Auditing Theory
Chapter 15
Audit Evidence
PSA 500 – “Audit Evidence”
- What constitutes audit evidence
- Auditor’s responsibility to design and perform
audit procedures to obtained sufficient
appropriate evidence = basis of opinion
Audit evidence
- All information USED by auditor to arrive at
conclusions from which opinion is based
- Underlying accounting record
 records underlying the FS;
 worksheets, books of accounts,
accounting manuals, reconciliation by
client)
- + corroborating information
 supports underlying data
 source documents (invoices, PO)
 those developed by auditor (recalc,
confirmation, observation,
reconciliation)
- Cumulative in nature (past+present)
- Accounting record: whatever is recorded in the
books of the client
- Accounting data alone cannot be considered
sufficient evidence
- ToC: evidence must support assessed CR
- SP: evidence must support acceptable DR
- At audit conclusion, auditor shall determine
whether sufficiency and appropriateness of
evidence supports FS
Assertions (review: define each)
1. Classes of transactions
 Completeness – all that should have
been recorded have been recorded
 Occurrence or existence – all recorded
actually happened and pertains to
entity
 Cutoff – correct accounting period;
accruals, inventory in terms of
ownership, bank recon
 Accuracy – appropriate amounts
 Classification – proper accounts
2. Account Balances - ALOE
 Completeness
 Existence (always existence never
occurrence)
 Rights and obligations – entity holds
rights to ALOE
 Valuation and allocation – appropriate
amounts
3. Presentation and Disclosure – disclosures and
financial info (audit evidence – management
representation letter)
 Completeness
 Occurrence and rights and obligations –
disclosed events, transactions, others
that have occurred and pertain to entity
 Classification and understandability –
appropriately described; disclosures are
expressed
 Accuracy and valuation- financial and
other info are disclosed fairly at
appropriate amounts
Management is responsible for preparation of FS.
Auditor obtains some evidence by testing accounting
records and determines their consistency.
Sources
1. Accounting records
2. Other information (e.g. confirmation letters,
minutes of the meeting, analysts’ reports,
comparable data about competitors/
benchmarking, controls manuals, information
obtained thru inquiry, observation, inspection,
other info developed by or available to the
auditor that permits auditor to reach
conclusions thru valid reasoning)
Accounting records alone DO NOT provide sufficient
evidence on which to base opinion on the FS; auditor
obtains other (corroborating info)
Audit evidence DOES NOT have to be conclusive to be
useful;
Auditor ordinarily:
- finds it necessary to rely on persuasive rather
than conclusive evidence (kay dili available ang
conclusive evidence) —> accumulate degree of
confidence by obtaining persuasive evidence
from different sources
- To seek evidence from different sources or of a
different nature
- Does not examine ALL info available because
conclusions can be reached thru judgmental or
statistical sampling
Auditors must consider cost and usefulness;
Difficulty and expense involved is NOT a valid basis of
omitting a necessary procedure
When in substantial doubt re: material FS assertion,
obtain SA evidence; if unable —> disclaimer of/
qualified opinion
Sufficient Appropriate Evidence must be obtained to
draw reasonable conclusions on which to base audit
opinion; judgement is influenced by the ff. factors:
1. Competence – must be inversely proportional
with quantity
2. Materiality – directly proportional with quantity
(more evidence needed for material items)
3. Risk – directly proportional with quantity
a. Inherent risk
b. Control risk
4. Experience gained in previous audit may indicate
amount and sufficiency of previous audit
evidence
5. Results of audit procedure, including detected
fraud and error
6. Source and reliability of available info
7. Nature of accounting and internal controls
a. Design – suitable to PDC
misstatements
b. Operation – existence and
effectiveness
Appropriateness – or competence; trustworthiness or
believability; quality of evidence and its relevance
 Relevance – timeliness and ability to satisfy
audit objective; logical connection with audit
procedure or assertion
 Reliability – objectivity of evidence; influenced
by its source (internal/external) and nature
(documentary/oral)
Generalizations re: reliability
More reliable if:
1. From independent external source
2. Related controls are effective
3. Obtained directly by auditor
4. In the form of documents or written
representations
5. Business > household confirmations
6. Original > photocopies/ facsimiles [(?) facsimile =
clone, counterpart, duplicate]
Competence of evidential matter depends on auditor’s
professional judgment giving due regard to:
1. Pertinence/Relevance
2. Objectivity
 Objective evidence – footings, physical
cash count
