Chapter

(
EvectedLearning Outcomes
After studying this chapter, you should be able to:

I. Describe substantive procedures and the related risks in applying

substantive tests.
2. Understand the variables sampling plan techniques.

3. Describe the steps in variable sampling for substantive tests.

4. Use variables sampling plan (particularly the

ProbabilityProportional-to-Size Sampling) for substantive tests.
5. Understand the application of classical variables sampling plan
using the various classical variables sampling
methods.
CHAPTER 17
AUDIT SAMPLING FOR SUBSTANTIVE TESTs
SUBSTANTIVE PROCEDURES

Substantive procedures are concerned with amounts and are of Cyyo types:
analytical procedures and tests of details of transactions and balances. The purpose
of substantive procedures is to obtain audit evidence to detect material
misstatements in the financial statements. When performing substantive tests of
details, audit sampling and other means of selecting items for testing and gathering
audit evidence may be used to verify one or more assertions about a financial
statement amount (for example, the existence of accounts receivable), or to make
an independent estimate of some amount (for example, the value of obsolete
inventories).
 Statistical sampling techniques that auditors use in performing substantive tests
require testing a hypothesis. In making a hypothesis test; an auditor estimates the
account balance using sampling techniques, and in omparing the estimated amount
to a financial statement amount, determines whether the difference between the
estimated amount and the recorded amount allows the auditor to accept the recorded
amount as fairly stated. To reach that conclusion, the auditor will consider not only
tolerable misstatemént or. materiality for a particular account but also the risks
inherent in sampling.

RISKS IN SUBSTANTIVE TESTS

When performing substantive tests, auditors encounter nonsampling risk and

sampling risk. Nonsampling risk is the risk that arises from it
cannot be quantitatively measured. Adequate supervision, proper review of
audit working papers and adherence to quality control standards can all reduce
nonsampling risk.

Sampling risk can be measured quantitatively and when performing

substantive tests, an auditor encounters two types of sampling risk:

• The risk ofincohrect rejection (sometimes called alphamiSk) is the risk

that a sample supports the conclusion that a recorded balance' is
materially misstated when it is not. This risk relates to efficiency
because when an auditor concludes that an account balance is misstated,
the
Audit Samplingfor Substantive Tests
437 auditor and/or the client generally perform additional procedures
when in fact, it is not necessary.
The *isk ofincorrect acceptanöe (also called[beta risk) is the
risk that a sample supports the conclusion that a recorded
account balance is not materially misstated when the account is actually
materially misstated. This risk relates to audit gfectiyene». because an
auditor who accepts a client's account balance that is
materially misstated may express an unqualified opinion on
financial statements that do not warrant such an opinion.

Variables samplingplan techniques are:

I. Probability-proportional-to-size sampling technique, and
2. Classical variables sampling technique.

C PROBABILITY-PROPORTIONALLTO-SIZE SAMPLING (PPS)

 PPS sampling is a sampling technique auditors use to estimate the maximum
amount of overstatement of a recorded amount with measurable level Of risk of
making a decision.errors

PPS sampling sometimes referred to as peso-unitnmpling (PU) or

cumulativemonetary-amountsamplipg (CMA) uses attribute sampling theory.

PPS sampling gets its name from the fact that the probability of an item's being
selected for inclusion in the sample is equal to its size in proportion to the size of the
whole population. For example, the probability of selecting a PI 50,000 account for
the sample is 100 times the probability of selecting a P 1,500 account from the same

population.
The general approach to PPS sampling presented in this text includes the
assumption that the audited amount of an item should not be less than. zero or
greater than the recorded amount. When the auditor anticipates understatements or
situations in which the audited item will be less than zero, he or she should pmploy a
specialized approach that is beyond the scope of this text. Practically, auditors may
use the approach presented in this text when auditing accounts receivable by
separating credit and zero-balance accounts.
 438 Chapter 17
PPS sampling techniques provide an auditor with an estimate of the maximum
amount of overstatement of a recorded amount with measurable levels of risk of
incorrect acceptance. The auditor may use PPS sampling to conclude that an
account balance is fairly stated when the maximum overstatement is less than
the tolerable misstatement.

Advantages and Disadvantages Of PPS Sampling

PPS sampling has several

It increases the likelihood of including high peso-value items in the
sample.
PPS allows auditors to compute the sample size and evaluate the results
by hand or by means of tables.
PPS sampling is easy to use.

PPS sampling enables the auditor to state conclusion in a peso

amount.

Some disadvqp!gggs of PPS sampling are:

The assumption of PPS sampling that the audited value of a sampling
unit is neither less than zero nor greater than the book value may not be
consistent with the auditor's objective.
Negative balarice or zero balances cannot be audited using PPS
sampling.
When misstatements are found using PPS sampling, the upper misstatement
limit may be too high to be useful.

CLASSICAL VARIABLES SAMPLING

Classical variables sampling models user normal distribution theory to evaluate

selected ,characteristics of a population on the basis. of a samplw of,items
constituting the population.

For any normal distribution, the following fixed relationships exist concerning
the area under the curve and the distance from the mean in standard deviations• This
table assumes a two-trailed approach which is appropriate since classic al variables
sampling models generally test for both overstatement and understatement.
 Sampling

Distance in Standards Deviation

(Reliability Area Under the Curre coetlieient) (Reliability level)

1.00
68%
.64
90%
1.96 950/6
2.00
2.70 95.5%
99%
the mean 250

Example where

10 240 250 260 270

For large samples (greater than or equal to 30) the distribution oc stunple Incans
tends•to be normally distributed about its own mean which is eåual to the true
population mean, even if the population is not normally distributed (Central Limit
Theorem). Since many populations sampled in auditing are nol
normally distributed, this is important.

The standardtdeviation in the above model measures the„dispersion amongvthe

the

populati
on
(J) Meat—per—unit estimation is a classical variables salnpling technique that
projects the sample average to the total population by multiplying the sample.
average by the number of items in the population.
(a) Determine audit values for each sample item.
 440 Chapter 17

(b) Calculate the average audit amount.

(c) Multiply this average audit amount times the number of units in the
population to obtain the estimated population value.
(2) Difference estimation is a classical variables sampling technique that uses
the average difference between audited amounts and individual
amounts to estimate the total audited amount of a population and an
allowance for sampling risk.
(a) Determine audit values for each sample item.
(b) Calculate the difference between the audit value and book value for
each sample item.
(c) Calculate the average difference.
(d) Determine the estimated population value by multiplying the average
difference by the total population units and adding or subtracting this
value from the recorded book value.

