chapter 13
Overall Audit Strategy
and Audit Program
1
Partner Terry: Auditors must understand
internal control in every audit. … For all
public companies and for nonpublic
companies where control risk is assessed
below maximum, the auditor must perform
tests of controls. But, don’t forget that
auditing standards also require that
substantive tests be performed in all
audits.
2
Ciara
what is the objective of AU-C section 315?
3
AU-C 315
Understanding the Entity & Its Environment & Assessing RoMM
.03 The objective of the auditor is to identify and
assess the risks of material misstatement, whether
due to fraud or error, at the financial statement and
relevant assertion levels through understanding the
entity and its environment, including the entity's
internal control, thereby providing a basis for
designing and implementing responses to the
assessed risks of material misstatement.
4
Page 160/169 (what is a sufficient understanding?)
For all significant classes of transactions, accounts and disclosures
Evaluate
Risks related to all relevant assertions
Identify points in the transactions where material
misstatements could occur
How each significant class of transactions
–
–
–
–
–
Initiated & Authorized
Recorded
Documents & records
Processed through the accounting system into the GL
Reporting process including disclosures & estimates
5
Understanding Internal Controls
Risk assessment procedures
Evaluate design of internal controls
Document understanding
Assess Control Risk (preliminary)
Test Operating Effectiveness of controls
Assess Control Risk (after ToC’s)
Substantive Tests of Transactions
Substantive Analytical Procedures
Tests of Details of Balances
6
Jon P
what is the definition of control risk?
7
Control Risk
The risk that a misstatement that could occur
in an assertion about a class of transaction,
account balance, or disclosure and that could
be material, either individually or when aggregated with other
misstatements, will not be prevented, or detected and
corrected, on a timely basis by the entity's
internal control.
8
Tests of Controls
if a control is properly designed
test if control is operating effectively
9
Assess control risk
Identify:
• Significant classes of transactions
• Use managements’ assertions to determine
points where errors or fraud could occur
• Controls that would prevent or detect these errors
• Link specific controls to related assertions
• Evaluate the design of the control
• Test the operating effectiveness of the control
10
11
Final Assessment
CR < Max
12
Jake S
What is the objective of AU-C section 500?
13
AU-C 500
Audit Evidence
.04 The objective of the auditor is to design and
perform audit procedures that enable the auditor to
obtain sufficient appropriate audit evidence to be
able to draw reasonable conclusions on which to
base the auditor's opinion.
14
Procedures used to Tests Controls p. 205
Make inquiries of client personnel
Examine documents for evidence the control
was implemented
Observe control activities
Reperform control activities
15
Table 1 ---Key Controls
p. 207 ties to CR Matrix p. 176
1 Credit is approved for each sale
2 Recorded sales are supported by an authorized shipping
document
2
And an approved sales order
3
4 Shipping documents are forwarded to billing daily and a
billing invoice is created
5 Shipping documents are prenumbered and accounted for
weekly
6
7 Unit selling prices are obtained from the master price list
16
Table 1 page 207
1 Credit is approved for each sale
Occur (accuracy)
2 Recorded sales are supported by an authorizedOccurrence
shipping
document
2
And an approved sales order
Occurrence
4 Shipping documents are forwarded to billing daily
and a
Occurrence
billing invoice is created
cutoff
5 Shipping documents are prenumbered and accounted
for
Completeness
weekly
7 Unit selling prices are obtained from the master
price list
accuracy
17
Vouch & Trace Project
Table 1 on page 207
45 transactions
discuss how V&T could be used
to test controls in Table 1
18
Control Procedure
Test of operating effectiveness
control
WP ref
results
OCC v11
OCC v12
OCC v13
WP 3
WP 3
WP 3
10/10
9/10
9/10
OCC v14
WP 3
9/10
Observe that documents in the above sample are
prenumbered
COM v11
WP 3
Yes
Select 10 weeks and review the reconciliation for those
weeks
COM b11
WP 3
Occurrence - Recorded sales are for shipments actually
made to existing customers
Select a sample of 10 entries from the sales journal
Vouch the entries from the sales journal to cross
Recorded sales are supported by invoices
referenced invoices
Invoices are supported by shipping documents
Vouch the invoices to shipping documents
Shipping documents are supported by sales orders
Vouch shipping documents to sales orders
Sales orders include puchase orders from pre-approved Observe purchase orders on sales order and check for
customers
customer on list of pre-appoved customers
Completeness - All sales that occurred are recorded
Sales orders, shipping documents and invoices are
prenumered
The number of sales orders is reconciled with the
number of shipping documents, invoices and number of
entries in the sales journal, every week
Accuracy - Recorded sales are for the quantity of goods
shipped and the correct price
For the 10 entries in the sample
Shipping Clerk
The shipping clerk agrees the quantity on the shipping agree quantity on the shipping document with quantity
document with the quantity on the sales order
on the sales order and observe shipping clerk's initials
ACC v11
Accounts Receivable clerk
The accounts receivable clerk agrees the name and
