Audit Sampling Peacock

8/9/2019 Audit Sampling Peacock

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AUDIT SAMPLING &AUDIT SAMPLING &

EVIDENCEEVIDENCEVictor Peacock and JosephVictor Peacock and Joseph wachirawachira

20102010


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3/ 23/ 20103/ 23/ 2010 Internal Auditor Training ProgramInternal Auditor Training Program 2 2

DefinitionDefinition

Audit Sampling is the application of an auditAudit Sampling is the application of an audit procedure to less than 100 percent of the items procedure to less than 100 percent of the items

within an account balance or class of within an account balance or class of transactions for the purpose of evaluating sometransactions for the purpose of evaluating somecharacteristic of the balance or class.characteristic of the balance or class.


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Purpose & Requirements of Purpose & Requirements of

SamplingSamplingThe use of sampling techniques is appropriate if anyThe use of sampling techniques is appropriate if anyof the following conditions exist:of the following conditions exist:The clients records are so detailed, complex or The clients records are so detailed, complex or voluminous that an audit of all detailed records wouldvoluminous that an audit of all detailed records would

be unreasonable or impractical. be unreasonable or impractical.The clients records are inadequate or insufficient, soThe clients records are inadequate or insufficient, sothat a competent audit for the period in question is notthat a competent audit for the period in question is not

otherwise possible.otherwise possible.


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SamplingSamplingyy The cost of an audit of all detailedThe cost of an audit of all detailed

records to the client or to the auditor willrecords to the client or to the auditor will

be unreasonable in relation to the benefits be unreasonable in relation to the benefitsderived, and sampling procedures willderived, and sampling procedures will

produce a reasonable result. produce a reasonable result.


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CASE STUDY:Section 111.0042 of the tax codeCASE STUDY:Section 111.0042 of the tax codeof USA states that two ways that clients canof USA states that two ways that clients can

challenge samples:challenge samples:1) If a client can demonstrate that a transaction1) If a client can demonstrate that a transactionin a sample period is not representative of thein a sample period is not representative of theclients business operations, the transactionclients business operations, the transactionshall be eliminated from the sample and beshall be eliminated from the sample and beseparately assessed in the audit.separately assessed in the audit.


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yy 2) If the client demonstrates that any sampling2) If the client demonstrates that any samplingmethod used by the auditor was not inmethod used by the auditor was not in

accordance with generally recognizedaccordance with generally recognizedsampling techniques, the audit will besampling techniques, the audit will bedismissed as to that portion of the auditdismissed as to that portion of the auditestablished by projection based upon theestablished by projection based upon thesampling method, and a new audit may besampling method, and a new audit may be

performed. performed.


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SamplingSamplingyy Thus, it is imperative that the auditor designs theThus, it is imperative that the auditor designs the

sample to reflect as nearly as possible the normalsample to reflect as nearly as possible the normal business operations and follows generally recognized business operations and follows generally recognizedsampling techniques.sampling techniques.

yy Also imperative is that sampling should not beAlso imperative is that sampling should not beutilized when records are inadequate to reflectutilized when records are inadequate to reflectaccurately the business operations of the client.accurately the business operations of the client.


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SamplingSamplingyy If a client can demonstrate that a transaction in aIf a client can demonstrate that a transaction in a

sample period is not representative of the clientssample period is not representative of the clients business operations, the transaction shall be business operations, the transaction shall beeliminated from the sample and be separatelyeliminated from the sample and be separatelyassessed in the audit.assessed in the audit.

yy Without good internal controls and records, theWithout good internal controls and records, theauditor should determine the best informationauditor should determine the best informationavailable and base the audit report on that informationavailable and base the audit report on that information(i.e., estimate).(i.e., estimate).


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Professional StandardsProfessional Standardsyy ISAS and Audit Sampling issued by the AmericanISAS and Audit Sampling issued by the American

Institute of Certified Public Accountants (AICPA)Institute of Certified Public Accountants (AICPA)are the primary sources of guidance.are the primary sources of guidance.

yy G enerally accepted auditing standards require thatG enerally accepted auditing standards require thatany actions taken or any audit procedure applied as aany actions taken or any audit procedure applied as aresult of sampling be based on sufficient competentresult of sampling be based on sufficient competentevidential matter.evidential matter.


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G enerally Accepted AuditingG enerally Accepted AuditingStandardsStandards

yy General Standards:General Standards:The examination is to be performed by a person or personsThe examination is to be performed by a person or personshaving adequate technical training and proficiency as anhaving adequate technical training and proficiency as anauditor.auditor.In all matters relating to the assignment, an independenceIn all matters relating to the assignment, an independencein mental attitude is to be maintained by the auditor orin mental attitude is to be maintained by the auditor orauditors.auditors.Due professional care is to be exercised in the performanceDue professional care is to be exercised in the performanceof the examination and the preparation of the report.of the examination and the preparation of the report.