(3) Ratio estimation is a classical variables sampling technique that uses the
ratio of audited amounts to recorded amounts in the sample to estimate the
total peso amount of the population and an allowance for sampling risk.
(a) Determine audit values for each sample item.
(b) Calculate the ratio between the sum of sample audit values and sample
book values.
(c) Determine the estimated population value by multiplying the total
population book value times this ratio.

(4) The regression approach is similar to the difference and ratio approaches.
This approach has the effect of using both the average ratio and the average

difference in calculating an estimate of the total amount for the population.

(5) Difference and ratio estimation are used as alternatives to mean-per-unit

estimation. The auditor should use these approaches when applicable
because they require a smaller sample size (I.e., they are more efficient than
meanper-unit estimation).
 Sampling

(a) One factor in the calculation of sample size for classical variables
sampling models is the estimated standard deviation. If the standard
deviation Of differences or ratios is smaller than the standard
deviation Of audit values, these two methods will produce a smaller
sample size.
(I) Difference estimation will be used if the differences between sampl e
audit values and book values are a relatively constant peso amoun t'
regardless of account size.
(2) Ratio estimation will be used if the differences are a consta nt
percentage of book values.
 442 Chapter 17

(b) In order to use either difference or ratio estimation, the following

constraints must be met:
(l) The individual book values must be known and must sum to the total

book value.
(2) There must be more than a few differences (20 is often suggested as
a minimum) between audit and book values.

(c) These two methods will usually be more efficient than mean-per-
unit estimation when stratification of the population is not
possible.

(6) Stratification separates a population ;nto relatively homogeneous

groups•to reduce the sample size by minimizing the effect of
variation or items (i.e., the standard deviation) in the population.
(a) Although stratification may be applied with any of the classical
methods, it is most frequently used with the mean—per—unit
estimation method.
(b) Know that the primary objective of stratification is to decrease thé
effect of variance in the total population and thereby reduce
sample size.

IN VARIABLES SAMPLING FOR SUBSTANTIVE TESTS

l. Determine the objective(s) of the test.
2. Define population and sampling unit.
3. Determine the initial sample size.
4. Using random sampling techniques to identify the actual items to audit.
5. Audit the selected items and identify misstatements.
6. Evaluate the sample results.
7. Document the sampling procedure.

APPLICATION OF THE STEPS IN VARIABLES SAMPLING PLAN

USING PPS TECHNIQUE FOR SUBSTANTIVE TESTS

Slep-l,. Determine the objective(s) ofthe test or PPS sampling.

 Audit Samplingfor Substantive Tests 443
Auditors typically use PPS sampling to obtain eyidence that an account
balance is not materially misstated.

The objective of the sampling technique must relate to the auditing

procedure being performed. For example, a sampling plan applied to
substantive tests of details is designed either:

(l) to estimate an account balance that is not recorded within an

entity's accounts (called peso-value estimation).
(2) to test the reasonableness of a recorded account balance (called
hypothesis testing).

Once an objective is staged the auditor must then identify the

characteristics of interest. For instance, if the auditor's objective is to
determine whether an account is fairly stated, the characteristics might be
defined as monetary error, that is, monetary difference between recorded
and audited peso amount.

To illustrate PPS sampling, we shall use a running example of the

Tripoli Corporation Case involving the audit of Accounts Receivable.
Tripoli Corporation Case

Mark Cruz, a senior auditor of Cabrera & Associates, CPAs has been assigned
the responsibility of auditing trade accounts receivable as of December 31, 20X4
which amount to and consisting of 400 accounts. The controls
relating to the existence of Tripoli's trade accounts receivable during November,
20X4 have been tested by Mark. After reviewing the work, the audit manager
agreed with Mark's assessment that assessing control risk at 80% was
appropriate. The manager also indicated that planned audit risk should be limited
to 5%, inherent risk should be assessed to be 100% and the risk that analytical
procedures will not detect material misstatements should be assessed to be 60%.
The manager decided that P50,000 should be used as tolerable misstatement for
purposes of confirming accounts receivable. During last years audit, the auditors
found misstatements amounting to P5,OOO, which the manager suggests should
also be used this year as an estimate of misstatement for purposes of determining
sample size. A review of the listing of accounts indicates that it includes no
accounts that have credit balances or zero balances.

Ste 2. Definepopulation and sampling unit.

An auditpopulatiQ,'1 consists of all: the items constituting an accoun t

balance, or class of transaction and should be defined by the auditods
 444 Chapter 17
characteristic of interest, since sample results can be generated only to
the population from which a sample is selected. For example, wh en
auditing accounts receivable, the auditor may decide to treat all acccu ntS
a; a population or to treat debit-balance, credit balance and zero-bala nCe
accounts as individual populations. Auditors generally should treat
7,cro-

balance and credit-balance accounts separately because they cannot be audited

effectively with PPS sampling.

The sampling.unit is anyworthe individual elements population or in

PPS sampling, the sampling is the individual pep. For example, the population
is composed of sampling units equal to the number of pesos in accounts
receivable rather than the number of customer accounts. Although the peso is
the sampling unit, each peso selected is associated with an account or
transaction, which is referred to as the logical—sampling—unit. Therefore,
when an auditor selects a particular peso in an account or transaction, the

auditor selects the whole

account or transaction.

When planning the audit, auditors determine the logical sampling unit; based on
the audit objective. For example, the logical sampling unit for accounts
receivable may be either account balances or outstanding invoices comprising
the account balance.
For Tripoli Corporation, the population is all 400 customer accounts with debit
balance, and the recorded book value of the accounts is PI The audit manager
decided that customers' accounts rather than individual invoices are to be
confirmed. Accounts receivable has 1,200,000 sampling ünits and 400 logical

sam lin units.

Determine the initial sample size.

In determining the sample• size, the auditor should consider whether sampling risk is
reduced to an acceptably low , level. Sample size is affectedbythe.level orsampling
risk that theauditorisNilIing to:acccpt. The lower the risk the auditoris willing to
accept, the greater thesample size will need to be;
 Audit Samplingfor Substantive Tests 445
The sample size can be determined by the application of a statisticallybased
formula or through the •exercise of professional judgment objectively applied to the
circumstances.

The following are factors that the auditor considers when determining the sample
size for tests of details. These factors need to be considered together.