 Subjective evidence – lawyer’s
statement re: contingency, credit
manager’s statement about
collectability of an account; the more
subjective, the more important the
auditor’s experience in evaluating it
3. Qualifications of source
 Ref: Generalizations on reliability
4. Timeliness of evidence
 Particularly important to accounts that
change rapidly
5. Existence of other evidential corroborative
matters
Hierarchy of evidential matter (strongest to weakest)
Auditor’s direct, personal
knowledge obtained through:
- Physical observation
- Own mathematical
computation
External evidence (documentary)
External-internal evidence
(documentary) – from outside
source but processed by the client
Internal evidence – generally low in
competence but extensively used
when produced under satisfactory
internal control conditions
Verbal or written representations –
must be corroborated with other
evidence
Sufficiency
- quantity of evidence auditor should
accumulate;
- Evidence gathered should be persuasive rather
than convincing
- auditor uses judgment in determining amount
because of cost/benefit considerations;
- also affected by quality; consider
a. materiality - peso amount
b. relative risk - cash due to its
liquidity may have higher risk
than PPE
Procedures for Obtaining Audit Evidence
IOIRAR
1. Inspection
- Examination of records, documents, tangible
assets
- Documentation or vouching – examination of
records to substantiate information that is or
should be included in the FS using (1) records
(2) supporting documents
 Internal document – prepared and used
within the organization
 External document – HAS BEEN in the
hands of someone outside; may be
currently in the hands of client or
readily accessible
- Inspection of Tangible Assets – as to existence
only, not ownership
2. Observation – looking at a process being
performed by others; provides audit evidence
about performance of a process but is limited:
a. To the point in time of observation
b. By the fact that procedure was being
observed
- PSA 501 “Audit Evidence – Specific
Considerations for Selected Items” – guidance
on observation of counting inventory
3. Inquiry and confirmation
- Confirmation: specific type of inquiry; process
of obtaining representation of info directly from
a third party; often(not restricted to) for
balances; absence of conditions may also be
confirmed; bank balances and other info from
bank, A/R and A/P balances, property titles held
by lawyers (retainer)
- PSA 505 “External Confirmations”
 External confirmation – receipt of a
written responses from an independent
third party verifying the accuracy of info
 Information requiring confirmation
must be controlled by auditor from time
to time to be considered reliable
 Positive external confirmation request
 Indication of respondent’s
agreement
 Asks respondent to fill in the
blank re: amounts (risk of low
response because more effort is
required)
 Naay risk na dli replyan or dli jd
giconfirm
 Ordinarily expected to provide
reliable audit evidence
 Negative external confirmation request
 Asks respondent to reply only in
the event of disagreement
 No response – no explicit evidence
that third party received request
and verified correctness of info
 Less reliable
 May be used when:
3. IR and CR is low
4. Large # of small balances involved
5. Substantial # of errors NOT
expected
6. Auditor has no reason to believe
that respondents will disregard
these requests
- Inquiry – seeking info (financial and
nonfinancial) from knowledgeable persons
inside and outside the entity; obtaining written
or oral information from client needs; e.g.
request letters, interviews
- PSA 580 “Written Representations”
 Written representations are necessary
info that auditor requires
 Provide necessary, but not sufficient
appropriate evidence ON THEIR OWN
 Usually for evidence not quantifiable by
accounting records e.g. responsibilities,
considerations, assumptions of
management, assertions re related
parties, subsequent events, effects of
uncorrected misstatement is
immaterial, those info provided by
management to auditor
 Just an answer to a particular inquiry,
further audit procedures must be
performed to validate or substantiate
 General Representation Letter
 Specific or Limited Representation
Letter
4. Recalculation – checking of mathematical
accuracy; may be done using IT
- Testing of mechanical accuracy – rechecking
sample of computations and transfers of info
made by the client during period under audit
5. Reperformance – auditor’s independent execution
of procedures or controls that were originally
performed as part of entity’s internal control
through manual or CAATs; e.g. tax computations
6. Analytical procedures – evaluations of financial
information by studying plausible relationships;
encompass investigations of fluctuations and
inconsistent relationships
- PSA 520 “Analytical Procedures”
Use of Management’s Expert
If engaged by the entity, inspect engagement letter.
