5 Audit Evidence

5.1 - SA 500 “Audit Evidence”

Meaning and Nature of Audit Auditor’s duties when an information to be used as A.E.
Evidence (A.E.)

Meaning of A.E.
Information prepared using work of Information
Information used by auditor Management Expert Produced by entity
1 Evaluate Competence, Capability & Obtain A.E. about the
In arriving at the conclusion
Objectivity of the Expert
Source of Information for evaluation: Accuracy and
On which auditor’s opinion is Completeness of info.
• Personal Experience with previous work.
based.
• Discussion with that expert. Evaluate whether info is
Nature of A.E.:
• Discussion with others.
A.E. needs to be • Knowledge of expert’s qualification, sufficiently precise and
Sufficient Appropriate memberships, other forms of recognitions. detailed for auditor’s
Measure of Measure of • Published books or papers. purposes.
quantity quality • Auditor’s expert.
Affected by Relevance & 2 Obtain an understating of expert work
• RMM & reliability in • Area of Specialty
• Quality of providing • Applicable professional standards.
Audit support for • Legal & Regulatory Requirements.
evidences conclusion.
• Assumptions and Methods used.
• Nature of Source Data used.
Reliability of Audit
Procedures to obtain A.E. 3 Evaluate appropriateness of Expert work
Evidence
(a) RAP • Finding & Conclusion – Relevance,
(b) FAP (Responses): Reasonableness & Consistency with other (a) External Evidences are
A.E. considered more reliable
• Tests of Control (ToC)
• Assumptions and Methods – Relevance than internal evidences.
• Substantive
and Reasonableness. (b) The reliability of internal
 Tests of Details (ToD)
• Source Data – Relevance, Completeness evidence is increased
 Substantive Analytical
and accuracy. when the related controls,
Procedures (SAP)
imposed by entity are
effective.
(c) Audit evidence obtained
Matters affecting NTE of Audit procedures in case of information being produced
directly by the auditor is
using work of management expert (M.E.)
more reliable than audit
1. Nature and complexity of the matter. evidence obtained
2. Risks of material misstatement in the matter. indirectly.
3. Availability of alternative sources of A.E. (d) Audit evidence in
4. Nature, scope & objectives of M.E. work. documentary form, is
5. Whether M.E. is employed by entity, or a party engaged by it to provide relevant services. more reliable than
6. Extent to which management can exercise control or influence over the work of the M.E. evidence obtained orally.
7. Whether the management’s expert is subject to technical performance standards or other (e) Audit evidence provided
professional or industry requirements. by original documents is
8. Nature and extent of any controls within the entity over the M.E. work. more reliable than audit
9. Auditor’s knowledge and experience of the M.E. field of expertise. evidence provided by
photocopies.
10. Auditor’s previous experience of the work of that expert.

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 SA 501 “Audit Evidence – Specific Considerations for Selected Items”

Inventory – Existence & Condition

General Procedures Special Procedures

When inventory is material to the F.S. 1 Inventory counting conducted at date other than
B/S date
the auditor shall obtain SAAE Perform audit procedures to obtain audit evidence

regarding existence & condition by about whether changes in inventory between the count
date and the date of the F.S. are properly recorded.
(a) Attendance at physical inventory 2 Auditor unable to attend Inventory Count
counting, unless impracticable, to: Make or observe some physical counts on an alternative
• Evaluate mngt. instructions & date,
procedures for recording &
controlling the results of the and perform audit procedures on intervening
entity’s physical inventory transactions
counting; 3 Attendance at inventory count is impracticable
• Observe the performance of Perform alternative audit procedures to obtain S.A.A.E.
management’s count regarding existence and condition of inventory.
procedures;
• Inspect the inventory;
If it is not possible to do so, modify the opinion in the
• Perform test counts; auditor’s report in accordance with SA 705.
(b) Performing audit procedures over 4 Inventory under custody and control of Third Party
the entity’s final inventory records Obtain S.A.A.E by performing the following:
to determine whether they (a) Request confirmation from third party.
accurately reflect actual inventory (b) Perform Inspection/other audit procedure.
count results.

