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Chapter 13Overall Audit Planand Audit Program

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Presentation Outline

I. Application of Audit Testing

II. Selecting Tests to Perform

III. Design of the Audit Program

IV. A Summary of the Audit Process

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I. Application of Audit Testing

A. Tests of ControlsB. Testing for Monetary Misstatement

C. Reduction of RiskD. Audit Assurance at Different Levels of

Internal Control EffectivenessE. Simultaneous Testing of Controls and

Substantive Testing of TransactionsF. Timing of Audit Testing

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A. Tests of Controls

Audit procedures to test the operating effectiveness of control policies and procedures in support of a reduced assessed control risk. Some examples

include: Matching of vendor invoices against a purchase order

and receiving report before approving invoice for payment.

Examination of employee time cards for approval of overtime.

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B. Testing for Monetary Misstatement

Substantive Tests ofTransactions

Testing for monetary misstatements to determine

if the following 6 transaction-related audit objectives

have been met:Existence

CompletenessAccuracy

ClassificationTiming

Posting and Summarization

Tests of Details ofBalances

Testing for monetarymisstatements to determine if thefollowing 9 balance-related audit

objectives have been met:Existence

CompletenessAccuracy

ClassificationCutoff

Detail tie-inRealizable value

Rights and obligationsPresentation and disclosure

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C. Reduction of Risk

Control Risk Procedures to gain an understanding of internal

control Tests of controls

Once the auditor obtains an initial understanding of

controls, tests of controls must be performed to obtain evidence regarding the

effectiveness of controls. Stronger controls will allow the auditor to assess control risk below the maximum.

Detection Risk Substantive tests of

transactions Analytical procedures

Tests of details of balances

The more evidence an auditor collects from the

above procedures, the lower the detection risk. Detection risk must be

lower when control risk is higher.

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D. 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

AS

SU

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E

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E. Simultaneous Testing of Controls and Substantive Testing of Transactions

The determination of control risk affects the type of procedures and sample size for the substantive testing of

transactions. For purposes of convenience, the testing of controls and

substantive testing of transactions will often occur simultaneously.

In such situations the auditor will make an assumption about the results of tests of controls. If the testing of controls indicates that internal control is worst than

expected, substantive testing of transactions will have to be modified accordingly.

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F. Timing of Audit Testing

Auditors frequently consider it desirable to perform audit tests prior to year end. Certain procedures may be

performed at an interim time (prior to client’s year end) : Update depreciation schedules Examine new loan agreements

Vouch transactions Analyze changes in client’s accounting system

Review board of director minutes If strong internal controls exist the auditor may also:

Observe physical inventories Confirm account balances

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II. Selecting Tests to Perform

A. The Cost of Testing

B. Appropriate Evidence for Audit Testing

C. Risk and Testing in the Audit Process

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A. The Cost of Testing

Going from the most to least costly, the types of tests

are: Tests of details of balances

Substantive tests of transactions

Tests of controls Procedures to obtain an

understanding of internal controls

Analytical procedures

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B. Appropriate Evidence for Audit Testing

Type of Test

Procedures for internal control

Tests of controls

Substantive tests of transactions

Analytical procedures

Tests of details of balances

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C. Risk and Testing in the Audit Process

Substantive Testing of Transactions

In some situations it may be more efficient to assess control risk at

a higher level and reduce or eliminate tests of controls. This

depends on cost of testing controls versus the additional substantive testing that would result from a higher control

risk.

Tests of Details of Balances

If tolerable misstatement is low, and inherent risk

and control risk are high, planned tests of

details of balances must be high.

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III. Design of the Audit Program

A. Tests of Controls and Substantive Tests of Transactions

B. Analytical Procedures

C. Tests of Details of Balances

Most audits design an audit program in the following three parts:

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A. Tests of Controls and Substantive Tests of Transactions

A four-step approach when the auditor plans to reduce assessed control risk below the maximum:

Transaction related audit objectives are applied to the class of transactions being tested, such as sales.

Key controls that should reduce control risk for each transaction-related audit objective are identified.

For all internal controls used to reduce the initial assessment of control risk below the maximum (key controls),

appropriate tests of controls are developed. Design appropriate substantive tests of transactions, considering weaknesses in internal control and expected

results of tests of controls (allows for simultaneous tests of controls and substantive testing).

Note: If control risk is assessed at 1.0, only substantive tests of transactions will be used in this part of the audit program.

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B. Analytical Procedures

Analytical procedures may be performed during 3 different stages of the audit:

In the planning stage to help the auditor understand the client’s business and determine other evidence needed to satisfy

acceptable audit risk. During the audit, especially during substantive testing.

Near the end of the audit as a final test of reasonableness.

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C. Tests of Details of Balances

If the results of tests of controls, substantive

tests of transactions, and analytical procedures

are not consistent with the predictions, tests of details of balances will need to be changed as the audit progresses.

Figure 13-6 on page 388 illustrates the testing methodology using Accounts Receivable

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Summary of the Audit Process - Phase I (Planning)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 acceptable audit risk and inherent risk.

Understand internal control and assess control risk.

Develop overall audit plan and audit program.

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Summary of the Audit Process - Phase II (Begin Field Work)

Perform tests of controls.

Perform substantive tests of transactions.

Assess likelihood of misstatements in financial statements.

Plan to reduce assessedlevel of control risk?

Yes

No

FromPhase I

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Summary of the Audit Process Phase III (End of Fieldwork)

Perform analytical procedures.

Perform tests of key items.

Perform additional tests of details of balances.

Likelihood of Misstatementin Financial Statements

Low Medium High orunknown

FromPhase II

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Summary of the Audit Process Phase IV (Wrap-Up)

Review for contingent liabilities.

Review for subsequent events.

Accumulate final evidence.

Evaluate results.

Issue audit report.

Communicate with auditcommittee and management.

FromPhase III