OVERVIEW OF THE AUDIT OF FINANCIAL

STATEMENTS
 Definition of the audit of financial statements and audit
objectives
 Approaches to auditing financial statements

 Overview of process of the financial statement audit

 Segmenting an audit

Reading: Chapter 6, Auditing and Assurance services: An

Integrated approach, 16th edition, A. A. Arens, R. J. Elder
and M. S. Beasley, Pearson Prentice Hall (2017).

© Pham Hoai Huong, PhD

 Definition of the audit of financial statements
and audit objectives
2

 An audit of financial statements (FS) is to provide FS

users with an opinion by the auditor on whether
 the FS are presented fairly,
 in all material respects,

 in accordance with the applicable financial accounting

framework. [VSA 200, para 03]
 Overall objectives and responsibilities for the audit
3

 The overall objectives of the auditor, in conducting an

audit of financial statements, are to:
 obtain reasonable assurance about whether the financial
statements as a whole are free from material misstatement,
whether due to fraud or error, thereby enabling the auditor
to express an opinion on whether the financial statements
are presented fairly, in all material respects, in
accordance with an applicable financial reporting
framework; and
 report on the financial statements, and communicate as
required by auditing standards, in accordance with the
auditor’s findings. [VSA 200, para 11]
 Objectives and responsibilities for the audit
4

 Reasonable assurance:
 Auditing standards indicate reasonable assurance is a
high, but not absolute, level of assurance that the
financial statements are free of material misstatements.
 The concept of reasonable, but not absolute, assurance
indicates that the auditor is not an insurer or guarantor
of the correctness of the financial statements.
 Objectives and responsibilities for the audit
5

 The auditor is responsible for reasonable, but not

absolute, assurance for several reasons:
 Most audit evidence results from testing a sample of a
population.
 Accounting presentations contain complex estimates,
which inherently involve uncertainty and can be
affected by future events.
 Fraudulently prepared financial statements are often
extremely difficult, if not impossible, for the auditor to
detect, especially when there is collusion among
management.
 Management assertions about financial
statements
6

Assertions About Assertions Assertions About

Classes of Transactions About Account Presentation and
and Events Balances Disclosure
Occurrence Existence Occurrence and
rights/obligations
Completeness Completeness Completeness
Accuracy Valuation and Accuracy and
allocation valuation
Classifications Classification and
understandability
Cutoff
 Audit objectives
7

 Audit objectives
 Transaction- related audit objectives
 Balance- related audit objectives

 Presentation and disclosure related audit objectives

 Audit objectives
8

Assertions about General transaction - Specific Sales

classes of related audit objectives transaction –
transactions and related audit
events objectives
Occurrence Occurrence
Completeness Completeness
Accuracy Accuracy
(including posting and
summarization)
Classification Classification
Cutoff Timing
 Audit objectives
9

Assertions about General balance - related Specific balance –

account balances audit objectives related audit
objectives applied to
inventory
Existence Existence
Completeness Completeness
Valuation and Accuracy (including Detail
allocation tie-in)
Classification
Cutoff
Realizable value
Rights and Rights and obligations
obligations
 Approaches to the audit of financial statements
10

 The approach to audit of FS is determined

depending on the effectiveness of the client’s
internal control (control risk).
 The higher the level of assessed CR, the lower the
level of reliance placed on internal control and the
more assurance the auditor must obtain from
substantive tests.
 Approaches to the audit of financial statements
11

Internal control
reliance strategy
(based on tests of • Control risk is assessed as less
control and than high (moderate, low)
substantive tests)

Substantive strategy • Control risk is assessed as high

(based on or
substantive tests) • Tests of control are expensive
(not cost-effective).
 Approaches to the audit of financial statements
12

 Tests of controls
 gather evidence concerning the effectiveness and
continuity of control associated with the processing of
particular classes of transactions through accounting
system.
 relate only to the assessment of controls and DO NOT
directly measure monetary error in accounting records.
 Approaches to the audit of financial statements
13

 Substantive tests
 are procedures designed to test for monetary
misstatements that directly affect the correctness of
financial statement balances.
 Three types of substantive tests: substantive analytical
procedures, substantive tests of transactions, and tests
of details of balances.
 Approaches to the audit of financial statements
14

 Substantive analytical procedures

 use comparisons (horizontal and vertical) and relationships
(between financial and non-financial data) to assess
whether account balances or other data appear reasonable
compared to the auditor’s expectations.
 These tests are often done in conjunction with other audit
procedures.
 The assurance provided by analytical procedures depends
on the predictability of the relationship, as well as the
precision of expectation and the reliability of data used
to develop the expectation.
 Approaches to the audit of financial statements
15

 Substantive tests of transactions

 are used to determine whether all six transaction-related
audit objectives have been satisfied for each class of
transactions.
 Tests of details of balances
 focus on the ending general ledger balances for both
balance sheet and income statement accounts.
 The primary emphasis is on the balance sheet.
 Approaches to the audit of financial statements
16

Relationship Between Audit Procedures and Evidence

Techniques to gather audit evidence

Reperformance
Inquiries of the

Recalculation
Confirmation

Observation
Examination

procedures
Analytical
Inspection
Audit procedures
Physical

client
Tests of controls v v v v
Analytical
v v
procedures
Substantive tests of
v v v v
transactions
Tests of details of
v v v v v v
balances
 Overview of process of the FS audit
17

Source: Auditing and assurance: A business risk approach, Chapter 1

(Jubb et al., 2012)
 Segmenting an audit
18

 Account balance approach

 is to treat every account balance on the statements as a
separate segment.
 Segmenting this way is usually inefficient. It would result in
the independent audit of such closely related accounts as
inventory and cost of goods sold.
 Cycle approach
 is to keep closely related classes of transactions and account
balances in the same segment.
 For example, sales, sales returns, cash receipts, and
charge­offs of uncollectible accounts are the four classes of
transactions that cause accounts receivable to increase and
decrease. Therefore, they are all parts of the sales and
collection cycle.