EFFECT ON
SAMPLE
FACTOR SIZE
An increase in Increase The higher the auditor's assessment of the risk
the auditor's of material misstatement, the larger the sample
assessment of size needs to be. The auditor's assessment of
the risk of the risk of material misstatement is affected by
material inherent risk and control risk. For example, if
the auditor does not perform tests of controls,
misstatement
the auditor's risk assessment cannot be reduced
for the effective operation of internal controls
with respect to the particular assertion.
Therefore, in order to reduce audit risk to an
acceptably low level, the auditor needs a low
detection risk and will rely more on
substantive procedures. The more audit
evidence that is obtained from tests of details
(that is, the lower the detection risk), the larger
the sample size will need to be.

An increase in Decrease The more the auditor is relying on other

the use of other substantive procedures (lests of detai!s or
substantive substantive analytical procedures) to reduce to
procedures an acceptable level the detection risk
directed at the regarding a particular population, the less
same assertion assurance the audit0{ will require from
sampling and, therefore, the sma!ler the sam
le size can be
446 Chapter 17

An increase in the Increase The greater the level of assurance that

auditors desired theauditor requires that the results of the
level of assurance sample are in fact indicative of the actual
that tolerable amount of misstatement in the population, the
misstatement is not larger the sample size needs to be.
exceeded by actual
misstatement in the
ulation

An increase in Decrease The lower the tolerable misstatement, the

tolerable larger the sample size needs to be
misstatement

An increase in Increase
the amount of The greater the amount of misstatement he
misstatement the auditor expects to find in he population, the
auditor expects larger the sample size needs to be in order to
to find in the make a reasonable estimate of the actual
populafion amount of misstatement in the population.
Factors relevant to the auditors consideration
of the expected misstatement amount indude
the extent to whidl item values are determined
subjectively, tie results of risk assessment
procedures, tie results of tests of control. tie
results of audit procedures applied in prior
periods, and the results of other substantive
ures.
When there is a wide range (variability) in
monetary size of items in the population, it
may be useful to stratify the population.
When a population, can be appropriately
stratified. the aggregate of the sample sizes
from the strata generally will be less than the
sample size that would have been required to
attain a given level of sampling risk, had one
sample been drawn from the whole ulation.
The number of Negligible For large populations, the actual size of the
sampling units effect population has litde, if any, effect on sample
in the size. Thus, for small populations, audit
population sampling is often not as effcient as altemative
means of obtaining suficient appropriate
audit evidence. (However, YW1en using
monetary unit sampling, an increase in the
monetary value cf the population increases
sample size, unless this is offset by a
proportional increase in materiality for the
financial statements as a whole (and; if
applicable, materiality level or levels for
 Audit Samplingfor Substantive Tests 447
particular classes of transactions. account
balances or disdosures.

The initial sample size for a PPS sample may be determined by using the
following equation:
Reliability factor for
risk of
Sample size Book Valuex(BY) overstatement (RF)

Tolerable Anticipated x Expansion factor Misstatement

Misstatement for anticipated
(TM) (AM) misstatement (EF)

BV: This is the recorded book value of the population being tested.

RF: This is determined using a table from the "AICPA Accounting and Audit
Guide: Audit Sampling," 1983 p. 1 17, for the level of risk of incorrect
acceptance and the equation to determine the factor for the risk the
'auditor is willing to accept. The formula is:

Risk of
Audit Risk (AR)
Incorrect
Inherent
Acceptance Risk x Control Risk x Analytical
(TD) (IR) Procedures Risk
 448 Chapter 17
For Tripoli Corporation, using a 5% overall audit risk, inherent risk of 100%,
control risk of 80%, and risk of analytical procedures not detecting a misstatement
of 60%. TD or risk of incorrect acceptance is computed as follows:

0.104

In this case, TD or the risk of incorrect acceptance, is rounded to 10%.

Referring to the Table for PPS sampling: Reliability Factors for Overstatement
(1983 AICPA Accounting and Audit Guide: Audit Sampling), the
following can be discemed:
PPS Sampling: Reliability Factors for Overstatements (Partial)

5% 15% -200/0
Reliabili Factor 3.To 2.31 1.90 1.61
1.39

TM: Tolerable misstatement is an auditor's planned level of materiality for an

account balance or class of transaction.

For Tripoli Corporation's trade accounts receivable, the auditor specified tolerable
misstatement for accounts receivable to be P50,000.

AM: Anticipated or Expected Misstatement is the auditor's preliminary

estimate of the amount of misstatement contained in the population. It is
usually based on the auditor's past experience with and knowledge of
the client.
The anticipated or expected misstatement of P5,000 for Tripoli Corporation Las
beens ifiedb the auditor.
EF: Expansion factor is used only when the auditor anticipates finding
misstatements in the sample. This is obtainable from -the 1983 AICPA
Accounting and Audit Guide: Audit Sampling, Table for
Expansion Factors for Anticipated Misstatements

PPS Sampling: Expansion Factors for Anticipated Misstatements

 Audit Samplingfor Substantive Tests 449
Risk of
Incorrect
1.6 1.5
Acceptance
15%
Ex ansion Factor 1.4 1.3 1.25
For Tripoli Corporation, the expansion factor for anticipated misstated is 1.5
because the risk of incorrect acceptance is specified to be 10%.

Corporation, the For

Tripoli required sample size for the audit of accounts receivable

A change in any of the component of the sample size equation. ',vhile the
others held constant, will have the following effect on sample size:

Sample size will increase if a low risk of incorrect acceptance is

specified because the value of the numerator in the formula will
increase (reliability factor is greater) and the value of the denominator
will decrease (expansion factor is larger). Although the relationship
between anticipated misstatement and sample size is direct, the
relationship between the risk of incorrect rejection and sample size is
inverse because the factor values increase as the risk of incorrect
acceptance declines.

Scep4Select the sample.

Systematic sampling Wilh a sampling interval or random sampling to
select the items to audit may be employed when using PPS sampling.
 450 Chapter 17
Systematic sampling means that an auditor selects every n item for
inclusion in the population. The sampling interval (Sl) is determined
using the equation:

Sampling Book value of population (BV)

Interval (Sl) Sample Size (n)
If systematic sampling is used by the auditor for Tripoli Corporation, the
sampling intervd is 18,462 computed as follows:

PI200,000 65

A schedule of the customer's accounts (logical sampling units) with

cumulative peso totals is then prepared. Although there are computer
softwares available for preparing such schedules, some auditors prepare
them manually. To determine the starting point for sampling, many auditors
use a random number table, with the starting point being less than
or equal to sample interval.

