Auditing Theory (AT-7)

CKC- BSA 3

PSA 320 AUDIT MATERIALITY (amended by PSA 240 [Revised 2005])

PSA 520 ANALYTICAL PROCEDURES

PSA 550 RELATED PARTIES

PSA 610 CONSIDERING THE WORK OF INTERNAL AUDIT

PSA 620 USING THE WORK OF AN EXPERT

PSA 320
AUDIT MATERIALITY

1. Materiality should be considered by the auditor when:

 Determining the nature, timing and extent of audit procedures; and
 Evaluating the effect of misstatements
2. There is an inverse relationship between materiality and the level of audit risk
3. In evaluating whether the financial statements are prepared, in all material respects, in
accordance with an applicable financial reporting framework, the auditor should assess whether
the aggregate of uncorrected misstatements that have been identified during the audit is
material.
4. If the auditor concludes that the aggregate of uncorrected misstatements may be material, the
auditor needs to consider:
 Reducing audit risk by extending audit procedures; or
 requesting management to adjust the financial statements for the
misstatements identified
5. If management refuses to adjust the financial statements and the results of extended audit
procedures do not enable the auditor to conclude that the aggregate of uncorrected
misstatements is not material, the auditor should consider the appropriate modification to the
auditor’s report.
6. If the auditor has identified a material misstatement resulting from error, the auditor should
communicate the misstatements to the appropriate level of management on a timely basis, and
consider the need to report it to those charged with governance.

PSA 520
ANALYTICAL PROCEDURES
1. “Analytical procedures” means the analysis of significant ratios and trends including the
resulting investigation of fluctuations and relationships that are inconsistent with other relevant
information or which deviate from predicted amounts.
2. Analytical procedures also include consideration of comparisons of the entity’s financial
statements:
a. Comparable information for prior periods
b. Anticipated results of the entity, such as budgets or forecasts, or expectations of the
auditor, such as an estimation of depreciation
c. Similar industry information
3. Analytical procedures also include consideration of relationships:
a. Among elements of financial information that would be expected to conform to a
predictable patter based on the entity’s experience, such as gross margin
percentages.
b. Between financial information and relevant no-financial information, such as payroll
costs to numbers and employees
4. The auditor should apply analytical procedures at the planning stage to assist in understanding
the business and in identifying areas of potential risk. Analytical procedures in planning the use
both financial and non-financial information.
5. The auditor should apply analytical procedures at or near the end of the audit when performing
an overall conclusion as to whether the financial statements as a whole are consistent with the
auditor’s knowledge of the business.
6. The application of analytical procedures is based on the expectation that relationships among
data exist and continue in the absence of known conditions to the contrary. The presence of
these relationships provides audit evidence as to the completeness, accuracy and validity of the
data produced by the accounting system
7. The extent of reliance that the auditor places on the results of analytical procedures depends on
the following factors:
 a. Materiality of the items involved
b. Other audit procedures directed toward the same audit objectives
c. Accuracy with which the expected results of analytical procedures can be predicted.
8. When analytical procedures identify significant fluctuations or relationships that are
inconsistent with other relevant information or that deviate from predicted amounts, the
auditor should investigate and obtain adequate explanations and appropriate corroborative
evidence.
9. The investigation of unusual fluctuations and relationships ordinarily begins with inquiries of
management, followed by:
a. Corroboration of management responses; and
b. Consideration of the need to apply other audit procedures based on the results of
such inquiries, if management is unable to provide an explanation or if the
explanation is not considered adequate.

PSA 550
RELATED PARTIES
1. Management is responsible for the identification and disclosure of related parties and
transactions with such parties.
2. The auditor should perform audit procedures designed to obtain sufficient appropriate audit
evidence regarding the identification and disclosure by management of related parties and the
effect of related party transactions that are material to the financial statements. However, an
audit cannot be expected to detect all related party transactions.
3. The auditor needs to have a sufficient understanding of the entity and its environment to enable
identification of the events, transactions and practices that may result in a risk of material
misstatement regarding related parties and transactions with such parties.
4. When obtaining an understanding of the entity’s internal control, the auditor should consider
the adequacy of control activities over the authorization and recording of related party
transactions.
5. In examining the identified related party transactions, the auditor should obtain sufficient
appropriate audit evidence as to whether these transactions have been properly recorded and
disclosed.
6. The auditor should obtain a written representation from management concerning:
a. The completeness of information provided regarding the identification of related
parties; and
b. The adequacy of related party disclosures in the financial statements
7. The auditor is unable to obtain sufficient appropriate audit evidence concerning related parties
and transactions with such parties or concludes that their disclosure in the financial statements
is not adequate; the auditor should modify the audit report appropriately.