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yy Standards of Field Work:Standards of Field Work:The work is to be adequately planned andThe work is to be adequately planned andassistants, if any, are to be properly supervised.assistants, if any, are to be properly supervised.

There is to be a proper study and evaluation of theThere is to be a proper study and evaluation of theexisting internal control as a basis for relianceexisting internal control as a basis for reliancethereon and for determination of the resultantthereon and for determination of the resultantextent of the tests to which auditing proceduresextent of the tests to which auditing procedures

are to be restricted.are to be restricted.


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yy Standards of Field Work:Standards of Field Work:yy Sufficient competent evidential matter is to beSufficient competent evidential matter is to be

obtained through inspection, observation,obtained through inspection, observation,inquiries, and confirmations to afford ainquiries, and confirmations to afford areasonable basis for an opinion regarding thereasonable basis for an opinion regarding thefinancial statements under examination.financial statements under examination.


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G enerally Recognized SamplingG enerally Recognized SamplingTechniquesTechniques

This section provides guidance for planning,This section provides guidance for planning, performing, and evaluating audit samples. performing, and evaluating audit samples.The auditor often is aware of account balances andThe auditor often is aware of account balances andtransactions that may be more likely to containtransactions that may be more likely to containmisstatements. He considers this knowledge inmisstatements. He considers this knowledge in

planning his procedures, including audit sampling. planning his procedures, including audit sampling.


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The auditor usually will have no specialThe auditor usually will have no specialknowledge about other account balances andknowledge about other account balances andtransactions that, in his judgment, will need totransactions that, in his judgment, will need to

be tested to fulfill his audit objectives. Audit be tested to fulfill his audit objectives. Auditsampling is especially useful in these cases.sampling is especially useful in these cases.


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There are two general approaches to auditThere are two general approaches to auditsampling: nonsampling: non- -statistical and statistical.statistical and statistical.Both approaches require that the auditorBoth approaches require that the auditoruse professional judgment in planning,use professional judgment in planning,performing, and evaluating a sampleperforming, and evaluating a sample


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Auditors are to relate the evidential matterAuditors are to relate the evidential matterproduced by the sample to other evidentialproduced by the sample to other evidentialmatter when forming a conclusion about thematter when forming a conclusion about therelated account balance or class of related account balance or class of transactions.transactions.


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The guidance in this section applies equallyThe guidance in this section applies equallyto nonto non- -statistical and statistical sampling.statistical and statistical sampling.

Either approach to audit sampling, whenEither approach to audit sampling, whenproperly applied, can provide sufficientproperly applied, can provide sufficientevidential matter.evidential matter.


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The sufficiency of evidential matter is relatedThe sufficiency of evidential matter is relatedto the design and size of an audit sample,to the design and size of an audit sample,among other factors.among other factors.The size of a sample necessary to provideThe size of a sample necessary to providesufficient evidential matter depends on bothsufficient evidential matter depends on boththe objectives and the efficiency of the samplethe objectives and the efficiency of the sample


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For a given objective, the efficiency of the sampleFor a given objective, the efficiency of the samplerelates to its design;relates to its design; one sample is more efficientone sample is more efficientthan another if it can achieve the same objectivesthan another if it can achieve the same objectives

with a smaller sample size.with a smaller sample size.In general, careful design can produce moreIn general, careful design can produce moreefficient samples.efficient samples.


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Evaluating the competence of evidential matter isEvaluating the competence of evidential matter issolely a matter of auditing judgment and is notsolely a matter of auditing judgment and is notdetermined by the design and evaluation of andetermined by the design and evaluation of an

audit sample.audit sample.In a strict sense, the sample evaluation relates onlyIn a strict sense, the sample evaluation relates onlyto the likelihood that existing monetaryto the likelihood that existing monetarymisstatements or deviations from prescribedmisstatements or deviations from prescribedinternal control structure policies or proceduresinternal control structure policies or proceduresare proportionately included in the sample, not toare proportionately included in the sample, not tothe auditor's treatment of such items.the auditor's treatment of such items.


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Thus, the choice of nonThus, the choice of non- -statistical or statisticalstatistical or statisticalsampling does not directly affect the auditor'ssampling does not directly affect the auditor'sdecisions about the auditing procedures to bedecisions about the auditing procedures to be

applied, the competence of the evidential matterapplied, the competence of the evidential matterobtained with respect to individual items in theobtained with respect to individual items in thesample, or the actions that might be taken in lightsample, or the actions that might be taken in lightof the nature and cause of particularof the nature and cause of particularmisstatements.misstatements.


