Question

Use a firm of your choice, either real or of your own creation aand write as from the perspective who has just been hired to conduct and audit of the firm.

a) Using the firm you have chosen, outline a thorough outline for the audit that includes descriptions of particularly important issues to be dealt with along the way.

b) Using the firm you are auditing, thoroughly outline the evidence you will gather. Explain the importance of each type and how you will gather and evaluate it.

c) Outline and describe how you will decide issues of materiality and how these shall/should be reported, analyzed, and acted upon by the firm being audited.

Answer 1

a)

- Audit planning is one of the areas which causes disagreement among auditors.

- Identification and assessment of risks

- Responses to assessed risks

- Determination of Materiality in planning and performing an audit

- Lower levels of materiality for specific items

- Involvement of audit engagement partner and key audit team members in planning

- Developments in the business

-  Nature, timing and extent of resources allocated

b)

When we as auditors are testing internal controls or evaluating business processes, we use evidence to support our assertions. Below I will discuss the primary types of evidence auditors use to complete our work.

Audit Evidence

After an auditor has determined the scope of their engagement, it's time to start testing controls and performing audit procedures. The fundamental goal of audit procedures is to identify and gather audit evidence, information used to establish and support audit findings, recommendations, and opinions.

Depending on the type and focus of the audit being performed, there are various kinds of evidence that may be available and collected. The auditor must use their professional judgment when collecting and assessing evidence, which is why independence and objectivity are so important for a professional auditor.

Below are the five primary types of audit evidence with a brief description. Again, depending on the audit being conducted, some carry more weight than others. Also, auditors do not always collect all evidence available - they determine how much and what type of evidence is necessary based on the risk they are attempting to mitigate.

Physical Examination

Physical examination is when the auditor conducting the audit actually sees and confirms the existence of an asset. Often, a physical examination is not available, simply because of the nature of the audit. For example, if an auditor is confirming payroll expenses, the auditor cannot realistically physically watch someone work the hours they will be paid for.

However, when testing physical assets, such as inventory or equipment, physical inventory is often the most useful evidence. By going to the warehouse and confirming inventory accounts are accurate by counting inventory or confirming an asset exists by seeing it in person, the auditor is obtaining strong evidence through physical examination.

Confirmations

Confirmations are third-party assurances received directly by the auditor. Confirmations are most common when conducting audits related to accounts payable and accounts receivable. To confirm the balance of an accounts payable, the auditor can request the vendor send a written confirmation directly to them of the balance owed. The same can be done for accounts receivable and bank statements.

Documentation

One of the most common types of evidence auditors use is documentation. Documentation includes some sort of written or pictured document - such as an invoice, picture, check stub, policy, memo, etc. - that addresses an aspect of the audit being tested. Documentation is commonly used because it is more reliable than verbal confirmations or interviews and is also readily available.

Analytical Procedures

Analytical procedures occur when the auditor uses information to calculate or determine other information related to the audit. For example, if an audit is being conducted that verifies bank account balances, the auditor can take the bank account balance reported on last month's balance sheet, subtract payments that have been made, add deposits that have occurred, and finish with what should be the current balance. That is a very simple example of analytical procedures that can be used during an audit. Trend analysis is another common type of analytical procedures.

Inquiries of Client

The most common type of evidence is simply asking the client and employees questions. This is known as inquiries of the client. Inquiries are the most common because they are the easiest type of evidence to obtain and they can result in direct answers to the questions the audit is attempting to ask. Of course, the primary drawback of inquiries is their reliability. Auditors do not assume anyone is lying, but because it can be so easy to misunderstand a question or a process, inquiry should be corroborated with other evidence whenever possible.

c) Example to demonstrate use of materiality and decide on issues:

Materiality

Materiality for the financial statements as a whole

Materiality for the financial statements as a whole has been set at €13,500. This is based on 5% of an estimated profit before tax figure of €270,000, which is a consistent basis to that used in previous audits. An unadjusted profit before tax figure is appropriate as there are no exceptional items affecting profit before tax and the levels of directors’ remuneration are not abnormally high.

Lower levels of materiality for specific items

Users of the accounts are the shareholders and the bank. A lower level of materiality has been set in respect of the following classes of transactions, account balances and disclosures:

Transactions between the company and individual family owners (relevant to the non-family shareholders) - €6,000

Performance materiality

In assessing the risks of material misstatement and determining the nature, timing and extent of further audit procedures performance materiality has been set at €10,000 (and €5,000 for transactions between the company and individual family owners). This is judged to be sufficient as, on the basis of past audit errors (which have been primarily of a cut-off nature), there is a low probability that the aggregate of uncorrected and undetected misstatements will exceed the overall materiality.