Internal Audit and Audit Evidence

Dosen Pengampu :
SLIDESMANIA.COM

Wilda Farah SE., M.Si., Ak., CPA., CA., BKP.

 Group 1
Sarah Azzahra 11190820000029
Luthvanisa Mahira 11190820000091
Ali Ar Rhido 11190820000093
Nadilla S. 11190820000144

Akuntansi 5C
SLIDESMANIA.COM
 Internal Audit and Audit Evidence

1 Auditor can put trust in internal auditors

2 An audit is defined as the search for sufficient evidence to satisfy the provision of an opinion

3 Example audit considerations based on evidence

4 Reliability of audit evidence (grades of audit evidence)

5 The stages of the audit process and the evidential requirements at each stage
SLIDESMANIA.COM
 1

Auditor can put trust in internal auditors

SLIDESMANIA.COM
 1 2 3 4 5

e i o n
i
Internal auditing is an independent, objective assurance and consulting activity

designed to add value and improve an organization’s operations. It helps an organization

accomplish its objectives by bringing a systematic, disciplined approach to evaluate and improve
the effectiveness of risk management, control, and governance processes.

External Auditing i s a n external audit is an

independent examination of the financial statements prepared by the
organisation.
SLIDESMANIA.COM
 1 2 3 4 5

The aim of statutory auditing is to establish whether financial statements have been drawn up in
compliance with regulatory requirements, some of them legal. Internal auditing, however, although still
concerning itself with compliance auditing, is moving into other fields where it acts as an ‘arm of management’ in
obtaining greater efficiency and effectiveness in all operations of the organization. We shall see later that the
increasingly wide range of work performed by internal auditors has made some commentators suggest that the
internal audit function might play an important role in the way that companies govern themselves.

Because internal audit often directs its attention to the efficacy of internal control systems it may be
regarded by external auditors as an important part of the control system itself. We shall find that external
auditors assess the quality and effectiveness of internal audit work and frequently use the work of internal
auditors in attaining their ends.
SLIDESMANIA.COM
 1 2 3 4 5

Reliance on internal audit by the external auditor

The auditor’s decision as to whether reliance should be placed upon the work of the internal
auditor is a scope decision. An internal audit function lacking independence or with staff of a low level of
competence would represent a weak element in the system of internal control. Less reliance would
therefore be placed upon it. As a general rule the external auditor should audit all material matters in the
financial statements, particularly where there is significant risk of misstatement. This does not mean that no
reliance should be placed on internal audit in these circumstances, providing external auditor involvement is
sufficient to enable them to form conclusions with certainty.
SLIDESMANIA.COM
 1 2 3 4 5

The responsibility of the external auditor when relying upon the work of
internal audit
When auditors rely on other specialists they still have full responsibility for the audit
opinion. Thus, if external auditors decide to rely on the work of internal audit, it does not take
away any responsibility for the audit opinion and it is for the external auditor to judge extent of
reliance on the work of internal audit.

Paragraph 4 of ISA 610 states:

Irrespective of the degree of autonomy and objectivity of the internal audit function,
such function is not independent of the entity as is required of the external auditor when
expressing an opinion on financial statements. The external auditor has sole responsibility for the
audit opinion expressed, and that responsibility is not reduced by the external auditor’s use of the
work of the internal auditors.
SLIDESMANIA.COM
 2

An audit is defined as the search for sufficient evidence

to satisfy the provision of an opinion
SLIDESMANIA.COM
 1 2 3 4 5

This International Standard on Auditing (ISA) explains what constitutes audit evidence in an audit of financial
statements, and deals with the auditor’s responsibility to design and perform audit procedures to obtain sufficient
appropriate audit evidence to be able to draw reasonable conclusions on which
to base the auditor’s opinion.(prgf 1,ISA 500)

Basis for taking audit evidence.

1. Sufficient, appropriate audit evidence has to be obtained to reduce audit risk to an acceptably low level, and thereby
enable the auditor to draw reasonable conclusions on which to base the auditor’s opinion on the financial statements.
2. Audit evidence is not merely collected within the audited entity but also from sources outwith the entity and independent
of it.
SLIDESMANIA.COM

3. Auditors collect audit evidence using a number of different procedures.

 1 2 3 4 5

There are five types of opinions given by auditor after completing the audit process :
1. Unqualified Opinion
2. Unqualified Opinion With Explanatory language
3. Qualified Opinion
4. Adverse Opinion
5. Disclaimer Opinion
“The entire audit process is essentially a search for evidence to accomplish the audit objectives.”
SLIDESMANIA.COM
 3

Example audit considerations based on evidence

SLIDESMANIA.COM
 1 2 3 4 5

Sufficient appropriate audit evidence

1. ‘Sufficient’ means that enough evidence has to be obtained by the auditor to meet audit
objectives, a major factor being the degree of confidence required.