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Some degree of uncertainty is implicit in theSome degree of uncertainty is implicit in theconcept of "a reasonable basis for anconcept of "a reasonable basis for anopinion" referred to in the third standard of opinion" referred to in the third standard of field work.field work.


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The justification for accepting some uncertaintyThe justification for accepting some uncertaintyarises from the relationship between such factors asarises from the relationship between such factors asthe cost and time required to examine all of the datathe cost and time required to examine all of the dataand the adverse consequences of possible erroneousand the adverse consequences of possible erroneousdecisions based on the conclusions resulting fromdecisions based on the conclusions resulting fromexamining only a sample of the data...examining only a sample of the data...


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The uncertainty inherent in applying auditThe uncertainty inherent in applying audit procedures is referred to as audit risk. procedures is referred to as audit risk.

Audit risk consists of (a) the risk (consisting of Audit risk consists of (a) the risk (consisting of inherent risk and control risk) that the balanceinherent risk and control risk) that the balanceor class and related assertions containor class and related assertions containmisstatements...andmisstatements...and


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(b) the risk (detection risk) that the auditor (b) the risk (detection risk) that the auditor will not detect such misstatement...will not detect such misstatement...Audit risk includes both uncertainties due toAudit risk includes both uncertainties due tofactors other than sampling. These aspects of factors other than sampling. These aspects of audit risk are sampling risk and nonsamplingaudit risk are sampling risk and nonsamplingrisk, respectively.risk, respectively.


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Sampling risk arises from the possibilitySampling risk arises from the possibilitythat, when, ... restricted to a sample, thethat, when, ... restricted to a sample, theauditor's conclusions may be different fromauditor's conclusions may be different fromthe conclusions he would reach if the testthe conclusions he would reach if the testwere applied in the same way to all itemswere applied in the same way to all items ininthe account balance or class of transactions...the account balance or class of transactions...


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Non Non--sampling risk includes all aspects of auditsampling risk includes all aspects of auditrisk that are not due to sampling ...risk that are not due to sampling ...

Non Non--sampling risk can be reduced to asampling risk can be reduced to anegligible level through such factors asnegligible level through such factors asadequate planning and supervision.adequate planning and supervision.


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Statistical Versus NonStatistical Versus Non- -StatisticalStatisticalSamplingSampling

According to the AICPA Audit SamplingAccording to the AICPA Audit Sampling2009 edition,2009 edition,costcost--benefit is the determining factor of using benefit is the determining factor of usingeither a statistical or noneither a statistical or non- -statistical samplingstatistical samplingapproachapproachISAS states that either approach is valid andISAS states that either approach is valid and

involves sampling risk.involves sampling risk.


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Statistical sampling requires the use of Statistical sampling requires the use of statistical formulas to determine sample sizestatistical formulas to determine sample sizeand directly measure sampling risk whereasand directly measure sampling risk whereasnonnon--statistical sampling does not have thesestatistical sampling does not have theserequirements.requirements.


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Usually, results for statistical sampling areUsually, results for statistical sampling areevaluated in terms of probabilities, which areevaluated in terms of probabilities, which aredefined as precision and confidence levels.defined as precision and confidence levels.


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O verview of the SamplingO verview of the Sampling

ProcessProcessG ather information to plan the sampleG ather information to plan the sampleDefine the population and stratify into variousDefine the population and stratify into various

subsub--populations as needed populations as neededCompile base amountsCompile base amountsEstablish correspondenceEstablish correspondence


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ProcessProcessEvaluate the shortEvaluate the short- -test and make a stoptest and make a stop- -or or--gogodecisiondecision

Complete the sample examinationComplete the sample examinationProject the results to the populationProject the results to the populationEvaluate the sample resultsEvaluate the sample results


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ProcessProcessM any of the steps listed above are notM any of the steps listed above are notmutually exclusive. In fact, the first four aremutually exclusive. In fact, the first four areinterdependent. Proper planning and decisioninterdependent. Proper planning and decision- -making in each of the above steps by themaking in each of the above steps by theauditor will greatly affect the desired goals.auditor will greatly affect the desired goals.


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G ather Information to Plan the SampleG ather Information to Plan the Sample

In order to successfully complete the stepsIn order to successfully complete the stepsin the sampling process, relevantin the sampling process, relevantinformation about the client should beinformation about the client should beobtained. The auditor should understandobtained. The auditor should understandthe normal conditions of the clientsthe normal conditions of the clientsbusiness and plan the sample accordingly.business and plan the sample accordingly.


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a number of questions regarding accounting,a number of questions regarding accounting,reporting, and record storage systems.reporting, and record storage systems.The answers to certain questions will affectThe answers to certain questions will affectsampling in virtually every case.sampling in virtually every case.Knowledge of these items should improve theKnowledge of these items should improve thequality of decisionquality of decision- -making.making.


