Audit Evidence Chapter 7 2003 Prentice Hall Business

Learning Objective 1 Contrast audit evidence with evidence used by other professions. © 2003

Nature of Evidence The use of evidence is not unique to auditors. Evidence is also used by scientists, lawyers, and historians. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 -3

Learning Objective 2 Identify the four audit evidence decisions that are needed to create an audit program. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 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 © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 -5

Audit Program It includes a list of the audit procedures the auditor considers necessary. Most auditors use computers to facilitate the preparation of audit programs. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 -6

Learning Objective 3 Specify the characteristics that determine the persuasiveness of evidence. © 2003

Persuasiveness of Evidence Competence Sufficiency Combined effect Persuasiveness and cost © 2003 Prentice Hall

Competence Relevance Independence of provider Effectiveness of internal controls Auditor’s direct knowledge Qualifications of individuals Degree of objectivity Timeliness © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 -9

Learning Objective 4 Identify and apply the seven types of evidence used in auditing.

Types of Audit Evidence 1. Physical examination 2. Confirmation 3. Documentation 4. Analytical procedures 5. Inquiries of the client 6. Reperformance 7. Observation © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 11

Relationships Qualifications and conduct Auditing standards Broad guidelines Evidence accumulation Reporting Types of evidence Broad categories © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 12

Relationships Types of evidence Sample size Audit procedures Specific instructions Items to select Timing of tests © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 13

Information Often Confirmed Information Assets Cash in bank Accounts receivable Notes receivable Owned inventory out on consignment Inventory held in public warehouses Cash surrender value of life insurance Source Bank Customer Maker Consignee Warehouse Insurance co. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 14

Information Often Confirmed Information Liabilities Accounts payable Notes payable Advances from customers Mortgages payable Bonds payable Source Creditor Lender Customer Mortgagor Bondholder © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 15

Information Often Confirmed Information Owners’ Equity Shares outstanding Source Registrar and transfer agent © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 16

Information Often Confirmed Information Other Information Insurance coverage Contingent liabilities Bond indenture agreements Collateral held by creditors Source Insurance company Bank, lender, and client’s counsel Bondholder Creditor © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 17

Criteria to Determine Competence Type of evidence Independence of provider Effectiveness of client’s internal controls Auditor’s direct knowledge Qualifications of provider Objectivity of evidence © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 18

Terms and Types of Evidence Terms Types of Evidence Examine Documentation Scan Analytical procedures Read Documentation Compute Analytical procedures Recompute Reperformance Foot Reperformance © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 19

Terms and Types of Evidence Terms Types of Evidence Trace Documentation Compare Documentation Count Physical examination Observe Observation Inquire Inquiries of client Vouch Documentation © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 20

Learning Objective 5 Understand the purposes of audit documentation. © 2003 Prentice Hall Business

Audit Documentation Purposes of audit documentation Ownership of audit files Confidentiality of audit files © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 22

Learning Objective 6 Prepare organized audit documentation. © 2003 Prentice Hall Business Publishing, Auditing

Audit File Contents and Organization Derrickson Associates Trial Balance 12/31/2003 Cash Accounts Receivable Prepaid Insurance Interest Receivable $165, 237 275, 050 37, 795 20, 493 Financial Statements and Audit Report Working Trial Balance Adjusting Journal Entries Contingent Liabilities Operations Liabilities and Equity Assets Analytical Procedures Test of Controls & Substantive TOT Internal Control General Information Audit Programs Permanent Files © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 24

Permanent Files These files are intended to contain data of a historical or continuing nature pertinent to the current audit. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 25

Current Files Audit program General information Working trial balance Adjusting and reclassification entries Supporting schedules © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 26

Relationship of Audit Documentation to Financial Statements FINANCIAL STATEMENTS Cash 122 Acc. …………………. WORKING TRIAL AIE’s BALANCE Expense 90 Prelim. AIE’s Final Cash 212 (90) 122 90 © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 27

Relationship of Audit Documentation to Financial Statements LEAD SCHEDULE – CASH Per G/1 Petty Cash A-2 5 Cash in Bank: General A-3 186 Payroll A-4 21 212 AIE’s (90) A-1 Final 5 96 21 122 © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 28

Relationship of Audit Documentation to Financial Statements A-2 Cash Count Sheet A-3 Bank Reconciliation A-3/1 Confirmation A-3/2 O/S Check List © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 29

Relationship of Audit Documentation to Financial Statements A-4 Bank Reconciliation A-4/1 Confirmation A-4/2 O/S Check List © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 30

Types of Supporting Schedules Analysis Trial balance Reconciliation of amounts Tests of reasonableness Summary of procedures Examination of supporting documents Informational Outside documentation © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 31

Learning Objective 7 Describe how e-commerce affects audit evidence and audit documentation. © 2003

Effect of E-commerce Audit evidence is increasingly in electronic form. Auditors use computers to read and examine evidence. Software programs are typically Windows-based. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 7 - 33