Fundamantal Principel of Auditing

8/11/2019 Fundamantal Principel of Auditing

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Fundamental Principle of

Purpose of audit ISA 200Chronology of auditPostulate of auditingICS and audit risk evaluationLimitation of accounting & ICSAudit sampling ISA 530Audit planning ISA 300Audit risk ISA 400

Materiality ISA 320Principal & other auditor ISA 600Audit evidence ISA 500Computer assisted audit technique CAAT

2013

Composed By: MUGHEESEducation Academy

3/24/2013


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Fundamental principle of Auditing By: Syed Mughees-Ul-Hassan1

Purpose of an audit:

The audit is conducted by an independent person who is charter accountant withinthe meaning of charter accountant ordinance 1961 From the definition it is clearthat the objective of audit is to declare independent opinion

So, it can be said that the major purpose of an audit is to express independentopinion about the truth and fairness of financial statement

The audited report increases the confidence and reduces the risk while makingdecision. The international auditing standard (ISA) 200 throws light on theobjective of audit.

According to standard the objective of an audit of financial statement is to enablethe auditor to express an opinion whether the financial statements are prepared inall material respect in accordance with an identified financial reporting framework

The objective of an audit can be classified into parts

1) Primary objective:The primary object of an audit is to declare an independent opinion on truth andfairness of financial statements. But it is said that the object of truth andfairness cannot be achieved until the detection and prevention of error andfrauds take place.

2) Secondary objective:The secondary objective can be classified into three types: a) Detection of error:

An error is an unintentional mistake. it can be classified in two types: 1. Clerical error:

These errors are accord due to load of work and inadequate improperatmosphere of business. They are further classified into four types:

I. error of omissionII. error of commission (amount error)

III. compensating error (teeming and lading)IV. error of duplication (trial balance error)

2. Principle error:The principle error of three types

I. Correct distinguishing between capital and revenueII. Effect of adjusting entries

III. Cost and market concept b) Detection of fraud:

Fraud is an intentional mistake there are three type of fraud 1. Misappropriation of cash2. Misappropriation of goods3. Change in accounts (window dressing)

c) Declaration of independent opinion:A declaration of independent opinion is the end product of the auditor thisopinion is of two types:


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1. Qualified report:A report which have some qualification or a report from which auditor isnot satisfied.

2. Unqualified report:When the auditor is fully satisfied from the facts and figures provided inthe books of accounts then he will declare unqualified report.

The auditor performs his duties with honesty and conformity. Howeverpractically and logically the auditor cannot audit achieve fully result dueto audit limitations.

The reason is that he is not an investigator. He audited those books andinformation which are provided by the company. So we can say that100% objective cannot be achieved due to some limitations. Some ofthe limitations are:

i. Audit is judgment it depend on professional knowledge and itsapplication by the auditor so there are some changes of someundiscovered error.

ii. Auditor cannot audit in detail he use some statistical sample ortest checking or substantive techniques.

iii. The management can mistake the facts and figures by mutualunderstanding: E.g. if one prepare the document and otherchecked the document and by joining hands they record wrongtransaction so it is difficult to detect these transaction.

iv. Audit evidence is basis for audit but it has also some limitation.v. Audit report is presented on AGM the distance of balance sheet

date and AGM is 4 to 5 month. So there may be changes inbusiness facts and figures in this time.

vi. The audit report has a specific format and cannot convey allinformation to the members.vii. The audit is based on Internal Control System (ICS). If the ICS

is effective than there are fewer chances of error. But internalcontrol having its own limitations.

The auditor used his full skills during the course of audit but there isalways possibility of misstatement by the management due to limitations inherentin the process however the auditor is not responsible for prevention and fraud. Theauditors certify the audit report but not certify the correctness of financialstatement. Despite limitation an audit has following benefits:

The audit increases the confidence and reduces the risk use in financialstatements like!

i. Help to the shareholders for investment decisionii. Bank for loan purposes

iii. Govt. for taxation purposesiv. For creditors while making suppliersv. For general public wile decision for their investment

vi. Benefit for management to check the performance of the staff


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vii. Financial advice for advising purpose

Moral Checking:

An auditor is the moral checking on clients and staff. It increases the workingcapacity of the staff.

