10 - 1©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Overall Audit Planand Audit Program

Chapter 10

10 - 2©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Learning Objective 1

Use the five types of audit teststo determine whether financial

statements are fairly stated.

10 - 3©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Types of Tests

Procedures to obtain anunderstanding of internal control

Tests of controlSubstantive tests of transactions

Analytical proceduresTests of details of balances

10 - 4©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Types of Audit Tests andthe Audit Risk Model

AuditRisk

Model

Proceduresto obtain an

understanding ofinternal control

Tests ofcontrols(TOC)

Substantivetests of

transactions(STOT)

Typesof Audit

Tests+ +

AARIR × CR

= PDR

10 - 5©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Types of Audit Tests andthe Audit Risk Model

Analyticalprocedures

(AP)

Tests ofdetails ofbalances(TDP)

Sufficientcompetentevidence

per GASS

+ =

AARIR × CR

= PDRAuditRisk

Model

Typesof Audit

Tests

10 - 6©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Role of all Audit Tests in the Sales and Collection Cycle

SalesAccounts

ReceivableCash inBank

Salestransactions

Cash receiptstransactions

Endingbalance

Endingbalance

TOC + STOT + AP + TDP= Sufficient competent evidence per GAAS

Audited byTOC, STOT, and AP

Audited by AP and TDP

Audited byTOC, STOT, and AP

10 - 7©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Learning Objective 2

Select the appropriatetypes of audit tests.

10 - 8©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Relationship BetweenTypes of Tests and Evidence

Type of TestProcedures for internal controlTests of controlsSubstantive tests of transactionsAnalytical proceduresTests of details of balances

Phys

ical

Exa

min

atio

n

Con

firm

atio

n

Doc

umen

tatio

n

Obs

erva

tion

Typ

e of

Evi

denc

e

10 - 9©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Relationship BetweenTypes of Tests and Evidence

Type of TestProcedures for internal controlTests of controlsSubstantive tests of transactionsAnalytical proceduresTests of details of balances

Inqu

irie

s of

the

clie

nt

Rep

erfo

rman

ce

Ana

lytic

perf

orm

ance

Typ

e of

Evi

denc

e

10 - 10©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Audit Assurance at Different Levels of Internal Control Effectiveness

Acceptableassurance

Noassurance

INTERNAL CONTROL EFFECTIVENESSWeak control Strong control

Reliance on controls: C3 – None, C2 – Some, C1 – Maximum

Audit assurancefrom control riskassessment andtests of control

Auditassurancefromsubstantivetests

A C B

C3

C2

C1

AU

DIT

ASS

UR

AN

CE

10 - 11©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Learning Objective 3

Understand how informationtechnology affects audit testing.

10 - 12©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Impact of Information Technology on Audit Testing

SAS 80 (AU 326) and SAS 94 (AU 319)provide guidance for auditors of entities

that transmit, process, maintain, or accesssignificant information electronically.

10 - 13©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Impact of Information Technology on Audit Testing

Computer assisted audit techniques may beused to test automated controls or data.

Reports produced by IT may be used to testthe effectiveness of IT general controls.

Program changecontrols

Accesscontrols

10 - 14©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Learning Objective 4

Understand the concept of evidencemix and how it should be varied

in different circumstances.

10 - 15©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Variations in Evidence Mix

Procedures to Obtainan Understandingof Internal Control

Testsof

ControlsAudit 1 E EAudit 2 M MAudit 3 M NAudit 4 M MAmount of testing: Extensive, Medium, Small, None

10 - 16©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Variations in Evidence Mix

SubstantiveTests of

TransactionsAnalyticalProcedures

Tests ofDetails ofBalances

Audit 1 S E SAudit 2 M E MAudit 3 E M EAudit 4 E E EAmount of testing: Extensive, Medium, Small, None

10 - 17©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Learning Objective 5

Design an audit program.

10 - 18©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Audit Program

Part 1:Tests of controls and substantive

tests of transactionsPart 2:

Analytical proceduresPart 3:

Tests of details and balances

10 - 19©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Audit Procedures

1. Apply the transaction-related audit objectivesto the class of transactions being tested.

2. Identify key controls that should reducecontrol risk for each audit objective.

3. Develop appropriate tests of controls.4. Design substantive tests of transactions.

10 - 20©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Four-Step Approach to Designing Control and Substantive Tests

Apply transaction-related audit objectives

to a class of transactions(Step 1).