For Tripoli Corporation, the following data are available for accounts receivable:
Customer Account Number Recorded
(Logical Sampling Unit) Cumulative Peso
Account Peso Total Selected
501 Balance
P260 P260
512
4242 4502
515
394 4896
521
4155 9051 P4916
526 274 7325
528 14419 23744 23378
537 178 23922
540 37179 61101 41840
545 20 61121
1044 1249 1,198,394
1247 1607
(partial)
 Audit Samplingfor Substantive Tests 451

Assuming that the auditor selects 4916 with a blind stab, the first item in the
sample is the account balance containing a cumulative total 4916 or account no.
521. The second item in the sample is account no. 528 because it includes
23,378 (the first item — 4916 plus the sampling interval - 8462). The third item
would be customer account no. 540. Account no. 540 will be included in the
sample regardless of where the account is located in the sequence of accounts
because the recorded account balance exceeds the sampling interval. All
accounts with balances that exceed the sampling interval will be included in the
sample. However,• although account no. 540 balance is twice the sampling
interval, the account will be counted only once in evaluating the results. The
selection rocess would continue until alll ical units have been identified.

Sugp_g Audit the items in the PPS sample.

The auditor now performs the åudit procedures he/she deems to be appropriate
in the circumstances. If the audit procedure involves confirming accounts
receivable, the auditor performs all procedures involved in confirming accoUnts
receivable, including following up requests for which no response was received.
The auditor then accumulates infortnation about the -recorded book value and •
audited value for each item selected för audit.

Figure 17-1 Substantive Test Risk Matrix

 452 Chapter 17

The auditor of Tri li Co oration would confirm account balances.

Steps Evaluate the PPS sample results.

The procedure for evalupting results depends on whether
overstatement errors are found in the sample.

If no errors are found in the sample, then the projected misstatement

is zero, and the allowance for sampling risk is no more than tolerable error.
Therefore the upper misstatement limit is less than or equal to tolerable error
that might make the auditor to. conclude that the recorded book value
in the population is not overstated by more than tolerable error at a
specified risk of incorrect acceptance.

If overstatement errors are found where recorded book value exceeds

the audited value, the auditor computes the projected
misstatement on projected population errors and the allowance for
sampl ing risk.

To evaluate the results of a PPS sample, the auditor estimates the

upper misstatement limit or upper error limit which is the total of the
projected risk in the sample and the allowance for sampling risk. The
equation to
compute for upper misstatement limit is:
Audit Samplingfor Substantive Tests 453

Risk

Incremental
Allowance
454 Chapter 17
Sam ling
projected misstatement is the auditor's best estimate of the amount of
misstatement in the population. To compute the projected misstatement, the
auditor may follow this guideline:

For logical sampling units less than the sampling interval:

x
Tainting Percentage

Sampling
Projected Misstatement
Book Value Interval for each audited item
For logical sampling units greater than or equal to the sampling interval:

Projected
Book Value — Audited Value Misstatement

For each audited

The projected misstatement equals the sum of the individual misstatements.

For Tripoli Corporation, three errors were found. Customer accounts 545 and 597
have book values less than the sampling interval and customer account 613 is
larger than the sampling unit. To compute the projected •misstatement, the
following ana!ysis is made:

(a)
 Audil for Substantive Tests 455
Tainting Projected
Account Book Audited Difference Percentage Sampling Misstatement
Number y.alue Value GUI)) Interval

Logical sampling units < Sampling interval

545 P 20 P 18 P18462 P1846
597 2000 1900 100 5% 18462 923
P2769
Logical sampling units Sampling interval
613 18929 18465 197 197
Projected misstatement

The total •ected misstatement is P

Allowance for Sampling Risk. In PPS sampling, this is the sum of basic
precision and an incremental allowance for sampling risk. Basic precision is
a measure of the closeness Of the {estimate Of projected misstatement to
the population misstatement. To compute the basic precision, the following
is done:
Sampling x Reliability factor for risk of
Interval incorrect acceptance

For Tripoli Corporation, basic precision is computed as follows:

Basic Precision Sampling x Reliability factor for

Interval (Sl) incorrect acceptable (RF)

18,462 x 2.31

The reliabil factoris obtained from the table on the next a e.

Reliabilityfactorfor risk ofincorrect acceptance can be obtained from a
table, on page 117 of the 1983 AICPA Accounting and Audit Guide: Audit
Sampling.
456 Chapter 17
Incrementål allowance for sampling risk is an allowance in PPS sampling
to incorporate risk arising from not auditing the entire sampling interval. It
is computed by

i. Ranking in descending order the projected misstatements for logical

sampling units less than the sampling interval,
2. Multiplying the ranked projected misstatements by the incremental
change•in reliability factor, and

3. Subtracting the projected misstatement for the logical units that are
smaller than the sampling interval.
Sampling
 Audil for Substantive Tests 457
y Factors for Overstatements
and Audit Guide: Audit Sampling)
Risk of Incorrect A nce

3.00 2.31 1.90 1.61

4.75 3.89 3.38 3.00 2.70
6.30 5.33 4.72 4.28 3.93
7.76 6.69 6.02 5.52 5.11
9.16 8.00 7.27 6.73 6.28

g risk is derived as follows:

(0
Projected Reliability Ir.crease in Incremental
Misstatement. Factor Reliability Allowance
Factor
PI 846 2.31 1.58 P2917
3.89 1329 5 597 923
6

ent for sampling risk less than the sampling interval

or sampling risk

the upper misstatement limit or upper error limit is

r Sampling Risk

ojected Basic
Allowance
tatement Precision

966 42647 1477

70
 458
REACHING A CONCLUSION IN PPS SAMPLING

To reach a conclusion, the auditor must consider not only thc statistical results but also
the qualitative aspects of the findings: Thc evidence an auditor gathers when sampling is
only part of the evidence collected about an assertion. When the audit of the sample and
other evidence support the financial Statement assertion, the auditor generally concludes
that the assertion is fairly presented. However, when the auditor finds, for example, that
the upper misstatement limit exceeds tolerable error, recorded book value may be
overstated. If this occurs, the auditor could:

(l) examine additional logical units from the population,

(2) perform additional substantive tests directed toward the same audit objective, a•nd
(3) following the above steps, have the client correct the errors found, reduce the
upper misstatement limit accordingly and compare the revised upper
misstatement limit with tolerable error.