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This first step of gathering information isThis first step of gathering information isextremely important.extremely important.M ost information and answers to many of theM ost information and answers to many of thequestions above will be obtained from thequestions above will be obtained from theaudit questionnaire, contacting the client, andaudit questionnaire, contacting the client, and

performing the entrance conference. performing the entrance conference.


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The more information that can be obtainedThe more information that can be obtainedupfront by the auditor will generally provideupfront by the auditor will generally providethe design of a more efficient and effectivethe design of a more efficient and effectivesample.sample.And, remember, without good internal controlsAnd, remember, without good internal controlsor records, sampling should not be utilized.or records, sampling should not be utilized.


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Define the Population and Stratify intoDefine the Population and Stratify intoVarious SubVarious Sub- -Populations as NeededPopulations as Needed

Numerous criteria exist to identify appropriate Numerous criteria exist to identify appropriatesubpopulations (homogeneous groups) in asubpopulations (homogeneous groups) in amanner that will increase the accuracy of amanner that will increase the accuracy of asample.sample.


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Some examples include the following:Some examples include the following:Type of customer Type of customer

Reseller vs. end user Reseller vs. end user Cash vs. creditCash vs. creditM anufacturer M anufacturer Contractor Contractor Farmer Farmer


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G eneral ledger accountsG eneral ledger accountsExpenses vs. assetsExpenses vs. assetsInventory vs. expenseInventory vs. expense

Accounting treatmentAccounting treatmentCash vs. accrualCash vs. accrualTaxable vs. nonTaxable vs. non- -TaxableTaxableCapitalized vs. expensedCapitalized vs. expensedTax accrued vs. tax paidTax accrued vs. tax paidJournal entry vs. detailed entryJournal entry vs. detailed entryComputerized entry vs. manual entryComputerized entry vs. manual entry


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While it is important to properly identifyWhile it is important to properly identifysubpopulations, it may or may not be feasible tosubpopulations, it may or may not be feasible tosample them separately.sample them separately.

Consideration must be given to the accounting systemConsideration must be given to the accounting systemand record storage and whether or not populationand record storage and whether or not population bases and source documents can be obtained in an bases and source documents can be obtained in anefficient manner for each subpopulation.efficient manner for each subpopulation.


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In deciding how to audit these subpopulations twoIn deciding how to audit these subpopulations twomain options exist:main options exist:G enerate separate error schedules and bases for G enerate separate error schedules and bases for each subpopulation.each subpopulation.Include enough randomly selected units to ensureInclude enough randomly selected units to ensurethat each subpopulation is representedthat each subpopulation is represented

proportionately in one sample. proportionately in one sample.


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Example 1Example 1An equipment retailer has four revenueAn equipment retailer has four revenuecategories: sales, rentals, parts, and repair.categories: sales, rentals, parts, and repair.Ideally each category should be auditedIdeally each category should be auditedseparately because it represents a separateseparately because it represents a separateactivity. Also, there are pricing and dollar activity. Also, there are pricing and dollar

value differences.value differences.


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Example 1Example 1If the client has separate revenue accountsIf the client has separate revenue accountsand separate invoice sequences for eachand separate invoice sequences for eachcategory or computerized records, thecategory or computerized records, the

population may be easily stratified upfront population may be easily stratified upfront


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Example 1Example 1If the client has one invoice sequence for allIf the client has one invoice sequence for allcategories and no computerized records, itcategories and no computerized records, itmay be more efficient to select one samplemay be more efficient to select one sampleand ensure that all categories are representedand ensure that all categories are represented

proportionately. proportionately.


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Compile Base AmountsCompile Base Amounts

In addition to considering how to define or stratifyIn addition to considering how to define or stratifythe population, the auditor must determine the mostthe population, the auditor must determine the mostappropriate population base.appropriate population base.

ALL potential population base information must beALL potential population base information must beavailable to allow for projection alternatives.available to allow for projection alternatives.Having obtained all available sources of information,Having obtained all available sources of information,the auditor will have choices from which to select thethe auditor will have choices from which to select themost appropriate base.most appropriate base.


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Establish CorrespondenceEstablish Correspondence

Correspondence must be established betweenCorrespondence must be established betweenthe sampling units and the items to bethe sampling units and the items to beexamined.examined.Correspondence can be naturally formed or Correspondence can be naturally formed or auditor auditor--made. However, auditors aremade. However, auditors areencouraged to use natural correspondence.encouraged to use natural correspondence.


