Chapter 4. Fundamental Concepts: Evidential Matter and Its Documentation

Auditing Standards require:

“Sufficient, appropriate evidential matter is to be obtained through inspection, observation, inquiries, and

confirmations to afford a reasonable basis for an opinion regarding the financial statements under

examination.”

: That the auditor believe that the evidence examined is “good enough” and indeed examined “enough good” evidence.

The evidence gathering is the core of an audit.

Evidence – the information obtained by the auditor in arriving at the conclusions on which the audit opinion is based.

PSA 500(rev): “Audit Evidence “ – provides guidance on the quantity and quality of audit evidence to be obtained when auditing FS, and the procedures in obtaining audit evidence.

Audit Evidence (Evidential matter)- necessary information that the auditor gathers in order to form a credible opinion on the assertions by the client’s management that are inherent in the FS.(examples: pp 82)

Components of Audit Evidence

1.Information contained in the accounting records underlying the FS

2.Other Corroborating evidence

Accounting Records: records of initial accounting entries and supporting records

Important Characteristics of underlying accounting data : they are prepared by the clients personnel and represent the end result in the processing of transactions.

Auditors use corroborating information – to validate the underlying accounting records

Corroborating Evidence includes documentary material showing that

(a) Propriety of the accounting data(b) Contracts and minutes of meetings(c) Confirmations and other written

representations of knowledgeable persons(d) Analyst’s reports and comparable data about

competitors (Benchmarking data)(e) Results of inquiry, direct observation, physical

examination and inspection, as well as computations

(f) Conclusions reached through valid reasoning

Seven Types of Audit Evidence1. Physical Examination2. Re-performance3. Documentation4. Confirmation5. Analytical Procedures6. Inquiries of client personnel or management7. Observation

Characteristics of evidence

*Auditors gather evidence of sufficient quantity and appropriate quality to form their opinion on the FS. Sufficiency and appropriateness are interrelated and apply to audit evidence obtained from both tests of controls and substantive procedures.

Sufficiency of Evidence: relates to the quantity of evidence gathered by the auditor.

- Recognizes that the accumulation of evidence should be persuasive rather than convincing.

“The auditor is not free to collect unlimited amounts of evidence since he must work within economic limits.”

Influenced by the ff. factors:1. Auditor’s assessment of the nature and level of

inherent risk at both the FS level and the account balance or class of transaction level.

2. Nature of the accounting and internal control systems and the assessment of control risk

3. Materiality of the item being examined4. Experience gained through previous audits5. Results of audit procedures 6. Source and reliability of information available

Appropriateness of Evidence: measure of the quality of the evidence and its relevance to a particular assertion and its reliability.

*Relevance – refers to whether the evidence provides the auditor with the information sought by him/her

“Audit Evidence is said to be relevant if it pertains to the specific audit objective being tested.”

*Reliability – related to validity

Reliability of evidence is influence by the source (internal or external) and by its nature (visual, documentary, or oral) and is dependent on the individual circumstances under which it is obtained.

General Rules – Reliability of Audit Evidence1. Audit evidence is more reliable when it is

obtained from independent sources outside the entity.

2. Audit evidence obtained directly by the auditor is more reliable than audit evidence obtained indirectly or by inference.

3. Audit evidence is more reliable when its exists in documentary form.

4. Audit evidence provided by original documents is more reliable than audit evidence provided by the photocopies or facsimiles.

READ (pp. 84) Hierarchy or reliability of Evidence

PSA 510(Red): Initial Engagements- Opening BalancesThe auditor should obtain sufficient competent audit evidence that

a. The opening balance do not contain misstatements that materially affects the current period’s FS

b. The prior period’s closing balance have been correctly brought forward to the current period or when appropriate, have been restated

c. Appropriate accounting policies are consistently applied or changes in the accounting policies have been properly accounted for and adequately disclosed.

Procedures for Obtaining Evidence

1. Inspection: consists of examining records, documents or tangible assets.

- Because of the variety of documents, records or tangible assets that the auditor may inspect, this audit technique addresses all of the FS assertions.

*Scanning: review of documents for unusual items

2. Observation: consists of looking at a process or procedures being performed by others where no “paper trail” exists.

Observation differs from physical inspection- Observation focuses on client activities to understand them of how and when they are done.

- It is best suited for testing the existence of the assertion.

3. Inquiry: consists of making the information of knowledgeable persons inside or outside the entity.

- Although the responses to the inquiries are usually of limited reliability: they do provide a starting point for the performance of other auditing techniques.

- However, the auditor is usually more efficient when corroborating responses to inquiries than when finding answers independently through an undirected examination of detailed evidence.

4. Confirmation: consists of the response of the inquiry to corroborate information contained in the accounting records.

5. Computation: Consists of verifying the arithmetical accuracy of source documents and accounting records, or, of independent calculations.

6. Analytical Procedures: Consists of evaluation of financial information made by a study of plausible relations among both financial and non-financial data. - These are generally used to develop and

expectation for a FS account and to assess the reasonableness of the FS in that context.

Relationship of Evidence to Audit Objective and Audit ProceduresThe overall Objective of Audit of FS of an entity

- To gather and evaluate audit evidence of sufficient quantity and appropriately quality in order to form, and communicate to the users of the FSs, and opinion on the reliability of the assertions of management inherent in those FS for the purpose of adding credibility to those assertions.

*Audit Procedures constituting the specific acts performed in the conduct of the audit – are designed to generate information indicative of the fairness of the management assertions and are therefore useful for the determining if an audit objective has been satisfied.

*When an audit procedure (A collection of this is called audit program) is performed, it results in the generation of audit evidence.

Audit program: describes what and how much evidence is required to be gathered and evaluated, and how, when and by whom it is to be gathered and evaluated during the interim and final visits.

- Details the nature, timing and extent of the planned audit procedures relating to a particular account balance or account balance assertion.

3 Primary purpose of Audit Programs1. They provide evidence of Audit planning2. They provide guidance to the audit team3. They are used to help monitor the progress of

the audit.

3 basic Factors in developing an Audit Program1. The auditor assesses the risk of material

misstatements and determines how much testing of internal controls needs to be performed and how much substantive testing of account balances should be performed.

2. The materiality of the account balance and the item that make up that balance.

3. Relevant assertions that need testing.