2. ‘Appropriate’ has two elements and means that the evidence is:
- Relevant (the evidence must be pertinent to the matter in hand, to a management
assertion you wish to prove).
- Reliable (the evidence must be trustworthy. You will find, however, that there are many
grades of evidence, some being more reliable or trustworthy than others).
SLIDESMANIA.COM
 1 2 3 4 5

Let us now turn to a financial statements example. Directors are required to state that the
published financial statements prepared by them give a ‘true and fair view’ of what they
purport to show. This is a general assertion by management. In practice auditors break
down this general assertion into a whole series of separate representations or assertions.
To do this, they split the financial statements into components, an example being recorded
trade receivables in the balance sheet. Directors make the implicit assertions that trade
receivables are genuine, accurate and complete. Below are some specific assertions about
trade receivables.
SLIDESMANIA.COM
 1 2 3 4 5

▪ The persons or entities owing the trade receivables exist and have an obligation
to pay the amounts stated in the entity’s trade receivables ledger (this is basically
a genuineness assertion).

In this case relevant evidence could be sales invoices supported by pre-numbered

sales despatch notes and sales orders, combined with controls such as
independent checking of completeness of despatch notes and sales orders. This
would enhance the likelihood that credit sales are not only genuine but have
been accurately and completely recorded. If credit sales are genuine, accurate
and complete, trade receivables should also be genuine, accurate and complete,
assuming that receipts from customers have been properly recorded as well.
SLIDESMANIA.COM
 1 2 3 4 5

▪ Trade receivable balances are fully collectible, and if not, an appropriate

provision for bad and doubtful debts has been made (this is an accuracy
assertion).

Relevant evidence in this case would be very different from that required for the
previous assertion above. The auditor might, for instance, examine trade
receivable ageing statements to see which amounts are significantly overdue.
Another source of relevant evidence might be trade receivable balances exceeding
credit limits, or amounts paid by credit customers since the year-end.
SLIDESMANIA.COM
 1 2 3 4 5

▪ All amounts owed by credit customers are included in the amount

attributed to trade receivables in the financial statements and relate to the
correct period (this is a completeness assertion).

Relevant evidence in this case might include cut-off tests to ensure that sales on
credit are reflected in the right period and to make sure that trade receivables
include all amounts owed at the year-end. Similar tests would be carried out on
cash received from credit customers to ensure that amounts received before the
year-end are deducted from trade receivable balances. You will note that we
also considered completeness of despatch notes in the first assertion also.
SLIDESMANIA.COM
 4

Reliability of audit evidence (grades of audit evidence)

SLIDESMANIA.COM
 1 2 3 4 5

▪ The reliability of audit evidence is increased when it is obtained from independent sources outside
the entity.
▪ The reliability of audit evidence that is generated internally is increased when the related controls,
including those over its preparation and maintenance, imposed by the entity are effective.
▪ Audit evidence obtained directly by the auditor is more reliable than audit evidence obtained
indirectly or by inference.
▪ Audit evidence in documentary form, whether paper, electronic, or other medium, is more reliable
than evidence obtained orally.
SLIDESMANIA.COM
 1 2 3 4 5

▪ Audit evidence provided by original documents is more reliable than audit evidence provided by photocopies or
facsimiles, or documents that have been filmed, digitized or otherwise transformed into electronic form, the
reliability of which may depend on the controls over their preparation and maintenance
▪ Evidence created in the normal course of business is better than evidence specially created to satisfy the auditor
▪ The best-informed source of audit evidence will normally be management of the company but management’s
lack of independence reduces its value as a source of such evidence
▪ Evidence about the future is particularly difficult to obtain and is less reliable than evidence about past events
▪ Evidence may be upgraded by the skilful use of corroborative evidence
SLIDESMANIA.COM
 5

The stages of the audit process and the evidential

requirements at each stage
SLIDESMANIA.COM
 1 2 3 4 5

Preliminary Stages
1. Considering engagement risk and establishing the terms of reference
Evidence-gathering process : Initial view of organization

2. Study of the business in its external environment, initial view of business/inherent risk
Evidence-gathering process : Gathering information about industrial/commercial sector and organization's position within it.
Obtaining view of business/ inherent risks and external factors.