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Natural CorrespondenceNatural Correspondence

Invoice numbersInvoice numbers

Voucher numbersVoucher numbersCheck numbersCheck numbers

Purchase order numbersPurchase order numbers

Batch numbersBatch numbers


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AuditorAuditor- -made correspondencemade correspondence

The auditor independently assigns a numberingThe auditor independently assigns a numberingsequence to the transactions. For example, the auditor sequence to the transactions. For example, the auditor could manually number the "items of interest" in acould manually number the "items of interest" in adetailed general ledger or number the pages in adetailed general ledger or number the pages in a

journal. journal.


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Choose the Type of Sampling Unit andChoose the Type of Sampling Unit andDetermine the Sample SizeDetermine the Sample Size

Audit Division has adopted the following hierarchyAudit Division has adopted the following hierarchyregarding the type and size of sampling units.regarding the type and size of sampling units.Transaction is the preferred sampling unit becauseTransaction is the preferred sampling unit because

items will be more widely dispersed throughout theitems will be more widely dispersed throughout the population, and, consequently, more representative. population, and, consequently, more representative.Transaction sampling is recommended when fewer Transaction sampling is recommended when fewer than 1,000 items must be reviewed.than 1,000 items must be reviewed.


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A cluster is a group of transactions and isA cluster is a group of transactions and isrecommended when 1,000 or more transactions mustrecommended when 1,000 or more transactions must

be examined. be examined.

Cluster sampling is generally more representativeCluster sampling is generally more representativethan time period sampling because the clusters arethan time period sampling because the clusters aremore dispersed throughout the population and amore dispersed throughout the population and auniform number of units are reviewed.uniform number of units are reviewed.


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Time period sample units should only be consideredTime period sample units should only be consideredafter transactions and clusters have been eliminated asafter transactions and clusters have been eliminated asoptions. When time periods are selected, care shouldoptions. When time periods are selected, care should

be taken to ensure that they are adequately dispersed be taken to ensure that they are adequately dispersedthroughout the audit period.throughout the audit period.All transactions occurring in the time periods selectedAll transactions occurring in the time periods selectedmust be examined.must be examined.


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The type of sampling unit selected will determine theThe type of sampling unit selected will determine therecommended minimum sample size.recommended minimum sample size.The samples sizes appearing in the chart are merelyThe samples sizes appearing in the chart are merelystarting points. Each audit situation is different andstarting points. Each audit situation is different andmay require the selection of more items than themay require the selection of more items than thesuggested minimum.suggested minimum.


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Select the Sample UnitsSelect the Sample Units

The three methods most frequently used for The three methods most frequently used for sample selection are random, systematic, andsample selection are random, systematic, and

judgment. judgment.


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Random SelectionRandom Selection

Random selection should be used whenever possibleRandom selection should be used whenever possible because it allows each item in the population an equal because it allows each item in the population an equalchance of being selected.chance of being selected.

This selection technique is the most defensibleThis selection technique is the most defensible because it virtually eliminates personal bias or a because it virtually eliminates personal bias or a pattern in the population from distorting the sample. pattern in the population from distorting the sample.


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Random SelectionRandom Selection

The auditor should remember that it is possible for aThe auditor should remember that it is possible for asample to be randomly selected but not besample to be randomly selected but not berepresentative.representative.

Representativeness should always take precedenceRepresentativeness should always take precedenceover randomness due to the statutory requirement thatover randomness due to the statutory requirement thatthe sample must reflect as nearly as possible thethe sample must reflect as nearly as possible thenormal conditions under which the business wasnormal conditions under which the business wasoperated during the audit period.operated during the audit period.


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Systematic SelectionSystematic Selection

Systematic selection might be used inSystematic selection might be used insituations where it is not feasible to usesituations where it is not feasible to userandom selection because correspondencerandom selection because correspondencecannot be established in an efficient manner cannot be established in an efficient manner (e.g., invoices are not in any specific numeric(e.g., invoices are not in any specific numericorder).order).


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Systematic SelectionSystematic SelectionThe starting point should always be randomly selected fromThe starting point should always be randomly selected fromwithin the interval.within the interval.The number "1" should be entered as the beginning invoiceThe number "1" should be entered as the beginning invoicenumber.number.

The interval size should be entered as the ending invoiceThe interval size should be entered as the ending invoicenumber. One number should be selected. The interval is thennumber. One number should be selected. The interval is thenadded to the starting point for the second transaction toadded to the starting point for the second transaction toexamine.examine.The interval is successively added until the sample isThe interval is successively added until the sample iscomplete.complete.


