Audit Evidence

Chapter 7

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7-1

 Learning Objective 1

Contrast audit evidence with

evidence used by other
professions.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7-2

 Nature of Evidence
 The use of evidence is not unique to auditors

 Evidence is also used by scientists, lawyers,

and historians

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7-3

 Learning Objective 2

Identify the four audit evidence

decisions that are needed to
create an audit program.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7-4

 Audit Evidence Decisions

1. Which audit procedures to use

2. What sample size to select for a given procedure

3. Which items to select from the population

4. When to perform the procedures (timing)

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7-5

 Audit Program

It includes a list of the audit procedures

the auditor considers necessary.

 Sample sizes
 Items to select
 Timing of the tests

Most auditors use computers to facilitate

the preparation of audit programs.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7-6

 Learning Objective 3

Specify the characteristics that

determine the persuasiveness
of evidence.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7-7

 Persuasiveness of Evidence
Two determinants:

 Appropriateness

 Sufficiency

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7-8

 Six Characteristics of Reliable
Evidence
1. Independence of provider

2. Effectiveness of client’s
internal controls

3. Auditor’s direct knowledge

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7-9

 Six Characteristics of Reliable
Evidence
4. Qualification of individuals
providing the information

5. Degree of objectivity

6. Timeliness

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 10

 Relationships Among Audit
Evidence and Persuasiveness
Qualities Affecting Persuasiveness
Audit Evidence Decisions of Evidence
Audit procedures and timing Appropriateness
Relevance
Reliability
Independence of provider
Effectiveness of internal controls
Auditor's direct knowledge
Qualifications of provider
Objectivity of evidence
Timeliness
When procedures are performed
Portion of period being audited
Sample size and items to select Sufficiency
Adequate sample size
Selection of proper population items
©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 11
 Persuasiveness and Cost

In making decisions about evidence

for a given audit, both persuasiveness
and cost must be considered.

The auditor’s goal is to obtain a

sufficient amount of appropriate
evidence at the lowest total cost.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 12

 Learning Objective 4

Identify and apply the eight types

of evidence used in auditing.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 13

 Types of Audit Evidence
1. Physical examination
2. Confirmation
3. Documentation
4. Analytical procedures
5. Inquiries of the client
6. Recalculation
7. Reperformance
8. Observation

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 14

 Relationships Broad guidelines
concerning auditor
Auditing qualifications and
standards conduct, evidence
Qualifications accumulation,
and conduct and reporting
Evidence
Physical examination accumulation
Confirmation Reporting
Documentation
Analytical procedures Types of
Inquiries of the client evidence Broad categories of
Recalculation evidence available
Reperformance for the auditor’s
Observation accumulation
Audit
procedures Specific instructions
FOUR for the accumulation
AUDIT of types of evidence
EVIDENCE Sample size
DECISIONS and items
to select Timing
©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder
of tests 7 - 15
 Physical Examination

It is the inspection or count by the

auditor of a tangible asset.

This type of evidence is most often

associated with inventory and cash.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 16

 Confirmation
Information Source

Assets
Cash in bank Bank
Accounts receivable Customer
Notes receivable Maker
Owned inventory out on consignment Consignee
Inventory held in public warehouses Public warehouse
Cash surrender value of life insurance Insurance company

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 17

 Confirmation
Information Source

Liabilities
Accounts payable Creditor
Notes payable Lender
Advances from customers Customer
Mortgages payable Mortgagor
Bonds payable Bondholder

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 18

 Confirmation
Information Source

Owners’ Equity
Shares outstanding Registrar and
transfer agent

Other Information
Insurance coverage Insurance company
Contingent liabilities Bank, lender, and
client’s legal counsel
Bond indenture agreements Bond holder
Collateral held by creditors Creditor
©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 19
 Documentation

It is the auditor’s inspection of the

client’s documents and records.

Internal External
documents documents

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 20

 Analytical Procedures

 Understand the client’s industry and business

 Assess the entity’s ability to continue as a

going concern

 Indicate the presence of possible misstatements

in the financial statements

 Reduce detailed audit tests

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 21

 Inquiries of the Client

It is the obtaining of written or oral information

from the client in response to questions
from the auditor.

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 Recalculation

It involves rechecking a sample of calculations

made by the client.

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 Reperformance

It is the auditor’s independent tests of client

accounting procedures or controls that
were originally done.

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 Observation

It is the use of the senses to assess client activities.

