GUIDELINES IN AUDITING THEORY

TOOLS USED IN GATHERING AUDIT EVIDENCE

1. Sample should be planned to be representative of the population because the sample results
will be projected to the population as a whole to draw a conclusion about the population.

2. An auditor who applies statistical sampling uses tables or formulas to compute sample size,
while an auditor who applies nonstatistical sampling uses only professional judgment.
Ordinarily, the nonstatistical sample size should not be smaller than the sample size resulting
from an efficient and effectively designed statistical sample.

3. Both statistical and nonstatistical sampling when properly used can provide sufficient evidence
for auditor conclusions. Statistical sampling allows the auditor to precisely control the risk of
making an incorrect inference about the population from which the sample is taken, whereas
nonstatistical sampling does not allow such control.

4. Auditor must consider the nature of control failures or misstatements detected in the sample,
project the sample findings to the population, and conclude on the overall population. Even if
nonstatistical sampling is used, the auditor is required to project sample results to the overall
population as an aid in determining if material misstatements exist.

5. Setting sampling risk at 5% is akin to sampling with a 95% confidence level.

6. Significant controls are those whose failure could lead to a material misstatement in an
account balance.

7. Control failures do not automatically lead to account misstatements. The auditor must consider
the likely effect of the control failure on an account misstatement and the likelihood that
numerous failures could allow material misstatements to occur.

8. Just because a control failure did not lead to a material misstatement or an incorrect
transaction does not mean that the failure is unimportant. Instead, the auditor should consider the
potential for a misstatement; for example, the marketing manager overriding the credit manager
creates an opportunity for fraud.

9. Audit software can be used by the auditor to analyze a file and develop a printout of every
customer who has a balance in excess of their credit limit.

10. Consider a situation in which the auditor identities the following control as an important
control: a policy that prevents the payment of a vendors invoice until it is matched to and agreed
to the purchase order and receiving record. To determine if the control is working, the auditor
selects a sample of cash disbursement transactions and for that sample examines evidence that
accounts payable personnel have matched the three documents before submitting a request for
payment.

11. We tend to treat internal control testing as if there were no knowledge of controls from
previous years or that the systems have changed. However, in many cases, auditors have such
knowledge and the systems do not change dramatically. Auditors often consider the
accumulation of total knowledge in making assumptions about sample sizes.

12. Large samples will usually result in better estimates about the population than smaller
samples, but will take more time to select and evaluate the audit evidence, thus resulting in
higher cost for the audit.

13. Samples selected randomly are more likely to be representative of the population than a
nonrandom selection, which is often subject to unintended biases.

14. Audit software can be used by the auditor to select a random or a systematic sample.
15. Block sampling, in which a block of all transactions that occurred for a period of time both
before and after year end, is very useful in performing year-end cutoff tests.

16. The auditor should consider whether the reasons for missing items have implications in
relation to assessing risks of material misstatement due to fraud, the assessed level of control
risk, or the degree of reliance on management representations.

17. Statistically selected samples should be evaluated using statistical evaluation tables or audit
software. Judgmentally, selected samples can be evaluated by auditor judgment.

18. If the upper error limit in the appropriate table exceeds the tolerable error rate first set by the
auditor, then the auditors work does not support the original control assessment and control risk
must be increased. The remainder of the audit needs to be adjusted accordingly.

19. Many accounting firms use a defined sample size, such as 30 or 40, to randomly select
sample items. However, if a control failure is found, the auditor concludes the control is not
working at a level that would allow the auditor to conclude that a significant deficiency does not
exist.

20. Auditing standards, for example, SAS 111, indicate that the sample size for a nonstatistical
sample should be consistent with a statistically determined sample size.

21. The auditor will likely use a combination of sampling and other audit procedures to test
account balances. For example, in testing the valuation assertion regarding inventory, the auditor
may take a sample of inventory items to test inventory cost but will use substantive analytical
procedures, such as turnover analysis and aging, to help analyze the possibility of obsolete
inventory. Sample results are combined with other audit results in making a judgment about the
correctness of the account balance.

22. The objective of the audit test always relates to one or more of the assertions about the
underlying account balance.

23. The auditor should take care to help ensure that the sampling population is complete and
appropriate to the audit objective.

24. Population involving the testing of the existence assertion are generally easy to define
because they include all recorded transactions. On the other hand, populations involving the
completeness assertion are more difficult to define because some of those transactions may not
yet be recorded.