PSA 610
CONSIDERING THE WORK OF INTERNAL AUDIT
1. The external auditor should obtain a sufficient understanding of internal audit activities to
identify and assess the risks of material misstatement of the financial statements and to design
and perform further audit procedures.
2. The external auditor should perform an assessment of the internal audit function when internal
auditing is relevant to the external auditor’s risk assessment.
3. When obtaining an understanding and performing a preliminary assessment of the internal
audit function, the important criteria are:
a. Organizational status
b. Scope of the function
c. Technical competence
d. Due professional care
4. When planning to use the work of internal auditing, the external auditor will need to consider
internal auditing’s tentative plan for the period and discuss it as early a stage as possible.
5. Where the work of internal auditing is to be a factor in determining the nature, timing and
extent of the external auditor’s procedures, it is desirable to agree in advance the timing of such
work, the extent of audit coverage, materiality levels and proposed methods of sample
selection, documentation of the work performed and review and reporting procedures.
6. A liaison with internal auditing is more effective when meetings are held at appropriate intervals
during the period.
 7. When the external auditor intends to use specific work of internal auditing, the external auditor
should evaluate and perform audit procedures on that work to confirm its adequacy for the
external auditor’s purposes.
8. The evaluation of specific work of internal auditing involves consideration of the adequacy of
the scope of the work and related programs and whether the preliminary assessment of the
internal auditing remains appropriate.
9. The nature, timing and extent of audit procedures performed on the specific work of internal
auditing will depend on:
 The external auditor’s judgment as to the risk of material misstatement of the
area concerned;
 The assessment of internal auditing; and
 The evaluation of the specific work by internal auditing.
10. The external auditor would record conclusions regarding the specific internal auditing work that
has been evaluated and the audit procedures performed on the internal auditor’s work.

PSA 620
USING THE WORK OF AN EXPERT
1. “Expert’ means a person or firm possessing special skill, knowledge and experience in a
particular filed other than accounting and auditing.
2. An expert may be:
a. Contracted by the entity;
b. Contracted by the auditor;
c. Employed by the entity; or
d. Employed by the auditor.
3. When determining the need to use the work of an expert, the auditor would consider:
a. The materiality of the financial statement item being considered;
b. The risk of misstatement based on the nature and complexity of the matter being
considered; and
c. The quantity and quality of other audit evidence available
4. When planning t use the work of an expert, the auditor should evaluate the professional
competence and objectivity of the expert.
5. The risk that an expert’s objectivity will be impaired increases when the expert is:
a. Employed by the entity; or
b. Related in some other manner to the entity.
6. The auditor should obtain sufficient appropriate audit evidence that the scope of the expert’s
work is adequate for the purposes of the audit. Audit evidence may be obtained through a
review of the terms of reference which are often set out in written instructions from the entity
to the expert.
Such instructions to the expert may cover matters such as:
a. The objectives and scope of the expert’s work
b. A general outline as to the specific matters the auditor expects the expert’s report
to cover
c. The intended use by the auditor of the expert’s work, including the possible
communication to third parties of the expert’s identity and extent f involvement
d. The extent of the expert’s access to appropriate records and files
e. Clarification of the expert’s relationship with the entity, if any.
f. Confidentiality of the entity’s information
g. Information regarding the assumptions and methods intended to be used by the
expert and their consistency with those used in prior periods.
7. The auditor should evaluate the appropriateness of the expert’s work as audit evidence
regarding the financial statement assertion being considered. This will involve assessment of
whether the substance of the expert’s findings is properly reflected in the financial statements
or supports the financial statement assertions, and consideration of:
a. Source data used.
b. Assumptions and methods used and their consistency with prior periods
c. Results of the expert’s work in the light of the auditor’s overall knowledge of the
business and of the results of other audit procedures.
8. When considering whether the expert has used source data which is appropriate in the
circumstances, the auditor would consider the following procedures:
a. Making inquiries regarding any procedures undertaken by the expert to establish
whether the source data is sufficient, relevant and reliable.
b. Reviewing or testing the data used by the expert
9. If the results of the expert’s work do not provide sufficient audit evidence or if the
results are not consistent with other audit evidence, the auditor should resolve the
matter. This may involve:
a. Discussions with the entity and the expert
b. Applying additional audit procedures
c. Including possibly engaging another expert; or
d. Modifying the auditor’s report
10. When issuing an unmodified auditor’s report, the auditor should not refer to the work of
an expert. Such a reference might be misunderstood to be a qualification of the auditor’s
opinion or a division of responsibility, neither of which is intended.
11. If as a result of the work of an expert, the auditor decides to issue a modified auditor’s
report, in some circumstances it may be appropriate, in explaining the nature of the
modification, to refer to or describe the work o the expert (including the identity of the
expert and the extent of the expert’s involvement). In these circumstances, the auditor
would obtain the permission of the expert before making such a reference. If permission is
refused and the auditor believes a reference is necessary, the auditor may need to seek
legal advice.