Chronology of audit:

Before commencement of an audit the auditor gets some necessaryinformation which is necessary for the purpose of an audit from management. Thisinformation is necessary to perform his duties in successful manners. After advisingall these necessary information the auditor makes a plane to conduct the audit. Theaudit should be conducted in a sequence and this sequence is called chronology ofaudit. The size of firm cannot affect the chronology of audit.

The stages of audit work are discussed in detail below:

i.

The scope and strategy (Purpose)This is the first stage where the auditor determines his scope and makesstrategy to conduct the audit.

ii. The internal control system ExistenceIt is an important stage where the auditor found the existence of accountsand internal control. He analyzes the flow of documents in the organizationwhich are necessary for adequate internal control system.

iii. The internal control system DocumentationIn documentation stage the auditors prepare a comprehensive record of thesystem in the organization for this purpose he gets some necessaryinformation about book keeping and accounting policy. After documentationthe auditor is enable to conduct audit or evaluate the system of internalcontrol with efficiency and effectively.

iv. The internal control system ConfirmationIt means to check the system applies is implemented or not. It is importantstage which matches the actual facts and figures with recorded facts andfigures. For effective confirmation a walk through test is used for matchingpurpose.

v. The internal control system EvaluationIn this stage the system are evaluated for reliability. The reliability providesthe basic for adopting test check policy.

vi. The internal control system Compliance

In this stage the auditor is enable to detect the weakness of internal controlsystem he may give some advices or recommendation to make possibleimprovements for the effectiveness of internal control system. In this stagethe auditor decided whether he adopt the test check policy or otherwisesubstantive techniques . If he adopted substantive technique than audit workmay become lengthy or difficult.

vii. Interim report


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This report is prepared to convey the management about effectiveness andrecommendation or improvements in the internal control system.

viii. Substantive tests (Material misstatement)These test are independent they are adopted to examines truth and fairnessof financial statements. The auditor usually adopted substantive tests whenthere are maximum chances of material misstatement in the financialreport.

ix. Error evaluationAt this stage the auditor evaluate the possible effects of error andirregularities in accounts and financial statements.

x. ReviewThis is a stage for analytically review of facts and figures stated in financialstatements.

xi. Audit reportThe auditor is appointed to protect the rights of the shareholders, so theyare the agents of shareholders. Auditor prepares and submits audit report tothe shareholders.

xii. Final reportThis report is not required by law. This report is sent by the auditor to themanagement. It contains recommendations and suggestions forimprovement in internal control system.

Postulates of auditing: (principle or theoretical steps)

Mautz and sharaf present the eight principle of audit theory. They are knownas eight postulate of auditing. These postulates provide theoretical guide line to theauditor about how to conduct an audit. Which means the auditor should adopt someroles or principles before commencement of an audit. Generally before starting ofan audit the audit the auditor required some information and he deliver or givesome instruction to the client staff. In the light of this information the auditor canconduct an audit. In other words if the auditor adopt these postulates they willprovide complete a successful audit. These postulates are:

1. Financial data and statements are verifiable.2. There is no necessary conflict of interest between the auditor and the

management of enterprise under audit.3. The financial statements and other information submitted for verification

are free from conflict and unusual irregularities.4. The existence of a satisfactory system of internal control eliminates the

probability of irregularities.5. Consistent application of generally accepted accounting principles

(GAAP) result in the fair presentation of financial position and the resultsof operations. The GAAP is generally accepted accounting frameworkemployed in draw up financial statements.

6. In the absence of clear evidence to the contrary, what has held true inthe past for the enterprise under examination will held true in future.

7. When examining financial data for the purpose of expressing anindependent opinion there on, the auditor acts exclusively in thecapacity of auditor.


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8. The professional status of the independent auditors imposes to performhis professional obligations.

9. A ninth postulate was added by Robertson it states that auditedinformation is more useful than the unaudited information.

Postulate 1:This postulate is related with verifiability of financial data which means. Thefinancial statement and data are verifiable the auditor is conducted to checkthe reliability, conformation and truthiness of financial statements. The auditis conducted on the bases of evidence. If the evidence is reliable than itmeans the internal control system is effective and financial statementpresents true and fair view. However if there is unreliable or inadequatesystem of internal control or accounting data than an auditor will declare aqualified report. So companies always in under pressure to keep an adequateor reliable set of accounts for government, banking, sector and investors. Sowe can say that proper financial statements are verifiable and auditable.

