LECTURE 7:

AUDIT EVIDENCE

Learning objectives
After studying this lecture, students should be able to:
 Define audit evidence
 Describe the components of and the meaning of ‘sufficient appropriate audit
evidence’
 Determine which evidence is relevant and which evidence is reliable
 Identify the common management assertions for classes of transactions,
account balances and disclosure
 Understand the seven evidence-gathering techniques: inquiry, observation,
inspection, re-performance, recalculation, confirmation, and analytical
procedures
 Obtain evidence that management acknowledges its responsibility for the
fair presentation of the financial statements in a management representation
letter

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 CONTENT
 6.1. The Basis of Evidence
 6.2. Financial Statement Assertions
 6.3. Sufficient Appropriate Audit evidence
 6.4. Audit Procedures for Obtaining Audit Evidence
 6.5. Written Representations

7.1. THE BASIS OF EVIDENCE

 Definition

- Audit evidence is information used by the auditor in

arriving at the conclusions on which the auditor’s opinion
is based.
- Audit evidence includes both information contained in the
accounting records underlying the financial statements and
other information
- Audit evidence, which is cumulative in nature, includes audit
evidence obtained from audit procedures performed during
the course of the audit and may include audit evidence
obtained from other sources such as previous audits and a
firm’s quality control procedures for client acceptance and
continuance

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7.1. THE BASIS OF EVIDENCE
 Electronic Evidence

- Some of the entity’s accounting data and other information

may be available only in electronic form.
- The electronic nature of the accounting documentation
usually requires that the auditor use computer-assisted audit
techniques (CAATs)

7.2. FINANCIAL STATEMENT ASSERTIONS

 Management is responsible for the fair presentation of

financial statements so that they reflect the nature and
operations of the company based on the applicable
financial reporting framework (IAS, GAAP, etc.)
 Management assertions are implied or expressed
representations by management about classes of
transactions and related accounts in the financial
statements.

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MANAGEMENT ASSERTIONS

Assertions may fall into the following categories:

 Assertions about classes of transactions and events,

and related disclosures, for the period under audit
 Assertions about account balances, and related
disclosures, at the period end

 Assertions about classes of transactions and events,

and related disclosures:
• Occurrence—transactions and events that have been
recorded or disclosed have occurred, and such transactions
and events pertain to the entity.
• Completeness—all transactions and events that should have
been recorded have been recorded, and all related
disclosures that should have been included in the financial
statements have been included.
• Accuracy—amounts and other data relating to recorded
transactions and events have been recorded appropriately,
and related disclosures have been appropriately measured
and described.
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Assertions about classes of transactions and events, and
related disclosures (Cont.)

• Cutoff—transactions and events have been recorded in the

correct accounting period.
• Classification—transactions and events have been
recorded in the proper accounts.
• Presentation—transactions and events are appropriately
aggregated or disaggregated and clearly described, and
related disclosures are relevant and understandable in the
context of the requirements of the applicable financial
reporting framework.

Assertions about account balances, and related disclosures:

• Existence—assets, liabilities and equity interests exist.

• Rights and obligations—the entity holds or controls the
rights to assets, and liabilities are the obligations of the
entity.
• Completeness—all assets, liabilities and equity interests
that should have been recorded have been recorded, and
all related disclosures that should have been included in
the financial statements have been included.

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Assertions about account balances, and related
disclosures (Cont.)
• Accuracy, valuation and allocation—assets, liabilities and
equity interests have been included in the FSs at appropriate
amounts and any resulting valuation or allocation adjustments
have been appropriately recorded, and related disclosures have
been appropriately measured and described.
• Classification—assets, liabilities and equity interests have
been recorded in the proper accounts.
• Presentation—assets, liabilities and equity interests are
appropriately aggregated or disaggregated and clearly
described, and related disclosures are relevant and
understandable in the context of the requirements of the
applicable financial reporting framework.
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7.3. SUFFICIENT APPROPRIATE AUDIT EVIDENCE

 According to ISA 500, the objective of the auditor is to design and

perform audit procedures in such a way as to enable the auditor to
obtain sufficient appropriate audit evidence to be able to draw
reasonable conclusions on which to base the auditor’s opinion
 As explained in ISA 200, reasonable assurance is obtained when
the auditor has obtained sufficient appropriate audit evidence to
reduce audit risk (that is, the risk that the auditor expresses an
inappropriate opinion when the financial statements are materially
misstated) to an acceptably low level.

