Auditing and Assurance Services An Integrated Approach

Question: Discuss about the Auditing and Assurance Services for An Integrated Approach. Answer: Introduction This case study deals with performing substantive procedures (test of details) and their role in obtaining audit evidence. It is important to design the substantive procedures in such a way that it is in tune with the analytical procedures (test of controls). After performing the test of controls, if the inherent and control risk is found to be high, then the auditors must perform more substantive procedures in order to minimise the detection risk so that the overall risk is maintained at a tolerable level. Substantive Procedures Substantive Procedures or Test of Details are performed to examine accounting data i.e. completeness, accuracy and validity of transaction and balances. Substantive proceduresfor material classes of transactions, account balances, and disclosures are always required to obtain sufficient competent audit evidence due the limitations of internal controls and the subjective nature of the auditors judgments when making risk assessments regarding the entity and its environment. Therefore, the auditor will have to design substantive procedures for all relevant assertions to obtain sufficient appropriate audit evidence, regardless of the assessed risk of material misstatement. Proper tests of controls have been carried out by the auditor which determines the level of inherent and control risks as low. However, it is imperative that proper test of details are undertaken so as to keep the detection risk low as well so that the overall risk is maintained at an acceptable level. Following test of details can be carried out that will provide sufficient appropriate audit evidence regarding the accuracy of that account balance. 1. Wages and Salaries: The auditor can compare the total wages of current period that of prior year/budgets. In case a difference is found, the auditor needs to investigate the same. It is important to verify that the employees are paid for the period that they have worked. 2. Electricity: Check bills to make sure that expense for the respective period have only been recorded. It is important to make sure that the expenses recognized, pertain to current period only and that no bills of previous period have been recorded as expense in the current period. 3. Repairs and Maintenance: Check the bills to ensure that heavy repairs, which increase the life of asset, have not been shown as repairs but as capital expenditure instead. Similarly the routine repairs, which do not increase the life of asset must not be capitalised. These substantive procedures will assist the auditor in obtaining sufficient and appropriate audit evidence. Introduction There are three components of Audit risk, viz. inherent risk, control risk and detection risk. Inherent risk and control risk are assessed together because both these risks can be detected or prevented by designing suitable internal control system. Analytical procedures or test of controls are performed by the auditor to determine the level of risk. Substantive procedures are performed to examine accounting data. Audit risk model is used to manage the overall risk of an audit engagement. Thus when inherent risks and control risks are high, detection risk has to be set to a low level of acceptance to reduce the overall audit risk to a tolerable level. Conversely, when inherent risks and control risks are low, acceptable detection risk is allowed to be set at a relatively higher level. Lower detection risk may be achieved by increasing the sample size for audit testing. If detection risk cant be minimised, the auditor should express a qualified opinion. This case study deals with the a uditors observations regarding level of risk. Review of work In the given case, the audit assistant undertook a test of controls for 50 sales transactions and found three errors, i.e. 6 percent which is higher than the established tolerable error level of 5 percent. Since the errors were not material, individually or in aggregate, she concluded that the controls were reliable. However, this assumption may lead to fault in the overall audit. Although not material in nature, the error found was higher than the tolerable error. Instead of concluding that the controls are reliable, she should have performed the procedure on another sample to make sure that this was just an anomaly. This way, there could be enough evidence that the controls are reliable. While performing test of details for accounts payable, the audit assistant selected all balances over $100,000 and vouched these to supporting invoices. The sample selected comprised $2,565,650 of total accounts payable of $5,168,000. One invoice for $102,500 had been incorrectly recorded on the accounts payable listing, as the goods were not actually received until after year end. Given the error relates to only 4% of accounts payable tested, which would be a total error of $206,702 of the overall accounts payable balance, she concluded that it is not material as this is less than the materiality level set for this audit and, therefore, no further work has been performed. Now this would have been right had the control risk been below tolerable level. But since control risk is above tolerable level, acceptable detection risk had to be low in order to keep the overall risk at an acceptable level. The auditor should have performed more intensive test of details in order to reduce the detection risk to an acceptably low level. Conclusion From the above review, it is clear that the auditor was not correct in her observations. Instead of concluding that the internal control was reliable, in the first case, more test of controls should have been performed. In the second case, she should have performed more tests of details to make sure that the audit evidence collected is sufficient and appropriate. The overall audit risk is to be maintained at a tolerable level at all times which was not done by the audit assistant in her work for Orange Pty Ltd. References: Arens, A.A., Loebbecke, J.K., Elder, R.J. and Beasley, M.S. (2003)Auditing and assurance services: An integrated approach. United States: Addison Wesley Longman. ACCA (2015) Audit Risk. Available at: https://www.accaglobal.com/in/en/student/exam-support-resources/professional-exams-study-resources/p7/technical-articles/audit-risk.html (Accessed: 29 May 2016). ACCA (2015) Analytical Procedures. Available at: https://www.accaglobal.com/in/en/student/exam-support-resources/professional-exams-study-resources/p7/technical-articles/analytical-procedures.html (Accessed: 29 May 2016). ACCA (2015) Audit Procedures. Available at: https://www.accaglobal.com/in/en/student/exam-support-resources/fundamentals-exams-study-resources/f8/technical-articles/audit-procedures.html (Accessed: 29 May 2016). ISA 315,Identifying and Assessing the Risks of Material Misstatement Through Understanding the Entity and Its Environment, paragraph 4 (b). ISA 330,The Auditors Response to Assessed Risk, para. A42-A51