Postulate 2:This postulate threw light about the conflict among the managers andauditor.This conflict may be necessary or unnecessary however it is necessary thatthe objective of management and auditor is same which means:

The goal of auditor and managers is to present true and fair view Conflict between the management and auditor are of two types:

Normal conflictBasically auditor is reporting agents and the management isaccountable agents for action and decision to the shareholder. Thenormal conflicts consist of honest disagreement means disagreementswith accounting policy.

Abnormal conflictAbnormal conflicts which were exist among management and auditorabout the truth and fairness of accounts if there is no conflict amongthe management and shareholders than he will be declared anunqualified report. One thing should remember that the managementrequires unqualified report from the auditor to shareholders.

Postulate 3:Third postul ate tells the financial statements under auditor are free fromconflicts and irregularity an auditor start audit under the company iseffective and there less chance of material misstatements. If the auditorrelay on it assumption he will adopt the policy of test control rather thansubstantive techniques. But if the auditor wants to declare true and fair view,than there are chances of material misstatements before the start of audit.

Postulate 4: A satisfactory internal control eliminates irregularity as internal controlsystem is a theoretical approach. If there is check on internal control systemthan it will work and chance of irregularities reduce? Basically internal controlsystem is prepared for:

Protect the assets


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Reliability of records Evaluation of performance Reduce the fraud employees and management

The auditor should test the effectiveness of internal control system herelay on internal control system only if he thinks that it works adequately.If the internal control system works properly than it can eliminate thechance of irregularities and errors.

Postulate 5:The fifth postulate provides the root objective of audit which means:

Application of GAAP gives true and fair presentation of financial statements.The work of account is done by the accountant. They prepare financialstatements by international accounting standards (IAS) and generallyaccepted accounting principle (GAAP). Auditor uses the standards as benchmark. The auditor examines the accounts and declares his independentopinion. Independent opinions which object that the past of the company

give true and fair view. Postulate 6: Application of past truth what has held true in past will hold true in future.This application has close relation in consistency and going concern concept.It means if the audit is untrue then it will true audit into an open end activityuntil the next audit.

Postulate 7:This postulate relates with capacity of audito r which means The auditor actsexclusively in the capacity of auditor it means that auditor should be anindependent person he has no relation between client staff. In practicessome audit firms provide other services to the clients like taxationconsultancy and management consultancy.

Postulate 8: The professional status of the auditor imposes commensurate or responsibleprofessional obligations. This postulate related with personal andprofessional skills of the auditor. During the course of the audit the auditorshould use his reasonable care and skills. If the auditor uses his full skills andknowledge then he has a high standard professional status.

Internal control system and audit risk evaluation:The information about internal control system (ICS) plays very

important role while the auditor makes about how to conduct the audit. It istherefore necessary for start of audit get necessary information. From the

management to achieve his desires result. He evaluates the effectiveness ofinternal control system. If the internal control system is effective there arefewer chances of errors and frauds in accounting record. So we can say thatevaluation of internal control system is very necessary to conduct asuccessful audit because internal control system also identifies business risksthreatening the objective of business.The internal control system is a system which is adopted by the company to

protect his assets and achieve the goals of the business


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The internal control systems have five elements:i. Control environment

ii. Risk assessment processiii. Information systemiv. Control activitiesv. Monitoring

Before the start of an audit the auditor get some information from theclient to understand and design of internal control system. If the design ofinternal control system is effective or work effectively than followingbecome possible:

Detection of material misstatement Detection and prevention from error and frauds Correct errors

i. Control environment:Internal control is a system if the company wants to achieve desires the

implementation of internal control system is necessary which clearly meansthat if internal control system is effective than the chances of errors andfrauds minimizes. The effectiveness of internal control system is aresponsibility of the management. The auditor should test the efficiency ofinternal control system by inspection and inquiry.

ii. Risk assessment process:The identification of business risk is valuable for management. Auditor riskmay be inherent risk or may be auditor risk. The auditor uses his full skillsand techniques to detect or determine the risk of material misstatement butthe auditor should determine only of the process is relevant to the financialstatements.

iii. Information system:The auditor required information which is related with financial statements.When the auditor understands information he should consider:

The classes of transactions related to financial statements The procedures to record process and reporting on transaction The accounting records have adequate or proper supporting

information The financial reporting process in use

iv. Control activities:The control activities are adopted to achieve the objective of organizations.Control activities are designed to prevent, detect and correction of errors.The control activities will work efficiently if properly authorized, physical

control and segregation of duties some examples are: Approval of documents Checking of arithmetical accuracy Maintaining control accounts Trial balance and reconciliations Comparing internal(Dr.) and external(Cr.) sourced data

Segregation of duties:


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If the duties are segregated among the different employees than it maybe prevent from the frauds because each employee is responsible for hisduty. The management gets maximum result with segregation of duties.The segregation of duties also reduces accidental errors segregation canbe achieved in many ways.