If a client makes no adjustment to the financial statement found •to have material
misstatement, the auditor may be compelled to modify the audit report. lhe auditor
should also carefully evaluate whether misstatements are errors or irregularities, how
they might have occurred, and whether others may also exist.
 Audil for Substantive Tests 459

From these results, the auditor may conclude with a 5% risk that the PI book value is not
overstated by more than P47,090. It can be recalled that in designing the sampling plan,
the auditor established P50,000 as the tolerable misstatement at a 5% overall risk. Since
the upper limit for overstatement (P47,090) is less than the tolerable misstatement
(P50,000), the audit results support that the recorded book value is not overstated by more
than tolerable misstatement at the specified risk of incorrect acceptance.

However, when the upper misstatement limit exceeds the tolerable misstatement, the
recorded value may be misstated. Also, the auditor must remember that the risk Of
incorrect rejection exists and would propose adjustments to the client only after obtaining

more evidence of misstatements.

Sam
AFPLICATION OF CLASSICAL VARIABLES SAMPLING PLAN USING
CLASSICAL TECHNIQUES

variables sampling plans enable auditors to estimate a numerical quantity such

as the peso amount of an aeeoUnt balance. This makes these techniques particularly
useful for performing substantive tests. Classical variables sampling methods include:
l. Mean-per-unit estimation
2. Ratio estimation
3. Difference estimation
4. Regrssion

Mean-per-unit Estimation
 460 17
This technique enables auditors to estimate the mean audited value of the items in a
population with specified sampling risk and allowance for samp!ing risk (precision), by
determining the mean audited value of the items in a sample. An estimate of the total audited
value of the population is obtained by multiplying audited value of the sample (the sample
mean) times the number of items in the population. The projected misstatement may then be
calculated as the difference between the estimated total audited value and the client's book
value.

When using mean-per-unit estimation, auditors generally stratify the population to reduce the
variations within homogeneous subgroups. Stratifring a population means dividing it into
subgroups. The purpose of stratification is to reduce the variability of items within a
subgroup so that the auditor can significantly reduce the required sample size. However, the
requited calculations of the statistical results are so complex that auditors generally. do not
use stratified sampling techniques without using computer programs.

For purposes of illustration, we will discuss the mean-per-unit estimation without

stratification. The technique is representative of the process used with Stratification and the
concepts introduced are also applicable in difTerence and ratio estimation.

The steps presented on page will also be followed by the auditor when using

mean-per-unit estimation. However, the following equations are used for mean Per-unit
estimation to determine sample size and evaluate audit results.
To determine sample size:
2
Estimated Standard normal deviate for desired
Population _ populationstandard x risk of incorrect size (N)
deviation rejection (UR)
Sample size (n)
Desired Allowancé for Sampling Risk (A)

determine desired allowancefor sampling risk:

Ratio of desired
 Desired Tolerable allowance for sampling
allowance misstatement
x Audil for Substantive Tests 461
risk to tolerable
(A) for sampling (TM)
misstatement (R)
risk

To estimate the population value:

Estimated Average value of items

Population population size (D x in sample ( ) value
(D

The achieved allowance for sampling risk is computed -by multiplying the population sizes by
the risk of incorrect rejection by the standard error of the mean.

Achieved
Population Factor for risk Standard error
allowance risk (A) x x rejection (UN)
size (N) of incorrect ofthe mean Sri
for sampling
The estimated
range for the population value, i, is the estimated populatio value, f, plus or minus the
n

achieved allowance for sampling risk.

Estimated range Expected population Achieved allowance of population (i) value (i)
for sampling risk (A')
Sam Iin
Illustrative Case 1. Mean-per-unit Estimation
Jane Leyes, the internal auditor of Southwest Hospital, has been called on to assist the
controller in estimating the hospital's total liability for accrued vacation benefits. The
controller agreed to the following specifications:
Acceptable risk of incorrect acceptance 0.20 Acceptable risk of incorrect rejection
0.05 Estimated population standard deviation p 140 Tolerable misstatement P50,000
Population size 4,000

After selecting a sample of 1,000 items and determining the correct liability for the sample, J
computed the following:
Total audited value for items in sample P500,OOO Standard deviation of items in sample
p 95

REQUIRED:
 462 17
a. Compu!e the sample size.
b. Determine the estimated liability for accrued vacation benefits.
c. Calculate the achieved allowance for sampling risk.
d. Determine the precision interval.
e. State the conclusion that Jane can express to the controller.

SOLUTION:
a. Sample size is computed as follows:
N x So x UN

the sample size the population size so estimated population

standard deviation the standard normal deviatc for the desired risk Of
incorrect rejection desired or planned allowance for sampling risk

0.70 x P50,OOO - P35,OOO

2n

Cha
which is divided by
b. average value is
fie
estitnnted population valuc is

4,000 x P2,ooo.ooo

c,

4,000 x 1.96 x P95

d. An auditor may estimate the range for the population value from the estimated
population value and the achieved allowance Cor sampling risk. The formula is

A' or ± P74,480
 Audil for Substantive Tests 463
Thus, the auditor estitnntes the accounts receivable balance to be between PI
and which is referred to as the precision interval.

e. "Our best estimate of accrued vacation benefits is P2,000,0()O, I am 95 percent

confident that the true value of accrtled vacation benefits is between PI

The desired precision is less than achieved precision

Illustrative Case 2. Application of Mean-per-unit Sampling

The auditors wish to use mean-per-unit sampling to evaluate the reasonableness or the
book value of the accounts receivable of Sultana. Inc. Sultana has 10,000 receivable
accounts with a total value of PI The auditors estimate the population standard deviation
to be equal to P25. After examining the overa ll audit plan, the auditors believe that the
account's tolerable misstatement is P60,000 and that a risk of incorrect rejection of-5%
and a risk of incorrect acceptance of are appropriate.
 464 17

REQUIRED:
a. Calculate the required sample size.
b. Assuming the following results:
Average audited value = P146 Standard deviation of sample = p
28

Use the mean-per-unit method to:

(I) Calculate the point estimate of the account's audited value.

