Chapter 5
Evidence and
Documentation
McGraw-Hill/Irwin
Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
LO# 5
Management Assertions
Financial statements issued by management contain
explicit and implicit assertions. Table 5-1
2-2
Relationship of Audit
Evidence to the Audit Report
Financial
statements
Management assertions
about components of
financial statements
Audit
procedures
LO# 1
Audit
report
Auditor reaches
a conclusion based
on the evidence
Provide evidence on the
fairness of the
financial statements
5-3
LO# 3
Audit Evidence
All the information, from
whatever source, used
by the auditor in arriving at
the conclusions on which the
audit opinion is based.
5-4
The Concepts of Audit
Evidence
LO# 3
Nature of audit evidence
Sufficiency and appropriateness
of audit evidence
Evaluation of audit evidence
5-5
LO# 3
Nature of Audit Evidence
Records of
initial entries and
supporting records
Invoices
Adjustments
to financial
statements
General
and subsidiary
ledgers
Worksheets
Spreadsheets
supporting cost
allocations
Contracts
Other
computations,
reconciliations, and
disclosures
5-6
LO# 3
Sufficiency of
Audit Evidence
Sufficiency is the measure of
the quantity of audit evidence.
Greater risk of
misstatement requires
a higher quantity
of audit evidence.
Higher quality
audit evidence results
in a lower quantity
of audit evidence.
5-7
Appropriateness of
Audit Evidence
Relevance
Reliability
LO# 3
Appropriateness is a measure
of the quality of audit evidence.
Independent source of the evidence
Effectiveness of internal control
Auditor’s direct personal knowledge
Documentary evidence
Original documents
5-8
Evaluation of
Audit Evidence
LO# 3
Proper evaluation of evidence
requires an understanding of the:
Types of evidence available.
Relative reliability of available evidence.
An auditor should be thorough in searching
for evidence and unbiased in its evaluation.
5-9
LO# 4
Audit Procedures
Specific acts
performed by the auditor
to gather evidence about
whether specific assertions
are being met.
Risk assessment
procedures
Test of
controls
Substantive
procedures
5-10
LO# 4
Audit Procedures
A
set of audit procedures prepared to test
assertions for a component of the financial
statements is referred to as an audit program.
Audit Program for Accounts Receivable
Management Assertions
Examples of Audit Procedures
Existence
Confirm receivables.
Rights and obligations
Inquire if receivables have been sold or pledged.
Completeness
Agree controlling account with total of subsidiary accounts.
Select shipping documents immediatley prior to year end and
ensure sales invoices were recorded.
Valuation or allocation
Trace accounts from aged trial balance to subsidiary accounts.
Test the adequacy of the allowance account.
Presentation and disclosure
Look for amounts due from related parties.
Evaluate receivables for footnote disclosure.
5-11
LO# 4
Audit Procedures for
Obtaining Audit Evidence
Inspection
of records and
documents
Evidence obtained from
external documents is more
reliable than evidence obtained
from internal documents.
Vouching
(Occurrence)
Source
Documents
Tracing
(Completeness)
Journal
or
Ledger
5-12
LO# 4
Audit Procedures for
Obtaining Audit Evidence
Inspection
of tangible
assets
Observation
Physical examination of a
tangible asset.
The process of watching a
process or procedure
being performed by
others.
5-13
LO# 4
Audit Procedures for
Obtaining Audit Evidence
In conducting inquiry, the auditor should:
• Consider the knowledge, objectivity,
experience, responsibility, and
qualifications of the individual to be
questioned.
Inquiry
• Ask clear, concise, and relevant
questions.
• Use open or closed questions
appropriately.
• Listen actively and effectively.
• Consider the reactions and responses,
then ask follow-up questions.
• Evaluate the response.
5-14
LO# 4
Audit Procedures for
Obtaining Audit Evidence

