Chapter 8: Performing Substantive Tests

Determine
Set Desired Assess Acceptable
Assess
Level of Inherent Level of
Control Risk
Audit Risk Risk Consideration
of Internal
Detection
Performing
Substantive
Audit Planning
Control Risk
Tests

Substantive Tests

Related Parties
- persons or entities that may have dealings with one another where
one has the ability to exercise significant influence or control over
the party in making financial and operating decisions.

1. Has control or significant influence over the reporting entity

(directly or indirectly through one or more intermediaries)
2. Another entity over which the reporting entity has control
 Chapter 9: Audit Sampling
a. application of inappropriate audit procedures
Audit Sampling b. failure to recognize errors in the sample tested
- application of audit procedures to less than 100% of the items c. Misinterpretation of evidence obtained
within an account balance or class of transactions such that all
sampling units have a chance of selection. Controlling the Risks
Only way to eliminate sampling risk: examine the entire population
Assumption: Sample selected for testing is representative of the - not feasible due to tome and cost constraints
population.
- An interference or conclusion can be drawn about the Ways to Control Sampling Risk
characteristics of the population based on the sample results 1. Increasing the sample size
2. Using an appropriate sample selection method.
100% examination
- more appropriate to examine the entire population of items that - sample becomes more representative of the population
make up an account balance
- since the population constitutes a small number of large value Ways to Minimize Non-Sampling Risk
items 1. Proper planning
2. Adequate direction, review, and supervision of the audit team
Selective Sampling
- apply audit procedures only to those items which have particular General Approaches to Audit Sampling
significance 1. Statistical Sampling
- all items over a certain amount 2. Non-statistical Sampling

Auditors needs to be satisfied that sufficient appropriate evidence is 1. Statistical Sampling

obtained to meet the objectives of the test. - Uses random based selection of sample and statistics (law of
probability to
Risk in Sampling
1. Sampling Risk a. measure sampling risk
a. Alpha Risk b. evaluate sample results
b. Beta Risk
2. Non-sampling Risk 2. Non-statistical Sampling
- purely uses auditor’s judgement in
1. Sampling Risk a. estimating sampling risks
- possibility that auditor’s conclusion, based on a sample, may be b. determining sample size
different from those reached if the entire population were subjected c. evaluating sample results
to the same audit procedures.
Both Approaches
- because sample selected for testing may not be truly - require the use of auditor’s judgment in:
representative of a population a. designing and selecting the sample
b. performing audit procedures
Alpha Risk Beta Risk c. evaluating sample results
Test of Risk of Underreliance Risk of Overreliance
Controls - IC is not reliable when - IC is reliable when in - cannot assure that the sample will be representative of the
in fact it is effective and fact it is not effective population
can be relied upon and cannot be relied
upon Statistical vs Non-Statistical Sampling
Substantive Risk of Incorrect Risk of Incorrect Statistical Sampling
Test Rejection Acceptance - allows auditor to measure or quantify the sampling risks by using
- material misstatement - material does not mathematical formula
exist when in fact such exist when in fact such
misstatement does not misstatement exist 1. design an efficient sample
exist 2. measure the sufficiency of evidence obtained
Audit Performing more than Performing less than 3. objectively evaluate the sample results
Procedures what is necessary what is necessary
- cannot be obtained without additional cost of
Affects Efficiency Effectiveness
1. training audit staff
2. designing sampling plans
2. Non-sampling Risk
3. selecting items for examination
- risk that auditor may draw incorrect conclusions because of human
errors
Audit Sampling Plans
1. Attributable sampling
- includes all aspects of audit risk that are not due to sampling
2. Variable sampling
 5. Apply the Procedures 6. Evaluate the Sample Results
Attributable Sampling Variable Sampling Sampling for Tests of Controls
- estimate the frequency of - estimate a numerical - appropriate of the control leaves evidence of performance
occurrence of a certain measurement of a population
characteristic in a population Non-sampling procedures (inquiries and observation): controls that
(occurrence rate) leaves no document evidence
- test of controls to estimate - substantive tests to estimate
the rate of deviations from the amount of material Determination of Sample Size
prescribed IC policies or misstatements in the FS 1. Acceptable sampling risk
procedures 2. Tolerable deviation rate
3. Expected deviation rate
Basic Steps in Audit Sampling
Define the Objective Sample Size Acceptable Tolerable Expected
Sampling Risk Deviation Deviation
Determine the Rate Rate
Procedure Small High High Low
Large Low Low High
Select the Sample Size