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MP ExampleMP Example- - Tax EffectTax Effect

Population( M ):Population( M ): ExpensesExpenses R1000,000R1000,000

Planning materialityPlanning materiality R100,000R100,000 Eff.tax rate 40%Eff.tax rate 40%

Desired level of AssuranceDesired level of Assurance intermediate (R= 2)intermediate (R= 2)M P(No tax effect)M P(No tax effect) R80,000R80,000 80% OF P M80% OF P M

Number of selections: Number of selections: 2525 M /J where J = M P/R M /J where J = M P/R Pretax planning materiality: R166,667Pretax planning materiality: R166,667 100,000 /(1100,000 /(1--0.4)0.4)M P(with tax effect)M P(with tax effect) R1 33 ,333 80% of pretax P MR133 ,333 80% of pretax P M

No. of selections: No. of selections: 1515 M /J where J= M P/R M /J where J= M P/R


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Systematic SelectionSystematic Selection

Example:Example:6,400 transactions in the population6,400 transactions in the population

500 items is minimum sample size500 items is minimum sample size= 12.8 ~ 1 3 as interval= 12.8 ~ 1 3 as interval

4 random starts: 1 3 X 4 = 52 Random4 random starts: 1 3 X 4 = 52 Randomstarts selected between 1 and 52:starts selected between 1 and 52: 1, 14, 28,1, 14, 28,

and 41and 41


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Judgment SelectionJudgment Selection

Selection by judgment alone should beSelection by judgment alone should beavoided. Because the auditor could build inavoided. Because the auditor could build in

bias, it is very difficult to defend. However, in bias, it is very difficult to defend. However, inlimited situations, this method may be the onlylimited situations, this method may be the onlyoption (e.g., incomplete records).option (e.g., incomplete records).The decision to use judgment selection shouldThe decision to use judgment selection should

be made only with the understanding and be made only with the understanding andapproval of the group supervisor.approval of the group supervisor.


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Perform an Initial EvaluationPerform an Initial Evaluation

If sales journals, purchase journals, or someIf sales journals, purchase journals, or someother type of document is available listingother type of document is available listingindividual transactions, the auditor should beindividual transactions, the auditor should beable to quickly calculate the sample andable to quickly calculate the sample and

population base averages and the variance. population base averages and the variance.The variance is one indicator as to whether theThe variance is one indicator as to whether the

sample selected is representative of thesample selected is representative of the population. population.


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Perform an Initial EvaluationPerform an Initial Evaluation

$ Amount of Sample Base$ Amount of Sample BaseSample Base Average =Sample Base Average = ----------------------------------------------

# of Sample Units# of Sample Units$ Amount of Population Base$ Amount of Population Base

Population Base Average =Population Base Average = --------------------------------------------------------# of Units in Population# of Units in Population


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Perform a Preliminary SamplePerform a Preliminary Sample(Short(Short- -Test)Test)

The preliminary sample, commonly referred toThe preliminary sample, commonly referred toas the shortas the short--test, consists of reviewing the firsttest, consists of reviewing the first25% of the invoices selected from the25% of the invoices selected from theminimum sample size.minimum sample size.The items should be reviewed in the order The items should be reviewed in the order selected so that items are reviewed throughoutselected so that items are reviewed throughout

the audit period.the audit period.

E l t th Sh tE l t th Sh t T t d M kT t d M k


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Evaluate the ShortEvaluate the Short- -Test and M ake aTest and M ake aStopStop--Or Or--G o DecisionG o Decision

Efficiency dictates that excessive hours not beEfficiency dictates that excessive hours not bespent in an unproductive manner.spent in an unproductive manner.If no errors are found in the shortIf no errors are found in the short- -test, thetest, thesample examination should be abandoned.sample examination should be abandoned.However, before deciding whether to abandonHowever, before deciding whether to abandonthe sample, the auditor must be reasonablythe sample, the auditor must be reasonably

sure that the shortsure that the short- -test results aretest results arerepresentative of the population.representative of the population.

E l t th Sh tE l t th Sh t T t d M kT t d M k


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Evaluate the ShortEvaluate the Short- -Test and M ake aTest and M ake aStopStop--Or Or--G o DecisionG o Decision

Until the auditor evaluates the shortUntil the auditor evaluates the short- -test bytest bycomparing the results to the population, therecomparing the results to the population, thereis no way of knowing whether the sample wasis no way of knowing whether the sample wasrepresentative and, consequently, whether representative and, consequently, whether finding no errors was a valid conclusion.finding no errors was a valid conclusion.


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Transaction SamplingTransaction Sampling

Transaction sampling is recommended whenTransaction sampling is recommended whenthe computed minimum sample size is lessthe computed minimum sample size is lessthan 1,000 transactions.than 1,000 transactions.