3. Study of the control environment of the organization, continuing assessment of inherent risk, first assessment of control risk
Evidence-gathering process : Information on background and qualifications of key personnel/ basic power structure and control
environment, management response to environmental challenges; first analytical review

4. Planning the audit process on a global basis, risk analysis (Planning feedback)
Evidence-gathering process : determines how the subsequent evidence gathering will be carried out, identifies risk areas
SLIDESMANIA.COM

5. Issue preliminary report to management

Evidence-gathering process : It is at this stage that the auditor identifies matters that might affect evidence-gathering and audit reporting
 1 2 3 4 5

System Work
6. Establish objectives of individual accounting and control systems
Evidence-gathering process : Linked to planning Stage 4, but more detailed. Evidence-gathering is streamlined as
carried out in the context of specific objectives

7. Record accounting and control systems in use and features of the control environment
Evidence-gathering process : Discussions with client staff, walk-through tests, use of ICQs to determine system and
narrative description, ICQs and flowcharts to record in working papers

8. Confirm that accounting and control systems in use are operating as recorded
Evidence-gathering process : Tests of control (cradle to grave, block tests, etc) to confirm auditor has understood
systems and has recorded accurately. Tests effectiveness of systems

9. Evaluation of the system in use, forming conclusions and deciding on level of control risk
SLIDESMANIA.COM

Evidence-gathering process : Review of systems notes and flowcharts, ICQ and ICEQ and tests conducted in 8 to form
conclusions on the effectiveness of systems and extent of control risk
 1 2 3 4 5

Transaction Testing

10. Determine scope of examination of transactions processed by the system (ineffective or effective)
Evidence-gathering process : The auditor decides how much evidence should be collected (whatever system in
use) to be satisfied that transactions are properly processed.

11. If at stage 10 the accounting system and control system determined :

Ineffective : Extended substantive tests on transactions at interim
Effective : Limited substantive tests on transactions at interim
Evidence-gathering process : At this stage the auditor controls the evidence search by means of an audit
programme made to the situation of the organization
SLIDESMANIA.COM
 1 2 3 4 5

Transaction Testing

12. Conclude on the likelihood that transactions are properly recorded

Evidence-gathering process : The conclusions formed by the auditor must be supported in each case by
carefully evaluated evidence that transactions are completely and accurately
recorded

13. Issue report to those charged with governance on accounting and internal control systems and other matters
Evidence-gathering process : The auditor summarizes evidence on systems and other aspects seen to be of
interest to management etc. and sends a formal report of comments and
recommendations
SLIDESMANIA.COM
 1 2 3 4 5

Preparation For Final Work

14. Prepare for final examination of figures in the financial statements

Evidence-gathering process : At this pre-final examination stage the auditor plans for the
final examination using all the evidence collected to date,
knowledge of problem areas and special matters. Audit
objectives are reassessed
SLIDESMANIA.COM
 1 2 3 4 5

Final Work

15. Carry out year-end procedures

Evidence-gathering process : Some parts of the evidence search are performed at the balance sheet
date or just before. Examples are inventory-count observations and bank
confirmations

16. Carry out analytical review of accounts

Evidence-gathering process : The analytical review is an important element of evidence gathering at all
stages of the audit but is particularly valuable for setting the scene for
final work on year-end accounts
SLIDESMANIA.COM
 1 2 3 4 5

Final Work
17. Carry out verification tests of figures in accounts, see stage 11
Ineffective : Extended substantive tests on figures at final
Effective : Limited substantive tests on figures at final
Evidence-gathering process : This includes year-end circularizations, cut-off tests, verification of assets and
liabilities and generally to confirm the true and fair view

18. Review the total evidence collected and summarize results

Evidence-gathering process : At this stage (as at 11) the auditor controls the evidence search by means of an audit
programme made to the situation of the organization
19. Conclude on total evidence and issue audit report
SLIDESMANIA.COM

Evidence-gathering process : At this stage use analytical procedures to form view on accounts taken as a whole
 Source
▪ Iain Gray and Stuart Manson. The Audit Process: Principles, Practice, and Cases. Chapter 6, 5th Edition
▪ Iain Gray and Stuart Manson. The Audit Process: Principles, Practice, and Cases. Chapter 15, 5th Edition
▪ International Standard of Auditing (ISA) 500
▪ International Standard of Auditing (ISA) 610
SLIDESMANIA.COM
thank
you
SLIDESMANIA.COM