Auditing and Assurance Services

Seventeenth Edition, Global Edition

Chapter 12
Overall Audit Strategy and Audit
Program

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Learning Objectives (1 of 2)
12.1 Use the five types of audit tests to determine whether
financial statements are fairly stated
12.2 Select the appropriate types of audit tests
12.3 Understand the concept of evidence mix and how it
should be varied in different circumstances
12.4 Design an audit program

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Learning Objectives (2 of 2)
12.5 Compare and contrast transaction-related audit
objectives with balance-related audit objectives,
including those related to presentation and disclosure
12.6 Understand key evidence-related terms
12.7 Integrate the four phases of the audit process

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Learning Objective 12.1
Use the five types of audit tests to determine whether
financial statements are fairly stated

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Types of Tests (1 of 4)
• Auditors use five types of tests to determine whether
financial statements are fairly stated:
– Auditors use (1) risk assessment procedures to
identify significant risks due to fraud or error, and
design tests that address those risks
 Assess risk (know what the risks are)
– The other four types of tests represent further audit
procedures performed in response to the risks
identified

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Types of Tests (2 of 4)
• (2) Tests of control
– Used to determine whether the client’s internal
controls are effective
 Test the control if they are good, less audit effort
could be spent
• (3) Substantive tests of transactions
– Used to determine whether all seven transaction-
related audit objectives have been satisfied for each
class of transactions
 Check the details of transactions, e.g. check sales
invoice/ shipping documents

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Types of Tests (3 of 4)
• (4) Substantive analytical procedures
– Used to indicate possible misstatements in the financial statements and
to provide substantive evidence
 Perform to get the evidence to support account balance
 Apply to accounts with smaller risks – e.g. utilities compared its figure
with last year, wont check the details
 Apply to accounts involved judgments – e.g. allowance for bad debt
 we could only say it is reasonable or not
• (5) Tests of details of balances
– Focus on the ending general ledger balances for both balance sheet and
income statement accounts, including related disclosures
 Apply to balance sheet accounts, involving lots of bank
confirmations, receivable confirmations

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Types of Tests (4 of 4)
• Audit data analytics (ADAs) and other technologies are
increasingly being used throughout the audit
• ADAs can be used in each of the five types of tests
– In addition, ADAs are also used as part of the
procedures performed during the completion of the
audit

– Main point: tell you use technology to help doing audits

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 Figure 12.1 Further Audit Procedures and the Audit Risk Model

CR: relates to tests of controls

DR: relates to the details audit procedures

Dual purpose test: we check whether manager checks the sales invoice
- Auditors check whether invoice has check mark/signs
- Whether those checked invoices are correct in numbers
- Evidence given you: (1) manager (control) did properly + (2) numbers are correct

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Figure 12.2 Role of Audit Tests in the
Audit of the Sales and Collection
Cycle

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Figure 12.3 Use of ADAs Impacts All
Types of Audit Tests

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Learning Objective 12.2
Select the appropriate types of audit tests

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Selecting Which Types of Tests to
Perform (1 of 3)
• Auditors typically use all five types of tests when performing an audit
of the financial statements, but certain types may be emphasized,
depending on the circumstances
• Several factors influence the auditor’s choice of the types of
tests to select:
– The availability of the types of evidence
– The relative costs of each type of test
– The effectiveness of internal controls, and inherent risks

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Selecting Which Types of Tests to Perform (2 of 3)
• The availability of the types of evidence
– Each of the four types of further audit procedures involves only
certain types of evidence (confirmation, inspection, and so forth)
 You want confirmation – but in the past no one response, will
you still do? No
• Relative cost (1 of 2)
– When auditors must decide which type of test to select for
obtaining sufficient appropriate evidence, the cost of the evidence
is an important consideration

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Selecting Which Types of Tests to Perform (3 of 3)
• Relative cost (2 of 2)
– The types of tests are listed below in order of increasing
cost: Least to most
 Substantive analytical procedures (Least)
 Risk assessment procedures, including procedures to obtain
an understanding of internal control
 Tests of controls
 Substantive tests of transactions
 Tests of details of balances (Most)
– Needs to check many documents, require high time cost
as well

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Figure 12.4 Audit Assurance from Substantive Tests and Tests of
Controls at Different Levels of Internal Control Effectiveness