address on the invoice with the sales order and shipping
document
agree quantity on the invoice with the sales order
and shipping document and observe the AR clerk's
agree the prices on the invoice with sales order and
the price list
agree the name and address on the invoice with the
sales order and shipping document and observe the AR
clerk's initials
ACC v21
agree the quantity on the invoice with the sales order
and shipping document
ACC v22
agree the prices on the invoice with sales order and the
price list and observe the AR clerk's initials
ACC v23
Cutoff - Sales are recorded on the correct dates
For the 10 entries in the sample
The accounts receivable clerk agrees dates on invoice agree dates on invoice with the dates on shipping
with the dates on shipping documents
documents and observe the AR clerk's intials
CUT v11
WP 3
9/10
WP 3
9/10
WP 3
9/10
WP 3
19
WP 3
8/10
8/10
20
page 218 Accounts Receivable
Set Performance Materiality (tolerable misstatement)
Assess control risk for
1. credit sales transactions
preliminary
2. cash receipts transactions (collection)
preliminary
Design and perform Tests of Controls
Assess control risk
1. credit sales transactions
final
2. cash receipts transactions (collection)
final
Design and perform Subst Tests of Transactions
Subst Analytical Procedures
Subst Test of Details of Acc Rec Balance
Conclude on Accounts Receivable
21
$ubstantive Tests
Provide substantive evidence
help establish the monetary correctness
22
page 218 Accounts Receivable
Set Performance Materiality (tolerable misstatement)
Assess control risk for
1. credit sales transactions
preliminary
2. cash receipts transactions (collection)
preliminary
Design and perform Tests of Controls
Assess control risk
1. credit sales transactions
final
2. cash receipts transactions (collection)
final
Design and perform Subst Tests of Transactions
Subst Analytical Procedures
Subst Test of Details of Acc Rec Balance
Conclude on Accounts Receivable
23
Substantive tests
• Substantive tests of transactions
• Substantive analytical procedures
• Tests of details of account balances
24
25
Substantive analytical procedures
Indicate possible misstatements
Provide substantive evidence
help establish the monetary correctness
(only indicate the likelihood of misstatement)
26
27
Substantive analytical procedures
• Supplies
• Prepaid rent
• Depreciation expense
28
Substantive Tests of Details of Balances
Provide substantive evidence
help establish the monetary correctness
Bank reconciliations
Confirmation of accounts receivables
Inventory observation
29
Audit Approaches
30
for private companies
non-SEC companies
not covered by Sarbanes-Oxley
31
32
Private Company
non SEC
When you reflect on similar audit clients
You believe it would cost less to perform
Tests of Contols than $ubstantive Test$
33
Sam
After evaluating the design of the controls you DO NOT
believe the client’s controls would effectively prevent
or detect and correct misstatements even if they are
implemented
You preliminarily assess CR =
Which audit approach will you take?
34
Janet
Which types of audit tests will you perform
evaluate design of controls
Tests of Controls
test operating effectiveness
none
some
extensive
none
limited extensive
Substantive Tests
analytical procedures
test of details of account balances
35
Private Company
non SEC
When you reflect on similar audit clients
You believe it would cost less to perform
Tests of Contols than $ubstantive Test$
36
Bryce
After evaluating the design of the controls you believe
the client’s controls would effectively prevent or
detect and correct misstatements even if they are
implemented
You preliminarily assess CR =
Which audit approach will you take?
37
Ashley
Which types of audit tests will you perform
evaluate design of controls
Tests of Controls
test operating effectiveness
none
some
extensive
none
limited extensive
Substantive Tests
analytical procedures
test of details of account balances
38
Private Company
non SEC
When you reflect on similar audit clients
You believe it would cost less to perform
$ubstantive Test$ than Tests of Contols
39
Christina
After evaluating the design of the controls you believe
the controls would NOT prevent, or detect and correct
misstatements if they are properly implemented
You will preliminarily assess CR =
Which audit approach will you take?
40
Christine
Which types of audit tests will you perform
evaluate design of controls
Tests of Controls
test operating effectiveness
none
some
extensive
none
limited extensive
Substantive Tests
analytical procedures
test of details of account balances
41
Private Company
non SEC
When you reflect on similar audit clients
You believe it would cost less to perform
$ubstantive Test$ than Tests of Contols
42
Vivian
After evaluating the design of the controls you believe
the controls would prevent, or detect and correct
misstatements if they are properly implemented
You will preliminarily assess CR =
Which audit approach will you take?
43
Fiona
Which types of audit tests will you perform
evaluate design of controls
Tests of Controls
test operating effectiveness
none
some
extensive
none
limited extensive
Substantive Tests
analytical procedures
test of details of account balances
44
Iterative Process
analysis of audit 4
page 214
Analysis of Audit 4
Demonstrates the iterative nature of the audit process
Planned
CR = med
PDR = med
ToC medium
Anal Proc extensive
Subst medium
45
Iterative Process
analysis of audit 4
Auditor found significant misstatements while
performing substantive tests.