External
Confirmation

The process of obtaining a
representation of information or of
an existing condition directly from
a third party.
The reliability of evidence obtained through
confirmations is directly affected by factors such as:
– The form of the confirmation.
– Prior experience with the entity.
– The nature of the information being confirmed.
– The intended respondent.
5-15
Audit Procedures for
Obtaining Audit Evidence
LO# 4
External
Confirmation
Information Frequently
Confirmed by Auditors
Cash balance
Accounts receivable
Inventory on consignment
Accounts payable
Bonds payable
Common stock outstanding
Insurance coverage
Collateral for loans
Source of Confirmation
Bank
Individual customers
Consignee
Individual vendors
Bondholders/trustee
Registrar/transfer agent
Insurance company
Creditors
5-16
Audit Procedures for
Obtaining Audit Evidence
LO# 4
Recalculation
Determining the mathematical
accuracy of documents or
records.
Reperformance
The auditor’s independent
execution of procedures or
controls that were originally
performed as part of the
internal control system.
5-17
LO# 4
Audit Procedures for
Obtaining Audit Evidence
Analytical
procedures
Scanning
Evaluations of financial
information made by a
study of plausible
relationships among both
financial and nonfinancial
data.
Review of accounting data
to identify significant or
unusual items.
5-18
Reliability of Types
of Evidence
LO# 5
5-19
LO# 9
Purposes of Analytical Procedures
Preliminary
Analytical
Procedures (Risk
Assessment
Procedures)
Used to assist the auditor to better
understand the business and to plan the
nature, timing, and extent of audit
procedures.
Substantive
Analytical
Procedures
Used to obtain evidential matter about
particular assertions related to account
balances or classes of transactions.
Final
Analytical
Procedures
Used as an overall review of the financial
information in the final review stage of the
audit.
5-20
LO# 9
Types of Analytical Procedures
(See Table 5-10)
Trend Analysis
Ratio
Analysis
Reasonableness
Analysis
5-21
LO# 9
Substantive Analytical Procedures
Decision Process
Figure 5-7 Overview of the Auditor’s Decision Process for Substantive
Analytical Procedures
5-22
LO# 9
Develop an Expectation
Auditing standards require the auditor to have an expectation
whenever analytical procedures are used. An expectation can
be developed using a variety of information sources such as:
• Financial and operating data.
• Budgets and forecasts.
• Industry publications.
• Competitor information.
• Management’s analyses.
• Analyst’s reports.
5-23
LO# 9
Define a Tolerable Difference
The size of the tolerable difference depends on:
•
•
•
•
the significance of the account;
the desired degree of reliance on the substantive
analytical procedures;
the level of disaggregation in the amount being tested;
and
the precision of the expectation.
But the amount is always less than planning materiality!
5-24
LO# 9
Compare and Investigate
Compare the expectation to the recorded amount
and investigate any differences greater than the
tolerable difference.
5-25
LO# 9
Investigate Differences for Risk Assessment
and Final Analytical Procedures
Preliminary
Analytical
Procedures (Risk
Assessment
Procedures)
Differences
Final
Analytical
Procedures
Differences
Corroborating
evidence
is not required
Corroborating
evidence
is required
5-26
Audit Testing Hierarchy
LO# 6
Figure 5-3 Audit Testing Hierarchy: An Evidence Decision Process for Testing
Significant Balances or Classes of Transactions
5-27
LO# 6
Filling the Assurance Bucket
5-28
LO# 6
Example of Filling the Assurance Buckets
for Each Assertion (Accounts Payable)
5-29
LO# 7
Audit Documentation
The auditor’s principal record of the
audit procedures performed, evidence
obtained, and conclusions reached.
Audit documentation (working papers) have two functions:
 To provide support for the audit report.
 To aid in the planning, performance, and supervision of
the audit.
5-30
Content of Audit
Documentation
LO# 8
Audit documentation should:
Demonstrate how the audit complied with auditing
and related professional practice standards.
Support the basis for the auditor’s conclusions
concerning each material financial statement
assertion.
Demonstrate that the underlying accounting
records agreed or reconciled with the financial
statements.
5-31
Content of Audit
Documentation
LO# 8
Audit documentation should:
Include a written audit program detailing auditing
procedures necessary to accomplish audit objectives.
Enable a knowledgeable and experienced reviewer to:
Understand the nature, timing,
extent, and results of audit
procedures, evidence obtained,
and conclusions reached.
Determine who performed
and reviewed the work,
as well as the dates
of the work and reviews.
5-32
Content of Audit
Documentation
LO# 8
Most public accounting firms maintain
audit documentation in two types of files:
Permanent files
Corporate charter
Chart of accounts
Organization chart
Accounting manual
Current files
Important contracts
Internal control documentation
Terms of stock and bond issues
Prior years’ analytical procedures
5-33
Content of Audit
Documentation
LO# 8
Most public accounting firms maintain
audit documentation in two types of files:
Permanent files
Audit plan, audit report
Audit programs
Working trial balance
Minutes of meetings
Current files
Adjusting journal entries
Reclassification journal entries
Current financial statements
Working papers supporting accounts
5-34
LO# 8
Format of Audit Documentation
Heading
(Exhibit 5-2, p. 153)
Client name
Title of the working paper
Client’s year-end date
Indexing and
cross-referencing
(Figure 5-6, p. 155)
Notations that provide a trail
from financial statements to
audit documents.
Tick marks
(Exhibit 5-2, p. 153)
Notations made next to
work paper items indicating
auditor/reviewer actions.
5-35
Audit Documentation

Audit Plan
– Overall strategy for audit (e.g. understanding client,
risks, accounts, audit hours)

Audit Program
– Audit procedures to be performed; for example, one
program for each business process and/or account

Working Trial Balance
– Exhibit 5-1 (p. 152) – adjustments ($ changes);
reclassification (changes in classification of accounts)

Account Analysis
– Exhibit 5-2 (p. 153) – activities in account

Account Listing (Lead Schedule)
– Figure 5-6 (p. 155) – items left in ending balance

Audit Memoranda
– Documents auditor’s work; e.g. errors identified,
discussions with clients
LO# 8
Audit Documentation
Audit documentation should be organized so
that audit team members and others can find
evidence supporting financial statement accounts.
All audit documentation is the property of the
auditor, including documents prepared
by the client at the auditor’s request.
The Sarbanes-Oxley Act of 2002 requires
audit documentation to be retained for seven
years from the completion date of the engagement.
5-37