- For case C, we are not

necessarily stick with C1
then change to test of
control, we could choose
C2 / C3

- Case B, even if the clients

has good control, you could
also do the substantive
tests
- Sometimes will check
everything, e.g. the clients
have only few transactions

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Let’s Discuss (1 of 7)
• What are the five types of tests auditors use to determine
whether financial statements are fairly stated? Slides 5-7
– Identify which tests are performed to reduce control
risk and which tests are performed to reduce planned
detection risk. See slides 8
• In Figure 12.4, explain the differences among C3, C2, and
C1. Explain the circumstances under which it would be a
good decision to obtain audit assurance from substantive
tests at point C1. Slide 16
– Do the same for points C2 and C3.

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Let’s Discuss (2 of 7)
• What is the purpose of risk assessment procedures, and
how do they differ from the four other types of audit tests?
See slides 5
– RAM is to identify the risks and the rest are the
responses
• Rank the following types of tests from most costly to least
costly:
– Substantive analytical procedures, tests of details of
balances, risk assessment procedures, tests of
controls, and substantive tests of transactions. See
slides 15

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Learning Objective 12.3
Understand the concept of evidence mix and how it should
be varied in different circumstances

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Evidence Mix
• The choice of which types of tests to use and how
extensively they need to be performed can vary widely
among audits for differing levels of internal control
effectiveness and inherent risks
• Evidence Mix
– Auditors employ a combination of the four types of
tests to obtain sufficient appropriate evidence in
response to risks identified through risk assessment
procedures

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Table 12.3 Variations in Evidence Mix
Substantive Substantive Tests of
 Tests of Tests of Analytical Details of
Blank Controls Transactions Procedures Balances
Audit 1 E S E S
Audit 2 M M E M
Audit 3 N E M E
Audit 4 M E E E

E = Extensive amount of testing; M = Medium amount of testing; S = Small amount of testing; N = No testing.

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Learning Objective 12.4
Design an audit program

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Design of the Audit Program (1 of 3)
• After the auditor uses risk assessment procedures to
determine the appropriate emphasis on each of the
other four types of tests:
– The specific audit procedures for each type of test
must be designed and combined to form the audit
program
– Each transaction cycle will likely be evaluated using a
separate set of subaudit programs

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Design of the Audit Program (2 of 3)
• In addition to risk assessment procedures, the audit
program for most audits is designed in three
additional parts:
– Tests of controls and substantive tests of transactions
– Substantive analytical procedures
– Tests of details of balances

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Design of the Audit Program (3 of 3)
• Auditing standards require the auditor to use a written
audit program
• Engagement management software helps auditors select
appropriate audit procedures and organize them into an
audit program
• Audit procedures can be added or deleted as the auditor
deems necessary

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Figure 12.5 Methodology for
Designing Tests of Controls and
Substantive Tests of Transactions

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Figure 12.6 Four-Step Approach to
Designing Tests of Controls and
Substantive Tests of Transactions

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Figure 12.7 Methodology for Designing Tests of
Details of Balances—Accounts Receivable

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Figure 12.8 Approach to Designing Tests
of Details of Balances

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Let’s Discuss (3 of 7)
• Assume that the client’s internal controls over the recording and
classifying of fixed asset additions are considered deficient because
the individual responsible for recording new acquisitions has
inadequate technical training and limited experience in accounting.
– How will this situation affect the evidence you should accumulate
in auditing fixed assets as compared with another audit in which
the controls are excellent? Be as specific as possible.
– This would be like Audit 3 in slide 21
– Wont test on control, instead do more on substantive test of
transaction and detail of balance

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Learning Objective 12.5
Compare and contrast transaction-related audit objectives
with balance-related audit objectives, including those related
to presentation and disclosure

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Relationship of Transaction-Related Audit
Objectives to Balance-Related Audit Objectives
(1 of 2)

Tests of details of balances must be designed to satisfy balance-related

audit objectives for each account and the extent of these tests can be
reduced when transaction-related audit objectives have been satisfied
by tests of controls or substantive tests of transactions

- Previously we mention it’s okay to check the transaction during the

year as beginning balance is audited should be correct
- But in fact it is the gross balance – we still have to consider the
allowance for bad debt so as to get the correct net receivable

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Relationship of Transaction-Related Audit
Objectives to Balance-Related Audit Objectives
(2 of 2)