If employed by the entity, perform inquiry
Auditor shall:
1. Evaluate competence, capabilities, and
objectivity of ME
a. Competence – nature and level of
expertise
b. Capabilities – ability to exercise
competence
c. Objectivity – without bias. Threats:
i. Financial interests
ii. Business and personal
relationships
iii. Provision of other services
2. Obtain understanding of his work
3. Evaluate appropriateness to the assertion
When auditor uses info from entity (not by expert) such
as their own estimates/ valuation: consider relevance
and reliability
Further, When using evidence provided by the entity,
auditor shall:
1. Obtain evidence regarding accuracy and
completeness
2. Evaluate if sufficiently precise/detailed for
auditor’s purpose
Evidence about Accounting Estimates
PSA 540 “Accounting Estimates, Including Fair Value
Estimates and Related Disclosures”
Accounting estimate
- an approximation of the amount of an item in
the absence of a precise measurement;
- management’s responsibility
- Made under condition of uncertainty
- Greater risk of mm
- Nature: simple or complex
- More complex estimates require high degree of
special knowledge and judgment
- May be determined as part of routine
accounting system on a continuing basis
- May be non-routine, at period end
- Usually made through a formula which should
be reviewed by management on a regular basis
- Uncertainty associated with an item, lack of
objective data may make it incapable of
reasonable estimation
- Evidence to support estimate is more difficult to
obtain than those for other items in FS
- Auditor’s responsibility is to obtain evidence of:
 Proper accounting and disclosure of
estimate – requires knowledge of
business and standards
 Reasonableness of estimate –
understanding of procedures, internal
control
- Audit procedures/ Approaches: (auditor may
use one or a combination of)
a. Review/test process used by
management to develop estimate
i. Evaluation of data/
consideration of assumptions
on which estimate is based
ii. Testing of calculations involved
in the estimate
iii. Comparison with estimates in
prior periods
iv. Consideration of management’s
approval procedures
 b. Make and compare with independent
estimate
c. Review subsequent events which
confirm estimate made – after period
end but before completion of audit
PSA: 550 “Related Parties”
Evidence for related party transactions
- Related party: one that has significant
influence/control over financial and operating
decisions
- Immediate family is a related party
- Existence of RP is ordinary in business, but
auditor must be aware because
 GAAP requires disclosure
 RP transaction may be motivated by
profit-sharing/ fraud
 Existence of RP may affect FS and
reliability of audit evidence
- Prepare list of all known related parties at the
beginning of the audit
- Not performed in arm’s length transaction
(business deal in which buyers and sellers act
independently without one party influencing
the other)
- Such list is retained in auditor’s permanent file
for reference in successive engagements
- Auditors’ primary concern: adequate disclosure
of related party transactions; must include:
 Nature of relationship
 Description of transactions + peso
amount
 Amounts due to and from related
partied + manner of settlement
- Managements responsibility and TCWG –
identification and disclosure; design
implementation maintenance of controls over
related party transactions
- Auditor’s responsibility (Ref. Salosagcol p. 296)
 Inquire:
 Identity of parties
 Nature of relationships
 Transactions, type and purpose
- Audit is not expected to identify all related
parties
- Auditor must be alert for unusual transactions:
 Abnormal terms
 Lack of apparent reason for occurrence
 Processed in a biased manner
 Higher volume/ more significant
transactions with party
 Unrecorded transactions such as receipt
of management services at no charge
PSA 620: “Using the work of an auditor’s expert”
- Auditor is not expected to have expertise in
other professions
- Expert – person/firm with special skill (other
than accounting and auditing)
- E.g.
