ISA 500 – Audit Evidence

3 Gathering audit evidence

As said earlier, audit evidence is primarily collected through audit procedures that are applied on entity’s accounting records. Reason to apply audit procedures on accounting records is to check whether they are consistent with internal records and financial statements.

The procedures that auditor can apply to gather audit evidence includes the following:

• Inspection
• Observation
• External confirmation
• Recalculation
• Reperformance
• Inquiry
• Analytical procedures

Inspection involves analyzing:

• Records or documents that are generated internally or externally and can be in different format or medium; or
• Physical examination of an asset

Inspection of documents may provide varying degree of reliability depending on their nature, source and controls exercised over their production.

Inspection, at one time, may help auditor in gathering audit evidence regarding particular assertion(s) but may not always help regarding others. For example:

Inspecting the lease contract alone may help the auditor determine the rights and obligations of the entity but may not provide enough information regarding existence of asset.

Similarly, inspection of physical asset e.g. building, inventory etc may provide reliable evidence about existence of asset but may not provide any evidence regarding rights and obligation or valuation of asset.

Due to this reason auditor may decide to couple inspections with other procedures or extend inspections for gather evidence of different sources or nature.

Observation involves studying the procedures that are carried out by other people. For example:

• Auditor attending the inventory count undertaken by entity’s staff
• Auditor observing the ordering process
• Auditor looking at over the counter cash payments or salary disbursements

Observation helps auditor gather evidence regarding completeness, accuracy and other relevant assertions. However, observation has time limitations as procedures can be observed only when it is executed. Also, there are no guarantees that evidence gathered under auditor’s observation is of the same quality as compared to the evidence gathered in his absence.

External confirmation means direct response from a third party to the auditor. Such confirmations are usually sought in written form to serve as audit evidence and record keeping however; it can either be in paper form or electronic or other form.

These procedures are usually employed where auditor has to confirm the assertions pertaining to certain accounting balances including their elements of accounting records but not limited to account balances.

Examples include:

• requesting for statement of accounts from debtors and creditors,
• requesting bank to provide bank statement.
• Requesting details of contract from other party to the contract i.e. lessor in case entity being audited has acquired a leased asset.
• Requesting a confirmation from entity’s legal advisor regarding status of particular case or verdict.

Auditor can also employ these procedures to confirm the presence of absence of certain conditions from third parties. Additionally such confirmations may be used in different ways i.e. positive or negative confirmation.

Reperformance involves auditor independently carrying out such procedures which were earlier carried out by entity under its internal control system. Such procedures are carried out by auditor usually for understanding entity and internal control system which ultimately aids auditor in assessing risk of material misstatement. However, reperformance may be carried out as part of further audit procedures i.e. tests of controls.

Recalculation represents reperformance or reexecution of mathematical calculations. Recalculations are usually carried out by auditor to check mathematical accuracy of different accounting records. Such procedures can be carried out manually or electronically using CAATs.

These days many computerized accounting systems come with built-in features that help in conducting recalculations and if not available then auditor can rely on standalone software for this purpose.

Inquiry comprise of getting information from knowledgeable parties inside or outside the entity. Information sought can either be qualitative or quantitative in nature. Inquiries may be conducted in a formal written manner or informally in oral fashion depending upon the circumstances.

Inquiries help auditor to collect such information which either corroborate or contradicts existing information or which is completely new and this helps auditor in planning additional audit procedures.

Under certain circumstances auditor may find it necessary to obtain written responses from management or where appropriate those charged with governance against inquiries conducted orally.

Analytical procedures are such evaluations that are carried by studying the relationships that exists among both financial and non-financial information of the entity i.e.

• the study of relationships that exist among financial elements. For example; asset turnover, gross margin etc
• the study of relationships that exist among non-financial elements. For example; staff’s absentees and customer satisfaction, storage environment and quality of inventory.
• The study of relationships that exist among financial and non-financial elements. For example; salary expense and number of employees working in an entity.

Such evaluations and assessments help auditor in identifying such relationships that are inconsistent from auditor’s expectations or other evidence auditor already possess.