Slicing the Audit Evidence Pie
Since the issuance of the AICPA’s SAS Nos. 104 through 111, the risk assessment standards (and their redrafted counterparts effective for periods ending after 12/15/12), practitioners have begun to think differently about the composition of audit evidence. Here is a list of the evidence sources that are available to satisfy the requirements of the risk assessment auditing standards:
- Risk assessment procedures
- Internal control questionnaires, flowcharts, systems walkthrough procedures, memorandums, forms, checklists and other planning documentation.
- Evidence of owner-manager key controls.
- Documentation of substantive evidence from reading the general ledger.
- Tests of controls, including owner-manager key controls.
- Preliminary analytical procedures.
- Substantive evidence from prior year’s risk assessment and other substantive procedures.
- Analytical procedures (performed to the maximum extent practical)
- Substantive tests of details of balances (modified to reflect assessed levels of risk)
The risk assessment SASs clearly indicate that everything an auditor does in the risk assessment process becomes substantive evidence supporting an opinion on the financial statements. By taking credit for the substantive evidence obtained from risk assessment procedures, an auditor ordinarily will need less other substantive evidence. Time consuming detailed tests of balances may be reduced, even on audits of small nonpublic or nonprofit organizations.
Management’s Financial Statement Assertions
SAS No. 106, Audit Evidence (AU-C 500), presents management’s financial statement assertions for account balances, transactions and presentation and disclosures for financial statements. The following summary of these assertions has been used in my blogs:
To determine that all transactions and accounts that should be presented
have been included in the financial statements.
O ccurrence and cutoff
To determine that all transactions occurring during the period have been
recorded in the financial statements in the proper period.
V aluation and accuracy
To determine that all asset, liability, revenue and expense components
have been included in the financial statements at accurate amounts, classified properly.
To determine that all recorded assets and liabilities exist at a given
To determine that the entity has rights to all assets recorded at a given date.
To determine that all liabilities are obligations of the entity at a given date.
D isclosure and Presentation
To determine that all components of the financial statements and other transactions and events are accurately classified, clearly described and disclosed.
Common Sense Questions about Assertions for Revenues
For revenues to be recognized properly in financial statements, all of these assertions will be considered by management and auditors. Here are some common sense questions that should be asked about the assertions for revenues:
- Were sales of products or services made to valid customers, do they meet the criteria for valid sales and did they actually occur in the reporting period?
- Do other revenues represent legitimate income of the entity received or earned in the reporting period?
- Have all revenues of the entity been reflected in the financial statements?
- Are the sales or other revenues valued properly, i.e., do they reflect arms-length valuation for products, services or transactions recorded during the reporting period?
- Are the revenues presented in the proper account classifications and are all necessary disclosures included?
- Are revenues consistently recorded to reflect generally accepted accounting principles or another comprehensive basis of accounting?
- Are only revenues applicable to the reporting period presented in the financial statements?
Starting with SAS No. 31, Audit Evidence, and continuing in SAS No. 106, Evidential Matter (AU-C 500), it is clear that auditors must gather appropriate evidence to evaluate relevant assertions for all material financial statement classifications. SAS No.106 (AU-C 500) also makes it clear that some assertions, particularly the completeness assertion for revenues, may require procedures other than substantive tests to reduce detection risk to an acceptably low level. We'll discuss the evidence alternatives in my next blog.
For more information regarding auditing revenues and other financial statement classifications, live and on-demand webcasts, and self-study courses, are available by clicking the applicable box on the left side of my home page, www.cpafirmsupport.com.