(2) Calculate the projected misstatement for the population.
(3) Calculate the adjusted allowance for sampling risk,
(4) State the auditors' conclusion in this situation.
SOLUTION:

Requirement A

To calculate the required

sample size, the auditor must
first calculate the planned
allowance for sampling
risk:

Planned ASR

ASR

Planned
 Chapter

Audit Samplingfor Substantive Tests 465

The tolerable misstatement is given and the incorrect acceptance and rejection
coefficient are from the Table of Risk Coefficients from the 1983 NCPA Accounting
and Audit Guide: Audit Sampling as follows:

Figure 17-2 Risk Coefficient

Incorrect Acceptance Incorrect Rejection

Acce table Level of Risk
Coefficient Coefficient
1.0% 2.33 2.58
4.6 1.68 2.00
5.0
1.64 1.96
10.0 1.28 1.64
15.0 1.04 1.44
20.0 0.84 1.28
25.0 0.67 1.15
30.0 0.52 1.04
40.0 0.25 0.84
50.0 0.00 0.67
The sample size may next be determined as
 466 17

Requirement B

(l) Using mean-per-unit sampling, the point estimate of the accounts receivable
audited balance is calculated by multiplying the averag e audited value in the
sample (P 146) times the number of accounts in the population (10,000), or:

P146 x 10,000 accounts

(2) Since the client's book value is given

as misstatement is P40,000 (PI — PI

(3) The formula for the adjusted allowance for sampling risk (ASR)
is:

Adjusted Tolerable
ASR Misstatement

Adjusted
ASR P60,OOO

Adjusted
ASR
 Audit Samplingfor Substantive Tests 467
(4) Because the interval calculated by using' the point estimate of the account's audited

value and adjusted ASR of P 1,493,506 (P 1,460,000 ± P33,506) does not include the
client's book value (P 1,500,000) the auditor is unable to accept the. population as not
including misstatement in excess of the tolerable limit.

Two alternatives in classical variables sampling are (a) ratio estimation and (b) difference
estimation.

Ratio Estimation

In ratio estimation, the auditors use a sample to estimate the ratio of the audited value of a
population to its book value. The ratio is estimated by dividing the total audited value of a
sample by the total book value of the sample items. An estimate of the correct population
value is obtained by multiplying this estimated ratio by the total book value of the
population.

TO illustrate the application of Ratio Estimation Sampling Plan we shall use the
following case:

Illustrative case 3. Classical Variables Sampling using Ratio Estimation

Bella Buenavista obtained the following data while auditing inventory Ballerina Bootery, a
manufacturer of shoes:
11,500
Items in the population 121
Items in the sample

Book value of population p 18,095

Audited value of sample items
Book value of sample items p 18,700

REQUIRED: Calculate the estimated audited value using the ratio estimation.

SOLUTION:
P18,095 1 P18,700 = 0.976

0.976 x PI = PI,741 ,680

Difference Estimation
 468 17
In applying difference estimation, the auditors use a sample to estimate the average difference
een the audited value and book value of items in a population. The average difference is estimated
ividing the audited value and book value of a sample by the number of items in the sample. The
difference between the book value of the population and its estimated corred value is determined
multiplying the estimated average difference by the number of items in the population.

Illustrative Case 4. Classical Variable Sampling Using Difference Estimatioo

Using the same data in Illustrativc Case 3 — calculate the estimated audite d value using
difference estimation.

SOLUTION:
P605
Average difference: P605 / 121 = P5
11,500 x P5 = P57,500

CHOOSING BETWEEN RATIO EST!iSIATION AND DIFFERENCE

In using ratio or difference estimation technique, the following are required:

a) each population item has a book value,

b) an audited value may be determined for each sample item, and
c) difference between audited and book values (misstatements)

When these requirements are met, ratio or difference estimation is often more efficient than
mean-per-unit estimation. When the size of misstatements is nearly proportional to the book
values of the items, the use of ratio estimation is appropriate because large accounts have
large misstatements and smaller accounts have small misstatements.

The difference estimation technique is more appropriate when the size of misstatements is not
approximately proportional to book value.

NONSTATISTICAL SAMPLING FOR SUBSTANTIVE TESTS

In substantive testing, the major differences between statistical and nonstatistical sampling
are in the procedures used to determine the sample size and evaluate the sample results.
 Audit Samplingfor Substantive Tests 469
When using nonstatistical sampling the auditors may decide not to quantify the factors used to
arrive at the sample size, although they will consider the relationships that are summarized in
Figure 17-3. In evaluating the sample results, the auditors also project the misstatements found
in the sample to the population and consider sampling risk, but the level of risk is not
quantified. While the auditors may use unassisted judgment for. determining the sample size
and for evaluating the sample results, many CPA firms have adopted structured approaches to
nonstatistical sampling that are based on statistical methods. This increases the consistency of
sampling judgments that are made 'by various auditors throughout the firm.

Auditors using nonstatistical sampling techniques employ the following two methods to
estimate the total misstatement in the population: the ratio method and the average difference
method. In the ratio method, they divide the sum of the misstatements in the audited sample
by the book value of the sample, and they then multiply the result by the book value of the
population. In the average difference method, auditors divide the sum of the misstatements, in
the audited sample by the number of items in the sample, and they then multiply the result by
the number of items in the population.
470 Chapter
Figure 17-3. Factors Affecting S:unple Size for Substantive Tests
Change Effect on Required
in Sam le Size
Factor Factor
Auditor's requirements: Increase
Risk of incorrect rejection Increase Decrease
Risk of incorrect acceptance Increase Decrease
Tolerable misstatement Decrease

Population characteristics: Increase

Population size Increase Increase (if population is
Standard deviation (if classical small)
variables sampling is used) Increase
Expected misstatement (if
probability. ro rtional-to•size sam
li is used
Illustrative Case 5.
To test the pricing and mathematical accuracy of sales invoices, the auditors
selected a sample of 200 sales invoices from a total of 41,600 invoices that were
issued during the year under audit. The 200 invoices represented total recorded
sales of P22,800. Total sales for the year amounted to P5 million. The
examination disclosed that of the 200 invoices audited, 5 were not properly
priced or contained errors in extensions and footings. The, five incorrect
invoices represented P720 of the total recorded sales, and the errors found
resulted in a net understatement of these invoices by P300.

REQUIRED:
Explain what conclusions the auditors may draw from the above information,
assuming the sample was selected using nonstatistical sampling.

SOLUTION:

The auditors would project the misstatement found in the sample to the
population using either the ratio or difference approach. The ratio approach
would result in a projected misstatement of P65,500. This may be computed by
first calculating the ratio of the audited to book value as 1.0131 (P23,180 /
P22,800 [since there is a net understatement of P300, the audited value is P23,
180]) and estimating the audited value of the population as:

I .0131 x (rounded)
 Audit Samplingfor Substantive Tests 471
A

The projected misstatement is thus P65,500 under the ratio method.

The difference approach results in an average difference of PI .50 (P300 net difference
divided by 200 items). Multiplying by the 100,000 invoices indicates a projected
misstatement of P62,400 (PI .50 x 41,600).

REVIEW QUESTIONS AND EXERCISES

Questions

When auditing account balances, why is an incorrect acceptance decision

considered more serious than an incorrect rejection decision?