Litigation & Claims – Completeness Segment Reporting – Presentation & Disclosures

Auditor is required to identify litigation Obtain SAAE regarding presentation & disclosure of segment
and claims by following procedures: information in accordance with the applicable FRF by:
• Inquiry: of Mngt. & others within (a) Obtaining an understanding of the methods used by
management in determining segment information, and
entity, including in house legal counsel.
• Evaluate whether such methods are likely to result in
• Review – minutes of meetings of
disclosure in accordance with the applicable FRF; and
TCWG, communication between entity • Where appropriate, testing the application of such methods;
& external legal counsel. and
• Review – legal expenses account. (b) Performing analytical procedures or other audit procedures
appropriate in the circumstances.
If management refuses to permit
Examples of Matters relevant in obtaining an understanding of
auditor to communicate with legal
methods used by management for determining segment information
counsel / external legal counsel
(1) Sales, transfers and charges between segments, and elimination of
refuses / auditor unable to collect
intersegment amounts.
SAAE by performing alternate (2) Comparisons with budgets and other expected results, for example,
procedures operating profits as a percentage of sales.
(3) The allocation of assets and costs among segments.
Modify Opinion in accordance with
(4) Consistency with prior periods, and the adequacy of the disclosures
SA 705 with respect to inconsistencies.

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 SA – 505 “External Confirmation
The objective of the auditor, when using external confirmation procedures, is to design and perform such
procedures to obtain relevant and reliable audit evidence.

Meaning & Type of E.C.

Audit Evidence 2 Types Areas where External Confirmation

obtained as a may be obtained:
+ ve Request - ve request (a) Bank balance & Other
direct written confirmation from bankers
Request that 3rd Party Request that 3rd Party
response to (b) Account Receivable/Account
respond directly to respond directly to Payable Balances
auditor from 3rd auditor auditor (c) Stock Lying with Third Parties
Party in indicating whether it only if it disagrees (d) Property Title Deed held by third
 Paper agrees or disagrees parties
With the info in request with the information (e) Investments Purchased but
 Electronic delivery not taken.
or in the request
 Other form. (f) Loan from Lenders
providing requested info.
(g) Terms of agreement or
Transaction with Third Parties

External Confirmation Audit Procedures in Special Limited use of –ve

Procedures Circumstances Request
Determining the information to Circumstances -ve confirmation request
Circumstances Mngt. refuses to allow the auditor to
be confirmed.
send request provides less persuasive
• Inquire the reasons evidence than the positive
Selecting the Appropriate Third
• Evaluate the implications on RMM Confirmation request.
Party.
• Perform Alternative Audit procedure.

Designing the confirmation • Refusal appears • Communicate to

request. to be TCWG.
unreasonable • Determine its Circumstances in which
• Unable to collect effect on Opinion negative request may be
Sending the request including
audit evidence used as sole substantive
follow up.
Responses to E.C. request procedure:
Factors to be considered • Creates Doubt Obtain Further • Low RMM.
while designing E.C. request: Evidences
• Population consists of
• Assertions being addressed. • Not Reliable Consider its effect large number of small,
• Specific identified RMM. on NTE of other
homogeneous account
• Layout and presentation of procedures
request. balances.
• No Response Perform Alternative
• Prior Experience of audit. procedure • Expectation of low
• Method of Communication. exception rate.
• Unable to collect Determine its effect
• Management Authorization. evidence on Opinion • Auditor not aware of
• Ability of confirming party to
• Exception Investigate to circumstances that 3rd
provide the requested
occurs determine party disregard
information misstatement
request.

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 SA 510 “Initial Audit Engagements – Opening Balances

Meaning of Initial Audit Engagement: An Engagement in which financial statements for prior period
are not audited or were audited by predecessor auditor.
Meaning of Opening balance – A/c balance that exist at beginning of period & also includes disclosures
exists at beginning of period.

