Audit Evidence.

Audit evidence refers to the information collected for reviewing the financial transactions of a company in addition to its internal control practices and other essential factors needed for the certification of financial statements. “The auditor must obtain sufficient appropriate audit evidence by performing audit procedures to afford a reasonable basis for an opinion regarding the financial statements under audit.”

            In most cases, auditors emphasize the importance of sufficiency (measure of the quantity of audit evidence) and appropriateness (the degree to which the evidence can be considered trustworthy) of the audit evidence. However, the evidence should also be persuasive rather than convincing.

Audit evidence decisions:
A key decision the auditor must make is the appropriate types and amounts of evidence to draw conclusions regarding financial statements or internal control. You might suggest that all evidence available should be used--but unfortunately, the cost of sampling every piece of evidence in a population would be prohibitive. In practice, the profession of auditing often requires taking a sample, and then drawing a conclusion based on that sample.
There are types of decisions that an auditor must make:

1.   Sample size. This refers to the number of items that should be tested for each audit   procedure.
2.   Items to select. This emphasizes which items should be included in the audit exercise.
3.   Timing. This can vary from early in the accounting period to after it has ended.

Appropriateness and sufficiency are affected by the following factors:

1.   Timeliness. The balance sheet account evidence is better when it’s collected around the date of the financial statements.
2.   Independence. Evidence that is from external sources such as suppliers is stronger than that of sources within the organization.
3.   Auditor’s direct knowledge. The auditor’s determinations are stronger than the client’s views.
4.  Objectivity. Objective evidence is stronger than subjective evidence.
5.   Effectiveness of client’s internal controls. Good internal controls mean better information.
6.   Relevance. Must pertain to the audit objective being tested.
7.   Qualifications. Reliability of the information is enhanced if the person providing it is qualified to do so.

Types of audit evidence:

In deciding which procedures to use, the auditor may choose from different types of evidence:

1.    Inspection of tangible assets. This involves examining assets of the company being audited. It requires the auditor to physically count the tangible assets. This evidence provides assurance of existence of the asset.

2.    Observation.  This involves looking at the processes and procedures being performed by the client. For example, focusing on the client’s activities. However, this method has a downside in that it’s only limited to the time that those activities occur.

3.    Mathematic recalculation. Involves checking the arithmetic accuracy of the records. This can be done by use of computer-assisted audit techniques (CAATs) to check the accuracy of the summarization of the files. For example, recalculating depreciation and reconciling the ledgers.

4.    Analytical procedures. Consist of evaluations of financial information made by a study of recorded data with expectations developed by the auditor. These procedures help reveal unusual transactions, trends and ratios that might have implications for audit planning.

The types of analytical procedures include:

•          Preliminary analytical procedures.
•          Substantive analytical procedures.
•          Final analytical procedures. 

5.   Confirmations. This is the process of getting a representation of information directly from an independent third party. The client has request that the third party responds directly to the auditor. For example, the auditor may call the inventory agents to confirm the consignments or attorneys to confirm the contingent liabilities.

The reliability of the evidence got through confirmations may be affected by factors such as:

·         Nature of the information being confirmed.

·         Form of confirmation.

·         Prior experience with the entity.

Confirmations are of two types. That is:

·         Positive confirmation. This asks for response even if the balance is correct and it’s more reliable than negative confirmation.

·         Negative confirmation. Asks for a response only of the balance is incorrect.

6.    Inquiry. Involves auditors obtaining information from the client in response to questions. It may be in written form or oral form. Much evidence can be got through inquiry however; it cannot be thought of as final and may be biased in  favor of the client.

Inquiry alone is not sufficient to test the operating effectiveness of controls. Therefore, auditors need to use inquiry as well as other procedures to get sufficient appropriate audit evidence.

7.    Reperfomance. Involves the testing of mathematical accuracy to confirm the computations and transfers of information those can be done by use of CAATs.

8.    Scanning. This is the review of accounting data to identify unusual items. This includes the identification of abnormal individual items within account balances or other client data through analysis of entries on transactions, ledgers and other accounts.

9.    Inspection of documents. This consists of examining internal or external records that are in paper form, electronic or other media. The auditor should be aware about the reliability of the documents.

There are two types of documents and they include:

·         External documents. These are documents that are outside the client. They are held by    a third party. These documents are more reliable than internal sources.

·         Internal documents. They are documents prepared by the client company and don’t go outside the client. They could be biased and therefore not reliable.

The Basics of Auditing.

Many people confuse auditing with accounting. The distinction between the two is:

                Auditing is the opinion on the fairness and presentation of financial statements. Auditing is the auditor’s responsibility.

While:

                Accounting is the process of preparing financial statements. Accounting is the responsibility of the management.

                An audit can be compared to a periodic check up with a mechanic. Just as a crumbling car must pass through a series of tests to ensure a clean “bill of health”, a company’s financial “good health” also relies on whether its financial statements abide by the Generally Accepted Accounting Principles (GAAP). Therefore in this case, the auditor is the mechanic and the car is the business organisation.

Auditing doesn’t promise faultless financial statements but it does give reasonable assurance that the financial statements are free from unnecessary mistakes.

Almost every organisation prepares financial statements. These provide information for the managers (to make good decisions), governments (for tax purposes), banks (to extend credit facilities) and investors (to influence their decisions of whether to invest in that business or not). The statements therefore need to be accurate.

There are generally two types of auditors:

a)      Internal auditors

b)      External auditors

a)  According to Investopedia, internal auditing is "the examination, monitoring and analysis of activities related to a company’s operations, including its business structure, employee behaviour and information systems." Internal auditing reveals that the company’s financial statements are consistent and trustworthy.

b) External auditing is the reviewing of a company’s financial statements by another qualified personnel who is not affiliated with the organisation. Such professionals include public accountants.

Components of an audit:

a)      Auditors need something to audit. These include financial statements which have transactions. Auditors are professional accountants. They don’t prepare financial statements. That is the work for managers. Auditors verify the financial transactions and give opinions.

b)      There should be evaluation criteria. If there was no basis to follow when preparing and evaluating financial statements, the users would have difficulty in trying to understand what the statements portray. Auditors therefore follow GAAP.                                                                                      

Other types of criteria include:

·         Tax rules (for tax auditors)

·         Company policy (for internal auditors)

c)       Audit evidence. Just as an attorney gathers information for his client to prove his innocence, so do auditors. Auditors need to get financial statements to evaluate, test and support (if they are correct) or conclude that the statements are adverse in case they do not abide by GAAP.

d)      Auditors. Auditors are not just people pulled from anywhere to come and verify the statements. They need to have a deep background in accounting. They need training in accounting professions. Only CPAs can issue opinions in auditing.

e)      Reporting. Auditors need a way of expressing their opinions and disclose their findings that will benefit the users.

Auditing is an interesting career. The advantages are that: you get to work in teams and travel in different locations always making new contacts.

However the downside of it is that it can be tedious in some areas.

REFERENCE:

http://www.investopedia.com/terms/i/internalaudit.asp