• Even when all transaction-related audit objectives are met, the

auditor will still rely primarily on substantive tests of balances to
meet the following balance-related audit objectives:
– Realizable value (relate to bad debt, allowance)
– Rights and obligations (whether company has the right to receive
those payment as sometimes they may sell it to the banks)
– Presentation

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Learning Objective 12.6
Understand key evidence-related terms

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Summary of Key Evidence-Related Terms
• Key evidence-related terms:
– Phases of the audit process
– Audit objectives Ch.5 assertions
 Transaction-related: Occurrence, completeness, accuracy,
posting and summarization, classification, timing and
presentation
 Balance-related: Completeness, Accuracy, Cutoff, Detail tie-in,
Realizable value, Classification, Rights and obligations,
Presentations
– Types of tests – Ch.12 5 types
– Evidence decisions – Ch.6
 What is the sample size, what to sample, timing to perform
– Types of evidence – Ch.6: 8 types

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Table 12.6 Relationship Among Five
Key Evidence-Related Terms (1 of 4)
Phases of the Evidence Types of
Audit Process Audit Objectives Types of Tests Decisions Evidence
Plan and Design Blank Risk assessment • Audit procedures Inspection
an Audit procedures What to do Inquiries of client
Approach • Procedures to • Timing Analytical
(Phase I) understand When to do procedures
client’s business
and industry
• Procedures to
understand
internal control
• Planning
analytical
procedures

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Table 12.6 Relationship Among Five
Key Evidence-Related Terms (2 of 4)
Phases of the Evidence Types of
Audit Process Audit Objectives Types of Tests Decisions Evidence
Perform Tests of Transaction- Procedures to • Audit procedures Inspection
Controls and related audit obtain an • Sample size Observation
Substantive objectives understanding • Items to select Inquiries of client
Tests of • Occurrence and tests of • Timing Reperformance
Transactions • Completeness controls Recalculation
(Phase II) • Accuracy
• Posting and Substantive tests • Audit procedures
summarization of transactions • Sample size
• Classification • Items to select
• Timing • Timing
• Presentation

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Table 12.6 Relationship Among Five
Key Evidence-Related Terms (3 of 4)
Phases of the Evidence Types of
Audit Process Audit Objectives Types of Tests Decisions Evidence
Perform Balance-related Substantive • Audit procedures Physical
Substantive audit objectives analytical • Timing examination
Analytical • Existence procedures Confirmation
Procedures • Completeness Inspection
and Tests of • Accuracy Tests of details of • Audit procedures Inquiries of client
Details of • Cutoff balances • Sample size Reperformance
Balances • Detail tie-in • Items to select Analytical
(Phase III) • Realizable value • Timing procedures
• Classification Recalculation
• Rights and
obligations
• Presentation

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Table 12.6 Relationship Among Five
Key Evidence-Related Terms (4 of 4)
Phases of the Evidence Types of
Audit Process Audit Objectives Types of Tests Decisions Evidence
Complete the Presentation and Substantive test • Audit procedures Analytical
Audit and disclosure audit of transactions • Sample size procedures
Issue an Audit objectives for Tests of details of • Items to select Inspection
Report both balances • Timing Inquiries of client
(Phase IV) transaction-
related and
balance-related
audit objectives

Analytical • Audit procedures

procedures • Timing

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Let’s Discuss (5 of 7)
• State the four-step approach to designing tests of controls
and substantive tests of transactions.
• Explain the relationship of performance materiality,
inherent risk, and control risk to planned tests of details of
balances.

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Learning Objective 12.7
Integrate the four phases of the audit process

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Summary of the Audit Process
• The four phases of the audit process:
– Phase I: Plan and design an audit approach
– Phase II: Perform tests of controls and substantive
tests of transactions
– Phase III: Perform substantive analytical procedures
and tests of details of balances
– Phase IV: Complete the audit and issue an audit
report

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Table 12.7 Timing of Tests FYI

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Let’s Discuss (6 of 7)
• Explain the relationship between the occurrence
transaction-related audit objective and the existence and
completeness balance-related audit objectives.
• Indicate the four phases of the audit process.
– In which phase does the auditor perform tests of
controls?

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Let’s Discuss (7 of 7)
• Why do auditors often consider it desirable to perform
audit tests throughout the year rather than wait until year
end?
– List several examples of evidence that can be
accumulated before year end.

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