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7.3. SUFFICIENT APPROPRIATE AUDIT EVIDENCE

 The auditor should obtain sufficient

appropriate audit evidence to be able to
draw reasonable conclusions on which to
base the audit opinion
- Sufficient audit evidence
- Appropriate audit evidence

7.3. SUFFICIENT APPROPRIATE AUDIT EVIDENCE

Sufficiency
 Sufficiency is the measure of the quantity
of audit evidence
 Affecting to sufficiency of audit evidence
- Audit evidence’s quality
- Materiality
- Audit Risk
- …..

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7.3. SUFFICIENT APPROPRIATE AUDIT EVIDENCE

Appropriateness
 Appropriateness relates to the relevance
and reliability of audit evidence

 Or appropriateness is the measure of quality of

audit evidence relevance to a particular assertion
and its reliability

7.3. SUFFICIENT APPROPRIATE AUDIT EVIDENCE

Relevance
 Relevance of evidence is the appropriateness
(pertinence) of the evidence to the audit
objective being tested.

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7.3. SUFFICIENT APPROPRIATE AUDIT EVIDENCE

Reliability
 Reliability is the quality of information when it is free from
material error and bias and can be depended upon by users to
represent faithfully that which it either purports to represent
or could be reasonably expected to represent.
 Reliability, and therefore appropriateness, depends on the
following six characteristics of reliable evidence:
Independence of provider
Effectiveness of client’s internal controls
Auditor’s direct knowledge
Qualifications of individuals providing the information
Degree of objectivity
Timeliness

7.4. AUDIT PROCEDURES FOR OBTAINING AUDIT EVIDENCE

 Evidence Gathering Techniques

An auditor obtains audit evidence by one or more of the

following evidence-gathering techniques:
■ inquiry;
■ observation;
■ inspection (of tangible assets, records or documents);
■ recalculation;
■ re-performance;
■ confirmation;
■ analytical procedures

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7.4. AUDIT PROCEDURES FOR OBTAINING AUDIT EVIDENCE

 Inquiry

• Inquiry consists of seeking information of knowledgeable persons

inside or outside the entity
• Inquiry of the client is the obtaining of written or oral information
from the client in response to specific questions during the audit.
• Inquiries may range from formal written inquiries, addressed to third
parties, to informal oral inquiries, addressed to persons inside the
entity

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7.4. AUDIT PROCEDURES FOR OBTAINING AUDIT EVIDENCE

 Inquiry

• Corroboration
- In a typical audit, the largest amount of audit evidence is obtained from
client inquiry, but it cannot be regarded as conclusive because it is not
from an independent source and might be biased in the client’s favour.
- The auditor must gather evidence to corroborate inquiry evidence by
doing other alternative procedures.

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7.4. AUDIT PROCEDURES FOR OBTAINING AUDIT EVIDENCE

 Observation

• Observation consists of looking at a process or procedure being performed

by others
• Observation provides audit evidence about the performance of a process or
procedure, but is limited to the point in time at which the observation takes
place and by the fact that the act of being observed may affect how the
process or procedure is performed.
• Sufficient evidence is rarely obtained through observation alone. Observation
techniques should be followed up by other types of evidence gathering
procedures.

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7.4. AUDIT PROCEDURES FOR OBTAINING AUDIT EVIDENCE

 Observation of Physical Inventory Procedures

• ISA 501 discusses the inspection evidence gathering technique for

physical inventory counting.
• It states: ‘If inventory is material to the financial statements, the
auditor should obtain sufficient appropriate audit evidence regarding
its existence and condition of the inventory by attendance at physical
inventory counting
• The attendance by the auditor will enable him to evaluate
management’s instructions and procedures for recording and
controlling the results of the entity’s physical inventory counting;
observe the performance of management’s count procedures; inspect
the inventory; perform test counts; and perform audit procedures over
the entity’s final inventory records to determine whether they
accurately reflect actual inventory count results
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7.4. AUDIT PROCEDURES FOR OBTAINING AUDIT EVIDENCE

 Inspection (of Tangible Assets, Records or Documents)

• Inspection consists of examining records, documents or
tangible assets.
• Inspection is the auditor’s examination of the client’s
documents and records to substantiate the information that is or
should be included in the financial statements.
• Inspection of tangible assets consists of physical examination
of the assets. Inspection of tangible assets may provide reliable
audit evidence with respect to their existence, but not
necessarily as to the entity’s rights and obligations or the
valuation of the assets. Inspection of individual inventory items
ordinarily accompanies the observation of inventory counting.