Select the Sample 1. Acceptable sampling risk

- Sampling risk is inherent in an audit sampling application.
- The size of the sample is affected by the level of sampling risk
Apply the Procedures

2. Tolerable deviation rate

Evaluate the Results
3. Expected deviation rate
1. Define the Objective of the Test
Sample Selection Method
Audit objective
1. Random number selection
- largely determine the audit procedures to be applied
2. Systemic selection
- must define the specific objective of the test before deciding on the
3. Haphazard selection
nature of the audit procedures

2. Determine the Audit Procedure to be Performed Random number Systemic selection Haphazard
- defining the population and the characteristics to be tested. selection selection

3. Determine the Sample Size Matching random Determining a constant Selected without
- must decide how many sampling units to include in the sample numbers, with sampling interval and following an
the population then selects the sample organized or
Statistical Sampling – statistically based formula numbering based on the size of the structured
Non-Statistical Sampling – auditor’s professional judgment system interval technique

4. Select the Sample Population is not Not used for

Problem: method of selecting the sample from the total population structured in such a statistical sampling
manner that the because the auditor
Sample Selection Technique: All items in the population will have an sampling interval cannot measure the
opportunity to be selected. corresponds with a probability of an
particular pattern in the item being selected
5. Apply the Procedures population. when using this
- applies the planned audit procedures to the sample method
Gives each item in Easy to use and the Useful for non-
6. Evaluate the Sample Results the population an population items do not statistical sampling
- sample results must be evaluated to determine whether sufficient equal opportunity have to be pre-
evidence has been obtained to satisfy the audit objective to be selected numbered

Steps Applicable to Both Steps that Applicable Only to

(Audit Sampling and 100% Audit Sampling Voided Documents
examination) - been properly voided, document should be replaced by another
1. Define the Objective of the 3. Determine the Sample Size sample item
Test
2. Determine the Audit 4. Select the Sample Missing Documents
Procedure to be Performed
- unable to determine whether the control has been properly deviation rate and population
performed, item should be treated as a deviation (Direct) variation
Evaluation of Results (Direct)
1. Determine the sample deviation rate. 4. Select the Use any of the ff. Use any of the ff.
Sample techniques: techniques and
 Random Number stratify the
2. Compare the sample deviation rate with the tolerable deviation Selection population, when
rate and draw an overall conclusion about the population.  Systematic appropriate:
Selection  Random
 Haphazard Number
Sample deviation rate > tolerable deviation rate Selection Selection
(applies only to  Systematic
Sample deviation rate < tolerable deviation rate non-statistical Selection
sampling)  Haphazard
a. Sample deviation rate is considerably lower than the tolerable Selection
deviation rate (applies only to
non-statistical
sampling)
b. Sample deviation rate is barely lower than the tolerable  Value Weighted
deviation rate Selection
Non-Statistical Sampling Statistical Sampling 5. Apply the Apply the audit Apply the audit
Procedures procedures to the procedures to the
sample items. sample items.
Other Sampling Applications for Tests of Controls 6. Evaluate the Decide whether the Decide whether to
1. Sequential Sampling Sample Results results supported the accept account
planned degree of balance as fairly
reliance on internal stated or to required
2. Discovery Sampling control. further actions.

Sampling for Substantive Tests

Tests of Control Substantive Tests

1. Define the Specify the controls Specify the purpose
Objective of the procedures to be of the test and its
Test tested. relationship to the
financial statement
assertions.
2. Determine Determine the Determine the
the Audit appropriate audit appropriate audit
Procedure to procedures to be procedures to be
be Performed performed to satisfy performed to satisfy
the objective. the objective.

Define the population Define the

and the conditions population and its
that constitute a characteristics
deviation.
3. Determine Consider the effects Consider the effects
the Sample Size of the ff. factors: of the ff. factors:
 Acceptable  Acceptable
sampling risk sampling risk
(Inverse) (Inverse)
 Tolerable  Tolerable
deviation rate misstatement
(Inverse) (Inverse)
 Expected  Expected
population misstatement