Segregation in recording and custody function for example,handling of cash and recording of performed by different persons.

Different staff is appointed for verification and reconciliationsmeans one should prepare, other should check and third shouldverify the documents.

v. Monitoring of controls:The auditor should obtain the information used to monitor internal controlover financial reporting. The monitoring relevant to the audit must be givenspecial attention. The monitoring control is performing through internalcontrol auditor for the purpose of financial reporting the auditor can rely onthe monitoring of internal auditor.

Confirming understanding:

A walk through test is used to confirm understanding of the control system. Thewalk through policy adopt by the auditor to identify the existence of proper controlsystem.

Limitations of accounting and control system:

The system of internal control system is adopted by the company to achieve itsobjective or goals. The effective internal control system provides reasonableassurance about the business operations. However internal control system hassome inherent limitations. The inherent limitations include:

The cost out weighting benefits (benefits should be higher value as compareto cost of internal control system)

The potential for human error Collusion between employees (dispute and relation) The possibility to by passed control

Due to these factors some time the auditor dose not obtains all informationand evidences. The key factor is human error and potential for fraud. If wesegregate the duties then we can control frauds but if employees decide tosuch frauds.

Assessing the risk of material misstatement:

The auditor made his policy and adopts the procedures relevant to financialstatements. For this purpose auditor should:

i. Asses the adequate of the accounting system to prepare accountii. Identify the types of potential misstatement

iii. Consider factors affecting risk of misstatementiv. Design appropriate audit procedures


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The risk are arises due to poor internal control system. If risk are high then auditrisk cannot be reduce to an acceptable level. To reduce these risk the auditoradopted different control procedures, For example: The amount of inventoryrecorded in the financial statement cannot be check by its physical existence So toreduce the control risks the auditor must design proper procedures to check thematerial misstatement. For this purpose auditor should adopted test andsubstantive techniques procedures.

Test of control:

If the system of control is strong then the auditor may chose test control for thereliability of data. Test of controls are used to obtain audit evidence about theeffectiveness of the:

Design of the accounting and internal control system Opinion of the internal control during the period

Why substantive test design:

The substantive test is designed to detect material misstatement in the financialstatements. In proper control increase control risk to cover these risks the auditorcan use computer assisted audit techniques (CAAT). During the course of audit ifauditor thinks that the policy of test techniques is effective than he can adopt thepolicy of substantive test for this purpose he should communicate the weakness ofinternal control system to the management.

Audit sampling ISA 530:

During the course of audit the auditor does not examine all available information.The auditor has short time to complete the audit in an effective manner to declare

true and fair view. They use samples of information which provide valid conclusion.ISA 530 deals with audit sampling in general it is known as test check. According toISA 530, when the auditor designing an audit procedure the auditor shoulddetermine or select items for audit evidence to fulfill the objective of audit. Auditsampling is the application of test or substantive procedure to less than hundredpercent of the items with in an account balance or class of transactions to enablethe auditor to obtain the audit.

It is important to notice that certain testing procedure do not come with indefinition of sampling. For Example, test performed 100% of the item with in apopulation do not involve sampling. It means 100% testing may be of differentsubstantive procedure but not for control.

The ISA required auditor to determine sample from population. The standardapplies that auditor adopt equally both statistical methods.

1. Statistical methods:The statistical method consists of random selection of a sample and use ofrandom selection probability theory to evaluate sample results.

2. Non statistical method:


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It means where the auditor does not use statistical method and draw anopinion on his professional judgment. The auditor uses his professional

judgment in designing and selecting the sample. Designing of sample:

In designing the audit sample auditor should considered:

i. Objective of the audit procedureii. Population

iii. Risk and assuranceiv. Error condition or tolerable errorv. Expected errors in the population

(Population must be appropriate or complete)vi. Define in sampling unit or stratification

Sample selection method:

The auditor usually used following sample selection methods:

1. Random selection:Ensure that all items in the population have an equal chance of selection ForExample, by use of random number tables.