Audit Procedures

Opening Balance Consistency of Accounting Modification in Predecessor

Policies Auditor’s Report
• Read most recent F.S. and
auditor report thereon.
• Obtain S.A. audit evidence w.r.t. Obtain SAAE Evaluate the effect of
existence of any material
modification
misstatement by
➢ Determining correct b/f of w.r.t. consistent
prior period closing balance. application in assessing RMM in Current
➢ Determining application of
or period F.S.
appropriate accounting
policies. Proper accounting &
• If any misstatement detected disclosure for changes.
perform additional procedures
to determine their effect on
current Period financial
statements.
• If misstatement exists in
Current Period F.S.
communicate to Mngt & TCWG.

Audit Conclusion & Reporting

Opening Balance Consistency of Modification in Predecessor

Accounting Policies Auditor’s Report

Unable to Contain material Inconsistency exists Modification remains

obtain SAAE misstatements not properly or relevant & material for
accounted / disclosed in Changes not properly Current Period F.S
current year F. S. accounted or disclosed

Qualified / Modify Current Year Audit

Disclaimer Qualified / Adverse Report Report accordingly

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 SA 530 “AUDIT SAMPLING

Sampling Risk Non Sampling Risk

Risk that auditor’s conclusion based on a sample may be different from conclusion Risk that auditor reaches
if the entire population were subjected to same audit procedure. an erroneous conclusion
for any reason not related
to sampling risk.
Test of controls Tests of details

Controls are more Material misstatements Affects audit effectiveness & is more likely
effective than they does not exist when in fact to lead to inappropriate audit opinion.
actually are it does.

Controls are less Material misstatement Affects audit efficiency as it would lead
effective than they exists when in fact it does to additional work to establish that initial
actually are not conclusions were incorrect.

Stratification and its Uses Auditor’s Duties

Process of dividing a population into sub- 1 Sample design, size and selection of items
populations, each of which is a group of
(i) While designing, consider purpose of audit
sampling units which have similar
procedure and characteristics of population.
characteristics.
(ii) Sample size should be sufficient to reduce sampling
Uses of Stratification
risk to an acceptably low level.
(i) Improved Audit efficiency. Stratification
(iii) Selection should be in such a way that each
reduces variability of items within each
sampling unit in population has a chance of
stratum & hence allow sample size to be
selection.
reduced without increasing sampling risk.
(ii) When performing TODs, population is 2 Perform audit procedures
often stratified by monetary value. This (i) Perform audit procedures, appropriate to the
allows greater audit effort to be directed purpose, on each item selected.
to larger value items, as these items may
(ii) If audit procedure is not applicable to selected
contain greatest potential misstatement in
item, perform procedure on a replacement item.
terms of overstatement.
(iii) If auditor is unable to apply designed audit
(iii) Results of audit procedures applied to
procedures/alternative procedure to a selected
sample of items within a stratum can only
item, consider that item as a deviation.
be projected to items that make up that
stratum. To draw a conclusion on entire 3 Evaluation of results of audit sampling
population, auditor will need to consider • Evaluate results of sample and determine whether
RoMM in relation to whatever other strata use of audit sampling has provided a reasonable
make up entire population. basis for conclusions about population that has been
(iv) If a class of transactions or account tested.
balance has been divided into strata,
• If any error or misstatement identified, investigate its
misstatement is projected for each
nature & cause, & evaluate their possible effect on
stratum separately. Projected
purpose of audit procedure and other areas of audit.
misstatements for each stratum are then
combined when considering possible • In analysing deviations and misstatements identified,
effect of misstatements on total class of auditor would also need to consider qualitative
transactions or account balance. aspects of the misstatements identified by him.