2. What are two methods of projecting the known misstatement to the population?

3. What kind of evidence evaluation consideration should an auditor give to the

peso amount of a population unit that cannot be audited?
4. What audit purpose is served by stratifying an account balance population and
by removing some units from the population for 100 percent audit attention?
5. What should be the relationship between tolerable misstatement in the audit of
an account balance and the amount of monetary misstatement considered
material to the overall financial statements?
6. What general set of audit objectives can you use as a frame of reference to be
specific about the particular objectives for the audit of an account balance?
7. What is the influence on peso-value variables sample sizes of the risk of
incorrect acceptance, the risk of incorrect rejection, the tolerable
misstatement, the population variability and the population size?
8. What are the three basic steps in quantitative evaluation of monetary amount
evidence when auditing an account balance?
9. The projected likely misstatement may be cglculated, yet further misstatement
might remain undetected in the population. How can auditors take - the further
misstatement under consideration when completing the quantitative evaluation
of monetary evidence?
10. What additional considerations are in order when auditors plan to audit
account balances at an interim date several weeks or months before the
client's fiscal year-end-date?
 17
472 Chapter
l l. Differentiate between classical variables sampling and probability
proportional to size sampling.
12. How does detection risk affect sample size in substantive testing?
13. Define precision and reliability for variables sampling.
14. Under what conditions may PPS sampling be used?
15. Name three areas of computer application in sampling. How does the
computer facilitate sampling in each of the areas?

Multiple Choice Questions

1. Zashi considered the sample size needed for a selection of customers'

accounts receivable for the substantive audit of the total accounts
r eceivable. She presented the following information for two alternative

Estimate of population variability Case O

Large Case R
Small Acceptable risk of incorrect acceptance Low High
Acceptable risk of incorrect rejection Low High
Tolerable peso misstatement in the account Small Large
Expected peso misstatement in the account Large Small

Zashi should expect the sample size for Case 0 to be:

a. smaller than the sample size for Case R.
b. larger than the sample size for Case R.
c. the same as the sample size for Case R.

d. not determinable relative to the Case R sample size.

2. When calculating the total amount of misstatement relevant to t he analysis of

ari account balance, an auditor should add to the misstateme nt discovered in
individually significant items the following:

a. the projected likely misstatement and the

additional possible misstatement estimate.
b. the known misstatement in the sampled items.
c. the known misstatement in the sampled items, the
projected likely misstatement, and the additional possible
misstatement estimate•
 Audit Samplingfor Substantive Tests 473
d. the additional possible misstatement estimate.

3. Eddie audited the Mary Company's inventory on a sample basis. He audited

120 items from an inventory compilation list and discovered net
overstatement of P480. The audited items had a book (recorded) value of
P48,000. There were 1,200 inventory items listed, and the total inventory
book amount was P490,000. Which of these calculations is (are) correct?
a. Known misstatement of P4,800 using the difference method.

b. Projected likely misstatement of P480 using the ratio method.

c. Projected likely misstatement of P4,900 using the ratio method.
d: Projected likely misstatement of P4,800 using the difference method.

4. Soni Corpuz audited the client's accounts receivable, but he could not get any
good information about customer #102's balance. The customer
responded to the confirmation saying, "Our system does not provide detail for
such a response." The sales invoice and shipping document papers have been
lost, and the customer has not yet paid. Soni should:
a. get another customer's account to consider in the sample.
(b, treat customer 102's account as being entirely wrong (overstated), if• doing
so will not affect his audit conclusion about the receivables taken
altogether.
c. require adjustment of the receivables to write off customer 102's balance.
d. treat customer •1 02's •account as accurate because there is no
evidence saying it is fictitious.

5. When making a sample-based decision about the peso amount in an account

balance, the incorrect acceptance decision error is considered more
serious than the incorrect rejection decision error because:
a. the incorrect rejection decision impairs the efficiency of the audit.

b. auditors will do additional work and discover the error of the incorrect
decision.
e. the incorrect acceptance decision impairs the effectiveness of the audit.

d. sufficient, competent evidence will not have been obtained.

474 Chapter
6. 'Overauditing" can defined as:

a. auditing too small a >ample size,

(1b) auditing a larger sample size than necessary.
c. taking more risk than is professionally acceptable.
d. giving aa inappropriate unqualified report on financial statements.
17

7. Fran Marcelo audited the 1)4.5 million book value accounts receivable of Sporty
Corporation. In his sample of 472 Of the customer accounts, for which the book
value total was P500,000, he found PI 7,500 overstatement. The projected likely
misstatement for this sample is: c. PI,059.
a. 1)148.305.
P9,534.4

8. Statistical sampling provides q technique for

a. exactly defining materiality.
b. greatly reducing the amount of substantive testing.
c. eliminating judgment in testing.
d. measuring the sufficiency of evidential matter.

9. The theoretical distribution of means from all possible samples of a given

size is a normal distribution, and this distribution is the basis for statistical sampling.
Which of the following statements is not true with respect to the sampling distribution
of sample means?
a. Approximately 68% of the sample means will be within one standard
deviation of the mean for the norinal distribution.
b. The distribution is defined in terms of its mean and its standard error of the
mean.
c. An auditor can be approximately 95% confident that the mean for a
sample is within two standard deviations of the population mean. The
items drawn in an auditor's sample will have a normal distribution.

10. In the application of statistical techniques to the estimation of peso amounts,

a preliminary sample usually is taken primarily for the purpose of estimating
the population ao variability. c. range.
mode. d. median.
 Audit Samplingfor Substantive Tests 475
l l. Which of the following would be designed to estimate a numeric al
measurement of a population, such as a peso value?
a. Sampling for variables.
b. Sampling for attributes.
c. Discovery sampling.

d. Numerical sampling.
A

12. When planning a sample for a substantive test of details, an auditor should
consider tolerable misstatement for the sample. This consideration should
a. be related to the auditor's assessment of inherent risk.
b. not be adjusted for qualitative factors.
c. be related to preliminary judgments about materiality levels.
d. not be changed during the audit process.

13. While performing a substantive test of details during an audit, the auditor
determined that the sample results supported the conclusion that , the recorded
account balance was materially misstated. It was, in fact, not materially misstated.
This situation illustrates the risk of av incorrect rejection.
b. incorrect acceptance.
c. assessing control risk too low.
d. . assessing control risk too high.
14. When using classical variables sampling for estimation, an auditor

normally evaluates the sampling results by calculating the possible error in either
direction. This statistical concept is known as ao precision. c. projected error.

b. reliability. d. standard deviation.