2. Systematic selection:Involve selecting items using a consistent interval having a random start.

3. Haphazard selection:Haphazard selection is an alternative to random selection of the sample sizeis represented to the population and selection is unbiased.It means the auditor attempts to draw a represented sample from the wholepopulation with no intention to include or exclude specific unit.

4. Block selection:Block sampling is selection of items For Example, sample of 50 consecutivetransactions

5. Monetary unit sampling:The selection ensured that every amount in population has an equal chanceof selection is the advantage of this method.Stratification:Stratification is the process of dividing a population into sub populationswhich have similar characteristics.

Audit planning ISA 300:

Planning is very essential for successful audit work without planning an auditorcannot achieve desire results. All activities of audit depends upon proper planningthe auditor san watch these progress of work conducted by his staff he set time ofcompletion and assigned duties to his staff.

The planning process is deals in ISA 300. It states that:

The auditor should plane the audit in manners that the engagement will be performed in an effective manner . An audit is more detail than the audit strategy.


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Strategy means instructions in one plane. There are sets of instructions for theaudit staff.

Purpose of overall strategy:Purpose of overall strategy is to:

i. For effective and efficient of audit workii. Assurance that every area will be covered with full attention and care

iii. Determine the quantum of work requirediv. Basis for audit plan (information)

Structured base approach of planning:Audit planning following follows well-structured approach. There are fourmajor steps.

i. Ethical requirementii. Term of engagements

iii. Over all audit strategyiv. Audit plane

Contents of an overall audit strategy:

The overall audit strategy is consisting of some important parts. Someone is:i. Understanding the entity environment: General economic conditions Important characteristics of the client Business strategies Financial performance Reporting requirements Competence level of companies management

ii. Understanding systems: Understanding the accounting and ICS Policies adopting in accounting system The knowledge of auditor about accounting and ICS

On the basis of these, the auditor plane to use test or substantivetechniques.

iii. Risk and materiality: Identify the specific areas, where there are risk of error and fraud Setting of materiality level at acceptable level

iv. Nature, timing and extent of audit procedure: Possibility of material misstatement Identification of complex accounting areas Effect of information technology The work of internal auditor

v. Coordination with others: Involvement of other auditors Opinion from experts Staff requirements

vi. Other issues: The possibility of going concern


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Attention on related parties Term of engagement and statutory responsibility Time of representation of report

Audit risk ISA 400:

According to ISA 400, Auditor adopt a risk based approach for audit work, heshould pay special attention to higher risk areas. The auditor beforecommencement of audit gets information from client for the purpose to make betterassessment about ICS. He does not assume that ICS is effective. He shouldunderstand and process to assess risk involved in audit. The audit risk has twocomponents:

The risk of material misstatement arise error in recording and stating financialresult by the management. However the detection risk results from poor qualityof an audit.

1. Risk of material misstatement:This risk has two elements:

i. Inherent risk:Inherent risk means a risk of error from the side of client staffand management. In the absence of proper professional

judgment the chance of inherent risk is high. Inherent risk is highdue to:

The nature of entity The strategies of the business

The auditor uses his professional judgment to assess andreduce the inherent risk at acceptable level.

ii. Control risk:Control risk arises when material misstatement cannot bedetected or corrected by the accounting and internal controlsystem of the client.

2. Detection risk:Detection risk arises when the auditors procedures fail to detect materialmisstatements individual or aggregate in an account balance. The risk iscompleted on auditor risk. The auditor carry out more work at reduce thedetection risk. He may use substantive procedure.ISA 200 requires an auditors to plan and perform his audit work in a mannerwhich reduce such risk to an acceptable (Low) level.If he does then it helps to declare reasonable assurance on the truth andfairness of the financial statements.


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Management of audit risk: Auditor tries to keep overall audit risk below an acceptable level by carryingout audit work. The auditor is a professional person he uses his full skills andcompetency. If he is the auditor of new client then the chances of risk is toohigh. He should prepare and audit plan which helps to recover the risks.