 Valuations of specialized assets
 Special techniques s.a. Actuarial
computations
 Interpretation of technical
requirements, regulations, contracts
Two kinds of experts:
(1) Auditor’s Expert – assists auditor in obtaining
sufficient appropriate evidence
(2) Management’s Expert – assists entity in
preparing the FS
Determining the need for an Auditor’s Expert
- Not all engagements require expert’s help
- Considerations:
 Whether management has used a
management’s expert
 Nature, significance, complexity of the
matter
 RMM in the matter
 Expected nature of procedures to
respond to risk, auditor’s knowledge of
the work of experts, availability of
alternative resources
Evaluating the Auditor’s Expert
*Conclude the need of auditor’s expert
1. Assess competence and objectivity of the expert
a. Competence
i. Professional cert./ license
ii. Experience and reputation in
the field
b. Objectivity
i. Inquiry regarding interests and
relationships
2. Understand the field of expertise of auditor’s
expert
a. Nature, scope, objectives
b. Adequacy for auditor’s purposes
3. Establish terms of agreement with the expert
a. Nature, scope, objective of expert’s
work
b. Duties
c. Timing of completion
d. Confidentiality requirements
e. If appropriate, it should be in writing
 4. Evaluate the results of the work of the expert
 Assess appropriateness
 Work should ordinarily satisfy auditor’s
objectives
 If inadequate:
 Agree with expert re:
additional procedures; or
 Perform appropriate further
audit procedures
Effect of reliance on expert’s work on the audit report
 Audit opinion – auditor is solely responsible
 Responsibility is not reduced by use of work of
expert
 Unmodified opinion - Auditor should not refer to
auditor’s expert’s work
 Modified opinion – auditor can make reference
to expert’s work as necessary; auditor should
indicate that such reference does not reduce his
responsibility
PSA 610: “Considering the work of internal auditors”
- Internal auditing – appraisal activity established
within an entity as a service to the entity
- External auditor should obtain sufficient
understanding of internal audit activities to
assist in planning
- Effective IA affects NTE of external audit
procedures
- May be asked to perform routine/mechanical
audit procedures
- Auditor’s responsibility is not reduced by any
use made of IA
- Auditor’s report should not include any
reference to work performed by internal
auditors
2 phases:
(1) Preliminary assessment of internal auditing
- Made when it appears that IA is relevant
- Considerations:
 Competence
 Objectivity
 Due professional care
 Scope of function
(2) Evaluating and testing the work of IA
- Confirm adequacy for external auditor’s
purposes
- Considerations:
 Competency of work
 Sufficient appropriate evidence is
obtained
 Appropriate conclusions are reached
 Exceptions are properly resolved
PSA 501 – “SPECIFIC CONSIDERATIONS FOR SELECTED
ITEMS”
1. Inventory
2. Litigation and claims
3. Segment information
Inventory
- When inventory is material to FS, obtain SA
evidence regarding the existence and condition
of inventory
1. Attendance at physical inventory counting,
unless impracticable, to:
i. Evaluate management’s instructions
and procedures for recording and
controlling the results of the entity’s
physical inventory counting;
ii. Observe the performance of
management’s count procedures;
iii. Inspect the inventory; and
iv. Perform test counts
2. Performing audit procedures over the entity’s
final inventory records to determine whether
they accurately reflect actual inventory count
results.
- When material to FS, inventory controlled by
third party shall be assessed (obtain SA
evidence) re: existence and condition by
performing one or both of the following:
 Request confirmation from the third
party as to the quantities and condition
of inventory
 Perform inspection or other audit
procedures
Litigation and Claims
- design and perform audit procedures in order
to identify litigation and claims that gives RMM:
a) Inquiry of management and, where
applicable, others within the entity,
including in-house legal counsel;
b) Reviewing minutes of meetings of TCWG
and correspondence with external legal
counsel; and
c) Reviewing legal expense accounts.
- Written Representations
 from management & TCWG (if
appropriate) that there is proper
 accounting and disclosure of actual or
possible litigation or claims

Segment Information
- obtain SA evidence regarding the presentation
and disclosure of segment information by:
a. Obtaining an understanding of the methods
used by management in determining
segment information
I. Evaluate whether methods are like
to result in disclosure accordance
with the applicable FRF
II. Test application of methods if
appropriate
b. Performing analytical procedures or other
audit procedures appropriate in the
circumstances.