25. Variations of Monetary Limit Sampling (MUS) sampling are known as dollar-unit sampling,
cumulative monetary amounts (CMA) sampling, and combined attributes/variables sampling.

26. Tolerable misstatement is related to materiality how much of a misstatement can occur
before the auditor gets concerned.

27. When the misstatement from sampling is greater than tolerable misstatement, the results
indicate an unacceptably high likelihood that the account is materially misstated.

28. Many firms provide their auditors with automated templates to use in completing and
documenting the sampling steps.

29. Random sampling can be used even if the auditor does not plan on using statistical sampling.

30. If auditors are performing other substantive audit procedures, the detection risk for audit
sampling may be reduced further due to evidence gathered from the other procedures.

31. If there are a significant number of negative items in the account balance, the auditor should
investigate to find out why they are there and treat the negative items as a separate population for
audit purposes.
32. Note that a 15% detection risk does not mean that the auditor is accepting a 15% probability
that all audit tests on the account balance might be in error. When using a 15% detection risk, the
auditor is planning to use other information to formulate a final opinion about the correctness of
the account balance.

33. The absence of monetary misstatements in a sample does not, by itself, justify a conclusion
that the related controls are effective. However, the presence of monetary misstatements should
be considered by the auditor as possible indication of a control failure.

34. The percentage misstatement is always calculated as a percentage of book value. Thus, an
account balance of $150 that is overstated by $50 contains a misstatement (tainting) percentage
of 33%.

35. Misstatements occurring in top stratum where all the population items are examined have no
allowance for sampling risk associated with them. Sampling risk exists only when sampling
takes place.

36. The errors are always rank-ordered from highest to lowest in computing the incremental
allowance for sampling error.

37. There is a tendency to focus on most likely error rather than upper misstatement limit
(UML). Remember, it is the UML that is important because the auditor wants to control the
statistical likelihood that errors of more than that amount could be occurring. When UML is
higher than tolerable misstatement, the auditor should do additional audit work.

38. The auditor can always choose to evaluate understatements as a separate audit objective.

39. There should never be an argument from the client about correcting the known misstatements
from either the top stratum of the lower stratum because those misstatements are known with
certainty.

40. Information on the quality of internal controls is often derived from substantive tests of
account balances.

41. GAS is a specific type of computer-assisted audit tools and techniques, often referred to as
CAATTs.

42. The ability of GAS to search for unusual transactions or anomalies in data, or patterns of
data, makes it especially useful in identifying potential fraudulent data.

43. GAS can be useful in testing internal controls that are part of a clients information system.

44. GAS is useful in identifying situations where internal controls have been overridden or may
not be functioning properly. The data obtained complements the auditors testing of controls and
formulates part of the evidence used in making a judgment on the adequacy of the clients
internal controls over financial reporting.

45. Although it is beyond the scope of this text, virtually all power users of GAS utilize
Benfords law and supporting GAS modules to analyze accounts where fraud is likely to occur
most prominently in the receivables, payroll, and payables areas.

46. In higher-risk areas, auditors are less likely to rely on substantive analytical procedures in
place of test of details than in lower risk areas.

47. Relying primarily on prior year account balances to form expectations considers only a
narrow range of information and does not consider changes in the clients business and industry.

48. In developing expectations, the auditor should consider whether there have been changes in
fundamental economic conditions and how those changes might affect client balances and ratios.
49. Information obtained during the planning of the audit should be used to develop expectations
for substantive analytical procedures. This information includes an understanding of the clients
strategies, business processes, and how the client creates value and generates cash.

50. A significant unexpected difference between the auditors expectation and the clients
recorded balanced indicates an increased likelihood of misstatement. In evaluating such a
difference, the auditor may consider managements responses to the auditors inquiries about
why the difference may exist; but the auditor ordinarily should obtain other evidence to
corroborate and quantify the information provided by management.

51. To improve professional skepticism in evaluating client explanations for significant

differences identified as part of substantive analytical procedures, it is helpful for the auditor to
develop potential explanations before inquiring of the client. Research has shown that once a
clients explanation has been received it may be difficult for the auditor to identify other
explanations.

52. Substantive analytical procedures are designed to provide independent evidence about
account balances-not to replace the clients underlying estimation process.