Error

Fraud

Error

Detection Resk

Error

Fraud Error

AuditRisk

AuditRisk

Fraud

FraudError

Employees

Error

Error

Fraud

Fraud

Error

Fraud


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An auditor is not employ of the firm he cannot control inherent or control riskas they are related with client management. The only risk is related withauditor detection risk if he carries out the more audit work then the detectionrisk become lower. But it must be noted that it cannot be eliminated due toinherent limitation of audit.In case of inherent and control risk are high then the auditor is not like torelay on test control and will carry out extended substantive techniques.

It must be noted that substantive test cannot be eliminated the audit riskhowever with professional judgment the auditor below these risk too anacceptable level are very from business to business an audit to audit. Theaudit firms likely or usually charge higher fees for higher risk clients.

Materiality ISA 320:

Materiality is calculated at the planning stages of all audits. It is the basic criterion

to judge the audit work, it relates to the level of error that effects the decisions ofusers of the financial statements. ISA 320 audit materiality requires materiality toapply while:

Determining the nature, timing and extent of audit procedures Evaluating the effect of misstatements

Materiality determines an effective and efficient audit approach, materialityassessment helps to decide:

How many and what items to examine? Whether to use sampling techniques? What level of error is likely to lead to a modified opinion?

The materiality and risk are interred related terms if materiality is correct thenthere is low chance of risk. Usually the value of aggregated at the end of auditwork or the purpose to check that materiality level is low means acceptable ortolerable error.

Setting materiality level:

To set the materiality level the auditor decides the level of error at acceptablelevel. The users of accounts are normally interested in profit of the company.Materiality can be different in size of the business For Example,

An error of Rs.1000 in sales may be material for retail shop but it is notmaterial for a selling car worth billion Rupees each year

At some time if the size of company not change then level of materiality notchanges. But if business is growing the materiality level is also increased fromyear to year.


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The size of the company can be measured in the company can be measured interm of turnover and total assets of the company. The values which are used incalculating the materiality are:

i. Profit before taxii. Gross profit

iii. Net assetsiv. Profit after tax

The materiality has qualitative and quantitative aspects. Materiality level iscalculated at planning stage so the auditor can set planning in a manner that theyare tolerable error or not usually tolerable error can be reduces by simpletechniques. The level of materiality is reviewed:

Draft accounts are altered changing overall materiality External factor changes the control or inherent risk estimate Of error found during the audit work

Principle auditor and other auditor ISA 600:

ISA 600 guides the principal auditor to use the work done by other auditor. Thepurpose of ISA 600 is to provide guide line when an auditor wants to use the workof another auditor. The principal auditor so appointed consider himself how to usethe work of other auditor. The procedure how to use when to use and what affectarise of other auditor work . The principal auditor considers the following:

The materiality of financial statements not under his audit The knowledge regarding the business components The risk of material misstatements in the financial statements audited by

other auditors

After considering these matters the principal auditor should use his auditprocedure.

Principal auditor procedure:

ISA 600 required that an auditor should consider the professional competency ofthe other auditor. He will check:

i. The other auditor belong to a professional bodyii. The reputation of any firm

iii. Review of work audited by other auditor

After this principal auditor perform his audit procedure by obtaining or takingsufficient audit evidence about the adequacy of work. The principal auditorshould advice to other auditor.

1. Independent work2. Use the auditors work and report


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3. Areas of special consideration4. Procedure of verifying of the companies transaction5. Procedure for notifying unusual circumstances6. Time table (Time to complete the audit)

The principal auditor adopt the following procedure when gettinginformation from other auditor

i. Discuss with other auditorii. Review of audit working papers

iii. The procedure of auditiv. The significant finding of the other auditor

It is the statutory duty of the other auditor to co-operate with principal auditor. Ifthere is no statutory duty then it may be possible that the other auditor refuse toprovide his information to public auditor because the leakage of any informationbreaks the confidentiality rules. In this way he should communicate to the principalauditor in written form.

Report consideration: When the principal auditor cannot use the work of other auditor then heexpresses his opinion then the opinion of both should be same if the principalauditor due to his audit limitation declare qualified or disclaimer opinion.Then the other auditor also issue modified report.

Control environment and system: To conduct the effective and efficient audit the principal auditor shouldassess the control environment during his assessment carefully. Considerthat:

1. Organization structure of the group2. Level of control of parent company (Holding company)3. Supervision of components by parent company (Holding company)4. Central information system

Audit evidence ISA 500:

All the worker of audit based on audit evidence. The work of vouching cannot becompleted and it is said that vouching is the essence of audit. The auditor cannotdeclare or formed his opinion without sufficient appropriate evidence.

