace authorization for

issuance of debt to
credits to the long-term
debt account
-Vouch borrowing and
repayment transactions
and review transactions
to supporting documents
occurring near year-end

O.Rights and
Obligations

-To verify that longterm debt actually

consists of
obligations of the
entity

P.Valuation or Allocation -To determine that the

long-term debts are
recorded at the proper
amount

-Review minutes of
board of directors
meetings
-Review payments
and renewals after
the statement of
financial position
date
-Recalculate interest
expense and
amortization of
premium or discount, if
any
-Ascertain the amount
of long-term debt
maturing within one
year

Substantive Testing of
Equity

Assertion

Audit Objective

Audit Procedures

Q.Existence or
Occurrence

-To determine the validity of

recorded shareholders equity
balances and whether the
transactions actually
occurred.

-Obtain schedules of
shareholders equity
accounts and reconcile
to the general ledger
balances
-Review authorization
and terms of share
issuances
-Confirm shares
outstanding with
registrar on share and
transfer agent
-Inspect share
certificate book
-Inspect certificates of
shares held in treasury

R.Completeness

-To determine whether

recorded shareholders equity
accounts reflect all data that
should be recorded

-In addition to the

above mentioned
procedures, perform
analytical review
procedures

S.Rights
and
Obligation
s

-To determine whether the entity

has the authority and execute the
shareholders equity transactions
(ie. Whether share capital was
legally issued and shareholders
have a legal claim on corporate
assets at the statement of financial
position date)

-Review
articles of
incorporatio
n and bylaws
-Make
inquiries of
legal
counsel

T.Valuation
or
Allocation

-To determine whether the shareholders

equity balances are shown in the proper
statement accounts in accordance with
PAS/PFRS

-Vouch share
capital
entries,
dividend
entries, and
entries to
retained
earnings.

That in All Things, God

may be glorified!