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Step 1Step 1 -- Determine the minimumDetermine the minimumsample sizesample size

The following calculation determines theThe following calculation determines theminimum sample size for reviewing theminimum sample size for reviewing therecommended 250 items of interest:recommended 250 items of interest:

250 Items of Interest250 Items of Interest

% of items of interest in population% of items of interest in population

= Minimum Sample Size= Minimum Sample Size


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Step 1Step 1 -- Determine the minimumDetermine the minimumsample sizesample size

"250" is not a magic number. It is merely a"250" is not a magic number. It is merely astarting point. A sample with less than 250starting point. A sample with less than 250items of interest could be valid also. The mainitems of interest could be valid also. The maingoal is that the sample is representative of thegoal is that the sample is representative of the

population. population.


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(percentage of items of interest in(percentage of items of interest inthe population)the population)

$33 8,000$33 8,000$1,058,000$1,058,000

= 3 1.95%= 3 1.95%250250

3 1.95%3 1.95%= 782.47 rounded to 78 3 for minimum sample size= 782.47 rounded to 78 3 for minimum sample size

783 transactions is the minimum sample size to783 transactions is the minimum sample size toexamine 250 items of interest.examine 250 items of interest.


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AUDIT EVIDENCEAUDIT EVIDENCE

yy Sources of EvidenceSources of Evidenceyy inspection,inspection,yy observation,observation,yy inquiries, andinquiries, andyy confirmationsconfirmationsyy ComputationComputationyy Analytical proceduresAnalytical proceduresyy Audit Automation tools (CAAT)Audit Automation tools (CAAT)


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AUDIT EVIDENCEAUDIT EVIDENCE

yy to afford a reasonable basis for an opinionto afford a reasonable basis for an opinionregarding the financial statements under regarding the financial statements under examination.examination.


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INSPECTI O NINSPECTI O N

Inspection of AssetsInspection of Assets assets that are recordedassets that are recordedin the accounting records confirms existence,in the accounting records confirms existence,valuation and completeness.valuation and completeness.Inspection of documentationInspection of documentation- - this givesthis givesevidence of ownership, occurrence of evidence of ownership, occurrence of transaction, rights, obligation andtransaction, rights, obligation and

authorization.authorization.


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observationobservation

This involves watching a procedure beingThis involves watching a procedure being performed performedIt confirms that procedure took place.It confirms that procedure took place.Auditor must be careful to ensure his presenceAuditor must be careful to ensure his presencedoes not affect result.does not affect result.


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EnquiriesEnquiries

Seeking information from client staff or Seeking information from client staff or external sources.external sources.Strength of evidence depends on knowledgeStrength of evidence depends on knowledgeand integrity of source of information.and integrity of source of information.


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ConfirmationConfirmation

Confirmation is the name given to a specificConfirmation is the name given to a specificform of inquiry that is particularly widely used.form of inquiry that is particularly widely used.It involves obtaining written confirmationIt involves obtaining written confirmationfrom a third party, typically, although notfrom a third party, typically, although notexclusively, in relation to an account balanceexclusively, in relation to an account balancein which the third party has an interest.in which the third party has an interest.


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Situations for using confirmationsSituations for using confirmations

These include debtors, creditors, banks,These include debtors, creditors, banks,lenders, borrowers and custodians of entitylenders, borrowers and custodians of entityassets such as stocks and securities.assets such as stocks and securities.

It is in their own interest for such parties toIt is in their own interest for such parties tomaintain reliable records of their relationshipmaintain reliable records of their relationshipwith the entity.with the entity.It is also in their interest to respond to anIt is also in their interest to respond to anauditors request for confirmation to ensureauditors request for confirmation to ensurethat any differences are identified and resolved.that any differences are identified and resolved.


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AssertionsAssertions

Where confirmations relate to reciprocalWhere confirmations relate to reciprocal balances (such as debtors, creditors, banks, balances (such as debtors, creditors, banks, borrowers and lenders), they provide borrowers and lenders), they provide persuasive evidence as to rights and persuasive evidence as to rights andobligations.obligations.Confirmations also provide strong evidence of Confirmations also provide strong evidence of

ownership where the other party is acting asownership where the other party is acting ascustodiancustodian


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AssertionsAssertions

However, because of human nature,However, because of human nature,confirmations may not provide such persuasiveconfirmations may not provide such persuasiveevidence of accuracy where the entitysevidence of accuracy where the entitys

balance is in error in the other partys favour, balance is in error in the other partys favour,e.g. an understatement of debtors or ane.g. an understatement of debtors or anoverstatement of creditors.overstatement of creditors.

Neither do confirmations provide reliable Neither do confirmations provide reliableevidence of the valuation of assetsevidence of the valuation of assets


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Form of requestForm of request

As a general rule, the request must beAs a general rule, the request must be presented in such a form that facilitates a presented in such a form that facilitates aresponse by the other party.response by the other party.This can be achieved by using a standard formThis can be achieved by using a standard formwith space for the response and enclosing awith space for the response and enclosing areturn addressed envelope.return addressed envelope.