The objective of audit is to enable the auditor to express his opinion that thefinancial statement is prepared in accordance with the identified financial reportingframe work. So we can say that the sufficient audit evidence is the base of aud itorswork.


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Audit evidence is the information obtains by the auditor to conclude hisopinion. It includes all the record which helps to prepare financial statements

Auditor adopted two different policies for obtaining sufficient evidence.

1. Test of control:Test of control are performed to obtain audit evidence about theeffectiveness of the internal control system.

2. Substantive procedure:This procedure is adopted to detect material misstatement in the financialstatements. It has further two types:

i. Analytical procedureii. Other substantive procedure

ISA 500 audit evidence:

ISA 500 of audit evidence requires auditor to obtain sufficient andappropriate audit evidence to be able to draw reasonable assurance in auditopinion. Sufficiency based on quantity and appropriateness based on quality.So sufficiency and appropriateness have closed relation. The Quality ofevidence is related with source and quantity of audit evidence depends onarea.

Assessing reliability of audit evidence:Following are the guideline for reliability:

i. External: Audit evidence from external source is more reliable than from the

internal source evidence. ii. Auditor:

Evidence obtained by the auditor is more reliable than any othersevidence.

iii. Entity:(business) The evidence obtained from the entitys record is more reliable ifinternal control system is effective.

iv. Written: Evidence in written form is most reliable than oral or unwrittenevidence.

v. Original: Original evidence is more reliable than photocopies.

Auditor can use the information provided by the entity but this is not all time strongform of audit evidence. So he adopts different types to check the competences andaccuracy of financial information.


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Financial statement assertions:

The director of the business makes some assertions when they approved thefinancial statement. The audit test is designed to obtain audit evidence about thefinancial assertions. ISA 500 requires the auditor to use assertion from:

i. Classes of transactionii. Account balances

iii. Presentation and disclosures

He is required to assessment of risk of material misstatement and to design andperform further audit procedures.

1. Classes of transaction:i. Occurrence:

Transaction and events have occurred and pertain to the entity.ii. Completeness:

All transaction and events have been recorded.iii. Accuracy:

Data relating to recorded transaction have been appropriatelyrecorded.

iv. Cut-off:Transaction and events are in the correct period.

v. Classification:Transaction and events are placed in proper accounts.

2. Account balances:i. Existence: Assets, liabilities and equity exist are not bogus.

ii. Rights and obligations: The entity has right to assets andliabilities.

iii. Completeness: All assets liabilities and equity are in records.iv. Valuation and allocation: Assets, liabilities and equity are

included in the financial statements at appropriate value.3. Presentation and disclosure:

i. Occurrence, rights and obligation:

Disclosed events transactions and other matters haveoccurred and pertain to the entity.ii. Completeness :

All the disclosures have been included in the financialstatements.

iii. Classification and understandability:The disclosures are clearly expressed.


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iv. Accuracy and valuation:Financial and other information are disclosed at appropriateamounts.

A mnemonic to remember assertion is ACCA Cover the first letter of the

mnemonic represents:

1. Accuracy2. Completeness3. Cut-off4. Allocation5. Classification or understandability6. Accurateness7. Valuation8. Existence9. Right and obligations

An auditor uses the financial statement assertions in designing tests.

Computer assisted audit techniques: (CAAT)

The use of the computer for audit work is known as CAAT. It is necessary for theauditor to use the computer in audit procedures. By this way the efficiency of auditworks increase and no change in the nature objective and scope of audit.

Use of CAAT:1. The computer based record requires use of CAATs for audit.2. The effectiveness and efficiency of auditing procedure is improved by use of

CAAT.3. CAATs may be used in performing varies auditing procedures like:

i. Test of detailii. Analytical detail

iii. Test of computer information system control Advantages of CAAT:

The auditor get benefits like saving of time, limited staff, decreasing cost andup to date result if he or his staff know how to use the CAAT following arethe advantages of CAATs:

1. Auditors can test programed controls2. Time saving by testing items quickly and accurately3. CAATs test of transactions rather than paper records of transaction4. CAATs are cost effective for longer items5. Result from CAATs can be compared with results from traditional

testing to increase overall confidence in results. Types of CAATs:


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Fundamantal Principel of Auditing

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