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7.4. AUDIT PROCEDURES FOR OBTAINING AUDIT EVIDENCE

 Inspection of Documents

• Inspection of records and documents provides audit evidence of

varying degrees of reliability depending on their nature, source and
the effectiveness of internal controls over their processing:
■ The nature of documents includes quantity of information contained,
the difficulty of access to them, and who has custody.
■ The source of the documents may be from inside or outside the firm.
■ The source outside the firm may or may not be independent of the
client.
■ The source may be competent or incompetent.
■ The controls over the recording process may be effective or
ineffective.

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7.4. AUDIT PROCEDURES FOR OBTAINING AUDIT EVIDENCE

 Inspection of Documents

• External and Internal Documents:

- An internal document is one that has been prepared and used
within the client’s organisation and is retained without ever
going to an outside party
- An external document is one that has been in the hands of
someone outside the client’s organisation who is a party to the
transaction being documented.

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7.4. AUDIT PROCEDURES FOR OBTAINING AUDIT EVIDENCE

 Inspection of Documents

• Vouching and Tracing :

- Vouching is an audit process whereby the auditor selects
sample items from an account and goes backwards through the
accounting system to find the source documentation that
supports the item selected (e.g. a sales invoice)
- Tracing is an audit procedure whereby the auditor selects
sample items from basic source documents and proceeds
forward through the accounting system to find the final
recording of the transaction (e.g. in the ledger)

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7.4. AUDIT PROCEDURES FOR OBTAINING AUDIT EVIDENCE

 Recalculation
• Recalculation consists of checking the arithmetical accuracy of
source documents and accounting records or of performing
independent calculations
• Computation evidence is relatively reliable because the auditor
performs it. Recalculation may be performed through the use of
CAATs (e.g. ACL), for instance to check the accuracy of totals
in a file

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7.4. AUDIT PROCEDURES FOR OBTAINING AUDIT EVIDENCE

 Re-performance

• Re-performance is the auditor’s independent execution of procedures or

controls that were originally performed as part of the entity’s internal
control, either manually or through the use of CAATs, for example, re-
performing the ageing of accounts receivable

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7.4. AUDIT PROCEDURES FOR OBTAINING AUDIT EVIDENCE

 Analytical procedures

• Analytical procedures consist of the analysis of significant

ratios and trends including the resulting investigation of
fluctuations and relationships that are inconsistent with other
relevant information or that deviate from predictable amounts

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7.4. AUDIT PROCEDURES FOR OBTAINING AUDIT EVIDENCE

 Confirmation
• Confirmation consists of response to an inquiry to corroborate
information contained in the accounting records.
• Confirmation is the act of obtaining audit evidence from a third
party in support of a fact or condition
• Because confirmations from independent third parties are
usually in writing, and are requested directly by the auditor,
they are highly persuasive evidence. The main disadvantage of
confirmations is that they are costly, time-consuming and an
inconvenience to those asked to supply them

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7.5. WRITTEN REPRESENTATIONS

 Written representation is a written statement by management provided to

the auditor to confirm certain matters or to support other audit evidence.
 International Standard on Auditing 580 ‘Written Representations’ states:
‘the auditor shall request management to provide a written representation
that it has fulfilled its responsibility for the preparation of the financial
statements in accordance with the applicable financial reporting
framework, including, where relevant, their fair presentation, as set out
in the terms of the audit engagement.

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7.5. WRITTEN REPRESENTATIONS

 Written Representations from Management

 Written representations are necessary information that the auditor
requires in connection with the audit of the entity’s financial statements.
 Written representations are audit evidence

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7.5. WRITTEN REPRESENTATIONS

 Form and Content of Representations Letter

 Matters that are ordinarily included in a management representation
letter are:
■ management’s acknowledgement that it has fulfilled its responsibility for
the preparation of the financial statements in accordance with the applicable
financial reporting framework, including, where relevant, their fair
presentation, as set out in the terms of the audit engagement;
■ management has provided the auditor with all relevant information and
access as agreed in the terms of the audit engagement;
■ all transactions have been recorded and are reflected in the financial
statements;
■ the selection and application of accounting policies are appropriate;
■ matters such as the following, have been recognised, measured, presented
or disclosed
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