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However, there is sometimes a conflictHowever, there is sometimes a conflict between facilitating a response and the between facilitating a response and thereliability of that response.reliability of that response.M ore likely is a general reluctance to confirmM ore likely is a general reluctance to confirmthrough misunderstanding the purpose of thethrough misunderstanding the purpose of therequest.request.


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Debtors may misinterpret the confirmation as aDebtors may misinterpret the confirmation as ademand for payment. Other parties may fear demand for payment. Other parties may fear that confirmation might be binding if theythat confirmation might be binding if they

should subsequently discover an error in their should subsequently discover an error in their own records.own records.It is usually customary to draft the wording of It is usually customary to draft the wording of the confirmation to allay such fears whenthe confirmation to allay such fears whendealing with parties not accustomed todealing with parties not accustomed toreceiving such requests.receiving such requests.


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ComputationComputation

Checking arithmetic of clients records.Checking arithmetic of clients records.Adding up ledgers.Adding up ledgers.

ReRe--computing individual items in a controlcomputing individual items in a controlaccount.account.


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Analytical ProceduresAnalytical Procedures

This consist of comparing items, for example,This consist of comparing items, for example,current year financial information with prior current year financial information with prior year financial information, andyear financial information, andanalyzing predictable relationships e.g. theanalyzing predictable relationships e.g. therelationship between receivables and creditrelationship between receivables and creditsales.sales.

CC


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PRELIMINARY ANALYTICALPRELIMINARY ANALYTICALPR O CEDURESPR O CEDURES

Purpose;Purpose;Identify indications of specific risk Identify indications of specific risk

Understand the financial statementsUnderstand the financial statementsUnderstand the clients businessUnderstand the clients businessAssess planning materialityAssess planning materiality

Evaluate going concernEvaluate going concern

PRELIMINARY ANALYTICALPRELIMINARY ANALYTICAL


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PRELIMINARY ANALYTICALPRELIMINARY ANALYTICALREVIEW: STEPSREVIEW: STEPS

Obtain financial and nonObtain financial and non- -financial informationfinancial informationCompare the informationCompare the information

Analyze the informationAnalyze the information


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DO CUMENTATI O NDO CUMENTATI O N

Ratios and trends calculatedRatios and trends calculatedSummary of analysis of results of procedures:Summary of analysis of results of procedures:

Identification of unexpected resultsIdentification of unexpected resultsKey discussions with managementKey discussions with managementExplanations for unexpected differencesExplanations for unexpected differencesSpecific risks identifiedSpecific risks identified


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USES O F CAATUSES O F CAATTo ascertain the correctness of programTo ascertain the correctness of program processing procedures processing proceduresTo ascertain the existence andTo ascertain the existence andeffectiveness of program controleffectiveness of program controlTo examine transactions and balances onTo examine transactions and balances oncomputer files and select exceptionalcomputer files and select exceptionalitems for further audit testing.e.g toitems for further audit testing.e.g toreview the stock files and select slowreview the stock files and select slowmoving stock items for further auditmoving stock items for further audit

examination.examination.To stratify transactions and balances onTo stratify transactions and balances oncomputer files for audit purposes.computer files for audit purposes.


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USES O F CAATUSES O F CAATFor example to age debtors balances or For example to age debtors balances or stratify debtors balances into variousstratify debtors balances into various

brackets e.g balance below R5000, brackets e.g balance below R5000,above R10000.00above R10000.00To select transactions and balances on aTo select transactions and balances on a

random basis from the computer files for random basis from the computer files for audit purposes.audit purposes.


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USES O F CAATUSES O F CAATTo match the content of two computer To match the content of two computer files in order to identify unmatchedfiles in order to identify unmatcheditems for audit purposes. E.g. to compareitems for audit purposes. E.g. to comparethe contents of G oods delivery note filethe contents of G oods delivery note filewith invoice file so as to identify goodswith invoice file so as to identify goods

delivered but not yet invoiced.delivered but not yet invoiced.To copy the content of computer files for To copy the content of computer files for audit testingaudit testing


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USES O F CAAT cont..USES O F CAAT cont..To copy the content of a computer fileTo copy the content of a computer filefor audit purpose. E.g. to download thefor audit purpose. E.g. to download theclients file for testing in a differentclients file for testing in a differentcomputer installation.computer installation.To print /display on screen transactionsTo print /display on screen transactionsand balances of computer files for auditand balances of computer files for audit

purposes. purposes.To sort the content of the clients file intoTo sort the content of the clients file intoan order appropriate for audit purpose.an order appropriate for audit purpose.

To perform calculation includingTo perform calculation includinganalytical review on transactions andanalytical review on transactions and

balances contained in the clients files. balances contained in the clients files.

Audit Sampling Peacock

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