The auditor must conclude that controls are ineffective
and that control risk is MAX, regardless the results of
their previous tests of controls and control risk
assessment.
The auditor must perform extensive Substantive Tests
46
Private Company
non SEC
When you reflect on similar audit clients
You believe it would cost less to perform
Tests of Contols than $ubstantive Test$
47
Julia
After evaluating the design of the controls you believe
the controls would prevent, or detect and correct
misstatements if they are properly implemented
You will preliminarily assess CR =
Which audit approach will you take?
48
Jake M
Which types of audit tests will you perform
evaluate design of controls
Tests of Controls
test operating effectiveness
none
some
extensive
none
limited extensive
Substantive Tests
analytical procedures
test of details of account balances
49
Tim
While you are performing tests of controls you
encounter control deficiencies. Do you need to change
you audit approach?
You will assess CR =
Which audit approach will you take?
50
Somer
Which types of audit tests will you perform
evaluate design of controls
Tests of Controls
test operating effectiveness
none
some
extensive
none
limited extensive
Substantive Tests
analytical procedures
test of details of account balances
51
Subst Tests
Less costly than
ToC
ToC
Less costly than
Subst Tests
controls
effective
(CR =Low)
extensive
Subst Tests
ToC
controls
ineffective
(CR = MAX)
Must do extensive Subst Tests
preliminarily
assess
limit subst tests =>
analytical procedures
52
•
Understand internal controls
–
–
•
Document understanding
Evaluate the design of the controls
Preliminarily assess control risk
–
•
Document prelim CR assessment
If CR < Max & $ToC < $Sub$t Tests
– Design and perform ToC
– Document results of ToC and CR assessment
– Design and perform limited Subst Tests
– Document results of Subst Tests
•
If CR = Max
–
–
or
$Sub$t < $ToC
Design and perform extensive Subst Tests
Document results of Subst Tests
53
for public companies
SEC companies
covered by Sarbanes-Oxley
54
55
Public Company
When you reflect on similar audit clients
You believe it would cost less to perform
Tests of Contols than $ubstantive Test$
56
Katina
After evaluating the design of the controls you DO NOT
believe the client’s controls would effectively prevent,
or detect and correct misstatements even if they are
implemented
You preliminarily assess CR =
Which audit approach will you take?
57
Lauren
Which types of audit tests will you perform
evaluate design of controls
Tests of Controls
test operating effectiveness
none
some
extensive
none
limited extensive
Substantive Tests
analytical procedures
test of details of account balances
58
Public Company
When you reflect on similar audit clients
You believe it would cost less to perform
$ubstantive Test$ than Tests of Contols
59
Huyen
After evaluating the design of the controls you believe
the controls would prevent, or detect and correct
misstatements if they are properly implemented
You will preliminarily assess CR =
Which audit approach will you take?
60
Aleksandr
Which types of audit tests will you perform
evaluate design of controls
Tests of Controls
test operating effectiveness
none
some
extensive
none
limited extensive
Substantive Tests
analytical procedures
test of details of account balances
61
Public Company
When you reflect on similar audit clients
You believe it would cost less to perform
Tests of Contols than $ubstantive Test$
62
Ian
After evaluating the design of the controls you believe
the controls would prevent, or detect and correct
misstatements if they are properly implemented
You will preliminarily assess CR =
Which audit approach will you take?
63
Romy
Which types of audit tests will you perform
evaluate design of controls
Tests of Controls
test operating effectiveness
none
some
extensive
none
limited extensive
Substantive Tests
analytical procedures
test of details of account balances
64
Madyson
Continuing with the previous example
While you are performing tests of details of account
balances you encounter material misstatements. Do
you need to change you audit approach?
You will assess CR =
Which audit approach will you take?
65
Marc
Which types of audit tests will you perform
evaluate design of controls
Tests of Controls
test operating effectiveness
none
some
extensive
none
limited extensive
Substantive Tests
analytical procedures
test of details of account balances
66
preliminarily
assess
controls
effective
(CR < Low)
controls
ineffective
(CR = MAX)
Subst Tests
Less costly than
ToC
ToC
Less costly than
Subst Tests
ToC
ToC
can limit subst tests
can limit subst tests
analytical procedures
analytical procedures
must do some ToC
must do some ToC
Extensive Subst
Tests
Tests of Details
Extensive Subst
Tests
Tests of Details
67
•
Understand internal control structure
–
–
•
Design and perform ToC to assess CR
–
•
Document understanding
Evaluate the Design Effectiveness of ICS
Document results of ToC and CR assessment
If CR > Low
–
–
Design and perform extensive Subst Tests
Document results of Subst Tests
68
Audit Documentation
Workpapers
Must document
Record of compliance with GAAS
69
Summary of Understanding Internal Control
and Assessing Control Risk
Figure 11
page 188
is good
70
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72
73
74
75
76