The auditor may tour the plant to obtain a general

impression of the client’s facilities.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 25

 Appropriateness of Types of
Evidence
 Type of evidence
 Independence of provider
 Effectiveness of client’s internal controls
 Auditor’s direct knowledge
 Qualifications of provider
 Objectivity of evidence

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 26

 Terms and Types of Evidence
Terms Type of Evidence
Examine Documentation
Scan Analytical procedures
Read Documentation
Compute Analytical procedures
Recompute Recalculation
Foot Recalculation
Trace Documentation/Reperformance
Compare Documentation
Count Physical examination
Observe Observation
Inquire Inquiries of client
Vouch Documentation
©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 27
 Learning Objective 5

Understand the purposes of

audit documentation.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 28

 Audit Documentation

Audit documentation is the principal record

of auditing procedures applied, evidence
obtained, and conclusions reached by
the auditor in the engagement.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 29

 Audit Documentation
 Purposes of audit documentation

 Ownership of audit files

 Confidentiality of audit files

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 30

 Sarbanes-Oxley Act

The Sarbanes-Oxley Act requires auditors of

public companies to prepare and maintain
audit working papers for a period of no
less than seven years.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 31

 Learning Objective 6

Prepare organized audit

documentation.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 32

 Audit File Contents and Organization Financial Statements
and Audit
Financial Report
Statements
and Audit Report
Working Trial
Balance
Financial Statements
and Audit ReportJournal
Adjusting
Entries
Financial Statements
and AuditContingent
Report
Liabilities
Financial Statements
and Audit Report
Operations
Financial Statements
and Audit Liabilities
Report
and Equity
Financial Statements
Robinson Associates and Audit Report
Assets
Trial Balance Financial Statements
12/31/07 and Audit Report
Analytical
Procedures
Financial Statements
and Audit
Tests of Controls andReport
Cash $165,237 Substantive TOT
Financial Statements
Accounts Receivable 275,050 and Audit
Internal Report
Prepaid Insurance 37,795 FinancialControl
Statements
Interest Receivable 20,493 General Report
and Audit
Information
Financial Statements
and
Audit Audit Report
Programs
Financial Statements
and Audit Report
Permanent Files
Financial Statements
and Audit Report

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 33

 Permanent Files

These files are intended to contain

data of a historical or continuing
nature pertinent to the current audit.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 34

 Current Files

 Audit program

 General information

 Working trial balance

 Adjusting and reclassification entries

 Supporting schedules

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 35

 Relationship of Audit Documentation
to Financial Statements
FINANCIAL STATEMENTS
Cash 122
Acc.

WORKING TRIAL BALANCE AJE’s

Prelim. AJE’s Final Expense 90
Cash 212 (90) 122 Cash 90

LEAD SCHEDULE–CASH A-1

Per G/L AJE’s Final
Petty Cash A-2 5 5
Cash in Bank:
General A-3 186 (90) 96
Payroll A-4 21 21
212 (90) 122

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 36

 Relationship of Audit Documentation
to Financial Statements
LEAD SCHEDULE–CASH A-1
Per G/L AJE’s Final
Petty Cash A-2 5 5
Cash in Bank:
General A-3 186 (90) 96
Payroll A-4 21 21
212 (90) 122

A-2 A-3 A-4

Cash Count Sheet Bank Reconciliation Bank Reconciliation

A-3/1 A-3/2 A-4/1

Confirmation O/S Check List Confirmation

A-4/2
©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder O/S Check List 7 - 37
 Types of Supporting
Schedules
 Analysis

 Trial balance or list

 Reconciliation of amounts

 Tests of reasonableness

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 38

 Types of Supporting
Schedules
 Summary of procedures

 Examination of supporting documents

 Informational

 Outside documentation

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 39

 Preparation of Audit
Documentation
 Each audit file should be properly identified
 Documentation should be indexed and
cross-referenced
 Completed documentation must clearly
indicate the audit work performed
 It should include sufficient information
 It should plainly state the conclusions reached

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 40

 Learning Objective 7

Describe how e-commerce

affects audit evidence and
audit documentation.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 41

 Effect of E-commerce

 Audit evidence is increasingly in electronic form

 Auditors must evaluate how electronic information
affects their ability to gather evidence
 Auditors use computers to read and examine
evidence
 Software programs are typically Windows-based

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 42

 End of Chapter 7

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 7 - 43