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 SA 550 “Related Parties (RP)”

Auditor’s Duties ET Discussions

SA 315 & SA 240 require ET

Risk Assessment procedures Team discussion.
1 Understanding the Entity’s RP relationship and Transactions Matters to be addressed in
a. Auditor to inquire management regarding: ET Discussion
• Identity of entity’s RP, changes from prior period.
• Nature of relationships between entity and RP. • Matters include:
• Type & purpose of transactions with RP.  Nature & extent of
b. Obtain understanding whether management has established controls to: entity’s relationships &
• Identify, account for & disclose RP relationships & transactions.
transactions with RPs.
• Authorise & approve significant transactions with RP.
• Authorise & approve significant transactions outside normal course of business.  Emphasis on maintaining
2 Maintaining Alertness for RP Information when Reviewing Records/Documents professional skepticism
• Auditor to remain alert when inspecting records w.r.t. info indicating existence of throughout audit w.r.t.
RP relationships or transactions not previously identified or disclosed. potential for material
• If auditor identifies significant transactions outside entity’s normal course of
misstatement associated
business, inquire of management about (a) Nature of these transactions, and (b)
Whether RP could be involved. with RPs relationships &
Possible Sources for identification of RP Information: transactions.
1 Income Tax Returns 7 Shareholder’s Register  Circumstances that may
2 Internal Audit Report 8 Life insurance Policies
indicate existence of RP
3 Contracts with Management 9 Statement of conflict of interest
4 Contracts outside normal course
1010 Information supplied to relationship & transaction
of business regulatory authorities that mngt. has not
5 Contracts renegotiated 1111 Specific Invoices from advisors identified or disclosed to
6 Register of Investments
auditor.
Examples of transactions outside the entity’s normal course of business:
1. Complex equity transactions, such as corporate restructurings or acquisitions.  Records or documents
2. Transactions with offshore entities in jurisdictions with weak corporate laws. that indicate existence of
3. The leasing of premises or the rendering of management services by the entity to
RP relationship or
another party if no consideration is exchanged.
4. Sales transactions with unusually large discounts or returns. transactions.
5. Transactions with circular arrangements, e.g., sales with commitment to repurchase.  Importance that mngt. &
6. Transactions under contracts whose terms are changed before expiry.
TCWG attach to identify-
3 Identifying Fraud risk factors
Domination of management by a single person or small group without compensating cation, appropriate a/cing
controls is a fraud risk factor. for, and disclosure of RP
Indicators of dominant influence: relationship & transaction
• RP has vetoed significant business decisions taken by management or TCWG. and related risk of mngt.
• Significant transactions are referred to RP for final approval.
override of relevant
• No/little debate among mgmt./TCWG regarding business proposal initiated by RP.
controls.
• Transactions involving RP are rarely independently reviewed / approved.
• In addition, discussion in
Responses to Assessed Risks context of fraud may include
specific consideration of how
1 Identification of unidentified / undisclosed RP or RP transaction.
RPs may be involved in
• Communicate to other members of ET.
• Request management to identify the transactions with the newly identified RP. fraud. For example:
• Inquire for mngt. failure to identify RP/disclose RP relationship & transactions.  How special-purpose
• Reconsider risk that other unidentified RP or undisclosed RP transactions may exist. entities controlled by
• If non-disclosure appears intentional, evaluate implications for audit. mngt. might be used to
2 Identified significant RP Transactions outside Entity’s Normal course of Business.
facilitate earnings mngt.
• Inspect underlying contracts to evaluate business rationale.
• Examine the terms on which transactions takes place.  How transactions
• Collect evidences w.r.t. approval and authorisation of transaction. between entity & known
• Collect evidences for appropriate accounting & disclosure in compliance of FRF. business partner of a key
3 Assertions that RP Transactions were conducted on arm Length price. member of mngt. could be
• Collect SAAE w.r.t. management assertion of Arm’s length transaction. arranged to facilitate
• Compare transaction prices with prices for identical transactions prevailing in
misappropriation of
ordinary course of business.
• Engage expert to determine market value. assets.

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