15. In a probability proportional to size sample with a sampling interval of

P 10,000, an auditor discovered that a selected account receivable with a
recorded amount of P5,000 had an audit amount ofP2,000. The projected error of this
sample was
(a. P3,OOO. c. P6,OOO. b. P4,000. d. P8,OOO.

716. A sampling method that can be used to estimate overstatement error of an account
balance but is not based on normal-curve mathematics is:
a. discovery sampling.
(b) mean per unit sampling.
c. attributes sampling.
476 Chapter
d. probability proportional to size simpling.

17. Which of the following sampling methods would be used to estimate a

numerical value measurement-of a population, c. Sampling such as for a peso
attributes.value?
a. Discovery sampling.
b. Numerical sampling. Sampling for variables.
 477
Cha ter i7

18. In a probability proportional to size sample with a sampling interval of P5,000, an

auditor discovered that a selected account receivable with a recorded amount of P
10,000 had an audit amount of P8,000. If this were the only error discovered by the
auditor, the projected error of this sample would be
a. PI,OOO. c. P4,000.
b, P2,ooo. d. P5,ooo.

19. Which of the following most likely would be an advantage in using classical
variables sampling rather than probability proportional to size (PPS) sampling?
a. An estimate of the standard deviation of the population's recdrded amounts is not
required.
b. The auditor rarely needs the assistance of a computer program to design an
efficient sample.
Inclusion of zero and negative balances generally does not require special
design considerations.
d. Any amount that is individually significant is automatically identified and
selected.

20. Which of the following courses ofaction would an auditor be most likely to follow
in planning a sample of cash disbursements if the auditor were aware of several
unusually large cash disbursements?
a. Increase the sample size to reduce the effect of the unusually large
disbursements.
b. Continue to draw new samples until all the unusually large disbursements
appeared in the sample.
c. Set the tolerable rate of deviation at a lower level than
originally planned.
Stratify the cash disbursements population so that the unusually large
disbursements were selected.

Cases

Case 1
 Alpha and beta risk ore important ingredients in determining sample size for variables
sampling.

Required:
a. Differentiate between alpha and beta risk.
b. Discuss the relevance of alpha and beta risk for audit hypothesis testing purposes.
c. Identify and discuss the factors considered by the auditor in quantifying alpha and beta
risk in variables sampling applications.

Case 2

In the audit of Promat Mills, the auditors wish to test the costs assigned to manufactured goods.
During the year, the company has produced 2,000 production lots with a total recorded cost of
P5.9 million. The auditors select a sample of 200 production lots with an aggregate book value of
P600,000 and vouch the assigned costs to the supporting documentation. Their examination
discloses misstatements in the cost of 52 of the 200 production lots; after adjustment for these
misstatements, the audited value of the sample is P582,OOO.

Required:

a. Show how the auditors would compute an estimate of the total cost of production lots
manufactured during the year using each of the following sampling plans. (Do
not compute the allowance for sampling risk or the risk of incorrect acceptance of
the estimates). (l) Mean-per-unit estimation.
(2) Ratio estimation.

(3) Difference estimation.

b. Explain why mean-per-unit estimation results in a higher estimate of the population
value than does ratio estimation in this particular instance.

To test the pt'ieing und nutthetnnticnl occuracy of soles invoices, the selected
sntnple of 20() sales invoices fortn o total invoices that issued during the year
under nuditi The invoices represented total tveorded sales of 'I'otnl sales for the year
mnounted to P.S million. The exantination disclosed that of the 2()0 invoices audited, 5
 Audit Samplingfor Substantive Tests 479
were not pmperly priced or contained errors in extensions and footings. The five
inconvet invoices rcpwsented P720 of the total recorded sales, and the errors found
resulted in a net understatentent of these invoices by

Required:
Explain what conclusions the auditors may draw from the above information, assuming
the satnple was selected using nonstatistical sampling.

Case

The auditors of Inee Electronics want to limit the risk of material misstatement in the
valuation of inventories to 2 percent. They beliéve that there exists a 50 percent risk that
a material misstatement could have bypassed the client's internal control and that the
inherent risk of the account is 80 percent. They also believe that the analytical
procedures performed to test the assertion have a 40 percent risk of failing to detect a
material misstatement.

Required:
a. Briefly discuss what is meant by audit risk, inherent risk, control risk, and the risk
that analytical procedures might fail to detect a material misstatement.
b. Calculate the maximum allowable risk of incorrect acceptance for th e substantive
test of details.
What level of deteCtion risk is implicit in problem?

Case 5
The auditors wish to test the valuation of accounts receivable in an audit of Yna Enterprises.
The client has P500,000 of total recorded receivables, composed of 850 accounts. The auditors
have determined the following:
Tolerable misstatement P25,OOO
Risk of incorrect acceptance 5%
Expected misstatement P 2,000
The auditors have decided to use probability-proportional-to-size sampling.

Required:

a. For planning the sample, calculate:

 (l) Required sample size.
(2) Sampling interval.

b. Assume that the auditors have tested the sample and discovered three misstatements:

Book Value Audited Value p 50 P 47 800 760

8,500 8,100

Calculate:
(l) Projected misstatement.
(2) Basic precision.
(2) Incremental allowance.
(4) Upper limit on misstatemeni.

c. Explain how the auditors would consider the results calculated in b.

74 Chapter

Case 6
Velasco has decided to use probability-proportional-to-size (PPS) sampling,
sometimes called peso-unit sampling, in the audit of a client's aCCOUnts
receivable balance. Few, if any, misstatements of the account balance are
expected.

Velasco plans to use the following PPS sampling table:

Number of Overstatement Risk of Incorrect Acce tance
Misstatements 1% 5% 15% 200/0
4.61 3.00 2.31 1.90 1.61
6.64 4.75 3.89 3.38 3.00
2 8.41 6.30 5.33 4.72 4.28

3 10.05 7.76 6.69 6.02 5.52

4 11.61 9.16 8.00 7.27 6.73

Required:
 Audit Samplingfor Substantive Tests 481
a. Identify the advantages of using PPS sampling over classical variables
sampling.
b. Calculate the sampling interval and the sample size Velasco should use given
the following information:

Tolerable misstatement P 15,000

Risk of incorrect acceptance 5%
Estimated misstatement 0
Recorded amount of accounts receivable P300,OOO

Note: Requirements b and c are not related.

c. Calculate the total projected misstatement if the following three enrs were
discovered in a PPS
sample:

Sampling
Interval
PI ,OOO 500 1 ,ooo

3rd 3,000 2,500 1,000

(AICPA Adapted)