Identify key controlsand make an assessment

of control risk(Step 2).

Design tests ofcontrols (Step 3).

Design substantive testsof transactions (Step 4).

Audit procedures Sample size Items to select Timing

10 - 21©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Methodology for Designing Tests ofBalances – Accounts Receivable

Identify client business risksaffecting accounts receivable.

Set tolerable misstatementand assess inherent riskfor accounts receivable.

Assess control risk for salesand collection cycle.

10 - 22©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Methodology for Designing Tests ofBalances – Accounts Receivable

Design and perform tests ofcontrols and substantive testsof transactions for sales and

collection cycle.

Design and perform analyticalprocedures for accounts

receivable balance.

10 - 23©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Methodology for Designing Tests ofBalances – Accounts Receivable

Design tests of details ofaccounts receivable balance

to satisfy balance-relatedaudit objectives.

Audit proceduresSample size

Items to selectTiming

10 - 24©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Approach to Designing Tests of Details of Balances

Apply transaction-related audit

objectives to a classof transactions.

Identify key controlsand make a preliminary

assessmentof control risk.

Design tests ofcontrols.

Design substantive testsof transactions.

Audit procedures Sample size Items to select Timing

10 - 25©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Approach to Designing Tests of Details of Balances

Design testsof controls.

Designsubstantive

tests oftransactions.

Apply balance-related auditobjectives to an account balance.

Audit proceduresSample size

Items to selectTiming

Design tests of details of balances.

10 - 26©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Approach to Designing Tests of Details of Balances

Apply balance-related audit

objectives to anaccount balance.

Design testsof details of

balances.

Decide tolerablemisstatement.

Make preliminaryjudgment about

materiality.

Design analyticalprocedures.

Decide acceptableaudit risk.

Assess inherent risk.

Assess clientbusiness risk.

10 - 27©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Learning Objective 6

Compare and contrasttransaction-related auditobjectives and balance-related audit objectives.

10 - 28©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Relationship of Transaction- toBalance-Related Audit Objectives

Transaction-Related Balance-Related Nature ofAudit Objective Audit Objective RelationshipExistence Existence or Direct

completenessCompleteness Completeness or Direct

existenceAccuracy Accuracy Direct

10 - 29©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Relationship of Transaction- toBalance-Related Audit Objectives

Transaction-Related Balance-Related Nature ofAudit Objective Audit Objective RelationshipClassification Classification DirectTiming Cutoff DirectPosting and Detail tie-in Directsummarization

10 - 30©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Relationship of Transaction- toBalance-Related Audit Objectives

Transaction-Related Balance-Related Nature ofAudit Objective Audit Objective Relationship

Realizable value NoneRights and None

obligationsPresentation and None

disclosure

10 - 31©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Learning Objective 7

Integrate the four phasesof the audit process.

10 - 32©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Summary of theAudit Process

Phase I Plan and designan audit approach.

Phase II

Perform tests ofcontrols and

substantive testsof transactions.

Phase III

Perform analyticalprocedures andtests of detailsof balances.

Phase IVComplete the

audit and issuean audit report.

10 - 33©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Summary of the Audit ProcessPhase I

Accept client and perform initial planning.Understand the client’s business and industry.

Assess client’s business risk.Perform preliminary analytical procedures.

Set materiality and assess acceptableaudit risk and inherent risk.

Understand internal control and assess control risk.Develop overall audit plan and audit program.

10 - 34©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Summary of the Audit ProcessPhase II

Assess likelihood of misstatementsin financial statements.

Plan to reduce assessedlevel of control risk?

Perform tests of controls.

Yes

Perform substantive tests of transactions.

No

10 - 35©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Summary of the Audit ProcessPhase III

Perform tests of key items.Perform additional tests of details of balances.

Perform analytical procedures.

Low Medium High orunknown

10 - 36©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

Summary of the Audit ProcessPhase IV

Review for contingent liabilities.Review for subsequent events.

Accumulate final evidence.Evaluate results.

Issue audit report.Communicate with audit

committee and management.

10 - 37©2003 Prentice Hall Business Publishing, Essentials of Auditing 1/e, Arens/Elder/Beasley

End of Chapter 10